Exhibit 10.2.44

CONFIDENTIAL

 

For Private Placement Purposes Only

 

UNIT 2005 EMPLOYEE OIL AND GAS LIMITED PARTNERSHIP

7130 South Lewis, Suite 1000

Tulsa, Oklahoma 74136

(918) 493-7700

 

A PRIVATE OFFERING

OF

UNITS OF LIMITED PARTNERSHIP INTEREST

 

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THESE SECURITIES HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS
AMENDED, OR UNDER APPLICABLE STATE SECURITIES ACTS IN RELIANCE ON EXEMPTIONS
PROVIDED BY SUCH ACTS. THESE SECURITIES MAY NOT BE SOLD OR TRANSFERRED IN THE
ABSENCE OF AN EFFECTIVE REGISTRATION UNDER SUCH ACTS OR AN OPINION OF COUNSEL
ACCEPTABLE TO THE GENERAL PARTNER THAT SUCH REGISTRATION IS NOT REQUIRED.
FURTHER, THE RESALE OF A UNIT MAY RESULT IN SUBSTANTIAL TAX LIABILITY TO THE
INVESTOR. SEE “FEDERAL INCOME TAX CONSIDERATIONS.” ACCORDINGLY, THESE UNITS
SHOULD BE CONSIDERED ONLY FOR LONG-TERM INVESTMENT. SEE “PLAN OF DISTRIBUTION —
SUITABILITY OF INVESTORS.”

 

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THE INFORMATION CONTAINED IN THIS PRIVATE OFFERING MEMORANDUM IS PROVIDED BY THE
GENERAL PARTNER SOLELY FOR THE PERSONS RECEIVING IT FROM THE GENERAL PARTNER AND
ANY REPRODUCTION OR DISTRIBUTION OF THIS PRIVATE OFFERING MEMORANDUM, IN WHOLE
OR IN PART, OR THE DIVULGENCE OF ANY OF ITS CONTENTS IS PROHIBITED AND MAY
CONSTITUTE A VIOLATION OF CERTAIN STATE SECURITIES LAWS. THE OFFEREE, BY
ACCEPTING DELIVERY OF THIS PRIVATE OFFERING MEMORANDUM, AGREES TO RETURN IT AND
ALL ENCLOSED DOCUMENTS TO THE GENERAL PARTNER IF THE OFFEREE DOES NOT UNDERTAKE
TO PURCHASE ANY OF THE UNITS OFFERED HEREBY.

 

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Private Offering Memorandum Date December 23, 2004

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600 Preformation

Units of Limited Partnership Interest

in the

UNIT 2005 EMPLOYEE

OIL AND GAS LIMITED PARTNERSHIP

 

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$1,000 Per Unit Plus Possible

Additional Assessments of $100 Per Unit

(Minimum Investment - 2 Units)

Minimum Aggregate Subscriptions Necessary

to Form Partnership - 50 Units

 

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A maximum of 600 (minimum of 50) units of limited partnership interest (“Units”)
in the UNIT 2005 EMPLOYEE OIL AND GAS LIMITED PARTNERSHIP, a proposed Oklahoma
limited partnership (the “Partnership”), are being offered privately only to
certain employees of Unit Corporation (“UNIT”) and its subsidiaries and the
directors of UNIT at a price of $1,000 per Unit. Subscriptions shall be for not
less than 2 Units ($2,000). The Partnership is being formed for the purpose of
conducting oil and gas drilling and development operations. Purchasers of the
Units will become Limited Partners in the Partnership. Unit Petroleum Company
(“UPC” or the “General Partner”) will serve as General Partner of the
Partnership. UPC’s address is 7130 South Lewis, Suite 1000, Tulsa, Oklahoma
74136, and telephone (918) 493-7700.

 

THE RIGHTS AND OBLIGATIONS OF THE GENERAL PARTNER

AND THE LIMITED PARTNERS ARE GOVERNED BY THE

AGREEMENT OF LIMITED PARTNERSHIP (THE “AGREEMENT”),

A COPY OF WHICH ACCOMPANIES THIS MEMORANDUM AND IS

INCORPORATED HEREIN BY REFERENCE

 

AN INVESTMENT IN THE UNITS IS SPECULATIVE AND INVOLVES

A HIGH DEGREE OF RISK. SEE “RISK FACTORS.” CERTAIN

SIGNIFICANT RISKS INCLUDE:

 

  •   Drilling to establish productive oil and natural gas properties is
inherently speculative.

 

  •   Participants will rely solely on the management capability and expertise
of the General Partner.

 

  •   Limited Partners must assume the risks of an illiquid investment.

 

  •   Investment in the Units is suitable only for investors having sufficient
financial resources and who desire a long-term investment.

 

  •   Conflicts of interest exist and additional conflicts of interest may arise
between the General Partner and the Limited Partners, and there are no
pre-determined procedures for resolving any such conflicts.

 

  •   Significant tax considerations to be considered by an investor include:

 

  •   possible audit of income tax returns of the Partnership and/or the Limited
Partners and adjustment to their reported tax liabilities; and

 

  •   a Limited Partner will not benefit from his or her share of Partnership
deductions in excess of his or her share of Partnership income unless he or she
has passive income from other activities.

 

ii

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  •   There can be no assurance that the Partnership will have adequate funds to
provide cash distributions to the Limited Partners. The amount and timing of any
such distributions will be within the complete discretion of the General
Partner.

 

  •   The amount of any cash distribution which a Limited Partner may receive
from the Partnership could be insufficient to pay the tax liability incurred by
such Limited Partner with respect to income or gain allocated to such Limited
Partner by the Partnership.

 

  •   Certain provisions in the Agreement modify what would otherwise be the
applicable Oklahoma law as to the fiduciary standards for general partners in
limited partnerships. Those standards in the Agreement could be less
advantageous to the Limited Partners than the corresponding fiduciary standards
otherwise applicable under Oklahoma law. The purchase of Units may be deemed as
consent to the fiduciary standards set forth in the Agreement.

 

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EXCEPT AS STATED UNDER “ADDITIONAL INFORMATION,” NO PERSON HAS BEEN AUTHORIZED
TO GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATIONS OTHER THAN THOSE
CONTAINED IN THIS PRIVATE OFFERING MEMORANDUM IN CONNECTION WITH THIS OFFERING
AND SUCH REPRESENTATIONS, IF ANY, MAY NOT BE RELIED UPON. THE INFORMATION
CONTAINED IN THIS PRIVATE OFFERING MEMORANDUM IS AS OF THE DATE OF THIS
MEMORANDUM UNLESS ANOTHER DATE IS SPECIFIED.

 

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PROSPECTIVE INVESTORS ARE NOT TO CONSTRUE THE CONTENTS OF THIS PRIVATE OFFERING
MEMORANDUM AS LEGAL, BUSINESS, OR TAX ADVICE. EACH INVESTOR SHOULD CONSULT HIS
OR HER OWN ATTORNEY, BUSINESS ADVISOR AND TAX ADVISOR AS TO LEGAL, BUSINESS, TAX
AND RELATED MATTERS CONCERNING HIS OR HER INVESTMENT. PROSPECTIVE INVESTORS ARE
URGED TO REQUEST ANY ADDITIONAL INFORMATION THEY MAY CONSIDER NECESSARY TO MAKE
AN INFORMED INVESTMENT DECISION.

 

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THE SECURITIES OFFERED BY THIS MEMORANDUM HAVE NOT BEEN APPROVED OR DISAPPROVED
BY THE UNITED STATES SECURITIES AND EXCHANGE COMMISSION, THE OKLAHOMA SECURITIES
COMMISSION OR BY THE SECURITIES REGULATORY AUTHORITY OF ANY OTHER STATE, NOR HAS
ANY COMMISSION OR AUTHORITY PASSED UPON OR ENDORSED THE MERITS OF THIS OFFERING
OR THE ACCURACY OR ADEQUACY OF THIS PRIVATE OFFERING MEMORANDUM. ANY
REPRESENTATION CONTRARY TO THE FOREGOING IS UNLAWFUL.

 

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THESE UNITS ARE BEING OFFERED SUBJECT TO PRIOR SALE, TO WITHDRAWAL, CANCELLATION
OR MODIFICATION OF THE OFFER WITHOUT NOTICE AND TO THE FURTHER CONDITIONS SET
FORTH HEREIN.

 

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ADDITIONAL INFORMATION

 

Each prospective investor, or his or her qualified representative named in
writing, has the opportunity (1) to obtain additional information necessary to
verify the accuracy of the information supplied herewith or hereafter, and (2)
to ask questions and receive answers concerning the terms and conditions of the
offering. If you desire to avail yourself of the opportunity, please contact:

 

Mark E. Schell, Esq.

7130 South Lewis, Suite 1000

Tulsa, Oklahoma 74136

(918) 493-7700

 

The following documents and instruments are available to qualified offerees upon
written request:

 

1. Amended and Restated Certificate of Incorporation and By-Laws of UNIT.

 

2. Certificate of Incorporation and By-Laws of Unit Petroleum Company.

 

3. UNIT’s Employees’ Thrift Plan.

 

4. Restated Unit Corporation Amended and Restated Stock Option Plan and related
prospectuses covering shares of Common Stock issuable upon exercise of
outstanding options.

 

5. UNIT’s 2002 Non-Employee Directors’ Stock Option Plan.

 

6. The Credit Agreement and the notes payable of UNIT.

 

7. All periodic reports on Forms 10-K, 10-Q and 8-K and all proxy materials
filed by or on behalf of UNIT with the Securities and Exchange Commission
pursuant to the Securities Exchange Act of 1934, as amended, during calendar
year 2004, the annual report to shareholders and all quarterly reports to
shareholders submitted by UNIT to its shareholders during calendar year 2004.

 

8. The Registration Statement on Form S-3 (File No. 333-104165) and all
supplemental prospectuses filed with the SEC pursuant to Rule 424.

 

9. The agreements of limited partnership for the prior oil and gas drilling
programs and prior employee programs of Unit Petroleum Company, UNIT and Unit
Drilling and Exploration Company (“UDEC”).

 

10. All periodic reports filed with the Securities and Exchange Commission and
all reports and information provided to limited partners in all limited
partnerships of which Unit Petroleum Company, UNIT or UDEC now serves or has
served in the past as a general partner.

 

11. The agreement of limited partnership for the Unit 1986 Energy Income Limited
Partnership.

 

iv

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SUMMARY OF CONTENTS

 

     Page

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SUMMARY OF PROGRAM

   1

Terms of the Offering

   1

Risk Factors

   2

Additional Financing

   3

Proposed Activities

   4

Application of Proceeds

   4

Participation in Costs and Revenues

   5

Compensation

   5

Federal Income Tax Considerations; Opinion of Counsel

   5

RISK FACTORS

   6

INVESTMENT RISKS

   6

TAX STATUS AND TAX RISKS

   11

OPERATIONAL RISKS

   12

TERMS OF THE OFFERING

   14

General

   14

Limited Partnership Interests

   14

Subscription Rights

   14

Payment for Units; Delinquent Installment

   15

Right of Presentment

   16

Rollup or Consolidation of Partnership

   17

ADDITIONAL FINANCING

   17

Additional Assessments

   18

Prior Programs

   18

Partnership Borrowings

   18

PLAN OF DISTRIBUTION

   19

Suitability of Investors

   19

RELATIONSHIP OF THE PARTNERSHIP, THE GENERAL PARTNER AND AFFILIATES

   20

PROPOSED ACTIVITIES

   20

General

   20

Partnership Objectives

   22

Areas of Interest

   22

Transfer of Properties

   23

Record Title to Partnership Properties

   23

Marketing of Reserves

   23

Conduct of Operations

   23

APPLICATION OF PROCEEDS

   24

PARTICIPATION IN COSTS AND REVENUES

   24

COMPENSATION

   26

Supervision of Operations

   26

Purchase of Equipment and Provision of Services

   27

Prior Programs

   27

MANAGEMENT

   29

The General Partner

   29

Officers, Directors and Key Employees

   29

Prior Employee Programs

   32

Ownership of Common Stock

   33

Interest of Management in Certain Transactions

   34

CONFLICTS OF INTEREST

   34

Acquisition of Properties and Drilling Operations

   34

Participation in UNIT’s Drilling or Income Programs

   36

Transfer of Properties

   36

Partnership Assets

   36

Transactions with the General Partner or Affiliates

   37

Right of Presentment Price Determination

   37

Receipt of Compensation Regardless of Profitability

   37

Legal Counsel

   37

FIDUCIARY RESPONSIBILITY

   38

General

   38

Liability and Indemnification

   38

 

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PRIOR ACTIVITIES

   39

Prior Employee Programs

   41

Results of the Prior Oil and Gas Programs

   42

federal income tax considerations

   50

Summary of Conclusions

   51

General Tax Effects of Partnership Structure

   52

Ownership of Partnership Properties

   53

Intangible Drilling and Development Costs Deductions

   54

Depletion Deductions

   54

Depreciation Deductions

   55

Transaction Fees

   55

Basis and At Risk Limitations

   56

Passive Loss Limitations

   56

Gain or Loss on Sale of Property or Units

   57

Partnership Distributions

   57

Partnership Allocations

   57

Administrative Matters

   57

Accounting Methods and Periods

   58

State and Local Taxes

   59

Individual Tax Advice Should Be Sought

   59

COMPETITION, MARKETS AND REGULATION

   59

Marketing of Production

   59

Regulation of Partnership Operations

   60

Natural Gas Price Regulation

   60

Oil Price Regulation

   63

State Regulation of Oil and Gas Production

   63

Legislative and Regulatory Production and Pricing Proposals

   63

Production and Environmental Regulation

   64

SUMMARY OF THE LIMITED PARTNERSHIP AGREEMENT

   65

Partnership Distributions

   65

Deposit and Use of Funds

   65

Power and Authority

   65

Rollup or Consolidation of the Partnership

   66

Limited Liability

   66

Records, Reports and Returns

   67

Transferability of Interests

   67

Amendments

   68

Voting Rights

   69

Exculpation and Indemnification of the General Partner

   69

Termination

   69

Insurance

   70

COUNSEL

   70

GLOSSARY

   70

FINANCIAL STATEMENTS

   73

 

EXHIBIT A    - AGREEMENT OF LIMITED PARTNERSHIP EXHIBIT B     - LEGAL OPINION

 

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SUMMARY OF PROGRAM

 

This summary is not a complete description of the terms and consequences of an
investment in the Partnership and is qualified in its entirety by the more
detailed information appearing throughout this Private Offering Memorandum (this
“Memorandum”). For definitions of certain terms used in this Memorandum, see
“GLOSSARY.”

 

Terms of the Offering

 

Limited Partnership Interests. Unit 2005 Employee Oil and Gas Limited
Partnership, a proposed Oklahoma limited partnership (the “Partnership”), offers
600 preformation units of limited partnership interest (“Units”) in the
Partnership. The offer is made only to certain employees of Unit Corporation
(“UNIT”) and its subsidiaries and directors of UNIT (see “TERMS OF THE OFFERING
— Subscription Rights”). Unless the context otherwise requires, all references
in this Memorandum to UNIT shall include all or any of its subsidiaries. Unit
Petroleum Company (“UPC” or the “General Partner”), a wholly owned subsidiary of
UNIT, will serve as General Partner of the Partnership.

 

To invest in the Units, the Limited Partner Subscription Agreement and
Suitability Statement (the “Subscription Agreement”) (see Attachment I to
Exhibit A hereto) must be executed and forwarded to the offices of the General
Partner at its address listed on the cover of this Memorandum. The Subscription
Agreement must be received by the General Partner not later than 5:00 P.M.
Central Standard Time on January 21, 2005 (extendable by the General Partner for
up to 30 days). Subscription Agreements may be delivered to the office of the
General Partner. No payment is required upon delivery of the Subscription
Agreement. Payment for the Units will be made either (i) in four equal
Installments, the first of such Installments being due on March 15, 2005 and the
remaining three of such Installments being due on June 15, September 15, and
December 15, 2005, respectively, or (ii) through equal deductions from 2005
salary commencing immediately after formation of the Partnership.

 

The purchase price of each Unit is $1,000, and the minimum permissible purchase
is two Units ($2,000) for each subscriber. Additional Assessments of up to $100
per Unit may be required (see “ADDITIONAL FINANCING — Additional Assessments”).
Maximum purchases by employees (other than directors) will be for an amount
equal to one-half of their base salaries for calendar year 2005. Each member of
the Board of Directors of UNIT may subscribe for up to 250 Units ($250,000). The
Partnership must sell at least 50 Units ($50,000) before the Partnership will be
formed. No Units will be offered for sale after the Effective Date (see
“GLOSSARY”) except upon compliance with the provisions of Article XIII of the
Agreement. The General Partner may, at its option, purchase Units as a Limited
Partner, including any amount that may be necessary to meet the minimum number
of Units required for formation of the Partnership. The Partnership will
terminate on December 31, 2035, unless it is terminated earlier pursuant to the
provisions of the Agreement or by operation of law. See “TERMS OF THE OFFERING —
Limited Partnership Interests”; “TERMS OF THE OFFERING — Subscription Rights”;
and “SUMMARY OF THE LIMITED PARTNERSHIP AGREEMENT — Termination.”

 

Units will be offered only to those qualified employees of UNIT or any of its
subsidiaries at the date of formation of the Partnership whose annual base
salaries for 2004 have been set at $36,000 or more and directors of UNIT who
meet certain financial requirements which will enable them to bear the economic
risks of an investment in the Partnership and who can demonstrate that they have
sufficient investment experience and expertise to evaluate the risks and merits
of such an investment. The offering will be made privately by the officers and
directors of UPC or UNIT, except that in states which require participation by a
registered broker-dealer in the offer and sale of securities, the Units will be
offered through such broker-dealer as may be selected by the General Partner.
Any participating broker-dealer may be reimbursed for actual out-of-pocket
expenses. Such reimbursements will be borne by the General Partner.

 

Subscription Rights. Only salaried employees of UNIT or any of its subsidiaries
whose annual base salaries for 2004 have been set at $36,000 or more and
directors of UNIT are eligible to subscribe for Units. Employees may not
purchase Units for an amount in excess of one-half of their base salaries for
calendar year 2004. Directors’ subscriptions may not be for more than 250 Units
($250,000). Only employees and directors who are U.S. citizens are eligible to
participate in the offering. In addition, employees and directors must be able

 

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to bear the economic risks of an investment in the Partnership and must have
sufficient investment experience and expertise to evaluate the risks and merits
of such an investment. See “TERMS OF THE OFFERING — Subscription Rights.”

 

Right of Presentment. After December 31, 2006, the Limited Partners will have
the right to present their Units to the General Partner for purchase. The
General Partner will not be obligated to purchase more than 20% of the then
outstanding Units in any one calendar year. The purchase price to be paid for
the Units will be determined by a specific valuation formula. See “TERMS OF THE
OFFERING — Right of Presentment” for a description of the valuation formula and
a discussion of the manner in which the right of presentment may be exercised by
the Limited Partners.

 

Risk Factors

 

An investment in the Partnership has many risks. The “RISK FACTORS” section of
this Memorandum contains a detailed discussion of the most important risks,
organized into Investment Risks (the risks related to the Partnership’s
investment in oil and gas properties and drilling activities, to an investment
in the Partnership and to the provisions of the Agreement); Tax Risks (the risks
arising from the tax laws as they apply to the Partnership and its investment in
oil and gas properties and drilling activities); and Operational Risks (the
risks involved in conducting oil and gas operations). The following are certain
of the risks which are more fully described under “RISK FACTORS”. Each
prospective investor should review the “RISK FACTORS” section carefully before
deciding to subscribe for Units.

 

Investment Risks:

 

  •   Future oil and natural gas prices are unpredictable. If oil and natural
gas prices go down, the Partnership’s distributions, if any, to the Limited
Partners will be adversely affected.

 

  •   The General Partner is authorized under the Agreement to cause, in its
sole discretion, the sale or transfer of the Partnership’s assets to, or the
merger or consolidation of the Partnership with, another partnership,
corporation or other business entity. Such action could have a material impact
on the nature of the investment of all Limited Partners.

 

  •   Except for certain transfers to the General Partner and other restricted
transfers, the Agreement prohibits a Limited Partner from transferring Units.
Thus, except for the limited right of the Limited Partners after December 31,
2006 to present their Units to the General Partner for purchase, Limited
Partners will not be able to liquidate their investments.

 

  •   The Partnership could be formed with as little as $50,000 in Capital
Contributions (excluding the Capital Contributions of the General Partner). As
the total amount of Capital Contributions to the Partnership will determine the
number and diversification of Partnership Properties, the ability of the
Partnership to pursue its investment objectives may be restricted in the event
that the Partnership receives only the minimum amount of Capital Contributions.

 

  •   The drilling and completion operations to be undertaken by the Partnership
for the development of oil and natural gas reserves involve the possibility of a
total loss of an investment in the Partnership.

 

  •   The General Partner will have the exclusive management and control of all
aspects of the business of the Partnership. The Limited Partners will have no
opportunity to participate in the management and control of any aspect of the
Partnership’s activities. Accordingly, the Limited Partners will be entirely
dependent upon the management skills and expertise of the General Partner.

 

  •   Conflicts of interest exist and additional conflicts of interest may arise
between the General Partner and the Limited Partners, and there are no
pre-determined procedures for resolving any such conflicts. Accordingly the
General Partner could cause the Partnership to take actions to the benefit of
the General Partner but not to the benefit of the Limited Partners.

 

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  •   Certain provisions in the Agreement modify what would otherwise be the
applicable Oklahoma law as to the fiduciary standards for a general partner in a
limited partnership. The fiduciary standards in the Agreement could be less
advantageous to the Limited Partners and more advantageous to the General
Partner than corresponding fiduciary standards otherwise applicable under
Oklahoma law. The purchase of Units may be deemed as consent to the fiduciary
standards set forth in the Agreement.

 

  •   There can be no assurances that the Partnership will have adequate funds
to provide cash distributions to the Limited Partners. The amount and timing of
any such distributions will be within the complete discretion of the General
Partner.

 

  •   The amount of any cash distributions which Limited Partners may receive
from the Partnership could be insufficient to pay the tax liability incurred by
such Limited Partners with respect to income or gain allocated to such Limited
Partners by the Partnership.

 

Tax Risks:

 

  •   Tax laws and regulations applicable to partnership investments may change
at any time and these changes may be applicable retroactively.

 

  •   Certain allocations of income, gain, loss and deduction of the Partnership
among the Partners may be challenged by the Internal Revenue Service (the
“Service”). A successful challenge would likely result in a Limited Partner
having to report additional taxable income or being denied a deduction.

 

  •   Investment as a Limited Partner may be less advisable for a person who
does not have substantial current taxable income from trade or business
activities in which the Limited Partner does not materially participate.

 

  •   Federal income tax payable by a Limited Partner by reason of his or her
allocated share of Partnership income for any year may exceed the Partnership
distributions to a Limited Partner for the year.

 

Operational Risks:

 

  •   The search for oil and gas is highly speculative and the drilling
activities conducted by the Partnership may result in a well that may be dry or
productive wells that do not produce sufficient oil and gas to produce a profit
or result in a return of the Limited Partners’ investment.

 

  •   Certain hazards may be encountered in drilling wells which could lead to
substantial liabilities to third parties or governmental entities. In addition,
governmental regulations or new laws relating to environmental matters could
increase Partnership costs, delay or prevent drilling a well, require the
Partnership to cease operations in certain areas or expose the Partnership to
significant liabilities for violations of such laws and regulations.

 

Additional Financing

 

Additional Assessments. After the Aggregate Subscription received from the
Limited Partners has been fully expended or committed and the General Partner’s
Minimum Capital Contribution has been fully expended, the General Partner may
make one or more calls for Additional Assessments from the Limited Partners if
additional funds are required to pay the Limited Partners’ share of Drilling
Costs, Special Production and Marketing Costs or Leasehold Acquisition Costs.
The maximum amount of total Additional Assessments which may be called for by
the General Partner is $100 per Unit. See “ADDITIONAL FINANCING — Additional
Assessments.”

 

Partnership Borrowings. After the General Partner’s Minimum Capital Contribution
has been expended, the General Partner may cause the Partnership to borrow funds
required to pay Drilling Costs, Special Production and Marketing Costs or
Leasehold Acquisition Costs of Productive properties. Additionally, the General
Partner may, but is not required to, advance funds to the Partnership to pay
such costs. See “ADDITIONAL FINANCING — Partnership Borrowings.”

 

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Proposed Activities

 

General. The Partnership is being formed for the purposes of acquiring producing
oil and gas properties and conducting oil and gas drilling and development
operations. The Partnership will, with certain limited exceptions, participate
on a proportionate basis with UPC in each producing oil and gas lease acquired
and in each oil and gas well commenced by UPC for its own account or by UNIT
during the period from January 1, 2005, if the Partnership is formed prior to
such date or from the date of the formation of the Partnership if subsequent to
January 1, 2005, until December 31, 2005, and will, with certain limited
exceptions, serve as a co-general partner with UNIT in any drilling or income
programs which may be formed by the General Partner or UNIT in 2005. See
“PROPOSED ACTIVITIES.”

 

Partnership Objectives. The Partnership is being formed to provide eligible
employees and directors the opportunity to participate in the oil and gas
exploration and producing property acquisition activities of UNIT during 2005.
UNIT hopes that participation in the Partnership will provide the participants
with greater proprietary interests in UNIT’s operations and the potential for
realizing a more direct benefit in the event these operations prove to be
profitable. The Partnership has been structured to achieve the objective of
providing the Limited Partners with essentially the same economic returns that
UNIT realizes from the wells drilled or acquired during 2005.

 

Application of Proceeds

 

The offering proceeds will be used to pay the Leasehold Acquisition Costs
incurred by the Partnership to acquire those producing oil and gas leases in
which the Partnership participates and the Leasehold Acquisition Costs,
exploration, drilling and development costs incurred by the Partnership pursuant
to drilling activities in which the Partnership participates. The General
Partner estimates (based on historical operating experience) that such costs may
be expended as shown below based on the assumption of a maximum number of
subscriptions in the first column and a minimum number of subscriptions in the
second column:

 

     $600,000
Program

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   $50,000
Program

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Leasehold Acquisition Costs of Properties to Be Drilled

   $ 30,000    $ 2,500

Drilling Costs of Exploratory Wells(1)

     30,000      2,500

Drilling Costs of Development Wells(1)

     420,000      35,000

Leasehold Acquisition Costs of Productive Properties

     120,000      10,000

Reimbursement of General Partner’s Overhead Costs(2)

     —        —       

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Total

   $ 600,000    $ 50,000

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(1) See “GLOSSARY.”

(2) The Agreement provides that the General Partner shall be reimbursed by the
Partnership for that portion of its general and administrative overhead expense
attributable to its conduct of Partnership business and affairs but such
reimbursement will be made only out of Partnership Revenue. See “COMPENSATION.”

 

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Participation in Costs and Revenues

 

Partnership costs, expenses and revenues will be allocated among the Partners in
the following percentages:

 

     General Partner

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  Limited Partners

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COSTS AND EXPENSES

        

Organizational and offering costs of the Partnership and any drilling or income
programs in which the Partnership participates as a co-general partner

   100%   0%

All other Partnership costs and expenses

        

Prior to time Limited Partner Capital Contributions are entirely expended

   1%   99%

After expenditure of Limited Partner Capital Contributions and until expenditure
of General Partner’s Minimum Capital Contribution

   100%   0%

After expenditure of General Partner’s Minimum Capital Contribution

   General Partner’s
Percentage(1)   Limited Partners’
Percentage(1)

REVENUES

   General Partner’s
Percentage(1)   Limited Partners’
Percentage(1)

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(1) See “GLOSSARY.”

 

Compensation

 

The General Partner will not receive any management fees in connection with the
operation of the Partnership. The Partnership will reimburse the General Partner
for that portion of its general and administrative overhead expense attributable
to its conduct of Partnership business and affairs. See “COMPENSATION.”

 

Federal Income Tax Considerations; Opinion of Counsel

 

The General Partner has received an opinion from its tax counsel, Conner &
Winters, P.C. (“Conner & Winters”), concerning all material federal income tax
issues applicable to an investment in the Partnership. To be fully understood,
the complete discussion of these matters set forth in the full tax opinion in
Exhibit B should be read by each prospective investor. Based upon current laws,
regulations, interpretations, and court decisions, Conner & Winters has rendered
its opinion that (i) the material federal income tax benefits in the aggregate
from an investment in the Partnership will be realized; (ii) the Partnership
will be treated as a partnership for federal income tax purposes and not as a
corporation and not as an association taxable as a corporation; (iii) to the
extent the Partnership’s wells are timely drilled and its drilling costs are
timely paid, then subject to the limitations on deductions discussed in such
opinion, the Partners will be entitled to claim as deductions their pro rata
shares of the Partnership’s intangible drilling and development costs (“IDC”)
paid in 2005; (iv) for most Limited Partners, the Partnership’s operations will
be considered a passive activity within the meaning of Section 469 of the
Internal Revenue Code of 1986, as amended (the “Code”), and losses generated
therefrom will be limited by the passive activity provisions of the Code; (v) to
the extent provided herein, the Partners’ distributive shares of Partnership tax
items will be determined and allocated substantially in accordance with the
terms of the Partnership Agreement; and (vi) the Partnership will not be
required to register with the Service as a tax shelter.

 

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Due to the lack of authority regarding, or the essentially factual nature of
certain issues, Conner & Winters expresses no opinion on the following: (i) the
impact of an investment in the Partnership on an investor’s alternative minimum
tax liability; (ii) whether, under Code Section 183, the losses of the
Partnership will be treated as derived from “activities not engaged in for
profit,” and therefore nondeductible from other gross income (due to the
inherently factual nature of a Partner’s interest and motive in investing in the
Partnership); (iii) whether any of the Partnership’s properties will be
considered “proven” for purposes of depletion deductions; (iv) whether any
interest incurred by a Partner with respect to any borrowings incurred to
purchase Units will be deductible or subject to limitations on deductibility;
and (v) whether the Partnership will be treated as the tax owner of Partnership
Properties acquired by the General Partner as nominee for the Partnership.

 

THIS MEMORANDUM CONTAINS AN EXPLANATION OF THE MORE SIGNIFICANT TERMS AND
PROVISIONS OF THE AGREEMENT OF LIMITED PARTNERSHIP WHICH IS ATTACHED AS EXHIBIT
A. THE SUMMARY OF THE AGREEMENT CONTAINED IN THIS MEMORANDUM IS QUALIFIED IN ITS
ENTIRETY BY SUCH REFERENCE AND ACCORDINGLY THE AGREEMENT SHOULD BE CAREFULLY
REVIEWED AND CONSIDERED.

 

RISK FACTORS

 

Prospective purchasers of Units should carefully study the information contained
in this Memorandum and should make their own evaluations of the probability for
the discovery of oil and natural gas through exploration.

 

INVESTMENT RISKS

 

Financial Risks of Drilling Operations

 

The Partnership will participate with the General Partner (including, with
certain limited exceptions, other drilling programs sponsored by it, or UNIT)
and, in some cases, other parties (“joint interest parties”) in connection with
drilling operations conducted on properties in which the Partnership has an
interest. It is not anticipated that all such drilling operations will be
conducted under turnkey drilling contracts and, thus, all of the parties
participating in the drilling operations on a particular property, including the
Partnership, may be fully liable for their proportionate share of all costs of
such operations even if the actual costs significantly exceed the original cost
estimates. Further, if any joint interest party defaults in its obligation to
pay its share of the costs, the other joint interest parties may be required to
fund the deficiency until, if ever, it can be collected from the defaulting
party. As a result of forced pooling or similar proceedings (see “COMPETITION,
MARKETS AND REGULATION”), the Partnership may acquire larger fractional
interests in Partnership Properties than originally anticipated and, thus, be
required to bear a greater share of the costs of operations. As a result of the
foregoing, the Partnership could become liable for amounts significantly in
excess of the amounts originally anticipated to be expended in connection with
the operations and, in such event, would have only limited means for providing
needed additional funds (see “ADDITIONAL FINANCING”). Also, if a well is
operated by a company which does not or cannot pay the costs and expenses of
drilling or operating a Partnership Well, the Partnership’s interest in such
well may become subject to liens and claims of creditors who supplied services
or materials in connection with such operations even though the Partnership may
have previously paid its share of such costs and expenses to the operator. If
the operator is unable or unwilling to pay the amount due, the Partnership might
have to pay its share of the amounts owing to such creditors in order to
preserve its interest in the well which would mean that it would, in effect, be
paying for certain of such costs and expenses twice.

 

Dependence Upon General Partner

 

The Limited Partners will acquire interests in the Partnership, not in the
General Partner or UNIT. They will not participate in either increases or
decreases in the General Partner’s or UNIT’s net worth or the value of its
common stock. Nevertheless, because the General Partner is primarily responsible
for the proper conduct of the Partnership’s business and affairs and is
obligated to provide certain funds that will be required in connection with its
operations, a significant financial reversal for the General Partner or UNIT
could have an adverse effect on the Partnership and the Limited Partners’
interests therein.

 

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Under the Partnership Agreement, UPC is designated as the General Partner of the
Partnership and is given the exclusive authority to manage and operate the
Partnership’s business. See “SUMMARY OF THE LIMITED PARTNERSHIP AGREEMENT —
Power and Authority”. Accordingly, Limited Partners must rely solely on the
General Partner to make all decisions on behalf of the Partnership, as the
Limited Partners will have no role in the management of the business of the
Partnership.

 

The Partnership’s success will depend, in part, upon the management provided by
the General Partner, the ability of the General Partner to select and acquire
oil and gas properties on which Partnership Wells capable of producing oil and
natural gas in commercial quantities may be drilled, to fund the acquisition of
revenue producing properties, and to market oil and natural gas produced from
Partnership Wells.

 

Conflicts of Interest

 

UNIT and its subsidiaries have engaged in oil and gas exploration and
development and in the acquisition of producing properties for their own account
and as the sponsors of drilling and income programs formed with third party
investors. It is anticipated that UNIT and its subsidiaries will continue to
engage in such activities. However, with certain exceptions, it is likely that
the Partnership will participate as a working interest owner in all producing
oil and gas leases acquired and in all oil and gas wells commenced by the
General Partner or UNIT for its own account during the period from January 1,
2005, if the Partnership is formed prior to such date, or from the date of the
formation of the Partnership, if subsequent to January 1, 2005, through December
31, 2005 and, with certain limited exceptions, will be a co-general partner of
any drilling or income programs, or both, formed by the General Partner or UNIT
in 2005. The General Partner will determine which prospects will be acquired or
drilled. With respect to prospects to be drilled, certain of the wells which are
drilled for the separate account of the Partnership and the General Partner may
be drilled on prospects on which initial drilling operations were conducted by
UNIT or the General Partner prior to the formation of the Partnership. Further,
certain of the Partnership Wells will be drilled on prospects on which the
General Partner and possibly future employee programs may conduct additional
drilling operations in years subsequent to 2005. Except with respect to its
participation as a co-general partner of any drilling or income program
sponsored by the General Partner or UNIT, the Partnership will have an interest
only in those wells begun in 2005 and will have no rights in production from
wells commenced in years other than 2005. Likewise, if additional interests are
acquired in wells participated in by the Partnership after 2005, the Partnership
will generally not be entitled to participate in the acquisition of such
additional interests. See “CONFLICTS OF INTEREST — Acquisition of Properties and
Drilling Operations.”

 

The Partnership may enter into contracts for the drilling of some or all of the
Partnership Wells with affiliates of the General Partner. Likewise the
Partnership may sell or market some or all of its natural gas production to an
affiliate of the General Partner. These contracts may not necessarily be
negotiated on an arm’s - length basis. The General Partner is subject to a
conflict of interest in selecting an affiliate of the General Partner to drill
the Partnership Wells and/or market the natural gas therefrom. The compensation
under these contracts will be determined at the time of entering into each such
contract, and the costs to be paid thereunder or the sale price to be received
will be one which is competitive with the costs charged or the prices paid by
unaffiliated parties in the same geographic region. The General Partner will
make the determination of what are competitive rates or prices in the area. No
provision has been made for an independent review of the fairness and
reasonableness of such compensation. See “CONFLICTS OF INTERESTS — Transactions
with the General Partner or Affiliates.”

 

Prohibition on Transferability; Lack of Liquidity

 

Except for certain transfers (i) to the General Partner, (ii) to or for the
benefit of the transferor Limited Partner or members of his or her immediate
family sharing the same residence, and (iii) by reason of death or operation of
law, a Limited Partner may not transfer or assign Units. The General Partner has
agreed, however, that it will, if requested at any time after December 31, 2006,
buy Units for prices determined either by an independent petroleum engineering
firm or the General Partner pursuant to a formula described under “TERMS OF THE
OFFERING — Right of Presentment.” This obligation of the General Partner to
purchase Units when requested is limited and does not assure the liquidity of a
Limited Partner’s investment, and the price received may be less than if the
Limited Partner continued to hold his or her Units. In addition, similar
commitments have been made and may hereafter be made to investors in other oil
and gas drilling, income and employee programs

 

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sponsored by the General Partner or UNIT. There can be no assurance that the
General Partner will have the financial resources to honor its repurchase
commitments. See “TERMS OF THE OFFERING — Right of Presentment.”

 

Delay of Cash Distributions

 

For income tax purposes, a Limited Partner must report his or her distributive
(allocated) share of the income, gains, losses and deductions of the Partnership
whether or not cash distributions are made. No cash distributions are expected
to be made earlier than the first quarter of 2006. In addition, to the extent
that the Partnership uses its revenues to repay borrowings or to finance its
activities (see “ADDITIONAL FINANCING”), the funds available for cash
distributions by the Partnership will be reduced or may be unavailable. It is
possible that the amount of tax payable by a Limited Partner on his or her
distributive share of the income of the Partnership will exceed his or her cash
distributions from the Partnership. See “FEDERAL INCOME TAX CONSIDERATIONS.”

 

If and the date any distributions commence and their subsequent timing or amount
cannot be accurately predicted. The decision as to whether or not the
Partnership will make a cash distribution at any particular time will be made
solely by the General Partner.

 

Limitations on Voting and Other Rights of Limited Partners

 

The Agreement, as permitted under the Oklahoma Revised Uniform Limited
Partnership Act (the “Act”), eliminates or limits the rights of the Limited
Partners to take certain actions, such as:

 

  •   withdrawing from the Partnership,

 

  •   transferring Units without restrictions, or

 

  •   consenting to or voting upon certain matters such as:

  (i) admitting a new General Partner,

 

  (ii) admitting Substituted Limited Partners, and

 

  (iii) dissolving the Partnership.

 

Furthermore, the Agreement imposes restrictions on the exercise of voting rights
granted to Limited Partners. See “SUMMARY OF THE LIMITED PARTNERSHIP AGREEMENT —
Voting Rights.” Without the provisions to the contrary which are contained in
the Agreement, the Act provides that certain actions can be taken only with the
consent of all Limited Partners. Those provisions of the Agreement which provide
for or require the vote of the Limited Partners, generally permit the approval
of a proposal by the vote of Limited Partners holding a majority of the
outstanding Units. See “SUMMARY OF THE LIMITED PARTNERSHIP AGREEMENT — Voting
Rights.” Thus, Limited Partners who do not agree with or do not wish to be
subject to the proposed action may nevertheless become subject to the action if
the required majority approval is obtained. Notwithstanding the rights granted
to Limited Partners under the Agreement and the Act, the General Partner retains
substantial discretion as to the operation of the Partnership.

 

Rollup or Consolidation of Partnership

 

Under the terms of the Agreement, at any time two years or more after the
Partnership has completed substantially all of its property acquisition,
drilling and development operations, the General Partner is authorized to cause
the Partnership to transfer its assets to, or to merge or consolidate with,
another partnership or a corporation or other entity for the purpose of
combining the oil and gas properties and other assets of the Partnership with
those of other partnerships formed for investment or participation by the
employees, directors and/or consultants of UNIT or any of its subsidiaries. Such
transfer or combination may be effected without the vote, approval or consent of
the Limited Partners. In such event, the Limited Partners will receive interests
in the transferee or resulting entity which will mean that they will most likely
participate in the results of a larger number of properties but will have
proportionately smaller allocable interests therein. Any such transaction is
required to be effected in a manner which UNIT and the General Partner believe
is fair and equitable to the

 

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Limited Partners but there can be no assurance that such transaction will in
fact be in the best interests of the Limited Partners. Limited Partners have no
dissenters’ or appraisal rights under the terms of the Agreement or the Act.
Such a transaction would result in the termination and dissolution of the
Partnership. While there can be no assurance that the Partnership will
participate in such a transaction, the General Partner currently anticipates
that the Partnership will, at the appropriate time, be involved in such a
transaction. See “TERMS OF OFFERING,” and “SUMMARY OF THE LIMITED PARTNERSHIP
AGREEMENT.”

 

Partnership Borrowings

 

The General Partner has the authority to cause the Partnership to borrow funds
to pay certain costs of the Partnership. While the use of financing to preserve
the Partnership’s equity in oil and gas properties will be intended to increase
the Partnership’s profits, such financing could have the effect of increasing
the Partnership’s losses if the Partnership is unsuccessful. In addition, the
Partnership may have to mortgage its oil and gas properties and other assets in
order to obtain additional financing. If the Partnership defaults on such
indebtedness, the lender may foreclose and the Partnership could lose its
investment in such oil and gas properties and other assets. See “ADDITIONAL
FINANCING — Partnership Borrowings.”

 

Limited Liability

 

Under the Act a Limited Partner’s liability for the obligations of the
Partnership is limited to such Limited Partner’s Capital Contribution and such
Limited Partner’s share of Partnership assets. In addition, if a Limited Partner
receives a return of any part of his or her Capital Contribution, such Limited
Partner is generally liable to the Partnership for a period of one year
thereafter (or six years in the event such return is in violation of the
Agreement) for the amount of the returned contribution. A Limited Partner will
not otherwise be liable for the obligations of the Partnership unless, in
addition to the exercise of his or her rights and powers as a Limited Partner,
such Limited Partner participates in the control of the business of the
Partnership.

 

The Agreement provides that by a vote of a majority in interest, the Limited
Partners may effect certain changes in the Partnership such as termination and
dissolution of the Partnership and amendment of the Agreement. The exercise of
any of these and certain other rights is conditioned upon receipt of an opinion
by Conner & Winters for the Limited Partners or an order or judgment of a court
of competent jurisdiction to the effect that the exercise of such rights will
not result in the loss of the limited liability of the Limited Partners or cause
the Partnership to be classified as an association taxable as a corporation (see
“SUMMARY OF THE LIMITED PARTNERSHIP AGREEMENT — Amendments” and “SUMMARY OF THE
LIMITED PARTNERSHIP AGREEMENT — Termination”). As a result of certain judicial
opinions it is not clear that these rights will ever be available to the Limited
Partners. Nevertheless, in spite of the receipt of any such opinion or judicial
order, it is still possible that the exercise of any such rights by the Limited
Partners may result in the loss of the Limited Partners’ limited liability. The
Partnership will be governed by the Act. The Act expressly permits limited
partners to vote on certain specified partnership matters without being deemed
to be participating in the control of the Partnership’s business and, thus,
should result in greater certainty and more easily obtainable opinions of Conner
& Winters regarding the exercise of most of the Limited Partners’ rights.

 

If the Partnership is dissolved and its business is not to be continued, the
Partnership will be wound up. In connection with the winding up of the
Partnership, all of its properties may be sold and the proceeds thereof credited
to the accounts of the Partners. Properties not sold will, upon termination of
the Partnership, be distributed to the Partners. The distribution of Partnership
Properties to the Limited Partners would result in their having unlimited
liability with respect to such properties. See “SUMMARY OF THE LIMITED
PARTNERSHIP AGREEMENT — Limited Liability.”

 

Partnership Acting as Co-General Partner

 

It is anticipated that the Partnership will serve as a co-general partner in any
drilling or income programs formed by the General Partner or UNIT during 2005.
See “PROPOSED ACTIVITIES.” Accordingly, the Partnership generally will be liable
for the obligation and recourse liabilities of any such drilling or income
program formed. While a Limited Partner’s liability for such claims will be
limited to such Limited Partners Capital Contribution and share of Partnership
assets, such claims if satisfied from the Partnership’s assets could adversely
affect the operations of the Partnership.

 

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Past-Due Installments; Acceleration; Additional Assessments

 

Installments and Additional Assessments (see “ADDITIONAL FINANCING”) are legally
binding obligations and past-due amounts will bear interest at the rate set
forth in the Agreement; provided, however, that if the General Partner
determines that the total Aggregate Subscription is not required to fund the
Partnership’s business and operations, then the General Partner may, at its sole
option, elect to release the Limited Partners from their obligation to pay one
or more Installments and amend any relevant Partnership documents accordingly.
It is anticipated that the total Aggregate Subscription will be required to fund
the Partnership’s business and operations. In the event an Installment is not
paid when due and the General Partner has not released the Limited Partners from
their obligation to pay such Installment, then the General Partner may, at its
sole option, purchase all Units of the director or employee who fails to pay
such Installment, at a price equal to the amount of the prior Installments paid
by such person. The General Partner may also bring legal proceedings to collect
any unpaid Installments not waived by it or Additional Assessments. In addition,
as indicated under “TERMS OF THE OFFERING — Payment for Units; Delinquent
Installment,” if an employee’s employment with or position as a director of the
General Partner, UNIT or any affiliate thereof is terminated other than by
reason of Normal Retirement (see “GLOSSARY”), death or disability prior to the
time the full amount of the subscription price for his or her Units has been
paid, all unpaid Installments not waived by the General Partner as described
above will become due and payable upon such termination.

 

Partnership Funds

 

Except for Capital Contributions, Partnership funds are expected to be
commingled with funds of the General Partner or UNIT. Thus, Partnership funds
could become subject to the claims of creditors of the General Partner or UNIT.
The General Partner believes that its assets and net worth are such that the
risk of loss to the Partnership by virtue of such fact is minimal but there can
be no assurance that the Partnership will not suffer losses of its funds to
creditors of the General Partner or UNIT.

 

Compliance With Federal and State Securities Laws

 

This offering has not been registered under the Securities Act of 1933, as
amended, in reliance upon exemptive provisions of said act. Further, these
interests are being sold pursuant to exemptions from registration in the various
states in which they are being offered and may be subject to additional
restrictions in such jurisdictions on transfer. There is no assurance that the
offering presently qualifies or will continue to qualify under such exemptive
provisions due to, among other things, the adequacy of disclosure and the manner
of distribution of the offering, the existence of similar offerings conducted by
the General Partner or UNIT or its affiliates in the past or in the future, a
failure or delay in providing notices or other required filings, the conduct of
other oil and gas activities by the General Partner or UNIT and its affiliates
or the change of any securities laws or regulations.

 

If and to the extent suits for rescission are brought and successfully concluded
for failure to register this offering or other offerings under the Securities
Act of 1933, as amended, or state securities acts, or for acts or omissions
constituting certain prohibited practices under any of said acts, both the
capital and assets of the General Partner and the Partnership could be adversely
affected, thus jeopardizing the ability of the Partnership to operate
successfully. Further, the time and capital of the General Partner could be
expended in defending an action by investors or by state or federal authorities
even where the Partnership and the General Partner are ultimately exonerated.

 

Title To Properties

 

The Partnership Agreement empowers the General Partner, UNIT or any of their
affiliates, to hold title to the Partnership Properties for the benefit of the
Partnership. As such it is possible that the Partnership Properties could be
subject to the claims of creditors of the General Partner. The General Partner
is of the opinion that the likelihood of the occurrence of such claims is
remote. However, the Partnership Property could be subject to claims and
litigation in the event that the General Partner failed to pay its debts or
became subject to the claims of creditors.

 

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Use of Partnership Funds to Exculpate and Indemnify the General Partner

 

The Agreement contains certain provisions which are intended to limit the
liability of the General Partner and its affiliates for certain acts or
omissions within the scope of the authority conferred upon them by the
Agreement. In addition, under the Agreement, the General Partner will be
indemnified by the Partnership against losses, judgments, liabilities, expenses
and amounts paid in settlement sustained by it in connection with the
Partnership so long as the losses, judgments, liabilities, expenses or amounts
were not the result of gross negligence or willful misconduct on the part of the
General Partner. See “SUMMARY OF THE LIMITED PARTNERSHIP AGREEMENT — Exculpation
and Indemnification of the General Partner.”

 

The Partnership Agreement May Limit the Fiduciary Obligation of the General
Partner to the Partnership and the Limited Partners

 

The Agreement contains certain provisions which modify what would otherwise be
the applicable Oklahoma law relating to the fiduciary standards of the General
Partner to the Limited Partners. The fiduciary standards in the Agreement could
be less advantageous to the Limited Partners and more advantageous to the
General Partner than the corresponding fiduciary standards otherwise applicable
under Oklahoma law (although there are very few legal precedents clarifying
exactly what fiduciary standards would otherwise be applicable under Oklahoma
law). The purchase of Units may be deemed as consent to the fiduciary standards
set forth in the Agreement. See “FIDUCIARY RESPONSIBILITY.” As a result of these
provisions in the Agreement, the Limited Partners may find it more difficult to
hold the General Partner responsible for acting in the best interest of the
Partnership and the Limited Partners than if the fiduciary standards of the
otherwise applicable Oklahoma law governed the situation.

 

TAX STATUS AND TAX RISKS

 

It is possible that the tax treatment currently available with respect to oil
and gas exploration and production will be modified or eliminated on a
retroactive or prospective basis by legislative, judicial, or administrative
actions. The limited tax benefits associated with oil and gas exploration do not
eliminate the inherent economic risks. See “Federal Income Tax Considerations.”

 

Partnership Classification

 

Conner & Winters has rendered its opinion that the Partnership will be
classified for federal income tax purposes as a partnership and not as a
corporation, an association taxable as a corporation or a “publicly traded
partnership.” Such opinion is not binding on the Service or the courts. If the
Partnership were classified as a corporation, association taxable as a
corporation or publicly traded partnership, any income, gain, loss, deduction,
or credit of the Partnership would remain at the entity level, and not flow
through to the Partners, the income of the Partnership would be subject to
corporate tax rates at the entity level and distributions to the Partners could
be considered dividend distributions. See “Federal Income Tax
Considerations—General Tax Effects of Partnership Structure.”

 

Limited Partner Interests

 

An investment as a Limited Partner may not be advisable for a person who does
not anticipate having substantial current taxable income from passive trade or
business activities (not counting dividend or interest income). Most Limited
Partners will be subject to the “passive activity loss” rules and will be unable
to use passive losses generated by the Partnership until and unless he or she
has realized “passive income”.

 

Tax Liabilities in Excess of Cash Distributions

 

A Partner must include in his or her own income tax return his or her share of
the items of the Partnership’s income, gain, profit, loss, and deductions
whether or not cash proceeds are actually distributed to the Partner to pay any
tax resulting from the Partnership’s activities. For example, income from the
Partnership’s sale of oil and gas production will be taxable to Partners as
ordinary income subject to depletion and other deductions whether or not the
proceeds from such sale are actually distributed (for example, where Partnership
income is used to repay Partnership indebtedness).

 

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Items Not Covered by the Tax Opinion

 

Due to the lack of authority regarding, or the essentially factual nature of
certain issues, Conner & Winters has expressed no opinion as to the following:
(i) the impact of an investment in the Partnership on an investor’s alternative
minimum tax liability; (ii) whether any of the Partnership’s properties will be
considered “proven” for purposes of depletion deductions; and (iii) whether the
Partnership will be treated as the tax owner of Partnership Properties acquired
by the General Partner as nominee for the Partnership.

 

The determination of various of the above-referenced issues is dependent on
facts not currently available. Therefore, Conner & Winters is unable to render
an opinion at this time with respect to such issues. Also, the unknown facts
with respect to the various issues referred to above will vary from Partner to
Partner and will result in different tax consequences and burdens for individual
Partners.

 

Prospective investors should recognize that an opinion of legal counsel merely
represents such counsel’s best legal judgment under existing statutes, judicial
decisions, and administrative regulations and interpretations. There can be no
assurance that deductions claimed by the Partnership in reliance upon the
opinion of Conner & Winters will not be challenged successfully by the Service.

 

OPERATIONAL RISKS

 

Risks Inherent in Oil and Gas Operations

 

The Partnership will be participating with the General Partner in acquiring
producing oil and gas leases and in the drilling of those oil and gas wells
commenced by the General Partner from the later of January 1, 2005 or the time
the Partnership is formed through December 31, 2005 and, with certain limited
exceptions, serving as a co-general partner of any oil and gas drilling or
income programs, or both, formed by the General Partner or UNIT during 2005.

 

All drilling to establish productive oil and natural gas properties is
inherently speculative. The techniques presently available to identify the
existence and location of pools of oil and natural gas are indirect, and,
therefore, a considerable amount of personal judgment is involved in the
selection of any prospect for drilling. The economics of oil and natural gas
drilling and production are affected or may be affected in the future by a
number of factors which are beyond the control of the General Partner, including
(i) the general demand in the economy for energy fuels, (ii) the worldwide
supply of oil and natural gas, (iii) the price of, as well as governmental
policies with respect to, oil imports, (iv) potential competition from competing
alternative fuels, (v) governmental regulation of prices for oil and natural gas
production, gathering and transportation, (vi) state regulations affecting
allowable rates of production, well spacing and other factors, and (vii)
availability of drilling rigs, casing and other necessary goods and services.
See “COMPETITION, MARKETS AND REGULATION.” The revenues, if any, generated from
Partnership operations will be highly dependent upon the future prices and
demand for oil and natural gas. The factors enumerated above affect, and will
continue to affect, oil and natural gas prices. Recently, prices for oil and
natural gas have fluctuated over a wide range.

 

Operating and Environmental Hazards

 

Operating hazards such as fires, explosions, blowouts, unusual formations,
formations with abnormal pressures and other unforeseen conditions are sometimes
encountered in drilling wells. On occasion, substantial liabilities to third
parties or governmental entities may be incurred, the payment of which could
reduce the funds available for exploration and development or result in loss of
Partnership Properties. The Partnership will attempt to maintain customary
insurance coverage, but the Partnership may be subject to liability for
pollution and other damages or may lose substantial portions of its properties
due to hazards against which it cannot insure or against which it may elect not
to insure due to unreasonably high or prohibitive premium costs or for other
reasons. The activities of the Partnership may expose it to potential liability
for pollution or other damages under laws and regulations relating to
environmental matters (see “Government Regulation and Environmental Risks”
below).

 

Competition

 

The oil and gas industry is highly competitive. The Partnership will be involved
in intense competition for the acquisition of quality undeveloped leases and
producing oil and gas properties. There can be no assurance

 

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that a sufficient number of suitable oil and gas properties will be available
for acquisition or development by the Partnership. The Partnership will be
competing with numerous major and independent companies which possess financial
resources and staffs larger than those available to it. The Partnership,
therefore, may be unable in certain instances to acquire desirable leases or
supplies or may encounter delays in commencing or completing Partnership
operations.

 

Markets for Oil and Natural Gas Production

 

Historically (prior to the early 1980s), world oil prices were established and
maintained largely as a result of the actions of members of OPEC to limit, and
maintain a base price for, their oil production. Until recently, however,
members of OPEC were unable to agree to and maintain price and production
controls, which resulted in significant downward pressure on oil prices.
Commencing in early 2001, OPEC members were able to reach agreement on oil
production levels which has contributed to a rise in oil prices. Although future
levels of production by the members of OPEC or the degree to which oil prices
will be affected thereby cannot be predicted, it is possible that prices for oil
produced in the future will be higher or lower than those currently available.
There can be no assurance that the oil that the Partnership produces can be
marketed on favorable price and other contractual terms. See “COMPETITION,
MARKETS AND REGULATION — Marketing of Production.”

 

The natural gas market is also unsettled due to a number of factors. In the
past, production from natural gas wells in some geographic areas of the United
States was curtailed for considerable periods of time due to a lack of market
demand. Over the past several years demand for natural gas has increased greatly
limiting the number of wells being shut in for lack of demand. It is possible,
however, that Partnership Wells may in the future be shut-in or that natural gas
will be sold on terms less favorable than might otherwise be obtained should
demand for gas lessen in the future. Competition for available markets has been
vigorous and there remains great uncertainty about prices that purchasers will
pay. In recent years, significant court decisions and regulatory changes have
affected the natural gas markets. As a result of such court decisions,
regulatory changes and unsettled market conditions, natural gas regulations may
be modified in the future and may be subject to further judicial review or
invalidation. The combination of these factors, among others, makes it
particularly difficult to estimate accurately future prices of natural gas, and
any assumptions concerning future prices may prove incorrect. Natural gas
surpluses could result in the Partnership’s inability to market natural gas
profitably, causing Partnership Wells to curtail production and/or receive lower
prices for its natural gas, situations which would adversely affect the
Partnership’s ability to make cash distributions to its participants. See
“COMPETITION, MARKETS AND REGULATION.”

 

In the event that the Partnership discovers or acquires natural gas reserves,
there may be delays in commencing or continuing production due to the need for
gathering and pipeline facilities, contract negotiation with the available
market, pipeline capacities, seasonal takes by the gas purchaser or a surplus of
available gas reserves in a particular area.

 

Government Regulation and Environmental Risks

 

The oil and gas business is subject to pervasive government regulation under
which, among other things, rates of production from producing properties may be
fixed and the prices for gas produced from such producing properties may be
impacted. It is possible that these regulations pertaining to rates of
production could become more pervasive and stringent in the future. The
activities of the Partnership may expose it to potential liability under laws
and regulations relating to environmental matters which could adversely affect
the Partnership. Compliance with these laws and regulations may increase
Partnership costs, delay or prevent the drilling of wells, delay or prevent the
acquisition of otherwise desirable producing oil and gas properties, require the
Partnership to cease operations in certain areas, and cause delays in the
production of oil and gas. See “COMPETITION, MARKETING AND REGULATION.”

 

Leasehold Defects

 

In certain instances, the Partnership may not be able to obtain a title opinion
or report with respect to a producing property that is acquired. Consequently,
the Partnership’s title to any such property may be uncertain. Furthermore, even
if certain technical defects do appear in title opinions or reports with respect
to a particular property, the General Partner, in its sole discretion, may
determine that it is in the best interest of the Partnership to acquire such
property without taking any curative action.

 

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TERMS OF THE OFFERING

 

General

 

  •   600 Maximum Units; 50 Minimum Units

 

  •   $1,000 Units; Minimum subscription: $2,000

 

  •   Minimum Partnership: $50,000 in subscriptions

 

  •   Maximum Partnership: $600,000 in subscriptions

 

Limited Partnership Interests

 

The Partnership hereby offers to certain employees (described under
“Subscription Rights” below) and directors of UNIT and its subsidiaries an
aggregate of 600 Units. The purchase price of each Unit is $1,000, and the
minimum permissible purchase by any eligible subscriber is two Units ($2,000).
See “Subscription Rights” below for the maximum number of Units that may be
acquired by subscribers.

 

The Partnership will be formed as an Oklahoma limited partnership upon the
closing of the offering of Units made by this Memorandum. The General Partner
will be Unit Petroleum Company (the “General Partner”, or “UPC”), an Oklahoma
corporation. Partnership operations will be conducted from the General Partner’s
offices, the address of which is 7130 South Lewis, Suite 1000, Tulsa, Oklahoma
74136, telephone (918) 493-7700.

 

The offering of Units will be closed on January 21, 2005 unless extended by the
General Partner for up to 30 days, and all Units subscribed will be issued on
the Effective Date. The offering may be withdrawn by the General Partner at any
time prior to such date if it believes it to be in the best interests of the
eligible employees and Directors or the General Partner not to proceed with the
offering.

 

If at least 50 Units ($50,000) are not subscribed prior to the termination of
the offering, the Partnership will not commence business. The General Partner
may, on its own accord, purchase Units and, in such capacity, will enjoy the
same rights and obligations as other Limited Partners, except the General
Partner will have unlimited liability. The General Partner may, in its
discretion, purchase Units sufficient to reach the minimum Aggregate
Subscription ($50,000). Because the General Partner or its affiliates might
benefit from the successful completion of this offering (see “PARTICIPATION IN
COSTS, AND REVENUES” and “COMPENSATION”), investors should not expect that sales
of the minimum Aggregate Subscription indicate that such sales have been made to
investors that have no financial or other interest in the offering or that have
otherwise exercised independent investment discretion. Further, the sale of the
minimum Aggregate Subscription is not designed as a protection to investors to
indicate that their interest is shared by other unaffiliated investors and no
investor should place any reliance on the sale of the minimum Aggregate
Subscription as an indication of the merits of this offering. Units acquired by
the General Partner will be for investment purposes only without a present
intent for resale and there is no limit on the number of Units that may be
acquired by it.

 

Subscription Rights

 

Units are offered only to persons who are salaried employees of UNIT or its
subsidiaries at the date of formation of the Partnership and whose annual base
salaries for 2004 (excluding bonuses) have been set at $36,000 or more and to
directors of UNIT. Only employees and directors who are U.S. citizens are
eligible to participate in the offering. In addition, employees and directors
must be able to bear the economic risks of an investment in the Partnership and
must have sufficient investment experience and expertise to evaluate the risks
and merits of such an investment. See “PLAN OF DISTRIBUTION — Suitability of
Investors.”

 

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Eligible employees and directors are restricted as to the number of Units they
may purchase in the offering. The maximum number of Units which can be acquired
by any employee is that number of whole Units which can be purchased with an
amount which does not exceed one-half of the employee’s base salary for 2004.
Each director of UNIT may subscribe for a maximum of 250 Units (maximum
investment of $250,000). At December 9, 2004 there were approximately 376 people
eligible to purchase Units.

 

Eligible employees and directors may acquire Units through a corporation or
other entity in which all of the beneficial interests are owned by them or
permitted assignees (see “SUMMARY OF THE LIMITED PARTNERSHIP AGREEMENT —
Transferability of Interests”); provided that such employees or Directors will
be jointly and severally liable with such entity for payment of the Capital
Subscription.

 

If all eligible employees and directors subscribed for the maximum number of
Units, the Units would be oversubscribed. In that event, Units would be
allocated among the respective subscribers in the proportion that each
subscription amount bears to total subscriptions obtained.

 

No employee is obligated to purchase Units in order to remain in the employ of
UNIT, and the purchase of Units by any employee will not obligate UNIT to
continue the employment of such employee. Units may be subscribed for by the
spouse or a trust for the minor children of eligible employees and directors.

 

Payment for Units; Delinquent Installment

 

The Capital Subscriptions of the Limited Partners will be payable either (i) in
four equal Installments, the first of such Installments being due on March 15,
2005 and the remaining three of such Installments being due on June 15,
September 15, and December 15, 2005, respectively, or (ii) by employees so
electing in the space provided on the Subscription Agreement, through equal
deductions from 2005 salary paid to the employee by the General Partner, UNIT or
its subsidiaries commencing immediately after formation of the Partnership. If
an employee or director who has subscribed for Units (either directly or through
a corporation or other entity) ceases to be employed by or serve as a director
of the General Partner, UNIT or any of its subsidiaries for any reason other
than death, disability or Normal Retirement prior to the time the full amount of
all Installments not waived by the General Partner as described below are due,
then the due date for any such unpaid Installments shall be accelerated so that
the full amount of his or her unpaid Capital Subscription will be due and
payable on the effective date of such termination.

 

Each Installment will be a legally binding obligation of the Limited Partner and
any past due amounts will bear interest at an annual rate equal to two
percentage points in excess of the prime rate of interest of Bank of Oklahoma,
N.A., Tulsa, Oklahoma; provided, however, that if the General Partner determines
that the total Aggregate Subscription is not required to fund the Partnership’s
business and operations, then the General Partner may, at its sole option, elect
to release the Limited Partners from their obligation to pay one or more
Installments. If the General Partner elects to waive the payment of an
Installment, it will notify all Limited Partners promptly in writing of its
decision and will, to the extent required, amend the certificate of limited
partnership and any other relevant Partnership documents accordingly. It is
currently anticipated that the total Aggregate Subscription will be required,
however, to fund the Partnership’s business and operations.

 

In the event a Limited Partner fails to pay any Installment when due and the
General Partner has not released the Limited Partners from their obligation to
pay such Installment, then the General Partner, at its sole option and
discretion, may elect to purchase the Units of such defaulting Limited Partner
at a price equal to the total amount of the Capital Contributions actually paid
into the Partnership by such defaulting Limited Partner, less the amount of any
Partnership distributions that may have been received by him or her. Such option
may be exercised by the General Partner by written notice to the Limited Partner
at any time after the date that the unpaid Installment was due and will be
deemed exercised when the amount of the purchase price is first tendered to the
defaulting Limited Partner. The General Partner may, in its discretion, accept
payments of delinquent Installments not waived by it but will not be required to
do so.

 

In the event that the General Partner elects to purchase the Units of a
defaulting Limited Partner, it must pay into the Partnership the amount of the
delinquent Installment (excluding any interest that may have accrued thereon)
and pay each additional Installment, if any, payable with respect to such Units
as it becomes due. By virtue of such purchase, the General Partner will be
allocated all Partnership Revenues, be charged with all Partnership costs and
expenses attributable to such Units and will enjoy the same rights and
obligations as other Limited Partners, except the General Partner will have
unlimited liability.

 

 

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Right of Presentment

 

After December 31, 2006, and annually thereafter, Limited Partners will have the
right to present their Units to the General Partner for purchase. The General
Partner will not be obligated to purchase more than 20% of the then outstanding
Units in any one calendar year. The purchase price to be paid for the Units of
any Limited Partner presenting them for purchase will be based on the net asset
value of the Partnership which shall be equal to:

 

  (1) The value of the proved reserves attributable to the Partnership
Properties, determined as set forth below; plus

 

  (2) The estimated salvage value of tangible equipment installed on Partnership
Wells less the costs of plugging and abandoning the wells, both discounted at
the rate utilized to determine the value of the Partnership’s reserves as set
forth below; plus

 

  (3) The lower of cost or fair market value of all Partnership Properties to
which proved reserves have not been attributed but which have not been
condemned, as determined by an independent petroleum engineering firm or the
General Partner, as the case may be; plus

 

  (4) Cash on hand; plus

 

  (5) Prepaid expenses and accounts receivable (less a reasonable reserve for
doubtful accounts); plus

 

  (6) The estimated market value of all other Partnership assets not included in
(1) through (5) above, determined by the General Partner; MINUS

 

  (7) An amount equal to all debts, obligations and other liabilities of the
Partnership.

 

The price to be paid for each Limited Partner’s interest of the net asset value
will be his or her proportionate share of such net asset value less 75% of the
amount of any distributions received by him or her which are attributable to the
sales of the Partnership production since the date as of which the Partnership’s
proved reserves are estimated.

 

The value of the proved reserves attributable to Partnership Properties will be
determined as follows:

 

  (i) First, the future net revenues from the production and sale of the proved
reserves will be estimated as of the end of the calendar year in which
presentment is made based on an independent engineering firm’s report and its
determinations of the prices to be used as well as the escalations, if any, of
such prices and cost or, if no report was made, as determined by the General
Partner;

 

  (ii) Next, the future net revenues from the production and sale of proved
reserves as determined above will be discounted at an annual rate which is one
percentage point higher than the prime rate of interest being charged by the
Bank of Oklahoma, N.A., Tulsa, Oklahoma, or any successor bank, as of the date
such reserves are estimated; and

 

  (iii) Finally, the total discounted value of the future net revenues from the
production and sale of proved reserves will be reduced by an additional 25% to
take into account the risks and uncertainties associated with the production and
sale of the reserves and other unforeseen uncertainties.

 

A Limited Partner who elects to have his or her Units purchased by the General
Partner should be aware that estimates of future net recoverable reserves of oil
and gas and estimates of future net revenues to be received therefrom are based
on a great many factors, some of which, particularly future prices of
production, are usually variable and uncertain and are always determined by
predictions of future events. Accordingly, it is common for the actual
production and revenues received to vary from earlier estimates. Estimates made
in the first few years

 

16

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of production from a property will be based on relatively little production
history and will not be as reliable as later estimates based on longer
production history. As a result of all the foregoing, reserve estimates and
estimates of future net revenues from production may vary from year to year.

 

This right of presentment may be exercised by written notice from a Limited
Partner to the General Partner. The sale will be effective as of the close of
business on the last day of the calendar year in which such notice is given or,
at the General Partner’s election, at 7:00 A.M. on the following day. Within 120
days after the end of the calendar year, the General Partner will furnish each
Limited Partner who gave such notice during the calendar year a statement
showing the cash purchase price which would be paid for the Limited Partner’s
interest as of December 31 of the preceding year, which statement will include a
summary of estimated reserves and future net revenues and sufficient material to
reveal how the purchase price was determined. The Limited Partner must, within
30 days after receipt of such statement, reaffirm his or her election to sell to
the General Partner.

 

As noted above, the General Partner will not be obligated to purchase in any one
calendar year more than 20% of the Units in the Partnership then outstanding.
Moreover, the General Partner will not be obligated to purchase any Units
pursuant to such right if such purchase, when added to the total of all other
sales, exchanges, transfers or assignments of Units within the preceding 12
months, would result in the Partnership being considered to have terminated
within the meaning of Section 708 of the Code or would cause the Partnership to
lose its status as a partnership for federal income tax purposes. If more than
the number of Units which may be purchased are tendered in any one year, the
Limited Partners from whom the Units are to be purchased will be determined by
lot. Any Units presented but not purchased with respect to one year will have
priority for such purchase the following year.

 

The General Partner does not intend to establish a cash reserve to fund its
obligation to purchase Units, but will use funds provided by its operations or
borrowed funds (if available), using its assets (including such Units purchased
or to be purchased from Limited Partners) as collateral to fund such
obligations. However, there is no assurance that the General Partner will have
sufficient financial resources to discharge its obligations.

 

Rollup or Consolidation of Partnership

 

The Agreement provides that two years or more after the Partnership has
completed substantially all of its property acquisition, drilling and
development operations, the General Partner may, without the vote, consent or
approval of the Limited Partners, cause all or substantially all of the oil and
gas properties and other assets of the Partnership to be sold, assigned or
transferred to, or the Partnership merged or consolidated with, another
partnership or a corporation, trust or other entity for the purpose of combining
the assets of two or more of the oil and gas partnerships formed for investment
or participation by employees, directors and/or consultants of UNIT or any of
its subsidiaries; provided, however, that the valuation of the oil and gas
properties and other assets of all such participating partnerships for purposes
of such transfer or combination shall be made on a consistent basis and in a
manner which the General Partner and UNIT believe is fair and equitable to the
Limited Partners. As a consequence of any such transfer or combination, the
Partnership shall be dissolved and terminated and the Limited Partners shall
receive partnership interests, stock or other equity interests in the transferee
or resulting entity. Any such action will cause the Limited Partners’
attributable interest in the Partnership Properties to be diluted but it will
also provide them with attributable interests in the properties and other assets
of the other partnerships participating in the consolidation. It also may reduce
somewhat the amount of their attributable shares of the direct and indirect
costs of administering the Partnership. See “RISK FACTORS — Investment Risks -
Roll-Up or Consolidation of Partnership.”

 

ADDITIONAL FINANCING

 

The General Partner will use its best efforts, consistent with Partnership
objectives, to acquire Productive properties and complete the Partnership’s
drilling and development operations before the Aggregate Subscription has been
fully expended or committed. However, funds in addition to the Aggregate
Subscription may be required to pay costs and expenses which are chargeable to
the Limited Partners. In those instances described below, the General Partner
may call for Additional Assessments or may apply Partnership Revenue allocable
to the Limited Partners in payment and satisfaction of such costs or the General
Partner may, but shall not be required to, fund the deficiency with Partnership
borrowings to be repaid with Partnership Revenue.

 

 

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Additional Assessments

 

When the Aggregate Subscription has been fully expended or committed, the
General Partner may make one or more calls for any portion or all of the maximum
Additional Assessments of $100 per Unit. However, no Additional Assessments may
be required before the General Partner’s Minimum Capital Contribution has been
fully expended. Such assessments may be used to pay the Limited Partners’ share
of the Drilling Costs, Special Production and Marketing Costs or Leasehold
Acquisition Costs of Productive properties which are chargeable to the Limited
Partners. The amount of the Additional Assessment so called shall be due and
payable on or before such date as the General Partner may set in such call,
which in no event will be earlier than thirty (30) days after the date of
mailing of the call. The notice of the call for Additional Assessments will
specify the amount of the assessment being required, the intended use of such
funds, the date on which the contributions are payable and describe the
consequences of nonpayment. Although the Limited Partners who do not respond
will participate in production, if any, obtained from operations conducted with
the proceeds from the aggregate Additional Assessments paid into the
Partnership, the amount of the unpaid Additional Assessment shall bear interest
at the annual rate equal to two (2) percentage points in excess of the prime
rate of interest of Bank of Oklahoma, N.A., Tulsa, Oklahoma, or successor bank,
as announced and in effect from time to time, until paid. The Partnership will
have a lien on the defaulting Limited Partner’s interest in the Partnership and
the General Partner may retain Partnership Revenue otherwise available for
distribution to the defaulting Limited Partner until an amount equal to the
unpaid Additional Assessment and interest is received. Furthermore, the General
Partner may satisfy such lien by proceeding with legal action to enforce the
lien and the defaulting Limited Partner shall pay all expenses of collection,
including interest, court costs and a reasonable attorney’s fee.

 

Prior Programs

 

In the prior employee programs conducted by UNIT or the General Partner in each
of the years 1984 through 2004, Additional Assessments could be called for as
provided herein. At September 30, 2004, there had been no calls for Additional
Assessments in such programs. There can be no assurance, however, that
Additional Assessments will not be required to pay Partnership costs.

 

Partnership Borrowings

 

At any time after the General Partner’s Minimum Capital Contribution has been
fully expended, the General Partner may cause the Partnership to borrow funds
for the purpose of paying Drilling Costs, Special Production and Marketing Costs
or Leasehold Acquisition Costs of Productive properties, which borrowings may be
secured by interests in the Partnership Properties and will be repaid, including
interest accruing thereon, out of Partnership Revenue. The General Partner may,
but is not required to, advance funds to the Partnership for the same purposes
for which Partnership borrowings are authorized. With respect to any such
advances, the General Partner will receive interest in an amount equal to the
lesser of the interest which would be charged to the Partnership by unrelated
banks on comparable loans for the same purpose or the General Partner’s interest
cost with respect to such loan, where it borrows the same. No financing charges
will be levied by the General Partner in connection with any such loan. If
Partnership borrowings secured by interests in the Partnership Wells and
repayable out of Partnership Revenue cannot be arranged on a basis which, in the
opinion of the General Partner, is fair and reasonable, and the entire sum
required to pay such costs is not available from Partnership Revenue, the
General Partner may dispose of some or all of the Partnership Properties upon
which such operations were to be conducted by sale, farm-out or abandonment.

 

If the Partnership requires funds to conduct Partnership operations during the
period between any of the Installments due from the Limited Partners, then,
notwithstanding the foregoing, the General Partner shall advance funds to the
Partnership in an amount equal to the funds then required to conduct such
operations but in no event more than the total amount of the Aggregate
Subscription remaining unpaid. With respect to any such advances, the General
Partner shall receive no interest thereon and no financing charges will be
levied by the General Partner in connection therewith. The General Partner shall
be repaid out of the Installments thereafter paid into the capital of the
Partnership when due.

 

The Partnership may attempt to finance any expenses in excess of the Partners’
Capital Subscriptions by the foregoing means and any other means which the
General Partner deems in the best interests of the Partnership, but the
Partnership’s inability to meet such costs could result in the deferral of
drilling operations or in the

 

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inability to participate in future drilling or in non-consent penalties pursuant
to which co-owners of particular working interests recover several times the
amount which would have been funded by the Partnership in accordance with its
ownership interest before the Partnership would participate in revenues.

 

The use of Partnership Revenue allocable to the Limited Partners to pay
Partnership costs and expenses and to repay any Partnership borrowings will mean
that such revenue will not be available for distribution to the Limited
Partners. Nonetheless, the Limited Partners may incur income tax liability by
virtue of that revenue and, thus, may not receive distributions from the
Partnership in amounts necessary to pay such income tax. However, the use of
such revenue to pay Partnership costs and expenses may generate additional
deductions for the Limited Partners.

 

PLAN OF DISTRIBUTION

 

Units will be offered privately only to select persons who can demonstrate to
the General Partner that they have both the economic means and investment
expertise to qualify as suitable investors. The Units will be offered and sold
by the officers and directors of UPC or UNIT.

 

Suitability of Investors

 

Subscriptions should be made only by appropriate persons who can reasonably
benefit from an investment in the Partnership. In this regard, a subscription
will generally be accepted only from a person who can represent that such person
has (or in the case of a husband and wife, acting as joint tenants, tenants in
common or tenants in the entirety, that they have) a net worth, including home,
furnishings and automobiles, of at least five times the amount of his or her
Capital Subscription, and estimates that such person will have during the
current year adjusted gross income in an amount which will enable him or her to
bear the economic risks of his or her investment in the Partnership. Such person
must also demonstrate that he or she has sufficient investment experience and
expertise to evaluate the risks and merits of an investment in the Partnership.

 

Participation in the Partnership is intended only for those persons willing to
assume the risk of a speculative, illiquid, long-term investment. Entitlement to
and maintenance of the exemptions from registration provided by Sections 3(b)
and/or 4(2) of the Securities Act of 1933, as amended, require the imposition of
certain limitations on the persons to whom offers may be made, and from whom
subscriptions may be accepted. Therefore, this offering is limited to persons
who, by virtue of investment acumen or financial resources, satisfy the General
Partner that they meet suitability standards consistent with the maintenance and
preservation of the exemptions provided by Sections 3(b) and/or 4(2) and by the
applicable rules and regulations of the Securities and Exchange Commission, as
well as those contained herein and in the Subscription Agreement. Persons
offering interests shall sufficiently inquire of a prospective investor to be
reasonably assured that such investor meets such acceptable standards.
Suitability standards may also be imposed by the regulatory authorities of the
various states in which interests may be offered.

 

 

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RELATIONSHIP OF THE PARTNERSHIP,

THE GENERAL PARTNER AND AFFILIATES

 

The following diagram depicts the primary relationships among the Partnership,
the General Partner and certain of its affiliates.

 

UNIT CORPORATION

 

General Partner     Unit Petroleum Company   Unit Drilling Company

Unit 2005 Employee Oil & Gas

Limited Partnership

    Limited Partners    

Eligible Employees

and

Directors

   

 

PROPOSED ACTIVITIES

 

General

 

The Partnership will, with certain limited exceptions, participate in all of
UNIT’s or UPC’s oil and gas activities commenced during 2005. The Partnership
will acquire 1% of essentially all of UNIT’s interest in such activities. The
activities will include (i) participating as a joint working interest owner with
UNIT or UPC in any producing leases acquired and in any wells commenced by UNIT
or UPC other than as a general partner in a drilling or income program during
2004 and (ii) serving as a co-general partner in any drilling or income
programs, or both, formed by the General Partner or UNIT during 2005.

 

Acquisition of Properties and Drilling Operations. The Partnership will
participate, to the extent of 1% of UPC or UNIT’s final interest in each well,
as a fractional working interest holder in any producing leases acquired and in
any drilling operations conducted by UPC or UNIT for its own account which are
acquired or commenced, respectively, from January 1, 2005, or the time of the
formation of the Partnership if subsequent to January 1, 2005, until December
31, 2005, except for wells, if any:

 

  (i) drilled outside the 48 contiguous United States;

 

  (ii) drilled as part of secondary or tertiary recovery operations which were
in existence prior to formation of the Partnership;

 

  (iii) drilled by third parties under farm-out or similar arrangements with
UNIT or the General Partner or whereby UNIT or the General Partner may be
entitled to an overriding royalty, reversionary or other similar interest in the
production from such wells but is not obligated to pay any of the Drilling Costs
thereof;

 

  (iv) acquired by UNIT or the General Partner through the acquisition by UNIT
or the General Partner of, or merger of UNIT or the General Partner with, other
companies (However, this exception may, at the discretion of Unit or the General
Partner, be waived); or

 

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  (v) with respect to which the General Partner does not believe that the
potential economic return therefrom justifies the costs of participation by the
Partnership.

 

Instances referred to in (v) could occur when UNIT or one of its subsidiaries
agrees to participate in the ownership of a prospect for its own account in
order to obtain the contract to drill the well thereon. There may be situations
where the potential economic return of the well alone would not be sufficient to
warrant participation by UNIT but when considered in light of the revenues
expected to be realized as a result of the drilling contract, such participation
is desirable from UNIT’s standpoint. However, in such a situation, the
Partnership would not be entitled to any of the revenues generated by the
drilling contract so its participation in the well would not be desirable.

 

For these purposes, the drilling of a well will be deemed to have commenced on
the “spud date,” i.e., the date that the drilling rig is set up and actual
drilling operations are commenced. Any clearing or other site preparation
operations will not be considered part of the drilling operations for these
purposes.

 

Participation in Drilling or Income Programs. Except for certain limited
exceptions it is anticipated that the Partnership will participate with UPC or
UNIT as a co-general partner of any drilling or income programs, or both, formed
by UPC or UNIT and its affiliates during 2005. The Partnership will be charged
with 1% of the total costs and expenses charged to the general partners and
allocated 1% of the revenues allocable to the general partners in any such
program and UPC or UNIT will be charged with the remaining 99% of the general
partners’ share of costs and expenses and allocated the remaining 99% of the
general partners’ share of program revenues.

 

UNIT or its affiliates formed drilling programs for outside investors from 1979
through 1984. In 1987, the Unit 1986 Energy Income Limited Partnership (the
“1986 Energy Program”) was formed primarily to acquire interests in producing
oil and gas properties. See “PRIOR ACTIVITIES.” All of the programs were formed
as limited partnerships and interests in all of the programs other than the Unit
1979 Oil and Gas Program and the 1986 Energy Program were offered in registered
public offerings. The 1979 Program and 1986 Energy Program were offered
privately to a limited number of sophisticated investors.

 

No drilling or income programs for third party investors were formed in 2004.
Although it does not currently contemplate doing so, UNIT may form such drilling
or income programs during 2005. If such a program is formed, there would be only
one or two such programs and they probably would be privately offered. The
precise revenue and cost sharing format of any such programs has not been
determined.

 

The cost and revenue sharing provisions of virtually all drilling programs
offered to third parties generally require the limited partners or investors to
bear a somewhat higher percentage of the program’s drilling and development
costs than the percentage of program revenues to which they are entitled.
Likewise, the general partners will normally receive a higher percentage of
revenues than the percentage of drilling and development costs which they are
required to pay. The difference in these percentages is often referred to as the
general partners’ “promote.” Any drilling program which UNIT or UPC may form in
2005 for outside investors would likely have some amount of “promote” for the
general partner(s).

 

Any income program may use the same or a similar format as that used for the
1986 Partnership. In the 1986 Partnership, virtually all partnership costs and
expenses other than property acquisition costs are allocated to the partners in
the same percentages that partnership revenue is being shared at the time such
expenses are incurred, with property acquisition costs and certain other
expenses being charged 85% to the accounts of the limited partners and 15% to
the accounts of the general partners. Partnership revenue in the 1986
Partnership is allocated 85% to the limited partners’ accounts and 15% to the
general partners’ accounts until program payout (as defined in the agreement of
limited partnership for the 1986 Partnership). After program payout, the
percentages of partnership revenue allocable to the respective accounts of the
partners depend upon the length of the period during which program payout occurs
and range from 60% to the limited partners’ accounts and 40% to the general
partners’ accounts to 85% to the limited partners’ accounts and 15% to the
general partners’ accounts.

 

As co-general partners of any drilling or income programs that may be formed by
UNIT and/or UPC during 2005 and participated in by the Partnership, UNIT and/or
UPC and the Partnership will share the costs, expenses and revenues allocable to
the general partners on a proportionate basis, 99% for the account of UNIT

 

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and/or UPC and 1% for the account of the Partnership. The Partnership will not
receive any portion of any management fees payable to the general partners nor
any fees or payments for supervisory services which UNIT or UPC may render to
such programs as operator of program wells or other fees and payments which UNIT
or UPC may be entitled to receive from such programs for services rendered to
them or goods, materials, equipment or other property sold to them.

 

Extent and Nature of Operations. Although the General Partner maintains a
general inventory of prospects, it cannot predict with certainty on which of
those prospects wells will be started during 2005 nor can it predict what
producing properties, if any, will be acquired by it during 2005. Further, since
the General Partner anticipates that the Partnership will acquire a small
interest (either directly or through any drilling or income programs of which it
or UNIT serves as a general partner) in approximately 150 - 200 wells (however,
the exact number of wells may vary greatly depending on the actual activity
undertaken), it would be impractical to describe in any detail all of the
properties in which the Partnership can be expected to acquire some interest.

 

The Partnership’s drilling and development operations are expected to include
both Exploratory Wells and comparatively lower-risk Development Wells.
Exploratory Wells include both the high-risk “wildcat” wells which are located
in areas substantially removed from existing production and “controlled”
Exploratory Wells which are located in areas where production has been
established and where objective horizons have produced from similar geological
features in the vicinity. Based on UNIT’s historical profile of its drilling
operations, it is presently anticipated that the portion of the Aggregate
Subscription expended for Partnership drilling operations (see “APPLICATION OF
PROCEEDS”) will be spent approximately 7% on Exploratory Wells and 93% on
Development Wells. However, these percentages may vary significantly.

 

Certain of the Partnership’s Development Wells may be drilled on prospects on
which initial drilling operations were conducted by the General Partner or UNIT
prior to the formation of the Partnership. Further, certain of the Partnership
Wells will be drilled on prospects on which the General Partner, UNIT or
possibly future employee programs may conduct additional drilling operations in
years subsequent to 2005. In either instance, the Partnership will have an
interest only in those wells begun in 2005 and will have no rights in production
from wells commenced in years other than 2005 even though such other wells may
be located on prospects or spacing units on which Partnership Wells have been
drilled. Furthermore, it is possible that in years subsequent to 2005, UNIT, UPC
or possibly future employee programs will acquire additional interests in wells
participated in by the Partnership. In such event the Partnership will generally
not be entitled to share in the acquisition of such additional interests. With
respect to the acquisition of producing properties, UNIT will endeavor to
diversify its investments by acquiring properties located in differing
geographic locations and by balancing its investments between properties having
high rates of production in early years and properties with more consistent
production over a longer term. See “CONFLICTS OF INTERESTS — Acquisition of
Properties and Drilling Operations.”

 

Partnership Objectives

 

The Partnership is being formed to provide eligible employees and directors the
opportunity to participate in the oil and gas exploration and producing property
acquisition activities of UNIT during 2005. UNIT hopes that participation in the
Partnership will provide the participants with greater proprietary interests in
its operations and the potential for realizing a more direct benefit in the
event these operations prove to be profitable. The Partnership has been
structured to achieve the objective of providing the Limited Partners with
essentially the same economic returns that UNIT realizes from the wells drilled
or acquired during 2005.

 

Areas of Interest

 

The Agreement authorizes the Partnership to engage in oil and gas exploration,
drilling and development operations and to acquire producing oil and gas
properties anywhere in the United States, but the areas presently under
consideration are located in the states of Oklahoma, Texas, Louisiana, Kansas,
Arkansas, Colorado, Montana, North Dakota, New Mexico, Mississippi and Wyoming.
It is possible that the Partnership may drill in inland waterways, riverbeds,
bayous or marshes but no drilling in the open seas will be attempted. Plans to
conduct drilling and development operations or to acquire producing properties
in certain of these states may be abandoned if attractive prospects cannot be
obtained upon satisfactory terms or if the Partnership is not fully subscribed.

 

22

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

Transfer of Properties

 

In the case of wells drilled or producing properties acquired by the Partnership
and UPC or UNIT for their own accounts and not through another drilling or
income program, the Partnership will acquire from UPC or UNIT a portion of the
fractional undivided working interest in the properties or portions thereof
comprising the spacing unit on which a proposed Partnership Well is to be
drilled or on which a producing Partnership Well is located, and UPC or UNIT
will retain for its own account all or a portion of the remainder of such
working interest. Such working interests will be sold to the Partnership for an
amount equal to the Leasehold Acquisition Costs attributable to the interest
being acquired. Neither UNIT nor its affiliates will retain any overrides or
other burdens on the working interests conveyed to the Partnership, and the
respective working interests of UPC or UNIT and the Partnership in a property
will bear their proportionate shares of costs and revenues.

 

The Partnership’s direct interest in a property will only encompass the area
included within the spacing unit on which a Partnership Well is to be drilled or
on which a producing Partnership Well is located, and, in the case of a
Partnership Well to be drilled, it will acquire that interest only when the
drilling of the well is ready to commence. If the size of a spacing unit is ever
reduced, or any subsequent well in which the Partnership has no interest is
drilled thereon, the Partnership will have no interest in any additional wells
drilled on properties which were part of the original spacing unit unless such
additional wells are commenced during 2005. If additional interests in
Partnership Wells are acquired in years subsequent to 2005 the Partnership will
generally not be entitled to participate or share in the acquisition of such
additional interests. In addition, if the Partnership Well drilled on a spacing
unit is dry or abandoned, the Partnership will not have an interest in any
subsequent or additional well drilled on the spacing unit unless it is commenced
during 2005. The Partnership will never own any significant amounts of
undeveloped properties or have an occasion to sell or farm out any undeveloped
Partnership Properties.

 

Transfers of properties to any drilling or income programs of which the
Partnership serves as a general partner will be governed by the provisions of
the agreement of limited partnership in effect with respect thereto. If any such
program is to be offered publicly, those provisions will have to be consistent
with the provisions contained in the Guidelines for the Registration of Oil and
Gas Programs adopted by the North American Securities Administrators
Association, Inc.

 

Record Title to Partnership Properties

 

Record title to the Partnership Properties will be held by the General Partner.
However, the General Partner will hold the Partnership Properties as a nominee
for the Partnership under a form of nominee agreement to be entered into between
the General Partner and the Partnership. Under the form of nominee agreement,
the General Partner will disclaim any beneficial interest in the Partnership
Properties held as nominee for the Partnership.

 

Marketing of Reserves

 

The General Partner has the authority to market the oil and gas production of
the Partnership. In this connection, it may execute on behalf of the Partnership
division orders, contracts for the marketing or sale of oil, gas or other
hydrocarbons or other marketing agreements. Sales of the oil and gas production
of the Partnership will be to independent third parties or to the General
Partner or its affiliates (see “CONFLICTS OF INTEREST”).

 

Conduct of Operations

 

The General Partner will have full, exclusive and complete discretion and
control over the management, business and affairs of the Partnership and will
make all decisions affecting the Partnership Properties. To the extent that
Partnership funds are reasonably available, the General Partner will cause the
Partnership to (1) test and investigate the Partnership Properties by
appropriate geological and geophysical means, (2) conduct drilling and
development operations on such Partnership Properties as it deems appropriate in
view of such testing and investigation, (3) attempt completion of wells so
drilled if in its opinion conditions warrant the attempt and (4) properly equip
and complete productive Partnership Wells. The General Partner will also cause
the Partnership’s productive wells to be operated in accordance with sound and
economical oil and gas recovery practices.

 

 

23

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

The General Partner will operate certain drilling and productive wells on behalf
of the Partnership in accordance with the terms of the Agreement (see
“COMPENSATION”). In those cases, execution of separate operating agreements will
not be necessary unless third party owners are involved, e.g., fractional
undivided interest Partnership Properties and Partnership Properties that are
pooled or unitized with other properties owned by third parties. In such cases,
and in all cases where Partnership Properties are operated by third parties, the
General Partner will, where appropriate, make or cause to be made and enter into
operating agreements, pooling agreements, unitization agreements, etc., in the
form in general use in the area where the affected property is located. The
General Partner is also authorized to execute production sales contracts on
behalf of the Partnership.

 

APPLICATION OF PROCEEDS

 

The Aggregate Subscription will be used to pay costs and expenses incurred in
the operations of the Partnership which are chargeable to the Limited Partners.
The organizational costs of the Partnership and the offering costs of the Units
will be paid by the General Partner.

 

If all 600 Units offered hereby are sold, the proceeds to the Partnership would
be $600,000. If the minimum 50 Units are sold, the proceeds to the Partnership
would be $50,000. The General Partner estimates that the gross proceeds will be
expended as follows:

 

     $600,000 Program

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

   $50,000 Program

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

     Percent

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

    Amount

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

   Percent

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

    Amount

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

Leasehold Acquisition Costs of Properties to Be Drilled

   5 %   $ 30,000    5 %   $ 2,500

Drilling Costs of Exploratory Wells

   5 %     30,000    5 %     2,500

Drilling Costs of Development Wells

   70 %     420,000    70 %     35,000

Leasehold Acquisition Costs of Productive Properties

   20 %     120,000    20 %     10,000

Total

   100 %   $ 600,000    100 %   $ 50,000

 

The foregoing allocation between Drilling Costs and Leasehold Acquisition Costs
is solely an estimate and the actual percentages may vary materially from this
estimate. Funds otherwise available for drilling Exploratory Wells will be
reduced to the extent that such funds are used in conducting development
operations in which the Partnership participates.

 

Until Capital Contributions are invested in the Partnership’s operations, they
will be temporarily deposited, with or without interest, in one or more bank
accounts of the Partnership or invested in short-term United States government
securities, money market funds, bank certificates of deposit or commercial paper
rated as “A1” or “P1” as the General Partner deems advisable. Partnership funds
other than Capital Contributions may be commingled with the funds of the General
Partner or UNIT.

 

PARTICIPATION IN COSTS AND REVENUES

 

All costs of organizing the Partnership and offering Units therein will be paid
by the General Partner. All costs incurred in the offering and syndication of
any drilling or income program formed by UPC or UNIT and its affiliates during
2005 in which the Partnership participates as a co-general partner will also be
paid by the General Partner. All other Partnership costs and expenses will be
charged 99% to the Limited Partners and 1% to the General Partner until such
time as the Aggregate Subscription has been fully expended. Thereafter and until
the General Partner’s Minimum Capital Contribution has been fully expended, all
of such costs and expenses will be charged to the General Partner. After the
General Partner’s Minimum Capital Contribution has been fully expended, such
costs and expenses will be charged to the respective accounts of the General
Partner and the Limited Partners on the basis of their respective Percentages
(see “GLOSSARY”).

 

 

24

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

All Partnership Revenues will be allocated between the General Partner and the
Limited Partners on the basis of their respective Percentages.

 

The General Partner’s Minimum Capital Contribution will be determined as of
December 31, 2005 and will be an amount equal to:

 

  (a) all costs and expenses previously charged to the General Partner as of
that date, plus

 

  (b) the General Partner’s good faith estimate of the additional amounts that
it will have to contribute in order to fund the Leasehold Acquisition Costs and
Drilling Costs expected to be incurred by the Partnership after that date.

 

The respective Percentages of the General Partner and the Limited Partners will
then be determined as of December 31, 2005 based on the relative contributions
of the Partners previously made and expected to be made in the future during the
remainder of the Partnership’s property acquisition and drilling phases. See
“GLOSSARY — General Partner’s Minimum Capital Contribution”, “General Partner’s
Percentage” and “ Limited Partners’ Percentage.” If the General Partner’s
estimate of future Leasehold Acquisition Costs and Drilling Costs proves to be
lower than the actual amount of such costs and expenses, the excess amounts will
be charged to the Partners on the basis of their respective Percentages and the
Limited Partners’ share will be paid out of their share of Partnership Revenues,
Additional Assessments required of them or the proceeds of Partnership
borrowings. See “ADDITIONAL FINANCING.” If the General Partner’s estimate of
such costs and expenses proves to be higher than the actual costs and expenses,
the General Partner will continue to bear Partnership costs and expenses that
would otherwise have been chargeable to the Limited Partners until the total
Partnership costs and expenses charged to it (including, without limitation,
offering and organizational costs, Operating Expenses, general and
administrative overhead costs and reimbursements and Special Production and
Marketing Costs as well as Leasehold Acquisition Costs and Drilling Costs) since
the formation of the Partnership equals the General Partner’s Minimum Capital
Contribution. In addition to actual contributions of cash or properties, any
Partner will be deemed to have contributed amounts of Partnership Revenues
allocated to it which are used to pay its share of Partnership costs and
expenses.

 

25

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

The following table presents a summary of the allocation of Partnership costs,
expenses and revenues between the General Partner and the Limited Partners:

 

    

General Partner

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

     Limited Partners

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

COSTS AND EXPENSES

           

•      Organizational and offering costs of the Partnership and any drilling or
income programs in which the Partnership participates as a co-general partner

   100%      0%

•      All other Partnership Costs and Expenses:

           

•      Prior to time Limited Partner Capital Contributions are Entirely expended

   1%      99%

•      After expenditure of Limited Partner Capital Contributions and until
expenditure of General Partner’s Minimum Capital Contribution

   100%      0%

•      After expenditure of General Partner’s Minimum Capital Contribution

   General Partner’s Percentage      Limited Partners’
Percentage

REVENUES

   General Partner’s Percentage      Limited Partners’
Percentage

 

COMPENSATION

 

Supervision of Operations

 

It is anticipated that the General Partner will operate most, if not all,
Partnership Properties during the drilling of Partnership Wells and most, if not
all, productive Partnership Wells. For the General Partner’s services performed
as operator, the Partnership will compensate the General Partner its pro rata
portion of the compensation due to the General Partner under the operating
agreements, if any, in effect with respect to such wells or, if none is in
effect for such wells, at rates no higher than those normally charged in the
same or a comparable geographic area by non-affiliated persons or companies
dealing at arm’s length.

 

That portion of the General Partner’s general and administrative overhead
expense that is attributable to its conduct of the actual and necessary
business, affairs and operations of the Partnership will be reimbursed by the
Partnership out of Partnership Revenue. The General Partner’s general and
administrative overhead expenses are determined in accordance with industry
practices. The costs and expenses to be allocated include all customary and
routine legal, accounting, geological, engineering, travel, office rent,
telephone, secretarial, salaries, data processing, word processing and other
incidental reasonable expenses necessary to the conduct of the Partnership’s
business and generated by the General Partner or allocated to it by UNIT, but
will not include filing fees, commissions, professional fees, printing costs and
other expenses incurred in forming the Partnership or offering interests
therein. The amount of such costs and expenses to be reimbursed with respect to
any particular period will be determined by allocating to the Partnership that
portion of the General Partner’s total general and administrative overhead
expense incurred during such period which is equal to the ratio of the
Partnership’s total expenditures compared to the total expenditures by the
General Partner for its own account. The portion of such general and
administrative overhead expense reimbursement which is charged to the Limited

 

26

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

Partners may not exceed an amount equal to 3% of the Aggregate Subscription
during the first 12 months of the Partnership’s operations, and in each
succeeding twelve-month period, the lesser of (a) 2% of the Aggregate
Subscription and (b) 10% of the total Partnership Revenue realized in such
twelve-month period. Administrative expenses incurred directly by the
Partnership, or incurred by the General Partner on behalf of the Partnership and
reimbursable to the General Partner, such as legal, accounting, auditing,
reporting, engineering, mailing and other such fees, costs and expenses are not
considered a part of the general and administrative expense reimbursed to the
General Partner and the amounts thereof will not be subject to the limitations
described in the preceding sentence.

 

Purchase of Equipment and Provision of Services

 

UNIT, through its subsidiary Unit Drilling Company, will probably perform
significant drilling services for the Partnership. UNIT also owns Superior
Pipeline Company, L.L.C., an Oklahoma limited liability company, which may build
or own an interest in certain gathering systems through which a portion of the
Partnership’s gas production is transported.

 

These persons are in the business of supplying such equipment and services to
non-affiliated parties in the industry and any such equipment and such services
will be acquired or provided at prices or rates no higher than those normally
charged in the same or comparable geographic area by non-affiliated persons or
companies dealing at arms’ length. Production purchased by any affiliate of UNIT
will be for prices which are not less than the highest posted price (in the case
of crude oil) or prevailing price (in the case of natural gas) in the same field
or area.

 

UNIT or one of its affiliates may provide other goods or services to the
Partnership in which event the compensation received therefore will be subject
to the same restrictions and conditions described above and under “CONFLICTS OF
INTEREST” below.

 

Prior Programs

 

UNIT was formed in 1986 in connection with a major reorganization and
recapitalization whereby UNIT acquired all of the assets and liabilities of all
of the limited partnerships formed by UNIT’s predecessor, Unit Drilling and
Exploration Company (“UDEC”), during the period of 1980 through 1983 in exchange
for shares of UNIT’s common stock and UDEC was merged with a wholly owned
subsidiary of UNIT whereby UDEC was the surviving corporation and thereby became
a wholly owned subsidiary of UNIT. UNIT has conducted one oil and gas program
since the date of its formation, the 1986 Energy Program. The 1986 Energy
Program was formed on June 12, 1987 with total subscriptions of one million
dollars. The Unit 1986 Employee Oil and Gas Limited Partnership is a co-general
partner with Unit Petroleum Company of the 1986 Energy Program. Direct
compensation charged to or paid by the partnerships and earned by the General
Partners for their services in connection with these programs through September
30, 2004, is set forth below.

 

 

27

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

Program

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

   Management
Fee(1)

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

    Compensation for
Supervision and
Operation of
Productive and
Drilling Wells(2)(3)

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

   Reimbursement
of General
Administrative
and Overhead
Expense(2)(3)(4)

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

  

Fees
Received as

a Drilling
Contractor(2)

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

1979(***)

   150,000     2,833,720    2,539,915    1,835,762

1980

   200,000     261,456    1,345,158    1,810,310

1981

   1,250,000 (5)   329,695    1,892,568    4,047,260

1981-II

   450,000     158,406    1,607,706    1,629,201

1982-A

   634,200     521,910    1,688,024    4,110,107

1982-B

   316,650     331,594    1,224,023    4,945,437

1983-A

   50,600     151,289    698,597    695,255

1984

   —       313,310    1,036,106    829,503

1984 Employee(*)

   —       3,924    5,000    13,452

1985 Employee(*)

   —       10,316    —      54,892

1986 Energy Income Fund(**)

   —       371,456    1,371,353    64,945

1986 Employee(*)

   —       23,505    —      59,446

1987 Employee(*)

   —       50,688    —      97,079

1988 Employee(*)

   —       93,854    —      112,861

1989 Employee(*)

   —       54,536    —      165,436

1990 Employee(*)

   —       28,884    —      144,722

1991 Employee(****)

   —       572,357    —      144,993

1992 Employee(****)

   —       159,914    —      14,934

1993 Employee(****)

   —       85,790    —      68,504

1994 Employee(****)

   —       122,392    —      42,135

1995 Employee(****)

   —       72,331    —      35,903

1996 Employee(****)

   —       85,199    —      112,911

1997 Employee(****)

   —       75,475    —      170,174

1998 Employee(****)

   —       57,689    —      161,343

1999 Employee(****)

   —       95,782    —      186,408

Consolidated Program(*)(****)

   —       279,288    —      734

2000 Employee

   —       78,525    —      600,771

2001 Employee

   —       22,371    —      360,950

2002 Employee

   —       15,235    —      273,603

2003 Employee

   —       10,960    —      446,564

2004 Employee

   —       684    —      419,357

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

(*) Effective December 31, 1993, pursuant to an Agreement and Plan of Merger,
this employee partnership was merged with and into the Unit Consolidated
Employee Oil and Gas Limited Partnership (the “Consolidated Program”), with the
latter being the surviving limited partnership. See Prior Activities.

(**) Formed primarily for purposes of acquiring producing oil and gas
properties.

(***) Effective July 1, 2003 this program was dissolved.

(****) Effective December 31, 2002, pursuant to an Agreement and Plan of Merger,
this employee partnership was merged with and into the Unit Consolidated
Employee Oil and Gas Limited Partnership (the “Consolidated Program”), with the
latter being the surviving limited partnership. See Prior Activities.

(1) Paid to both UDEC and a prior Key Employee Exploration Fund as general
partners. No management fee was payable to UDEC or any of its affiliates by any
of the 1984 - 2004 Employee Programs and no management fee is payable by the
Partnership to UNIT or any of its affiliates.

 

28

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

(2) Paid only to UDEC.

(3) In the case of compensation for supervision and operation of productive
wells and reimbursement of UNIT’s general and administrative overhead expense,
the general partners generally were charged with and paid a percentage of such
amounts equal to the percentage of partnership revenues being allocated to them.

(4) Although the partnership agreement for each of the 1985 - 2004 Employee
Programs provides that the General Partner is entitled to reimbursement for the
general administrative and overhead expenses attributable to each of such
programs, the General Partner has to date elected not to seek such
reimbursement. However, there can be no assurance that the General Partner will
continue to forego such reimbursement in the future.

(5) Includes a special allocation of gross revenues totaling $500,000.

 

MANAGEMENT

 

The General Partner

 

UNIT was formed in 1986 in connection with a major reorganization and
recapitalization whereby UNIT acquired all of the assets and liabilities of all
of the limited partnerships formed by UNIT’s predecessor, UDEC, in exchange for
shares of UNIT’s common stock in a transaction whereby UDEC became a wholly
owned subsidiary of UNIT. UPC was incorporated in the State of Oklahoma on
February 9, 1984 as Sunshine Development Corporation (“SDC”) and was acquired by
UDEC in 1985. The name was changed to Unit Petroleum Company in 1988. On October
8, 1985 pursuant to the terms of a Stock Purchase Agreement,” UDEC purchased all
of the issued and outstanding stock of SDC whereby SDC became a wholly owned
subsidiary of UDEC. On February 1, 1988, pursuant to the terms of an “Amended
and Restated Certificate of Incorporation”, SDC was renamed Unit Petroleum
Company.

 

UPC’s as well as UNIT’s, principal office is at 7130 South Lewis, Suite 1000,
Tulsa, Oklahoma 74136 and its telephone number is (918) 493-7700. UNIT through
its various subsidiaries is engaged in the onshore contract drilling of oil and
gas wells, the exploration for and production of oil and gas and the gathering
and transportation of natural gas. Unless the context otherwise requires,
references in this Memorandum to UNIT include its predecessor as well as all or
any of its subsidiaries.

 

Officers, Directors and Key Employees

 

The Partnership will have no directors or officers. The directors of the General
Partner are elected annually and serve until their successors are elected and
qualified. Directors of UNIT are elected at the Annual Meeting of Shareholders
for a staggered term of three years each, or until their successors are duly
elected and qualified. The executive officers of the General Partner are elected
by and serve at the pleasure of its Board of Directors. The names, ages and
respective positions of the directors and executive officers of UNIT are as
follows:

 

Name

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

   Age

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

    

Position

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

King P. Kirchner

   77     

Director

John G. Nikkel*

   69     

Chairman of the Board, Chief Executive Officer and Director

Larry D. Pinkston*

   50     

President, Chief Operating Officer and Director

Mark E. Schell

   47     

Senior Vice President, Secretary and General Counsel

David T. Merrill

   43     

Treasurer and Chief Financial Officer

William B. Morgan

   60     

Director

 

29

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

Name

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

   Age

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

    

Position

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

Don Cook

   79     

Director

John S. Zink

   76     

Director

John H. Williams

   86     

Director

J. Michael Adcock

   55     

Director

Mark E. Monroe

   50     

Director

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

* Mr. Nikkel has announced his intention to resign as the Chief Executive
Officer of the Company effective April 1, 2005. The Company’s Board of Directors
has elected Mr. Pinkston to succeed Mr. Nikkel as the Company Chief Executive
Officer.

 

The names, ages and respective positions of the directors and executive officers
of UPC are as follows:

 

Name

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

   Age

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

    

Position

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

John G. Nikkel

   69     

Chairman of the Board and Director

Larry D. Pinkston

   50     

President and Director

Mark E. Schell

   47     

Senior Vice President, Secretary and General Counsel

 

Mr. Kirchner, a co-founder of UNIT, has been a director since 1963. He served as
the Company’s President until November, 1983, as its Chief Executive Officer
until June 30, 2001, and served as the Chairman of the Board until July 31,
2003. Mr. Kirchner is a Registered Professional Engineer within the State of
Oklahoma, having received degrees in Mechanical Engineering from Oklahoma State
University and in Petroleum Engineering, with honors, from the University of
Oklahoma. Following graduation, he was employed by Lufkin Manufacturing as a
development engineer for hydraulic pumping units. Prior to co-founding Unit, he
served in the U.S. Army during the Korean War and after that as vice-president
engineering and operations for Woolaroc Oil Company.

 

Mr. Nikkel joined Unit as its President, Chief Operating Officer and a director
in 1983. He was elected its Chief Executive Officer in July, 2001 and Chairman
of the Board in August, 2003. He currently holds the position of Chairman of the
Board and Chief Executive Officer. From 1976 until January, 1982 when he
co-founded Nike Exploration Company, Mr. Nikkel was an officer and director of
Cotton Petroleum Corporation, serving as the President of Cotton from 1979 until
his departure. Prior to joining Cotton, Mr. Nikkel was employed by Amoco
Production Company for 18 years, last serving as Division Geologist for Amoco’s
Denver Division. Mr. Nikkel presently serves as President and a director of Nike
Exploration Company. From August 16, 2000 until August 23, 2002 Mr. Nikkel, in
connection with Unit’s investment in the company, also served as a director of
Shenandoah Resources Ltd., a Canadian company. Shenandoah Resources Ltd. filed
for creditors protection under The Companies’ Creditor Arrangement Act in April
2002 with the Court of Queen’s Bench of Alberta, Judicial District of Calgary.
Mr. Nikkel received a Bachelor of Science degree in Geology and Mathematics from
Texas Christian University.

 

Mr. Pinkston joined UNIT in December, 1981. He had served as Corporate Budget
Director and Assistant Controller prior to being appointed Controller in
February, 1985. In December, 1986 he was elected Treasurer of the company and
was elected to the position of Vice President and Chief Financial Officer in
May, 1989. In August, 2003, he was elected to the position of President of the
company as well as serving as its Chief Financial Officer. He was elected a
director of the company by the Board in January, 2004. In February, 2004, in
addition to his position as President, he was elected to the office of Chief
Operating Officer. He holds a Bachelor of Science Degree in Accounting from East
Central University of Oklahoma and is a Certified Public Accountant.

 

30

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

Mr. Schell joined UNIT in January, 1987, as its Secretary and General Counsel.
In December, 2002, he was elected to the additional position of Senior Vice
President. From 1979 until joining UNIT, Mr. Schell was Counsel, Vice President
and a member of the Board of Directors of C&S Exploration, Inc. He received a
Bachelor of Science degree in Political Science from Arizona State University
and his Juris Doctorate degree from the University of Tulsa Law School. He is a
member of the Oklahoma and American Bar Association as well as being a member of
the American Corporate Counsel Association and the American Society of Corporate
Secretaries.

 

Mr. Merrill joined Unit in August, 2003 as Vice President, Finance. From May,
1999 through August, 2003, Mr. Merrill served as Senior Vice President, Finance
with TV Guide Networks, Inc. From July, 1996 through May, 1999 he was a Senior
Manager with Deloitte & Touche LLP. From July, 1994 through July, 1996 he was
Director of Financial Reporting and Special Projects for MAPCO, Inc. He began
his career as an auditor with Deloitte, Haskins & Sells in 1983. Mr. Merrill
received a Bachelor of Business Administration Degree in Accounting from the
University of Oklahoma and is a Certified Public Accountant. In February, 2004
he was elected to the position of Treasurer and Chief Financial Officer.

 

Mr. Morgan was elected a director of UNIT in February, 1988. For over 5 years,
Mr. Morgan has been Executive Vice President and General Counsel of St. John
Health System, Inc., Tulsa, Oklahoma, and the President of its principal
for-profit subsidiary Utica Services, Inc. Before that, he was a Partner in the
law firm of Doerner, Saunders, Daniel & Anderson, Tulsa, Oklahoma, for over 20
years.

 

Mr. Cook has served as a director of Unit since Unit’s inception. He is a
Certified Public Accountant and was a partner in the accounting firm of Finley &
Cook, Shawnee, Oklahoma, from 1950 until 1987, when he retired. Mr. Cook has
been designated by the company’s board of directors as the Audit Committee’s
financial expert.

 

Mr. Zink was elected a director of UNIT in May, 1982. For over 5 years, he has
been a principal in several privately held companies engaged in the businesses
of designing and manufacturing equipment used in the petroleum industry,
construction, and heating and air conditioning services and installation. He
holds a Bachelor of Science degree in Mechanical Engineering from Oklahoma State
University. He is also a director of Matrix Service Company, Tulsa, Oklahoma.

 

Mr. Williams was elected a director of UNIT in December, 1988. Prior to retiring
on December 31, 1978, he was Chairman of the Board and Chief Executive Officer
of The Williams Companies, Inc., where he continues to serve as an honorary
director. Mr. Williams also serves as a director of Apco Argentina, Inc.,
Petrolera Perez Companc S.A., and Willbros Group, Inc. In addition, Mr. Williams
is a member of the Tulsa Performing Arts Center Trust.

 

Mr. Adcock was elected a director of UNIT in December, 1997. He is an attorney
and currently manages a private trust that deals in real estate, oil and gas
properties and other equity investments. He is Chairman of the Board of Arvest
Bank, Shawnee, and a director of Community Health Partners, Inc., formerly Mid
America Healthcare, Inc. Between 1997 and September, 1998 he was the Chairman of
the Board of Ameribank and President and Chief Executive Officer of American
National Bank and Trust Company of Shawnee, Oklahoma, and Chairman of AmeriTrust
Corporation, Tulsa, Oklahoma. Prior to holding these positions, he was engaged
in the private practice of law and served as General Counsel for Ameribank
Corporation.

 

Mr. Monroe was the Chief Executive Officer and President of Louis Dreyfus
Natural Gas Corp., a publicly-held natural gas exploration and production
company, until the sale of the company in 2001. Prior to the formation of Louis
Dreyfus Natural Gas in 1990, Mr. Monroe was the Chief Financial Officer of
Bogert Oil Company, a publicly-held exploration and production company
headquartered in Oklahoma City, Oklahoma. From 1976 to 1980, he was an Audit
Manager for the public accounting firm of Deloitte & Touche in Dallas, Texas.
Mr. Monroe currently serves as a member of the Board of Directors for
Continental Resources, Inc., a privately-held exploration and production company
headquartered in Enid, Oklahoma and on the board of the Oklahoma Independent
Petroleum Association, of which he previously served as its President. He has
served on the Domestic Petroleum Council, on the National Petroleum Council and
on the Boards of the Independent Petroleum Association of America and the
Petroleum Club of Oklahoma City. Mr. Monroe graduated from the University of
Texas at Austin with a BBA degree in 1975 and is a Certified Public Accountant.

 

31

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Prior Employee Programs

 

Since 1984, UNIT has formed limited partnerships for investment by certain of
its key employees and directors that participate with UNIT in its exploration
and production operations. The name, month of formation and amount of limited
partner capital subscriptions of each of these limited partnerships (the
“Employee Programs”) are set forth below.

 

Name

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

  

Formed

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

   Limited
Partners’
Capital
Subscriptions

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

Unit 1984 Employee Oil and Gas Program

   April 1984    $ 348,000

Unit 1985 Employee Oil and Gas Limited Partnership

   January 1985    $ 378,000

Unit 1986 Employee Oil and Gas Limited Partnership

   January 1986    $ 307,000

Unit 1987 Employee Oil and Gas Limited Partnership

   March 1987    $ 209,000

Unit 1988 Employee Oil and Gas Limited Partnership

   April 29, 1988    $ 177,000

Unit 1989 Employee Oil and Gas Limited Partnership

   December 30, 1988    $ 157,000

Unit 1990 Employee Oil and Gas Limited Partnership

   January 19, 1990    $ 253,000

Unit 1991 Employee Oil and Gas Limited Partnership

   January 7, 1991    $ 263,000

Unit 1992 Employee Oil and Gas Limited Partnership

   January 23, 1992    $ 240,000

Unit 1993 Employee Oil and Gas Limited Partnership

   January 21, 1993    $ 245,000

Unit 1994 Employee Oil and Gas Limited Partnership

   January 19, 1994    $ 284,000

Unit 1995 Employee Oil and Gas Limited Partnership

   March 7, 1995    $ 454,000

Unit 1996 Employee Oil and Gas Limited Partnership

   February 5, 1996    $ 437,000

Unit 1997 Employee Oil and Gas Limited Partnership

   February 4, 1997    $ 413,000

Unit 1998 Employee Oil and Gas Limited Partnership

   February 19, 1998    $ 471,000

Unit 1999 Employee Oil and Gas Limited Partnership

   February 22, 1999    $ 188,000

Unit 2000 Employee Oil and Gas Limited Partnership

   February 22, 2000    $ 199,000

Unit 2001 Employee Oil and Gas Limited Partnership

   February 9, 2001    $ 370,000

Unit 2002 Employee Oil and Gas Limited Partnership

   January 30, 2002    $ 457,000

Unit 2003 Employee Oil and Gas Limited Partnership

   January 31, 2003    $ 284,000

Unit 2004 Employee Oil and Gas Limited Partnership

   February 18, 2004    $ 434,000

 

32

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One-half of the capital subscriptions from all limited partners were required to
be paid in the 1984 Employee Program, three-fourths of the capital subscriptions
from all limited partners were required to be paid in the 1985 Employee Program
and the 1986 Employee Program. All of the capital subscriptions from all limited
partners, including those shown below, were required to be paid in the 1987
through 2004 Employee Programs. The capital subscriptions of the following
limited partners to the 2002, 2003 and 2004 Employee Programs were as shown
below:

 

Subscriber

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

  

Position with UNIT

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

  

Amount of Capital

Subscription

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

      2002

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

   2003

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

   2004

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

King P. Kirchner(1)

  

Director

   100,000    40,000    $ 40,000

John G. Nikkel(2)

  

Chairman, Chief Executive Officer and Director

   200,000    140,000    $ 200,000

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

(1) Mr. Kirchner invested $100,000 in the 2002 Employee Program, $40,000 in the
2003 Employee Program and $40,000 in the 2004 Employee Program, through the King
P. Kirchner Revocable Trust as permitted by the limited partnership agreement of
those Employee Programs.

(2) Mr. Nikkel invested in the 2002, 2003 and 2004 Employee Programs both
directly and through Nike Exploration Company. Mr. Nikkel and members of his
family are the sole owners of Nike Exploration Company. The amounts invested
directly and indirectly through Nike Exploration Company in the 2002, 2003 and
2004 Employee Programs by Mr. Nikkel were as follows:

 

Employee

Program

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

  Mr. Nikkel
Directly

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

  Nike Exploration
Company

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

2002   $ 100,000   $ 100,000 2003   $ 80,000   $ 60,000 2004   $ 100,000    
100,000

 

Ownership of Common Stock

 

UNIT’s Common Stock is listed on the New York Stock Exchange as reported on the
Composite Tape. On December 9, 2004 there were 45,739,599 shares outstanding.

 

As of December 9, 2004, the directors and officers of UNIT owned of record or
beneficially owned shares of UNIT Common Stock as follows:

 

Name

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

   Amount of
Beneficial
Ownership(1)

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

    % of
Outstanding(1)

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

 

King P. Kirchner

   165,320     *  

John H. Williams

   15,000     *  

Don Cook

   33,118     *  

John G. Nikkel

   397,267     *  

Larry D. Pinkston

   74,608     *  

Mark E. Schell

   74,209     *  

John S. Zink

   12,600     *  

William B. Morgan

   24,000     *  

J. Michael Adcock

   122,191     *  

Mark E. Monroe

   6,500     *  

David T. Merrill

   1,600     *  

All Officers and Directors as a Group

   926,413 (2)(3)(4)(5)   2.0 %

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

* Less than 1%

 

33

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

(1) The number of shares includes the shares presently issued and outstanding
plus the number of shares which any owner has the right to acquire within 60
days after December 9, 2004, pursuant to the exercise of currently exercisable
stock options. For purposes of calculating the percent of the shares outstanding
held by each owner, the total number of shares excludes the shares which all
other persons have the right to acquire within 60 days after December 9, 2004
pursuant to the exercise of currently exercisable stock options.

(2) Includes shares of common stock held under UNIT’s 401(k) thrift plan as of
December 9, 2004 for the account of: John G. Nikkel, 32,787; David T. Merrill,
40; Larry D. Pinkston, 3,933; and Mark E. Schell, 31,573.

(3) Includes unexercised stock options granted under UNIT’s Non-Employee
Directors’ Stock Option Plan to each of the following, all of which are
currently exercisable at the discretion of the holder: J. Michael Adcock,
14,000; Don Cook, 22,500; Mark E. Monroe, 3,500; William B. Morgan, 19,000; John
H. Williams, 14,000; John S. Zink, 10,500; and King P. Kirchner 10,500 shares
and all Non-Employee Directors as a group, 94,000.

(4) Includes unexercised stock options granted under UNIT’s Amended and Restated
Stock Option Plan to each of the following, all of which are exercisable within
60 days from December 9, 2004 at the discretion of the holder: John G. Nikkel
29,000; David T. Merrill, 1,600; Larry D. Pinkston, 30,500; and Mark E. Schell,
30,000.

(5) Of the shares shown, Mr. J. Michael Adcock is deemed to be the beneficial
owner of 107,491 shares by virtue of his position as one of three trustees of
the Don Bodard 1995 Revocable Trust.

 

Interest of Management in Certain Transactions

 

Reference is made to “COMPENSATION” for a discussion of the compensation for
supervision and operation of productive wells and the reimbursement of overhead
expenses attributable to the Partnership’s operations to which UNIT is entitled
under the terms of the Partnership Agreement.

 

CONFLICTS OF INTEREST

 

There will be situations in which the individual interests of the General
Partner and the Limited Partners will conflict. Although the General Partner is
obligated to deal fairly and in good faith with the Limited Partners and conduct
Partnership operations using the standards of a prudent operator in the oil and
gas industry, such conflicts may not in every instance be resolved to the
maximum advantage of the Limited Partners. Certain circumstances which will or
may involve potential conflicts of interest are as follows:

 

  •   The General Partner currently manages and in the future will sponsor and
manage oil and natural gas drilling programs similar to the Partnership.

 

  •   The General Partner will decide which prospects the Partnership will
acquire.

 

  •   The General Partner will act as operator for Partnership Wells and will,
through its affiliates, furnish drilling and/or marketing services with respect
to Partnership Wells, the terms of which have not been negotiated by
non-affiliated persons.

 

  •   The General Partner is a general partner of numerous other partnerships,
and owes duties of good faith dealing to such other partnerships.

 

  •   The General Partner and its affiliates engage in drilling, operating and
producing activities for other partnerships.

 

Acquisition of Properties and Drilling Operations

 

With certain limited exceptions it is anticipated that the Partnership will
participate in each producing property, if any, acquired by the General Partner
and in the drilling of each of the wells, if any, commenced by the

 

34

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

General Partner for its own account during the period commencing January 1,
2005, or from the formation of the Partnership if subsequent to January 1, 2005,
through December 31, 2005 except for wells:

 

  (i) drilled outside the 48 contiguous United States;

 

  (ii) drilled as part of secondary or tertiary recovery operations which were
in existence prior to formation of the Partnership;

 

  (iii) drilled by third parties under farm-out or similar arrangements with
UNIT or the General Partner or whereby UNIT or the General Partner may be
entitled to an overriding royalty, reversionary or other similar interest in the
production from such wells but is not obligated to pay any of the Drilling Costs
thereof;

 

  (iv) acquired by UNIT or the General Partner through the acquisition by UNIT
or the General Partner of, or merger of UNIT or the General Partner with, other
companies; or

 

  (v) with respect to which the General Partner does not believe that the
potential economic return therefrom justifies the costs and participation by the
Partnership.

 

As a result, the Partnership may have an interest in wells located on prospects
on which producing wells have been drilled by UNIT or the General Partner in
prior years. Likewise, it is possible that the Partnership will participate in
the drilling of initial wells on prospects on which some or all of the
development or offset wells will be drilled in years subsequent to 2005. In the
latter case, the Partnership would have no right to participate in the drilling
of such development or offset wells.

 

Sometimes UNIT will agree to participate in drilling operations on a prospect
which it may not believe are fully warranted from an economic standpoint if it
believes that such participation is necessary for, or will significantly
increase its chances of, obtaining a contract to drill the well with one of its
drilling rigs and the revenues from the contract make the economics of the
entire arrangement desirable from UNIT’s standpoint. In such an instance, the
Partnership would not be entitled to any of the drilling contract revenues so
the General Partner will not cause the Partnership to participate in such a
well. However, an analysis of the economic potential of any proposed well is a
very inexact science and wells which have a very high potential commonly prove
to be dry or only marginally profitable and occasionally a well with apparently
very little promise may prove to be very profitable. Thus, there can be no
assurance that the General Partner will always make the most profitable decision
from the Partnership’s standpoint in determining in which of such potential
wells the Partnership should or should not participate.

 

Because the Partnership will acquire an interest only in those properties
comprising the spacing unit on which each Partnership Well is located, it will
not be entitled to participate in other wells drilled by the General Partner,
UNIT or any of its affiliates in the same prospect area unless the drilling of
those wells commences during the period from January 1, 2005, or from the
formation of the Partnership if subsequent to January 1, 2005, through December
31, 2005. If the size of a spacing unit in which the Partnership has an interest
is reduced, the Partnership will have no interest in any additional well drilled
on the property comprising the original spacing unit unless it is commenced
during the period from January 1, 2005, or from the formation of the Partnership
if subsequent to January 1, 2005, through December 31, 2005. Likewise the
Partnership would have no interest in any increased density wells drilled on the
original spacing unit unless such wells were drilled during 2005. In addition,
if additional interests are acquired in wells participated in by the Partnership
after 2005, the Partnership will generally not be entitled to participate in the
acquisition of such additional interests. Management believes that the apparent
conflicts of interest arising from these situations are mitigated by the fact
that the Partnership is expected to participate in all of UNIT’s drilling
operations (with the exceptions noted above) conducted during the period. Thus,
there is little opportunity for the General Partner to selectively choose
Partnership drilling locations for the purpose of proving up other properties of
UNIT or its affiliates in which the Partnership has no interest. Further, the
Partnership will benefit in many instances by its participation in the drilling
of wells located on prospects previously proved up by drilling operations
conducted by UNIT prior to formation of the Partnership.

 

35

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

Participation in UNIT’s Drilling or Income Programs

 

If UNIT forms any drilling or income programs in 2005, it is anticipated that
the Partnership will serve as a co-general partner with UNIT in any such
drilling or income programs, or both. As the other co-general partner of any
such drilling or income program, UNIT would have exclusive management and
control over the business, operations and affairs of the drilling or income
program. Conflicts of interest may arise between the limited partners and the
general partners of such drilling or income program and it is possible that UNIT
may elect to resolve those conflicts in favor of the limited partners. Further,
if any such drilling or income program is offered publicly, the program
agreement will be required to contain a number of provisions concerning the
conduct of program operations and handling conflicts of interests required by
the Guidelines for the Registration of Oil and Gas Programs adopted by the North
American Securities Administrators Association, Inc. Such provisions may
significantly reduce the flexibility of UNIT in managing such programs or may
affect the profitability of the program operations or the transactions between
the general partners and the program.

 

Transfer of Properties

 

The General Partner or its affiliates are authorized to transfer interests in
oil and gas properties to the Partnership, in which case the General Partner or
its affiliate will receive an amount equal to the Leasehold Acquisition Costs
attributable to the interests being acquired by the Partnership in the spacing
unit on which the Partnership Well is located or is to be drilled. The amount of
the Leasehold Acquisition Costs attributable to the fractional undivided
interest in a property transferred to the Partnership by the General Partner or
any affiliate shall not be reduced or offset by the amount of any gain or profit
the General Partner or its affiliate might have realized by any prior sale or
transfer of a fractional undivided interest in the property to an unaffiliated
third party for a price in excess of the portion of the Leasehold Acquisition
Costs of the property that is attributable to the transferred interest. The
Partnership will not be reimbursed for or refunded any Leasehold Acquisition
Costs if the size of a spacing unit on which a Partnership Well is located or
drilled is reduced even though the Partnership will have no interest in any
subsequent wells drilled on the area encompassed by the original spacing unit
unless they are commenced during 2005.

 

A sale, transfer or conveyance to the Partnership of less than all of the
ownership of the General Partner or its affiliates in any interest or property
is prohibited unless:

 

  (1) the interest retained by the General Partner or its affiliates is a
proportionate working interest;

 

  (2) the obligations of the Partnership with respect to the properties will be
substantially the same proportionately as those of the General Partner or its
affiliates at the time it acquired the properties; and

 

  (3) the Partnership’s interest in revenues will not be less than the
proportionate interest therein of the General Partner or its affiliates when it
acquired the properties.

 

With respect to the General Partner or its affiliates’ remaining interest, it
may retain such interest for its own account or it may sell, transfer, farm-out
or otherwise convey all or a portion of such remaining interest to
non-affiliated industry members, which may occur either before or after the
transfer of the interests in the same properties to the Partnership. The General
Partner or its affiliates may realize a profit on the interests or may be
carried to some extent with respect to its cost obligations in connection with
any drilling on such properties and any such profit or interests will be
strictly for the account of the General Partner or its affiliates and the
Partnership will have no claim with respect thereto. The General Partner or its
affiliates may not retain any overrides or other burdens on the property
conveyed to the Partnership (other than overriding royalty interests granted to
geologists and other persons employed or retained by the General Partner or its
affiliates) and may not enter into any farm-out arrangements with respect to its
retained interest except to non-affiliated third parties or other programs
managed by the General Partner or its affiliates.

 

Partnership Assets

 

The General Partner will not take any action with respect to assets or property
of the Partnership which does not benefit primarily the Partnership as a whole.
The General Partner will not utilize the funds of the

 

36

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

Partnership as compensating balances for the benefit of the General Partner or
its affiliates. All benefits from marketing arrangements or other relationships
affecting property of the Partnership will be fairly and equitably apportioned
according to the respective interests of the Partnership and the General
Partner.

 

The Partnership Agreement provides that when the Partnership is terminated,
there will be an accounting with respect to its assets, liabilities and
accounts. The Partnership’s physical property and its oil and gas properties may
be sold for cash. Except in the case of an election by the General Partner to
terminate the Partnership before the tenth anniversary of the Effective Date,
Partnership Properties may be sold to the General Partner or any of its
affiliates for their fair market value as determined in good faith by the
General Partner.

 

Transactions with the General Partner or Affiliates

 

UNIT provides through its subsidiary Unit Drilling Company contract drilling
services in the ordinary course of its business. UNIT also owns Superior
Pipeline Company, L.L.C. which is engaged in the business of buying and building
gas gathering systems. It is anticipated that the Partnership will obtain
services, equipment and supplies from one or all of such persons. In addition,
UNIT may supply other goods or services to the Partnership. The terms of any
contracts or agreements between the Partnership and UNIT or any affiliate will
be no less favorable to the Partnership than those of comparable contracts or
agreements entered into, and will be at prices not in excess of (or in the case
of purchases of production, less than) those charged in the same geographical
area, by non-affiliated persons or companies dealing at arm’s length.

 

For its services as a drilling contractor, Unit Drilling Company will charge the
Partnership on either a daywork (a specified per day rate for each day a
drilling rig is on the drill site), a footage (a specified rate per foot
drilled) or a turnkey (specified amount for drilling the well) basis. The rate
charged by Unit Drilling Company for such services will be the same as those
offered to unaffiliated third parties in the same or similar geographic areas.

 

Right of Presentment Price Determination

 

Under the terms of the Partnership Agreement, a Limited Partner can, subject to
certain conditions, require the General Partner to purchase his or her Units at
a price determined by the application of a stated formula to the estimated
future net revenues attributable to the Partnership’s estimated proved reserves.
See “TERMS OF THE OFFERING — Right of Presentment.” It is anticipated that if an
independent engineering firm makes an evaluation of the proved reserves of the
Partnership, the result of that evaluation will be used in determining the price
to be paid to a Limited Partner exercising his or her right of presentment.
However, if no such independent evaluation is made, the right of presentment
purchase price will be determined by using the proved reserves and future net
revenue estimates of the technical staff of the General Partner.

 

Receipt of Compensation Regardless of Profitability

 

The General Partner is entitled to receive its fees and other compensation and
reimbursements from the Partnership regardless of whether the Partnership
operates at a profit or loss. See “PARTICIPATION IN COSTS AND REVENUES” and
“COMPENSATION.” Such fees, compensation and reimbursements will decrease the
Limited Partners’ share of any profits generated by operations of the
Partnership or increase losses if such operations should prove unprofitable.

 

Legal Counsel

 

Conner & Winters, P.C. serves as special legal counsel for the General Partner.
Such firm has performed legal services for the General Partner and UNIT and is
expected to render legal services to the Partnership. Although such firm has
indicated its intention to withdraw from representation of the Partnership if
conflicts of interest do in fact arise, there can be no assurance that
representation of both the General Partner or UNIT and the Partnership by such
firm will not be disadvantageous to the Partnership.

 

37

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

FIDUCIARY RESPONSIBILITY

 

General

 

Under Oklahoma law, the General Partner will have a fiduciary duty to the
Limited Partners and consequently must exercise good faith, fairness and loyalty
in the handling of the Partnership’s affairs. The General Partner must provide
Limited Partners (or their representatives) with timely and full information
concerning matters affecting the business of the Partnership. Each Limited
Partner may inspect the Partnership’s books and records upon reasonable prior
notice. The nature of the fiduciary duties of general partners is an evolving
area of law and prospective investors who have questions concerning the duties
of the General Partner should consult with their counsel.

 

Regardless of the fiduciary obligations of the General Partner, the General
Partner, UNIT or its affiliates, subject to any restrictions or requirements set
forth in the Agreement, may:

 

  •   engage independently of the Partnership in all aspects of the oil and gas
business, either for their own accounts or for the accounts of others;

 

  •   sell interests in oil and gas properties held by them to, purchase oil and
gas production from, and engage in other transactions with, the Partnership;

 

  •   serve as general partner of other oil and gas drilling or income
partnerships, including those which may be in competition with the Partnership;
and

 

  •   engage in other activities that may involve conflicts of interest.

 

See “CONFLICTS OF INTEREST.” Thus, unlike the strict duty of a fiduciary who
must act solely in the best interests of his or her beneficiary, the Agreement
permits the General Partner to consider, among other things, the interests of
other partnerships sponsored by the General Partner, UNIT or its affiliates in
resolving investment and other conflicts of interest. The foregoing provisions
permit the General Partner to conduct its own operations and to act as the
general partner of more than one similar partnership or investment program and
for the Partnership to benefit from its experience resulting therefrom, but
relieves the General Partner of the strict fiduciary duty of a general partner
acting as such for only one investment program at a time. These provisions are
primarily intended to reconcile the applicable duties under Oklahoma law with
the fact that the General Partner will manage and administer its own oil and gas
operations and a number of other oil and gas investment programs with which
possible conflicts of interests may arise and resolve such conflicts in a manner
consistent with the expectation of the investors in all such programs, the
General Partner’s fiduciary duties and customary business practices and statutes
applicable thereto.

 

Liability and Indemnification

 

The Agreement provides that the General Partner will perform its duties in an
efficient and businesslike manner with due caution and in accordance with
established practices of the oil and gas industry. The Agreement further
provides that the General Partner and its affiliates will not be liable to the
Partnership or the Partners, and will be indemnified by the Partnership, for any
expense (including attorney fees), loss or damage incurred by reason of any act
or omission performed or omitted in good faith in a manner reasonably believed
by the General Partner or its affiliates to be within the scope of authority and
in the best interest of the Partnership or the Partners unless the General
Partner or its affiliates is guilty of gross negligence or willful misconduct.
While not totally certain under Oklahoma law, absent specific provisions in the
partnership agreement to the contrary, a general partner of a limited
partnership may be liable to its limited partners if it fails to conduct the
partnership affairs with the same amount of care which ordinarily prudent
persons would use in similar circumstances. Consequently, the Agreement may be
viewed as requiring a lesser standard of duty and care than what Oklahoma law
might otherwise require of the General Partner.

 

Any claim against the Partnership for indemnification must be satisfied only out
of Partnership assets including insurance proceeds, if any, and none of the
Limited Partners will have personal liability therefore.

 

38

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

The Limited Partners may have more limited rights of action than they would have
absent the liability and indemnification provisions above. Moreover,
indemnification enforced by the General Partner under such provisions will
reduce the assets of the Partnership. It should be noted, however, that it is
the position of the Securities and Exchange Commission (“Commission”) that any
attempt to limit the liability of a general partner or to indemnify a general
partner under the federal securities laws is contrary to public policy and,
therefore, unenforceable. The General Partner has been advised of the position
of the Commission.

 

Generally, the Limited Partners’ remedy for the General Partner’s breach of a
fiduciary duty will be to bring a legal action against the General Partner to
recover any damages, generally measured by the benefits earned by the General
Partner as a result of the fiduciary breach. Additionally, Limited Partners may
also be able to obtain other forms of relief, including injunctive relief. The
Act provides that a limited partner may bring an action in the name of a limited
partnership (a partnership derivative action) to recover a judgment in its favor
if general partners with authority to do so have refused to bring the action or
if an effort to cause such general partners to bring the action is not likely to
succeed.

 

PRIOR ACTIVITIES

 

UNIT has been engaged in oil and gas exploration and development operations
since late 1974 and has conducted oil and gas drilling programs using the
limited partnership format since 1979. The following table depicts the drilling
results achieved as of September 30, 2004 by UNIT during each year since 1975.
Because of the unpredictability of oil and gas exploration in general, such
results should not be considered indicative of the results that may be achieved
by the Partnership.

 

Year Ended July 31(1)

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

   Gross Wells(2)

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

     Net Wells(3)

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

   Total

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

     Oil

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

     Gas

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

     Dry

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

     Total

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

     Oil

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

     Gas

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

     Dry

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

1975 Exploratory

   2      0      2      0      .01      0      .01      0

Development

   4      0      2      2      .07      0      .03      .04     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

     6      0      4      2      .08      0      .04      .04     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

1976 Exploratory

   1      0      0      1      .01      0      0      .01

Development

   8      0      6      2      .29      0      .28      .01     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

     9      0      6      3      .30      0      .28      .02     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

1977 Exploratory

   9      0      3      6      1.50      0      .45      1.05

Development

   16      0      9      7      2.00      0      .70      1.30     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

     25      0      12      13      3.50      0      1.15      2.35     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

1978 Exploratory

   8      1      1      6      1.17      .34      .15      .68

Development

   26      0      13      13      2.64      0      .76      1.88     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

     34      1      14      19      3.81      .34      .91      2.56     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

1979 Exploratory

   10      0      5      5      1.40      0      .76      .64

Development

   16      1      8      7      1.99      .06      .95      .98     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

     26      1      13      12      3.39      .06      1.71      1.62     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

1980 Exploratory

   1      0      1      0      1.28      0      .23      1.05

Development

   10      0      8      2      3.13      0      .85      2.28     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

     11      0      9      2      4.41      0      1.08      3.33     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

1981 Exploratory

   14      1      4      9      1.12      .02      .16      .94

Development

   66      18      29      19      7.38      2.96      1.77      2.65     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   80      19      33      28      8.50      2.98      1.93      3.59

 

39

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

Year Ended July 31(1)

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

   Gross Wells(2)

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

     Net Wells(3)

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

   Total

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

     Oil

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

     Gas

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

     Dry

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

     Total

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

     Oil

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

     Gas

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

     Dry

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

1982 Exploratory

   40      5      9      26      3.39      .60      .32      2.47

Development

   100      22      51      27      11.70      4.70      2.71      4.29     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   140      27      60      53      15.09      5.30      3.03      6.76

1983 Exploratory

   6      2      0      4      1.31      .72      0      .59

Development

   72      18      26      28      8.01      3.45      1.17      3.39     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   78      20      26      32      9.32      4.17      1.17      3.98

1984 Exploratory

   2      1      1      0      .52      .49      .03      0

Development

   50      15      22      13      6.81      3.42      2.74      .65     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   52      16      23      13      7.33      3.91      2.77      .65

1985 Exploratory

   0      0      0      0      0      0      0      0

Development

   38      11      16      11      8.32      2.89      2.39      3.04     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   38      11      16      11      8.32      2.89      2.39      3.04

1986 Exploratory

   0      0      0      0      0      0      0      0

Development

   21      4      6      11      3.85      .81      1.01      2.03     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   21      4      6      11      3.85      .81      1.01      2.03

1987 Exploratory

   0      0      0      0      0      0      0      0

Development

   46      23      10      13      11.91      7.95      1.76      2.34     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   46      23      10      13      11.91      7.95      1.76      2.34

1988 Exploratory

   0      0      0      0      0      0      0      0

Development

   39      20      10      9      22.56      14.77      4.05      3.74     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   39      20      10      9      22.56      14.77      4.05      3.74

1989 Exploratory

   3      0      1      2      1.97      0      .47      1.50

Development

   40      12      15      13      18.83      8.81      4.13      5.89     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   43      12      16      15      20.80      8.81      4.60      7.39

1990 Exploratory

   5      0      2      3      1.22      0      .12      1.10

Development

   35      11      14      10      16.53      8.38      3.52      4.63     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   40      11      16      13      17.75      8.38      3.64      5.73

1991 Exploratory

   4      0      0      4      .82      0      0      .82

Development

   28      10      9      9      15.88      8.61      3.91      3.36     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   32      10      9      13      16.70      8.61      3.91      4.18

1992 Exploratory

   0      0      0      0      0      0      0      0

Development

   18      1      11      6      5.81      1.00      3.33      1.48     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   18      1      11      6      5.81      1.00      3.33      1.48

1993 Exploratory

   1      0      0      1      .10      0      0      .10

Development

   16      9      6      1      12.48      8.98      3.32      .18     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   17      9      6      2      12.58      8.98      3.32      .28

1994 Exploratory

   3      0      1      2      1.71      0      .95      .76

Development

   57      5      40      12      25.79      4.75      14.14      6.90     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   60      5      41      14      27.50      4.75      15.09      7.66

 

40

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

Year Ended July 31(1)

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

   Gross Wells(2)

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

     Net Wells(3)

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

   Total

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

     Oil

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

     Gas

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

     Dry

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

     Total

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

     Oil

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

     Gas

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

     Dry

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

1995 Exploratory

   0      0      0      0      0      0      0      0

Development

   45      15      24      6      14.94      4.67      8.04      2.23     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   45      15      24      6      14.94      4.67      8.04      2.23

1996 Exploratory

   0      0      0      0      0      0      0      0

Development

   70      10      51      9      32.09      7.61      20.09      4.39     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   70      10      51      9      32.09      7.61      20.09      4.39

1997 Exploratory

   2      0      0      2      2.00      0      0      2.00

Development

   80      8      58      14      35.94      4.35      23.29      8.30     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   82      8      58      16      37.94      4.35      23.29      10.30

1998 Exploratory

   2      0      1      1      .63      0      .375      .26

Development

   76      3      52      21      30.17      .31      18.750      11.11     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   78      3      53      22      30.80      .31      19.125      11.37

1999 Exploratory

   0      0      0      0      0      0      0      0

Development

   51      1      42      8      21.8      .4      17.4      4.0     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   51      1      42      8      21.8      .4      17.4      4.0

2000 Exploratory

   2      0      2      0      1.72      0      1.72      0

Development

   98      7      73      18      38.37      1.45      28.55      8.37     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   100      7      75      18      40.09      1.45      30.27      8.37

2001 Exploratory

   3      0      0      3      2.03      0      0      2.03

Development

   123      7      94      22      49.94      1.08      34.12      14.74     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   126      7      94      25      51.97      1.08      34.12      16.77

2002 Exploratory

   6      0      2      4      1.34      0      .90      .44

Development

   91      4      63      24      47.15      1.92      29.71      15.52     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   97      4      65      28      48.49      1.92      30.61      15.96

2003 Exploratory

   4      1      3      0      2.40      .20      2.20      0

Development

   145      5      119      21      59.17      2.13      44.31      12.73     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   149      6      122      21      61.57      2.33      46.51      12.73

Period of January 1, 2004 to September 30, 2004

                                                     

Exploratory

   6      0      4      2      3.28      0      1.9      1.38

Development

   110      15      79      16      44.76      5.90      30.62      8.24     

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

Total

   116      15      83      18      48.04      5.90      32.52      9.62

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

(1) Except as indicated, the figures used in this table relate to wells drilled
and completed during each of the 12 month periods ended July 31 or December 31,
as the case may be. Oil wells and gas wells shown include both producing wells
and wells capable of production.

(2) “Gross Wells” refers to the total number of wells in which there was
participation by UNIT.

(3) “Net Wells” refers to the aggregate leasehold working interest of UNIT in
such wells. For example, a 50% leasehold working interest in a well drilled
represents 1.0 Gross Well, but a .50 Net Well.

 

Prior Employee Programs

 

During the period of 1979 to 1983, persons who were designated key employees of
UNIT by its board of directors participated in the Unit Key Employee Exploration
Funds (the “Funds”). These Funds were formed as general partnerships for the
purpose of participating in 10% of all of the exploration and development
operations

 

41

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

conducted by UNIT during a specified period. Except for the Fund formed in 1983,
each of the prior Funds served as one of the general partners in at least one of
the prior drilling programs sponsored by UNIT and was allocated 10% of the
expenses and revenues allocable to the general partners as a group. In each of
these Funds the costs charged to it in connection with its operations were
financed with the proceeds of bank borrowings and out of the Funds’ share of
revenues.

 

The 1983 Fund served as the sole capital limited partner in the Unit 1983-A Oil
and Gas Program and as such made no contribution to the capital of that program
and shared in 10% of the costs and revenues otherwise allocable to the General
Partner after the distributions to the General Partner from the program equaled
the amount of its contributions thereto plus UNIT’s interest costs with respect
to the unrecovered amount of its contributions.

 

Because of the differences in structure, format and plan of operations between
the prior Funds and the Partnership and because of the uncertainties which are
inherent in oil and gas operations generally, the results achieved by the prior
Funds should not be considered indicative of the results the Partnership may
achieve.

 

For each year from 1984 through 2004, a separate Employee Program was formed as
an Oklahoma limited partnership with UNIT or UPC as its sole general partner
(UPC now serves as the sole general partner of each of these Employee Programs)
and with eligible employees and directors of UNIT and its subsidiaries who
subscribed for units therein as the limited partners. Each Employee Program
participated on a proportionate basis (to the extent of 10% of the General
Partner’s interest in each case except for the 1986 and 1987 Employee Programs,
in which case the percentage participation was 15% and the 1992 - 2001 Employee
Programs, in which case the percentage was 5% and the 2002 and 2003 Employee
Programs in which case the percentage was 2 1/2% and 2004 Employee Program in
which case the percentage was 1%) in all of UNIT’s oil and gas exploration and
development operations conducted during the calendar year for which the program
was formed beginning with its date of formation if it was formed after January
1. Although the terms and provisions of these Employee Programs are virtually
identical to those of the Partnership, because of the unpredictability of oil
and gas exploration and development in general, the results for the Employee
Programs shown below should not be considered indicative of the results that may
be achieved by the Partnership.

 

As noted above, the Funds and the Employee Programs have participated in a
specified percentage (ranging from 1% to 15%, depending on the program) of
virtually all of UNIT’s or the General Partner’s exploration and development
operations conducted since the latter half of 1979. Thus, the drilling results
of these partnerships would be proportionate to those drilling results of UNIT
for the periods beginning after the fiscal year ended July 31, 1979 shown above.

 

Results of the Prior Oil and Gas Programs

 

In each of the General Partner’s prior oil and gas programs other than the Unit
1983-A Oil and Gas Program and the Unit 1984 Oil and Gas Limited Partnership,
one of the prior Funds also served as a general partner. The 1983 Fund served as
the sole capital limited partner of the Unit 1983-A Oil and Gas Program and the
1984 Employee Program serves as a general partner of the Unit 1984 Oil and Gas
Limited Partnership. The Unit 1979 Oil and Gas Program was the first limited
partnership drilling program of which UNIT was a sponsor. The revenue sharing
terms of the 1979 Program was generally 70% to the limited partners and 30% to
the general partners until 150% program payout at which time the revenues were
to be shared 55% to the limited partners and 45% to the general partners. The
1979 Program was dissolved effective July 1, 2003. The revenue sharing terms of
the Unit 1980 Oil and Gas Program were generally 60% to the limited partners and
40% to the general partners. The revenue sharing terms of the Unit 1981 Oil and
Gas Program were generally 70% to the limited partners and 30% to the general
partners until program payout and 50% to the limited partners and 50% to the
general partners thereafter. The revenue sharing terms of the Unit 1981-II Oil
and Gas Program, the Unit 1982-A Oil and Gas Program and the Unit 1982-B Oil and
Gas Program (60% to the limited partners and 40% to the general partners) were
substantially the same as those of the Unit 1983-A Oil and Gas Program and the
Unit 1984 Oil and Gas Limited Partnership (65% to the limited partners and 35%
to the general partner) except that the general partners’ cost percentage and
the general partners’ revenue share in each of those prior programs could not be
less than 25%. The following tables depict the drilling results at September 30,
2003, and the economic results at September 30, 2003 of prior oil and gas
programs and the 1984 - 2003 Employee Programs. On September 12,

 

42

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

1986, in connection with a major restructuring and recapitalization, UNIT
acquired all of the assets and liabilities of the programs formed during 1980
through 1983 and these programs have now been dissolved. Effective December 31,
1993, pursuant to an Agreement and Plan of Merger, dated as of December 28,
1993, all of the assets and all of the liabilities of the 1984, 1985, 1986,
1987, 1988, 1989 and 1990 Employee Programs were merged with and consolidated
into a new Employee Program called the Unit Consolidated Employee Oil and Gas
Limited Partnership, an Oklahoma Limited Partnership which was formed November
30, 1993 (the “Consolidated Program”). Effective December 31, 2002, pursuant to
an Agreement and Plan of Merger, dated December 27, 2002, all of the assets and
all of the liabilities of the 1991, 1992, 1993, 1994, 1995, 1996, 1997, 1998,
and 1999 Employee Programs were merged with and consolidated into to the
Consolidated Program. The Consolidated Program holds no assets other than those
acquired in the mergers with the 1984 through 1999 Employee Programs. All of the
Employee Programs formed since 2000 continue in existence. Certain of these
programs have not completed all of their drilling and development operations.
Moreover, because of the unpredictability of oil and gas exploration and
development in general, the results shown below should not be considered
indicative of the results that may be achieved by the Partnership.

 

DRILLING RESULTS

 

As of September 30, 2004

 

     Gross Wells

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

     Net Wells

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

Programs

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

   Total

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

     Oil

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

     Gas

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

     Dry

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

     Total

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

     Oil

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

     Gas

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

     Dry

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

1979(1)

  Exploratory Wells    6      0      2      4      2.43      0.00      0.65     
1.78     Development Wells    21      16      1      4      17.28      14.14
     0.03      3.11         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    27      16      3      8      19.71      14.14      0.68      4.89

1980(2)

  Exploratory Wells    15      2      5      8      5.65      0.50      2.14
     3.01     Development Wells    32      5      15      12      12.77     
1.17      5.75      5.85         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    47      7      20      20      18.42      1.67      7.89      8.86

1981(2)

  Exploratory Wells    11      1      4      6      4.61      0.33      0.88
     3.40     Development Wells    67      14      34      19      21.77     
5.03      6.61      10.13         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    78      15      38      25      26.38      5.36      7.49     
13.53

1981-II(2)

  Exploratory Wells    13      1      5      7      5.21      0.25      1.12
     3.84     Development Wells    45      3      29      13      9.07      0.69
     4.78      3.60         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    58      4      34      20      14.28      0.94      5.90      7.44

1982-A(2)

  Exploratory Wells    11      3      1      7      3.55      0.78      0.00
     2.77     Development Wells    69      23      22      24      25.22     
13.09      3.59      8.54         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    80      26      23      31      28.77      13.87      3.59     
11.31

1982-B(2)

  Exploratory Wells    4      1      1      2      2.28      0.80      0.08     
1.40     Development Wells    41      16      9      16      18.60      9.47
     1.01      8.12         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    45      17      10      18      20.88      10.27      1.09     
9.52

1983-A(2)

  Exploratory Wells    1      1      0      0      1.00      1.00      0.00     
0.00     Development Wells    26      14      10      2      6.60      4.39     
1.27      0.94         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    27      15      10      2      7.60      5.39      1.27      0.94

1984

  Exploratory Wells    0      0      0      0      0.00      0.00      0.00     
0.00     Development Wells    21      1      10      10      5.89      .38     
3.08      2.43         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    21      1      10      10      5.89      .38      3.08      2.43

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

(1) Effective July 1, 2003 this program was dissolved.

(2) On September 12, 1986, Unit acquired all of the assets and liabilities of
this Program and the Program has been dissolved.

 

 

43

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

EMPLOYEE PROGRAMS

 

As of September 30, 2004

 

     Gross Wells

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

     Net Wells

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

Programs

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

   Total

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

     Oil

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

     Gas

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

     Dry

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

     Total

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

     Oil

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

     Gas

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

     Dry

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

1984(1)   Exploratory Wells    0      0      0      0      0.00      0.00     
0.00      0.00 Empl.   Development Wells    25      4      12      9      .14
     .02      .06      .06         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    25      4      12      9      .14      .02      .06      .06
1985(1)   Exploratory Wells    0      0      0      0      0.00      0.00     
0.00      0.00 Empl.   Development Wells    30      8      10      12      .38
     .12      .08      .18         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    30      8      10      12      .38      .12      .08      .18
1986(1)   Exploratory Wells    0      0      0      0      0.00      0.00     
0.00      0.00 Empl.   Development Wells    18      6      8      4      .48
     .12      .30      .06         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    18      6      8      4      .48      .12      .30      .06 1987(1)
  Exploratory Wells    0      0      0      0      0.00      0.00      0.00     
0.00 Empl.   Development Wells    21      12      5      4      1.17      .74
     .25      .18         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    21      12      5      4      1.17      .74      .25      .18
1988(1)   Exploratory Wells    0      0      0      0      0      0      0     
0 Empl.   Development Wells    29      15      9      5      1.55      1.03     
.28      .24         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    29      15      9      5      1.55      1.03      .28      .24
1989(1)   Exploratory Wells                                                    
  Empl.   Development Wells    32      7      14      11      1.48      .59     
.36      .53         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    32      7      14      11      1.48      .59      .36      .53
1990(1)   Exploratory Wells    5      0      2      3      .122      0      .01
     .11 Empl.   Development Wells    34      11      14      9      1.65     
.83      .35      .46         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    39      11      16      12      1.78      .83      .36      .57
1991(2)   Exploratory Wells    4      0      0      4      .08      0      0
     .08 Empl.   Development Wells    28      10      9      9      1.59     
.86      .39      .34         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    32      10      9      13      1.67      .86      .39      .42
1992(2)   Exploratory Wells    0      0      0      0      0      0      0     
0 Empl.   Development Wells    18      1      11      6      .29      .05     
.17      .07         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    18      1      11      6      .29      .05      .17      .07
1993(2)   Exploratory Wells    0      0      0      0      0      0      0     
0 Empl.   Development Wells    16      9      6      1      .63      .45     
.17      .01         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    16      9      6      1      .63      .45      .17      .01 1994(2)
  Exploratory Wells    3      0      1      2      .09      0      .05      .04
Empl.   Development Wells    57      5      40      12      1.29      .24     
.70      .35         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    60      5      41      14      1.38      .24      .75      .39
1995(2)   Exploratory Wells    0      0      0      0      0      0      0     
0 Empl.   Development Wells    45      15      24      6      .74      .23     
.40      .11         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    45      15      24      6      .74      .23      .40      .11
1996(2)   Exploratory Wells    0      0      0      0      0      0      0     
0 Empl.   Development Wells    53      7      38      8      1.24      .27     
.76      .21         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    53      7      38      8      1.24      .27      .76      .21

 

44

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

     Gross Wells

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

     Net Wells

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

Programs

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

   Total

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

     Oil

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

     Gas

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

     Dry

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

     Total

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

     Oil

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

     Gas

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

     Dry

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

1997(2)   Exploratory Wells    2      0      0      2      .10      0      0
     .10 Empl.   Development Wells    80      8      58      14      1.80     
.22      1.16      .42         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    82      8      58      16      1.90      .22      1.16      .52
1998(2)   Exploratory Wells    2      0      1      1      .03      0      .02
     .01 Empl.   Development Wells    76      3      52      21      1.51     
.02      .94      .56         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    78      3      53      22      1.54      .02      .96      .57
1999(2)   Exploratory Wells    0      0      0      0      0      0      0     
0 Empl.   Development Wells    51      1      42      8      1.09      .02     
.87      .20         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    51      1      42      8      1.09      .02      .87      .20 2000
  Exploratory Wells    2      0      2      0      .09      0      .09      0
Empl.   Development Wells    98      7      73      18      1.92      .07     
1.43      .42         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    100      7      75      18      2.01      .07      1.52      .42
2001   Exploratory Wells    3      0      0      3      .05      0      0     
.05 Empl.   Development Wells    123      7      94      22      1.25      .03
     .85      .37         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    126      7      94      25      1.30      .03      .85      .42
2002   Exploratory Wells    6      0      2      4      .03      0      .02     
.01 Empl.   Development Wells    91      4      63      24      1.18      .05
     .74      .39         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    97      4      65      28      1.21      .05      .76      .40 2003
  Exploratory Wells    4      1      3      0      .03      .01      .02      0
Empl.   Development Wells    145      5      119      21      .59      .02     
.44      .13         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    149      6      122      21      .62      .03      .46      .13

Period of January 1, 2004

                                                     

To September 30, 2004

                                                     

2004

  Exploratory Wells    6      0      4      2      .03      0      .02      .01

Empl.

  Development Wells    110      15      79      16      .45      .06      .31
     .08         

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

    

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

    

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

    

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

    

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

    

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

    

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

    

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

    Total    116      15      83      18      .48      .06      .33      .09

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

(1) Effective December 31, 1993 this Program was merged with and into the
Consolidated Program.

(2) Effective December 31, 2002 this Program was merged with and into the
Consolidated Program.

 

45

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

GENERAL PARTNERS’ PAYOUT TABLE(1)

 

As of September 30, 2004

 

Program

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

   Total
Expenditures
Including
Operating
Costs(2)

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

   Total
Revenues
Before
Deducting
Operating
Costs

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

  

Total Revenues
Before Deducting
Operating Costs
for 3 Months Ended

September 30, 2004

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

1979(***)

   $ 8,781,728    $ 10,846,983    —  

1980

     4,043,599      4,044,424    —  

1981

     8,325,594      6,338,173    —  

1981-II

     6,642,875      3,995,616    —  

1982-A

     9,190,842      6,782,893    —  

1982-B

     4,213,710      3,126,326    —  

1983-A

     2,277,514      1,312,531    —  

1984

     2,643,375      2,407,301    38,597

1984 Employee(*)

     1,542      1,745    —  

1985 Employee(*)

     2,820      1,808    —  

1986 Energy Income Fund(**)

     1,937,279      1,933,107    19,219

1986 Employee(*)

     4,403      6,813    —  

1987 Employee(*)

     624,354      815,358    —  

1988 Employee(*)

     1,196,564      1,588,132    —  

1989 Employee(*)

     1,424,525      1,171,961    —  

1990 Employee(*)

     653,563      525,572    —  

1991 Employee(****)

     2,352,323      3,046,177    —  

1992 Employee(****)

     241,577      400,556    —  

1993 Employee(****)

     496,051      717,460    —  

1994 Employee(****)

     1,435,412      1,841,119    —  

1995 Employee(****)

     476,082      599,485    —  

1996 Employee(****)

     901,692      869,473    —  

1997 Employee(****)

     1,296,424      1,165,747    —  

1998 Employee(****)

     1,180,292      1,083,527    —  

1999 Employee(****)

     953,718      1,314,469    —  

Consolidated Program

     11,715      31,411    2,267

2000 Employee

     1,998,919      2,381,577    84,751

2001 Employee

     973,190      708,189    48,657

2002 Employee

     1,010,082      724,120    67,250

2003 Employee

     2,723,826      1,028,607    207,511

2004 Employee

     269,447      37,368    29,051

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

(*) Effective December 31, 1993, this program was merged with and into the
Consolidated Program.

(**) Formed primarily for purposes of acquiring producing oil and gas
properties.

(***) Effective July 1, 2003 this program was dissolved.

(****) Effective December 31, 2002 this Program was merged with and into the
Consolidated Program.

 

46

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

LIMITED PARTNERS’ PAYOUT TABLE(1)

 

As of September 30, 2004

 

Program

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

   Total
Expenditures
Including
Operating
Costs(2)

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

   Total
Revenues
Before
Deducting
Operating
Costs

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

   Total Revenues
Before Deducting
Operating Costs
for 3 Months Ended
September 30, 2004

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

1979(***)

   $ 14,729,990    $ 18,839,040    —  

1980

     17,688,367      6,949,008    —  

1981

     37,073,946      15,768,826    —  

1981-II

     18,638,600      7,028,946    —  

1982-A

     24,866,078      12,708,949    —  

1982-B

     12,069,566      5,367,312    —  

1983-A

     3,770,856      1,922,177    —  

1984

     3,178,371      2,501,903    38,597

1984 Employee(*)

     120,942      171,540    —  

1985 Employee(*)

     277,901      178,984    —  

1986 Energy Income Fund(**)

     2,876,397      4,019,413    28,828

1986 Employee(*)

     435,858      676,972    —  

1987 Employee(*)

     341,846      469,830    —  

1988 Employee(*)

     333,898      446,044    —  

1989 Employee(*)

     179,593      175,331    —  

1990 Employee(*)

     300,852      188,848    —  

1991 Employee(****)

     620,136      811,871    —  

1992 Employee(****)

     622,697      1,033,805    —  

1993 Employee(****)

     451,551      664,349    —  

1994 Employee(****)

     582,274      754,012    —  

1995 Employee(****)

     762,211      941,188    —  

1996 Employee(****)

     549,125      534,519    —  

1997 Employee(****)

     605,116      524,732    —  

1998 Employee(****)

     613,890      551,342    —  

1999 Employee(****)

     289,622      392,633    —  

Consolidated Program

     1,071,954      3,106,696    224,243

2000 Employee

     279,893      324,880    11,557

2001 Employee

     436,681      318,172    21,860

2002 Employee

     519,497      373,032    34,644

2003 Employee

     621,830      210,394    42,503

2004 Employee

     211,708      29,360    22,826

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

(*) Effective December 31, 1993, this program was merged with and into the
Consolidated Program.

(**) Formed primarily for purposes of acquiring producing oil and gas
properties.

(***) Effective July 1, 2003, this program was dissolved.

(****) Effective December 31, 2002 this Program was merged with and into the
Consolidated Program.

 

47

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

GENERAL PARTNERS’ NET CASH TABLE (1)

 

As of September 30, 2004

 

Program

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

   Total
Expenditures
Less
Operating
Costs(2)

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

   Total
Revenues
Less
Operating
Costs

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

  

Total
Revenues
Less
Operating
Costs for

3 Months
Ended
Sept. 30,
2004

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

    Total
Revenues
Distributed

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

  

Total
Revenues
Distributed
for 3 Months
Ended

Sept. 30,
2004

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

1979(***)

   $ 2,805,917    $ 4,871,172    $ —       $ 3,961,014    $ —  

1980

     2,628,978      2,629,803      —         2,635,751      —  

1981

     6,546,160      4,558,739      —         5,368,272      —  

1981-II

     4,817,145      2,169,886      —         2,609,000      —  

1982-A

     6,297,972      3,890,023      —         3,755,000      —  

1982-B

     2,565,504      1,478,120      —         1,158,000      —  

1983-A

     1,380,331      415,348      —         819,000      —  

1984

     947,599      711,525      9,989       1,036,584      9,000

1984 Employee(*)

     874      1,077      —         1,000      —  

1985 Employee(*)

     2,300      1,288      —         1,035      —  

1986 Energy Income Fund(**)

     172,719      168,547      (3,233 )     473,865      1,000

1986 Employee(*)

     2,698      5,108              4,486      —  

1987 Employee(*)

     357,368      548,372      —         465,800      —  

1988 Employee(*)

     770,272      1,161,840      —         942,800      —  

1989 Employee(*)

     1,010,133      752,569      —         607,900      —  

1990 Employee(*)

     466,272      338,281      —         266,600      —  

1991 Employee(****)

     1,056,956      1,750,810      —         1,618,020      —  

1992 Employee(****)

     99,250      258,229      —         230,839      —  

1993 Employee(****)

     311,650      533,059      —         472,480      —  

1994 Employee(****)

     856,390      1,262,097      —         1,076,708      —  

1995 Employee(****)

     330,617      454,020      —         350,504      —  

1996 Employee(****)

     681,656      649,437      —         450,383      —  

1997 Employee(****)

     1,057,002      926,325      —         695,477      —  

1998 Employee(****)

     920,862      824,096      —         638,218      —  

1999 Employee(****)

     706,281      1,067,032      —         796,578      —  

Consolidated Program

     23,823      20,322      1,546       18,997      1,500

2000 Employee

     1,545,693      1,928,351      69,224       1,245,669      70,000

2001 Employee

     861,561      596,561      40,775       389,000      43,000

2002 Employee

     903,599      617,636      56,805       310,500      50,000

2003 Employee

     2,549,030      853,812      168,596       265,000      185,000

2004 Employee

     266,006      33,926      26,202       —        —  

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

(*) Effective December 31, 1993, this program was merged with and into the
Consolidated Program.

(**) Formed primarily for purposes of acquiring producing oil and gas
properties.

(***) Effective July 1, 2003, this program was dissolved.

(****) Effective December 31, 2002 this Program was merged with and into the
Consolidated Program.

 

48

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

LIMITED PARTNERS’ NET CASH TABLE(1)

 

As of September 30, 2004

 

Program

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

   Capital
Contributed

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

    Total
Expenditures
Less
Operating
Costs(2)

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

  

Total
Revenues

Less
Operating
Costs

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

  

Total
Revenues
Less
Operating
Costs for

3 Months
Ended
Sept. 30,
2004

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

    Total
Revenues
Distributed

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

   Total Revenues
Distributed
for 3 Months
Ended Sept. 30,
2004

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

 

1979(***)

   $ 3,000,000     $ 6,085,402    $ 10,194,451    $ —       $ 6,198,801    $ —  
 

1980

     12,000,000 (3)     14,469,265      3,729,906      —         760,000     
—    

1981

     29,255,000 (4)     32,700,741      11,395,621      —         5,335,065     
—    

1981-II

     15,000,000       16,603,760      4,994,106      —         1,710,001     
—    

1982-A

     21,140,000       21,591,442      9,434,313      —         6,342,000     
—    

1982-B

     10,555,000       9,935,850      3,233,596      —         2,828,740      —  
 

1983-A

     2,530,000       2,993,705      1,145,026      —         227,700      —    

1984

     1,875,000       2,036,778      1,360,309      31,241       1,035,761     
22,680 (5)

1984 Employee(*)

     174,000       86,664      137,262      —         125,280      —    

1985 Employee(*)

     283,500       227,670      128,753      —         182,644      —    

1986 Energy Income Fund(**)

     1,000,000       981,578      2,124,594      (4,852 )     2,020,000     
9,900 (6)

1986 Employee(*)

     229,750       267,008      508,122      —         460,007      —    

1987 Employee(*)

     209,000       207,060      335,044      —         324,845      —    

1988 Employee(*)

     177,000       214,712      326,858      —         281,630      —    

1989 Employee(*)

     157,000       157,306      153,044      —         147,737      —    

1990 Employee(*)

     253,000       254,483      142,479      —         180,895      —    

1991 Employee(****)

     263,000       275,590      467,325      —         438,947      —    

1992 Employee(****)

     240,000       256,030      667,138      —         626,888      —    

1993 Employee(****)

     245,000       281,201      493,998      —         459,375      —    

1994 Employee(****)

     284,000       345,243      516,980      —         433,668      —    

1995 Employee(****)

     454,000       493,337      672,314      —         572,524      —    

1996 Employee(****)

     437,000       419,615      405,010      —         382,812      —    

1997 Employee(****)

     413,000       495,786      415,402      —         348,159      —    

1998 Employee(****)

     471,000       486,317      423,769      —         398,937      —    

1999 Employee(****)

     141,000       214,376      317,387      —         288,204      —    

Consolidated

     —         2,184,200      2,010,889      150,923       1,969,997     
156,675 (7)

2000 Employee

     199,000       215,129      260,117      9,447       237,055      9,353 (8)

2001 Employee

     370,000       387,078      268,570      18,320       210,530      17,760
(9)

2002 Employee

     457,000       465,490      319,025      29,266       250,893      25,135
(10)

2003 Employee

     284,000       586,455      175,019      34,548       101,104      30,956
(11)

2004 Employee

     434,000       209,004      26,656      20,588       —        —    

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

(*) Effective December 31, 1993, this program was merged with and into the
Consolidated Program.

(**) Formed primarily for purposes of acquiring producing oil and gas
properties.

(***) Effective July 1, 2003, this program was dissolved.

(****) Effective December 31, 2002 this Program was merged with and into the
Consolidated Program.

 

49

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

(1) Amounts reflect the accrual method of accounting.

(2) Does not include expenditures of $237,600, $920,453, $2,252,900, $1,480,248,
$2,079,268, $985,371 and $241,076 which were obtained from bank borrowings and
used to pay the limited partners’ share of sales commissions of $237,600,
$722,453, $1,940,400, $1,183,248, $1,656,468, $827,046 and $190,476 and
organization costs of $—0—, $198,000, $312,500, $297,000, $422,800, $158,325 and
$50,600 for the 1979, 1980, 1981, 1981-II, 1982-A, 1982-B and 1983-A Programs,
respectively.

(3) Includes original subscriptions of limited partners totaling $10,000,000 and
additional assessments totaling $2,000,000.

(4) Includes original subscriptions of limited partners totaling $25,000,000 and
additional assessments totaling $4,255,000.

(5) In November 2004 the 1984 Program made a distribution of $31,185 to that
program’s limited partners.

(6) In November 2004 the 1986 Program made a distribution of $11,700 to that
program’s limited partners.

(7) In November 2004 the Consolidated Employee Program made a distribution of
$152,224 to that program’s limited partners.

(8) In November 2004 the 2000 Employee Program made a distribution of $8,358 to
that program’s limited partners.

(9) In November 2004 the 2001 Employee Program made a distribution of $17,390 to
that program’s limited partners.

(10) In November 2004 the 2002 Employee Program made a distribution of $26,963
to that program’s limited partners.

(11) In November 2004 the 2003 Employee Program made a distribution of $37,772
to that program’s limited partners.

 

FEDERAL INCOME TAX CONSIDERATIONS

 

The following is a summary of the opinions of Conner & Winters on all material
federal income tax consequences to the Partnership and to the Limited Partners.
The full tax opinion of Conner & Winters is attached to this Memorandum as
Exhibit B. All prospective investors should review Exhibit B in its entirety
before investing in the Partnership. There may be aspects of a particular
investor’s tax situation which are not addressed in the following discussion or
in Exhibit B. Additionally, the resolution of certain tax issues depends upon
future facts and circumstances not known to Conner & Winters as of the date of
this Memorandum; thus, no assurance as to the final resolution of such issues
should be drawn from the following discussion.

 

The following statements are based upon the provisions of the Code, existing and
proposed regulations promulgated under the Code (“Regulations”), current
administrative rulings, and court decisions. It is possible that legislative or
administrative changes or future court decisions may significantly modify the
statements and opinions expressed herein. Such changes could be retroactive with
respect to transactions occurring prior to the date of such changes.

 

Moreover, uncertainty exists concerning some of the federal income tax aspects
of the transactions being undertaken by the Partnership. Some of the tax
positions being taken by the Partnership may be challenged by the Service. Thus,
there can be no assurance that all of the anticipated tax benefits of an
investment in the Partnership will be realized.

 

Conner & Winters’ opinion is based upon the transactions described in this
Memorandum (the “Transaction”) and upon facts as they have been represented to
Conner & Winters or determined by it as of the date of the opinion. Any
alteration of the facts could render the conclusions in the opinion
inapplicable.

 

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Because of the factual nature of the inquiry, and in certain cases the lack of
clear authority in the law, it is not possible to reach a judgment as to the
outcome on the merits (either favorable or unfavorable) of certain material
federal income tax issues as described more fully herein.

 

Summary of Conclusions

 

Opinions expressed: The following is a summary of the specific federal income
tax opinions rendered by Conner & Winters in Exhibit B.

 

1. The material federal income tax benefits in the aggregate from an investment
in the Partnership will be realized.

 

2. The Partnership will be treated as a partnership for federal income tax
purposes and not as a corporation, an association taxable as a corporation or a
“publicly traded partnership”. See “Partnership Status”; “Federal Taxation of
Partnerships.”

 

3. To the extent the Partnership’s wells are timely drilled and its drilling
costs are timely paid, the Partners will be entitled to their pro rata shares of
the Partnership’s intangible drilling and development costs (“IDC”) paid in
2005. See “Intangible Drilling and Development Costs Deductions.”

 

4. Most Limited Partners’ Units will be considered as ownership interests in a
passive activity within the meaning of Code Section 469 and losses generated
therefrom will be limited by the passive activity provisions of the Code. See
“Passive Loss and Credit Limitations.”

 

5. To the extent provided herein, the Partners’ distributive shares of
Partnership tax items will be determined and allocated substantially in
accordance with the terms of the Partnership Agreement. See “Partnership
Allocations.”

 

6. The Partnership will not be required to register with the Service as a tax
shelter. See “Registration as a Tax Shelter.”

 

No opinion expressed: Due to the lack of authority regarding, or the essentially
factual nature of, the issue, Conner & Winters expresses no opinion as to:

 

1. The impact of an investment in the Partnership on an investor’s alternative
minimum tax liability, due to the factual nature of the issue (See “Alternative
Minimum Tax”);

 

2. Whether each Partner will be entitled to percentage depletion since such a
determination is dependent upon the status of the Partner as an independent
producer and on the Partner’s other oil and gas production; due to the
inherently factual nature of such a determination, Conner & Winters is unable to
render an opinion as to the availability of percentage depletion (See “Depletion
Deductions”);

 

3. Whether the Partnership will be treated as the tax owner of Partnership
Properties acquired by the General Partner as nominee for the Partnership.

 

Facts and Representations: In rendering its opinion, Conner & Winters relied
upon certain representations made to it by the General Partner, including the
following:

 

1. The Partnership Agreement to be entered into by and among the General Partner
and Limited Partners and any amendments thereto will be duly executed and will
be made available to any Limited Partner upon written request. The Partnership
Agreement will be duly recorded in all places required under the Oklahoma
Revised Uniform Limited Partnership Act (the “Act”) for the due formation of the
Partnership and for the continuation thereof in accordance with the terms of the
Partnership Agreement. The Partnership will at all times be operated in
accordance with the terms of the Partnership Agreement, the Memorandum, and the
Act.

 

2. No election will be made by the Partnership, Limited Partners, or General
Partner to be excluded from the application of the provisions of Subchapter K of
the Code.

 

3. The Partnership will own operating mineral interests, as defined in the Code
and in the Regulations, and none of the Partnership’s revenues will be from
non-working interests.

 

4. The General Partner will cause the Partnership to properly elect to deduct
currently all IDC.

 

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5. The Partnership will have a December 31 taxable year and will report its
income on the accrual basis.

 

6. All Partnership wells will be spudded by not later than December 31, 2005.
The entire amount to be paid under any drilling and operating agreements entered
into by the Partnership will be attributable to IDC.

 

7. Such drilling and operating agreements will be duly executed and will govern
the operation of the Partnership’s wells.

 

8. Based upon the General Partner’s review of its experience with its previous
oil and gas partnerships for the past several years and upon the intended
operations of the Partnership, the General Partner believes that the sum of (i)
the aggregate deductions, including depletion deductions, and (ii) 350 percent
of the aggregate tax credits from the Partnership will not, as of the close of
any of the first five years ending after the date on which Units are offered for
sale, exceed two times the aggregate cash invested by the Partners in the
Partnership as of such dates. In that regard, the General Partner has reviewed
the economics of its similar oil and gas partnerships for the past several
years, and has represented that it has determined that none of those
partnerships has resulted in a “tax shelter ratio”, as such term is defined in
the Code and Regulations, greater than two to one. Further, the General Partner
has represented that the deductions that are or will be represented as
potentially allowable to an investor will not result in the Partnership having a
tax shelter ratio, as such term is defined in the Code and Regulations, greater
than two to one.

 

9. The General Partner believes that at least 90% of the gross income of the
Partnership will constitute income derived from the exploration, development,
production, and/or marketing of oil and gas. The General Partner does not
believe that any market will ever exist for the sale of Units and the General
Partner will not make a market for the Units. Further, the Units will not be
traded on an established securities market.

 

10. The Partnership and each Partner will have the objective of carrying on the
business of the Partnership for profit and dividing the gain therefrom.

 

11. The General Partner will, as nominee for the Partnership, acquire and hold
title to Partnership Properties on behalf of the Partnership; the General
Partner will enter into an agency agreement before the General Partner acquires
any such oil and gas properties on behalf of the Partnership; the agency
agreement will reflect that the General Partner’s acquisition of Partnership
properties is on behalf of the Partnership; and the General Partner will execute
assignments of all oil and gas interests acquired by it on behalf of the
Partnership to the Partnership.

 

The opinions of Conner & Winters are also subject to all the assumptions,
qualifications, and limitations set forth in the following discussion and in the
opinion, including the assumptions that each of the Partners has full power,
authority, and legal right to enter into and perform the terms of the
Partnership Agreement and to take any and all actions thereunder in connection
with the transactions contemplated thereby.

 

Each prospective investor should be aware that, unlike a ruling from the
Service, an opinion of Conner & Winters represents only Conner & Winters’ best
judgment. THERE CAN BE NO ASSURANCE THAT THE SERVICE WILL NOT SUCCESSFULLY
ASSERT POSITIONS WHICH ARE INCONSISTENT WITH THE OPINIONS OF CONNER & WINTERS
SET FORTH IN THIS DISCUSSION AND EXHIBIT B OR IN THE TAX REPORTING POSITIONS
TAKEN BY THE PARTNERS OR THE PARTNERSHIP. EACH PROSPECTIVE INVESTOR SHOULD
CONSULT HIS OR HER OWN TAX ADVISOR TO DETERMINE THE EFFECT OF THE TAX ISSUES
DISCUSSED HEREIN AND IN EXHIBIT B ON HIS OR HER INDIVIDUAL TAX SITUATION.

 

General Tax Effects of Partnership Structure

 

The Partnership will be formed as a limited partnership pursuant to the
Partnership Agreement and the laws of the State of Oklahoma. No tax ruling will
be sought from the Service as to the status of the Partnership as a partnership
for federal income tax purposes. The applicability of the federal income tax
consequences described herein depends on the treatment of the Partnership as a
partnership for federal income tax purposes and not as a corporation and not as
an association taxable as a corporation. Any tax benefits anticipated from an
investment in the Partnership would be adversely affected or eliminated if the
Partnership were treated as a corporation for federal income tax purposes.

 

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Conner & Winters is of the opinion that, at the time of its formation, the
Partnership will be treated as a partnership for federal income tax purposes.
The opinion is based on the provisions of the Partnership Agreement, applicable
state and federal law and representations made by the General Partner

 

Under the Code, a partnership is not a taxable entity and, accordingly, incurs
no federal income tax liability. Rather, a partnership is a “pass-through”
entity which is required to file an information income tax return with the
Service. In general, the character of a partner’s share of each item of income,
gain, loss, deduction, and credit is determined at the partnership level. Each
partner is allocated a distributive share of such items in accordance with the
partnership agreement and is required to take such items into account in
determining the partner’s income. Each partner includes such amounts in
determining his or her income for any taxable year of the partnership ending
within or with the taxable year of the partner, without regard to whether the
partner has received or will receive any cash distributions from the
partnership.

 

Ownership of Partnership Properties

 

The General Partner has indicated that it, as nominee for the Partnership (the
“Nominee”), will acquire and hold title to Partnership Properties on behalf of
the Partnership. The Nominee and the Partnership will enter into an agency
agreement before the Nominee acquires any oil and gas properties on behalf of
the Partnership. That agency agreement will reflect that the Nominee’s
acquisition of Partnership Properties is on behalf of the Partnership. The
Nominee will execute assignments of all oil and gas interest acquired by the
Nominee on behalf of the Partnership to the Partnership. For various cost and
procedural reasons, the assignments will not be recorded in the real estate
records in the counties in which the Partnership Properties are located. That
is, while the Partnership will be the owner of the Partnership Properties, there
will be no public record of that ownership. It is possible that the Service
could assert that the Nominee should be treated for federal income tax purposes
as the owner of the Partnership Properties, notwithstanding the assignment of
those Partnership Properties to the Partnership. If the Service were to argue
successfully that the Nominee should be treated as the tax owner of the
Partnership Properties, there would be significant adverse federal income tax
consequences to the Limited Partners, such as the unavailability of depletion
deductions in respect of income from Partnership Properties. The Service is
concerned that taxpayers not be able to shift the tax consequences of
transactions between parties based on the parties’ declaration that one party is
the agent of another; the Service generally requires that taxpayers respect the
form of their transactions and ownership of property. Based on this concern, the
Service may challenge the Partnership’s treatment of Partnership Properties, and
tax attributes thereof, which are held of record by the Nominee.

 

In Commissioner of Internal Revenue v. Bollinger, 485 U.S. 340 (1988), the
United States Supreme Court reviewed a principal-agent relationship and held for
the taxpayer in concluding that the principal should be treated as the tax owner
of property held in the name of the agent. In that case the Supreme Court noted
that “It seems to us that the genuineness of the agency relationship is
adequately assured, and tax-avoiding manipulation adequately avoided, when the
fact that the corporation is acting as agent for its shareholders with respect
to a particular asset is set forth in a written agreement at the time the asset
is acquired, the corporation functions as agent and not principal with respect
to the asset for all purposes, and the corporation is held out as the agent and
not principal in all dealings with third parties relating to the asset.” While
the Partnership and the Nominee will have in place an agreement defining their
relationship before any Partnership Properties are acquired by the Nominee and
the Nominee will function as agent with respect to those Partnership Properties
on behalf of the Partnership, the Nominee will not hold itself out to all third
parties as the agent of the Partnership in dealings relating to the Partnership
Properties. Unlike the relationship between the principal and the agent in
Bollinger, the Nominee will, however, assign title to Partnership Properties to
the Partnership, but will not record those assignments. Accordingly, the facts
related to the relationship between the Nominee and the Partnership are not the
same as the facts in Bollinger and it is not clear that the failure of the
Nominee to hold itself out to third parties as the agent of the Partnership in
dealings relating to Partnership Properties should result in the treatment of
the Nominee as the tax owner of the Partnership Properties. For the foregoing
reasons, Conner & Winters have not expressed an opinion on this issue, but
Conner & Winters believe that substantial arguments may be made that the
Partnership should be treated as the tax owner of Partnership Properties
acquired by the Nominee on the Partnership’s behalf. If the Partnership were not
treated as the tax owner of Partnership Properties, then the following
discussions which relate to the Partners’ deduction of tax items which are
derived from Partnership Properties, such as IDC, depletion and depreciation,
would not be applicable.

 

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Intangible Drilling and Development Costs Deductions

 

Congress granted to the Secretary of the Treasury the authority to prescribe
regulations that would allow taxpayers the option of deducting, rather than
capitalizing, IDC. The Secretary’s rules state that, in general, the option to
deduct IDC applies only to expenditures for drilling and development items that
do not have a salvage value.

 

The Memorandum provides that 75% of the Partners’ capital contributions will be
utilized for IDC, which will flow through to the Partners as a deductible item
in the year of investment. The deduction of IDC by most Limited Partners
generally will be available only to offset passive income. Based on a deduction
of 75% of a Partner’s capital contribution, a one Unit ($1,000) investor in a
35% marginal Federal tax bracket could possibly reduce taxes payable by $262.
The investor might also realize additional tax savings on income taxes in the
state in which such investor resides.

 

Classification of Costs. In general, IDC consists of those costs which in and of
themselves have no salvage value. In previous partnerships for which the General
Partner has served as general partner, intangible drilling and development costs
have ranged from 72% to 27% of the investors’ contributions. While the planned
activities of the Partnership are similar in nature to those of prior
partnerships, the amount of expenditures classified as IDC could be greater or
less than for prior partnerships. In addition, a partnership’s classification of
a cost as IDC is not binding on the Service, which might reclassify an item
labeled as IDC as a cost which must be capitalized. To the extent not
deductible, such amounts will be included in the Partnership’s basis in a
mineral property and in the Partners’ tax basis in their interests in the
Partnership.

 

Timing of Deductions. Although the Partnership will elect to deduct IDC, each
investor has an option of deducting IDC, or capitalizing all or a part of the
IDC and amortizing it on a straight-line basis over a sixty-month period,
beginning with the taxable month in which the expenditure is made. In addition
to the effect of this change on regular taxable income, the two methods have
different treatment under the Alternative Minimum Tax (“AMT”) (see “Alternative
Minimum Tax”).

 

Although the General Partner will attempt to satisfy each requirement for
deductibility of the Partnership’s IDC in 2005, no assurance can be given that
the Service will not successfully contend that the IDC of a Partnership well
which is not completed until 2006 is not deductible in whole or in part until
2006. Furthermore, no assurance can be given that the Service will not challenge
the current deduction of IDC because of the prepayment being made to a related
party. If the Service were successful with such a challenge, the Partners’
deductions for IDC would be deferred to later years.

 

Recapture of IDC. IDC previously deducted that is allocable to a property
(directly or through the ownership of an interest in a partnership) and which,
if capitalized, would have been included in the adjusted basis of the property
is recaptured as ordinary income to the extent of any gain realized upon the
disposition of the property. Treasury regulations provide that recapture is
determined at the partner level (subject to certain anti-abuse provisions).
Where only a portion of recapture property is disposed of, any IDC related to
the entire property is recaptured to the extent of the gain realized on the
portion of the property sold. In the case of the disposition of an undivided
interest in a property (as opposed to the disposition of a portion of the
property), a proportionate part of the IDC with respect to the property is
treated as allocable to the transferred undivided interest to the extent of any
realized gain.

 

Depletion Deductions

 

The owner of an economic interest in an oil and gas property is entitled to
claim the greater of percentage depletion or cost depletion with respect to oil
and gas properties which qualify for such depletion methods. In the case of
partnerships, the depletion allowance must be computed separately by each
partner and not by the partnership. For properties placed in service after 1986,
depletion deductions, to the extent they reduce basis in an oil and gas
property, are subject to recapture under Code section 1254.

 

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Cost depletion for any year is determined by multiplying the number of units
(e.g., barrels of oil or Mcf of gas) sold during the year by a fraction, the
numerator of which is the cost or other basis of the mineral interest and the
denominator of which is total reserves available at the beginning of the period.
In no event can the cost depletion exceed the adjusted basis of the property to
which it relates.

 

Percentage depletion is a statutory allowance pursuant to which a deduction
currently equal to 15% of the taxpayer’s gross income from each property is
allowed in any taxable year, not to exceed 100% of the taxpayer’s taxable income
from the property (computed without the allowance for depletion) with the
aggregate deduction limited to 65% of the taxpayer’s taxable income for the year
(computed without regard to percentage depletion and net operating loss and
capital loss carrybacks). The percentage depletion deduction rate will vary with
the price of oil, but the rate will not be less than 15%. A percentage depletion
deduction that is disallowed in a year due to the 65% of taxable income
limitation may be carried forward and allowed as a deduction for a subsequent
year, subject to the 65% limitation in that subsequent year. Percentage
depletion deductions reduce the taxpayer’s adjusted basis in the property.
However, unlike cost depletion, percentage depletion deductions are not limited
to the adjusted basis of the property; the percentage depletion amount continues
to be allowable as a deduction after the adjusted basis has been reduced to
zero.

 

The availability of depletion, whether cost or percentage, will be determined
separately by each Partner. Each Partner must separately keep records of his
share of the adjusted basis in an oil or gas property, adjust such share of the
adjusted basis for any depletion taken on such property, and use such adjusted
basis each year in the computation of his cost depletion or in the computation
of his gain or loss on the disposition of such property. These requirements may
place an administrative burden on a Partner.

 

Depreciation Deductions

 

The Partnership will claim depreciation, cost recovery, and amortization
deductions with respect to its basis in Partnership Property as permitted by the
Code.

 

Transaction Fees

 

The Partnership may classify a portion of the fees or expense reimbursements to
be paid to third parties and to the General Partner as expenses which are
deductible as organizational expenses or otherwise. There is no assurance that
the Service will allow the deductibility of such expenses and Conner & Winters
expresses no opinion with respect to the allocation of such fees or
reimbursements to deductible and nondeductible items.

 

Generally, expenditures made in connection with the creation of, and with sales
of interests in, a partnership will fit within one of several categories.

 

A partnership may elect to amortize and deduct its organizational expenses
ratably over a period of not less than 60 months commencing with the month the
partnership begins business. Examples of organizational expenses are legal fees
for services incident to the organization of the partnership, such as
negotiation and preparation of a partnership agreement, accounting fees for
services incident to the organization of the partnership, and filing fees.

 

No deduction is allowable for “syndication expenses,” examples of which include
brokerage fees, registration fees, legal fees of the underwriter or placement
agent and the issuer (general partners or the partnership) for securities advice
and for advice pertaining to the adequacy of tax disclosures in the offering or
private placement memorandum for securities law purposes, printing costs, and
other selling or promotional material. These costs must be capitalized. Payments
for services performed in connection with the acquisition of capital assets must
be amortized over the useful life of such assets.

 

No deduction is allowable with respect to “start-up expenditures,” although such
expenditures may be capitalized and amortized over a period of not less than 60
months.

 

The Partnership intends to make overhead reimbursement payments to the General
Partner, as described in greater detail in the Memorandum. To be deductible,
payments to a partner must be for services rendered by the partner other than in
his or its capacity as a partner or for compensation determined without regard
to partnership income. Payments which are not deductible because they fail to
meet this test may be treated as special allocations of income to the recipient
partner and thereby decrease the net loss, or increase the net income

 

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among all partners. If the Service were to successfully challenge the General
Partner’s allocations, a Partner’s taxable income could be increased, thereby
resulting in increased taxes and in potential liability for interest and
penalties.

 

Basis and At Risk Limitations

 

A Partner’s share of Partnership losses will be allowed as a deduction by the
Partner only to the extent of the aggregate amount with respect to which the
taxpayer-Partner is “at risk” for the Partnership’s activity at the close of the
taxable year. Any such loss disallowed by the “at risk” limitation shall be
treated as a deduction allocable to the activity in the first succeeding taxable
year.

 

The Code provides that a taxpayer must recognize taxable income to the extent
that his or her “at risk” amount is reduced below zero. This “recaptured” income
is limited to the sum of the loss deductions previously allowed to the taxpayer,
less any amounts previously recaptured. A taxpayer may be allowed a deduction
for the recaptured amounts included in his taxable income if and when he
increases his amount “at risk” in a subsequent taxable year.

 

The Limited Partners will purchase Units by tendering cash to the Partnership.
To the extent the cash contributed constitutes the “personal funds” of the
Partners, the Partners should be considered at risk with respect to those
amounts. If the cash contributed constitutes “personal funds,” in the opinion of
Conner & Winters, neither the at risk rules nor the adjusted basis rules will
limit the deductibility of losses generated from the Partnership and allocated
to a Limited Partner, to the extent of such Limited Partner’s cash
contributions. In no event, however, may a Partner deduct his distributive share
of partnership loss where such share exceeds the Partner’s tax basis in the
Partnership.

 

Passive Loss Limitations

 

Introduction. The deductibility of losses generated from passive activities will
be limited for certain taxpayers. The passive activity loss limitations apply to
individuals, estates, trusts, and personal service corporations as well as, to a
lesser extent, closely held C corporations.

 

The definition of a “passive activity” generally encompasses all rental
activities as well as all activities with respect to which the taxpayer does not
“materially participate.” A taxpayer will be considered as materially
participating in a venture only if the taxpayer is involved in the operations of
the activity on a “regular, continuous, and substantial” basis. In addition, no
limited partnership interest will be treated as an interest with respect to
which a taxpayer materially participates.

 

Passive activity losses (“PALs”) of a taxpayer are the amounts of such
taxpayer’s losses from passive activities for a taxable year. Individuals and
personal service corporations are entitled to deduct PALs only to the extent of
their passive income whereas closely held C corporations (other than personal
service corporations) can offset PALs against both passive and net active
income, but not against portfolio (dividends, interest, etc.) income. In
calculating passive income and loss, however, all passive activities of the
taxpayer are aggregated. PALs disallowed as a result of the above rules will be
suspended and can be carried forward indefinitely to offset future passive (or
passive and active, in the case of a closely held C corporation) income.

 

Upon a taxpayer’s disposition of his entire interest in a passive activity in a
fully taxable transaction not involving a related party, any passive loss of
such taxpayer that was suspended by the provisions of the passive activity loss
rules is deductible against either passive or non-passive income.

 

Limited Partner Interests. Most Limited Partners’ distributive shares of the
Partnership’s losses will be treated as PALs, the availability of which will be
limited in each case to the individual Partner’s passive income in all passive
activities in which the Limited Partner has an interest. If a Limited Partner
does not have sufficient passive income to utilize the PALs, the disallowed PALs
will be suspended and may be carried forward to be deducted against passive
income arising in future years. Further, upon the disposition by a Limited
Partner of his entire interest in the Partnership to an unrelated party in a
fully taxable transaction, such suspended losses will be available, as described
above.

 

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Gain or Loss on Sale of Property or Units

 

In the event some or all of the property of the Partnership is sold, or upon
sale of a Unit, a Limited Partner will realize gain to the extent the amount
realized exceeds his or her basis in the Partnership. In such case, there may be
recapture, as ordinary income, of IDCs and depletion previously allocated to
such Limited Partner. If the gain realized exceeds the amount of the recapture
income, the Limited Partner will recognize capital gains for the balance.

 

It is possible that a Limited Partner will be required to recognize ordinary
income pursuant to the recapture rules in excess of the taxable income on the
disposition transaction or in a situation where the disposition transaction
resulted in a taxable loss. To balance the excess income, the Limited Partner
would recognize a capital loss for the difference between the gain and the
income. Depending on a Limited Partner’s particular tax situation, some or all
of this loss might be deferred to future years, resulting in a greater tax
liability in the year in which the sale was made and a reduced future tax
liability.

 

Any partner who sells or exchanges interests in a partnership must generally
notify the partnership in writing within 30 days of such transaction in
accordance with Regulations and must attach a statement to his tax return
reflecting certain facts regarding the sale or exchange. The notice must include
names, addresses, and taxpayer identification numbers (if known) of the
transferor and transferee and the date of the exchange. The partnership also is
required to provide copies to the transferor and the transferee of information
it is required to provide to the Service in connection with such a transfer.

 

Partnership Distributions

 

Under the Code, any increase in a partner’s share of partnership liabilities, or
any increase in such partner’s individual liabilities by reason of an assumption
by him or her of partnership liabilities is considered to be a contribution of
money by the partner to the partnership. Similarly, any decrease in a partner’s
share of partnership liabilities or any decrease in such partner’s individual
liabilities by reason of the partnership’s assumption of such individual
liabilities will be considered as a distribution, a constructive distribution,
of money to the partner by the partnership.

 

A Partner’s adjusted basis in his or her Units will initially consist of the
cash he or she contributes to the Partnership. His or her basis will be
increased by his or her share of Partnership income and decreased by his or her
share of Partnership losses and distributions. To the extent that actual or
constructive distributions are in excess of a Partner’s adjusted basis in his or
her Partnership interest (after adjustment for contributions and his or her
share of income and losses of the Partnership), that excess will generally be
treated as gain from the sale of a capital asset. In addition, gain could be
recognized to a distributee partner upon the disproportionate distribution to a
partner of unrealized receivables or substantially appreciated inventory. The
Partnership Agreement prohibits distributions to a Limited Partner to the extent
such distribution would create or increase a deficit in a Limited Partner’s
Capital Account.

 

Partnership Allocations

 

The Partners’ distributive shares of partnership income, gain, loss, and
deduction should be determined and allocated substantially in accordance with
the terms of the Partnership Agreement.

 

The Service could contend that the allocations contained in the Partnership
Agreement do not have substantial economic effect or are not in accordance with
the Partners’ interests in the Partnership and may seek to reallocate these
items in a manner that will increase the income or gain or decrease the
deductions allocable to a Partner.

 

Administrative Matters

 

Returns and Audits. While no federal income tax is required to be paid by an
organization classified as a partnership for federal income tax purposes, a
partnership must file federal income tax information returns which are subject
to audit by the Service. Any such audit may lead to adjustments, in which event
the Limited Partners may be required to file amended personal federal income tax
returns. Any such audit may also lead to an audit of a Limited Partner’s
individual tax return and adjustments to items unrelated to an investment in
Units.

 

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For purposes of reporting, audit, and assessment of additional federal income
tax, the tax treatment of “partnership items” is determined at the partnership
level. Partnership items will include those items that the Regulations provide
are more appropriately determined at the partnership level than the partner
level. The Service generally cannot initiate deficiency proceedings against an
individual partner with respect to partnership items without first conducting an
administrative proceeding at the partnership level as to the correctness of the
partnership’s treatment of the item. An individual partner may not file suit for
a credit or a refund arising out of a partnership item without first filing a
request for an administrative proceeding by the Service at the partnership
level. Individual partners are entitled to notice of such administrative
proceedings and decisions therein, except in the case of partners with less than
1% profits interest in a partnership having more than 100 partners. If a group
of partners having an aggregate profits interest of 5% or more in such a
partnership so requests, however, the Service also must mail notice to a partner
appointed by that group to receive notice. All partners, whether or not entitled
to notice, are entitled to participate in the administrative proceedings at the
partnership level, although the Partnership Agreement provides for waiver of
certain of these rights by the Limited Partners. All Partners, including those
not entitled to notice, may be bound by a settlement reached by the
Partnership’s representative, the “tax matters partner,” which will be Unit
Petroleum Company. If a proposed tax deficiency is contested in any court by any
Partner or by the General Partner, all Partners may be deemed parties to such
litigation and bound by the result reached therein.

 

Consistency Requirements. A partner must generally treat partnership items on
his or her federal income tax returns consistently with the treatment of such
items on the partnership information return unless he or she files a statement
with the Service identifying the inconsistency or otherwise satisfies the
requirements for waiver of the consistency requirement. Failure to satisfy this
requirement will result in an adjustment to conform the partner’s treatment of
the item with the treatment of the item on the partnership return. Intentional
or negligent disregard of the consistency requirement may subject a partner to
substantial penalties.

 

Compliance Provisions. Taxpayers are subject to several penalties and other
provisions that encourage compliance with the federal income tax laws, including
an accuracy-related penalty in an amount equal to 20% of the portion of an
underpayment of tax caused by negligence, intentional disregard of rules or
regulations or any “substantial understatement” of income tax. A “substantial
understatement” of tax is an understatement of income tax that exceeds the
greater of (a) 10% of the tax required to be shown on the return (the correct
tax), or (b) $5,000 ($10,000 in the case of a corporation other than an S
corporation or personal holding corporation).

 

Except in the case of understatements attributable to “tax shelter” items, an
item of understatement may not give rise to the penalty if (a) there is or was
“substantial authority” for the taxpayer’s treatment of the item or (b) all
facts relevant to the tax treatment of the item are disclosed on the return or
on a statement attached to the return, and there is a reasonable basis for the
tax treatment of such item by the taxpayer. In the case of partnerships, the
disclosure is to be made on the return of the partnership. Under the applicable
Regulations, however, an individual partner may make adequate disclosure with
respect to partnership items if certain conditions are met.

 

In the case of understatements attributable to “tax shelter” items, the
substantial understatement penalty may be avoided only if the taxpayer
establishes that, in addition to having substantial authority for his or her
position, he or she reasonably believed the treatment claimed was more likely
than not the proper treatment of the item. A “tax shelter” item is one that
arises from a partnership (or other form of investment) the principal purpose of
which is the avoidance or evasion of federal income tax.

 

Based on the definition of a “tax shelter” in the Regulations, performance of
previous partnerships, and the planned activities of the Partnership, the
General Partner does not believe that the Partnership will qualify as a “tax
shelter” under the Code, and will not register it as such.

 

Accounting Methods and Periods

 

The Partnership will use the accrual method of accounting and will select the
calendar year as its taxable year.

 

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State and Local Taxes

 

The opinions expressed herein are limited to issues of federal income tax law
and do not address issues of state or local law. Prospective investors are urged
to consult their tax advisors regarding the impact of state and local laws on an
investment in the Partnership.

 

Individual Tax Advice Should Be Sought

 

The foregoing is only a summary of the material tax considerations that may
affect an investor’s decision regarding the purchase of Units. The tax
considerations attendant to an investment in a Partnership are complex and vary
with individual circumstances. Each prospective investor should review such tax
consequences with his tax advisor.

 

COMPETITION, MARKETS AND REGULATION

 

The oil and gas industry is highly competitive in all its phases. The
Partnership will encounter strong competition from both major independent oil
companies and individuals, many of which possess substantial financial
resources, in acquiring economically desirable prospects and equipment and labor
to operate and maintain Partnership Properties. There are likewise numerous
companies and individuals engaged in the organization and conduct of oil and gas
drilling programs and there is a high degree of competition among such companies
and individuals in the offering of their programs.

 

Marketing of Production

 

The availability of a ready market for any oil and gas produced from Partnership
Wells will depend upon numerous factors beyond the control of the Partnership,
including the extent of domestic production and importation of oil and gas, the
proximity of Partnership Wells to gas pipelines and the capacity of such gas
pipelines, the marketing of other competitive fuels, fluctuation in demand,
governmental regulation of production, refining and transportation, general
national and worldwide economic conditions, and the pricing, use and allocation
of oil and gas and their substitute fuels.

 

The demand for gas decreased significantly in the 1980s due to economic
conditions, conservation and other factors. As a result of such reduced demand
and other factors, including the Power Plant and Industrial Fuel Use Act (the
“Fuel Use Act”) which related to the use of oil and gas in the United States in
certain fuel burning installations, many pipeline companies began purchasing gas
on terms which were not as favorable to sellers as terms governing purchases of
gas prior thereto. Spot market gas prices declined generally during that period.
While the Fuel Use Act has been repealed and the markets for gas have improved
significantly recently, there can be no assurance that such improvement will
continue. As a result, it is possible that there may be significant delays in
selling any gas from Partnership Properties.

 

In the event the Partnership acquires an interest in a gas well or completes a
productive gas well, or a well that produces both oil and gas, the well may be
shut in for a substantial period of time for lack of a market if the well is in
an area distant from existing gas pipelines. The well may remain shut in until
such time as a gas pipeline, with available capacity, is extended to such an
area or until such time as sufficient wells are drilled to establish adequate
reserves which would justify the construction of a gas pipeline, processing
facilities, if necessary, and a transmission system.

 

The worldwide supply of oil has been largely dependent upon rates of production
of foreign reserves. Although in recent years the demand for oil has slightly
increased in this country, imports of foreign oil continue to increase.
Consequently, historically the prices for domestic oil production have generally
remained low. Future domestic oil prices will depend largely upon the actions of
foreign producers with respect to rates of production and it is virtually
impossible to predict what actions those producers will take in the future.
Prices may also be affected by political and other factors relating to the
Middle East. As a result, it is possible that prices for oil, if any, produced
from a Partnership Well will be lower than those currently available or
projected at the time the interest therein is acquired. In view of the many
uncertainties affecting the supply and demand for crude oil and natural gas, and
the change in the makeup of the Congress of the United States and the resulting
potential for a different focus for the United States energy policy, the General
Partner is unable to predict what future gas and oil prices will be.

 

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Regulation of Partnership Operations

 

Production of any oil and gas found by the Partnership will be affected by state
and federal regulations. All states in which the Partnership intends to conduct
activities have statutory provisions regulating the production and sale of oil
and gas. Such statutes, and the regulations promulgated in connection therewith,
generally are intended to prevent waste of oil and gas and to protect
correlative rights and the opportunities to produce oil and gas as between
owners of a common reservoir. Certain state regulatory authorities also regulate
the amount of oil and gas produced by assigning allowable rates of production to
each well or proration unit. Pertinent state and federal statutes and
regulations also extend to the prevention and clean-up of pollution. These laws
and regulations are subject to change and no predictions can be made as to what
changes may be made or the effect of such changes on the Partnership’s
operations.

 

Under the laws and administrative regulations of the State of Oklahoma regarding
forced pooling, owners of oil and gas leases or unleased mineral interests may
be required to elect to participate in the drilling of a well with other
fractional undivided interest owners within an established spacing unit or to
sell or farm out their interest therein. The terms of any such sale or farm-out
are generally those determined by the Oklahoma Corporation Commission to be
equal to the most favorable terms then available in the area in arm’s length
transactions although there can be no assurance that this will be the case. In
addition, if properties become the subject of a forced pooling order, drilling
operations may have to be undertaken at a time or with other parties which the
General Partner feels may not be in the best interest of the Partnership. In
such event, the Partnership may have to farm out or assign its interest in such
properties. In addition, if a property which might otherwise be acquired by the
Partnership becomes subject to such an order, it may become unavailable to the
Partnership. Finally, as a result of forced pooling proceedings involving a
Partnership Property, the Partnership may acquire a larger than anticipated
interest in such property, thereby increasing its share of the costs of
operations to be conducted.

 

Natural Gas Price Regulation

 

Partnership Revenues are likely to be dependent on the sale and transportation
of natural gas that may be subject to regulation by the Federal Energy
Regulatory Commission (“FERC”). Historically the sale of natural gas has been
regulated by the FERC under the Natural Gas Act of 1938 (“NGA”) and/or the
Natural Gas Policy Act of 1978 (“NGPA”). Under the NGPA, natural gas is divided
into numerous, complex categories based on, among other things, when, where and
how deep the gas well was drilled and whether the gas was committed to
interstate or intrastate commerce on the day before the date of enactment of the
statute. These categories determine whether the natural gas remains subject to
non-price regulation under the NGA and/or to maximum price restrictions under
the NGPA. In addition to setting ceiling prices for natural gas, FERC approval
is required for both the commencement and abandonment of sales of certain
categories of gas in interstate commerce for resale and for the transportation
of natural gas in interstate commerce. FERC has general investigatory and other
powers, including limited authority to set aside or modify terms of gas purchase
contracts subject to its jurisdiction. Price and non-price regulation of natural
gas produced from most wells drilled after 1978 has terminated. That gas may be
sold without prior regulatory approval and at whatever price the market will
bear.

 

On July 26, 1989, the Natural Gas Wellhead Decontrol Act of 1989 became
effective. Consequently, due to this statutory deregulation and FERC’s issuance
of Order No. 547 discussed below, as of January 7, 1993 the price of virtually
all gas produced by producers not affiliated with interstate pipelines has been
deregulated by FERC.

 

Market determined prices for deregulated categories of natural gas fluctuate in
response to market pressures which currently favor purchasers and disfavor
producers. As a result of the deregulation of a greater proportion of the
domestic United States gas market and an increased availability of natural gas
transportation, a competitive trading market for gas has developed. For several
reasons the supply of gas has exceeded demand. The General Partner cannot
reliably predict at this time whether such supply/demand imbalance will improve
or worsen from a producer’s viewpoint.

 

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During the past several years, FERC has adopted several regulations designed to
create a more competitive, less regulated market for natural gas. These
regulations have materially affected the market for natural gas.

 

FERC’s initial major initiative was adoption of its “open-access transportation
program,” through Order No.s 436 and 500. Regulation of Natural Gas Pipelines
After Partial Wellhead Decontrol, Order No. 436, 50 Fed. Reg. 42,408 (October
18, 1985), vacated and remanded, Associated Gas Distributors v. FERC, 824 F.2d
981 (D.C. Cir. 1987), cert. denied, 485 U.S. 1006 (1988), readopted on an
interim basis, Order No. 500, 52 Fed. Reg. 30,344 (Aug. 14, 1987), remanded,
American Gas Association v. FERC, 888 F.2d 136 (D.C. Cir. 1989), readopted,
Order No. 500-H, 54 Fed. Reg. 52,344 (Dec. 21, 1989), reh’g granted in part and
denied in part, Order No. 500-I, 55 Red. Reg. 6605 (Feb. 26, 1990), aff’d in
part and remanded in part, American Gas Association v. FERC, 912 F.2d 1496 (D.C.
Cir. 1990), cert. denied, 111 S. Ct. 957 (1991). Order 436 implemented three key
requirements: (1) jurisdictional pipelines were required to permit their firm
sales customers to convert their firm sales entitlements to a volumetrically
equivalent amount of firm transportation service over a five-year period; (2)
jurisdictional pipelines were required to offer their open-access transportation
services without discrimination or preference; and (3) jurisdictional pipelines
were required to design maximum rates to ration capacity during peak periods and
to maximize throughput for firm service during off-peak periods and for
interruptible service during all periods. The availability of transportation
under Order 500 greatly expanded the free trading market for natural gas,
including the establishment of an active and viable spot market.

 

Subsequently, in Order 636 the FERC focused on whether the resulting regulatory
structure provided all gas sellers with the same regulatory opportunity to
compete for gas purchasers. It decided that the form of bundled pipeline
services (gas sales and transportation) was unduly discriminatory and
anticompetitive. Pipeline Service Obligations and Revisions to Regulations
Governing Self-Implementing Transportation; and Regulation of Natural Gas
Pipelines After Wellhead Decontrol, Order No. 636, 57 Fed. Reg. 13,267 (Apr. 16,
1992), III FERC Stats. & Regs. Preambles Paragraph 30,939, at 30,406;
Regulations of Natural Gas Pipelines After Partial Wellhead Decontrol, and Order
Denying Rehearing in Part, Granting Rehearing in Part, and Clarifying Order No.
636, Order No. 636-A, 57 Fed. Reg. 36,128 (Aug. 12, 1992), III FERC Stats. &
Regs. Preambles Paragraph 30,950; Regulation of Natural Gas Pipelines After
Partial Wellhead Decontrol; Regulation of Natural Gas Pipelines After Partial
Wellhead Decontrol; Order Denying Rehearing and Clarifying Order Nos. 636 and
636-A, Order No. 636-B, 57 Fed. Reg. 57,911 (Dec. 8, 1992).

 

Among other things, Order 636 required each interstate pipeline company to
“unbundle” its traditional wholesale services and create and make available on
an open and nondiscriminatory basis numerous constituent services (such as
gathering services, storage services, firm and interruptible transportation
services, and stand-by sales services) and to adopt a new rate making
methodology (Straight Fixed Variable) to determine appropriate rates for those
services. To the extent the pipeline company or its sales affiliate makes gas
sales as a merchant in the future, it will do so in direct competition with all
other sellers pursuant to private contracts; however, pipeline companies have or
will become “transporters only.” Order 636 also allows pipeline companies to act
as agents for their customers in arranging the transportation of gas purchased
from any supplier, including the pipeline itself, and to charge a negotiated fee
for such agency services. The FERC required each pipeline company to develop the
specific terms of service in individual proceedings and to submit for approval
by FERC a compliance filing which set forth the pipeline company’s new, detailed
procedures.

 

In response to a Court remand, on February 27, 1997 FERC issued its final rule
further revising Order 636. Pipeline Service Obligations and Revisions to
Regulations Governing Self-Implementing Transportation Under Part 284 and
Regulation of National Pipelines After Partial Wellhead Decontrol, 62 Fed. Reg.
10204 (Mar. 6, 1997). It modified its regulation by (i) changing the selection
of a twenty-year matching term for the right of first refusal and instead
adopting a five-year matching term and (ii) reversing the requirement that
pipelines allocate 10% of GSR costs to interruptible customers and requiring
that pipelines propose the percentage that interruptible customers will bear
based on the individual circumstances present on each pipeline. Most of the
individual pipeline restructurings arising from Order 636 have been completed.

 

In essence, the goal of Order 636 is to make a pipeline’s position as gas
merchant indistinguishable from that of a non-pipeline supplier. It, therefore,
pushes the point of sale of gas by pipelines upstream, perhaps all the way to
the wellhead. Order 636 also requires pipelines to give firm transportation
customers flexibility with

 

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respect to receipt and delivery points (except that a firm shipper’s choice of
delivery point cannot be downstream of the existing primary delivery point) and
to allow “no-notice” service (which means that gas is available not only
simultaneously but also without prior nomination, with the only limitation being
the customer’s daily contract demand) if the pipeline offered no-notice
city-gate sales service on May 18, 1992. Thus, this separation of pipelines’
sales and transportation allows non-pipeline sellers to acquire firm downstream
transportation rights and thus to offer buyers what is effectively a bundled
city-gate sales service and it permits each customer to assemble a package of
services that serves its individual requirements. But it also makes more
difficult the coordination of gas supply and transportation.

 

The results of these changes could increase the marketability of natural gas and
place the burden of obtaining supplies of natural gas for local distribution
systems directly on distributors who would no longer be able to rely on the
aggregation of supplies by the interstate pipelines. Such distributors may
return to longer term contracts with suppliers who can assure a secure supply of
natural gas. A return to longer term contracts and the attendant decrease in gas
available for the spot market could improve gas prices. The primary
beneficiaries of these changes should be gas marketers and the producers who are
able to demonstrate the availability of an assured long-term supply of natural
gas to local distribution purchasers and to large end users. However, due to the
still evolutionary nature of Order 636 and its implementation, it is not
possible at this time to project the impact Order 636 will have on the
Partnership’s ability to sell gas directly into gas markets previously served by
the gas pipelines.

 

As a corollary to Order 636, FERC issued Order 547, which is a blanket
certificate of public convenience and necessity pursuant to Section 7 of the NGA
that authorizes any person who is not an interstate pipeline or an affiliate
thereof to make sales for resale at negotiated rates in interstate commerce of
any category of gas that is subject to the Commission’s NGA jurisdiction. (There
are certain requirements which must be met before an affiliated marketer of an
interstate pipeline can avail itself of this certification.) Regulations
Governing Blanket Marketer Sales Certificates, Order No. 547, 57 Fed. Reg.
57,952 (Dec. 8, 1992) (to be codified at 18 C.F.R. Sections 284.401 - .402). The
blanket certificates were effective January 7, 1993, and do not require any
further application by a person. The goal of Order 457, in conjunction with
Orders 636, 636-A and 636-B, is to provide all merchants of natural gas a “level
playing field” so that gas merchants who are not interstate pipelines are on an
equal footing with interstate pipeline merchants who are afforded blanket sales
certificates pursuant to Order 636.

 

The FERC has also begun to allow individual companies to depart from
cost-of-service regulation and set market-based rates if they can show they lack
significant market power or have mitigated market power. See, e.g., Richmond Gas
Storage Systems, 59 FERC Paragraph 61,316 (1992); El Paso Natural Gas Company,
54 FERC Paragraph 61,316, reh’g granted and denied in part, 56 FERC Paragraph
61,290 (1990); Transcontinental Gas Pipe Line Corp., 53 FERC Paragraph 61,446,
reh’g granted and denied in part, 57 FERC Paragraph 61,345 (1991). Since the
FERC has stated that “[w]here companies have market power, market-based rates
are not appropriate,” in order to “enhance productive efficiency in
non-competitive markets,” the FERC issued a rule allowing pipelines (and
electric utilities) “to propose incentive rate mechanisms as alternatives to
traditional cost-of-service regulations.” Incentive Ratemaking for Interstate
Natural Gas Pipelines, Oil Pipelines, and Electric Utilities; Policy Statement
on Incentive Regulation, 57 Fed. Reg. 55,231 (Nov. 24, 1992). The FERC has
established five specific regulatory standards for implementing specific
incentive mechanisms: they should (1) be prospective, (2) be voluntary, (3) be
understandable, (4) result in quantifiable benefits to consumers including an
upper limit on the risk to consumers that the incentive rates would be higher
than rates they would have paid under traditional regulation, and (5)
demonstrate how they maintain or enhance incentives to improve the quality of
service.

 

Other regulatory actions have included elimination of minimum take and minimum
bill provisions of pipeline sales tariffs (Order 380) and authorization of
automatic abandonment authority upon expiration or termination of the underlying
contracts (Order 490). FERC has also provided several forms of “blanket”
certificates authorizing sales of gas with pregranted abandonment.

 

In addition, in Order 451, FERC established an alternative maximum lawful price
for certain NGPA Section 104 and 106 gas produced from wells drilled prior to
1975 (so-called “old gas”) which otherwise would be subject to lower ceiling
prices. FERC provided, however, that the higher price could be collected only
where the parties amended the contract or pursuant to complicated “good faith
negotiation” rules which permit

 

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purchasers facing requests for increased prices to seek reduction of certain
higher prices and authorize abandonment of both the higher cost and lower cost
supplies if agreement cannot be reached. After the Fifth Circuit vacated Order
451 as an invalid exercise of FERC’s authority, the United States Supreme Court
reversed that decision and upheld the entirety of Order 451.

 

The issuance of Order 636 and its future interpretation, as well as the future
interpretation and application by FERC of all of the above rules and its broad
authority, or of the state and local regulations by the relevant agencies, could
affect the terms and availability of transportation services for transportation
of natural gas to customers and the prices at which gas can be sold on behalf of
the Partnership. For instance, as a result of Order 636, many interstate
pipeline companies have divested their gathering systems, either to unregulated
affiliates or to third persons, a practice which could result in separate, and
higher, rates for gathering a producer’s natural gas. In proceedings during mid
and late 1994 allowing various interstate natural gas companies’ spindowns or
spinoffs of gathering facilities, the FERC held that, except in limited
circumstances of abuse, it generally lacks jurisdiction over a pipeline’s
gathering affiliates, which neither transport natural gas in interstate commerce
nor sell gas in interstate commerce for resale. However, pipelines spinning down
gathering systems have to include two Order No. 497 standards of conduct in
their tariffs: nondiscriminatory access to transportation for all sources of
supply and no tying of pipeline transportation service to any service by the
pipeline’s gathering affiliate. In addition, if unable to reach a mutually
acceptable gathering contract with a present user of the gathering facilities,
the FERC required that the pipeline must offer a two-year “default contract” to
existing users of the gathering facilities. However, on appeal, while the United
States Court of Appeals for the District of Columbia upheld the FERC’s allowing
the spinning down of gathering facilities to a non-regulated affiliate, in
Conoco Inc. v. FERC, 90 F.3d 536, 552-53 (D.C. Cir. 1996) the D.C. Circuit
remanded the FERC’s default contract mechanism. On February 18, 1997 the United
States Supreme Court denied a petition to review the D. C. Circuit’s decision.
As a result of FERC’s action, some states have enacted or are considering
statutory and/or regulatory provisions to regulate gathering systems.
Consequently, the General Partner cannot reliably predict at this time how
regulation will ultimately impact Partnership Revenue.

 

Oil Price Regulation

 

With respect to oil pipeline rates subject to the FERC’s jurisdiction under the
Interstate Commerce Act, in October 1993 the FERC issued Order 561 to implement
the requirements of Title XVIII of the Energy Policy Act of 1992. Order 561
established an indexing system, effective January 1, 1995, under which many oil
pipelines are able to readily change their rates to track changes in the
Producer Price Index for Finished Goods (PPI-FG), minus one percent. This index
established ceiling levels for rates. Order 561 also permits cost-of-service
proceedings to establish just and reasonable rates. The Order does not alter the
right of a pipeline to seek FERC authorization to charge market rates. However,
until the FERC makes the finding that the pipeline does not exercise significant
market power, the pipeline’s rates cannot exceed the applicable index ceiling
level or a level justified by the pipeline’s cost of service.

 

State Regulation of Oil and Gas Production

 

Most states in which the Partnership may conduct oil and gas activities regulate
the production and sale of oil and natural gas. Those states generally impose
requirements or restrictions for obtaining drilling permits, the method of
developing new fields, the spacing and operation of wells and the prevention of
waste of oil and gas resources. In addition, most states regulate the rate of
production and may establish maximum daily production allowable from both oil
and gas wells on a market demand or conservation basis. Until recently there has
been no limit on allowable daily production on the basis of market demand,
although at some locations production continues to be regulated for conservation
or market purposes. In 1992 Oklahoma and Texas imposed additional limitations on
gas production to more closely track market demand. The General Partner cannot
predict whether any state regulatory agency may issue additional allowable
reductions which may adversely affect the Partnership’s ability to produce its
gas reserves.

 

Legislative and Regulatory Production and Pricing Proposals

 

A number of legislative and regulatory proposals continually are advanced which,
if put into effect, could have an impact on the petroleum industry. The various
proposals involve, among other things, an oil import fee, restructuring how oil
pipeline rates are determined and implemented reducing production allowables,
providing

 

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purchasers with “market-out” options in existing and future gas purchase
contracts, eliminating or limiting the operation of take-or-pay clauses,
eliminating or limiting the operation of “indefinite price escalator clauses”
(e.g., pricing provisions which allow prices to escalate by means of reference
to prices being paid by other purchasers of natural gas or prices for competing
fuels), and state regulation of gathering systems. Proposals concerning these
and other matters have been and will be made by members of the President’s
office, Congress, regulatory agencies and special interest groups. The General
Partner cannot predict what legislation or regulatory changes, if any, may
result from such proposals or any effect therefrom on the Partnership.

 

The effect of these regulations could be to decrease allowable production on
Partnership Properties and thereby to decrease Partnership Revenues. However, by
decreasing the amount of natural gas available in the market, such regulations
could also have the effect of increasing prices of natural gas, although there
can be no assurance that any such increase will occur. There can also be no
assurance that the proposed regulations described above will be adopted or that
they will be adopted upon the terms set forth above. Additionally, such
proposals, if adopted, are likely to be challenged in the courts and there can
be no assurance as to the outcome of any such challenge.

 

Production and Environmental Regulation

 

Certain states in which the Partnership may drill and own productive properties
control production from wells through regulations establishing the spacing of
wells, limiting the number of days in a given month during which a well can
produce and otherwise limiting the rate of allowable production.

 

In addition, the federal government and various state governments have adopted
laws and regulations regarding protection of the environment. These laws and
regulations may require the acquisition of a permit before or after drilling
commences, impose requirements that increase the cost of operations, prohibit
drilling activities on certain lands lying within wilderness areas or other
environmentally sensitive areas and impose substantial liabilities for pollution
resulting from drilling operations, particularly operations in offshore waters
or on submerged lands.

 

A past, present, or future release or threatened release of a hazardous
substance into the air, water, or ground by the Partnership or as a result of
disposal practices may subject the Partnership to liability under the
Comprehensive Environmental Response, Compensation and Liability Act, as amended
(“CERCLA”), the Resource Conservation Recovery Act (“RCRA”), the Clean Water
Act, and/or similar state laws, and any regulations promulgated pursuant
thereto. Under CERCLA and similar laws, the Partnership may be fully liable for
the cleanup costs of a release of hazardous substances even though it
contributed to only part of the release. While liability under CERCLA and
similar laws may be limited under certain circumstances, typically the limits
are so high that the maximum liability would likely have a significant adverse
effect on the Partnership. In certain circumstances, the Partnership may have
liability for releases of hazardous substances by previous owners of Partnership
Properties. Additionally, the discharge or substantial threat of a discharge of
oil by the Partnership into United States waters or onto an adjoining shoreline
may subject the Partnership to liability under the Oil Pollution Act of 1990 and
similar state laws. While liability under the Oil Pollution Act of 1990 is
limited under certain circumstances, the maximum liability under those limits
would still likely have a significant adverse effect on the Partnership. The
Partnership’s operations generally will be covered by the insurance carried by
the General Partner or UNIT, if any. However, there can be no assurance that
such insurance coverage will always be in force or that, if in force, it will
adequately cover any losses or liability the Partnership may incur.

 

Violation of environmental legislation and regulations may result in the
imposition of fines or civil or criminal penalties and, in certain
circumstances, the entry of an order for the removal, remediation and abatement
of the conditions, or suspension of the activities, giving rise to the
violation. The General Partner believes that the Partnership will comply with
all orders and regulations applicable to its operations. However, in view of the
many uncertainties with respect to the current controls, including their
duration and possible modification, the General Partner cannot predict the
overall effect of such controls on such operations. Similarly, the General
Partner cannot predict what future environmental laws may be enacted or
regulations may be promulgated and what, if any, impact they would have on
operations or Partnership Revenue.

 

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SUMMARY OF THE LIMITED PARTNERSHIP AGREEMENT

 

The business and affairs of the Partnership and the respective rights and
obligations of the Partners will be governed by the Agreement. The following is
a summary of certain pertinent provisions of the Agreement which have not been
as fully discussed elsewhere in this Memorandum but does not purport to be a
complete description of all relevant terms and provisions of the Agreement and
is qualified in its entirety by express reference to the Agreement. Each
prospective subscriber should carefully review the entire Agreement.

 

Partnership Distributions

 

The General Partner will make quarterly determinations of the Partnership’s cash
position. If it determines that excess cash is available for distribution, it
will be distributed to the Partners in the same proportions that Partnership
Revenue has been allocated to them after giving effect to previous distributions
and to portions of such revenues theretofore used or expected to be thereafter
used to pay costs incurred in conducting Partnership operations or to repay
Partnership borrowings. It is expected that no cash distributions will be made
earlier than the first quarter of 2006. Distributions of cash determined by the
General Partner to be available therefore will be made to the Limited Partners
quarterly and to the General Partner at any time. All Partnership funds
distributed to the Limited Partners shall be distributed to the persons who were
record holders of Units on the day on which the distribution is made. Thus,
regardless of when an assignment of Units is made, any distribution with respect
to the Units which are assigned will be made entirely to the assignee without
regard to the period of time prior to the date of such assignment that the
assignee holds the Units.

 

The Partnership will terminate automatically on December 31, 2035 unless prior
thereto the General Partner or Limited Partners holding a majority of the
outstanding Units elect to terminate the Partnership as of an earlier date. Upon
termination of the Partnership, the debts, liabilities and obligations of the
Partnership will be paid and the Partnership’s oil and gas properties and any
tangible equipment, materials or other personal property may be sold for cash.
The cash received will be used to make certain adjusting payments to the
Partners (see “SUMMARY OF THE LIMITED PARTNERSHIP AGREEMENT — Termination”). Any
remaining cash and properties will then be distributed to the Partners in
proportion to and to the extent of any remaining balances in the Partners’
capital accounts and then in undivided percentage interests to the Partners in
the same proportions that Partnership Revenues are being shared at the time of
such termination (see “SUMMARY OF THE LIMITED PARTNERSHIP AGREEMENT —
Termination”).

 

Deposit and Use of Funds

 

Until required in the conduct of the Partnership’s business, Partnership funds,
including, but not limited to, the Capital Contributions, Partnership Revenue
and proceeds of borrowings by the Partnership, will be deposited, with or
without interest, in one or more bank accounts of the Partnership in a bank or
banks to be selected by the General Partner or invested in short-term United
States government securities, money market funds, bank certificates of deposit
or commercial paper rated as “A1” or “P1” as the General Partner, in its sole
discretion, deems advisable. Any interest or other income generated by such
deposits or investments will be for the Partnership’s account. Except for
Capital Contributions, Partnership funds from any of the various sources
mentioned above may be commingled with funds of the General Partner and may be
used, expended and distributed as authorized by the terms and provisions of the
Agreement. The General Partner will be entitled to prompt reimbursement of
expenses it incurs on behalf of the Partnership.

 

Power and Authority

 

In managing the business and affairs of the Partnership, the General Partner is
authorized to take such action as it considers appropriate and in the best
interests of the Partnership (see Section 10.1 of the Agreement). The General
Partner is authorized to engage legal counsel and otherwise to act with respect
to Service audits, assessments and administrative and judicial proceedings as it
deems in the best interests of the Partnership and pursuant to the provisions of
the Code.

 

The General Partner is granted a broad power of attorney authorizing it to
execute certain documents required in connection with the organization,
qualification, continuance, modification and termination of the Partnership on
behalf of the Limited Partners (see Sections 1.5 and 1.6 of the Agreement).
Certain actions, such

 

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as an assignment for the benefit of its creditors or a sale of substantially all
of the Partnership Properties, except in connection with the termination,
roll-up or consolidation of the Partnership, cannot be taken by the General
Partner without the consent of a majority in interest of the Limited Partners
and the receipt of an opinion of Conner & Winters as described under
“Assignments by the General Partner” below (see Sections 10.15 and 12.1 of the
Agreement).

 

The Agreement provides that the General Partner will either conduct the
Partnership’s drilling and production operations and operate each Partnership
Well or arrange for a third party operator to conduct such operations. The
General Partner will, on behalf of the Partnership, enter into an appropriate
operating agreement with the other owners of properties to be developed by the
Partnership authorizing either the General Partner or a third party operator to
conduct such operations. The Partnership Agreement further provides that the
Partnership will take such action in connection with operations pursuant to such
operating agreements as the General Partner, in its sole discretion, deems
appropriate and in the best interests of the Partnership, and the decision of
the General Partner with respect thereto will be binding upon the Partnership.

 

Rollup or Consolidation of the Partnership

 

Two years or more after the Partnership has completed substantially all of its
property acquisition, drilling and development operations, the General Partner
may, without the vote, consent or approval of the Limited Partners, cause all or
substantially all of the oil and gas properties and other assets of the
Partnership to be sold, assigned or transferred to, or the Partnership merged or
consolidated with, another partnership or a corporation, trust or other entity
for the purpose of combining the assets of two or more of the oil and gas
partnerships formed for investment or participation by employees, directors
and/or consultants of UNIT or any of its subsidiaries; provided, however, that
the valuation of the oil and gas properties and other assets of all such
participating partnerships for purposes of such transfer or combination shall be
made on a consistent basis and in a manner which the General Partner and UNIT
believe is fair and equitable to the Limited Partners. As a consequence of any
such transfer or combination, the Partnership will be dissolved and terminated
and the Limited Partners shall receive partnership interests, stock or other
equity interests in the transferee or resulting entity. See “RISK FACTORS —
Investment Risks - Roll-Up or Consolidation of the Partnership.”

 

Limited Liability

 

Under the Act, a limited partner is not generally liable for partnership
obligations unless he or she takes part in the control of the business. The
Agreement provides that the Limited Partners cannot bind or commit the
Partnership or take part in the control of its business or management of its
affairs, and that the Limited Partners will not be personally liable for any
debts or losses of the Partnership. However, the amounts contributed to the
Partnership by the Limited Partners and the Limited Partners’ interests in
Partnership assets, including amounts of undistributed Partnership Revenue
allocable to the Limited Partners, will be subject to the claims of creditors of
the Partnership. A Limited Partner (or his or her estate) will be obligated to
contribute cash to the Partnership, even if the Limited Partner is unable to do
so because of death, disability or any other reason, for:

 

(1) any unpaid contribution which the Limited Partner agreed to make to the
Partnership; and

 

(2) any return, in whole or in part, of the Limited Partner’s contribution to
the extent necessary to discharge Partnership liabilities to all creditors who
extended credit or whose claims arose before such return.

 

Liability of a Limited Partner is limited by the Act to one year for any return
of his or her contribution not in violation of the Partnership Agreement or such
Act and six years on any return of his or her contribution in violation of the
Partnership Agreement or such Act. A partner is deemed to have received a return
of his or her contribution to the extent that a distribution to him or her
reduces his or her share of the fair value of the net assets of the Partnership
below the value of his or her contribution which has not been distributed to him
or her. How this provision applies to a partnership whose primary assets are
producing oil and gas properties or other depleting assets is not entirely
clear. The Agreement provides that for the purposes of this provision, the value
of a Limited Partner’s contribution which has not been distributed to him or her
at any point in time will be the Limited Partner’s Percentage of the stated
capital of the Partnership allocated to the Limited Partners as reflected in its
financial statements as of such point in time.

 

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Maintenance of limited liability of the Limited Partners in other jurisdictions
in which the Partnership may operate may require compliance with certain legal
requirements of those jurisdictions. In such jurisdictions, the General Partner
shall cause the Partnership to operate in such a manner as it, on the advice of
responsible Conner & Winters, deems appropriate to avoid unlimited liability for
the Limited Partners (see Sections 1.5, 12.1 and 12.2 of the Agreement). After
the termination of the Partnership, any distribution of Partnership Properties
to the Limited Partners would result in their having unlimited liability with
respect to such properties.

 

Although the Partnership will, with certain limited exceptions, serve as a
co-general partner of any drilling or income programs formed by UNIT or UPC in
2005 (see “PROPOSED ACTIVITIES”), the general liability of the Partnership will
not flow through to the Limited Partners.

 

Records, Reports and Returns

 

The General Partner will maintain adequate books, records, accounts and files
for the Partnership and keep the Limited Partners informed by means of written
interim reports rendered within 60 days after each quarter of the Partnership’s
fiscal year. The reports will set forth the source and disposition of
Partnership Revenues during the quarter.

 

Engineering reports on the Partnership Properties will be prepared by the
General Partner for each year for which the General Partner prepares such a
report in connection with its own activities. Such report will include an
estimate of the total oil and gas proven reserves of the Partnership, the dollar
value thereof and the value of the Limited Partners’ interest in such reserve
value. The report shall also contain an estimate of the life of the Partnership
Properties and the present worth of the reserves. Each Limited Partner will
receive a summary statement of such report which will reflect the value of the
Limited Partners’ interest in such reserves.

 

The General Partner will timely file the Partnership’s income tax returns and by
March 15 of each year or as soon thereafter as practicable, furnish each person
who was a Limited Partner during the prior year all available information
necessary for inclusion in his or her federal income tax return. (See Section
8.1 of the Agreement).

 

Transferability of Interests

 

Restrictions. A Limited Partner may not transfer or assign Units except for
certain transfers:

 

  •   to the General Partner;

 

  •   to or for the benefit of himself or herself, his or her spouse, or other
members of the transferor Limited Partner’s immediate family sharing the same
residence;

 

  •   to any corporation or other entity whose beneficial owners are all Limited
Partners or permitted assignees;

 

  •   by the General Partner to any person who at the time of such transfer is
an employee of the General Partner, UNIT or its subsidiaries; and

 

  •   by reason of death or operation of law.

 

Further, no sale or exchange of any Units may be made if the sale of such
interest would, in the opinion of counsel for the Partnership, result in a
termination of the Partnership for purposes of Section 708 of the Code, violate
any applicable securities laws or cause the Partnership to be treated as an
association taxable as a corporation for federal income tax purposes; provided,
however, that this condition may be waived by the General Partner, in its sole
discretion. Moreover, in no event shall all or any portion of a Limited
Partner’s Units be assigned to a minor or an incompetent, except by will,
intestate succession, in trust, or pursuant to the Uniform Gifts to Minors Act.

 

As the offer and sale of the Units are not being registered under the Securities
Act of 1933, as amended, they may be sold, transferred, assigned or otherwise
disposed of by a Limited Partner only if, in the opinion of counsel for the
Partnership, such transfer or assignment would not violate, or cause the
offering of the Units to be violative of, such act or applicable state
securities laws, including investor suitability standards thereunder. Because of
the structure and anticipated operation of the Partnership, Rule 144 under the
Securities Act of 1933 will not be available to Limited Partners in connection
with any such sales.

 

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Assignees. An assignee of a Limited Partner does not automatically become a
Substituted Limited Partner, but has the right to receive the same share of
Partnership Revenue and distributions thereof to which the assignor Limited
Partner would have been entitled. A Limited Partner who assigns his or her
Partnership interest ceases to be a Limited Partner, except that until a
Substituted Limited Partner is admitted in his or her place, the assignor
retains the statutory rights of an assignor of a Limited Partner’s interest
under the partnership laws of the State of Oklahoma. The assignee of a
Partnership interest who does not become a Substituted Limited Partner and
desires to make a further assignment of such interest is subject to all of the
restrictions on transferability of Partnership interests described herein and in
the Partnership Agreement.

 

In the event of the death, incapacity or bankruptcy of a Limited Partner, his or
her legal representatives will have all the rights of a Limited Partner only for
the purpose of settling or liquidating his or her estate and such power as the
decedent, incompetent or bankrupt Limited Partner possessed to assign all or any
part of his or her interest in the Partnership and to join with such assignee in
satisfying conditions precedent to such assignee’s becoming a Substituted
Limited Partner.

 

A purported sale, assignment or transfer of a Limited Partner’s interest will be
recognized by the Partnership when it has received written notice of such sale
or assignment in form satisfactory to the General Partner, signed by both
parties, containing the purchaser’s or assignee’s acceptance of the terms of the
Agreement and a representation by the parties that the sale or assignment was
lawful. Such sale or assignment will be recognized as of the date of such
notice, except that if such date is more than 30 days prior to the time of
filing, such sale or assignment will be recognized as of the time the notice was
filed with the Partnership. Distributions of Partnership Revenue will be made
only to those persons who were record owners of Units on the day any such
distribution is made.

 

Substituted Limited Partners. No Limited Partner has the right to substitute an
assignee as a Limited Partner in his or her place. The General Partner, however,
has the right in its sole discretion to permit such assignee to become a
Substituted Limited Partner and any such permission by the General Partner is
binding and conclusive without the consent or approval of any Limited Partner.
Any Substituted Limited Partner must, as a condition to receiving any interest
of the Limited Partner, agree in writing to be bound by the terms and conditions
of the Partnership Agreement, pay or agree to pay the costs and expenses
incurred by the Partnership in taking the actions necessary in connection with
his or her substitution as a Limited Partner and satisfy the other conditions
specified in Article XIII of the Partnership Agreement.

 

Assignments by the General Partner. The General Partner may not sell, assign,
transfer or otherwise dispose of its interest in the Partnership except with the
prior consent of a majority in interest of the Limited Partners, provided that
no such consent is required if the sale, assignment or transfer is pursuant to a
bona fide merger, other corporate reorganization or complete liquidation, sale
of substantially all of the General Partner’s assets (provided the purchasers
agree to assume the duties and obligations of the General Partner) or any sale
or transfer to UNIT or any affiliate of UNIT. Any consent of the Limited
Partners will not be effective without an opinion of counsel to the Partnership
or an order or judgment of a court of competent jurisdiction to the effect that
the exercise of such right will not be deemed to evidence that the Limited
Partners are taking part in the management of the Partnership’s business and
affairs and will not result in a loss of any Limited Partner’s limited liability
or cause the Partnership to be classified as an association taxable as a
corporation for federal income tax purposes (see Section 12.1 of the Agreement).
Any transferee of the General Partner’s interest may become a substitute General
Partner by assuming and agreeing to perform all of the duties and obligations of
a General Partner under the Agreement. In such event, the transferring General
Partner, upon making a proper accounting to the substitute General Partner, will
be relieved of any further duties or obligations with respect to any future
Partnership operations.

 

Amendments

 

The Agreement may be amended upon the approval by a majority in interest of the
Limited Partners, except that amendments changing the Partners’ participation in
costs and revenues, increasing or decreasing the General Partner’s compensation
or otherwise materially and adversely affecting the interests of either the
Limited

 

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Partners or the General Partner must be approved by all Limited Partners if
their interests would be adversely affected thereby or by the General Partner if
its interest would be adversely affected thereby. The Limited Partners have no
right to propose amendments to the Agreement.

 

Voting Rights

 

Under the Agreement, the Limited Partners will have very limited rights to vote
on any Partnership matters. Except for certain special amendments referred to
under “Amendments” above, matters submitted to the Limited Partners for
determination will be determined by the affirmative vote of Limited Partners
holding a majority of the outstanding Units. Units held by the General Partner
may be voted by it.

 

Generally, Limited Partners owning more than 50% of the outstanding Units of the
Partnership may, without the necessity of concurrence by the General Partner,
vote to:

 

  •   Approve the execution or delivery of any assignment for the benefit of the
Partnership’s creditors;

 

  •   Approve the sale or disposal of all or substantially all of the
Partnership’s assets, except pursuant to (i) a rollup or consolidation of the
Partnership (see “Rollup or Consolidation of the Partnership” above) or (ii)
termination (see “Termination” below);

 

  •   Approve the General Partner’s sale, assignment, transfer or disposal of
its interest in the Partnership, unless such sale, assignment or transfer is
pursuant to (i) a merger or other corporate reorganization, or liquidation or
sale of substantially all of its assets, and the purchaser agrees to assume the
duties and obligations of the General Partner, or (ii) any sale to UNIT or its
affiliates;

 

  •   Terminate and dissolve the Partnership; or

 

  •   Approve any amendments to the Agreement which may be proposed by the
General Partner;

 

provided, however, any approvals, consents or elections of the Limited Partners
will not become effective unless prior to the exercise thereof the General
Partner is furnished with an opinion of counsel for the Partnership, or an order
or judgment of any court of competent jurisdiction, that the exercise of such
rights:

 

  •   Will not be deemed to evidence that the Limited Partners are taking part
in the control or management of the Partnership’s business affairs;

 

  •   Will not result in the loss of any Limited Partner’s limited liability
under the Act; and

 

  •   Will not result in the Partnership being classified as an association
taxable as a corporation for federal income tax purposes.

 

Exculpation and Indemnification of the General Partner

 

Pursuant to the Agreement, neither the General Partner or any affiliate thereof
will have any liability to the Partnership or to any Partners therein for any
loss suffered by the Partnership or such Partner that arises out of any action
or inaction of the General Partner or any affiliate thereof if the General
Partner or affiliate thereof in good faith determined that such course of
conduct was in the best interest of the Partnership, the General Partner or
affiliate was acting on behalf of or performing services for the Partnership,
such liability or loss was not the result of gross negligence or willful
misconduct by the General Partner or affiliates thereof, and payments arising
from such indemnification or agreement to hold harmless are receivable only out
of the tangible net assets of the Partnership.

 

Termination

 

The Partnership will terminate automatically on December 31, 2035. In addition,
upon the dissolution (other than pursuant to a merger, or other corporate
reorganization or sale), bankruptcy, legal disability or withdrawal of the
General Partner, the Partnership shall immediately be dissolved and terminated.
The Act provides, however, that the Limited Partners may elect to reform and
reconstitute themselves as a limited partnership within 90 days after such
dissolution under the provisions in the Partnership Agreement or under any

 

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other terms. The Partnership may terminate sooner if a majority in interest of
the Limited Partners or the General Partner elects to dissolve and terminate the
Partnership as of an earlier date. Such right to accelerate termination of the
Partnership by the Limited Partners will not be available unless prior to any
exercise thereof the Limited Partners proposing such termination obtain and
furnish to the General Partner an opinion, order or judgment in the form
referred to above under “Transferability of Interests - Assignments by the
General Partner.” The withdrawal, expulsion, dissolution, death, legal
disability, bankruptcy or insolvency of any Limited Partner will not effect a
dissolution or termination of the Partnership. In the event of an election to
terminate the Partnership prior to expiration of its stated terms, 90 days’
prior written notice must be given to all Partners specifying the termination
date which must be the last day of a calendar month following such 90 day period
unless an earlier date is approved by Limited Partners holding a majority of the
outstanding Units.

 

When the Partnership is terminated, there will be an accounting with respect to
its assets, liabilities and accounts. The Partnership’s physical property and
its oil and gas properties may be sold for cash. Except in the case of an
election by the General Partner to terminate the Partnership before the tenth
anniversary of the Effective Date, Partnership Properties may be sold to the
General Partner or any of its affiliates for their fair market value as
determined in good faith by the General Partner.

 

Upon termination, all of the Partnership’s debts, liabilities and obligations,
including expenses incurred in connection with the termination and the sale or
distribution of Partnership assets, will be paid. All Partnership borrowings
will be paid in full. When the specified payments have all been made, the
remaining cash and properties of the Partnership, if any, will be distributed to
the Partners as set forth under “Partnership Distributions” above (see Section
16.4 of the Agreement). Such distribution will result in the Limited Partners’
having unlimited liability with respect to any Partnership Properties
distributed to them.

 

Insurance

 

The General Partner will use its best efforts to obtain such insurance as it
deems prudent to serve as protection against liability for loss and damage. Such
insurance may include, but is not limited to, public liability, automotive
liability, workers’ compensation and employer’s liability insurance and blowout
and control of well insurance.

 

COUNSEL

 

Conner & Winters, P.C., 3700 First Place Tower, Tulsa, Oklahoma, has acted as
special counsel to the General Partner in connection with certain aspects of
this offering. Conner & Winters has assisted in the preparation of the Agreement
and this Memorandum. In connection with the preparation of this Memorandum,
Conner & Winters has relied entirely upon information submitted to it by the
General Partner. Certain of this information has been verified by Conner &
Winters in the course of its representation, but no systematic effort has been
made to verify all of the material information contained herein, and much of
such information is not subject to independent verification. In addition, Conner
& Winters has made no independent investigation of the financial information
concerning the General Partner. Further, while passing on certain legal matters,
Conner & Winters has not passed on the investment merits nor is it qualified to
do so. Because substantial portions of the information contained in this
Memorandum have not been independently verified, each investor must make
whatever independent inquiries the investor or his or her advisors deem
necessary or desirable to verify or confirm the statements made herein.

 

GLOSSARY

 

As used herein and in the Agreement, the following terms and phrases will have
the meanings indicated.

 

(a) “Additional Assessments” are amounts required to be contributed by the
Limited Partners to the Partnership upon a call therefore by the General Partner
in the manner described under “ADDITIONAL FINANCING — Additional Assessments.”

 

(b) An “affiliate” of another person is (1) any person directly or indirectly
owning, controlling or holding with power to vote 10% or more of the outstanding
voting securities of such other person; (2) any person

 

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10% or more of whose outstanding voting securities are directly or indirectly
owned, controlled, or held with power to vote, by such other person; (3) any
person directly or indirectly controlling, controlled by, or under common
control with such other person; (4) any officer, director, trustee or partner of
such other person; and (5) if such other person is an officer, director, trustee
or partner, any company for which such person acts in any such capacity.

 

(c) The “Aggregate Subscription” is the sum of the Capital Subscriptions of all
Limited Partners.

 

(d) “Agreement” and “Partnership Agreement” refers to the Agreement of Limited
Partnership attached as Exhibit A to this Private Offering Memorandum.

 

(e) The “Capital Contribution” of a Limited Partner is the amount of the Capital
Subscription actually paid in by him or her, or by any predecessor in interest,
to the capital of the Partnership including any payments made by deductions from
salary. The “Capital Contribution” of the General Partner includes the amounts
contributed to the Partnership or paid by the General Partner or by any Limited
Partner whose Units are purchased by the General Partner pursuant to Section 4.2
of the Agreement because of a default by such Limited Partner in the payment of
an Installment or pursuant to Article XV of the Agreement, including payments
made by deductions from the salary of such Limited Partner.

 

(f) The “Capital Subscription” of a Limited Partner or his or her assignee
(including the General Partner where Units are transferred pursuant to Section
4.2 of the Agreement) is the amount specified in the Subscription Agreement
executed by such Limited Partner for payment by him or her to the capital of the
Partnership in accordance with the provisions of the Agreement, reduced by the
amounts thereof from which the Limited Partners have been released by the
General Partner of their obligation to pay.

 

(g) A “Development Well” means a well intended to be drilled within the proved
areas of a known oil or gas reservoir to the depth of a stratigraphic horizon
known to be productive.

 

(h) “Director” refers to the duly elected directors of UNIT as well as all
honorary directors and consultants to the Board of Directors of UNIT.

 

(i) “Drilling Costs” are those costs incurred in drilling, testing, completing
and equipping a well to the point that it proves to be dry and is abandoned or
is ready to commence commercial production of oil or gas therefrom.

 

(j) “Effective Date” refers to the date on which the certificate evidencing
formation of the Partnership is filed with the Secretary of State of the State
of Oklahoma as required by the Act (54 Okla. Stat. 2001, Section 309).

 

(k) An “Exploratory Well” means a well drilled to find production in an unproven
area, to find a new reservoir in a field previously found to be productive or to
extend greatly the limits of a known reservoir.

 

(l) A “farm-out” is an agreement whereby the owner of an oil and gas property
agrees to assign such property, usually retaining some interest therein such as
an overriding royalty, a production payment, a net profits interest or a carried
working interest, subject in most cases, however, to the drilling of one or more
wells or other performance by the prospective assignee as a condition of the
assignment.

 

(m) The “General Partner’s Minimum Capital Contribution” is that amount equal to
the total of (i) all Partnership costs and expenses charged to its account from
the time of the formation of the Partnership through December 31, 2005, plus
(ii) the General Partner’s estimate of the total Leasehold Acquisition Costs and
Drilling Costs expected to be incurred by the Partnership subsequent to December
31, 2005, if any, minus (iii) the amount, if any, of the unexpended Aggregate
Subscription at December 31, 2005.

 

(n) The “General Partner’s Percentage” is that percentage determined by dividing
the amount of the General Partner’s Minimum Capital Contribution by the total of
(i) the General Partner’s Minimum Capital Contribution plus (ii) the Aggregate
Subscription.

 

(o) “Installments” refer to the periodic payments of the Capital Subscription,
which are payable either (i) in four equal installments due on March 15, June
15, September 15, 2005 and December 15, 2005, respectively, or (ii) if an
employee so elects, through equal deductions from 2005 salary commencing
immediately after formation of the Partnership.

 

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(p) “Leasehold Acquisition Costs” with respect to properties, if any, acquired
by the Partnership from non-affiliated parties mean the actual costs to the
Partnership of and in acquiring the properties, and, with respect to properties
acquired by the Partnership from the General Partner, UNIT or its affiliates
are, without duplication, the sum of:

 

  (1) the prices paid by the General Partner, UNIT or its affiliates in
acquiring an oil and gas property, including purchase option fees and charges,
bonuses and penalties, if any;

 

  (2) title insurance or examination costs, broker’s commissions, filing fees,
recording costs, transfer taxes, if any, and like charges incurred in connection
with the acquisition of such property;

 

  (3) a pro rata portion of the actual, necessary and reasonable expenses of the
General Partner, UNIT or its affiliates for seismic and geophysical services;

 

  (4) rentals, shut-in royalties and ad valorem taxes paid by the General
Partner, UNIT or its affiliates with respect to such property to the date of its
transfer to the Partnership;

 

  (5) interest and points actually incurred on funds used by the General
Partner, UNIT or its affiliates to acquire or maintain such property; and

 

  (6) such portion of the General Partner’s, UNIT or its affiliates’ reasonable,
necessary and actual expenses for geological, engineering, drafting, accounting,
legal and other like services allocated to the acquisition, operations and
maintenance of the property in accordance with generally accepted industry
practices, except for expenses in connection with the past drilling of wells
which are not producers of sufficient quantities of oil or gas to make
commercially reasonable their continued operations, and provided that the costs
and expenses enumerated in (4), (5) and (6) above with respect to any particular
property shall have been incurred not more than thirty-six (36) months prior to
the acquisition of such property by the Partnership.

 

In the event a fractional undivided interest in a property is sold or
transferred by the General Partner, UNIT or any affiliate to an unaffiliated
third party for an amount in excess of that portion of the original cost of the
property attributable to the transferred interest, the amount of such excess
shall not reduce or be offset against the amount of the Leasehold Acquisition
Costs attributable to any interest in the same property which is transferred to
the Partnership.

 

(q) “Limited Partners” are those persons who acquire Units in the Partnership
upon its formation and those transferees of Units who are accepted as
Substituted Limited Partners. The General Partner may also be a Limited Partner
if it subscribes for Units or if it subsequently acquires Units by (i) the
exercise by a Limited Partner of his or her right of presentment; (ii) a
purchase by the General Partner of the Units of a Limited Partner who defaults
in the payment of an Installment; or (iii) any other assignment or transfer.

 

(r) The “Limited Partners’ Percentage” is that percentage determined by dividing
the amount of the Aggregate Subscription by the total of (i) the General
Partner’s Minimum Capital Contribution plus (ii) the Aggregate Subscription.

 

(s) “Normal Retirement” means retirement under the terms of a pension or similar
retirement plan adopted by the General Partner, UNIT or any subsidiary with whom
a Limited Partner is employed as in effect at the time of retirement.

 

(t) “Oil and gas properties” are oil and gas leasehold working interests, fee
interests, mineral interests, royalty interests, overriding royalty interests,
production payments, options or rights to lease or acquire such interests,
geophysical exploration permits and any tangible or intangible properties or
other rights incident thereto, whether real, personal or mixed.

 

(u) “Operating Expenses” are expenditures made and costs incurred in producing
and marketing oil or gas from completed wells, including, in addition to labor,
fuel, repairs, hauling, material, supplies, utility

 

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charges and other costs incident to or necessary for the maintenance or
operation of such wells or the marketing of production therefrom, ad valorem,
severance and other such taxes (other than windfall profit taxes), insurance and
casualty loss expense and compensation to well operators or others for services
rendered in conducting such operations.

 

(v) The General Partner and the Limited Partners are sometimes collectively
referred to as the “Partners.”

 

(w) “Partnership Agreement” and “Agreement” refer to the Agreement of Limited
Partnership attached as Exhibit A to this Private Offering Memorandum.

 

(x) The “Partnership Properties” are oil and gas properties or interests therein
acquired by the Partnership or properties acquired by any partnership or joint
venture in which the Partnership is a partner or joint venturer, whether
acquired by purchase, option exercise or otherwise.

 

(y) “Partnership Revenue” refers to the Partnership’s gross revenues from all
sources, including interest income, proceeds from sales of production, the
Partnership’s share of revenues from partnerships or joint ventures of which it
is a member, sales or other dispositions of Partnership Properties or other
Partnership assets, provided that contributions to Partnership capital by the
Partners and the proceeds of any Partnership borrowings are specifically
excluded and dry-hole and bottom-hole contributions shall be treated as
reductions of the costs giving rise to the right to receive such contributions.

 

(z) “Partnership Wells” are any and all of the oil and gas wells in which the
Partnership has an interest, either directly or indirectly through any other
partnership or joint venture.

 

(aa) “Productive properties” are oil and gas properties that have been tested by
drilling and determined to be capable of producing oil or gas in commercial
quantities.

 

(bb) A “spacing unit” is a drilling and spacing, production or similar unit
established by any regulatory body with jurisdiction, or in the absence of such
a regulatory body or action thereby, the acreage attributable to wells drilled
under the normal spacing pattern in such area or if no such spacing unit is
designated, in keeping with generally accepted industry practices, or the
largest of such units in the event of multiple objective formations.

 

(cc) “Special Production and Marketing Costs” are costs and expenses that are
not normally and customarily incurred in connection with drilling, producing and
marketing operations, including without limitation, costs incurred in
constructing compressor plants, gasoline plants, gas gathering systems, natural
gas processing plants, pipeline systems and salt water disposal systems and
costs incurred in installing pressure maintenance and secondary or tertiary
production projects.

 

(dd) “Subscription Agreement” refers to the form of Limited Partner Subscription
Agreement and Suitability Statement attached as Attachment I to the Partnership
Agreement.

 

(ee) A “Substituted Limited Partner” is a transferee, donee, heir, legatee or
other recipient of all or any portion of a Limited Partner’s interest in the
Partnership with respect to whom all conditions and consents required to become
a Substituted Limited Partner under Article XIII of the Partnership Agreement
have been satisfied and given.

 

(ff) A “Unit” is a preformation unit of limited partnership interest of a
Limited Partner in the Partnership representing a Capital Subscription of One
Thousand Dollars ($1,000).

 

FINANCIAL STATEMENTS

 

On January 1, 1988 all of the oil and natural gas properties previously owned by
Unit Drilling and Exploration Company (“UDEC”) and UNIT were transferred into
Sunshine Development Company through a contribution of capital. Included in the
transfer were all interests previously owned by UDEC in numerous General and
Limited Partnerships sponsored by UDEC. Effective February 1, 1988, Sunshine
Development Company, a wholly owned subsidiary of UDEC, pursuant to an “Amended
and Restated Certificate of Incorporation” was renamed Unit Petroleum Company
and became a wholly owned subsidiary of UNIT.

 

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Unit Petroleum Company functions as the operating entity for all oil and natural
gas exploration and production activities including operating any partnerships
for UNIT.

 

The consolidated balance sheet of Unit Petroleum Company at October 31, 2004 is
unaudited and includes all adjustments which UNIT considers necessary for a fair
presentation of the financial position of Unit Petroleum Company at October 31,
2004.

 

Unit Petroleum Company

Consolidated Balance Sheet

(In Thousands)

 

     October 31, 2004
(Unaudited)

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

Assets

      

Current Assets:

      

Cash and cash equivalents

   $ 563

Trade accounts receivable

     22,175

Materials and supplies, at lower of cost or market

     7,339

Other

     370     

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

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

Total current assets

     30,447     

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

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

Property and Equipment:

      

Oil and natural gas properties, on the full cost method

     622,260

Other

     424     

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

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

       622,684

Less accumulated depreciation, depletion, amortization and impairment

     272,410     

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

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

Net property and equipment

     350,274     

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

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

Other Assets

     43     

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

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

Total Assets

   $ 380,764     

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

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

Liabilities and Shareholders’ Equity

      

Current Liabilities:

               

Current portion of long-term liabilities

     226

Accounts payable

     10,199

Accounts payable to parent

     10,782

Contract advances

     1,208

Accrued liabilities

     1,735     

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

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

Total current liabilities

     24,150     

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

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

Other Long-Term Liabilities

     14,082     

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

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

Deferred Income Taxes

     94,419     

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

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

Shareholders’ Equity:

      

Common stock, $1.00 par value, 500 shares authorized and outstanding

     1

Capital in excess of par value

     31,543

Retained earnings

     216,569     

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

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

Total shareholders’ Equity

     248,113     

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

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

Total Liabilities and Shareholders’ Equity

   $ 380,764     

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

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

 

74

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

EXHIBIT A

 

UNIT 2005 EMPLOYEE OIL AND GAS LIMITED PARTNERSHIP

 

AGREEMENT OF LIMITED PARTNERSHIP

 

A-1

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INDEX

 

ARTICLE I Formation of Limited Partnership

   3

ARTICLE II Definitions

   4

ARTICLE III Purposes and Powers of the Partnership

   7

ARTICLE IV Partner Capital Contributions

   8

ARTICLE V Deposit and Use of Capital Contributions and Other Partnership Funds

   10

ARTICLE VI Sharing of Costs, Capital Accounts and Allocation of Charges and
Income

   11

ARTICLE VII Fiscal Year, Accountings and Reports

   15

ARTICLE VIII Tax Returns and Elections

   15

ARTICLE IX Distributions

   16

ARTICLE X Rights, Duties and Obligations of the General Partner

   16

ARTICLE XI Compensation and Reimbursements

   20

ARTICLE XII Rights and Obligations of Limited Partners

   21

ARTICLE XIII Transferability of Limited Partner’s Interest

   21

ARTICLE XIV Assignments by the General Partner

   23

ARTICLE XV Limited Partners’ Right of Presentment

   24

ARTICLE XVI Termination and Dissolution of Partnership

   25

ARTICLE XVII Notices

   27

ARTICLE XVIII Amendments

   27

ARTICLE XIX General Provisions

   27

ATTACHMENT I

   Limited Partner Subscription Agreement and Suitability Statement    I-1

 

 

A-2

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UNIT 2005 EMPLOYEE OIL AND GAS LIMITED PARTNERSHIP

AGREEMENT OF LIMITED PARTNERSHIP

 

THIS AGREEMENT OF LIMITED PARTNERSHIP (this “Agreement”) is made and entered
into by and among Unit Petroleum Company, an Oklahoma corporation, hereinafter
referred to as the “General Partner” or “UPC” (which term shall include any
successors or assigns of UPC), and each of those persons who have executed a
counterpart of the Limited Partner Subscription Agreement and Suitability
Statement attached as Attachment I to this Agreement that have been accepted by
the General Partner, said persons being hereinafter collectively referred to as
the “Limited Partners.”

 

WITNESSETH THAT:

 

ARTICLE I

Formation of Limited Partnership

 

1.1 The parties to this Agreement hereby form a Limited Partnership (the
“Partnership”) pursuant to the Revised Uniform Limited Partnership Act of the
State of Oklahoma (the “Act”). The terms and provisions hereof will be construed
and interpreted in accordance with the terms and provisions of the Act and if
any of the terms and provisions of this Agreement should be deemed inconsistent
with those terms and provisions of the Act which under the Act may not be
altered by agreement of the parties, the Act will be controlling, but otherwise
this Agreement will be controlling.

 

1.2 The Partnership will be conducted under the name of “Unit 2005 Employee Oil
and Gas Limited Partnership” in Oklahoma, and under such name or variations of
such name as the General Partner deems appropriate to comply with the laws of
the other jurisdictions in which the Partnership does business.

 

1.3 The principal office of the Partnership will be 7130 South Lewis, Suite
1000, Tulsa, Oklahoma 74136, or at such other location as may from time to time
be designated by the General Partner, and the Partnership’s agent for service of
process shall be Unit Corporation (“UNIT,” which term shall include all or any
of its subsidiaries or affiliates unless the context otherwise requires) at the
same address.

 

1.4 The Partnership will be effective on the date on which the certificate
evidencing formation of the Partnership is filed with the Secretary of State of
the State of Oklahoma. Its business and operations will not be commenced prior
to such date. The Partnership will continue in existence until December 31,
2035, unless sooner terminated pursuant to any provisions of this Agreement.

 

1.5 The parties hereto will execute such certificates and other documents, and
the General Partner will file, record and publish such certificates and
documents, as may be necessary or appropriate to comply with the requirements
for the formation and operation of a limited partnership under the Act and as
the General Partner, upon advice of counsel, deems necessary or appropriate to
comply with requirements of applicable laws governing the formation and
operations of a limited partnership (or a partnership in which special partners
have a limited liability) in all other jurisdictions where the Partnership
desires to conduct business, including, but not limited to, filings under the
Fictitious Name Act, Assumed Name Act or similar law in effect in the counties,
parishes and other governmental jurisdictions in which the Partnership conducts
business. The General Partner shall not be required to deliver or mail a copy of
the certificate of limited partnership or any amendments thereto filed pursuant
to the Act to the Limited Partners.

 

1.6 Each Limited Partner by his or her execution of a counterpart of the
Subscription Agreement irrevocably constitutes and appoints the General Partner
such Limited Partner’s true and lawful attorney and agent, with full power and
authority in such Limited Partner’s name, place and stead, to execute, sign,
acknowledge, swear to, deliver, file and record in the appropriate public
offices (i) all certificates or other instruments (including, without
limitation, counterparts of this Agreement) and

 

A-3

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amendments thereto which the General Partner deems appropriate to qualify or
continue the Partnership as a limited partnership (or a partnership in which
special partners have limited liability) in the jurisdictions in which the
Partnership conducts business; (ii) all instruments and amendments thereto which
the General Partner deems appropriate to reflect any change or modification of
this Agreement, the admission of additional or substitute Partners in accordance
with the terms of this Agreement, the release or waiver of the Limited Partners
from the obligation to pay in one or more of the installments of their Capital
Subscriptions pursuant to Section 4.2 below and the termination of the
Partnership and the cancellation of the certificate of limited partnership;
(iii) all conveyances and other instruments which the General Partner deems
appropriate to evidence and reflect any sales or transfers, including sales or
transfers upon or in connection with the dissolution and termination of the
Partnership; and (iv) all consents to transfers of Partnership interests, to the
admission of substitute or additional Partners or to the withdrawal or reduction
of any Partner’s invested capital, to the extent that such actions are
authorized by the terms of this Agreement. The Power of Attorney granted herein
is irrevocable and is a power coupled with an interest and will survive the
death, disability, dissolution, bankruptcy, insolvency or incapacity of a
Limited Partner.

 

ARTICLE II

Definitions

 

2.1 Whenever used in this Agreement the following terms will have the meanings
described below:

 

(a) The “Additional Assessments” of the Limited Partners are those amounts, if
any, which they are required to pay into the capital of the Partnership pursuant
to Section 5.3 of this Agreement.

 

(b) An “affiliate” of another person is (1) any person directly or indirectly
owning, controlling or holding with power to vote 10% or more of the outstanding
voting securities of such other person; (2) any person 10% or more of whose
outstanding voting securities are directly or indirectly owned, controlled, or
held with power to vote, by such other person; (3) any person directly or
indirectly controlling, controlled by, or under common control with such other
person; (4) any officer, director, trustee or partner of such other person; and
(5) if such other person is an officer, director, trustee or partner, any
company for which such person acts in any such capacity.

 

(c) The “Aggregate Subscription” is the sum of the Capital Subscriptions of all
Limited Partners.

 

(d) The “Capital Contribution” of a Limited Partner is the amount of the Capital
Subscription actually paid in by him or her, or by any predecessor in interest,
to the capital of the Partnership, including any payments made by deductions
from salary. The “Capital Contribution” of the General Partner includes the
amounts contributed to the Partnership or paid by the General Partner or by any
Limited Partner whose Units are purchased by the General Partner including
purchases pursuant to Section 4.2 of this Agreement because of a default by such
Limited Partner in the payment of a subscription installment or pursuant to
Article XV of this Agreement, including payments made by deductions from the
salary of such Limited Partner.

 

(e) The “Capital Subscription” of a Limited Partner or his or her assignee
(including the General Partner where Units are transferred pursuant to Section
4.2 of this Agreement) is the amount specified in the Subscription Agreement
executed by such Limited Partner for payment by him or her to the capital of the
Partnership in accordance with the provisions of this Agreement, reduced by the
amount thereof from which the Limited Partner has been released by the General
Partner of his or her obligation to pay pursuant to Section 4.2 hereof.

 

A-4

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(f) “Drilling Costs” are those costs incurred in drilling, testing, completing
and equipping a Partnership Well to the point that it proves to be dry and is
abandoned or is ready to commence commercial production of oil or gas therefrom.

 

(g) “Effective Date” refers to the date on which the certificate evidencing
formation of the Partnership is filed with the Secretary of State of the State
of Oklahoma as required by the Act (54 Okla. Stat. 2001, Section 309).

 

(h) A “farm-out” is an agreement whereby the owner of an oil and gas property
agrees to assign such property, usually retaining some interest therein such as
an overriding royalty, a production payment, a net profits interest or a carried
working interest, subject in most cases, however, to the drilling of one or more
wells or other performance by the prospective assignee as a condition of the
assignment.

 

(i) The “General Partner’s Minimum Capital Contribution” is that amount equal to
the total of (i) all Partnership costs and expenses charged to its account from
the time of the formation of the Partnership through December 31, 2005, plus
(ii) the General Partner’s estimate of the total Leasehold Acquisition Costs and
Drilling Costs expected to be incurred by the Partnership subsequent to December
31, 2005, minus (iii) the amount, if any, of the unexpended Aggregate
Subscription at December 31, 2005.

 

(j) The “General Partner’s Percentage” is that percentage determined by dividing
the amount of the General Partner’s Minimum Capital Contribution by the total of
(i) the General Partner’s Minimum Capital Contribution plus (ii) the Aggregate
Subscription.

 

(k) “Leasehold Acquisition Costs” with respect to properties, if any, acquired
by the Partnership from non-affiliated parties mean the actual costs to the
Partnership of and in acquiring the properties, and, with respect to properties
acquired by the Partnership from the General Partner, UNIT or its affiliates,
are, without duplication, the sum of: (1) the prices paid by the General
Partner, UNIT or its affiliates in acquiring an oil and gas property, including
purchase option fees and charges, bonuses and penalties, if any; (2) title
insurance or examination costs, broker’s commissions, filing fees, recording
costs, transfer taxes, if any, and like charges incurred in connection with the
acquisition of such property; (3) a pro rata portion of the actual, necessary
and reasonable expenses of the General Partner, UNIT or its affiliates for
seismic and geophysical services; (4) rentals, shut-in royalties and ad valorem
taxes paid by the General Partner, UNIT or its affiliates with respect to such
property to the date of its transfer to the Partnership; (5) interest and points
actually incurred on funds used by the General Partner, UNIT or its affiliates
to acquire or maintain such property; and (6) such portion of the General
Partner’s, UNIT’s or its affiliates’ reasonable, necessary and actual expenses
for geological, engineering, drafting, accounting, legal and other like services
allocated to the acquisition, operations and maintenance of the property in
accordance with generally accepted industry practices, except for expenses in
connection with the past drilling of wells which are not producers of sufficient
quantities of oil or gas to make commercially reasonable their continued
operations, and provided that the costs and expenses enumerated in (4), (5) and
(6) above with respect to any particular property shall have been incurred not
more than thirty-six (36) months prior to the acquisition of such property by
the Partnership. In the event a fractional undivided interest in a property is
sold or transferred by the General Partner, UNIT or any affiliate to an
unaffiliated third party for an amount in excess of that portion of the original
cost of the property attributable to the transferred interest, the amount of
such excess shall not reduce or be offset against the amount of the Leasehold
Acquisition Costs attributable to any interest in the same property which is
transferred to the Partnership.

 

(l) “Limited Partners” are those persons who acquire Units in the Partnership
upon its formation and those transferees of Units who are accepted as
Substituted Limited Partners. The General Partner may also be a Limited Partner
if it subscribes for Units or if it subsequently acquires Units by (i) the
exercise by a Limited Partner of his or her right of presentment; (ii) a
purchase by the General Partner of the Units of a Limited Partner who defaults
in the payment of any subscription installment; or (iii) any other assignment or
transfer.

 

A-5

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

(m) The “Limited Partners’ Percentage” is that percentage determined by dividing
the amount of the Aggregate Subscription by the total of (i) the General
Partner’s Minimum Capital Contribution plus (ii) the Aggregate Subscription.

 

(n) “Normal Retirement” means retirement under the provision of a pension or
similar retirement plan adopted by the General Partner, UNIT or any subsidiary
with whom a Limited Partner is employed as in effect at the time of the
employee’s retirement.

 

(o) “Oil and gas properties” are oil and gas leasehold working interests, fee
interests, mineral interests, royalty interests, overriding royalty interests,
production payments, options or rights to lease or acquire such interests,
geophysical exploration permits and any tangible or intangible properties or
other rights incident thereto, whether real, personal or mixed.

 

(p) “Operating Expenses” are expenditures made and costs incurred in producing
and marketing oil or gas from completed wells, including, in addition to labor,
fuel, repairs, hauling, material, supplies, utility charges and other costs
incident to or necessary for the maintenance or operation of such wells or the
marketing of production therefrom, ad valorem, severance and other such taxes
(other than windfall profit taxes), insurance and casualty loss expense and
compensation to well operators or others for services rendered in conducting
such operations.

 

(q) The General Partner and the Limited Partners are sometimes collectively
referred to as the “Partners.”

 

(r) The “Partnership Properties” are oil and gas properties or interests therein
acquired by the Partnership or properties acquired by any partnership or joint
venture in which the Partnership is a partner or joint venturer, whether
acquired by purchase, option exercise or otherwise.

 

(s) “Partnership Revenue” refers to the Partnership’s gross revenues from all
sources, including interest income, proceeds from sales of production, the
Partnership’s share of revenues from partnerships or joint ventures of which it
is a member, sales or other dispositions of Partnership Properties or other
Partnership assets, provided that contributions to Partnership capital by the
Partners and the proceeds of any Partnership borrowings are specifically
excluded and dry-hole and bottom-hole contributions shall be treated as
reductions of the costs giving rise to the right to receive such contributions.

 

(t) “Partnership Wells” are any and all of the oil and gas wells in which the
Partnership has an interest, either directly or indirectly through any other
partnership or joint venture.

 

(u) “Productive properties” are oil and gas properties that have been tested by
drilling and determined to be capable of producing oil or gas in commercial
quantities.

 

(v) “Special Production and Marketing Costs” are costs and expenses that are not
normally and customarily incurred in connection with drilling, producing and
marketing operations, including without limitation, costs incurred in
constructing compressor plants, gasoline plants, gas gathering systems, natural
gas processing plants, pipeline systems and salt water disposal systems and
costs incurred in installing pressure maintenance and secondary or tertiary
production projects.

 

(w) “Subscription Agreement” refers to the form of Limited Partner Subscription
Agreement and Suitability Statement attached as Attachment I to this Agreement.

 

A-6

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(x) A “Substituted Limited Partner” is a transferee, donee, heir, legatee or
other recipient of all or any portion of a Limited Partner’s interest in the
Partnership with respect to whom all conditions and consents required to become
a Substituted Limited Partner under Article XIII have been satisfied and given.

 

(y) A “Unit” is a preformation unit of limited partnership interest of a Limited
Partner in the Partnership representing a Capital Subscription of One Thousand
Dollars ($1,000).

 

ARTICLE III

Purposes and Powers of the Partnership

 

3.1 The purposes of the Partnership will be to acquire productive oil and gas
properties and to explore for, produce, treat, transport and market oil, gas or
both, or products derived therefrom, anywhere in the United States. It is
contemplated that all or most of the Partnership’s operations will be conducted
as part of the operations of the General Partner and its affiliates, but the
Partnership may engage in operations on its own or in conjunction with
unaffiliated third parties. In accomplishing such purposes the Partnership may:

 

(a) acquire oil and gas properties, either alone or in conjunction with other
parties;

 

(b) conduct geological and geophysical investigations, including, without
limitation, seismic exploration, core drilling and other means and methods of
exploration;

 

(c) drill, equip, complete, rework, reequip, recomplete, plug back, deepen, plug
and abandon Partnership Wells as the General Partner deems advisable;

 

(d) acquire and dispose of tangible lease and well equipment for use or used in
connection with Partnership Wells;

 

(e) employ or retain such personnel and obtain such legal, accounting,
geological, geophysical, engineering and other professional services and advice
as the General Partner may deem advisable in the course of the Partnership’s
operations under this Agreement;

 

(f) either pay or elect not to pay delay rentals or shut-in royalties on
Partnership Properties as appropriate in the judgment of the General Partner, it
being understood that the General Partner will not be liable for failure to make
correct or timely payments of delay rentals or shut-in royalties if such failure
was due to any reason other than gross negligence or lack of good faith;

 

(g) make or give dry-hole or bottom-hole or other contributions of oil and gas
properties, money or both, to encourage drilling by others in the vicinity of or
on Partnership Properties;

 

(h) negotiate for and accept dry-hole, bottom-hole or other contributions of oil
and gas properties, cash or both, as consideration for the drilling of a
Partnership Well, with oil and gas properties so acquired, if any, to become
Partnership Properties;

 

(i) pay all ad valorem taxes levied or assessed against the Partnership
Properties, all taxes upon or measured by the production of oil or gas or other
hydrocarbons therefrom, and all other taxes (other than income taxes) directly
relating to operations conducted under this Agreement;

 

(j) enter into and operate pursuant to operating agreements with respect to
Partnership Properties naming either the General Partner, any of its affiliates
or a third party as operator, or enter into partnership agreements with third
parties whereby the Partnership may be either a general or a limited partner
(including any partnerships formed or sponsored by the General Partner or in
which the General Partner may also be a partner), which operating or partnership
agreements shall contain such terms, provisions and conditions as the General
Partner deems appropriate;

 

A-7

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

(k) execute all documents or instruments of any kind which the General Partner
deems appropriate for carrying out the purposes of the Partnership, including,
without limitation, unitization agreements, gasoline plant contracts, recycling
agreements and agreements relating to pressure maintenance and secondary or
tertiary production projects;

 

(l) purchase and establish inventories of equipment and material required or
expected to be required in connection with its operations;

 

(m) contract or enter into agreements with unaffiliated third parties, the
General Partner or its affiliates for the performance of services and the
purchase and sale of material, equipment, supplies and property, both real and
personal, provided, however, that any such contracts or agreements with the
General Partner or any of its affiliates shall, except as otherwise provided
herein, provide for prices, fees, rates, charges or other compensation which are
not greater than those available from, being paid to or charged by unaffiliated
third parties dealing at arm’s length in the same or a similar geographic area
for the same or comparable services, material, equipment, supplies or property;

 

(n) conduct operations either alone or as a joint venturer, co-tenant, partner
or in any other manner of participation with third persons and to enter into
agreements and contracts setting forth the terms and provisions of such
participation;

 

(o) borrow money from banks and other lending institutions for Partnership
purposes and pledge Partnership Properties (including production therefrom) for
the repayment of such loans, it being understood that no bank or other lending
institution to which the General Partner makes application for a loan will be
required to inquire as to the purposes for which such loan is sought, and as
between the Partnership and such bank or lending institution it will be
conclusively presumed that the proceeds of such loan are to be and will be used
for purposes authorized under the terms of this Agreement;

 

(p) hold Partnership Properties in its own name or in the name of the General
Partner, UNIT or any affiliate or any other party as nominee for the
Partnership;

 

(q) sell, relinquish, release, farm-out, abandon or otherwise dispose of
Partnership Properties, including undeveloped, productive and condemned
properties;

 

(r) produce, treat, transport and market oil and gas and execute division
orders, contracts for the marketing or sale of oil, gas or other hydrocarbons
and other marketing agreements;

 

(s) purchase, sell or pledge payments out of production from Partnership
Properties; and

 

(t) perform any and all other acts or activities customary or incident to
exploration for or development, production and marketing of oil and gas.

 

ARTICLE IV

Partner Capital Contributions

 

4.1 The General Partner will have the unrestricted right to admit such parties
as Limited Partners as it deems advisable. By their execution of the
Subscription Agreement, the Limited Partners severally agree, subject to the
acceptance of their subscription by the General Partner, to be bound by the
terms hereof as Limited Partners.

 

A-8

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4.2 The Capital Subscriptions of the Limited Partners will be payable either (i)
in four equal installments on March 15, 2005, June 15, 2005, September 15, 2005,
and December 15, 2005, respectively, or (ii) by employees so electing, through
equal deductions from 2005 salary paid to the employee by the General Partner,
UNIT or its subsidiaries commencing immediately after the Effective Date.
Notwithstanding the foregoing, if in the judgment of the General Partner, the
entire amount of the Aggregate Subscription is not required for purposes of
conducting the business, operations and affairs of the Partnership, the General
Partner may, at its sole option, elect to release the Limited Partners from the
obligation to pay in one or more of the installments of their Capital
Subscriptions. If Units are acquired by a corporation or other entity, the
beneficial owners of the interests therein shall be jointly and severally liable
for the payment of the Capital Subscription. If an employee or director who has
subscribed for Units (either directly or through a corporation or other entity)
ceases to be employed by or a director of the General Partner, UNIT or any of
its subsidiaries for any reason other than death, disability or Normal
Retirement prior to the time the full amount of his or her Capital Subscription
is paid, then the due date for any unpaid amount shall be accelerated so that
the full amount of his or her unpaid Capital Subscription shall be due and
payable on the effective date of such termination. The Capital Subscriptions
shall be legally binding obligations of the Limited Partners and any past due
amounts shall bear interest at the annual rate equal to two (2) percentage
points in excess of the prime rate of interest of Bank of Oklahoma, N.A., Tulsa,
Oklahoma, or successor bank, as announced and in effect from time to time, until
paid. Further, in the event a Limited Partner fails to pay any installment when
due, the General Partner, at its sole option and discretion, may elect to
purchase the Units of such defaulting Limited Partner at a price equal to the
total amount of the Capital Contributions actually paid into the Partnership by
such defaulting Limited Partner, less the amount of any Partnership
distributions that may have been received by him or her. Such option may be
exercised by the General Partner by written notice to the Limited Partner at any
time after the date that the unpaid installment was due and shall be deemed
exercised when the amount of the purchase price is first tendered to the
defaulting Limited Partner. The General Partner may, in its discretion, accept
payments of delinquent installments but shall not be required to do so. In the
event that the General Partner elects to purchase the Units of a defaulting
Limited Partner, it shall pay into the Partnership the amount of the delinquent
installment (excluding any interest that may have accrued thereon) and shall pay
each additional installment, if any, payable with respect to such Units as it
becomes due. By virtue of such purchase, the General Partner shall be allocated
all Partnership Revenues and be charged with all Partnership costs and expenses
attributable to such Units otherwise allocable or chargeable to the defaulting
Limited Partner to the extent provided in Section 13.9.

 

4.3 If the Partnership requires funds to conduct Partnership operations during
the period between any of the installments due as set forth in Section 4.2
above, then, notwithstanding the provisions of Section 5.4 below, the General
Partner shall advance funds to the Partnership in an amount equal to the funds
then required to conduct such operations but in no event more than the total
amount of the Aggregate Subscription remaining unpaid. With respect to any such
advances, the General Partner shall receive no interest thereon and no financing
charges will be levied by the General Partner in connection therewith. The
General Partner shall be repaid out of the Capital Subscription installments
thereafter paid into the capital of the Partnership when due.

 

4.4 Additional Assessments required by the General Partner pursuant to Section
5.3 of this Agreement will be payable in cash on such date as the General
Partner may set in its written notice, but in no event will such assessments be
due earlier than thirty (30) days after the date of mailing of the notice.
Notice of the General Partner’s call for Additional Assessments shall specify
the amount required, the manner in which the additional funds will be expended,
the date on which such amounts are payable, and the consequences of non-payment.
The General Partner will not be required to accept late payments of such
amounts, but it may in its discretion do so.

 

A-9

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4.5 The General Partner will contribute to the capital of the Partnership
amounts equal to the total of all costs paid by the Partnership that are charged
to the General Partner’s account as such costs are incurred.

 

ARTICLE V

Deposit and Use of Capital Contributions and

Other Partnership Funds

 

5.1 Until required in the conduct of the Partnership’s business, Partnership
funds, including, but not limited to, Capital Contributions, Partnership Revenue
and proceeds of borrowings by the Partnership, will be deposited, with or
without interest, in one or more bank accounts of the Partnership in a bank or
banks selected by the General Partner or invested in short-term United States
government securities, money market funds, bank certificates of deposit or
commercial paper rated as “A1” or “P1” as the General Partner, in its sole
discretion, deems advisable. Any interest or other income generated by such
deposits or investments will be for the Partnership’s account. Except for
Capital Contributions, Partnership funds from any of the various sources
mentioned above may be commingled with other Partnership funds and with the
funds of the General Partner and may be withdrawn, expended and distributed as
authorized by the terms and provisions of this Agreement.

 

5.2 The Capital Contributions of the Limited Partners will be expended for costs
incurred by the Partnership that, in accordance with the terms of this
Agreement, are properly chargeable to the Limited Partners’ accounts.

 

5.3 After the General Partner’s Minimum Capital Contribution has been fully
expended, if the Aggregate Subscription has all been fully expended or committed
and additional funds are required in order to pay Drilling Costs, Special
Production and Marketing Costs or Leasehold Acquisition Costs of productive
properties which are chargeable to the Limited Partners, the General Partner
may, but shall not be required to, make one or more calls for Additional
Assessments from Limited Partners pursuant to Section 4.4; provided, however,
that the aggregate amount of Additional Assessments called of the Limited
Partners may not exceed $100 per Unit. The Limited Partners who do not respond
will participate in production, if any, obtained from the aggregate Additional
Assessments paid into the Partnership. However, the amount of the unpaid
Additional Assessment shall bear interest at the annual rate equal to two (2)
percentage points in excess of the prime rate of interest of Bank of Oklahoma,
N.A., Tulsa, Oklahoma, or successor bank, as announced and in effect from time
to time, until paid. The Partnership will have a lien on the defaulting Limited
Partner’s interest in the Partnership and the General Partner may apply
Partnership Revenue otherwise available for distribution to the defaulting
Limited Partner until an amount equal to the unpaid Additional Assessment and
interest is received. Furthermore, the General Partner may satisfy such lien by
proceeding with legal action to enforce the lien and the defaulting Limited
Partner shall pay all expenses of collection, including interest, court costs
and a reasonable attorney’s fee.

 

5.4 After the General Partner’s Minimum Capital Contribution has been fully
expended, the General Partner may cause the Partnership to borrow funds for the
purpose of paying Drilling Costs, Special Production and Marketing Costs or
Leasehold Acquisition Costs of productive properties, which borrowings may be
secured by interests in the Partnership Properties and will be repaid, including
interest accruing thereon, out of Partnership Revenue allocable to the accounts
of the Partners on whose behalf the proceeds of such borrowings are expended.
The General Partner may, but is not required to, advance funds to the
Partnership for the same purposes for which Partnership borrowings are
authorized by this Section 5.4. With respect to any such advances, the General
Partner shall receive interest in an amount equal to the lesser of the interest
which would be charged to the Partnership by unrelated banks on comparable loans
for the same purpose or the General Partner’s interest cost with respect to such
loan, where it borrows the same. No financing charges will be levied by the
General Partner in connection with any such loan. If Partnership borrowings
secured by interests in the Partnership Properties and repayable

 

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out of Partnership Revenue cannot be arranged on a basis which, in the opinion
of the General Partner, is fair and reasonable, and the entire sum required to
pay costs of the type referred to above is not available from Partnership
Revenue, the Partnership may elect not to drill or participate in the drilling
of a well or the General Partner may dispose of the Partnership Properties upon
which such operations were to be conducted by sale (subject to any other
applicable provisions of this Agreement), farm-out or abandonment.

 

5.5 The General Partner may utilize Partnership Revenue allocable to the
respective accounts of the Partners to pay any Partnership costs and expenses
properly chargeable to the accounts of such Partners.

 

5.6 With respect to any Partnership activity and subject to the restrictions set
forth in Sections 5.3 and 5.4 above, it shall be in the sole discretion of the
General Partner whether to call for Additional Assessments, arrange for
borrowings on behalf of the Partners, utilize Partnership Revenue or sell
(subject to any other applicable provisions of this Agreement), farm-out or
abandon Partnership Properties.

 

5.7 The Partnership Properties and production therefrom may be pledged,
mortgaged or otherwise encumbered as security for borrowings by the Partnership
authorized by Section 5.4 above, provided that the holder of indebtedness
arising by virtue of such borrowings may not have or acquire, at any time as a
result of making any such loans, any direct or indirect interest in the profits,
capital or property of the Partnership other than as a secured creditor.

 

ARTICLE VI

Sharing of Costs, Capital Accounts and

Allocation of Charges and Income

 

6.1 All costs of organizing the Partnership and offering Units therein will be
paid by the General Partner. All costs incurred in the offering and syndication
of any drilling or income program formed by UPC or UNIT and its affiliates
during 2005 in which the Partnership participates as a co-general partner will
also be paid by the General Partner.

 

6.2 All other Partnership costs and expenses will be charged 99% to the accounts
of the Limited Partners and 1% to the account of the General Partner until such
time as the Aggregate Subscription has been fully expended. Thereafter and until
the General Partner’s Minimum Capital Contribution has been fully expended, all
of such costs and expenses will be charged to the General Partner. After the
General Partner’s Minimum Capital Contribution has been fully expended, such
costs and expenses will be charged to the respective accounts of the General
Partner and the Limited Partners on the basis of their respective Percentages.

 

6.3 All Partnership Revenues will be allocated between the General Partner and
the Limited Partners on the basis of their respective Percentages.

 

6.4 Partnership costs, expenses and Revenues which are charged and allocated to
the Limited Partners shall be charged and allocated to their respective accounts
in the proportion the Units of each Limited Partner bear to the total number of
outstanding Units.

 

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6.5 Capital accounts shall be established and maintained for each Partner in
accordance with tax accounting principles and with valid regulations issued by
the U.S. Treasury Department under subsection 704(b) (the “704 Regulations”) of
the Internal Revenue Code of 1986, as amended (the “Code”). To the extent that
tax accounting principles and the 704 Regulations may conflict, the latter shall
control. In connection with the establishment and maintenance of such capital
accounts, the following provisions shall apply:

 

(a) Each Partner’s capital account shall be (i) increased by the amount of money
contributed by him or her to the Partnership, the fair market value of property
contributed by him or her to the Partnership (net of liabilities securing such
contributed property that the Partnership is considered to assume or take
subject to under section 752 of the Code) and allocations to him or her of
Partnership income and gain (except to the extent such income or gain has
previously been reflected in his or her capital account by adjustments thereto)
and (ii) decreased by the amount of money distributed to him or her by the
Partnership, the fair market value of property distributed to him or her by the
Partnership (net of liabilities securing such distributed property that such
Partner is considered to assume or take subject to under section 752 of the
Code) and allocations to him or her of Partnership loss, deduction (except to
the extent such loss or deduction has previously been reflected in his or her
capital account by adjustments thereto) and expenditures described in section
705(a)(2)(B) of the Code.

 

(b) In the event Partnership Property is distributed to a Partner, then, before
the capital account of such Partner is adjusted as required by subsection (a) of
this Section 6.5, the capital accounts of the Partners shall be adjusted to
reflect the manner in which the unrealized income, gain, loss and deduction
inherent in such property (that has not been reflected in such capital accounts
previously) would be allocated among the Partners if there were a taxable
disposition of such property for its fair market value on the date of
distribution.

 

(c) If, pursuant to this Agreement, Partnership Property is reflected on the
books of the Partnership at a book value that differs from the adjusted tax
basis of such property, then the Partners’ capital accounts shall be adjusted in
accordance with the 704 Regulations for allocations to the Partners of
depreciation, depletion, amortization, and gain or loss, as computed for book
purposes, with respect to such property.

 

(d) The Partners’ capital accounts shall be adjusted for depletion and gain or
loss with respect to the Partnership’s oil or gas properties in whichever of the
following manners the General Partner determines is in the best interests of the
Partners:

 

(i) the Partners’ capital accounts shall be reduced by a simulated depletion
allowance computed on each oil or gas property using either the cost depletion
method or the percentage depletion method (without regard to the limitations
under the Code which could apply to less than all Partners); provided, however,
that the choice between the cost depletion method and the simulated depletion
method shall be made on a property-by-property basis in the first taxable year
of the Partnership for which such choice is relevant for an oil or gas property,
and such choice shall be binding for all Partnership taxable years during which
such oil or gas property is held by the Partnership. Such reductions for
depletion shall not exceed the aggregate adjusted basis allocated to the
Partners with respect to such oil or gas property. Such reductions for depletion
shall be allocated among the Partners’ capital accounts in the same proportions
as the adjusted basis in the particular property is allocated to each Partner.
Upon the taxable disposition of an oil or gas property by the Partnership, the
Partnership’s simulated gain or loss shall be determined by subtracting its
simulated adjusted basis (aggregate adjusted tax basis of the Partners less
simulated depletion allowances) in such property from the amount realized on
such disposition and the Partners’ capital accounts shall be increased or
reduced, as the case may be, by the amount of the simulated gain or loss on such
disposition in proportion to the Partners’ allocable shares of the total amount
realized on such disposition, or

 

(ii) the Partnership shall reduce the capital account of each Partner in an
amount equal to such Partner’s depletion allowance with respect to each oil or
gas property of the Partnership (for the Partner’s taxable year that ends within
the Partnership’s taxable year), but such reductions for depletion shall not
exceed the adjusted basis allocated to such

 

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Partner with respect to such property. Upon the taxable disposition of an oil or
gas property by the Partnership, the capital account of each Partner shall be
reduced or increased, as the case may be, by the amount of the difference
between such Partner’s allocable share of the total amount realized on such
disposition and such Partner’s remaining adjusted tax basis in such property.

 

(e) For purposes of determining the capital account balance of any Partner as of
the end of any Partnership taxable year for purposes of Subsection 6.6(f)
hereof, such Partner’s capital account shall be reduced by:

 

(i) adjustments that, as of the end of such year, reasonably are expected to be
made to such Partner’s capital account pursuant to paragraph (b)(2)(iv)(k) of
the 704 Regulations for depletion allowances with respect to oil and gas
properties of the Partnership,

 

(ii) allocations of loss and deduction that, as of the end of such year,
reasonably are expected to be made to such Partner pursuant to Code section
704(e)(2), Code section 706(d), and paragraph (b)(2)(ii) of section 1.751-1 of
regulations promulgated under the Code, and

 

(iii) distributions that, as of the end of such year, reasonably are expected to
be made to such Partner to the extent they exceed offsetting increases to such
Partner’s capital account that reasonably are expected to occur during (or prior
to) the Partnership taxable years in which such distributions reasonably are
expected to be made.

 

6.6 With respect to the various allocations of Partnership income, gain, loss,
deduction and credit for federal income tax purposes, it is hereby agreed as
follows:

 

(a) To the extent permitted by law, all charges, deductions and losses shall be
allocated for federal income tax purposes in the same manner as the costs in
respect of which such charges, deductions and losses are charged to the
respective accounts of the Partners. The Partners bearing the costs shall be
entitled to the deductions (including, without limitation, cost recovery
allowances, depreciation and cost depletion) and credits that are attributable
to such costs.

 

(b) The Partnership shall allocate to each Partner his or her portion of the
adjusted basis in each depletable Partnership Property as required by Section
613A(c)(7)(D) of the Code based upon the interest of said Partner in the capital
of the Partnership as of the time of the acquisition of such Partnership
Property. To the extent permitted by the Code, such allocation shall be based
upon said Partner’s interest (i) in the Partnership capital used to acquire the
property, or (ii) in the adjusted basis of the property if it is contributed to
the Partnership. If such allocation of basis is not permitted under the Code,
then basis will be allocated in the permissible manner which the General Partner
deems will most closely achieve the result intended above.

 

(c) Partnership Revenue shall be allocated for federal income tax purposes in
the same manner as it is allocated to the respective accounts of the Partners
pursuant to Sections 6.3 and 6.4 above.

 

(d) Depreciation or cost recovery allowance recapture and recapture of
intangible drilling and development costs, if any, due as a result of sales or
dispositions of assets shall be allocated in the same proportion that the
depreciation, cost recovery allowances or intangible drilling and development
costs being recaptured were allocated.

 

(e) Notwithstanding anything to the contrary stated herein,

 

(i) there shall be allocated first to other Limited Partners and then to the
General Partner any item of loss, deduction, credit or allowance that, but for
this Subsection 6.6(e), would have been allocated to any Limited Partner that is
not obligated to restore

 

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any deficit balance in such Limited Partner’s capital account and would have
thereupon caused or increased a deficit balance in such Limited Partner’s
capital account as of the end of the Partnership’s taxable year to which such
allocation related (after taking into consideration the numbered items specified
in Subsection 6.5(e) hereof);

 

(ii) any Limited Partner that is not obligated to restore any deficit balance in
such Limited Partner’s capital account who unexpectedly receives an adjustment,
allocation or distribution specified in Subsection 6.5(e) hereof shall be
allocated items of income and gain in an amount and manner sufficient to
eliminate such deficit balance as quickly as possible; and

 

(iii) in the event any allocations of loss, deduction, credit or allowance are
made to a Limited Partner or the General Partner pursuant to clause (i) of this
Subsection 6.6(e), then such Limited Partner and/or the General Partner shall be
subsequently allocated all items of income and gain pro rata as they were
allocated the item(s) of loss, deduction, credit or allowance under such clause
(i) until the aggregate amount of such allocations of income and gain is equal
to the aggregate amount of any such allocations of loss, deduction, credit or
allowance allocated to such Partner(s) pursuant to clause (i) of this Subsection
6.6(e).

 

(f) Notwithstanding any other provision of this Agreement, if, under any
provision of this Agreement, the capital account of any Partner is adjusted to
reflect the difference between the basis to the Partnership of Partnership
Property and such property’s fair market value, then all items of income, gain,
loss and deduction with respect to such property shall be allocated among the
Partners so as to take account of the variation between the basis of such
property and its fair market value at the time of the adjustment to such
Partner’s capital account in accordance with the requirements of subsection
704(c) of the Code, or in the same manner as provided under subsection 704(c) of
the Code.

 

6.7 Notwithstanding anything to the contrary that may be expressed or implied in
this Agreement, the interest of the General Partner in each material item of
Partnership income, gain, loss, deduction or credit shall be equal to at least
one percent of each such item at all times during the existence of the
Partnership. In determining the General Partner’s interest in such items, Units
owned by the General Partner shall not be taken into account.

 

6.8 Except as provided in subsections (a) through (d) of this Section 6.8, in
the case of a change in a Partner’s interest in the Partnership during a taxable
year of the Partnership, all Partnership income, gain, loss, deduction or credit
allocable to the Partners shall be allocated to the persons who were Partners
during the period to which such item is attributable in accordance with the
Partners’ interests in the Partnership during such period regardless of when
such item is paid or received by the Partnership.

 

(a) With respect to certain “allocable cash basis items” (as such term is
defined in the Code) of Partnership Revenue, gain, loss, deduction or credit,
if, during any taxable year of the Partnership there is change in any Partner’s
interest in the Partnership, then, except to the extent provided in regulations
prescribed under Section 706 of the Code, each Partner’s allocable share of any
“allocable cash basis item” shall be determined by (i) assigning the appropriate
portion of each such item to each day in the period to which it is attributable,
and (ii) allocating the portion assigned to any such day among the Partners in
proportion to their interests in the Partnership at the close of such day.

 

(b) If, by adhering to the method of allocation described in the immediately
preceding subsection of this Section 6.8, a portion of any “allocable cash basis
item” is attributable to any period before the beginning of the Partnership
taxable year in which such item is received or paid, such portion shall be (i)
assigned to the first day of the taxable year in which it is received or paid,
and (ii) allocated among the persons who were Partners in the Partnership during
the period to which such portion is attributable in accordance with their
interests in the Partnership during such period.

 

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(c) If any portion of any “allocable cash basis item” paid or received by the
Partnership in a taxable year is attributable to a period after the close of
that taxable year, such portion shall be (i) assigned to the last day of the
taxable year in which it is paid or received, and (ii) allocated among the
persons who are Partners in proportion to their interests in the Partnership at
the close of such day.

 

(d) If any deduction is allocated to a person with respect to an “allocable cash
basis item” attributable to a period before the beginning of the Partnership
taxable year and such person is not a Partner of the Partnership on the first
day of the Partnership taxable year, such deduction shall be capitalized by the
Partnership and treated in the manner provided for in Section 755 of the Code.

 

ARTICLE VII

Fiscal Year, Accountings and Reports

 

7.1 Unless the Code requires otherwise, the fiscal year of the Partnership will
be the calendar year and the books of the Partnership will be kept in accordance
with usual and customary accounting practices on the accrual method.

 

7.2 Within sixty (60) days after the end of each quarter of each Partnership
fiscal year, each person who was a Limited Partner during such period will be
furnished a report setting forth the source and disposition of Partnership funds
during the quarter.

 

7.3 Not later than the end of the fiscal year in which all Partnership Wells are
drilled and completed, and sufficient production history has been obtained on
Partnership Wells to evaluate properly the reserves attributable thereto, the
General Partner will make an evaluation of Partnership Properties as of the last
day of such fiscal year. The report shall include an estimate of the total oil
and gas proven reserves of the Partnership and the dollar value thereof and the
value of the Limited Partner’s interest in such reserve value. It shall also
contain an estimate of the present worth of the reserves. Each Limited Partner
will receive a summary statement of such report reflecting the Limited Partners’
interest in such reserve value.

 

ARTICLE VIII

Tax Returns and Elections

 

8.1 Unless the Code requires otherwise, the General Partner will cause the
Partnership to elect the calendar year as its taxable year and will timely file
all Partnership income tax returns required to be filed by the jurisdictions in
which the Partnership conducts business or derives income. By March 15 of each
year or as soon thereafter as practicable, the General Partner will furnish all
available information necessary for inclusion in the income tax returns of each
person who was a Limited Partner during the prior fiscal year. The General
Partner shall be the “Tax Matters Partner” for the Partnership pursuant to the
provisions of Section 6231 of the Code subject to the provisions of Section
10.22 below.

 

8.2 The Partnership will elect to deduct intangible drilling and development
costs currently as an expense for income tax purposes and will elect to use the
available depreciation method which, in the General Partner’s judgment, is in
the best interest of the Partners.

 

8.3 The General Partner shall have the right in its sole discretion at any time
to make or not to make such other elections as are authorized or permitted by
any law or regulation for income tax purposes (including any election under
Section 754 of the Code).

 

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ARTICLE IX

Distributions

 

9.1 The Partnership’s available cash will be distributed to the Limited Partners
and the General Partner in the same proportions that Partnership Revenue has
been allocated to them after giving effect to previous distributions and to
portions of such revenue theretofore used or retained to pay costs incurred or
expected to be incurred in conducting Partnership operations or to repay
borrowings theretofore or expected to be thereafter obtained by the Partnership.
Within forty-five (45) days after the end of each calendar quarter, the General
Partner will determine the amount of cash available for distribution to the
Limited Partners and will distribute such amount, if any, as promptly thereafter
as reasonably possible. Distributions of cash to the General Partner may be at
any time the General Partner determines there is cash available therefor. The
General Partner’s determination of the cash available for distribution will be
conclusive and binding upon all Partners. All Partnership funds distributed to
the Limited Partners shall be distributed to the persons who were record holders
of Units on the day on which the distribution is made.

 

ARTICLE X

Rights, Duties and Obligations of the General Partner

 

10.1 Subject to the limitations of this Agreement, the General Partner will have
full, exclusive and complete discretion in the management and control of the
business of the Partnership and will make all decisions affecting its business
and affairs or the Partnership Properties. The General Partner will have,
subject to the provisions of this Article X, full power and authority to take
any action described in Article III above and execute and deliver in the name of
and on behalf of the Partnership such documents or instruments as the General
Partner deems appropriate for the conduct of Partnership business. No person,
firm or corporation dealing with the Partnership will be required to inquire
into the authority of the General Partner to take any action or make any
decision.

 

10.2 The General Partner will perform the duties imposed upon it under this
Agreement in an efficient and businesslike manner with due caution and in
accordance with established practices of the oil and gas industry, but the
General Partner shall not be liable, responsible or accountable in damages or
otherwise to the Partnership or any of the Partners for, and the Partnership
shall indemnify, defend against and save harmless the General Partner, from any
expense (including attorneys’ fees), loss or damage incurred by reason of any
act or omission performed or omitted in good faith on behalf of the Partnership
or the Partners, and in a manner reasonably believed by the General Partner to
be within the scope of the authority granted by this Agreement and in the best
interests of the Partnership or the Partners, provided that the General Partner
is not guilty of gross negligence or willful misconduct with respect to such
acts or omissions, and further provided that the satisfaction of any
indemnification and any saving harmless shall be from and limited to Partnership
assets including insurance proceeds, if any, and no Partner shall have any
personal liability on account thereof. For purposes of this Section 10.2 only,
the term General Partner includes the General Partner, affiliates of the General
Partner and any officer, director or employee of the General Partner or any of
its affiliates such that all of such parties are covered by the indemnities
provided herein.

 

10.3 The General Partner will utilize its organization and employees and will
hire outside consultants for the Partnership as necessary in order to provide
experienced, qualified and competent personnel to conduct the Partnership’s
business. With certain limited exceptions it is the intent of the Partners that
the Partnership participate as a co-general partner of any oil and gas drilling
or income programs, or both, formed by the General Partner or UNIT for third
party investors during 2005 and to participate on a proportionate working
interest basis in each producing oil and gas lease acquired and in the drilling
of each oil and gas well commenced by the General Partner or UNIT for its own
account during the period from the later of January 1, 2005 or the Effective
Date through December 31, 2005 (except for wells, if any, (i) drilled outside of
the 48 contiguous United States; (ii) drilled as part of

 

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secondary or tertiary recovery operations which were in existence prior to the
formation of the Partnership; (iii) drilled by third parties under farm-out or
similar arrangements with the General Partner or UNIT or whereby the General
Partner or UNIT may be entitled to an overriding royalty, reversionary or other
similar interest in the production from such wells but is not obligated to pay
any of the Drilling Costs thereof; (iv) acquired by UNIT or the General Partner
through the acquisition by UNIT or the General Partner of, or merger of UNIT or
the General Partner with, other companies; or (v) with respect to which the
General Partner does not believe that the potential economic return therefrom
justifies the costs of participation by the Partnership).

 

10.4 The General Partner, UNIT or any affiliate thereof will transfer to the
Partnership interests in oil and gas properties comprising the spacing unit on
which a Partnership Well is located or is to be drilled for the separate account
of the Partnership, provided that no broker’s commissions or fees of a similar
nature will be paid in connection with any such transfer and the consideration
paid by the Partnership will be equal to the Leasehold Acquisition Costs of the
property so transferred. If the size of a spacing unit on which a Partnership
Well is located is ever reduced or increased well density is permitted thereon,
the Partnership will not be entitled to any reimbursement or recoupment of any
portion of the Leasehold Acquisition Costs paid with respect thereto
notwithstanding the provisions of Section 10.7 below.

 

10.5 With respect to certain transactions involving Partnership Properties, it
is hereby agreed as follows:

 

(a) A sale, transfer or conveyance by the General Partner or any affiliate of
less than its entire interest in such property is prohibited unless (i) the
interest retained by the General Partner or its affiliate is a proportionate
working interest, (ii) the respective obligations of the General Partner or its
affiliate and the Partnership are substantially the same proportionately as
those of the General Partner or its affiliate at the time it acquired the
property and (iii) the Partnership’s interest in revenues will not be less than
the proportionate interest therein of the General Partner or its affiliate when
it acquired the property. The General Partner or its affiliate may retain the
remaining interest for its own account or it may sell, transfer, farm-out or
otherwise convey all or a portion of such remaining interest to non-affiliated
industry members. In connection with any such sale, transfer, farm-out or other
conveyance of such interest to non-affiliated industry members, which may occur
either before or after the transfer of the interests in the same properties to
the Partnership, the General Partner or its affiliate may realize a profit on
the interests or may be carried to some extent with respect to its cost
obligations in connection with any drilling on such properties and any such
profit or interest will be strictly for the account of the General Partner and
the Partnership will have no claim with respect thereto.

 

(b) The General Partner or its affiliates may not retain any overrides or other
burdens on property conveyed to the Partnership (other than overriding royalty
interests granted to geologists and other persons employed or retained by the
General Partner or its affiliates).

 

10.6 The General Partner will cause the Partnership Properties to be acquired in
accordance with the customs of the oil and gas industry in the area. The
Partnership will be required to do only such title work with respect to its oil
and gas properties as the General Partner in its sole judgment deems appropriate
in light of the area, any applicable drilling or expiration dates and any other
material factors.

 

10.7 Partnership Properties shall be transferred to the Partnership after the
decision to acquire a productive property or the commitment to drill a
Partnership Well thereon has been made. The Partnership shall acquire interests
in only those properties of the General Partner or UNIT which comprise the
spacing unit on which the Partnership Well is drilled or on which a producing
Partnership Well is located. If a spacing unit on which a Partnership Well is
drilled or located is ever reduced, or any subsequent well in which the
Partnership has no interest is drilled thereon, the Partnership will have no
interest in any such subsequent or additional wells drilled on properties which
were a part of the original spacing unit unless any such additional well is
commenced during 2005 or is drilled by a drilling or

 

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income program of which the Partnership is a partner. Likewise if UNIT, UPC or
any affiliate, including any oil and gas partnership subsequently formed for
investment or participation by employees, directors and/or consultants of UNIT
or any of its subsidiaries, acquires additional interests in Partnership Wells
after 2005 the Partnership generally will not be entitled to participate in the
acquisition of such additional interests. In addition, if a Partnership Well
drilled on a spacing unit is dry or abandoned, the Partnership will not have an
interest in any subsequent or additional well drilled on the spacing unit unless
it is commenced during 2005 or is drilled by a drilling or income program of
which the Partnership is a partner.

 

10.8 The General Partner, UNIT or its affiliates will either conduct the
Partnership’s drilling and production operations and operate each Partnership
Well or arrange for a third party operator to conduct such operations. The
General Partner will, on behalf of the Partnership, enter into appropriate
operating agreements with other owners of Partnership Wells authorizing the
General Partner, its affiliates or a third party operator to conduct such
operations. The Partnership will take such action in connection with operations
pursuant to said operating agreements as the General Partner, in its sole
discretion, deems appropriate and in the best interests of the Partnership, and
the decision of the General Partner with respect thereto will be binding upon
the Partnership.

 

10.9 The General Partner will cause the Partnership to plug and abandon its dry
holes and abandoned wells in accordance with rules and regulations of the
governmental regulatory body having jurisdiction.

 

10.10 The General Partner may pool or unitize Partnership Properties with other
oil and gas properties when such pooling or unitization is required by a
governmental regulatory body, when well spacing as determined by any such body
requires such pooling or unitization, or when, in the General Partner’s opinion,
such pooling or unitization is in the best interests of the Partnership.

 

10.11 The General Partner will have authority to make and enter into contracts
for the sale of the Partnership’s share of oil or gas production from
Partnership Wells, including contracts for the sale of such production to the
General Partner, UNIT or its affiliates; provided, however, that the production
purchased by the General Partner, UNIT or any of its affiliates will be for
prices which are not less than the highest posted price (in the case of crude
oil production) or prevailing price (in the case of natural gas production) in
the same field or area.

 

10.12 The General Partner will use its best efforts to procure and maintain for
the Partnership, and at its expense, such insurance coverage with responsible
companies as may be reasonably available for such premium costs as would not be
considered to be unreasonably high or prohibitive with respect to each item of
coverage and as the General Partner considers necessary for the protection of
the Partnership and the Partners. The coverage will be in such amounts and will
cover such risks as the General Partner believes warranted by the operations
conducted hereunder. Such risks may include but will not necessarily be limited
to public liability and automobile liability, each covering bodily injury, death
and property damage, workmen’s compensation and employer’s liability insurance
and blowout and control of well insurance.

 

10.13 In order to conduct properly the business of the Partnership, and in order
to keep the Partners properly informed, the General Partner will:

 

(a) maintain adequate records and files identifying the Partnership Properties
and containing all pertinent information in regard thereto that is obtained or
developed pursuant to this Agreement;

 

(b) maintain a complete and accurate record of the acquisition and disposition
of each Partnership Property;

 

 

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(c) maintain appropriate books and records reflecting the Partnership’s revenue
and expense and each Partner’s participation therein;

 

(d) maintain a capital account for each Partner with appropriate records as
necessary in order to reflect each Partner’s interest in the Partnership and
furnish required tax information; and

 

(e) keep the Limited Partners informed by means of written reports on the
acquisition of Partnership Properties and the progress of the business and
operations of the Partnership, which reports will be rendered semi-annually and
at such more frequent intervals during the progress of Partnership operations as
the General Partner deems appropriate.

 

10.14 The General Partner, UNIT and the officers, directors, employees and
affiliates thereof may own, purchase or otherwise acquire and deal in oil and
gas properties, drill wells, conduct operations and otherwise engage in any
aspect of the oil and gas business, either for their own accounts or for the
accounts of others. Each Limited Partner hereby agrees that engaging in any
activity permitted by this Section 10.14 will not be considered a breach of any
duty that the General Partner, UNIT or the officers, directors, employees and
affiliates thereof may have to the Partnership or the Limited Partners, and that
the Partnership and the Limited Partners will not have any interest in any
properties acquired or profits which may be realized with respect to any such
activity.

 

10.15 Subject to Section 12.1, without the prior consent of Limited Partners
holding a majority of the outstanding Units, the General Partner will not (i)
make, execute or deliver any assignment for the benefit of the Partnership’s
creditors; or (ii) contract to sell all or substantially all of the Partnership
Properties (except as permitted by Sections 10.23 and 16.4(b)).

 

10.16 In contracting for services to and insurance coverage for the Partnership
and its activities and operations, and in acquiring material, equipment and
personal property on behalf of the Partnership, the General Partner will use its
best efforts to obtain such services, insurance, material, equipment and
personal property at prices no less favorable than those normally charged in the
same or in comparable geographic areas by non-affiliated persons or companies
dealing at arm’s length. No rebates, concessions or compensation of a similar
nature will be paid to the General Partner by the person or company supplying
such services, insurance, material, equipment and personal property.

 

10.17 The General Partner, UNIT or its affiliates are authorized to provide
equipment, materials and services to the Partnership in connection with the
conduct of its operations, provided, that the terms of any contracts between the
Partnership and the General Partner, UNIT or any affiliates, or the officers,
directors, employees and affiliates thereof must be no less favorable to the
Partnership than those of comparable contracts entered into, and will be at
prices not in excess of those charged in the same geographical area by
non-affiliated persons or companies dealing at arm’s length. Any such contracts
for services must be in writing precisely describing the services to be rendered
and all compensation to be paid.

 

10.18 The General Partner may cause the Partnership to hold Partnership
Properties in the Partnership’s name, or in the name of the General Partner,
UNIT, any affiliates thereof or some third party as nominee for the Partnership.
If record title to a Partnership Property is to be held permanently in the name
of a nominee, such nominee arrangement will be evidenced and documented by a
nominee agreement identifying the Partnership Properties so held and disclaiming
any beneficial interest therein by the nominee.

 

10.19 The General Partner will be generally liable for the debts and obligations
of the Partnership, provided that any claims against the Partnership shall be
satisfied first out of the assets of the Partnership and only thereafter out of
the separate assets of the General Partner.

 

10.20 The Partnership may not make any loans to the General Partner, UNIT or any
of its affiliates.

 

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10.21 The General Partner will use its best efforts at all times to maintain its
net worth at a level that is sufficient to insure that the Partnership will be
classified for federal income tax purposes as a partnership, rather than as an
association taxable as a corporation, on account of the net worth of the General
Partner.

 

10.22 The Tax Matters Partner designated in Section 8.1 above is authorized to
engage legal counsel and accountants and to incur expense on behalf of the
Partnership in contesting, challenging and defending against any audits,
assessments and administrative or judicial proceedings conducted or participated
in by the Internal Revenue Service with respect to the Partnership’s operations
and affairs.

 

10.23 At any time two years or more after the Partnership has completed
substantially all of its property acquisition, drilling and development
operations, the General Partner may, without the vote, consent or approval of
the Limited Partners, cause all or substantially all of the oil and gas
properties and other assets of the Partnership to be sold, assigned or
transferred to, or the Partnership merged or consolidated with, another
partnership or a corporation, trust or other entity for the purpose of combining
the assets of two or more of the oil and gas partnerships formed for investment
or participation by employees, directors and/or consultants of UNIT or any of
its subsidiaries; provided, however, that the valuation of the oil and gas
properties and other assets of all such participating partnerships for purposes
of such transfer or combination shall be made on a consistent basis and in a
manner which the General Partner and UNIT believe is fair and equitable to the
Limited Partners. As a consequence of any such transfer or combination, the
Partnership shall be dissolved and terminated pursuant to Article XVI hereof and
the Limited Partners shall receive partnership interests, stock or other equity
interests in the transferee or resulting entity.

 

ARTICLE XI

Compensation and Reimbursements

 

11.1 For the General Partner’s services performed as operator of productive
Partnership Wells located on Partnership Properties and as operator during the
drilling of Partnership Wells, the Partnership will compensate the General
Partner at rates no higher than those normally charged in the same or a
comparable geographic area by non-affiliated persons or companies dealing at
arm’s length. The General Partner will not receive compensation for such
services performed in connection with the operation of Partnership Wells
operated by third party operators, but such third party operators will be
compensated as provided in the operating agreements in effect with respect to
such wells and the Partnership will pay its proportionate share of such
compensation.

 

11.2 The General Partner will be reimbursed by the Partnership out of
Partnership Revenues for that portion of its general and administrative overhead
expense that is attributable to its conduct of the actual and necessary
business, affairs and operations of the Partnership. The General Partner’s
general and administrative overhead expenses will be determined in accordance
with industry practices. The allocable costs and expenses will include all
customary and routine legal, accounting, geological, engineering, travel, office
rent, telephone, secretarial, salaries, data processing, word processing and
other incidental reasonable expenses necessary to the conduct of the
Partnership’s business and generated by the General Partner or allocated to it
by UNIT, but will not include filing fees, commissions, professional fees,
printing costs and other expenses incurred in forming the Partnership or
offering interests therein. Also excluded will be any general and administrative
overhead expense of the General Partner or UNIT which may be attributable to its
services as an operator of Partnership Wells for which it receives compensation
pursuant to Section 11.1 above. The portion of the General Partner’s general and
administrative overhead expense to be reimbursed by the Partnership with respect
to any particular period will be determined by allocating to the Partnership
that portion of the General Partner’s total general and administrative overhead
expense incurred during such period which is equal to the ratio of the
Partnership’s total expenditures compared to the total expenditures by the
General Partner for its own account. The portion of such general and
administrative overhead expense reimbursement which is

 

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charged to the Limited Partners may not exceed an amount equal to 3% of the
Aggregate Subscription during the first 12 months of the Partnership’s
operations, and in each succeeding twelve-month period, the lesser of (a) 2% of
the Aggregate Subscription and (b) 10% of the total Partnership Revenue realized
in such twelve-month period. Administrative expenses incurred directly by the
Partnership, or incurred by the General Partner on behalf of the Partnership and
reimbursable to the General Partner, such as legal, accounting, auditing,
reporting, engineering, mailing and other such fees, costs and expenses are not
to be deemed a part of the general and administrative expense of the General
Partner which is to be reimbursed pursuant to this Section 11.2 and the amounts
thereof will not be subject to the limitations described in the preceding
sentence.

 

ARTICLE XII

Rights and Obligations of Limited Partners

 

12.1 The Limited Partners, in their capacity as such, cannot transact any
business for the Partnership or take part in the control of its business or
management of its affairs. Limited Partners will have no power to execute any
agreements on behalf of, or otherwise bind or commit, the Partnership. They may
give consents and approvals as herein provided and exercise the rights and
powers granted to them in this Agreement, it being understood that the exercise
of such rights and powers will be deemed to be matters affecting the basic
structure of the Partnership and not the exercise of control over its business;
provided, however, that exercise of any of the rights and powers granted to the
Limited Partners in Sections 10.15, 12.3, 14.1, 16.1 and 18.1 will not be
authorized or effective unless prior to the exercise thereof the General Partner
is furnished an opinion of counsel for the Partnership or an order or judgment
of any court of competent jurisdiction to the effect that the exercise of such
rights or powers (i) will not be deemed to evidence that the Limited Partners
are taking part in the control of or management of the Partnership’s business
and affairs, (ii) will not result in the loss of any Limited Partner’s limited
liability and (iii) will not result in the Partnership being classified as an
association taxable as a corporation for federal income tax purposes.

 

12.2 The Limited Partners will not be personally liable for any debts or losses
of the Partnership. Except as otherwise specifically provided herein, no Partner
will be responsible for losses of any other Partners.

 

12.3 Except as otherwise provided in this Agreement, no Limited Partner will be
entitled to the return of his contribution. Distributions of Partnership assets
pursuant to this Agreement may be considered and treated as returns of
contributions if so designated by law or, subject to Section 12.1, by agreement
of the General Partner and Limited Partners holding a majority of the
outstanding Units. The value of a Limited Partner’s undistributed contribution
determined for the purposes of Section 39 of the Act at any point in time shall
be his or her percentage of the amount of the Partnership’s stated capital
allocated to the Limited Partners as reflected in the financial statements of
the Partnership as of such point in time. No Partner will receive any interest
on his or her contributions and no Partner will have any priority over any other
Partner as to the return of contributions.

 

ARTICLE XIII

Transferability of Limited Partner’s Interest

 

13.1 Notwithstanding the provisions of Section 13.3, no sale, exchange, transfer
or assignment of a Limited Partner’s interest in the Partnership may be made
unless in the opinion of counsel for the Partnership,

 

(a) such sale, exchange, transfer or assignment, when added to the total of all
other sales, exchanges, transfers or assignments of interests in the Partnership
within the preceding 12 months, would not result in the Partnership being
considered to have terminated within the meaning of Section 708 of the Code
(provided, however, that this condition may be waived by the General Partner in
its discretion);

 

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(b) such sale, exchange, transfer or assignment would not violate, or cause the
offering of the Units to be violative of, the Securities Act of 1933, as
amended, or any state securities or “blue sky” laws (including any investor
suitability standards) applicable to the Partnership or the interest to be sold,
exchanged, transferred or assigned; and

 

(c) such sale, exchange, transfer or assignment would not cause the Partnership
to lose its status as a partnership for federal income tax purposes, and said
opinion of counsel is delivered in writing to the Partnership prior to the date
of the sale, exchange, transfer or assignment.

 

13.2 In no event shall all or any part of an interest in the Partnership be
assigned or transferred to a minor (except in trust or pursuant to the Uniform
Gifts to Minors Act) or an incompetent (except in trust), except by will or
intestate succession.

 

13.3 Except for transfers or assignments (in trust or otherwise) by a Limited
Partner of all or any part of his or her interest in the Partnership

 

(a) to the General Partner,

 

(b) to or for the benefit of himself or herself, his or her spouse, or other
members of his or her immediate family sharing the same household,

 

(c) to a corporation or other entity in which all of the beneficial owners are
Limited Partners or assigns permitted in (a) and (b) above, or

 

(d) by the General Partner to any person who at the time of such transfer is an
employee of the General Partner, UNIT or its subsidiaries, no Limited Partner’s
Units or any portion thereof may be sold, assigned or transferred except by
reason of death or operation of law.

 

13.4 If a Limited Partner dies, his or her executor, administrator or trustee,
or, if he or she is adjudicated incompetent, his or her committee, guardian or
conservator, or, if he or she becomes bankrupt, the trustee or receiver of his
or her estate, shall have all the rights of a Limited Partner for the purpose of
settling or managing his or her estate and such power as the deceased,
incapacitated or bankrupt Limited Partner possessed to assign all or any part of
his or her interest and to join with such assignee in satisfying conditions
precedent to such assignee’s becoming a Substituted Limited Partner.

 

13.5 The Partnership shall not recognize for any purpose any purported sale,
assignment or transfer of all or any fraction of the interest of a Limited
Partner in the Partnership, unless the provisions of Section 13.1 shall have
been complied with and there shall have been filed with the Partnership a
written and dated notification of such sale, assignment or transfer in form
satisfactory to the General Partner, executed and acknowledged by both the
seller, assignor or transferor and the purchaser, assignee or transferee and
such notification (i) contains the acceptance by the purchaser, assignee or
transferee of all of the terms and provisions of this Agreement and (ii)
represents that such sale, assignment or transfer was made in accordance with
all applicable laws and regulations. Any sale, assignment or transfer shall be
recognized by the Partnership as effective on the date of such notification if
the date of such notification is within thirty (30) days of the date on which
such notification is filed with the Partnership, and otherwise shall be
recognized as effective on the date such notification is filed with the
Partnership.

 

13.6 Any Limited Partner who shall assign all of his or her interest in the
Partnership shall cease to be a Limited Partner, except that, unless and until a
Substituted Limited Partner is admitted in his or her stead, such assigning
Limited Partner shall retain the statutory rights of the assignor of a Limited
Partner’s interest under the Act.

 

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13.7 A person who is the assignee of all or any fraction of the interest of a
Limited Partner, but does not become a Substituted Limited Partner and desires
to make a further assignment of such interest, shall be subject to all the
provisions of this Article XIII to the same extent and in the same manner as any
Limited Partner desiring to make an assignment of his or her interest.

 

13.8 No Limited Partner shall have the right to substitute a purchaser,
assignee, transferee, donee, heir, legatee, distributee or other recipient of
all or any portion of such Limited Partner’s interest in the Partnership as a
Limited Partner in his or her place. Any such purchaser, assignee, transferee,
donee, legatee, distributee or other recipient of an interest in the Partnership
shall be admitted to the Partnership as a Substituted Limited Partner only with
the consent of the General Partner, which consent shall be granted or withheld
in the sole and absolute discretion of the General Partner and may be
arbitrarily withheld, and only by an amendment to this Agreement or the
certificate of limited partnership duly executed and recorded in the proper
records of each jurisdiction in which the Partnership owns mineral interests and
filed in the proper records of the State of Oklahoma. Any such consent by the
General Partner shall be binding and conclusive without the consent of any
Limited Partners and may be evidenced by the execution of the General Partner of
an amendment to this Agreement or the certificate of limited partnership,
evidencing the admission of such person as a Substituted Limited Partner.

 

13.9 No person shall become a Substituted Limited Partner until such person
shall have:

 

(a) become a party to, and adopted all of the terms and conditions of, this
Agreement;

 

(b) if such person is a corporation, partnership or trust, provided the General
Partner with evidence satisfactory to counsel for the Partnership of such
person’s authority to become a Limited Partner under the terms and provisions of
this Agreement; and

 

(c) paid or agreed to pay the costs and expenses incurred by the Partnership in
connection with such person’s becoming a Limited Partner.

 

Provided, however, that for the purpose of allocating Partnership Revenue, costs
and expenses, a person shall be treated as having become, and as appearing in
the records of the Partnership as, a Substituted Limited Partner on such date as
the sale, assignment or transfer was recognized by the Partnership pursuant to
Section 13.5.

 

13.10 By his or her execution of his or her Subscription Agreement, each Limited
Partner represents and warrants to the General Partner and to the Partnership
that his or her acquisition of his or her interest in the Partnership is made as
principal for his or her own account for investment purposes only and not with a
view to the resale or distribution of such interest. Each Limited Partner agrees
that he or she will not sell, assign or otherwise transfer his or her interest
in the Partnership or any fraction thereof unless such interest has been
registered under the Securities Act of 1933, as amended, or such sale,
assignment or transfer is exempt from such registration and, in any event, he or
she will not so sell, assign or otherwise transfer his or her interest or any
fraction thereof to any person who does not similarly represent, warrant and
agree.

 

ARTICLE XIV

Assignments by the General Partner

 

14.1 The General Partner may not sell, assign, transfer or otherwise dispose of
its interest in the Partnership except with the prior consent, subject to
Section 12.1, of Limited Partners holding a majority of the outstanding Units;
provided that a sale, assignment or transfer may be effective without such
consent if pursuant to a bona fide merger, any other corporate reorganization or
a complete liquidation, pursuant to a sale of all or substantially all of the
General Partner’s assets (provided the purchasers of such assets agree to assume
the duties and obligations of the General Partner) or a sale or transfer to UNIT
or any affiliates of UNIT. If the Limited Partners’ consent to a proposed
transfer is

 

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required, the General Partner will, concurrently with the request for such
consent, give the Limited Partners written notice identifying the interest to be
transferred, the date on which the transfer is to be effective, the proposed
transferee and the substitute General Partner, if any.

 

14.2 Sales, assignments and transfers of the interests in the Partnership owned
by the General Partner will be subject to, and the assignee will acquire the
assigned interest subject to, all of the terms and provisions of this Agreement.

 

14.3 If the Limited Partners’ consent to a transfer of the General Partner’s
interest in the Partnership is obtained as above provided, or is not required,
the transferee may become a substitute General Partner hereunder. The substitute
General Partner will assume and agree to perform all of the General Partner’s
duties and obligations hereunder and the transferring General Partner will, upon
making a proper accounting to the substitute General Partner, be relieved of any
further duties or obligations hereunder with respect to Partnership operations
thereafter occurring.

 

ARTICLE XV

Limited Partners’ Right of Presentment

 

15.1 After December 31, 2006, each Limited Partner will have the option, subject
to the terms and conditions set forth in this Article XV, to require the General
Partner to purchase all (but not less than all) of his or her Units, provided
that the option may not be exercised after the date of any notice that will
effect a dissolution and termination of the Partnership pursuant to Article XVI
below. Any such exercise shall be effected by written notice thereof delivered
to the General Partner.

 

15.2 Sales of Limited Partners’ Units pursuant to this Article XV will be
effective, and the purchase price for such interests will be determined, as of
the close of business on the last day of the calendar year in which the Limited
Partner’s notice exercising his or her option is given, or, at the General
Partner’s election, as of 7:00 o’clock A.M. on the following day.

 

15.3 The purchase price to be paid for the Units of any Limited Partner who
exercises the option granted in this Article XV will be determined in the
following manner. First, future gross revenues expected to be derived from the
production and sale of the proved reserves attributable to Partnership
Properties will be estimated, as of the end of the calendar year in which
presentment is made, by the independent engineering firm preparing a report on
the reserves of the Partnership, or if no such firm is preparing a report as of
the end of the calendar year in which the option is exercised, then by the
General Partner. Next, future net revenues will be calculated by deducting
anticipated expenses (including Operating Expenses and other costs that will be
incurred in producing and marketing such reserves and any gross production,
excise, or other taxes, other than federal income taxes, based on the oil and
gas production of the Partnership or sales thereof) from estimated future gross
revenues. The price to be used in calculating future gross revenues as well as
the estimates of price and cost escalations to be used in such calculations will
be those of such independent engineering firm or the General Partner, whichever
is making the determination. Then the present worth of the future net revenues
will be calculated by discounting the estimated future net revenues at that rate
per annum which is one (1) percentage point higher than the prime rate of
interest being charged by Bank of Oklahoma, N.A., Tulsa, Oklahoma, or any
successor bank, as such prime rate of interest is announced by said bank as of
the date such reserves are estimated. This amount will be reduced by an
additional 25% to take into account the uncertainties attendant to the
production and sale of oil and gas reserves and other unforeseen contingencies.
Estimated salvage value of tangible equipment installed on the Partnership Wells
and costs of plugging and abandoning the productive Partnership Wells, both
discounted at the aforementioned rate from the expected date of abandonment,
will be considered, and Partnership Properties, if any, which do not have proved
reserves attributable to them but which have not been condemned will be valued
at the lower of cost or their then current market value as determined by the
aforementioned independent petroleum engineering firm or General Partner, as the
case may be. The Partnership’s cash on hand, prepaid expenses, accounts
receivable (less a reasonable reserve for doubtful accounts) and the market
value of its

 

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other assets as determined by the General Partner will be added to the value of
the Partnership Properties thus determined, and the Partnership’s debts,
obligations and other liabilities will be deducted, to arrive at the
Partnership’s net asset value for purposes of this Section 15.3. The price to be
paid for the Limited Partner’s interest will be his or her proportionate share
of such net asset value less 75% of the amount of any Partnership distributions
received by him or her which are attributable to sales of Partnership production
since the date as of which the Partnership’s proved reserves are estimated.

 

15.4 Within one hundred twenty (120) days after the end of any calendar year in
which a Limited Partner exercises his or her option to require purchase of his
or her Units as provided in this Article XV, the General Partner will furnish to
such Limited Partner a statement showing the price to be paid for his or her
Units and evidencing that such price has been determined in accordance with the
provisions of Section 15.3 above. The statement will show which portion of the
proposed purchase price is represented by the value of the proved reserves and
by each of the other classes of Partnership assets and liabilities attributable
to the account of the Limited Partner. The Limited Partner will then have thirty
(30) days to confirm, by further notice to the General Partner, his or her
intention to sell his or her Units to the General Partner. If the Limited
Partner timely confirms his or her intention to sell, the sale will be
consummated and the price paid in cash within ten (10) days after such
confirmation. The General Partner will not be obligated to purchase (i) any
Units pursuant to such right if such purchase, when added to the total of all
other sales, exchanges, transfers or assignments of the Units within the
preceding 12 months, would result in the Partnership being considered to have
terminated within the meaning of Section 708 of the Code or would cause the
Partnership to lose its status as a partnership for federal income tax purposes,
or (ii) in any one calendar year more than 20% of the Units in the Partnership
then outstanding. If less than all of the Units tendered are purchased, the
interests purchased will be selected by lot. The Limited Partners whose tendered
Units were rejected by reason of the foregoing limitation shall be entitled to
priority in the following year. Contemporaneously with the closing of any such
sale, the Limited Partner will execute such certificates or other documents and
perform such acts as the General Partner deems necessary to effect the sale and
transfer of the liquidating Limited Partner’s Units to the General Partner and
to preserve the limited liability status of the Partnership under the laws of
the jurisdictions in which it is doing business.

 

15.5 As used in Sections 15.3 and 15.4 above, the term “proved reserves” shall
have the meaning ascribed thereto in Regulation S-X adopted by the Securities
and Exchange Commission.

 

ARTICLE XVI

Termination and Dissolution of Partnership

 

16.1 The Partnership will terminate automatically on December 31, 2035, unless
prior thereto, subject to Section 12.1 above, the General Partner or Limited
Partners holding a majority of the outstanding Units elect to terminate the
Partnership as of an earlier date. In the event of such earlier termination,
ninety (90) days’ written notice will be given to all other Partners. The
termination date will be specified in such notice and must be the last day of
any calendar month following expiration of the ninety (90) day period unless an
earlier date is approved by Limited Partners holding a majority of the
outstanding Units.

 

16.2 Upon the dissolution (other than pursuant to a merger or other corporate
reorganization), bankruptcy, legal disability or withdrawal of the General
Partner (other than pursuant to Section 14.1 above), the Partnership shall
immediately be dissolved and terminated; provided, however, that nothing in this
Agreement shall impair, restrict or limit the rights and powers of the Partners
under the laws of the State of Oklahoma and any other jurisdiction in which the
Partnership is doing business to reform and reconstitute themselves as a limited
partnership within ninety (90) days following the dissolution of the Partnership
either under provisions identical to those set forth herein or under any other
provisions. The withdrawal, expulsion, dissolution, death, legal disability,
bankruptcy or insolvency of any Limited Partner will not effect a dissolution or
termination of the Partnership.

 

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16.3 Upon termination of the Partnership by action of the Limited Partners
pursuant to Section 16.1 hereof or as a result of an event under Section 16.2
hereof, a party designated by the Limited Partners holding a majority of the
outstanding Units will act as Liquidating Trustee. In any other case, the
General Partner will act as Liquidating Trustee.

 

16.4 As soon as possible after December 31, 2035, or the date of the notice of
or event causing an earlier termination of the Partnership, the Liquidating
Trustee will begin to wind up the Partnership’s business and affairs. In this
regard:

 

(a) The Liquidating Trustee will furnish or obtain an accounting with respect to
all Partnership accounts and the account of each Partner and with respect to the
Partnership’s assets and liabilities and its operations from the date of the
last previous audit of the Partnership to the date of such dissolution;

 

(b) The Liquidating Trustee may, in its discretion, sell any or all productive
and non-productive properties which, except in the case of an election by the
General Partner to terminate the Partnership prior to the tenth anniversary of
the Effective Date, may be sold to the General Partner or any of its affiliates
for their fair market value as determined in good faith by the General Partner;

 

(c) The Liquidating Trustee shall:

 

(i) pay all of the Partnership’s debts, liabilities and obligations to its
creditors, including the General Partner; and

 

(ii) pay all expenses incurred in connection with the termination, liquidation
and dissolution of the Partnership and distribution of its assets as herein
provided;

 

(d) The Liquidating Trustee shall ascertain the fair market value by appraisal
or other reasonable means of all assets of the Partnership remaining unsold, and
each Partner’s capital account shall be charged or credited, as the case may be,
as if such property had been sold at such fair market value and the gain or loss
realized thereby had been allocated to and among the Partners in accordance with
Article VI hereof; and

 

(e) On or as soon as practicable after the effective date of the termination,
all remaining cash and any other properties and assets of the Partnership not
sold pursuant to the preceding subsections of this Section 16.4 will be
distributed to the Partners (i) in proportion to and to the extent of any
remaining balances in the Partners’ capital accounts and then (ii) in undivided
interests to the Partners in the same proportions that Partnership Revenues are
being shared at the time of such termination, provided, that:

 

(i) the various interests distributed to the respective Partners will be
distributed subject to such liens, encumbrances, restrictions, contracts,
operating agreements, obligations, commitments or undertakings as existed with
respect to such interests at the time they were acquired by the Partnership or
were subsequently created or entered into by the Partnership;

 

(ii) if interests in the Partnership Wells that are not subject to any operating
agreement are to be distributed, the Partners will, concurrently with the
distribution, enter into standard form operating agreements covering the
subsequent operation of each such well which will, if the termination is
effected pursuant to Section 16.1 above, be in a form satisfactory to the
General Partner and will name the General Partner or its designee as operator;
and

 

(iii) no Partner shall be distributed an interest in any asset if the
distribution would result in a deficit balance or increase the deficit balance
in its capital account (after making the adjustments referred to in this Section
16.4 relating to distributions in kind).

 

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16.5 If the General Partner has a deficit balance in its capital account
following the distribution(s) provided for in Section 16.4(e) above, as
determined after taking into account all adjustments to its capital account for
the taxable year of the Partnership during which such distribution occurs, it
shall restore the amount of such deficit balance to the Partnership within
ninety (90) days and such amount shall be distributed to the other Partners in
accordance with their positive capital account balances.

 

16.6 Notwithstanding anything to the contrary in this Agreement, upon the
dissolution and termination of the Partnership, the General Partner will
contribute to the Partnership the lesser of: (a) the deficit balance in its
capital account; or (b) the excess of 1.01 percent of the total Capital
Contributions of the Limited Partners over the capital previously contributed by
the General Partner.

 

ARTICLE XVII

Notices

 

17.1 All notices, consents, requests, demands, offers, reports and other
communications required or permitted shall be deemed to be given or made when
personally delivered to the party entitled thereto, or when sent by United
States mail in a sealed envelope, with postage prepaid, addressed, if to the
General Partner, to 7130 South Lewis, Suite 1000, Tulsa, Oklahoma 74136, and, if
to a Limited Partner, to the address set forth below such Limited Partner’s
signature on the counterpart of the Subscription Agreement that he or she
originally executed and delivered to the General Partner. The General Partner
may change its address by giving notice to all Limited Partners. Limited
Partners may change their address by giving notice to the General Partner.

 

ARTICLE XVIII

Amendments

 

18.1 Limited Partners do not have the right to propose amendments to this
Agreement. The General Partner may propose an amendment or amendments to this
Agreement by mailing to the Limited Partners a notice describing the proposed
amendment and a form to be returned by the Limited Partners indicating whether
they oppose or approve of its adoption. Such notice will include the text of the
proposed amendment, which will have been approved in advance by counsel for the
Partnership. If, within sixty (60) days, or such shorter period as may be
designated by the General Partner, after any notice proposing an amendment or
amendments to this Agreement has been mailed, Limited Partners holding a
majority of the outstanding Units have properly executed and returned the form
indicating that they approve of and consent to adoption of the proposed
amendment, such amendment will become effective as of the date specified in such
notice, provided that no amendment which alters the allocations specified in
Article VI above, changes the compensation and reimbursement provisions set
forth in Article XI above or is otherwise materially adverse to the interests of
the Limited Partners will become effective unless approved by all Limited
Partners. If an amendment does become effective, all Partners will promptly
evidence such effectiveness by executing such certificates and other instruments
as the General Partner may deem necessary or appropriate under the laws of the
jurisdictions in which the Partnership is then doing business in order to
reflect the amendment.

 

ARTICLE XIX

General Provisions

 

19.1 This Agreement embodies the entire understanding and agreement between the
Partners concerning the Partnership, and supersedes any and all prior
negotiations, understandings or agreements in regard thereto.

 

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19.2 In those cases where this Agreement requires opinions to be expressed by,
or actions to be approved by, counsel for Limited Partners, such counsel must be
qualified and experienced in the fields of federal income taxation and
partnership and securities laws.

 

19.3 This Agreement and the Subscription Agreement may be executed in multiple
counterpart copies, each of which will be considered an original and all of
which constitute one and the same instrument.

 

19.4 This Agreement will be deemed to have been executed and delivered in the
State of Oklahoma and will be construed and interpreted according to the laws of
that State.

 

19.5 This Agreement and all of the terms and provisions hereof will be binding
upon and will inure to the benefit of the Partners and their respective heirs,
executors, administrators, trustees, successors and assigns.

 

EXECUTED in the name of and on behalf of the undersigned General Partner this
     day of January, 2005 but effective as of the Effective Date.

 

            “General Partner”             UNIT PETROLEUM COMPANY

Attest:

               

By

 

 

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

     

By

 

 

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

    Mark E. Schell, Secretary           Larry D. Pinkston, President

 

A-28

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LIMITED PARTNER SUBSCRIPTION AGREEMENT AND

SUITABILITY STATEMENT

 

(ALL INFORMATION WILL BE TREATED CONFIDENTIALLY)

 

Unit 2005 Employee Oil and Gas Limited Partnership

c/o Unit Petroleum Company

7130 South Lewis Avenue, Suite 1000

Tulsa, Oklahoma 74136

 

RE:

   Unit 2005 Employee Oil and      Gas Limited Partnership

 

Gentlemen:

 

In connection with the subscription of the undersigned for units of limited
partnership interest (“Units”) in the Unit 2005 Employee Oil and Gas Limited
Partnership (the “Partnership”) which the undersigned tenders herewith to Unit
Petroleum Company (the “General Partner”), the undersigned is hereby furnishing
the Partnership and the General Partner the information set forth herein below
and makes the representations and warranties set forth below, to indicate
whether the undersigned is a suitable subscriber for Units in the Partnership.
As a condition precedent to investing in the Partnership, the undersigned hereby
represents, warrants, covenants and agrees as follows:

 

1. The undersigned acknowledges that he or she has received and reviewed a copy
of the Private Offering Memorandum (the “Offering Memorandum”) dated December
23, 2004 of the Unit 2005 Employee Oil and Gas Limited Partnership, relating to
the offering of Units in the Partnership, and all Exhibits thereto, including
the Agreement of Limited Partnership (the “Agreement”), and understands that the
Units will be offered to others on the terms and in the manner described in the
Offering Memorandum. The undersigned hereby subscribes for the number of Units
set forth below pursuant to the terms of the Offering Memorandum and tenders his
or her Capital Subscription as required and agrees to pay his or her Additional
Assessments upon call or calls by the General Partner; and the undersigned
acknowledges that he or she shall have the right to withdraw this subscription
only up until the time the General Partner executes and accepts the
undersigned’s subscription and that the General Partner may reject any
subscription for any reason without liability to it; and, further, the
undersigned agrees to comply with the terms of the Agreement and to execute any
and all further documents necessary in connection with his or her admission to
the Partnership.

 

2. The undersigned has reviewed and acknowledges execution of the Power of
Attorney set forth in the Agreement and elsewhere in this instrument.

 

3. The undersigned is aware that no federal or state regulatory agency has made
any findings or determination as to the fairness for public or private
investment, nor any recommendation or endorsement, of the purchase of Units as
an investment.

 

I-1

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4. The undersigned recognizes the speculative nature and risks of loss
associated with oil and gas investments and that he or she may suffer a complete
loss of his or her investment. The Units subscribed for hereby constitute an
investment which is suitable and consistent with his or her investment program
and that his or her financial situation enables him or her to bear the risks of
this investment. The undersigned represents that he or she has adequate means of
providing for his or her current needs and possible personal contingencies, and
that he or she has no need for liquidity of this investment.

 

5. The undersigned confirms that he or she understands, and has fully considered
for purposes of this investment, the RISK FACTORS set forth in the Offering
Memorandum and that (i) the Units are speculative investments which involve a
high degree of risk of loss by the undersigned of his or her investment therein,
(ii) there is a risk that the anticipated tax benefits under the Agreement could
be challenged by the Internal Revenue Service or could be affected by changes in
the Internal Revenue Code of 1986, as amended, the regulations thereunder or
administrative or judicial interpretations thereof thereby depriving Limited
Partners of anticipated tax benefits, (iii) the General Partner and its
affiliates will engage in transactions with the Partnership which may result in
a profit and, in the future, may be engaged in businesses which are competitive
with that of the Partnership, and the undersigned agrees and consents to such
activities, even though there are conflicts of interest inherent therein, and
(iv) there are substantial restrictions on the transferability of, and there
will be no public market for, the Units and, accordingly, it may be difficult
for him or her to liquidate his or her investment in the Units in case of
emergency, if possible at all.

 

6. The undersigned confirms that in making his or her decision to purchase the
Units subscribed for he or she has relied upon independent investigations made
by him or her (or by his or her own professional tax and other advisors) and
that he or she has been given the opportunity to examine all documents and to
ask questions of, and to receive answers from the General Partner or any
person(s) acting on its behalf concerning the terms and conditions of the
offering or any other matter set forth in the Offering Memorandum, and to obtain
any additional information, to the extent the General Partner possesses such
information or can acquire it without unreasonable effort or expense, necessary
to verify the accuracy of the information set forth in the Offering Memorandum,
and that no representations have been made to him or her and no offering
materials have been furnished to him or her concerning the Units, the
Partnership, its business or prospects or other matters, except as set forth in
the Offering Memorandum and the other materials described in the Offering
Memorandum.

 

7. The undersigned understands that the Units are being offered and sold under
an exemption from registration provided by Sections 3(b) and/or 4(2) of the
Securities Act of 1933, as amended (the “Act”), and warrants and represents that
any Units subscribed for are being acquired by the undersigned solely for his or
her own account, for investment purposes only, and are not being purchased with
a view to or for the resale, distribution, subdivision or fractionalization
thereof; the undersigned has no agreement or other arrangement, formal or
informal, with any person to sell, transfer or pledge any part of any Units
subscribed for or which would guarantee the undersigned any rights to such
Units; the undersigned has no plans to enter into any such agreement or
arrangement, and, consequently, he or she must bear the economic

 

I-2

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risk of the investment for an indefinite period of time because the Units cannot
be resold or otherwise transferred unless subsequently registered under the Act
(which neither the General Partner nor the Partnership is obligated to do), or
an exemption from such registration is available and, in any event, unless
transferred in compliance with the Agreement.

 

8. The undersigned further understands that the exemption under Rule 144 of the
Act will not be generally available because of the conditions and limitations of
such rule; that, in the absence of the availability of such rule, any
disposition by him or her of any portion of his or her investment will require
compliance under the Act; and that the Partnership and the General Partner are
under no obligation to take any action in furtherance of making such exemption
available.

 

9. The undersigned is aware that the General Partner will have full and complete
control of Partnership operations and that he or she must depend on the General
Partner to manage the Partnership profitably; and that a Limited Partner does
not have the same rights as a stockholder in a corporation or the protection
which stockholders might have, since limited partners have limited rights in
determining policy.

 

10. The undersigned is aware that the General Partner will receive compensation
for its services irrespective of the economic success of the Partnership.

 

11. The undersigned represents and warrants as follows (please mark and complete
all applicable categories):

 

(a) If an individual, the undersigned is the sole party in interest, and the
undersigned is at least 21 years of age and a bona fide resident and domiciliary
(not a temporary or transient resident) of the state set forth opposite his or
her signature hereto;

 

¨  YES                    ¨  NO

 

(b) If a partnership or corporation, the undersigned meets the following: (1)
the entity has not been formed for the purposes of making this investment; (2)
the entity was formed on             ; and (3) the entity has a history of
investments similar to the type described in the Offering Memorandum;

 

¨  YES                    ¨  NO

 

(c) The undersigned meets all suitability standards and acknowledges being aware
of all legend conditions applicable to his or her state of residence as set
forth herein;

 

¨  YES                    ¨  NO

 

I-3

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(d) (i) The undersigned has a net worth (including home, furnishings and
automobiles) of at least five times the amount of his or her Capital
Subscription, and anticipates that he or she will have adjusted gross income
during the current year in an amount which will enable him or her to bear the
economic risks of the investment in the Partnership;

 

¨  YES                    ¨  NO

 

and

 

(ii) The undersigned is a salaried employee of Unit Corporation (“UNIT”) or any
of its subsidiaries at the date of formation of the Partnership whose annual
base salary for 2004 has been set at $36,000 or more, or the undersigned is a
director of UNIT;

 

¨  YES                    ¨  NO

 

and

 

(e) The undersigned              is or              is not a citizen of the
United States.

 

12. The undersigned represents and agrees that he or she has had sufficient
opportunity to make inquiries of the General Partner in order to supplement
information contained in the Offering Memorandum respecting the offering, and
that any information so requested has been made available to his or her
satisfaction, and he or she has had the opportunity to verify such information.
The undersigned further agrees and represents that he or she has knowledge and
experience in business and financial matters, and with respect to investments
generally, and in particular, investments generally comparable to the offering,
so as to enable him or her to utilize such information to evaluate the risks of
this investment and to make an informed investment decision. The following is a
brief description of the undersigned’s experience in the evaluation of other
investments generally comparable to the offering:

 

________________________________________________________________________________________________________________________________________________

 

________________________________________________________________________________________________________________________________________________

 

________________________________________________________________________________________________________________________________________________

 

________________________________________________________________________________________________________________________________________________

 

13. The undersigned is aware that the Partnership and the General Partner have
been and are relying upon the representations and warranties set forth in this
Limited Partner Subscription Agreement and Suitability Statement, in part, in
determining whether the offering meets the conditions specified in Rules of the
Securities and Exchange Commission and the exemption from registration provided
by Sections 3(b) and/or 4(2) of the Act.

 

I-4

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14. All of the information which the undersigned has furnished the General
Partner herein or previously with respect to the undersigned’s financial
position and business experience is correct and complete as of the date of this
Agreement, and, if there should be any material change in such information prior
to the closing of the offering period of the Units, the undersigned will
immediately furnish such revised or corrected information to the General
Partner. The undersigned agrees that the foregoing representations and
warranties shall survive his or her admission to the Partnership, as well as any
acceptance or rejection of a subscription for the Units.

 

If the subscription tendered hereby of the undersigned is accepted by the
General Partner, the undersigned hereby executes and swears to the Agreement of
Limited Partnership of Unit 2005 Employee Oil and Gas Limited Partnership as a
Limited Partner, thereby agreeing to all the terms thereof and duly appoints the
General Partner, with full power of substitution, his or her true and lawful
attorney to execute, file, swear to and record any Certificate of Limited
Partnership or amendments thereto or cancellation thereof and any other
instruments which may be required by law in any jurisdiction to permit
qualification of the Partnership as a limited partnership or for any other
purposes necessary to implement the Partnership’s purposes.

 

THE SECURITIES REPRESENTED BY THIS CERTIFICATE HAVE NOT BEEN REGISTERED UNDER
THE SECURITIES ACT OF 1933, AS AMENDED, THE OKLAHOMA SECURITIES ACT OR OTHER
APPLICABLE STATE SECURITIES ACTS. THE SECURITIES HAVE BEEN ACQUIRED FOR
INVESTMENT AND MAY NOT BE SOLD OR TRANSFERRED FOR VALUE IN THE ABSENCE OF AN
EFFECTIVE REGISTRATION OF THEM UNDER THE SECURITIES ACT OF 1933, AS AMENDED,
AND/OR THE OKLAHOMA SECURITIES ACT, OR ANY OTHER APPLICABLE ACT, OR AN OPINION
OF COUNSEL TO UNIT 2005 EMPLOYEE OIL AND GAS LIMITED PARTNERSHIP THAT SUCH
REGISTRATION IS NOT REQUIRED UNDER SUCH ACT.

 

The undersigned hereby subscribes for              Units (minimum subscription:
2 Units) at a price of $1,000 per Unit for a total Capital Subscription (as
defined in Article II of the Agreement) of $                    , which shall be
due and payable either:

 

(Check One)

 

¨    (a) in four equal installments on March 15, 2005, June 15, 2005, September
15, 2005 and December 15, 2005, respectively; or

 

¨    (b) through equal deductions from 2005 salary of the undersigned commencing
immediately after the Effective Date (as defined in Article II of the
Agreement).

 

I-5

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LIMITED PARTNER:     

RESIDENT

ADDRESS:

 

(If placing Units

in the name of spouse

or trustee for minor

child or children,

please provide name,

address of such

spouse or trustee and

Social Security or Tax

Identification Number)

 

 

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

    

 

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

 

 

 

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

    

 

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

 

Signature

 

 

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

Please Print Name

    

 

 

Mailing Address

if different:

 

 

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

 

 

 

TAX I.D. OR SOCIAL

SECURITY NO.:

 

 

Date:

 

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

    

 

 

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

 

 

ACCEPTED THIS      DAY OF                     , 2005.

 

UNIT 2005 EMPLOYEE OIL AND GAS LIMITED PARTNERSHIP

 

By  

 

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

            Authorized Officer of Unit             Petroleum Company, General
Partner

 

Upon completion, an executed copy of this Limited Partner Subscription Agreement
and Suitability Statement should be returned to Unit 2005 Employee Oil and Gas
Limited Partnership, Attention Mark E. Schell, 7130 South Lewis Avenue, Suite
1000, Tulsa, Oklahoma 74136. The General Partner, after acceptance, will return
a copy of the accepted Subscription Agreement to the Limited Partner.

 

I-6

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LOGO [g95360image002.jpg]

 

December 23, 2004

 

Unit Petroleum Company

1000 Kensington Tower I

7130 South Lewis

Tulsa, Oklahoma 74136

 

Re: Unit 2005 Employee Oil and Gas Limited Partnership

 

Dear Sirs:

 

We have acted as counsel for Unit Petroleum Company, an Oklahoma corporation
(the “General Partner”), which will be the General Partner in the Unit 2005
Employee Oil and Gas Limited Partnership, a proposed Oklahoma limited
partnership (the “Partnership”). You have requested our opinions regarding
certain federal income tax matters concerning the Partnership.

 

We have reviewed and relied upon the accuracy of the facts and information set
forth in the Private Offering Memorandum dated December 23, 2004 (the
“Memorandum”), covering the offer and sale of units of limited partnership
interest (“Units”) in the Partnership, the Agreement of Limited Partnership
included as Exhibit A to the Memorandum (the “Partnership Agreement”), the
consolidated balance sheet of the General Partner dated October 31, 2004, and
such other documents and matters as we have considered necessary in order to
render this opinion. Capitalized terms used herein have the meaning assigned to
them in the Memorandum, except as otherwise specifically indicated.

 

In our examination we have assumed the authenticity of original documents, the
accuracy of copies and the genuineness of signatures. We have relied upon the
representations and statements of the General Partner of the Partnership with
respect to the factual determinations underlying the legal conclusions set forth
herein. We have not attempted to verify independently such representations and
statements.

 

EXHIBIT “B”

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March 7, 2005

Page 2

 

Please note that we are opining only as to the matters expressly set forth
herein, and no opinion should be inferred as to any other matters. We are unable
to render opinions as to a number of federal income tax issues relating to an
investment in Units and the operations of the Partnership. Finally, we are not
expressing any opinion with respect to the amount of allowable losses or credits
that may be generated by the Partnership or the amount of each Partner’s share
of allowable losses or credits from the Partnership’s activities.

 

The following opinion and statements are based upon the provisions of the
Internal Revenue Code of 1986, as amended (the “Code”), existing and proposed
regulations thereunder, current administrative rulings, and court decisions. The
federal income tax law is uncertain as to many of the tax matters material to an
investment in the Partnership, and it is not possible to predict with certainty
how the law will develop or how the courts will decide various issues if they
are litigated. While this opinion fairly states our views concerning the tax
aspects of an investment in the Partnership, both the Internal Revenue Service
(the “Service”) and the courts may disagree with our position on certain issues.

 

Moreover, uncertainty exists concerning some of the federal income tax aspects
of the transactions being undertaken by the Partnership. Some of the tax
positions to be taken by the Partnership may be challenged by the Service and
there is no assurance that any such challenge will not be successful. Thus,
there can be no assurance that all of the anticipated tax benefits of an
investment in the Partnership will be realized.

 

Our opinions are based upon the transactions described in the Memorandum (the
“Transaction”) and upon facts as they have been represented to us or determined
by us as of the date of the opinion. Any alteration of the facts may adversely
affect the opinions rendered. In our opinion, the preponderance of the material
tax benefits, in the aggregate, will be realized by the Partners. It is
possible, however, that some of the tax benefits will be eliminated or deferred
to future years.

 

Because of the factual nature of the inquiry, and in certain cases the lack of
clear authority in the law, it is not possible to reach a judgment as to the
outcome on the merits (either favorable or unfavorable) of certain material
federal income tax issues as described more fully herein.

 

SUMMARY OF CONCLUSIONS

 

Opinions expressed: The following is a summary of the specific opinions
expressed by us with respect to the Federal Income Tax Considerations discussed
herein. TO BE FULLY UNDERSTOOD, THE COMPLETE DISCUSSION OF THESE MATTERS SHOULD
BE READ BY EACH PROSPECTIVE PARTNER.

 

1. The material federal income tax benefits in the aggregate from an investment
in the Partnership will be realized.

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March 7, 2005

Page 3

 

2. The Partnership will be treated as a partnership for federal income tax
purposes and not as a corporation, an association taxable as a corporation or a
“publicly traded partnership.”

 

3. To the extent the Partnership’s wells are timely drilled and amounts are
timely paid, the Partners will be entitled to their pro rata shares of the
Partnership’s IDC paid in 2005.

 

4. Limited Partners’ interests will be considered a passive activity within the
meaning of Code Section 469 and losses generated therefrom will be limited by
the passive activity provisions of the Code.

 

5. To the extent provided herein, the Partners’ distributive shares of
Partnership tax items will be determined and allocated substantially in
accordance with the terms of the Partnership Agreement.

 

6. The Partnership will not be required to register with the Service as a tax
shelter.

 

No opinion expressed: Due to the lack of authority, or the essentially factual
nature of the question, we express no opinion on the following:

 

1. The impact of an investment in the Partnership on an investor’s alternative
minimum tax liability, due to the factual nature of the issue.

 

2. Whether, under Code Section 183, the losses of the Partnership will be
treated as derived from “activities not engaged in for profit,” and therefore
nondeductible from other gross income, due to the inherently factual nature of a
Partner’s interest and motive in engaging in the Transaction.

 

3. Whether each Partner will be entitled to percentage depletion since such a
determination is dependent upon the status of the Partner as an independent
producer. Due to the inherently factual nature of such a determination, we are
unable to render an opinion as to the availability of percentage depletion.

 

4. Whether any interest incurred by a Partner with respect to any borrowings to
acquire a Unit will be deductible or subject to limitations on deductibility,
due to the factual nature of the issue.

 

5. Whether the Partnership will be treated as the tax owner of Partnership
Properties acquired by the General Partner as nominee for the Partnership.

 

General Information: Certain matters contained herein are not considered to
address a material tax consequence and are for general information, including
the matters contained in sections dealing with gain or loss on the sale of Units
or of property, Partnership distributions, tax audits, penalties, and state and
local tax.

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March 7, 2005

Page 4

 

Our opinions are also based upon the facts described in the Memorandum and upon
certain representations made to us by the General Partner for the purpose of
permitting us to render our opinions, including the following representations
with respect to the Partnership:

 

1. The Partnership Agreement to be entered into by and among the General Partner
and Limited Partners and any amendments thereto will be duly executed and will
be made available to any Limited Partner upon written request. The Partnership
Agreement will be duly recorded in all places required under the Oklahoma
Revised Uniform Limited Partnership Act (the “Act”) for the due formation of the
Partnership and for the continuation thereof in accordance with the terms of the
Partnership Agreement. The Partnership will at all times be operated in
accordance with the terms of the Partnership Agreement, the Memorandum, and the
Act.

 

2. No election will be made by the Partnership, Limited Partners, or the General
Partner to be excluded from the application of the provisions of Subchapter K of
the Code.

 

3. The Partnership will own operating mineral interests, as defined in the Code
and in the Regulations, and none of the Partnership’s revenues will be from
non-working interests.

 

4. The General Partner will cause the Partnership to properly elect to deduct
currently all Intangible Drilling and Development Costs.

 

5. The Partnership will have a December 31 taxable year and will report its
income on the accrual basis.

 

6. All Partnership wells will be spudded by not later than December 31, 2005.
The entire amount to be paid under any drilling and under the operating
agreements entered into by the Partnership will be attributable to Intangible
Drilling and Development Costs.

 

7. Such drilling and operating agreements will be duly executed and will govern
the operation of the Partnership’s wells.

 

8. Based upon the General Partner’s review of its experience with its previous
oil and gas partnerships for the past several years and upon the intended
operations of the Partnership, the General Partner believes that the sum of (i)
the aggregate deductions, including depletion deductions, and (ii) 350 percent
of the aggregate tax credits from the Partnership will not, as of the close of
any of the first five years ending after the date on which Units are offered for
sale, exceed two times the aggregate cash invested by the Partners in the
Partnership as of such dates. In that regard, the General Partner has reviewed
the economics of its similar oil and gas partnerships for the past several
years, and has represented that it has determined that none of those
partnerships has resulted in a tax shelter ratio greater than two to one.
Further, the General

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March 7, 2005

Page 5

 

Partner has represented that the deductions and credits that are or will be
represented as potentially allowable to an investor will not result in the
Partnership having a “tax shelter ratio”, as such term is defined in the Code
and regulations thereunder, greater than two to one.

 

9. At least 90% of the gross income of the Partnership will constitute income
derived from the exploration, development, production, and or marketing of oil
and gas. The General Partner does not believe that any market will ever exist
for the sale of Units and the General Partner will not make a market for the
Units. Further, the Units will not be traded on an established securities market
or the substantial equivalent thereof.

 

10. There is not now pending nor, to the knowledge of the General Partner or
UNIT, threatened any action, suit or proceeding by the Internal Revenue Service
under Sections 6700 or 7408 of the Internal Revenue Code relating to the
promoter penalty referred to in Section 6700 of the Code with respect to any
partnerships sponsored by the General Partner or UNIT. Neither the General
Partner, UNIT, nor, to the knowledge of either of them, any participant in such
partnerships has received any pre-filing notifications referred to in Revenue
Procedure 83-73 with respect to such partnerships or the Partnership from the
Internal Revenue Service.

 

11. The General Partner will, as nominee for the Partnership, acquire and hold
title to Partnership Properties on behalf of the Partnership; the General
Partner will enter into an agency agreement before the General Partner acquires
any such oil and gas properties on behalf of the Partnership; the agency
agreement will reflect that the General Partner’s acquisition of Partnership
properties is on behalf of the Partnership; and the General Partner will execute
assignments of all oil and gas interests acquired by it on behalf of the
Partnership to the Partnership.

 

12. The Partnership and each Partner will have the objective of carrying on the
business of the Partnership for profit and dividing the gain therefrom.

 

13. No election will be made under the Regulations for the Partnership to be
treated as a corporation.

 

Our opinions are also subject to all the assumptions, qualifications, and
limitations set forth in the following discussion, including the assumptions
that each of the Partners has full power, authority, and legal right to enter
into and perform the terms of the Partnership Agreement and to take any and all
actions thereunder in connection with the transactions contemplated thereby.

 

Each prospective investor should be aware that, unlike a ruling from the
Service, an opinion of counsel represents only such counsel’s best judgment.
THERE CAN BE NO ASSURANCE THAT THE SERVICE WILL NOT SUCCESSFULLY ASSERT
POSITIONS WHICH ARE INCONSISTENT WITH OUR OPINIONS SET FORTH IN THIS DISCUSSION
OR IN THE TAX REPORTING POSITIONS TAKEN BY THE

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March 7, 2005

Page 6

 

PARTNERS OR THE PARTNERSHIP. EACH PROSPECTIVE INVESTOR SHOULD CONSULT HIS OWN
TAX ADVISOR TO DETERMINE THE EFFECT OF THE TAX ISSUES DISCUSSED HEREIN ON HIS
INDIVIDUAL TAX SITUATION.

 

PARTNERSHIP STATUS

 

The Partnership will be formed as a limited partnership pursuant to the
Partnership Agreement and the laws of the State of Oklahoma. The
characterization of the Partnership as a partnership by state or local law,
however, will not be determinative of the status of the Partnership for federal
income tax purposes. The availability of any federal income tax benefits to an
investor is dependent upon classification of the Partnership as a partnership
rather than as a corporation or as an association taxable as a corporation for
federal income tax purposes.

 

We are of the opinion that the Partnership will be treated as a partnership for
federal income tax purposes, and not as a corporation, an association taxable as
a corporation or a “publicly traded partnership.” However, there can be no
assurance that the Service will not attempt to treat the Partnership as a
corporation or as an association taxable as a corporation for federal income tax
purposes. If the Service were to prevail on this issue, the tax benefits
associated with taxation as a partnership would not be available to the
Partners.

 

Although the Partnership will be validly organized as a limited partnership
under the laws of the state of Oklahoma and will be subject to the Act, whether
it will be treated for federal income tax purposes as a partnership or as a
corporation or as an association taxable as a corporation will be determined
under the Code rather than local law. As discussed below, our opinion that the
Partnership will not be classified a corporation or as an association taxable as
a corporation is based in part on entity classification regulations promulgated
in 1996 and in part on the fact that in our opinion the Partnership will not
constitute a “publicly traded partnership.”

 

A. Association Taxable as a Corporation

 

Our opinion that the Partnership will not be treated as an association taxable
as a corporation is based on regulations issued by the Internal Revenue Service
on December 17, 1996, generally effective as of January 1, 1997, regarding the
tax classification of certain business organizations (the “Check the Box
Regulations”).

 

Under the Check the Box Regulations, in general, a business entity that is not
otherwise required to be treated as a corporation under such regulations will be
classified as a partnership if it has two or more members, unless the business
entity elects to be treated as a corporation. The Partnership is not required
under the Check the Box Regulations to be treated as a corporation and the
General Partner has represented that it will not elect that the Partnership be
treated as a corporation. Accordingly, in our opinion the Partnership will not
be treated as an association taxable as a corporation.

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March 7, 2005

Page 7

 

B. Publicly Traded Partnerships

 

The Revenue Act of 1987 (the “1987 Act”) added Code Section 7704, “Certain
Publicly Traded Partnerships Treated as Corporations.” In treating certain
“publicly traded partnerships” (“PTPs”) as corporations for federal income tax
purposes, Congress defined a PTP as any partnership, interests in which are
either traded on an established securities market or readily tradable on a
secondary market (or the substantial equivalent thereof). Code Section 7704(b).
Proposed Regulation 1.7704-1(b) provides that an “established securities market”
includes a national securities exchange registered under Section 6 of the
Securities Exchange Act of 1934 (the “1934 Act”), a national securities exchange
exempt under the 1934 Act because of the limited volume of transactions, certain
foreign security laws, regional or local exchanges, and an interdealer quotation
system that regularly disseminates firm buy or sell quotations by identified
brokers or dealers. The General Partner has represented that the Units will not
be traded on an established securities market.

 

Notwithstanding the above general treatment of PTPs, Code Section 7704(c)
creates an exception to the treatment of PTPs as corporations for any taxable
year if 90% or more of the gross income of the partnership for such taxable year
consists of “qualifying income.” Code Section 7704(c)(2). For this purpose,
qualifying income is defined to include, inter alia, “income and gains derived
from the exploration, development, mining or production, processing, refining...
or the marketing of any mineral or natural resource...” Code Section
7704(d)(1)(E). The General Partner has represented that for all taxable years of
the Partnership, 90% or more of the Partnership’s gross income will consist of
such qualifying income.

 

Regarding the definition of PTPs contained in the Code, the Committee Reports to
the 1987 Act provide that PTPs include entities with respect to which, inter
alia, (i) ”the holder of an interest has a readily available, regular and
ongoing opportunity to sell or exchange his interest through a public means of
obtaining or providing information of offers to buy, sell or exchange
interests,” (ii) ”prospective buyers and sellers have the opportunity to buy,
sell or exchange interests in a time frame and with the regularity and
continuity that the existence of a market maker would provide,” and (iii) there
exists a “regular plan of redemptions or repurchases” or similar acquisitions of
interests in the partnership such that holders of interests have readily
available, regular and ongoing opportunities to dispose of their interests.”

 

The Service issued Regulation Section 1.7704-1 to clarify when partnership
interests that are not traded on an established securities market will be
treated as readily tradable on a secondary market or the substantial equivalent
thereof. Essentially, the Regulation provides that such a situation occurs if
partners are readily able to buy, sell, or exchange their partnership interests
in a manner that is comparable, economically, to trading on an established
securities market. In addition, Notice 88-76 and the Regulation provide limited
safe harbors from the definition of a PTP in advance of the issuance of final
regulations. It is unclear whether the limited safe harbors provided in the
Notice and Regulation would result in the Units being treated as not publicly
traded and we express no opinion regarding this matter. However, the General
Partner’s obligation to purchase Units pursuant to the right or presentment
described in

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the Memorandum is conditioned upon the receipt by the Partnership from its
counsel of an opinion that such offers or obligations to offer will not cause
the Partnership to be treated as “publicly traded.”

 

Due to the presence of the opinion of counsel condition, the Partnership, in our
opinion, will not be treated as a PTP prior to any purchases of Units pursuant
to the right of presentment. Accordingly, the Partnership, in our opinion, will
not be treated as a corporation for federal income tax purposes under Code
Section 7704 in the absence of the Partnership’s interests being “readily
tradable on a secondary market (or the substantial equivalent thereof).”

 

Notwithstanding the above, the Service may promulgate regulations or release
announcements which take the position that interests in partnerships such as the
Partnership are readily tradable on a secondary market or the substantial
equivalent thereof. However, treatment of the Partnership as a PTP should not
result in its treatment as a corporation for federal income tax purposes due to
the exception contained in Code Section 7704(c) relating to PTPs meeting the 90%
of gross income test so long as such gross income test is satisfied.

 

C. Summary

 

Based on the above, in our opinion the Partnership will not be treated as an
association taxable as corporation for federal income tax purposes by reason of
the Check the Box Regulations. Further, since any obligation of the General
Partner to purchase Units is conditioned upon the receipt of an opinion of
counsel that the Partnership will not be treated as a PTP, and assuming the
Partnership satisfies the 90% gross income test of Code Section 7704, the
Partnership, in our opinion, will not be treated as a corporation for federal
income tax purposes. Accordingly, the Partnership in our opinion will be treated
as partnership for federal income tax purposes. If challenged by the Service on
this issue, the Partners should prevail on the merits, and each Partner should
be required to report his proportionate share of the Partnership’s items of
income and deductions on his individual federal income tax return.

 

If in any taxable year the Partnership were to be treated for federal income tax
purposes as a corporation or as an association taxable as a corporation, the
Partnership income, gain, loss, deductions, and credits would be reflected only
on its “corporate” tax return rather than being passed though to the Partners.
In such event, the Partnership would be required to pay income tax at corporate
rates on its net income, thereby reducing the amount of cash available to be
distributed to the Partners. Additionally, all or a portion of any distribution
made to Partners would be taxable as dividends, which would not be deductible by
the Partnership and which would generally be treated as ordinary portfolio
income to the Partners, regardless of the source from which such distributions
were generated.

 

The discussion that follows is based on the assumption that the Partnership will
be classified as a partnership for federal income tax purposes.

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FEDERAL TAXATION OF THE PARTNERSHIP

 

Under the Code, a partnership is not a taxable entity and, accordingly, incurs
no federal income tax liability. Rather, a partnership is a “pass-through”
entity which is required to file an information return with the Service. In
general the character of a partner’s share of each item of income, gain, loss,
deduction, and credit is determined at the partnership level. Each partner is
allocated a distributive share of such items in accordance with the partnership
agreement and is required to take such items into account in determining the
partner’s income. Each partner includes such amounts in income for any taxable
year of the partnership ending within or with the taxable year of the partner,
without regard to whether the partner has received or will receive any cash
distributions from the Partnership.

 

A partnership anti-abuse regulation promulgated under Reg. Section 1.701-2
authorizes the Service to recharacterize a partnership transaction if (1) a
partnership is formed or availed of in connection with a transaction a principal
purpose of which is to reduce substantially the present value of the partners’
aggregate federal income tax liability, and (2) the transaction is inconsistent
with the intent of the Subchapter K partnership provisions. Additionally, the
regulation permits the Service to treat a partnership as an aggregate of its
partners, in whole or in part, as appropriate, to carry out the purpose of any
provision of the Code or the regulations. The scope of this regulation is
unclear at this time. Accordingly, we are unable to express an opinion as to its
effect, if any, on the Partnership.

 

REGISTRATION AS A TAX SHELTER

 

The Code provides that certain investments must be registered as tax shelters
with the Service. Registration numbers for such tax shelters must be supplied to
investors who are required to report the numbers on their personal tax returns.
Any organizer of a “potentially abusive tax shelter” and any person selling an
interest in such shelter are required to maintain a list of investors in such
tax shelter to whom interests were sold (together with other identifying
information) and to make the list available to the Service upon request. Any tax
shelter which is required to be registered and any other plan or arrangement
which is of a type determined by the Treasury Regulations as having a potential
for tax avoidance or evasion is considered a potentially abusive tax shelter for
this purpose.

 

The registration requirements apply only to an investment with respect to which
any person could reasonably infer from the representations made, or to be made,
in connection with the offering for sale of interests in the investment that the
“tax shelter ratio” for any investor is greater than two to one as of the close
of any of the first five years ending after the date on which such investment is
offered for sale.

 

The General Partner has represented that, (i) based upon its experience with its
oil and gas partnerships and upon the intended operations of the Partnership, it
does not believe that the Partnership will have a tax shelter ratio greater than
two to one, (ii) the deductions and credits that are or will be represented as
potentially allowable to an investor will not result in any

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Partnership having a tax shelter ratio greater than two to one, and (iii) based
upon a review of the economics of its similar oil and gas partnerships for the
past several years, it has determined that none of those partnerships has
resulted in a tax shelter ratio greater than two to one. Accordingly, the
General Partner does not intend to cause the Partnership to register with the
Service as a tax shelter. Based on the foregoing representations, we are of the
opinion that the Partnership will not be required to register with the Service
as a tax shelter.

 

If it is subsequently determined that the Partnership was required to be
registered with the Service as a tax shelter, the Partnership would be subject
to certain penalties under Code Section 6707, including a penalty ranging from
$500 to 1% of the aggregate amount invested in Units for failing to register and
$100 for each failure to furnish to a Partner a tax shelter registration number,
and each Partner would be liable for a $250 penalty for failure to include the
tax registration number on his tax return, unless such failure was due to
reasonable cause. A Partner also would be liable for a penalty of $100 for
failing to furnish the tax shelter registration number to any transferee of his
Partnership interest. We can give no assurance that, if the Partnership is
determined to be a tax shelter which must be registered with the Service, the
above penalties will not apply.

 

OWNERSHIP OF PARTNERSHIP PROPERTIES

 

The General Partner has indicated that it, as nominee for the Partnership (the
“Nominee”), will acquire and hold title to Partnership Properties on behalf of
the Partnership. The Nominee and the Partnership will enter into an agency
agreement before the Nominee acquires any oil and gas properties on behalf of
the Partnership. That agency agreement will reflect that the Nominee’s
acquisition of Partnership Properties is on behalf of the Partnership. For
various cost and procedural reasons, the assignments of all oil and gas
interests acquired by the Nominee on behalf of the Partnership to the
Partnership will not be recorded in the real estate records in the counties in
which the Partnership Properties are located. That is, while the Partnership
will be the owner of the Partnership Properties, there will be no public record
of that ownership. It is possible that the Service could assert that the Nominee
should be treated for federal income tax purposes as the owner of the
Partnership Properties, notwithstanding the assignment of those Partnership
Properties to the Partnership. If the Service were to argue successfully that
the Nominee should be treated as the tax owner of the Partnership Properties,
there would be significant adverse federal income tax consequences to the
Limited Partners, such as the unavailability of depletion deductions in respect
of income from Partnership Properties. The Service is concerned that taxpayers
not be able to shift the tax consequences of transactions between parties based
on the parties’ declaration that one party is the agent of another; the Service
generally requires that taxpayers respect the form of their transactions and
ownership of property. Based on this concern, the Service may challenge the
Partnership’s treatment of Partnership Properties, and tax attributes thereof,
which are held of record by the Nominee.

 

In Commissioner of Internal Revenue v. Bollinger, 485 U.S. 340 (1988), the
United States Supreme Court reviewed a principal-agent relationship and held for
the taxpayer in concluding that the principal should be treated as the tax owner
of property held in the name of the agent. In

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that case the Supreme Court noted that “It seems to us that the genuineness of
the agency relationship is adequately assured, and tax-avoiding manipulation
adequately avoided, when the fact that the corporation is acting as agent for
its shareholders with respect to a particular asset is set forth in a written
agreement at the time the asset is acquired, the corporation functions as agent
and not principal with respect to the asset for all purposes, and the
corporation is held out as the agent and not principal in all dealings with
third parties relating to the asset.” While the Partnership and the Nominee will
have in place an agreement defining their relationship before any Partnership
Properties are acquired by the Nominee and the Nominee will function as agent
with respect to those Partnership Properties on behalf of the Partnership, the
Nominee will not hold itself out to all third parties as the agent of the
Partnership in dealings relating to the Partnership Properties. Unlike the
relationship between the principal and the agent in Bollinger, the Nominee will,
however, assign title to Partnership Properties to the Partnership, but will not
record those assignments. Accordingly, the facts related to the relationship
between the Nominee and the Partnership are not the same as the facts in
Bollinger and it is not clear that the failure of the Nominee to hold itself out
to third parties as the agent of the Partnership in dealings relating to
Partnership Properties would result in the treatment of the Nominee as the tax
owner of the Partnership Properties. For the foregoing reasons, we have not
expressed an opinion on this issue, but we believe that substantial arguments
may be made that the Partnership should be treated as the tax owner of
Partnership Properties acquired by the Nominee on the Partnership’s behalf. If
the Partnership were not treated as the tax owner of the Partnership Properties,
then our conclusions with respect to the following discussions which relate to
the Partners’ deduction of tax items which are derived from Partnership
Properties, such as IDC, depletion and Depreciation, would not be applicable.

 

INTANGIBLE DRILLING AND DEVELOPMENT COSTS DEDUCTIONS

 

Under Code Section 263(a), taxpayers are denied deductions for capital
expenditures, which expenditures are those that generally result in the creation
of an asset having a useful life which extends substantially beyond the close of
the taxable year. See also Treas. Reg. Section 1.461-1(a)(2). In Indopco, Inc.
v. Commissioner, 92-1 USTC paragraph 50,113 (1992), the Supreme Court seemed to
further limit the capitalization criteria by stating that the costs should be
capitalized when they provide benefits that extend beyond one tax year.
Notwithstanding these statutory and judicial general rules, Congress has granted
to the Secretary of the Treasury the authority to prescribe regulations that
would allow taxpayers the option of deducting, rather than capitalizing,
intangible drilling and development costs (“IDC”). Code Section 263. The
Secretary’s rules are embodied in Treas. Reg. Section 1.612-4 and state that, in
general, the option to deduct IDC applies only to expenditures for drilling and
development items that do not have a salvage value.

 

With respect to IDC incurred by a partnership, Code Section 703 and Treas. Reg.
Section 1.703-1(b) provide that the option to deduct such costs is to be
exercised at the partnership level and in the year in which the deduction is to
be taken. All partners are bound by the partnership’s election. The General
Partner has represented that the Partnership will elect to deduct IDC in
accordance with Treas. Reg. Section 1.612-4. In this regard, subject to such

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provision, Limited Partners will be entitled to deduct IDC against passive
income in the year in which the investment is made, provided wells are spudded
within the first ninety days of the following year.

 

A. Classification of Costs

 

In general, IDC consists of those costs which in and of themselves have no
salvage value. Treas. Reg. Section 1.612-4(a) provides examples of items to
which the option to deduct IDC applies, including all amounts paid for labor,
fuel, repairs, hauling, and supplies, or any of them, which are used (i) in the
drilling, shooting, and cleaning of wells, (ii) in such clearing of ground,
draining, road making, surveying, and geological works as are necessary in the
preparation for the drilling of wells, and (iii) in the construction of such
derricks, tanks, pipelines, and other physical structures as are necessary for
the drilling of wells and the preparation of wells for the production of oil or
gas. The Service, in Rev. Rul. 70-414, 1970-2 C.B. 132, set forth further
classifications of items subject to the option and those considered capital in
nature. The ruling provides that the following items are not subject to the
election of Treas. Reg. Section 1.612-4(a): (i) oil well pumps (upon initial
completion of the well), including the necessary housing structures; (ii) oil
well pumps (after the well has flowed for a time), including the necessary
housing structures; (iii) oil well separators, including the necessary housing
structures; (iv) pipelines from the wellhead to oil storage tanks on the
producing lease; (v) oil storage tanks on the producing lease; (vi) salt water
disposal equipment, including any necessary pipelines; (vii) pipelines from the
mouth of a gas well to the first point of control, such as a common carrier
pipeline, natural gasoline plant, or carbon black plant; (viii) recycling
equipment, including any necessary pipelines; and (ix) pipelines from oil
storage tanks on the producing leasehold to a common carrier pipeline.

 

A partnership’s classification of a cost as IDC is not binding on the
government, which might reclassify an item labeled as IDC as a cost which must
be capitalized. In Bernuth v. Commissioner, 57 T.C. 225 (1971), aff’d, 470 F.2d
710 (2nd Cir. 1972), the Tax Court denied taxpayers a deduction for that portion
of a turnkey drilling contract price that was in excess of a reasonable cost for
drilling the wells in question under a turnkey contract, holding that the amount
specified in the turnkey contract was not controlling. Similarly, the Service,
in Rev. Rul. 73-211, 1973-1 C.B. 303, concluded that excessive turnkey costs are
not deductible as IDC:

 

[o]nly that portion of the amount of the taxpayer’s total investment that is
attributable to intangible drilling and development costs that would have been
incurred in an arm’s-length transaction with an unrelated drilling contractor
(in accordance with the economic realities of the transaction) is deductible [as
IDC].

 

To the extent the Partnership’s prices meet the reasonable price standards
imposed by Bernuth, supra, and Rev. Rul 73-211, supra, and to the extent such
amounts are not allocable to tangible property, leasehold costs, and the like,
the amounts paid to the General Partner or its affiliates under drilling
contracts should qualify as IDC and should be deductible at the time described
below under “B. Timing of Deductions.” That portion of the amount paid to the

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General Partner or its affiliates that is in excess of the amount that would be
charged by an independent driller under similar conditions will not qualify as
IDC and will be required to be capitalized.

 

We are unable to express an opinion regarding the reasonableness or proper
characterization of the payments under the drilling contracts, since the
determination of whether the amounts are reasonable or excessive is inherently
factual in nature. No assurance can be given that the Service will not
characterize a portion of the amount paid to the General Partner or its
affiliates as an excessive payment, to be capitalized as a leasehold cost,
assignment fee, syndication fee, organization fee, or other cost, and not
deductible as IDC. To the extent not deductible such amounts will be included in
the Partners’ bases in their interests in the Partnership.

 

B. Timing of Deductions

 

As described above, Code Section 263(c) and Treas. Reg. Section 1.612-4 allow
the Partnership to expense IDC as opposed to capitalizing such amounts. Even if
the Partnership elects to expense the IDC, assuming a taxpayer is otherwise
entitled to such a deduction, the taxpayer may elect to capitalize all or a part
of the IDC and amortize the same on a straight-line basis over a sixty month
period, beginning with the taxable month in which such expenditure is made. Code
Section 59(e)(1) and (2)(c).

 

For taxpayers entitled to deduct IDC, the timing of such deduction can vary,
depending, in part, upon the taxpayer’s method of accounting. The General
Partner has represented that the Partnership will use the accrual method of
accounting. Under the accrual method, income is recognized when all the events
have occurred which fix the right to receive such income and the amount thereof
can be determined with reasonable accuracy. Treas. Reg. Section 1.451-1(a). With
respect to deductions, recognition results when all events which establish
liability have occurred and the amount thereof can be determined with reasonable
accuracy. Treas. Reg. Section 1.461-1(a)(2). Regarding deductions, Code Section
461(h)(1) provides that “. . . the all events test shall not be treated as met
any earlier than when economic performance with respect to such item occurs.”

 

Code Section 461(i)(2), provides that, in the case of a “tax shelter,” economic
performance with respect to the act of drilling an oil or gas well will “. . .
be treated as having occurred within a taxable year if drilling of the well
commences before the close of the 90th day after the close of the taxable year.”
The Code Section 461 definition of a “tax shelter” is expansive and would
include the Partnership. However, with respect to a tax shelter which is a
partnership, the maximum deduction that would be allowable for any prepaid
expenses under this exception would be limited to the partner’s “cash basis” in
the partnership. Code Section 461(i)(2)(B)(i). Such “cash basis equals the
partner’s adjusted basis in the partnership, determined without regard to (i)
any liability of the partnership and (ii) any amount borrowed by the partner
with respect to the partnership which (I) was arranged by the partnership or by
any person who participated in the organization, sale, or management of the
partnership (or any

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person related to such person within the meaning of Code Section 465(b)(3)(C))
or (II) was secured by any assets of the partnership”. Code Section
461(i)(2)(C). The General Partner has represented that drilling operations for
Partnership wells will commence by the spudding of each well on or before
December 31, 2005. If completion is warranted, each well will be completed with
due diligence thereafter. Further the General Partner has represented that, in
any event, the Partnership will not have any such liability referred to in Code
Section 461(i)(2)(C), and the Partners will not so incur any such debt so as to
result in application of the limiting provisions contained in Code Section
461(i)(2)(B)(i).

 

Notwithstanding the above, the deductibility of any prepaid IDC will be subject
to the limitations of case law. These limitations provide that prepaid IDC is
deductible when paid if (i) the expenditure constitutes a payment that is not
merely a deposit, (ii) the payment is made for a business purpose, and (iii)
deductions attributable to such outlay do not result in a material distortion of
income. See Keller v. Commissioner, 79 T.C. 7 (1982), aff’d, 725 F.2d 1173 (8th
Cir. 1984), Rev. Rul. 71-252, 1971-1 C.B. 146, Pauley v. U.S., 63-1 U.S.T.C.
paragraph 9280 (S.D. Cal. 1963), Rev. Rul. 80-71, 1980-1 C.B. 106, Jolley v.
Commissioner, 47 T.C.M. 1082 (1984), Dillingham v. U.S., 81-2 U.S.T.C. paragraph
9601 (W.D. Okla. 1981), and Stradlings Building Materials, Inc. v. Commissioner,
76 T.C. 84 (1981). Generally, these requirements may be met by a showing of a
legally binding obligation (i.e., the payment was not merely a deposit), of a
legitimate business purpose for the payment, that performance of the services
was required within a reasonable time, and of an arm’s-length price. Similar
requirements apply to cash basis taxpayers seeking to deduct prepaid IDC.

 

The General Partner is unable to represent that all of the Partnership’s wells
will be completed in 2005; however, the General Partner has represented that any
such well that is not completed in 2005 will be spudded by not later than
December 31, 2005.

 

The Service has challenged the timing of the deduction of IDC when the wells
giving rise to such deduction have been completed in a year subsequent to the
year of prepayment. The decisions noted above hold that prepayments of IDC by a
cash basis taxpayer are, under certain circumstances, deductible in the year of
prepayment if some work is performed in the year of prepayment even though the
well is not completed that year.

 

In Keller v. Commissioner, supra, the Eighth Circuit Court of Appeals applied a
three-part test for determining the current deductibility of prepaid IDC by a
cash basis taxpayer, namely whether (i) the expenditure was a payment or a mere
deposit, (ii) the payment was made for a valid business purpose and (iii) the
prepayment resulted in a material distortion of income. The facts in that case
dealt with two different forms of drilling contracts: footage or day-work
contracts and turnkey contracts. Under the turnkey contracts, the prepayments
were not refundable in any event, but in the event work was stopped on one well
the remaining unused amount would be applied to another well to be drilled on a
turnkey basis. Contrary to the Service’s argument that this substitution feature
rendered the payment a mere deposit, the court in Keller concluded that the
prepayments were indeed “payments” because the taxpayer could not compel a
refund. The court further found that the deduction clearly reflected income
because

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under the unique characteristics of the turnkey contract the taxpayer locked in
the price and shifted the drilling risk to the contractor, for a premium,
effectively getting its bargained for benefit in the year of payment. Therefore,
the court concluded that the cash basis taxpayers in that case properly could
deduct turnkey payments in the year of payment. With respect to the prepayments
under the footage or day-work contracts, however, the court found that the
payments were mere deposits on the facts of the case, because the partnership
had the power to compel a refund. The court was also unconvinced as to the
business purpose for prepayment under the footage or day-work contracts,
primarily because the testimony indicated that the drillers would have provided
the required services with or without prepayment.

 

Under the terms of drilling and operating agreements to be entered into by and
between the Partnership and the General Partners or its affiliates, if amounts
paid by the Partnership prior to the commencement of drilling exceed amounts due
the General Partner or its affiliates thereunder, the General Partner or its
affiliates will not refund any portion of amounts paid by the Partnership, but
rather will create a credit once the actual costs incurred by the General
Partner or its affiliates are compared to the amounts paid.

 

The Service has adopted the position that the relationship between the parties
may provide evidence that the drilling contract between the parties requiring
prepayment may not be a bona fide arm’s-length transaction, in which case a
portion of the prepayment may be disallowed as being a “non-required payment.”
Section 4236, Internal Revenue Service Examination Tax Shelters Handbook
(6-27-85). A similar position is taken by the Service in the Tax Shelter Audit
Technique Guidelines. Internal Revenue Service Examination Tax Shelter Handbook.

 

The Service has formally applied its position on prepayments to related parties
in Revenue Ruling 80-71. 1980-1 C.B. 106. In this ruling, a subsidiary
corporation, which was a general partner in an oil and gas limited partnership,
prepaid the partnership’s drilling and completion costs under a turnkey contract
entered into with the corporate parent of the general partner. The agreement did
not provide for any date for commencing drilling operations and the contractor,
which did not own any drilling equipment, was to arrange for the drilling
equipment for the wells through subcontractors. Revenue Ruling 71-252, supra,
was factually distinguished on the grounds of the business purpose of the
transaction, immediate expenditure of prepaid receipts, and completion of the
wells within two and one-half months. Rev. Rul. 80-71 found that the prepayment
was not made in accordance with customary business practice and held on the
facts that the payment was deductible in the tax year that the related general
contractor paid the independent subcontractor.

 

However, in Tom B. Dillingham v. United States, 1981-2 USTC paragraph 9601 (D.C.
Okla. 1981), the court held that, on the facts before it, a contract between
related parties requiring a prepaid IDC did give rise to a deduction in the year
paid. In that case, Basin Petroleum Corp. (“Basin”) was the general partner of
several drilling partnerships and also served as the partnership operator and
general contractor. As general contractor, Basin was to conduct the drilling of
the wells at a fixed price on a turnkey basis under an agreement that required
payment prior to the end of the year in question. The stated reason for the
prepayment

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was to provide Basin with working capital for the drilling of the wells and to
temporarily provide funds to Basin for other operations. The agreement required
drilling to commence within a reasonable period of time, and all wells were
completed within the following year. Some of the wells were drilled by Basin
with its own rigs and some were drilled by subcontractors. The court stated:

 

The fact that the owner and contractor is the general partner of the
partnership-owner does not change this result where, as here, the Plaintiffs
have shown that prepayment was required for a legitimate business purpose and
the transaction was not a sham to merely permit Plaintiff to control the timing
of the deduction. IRC, Sec. 707(a). Plaintiffs were entitled to rely upon
Revenue Ruling 71-252 by reason of Income Tax Regulations 26 C.F.R. Section
601.601(d)(2)(v)(e) . . .

 

Notwithstanding the foregoing, no assurance can be given that the Service will
not challenge the current deduction of IDC because of the prepayment being made
to a related party. If the Service were successful with such challenge, the
Partners’ deductions for IDC would be deferred to later years.

 

The timing of the deductibility of prepaid IDC is inherently a factual
determination which is to a large extent predicated on future events. The
General Partner has represented that the drilling and operating agreements to be
entered into with an affiliate of the General Partner by the Partnership will be
duly executed by and delivered to such affiliate, the Partnership and the
General Partner as attorney-in-fact for the Partners and will govern the
drilling, and, if warranted, the completion of each of the Partnership=s wells.
Based upon this representation and others included within the opinion and
assuming that the drilling and operating agreements will be performed in
accordance with their terms, we are of the opinion that the payment for IDC
under the drilling and operating agreements, if made in 2005, will be allowable
as a deduction in 2005, subject to the other limitations discussed in this
opinion. Although the General Partner will attempt to satisfy each requirement
of the Service and judicial authority for deductibility of IDC in 2005, no
assurance can be given that the Service will not successfully contend that the
IDC of a well which is not completed until 2006 are not deductible in whole or
in part until 2006

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C. Recapture of IDC

 

IDC which has been deducted is subject to recapture as ordinary income upon
certain dispositions (other than by abandonment, gift, death, or tax-free
exchange) of an interest in an oil or gas property. IDC previously deducted that
is allocable to the property (directly or through the ownership of an interest
in a partnership) and which would have been included in the adjusted basis of
the property is recaptured to the extent of any gain realized upon the
disposition of the property. Treasury Regulations provide that recapture is
determined at the partner level (subject to certain anti-abuse provisions).
Treas. Reg. Section 1.1254-5(b). Where only a portion of recapture property is
disposed of, any IDC related to the entire property is recaptured to the extent
of the gain realized on the portion of the property sold. In the case of the
disposition of an undivided interest in a property (as opposed to the
disposition of a portion of the property), a proportionate part of the IDC with
respect to the property is treated as allocable to the transferred undivided
interest to the extent of any realized gain. Treas. Reg. Section 1.1254-1(c).

 

DEPLETION DEDUCTIONS

 

The owner of an economic interest in an oil and gas property is entitled to
claim the greater of percentage depletion or cost depletion with respect to oil
and gas properties which qualify for such depletion methods. In the case of
partnerships, the depletion allowance must be computed separately by each
partner and not by the partnership. Code Section 613A(c)(7)(D). Notwithstanding
this requirement, however, the Partnership, pursuant to Section 3.01(d)(i) of
the Partnership Agreement, will compute a “simulated depletion allowance” at the
Partnership level, solely for the purposes of maintaining Capital Accounts. Code
Sections 613A(d)(2) and 613A(d)(4).

 

Cost depletion for any year is determined by multiplying the number of units
(e.g., barrels of oil or Mcf of gas) sold during the year by a fraction, the
numerator of which is the cost of the mineral interest and the denominator of
which is the estimated recoverable units of reserve available as of the
beginning of the depletion period. See Treas. Reg. Section 1.611-2(a). In no
event can the cost depletion exceed the adjusted basis of the property to which
it relates.

 

Percentage depletion is generally available only with respect to the domestic
oil and gas production of certain “independent producers.” In order to qualify
as an independent producer, the taxpayer, either directly or through certain
related parties, may not be involved in the refining of more 50,000 barrels of
oil (or equivalent of gas) on any day during the taxable year or in the retail
marketing of oil and gas products exceeding $5 million per year in the
aggregate.

 

In general, (i) component members of a controlled group of corporations, (ii)
corporations, trusts, or estates under common control by the same or related
persons and (iii) members of the same family (an individual, his spouse and
minor children) are aggregated and treated as one taxpayer in determining the
quantity of production (barrels of oil or cubic feet of gas per day) qualifying
for percentage depletion under the independent producer’s exemption.

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Code Section 613A(c)(8). No aggregation is required among partners or between a
partner and a partnership. An individual taxpayer is related to an entity
engaged in refining or retail marketing if he owns 5% or more of such entity.
Code Section 613A(d)(3).

 

Percentage depletion is a statutory allowance pursuant to which, under current
law, a minimum deduction equal to 15% of the taxpayer’s gross income from the
property is allowed in any taxable year, not to exceed (i) 100% of the
taxpayer’s taxable income from the property (computed without the allowance for
depletion) or (ii) 65% of the taxpayer’s taxable income for the year (computed
without regard to percentage depletion and net operating loss and capital loss
carrybacks). Code Sections 613(a) and 613A(d)(1). The rate of the percentage
depletion deduction will vary with the price of oil. In the case of production
from marginal properties, the percentage depletion rate may be increased.
Section 613A(c)(6). For purposes of computing the percentage depletion
deduction, “gross income from the property” does not include any lease bonus,
advance royalty, or other amount payable without regard to production from the
property. Code Section 613A(d)(5). Depletion deductions reduce the taxpayer’s
adjusted basis in the property. However, unlike cost depletion, deductions under
percentage depletion are not limited to the adjusted basis of the property; the
percentage depletion amount continues to be allowable as a deduction after the
adjusted basis has been reduced to zero.

 

Percentage depletion will be available, if at all, only to the extent that a
taxpayer’s average daily production of domestic crude oil or domestic natural
gas does not exceed the taxpayer’s depletable oil quantity or depletable natural
gas quantity, respectively. Generally, the taxpayer’s depletable oil quantity
equals 1,000 barrels and depletable natural gas quantity equals 6,000,000 cubic
feet. Code Section 613A(c)(3) and (4). In computing his individual limitation, a
Partner will be required to aggregate his share of the Partnership’s oil and gas
production with his share of production from all other oil and gas investments.
Code Section 613A(c). Taxpayers who have both oil and gas production may
allocate the deduction limitation between the two types of production.

 

The availability of depletion, whether cost or percentage, will be determined
separately by each Partner. Each Partner must separately keep records of his
share of the adjusted basis in an oil or gas property, adjust such share of the
adjusted basis for any depletion taken on such property, and use such adjusted
basis each year in the computation of his cost depletion or in the computation
of his gain or loss on the disposition of such property. These requirements may
place an administrative burden on a Partner. For properties placed in service
after 1986, depletion deductions, to the extent they reduce the basis of an oil
and gas property, are subject to recapture under Section 1254.

 

SINCE THE AVAILABILITY OF PERCENTAGE DEPLETION FOR A PARTNER IS DEPENDENT UPON
THE STATUS OF THE PARTNER AS AN INDEPENDENT PRODUCER, WE ARE UNABLE TO RENDER
ANY OPINION AS TO THE AVAILABILITY OF PERCENTAGE DEPLETION. EACH PROSPECTIVE
INVESTOR IS URGED TO CONSULT WITH HIS PERSONAL TAX ADVISOR TO DETERMINE WHETHER
PERCENTAGE DEPLETION WOULD BE AVAILABLE TO HIM.

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DEPRECIATION DEDUCTIONS

 

The Partnership will claim depreciation, cost recovery, and amortization
deductions with respect to its basis in Partnership Property as permitted by the
Code. For most tangible personal property placed in service after December 31,
1986, the “modified accelerated cost recovery system” (“MACRS”) must be used in
calculating the cost recovery deductions. Thus, the cost of lease equipment and
well equipment, such as casing, tubing, tanks, and pumping units, and the cost
of oil or gas pipelines cannot be deducted currently but must be capitalized and
recovered under “MACRS.” The cost recovery deduction for most equipment used in
domestic oil and gas exploration and production and for most of the tangible
personal property used in natural gas gathering systems is calculated using the
200% declining balance method switching to the straight-line method, a
seven-year recovery period, and a half-year convention.

 

INTEREST DEDUCTIONS

 

In the Transaction, the Limited Partners will acquire their interests by
remitting cash in the amount of $1,000 per Unit to the Partnership (employees of
Unit Corporation and its subsidiaries may elect payroll withholding). In no
event will the Partnership accept notes in exchange for a Partnership interest.
Nevertheless, without any assistance of the General Partner or any of its
affiliates, some Partners may choose to borrow the funds necessary to acquire a
Unit and may incur interest expense in connection with those loans. Based upon
the purely factual nature of any such loans, we are unable to express an opinion
with respect to the deductibility of any interest paid or incurred thereon.

 

TRANSACTION FEES

 

The Partnership may classify a portion of the fees or expense reimbursement
payments (the “Fees”) to be paid to third parties and to the General Partner or
its affiliates as expenses which are deductible as organizational expenses or
otherwise. There is no assurance that the Service will allow the deductibility
of such expenses and we express no opinion with respect to the allocation of the
Fees to deductible and nondeductible items.

 

Generally, expenditures made in connection with the creation of, and with sales
of interests in, a partnership will fit within one of several categories.

 

A partnership may elect to amortize and deduct its organizational expenses (as
defined in Code Section 709(b)(2) and in Treas. Reg. Section 1.709-2(a)) ratably
over a period of not less than 60 months commencing with the month the
partnership begins business. Organizational expenses are expenses which (i) are
incident to the creation of the partnership, (ii) are chargeable to capital
account, and (iii) are of a character which, if expended incident to the
creation of a partnership having an ascertainable life, would (but for Code
Section 709(a)) be amortized over

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such life. Id. Examples of organizational expenses are legal fees for services
incident to the organization of the partnership, such as negotiation and
preparation of a partnership agreement, accounting fees for services incident to
the organization of the partnership, and filing fees. Treas. Reg. Section
1.709-2(a).

 

Under Code Section 709, no deduction is allowable for “syndication expenses,”
examples of which include brokerage fees, registration fees, legal fees of the
underwriter or placement agent and the issuer (general partners or the
partnership) for securities advice and for advice pertaining to the adequacy of
tax disclosures in the Memorandum or private placement memorandum for securities
law purposes, printing costs, and other selling or promotional material. These
costs must be capitalized. Treas. Reg. Section 1.709-2(b). Payments for services
performed in connection with the acquisition of capital assets must be amortized
over the useful life of such assets. Code Section 263.

 

Under Code Section 195, no deduction is allowable with respect to “start-up
expenditures,” although such expenditures may be capitalized and amortized over
a period of not less than 60 months. Start-up expenditures are defined as
amounts (i) paid or incurred in connection with (A) investigating the creation
or acquisition of an active trade or business, (B) creating an active trade or
business, or (C) any activity engaged in for profit and for the production of
income before the day on which the active trade or business begins, in
anticipation of such activity becoming an active trade or business, and (ii)
which, if paid or incurred in connection with the operation of an existing
active trade or business (in the same field as the trade or business referred to
in (i) above), would be allowable as a deduction for the taxable year in which
paid or incurred. Code Section 195(c)(1).

 

The Partnership intends to make expense reimbursement payments to the General
Partner, as described in the Memorandum. To be deductible, compensation paid to
a general partner must be for services rendered by the partner other than in his
capacity as a partner or for compensation determined without regard to
partnership income. Fees which are not deductible because they fail to meet this
test may be treated as special allocations of income to the recipient partner
(see Pratt v. Commissioner, 550 F.2d 1023 (5th Cir. 1977)), and thereby decrease
the net loss or increase the net income among all partners.

 

To the extent these expenditures described in the Memorandum are considered
syndication costs, they will be nondeductible by the Partnership. To the extent
attributable to organization fees (such as the amounts paid for legal services
incident to the organization of the Partnership), the expenditures may be
amortizable over a period of not less than 60 months, commencing with the month
the Partnership begins business, if the Partnership so elects; if no election is
made, no deduction is available. Finally, to the extent any portion of the
expenditures would be treated as “start-up,” they could be amortized over a 60
month or longer period, provided the proper election was made.

 

Due to the inherently factual nature of the proper allocation of expenses among
nondeductible syndication expenses, amortizable organization expenses,
amortizable “start-up”

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expenditures, and currently deductible items, and because the issues involve
questions concerning both the nature of the services performed and to be
performed and the reasonableness of amounts charged, we are unable to express an
opinion regarding such treatment. If the Service were to successfully challenge
the General Partner’s allocations, a Partner’s taxable income could be
increased, thereby resulting in increased taxes and in potential liability for
interest and penalties.

 

BASIS AND AT RISK LIMITATIONS

 

A Partner’s share of Partnership losses will not be allowed as a deduction to
the extent such share exceeds the amount of the Partner’s adjusted tax basis in
his Units. A Partner’s initial adjusted tax basis in his Units will generally be
equal to the cash he has invested to purchase his Units. Such adjusted tax basis
will generally be increased by (i) additional amounts invested in the
Partnership, including his share of net income, (ii) additional capital
contributions, if any, and (iii) his share of Partnership borrowings, if any,
based on the extent of his economic risk of loss for such borrowings. Such
adjusted tax basis will generally be reduced, but not below zero by (i) his
share of loss, (ii) his depletion deductions on his share of oil and gas income
(until such deductions exhaust his share of the basis of property subject to
depletion), (iii) the amount of cash and the adjusted basis of property other
than cash distributed to him, and (iv) his share of reduction in the amount of
indebtedness previously included in his basis.

 

In addition, Code Section 465 provides, in part, that, if an individual or a
closely held C (i.e., regularly taxed) corporation engages in any activity to
which Code Section 465 applies, any loss from that activity is allowed only to
the extent of the aggregate amount with respect to which the taxpayer is “at
risk” for such activity at the close of the taxable year. Code Section
465(a)(1). A closely held C corporation is a corporation more than fifty percent
(50%) of the stock of which is owned, directly or indirectly, at any time during
the last half of the taxable year by or for not more than five (5) individuals.
Code Sections 465(a)(1)(B), 542(a)(2). For purposes of Code Section 465, a loss
is defined as the excess of otherwise allowable deductions attributable to an
activity over the income received or accrued from that activity. Code Section
465(d). Any such loss disallowed by Code Section 465 shall be treated as a
deduction allocable to the activity in the first succeeding taxable year. Code
Section 465(a)(2).

 

Code Section 465(b)(1) provides that a taxpayer will be considered as being “at
risk” for an activity with respect to amounts including (i) the amount of money
and the adjusted basis of other property contributed by the taxpayer to the
activity, and (ii) amounts borrowed with respect to such activity to the extent
that the taxpayer (A) is personally liable for the repayment of such amounts, or
(B) has pledged property, other than property used in the activity, as security
for such borrowed amounts (to the extent of the net fair market value of the
taxpayer’s interest in such property). No property can be taken into account as
security if such property is directly or indirectly financed by indebtedness
that is secured by property used in the activity. Code Section 465(b)(2).
Further, amounts borrowed by the taxpayer shall not be taken into account if
such amounts are borrowed (i) from any person who has an interest (other than an
interest as a creditor) in such activity, or (ii) from a related person to a
person (other than the taxpayer) having such an interest. Code Section
465(b)(3).

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Related persons for purposes of Code Section 465(b)(3) are defined to include
related persons within the meaning of Code Section 267(b) (which describes
relationships between family members, corporations and shareholders, trusts and
their grantors, beneficiaries and fiduciaries, and similar relationships), Code
Section 707(b)(1) (which describes relationships between partnerships and their
partners) and Code Section 52 (which describes relationships between persons
engaged in businesses under common control). Code Section 465(b)(3)(C).

 

Finally, no taxpayer is considered at risk with respect to amounts for which the
taxpayer is protected against loss through nonrecourse financing, guarantees,
stop loss agreements, or other similar arrangements. Code Section 465(b)(4).

 

The Code provides that a taxpayer must recognize taxable income to the extent
that his “at risk” amount is reduced below zero. This recaptured income is
limited to the sum of the loss deductions previously allowed to the taxpayer,
less any amounts previously recaptured. A taxpayer may be allowed a deduction
for the recaptured amounts included in his taxable income if and when he
increases his amount “at risk” in a subsequent taxable year.

 

The Treasury has published proposed regulations relating to the at risk
provisions of Code Section 465. These proposed regulations provide that a
taxpayer’s at risk amount will include “personal funds” contributed by the
taxpayer to an activity. Prop. Treas. Reg. Section 1.465-22(a). “Personal funds”
and “personal assets” are defined in Prop. Treas. Reg. Section 1.465-9(f) as
funds and assets which (i) are owned by the taxpayer, (ii) are not acquired
through borrowing, and (iii) have a basis equal to their fair market value.

 

In addition to a taxpayer’s amount at risk being increased by the amount of
personal funds contributed to the activity, the excess of the taxpayer’s share
of all items of income received or accrued from an activity during a taxable
year over the taxpayer’s share of allowable deductions from the activity for the
year will also increase the amount at risk. Prop. Treas. Reg. Section 1.465-22.
A taxpayer’s amount at risk will be decreased by (i) the amount of money
withdrawn from the activity by or on behalf of the taxpayer, including
distributions from a partnership, and (ii) the amount of loss from the activity
allowed as a deduction under Code Section 465(a). Id.

 

The Partners will purchase Units by tendering cash (or payroll deductions) to
the Partnership. To the extent the cash contributed constitutes the “personal
funds” of the Partners, the Partners should be considered at risk with respect
to those amounts. To the extent the cash contributed constitutes “personal
funds,” in our opinion, neither the at risk rules nor the adjusted basis rules
will limit the deductibility of losses generated from the Partnership.

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PASSIVE LOSS AND CREDIT LIMITATIONS

 

A. Introduction

 

Code Section 469 provides that the deductibility of losses generated from
passive activities will be limited for certain taxpayers. The passive activity
loss limitations apply to individuals, estates, trusts, and personal service
corporations as well as, to a lesser extent, closely held C corporations. Code
Section 469(a)(2).

 

The definition of a “passive activity” generally encompasses all rental
activities as well as all activities with respect to which the taxpayer does not
“materially participate.” Code Section 469(c). Notwithstanding this general
rule, however, the term “passive activity” does not include “any working
interest in any oil or gas property which the taxpayer holds directly or through
an entity which does not limit the liability of the taxpayer with respect to
such interest.” Code Section 469(c)(3)(4).

 

A passive activity loss (“PAL”) is defined as the amount (if any) by which the
aggregate losses from all passive activities for the taxable year exceed the
aggregate income from all passive activities for such year. Code Section
469(d)(1).

 

Classification of an activity as passive will result in the income and expenses
generated therefrom being treated as “passive” except to the extent that any of
the income is “portfolio” income and except as otherwise provided in
regulations. Code Section 469(e)(1)(A). Portfolio income is income from, inter
alia, interest, dividends. and royalties not derived in the ordinary course of a
trade or business. Income that is neither passive nor portfolio is “net active
income.” Code Section 469(e)(2)(B).

 

With respect to the deductibility of PALs, individuals and personal service
corporations will be entitled to deduct such amounts only to the extent of their
passive income whereas closely held C corporations (other than personal service
corporations) can offset PALs against both passive and net active income, but
not against portfolio income. Code Section 469(a)(1), (e)(2). In calculating
passive income and loss, however, all activities of the taxpayer are aggregated.
Code Section 469(d)(1). PALs disallowed as a result of the above rules will be
suspended and can be carried forward indefinitely to offset future passive (or
passive and active, in the case of a closely held C corporation) income. Code
Section 469(b).

 

Upon the disposition of an entire interest in a passive activity in a fully
taxable transaction not involving a related party, any passive loss that was
suspended by the provisions of the Code Section 469 passive activity rules is
deductible from either passive or non-passive income. The deduction must be
reduced, however, by the amount of income or gain realized from the activity in
previous years.

 

As noted above, a passive activity includes an activity with respect to which
the taxpayer does not “materially participate.” A taxpayer will be considered as
materially participating in a

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venture only if the taxpayer is involved in the operations of the activity on a
“regular, continuous, and substantial” basis. Code Section 469(h)(1). With
respect to the determination as to whether a taxpayer’s participation in an
activity is material, temporary regulations issued by the Service provide that,
except for limited partners in a limited partnership, an individual will be
treated as materially participating in an activity if and only if (i) the
individual participates in the activity for more than 500 hours during such
year, (ii) the individual’s participation in the activity for the taxable year
constitutes substantially all of the participation in such activity of all
individuals for such year, (iii) the individual participates in the activity for
more than 100 hours during the taxable year, and such individual’s participation
in such activity is not less than the participation in the activity of any other
individual for such year, (iv) the activity is a trade or business activity of
the individual, the individual participates in the activity for more than 100
hours during such year, and the individual’s aggregate participation in all
significant participation activities of this type during the year exceeds 500
hours, (v) the individual materially participated in the activity for 5 of the
last 10 years, or (vi) the activity is a personal service activity and the
individual materially participated in the activity for any 3 preceding years.
Temp. Treas. Reg. Section 1.469-5T(a).

 

Notwithstanding the above, and except as may be provided in regulations, Code
Section 469(h)(2) provides that no limited partnership interest will be treated
as an interest with respect to which a taxpayer materially participates. The
temporary regulations create several exceptions to this rule and provide that a
limited partner will not be treated as not materially participating in an
activity of the partnership of which he is a limited partner if the limited
partner would be treated as materially participating for the taxable year under
paragraph (a)(1), (5), or (6) of Treas. Reg. Section 1.469-5T (as described in
(i), (v), and (vi) of the above paragraph) if the individual were not a limited
partner for such taxable year. Temp. Treas. Reg. Section 1.469-5T(e). For
purposes of this rule, a partnership interest of an individual will not be
treated as a limited partnership interest for the taxable year if the individual
is an Additional General Partner in the partnership at all times during the
partnership’s taxable year ending with or within the individual’s taxable year.
Id.

 

B. Limited Partner Interests

 

If an investor invests in the Partnership as a Limited Partner, in our opinion,
his distributive share of the Partnership’s losses will be treated as PALs, the
availability of which will be limited to his passive income thereon. If the
Limited Partner does not have sufficient passive income to utilize the PALs, the
disallowed PALs will be suspended and may be carried forward (but not back) to
be deducted against passive income arising in future years. Further, upon the
complete disposition of the interest to an unrelated party in a fully taxable
transaction, such suspended losses will be available, as described above.

 

Regarding Partnership income, Limited Partners should generally be entitled to
offset their distributive shares of such income with deductions from other
passive activities, except to the extent such Partnership income is portfolio
income. Since gross income from interest, dividends, annuities, and royalties
not derived in the ordinary course of a trade or business is not

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passive income, a Limited Partner’s share of income from royalties, income from
the investment of the Partnership’s working capital, and other items of
portfolio income will not be treated as passive income. In addition, Code
Section 469(1)(3) grants the Secretary of the Treasury the authority to
prescribe regulations requiring net income or gain from a limited partnership or
other passive activity to be treated as not from a passive activity.

 

C. Publicly Traded Partnerships

 

Notwithstanding the above, Code Section 469(k) treats net income from PTPs as
portfolio income under the PAL rules. Further each partner in a PTP is required
to treat any losses from a PTP as separate from income and loss from any other
PTP and also as separate from any income or loss from passive activities. Id.
Losses attributable to an interest in a PTP that are not allowed under the
passive activity rules are suspended and carried forward, as described above.
Further, upon a complete taxable disposition of an interest in a PTP, any
suspended losses are allowed (as described above with respect to the passive
loss rules). As noted above, we have opined that the Partnership will not be a
PTP.

 

In the event the Partnership were treated as a PTP, any net income would be
treated as portfolio income and each Partner’s loss therefrom would be treated
as separate from income and loss from any other PTP and also as separate from
any income or loss from passive activities. Since the Partnership should not be
treated as a PTP, the provisions of Code Section 469(k), in our opinion, will
not apply to the Partners in the manner outlined above prior to the time that
such Partnership becomes a PTP. However, unlike the PTP rules of Code Section
7704, the passive activity rules of Code Section 469 do not provide an exception
for partnerships that pass the 90% test of Code Section 7704. Accordingly, if
the Partnership were to be treated as a PTP under the passive activity rules,
passive losses could be used only to offset passive income from the Partnership.

 

ALTERNATIVE MINIMUM TAX

 

For taxable years beginning after December 31, 1992, Code Section 55 imposes on
noncorporate taxpayers a two-tiered, graduated rate schedule for alternative
minimum tax (“AMT”) equal to the sum of (i) 26% of so much of the “taxable
excess” as does not exceed $175,000, plus (ii) 28% of so much of the “taxable
excess” as exceeds $175,000. Code Section 55(b)(1)(A)(i). “Taxable excess” is
defined as so much of the alternative minimum taxable income (“AMTI”) for the
taxable year as exceeds the exemption amount. Code Section 55(b)(1)(A)(ii). AMTI
is generally defined as the taxpayer’s taxable income, increased or decreased by
certain adjustments and items of tax preference. Code Section 55(b)(2).

 

The exemption amount for noncorporate taxpayers is (i) $58,000 in the case of a
joint return or a surviving spouse, (ii) $40,250 in the case of an individual
who is not a married individual or a surviving spouse, and (iii) $29,000 in the
case of a married individual who files a separate return or an estate or trust.
Such amounts are phased out as a taxpayer’s AMTI increases above certain levels.
Code Section 55(d)(1) and (3). Individuals subject to the AMT are

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generally allowed a credit, equal to the portion of the AMT imposed by Code
Section 55 arising as a result of deferral preferences for use against the
taxpayer’s future regular tax liability (but not the minimum tax liability).

 

Under the AMT provisions, adjustments and items of tax preference that may arise
from a Partner’s acquisition of an interest in the Partnership include the
following:

 

1. For taxable years beginning after December 31, 1992, taxpayers which do not
meet the definition of an integrated oil company as defined in Code Section
291(b)(4) are not subject to the preference item for “excess IDC.” Code Section
57(a)(2)(E)(i). The benefit of the elimination of the preference is limited in
any taxable year to an amount equal to 40 percent of the alternative minimum
taxable income for the year computed as if the prior law “excess IDC” preference
item has not been eliminated. Code Section 57(a)(2)(E)(ii). Excess IDC is
defined as the excess of (i) IDC paid or incurred (other than costs incurred in
drilling a nonproductive well) with respect to which a deduction is allowable
under Code Section 263(c) for the taxable year over (ii) the amount which would
have been allowable for the taxable year if such costs had been capitalized and
(I) amortized over a 120 month period beginning with the month in which
production from such well begins or (II) recovered through cost depletion. Code
Section 57(a)(2)(B). However, any portion of the IDC to which an election under
Code Section 59(e) applies will not be treated as an item of tax preference
under Code Section 57(a). Code Section 59(e)(6). With respect to IDC paid or
incurred, corporate and individual taxpayers are allowed to make the Code
Section 59(e) election and, for regular tax and AMT purposes, deduct such
expenditures over the 60 month period beginning with the month in which such
expenditure is paid or incurred. Code Section 59(e)(1).

 

2. For taxable years beginning after December 31, 1992, the preference item for
excess depletion is repealed for other than integrated oil companies. Code
Section 57(a)(1).

 

3. Each Partner’s AMTI will be increased (or decreased) by the amount by which
the depreciation deductions allowable under Code Sections 167 and 168 with
respect to such property exceeds (or is less than) the depreciation determined
under the alternative depreciation system using the one hundred fifty percent
(150%) declining balance method switching to the straight-line method, when that
produces a greater deduction, in lieu of the straight-line method otherwise
prescribed by the ADS. Code Section 56(a)(1).

 

Due to the inherently factual nature of the applicability of the AMT to a
Partner, we are unable to express an opinion with respect to such issues. Due to
the potentially significant impact of a purchase of Units on an investor’s tax
liability, investors should discuss the implications of an investment in the
Partnership on their regular and AMT liabilities with their tax advisors prior
to acquiring Units.

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GAIN OR LOSS ON SALE OF PROPERTIES

 

Gain from the sale or other disposition of property is realized to the extent of
the excess of the amount realized therefrom over the property’s adjusted basis;
conversely, loss is realized in an amount equal to the excess of the property’s
adjusted basis over the amount realized from such a disposition. Code Section
1001(a). The amount realized is defined as the sum of any money received plus
the fair market value of the property (other than money) received. Code Section
1001(b). Accordingly, upon the sale or other disposition of the Partnership
properties, the Partners will realize gain or loss to the extent of their pro
rata share of the difference between the Partnership’s adjusted basis in the
property at the time of disposition and the amount realized upon disposition. In
the absence of nonrecognition provisions, any gain or loss realized will be
recognized for federal income tax purposes.

 

Gain or loss recognized upon the disposition of property used in a trade or
business and held for more than one year will be treated as long term capital
gain or as ordinary loss. Code Section 1231(a). Notwithstanding the above, any
gain realized may be taxed as ordinary income under one of several “recapture”
provisions of the Code or under the characterization rules relating to “dealers”
in personal property.

 

Code Section 1254 generally provides for the recapture of capital gains, arising
from the sale of property which was placed in service after 1986, as ordinary
income to the extent of the lesser of (i) the gain realized upon sale of the
property, or (ii) the sum of (A) all IDC previously deducted and (B) all
depletion deductions that reduced the property’s basis. Code Section 1254(a)(1).

 

Ordinary income may also result from the recapture, pursuant to Code Section
1245, of depreciation on the Partnership properties. Such recapture is the
amount by which (i) the lower of (A) the recomputed basis of the property, or
(B) the amount realized on the sale of the property exceeds (ii) the property’s
adjusted basis. Code Section 1245(a)(1). Recomputed basis is generally the
property’s adjusted basis increased by depreciation and amortization deductions
previously claimed with respect to the property. Code Section 1245(a)(2).

 

GAIN OR LOSS ON SALE OF UNITS

 

It the Units are capital assets in the hands of the Partners, gain or loss
realized by any such holders on the sale or other disposition of a Unit will be
characterized as capital gain or capital loss. Code Section 1221. Such gain or
loss will be a long term capital gain or loss if the Unit is held for more than
one year, or a short term capital gain or loss if held for one year or less.
However, the portion of the amount realized by a Partner in exchange for a Unit
that is attributable to the Partner’s share of the Partnership’s “unrealized
receivables” or “substantially appreciated inventory items” will be treated as
an amount realized from the sale or exchange of property other than a capital
asset. Code Section 751.

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Unrealized receivables are defined in Code Section 751(c) to include “ . . . oil
[or] gas . . . property . . . to the extent of the amount which would be treated
as gain to which section . . . 1245(a) . . . or 1254(a) would apply if . . .
such property had been sold by the partnership at its fair market value.” A sale
by the Partnership of the Partnership’s properties could give rise to treatment
of the gain thereunder as ordinary income as a result of Code Sections 1245(a)
or 1254(a). Accordingly, gain recognized by a Partner on the sale of a Unit
would be taxed as ordinary income to the Partner to the extent of his share of
the Partnership’s gain on property that would be recaptured, upon sale, under
those statutes.

 

Substantially appreciated inventory items are those “inventory items” noted
below, the fair market value of which exceeds 120% of the adjusted basis to the
partnership of such property, excluding any such inventory property acquired
with a principal purpose of avoiding Section 751. Code Section 751(d)(1).
Property treated as an “inventory item” for purposes of Code Section 751
includes (i) stock in trade of the partnership or other property of a kind which
would properly be included in its inventory if on hand at the end of the taxable
year, (ii) property held by the partnership primarily for sale to customers in
the ordinary course of its trade or business, and (iii) any other partnership
property which would constitute neither a capital asset nor property used in a
trade or business under Code Section 1231. Code Sections 751(d)(2) and 1221(1).

 

Under the aforementioned provisions, a Partner would recognize ordinary income
with respect to any deemed sale of assets under Code Section 751; further, this
ordinary income may be recognized even if the total amount realized on the sale
of a Unit is equal to or less than the Partner’s basis in the Unit.

 

Any partner who sells or exchanges interests in a partnership holding unrealized
receivables (which include IDC recapture and other items) or certain inventory
items must notify the partnership of such transaction in accordance with
Regulations under Code Section 6050K and must attach a statement to his tax
return reflecting certain facts regarding the sale or exchange. Regulations
promulgated by the Service provide that such notice to the partnership must be
given in writing within 30 days of the sale or exchange (or, if earlier, by
January 15 of the calendar year following the calendar year in which the
exchange occurred), and must include names, addresses, and taxpayer
identification numbers (if known) of the transferor and transferee and the date
of the exchange. Code Section 6721 provides that persons who fail to furnish
this information to the partnership will be penalized $50 for each such failure,
or, if such failure is due to intentional disregard to the filing requirement,
the person will be penalized the greater of (i) $100 or (ii) 10% of the
aggregate amount to be reported. Furthermore, a partnership is required to
notify the Service of any sale or exchange of interests of which it has notice,
and to report the names and addresses of the transferee and the transferor,
along with all other required information. The partnership also is required to
provide copies of the information it provides to the Service to the transferor
and the transferee.

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The tax consequences to an assignee purchaser of a Unit from a Partner are not
described herein. Any assignor of a Unit should advise his assignee to consult
his own tax advisor regarding the tax consequences of such assignment.

 

PARTNERSHIP DISTRIBUTIONS

 

Under the Code, any increase in a partner’s share of partnership liabilities, or
any increase in such partner’s individual liabilities by reason of an assumption
by him of partnership liabilities is considered to be a contribution of money by
the partner to the partnership. Similarly, any decrease in a partner’s share of
partnership liabilities or any decrease in such partner’s individual liabilities
by reason of the partnership’s assumption of such individual liabilities will be
considered as a distribution of money to the partner by the partnership. Code
Section 752(a), (b).

 

The Partners’ adjusted bases in their Units will initially consist of the cash
they contribute to the Partnership. Their bases will be increased by their share
of Partnership income and additional contributions and decreased by their share
of Partnership losses and distributions. To the extent that such actual or
constructive distributions are in excess of a Partner’s adjusted basis in his
Partnership interest (after adjustment for contributions and his share of income
and losses of the Partnership), that excess will generally be treated as gain
from the sale of a capital asset. In addition, gain could be recognized to a
distributee partner upon the disproportionate distribution to a partner of
unrealized receivables, substantially appreciated inventory or, in some cases,
Code Section 731(c) marketable securities, i.e., actively traded financial
instruments, foreign currencies or interests in certain defined properties.

 

PARTNERSHIP ALLOCATIONS

 

Allocations—General. Generally, a partner’s taxable income is increased or
decreased by his ratable share of partnership income or loss. Code Section 701.
However, the availability of these losses may be limited by the at risk rules of
Code Section 465, the passive activity rules of Code Section 469, and the
adjusted basis provisions of Code Section 704(d).

 

Code Section 704(b) provides that if a partnership agreement does not provide
for the allocation of each partner’s distributive share of partnership income,
gain, loss, deduction, or credit, or if the allocation of such items under the
partnership agreement lacks “substantial economic effect,” then each partner’s
share of those items must be allocated “in accordance with the partner’s
interest in the partnership.”

 

As discussed below, regulations under Code Section 704(b) define substantial
economic effect and prescribe the manner in which partners’ capital accounts
must be maintained in order for the allocations contained in a partnership
agreement to be respected. Notwithstanding these provisions, special rules apply
with respect to nonrecourse deductions since, under the Treasury Regulations,
allocations of losses or deductions attributable to nonrecourse liabilities
cannot have economic effect.

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The Service may contend that the allocations contained in the Partnership
Agreement do not have substantial economic effect or are not in accordance with
the Partners’ interests in the Partnership and may seek to reallocate these
items in a manner that will increase the income or gain or decrease the
deductions allocable to a Partner. We are of the opinion that, to the extent
provided herein, if challenged by the Service on this matter, the Partners’
distributive shares of Partnership income, gain, loss, deduction, or credit will
be determined and allocated substantially in accordance with the terms of the
Partnership Agreement and have substantial economic effect.

 

Substantial Economic Effect. Although a partner’s share of partnership income,
gain, loss, deduction, and credit is generally determined in accordance with the
partnership agreement, this share will be determined in accordance with the
partner’s interest in the partnership (determined by taking into account all
facts and circumstances) and not by the partnership agreement if the partnership
allocations do not have “substantial economic effect” and if the allocations are
not respected under the nonrecourse deduction provisions of the regulations.
Code Section 704(b); Treas. Reg. Sections 1.704-1(b)(2)(i), 1.704-2.

 

Treasury regulations provide that:

 

In order for an allocation to have economic effect, it must be consistent with
the underlying economic arrangement of the partners. This means that in the
event there is an economic benefit or economic burden that corresponds to an
allocation, the partner to whom the allocation is made must receive such
economic benefit or bear such economic burden.

 

Treas. Reg. Section 1.704-1(b)(2)(ii). The Regulations further provide that an
allocation will have economic effect only if, throughout the full term of the
partnership, the partnership agreement provides (i) for the determination and
maintenance of partner’s capital accounts in accordance with specified rules
contained therein, (ii) upon liquidation of the partnership or a partner’s
interest in the partnership, liquidating distributions are required to be made
in accordance with the positive capital account balances of the partners after
taking into account all capital account adjustments for the taxable year of the
liquidation, and (iii) either (A) a partner with a deficit balance in his
capital account following the liquidation is unconditionally obligated to
restore the amount of such deficit balance to the partnership by the end of the
taxable year of liquidation, or (B) the partnership agreement contains a
qualified income offset (“QIO”) provision as provided in Treas. Reg. Section
1.714-1(b)(2)(ii)(d). Treas. Reg. Sections 1.704-1(b)(2)(ii)(b) and
1.704-1(b)(2)(ii)(d).

 

The capital account maintenance rules generally mandate that each partner’s
capital account be increased by (i) money contributed by the partner to the
partnership, (ii) the fair market value (net of liabilities) of property
contributed by the partner to the partnership, and (iii) allocations to the
partner of partnership income and gain. Further, such capital account must be
decreased by (i) money distributed to the partner from the partnership, (ii) the
fair market value (net of liabilities) of property distributed to the partner
from the partnership, and (iii) allocations to the partner of partnership losses
and deductions. Treas. Reg. Section 1.704-1(b)(2)(iv).

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Treas. Reg. Section 1.714-1(b)(2)(iii) provides that an economic effect of an
allocation is “substantial” if there is a reasonable possibility that the
allocation will affect substantially the dollar amounts to be received by the
partners from the partnership, independent of tax consequences. The economic
effect of an allocation is not substantial if:

 

at the time the allocation becomes part of the partnership agreement, (1) the
after-tax economic consequences of at least one partner may, in present value
terms, be enhanced compared to such consequences if the allocation (or
allocations) were not contained in the partnership agreement, and (2) there is a
strong likelihood that the after-tax economic consequences of no partner will,
in present value terms, be substantially diminished compared to such
consequences if the allocation (or allocations) were not contained in the
partnership agreement. In determining the after-tax economic benefit or
detriment to a partner, tax consequences that result from the interaction of the
allocation with such partner’s tax attributes that are unrelated to the
partnership will be taken into account.

 

Treas. Reg. 1.704-1(b)(2)(iii)(a).

 

While the Service stated that it will not rule on whether an allocation
provision in a partnership agreement has substantial economic effect, several
Technical Advice Memoranda (“TAMs”) shed light on the Service’s position on such
matter. Notwithstanding the potential similarity between TAMs and a taxpayer’s
particular fact pattern, it should be noted that TAMs may not be used or cited
as precedent. Code Section 6110(j)(3), Treas. Reg. Sections 301.6110-2(a) and
-7(b). Nevertheless, TAMs do serve to illustrate the Service’s position on
certain specific cases. The TAMs relating to substantial economic effect focus
on the tax avoidance purpose of any such above-described allocations and on the
partnership plan for distributions upon liquidation. Illustrative of the
Service’s approach is TAM 8008054, in which the Service concluded that an
allocation to the partners solely of items that the partnership had elected to
expense (IDC) had as its principal purpose tax avoidance. The Service suggested
that, had the allocation affected the parties’ liquidation rights, the
allocation would have had substantial economic effect: “In general, substantial
economic effect has been found where all allocations of items of income, gain,
loss, deduction or credit increase or decrease the respective capital accounts
of the partners and distribution of assets made upon liquidation is made in
accordance with capital accounts.” The ruling noted that the investors “should
have been allocated their share of costs over the intangible drilling costs.”
Id. The question whether economic effect is “substantial” is one of fact which
may depend in part on the timing of income and deductions and on consideration
of the investors’ tax attributes unrelated to their investment in Units, and
thus is not a question upon which a legal opinion can ordinarily be expressed.
However, to the extent the tax brackets of all Partners do not differ at the
time the allocation becomes part of the partnership agreement, the economic
effect of the allocation provisions should be considered to be substantial.

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Code Section 613A(c)(7)(D) requires that the basis of oil and gas properties
owned by a partnership be allocated to the partners in accordance with their
interests in the capital or income of the partnership. Final Regulations issued
under Code Section 613A(c)(7)(D) indicate that such basis must be allocated in
accordance with the partners’ interests in the capital of the partnership if
their interests in partnership income vary over the life of the partnership for
any reason other than for reasons such as the admission of a new partner. Reg.
Section 1.613A-3(e)(2). The terms “capital” and “income” are not defined in the
Code or in the Regulations under Section 613A. The Treasury Regulations under
Code Section 704 indicate that if all partnership allocations of income, gain,
loss, and deduction (or items thereof) have substantial economic effect, an
allocation of the adjusted basis of an oil or gas property among the partners
will be deemed to be made in accordance with the partners’ interests in
partnership capital or income and will accordingly be recognized.

 

Pursuant to the Partnership Agreement, (i) allocations will be made as mandated
by the Treasury Regulations, (ii) liquidating distributions will be made in
accordance with positive capital account balances, and (iii) a “qualified income
offset” provision applies. However, while capital will be ultimately owned by
the Limited Partners in the Limited Partners’ Percentage and by the General
Partner in the General Partner’s Percentage, IDC and other tax items will be
allocated 99% to the Limited Partners and 1% to the General Partner until the
Limited Partner Capital Contributions are entirely expended and thereafter 100%
to the General Partner. Except with respect to those excess allocations, under
the Partnership Agreement, the basis in oil and gas properties will be allocated
in proportion to each Partner’s respective share of the costs which entered into
the Partnership’s adjusted basis for each depletable property. Such allocations
of basis appear reasonable and in compliance with the Treasury Regulations under
Section 704. Nevertheless, the Service may contend that the allocation to the
Limited Partners of a percentage of Partnership IDC in excess of the Limited
Partners’ Percentage or the allocation to the General Partner of other tax items
in excess of the General Partner’s Percentage is invalid and may reallocate such
excess IDC or other items to the other Partners. Any such reallocation could
increase a Limited Partner’s tax liability. However, no assurance can be given,
and we are unable to express an opinion, as to whether any special allocation of
an item which is dependent upon basis in an oil and gas property will be
recognized by the Service.

 

Nonrecourse Deductions. As noted above, an allocation of loss or deduction
attributable to nonrecourse liabilities of a partnership cannot have economic
effect because only the creditor bears the economic burden that corresponds to
such an allocation. Nevertheless the Temporary Regulations provide a test under
which certain allocations of nonrecourse deductions will be deemed to be in
accordance with the partners’ interests in the partnership.

 

Nonrecourse deduction allocations will be deemed to be made in accordance with
partners partnership interests if, and only if, four requirements are satisfied.
First, the partners’ capital accounts must be maintained properly and the
distribution of liquidation proceeds must be in accordance with the partners’
capital account balances. Second, beginning in the first taxable year in which
there are nonrecourse deductions, and thereafter throughout the full term of

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the partnership, the partnership agreement must provide for allocation of
nonrecourse deductions among the partners in a manner that is reasonably
consistent with allocations which have substantial economic effect of some other
significant partnership item attributable to the property securing nonrecourse
liabilities of the partnership. Third, beginning in the first taxable year of
the partnership in which the partnership has nonrecourse deductions or makes a
distribution of proceeds of a nonrecourse liability that are allocable to an
increase in minimum gain, and thereafter throughout the full term of the
partnership, the partnership agreement must contain a “minimum gain chargeback.”
A partnership agreement contains a “minimum gain chargeback” if, and only if, it
provides that, subject to certain exceptions, in the event there is a net
decrease in partnership minimum gain during a partnership taxable year, the
partners must be allocated items of partnership income and gain for that year
equal to each partner’s share of the net decrease in partnership minimum gain
during such year. A partner’s share of the net decrease in partnership minimum
gain is the amount of the total net decrease multiplied by the partner’s
percentage share of the partnership’s minimum gain at the end of the immediately
preceding taxable year. A partner’s share of any decrease in partnership minimum
gain resulting from a revaluation of partnership property (which would not cause
a minimum gain chargeback) equals the increase in the partner’s capital account
attributable to the revaluation to the extent the reduction in minimum gain is
caused by such revaluation. Similar rules apply with regard to partner
nonrecourse liabilities and associated deductions. The fourth requirement of the
nonrecourse allocation test provides that all other material allocations and
capital account adjustments under the partnership agreement must be recognized
under the general allocation requirements of the regulations under IRC Section
704(b).

 

Under the Treasury Regulations, partners generally share nonrecourse liabilities
in accordance with their interests in partnership profits. However, the Treasury
Regulations generally require that nonrecourse liabilities be allocated among
the partners first to reflect the partners’ share of minimum gain and Code
Section 704(c) minimum gain. Any remaining nonrecourse liabilities are generally
to be allocated in proportion to the partners’ interests in partnership profits.

 

The Partnership Agreement contains a minimum gain chargeback. Further, the
Partnership Agreement provides for the allocation of nonrecourse liabilities and
deductions attributable thereto among the Partners first, in accordance with
their respective shares of partnership minimum gain (within the meaning of
Regulation Section 1.704-2(b)(2)); second, to the extent of each such Partner’s
gain under Code Section 704(c) if the Partnership were to dispose of (in a
taxable transaction) all Partnership property subject to one or more nonrecourse
liabilities of the Partnership in full satisfaction of such liabilities and for
no other consideration; and third, in accordance with the Partners’
proportionate shares in the Partnership’s profits. Regulation Section 1.752-3.
For this purpose, the Partnership Agreement provides for the allocation of
excess nonrecourse deductions in the Limited Partners’ Percentage to the Limited
Partners and in the General Partner’s Percentage to the General Partner.

 

Retroactive Allocations. To prevent retroactive allocations of partnership tax
attributes to partners entering into a partnership late in the tax year, Code
Section 706(d) provides that a

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partner’s distributive share of such attributes is to be determined by the use
of methods prescribed by the Secretary of the Treasury which take into account
the varying interests of the partners during the taxable year. The Partnership
Agreement provides that each Partner’s allocation of tax items other than
“allocable cash basis items” is to be determined under a method permitted by
Code Section 706(d) and the regulations thereunder.

 

PROFIT MOTIVE

 

The existence of economic, non-tax motives for entering into the Transaction is
essential if the Partners are to obtain the tax benefits associated with an
investment in the Partnership.

 

Code Section 183(a) provides that where an activity entered into by an
individual is not engaged in for profit, no deduction attributable to that
activity will be allowed except as provided therein. Should it be determined
that a Partner’s activities with respect to the Transaction fall within the “not
for profit” ambit of Code Section 183, the Service could disallow all or a
portion of the deductions and credits generated by the Partnership’s activities.

 

Code Section 183(d) generally provides for a presumption that an activity is
entered into for profit within the meaning of the statute where gross income
from the activity exceeds the deductions attributable to such activity for three
or more of the five consecutive taxable years ending with the taxable year in
question. At the taxpayer’s election, such presumption can relate to three or
more of the taxable years in the 5-year period beginning with the taxable year
in which the taxpayer first engages in the activity. Whether an activity is
engaged in for profit is determined under Code Sections 162 (relating to trade
or business deductions) and 212(1) and (2) (relating to income producing
deductions) except insofar as the above-described presumption applies. Treas.
Reg. Section 1.183-1(a).

 

To establish that he is engaged in either a trade or business or an income
producing activity, a Partner must be able to prove that he is engaged in the
Transaction with an “actual and honest profit objective,” Fox v. Commissioner,
80 T.C. 972, 1006 (1983), aff’d sub nom., Barnard v. Commissioner, 731 F.2d 230
(4th Cir. 1984), and that his profit objective is bona fide. Bessenyey v.
Commissioner, 45 T.C. 261, 274 (1965), aff’d, 379 F.2d 252 (2d Cir. 1967), cert.
denied, 389 U.S. 931 (1967). The inquiry turns on whether the primary purpose
and intention of the Partner in engaging in the activity is, in fact, to make a
profit apart from tax considerations. Hager v. Commissioner, 76 T.C. 759, 784.
Such objective need not be reasonable, only honest, and the question of
objective is to be determined from all the facts and circumstances. Sutton v.
Commissioner, 84 T.C. 210 (1985), aff’d, 788 F.2d 695 (11th Cir. 1986). Among
the factors that will normally be considered are: (i) the manner in which the
taxpayer carries on the activity, (ii) the expertise of the taxpayer or his
advisors, (iii) the time and effort expended by the taxpayer in carrying on the
activity, (iv) whether an expectation exists that the assets used in the
activity may appreciate in value, (v) the success of the taxpayer in carrying on
similar or dissimilar activities, (vi) the taxpayer’s history of income or
losses with respect to the activity, (vii) the amount of occasional profits, if
any, which are earned, and (viii) the financial status of the taxpayer. Treas.
Reg. Section 1.183-2(b). Where application of

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such factors to a particular activity is difficult, however, the Court will
consider the totality of the circumstances instead. Estate of Baron v.
Commissioner, 83 T.C. 542 (1984), aff’d 798 F.2d 65 (2d Cir. 1986).

 

As noted, the issue is one of fact to be resolved not on the basis of any one
factor but on the basis of all the facts and circumstances. Treas. Reg. Section
1.183-2(b). Greater weight is given to objective facts than the parties’ mere
statements of their intent. Siegel v. Commissioner, 78 T.C. 659, Engdahl v.
Commissioner, 72 T.C. 659 (1979). Nevertheless, the Courts have recognized, in
applying Code Section 183, that “a taxpayer has the right to engage in a venture
which has economic substance even though his motivation in the early years of
the venture may have been to obtain a deduction to offset taxable income.”
Lemmen v. Commissioner, 77 T.C. 1326, 1346 (1981), acq., 1983-1 C.B. 1.

 

Due to the inherently factual nature of a Partner’s intent and motive in
engaging in the Transaction, we do not express an opinion as to the ultimate
resolution of this issue in the event of a challenge by the Service. Partners
must, however, seek to make a profit from their activities with respect to the
Transaction beyond any tax benefits derived from those activities or risk losing
those tax benefits.

 

TAX AUDITS

 

Subchapter C of Chapter 63 of the Code provides that administrative proceedings
for the assessment and collection of tax deficiencies attributable to a
partnership must be conducted at the partnership, rather than the partner,
level. Partners will be required to treat Partnership items of income, gain,
loss, deduction, and credit in a manner consistent with the treatment of each
such item on the Partnership’s returns unless such Partner files a statement
with the Service identifying the inconsistency. If the Partnership is audited,
the tax treatment of each item will be determined at the Partnership level in a
unified partnership proceeding. Conforming adjustments to the Partners’ own
returns will then occur unless such partner can establish a basis for
inconsistent treatment (subject to waiver by the Service).

 

The General Partner will be designated the “tax matters partner” (“TMP”) for the
Partnership and will receive notice of the commencement of a Partnership
proceeding and notice of any administrative adjustments of Partnership items.
The TMP is entitled to invoke judicial review of administrative determinations
and to extend the period of limitations for assessment of adjustments
attributable to Partnership items. Each Partner will receive notice of the
administrative proceedings from the TMP and will have the right to participate
in the administrative proceeding pursuant to tax requirements of Treasury
Regulation Section 301.6223(g) unless the Partner waives such rights.

 

The Code provides that, subject to waiver, partners will receive notice of the
administrative proceedings from the Service and will have the right to
participate in the administrative proceedings. However, the Code also provides
that if a partnership has 100 or more partners, the partners with less than a 1%
profits interest will not be entitled to receive

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notice from the Service or participate in the proceedings unless they are
members of a “notice group” (a group of partners having in the aggregate a 5% or
more profits interest in the partnership that requires the Service to send
notice to the group and that designates one of their members to receive notice).
Any settlement agreement entered into between the Service and one or more of the
partners will be binding on such partners but will not be binding on the other
partners, except that settlement by the TMP may be binding on certain partners,
as described below. The Service must, on request, offer consistent settlement
terms to the partners who had not entered into the earlier settlement agreement.
If a partnership has more than 100 partners, the TMP is empowered under the Code
to enter into binding settlement agreements on behalf of the partners with a
less than 1% profits interest unless the partner is a member of a notice group
or notifies the Service that the TMP does not have the authority to bind the
partner in such a settlement.

 

The costs incurred by a Partner in responding to an administrative proceeding
will be borne solely by such Partner.

 

PENALTIES

 

Under IRC Section 6662, a taxpayer will be assessed a penalty equal to twenty
percent (20%) of the portion of an underpayment of tax attributable to
negligence, disregard of a rule or regulation or a substantial understatement of
tax. “Negligence” includes any failure to make a reasonable attempt to comply
with the tax laws. IRC Section 6662(c). The regulations further provide that a
position with respect to an item is attributable to negligence if it lacks a
reasonable basis. Treas. Reg. Section 1.6662-3(b)(1). Negligence is strongly
indicated where, for example, a partner fails to comply with the requirements of
IRC Section 6662, which requires that a partner treat partnership items on its
return in a manner that is consistent with the treatment of such items on the
partnership return. Treas. Reg. Section 1.6662-3(b)(1)(iii). The term
“disregard” includes any careless, reckless or intentional disregard of rules or
regulations. Treas. Reg. Section 1.6662-3(b)(2). A taxpayer who takes a position
contrary to a revenue ruling or a notice will be subject to a penalty for
intentional disregard if the contrary position fails to possess a realistic
possibility of being sustained on its merits. Treas. Reg. Section
1.6562-3(b)(2). An “understatement” is defined as the excess of the amount of
tax required to be shown on the return of the taxable year over the amount of
the tax imposed that is actually shown on the return, reduced by any rebate. IRC
Section 6662(d)(2)(A). An understatement is “substantial” if it exceeds the
greater of ten percent (10%) of the tax required to be shown on the return for
the taxable year or $5,000 ($10,000 in the case of certain corporations). IRC
Section 6662(d)(1)(A) and (B).

 

Generally, for tax returns with due dates (determined without regard to
extensions) after December 31, 1993, the amount of an understatement is reduced
by the portion thereof attributable to (i) the tax treatment of any item by the
taxpayer if there is or was substantial authority for such treatment, or (ii)
any item if the relevant facts affecting the item’s tax treatment are adequately
disclosed in the return or in a statement attached to the return, and there is a
reasonable basis for the tax treatment of such item by the taxpayer. IRC Section
6662(d).

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Disclosure will generally be adequate if made on a properly completed Form 8275
(Disclosure Statement) or Form 8275R (Regulation Disclosure Statement). Treas.
Reg. Section 1.6662-4(f). However, in the case of “tax shelters,” there will be
a reduction of the understatement only to the extent it is attributable to the
treatment of an item by the taxpayer with respect to which there is or was
substantial authority for such treatment and only if the taxpayer reasonably
believed that the treatment of such item by the taxpayer was more likely than
not the proper treatment. Moreover, under the Uruguay Round Table Agreements
Act, a corporation must generally satisfy a higher standard to avoid a
substantial understatement penalty in the case of a tax shelter. IRC Section
6662(d)(2)(C)(ii). The term “tax shelter” is defined for purposes of Code
Section 6662 as a partnership or other entity, any investment plan or
arrangement, or any other plan or arrangement, the principal purpose of which is
the avoidance or evasion of federal income tax. IRC Section 6662(d)(2)(C)(ii).
It is important to note that this definition of “tax shelter” differs from that
contained in Code Sections 461 and 6111, as discussed above. A tax shelter item
includes an item of income, gain, loss, deduction, or credit that is directly or
indirectly attributable to a partnership that is formed for the principal
purpose of avoiding or evading federal income tax. The existence of substantial
authority is determined as of the time the taxpayer’s return is filed or on the
last day of the taxable year to which the return relates and not when the
investment is made. Treas. Reg. Section 1.6662-4(d)(3)(iv)(C). Substantial
authority exists if the weight of authorities supporting a position is
substantial compared with the weight of authorities supporting contrary
treatment. Treas. Reg. Section 1.6662-4(d)(3)(i). Relevant authorities include
statutes, Regulations, court cases, revenue rulings and procedures, and
Congressional intent. However, among other things, conclusions reached in legal
opinions are not considered authority. Treas. Reg. Section 1.6662-4(d)(3)(iii).
The Secretary may waive all or a portion of the penalty imposed under Code
Section 6662 upon a showing by the taxpayer that there was reasonable cause for
the understatement and that the taxpayer acted in good faith. IRC Section
6664(d).

 

Although not anticipated by the General Partner, there may not be substantial
authority for one or more reporting positions that the Partnership may take in
its federal income tax returns. In such event, if the Partnership does not
disclose or if it fails to adequately disclose any such position, or if such
disclosure is deemed adequate but it is determined that there was no reasonable
basis for the tax treatment of such a partnership item, the penalty will be
imposed with respect to any substantial understatement determined to have been
made, unless the provisions of the Treasury Regulations pertaining to waiver of
the penalty become final and the Partnership is able to show reasonable cause
and good faith in making the understatement as specified in such provisions. If
the Partnership makes a disclosure for the purposes of avoiding the penalty, the
disclosure is likely to result in an audit of such return and a challenge by the
Service of such position taken.

 

If it were determined that a Partner had underpaid tax for any taxable year,
such Partner would have to pay the amount of underpayment plus interest on the
underpayment from the date the tax was originally due. The interest rate on
underpayments is determined by the Service based upon the federal short term
rate of interest (as defined in Code Section 1274(d)) plus 3%, or 5% for large
corporate underpayments, and is compounded daily. The rate of interest is

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adjusted monthly. In addition, Temporary Regulations provide that tax motivated
transactions include, among other items, certain overstatements of the value of
property on a return, losses disallowed by reason of the at-risk limitation any
use of an accounting method that may result in a substantial distortion of
income for any period, and any deduction disallowed for an activity not entered
into for profit. Although definitive Treasury Regulations have not been
promulgated the determination of those transactions to be considered
“tax-motivated transactions” is to be made by taking into account the ratio of
tax benefits to cash invested, the method of promoting the transaction, and
other relevant transactions. Thus, in the event an audit of the Partnership’s or
of a Partner’s tax return results in a substantial underpayment of tax by such
Partner due to an investment in the Units, such Partner may be required to pay
interest on such underpayment determined at the higher interest rate.

 

A partnership, for federal income tax purposes, is required to file an annual
informational tax return. The failure to properly file such a return in a timely
fashion, or the failure to show on such return all information under the Code to
be shown on such return, unless such failure is due to reasonable cause,
subjects the partnership to civil penalties under the Code in an amount equal to
$50 per month multiplied by the number of partners in the partnership, up to a
maximum of $250 per partner per year. In addition, upon any willful failure to
file a partnership information return, a fine or other criminal penalty may be
imposed on the party responsible for filing the return.

 

ACCOUNTING METHODS AND PERIODS

 

The Partnership will use the accrual method of accounting and will select the
calendar year as its taxable year.

 

As discussed above, a taxpayer using the accrual method of accounting will
recognize income when all events have occurred which fix the right to receive
such income and the amount thereof can be determined with reasonable accuracy.
Deductions will be recognized when all events which establish liability have
occurred and the amount thereof can be determined with reasonable accuracy.
However, all events which establish liability are not treated as having occurred
prior to the time that economic performance occurs. Code Section 461(h).

 

All partnerships are required to conform their tax years to those of their
owners; i.e., unless the partnership establishes a business purpose for a
different tax year, the tax year of a partnership must be (i) the taxable year
of one or more of its partners who have an aggregate interest in partnership
profits and capital of greater than 50%, (ii) if there is no taxable year so
described, the taxable year of all partners having interests of 5% or more in
partnership profits or capital, or (iii) if there is no taxable year described
in (i) or (ii), the calendar year. Code Section 706. Until the taxable years of
the Partners can be identified, no assurance can be given that the Service will
permit the Partnership to adopt a calendar year.

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March 7, 2005

Page 39

 

STATE AND LOCAL TAXES

 

The opinions expressed herein are limited to issues of federal income tax law
and do not address issues of state or local law. Investors are urged to consult
their tax advisors regarding the impact of state and local laws on an investment
in the Partnership.

 

PROPOSED LEGISLATION AND REGULATIONS

 

There can be no assurances that subsequent changes in the tax laws (through new
legislation, court decisions, Service pronouncements, Treasury regulations, or
otherwise) will or will not occur that may have an impact, adverse or positive,
on the tax effect and consequences of this Transaction, as described above.

 

We express no opinion as to any federal income tax issue or other matter except
those set forth or confirmed above.

 

We hereby consent to the filing of this opinion as Exhibit B to the Memorandum
and to all references to our firm in the Memorandum.

 

Sincerely,

 

Conner & Winters, P.C.