##### Table of Contents



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549


FORM 10-K

Annual Report under Section 13 or 15(d) of the Securities Exchange Act of 1934

For the fiscal year ended September 30, 2003


Commission File Number: 0-9116

PANHANDLE ROYALTY COMPANY




(Exact name of registrant as specified in its charter)


|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|OKLAHOMA                                                       |  | 73-1055775                          
|                                                               |  |                                     
|(State or other jurisdiction of incorporation
or organization) |  | (I.R.S. Employer Identification No.)

|                                                                   |  |           
|------------------------------------------------------------------ |  | ----------
|Grand Centre, Suite 210, 5400 North Grand Blvd., Oklahoma City, OK |  | 73112     
|                                                                   |  |           
|(Address of principal executive offices)                           |  | (Zip code)

Registrants telephone number (405) 948-1560

Securities registered under Section 12(b) of the Act:

|                              |  |                                            
|----------------------------- |  | -------------------------------------------
|CLASS A COMMON STOCK (VOTING) |  | AMERICAN STOCK EXCHANGE                    
|                              |  |                                            
|(Title of Class)              |  | (Name of each exchange on which registered)

Securities registered under Section 12(g) of the Act:

(Title of Class)


CLASS B COMMON STOCK (NON-VOTING) $1.00 par value

Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act
during the past 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.

[X] Yes    [  ] No

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrants knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to
this Form 10-K. [X]

Indicated by check mark whether the registrant is an accelerated filer (as
defined in Rule 126-2 of the Act).

[  ] Yes    [X] No

The aggregate market value of the voting stock held by non-affiliates of the
registrant, computed by using the closing price of registrants common stock,
at March 31, 2003, was $31,122,979.
As of December 4, 2003, 2,089,101 shares of Class A Common stock were
outstanding.

Documents Incorporated By Reference

The definitive proxy statement for the registrants annual meeting of
shareholders to be held in 2004 (to be filed within 120 days of the close of
registrants fiscal year) is incorporated by reference into Part III, hereof.





---

TABLE OF CONTENTS



|                                                 |                                                                                              |  |  |  |  |  |  | 
|------------------------------------------------ | -------------------------------------------------------------------------------------------- |  |  |  |  |  |  | 
|PART I                                          
|                                                 | ITEM 1 BUSINESS                                                                             
|                                                 | ITEM 2 PROPERTIES                                                                           
|                                                 | ITEM 3 LEGAL PROCEEDINGS                                                                    
|                                                 | ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS                                  
|PART II                                         
|                                                 | ITEM 5 MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS                             
|                                                 | ITEM 6 SELECTED FINANCIAL DATA                                                              
|                                                 | ITEM 7 MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|                                                 | ITEM 7 A QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK                          
|                                                 | ITEM 8 FINANCIAL STATEMENTS                                                                 
|                                                 | ITEM 9 CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE 
|                                                 | ITEM 9 A CONTROLS AND PROCEDURES                                                            
|PART III                                        
|                                                 | ITEM 15 EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K                     
|SIGNATURES                                      
|EX-10 Amendment to Loan Agreement               
|EX-21 Subsidiaries                              
|EX-31.1 Certification of Chief Executive Officer
|EX-31.2 Certification of Chief Financial Officer
|EX-32.1 Certification of Chief Executive Officer
|EX-32.2 Certification of Chief Financial Officer



---



##### Table of Contents



TABLE OF CONTENTS

|                  |  |                                                                                       |  |  |       |      |  | 
|----------------- |  | ------------------------------------------------------------------------------------- |  |  | ----- | ---- |  | 
|                  |  |                                                                                       |  |  |       | Page
|                  |  |                                                                                       |  |  |       |     
|PART I            |  |                                                                                       |  |  |       |     
|Item 1            |  | Business                                                                              |  |  | 1-4   |     
|Item 2            |  | Properties                                                                            |  |  | 5-10  |     
|Item 3            |  | Legal Proceedings                                                                     |  |  | 10    |     
|Item 4            |  | Submission of Matters to a Vote of
Security Holders                                   |  |  | 10    |     
|PART II          
|Item 5            |  | Market for Registrants Common Equity and
Related Stockholder Matters                  |  |  | 10-11 |     
|Item 6            |  | Selected Financial Data                                                               |  |  | 11-12 |     
|Item 7            |  | Managements Discussion and Analysis of Financial
Condition and Results of Operations |  |  | 12-17 |     
|Item 7A           |  | Quantitative and Qualitative Disclosures about Market
Risk                            |  |  | 17    |     
|Item 8            |  | Financial Statements and Supplementary Data                                           |  |  | 17-42 |     
|Item 9            |  | Changes in and Disagreements with
Accountants on Accounting and
Financial Disclosure  |  |  | 43    |     
|Item 9A           |  | Controls and Procedures                                                               |  |  | 43    |     
|PART III         
|Item 10-14        |  | Incorporated by Reference to Proxy Statement                                          |  |  |       |     
|PART IV          
|Item 15           |  | Exhibits, Financial Statement Schedules and Reports on Form 8- K                      |  |  | 43    |     
|Signature Page    |  |                                                                                       |  |  | 44    |     
|Exhibit 10        |  |                                                                                       |  |  | 45-56 |     
|Exhibit 21        |  |                                                                                       |  |  | 57    |     
|Exhibit 31.1-31.2 |  |                                                                                       |  |  | 58-59 |     
|Exhibit 32.1-32.2 |  |                                                                                       |  |  | 60-61 |     

As used in this report, SEC means the United States Securities and Exchange
Commission, Bbl means barrel, Mcf means thousand cubic feet, Mcf/D means
thousand cubic feet per day, Mcfe means natural gas stated on an MCF basis
and crude oil converted to a thousand cubic feet of natural gas equivalent by
using the ratio of one Bbl of crude oil to six Mcf of natural gas, PV-10
means estimated pretax present value of future net revenues discounted at 10%
using SEC rules, gross wells or acres are the wells or acres in which the
Company has a working interest, and net wells or acres are determined by
multiplying gross wells or acres by the Companys net revenue interest in such
wells or acres. References to years 2001-2004 refer to the Companys fiscal
years ended September 30, each year.





---



##### Table of Contents






PART I




ITEM 1 BUSINESS

GENERAL

Panhandle Royalty Company (Panhandle or the Company) is an Oklahoma
Corporation, organized in 1926 as Panhandle Cooperative Royalty Company. In
1979, Panhandle Cooperative Royalty Company was merged into Panhandle Royalty
Company. Panhandles authorized and registered stock consisted of 100,000
shares of $1.00 par value Class A common stock. In 1982, the Company split the
stock on a 10-for-1 basis and reduced the par value to $.10, resulting in
1,000,000 shares of authorized Class A Common stock. In May 1999, the
Companys shareholders voted to increase the authorized Class A Common stock of
the Company to 6,000,000 shares and to split the shares on a three-for-one
basis. In addition, voting rights for the shares were changed from one vote
per shareholder to one vote per share.

Since its formation, the Company has been involved in the acquisition and
management of mineral interests and the exploration for, and development of,
oil and gas properties, principally involving wells located on the Companys
mineral interests. Panhandles mineral properties and other oil and gas
interests are located primarily in Oklahoma, New Mexico and Texas. Properties
are also located in nineteen other states. The majority of the Companys oil
and gas production is from wells located in Oklahoma and New Mexico. In 1988,
the Company merged with New Mexico Osage Royalty Company, thus acquiring most
of its New Mexico mineral interests.

On October 1, 2001, Panhandle acquired privately held Wood Oil Company
(Wood) of Tulsa, Oklahoma. The acquisition was made pursuant to an Agreement
and Plan of Merger among Panhandle Royalty Company, PHC, Inc., and Wood, dated
August 9, 2001. Wood merged with Panhandles wholly owned subsidiary PHC,
Inc., on October 1, 2001, with Wood being the surviving Company. Prior to the
acquisition, Wood was a privately held company engaged in oil and gas
exploration and production and fee mineral ownership and owned interests in
certain oil and gas and real estate partnerships and an office building in
Tulsa. Wood is operating as a subsidiary of Panhandle. Wood and its
shareholders were unrelated parties to Panhandle.

The Companys office is located at Grand Centre Suite 210, 5400 North
Grand Blvd., Oklahoma City, OK 73112 (405)948-1560, FAX (405)948-2038. Its
website is located at www.panra.com.

BUSINESS STRATEGY

The majority of Panhandles revenues are derived from the production and
sale of oil and natural gas. See Item 8  Financial Statements. The
Companys oil and gas holdings, including its mineral interests and its
interests in producing wells, both working interests and royalty interests, are
centered in Oklahoma with activity, in recent years, in New Mexico and Texas.
See Item 2  Description of Properties. Exploration and development of the
Companys oil and gas properties are conducted in association with operating
oil and gas companies, including major and independent companies. The Company
does not operate any of its oil and gas properties. The Company has been an
active participant for many years in wells drilled on the Companys mineral
properties and in third party drilling prospects. A large percentage of the
Companys recent drilling participations have been on properties in which the
Company has mineral interests and in many cases already owns an interest in a
producing well in the unit. This increased density drilling has accounted
for a large part of the successful oil and gas wells

(1)



---



##### Table of Contents



completed during these years and has added significant reserves for the
Company. The Company acquired additional mineral interest properties, both
producing and non-producing and interests in approximately 2000 wells in the
Wood acquisition. Several of the mineral properties and well interests were in
areas where the Company had no mineral holdings, thus expanding the Companys
area of interest.

PRINCIPAL PRODUCTS AND MARKETS

The Companys principal products are crude oil and natural gas. These
products are sold to various purchasers, including pipeline and marketing
companies, which are generally located in and service the areas where the
Companys producing wells are located. The Company does not act as operator
for any of the properties in which it owns an interest, thus it relies on the
operating expertise of numerous companies that operate in the area where the
Company owns mineral interests. This expertise includes drilling operations
and completions, producing well operations and, in some cases, the marketing or
purchasing of the wells production. Natural gas sales are principally handled
by the well operator and are normally contracted on a monthly basis with third
party gas marketers and pipeline companies. Payment for gas sold is received
either from the contracted purchasers or the well operator. Crude oil sales
are generally handled by the well operator and payment for oil sold is received
from the well operator or from the crude oil purchaser.

In general, prices of oil and gas are dependent on numerous factors beyond
the control of the Company, such as competition, international events and
circumstances (including actions taken by the Organization of Petroleum
Exporting Countries (OPEC)), and economic, political and regulatory
developments. Since demand for natural gas is generally highest during winter
months, prices received for the Companys natural gas are subject to seasonal
variations.

COMPETITIVE BUSINESS CONDITIONS

The oil and gas industry is highly competitive, particularly in the search
for new oil and gas reserves. There are many factors affecting Panhandles
competitive position and the market for its products which are beyond its
control. Some of these factors are the quantity and price of foreign oil
imports, changes in prices received for its oil and gas production, business
and consumer demand for refined oil products and natural gas, and the effects
of federal and state regulation of the exploration, production and sales of oil
and natural gas. Changes in existing economic conditions, weather patterns and
actions taken by OPEC and other oil-producing countries have dramatic influence
on the price Panhandle receives for its oil and gas production. The Company
relies heavily on companies with greater resources, staff, equipment, research,
and experience for operation of wells and the development and drilling of
subsurface prospects. The Company uses its strong financial base and its
mineral property ownership, coupled with its own geologic and economic
evaluation to participate in drilling operations with these larger companies.
This method allows the Company to effectively compete in drilling operations it
could not undertake on its own due to financial and personnel limits and allows
it to maintain low overhead costs.

SOURCES AND AVAILABILITY OF RAW MATERIALS

The existence of commercial oil and gas reserves is essential to the
ultimate realization of value from the Companys mineral properties and these
mineral properties may be considered a raw material to its business. The
production and sale of oil and natural gas from the Companys oil and gas
properties is essential to provide the cash flow necessary to sustain the
ongoing viability of the Company.

(2)



---



##### Table of Contents



The Company continues to reinvest a portion of its cash flow in the purchase of
oil and gas leasehold acreage and additional mineral properties to assure the
continued availability of acreage with which to participate in exploration,
drilling, and development operations and subsequently the production and sale
of oil and gas. This participation in exploration and production and the
purchasing of additional mineral interests will continue to supply the Company
with the raw materials with which to generate additional cash flow. Mineral
and leasehold purchases are made from varied owners, and the Company does not
rely on any particular companies or individuals for these acquisitions.

MAJOR CUSTOMERS

The Companys oil and gas production is sold by the well operators, in
most cases, to many different purchasers on a well-by-well basis. During
fiscal 2003, sales to ONEOK, through well operators, accounted for
approximately 14% of the Companys total revenues. Generally, if one purchaser
declines to continue purchasing the Companys oil and/or natural gas, several
other purchasers can be located, especially in the current market environment
for natural gas. Pricing is usually reasonably consistent from purchaser to
purchaser.

PATENTS, TRADEMARKS, LICENSES, FRANCHISES AND ROYALTY AGREEMENTS

The Company does not own any patents, trademarks, licenses or franchises.
Royalty agreements on producing oil and gas wells stemming from the Companys
ownership of mineral interests generate a substantial portion of the Companys
revenues. These royalties are tied to the ownership of the mineral interests
and this ownership is perpetual, unless sold by the Company. Royalties are due
and payable to the Company whenever oil and/or gas is produced from wells
located on the Companys mineral properties.

GOVERNMENTAL REGULATION

Oil and gas production is subject to various taxes, such as gross
production taxes and, in some cases, ad valorem taxes.

The State of Oklahoma and other states require permits for drilling
operations, drilling bonds and reports concerning operations and impose other
requirements relating to the exploration and production of oil and gas. Such
states also have regulations addressing conservation matters, including
provisions for the unitization or pooling of oil and gas properties, the
establishment of maximum rates of production from oil and gas wells and the
regulation of spacing, plugging and abandonment of such wells. These statutes
and regulations currently limit the rate at which oil and gas can be produced
from certain of the Companys properties. As previously discussed, the well
operators are relied upon by Panhandle to comply with governmental regulations.

Various aspects of the Companys oil and gas operations are regulated by
agencies of the federal government. The transportation of natural gas in
interstate commerce is generally regulated by the Federal Energy Regulatory
Commission (FERC) pursuant to the Natural Gas Act of 1938 (the NGA) and the
Natural Gas Policy Act of 1978 (NGPA). The intrastate transportation and
gathering of natural gas (and operational and safety matters related thereto)
may be subject to regulation by state and local governments.

In the past, the federal government regulated the prices at which the
Companys produced oil and gas could be sold. Currently, first sales of
natural gas by producers and marketers, and all sales
of crude oil, condensate and natural gas liquids, can be made at uncontrolled
market prices, but Congress could reenact price controls at any time.

(3)



---



##### Table of Contents



Within the past decade, the FERC has issued numerous orders and policy
statements designed to create a more competitive environment in the national
natural gas marketplace, including orders promoting open access
transportation on natural gas pipelines subject to the FERCs NGA and NGPA
jurisdiction. The FERCs Order 636 was issued in April 1992 and was designed
to restructure the interstate natural gas transportation and marketing system
and to promote competition within all phases of the natural gas industry.
Among other things, Order 636 required interstate pipelines to separate the
transportation of gas from the sale of gas, to change the manner in which
pipeline rates were designed and to implement other changes intended to promote
the growth of market centers. Subsequent FERC initiatives have attempted to
standardize interstate pipeline business practices and to allow pipelines to
implement market-based, negotiated and incentive rates. The restructured
services implemented by Order 636 and successor orders have now been in effect
for a number of winter heating seasons and have significantly affected the
manner in which natural gas (both domestic and foreign) is transported and sold
to consumers.

FERC has indicated that it remains committed to Order 636s fundamental
goal of improving the competitive structure of the natural gas industry in
order to maximize the benefits of wellhead decontrol, the future regulatory
goals and priorities of FERC may change, and it is not possible to predict the
effect, if any, of future restructuring orders or policies on the Companys
operations.

Federal tax law has allowed producers of tight gas to utilize an
approximate $.52/MMBTU tax credit for gas produced from approved wells. The
credit was a direct reduction of regular federal income tax. Panhandle began
receiving revenues from tight gas wells during fiscal 1992. This credit was
available for all tight gas sold prior to January 1, 2003.

While Order 636 and related orders do not directly regulate either the
production or sale of gas that may be produced from the Companys properties,
the increased competition and changes in business practices within the natural
gas industry resulting from such orders have affected the terms and conditions
under which the Company markets and transports its available gas supplies. To
date, the FERCs pro-competition policies have not materially affected the
Companys business or operations. On a prospective basis, however, such orders
may substantially increase the burden on producers and transporters to
accurately nominate and deliver on a daily basis specified volumes of natural
gas, or to bear penalties or increased costs in the event scheduled deliveries
are not made.

ENVIRONMENTAL MATTERS

As the Company is directly involved in the extraction and use of natural
resources, it is subject to various federal, state and local provisions
regarding environmental and ecological matters. Compliance with these laws may
necessitate significant capital outlays, however, to date the Companys cost of
compliance has been insignificant. The Company does not believe the existence
of these environmental laws will materially hinder or adversely affect the
Companys business operations; however, there can be no assurances of future
events. Since the Company does not operate any wells where it owns an
interest, actual compliance with environmental laws is controlled by others,
with Panhandle being responsible for its proportionate share of the costs
involved. Panhandle carries liability insurance and to the extent available at
reasonable cost, pollution control coverage. However, all risks are not
insured due to the availability and cost of insurance.

EMPLOYEES

At September 30, 2003, Panhandle employed fifteen persons on a full-time
basis and has no part-time employees. Three of the employees are executive
officers and one is also a director of the Company.

(4)



---



##### Table of Contents






ITEM 2 PROPERTIES

As of September 30, 2003, Panhandles principal properties consisted of
perpetual ownership of 259,390 net mineral acres, held principally in tracts in
Oklahoma, New Mexico and Texas and 19 other states. The Company also held
leases on 20,227 net acres of minerals in Louisiana, Oklahoma and Texas. At
September 30, 2003, Panhandle held small royalty and/or working interests in
4,898 producing oil or gas wells, of which 98 were successfully completed but
not yet producing wells, and 60 wells in the process of being drilled or
completed.

Panhandle does not have current abstracts or title opinions on all mineral
properties owned and, therefore, cannot warrant that it has unencumbered title
to all of its properties. In recent years, few challenges have been made
against the Companys fee title to its properties.

Panhandle pays ad valorem taxes on its minerals owned in Arkansas,
Colorado, Idaho, Indiana, Illinois, Kansas, Tennessee and Texas.

ACREAGE

The following table of mineral interests owned reflects, as of September
30, 2003, in each respective state, the number of net and gross acres, net and
gross producing acres, net and gross acres leased, and net and gross acres open
(unleased).

MINERAL INTERESTS

|             |        |  |         |         |       |     |         |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  |        |         |  |  |         |           | 
|------------ | ------ |  | ------- | ------- | ----- | --- | ------- | --------- | ------ | --- | ------ | ------ | ------ | --- | ------- | ------- | ----- |  | ----- | ----- | ----- |  | ----- | ----- |  |  | ------ | ------- |  |  | ------- | --------- | 
|             |        |  |         |         |       |     |         |           |        |     | Net    |        | Gross  |     | Net     |         | Gross |  | Net   |       | Gross
|             |        |  | Net     |         | Gross |     | Acres   |           | Acres  |     | Acres  |        | Acres  |     | Acres   |         | Acres
|             |        |  | Acres   |         | Acres |     | Prodg  |           | Prodg |     | Leased |        | Leased |     | Open    |         | Open 
|State        |        |  |         |         |       | (1) |         | (1)       |        | (2) |        | (2)    |        | (3) |         | (3)    
|             |        |  |         |         |       |     |         |           |        |     |        |        |        |     |         |        
|Alabama      |        |  | 5       |         |       |     | 479     |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  | 5      |         |  |  | 479     |          
|Arkansas     |        |  | 10,050  |         |       |     | 44,636  |           |        |     | 1,068  |        |        |     | 2,756   |         |       |  |       |       |       |  |       |       |  |  | 8,982  |         |  |  | 41,880  |          
|Colorado     |        |  | 8,327   |         |       |     | 39,299  |           |        |     | 109    |        |        |     | 219     |         |       |  |       |       |       |  |       |       |  |  | 8,217  |         |  |  | 39,080  |          
|Florida      |        |  | 6,901   |         |       |     | 13,849  |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  | 6,901  |         |  |  | 13,849  |          
|Idaho        |        |  | 30      |         |       |     | 880     |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  | 30     |         |  |  | 880     |          
|Illinois     |        |  | 1,068   |         |       |     | 5,038   |           |        |     | 40     |        |        |     | 320     |         |       |  |       |       |       |  |       |       |  |  | 1,028  |         |  |  | 4,718   |          
|Indiana      |        |  | 27      |         |       |     | 262     |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  | 27     |         |  |  | 262     |          
|Kansas       |        |  | 3,122   |         |       |     | 11,976  |           |        |     | 110    |        |        |     | 880     |         |       |  |       |       |       |  |       |       |  |  | 3,012  |         |  |  | 11,096  |          
|Louisiana    |        |  | 17      |         |       |     | 17      |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  | 17     |         |  |  | 17      |          
|Missouri     |        |  | 355     |         |       |     | 430     |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  | 355    |         |  |  | 430     |          
|Mississippi  |        |  | 150     |         |       |     | 740     |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  | 150    |         |  |  | 740     |          
|Montana      |        |  | 1,008   |         |       |     | 17,947  |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  | 1,008  |         |  |  | 17,947  |          
|Nebraska     |        |  | 1,319   |         |       |     | 13,249  |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  | 1,319  |         |  |  | 13,249  |          
|North Dakota |        |  | 11,179  |         |       |     | 64,286  |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  | 11,179 |         |  |  | 64,286  |          
|New Mexico   |        |  | 57,456  |         |       |     | 172,879 |           |        |     | 1,365  |        |        |     | 6,200   |         |       |  | 140   |       |       |  | 560   |       |  |  | 55,951 |         |  |  | 166,119 |          
|Oklahoma     |        |  | 113,146 |         |       |     | 949,467 |           |        |     | 27,914 |        |        |     | 201,465 |         |       |  | 1,538 |       |       |  | 3,167 |       |  |  | 83,693 |         |  |  | 737,608 |          
|Oregon       |        |  | 72      |         |       |     | 2,187   |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  | 72     |         |  |  | 2,187   |          
|South Dakota |        |  | 1,825   |         |       |     | 9,300   |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  | 1,825  |         |  |  | 9,300   |          
|Tennessee    |        |  | 40      |         |       |     | 500     |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  | 40     |         |  |  | 500     |          
|Texas        |        |  | 43,085  |         |       |     | 361,017 |           |        |     | 6,889  |        |        |     | 76,999  |         |       |  | 172   |       |       |  | 1,901 |       |  |  | 36,025 |         |  |  | 282,117 |          
|Utah         |        |  | 160     |         |       |     | 320     |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  | 160    |         |  |  | 320     |          
|Washington   |        |  | 50      |         |       |     | 298     |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  | 50     |         |  |  | 298     |          
|             |        |  |         |         |       |     |         |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  |        |         |  |  |         |          
|             | Total: |  |         | 259,390 |       |     |         | 1,709,054 |        |     |        | 37,495 |        |     |         | 288,839 |       |  |       | 1,850 |       |  |       | 5,628 |  |  |        | 220,045 |  |  |         | 1,407,361 | 
|             |        |  |         |         |       |     |         |           |        |     |        |        |        |     |         |         |       |  |       |       |       |  |       |       |  |  |        |         |  |  |         |          



|(1) |  | Producing represents the mineral acres in which Panhandle owns a
royalty or working interest in a producing well.
|--- |  | -------------------------------------------------------------------------------------------------------------------
|   
|(2) |  | Leased represents the mineral acres, owned by Panhandle, that are
leased to third parties but not producing.     
|   
|(3) |  | Open represents mineral acres owned by Panhandle that are not
leased or in production.                           

(5)



---



##### Table of Contents



The following table reflects net mineral acres leased from others, lease
expiration dates, and net leased acres held by production.

LEASES

|           |  |       |        |             |  |            |       |      |  |      |     |  |  |  |       |  |  |           |        | 
|---------- |  | ----- | ------ | ----------- |  | ---------- | ----- | ---- |  | ---- | --- |  |  |  | ----- |  |  | --------- | ------ | 
|           |  |       |        |             |  |            |       |      |  |      |     |  |  |  |       |  |  | Net Acres
|           |  | Net   |        | Lease Acres |  | Held by   
|State      |  | Acres |        | Expiring    |  | Production
|           |  |       |        |             |  |           
|           |  |       |        |             |  | 2004       |       | 2005 |  | 2006 |     |  |  | 
|           |  |       |        |             |  |            |       |      |  |      |     |  |  | 
|Kansas     |  |       | 2,117  |             |  |            |      |      |  |      |    |  |  |  |      |  |  |           | 2,117  | 
|Oklahoma   |  |       | 15,984 |             |  |            | 1,976 |      |  |      | 715 |  |  |  | 1,183 |  |  |           | 12,110 | 
|Texas      |  |       | 304    |             |  |            |      |      |  |      |    |  |  |  |      |  |  |           | 304    | 
|New Mexico |  |       | 494    |             |  |            |      |      |  |      |    |  |  |  |      |  |  |           | 494    | 
|Other      |  |       | 1,328  |             |  |            |      |      |  |      |    |  |  |  |      |  |  |           | 1,328  | 
|           |  |       |        |             |  |            |       |      |  |      |     |  |  |  |       |  |  |           |        | 
|TOTAL      |  |       | 20,227 |             |  |            | 1,976 |      |  |      | 715 |  |  |  | 1,183 |  |  |           | 16,353 | 
|           |  |       |        |             |  |            |       |      |  |      |     |  |  |  |       |  |  |           |        | 

PROVED RESERVES

The following table summarizes estimates of the proved reserves of oil and
gas held by Panhandle. All reserves are located within the United States.
Because the Companys non-producing mineral and leasehold interests consist of
various small interests in numerous tracts located primarily in Oklahoma, New
Mexico and Texas and because the Company is a non-operator and must rely on
third parties to propose and drill wells, it is not feasible to provide
estimates of all proved undeveloped reserves and associated future net
revenues. Prior to fiscal 1995, the Company did not provide estimates of any
proved undeveloped reserves. The Company directs its independent petroleum
engineering firm to include proved undeveloped reserves in certain significant
areas in the scope of properties evaluated for the Company. The Company,
expects drilling to continue in these areas for the next several years, and
thus made the decision to provide proved undeveloped reserve estimates for
these areas. All reserve quantity estimates were prepared by Campbell &
Associates, Inc., an independent petroleum engineering firm. The Companys
reserve estimates were not filed with any other federal agency.

|                            |  |                |           |            |  |  |            | 
|--------------------------- |  | -------------- | --------- | ---------- |  |  | ---------- | 
|                            |  | Barrels of Oil |           | MCF of Gas
|                            |  |                |           |           
|Proved Developed Reserves   |  |                |           |            |  |  |            | 
|September 30, 2003          |  |                | 703,400   |            |  |  | 23,599,473 | 
|September 30, 2002          |  |                | 820,790   |            |  |  | 22,896,330 | 
|September 30, 2001          |  |                | 412,705   |            |  |  | 13,236,455 | 
|Proved Undeveloped Reserves |  |                |           |            |  |  |            | 
|September 30, 2003          |  |                | 132,575   |            |  |  | 4,670,400  | 
|September 30, 2002          |  |                | 294,415   |            |  |  | 5,219,570  | 
|September 30, 2001          |  |                | 263,386   |            |  |  | 4,451,895  | 
|Total Proved Reserves       |  |                |           |            |  |  |            | 
|September 30, 2003          |  |                | 835,978   |            |  |  | 28,269,873 | 
|September 30, 2002          |  |                | 1,115,205 |            |  |  | 28,115,900 | 
|September 30, 2001          |  |                | 676,091   |            |  |  | 17,688,350 | 

(6)



---



##### Table of Contents



The major portion of the increase in total proved reserves at September
30, 2002 and 2003, as compared to September 30, 2001, is due to the addition of
Wood Oil Companys reserves. At September 30, 2002 and 2003, respectively,
Woods total proved reserves were 521,442 barrels and 9,803,280 mcf and 368,831
barrels and 9,324,613 mcf. These reserves are net of approximately 1.2 mmcf of
CO2 gas reserves owned by Wood Oil Company.

Because the determination of reserves is a function of testing,
evaluating, developing oil and gas reservoirs and establishing a production
decline history, along with product price fluctuations, it
would be expected that estimates will change as future information concerning
those reservoirs is developed and as market conditions change. Estimated
reserve quantities and future net revenues are affected by changes in product
prices, and these prices have varied substantially in recent years. Proved
developed reserves are those expected to be recovered through existing well
bores under existing economic and operating conditions. Proved undeveloped
reserves are reserves that may be recovered from undrilled acreage, but are
usually limited to those sites directly offsetting established production units
and have sufficient geological data to indicate a reasonable expectation of
commercial success.

ESTIMATED FUTURE NET REVENUES

Set forth below are estimated future net cash flows with respect to
Panhandles proved reserves (based on the estimated units set forth in the
immediately preceding table) as of year ends, and the present value of such
estimated future net cash flows, computed by applying a ten (10) percent
discount factor as required by the rules and regulations of the Securities and
Exchange Commission. Estimated future net cash flows have been computed by
applying current year-end prices to future production of proved reserves less
estimated future expenditures (based on costs as of year end) to be incurred
with respect to the development and production of such reserves. Such pricing
is based on SEC guidelines. No federal income taxes are included in estimated
costs. However, the amounts are net of operating costs and production taxes
levied by respective states. Prices used for determining future cash flows
from oil and natural gas for the periods ended September 30, 2003, 2002, 2001
were as follows: 2003 - $27.39, $4.43; 2002 - $27.76, $3.12; 2001 - $24.03,
$1.81. These future net cash flows should not be construed as the fair market
value of the Companys reserves. A market value determination would need to
include many additional factors, including anticipated oil and gas price
increases or decreases.

Estimated Future Net Cash Flows

|                   |  |         |             |         |  |         |            |  |  |   |            | 
|------------------ |  | ------- | ----------- | ------- |  | ------- | ---------- |  |  | - | ---------- | 
|                   |  | 9-30-03 |             | 9-30-02 |  | 9-30-01
|                   |  |         |             |         |  |        
|Proved Developed   |  | $       | 97,847,582  |         |  | $       | 76,081,978 |  |  | $ | 25,797,780 | 
|Proved Undeveloped |  | $       | 17,893,760  |         |  | $       | 18,572,672 |  |  | $ | 10,141,828 | 
|                   |  |         |             |         |  |         |            |  |  |   |            | 
|Total Proved (1)   |  | $       | 115,741,342 |         |  | $       | 94,654,650 |  |  | $ | 35,939,608 | 

10% Discounted Present Value of Estimated Future Net Cash Flows

|                   |  |         |            |         |  |         |            |  |  |   |            | 
|------------------ |  | ------- | ---------- | ------- |  | ------- | ---------- |  |  | - | ---------- | 
|                   |  | 9-30-03 |            | 9-30-02 |  | 9-30-01
|                   |  |         |            |         |  |        
|Proved Developed   |  | $       | 63,591,623 |         |  | $       | 49,485,409 |  |  | $ | 17,533,672 | 
|Proved Undeveloped |  | $       | 11,905,681 |         |  | $       | 11,868,812 |  |  | $ | 6,589,021  | 
|                   |  |         |            |         |  |         |            |  |  |   |            | 
|Total Proved (1)   |  | $       | 75,497,304 |         |  | $       | 61,354,221 |  |  | $ | 24,122,693 | 



| | (1) |  | The increase from September 30, 2001 to September 30,
2002 and 2003 is primarily attributable to the addition of
reserves from Wood Oil Company and the increased oil and
gas prices used in the 2002 and 2003 reserve report (see
above listed prices).
| | --- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

(7)



---



##### Table of Contents



OIL AND GAS PRODUCTION

The following table sets forth the Companys net production of oil and gas
for the fiscal periods indicated.

|           |  |         |           |         |  |         |           |  |  |  |           | 
|---------- |  | ------- | --------- | ------- |  | ------- | --------- |  |  |  | --------- | 
|           |  | Year    |           | Year    |  | Year   
|           |  | Ended   |           | Ended   |  | Ended  
|           |  | 9-30-03 |           | 9-30-02 |  | 9-30-01
|           |  |         |           |         |  |        
|Bbls
- Oil |  |         | 112,746   |         |  |         | 132,514   |  |  |  | 68,530    | 
|MCF - Gas  |  |         | 3,926,124 |         |  |         | 3,897,084 |  |  |  | 2,208,238 | 

The increase in production volumes from September 30, 2001 to September
30, 2002 and 2003 was substantially due to the production of 1,582,277 mcf and
74,294 barrels and 1,510,206 mcf and 69,243 barrels from the Wood Oil
properties, respectively.

Average Sales Prices and Production Costs

The following table sets forth unit price and cost data for the fiscal
periods indicated.

|                    |  |         |       |         |  |         |       |  |  |   |       | 
|------------------- |  | ------- | ----- | ------- |  | ------- | ----- |  |  | - | ----- | 
|                    |  | Year    |       | Year    |  | Year   
|                    |  | Ended   |       | Ended   |  | Ended  
|Average Sales Price |  | 9-30-03 |       | 9-30-02 |  | 9-30-01
|                    |  |         |       |         |  |        
|Per Bbl. Oil        |  | $       | 29.30 |         |  | $       | 22.48 |  |  | $ | 28.16 | 
|Per MCF Gas         |  | $       | 4.79  |         |  | $       | 2.59  |  |  | $ | 4.81  | 

Average Production (Lifting Cost)
(Per MCFE of Gas)

|    |  |   |     |  |  |   |     |  |  |   |     | 
|--- |  | - | --- |  |  | - | --- |  |  | - | --- | 
|(1) |  | $ | .46 |  |  | $ | .36 |  |  | $ | .27 | 
|(2) |  | $ | .41 |  |  | $ | .28 |  |  | $ | .41 | 
|    |  |   |     |  |  |   |     |  |  |   |     | 
|    |  | $ | .87 |  |  | $ | .64 |  |  | $ | .68 | 



| | (1) |  | Includes actual well operating costs only.                                                                                                             
| | --- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------
|
| | (2) |  | Includes production taxes, compression, handling and marketing fees
paid on natural gas sales and other minor expenses associated with well
operations.

A substantial number of the Companys producing well interests are royalty
interests, which bear no share of the operating costs.

GROSS AND NET PRODUCTIVE WELLS AND DEVELOPED ACRES

The following table sets forth Panhandles gross and net productive oil
and gas wells as of September 30, 2003. Panhandle owns fractional royalty
interests or fractional working interests in these wells. The Company does not
operate any wells.

|      |  |             |       |           |  |  |            | 
|----- |  | ----------- | ----- | --------- |  |  | ---------- | 
|      |  | Gross Wells |       | Net Wells
|      |  |             |       |          
|Oil   |  |             | 957   |           |  |  | 25.876996  | 
|Gas   |  |             | 3,941 |           |  |  | 78.647848  | 
|      |  |             |       |           |  |  |            | 
|TOTAL |  |             | 4,898 |           |  |  | 104.524844 | 

Information on multiple completions is not available from Panhandles
records, but the number of such is insignificant.

(8)



---



##### Table of Contents



As of September 30, 2003, Panhandle owned 288,839 gross developed mineral
acres and 37,495 net developed mineral acres. Panhandle has also leased from
others 149,841 gross developed acres which contain 16,353 net developed acres.

UNDEVELOPED ACREAGE

As of September 30, 2003, Panhandle owned 1,420,215 gross and 221,895 net
undeveloped mineral acres, and leases on 69,260 gross and 3,874 net acres.

DRILLING ACTIVITY

The following net productive development and exploratory wells and net dry
development and exploratory wells, in which the Company had a fractional
royalty or working interest, were drilled and completed during the fiscal years
indicated. Also shown are the net wells purchased during these periods.

|                  |                                       |  |                |           |         |  |  |          | 
|----------------- | ------------------------------------- |  | -------------- | --------- | ------- |  |  | -------- | 
|                  |                                       |  | Net Productive |           | Net Dry
|                  |                                       |  | Wells          |           | Wells  
|                  |                                       |  |                |           |        
|Development Wells |                                       |  |                |           |         |  |  |         
|                  | Fiscal year ending
September 30, 2001 |  |                | 4.568279  |         |  |  | .969404  | 
|                  | Fiscal year ending
September 30, 2002 |  |                | 4.059870  |         |  |  | 1.146157 | 
|                  | Fiscal year ending
September 30, 2003 |  |                | 4.986539  |         |  |  | .462544  | 
|Exploratory Wells |                                       |  |                |           |         |  |  |         
|                  | Fiscal year ending
September 30, 2001 |  |                | 1.806223  |         |  |  | .676206  | 
|                  | Fiscal year ending
September 30, 2002 |  |                | 1.416253  |         |  |  | .550419  | 
|                  | Fiscal year ending
September 30, 2003 |  |                | 1.117805  |         |  |  | .541950  | 
|Purchased Wells   |                                       |  |                |           |         |  |  |         
|                  | Fiscal year ending
September 30, 2001 |  |                | .040365   |         |  |  | 0        | 
|                  | Fiscal year ending
September 30, 2002 |  |                | 53.246100 |         |  |  | 0        | 
|                  | Fiscal year ending
September 30, 2003 |  |                | .113069   |         |  |  | 0        | 

(9)



---



##### Table of Contents



PRESENT ACTIVITIES

The following table sets forth the gross and net oil and gas wells
drilling or testing as of September 30, 2003, in which Panhandle owns a royalty
or working interest.

|    |  |             |    |           |  |  |          | 
|--- |  | ----------- | -- | --------- |  |  | -------- | 
|    |  | Gross Wells |    | Net Wells
|    |  |             |    |          
|Oil |  |             | 7  |           |  |  | .108641  | 
|Gas |  |             | 53 |           |  |  | 1.730527 | 

OTHER FACILITIES

The Company leases approximately 8,189 square feet of office space in
Oklahoma City, OK. The obligation under this lease will end in 2008.




ITEM 3 LEGAL PROCEEDINGS

There were no material legal proceedings involving Panhandle or its
subsidiary, as of the date of this report.




ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

No matters were submitted to a vote of Panhandles security holders during
the fourth quarter of the fiscal year ended September 30, 2003.




PART II




ITEM 5 MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

The Companys common stock is listed on the American Stock Exchange
(symbol PHX). The following table sets forth the high and low trade prices of
the Companys common stock during the periods indicated:

|                   |  |      |       |     |  |   |       | 
|------------------ |  | ---- | ----- | --- |  | - | ----- | 
|Quarter Ended      |  | HIGH |       | LOW
|                   |  |      |       |    
|December 31, 2001  |  | $    | 18.00 |     |  | $ | 14.70 | 
|March 31, 2002     |  | $    | 15.15 |     |  | $ | 14.35 | 
|June 30, 2002      |  | $    | 15.90 |     |  | $ | 14.00 | 
|September 30, 2002 |  | $    | 14.95 |     |  | $ | 12.75 | 
|December 31, 2002  |  | $    | 20.20 |     |  | $ | 12.00 | 
|March 31, 2003     |  | $    | 18.13 |     |  | $ | 15.25 | 
|June 30, 2003      |  | $    | 23.84 |     |  | $ | 14.94 | 
|September 30, 2003 |  | $    | 23.91 |     |  | $ | 21.40 | 

As of December 4, 2003, the approximate number of holders of shares of Panhandle stock was:

|                        |  |                   |       | 
|----------------------- |  | ----------------- | ----- | 
|Title of Class          |  | Number of Holders
|                        |  |                  
|Class A Common (Voting) |  |                   | 2,700 | 

(10)



---



##### Table of Contents



During the past two years, cash dividends have been paid as follows on the
class A common stock:

|               |  |                |     | 
|-------------- |  | -------------- | --- | 
|DATE           |  | RATE PER SHARE
|               |  |               
|December 2001  |  | $              | .07 | 
|March 2002     |  | $              | .07 | 
|June 2002      |  | $              | .07 | 
|September 2002 |  | $              | .07 | 
|December 2002  |  | $              | .07 | 
|March 2003     |  | $              | .07 | 
|June 2003      |  | $              | .07 | 
|September 2003 |  | $              | .07 | 

The Companys line of credit loan agreement contains a provision limiting
the paying or declaring of a cash dividend to fifty percent of cash flow, as
defined, of the preceding twelve-month period. See Note 4 to the consolidated
financial statements contained herein at Item 8  Financial Statements, for a
further discussion of the loan agreement.




ITEM 6 SELECTED FINANCIAL DATA

The following table summarizes consolidated financial data of the Company
and should be read in conjunction with the Managements Discussion and
Analysis of Financial Condition and Results of Operations and the Consolidated
Financial Statements of the Company, including the Notes thereto, included
elsewhere in this report.

|                                                                     |  |   |                          |  |          |   |            |   |      |   |            |  |  |   |           |  |  |   |           |   | 
|-------------------------------------------------------------------- |  | - | ------------------------ |  | -------- | - | ---------- | - | ---- | - | ---------- |  |  | - | --------- |  |  | - | --------- | - | 
|                                                                     |  |   | Year Ended September 30,
|                                                                     |  |   |                         
|                                                                     |  |   | 2003 (A)                 |  | 2002 (A) |   | 2001       |   | 2000 |   | 1999      
|                                                                     |  |   |                          |  |          |   |            |   |      |   |           
|Revenues                                                             |  |   |                          |  |          |   |            |   |      |   |            |  |  |   |           |  |  |   |           |  
|Oil & Gas Sales                                                      |  | $ | 22,098,198               |  |          | $ | 13,080,754 |   |      | $ | 12,546,055 |  |  | $ | 9,091,920 |  |  | $ | 5,077,240 |  
|Lease Bonuses                                                        |  |   | 72,765                   |  |          |   | 41,497     |   |      |   | 17,991     |  |  |   | 82,030    |  |  |   | 10,773    |  
|Interest & Other                                                     |  |   | 285,075                  |  |          |   | 469,146    |   |      |   | 231,876    |  |  |   | 104,024   |  |  |   | 29,462    |  
|                                                                     |  |   |                          |  |          |   |            |   |      |   |            |  |  |   |           |  |  |   |           |  
|                                                                     |  | $ | 22,456,038               |  |          | $ | 13,591,397 |   |      | $ | 12,795,922 |  |  | $ | 9,277,974 |  |  | $ | 5,117,475 |  
|                                                                     |  |   |                          |  |          |   |            |   |      |   |            |  |  |   |           |  |  |   |           |  
|Costs & Expenses                                                     |  |   |                          |  |          |   |            |   |      |   |            |  |  |   |           |  |  |   |           |  
|Lease Oper. Exp.
& Prod. Taxes                                       |  | $ | 4,013,572                |  |          | $ | 3,001,449  |   |      | $ | 1,771,789  |  |  | $ | 1,458,935 |  |  | $ | 963,804   |  
|Exploration Costs (B)                                                |  |   | 469,224                  |  |          |   | 417,971    |   |      |   | 947,046    |  |  |   | 514,739   |  |  |   | 535,431   |  
|Depr. Depl. Amortization                                             |  |   | 5,783,457                |  |          |   | 5,845,779  |   |      |   | 1,670,961  |  |  |   | 1,789,491 |  |  |   | 1,379,562 |  
|Provision for Impairment                                             |  |   | 692,220                  |  |          |   | 1,116,234  |   |      |   | 848,535    |  |  |   | 262,998   |  |  |   | 357,891   |  
|Gen. & Administrative                                                |  |   | 2,666,177                |  |          |   | 2,263,908  |   |      |   | 1,689,426  |  |  |   | 1,450,241 |  |  |   | 1,164,745 |  
|Interest Expense                                                     |  |   | 699,266                  |  |          |   | 895,997    |   |      |   | 779        |  |  |   | 15,643    |  |  |   | 16,943    |  
|                                                                     |  |   |                          |  |          |   |            |   |      |   |            |  |  |   |           |  |  |   |           |  
|                                                                     |  | $ | 14,323,916               |  |          | $ | 13,541,338 |   |      | $ | 6,928,536  |  |  | $ | 5,492,047 |  |  | $ | 4,418,376 |  
|                                                                     |  |   |                          |  |          |   |            |   |      |   |            |  |  |   |           |  |  |   |           |  
|Income before Provision
(Benefit) for Income Taxes                   |  | $ | 8,132,122                |  |          | $ | 50,059     |   |      | $ | 5,867,386  |  |  | $ | 3,785,927 |  |  | $ | 699,099   |  
|Cumulative effect of accounting
changes, net of
taxes of $28,500 (C) |  |   | 46,500                   |  |          |   |           |   |      |   |           |  |  |   |          |  |  |   |          |  
|Provision (Benefit)
for Income Taxes                                 |  |   | 2,217,000                |  |          |   | (293,000   | ) |      |   | 1,600,000  |  |  |   | 925,000   |  |  |   | (35,000   | )
|                                                                     |  |   |                          |  |          |   |            |   |      |   |            |  |  |   |           |  |  |   |           |  
|Net Income                                                           |  | $ | 5,961,622                |  |          | $ | 343,059    |   |      | $ | 4,267,386  |  |  | $ | 2,860,927 |  |  | $ | 734,099   |  
|                                                                     |  |   |                          |  |          |   |            |   |      |   |            |  |  |   |           |  |  |   |           |  

(11)



---



##### Table of Contents



|                                    |                         |   |                          |            |          |   |            |           |      |   |            |           |  |   |            |           |  |   |            |           | 
|----------------------------------- | ----------------------- | - | ------------------------ | ---------- | -------- | - | ---------- | --------- | ---- | - | ---------- | --------- |  | - | ---------- | --------- |  | - | ---------- | --------- | 
|                                    |                         |   | Year Ended September 30,
|                                    |                         |   |                         
|                                    |                         |   | 2003 (A)                 |            | 2002 (A) |   | 2001       |           | 2000 |   | 1999      
|                                    |                         |   |                          |            |          |   |            |           |      |   |           
|Diluted Earnings per Share          |                         | $ | 2.83                     |            |          | $ | .16        |           |      | $ | 2.05       |           |  | $ | 1.38       |           |  | $ | .36        |          
|Dividends Declared per share        |                         | $ | .28                      |            |          | $ | .28        |           |      | $ | .35        |           |  | $ | .28        |           |  | $ | .27        |          
|Weighted Average
Shares Outstanding |                         |   |                          |            |          |   |            |           |      |   |            |           |  |   |            |           |  |   |            |          
|                                    | Basic                   |   |                          | 2,081,372  |          |   |            | 2,067,872 |      |   |            | 2,060,109 |  |   |            | 2,055,470 |  |   |            | 2,047,507 | 
|                                    | Diluted                 |   |                          | 2,103,713  |          |   |            | 2,089,972 |      |   |            | 2,085,044 |  |   |            | 2,077,430 |  |   |            | 2,063,906 | 
|Net Cash Provided                   |                         |   |                          |            |          |   |            |           |      |   |            |           |  |   |            |           |  |   |            |          
|                                    | By Operating
Activities |   | $                        | 13,198,368 |          |   | $          | 7,481,195 |      |   | $          | 9,302,965 |  |   | $          | 5,366,066 |  |   | $          | 2,836,783 | 
|Total Assets                        |                         | $ | 49,402,534               |            |          | $ | 44,837,068 |           |      | $ | 25,279,684 |           |  | $ | 16,210,327 |           |  | $ | 13,263,877 |          
|Long-Term Debt                      |                         | $ | 12,666,661               |            |          | $ | 14,024,000 |           |      | $ | 4,050,000  |           |  | $ | 0          |           |  | $ | 0          |          
|Shareholders Equity                 |                         | $ | 22,527,685               |            |          | $ | 16,953,294 |           |      | $ | 16,995,050 |           |  | $ | 13,353,814 |           |  | $ | 11,048,604 |          

All share per share amounts, are adjusted for the effect of the 3-for-1 stock
split which was effective
May 7, 1999.

(A)  2002 and 2003 results included are consolidated amounts of
Panhandle Royalty Company and wholly owned subsidiary Wood Oil Company,
acquired October 1, 2001.

(B)  The Company uses the successful efforts method of accounting for
its oil and gas activities.

(C)  Represents the income effect of the adoption of SFAS No. 143,
Accounting for Asset Retirement Obligationson October 1, 2003. See Note 1:
Summary of Significant Accounting Policies of Notes to the Condensed
Consolidated Financial Statements for a complete discussion.




ITEM 7 MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS



| |  | Forward-looking statements for 2004 and later periods are made throughout
this document. Such statements represent estimates of management based on the
Companys historical operating trends, its proved oil and gas reserves and
other information currently available to management. The Company cautions that
the forward-looking statements provided herein are subject to all the risks and
uncertainties incident to the acquisition, development and marketing of, and
exploration for oil and gas reserves. These risks include, but are not limited
to oil and natural gas price risk, environmental risk, drilling risk, reserve
quantity risk and operations and production risks. For all the above reasons,
actual results may vary materially from the forward-looking statements and
there is no assurance that the assumptions used are necessarily the most likely
to occur.
| |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

GENERAL

The Companys principal line of business is the production and sale of oil
and natural gas. Results of operations are dependent upon the quantity of
production and the price obtained for such production. Prices received by the
Company for the sale of its oil and natural gas have fluctuated significantly
from period to period. Such fluctuations affect the Companys ability to
maintain or increase its production from existing oil and gas properties and to
explore, develop or acquire new properties.

The following table reflects certain operating data for the periods
presented:

(12)



---



##### Table of Contents



|                     |               |  |                    |           |      |  |      |           |  |  |   |           | 
|-------------------- | ------------- |  | ------------------ | --------- | ---- |  | ---- | --------- |  |  | - | --------- | 
|                     |               |  | For the Year Ended
|                     |               |  | September 30,     
|                     |               |  |                   
|                     |               |  | 2003               |           | 2002 |  | 2001
|                     |               |  |                    |           |      |  |     
|Production:          |               |  |                    |           |      |  |      |           |  |  |   |          
|                     | Oil (bbls)    |  |                    | 112,746   |      |  |      | 132,514   |  |  |   | 68,530    | 
|                     | Gas (mcf)     |  |                    | 3,926,124 |      |  |      | 3,897,084 |  |  |   | 2,208,238 | 
|Average Sales Price: |               |  |                    |           |      |  |      |           |  |  |   |          
|                     | Oil (per bbl) |  | $                  | 29.30     |      |  | $    | 22.48     |  |  | $ | 28.16     | 
|                     | Gas (per mcf) |  | $                  | 4.79      |      |  | $    | 2.59      |  |  | $ | 4.81      | 

RESULTS OF OPERATIONS
2003 COMPARED TO 2002.

REVENUES

Total revenues increased 65% to $22,456,038 in 2003 compared to
$13,591,397 in 2002. The increase was due to a large increase in the average
sales price for natural gas in 2002; offset some what by a 15% decrease in oil
production volumes in 2003. Gas production volume was basically flat in 2003
compared to 2002. New production from the Companys drilling activity replaced
the normal decline of existing gas wells. Few oil wells have been drilled in
recent years, thus, oil production continues to decline.

LEASE OPERATING EXPENSES AND PRODUCTION TAXES (LOE)

LOE continues to increase each year as the Company increases the number of
working interest wells in which it has an interest. The Company participated
in a record number of working interest wells in 2003. Gross production taxes
are paid as a percentage of oil and gas sales revenues and thus increased
substantially in 2003 due to the large increase in oil and gas sales revenues.

EXPLORATION COSTS

Exploration costs increased $51,253 or 12% in 2003 as compared to 2002.
The increased costs were primarily dry hole costs. As previously mentioned,
the Company participated in a record number of wells in 2003, several of which
were exploratory. As the Company utilizes the successful efforts method of
accounting for oil and gas operations, dry holes resulted in the expensing of
all costs associated with those wells.

DEPRECIATION, DEPLETION AND AMORTIZATION (DD&A)

DD&A declined $62,322 or 1% in 2003. The decline was principally due to
decreased oil production volume in 2003; reducing the units of production DD&A
on the Companys oil properties.

PROVISION FOR IMPAIRMENT

The provision for impairment of the Companys oil and gas properties
decreased $424,014, or 38% in 2003. This decrease can be principally
attributed to the higher market price for natural gas at year-end 2003 as
compared to year-end 2002.

GENERAL AND ADMINISTRATIVE COSTS (G&A)

G&A costs increased $402,269 in 2003. Personnel related expenses
(including salaries, payroll taxes, insurance expenses and ESOP expenses)
increased approximately $137,000 in 2003. G&A expense related to the
Non-Employee Directors Deferred Compensation Plan (the Plan) increased
approximately $180,000 in 2003. This increase was a result of the Company
recognizing a charge to

(13)



---



##### Table of Contents



general and administrative expense to adjust the potential shares in the Plan
to market price at September 30, 2003, versus a minimal charge in 2002 for the
same adjustment. The Non-Employee directors have taken these potential shares,
rather than a cash payment for their directors fees. In addition, the Company
incurred expenses of approximately $50,000 upon listing its shares on the
American Stock Exchange in 2003.

INTEREST EXPENSE

Interest expense decreased $196,731 or 22% in 2003. The decrease was due
to lower outstanding debt balances, and lower effective interest rates.

PROVISION FOR INCOME TAXES

The provision for income taxes increased in 2003, due to a much larger
income before taxes (as discussed above). The Company continued to be able to
utilize tax credits from production of tight gas sands natural gas and excess
percentage depletion on its oil and gas properties to reduce its tax liability,
and its effective tax rate from the federal and state statutory rates. The
effective tax rate was approximately 27% in 2003 and 2001 while a tax benefit
was provided in 2002.

OVERVIEW

The Company recorded a net income of $5,961,622 in 2003, compared to a net
income of $343,059 in 2002. Total revenues were larger as a result of
significantly increased oil and gas sales revenues generated by increases in
the average sales prices of oil and natural gas in 2003 as compared to 2002.

LIQUIDITY AND CAPITAL RESOURCES

At September 30, 2003, the Company had positive working capital of
$1,335,344 as compared to negative working capital of $2,399,457 at September
30, 2002. The increase in working capital from September 30, 2002 to September
30, 2003, is the result of increased oil and gas sales revenues during 2003,
which is discussed in Results of Operation above, and the reduction in the
current portion of long-term debt by $2,000,000. This reduction in the current
portion of long-term debt is the result of the restructuring of the Companys
bank debt in March 2003. The fixed monthly principal payment on the bank debt
was reduced from $333,000 to $166,667. For a further discussion of the
Companys bank debt see Note 4: Long Term Debt of Notes to the Condensed
Consolidated Financial Statements contained here-in. Cash flow from operating
activities increased 76% to $13,198,368 for fiscal 2003, as compared to fiscal
2002, primarily due to a significant increase in product sales prices.

Capital expenditures for oil and gas activities for 2003 amounted to
$9,195,916, as compared to $6,967,767 for 2002, exclusive of $15,229,466 used
to acquire Wood Oil Company.

The Company has historically funded its capital expenditures, overhead
costs and dividend payments from operating cash flow. Due to the increased
capital expenditure level in 2003, the Company borrowed, early in the year,
$1,525,000 on its revolving bank loan to help fund those expenditures. As a
result of the increased cash flow from higher prices received for natural gas
in the last three quarters of fiscal 2003, the Company made total principal
payments of $4,878,335 on its bank debt. The Company has approximately $7.8
million available credit under the bank debt facility which is in place, for
capital expenditures, acquisitions or any combination of uses. Further, the
credit facility could be increased, if needed, for a large acquisition.

2002 Compared To 2001

REVENUES

Total revenues increased 6% to $13,591,397 in 2002, compared to $12,795,922 in
2001. The increase was a direct result of increased sales volumes for both oil and natural
gas offset by dramatically reduced

(14)



---



##### Table of Contents



sales prices for both oil and natural gas, as outlined in the above table. The
increased sales volume of both oil and natural gas is almost exclusively due to
the addition of production from the Wood Oil acquisition properties. Wood
Oils production volumes were 1,582,277 mcf (94% of the gas volume increase)
and 74,294 barrels (100% of the oil volume increase). The reduction in average
sales price was simply the result of world market conditions for crude oil and
natural gas prices returning to more sustainable price levels from the ultra
high prices of certain months in fiscal 2001.

LEASE OPERATING EXPENSES AND PRODUCTION TAXES (LOE)

LOE increased $1,251,482 to $2,173,667 in 2002. 95% of the increase was
due to LOE on the Wood acquisition properties. Gross production taxes are paid
as a percentage of oil and gas sales revenues and thus fluctuate by increases
in oil and gas sales revenues.

EXPLORATION COSTS

Exploration costs declined 56% in 2002 as fewer exploratory wells were
drilled in 2002, thus, reducing the chance of an exploratory well being a dry
hole, which under the successful efforts accounting method are expensed as
exploration costs.

DEPRECIATION, DEPLETION AND AMORTIZATION (DD&A)

DD&A increased 250% in 2002 or $4,174,818. The majority of the increase,
$3,099,085, was DD&A on the Wood acquisition properties. The DD&A on these
properties was calculated using the fair value of the properties which was
assigned in the purchase accounting done at the acquisition date. In addition,
a full year of DD&A on many wells completed late in 2001 was recognized in
2002. Drilling and completion costs in fiscal 2001 were extremely high as
drilling rigs and completion equipment enjoyed high utilization rates during
the year. These high costs were thus being amortized in 2002.

PROVISION FOR IMPAIRMENT

The provision for impairment of the Companys oil and gas properties
increased 32% or $267,699 in 2002. The increase is due again to the high costs
of drilling and equipping wells in 2001 coupled with disappointing production
volumes on several wells, resulting in impairment on those fields and several
individual wells as those wells came on line in fiscal 2002.

GENERAL AND ADMINISTRATIVE COSTS (G&A)

G&A increased $574,482 in 2002 or 34%. The majority of the increase was
due to G&A associated with Wood Oil and the three employees retained from Wood.
Additionally one other employee was hired during 2002 and personnel related
expenses (including salaries, payroll taxes, insurance expense and ESOP
expense) increased during the year.

INTEREST EXPENSE

Interest expense increased by $895,218 in 2002. The increase is due to
interest paid on the loan used to acquire Wood Oil. The acquisition was funded
by a new $20,000,000 five-year term loan which requires monthly principal and
interest payments. At September 30, 2002 the interest rate on the term loan
was 4.5%.

PROVISION FOR INCOME TAXES

The provision for income taxes decreased in 2002 due to a much lower
income before taxes. The Company continues to be able to utilize tax credits
from production of tight gas sands natural gas
and excess percentage depletion on its oil and gas properties. The
effective tax rate was approximately

(15)



---



##### Table of Contents



27% in 2001. The aggregate income tax benefit of $293,000 in 2002, was
primarily a result of percentage depletion and tight gas sands credits
reducing the expected federal income tax expense by approximately $279,000.

OVERVIEW

The Company recorded a net income of $343,059 in 2002, compared to net
income of $4,267,386 in 2001. This decrease was the result of lower oil and
natural gas sales prices and increased LOE, DD&A, impairment, G&A and interest
expense. The increased expenses, for the most part, were a result of the Wood
Oil acquisition.

CRITICAL ACCOUNTING POLICIES

Preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates, judgments and assumptions that affect the reported amounts of
assets, liabilities, revenues and expenses, and the disclosure of contingent
assets and liabilities. However, the accounting principles used by the Company
generally do not change the Companys reported cash flows or liquidity.
Generally, accounting rules do not involve a selection among alternatives, but
involve a selection of the appropriate policies for applying the basic
principles. Interpretation of the existing rules must be done and judgments
made on how the specifics of a given rule apply to the Company.

The more significant reporting areas impacted by managements judgments
and estimates are crude oil and natural gas reserve estimation, impairment of
assets and tax accruals. Managements judgments and estimates in these areas
are based on information available from both internal and external sources,
including engineers, geologists and historical experience in similar matters.
Actual results could differ from the estimates as additional information
becomes known.

OIL AND GAS RESERVES

Of these judgments and estimates, management considers the estimation of
crude oil and natural gas reserves to be the most significant. Changes in
crude oil and natural gas reserve estimates affect the Companys calculation of
depreciation and depletion, provision for abandonment and assessment of the
need for asset impairments. The Companys consulting engineer with assistance
from Company geologists prepares estimates of crude oil and natural gas
reserves based on available geologic and seismic data, reservoir pressure data,
core analysis reports, well logs, analogous reservoir performance history,
production data and other available sources of engineering, geological and
geophysical information. As required by the guidelines and definitions
established by the Securities and Exchange Commission, these estimates are
based on current crude oil and natural gas pricing. As previously discussed,
crude oil and natural gas prices are volatile and largely affected by worldwide
consumption and are outside the control of management. Projected future crude
oil and natural gas pricing assumptions are used by management to prepare
estimates of crude oil and natural gas reserves used in formulating managements
overall operating decisions in the exploration and production segment.

SUCCESSFUL EFFORTS METHOD OF ACCOUNTING

The Company has elected to utilize the successful efforts method of
accounting for its oil and gas exploration and development activities.
Exploration expenses, including geological and
geophysical costs, rentals and exploratory dry holes, are charged against
income as incurred. Costs of successful wells and related production equipment
and developmental dry holes are capitalized and amortized by field using the
unit-of-production method as oil and gas is produced. The accounting method
may yield significantly different operating results than the full cost method.

(16)



---



##### Table of Contents



IMPAIRMENT OF ASSETS

All long-lived assets are monitored for potential impairment when
circumstances indicate that the carrying value of the asset may be greater than
its future net cash flows. The evaluations involve a significant amount of
judgment since the results are based on estimated future events, such as
inflation rates, future sales prices for oil and gas, future costs to produce
these products, estimates of future oil and gas reserves to be recovered and
the timing thereof, the economic and regulatory climates and other factors.
The need to test a field for impairment may result from significant declines in
sales prices or unfavorable adjustments to oil and gas reserves. Any assets
held for sale are reviewed for impairment when the Company approves the plan to
sell. Estimates of anticipated sales prices are highly judgmental and subject
to material revision in future periods. Because of the uncertainty inherent in
these factors, the Company cannot predict when or if future impairment charges
will be recorded.

TAX ACCRUALS

The estimation of the amounts of income tax to be recorded by the Company
involves interpretation of complex tax laws and regulations. Although the
Companys management believes its tax accruals are adequate, differences may
occur in the future depending on the resolution of pending and new tax matters.

The above description of the Companys critical accounting policies is not
intended to be an all-inclusive discussion of the uncertainties considered and
estimates made by management in applying accounting principles and policies.
Results may vary significantly if different policies were used or required and
if new or different information becomes known to management.




ITEM 7 A QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

The Companys results of operations and operating cash flows are impacted
by changes in market prices for oil and gas. Operations and cash flows are
also impacted by changes in the market interest rates related to the revolving
credit facility which bears interest at an annual variable interest rate equal
to the national prime rate minus -3/4% or LIBOR for one, three or six month
periods, plus 1.8%. At September 30, 2003 a one percent change in the prime
interest rate would result in approximately a $55,000 change in annual interest
expense. The Company has a $10,000,000 term loan (remaining balance of
$9,166,665 at September 30, 2003) which matures on April 1, 2008. The interest
rate is fixed at 4.56% until maturity.




ITEM 8 FINANCIAL STATEMENTS

|                                                                                                      |  |  |       | 
|----------------------------------------------------------------------------------------------------- |  |  | ----- | 
|Report of Independent Auditors                                                                        |  |  | 18    | 
|Consolidated
Balance Sheets
As of September 30, 2003 and 2002                                         |  |  | 19-20 | 
|Consolidated
Statements of Income for the
Years Ended September 30, 2003, 2002 and 2001               |  |  | 21    | 
|Consolidated
Statements of Stockholders Equity for
the Years Ended September 30, 2003, 2002 and 2001 |  |  | 22    | 
|Consolidated
Statements of Cash Flows for
the Years Ended September 30, 2003, 2002 and 2001           |  |  | 23-24 | 
|Notes to Consolidated Financial Statements                                                            |  |  | 25-42 | 

(17)



---



##### Table of Contents



Report of Independent Auditors

Board of Directors and Stockholders
Panhandle Royalty Company

We have audited the accompanying consolidated balance sheets of Panhandle
Royalty Company (the Company) as of September 30, 2003 and 2002, and the
related consolidated statements of income, stockholders equity, and cash flows
for each of the three years in the period ended September 30, 2003. These
financial statements are the responsibility of the Companys management. Our
responsibility is to express an opinion on these financial statements based on
our audits.

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

In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Panhandle Royalty
Company at September 30, 2003 and 2002, and the consolidated results of its
operations and its cash flows for each of the three years in the period ended
September 30, 2003, in conformity with accounting principles generally accepted
in the United States.

Ernst & Young, LLP
Oklahoma City, Oklahoma
December 5, 2003

(18)





---



##### Table of Contents



Panhandle Royalty Company

Consolidated Balance Sheets

|                                                                        |                              |                                                            |            |              |            |      |            |           |            | 
|----------------------------------------------------------------------- | ---------------------------- | ---------------------------------------------------------- | ---------- | ------------ | ---------- | ---- | ---------- | --------- | ---------- | 
|                                                                        |                              |                                                            |            | September 30
|                                                                        |                              |                                                            |            | 2003         |            | 2002
|                                                                        |                              |                                                            |            |              |            |     
|Assets                                                                  |                              |                                                            |            |              |            |      |            |          
|Current assets:                                                         |                              |                                                            |            |              |            |      |            |          
|                                                                        | Cash and cash equivalents    |                                                            | $          | 593,006      |            |      | $          | 242,836   |           
|                                                                        | Oil and gas sales receivable |                                                            |            | 3,989,877    |            |      |            | 2,533,249 |           
|                                                                        | Prepaid expenses and other   |                                                            |            | 117,422      |            |      |            | 5,709     |           
|                                                                        |                              |                                                            |            |              |            |      |            |          
|Total current assets                                                    |                              |                                                            | 4,700,305  |              |            |      | 2,781,794  |          
|Property and equipment at cost, based on
successful efforts accounting: |                              |                                                            |            |              |            |      |            |          
|                                                                        |                              | Producing oil and gas properties                           |            |              | 65,342,062 |      |            |           | 58,697,095 | 
|                                                                        |                              | Nonproducing oil and gas properties                        |            |              | 9,610,757  |      |            |           | 9,754,336  | 
|                                                                        |                              | Furniture and fixtures                                     |            |              | 405,514    |      |            |           | 360,784    | 
|                                                                        |                              |                                                            |            |              |            |      |            |          
|                                                                        |                              |                                                            | 75,358,333 |              |            |      | 68,812,215 |          
|                                                                        |                              | Less accumulated depreciation,
depletion, and amortization |            |              | 31,685,848 |      |            |           | 27,860,713 | 
|                                                                        |                              |                                                            |            |              |            |      |            |          
|Net properties and equipment                                            |                              |                                                            | 43,672,485 |              |            |      | 40,951,502 |          
|Investment in partnerships, at equity                                   |                              |                                                            | 782,587    |              |            |      | 856,607    |          
|Other                                                                   |                              |                                                            | 247,157    |              |            |      | 247,157    |          
|                                                                        |                              |                                                            |            |              |            |      |            |          
|Total assets                                                            |                              | $                                                          | 49,402,534 |              |            | $    | 44,837,060 |          
|                                                                        |                              |                                                            |            |              |            |      |            |          

(Continued on next page.)

(19)





---



##### Table of Contents



|                                                             |                                                                                                                                  |                       |            |              |         |      |            |            |         | 
|------------------------------------------------------------ | -------------------------------------------------------------------------------------------------------------------------------- | --------------------- | ---------- | ------------ | ------- | ---- | ---------- | ---------- | ------- | 
|                                                             |                                                                                                                                  |                       |            | September 30
|                                                             |                                                                                                                                  |                       |            | 2003         |         | 2002
|                                                             |                                                                                                                                  |                       |            |              |         |     
|Liabilities and Stockholders Equity                         |                                                                                                                                  |                       |            |              |         |      |            |           
|Current liabilities:                                         |                                                                                                                                  |                       |            |              |         |      |            |           
|                                                             | Accounts payable                                                                                                                 |                       | $          | 552,201      |         |      | $          | 653,758    |        
|                                                             | Accrued liabilities:                                                                                                             |                       |            |              |         |      |            |            |        
|                                                             |                                                                                                                                  | Deferred compensation |            |              | 519,783 |      |            |            | 321,555 | 
|                                                             |                                                                                                                                  | Interest              |            |              | 40,213  |      |            |            | 66,567  | 
|                                                             |                                                                                                                                  | Other                 |            |              | 121,972 |      |            |            | 133,308 | 
|                                                             | Income taxes payable                                                                                                             |                       |            | 130,788      |         |      |            | 10,063     |        
|                                                             | Long-term debt due within one year                                                                                               |                       |            | 2,000,004    |         |      |            | 3,996,000  |        
|                                                             |                                                                                                                                  |                       |            |              |         |      |            |           
|Total current liabilities                                    |                                                                                                                                  |                       | 3,364,961  |              |         |      | 5,181,251  |           
|Long-term debt                                               |                                                                                                                                  |                       | 12,666,661 |              |         |      | 14,024,000 |           
|Deferred income taxes                                        |                                                                                                                                  |                       | 10,315,000 |              |         |      | 8,639,000  |           
|Asset retirement obligation and
other noncurrent liabilities |                                                                                                                                  |                       | 528,227    |              |         |      | 39,515     |           
|Stockholders equity:                                        |                                                                                                                                  |                       |            |              |         |      |            |           
|                                                             | Class A voting common stock, $.0333
par value; 6,000,000 shares
authorized, 2,089,101 issued and
outstanding (2,079,423 in 2002) |                       |            | 69,637       |         |      |            | 69,314     |        
|                                                             | Capital in excess of par value                                                                                                   |                       |            | 1,091,886    |         |      |            | 896,643    |        
|                                                             | Retained earnings                                                                                                                |                       |            | 21,366,162   |         |      |            | 15,987,337 |        
|                                                             |                                                                                                                                  |                       |            |              |         |      |            |           
|Total stockholders equity                                   |                                                                                                                                  |                       | 22,527,685 |              |         |      | 16,953,294 |           
|                                                             |                                                                                                                                  |                       |            |              |         |      |            |           
|Total liabilities and stockholders equity                   |                                                                                                                                  | $                     | 49,402,534 |              |         | $    | 44,837,060 |           
|                                                             |                                                                                                                                  |                       |            |              |         |      |            |           

See accompanying notes.

(20)





---



##### Table of Contents



Panhandle Royalty Company

Consolidated Statements of Income

|                                                                                    |                                               |   |                         |            |      |   |            |            |  |   |            |            | 
|----------------------------------------------------------------------------------- | --------------------------------------------- | - | ----------------------- | ---------- | ---- | - | ---------- | ---------- |  | - | ---------- | ---------- | 
|                                                                                    |                                               |   | Year ended September 30
|                                                                                    |                                               |   | 2003                    |            | 2002 |   | 2001      
|                                                                                    |                                               |   |                         |            |      |   |           
|Revenues:                                                                           |                                               |   |                         |            |      |   |            |            |  |   |            |           
|                                                                                    | Oil and gas sales                             |   | $                       | 22,098,198 |      |   | $          | 13,080,754 |  |   | $          | 12,546,055 | 
|                                                                                    | Lease bonuses and rentals                     |   |                         | 72,765     |      |   |            | 41,497     |  |   |            | 17,991     | 
|                                                                                    | Interest                                      |   |                         | 13,580     |      |   |            | 36,743     |  |   |            | 47,141     | 
|                                                                                    | Income from partnerships and other            |   |                         | 271,495    |      |   |            | 432,403    |  |   |            | 184,735    | 
|                                                                                    |                                               |   |                         |            |      |   |            |            |  |   |            |           
|                                                                                    |                                               |   | 22,456,038              |            |      |   | 13,591,397 |            |  |   | 12,795,922 |           
|Costs and expenses:                                                                 |                                               |   |                         |            |      |   |            |            |  |   |            |           
|                                                                                    | Lease operating expenses and production
taxes |   |                         | 4,013,572  |      |   |            | 3,001,449  |  |   |            | 1,771,789  | 
|                                                                                    | Exploration costs                             |   |                         | 469,224    |      |   |            | 417,971    |  |   |            | 947,046    | 
|                                                                                    | Depreciation, depletion, and amortization     |   |                         | 5,783,457  |      |   |            | 5,845,779  |  |   |            | 1,670,961  | 
|                                                                                    | Provision for impairment                      |   |                         | 692,220    |      |   |            | 1,116,234  |  |   |            | 848,535    | 
|                                                                                    | General and administrative                    |   |                         | 2,666,177  |      |   |            | 2,263,908  |  |   |            | 1,689,426  | 
|                                                                                    | Interest expense                              |   |                         | 699,266    |      |   |            | 895,997    |  |   |            | 779        | 
|                                                                                    |                                               |   |                         |            |      |   |            |            |  |   |            |           
|                                                                                    |                                               |   | 14,323,916              |            |      |   | 13,541,338 |            |  |   | 6,928,536  |           
|                                                                                    |                                               |   |                         |            |      |   |            |            |  |   |            |           
|Income before provision for income taxes
and cumulative effect of accounting change |                                               |   | 8,132,122               |            |      |   | 50,059     |            |  |   | 5,867,386  |           
|Provision (benefit) for income taxes                                                |                                               |   | 2,217,000               |            |      |   | (293,000   | )          |  |   | 1,600,000  |           
|                                                                                    |                                               |   |                         |            |      |   |            |            |  |   |            |           
|Net income before cumulative effect of
accounting change                            |                                               |   | 5,915,122               |            |      |   | 343,059    |            |  |   | 4,267,386  |           
|                                                                                    |                                               |   |                         |            |      |   |            |            |  |   |            |           
|Cumulative effect of accounting changes, net
of taxes of $28,500                    |                                               |   | 46,500                  |            |      |   |           |            |  |   |           |           
|                                                                                    |                                               |   |                         |            |      |   |            |            |  |   |            |           
|Net income                                                                          |                                               | $ | 5,961,622               |            |      | $ | 343,059    |            |  | $ | 4,267,386  |           
|                                                                                    |                                               |   |                         |            |      |   |            |            |  |   |            |           
|Basic earnings per common share                                                    
|Income before cumulative effect of
accounting change                                |                                               | $ | 2.84                    |            |      | $ | .17        |            |  | $ | 2.07       |           
|Cumulative effect of accounting change                                              |                                               |   | .02                     |            |      |   |           |            |  |   |           |           
|                                                                                    |                                               |   |                         |            |      |   |            |            |  |   |            |           
|Net income                                                                          |                                               | $ | 2.86                    |            |      | $ | .17        |            |  | $ | 2.07       |           
|                                                                                    |                                               |   |                         |            |      |   |            |            |  |   |            |           
|Diluted earnings per common share                                                  
|Income before cumulative effect of
accounting change                                |                                               | $ | 2.81                    |            |      | $ | .16        |            |  | $ | 2.05       |           
|Cumulative effect of accounting change                                              |                                               |   | .02                     |            |      |   |           |            |  |   |           |           
|                                                                                    |                                               |   |                         |            |      |   |            |            |  |   |            |           
|Net income                                                                          |                                               | $ | 2.83                    |            |      | $ | .16        |            |  | $ | 2.05       |           
|                                                                                    |                                               |   |                         |            |      |   |            |            |  |   |            |           

See accompanying notes.

(21)





---



##### Table of Contents



Panhandle Royalty Company

Consolidated Statements of Stockholders Equity

|                                                    |  |              |           |            |  |           |        |          |  |       |           |   |  |   |            |   |  |   |            |  
|--------------------------------------------------- |  | ------------ | --------- | ---------- |  | --------- | ------ | -------- |  | ----- | --------- | - |  | - | ---------- | - |  | - | ---------- | -
|                                                    |  | Common Stock |           | Capital in |  |           |        |          |  |      
|                                                    |  |              |           | Excess of  |  | Retained  |        |          |  |      
|                                                    |  | Shares       |           | Amount     |  | Par Value |        | Earnings |  | Total
|                                                    |  |              |           |            |  |           |        |          |  |      
|Balances at September 30, 2001                      |  |              | 2,066,441 |            |  | $         | 68,881 |          |  | $     | 702,948   |   |  | $ | 16,223,221 |   |  | $ | 16,995,050 |  
|Purchases and cancellation of
common shares         |  |              | (291      | )          |  |           | (10    | )        |  |       | (4,100    | ) |  |   |           |   |  |   | (4,110     | )
|Issuance of common shares to ESOP                   |  |              | 8,157     |            |  |           | 272    |          |  |       | 118,412   |   |  |   |           |   |  |   | 118,684    |  
|Issuance of common shares to
directors for services |  |              | 5,116     |            |  |           | 171    |          |  |       | 79,383    |   |  |   |           |   |  |   | 79,554     |  
|Dividends declared ($.28 per share)                 |  |              |          |            |  |           |       |          |  |       |          |   |  |   | (578,943   | ) |  |   | (578,943   | )
|Net income                                          |  |              |          |            |  |           |       |          |  |       |          |   |  |   | 343,059    |   |  |   | 343,059    |  
|                                                    |  |              |           |            |  |           |        |          |  |       |           |   |  |   |            |   |  |   |            |  
|Balances at September 30, 2002                      |  |              | 2,079,423 |            |  |           | 69,314 |          |  |       | 896,643   |   |  |   | 15,987,337 |   |  |   | 16,953,294 |  
|Purchases and cancellation of
common shares         |  |              | (54       | )          |  |           | (2     | )        |  |       | (776      | ) |  |   |           |   |  |   | (778       | )
|Issuance of common shares to ESOP                   |  |              | 6,642     |            |  |           | 222    |          |  |       | 152,676   |   |  |   |           |   |  |   | 152,898    |  
|Issuance of common shares to
directors for services |  |              | 3,090     |            |  |           | 103    |          |  |       | 43,343    |   |  |   |           |   |  |   | 43,446     |  
|Dividends declared ($.28 per share)                 |  |              |          |            |  |           |       |          |  |       |          |   |  |   | (582,797   | ) |  |   | (582,797   | )
|Net income                                          |  |              |          |            |  |           |       |          |  |       |          |   |  |   | 5,961,622  |   |  |   | 5,961,622  |  
|                                                    |  |              |           |            |  |           |        |          |  |       |           |   |  |   |            |   |  |   |            |  
|Balances at September 30, 2003                      |  |              | 2,089,101 |            |  | $         | 69,637 |          |  | $     | 1,091,886 |   |  | $ | 21,366,162 |   |  | $ | 22,527,685 |  
|                                                    |  |              |           |            |  |           |        |          |  |       |           |   |  |   |            |   |  |   |            |  

See accompanying notes.

(22)





---



##### Table of Contents



Panhandle Royalty Company

Consolidated Statements of Cash Flows

|                                                                                  |                                                                                                             |                                          |            |                         |            |      |             |           |          |   |             |           |          |  
|--------------------------------------------------------------------------------- | ----------------------------------------------------------------------------------------------------------- | ---------------------------------------- | ---------- | ----------------------- | ---------- | ---- | ----------- | --------- | -------- | - | ----------- | --------- | -------- | -
|                                                                                  |                                                                                                             |                                          |            | Year ended September 30
|                                                                                  |                                                                                                             |                                          |            | 2003                    |            | 2002 |             | 2001     
|                                                                                  |                                                                                                             |                                          |            |                         |            |      |             |          
|Operating Activities                                                              |                                                                                                             |                                          |            |                         |            |      |             |           |          |   |             |          
|Net income                                                                        |                                                                                                             | $                                        | 5,961,622  |                         |            | $    | 343,059     |           |          | $ | 4,267,386   |          
|Adjustments to reconcile net income to net cash
provided by operating activities: |                                                                                                             |                                          |            |                         |            |      |             |           |          |   |             |          
|                                                                                  | Cumulative effect of accounting change                                                                      |                                          |            | (46,500                 | )          |      |             |          |          |   |             |          |         
|                                                                                  | Depreciation, depletion, amortization, and
impairment                                                       |                                          |            | 6,475,677               |            |      |             | 6,962,013 |          |   |             | 2,519,496 |         
|                                                                                  | Deferred income taxes                                                                                       |                                          |            | 1,676,000               |            |      |             | (453,000  | )        |   |             | 1,444,000 |         
|                                                                                  | Deferred lease bonus                                                                                        |                                          |            | 67,673                  |            |      |             | 8,744     |          |   |             | 30,771    |         
|                                                                                  | Exploration costs                                                                                           |                                          |            | 469,224                 |            |      |             | 417,971   |          |   |             | 947,046   |         
|                                                                                  | Gain on sale of assets                                                                                      |                                          |            | (38,378                 | )          |      |             | (179,037  | )        |   |             |          |         
|                                                                                  | Equity in earnings of partnerships                                                                          |                                          |            | (133,836                | )          |      |             | (77,015   | )        |   |             |          |         
|                                                                                  | Common stock issued to Employee Stock
Ownership Plan                                                        |                                          |            | 152,898                 |            |      |             | 118,684   |          |   |             | 96,736    |         
|                                                                                  | Cash provided (used) by changes in assets and
liabilities, net of amounts acquired in Wood
Oil acquisition: |                                          |            |                         |            |      |             |           |          |   |             |           |         
|                                                                                  |                                                                                                             | Oil and gas sales receivables            |            |                         | (1,456,628 | )    |             |           | 191,908  |   |             |           | 389,052  |  
|                                                                                  |                                                                                                             | Prepaid expenses and other               |            |                         | (111,713   | )    |             |           | 655,501  |   |             |           | (294,872 | )
|                                                                                  |                                                                                                             | Accounts payable and accrued liabilities |            |                         | 61,604     |      |             |           | (517,696 | ) |             |           | 152,677  |  
|                                                                                  |                                                                                                             | Income taxes payable                     |            |                         | 120,725    |      |             |           | 10,063   |   |             |           | (249,327 | )
|                                                                                  |                                                                                                             |                                          |            |                         |            |      |             |           |          |   |             |          
|Total adjustments                                                                 |                                                                                                             |                                          | 7,236,746  |                         |            |      | 7,138,136   |           |          |   | 5,035,579   |          
|                                                                                  |                                                                                                             |                                          |            |                         |            |      |             |           |          |   |             |          
|Net cash provided by operating activities                                         |                                                                                                             |                                          | 13,198,368 |                         |            |      | 7,481,195   |           |          |   | 9,302,965   |          
|Investing Activities                                                              |                                                                                                             |                                          |            |                         |            |      |             |           |          |   |             |          
|Capital expenditures, including dry hole costs                                    |                                                                                                             |                                          | (9,195,916 | )                       |            |      | (6,967,767  | )         |          |   | (9,486,994  | )        
|Acquisition of Wood, net of cash acquired                                         |                                                                                                             |                                          |           |                         |            |      | (15,229,466 | )         |          |   |            |          
|Distributions received from partnerships                                          |                                                                                                             |                                          | 252,856    |                         |            |      | 191,685     |           |          |   |            |          
|Investment in partnerships                                                        |                                                                                                             |                                          | (45,000    | )                       |            |      | (90,000     | )         |          |   |            |          
|Proceeds from sale of assets                                                      |                                                                                                             |                                          | 76,772     |                         |            |      | 1,371,272   |           |          |   |            |          
|Escrow deposit and payments related to Wood Oil
acquisition                       |                                                                                                             |                                          |           |                         |            |      |            |           |          |   | (3,860,027  | )        
|                                                                                  |                                                                                                             |                                          |            |                         |            |      |             |           |          |   |             |          
|Net cash used in investing activities                                             |                                                                                                             |                                          | (8,911,288 | )                       |            |      | (20,724,276 | )         |          |   | (13,347,021 | )        

Continued on next page.

(23)





---



##### Table of Contents



Panhandle Royalty Company

Consolidated Statements of Cash Flows (continued)

|                                                    |  |                         |            |      |  |      |            |   |  |   |           |  
|--------------------------------------------------- |  | ----------------------- | ---------- | ---- |  | ---- | ---------- | - |  | - | --------- | -
|                                                    |  | Year ended September 30
|                                                    |  | 2003                    |            | 2002 |  | 2001
|                                                    |  |                         |            |      |  |     
|Financing Activities                                |  |                         |            |      |  |      |            |   |  |   |           |  
|Borrowings under debt agreement                     |  | $                       | 1,525,000  |      |  | $    | 18,100,000 |   |  | $ | 4,050,000 |  
|Payments of loan principal                          |  |                         | (4,878,335 | )    |  |      | (4,130,000 | ) |  |   |          |  
|Purchase and cancellation of common shares          |  |                         | (778       | )    |  |      | (4,110     | ) |  |   | (1,860    | )
|Payments of dividends                               |  |                         | (582,797   | )    |  |      | (578,943   | ) |  |   | (721,026  | )
|                                                    |  |                         |            |      |  |      |            |   |  |   |           |  
|Net cash provided by (used in) financing activities |  |                         | (3,936,910 | )    |  |      | 13,386,947 |   |  |   | 3,327,114 |  
|                                                    |  |                         |            |      |  |      |            |   |  |   |           |  
|Increase (decrease) in cash and cash equivalents    |  |                         | 350,170    |      |  |      | 143,866    |   |  |   | (716,942  | )
|Cash and cash equivalents at beginning of year      |  |                         | 242,836    |      |  |      | 98,970     |   |  |   | 815,912   |  
|                                                    |  |                         |            |      |  |      |            |   |  |   |           |  
|Cash and cash equivalents at end of year            |  | $                       | 593,006    |      |  | $    | 242,836    |   |  | $ | 98,970    |  
|                                                    |  |                         |            |      |  |      |            |   |  |   |           |  
|Supplemental Disclosures of Cash Flow Information   |  |                         |            |      |  |      |            |   |  |   |           |  
|Interest paid                                       |  | $                       | 727,153    |      |  | $    | 829,430    |   |  | $ | 36,798    |  
|Income taxes paid, net of refunds received          |  |                         | 456,338    |      |  |      | (215,687   | ) |  |   | 699,464   |  

See accompanying notes.

(24)





---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements

September 30, 2003, 2002 and 2001

1. Summary of Significant Accounting Policies

Principles of Consolidation and Basis of Presentation

The consolidated financial statements include the accounts of Panhandle Royalty
Company and its wholly owned subsidiaries after elimination of all material
intercompany transactions.

Use of Estimates

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

Cash and Cash Equivalents

Cash and cash equivalents consist of all demand deposits and funds invested in
short-term investments with original maturities of three months or less.

Oil and Gas Sales and Gas Imbalances

The Company sells oil and natural gas to various customers, recognizing
revenues as oil and gas is produced and sold. The Company uses the sales method
of accounting for gas imbalances in those circumstances where it has
underproduced or overproduced its ownership percentage in a property. Under
this method, a receivable or liability is recorded to the extent that an
underproduced or overproduced position in a reservoir cannot be recouped
through the production of remaining reserves. At September 30, 2003 and 2002,
the Company had no material gas imbalances.

Charges for gathering and transportation are included in lease operating
expenses and production taxes.

Concentration of Credit Risk

Substantially all of the Companys accounts receivable are due from purchasers
of oil and natural gas or operators of the oil and gas properties. Oil and
natural gas sales are generally unsecured. The Company has not experienced
significant credit losses in prior years and is not aware of any significant
uncollectible accounts at September 30, 2003.

(25)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

1. Summary of Significant Accounting Policies (continued)

Oil and Gas Producing Activities

The Company follows the successful efforts method of accounting for oil and gas
producing activities. Intangible drilling and other costs of successful wells
and development dry holes are capitalized and amortized. The costs of
exploratory wells are initially capitalized, but charged against income if and
when the well is determined to be nonproductive. Oil and gas mineral and
leasehold costs are capitalized when incurred.

Depreciation, Depletion, Amortization, and Impairment

Depreciation, depletion, and amortization of the costs of producing oil and gas
properties are generally computed using the units of production method
primarily on a separate property basis using proved reserves as estimated
annually by an independent petroleum engineer. Depreciation of furniture and
fixtures is computed using the straight-line method over estimated productive
lives of five to eight years.

Nonproducing oil and gas properties include nonproducing minerals, which have a
net book value of $6,930,687 at September 30, 2003, consisting of perpetual
ownership of mineral interests in several states, including Oklahoma, Texas and
New Mexico. These costs are being amortized over a thirty-three year period
using the straight-line method. An ultimate determination of whether these
properties contain recoverable reserves in economical quantities is expected to
be made within this time frame. Impairment of nonproducing oil and gas
properties is recognized based on experience and management judgment.

In accordance with the provisions of Financial Accounting Standards (SFAS) No.
144, Accounting for the Impairment or Disposal of Long-Lived Assets, the
Company recognizes impairment losses for long-lived assets when indicators of
impairment are present and the undiscounted cash flows are not sufficient to
recover the assets carrying amount. The impairment loss is measured by
comparing the fair value of the asset to its carrying amount. Fair values are
based on discounted future cash flows. The Companys oil and gas properties
were reviewed for indicators of impairment on a field-by-field basis, resulting
in the recognition of impairment provisions of $692,220, $1,116,234, and
$848,535, respectively, for 2003, 2002 and 2001. The majority of the impairment
recognized in these years relates to fields comprised of a small number of
properties or single wells on which the Company does not expect sufficient
future net cash flow to recover its carrying cost.

(26)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

1. Summary of Significant Accounting Policies (continued)

Asset Retirement Obligations

In August 2001, the FASB issued SFAS No. 143, Accounting for Asset Retirement
Obligations(SFAS No. 143). SFAS No. 143 requires entities to record the fair
value of a liability for an asset retirement obligation in the period in which
it is incurred and a corresponding increase in the carrying amount of the
related long-lived asset. Subsequently, the asset retirement cost should be
allocated to expense using a systematic and rational method and the liability
should be accreted to its face amount. The Company adopted SFAS No. 143 on
October 1, 2002. The primary impact of this standard relates to oil and gas
wells on which the Company has a legal obligation to plug and abandon the
wells. Prior to SFAS No. 143, Company had not recorded an obligation for these
plugging and abandonment costs due to its assumption that the salvage value of
the surface equipment would offset the cost of dismantling the facilities and
carrying out the necessary clean-up and reclamation activities. The adoption of
SFAS No. 143 on October 1, 2002 resulted in a net increase to Property and
Equipment and Asset Retirement Obligations of approximately $481,000 and
$406,000, respectively, as a result of the Company separately accounting for
salvage values and recording the estimated fair value of its plugging and
abandonment obligations on the balance sheet. The increase in expense resulting
from the accretion of the asset retirement obligation and the depreciation of
the additional capitalized well costs was substantially offset by the decrease
in depreciation from the Companys consideration of the estimated salvage
values in the calculation.

Environmental Costs

Environmental liabilities, which historically have not been material, are
recognized when it is probable that a loss has been incurred and the amount of
that loss is reasonably estimable. Environmental liabilities, when accrued, are
based upon estimates of expected future costs. At September 30, 2003, there
were no such costs accrued.

Earnings Per Share of Common Stock

Basic earnings per share (EPS) is calculated using net income divided by the
weighted
average of common shares outstanding during the year. Diluted EPS is similar to
basic EPS except that the weighted average common shares outstanding is
increased to include the number of additional common shares that would have
been outstanding if the dilutive potential common shares had been issued. The
treasury stock method is used to calculate dilutive shares, which reduces the
gross number of dilutive shares (see Note 5).

(27)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

1. Summary of Significant Accounting Policies (continued)

Stock-based Compensation

The Company applies APB Opinion No. 25 in accounting for its Deferred
Compensation Plan for Outside Directors. Under APB No. 25, compensation cost
is recognized for changes in the fair value of the stock credited to each
directors account at the fair market value of the stock at the date of grant.
The shares are then adjusted for changes in the shares market value subsequent
to the date of grant until the conversion date (see Note 7).

Fair Values of Financial Instruments

The carrying amounts reported in the balance sheets for cash and cash
equivalents, receivables, prepaid expenses, accounts payable, and accrued
liabilities approximate their fair values due to the short maturity of these
instruments. The fair value of Companys long-term debt approximates its
carrying amount due to the interest rate on the Companys term-loan being a
fixed rate which approximated market rates at September 30, 2003, the remaining
borrowings bear interest at a variable rate.

Recently Issued Accounting Pronouncements

In June 2002, FASB issued SFAS 146, Accounting for Costs Associated with Exit
or Disposal Activities. SFAS 146 addresses financial accounting and reporting
for costs associated with exit or disposal activities and nullifies Emerging
Issues Task Force Issue No. 94-3, Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity. The pronouncement is
effective for exit or disposal activities initiated after December 31, 2002.
The adoption of SFAS 146 had no material impact on the Companys financial
position or results of operations and is currently expected to in the near
term.

In April 2003, the FASB issued FAS No. 149, Amendment of Statement 133 on
Derivative Instruments and Hedging Activities. This Statement amends and
clarifies financial
accounting and reporting for derivative instruments, including certain
derivative instruments embedded in other contracts (collectively referred to as
derivatives) and for hedging activities under FASB Statement No. 133,
Accounting for Derivative Instruments and Hedging Activities. This statement
is effective for contracts entered into or modified after June 30, 2003.
Adoption of this Statement had no impact on the financial position or results
of operation of the Company and is currently not expected to in the near term.

(28)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

1. Summary of Significant Accounting Policies (continued)

In May 2003, the FASB issued SFAS 150, Accounting for Certain Financial
Instruments with Characteristics of Both Liabilities and Equity. SFAS 150
establishes standards for the classification and measurement of certain
financial instruments with characteristics of both liabilities and equity.
Under SFAS 150, mandatorily redeemable financial instruments, obligations to
repurchase the issuers shares by transferring assets and certain obligations
to issue a variable number of shares to settle that obligation must be
classified as liabilities on the balance sheet and initially recorded at fair
value. SFAS 150 is effective for the Company for financial instruments entered
into or modified after May 31, 2003, and on July 1, 2003 for most previously
existing financial instruments. In November 2003, the FASB voted to defer
indefinitely the effective date for certain mandatorily redeemable
non-controlling interests (MRNI) associated with finite-lived subsidiaries. For
all other MRNIs, the effective date was deferred to November 5, 2003. The
adoption of SFAS 150 did not impact our financial position, results of
operations or net cash flows as the Company currently does not use any of the
financial instruments subject to this statement.

In November 2002, the FASB issued FASB Interpretation (FIN) 45, Guarantors
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others.FIN 45 clarifies the requirements of SFAS
5, Accounting For Obligations, relating to a guarantors accounting for, and
disclosure of the issuance of certain types of guarantees. The adoption of FIN
45 did not impact the Companys financial position, results of operations or
net cash flows as the Company currently does not have any guarantees.

In January 2003, the FASB issued FIN 46, Consolidation of Variable Interest
Entities, An Interpretation of Accounting Research Bulletin No. 51. The primary
objectives of FIN 46 are to provide guidance on how to identify entities for
which control is achieved through means other than through voting rights
(variable interest entities (VIE)) and how to determine when and which business
enterprises should consolidate the VIE. This new model for consolidation
applies to an entity in which either (1) the equity investors do not have a
controlling financial interest or (2) the equity investment at risk is
insufficient to finance that
entitys activities without receiving additional subordinated financial support
from other parties. FIN 46 applies immediately to VIEs created after January
31, 2003 or to VIEs obtained after that date. For variable interests held in
VIEs acquired prior to February 1, 2003, FIN 46 was originally effective July
1, 2003. However, in October 2003, the FASB deferred the effective date of FIN
46 for VIEs created prior to February 1, 2003 to the
first reporting period after December 15, 2003. The adoption of this
interpretation is not

(29)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

1. Summary of Significant Accounting Policies (continued)

anticipated to have a material impact on the Companys financial position,
results of operations or net cash flows because the Company currently is not a
primary beneficiary of a VIE.

2. Acquisition of Wood Oil Company

On October 1, 2001, the Company acquired 100% of the outstanding common stock
of Wood Oil Company (Wood). The acquisition was made pursuant to an Agreement
and Plan of Merger among the Company, PHC, Inc. and Wood Oil Company, dated
August 9, 2001. Wood merged with Panhandles wholly owned subsidiary PHC, Inc.,
on October 1, 2001, with Wood being the surviving Company. Prior to the
acquisition, Wood was a privately held company engaged in oil and gas
exploration and production and fee mineral ownership and owned interests in
certain oil and gas and real estate partnerships and owned an office building
in Tulsa, Oklahoma. Subsequent to the acquisition, Wood has continued to
operate as a subsidiary of Panhandle and personnel were moved to Oklahoma City
in early 2002. Wood and its shareholders were unrelated parties to Panhandle.

The Companys decision to acquire Wood was the result of desired growth in the
Companys asset base of producing oil and gas reserves and fee mineral acreage.
Woods oil and gas activity, fee minerals and operating philosophy, in general,
had been very similar to the Companys.

Woods mineral acreage ownership and leasehold position as well as its
producing oil and gas properties are located in the same general areas as the
Companys. In several cases, both companies owned interests in existing
producing wells and several developing fields. The Company intends to actively
pursue drilling opportunities on Woods properties.

Funding for the acquisition was obtained from Banc First of Oklahoma City,
Oklahoma in the form of a $20 million five-year term loan. Three million of
Woods cash was used to reduce Panhandles debt on the date of closing.

(30)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

2. Acquisition of Wood Oil Company (continued)

The operations of Wood, since October 1, 2001, are included in the accompanying
consolidated financial statements.

The following table sets forth the allocation of the purchase price to the
assets and liabilities acquired:

|                                             |              |   |            |           | 
|-------------------------------------------- | ------------ | - | ---------- | --------- | 
|Cash                                         |              | $ | 3,759,000  |          
|Other current assets                         |              |   | 1,260,000  |          
|Land and buildings held for sale             |              |   | 750,000    |          
|Oil and gas properties  proved              |              |   | 17,550,000 |          
|Minerals:                                    |              |   |            |          
|                                             | Producing    |   |            | 925,000   | 
|                                             | Nonproducing |   |            | 3,491,000 | 
|Other property and equipment                 |              |   | 43,000     |          
|Investments in partnerships and other assets |              |   | 1,731,000  |          
|                                             |              |   |            |          
|Total assets acquired                        |              |   | 29,509,000 |          
|Current liabilities                          |              |   | (853,000   | )        
|Deferred income taxes                        |              |   | (5,808,000 | )        
|                                             |              |   |            |          
|Total liabilities assumed                    |              |   | (6,661,000 | )        
|                                             |              |   |            |          
|Net assets acquired                          |              | $ | 22,848,000 |          
|                                             |              |   |            |          

In April 2002, the Company sold the land and building and its interest in two
partnerships resulting in net proceeds of approximately $1.4 million of which
$800,000 were used to pay down long term debt. Other revenues in the
accompanying consolidated income statement include a gain of $56,487 on the
sale of the building and a gain of $122,550 on the sale of the two
partnerships.

The following unaudited proforma results of operations give effect to the
acquisition as if consummated on October 1, 2000. The data reflects adjustments
of the historical Wood results for depreciation and amortization of the
property and equipment acquired, adjustments of expenses resulting from
contractual requirements of the acquisition agreement, incremental interest
expense relating to bank borrowing used to finance the purchase and income
taxes. Total revenues for 2001 include non-recurring gains on asset sales of
$2.1 million. The pro forma adjustments are based upon available information
and assumptions that management of the Company believes are reasonable. The pro
forma results of operations data does

(31)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

2. Acquisition of Wood Oil Company (continued)

not purport to represent the results of operations that would have occurred had
such transaction been consummated on October 1, 2000 or the Companys results
of operation for any future date or period.

|                           |  |               |            | 
|-------------------------- |  | ------------- | ---------- | 
|                           |  | Year ended   
|                           |  | September 30,
|                           |  | 2001         
|                           |  |              
|Total revenues             |  | $             | 25,234,054 | 
|Net income                 |  | $             | 8,927,780  | 
|Diluted earnings per share |  | $             | 4.27       | 

3. Income Taxes

The Companys provision for income taxes is detailed as follows:

|          |         |   |           |           |      |   |          |          |   |   |           |           |  
|--------- | ------- | - | --------- | --------- | ---- | - | -------- | -------- | - | - | --------- | --------- | -
|          |         |   | 2003      |           | 2002 |   | 2001    
|          |         |   |           |           |      |   |         
|Current:  |         |   |           |           |      |   |          |          |   |   |           |          
|          | Federal |   | $         | 521,000   |      |   | $        | 150,000  |   |   | $         | 160,000   |  
|          | State   |   |           | 20,000    |      |   |          | 10,000   |   |   |           | (4,000    | )
|          |         |   |           |           |      |   |          |          |   |   |           |           |  
|          |         |   | 541,000   |           |      |   | 160,000  |          |   |   | 156,000   |          
|Deferred: |         |   |           |           |      |   |          |          |   |   |           |          
|          | Federal |   |           | 1,607,000 |      |   |          | (390,000 | ) |   |           | 1,232,000 |  
|          | State   |   |           | 69,000    |      |   |          | (63,000  | ) |   |           | 212,000   |  
|          |         |   |           |           |      |   |          |          |   |   |           |           |  
|          |         |   | 1,676,000 |           |      |   | (453,000 | )        |   |   | 1,444,000 |          
|          |         |   |           |           |      |   |          |          |   |   |           |           |  
|          |         | $ | 2,217,000 |           |      | $ | (293,000 | )        |   | $ | 1,600,000 |          
|          |         |   |           |           |      |   |          |          |   |   |           |           |  

The difference between the provision for income taxes and the amount which
would result from the application of the federal statutory rate to income
before provision for income taxes is analyzed below:

|                                             |  |      |           |      |  |      |          |   |  |   |           |  
|-------------------------------------------- |  | ---- | --------- | ---- |  | ---- | -------- | - |  | - | --------- | -
|                                             |  | 2003 |           | 2002 |  | 2001
|                                             |  |      |           |      |  |     
|Provision for income taxes at statutory
rate |  | $    | 2,762,324 |      |  | $    | 17,521   |   |  | $ | 2,053,587 |  
|Percentage depletion                         |  |      | (653,947  | )    |  |      | (201,600 | ) |  |   | (559,668  | )
|Tight-sands gas credits                      |  |      | (20,000   | )    |  |      | (77,404  | ) |  |   | (47,114   | )
|State income taxes, net of federal benefit   |  |      | 57,850    |      |  |      | (34,419  | ) |  |   | 141,099   |  
|Other                                        |  |      | 70,773    |      |  |      | 2,902    |   |  |   | 12,096    |  
|                                             |  |      |           |      |  |      |          |   |  |   |           |  
|                                             |  | $    | 2,217,000 |      |  | $    | (293,000 | ) |  | $ | 1,600,000 |  
|                                             |  |      |           |      |  |      |          |   |  |   |           |  

(32)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

3. Income Taxes (continued)

Deferred tax assets and liabilities, resulting from differences between the
financial statement carrying amounts and the tax bases of assets and
liabilities, consist of the following:

|                             |                                                                                                                                              |   |            |            |      |   |           |            | 
|---------------------------- | -------------------------------------------------------------------------------------------------------------------------------------------- | - | ---------- | ---------- | ---- | - | --------- | ---------- | 
|                             |                                                                                                                                              |   | 2003       |            | 2002
|                             |                                                                                                                                              |   |            |            |     
|Deferred tax liabilities:    |                                                                                                                                              |   |            |            |      |   |           |           
|                             | Financial bases in excess of tax bases, including
intangible drilling costs capitalized for financial
purposes and expensed for tax purposes |   | $          | 11,744,000 |      |   | $         | 11,210,000 | 
|Deferred tax assets:         |                                                                                                                                              |   |            |            |      |   |           |           
|                             | Percentage depletion and alternative minimum tax
credit carry forwards                                                                       |   |            | 991,000    |      |   |           | 1,950,000  | 
|                             | Financial charges which are deferred for tax purposes                                                                                        |   |            | 438,000    |      |   |           | 621,000    | 
|                             |                                                                                                                                              |   |            |            |      |   |           |            | 
|                             |                                                                                                                                              |   | 1,429,000  |            |      |   | 2,571,000 |           
|                             |                                                                                                                                              |   |            |            |      |   |           |            | 
|Net deferred tax liabilities |                                                                                                                                              | $ | 10,315,000 |            |      | $ | 8,639,000 |           
|                             |                                                                                                                                              |   |            |            |      |   |           |            | 

4. Long-Term Debt

Long-term debt consisted of the following at September 30:

|                                     |  |      |            |      |  |   |            | 
|------------------------------------ |  | ---- | ---------- | ---- |  | - | ---------- | 
|                                     |  | 2003 |            | 2002
|                                     |  |      |            |     
|Revolving line of credit             |  | $    | 5,500,000  |      |  | $ | 1,350,000  | 
|Term loan                            |  |      | 9,166,665  |      |  |   | 16,670,000 | 
|                                     |  |      |            |      |  |   |            | 
|                                     |  |      | 14,666,665 |      |  |   | 18,020,000 | 
|Current maturities of long-term debt |  |      | 2,000,004  |      |  |   | 3,996,000  | 
|                                     |  |      |            |      |  |   |            | 
|                                     |  | $    | 12,666,661 |      |  | $ | 14,024,000 | 
|                                     |  |      |            |      |  |   |            | 

On March 25, 2003, the Company amended its Loan Agreement with BancFirst of
Oklahoma City, Oklahoma. The Agreement consists of a term loan in the amount of
$10,000,000 and a revolving loan in the amount of $15,000,000, which is subject
to a
semi-annual borrowing base determination. The current borrowing base under the

(33)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

4. Long-Term Debt (continued)

Agreement is $22,500,000. The term loan matures on April 1, 2008, and the
revolving loan matures on April 1, 2005. Monthly payments on the term loan are
$166,667, plus accrued interest, beginning on May 1, 2003. Borrowings under
the revolving loan are due at maturity. Interest on the term loan is fixed at
4.56% until maturity. The revolving loan bears interest at the national prime
rate minus -3/4% (3.25% at September 30, 2003) or LIBOR (for one, three or six
month periods), plus 1.80%. The Company, at September 30, 2003, has elected a
six month LIBOR rate (aggregate of 2.98%).

The total outstanding borrowings under both the term loan and the revolving
line of credit may not exceed the borrowing base which is $22.5 million as of
September 30, 2003. Subsequent determinations of the borrowing base are made
semi-annually or whenever the bank, in its sole discretion, believes that there
has been a material change in the value of the oil and gas properties. The loan
agreement contains customary covenants which, among other things, require
periodic financial and reserve reporting and limit the Companys incurrence of
indebtedness, liens, dividends and acquisitions of treasury stock, and require
the Company to maintain certain financial ratios. At September 30, 2003 the
Company was in compliance with the covenants. Certain of the Companys oil and
gas properties secure the debt.

The amount of required principal payments for the next five years as of
September 30, 2003, are as follows: 2004  $2,000,004, 2005  $7,500,004, 2006
- $2,000,004, 2007  $2,000,004 and 2008  $1,166,649.

(34)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

5. Earnings Per Share

The following table sets forth the computation of basic and diluted earnings
per share. The Companys diluted earnings per share calculation takes into
account certain shares that may be issued under the Non-Employee Directors
Deferred Compensation Plan (see Note 7).

|                                                                                                 |                                                      |                                         |           |                          |        |      |           |           |        |  |           |           |        | 
|------------------------------------------------------------------------------------------------ | ---------------------------------------------------- | --------------------------------------- | --------- | ------------------------ | ------ | ---- | --------- | --------- | ------ |  | --------- | --------- | ------ | 
|                                                                                                 |                                                      |                                         |           | Year ended September 30,
|                                                                                                 |                                                      |                                         |           | 2003                     |        | 2002 |           | 2001     
|                                                                                                 |                                                      |                                         |           |                          |        |      |           |          
|Numerator for primary and diluted
earnings per share:                                            |                                                      |                                         |           |                          |        |      |           |           |        |  |           |          
|                                                                                                 | Net income                                           |                                         | $         | 5,961,622                |        |      | $         | 343,059   |        |  | $         | 4,267,386 |       
|                                                                                                 |                                                      |                                         |           |                          |        |      |           |           |        |  |           |          
|Denominator:                                                                                     |                                                      |                                         |           |                          |        |      |           |           |        |  |           |          
|                                                                                                 | For basic earnings per
shareweighted average shares |                                         |           | 2,081,372                |        |      |           | 2,067,872 |        |  |           | 2,060,109 |       
|                                                                                                 | Effect of potential diluted shares:                  |                                         |           |                          |        |      |           |           |        |  |           |           |       
|                                                                                                 |                                                      | Directors deferred
compensation shares |           |                          | 22,341 |      |           |           | 22,100 |  |           |           | 24,935 | 
|                                                                                                 |                                                      |                                         |           |                          |        |      |           |           |        |  |           |           |       
|Denominator for diluted earnings per
shareadjusted weighted average
shares and potential shares |                                                      |                                         | 2,103,713 |                          |        |      | 2,089,972 |           |        |  | 2,085,044 |          
|                                                                                                 |                                                      |                                         |           |                          |        |      |           |           |        |  |           |           |       

(35)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

6. Employee Stock Ownership Plan

The Company has an employee stock ownership plan that covers substantially all
employees and is established to provide such employees with a retirement
benefit. These benefits become fully vested after three years of employment.
Contributions to the plan are at the discretion of the Board of Directors and
can be made in cash (none in 2003, 2002 or 2001) or the Companys common stock.
For contributions of common stock, the Company records as expense, the fair
market value of the stock at the time of contribution. The 129,904 shares of
the Companys common stock held by the plan as of September 30, 2003, are
allocated to individual participant accounts, are included in the weighted
average shares outstanding for purposes of earnings per share computations and
receive dividends. Contributions to the plan consisted of:

|     |  |        |       |        |  |   |         | 
|---- |  | ------ | ----- | ------ |  | - | ------- | 
|Year |  | Shares |       | Amount
|     |  |        |       |       
|2003 |  |        | 6,911 |        |  | $ | 156,978 | 
|2002 |  |        | 8,157 |        |  | $ | 118,684 | 
|2001 |  |        | 6,381 |        |  | $ | 96,736  | 

7. Deferred Compensation Plan for Directors

Effective November 1, 1994, the Company formed the Panhandle Royalty Company
Deferred Compensation Plan for Non-Employee Directors (the Plan). The Plan
provides that each eligible director can individually elect to receive shares
of Company stock rather than cash for board meeting fees and board committee
meeting fees. These shares are unissued and vest at the date of grant. The
shares are credited to each directors deferred
fee account at the fair market value of the stock at the date of grant and are
adjusted for changes in market value subsequent thereto. Upon retirement,
termination or death of the director, or upon change in control of the Company,
the shares accrued under the Plan will be either issued to the director or may
be converted to cash, at the directors discretion, for the fair market value
of the shares on the conversion date as defined by the Plan. As of September
30, 2003, 22,908 shares (22,100 shares at September 30, 2002) are included in
the Plan. The Company has accrued $519,783 at September 30, 2003 ($321,555 at
September 30, 2002) in connection with the Plan ($241,673, $23,095, and $70,570
was charged to the results of operations for the years ended September 30,
2003, 2002 and 2001, respectively, and is included in general and
administrative expense in the accompanying income statement).

(36)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

8. Information on Oil and Gas Producing Activities

All oil and gas producing activities of the Company are conducted within the
United States (principally in Oklahoma) and represent substantially all of the
business activities of the Company.

During 2003, 2002 and 2001 approximately 14%, 17%, and 23%, respectively, of
the Companys total revenues were derived from gas sales to ONEOK, Inc. The
Company also has interests in a field of properties, the production on which
accounted for approximately 9%, 12%, and 15% of the Companys revenues in 2003,
2002 and 2001, respectively.

Aggregate Capitalized Costs

The aggregate amount of capitalized costs of oil and gas properties and related
accumulated depreciation, depletion, and amortization as of September 30 is as
follows:

|                                                     |  |      |             |      |  |   |             |  
|---------------------------------------------------- |  | ---- | ----------- | ---- |  | - | ----------- | -
|                                                     |  | 2003 |             | 2002
|                                                     |  |      |             |     
|Producing properties                                 |  | $    | 65,342,062  |      |  | $ | 58,697,095  |  
|Nonproducing properties                              |  |      | 9,610,757   |      |  |   | 9,754,336   |  
|                                                     |  |      |             |      |  |   |             |  
|                                                     |  |      | 74,952,819  |      |  |   | 68,451,431  |  
|Accumulated depreciation, depletion and amortization |  |      | (31,386,538 | )    |  |   | (27,583,242 | )
|                                                     |  |      |             |      |  |   |             |  
|Net capitalized costs                                |  | $    | 43,566,281  |      |  | $ | 40,868,189  |  
|                                                     |  |      |             |      |  |   |             |  

Costs Incurred

During the reporting period, the Company incurred the following costs in oil
and gas producing activities:

|                               |  |      |           |      |  |      |           |  |  |   |           | 
|------------------------------ |  | ---- | --------- | ---- |  | ---- | --------- |  |  | - | --------- | 
|                               |  | 2003 |           | 2002 |  | 2001
|                               |  |      |           |      |  |     
|Property acquisition costs (A) |  | $    | 127,058   |      |  | $    | 219,306   |  |  | $ | 194,645   | 
|Exploration costs              |  |      | 1,412,653 |      |  |      | 1,080,951 |  |  |   | 3,839,009 | 
|Development costs              |  |      | 7,818,988 |      |  |      | 5,637,430 |  |  |   | 5,447,423 | 
|                               |  |      |           |      |  |      |           |  |  |   |           | 
|                               |  | $    | 9,358,699 |      |  | $    | 6,937,687 |  |  | $ | 9,481,077 | 
|                               |  |      |           |      |  |      |           |  |  |   |           | 



|(A) |  | Excludes Wood Oil acquisition in 2002 as set forth in Note 2, the cost of
which, net of cash acquired, was $15,229,466.
|--- |  | -----------------------------------------------------------------------------------------------------------------------

(37)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

9. Supplementary Information on Oil and Gas Reserves (Unaudited)

The following unaudited information regarding the Companys oil and natural gas
reserves is presented pursuant to the disclosure requirements promulgated by
the Securities and Exchange Commission (SEC) and SFAS No. 69, Disclosures About
Oil and Gas Producing Activities.

Proved reserves are estimated quantities of crude oil and natural gas which
geological and engineering data demonstrate with reasonable certainty to be
recoverable in future years from known reservoirs under existing economic and
operating conditions. Proved developed reserves are those proved reserves that
can be expected to be recovered through existing wells with existing equipment
and operating methods. Because the Companys nonproducing mineral and leasehold
interests consist of various small interests in numerous tracts located
primarily in Oklahoma, New Mexico, and Texas, it is not economically feasible
for the Company to provide estimates of all proved undeveloped reserves. The
Company directs its independent petroleum engineering firm to include proved
undeveloped reserves in certain areas of Oklahoma and New Mexico in the scope
of properties which are evaluated for the Company.

The Companys net proved (including certain undeveloped reserves described
above) oil and gas reserves, all of which are located in the United States, as
of September 30, 2003, 2002 and 2001, have been estimated by Campbell &
Associates, Inc., an independent petroleum engineering firm. All studies have
been prepared in accordance with regulations prescribed by the Securities and
Exchange Commission. The reserve estimates were based on economic and operating
conditions existing at September 30, 2003, 2002 and 2001. Since the
determination and valuation of proved reserves is a function of testing and
estimation, the reserves presented should be expected to change as future
information becomes available.

(38)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

9. Supplementary Information on Oil and Gas Reserves (Unaudited) (continued)

Estimated Quantities of Proved Oil and Gas Reserves

Net quantities of proved, developed, and undeveloped oil and gas reserves are
summarized as follows:

|                                    |  |                 |       |        |  |  |        |  
|----------------------------------- |  | --------------- | ----- | ------ |  |  | ------ | -
|                                    |  | Proved Reserves
|                                    |  |                
|                                    |  | Oil             |       | Gas   
|                                    |  | (Mbarrels)      |       | (Mmcf)
|                                    |  |                 |       |       
|September 30, 2000                  |  |                 | 660   |        |  |  | 14,389 |  
|Revisions of previous estimates     |  |                 | (47   | )      |  |  | (2,178 | )
|Extensions and discoveries          |  |                 | 132   |        |  |  | 7,685  |  
|Production                          |  |                 | (69   | )      |  |  | (2,208 | )
|                                    |  |                 |       |        |  |  |        |  
|September 30, 2001                  |  |                 | 676   |        |  |  | 17,688 |  
|Revisions of previous estimates     |  |                 | (38   | )      |  |  | 745    |  
|Purchases of reserves in place      |  |                 | 487   |        |  |  | 8,519  |  
|Extensions and discoveries          |  |                 | 123   |        |  |  | 5,061  |  
|Production                          |  |                 | (133  | )      |  |  | (3,897 | )
|                                    |  |                 |       |        |  |  |        |  
|September 30, 2002                  |  |                 | 1,115 |        |  |  | 28,116 |  
|Revisions of previous estimates (1) |  |                 | (289  | )      |  |  | (1,953 | )
|Extensions and discoveries          |  |                 | 123   |        |  |  | 6,033  |  
|Production                          |  |                 | (113  | )      |  |  | (3,926 | )
|                                    |  |                 |       |        |  |  |        |  
|September 30, 2003                  |  |                 | 836   |        |  |  | 28,270 |  
|                                    |  |                 |       |        |  |  |        |  



|(1) |  | Revisions of oil reserves and some associated gas reserves were
principally a result of changes in reserves associated with properties in
the Dagger Draw Field of New Mexico, which will be converted to a
waterflood in 2004. Gas reserve revisions resulted from properties which
were drilled in the prior year and now have actual performance to guide
the projections, rather than the limited data available in the first few
months a property comes on production.
|--- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

(39)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

9. Supplementary Information on Oil and Gas Reserves (Unaudited) (continued)

|                   |  |                           |     |                             |  |            |        |        |  |  |     |  |  |  |       | 
|------------------ |  | ------------------------- | --- | --------------------------- |  | ---------- | ------ | ------ |  |  | --- |  |  |  | ----- | 
|                   |  | Proved Developed Reserves |     | Proved Undeveloped Reserves
|                   |  |                           |     |                            
|                   |  | Oil                       |     | Gas                         |  | Oil        |        | Gas   
|                   |  | (Mbarrels)                |     | (Mmcf)                      |  | (Mbarrels) |        | (Mmcf)
|                   |  |                           |     |                             |  |            |        |       
|September 30, 2000 |  |                           | 409 |                             |  |            | 11,585 |        |  |  | 251 |  |  |  | 2,804 | 
|                   |  |                           |     |                             |  |            |        |        |  |  |     |  |  |  |       | 
|September 30, 2001 |  |                           | 413 |                             |  |            | 13,236 |        |  |  | 263 |  |  |  | 4,452 | 
|                   |  |                           |     |                             |  |            |        |        |  |  |     |  |  |  |       | 
|September 30, 2002 |  |                           | 821 |                             |  |            | 22,896 |        |  |  | 294 |  |  |  | 5,220 | 
|                   |  |                           |     |                             |  |            |        |        |  |  |     |  |  |  |       | 
|September 30, 2003 |  |                           | 703 |                             |  |            | 23,600 |        |  |  | 133 |  |  |  | 4,670 | 
|                   |  |                           |     |                             |  |            |        |        |  |  |     |  |  |  |       | 

The above reserve numbers are net of approximately 1.2 mmcf of CO2 gas reserves
owned by Wood Oil Company.

Standardized Measure of Discounted Future Net Cash Flows

Estimates of future cash flows from proved oil and gas reserves, based on
current prices and costs, as of September 30 are shown in the following table.
Estimated income taxes are calculated by (i) applying the appropriate year-end
tax rates to the estimated future pretax net cash flows less depreciation of
the tax basis of properties and statutory depletion allowances and (ii)
reducing the amount in (i) for estimated tax credits to be realized in the
future for gas produced from tight-sands through December 31, 2002.

|                                                          |  |      |             |      |  |      |             |  |  |   |            | 
|--------------------------------------------------------- |  | ---- | ----------- | ---- |  | ---- | ----------- |  |  | - | ---------- | 
|                                                          |  | 2003 |             | 2002 |  | 2001
|                                                          |  |      |             |      |  |     
|Future cash inflows                                       |  | $    | 148,633,837 |      |  | $    | 123,668,010 |  |  | $ | 48,294,240 | 
|Future production costs                                   |  |      | 29,036,188  |      |  |      | 25,022,170  |  |  |   | 9,355,230  | 
|Future development costs                                  |  |      | 3,856,341   |      |  |      | 3,991,185   |  |  |   | 2,999,402  | 
|                                                          |  |      |             |      |  |      |             |  |  |   |            | 
|Future net cash inflows before future
income tax expenses |  |      | 115,741,308 |      |  |      | 94,654,655  |  |  |   | 35,939,608 | 
|Future income tax expense                                 |  |      | 31,736,989  |      |  |      | 25,831,291  |  |  |   | 9,381,868  | 
|                                                          |  |      |             |      |  |      |             |  |  |   |            | 
|Future net cash flows                                     |  |      | 84,004,319  |      |  |      | 68,823,364  |  |  |   | 26,557,740 | 
|10% annual discount                                       |  |      | 30,034,435  |      |  |      | 24,878,417  |  |  |   | 8,927,795  | 
|                                                          |  |      |             |      |  |      |             |  |  |   |            | 
|Standardized measure of discounted
future net cash flows  |  | $    | 53,969,884  |      |  | $    | 43,944,947  |  |  | $ | 17,629,945 | 
|                                                          |  |      |             |      |  |      |             |  |  |   |            | 

(40)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

9. Supplementary Information on Oil and Gas Reserves (Unaudited) (continued)

Changes in the standardized measure of discounted future net cash flows are as
follows:

|                        |                                                 |   |            |             |      |   |            |             |   |   |             |             |  
|----------------------- | ----------------------------------------------- | - | ---------- | ----------- | ---- | - | ---------- | ----------- | - | - | ----------- | ----------- | -
|                        |                                                 |   | 2003       |             | 2002 |   | 2001      
|                        |                                                 |   |            |             |      |   |           
|Beginning of year       |                                                 | $ | 43,944,947 |             |      | $ | 17,629,945 |             |   | $ | 30,861,314  |            
|Changes resulting from: |                                                 |   |            |             |      |   |            |             |   |   |             |            
|                        | Sales of oil and gas, net of
production costs   |   |            | (18,084,626 | )    |   |            | (10,079,305 | ) |   |             | (10,774,266 | )
|                        | Net change in sales prices and
production costs |   |            | 20,300,852  |      |   |            | 15,794,503  |   |   |             | (17,851,098 | )
|                        | Net change in future development costs          |   |            | 87,405      |      |   |            | (665,685    | ) |   |             | (1,154,469  | )
|                        | Extensions and discoveries                      |   |            | 15,315,189  |      |   |            | 10,313,163  |   |   |             | 10,190,264  |  
|                        | Revisions of quantity estimates                 |   |            | (8,291,358  | )    |   |            | 885,028     |   |   |             | (2,981,154  | )
|                        | Purchases of reserves-in-place                  |   |            |            |      |   |            | 19,370,609  |   |   |             |            |  
|                        | Accretion of discount                           |   |            | 6,135,420   |      |   |            | 2,412,266   |   |   |             | 4,295,702   |  
|                        | Net change in income taxes                      |   |            | (4,134,614  | )    |   |            | (10,933,161 | ) |   |             | 6,185,986   |  
|                        | Change in timing and other, net                 |   |            | (1,303,331  | )    |   |            | (782,416    | ) |   |             | (1,142,334  | )
|                        |                                                 |   |            |             |      |   |            |             |   |   |             |            
|Net change              |                                                 |   | 10,024,937 |             |      |   | 26,315,002 |             |   |   | (13,231,369 | )          
|                        |                                                 |   |            |             |      |   |            |             |   |   |             |            
|End of year             |                                                 | $ | 53,969,884 |             |      | $ | 43,944,947 |             |   | $ | 17,629,945  |            
|                        |                                                 |   |            |             |      |   |            |             |   |   |             |            

10. Quarterly Results of Operations (Unaudited)

The following is a summary of the Companys unaudited quarterly results of
operations.

|                                                                                    |  |               |           |          |  |         |           |              |  |   |           |  |  |   |           | 
|----------------------------------------------------------------------------------- |  | ------------- | --------- | -------- |  | ------- | --------- | ------------ |  | - | --------- |  |  | - | --------- | 
|                                                                                    |  | Fiscal 2003  
|                                                                                    |  |              
|                                                                                    |  | Quarter Ended
|                                                                                    |  |              
|                                                                                    |  | December 31   |           | March 31 |  | June 30 |           | September 30
|                                                                                    |  |               |           |          |  |         |           |             
|Revenues                                                                            |  | $             | 4,463,748 |          |  | $       | 6,980,939 |              |  | $ | 5,662,139 |  |  | $ | 5,349,212 | 
|Income before provision
for income taxes and
cumulative effect of
accounting change |  |               | 829,981   |          |  |         | 3,323,674 |              |  |   | 2,193,583 |  |  |   | 1,777,244 | 
|Income before cumulative
effect of accounting
change                                |  |               | 604,981   |          |  |         | 2,320,674 |              |  |   | 1,538,583 |  |  |   | 1,443,244 | 
|Net income                                                                          |  |               | 651,481   |          |  |         | 2,320,674 |              |  |   | 1,538,583 |  |  |   | 1,450,884 | 
|Basic earnings per share                                                            |  | $             | .31       |          |  | $       | 1.12      |              |  | $ | .74       |  |  | $ | .69       | 
|Diluted earnings per share                                                          |  | $             | .31       |          |  | $       | 1.10      |              |  | $ | .73       |  |  | $ | .69       | 

(41)



---



##### Table of Contents



Panhandle Royalty Company

Notes to Consolidated Financial Statements (continued)

10. Quarterly Results of Operations (Unaudited) (continued)

|                                                |  |               |           |          |  |         |           |              |  |   |           |  |  |   |           |  
|----------------------------------------------- |  | ------------- | --------- | -------- |  | ------- | --------- | ------------ |  | - | --------- |  |  | - | --------- | -
|                                                |  | Fiscal 2002  
|                                                |  |              
|                                                |  | Quarter Ended
|                                                |  |              
|                                                |  | December 31   |           | March 31 |  | June 30 |           | September 30
|                                                |  |               |           |          |  |         |           |             
|Revenues                                        |  | $             | 3,330,561 |          |  | $       | 2,745,824 |              |  | $ | 3,792,994 |  |  | $ | 3,722,018 |  
|Income (loss) before provision
for income taxes |  |               | (102,237  | )        |  |         | (397,025  | )            |  |   | 623,684   |  |  |   | (74,363   | )
|Net income (loss) (A)                           |  |               | (76,856   | )        |  |         | (287,123  | )            |  |   | 453,684   |  |  |   | 253,354   |  
|Basic earnings (loss) per share                 |  | $             | (.04      | )        |  | $       | (.14      | )            |  | $ | .22       |  |  | $ | .13       |  
|Diluted earnings (loss) per share               |  | $             | (.04      | )        |  | $       | (.14      | )            |  | $ | .22       |  |  | $ | .12       |  



|(A) |  | The quarter ended September 30, 2002, reflects a change in estimate
associated with the Companys income tax provision resulting
from the determination of actual percentage
depletion and tight sands gas credits available to reduce the Companys
taxable income.
|--- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

(42)



---



##### Table of Contents






ITEM 9 CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

N O N E




ITEM 9 A CONTROLS AND PROCEDURES

Panhandle Royalty Company management, under the supervision of and with
the participation of the Chief Executive Officer and Chief Financial Officer
have conducted an evaluation of the effectiveness of disclosure controls and
procedures pursuant to Exchange Act Rule 13a-15. Based upon that evaluation,
the Chief Executive Officer and Chief Financial Officer concluded that the
Companys disclosure controls and procedures are effective in insuring that all
material information required to be filed in this annual report has been made
known to them in a timely fashion. There have been no significant changes in
our internal controls or in factors that could significantly affect internal
controls, subsequent to the date the Chief Executive Officer and Chief
Financial Officer completed their evaluation.

In accordance with General Instruction G (3) to Form 10-K, Part III, Items
10.-14. of this Report are omitted because the Company will file with the
Securities and Exchange Commission not later than 120 days after the end of the
fiscal year ended September 30, 2003, a definitive proxy statement pursuant to
Regulation 14A involving the election of directors, which proxy statement is
incorporated herein by reference.




PART III




ITEM 15 EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K



| | (3)    |  | Amended Certificate of Incorporation
(Incorporated by reference to Exhibit attached
to Form 10 filed January 27, 1980, and to Forms
8-K dated June 1, 1982, December 3, 1982 and to
Form 10-QSB dated March 31, 1999).
| | ------ |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |        |  | By-Laws as amended (Incorporated by reference
to Form 8-K dated October 31, 1994)                                                                                                                                     
|
| | (4)    |  | Instruments defining the rights of
security holders (Incorporated by reference to
Certificate of Incorporation and By-Laws listed
above)                                                                              
|
| | (10)   |  | Amendment to Loan Agreement                                                                                                                                                                                           
| | (10)   |  | Agreement indemnifying directors and
officers (Incorporated by reference to Form
10-K dated September 30, 1989)                                                                                                       
|
| | (21)   |  | Subsidiaries of the Registrant                                                                                                                                                                                        
|
| | (31.1) |  | Certification of Chief Executive Officer                                                                                                                                                                              
|
| | (31.2) |  | Certification of Chief Financial Officer                                                                                                                                                                              
|
| | (32.1) |  | Certification of Chief Executive Officer                                                                                                                                                                              
|
| | (32.2) |  | Certification of Chief Financial Officer                                                                                                                                                                              

REPORTS ON FORM 8-K

Form 8-K dated August 13, 2003, Regulation FD disclosure of Companys
earnings release for the third quarter of fiscal 2003.

(43)



---



##### Table of Contents






SIGNATURES

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

| |  |                           |  |                              
| |  | ------------------------- |  | -----------------------------
| |  | PANHANDLE ROYALTY COMPANY
| |  |                           |  |                              
| |  | By:                       |  | /s/ H W Peace II             
| |  |                           |  |                              
| |  |                           |  | H W Peace II, Chief          
| |  |                           |  | Executive Officer,           
| |  |                           |  | President, Director          
| |  |                           |  | (Principal Executive Officer)
| |  |                           |  |                              
| |  | Date: December 18, 2002  

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

|                                  |  |                                                 
|--------------------------------- |  | ------------------------------------------------
|/s/ Jerry L. Smith                |  | /s/ E. Chris Kauffman                           
|                                  |  |                                                 
|Jerry L. Smith, Chairman of Board |  | E. Chris Kauffman, Director                     
|                                  |  |                                                 
|Date December 17, 2003            |  | Date December 17, 2003                          
|                                  |  |                                                 
|/s/ Robert A. Reece               |  | /s/ Michael A. Cawley                           
|                                  |  |                                                 
|Robert A. Reece, Director         |  | Michael A. Cawley, Director                     
|                                  |  |                                                 
|Date December 17, 2003            |  | Date December 17, 2003                          
|                                  |  |                                                 
|/s/ H. Grant Swartzwelder         |  | /s/ Ben D. Hare                                 
|                                  |  |                                                 
|H. Grant Swartzwelder, Director   |  | Ben D. Hare, Director                           
|                                  |  |                                                 
|Date December 17, 2003            |  | Date December 17, 2003                          
|                                  |  |                                                 
|/s/ Robert O. Lorenz              |  | /s/ Michael C. Coffman                          
|                                  |  |                                                 
|Robert O. Lorenz, Director        |  | Michael C. Coffman, Vice President              
|                                  |  | Treasurer and Secretary (Principal Financial and
|Date December 17, 2003            |  | Accounting Officer)                             
|                                  |  |                                                 
|                                  |  | Date December 17, 2003                          

(44)