UNITED
STATES
 SECURITIES
AND EXCHANGE COMMISSION
 Washington,
D.C. 20549
 
 FORM
10-K
 
 (Mark
      One)R
              
              ANNUAL
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934For
      the fiscal year ended December 31, 2007OR£
              
              TRANSITION
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934
 
 For
the transition period from ___________________ to
________________________
 Commission
File Number 0-32455
 
 Far
East Energy Corporation
 (Exact
Name of Registrant as Specified in Its Charter)
 
 Nevada
              
              88-0459590(State
      or other jurisdiction of
              
              (I.R.S.
      Employer Identification No.)incorporation
      or organization)363
      N. Sam Houston Parkway East, Suite 380, Houston, Texas
              
              77060(Address
      of principal executive offices)
              
              (Zip
      Code)
  Registrant’s
telephone number, including area code: (832) 598-0470
  Securities
registered pursuant to Section 12(b) of the Exchange Act: None
  Securities
registered under 12(g) of the Exchange Act:
 common
stock (par value $0.001 per share)
 
 Indicate by check
mark if the registrant is a well-known seasoned issuer, as defined in Rule 405
of the Securities Act.   Yes£
NoR
  Indicate by check mark if the
registrant is not required to file reports pursuant to Section 13 or Section
15(d) of the Act.  Yes £NoR
  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 of 1934 during the preceding 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. YesRNo£
  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.£
  Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company.  See the definitions of “large accelerated filer,”
“accelerated filer” and “smaller reporting company” in Rule 12b-2 of the
Exchange Act.  (Check one):
  Large accelerated filer  £
              Accelerated filer  R
              Non-accelerated filer  £
              Smaller reporting company  £
  Indicate by check mark whether the
registrant is a shell company (as defined in Rule 12b-2 of the
Act).   Yes£
NoR
 
 The
aggregate market value of the voting common stock, par value $0.001 per share,
held by non-affiliates of the registrant was approximately $173,733,129 as of
June 29, 2007 (based on $1.40 per share, the last price of the common stock as
reported on the OTC Bulletin Board on such date). For purposes of the foregoing
calculation only, all directors, executive officers and 10% beneficial owners
have been deemed affiliates.
 
 The
number of shares of common stock, par value $0.001 per share, outstanding as of
February 18, 2008 was 137,458,794.
 
 DOCUMENTS
INCORPORATED BY REFERENCE
 None.
  
 
  FAREAST ENERGY CORPORATION
 TABLE
OF CONTENTS
 
 PagePART
      IItem
      1.
              Business
              1Item
      1A.
              Risk Factors
              10Item
      1B.
              Unresolved Staff Comments
              20Item
      2.
              Properties
              20Item
      3.
              Legal Proceedings
              20Item
      4.
              Submission of Matters to a Vote of Security
      Holders
              21PART
      IIItem
      5.
              Market for Registrant's Common Equity, Related Stockholder
      Matters and Issuer Purchases of Equity Securities
              22Item
      6.
              Selected Financial Data
              24Item
      7.
              Management's Discussion and Analysis of Financial Condition
      and Results of Operations
              25Item
      7A.
              Quantitative and Qualitative Disclosures About Market
      Risk
              33Item
      8.
              Financial Statements and Supplementary
    Data
              34Item
      9.
              Changes in and Disagreements With Accountants on Accounting
      and Financial Disclosure
              58Item
      9A.
              Controls and Procedures
              58Item
      9B.
              Other Information
              58PART
      IIIItem
      10.
              Directors, Executive Officers and Corporate
      Governance
              59Item
      11.
              Executive Compensation
              63Item
      12.
              Security Ownership of Certain Beneficial Owners and
      Management and Related Stockholder Matters
              86Item
      13.
              Certain Relationships and Related Transactions and Director
      Independence
              88Item
      14.
              Principal Accountant Fees and Services
              88PART
      IVItem
      15.
              Exhibits and Financial Statement
    Schedules
              91SIGNATURES
  i
 Table of Contents
  PART
I
 
 Item1. BUSINESS
 
 General
 
 We were
incorporated in Nevada on February 4, 2000. In January 2002, we renamed our
company Far East Energy Corporation and changed our focus to exploring,
developing, producing and selling coalbed methane gas ("CBM"). Throughout this
Annual Report on Form 10-K, the terms "we," "the Company," "us," "our" and "our
company" refer to Far East Energy Corporation.  Today, the operations
of our company and its subsidiaries concentrate on CBM exploration and
development in the Shanxi Province in northern China and in the Yunnan Province
in southern China. Our goal is to become a recognized leader in CBM property
acquisition, exploration, development and production. Our principal office is
located at 363 North Sam Houston Parkway East, Suite 380, Houston, Texas 77060.
We also maintain offices in the following cities of the People’s Republic of
China: Beijing, Taiyuan City and Kunming.  References to "China" and
"PRC" are references to the People’s Republic of China.
 
 We are a
development stage company and our activities have been principally limited to
the drilling, testing and completion of exploratory wells and organizational
activities. We have entered into three production sharing contracts ("PSCs")
that enable us to explore for, develop, produce and sell CBM on over 1.3 million
acres located in the Shanxi and Yunnan Provinces of the PRC, which we believe
makes us one of the largest holders of CBM acreage in that
country.  We have not recognized any revenues from our operations and
are not able to accurately predict when we will recognize meaningful
revenues.
 
 Our
Website
 
 Our
website can be found at www.fareastenergy.com. Our Annual Reports on Form 10-K,
Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to
those reports filed with or furnished to the U.S. Securities and Exchange
Commission ("SEC′′), pursuant to Section 13(a) or 15(d) of the Securities
Exchange Act of 1934 (′′Exchange Act"), can be accessed free of charge by linking
directly from our website under the "Investor Relations - SEC Filings" caption
to the SEC’s Edgar Database. These filings will be available as soon as
reasonably practicable after we electronically file such material with, or
furnish it to, the SEC. Information contained on the website is not part of this
report.
 
 Coalbed
Methane Gas and Attributes of Coalbed Methane Resources
 
 Coalbed
methane gas is a type of natural gas found in coal seams of various types of
coal. As coal is formed, large quantities of natural gas are generated and
adsorbed on the internal surface area of the coal.  CBM exploration
and production involves drilling into a known coal deposit and extracting the
natural gas that is contained in the coal. A coal seam is often saturated with
water, with methane gas being held in the coal by water pressure. To produce CBM
from coalbeds, water must first be pumped from the seam in order to reduce the
water pressure that holds the gas in the seam. This process is called
dewatering. When the water pressure is reduced, the gas adsorbed on the coal is
released and diffuses into the fractures, or cleats, contained in the coal seam.
Gas flows to the well bore through the cleat system as well as any of the other
cracks, crevices and fractures found in the coalbed. Dewatering volumes decrease
as peak CBM production is reached.
 
 The
productivity potential of a well depends on many reservoir and geological
characteristics, including permeability, thickness and depth of the coalbed, the
coal ranking of the coalbed, gas content and other factors. We consider these
factors, as well as isotherm tests conducted on core samples, the amount of
dewatering required of a well and a number of other factors, when choosing where
to develop coalbed methane present in our CBM acreage.
 
 Permeability.  Coalbed
methane gas production requires that the coal have sufficient
permeability.  Permeability is the ability of a substance to allow
another substance to pass through it.  In the case of our CBM
properties, permeability is the ability of the coal to allow water and/or gas to
pass through it.  Permeability in coal is primarily created by
naturally occurring fractures, which are commonly referred to as
cleats.  Permeability is largely based upon how many cleats the coal
has and how close they are to each other. The more cleats that coal has, the
better the coal’s permeability and the greater opportunity to retrieve the
adsorbed CBM.  Tectonic fracturing can also  1
 Table of Contents
   Thickness.  The
thickness of the coal seam is crucial to CBM production. A coal seam
with otherwise unacceptably low permeability could be produced if the coal
seam has sufficient thickness. In this case, the gas would flow out slowly, but
because the coal seam is thick, more of the gas would be produced since there is
a large area from which to collect the CBM.
 
 Depth.  The depth
of the coal seam is also a significant factor in the productivity potential of a
well. Where the coal, and thus the methane gas, lies at shallow depths, wells
are generally easier to drill and less expensive to complete. With greater
depth, increased pressure closes cleats in the coal, which reduces permeability
and the ability of the CBM to move through and out of the coal. On the other
hand, if a coal seam is not buried deeply enough, there may not be sufficient
water pressure to hold the gas in place on the coal.
 
 Coal
Ranking.  Methane gas is contained in all ranks of coal. The
most CBM is contained in the highest rank coal, which is called anthracite.
Unfortunately, anthracite has very low permeability. Semi-anthracite coal
typically has lower quantities of CBM than anthracite coal, but may still
contain significant cleats as well, making it more permeable. The coalbeds found
in our Shanxi Province project are semi-anthracite coal that has a favorable
cleat structure, which should also make the permeability favorable.
 
 The next
lesser coal rank is bituminous coal that contains less CBM per ton but usually
has a good cleat structure allowing for better permeability. The coalbeds found
in our Enhong–Laochang project, which are located in the Yunnan Province, have
bituminous and semi-anthracite coal.
 
 Dewatering.  Water
must be removed from the coal seams to decrease reservoir pressure and release
the gas to produce methane gas from coalbeds. After the detachment of gas
molecules from the coal surface, or desorption, occurs, the gas diffuses through
the coalbed’s cleats and fractures toward the well bore. Substantial dewatering
of the coalbed is required initially. Water production declines as methane gas
production increases. Dewatering of a well may generally range in length from a
few weeks to as many as three years depending on the attributes of the coal
seam.  Produced water disposal presents major economic and
environmental challenges for operators. These costs alone can determine the
feasibility of CBM projects.
 
 Coalbed
Methane in the People’s Republic of China
 
 China is
the world’s largest coal producing country and has substantial CBM resources
located within its abundant coalfields. Because most of China’s CBM is found at
shallow depths, it is easier to drill and complete CBM wells than traditional
natural gas wells. Additionally, the vast amounts of undeveloped CBM in China
result in the country releasing six billion cubic meters of methane gas into the
environment each year from China’s many coal mines. This results in serious
pollution and wastes CBM, which could be recovered prior to mining.
 
 Our
business strategy is to explore, develop and produce the CBM currently untapped
in China. China is currently the world’s second largest user of petroleum and
one of the largest importers of oil and gas in the world. China’s energy needs
are also increasing rapidly, fueled in part by a recent economic upswing in the
country. Demand in China is projected to outpace the rest of the world over the
next decade. As a result of China’s increasing energy needs, the Chinese
government has, in recent years, focused its attention on the development of
energy sources, including CBM.  The Eleventh Five-Year Plan for CBM
Development was adopted by the National Development and Reform Commission in
July 2006.  The plan outlines the goal to more than double CBM extraction
by 2010, from 0.4 billion cubic feet per day (Bcfd) in 2006 to 1.0 Bcfd in 2010.
 A separate directive specifies safety and extraction regulations alongside
favorable incentive policies for CBM development. The overall goal of this plan
is to foster a surge in CBM industrialization.  As part of its plan to
increase CBM production, the State Council of the PRC, the chief administrative
body of the PRC, created the China United Coalbed Methane Co. Ltd. ("CUCBM").
The State Council has granted CUCBM rights to contract with foreign corporations
for the  2
 Table of Contents
   Vertical
and Horizontal Drilling Technologies
 
 Vertical
and horizontal drilling technologies have yielded successful results in CBM
applications. We are currently leveraging both technologies in our CBM
production in China. The best method has not yet been determined for our project
in the Shouyang Block of the Shanxi Province. In a vertical CBM well, we
typically would drill an 8-inch hole in order to contact and hollow out a coal
seam 10 feet thick.  A horizontal well allows a well bore to be in
contact with hundreds of feet of coal because the drill bit, when it hits the
coal seam, is redirected from a downward angle to a horizontal plane and follows
the coalbed for hundreds of feet in various directions. With horizontal
drilling, we would drill directly along the coal seam for thousands of feet in
many directions, increasing the coalface exposure. This greater exposure of the
coalface achieved by horizontal drilling generally allows for greater CBM
production on a daily basis than can be achieved with conventional vertical
stimulation techniques. Although horizontal wells are more costly and
technically challenging than vertical wells because of wellbore stability and
pumping difficulties, they offer greater potential in reduced surface facilities
and increased production rates.
 Lease
Acreage in the People’s Republic of China
 
 As of
December 31, 2007, we owned undeveloped leasehold interests in China and had
rights under production sharing contracts covering the following undeveloped
lease acreage in the Shanxi and Yunnan Provinces.
 
 Net
      AcresGross
      Acres
                
                
                Maximum
                
                
                MinimumChina:Qinnan
      and Shouyang Blocks, Shanxi Province
                
                
                1,058,000
                
                
                
                1,021,000
                
                
                
                704,000Enhong
      and Laochang Areas, Yunnan Province
                
                
                265,000
                
                
                
                265,000
                
                
                
                159,000
 
 Our Holdings in the Shanxi Province
of the People’s Republic of China
 
 Overview.  We are
parties to PSCs and farmout agreements covering over 1.3 million acres in two
provinces in China – the Shanxi Province in the northern region of China and the
Yunnan Province in the southern region of China.
 
 In June
2003, we entered into two amendments to certain farmout agreements and
assignment agreements with Phillips pursuant to which we acquired a 40% net
undivided interest from Phillips China Inc., a subsidiary of ConocoPhillips,
Inc. ("Phillips") in two PSCs between Phillips and CUCBM for the Shanxi Province
("Shanxi Agreements"). The Shanxi Agreements cover a total of 1,057,650
acres.  The project area covered by the first PSC is located in the
Shouyang Block of the Shanxi Province (northern block near Taiyuan City
encompassing approximately 485,000 acres), which we refer to as the Shouyang
PSC.  The project area covered by the second PSC is located in the
Qinnan Block of the Shanxi Province (southern block near Jincheng and Quinshui
encompassing approximately 572,000 acres), which we refer to as the Qinnan
PSC.   The assignment agreements and related amendments to the
farmout agreements substituted us for Phillips as the principal party and
operator for the projects under the PSCs. These agreements were approved by
CUCBM on March 15, 2004, and ratified by the PRCs Ministry of Commerce ("MOC")
on March 22, 2004.
  3
 Table of Contents
 The term of each of the
Shanxi Agreements consists of an exploration period, a development period and a
production period.  The exploration period is divided into three
phases called Phase I, Phase II and Phase III. We have completed our Phase I and
Phase II obligations under the Shanxi Agreements, and elected to enter into
Phase III. Phase IIIof theexploration
periods under each of the two Shanxi PSCs will expire on June 30, 2009, unless
extended or otherwise amended.  After the exploration period,
the development period as to any CBM field in the Shanxi Province project will
begin after the approval of one or more overall development programs, jointly by
us and CUCBM, and then by Chinese governmental authorities. The production
period as to any CBM field in the Shanxi Province project will begin after the
date of commencement of commercial production of that CBM field. Provided the
Company remains in compliance with the requirements under the PSCs, the Shanxi
Agreements will expire on July 1, 2032, unless extended or otherwise
amended.
 
 Currently,
we hold a minimum 70% participating interest, and CUCBM has a maximum 30%
participating interest in each of the Shouyang Block and the Quinnan Block of
the Shanxi Province, although we bear costs attributable to 100% of the
participating interest during the exploration period.  Pursuant to the
farmout agreements with Phillips, we acquired a 70% participating interest from
Phillips (to be reduced by CUCBM’s participation up to 30%, if any, after the
exploration periods), subject to a Phillips election at the transition from
Phase II to Phase III of the exploration periods either to retain its remaining
30% participating interest or to receive an overriding royalty
interest.  Upon our election to enter Phase III of the exploration
periods, Phillips elected to convey its remaining 30% participating interest to
us and to receive an overriding royalty interest up to 3.5% of the total
participating interest. Additionally, prior to the beginning of the development
period of any CBM field in the Shanxi project, CUCBM may elect to participate in
the development of that CBM field at a participating interest between zero and
30%. Therefore, depending upon whether and to what extent CUCBM elects to
participate in the project, our interest will range from 66.5% (assuming full
participation by CUCBM) to 96.5% (assuming CUCBM chooses not to participate).
During the exploration period, we bear costs equal to 100% participating
interest in the properties, and this includes all exploration costs for
discovering and evaluating CBM-bearing areas. If any CBM field is discovered,
the development costs for that CBM field will be borne by us and CUCBM in
proportion to the respective participating interests.
 Our Phase
I, Phase II, and Phase III obligations and results during the exploration period
of the Shanxi PSCs are described below.  The two agreements are
interdependent in certain respects. In particular, the Phase II and III
obligation to complete 12,000 meters of horizontal drilling in coal seam may be
achieved by combining Phase II and Phase III drilling in the two separate
blocks.
 
 Phase I.We have completed
our Phase I obligations of both PSCs under the Shanxi Agreements. Phase I
obligated us, at our expense, to perform a hydraulic fracture of one of three
exploration wells previously drilled by Phillips by January 31, 2005. In
September 2004, the hydraulic fracture and testing was completed on the QN-002
well drilled previously by Phillips on its acreage in the Qinnan Block located
in the Shanxi Province. The testing was performed on the coal seam at a depth of
approximately 550 meters (1,880 feet), with an objective of gaining information
on the permeability of that coal seam and completing our obligations for Phase I
under the Shanxi Agreements.
 
 Phase II.  We
completed our Phase II obligations of both PSCs under the Shanxi Agreements by
drilling and completing two horizontal wells (FCC-HZ01 and FCC-HZ02) in the
Shouyang Block prior to March 31, 2006.  We also completed a third
horizontal well (FCC-HZ03) under Phase II.  These wells are currently
being dewatered.  FCC-HZ01 and FCC-HZ03 have demonstrated continuous
gas production.  The volumes being produced are small and the data
obtained is not yet sufficient to project peak gas production or commercial
viability.
 
 Phase III.After completion
of Phase II, we elected to commit to Phase III in the Shanxi Province
PSCs.  Our work commitment to complete  Phase III consists
of furthering the horizontal drilling in the coal seam begun in Phase II to a
total of 12,000 meters. This work obligation can be met by combining the
drilling results in the Shouyang and Qinnan Blocks.  We have completed
two horizontal wells (FCC-HZ04 and FCC-HZ05) in the Shouyang Block under Phase
III, the second of which was completed in the first quarter of
2007.  We have also extended the horizontal reach in the coal seam of
FCC-HZ03 by drilling the well laterally in the second quarter of
2007.  The extension added 1,700 meters (6,576 feet) to the
well.  The wells we have drilled to date total approximately 8,805
meters of horizontal drilling in coal seam.  Therefore, we will be
required to drill additional  4
 Table of Contents
   The
drilling depths for our horizontal wells drilled in the Shouyang Block during
Phases II and III are summarized as follows:
 
 Horizontal
      DrillingVertical
      Depth
              
              
              In
      Coal SeamHorizontalWells
              
              (Meters)
              
              
              (Feet)
              
              
              (Meters)
              
              
              (Feet)Phase
      IIFCC-HZ01
              
              
              540
              
              
              
              1,770
              
              
              
              2,500
              
              
              
              8,200FCC-HZ02
              
              
              640
              
              
              
              2,100
              
              
              
              2,700
              
              
              
              8,856FCC-HZ03
              
              
              561
              
              
              
              1,800
              
              
              
              2,030
              
              
              
              6,658Phase
      IIIFCC-HZ04
              
              
              495
              
              
              
              1,623
              
              
              
              875
              
              
              
              2,870FCC-HZ05
              
              
              473
              
              
              
              1,551
              
              
              
              700
              
              
              
              2,296Total
              
              
              2,709
              
              
              
              8,844
              
              
              
              8,805
              
              
              
              28,880
 
 Our five
horizontal wells are drilled with the objective of enhancing the potential
for gas production and facilitating the dewatering process.  During
the second quarter of 2007, we drilled an underbalanced vertical well
(FCC-HZ06V) and cavitated the well bore in the coal to accelerate the dewatering
process.  The well is located in the drilling pattern surrounding the
FCC-HZ01 well.  The volumes being produced are small and the data
obtained is not yet sufficient to project peak gas production or commercial
viability.  However, we believe that the FCC-HZ06V produces a rate of
gas production that provides further evidence of the high permeability of
the area.
 
 With the
objective of determining the optimal approach to minimize costs and maximize gas
recovery, we continue to closely monitor our first pattern of horizontal and
vertical wells.  In the fourth quarter of 2007, we drilled two
vertical wells (FCC-HZ07V and FCC-HZ08V) and began drilling two other vertical
wells (FCC-HZ10V and FCC-HZ15V).  We also entered into a multi-well
drilling contract with a local Chinese drilling company.  We plan to
drill five additional vertical wells during 2008 in a pattern that represents an
orderly progression of the field in a westerly direction using two drilling rigs
simultaneously.
 
 In the
Qinnan Block of the Shanxi Province, we have acquired and processed 26
kilometers of 2D seismic data.  We also have obtained test data from a
vertical well we drilled in December 2006.  We have utilized the well
data and the 2D seismic data in the planning for future wells.  In
June 2007, we entered into a turnkey contract with a Chinese drilling company to
drill a horizontal well in the Qinnan Block for $1.2 million.  The
plan for the well was to achieve a horizontal reach in the coal of approximately
3,000 meters (9,800 feet).  The drilling company
encountered serious drilling difficulties and was unable to complete the
well program as specified at year-end.  We are not liable for payment
of the cost of this well until the drilling company meets its obligations under
the contract.  As such, there is no current accrual for the expected
cost of approximately $1.2 million in our financial
statements.  Drilling operations are continuing, but we cannot predict
when or if the drilling company will be able to successfully drill the
well.
 
 The
initial wells alone cannot produce sufficient CBM to achieve commercial
viability. We are drilling and completing several more wells in close proximity
to the wells we have already drilled with the intent to make it feasible to
begin commercial production from our current project area under the Shouyang
PSC. Actual production may vary materially from preliminary test results. Actual
production from the wells may also be at recovery rates and gas quality
materially worse than our first indications.
 
 On June
26, 2007, the MOC approved the extension of the exploration phase for both the
Shouyang and Qinnan PSCs from June 30, 2007 to June 30, 2009.  In
connection with the extension, we have committed to satisfy certain annual
minimum exploration expenditure requirements for the Shouyang PSC and for the
Qinnan PSC.  Thus, we must meet both our work obligations (the
obligation to complete 12,000 meters of drilling in the coal) and our minimum
exploration expenditure requirements under those PSCs.  The PSC’s
minimum exploration expenditure  5
 Table of Contents
   The
annual minimum exploration expenditure requirements for 2007 were prorated based
on the June 2007 date of the extension approval.  For 2007, we have
spent in total more than the prorated minimum requirement for both
PSCs.  At December 31, 2007, we incurred exploration expenditures of
$3.8 million for the Shouyang PSC which exceeded its prorated 2007 minimum
requirement by $2.5 million.  The 2008 minimum exploration expenditure
for the Shouyang PSC is approximately $2.6 million. The excess of $2.5 million
from 2007 can be applied to the 2008 minimum exploration
expenditure.  In addition, based on the costs we have incurred to date
at the Shouyang Block in 2008, we have already met the 2008 minimum exploration
expenditure.
 
 For the
Qinnan PSC, we incurred exploration expenditures of $0.6 million as of December
31, 2007, which was $0.9 million less than the prorated 2007 exploration
expenditure requirement of $1.5 million.  The deficiency in fulfilling
the prorated 2007 minimum requirement for the Qinnan PSC was due to the
aforementioned failure by the contracted drilling company to complete the
horizontal well program as specified.  As a result, we have agreed to
increase the 2008 minimum exploration expenditure for the Qinnan
PSC to approximately $4.2 million.
 
 Related
Payments.Under the PSCs, we are required to make certain
payments to CUCBM, including: (1) CUCBM assistance fees totaling $100,000 per
year during the exploration period and $240,000 per year during the development
and production periods; (2) training fees for Chinese personnel working on the
projects of $120,000 per year during the exploration phase and $300,000 per year
during the development and production periods; (3) signature fees totaling
$300,000, which will be due within 30 days after first approval of the overall
development plan following the exploration period; (4) reimbursement to CUCBM
for government-imposed fees for CBM exploration rights during the exploration
period, which were $278,000 in 2007, and are estimated to be approximately
$285,000 in 2008, and are in proportion to our participating interest in the
development and production periods; and (5) salary and benefits paid to CUCBM
professionals during the exploration period, which was $151,000 in 2007 and are
estimated to be approximately $164,000 in 2008. The allocation of salary and
benefits for CUCBM professionals during the development and production periods
are determined by negotiation with CUCBM.
 
 Our
Holdings in the Yunnan Province of the People’s Republic of China
 
 Overview.  On
January 25, 2002, we entered into one PSC with CUCBM to develop two areas in the
Yunnan Province: (1) the Enhong area, which covers approximately 145,198 acres
and (2) the Laochang area, which covers approximately 119,772 acres. We are the
operator under the PSC. The term of the PSC consists of an exploration period, a
development period and a production period. The exploration period is divided
into two phases, Phase I and Phase II.  We have completed Phase I and
have elected to enter into Phase II.  The Phase II portion of the
exploration period expires on June 30, 2009.  Following completion of
Phase II of the exploration period, we may elect to continue the PSC and conduct
development and production operations on any CBM discoveries. After the
exploration period, the development period as to any CBM field in the
Enhong-Laochang project will begin after the approval of one or more overall
development programs, jointly by us and CUCBM, and then by Chinese governmental
authorities. The production period as to any CBM field in the Enhong-Laochang
project will begin after the date of commencement of commercial production of
that CBM field.  Provided
the Company remains in compliance with the requirements under the agreement, the
agreement with CUCBM will expire on January 1, 2033, unless extended or
otherwise amended.
 
 During
the exploration period, we hold a 100% participating interest in the properties,
and we must bear all exploration costs for discovering and evaluating
CBM-bearing areas. Prior to the beginning of the development period of any CBM
field in the Enhong-Laochang project, CUCBM may elect to participate in the
development of that CBM field at a level of between zero and 40%.
Therefore, depending upon CUCBM’s participation, should we elect to develop a
CBM field, our working interest in that CBM field will range from 60% to 100%.
If any CBM field is discovered, the development costs for that CBM field will
also be borne by CUCBM and us in proportion to  6
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   Phase I.  We have
completed our Phase I obligations. We drilled and completed three wells on the
project, performed a hydraulic fracture and tested one of these three wells
and drilled two slim hole vertical wells.
 
 We
believe the three wells we have drilled under our Phase I requirement have
yielded favorable gas content results.   We drilled our first
well(FCY-LC01) to a total depth of approximately 825 meters (2,722 feet).A total of 15 mineable
coal seams were penetrated during the drilling of the well, with a total
thickness of approximately 29.4 meters (97 feet). The coring of the coal samples
showed a recovery rate of 94.8%. In addition, the drilling revealed four
targeted major coal seams with a total thickness of approximately 16.3 meters
(54 feet), all within an interval of about 110 meters (363 feet), which we
believe are favorable for production of CBM. Testing of 18 desorption samples
from the well resulted in gas content averaging 18 to 20 cubic meters per ton of
coal or about 650 to 700 cubic feet per ton of coal.  The second
well(FCY-EH02) was drilled toa total depth of
approximately 420 meters (1,344 feet). The well penetrated 15 coal seams with a
thickness of 16.7 meters (53 feet). The total thickness of the coal seams
targeted for potential production was 6.6 meters (22 feet) with a recovery rate
of 70%. The gas content, based on desorption results, is averaging 8.5 cubic
meters per ton of coal, or about 300 cubic feet per ton of coal.  The
third well(FCY-EH01) was drilled to a total depth 435 meters (1,436 feet). The
well penetrated 42 coal seams with a thickness of 42.8 meters (141 feet). The
total thickness of the four coal seams targeted for potential production was
17.2 meters (57 feet). The gas content, based on desorption results, is
approximately 8 to 10 cubic meters per ton of coal, or approximately 280 to 350
cubic feet per ton of coal.  We fractured the FCY-EH01 well with two
coal seams (#9 and #16 coal seams), and conducted dewatering and production
testing for six months.  The production rate on this well during the
production test was 25 thousand cubic feet (Mcf) of CBM per day.
 
 During
Phase I, we also conducted geological data gathering, shot 2D seismic data for
10 kilometers in the Enhong area, drilled one slim hole vertical well in the
Enhong area and one slim hole vertical well in the Laochang area with desorption
and standard CBM lab analysis.
 
 Phase II.  On
February 23, 2005, we elected to enter into Phase II, which required us to drill
at least one horizontal well with a minimum of two laterals.   To
continue our preparation for the drilling of the horizontal well and future
development of this field, we continued our geological and geophysical
activities and drilling of slim hole vertical wells in 2007 to gain more data
and to enhance our understanding of structure complexity, coal lateral
continuity, coal properties and reservoir characteristics.  To date,
we have drilled six vertical wells in Phase II under this PSC with the most
recent one completed in December 2007. We are reviewing the data collected
from these wells and other wells drilled by the Chinese coal
industry.  Based on the data gathered, we plan to drill
a  cluster of four deviated wells to stimulate and test-produce the
major coal seams in 2008.  As described below, the Phase II
exploration period under the Enhong-Laochang PSC will expire on June 30, 2009,
unless extended or otherwise amended.  Following the completion of
Phase II of the exploration period, we may elect to conduct development and
production operations on any CBM discoveries.
 
 These
initial wells alone cannot produce sufficient CBM to achieve commercial
viability. We must complete several more wells in close proximity to the wells
we have already drilled in order to make it feasible to begin production from
any of our current Enhong-Laochang project wells. Actual production may vary
materially from preliminary test results. Actual production from the wells may
also be at recovery rates and gas quality materially worse than our first
indications.
 
 On June
26, 2007, the MOC approved the extension of the exploration phase from June 30,
2007 to June 30, 2009.  In connection with the extension, we have
committed to satisfy certain annual minimum exploration expenditure requirements
for the Enhong-Laochang PSC.  Thus, we must meet both our work
obligations (drilling at least one horizontal well with a minimum of two
laterals) and our minimum exploration expenditure requirement under the
PSC.  The PSC’s minimum exploration expenditure requirement is based
on minimum exploration expenditure requirements of CUCBM established by the
MLR.  The MLR sets its requirements by applying a minimum expenditure
per acre to the total acreage encompassed by the PSC.  Under the PSC,
the portion of the exploration expenditures which exceed the current year’s
minimum exploration expenditure requirement can be carried forward toward the
satisfaction of the subsequent year’s minimum requirement. The resulting minimum
expenditure requirement is a significant factor that influences our exploration
work program.
  7
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 The
annual minimum exploration expenditure requirement for 2007 was prorated based
on the June 2007 date of the extension approval.  In 2007, we incurred
exploration expenditures for the Enhong-Laochang PSC of $0.6 million which was
$0.1 million less than the prorated 2007 exploration expenditure requirement of
$0.7 million.  We did not incur the $0.1 million in 2007 due to a
delay in the completion of drilling of our next vertical well which we started
in December 2007.  We plan to complete the vertical well in early
2008.   As a result, we have agreed to increase
the  2008 minimum exploration expenditure for the Yunnan PSC by $0.1
million to $1.5 million.
 
 Related
Payments.  Pursuant to the terms of our Enhong-Laochang PSC
with CUCBM, we have paid CUCBM signature fees totaling
$375,000.  Under the PSC, we are required to make certain payments to
CUCBM, including: (1) CUCBM assistance fees for Chinese personnel totaling
$45,000 per year during the exploration phase and $80,000 per year during the
development and production periods; (2) training fees for Chinese personnel
working on the projects of $45,000 per year during the exploration period and
$80,000 per year during the development and production periods; (3)
reimbursement to CUCBM for government-imposed fees for CBM exploration rights
during the exploration period, which were $45,000 in 2007 and are estimated to
be approximately $61,000 in 2008, and in proportion to our participating
interest in the development and production periods; and (4) salary and benefits
paid to CUCBM professionals during the exploration period, which was
approximately $190,000 in 2007 and are estimated to be approximately the same in
2008.  The allocation of salary and benefits for CUCBM professionals
during the development and production periods are determined by negotiation with
CUCBM.
  Marketing
and Transportation of Our CBM in China
 
 The
marketability of any gas production will depend, in part, upon the availability,
proximity and capacity of pipelines, gas gathering systems and processing
facilities. We may transport our CBM through pipelines or by compressing or
liquefying the CBM for transportation. CBM projects traditionally require
multiple wells to properly dewater the coal and generate predictable volumes of
gas. It is not yet possible to predict volumes so firm decisions about marketing
the CBM cannot yet be made.
 
 Pipelines in the Shanxi
Province.  Currently, two pipelines traverse China in proximity
to our Shanxi Province projects.  A pipeline company is currently
constructing an intra-provincial pipeline network in the Shanxi
Province.  One branch of that network is currently planned to be
constructed across or directly adjacent to our current area of drilling in the
northern portion of the Shouyang Block.  The pipeline company has
expressed interest in transporting our gas if we achieve commercial levels of
production; however, the economics of any such arrangement have not been
negotiated.  No condensed natural gas ("CNG") facility, liquefied
natural gas ("LNG") plant or other off-take candidate currently exists near our
Shanxi Province projects, and pipelines may need to be built on those projects
to connect to larger pipelines to transport any CBM that may be produced from
those projects.   We estimate the initial cost for these
pipelines and compression facilities would be approximately $14
million.  If CUCBM elects a 30% working interest in our Shanxi
Province project, our net costs would be approximately $10
million.  Should we elect to construct the connecting pipelines, there
is no assurance that any of the existing pipelines we might connect to in the
future will have sufficient capacity available to meet our
requirements.
 
 Pipelines in the Yunnan
Province.  There are no pipelines in the vicinity of our Yunnan
Province projects, and we estimate the initial cost to construct a pipeline and
compression facilities from our project to the nearest large city, Kunming,
would be approximately $38 million.  If CUCBM elects a 40% working
interest in our Yunnan Province project our costs would be approximately $23
million.  Because there is no gas pipeline, CNG facility, LNG plant or
other off-take candidate in near proximity to these wells, our ability to sell
CBM produced on these projects to communities outside the general area will be
contingent upon a pipeline or LNG plant being built near the Enhong-Laochang
project.
 
 Compressed Natural
Gas.  If we have initial commercial production of CBM from our
Shanxi or Yunnan Province projects, then prior to the point at which production
reaches pipeline quantities, we could begin to market the CBM produced to local
markets as CNG.  CNG is an alternative to the construction of a
pipeline or LNG facility, especially appropriate for early stage gas production
where gas volumes are lower.  Thus we may determine to pursue CNG
facilities in order to earn revenues from any early production of CBM.
Production of CNG would require the installation of a CNG
facility.  We estimate that this alternative would cost approximately
$500,000 for a  8
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   LNG
Facility.To
generate revenue in China prior to the point at which production reaches
pipeline quantities, we may elect to construct LNG facilities on our properties.
This would allow CBM to be produced and sold in the period before we achieve
production in sufficient quantities to justify constructing short connecting
pipelines to the Shanjing II and West-East pipelines in the Shanxi Province, or
before a pipeline or other offtake facility is operational in the Yunnan
Province. We estimate that a 100-ton per day LNG facility, which would liquefy
approximately five MMcf of natural gas per day, would cost $15 million to
construct. We estimate that a 1,000-ton per day facility capable of liquefying
50 MMcf of natural gas per day would cost approximately $76
million.  Construction of a LNG facility is expected to take at least
two years.
 We do not
currently have the funds to build these facilities. We will be required to raise
additional funds through financings or other means or to find a strategic
partner to complete these facilities. It is not likely that any such facilities
will be built until favorable results are obtained from several wells. We are
delaying any decision regarding the construction of LNG facilities or pipelines
until such time as significant CBM production volumes are achieved. We believe
this delay may allow us to avoid construction costs to the extent other
strategic partners attracted by our prospects, have constructed, are
constructing or are planning to construct, such facilities.
  CBM Natural Gas
Pricing.  Unlike traditional natural gas produced in China, the
market price of CBM natural gas is not regulated by the Chinese
government.  Based on our research on the prevailing gas market
conditions in China, we expect to receive market-driven, competitive pricing for
our future gas production, regardless of whether we deliver our gas through a
pipeline, or in the form of CNG or LNG.
  Our
Competition
 
 The
energy industry is highly competitive in all its phases. Competition is
particularly intense with respect to the acquisition of desirable producing
properties, the acquisition of CBM prospects suitable for enhanced production
efforts, and the hiring of experienced personnel. Our competitors in CBM
acquisition, development, and production include major integrated oil and gas
companies and substantial independent energy companies, many of which possess
greater financial and other resources.
  Safety
and Health Matters
 
 We employ
numerous safety precautions to ensure the safety of our employees and
independent contractors.  We also conduct our operations in accordance
with various laws and regulations concerning occupational safety and
health.  As protection against operating hazards, we maintain
insurance coverage against some, but not all, potential injuries and
losses.  In addition, we require service providers we engage to
maintain similar insurance coverage.
 Regulations
Impacting Our Business
 
 Our
operations will be subject to numerous laws and regulations governing the
discharge of materials into the environment or otherwise relating to
environmental protection. These laws and regulations require the acquisition of
a permit before drilling commences, restrict the types, quantities and
concentration of various substances that can be released into the environment in
connection with drilling and production activities, limit or prohibit drilling
activities on certain lands lying within wilderness, wetlands and other
protected areas, impose substantial liabilities for any pollution resulting from
our operations and limit our discretion in marketing any
production.
 
 The
exploration and production of CBM in China is regulated by and affected by the
policies of multiple administrative bodies including the National Development
and Reform Commission (the "NDRC"), the MOC, the MLR and CUCBM.  The
Mineral Resources Law and the related regulations are the primary source of law
governing the exploration and production of coalbed methane in
China.
 
  9
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 The NDRC
is responsible for the development and strategic upgrade of key industries in
China, including the coalbed methane industry.  Policy making
decisions of the NDRC could, therefore, affect our
company.  Additionally, the MOC has many policy setting functions and,
through its Foreign Investment Administration (the "FIA"), the MOC is directly
responsible for foreign investment in China.  Our PSCs and the
subsequent amendments to those contracts were, and presently continue to be,
subject to approval of the MOC.   Within the FIA, the Service
Trade Division also regulates the public utilities in urban areas, various
pipeline networks, transportation and coalbed methane exploration and production
and, therefore, the division's policies, rules and regulations could effect our
future strategy and operations for transportation and distribution of any CBM
production.
 
 The rules
and regulations of the MLR and, in particular, CUCBM more directly affect the
coalbed methane industry in China and our operations.  The MLR is the
principal authority regulating the coalbed methane industry in
China.  It has authority over the designation of land for exploration,
the approval of geological reserve reports, the review and granting of licenses
for exploration and production and the administration of the registration and
assignment of exploration and production licenses.  Presently, CUCBM
has the right to partner with foreign investors in CBM
activities.  Because only a Chinese party can hold an exploration
license for CBM, CUCBM applies to MLR for the exploration licenses on behalf of
foreign investors.  In operating under the PSCs, our primary
interaction with Chinese administration is with CUCBM and the Joint Management
Committee that administers our PSC.  The Joint Management Committee
consists of members of our management team and representatives of CUCBM and it
meets on a periodic basis to, among other things, discuss and make decisions
concerning our exploration and development progress and plans, including budgets
and capital expenditure commitments.
 Our
Employees
 
 As of
February 18, 2008,  we had 20
employees in China and 10 employees in the United States for a total of 30
employees, all of whom were employed by us on a full-time
basis.
  Item1A. RISK FACTORS
 
 Forward-Looking
Statements
 
 This
report includes forward-looking statements within the meaning of Section 27A of
the Securities Act of 1933, as amended and Section 21B of the Exchange Act. All
statements other than statements of historical facts contained in this report,
including statements regarding our future financial position, business strategy
and plans and objectives of management for future operations, are
forward-looking statements. The words "believe," "may," "will," "estimate,"
"continue," "anticipate," "intend," "project," "expect," "consider" and similar
expressions, as they relate to us, are intended to identify forward-looking
statements. We have based these forward-looking statements largely on our
current expectations and projections about future events and financial trends
that we believe may affect our financial condition, results of operations,
business strategy and financial needs. These forward-looking statements are
subject to a number of known and unknown risks, uncertainties and assumptions
described in this report.
 
 Although
we believe that the expectations reflected in these forward-looking statements
are reasonable, there can be no assurance that the actual results or
developments we anticipate will be realized or, even if substantially realized,
that they will have the expected effects on our business or operations. Actual
results could differ materially from those projected in such forward-looking
statements. Factors that could cause actual results to differ materially from
those projected in such forward-looking statements include: our lack of
operating history; limited and potentially inadequate management of our cash
resources; risk and uncertainties associated with exploration, development and
production of CBM; expropriation and other risks associated with foreign
operations; matters affecting the energy industry generally; lack of
availability of oil and gas field goods and services; environmental risks;
drilling and production risks; changes in laws or regulations affecting our
operations, as well as other risks described in this report and subsequent
filings with the Securities and Exchange Commission.
 
  10
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 When you
consider these forward-looking statements, you should keep in mind these risk
factors and the other cautionary statements in this report. Our forward-looking
statements speak only as of the date made. All subsequent oral and written
forward-looking statements attributable to us or persons acting on our behalf
are expressly qualified in their entirety by these factors. We assume no
obligation to update any of these statements.
 
 Additional
risks include among others, the following:
  Risks
Relating to Our Business
 
 We
must obtain additional financing in order to continue our
operations.
 
 We are
not able to accurately predict when we will recognize meaningful
revenues.  We expect to experience operating losses and negative cash
flow for the foreseeable future. Based on funds currently available to us, and
our current obligations under the PSCs management believes that we have adequate
cash resources to fund our operating and minimum committed exploration and
development activities in China through 2008. However, as we do not have a
source of revenue, we will require additional financing by the end of the fourth
quarter of 2008 in order to continue our planned exploration and development in
China and sustain our operating losses. We may choose to raise additional funds
in 2008.  To develop our projects over the long term, we need to
obtain funding to satisfy very significant expenditures for exploration and
development of those projects. Furthermore, pipelines must be built on our
Shanxi Province projects to connect to larger pipelines to transport our CBM,
and no facilities exist to transport or process CBM near our Yunnan Province
projects. Significant expenditures would be required to build out these
facilities to the extent a strategic partner does not do so. We intend to
finance our operations by various methods, which might include issuing equity
securities, the continued exercise of warrants issued to investors in
conjunction with the previously completed private offerings, and entering into
farmout agreements and other arrangement with strategic partners, among other
alternatives. Therefore, we intend to continue to seek to raise equity
financing. No assurance can be given that we will be able to obtain any
additional financing on favorable terms, if at all. If our operating
requirements or drilling obligations materially change from those currently
planned, we may require more financing than currently anticipated and we may
need to obtain financing earlier.  For example, it is possible that
CUCBM could seek to renegotiate our PSCs to, among other things, increase our
capital expenditures or accelerate our drilling program. Raising additional
funds by issuing common stock or other types of equity securities would further
dilute our existing stockholders. If we fail to raise the necessary funds to
complete our exploration activities under our production sharing contracts and
we cannot obtain extensions to the requirements under our production sharing
contracts, we would not be able to successfully complete our exploration
activities and we may lose rights under our production sharing
contracts.
 
 The development of coalbed methane
properties involves substantial risks and we cannot assure you that our
exploration and drilling efforts will be successful.
 
 The
business of exploring for and, to a lesser extent, developing and operating
coalbed properties involves a high degree of business and financial risk that
even a combination of experience, knowledge and careful evaluation may not be
able to overcome. The selection of prospects for coalbed methane gas drilling,
the drilling, ownership and operation of CBM wells and the ownership of
interests in CBM properties are highly speculative. Our well data, including
information relating to permeability and coal thickness, is preliminary in
nature.  We cannot predict whether any prospect will produce CBM or
whether, even if producing, such prospect will produce commercial quantities of
CBM.
 
 Drilling
for coalbed methane gas may involve unprofitable efforts, not only from dry
wells, but also from wells that are productive but do not produce coalbed
methane in sufficient quantities or quality to realize enough net revenues to
return a profit after drilling, operating and other costs. The cost of drilling,
completing and operating wells is often uncertain and cost overruns are common.
Our drilling operations may be curtailed, delayed or canceled as a result of
numerous factors, many of which are beyond our control, including title
problems, weather conditions, compliance with governmental requirements and
shortages or delays in the delivery of equipment and services. In addition,
other factors such as permeability may hinder, restrict or even make production
impractical or impossible.
 
 11
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 Drilling
and completion decisions generally are based on subjective judgments and
assumptions that are speculative. We may drill wells that, although productive,
do not produce CBM in economic quantities. It is impossible to predict with
certainty the production potential of a particular property or well.
Furthermore, a successful completion of a well does not ensure a profitable
return on the investment. A variety of geological, operational, or
market-related factors, including, but not limited to, unusual or unexpected
geological formations, pressures, equipment failures or accidents, fires,
explosions, blowouts, cratering, pollution and other environmental risks,
shortages or delays in the availability of drilling rigs and the delivery of
equipment, loss of circulation of drilling fluids or other conditions may
substantially delay or prevent completion of any well, or otherwise prevent a
property or well from being profitable. We contract with drilling companies to
drill certain of our wells in China and we face the risk that the other party
may not perform, which may delay our drilling program. A productive well may
also become uneconomic in the event of excessive water or other deleterious
substances are encountered, which impair or prevent the production of natural
gas from the well. In addition, production from any well may be unmarketable if
it is contaminated with water or other deleterious substances. We cannot assure
you that wells drilled by us will be productive or, even if productive, will
produce CBM in economic quantities so that we will recover all or any portion of
our investment.
  We
are a development stage company and thus, no relevant operating history for the
purpose of evaluation of our performance and prospects.
 
 We have
been engaged principally in developing a strategic operating plan and an
exploration plan, capital funding, hiring personnel, entering into contracts,
acquiring rights to explore, develop, produce and sell CBM, and the drilling,
testing and completion of exploratory wells. We do not have operating experience
in the distribution and marketing of coalbed methane gas in China. We are
considered a development stage company for accounting purposes because we have
generated no revenues to date. Accordingly, we have no relevant operating
history upon which you can evaluate our performance and prospects. In addition,
we cannot forecast operating expenses based on our historical results and our
ability to accurately forecast future revenues is limited. As a result of our
limited operating history, we are more susceptible to business risks including
risks of unforeseen capital requirements, failure to establish business
relationships, and competitive disadvantages against larger and more established
companies.
 
 We have no current source of
revenue.
 
 We will
not generate material revenues from our existing properties until we have
successfully completed exploration and development, and started production of
coalbed methane gas in China.  We are not able to accurately predict
when we will recognize meaningful revenues.  Additionally, pipelines
must be built on our Shanxi Province projects to connect to larger pipelines to
transport our CBM, and no facilities exist to transport or process CBM near our
Yunnan Province projects. Our ability to realize revenues from any producing
wells may be impaired until these facilities are built out or arrangements are
made to deliver our production to market.
 
 We have a history of losses, and
expect to incur losses in the foreseeable future. If we do not achieve
profitability, our financial condition and the value of our common stock will
suffer.
 
 To date,
we have no revenues from the sale of coalbed methane gas. We incurred net losses
applicable to common stockholders for the years ended December 31, 2007, 2006,
and 2005. We expect to experience operating losses and negative cash flow for
the foreseeable future. We must obtain additional financing and generate
sufficient revenues to fund anticipated drilling, exploration and operation
costs and to achieve and maintain profitability. We cannot assure you we will
ever generate sufficient revenues to achieve profitability, which will
negatively impact the price of our common stock. If we do achieve profitability,
we cannot assure you that we will be able to sustain or increase profitability
in the future.
 
 We are in the initial exploration
phase and have substantial capital requirements that, if not met, will
hinder our growth and operations.
 
 We face
significant challenges, expenses and difficulties as a development stage company
seeking to explore, develop and produce coalbed methane gas. The development of
our projects in China will require that we obtain funding to satisfy very
significant expenditures for exploration and development of these projects, if
they are  12
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   We must complete multiple CBM wells
on our Shanxi Province and Yunnan Province projects before
we can commence production.
 
 In
addition to the five horizontal wells we have drilled in the Shouyang Block of
the Shanxi Province project, we have also drilled several vertical wells in both
the Shanxi Province and Yunnan Province projects.  While subject to
periodic maintenance, we have achieved continuous gas production in some of
these wells.  At this early stage, the volumes being produced while
dewatering are still small and the data obtained is not yet sufficient to be
able to project the peak gas production volume or to be able to conclude whether
the well will produce gas in commercial volumes.  None of the other
wells we have drilled to date are currently producing coalbed methane gas as
they are undergoing or will undergo dewatering and production
testing.  However, even if all our current wells reach production
status, they may not produce enough coalbed methane gas to achieve commercial
viability.  For each project, we are analyzing and evaluating drilling
data obtained in an effort to determine how many additional wells we have to
drill in order to begin production of commercial volumes. We cannot make any
assurances that we will have the resources to drill enough additional wells in
the Shanxi and Yunnan Provinces to commence production in the areas. As a
result, even though we may have producing properties in the region, we may not
be in a position to derive any revenues from such wells. Actual production may
vary materially from preliminary test results, including the results to date for
our first horizontal well.  Actual production from the wells may be at
recovery rates and gas quality materially different than our first
indications.
 
 We
are a holding company and we rely on our subsidiaries for dividends and other
payments for funds to meet our obligations.
  We are
principally a holding company with substantially all of our assets relating to
operations in China being owned by our subsidiary, Far East Energy (Bermuda),
Ltd. ("FEEB").  Consequently, we have no direct operations and are not
expected to own a significant amount of assets other than the outstanding
capital stock of our subsidiaries, including FEEB, and cash and cash
equivalents.  Because we conduct our operations through our subsidiaries,
if and when we commence commercial production of CBM, we will depend on
those entities for dividends and other payments to generate the funds necessary
to meet our financial obligations and to pay dividends, if any, with respect to
our common stock. The jurisdictions of our subsidiaries may impose restrictions
on or require government approval of dividends or certain payments by the
subsidiaries. All of our subsidiaries will be separate and independent legal
entities and will have no obligation whatsoever to pay any dividends,
distributions or other payments to us.
 
 We are dependent on our key
executives and may not be able to hire and retain key employees to fully implement our
business strategy.
 
 Our
success will depend largely on our senior management, which includes our
executive officers. As we grow our business, we must attract, retain and
integrate additional experienced managers, geoscientists and engineers in order
to successfully operate and grow our businesses. The number of available,
qualified personnel in the oil and gas industry to fill these positions may be
limited. Our inability to attract, retain and integrate these additional
personnel or the loss of the services of any of our senior executives or key
employees could delay or prevent us from fully implementing our business
strategy and could significantly and negatively affect our
business.
 
 13
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 We are not diversified and we
concentrate on one industry.
 
 Our
business strategy will concentrate in exploration and development of coalbed
methane gas in China. There is an inherent risk in not having a diverse base of
properties in exploration and development, because we will not have alternate
sources of revenue if we are not successful with our current exploration and
development activities. As we will invest substantially all of our assets in
this market, we may be more affected by any single adverse economic, political
or regulatory event than a more diversified entity. Our failure in the
exploration and development of CBM property rights in China would have a
material adverse affect on our business.
 We
may not be able to develop a proven reserve base.
 
 Our
future success will depend upon our ability to find and develop CBM
reserves.  Any CBM reserves that we develop will decline as CBM
production occurs.  To develop reserves and production, we must
implement our exploration, development and production programs and identify and
produce previously overlooked or by-passed zones and shut-in
wells.  Our current strategy is to develop a reserve base, production
and cash flow through the development of CBM fields in our Shanxi Province and
Yunnan Province projects.  We can give no assurance that our planned
exploration and development activities will result in any reserves or that we
will have any success in discovering and producing reserves at economical
exploration and development costs.
 
 We may have difficulty managing
growth in our business.
 
 Because
of our small size and the relatively large scale of operations required for our
business to yield revenue, growth in accordance with our business plan, if
achieved, will place a significant strain on our financial, technical,
operational and management resources. As we expand our activities and increase
the number of projects we are evaluating or in which we participate, there will
be substantially more demands on these resources. Further, we may be required to
respond to any expansion of our activities in a relatively short period of time
in order to meet the demands created by the expansion of these activities, the
growth of our business and our drilling objectives. The failure to timely
upgrade our technical, administrative, operating and financial control systems
or the occurrence of unexpected expansion difficulties, including the
recruitment and retention of experienced managers, geoscientists and engineers,
could have a material adverse effect on our business, financial condition and
results of operations and our ability to timely execute our business plan. If we
are unable to implement these actions in a timely manner, our results and the
growth of our business may be adversely affected.
 
 Risks
Relating to Our Operations in China
 
 No facilities presently exist to
transport or process CBM near our Yunnan Province projects, and, although
larger pipelines exist in proximity to our Shanxi Province projects, pipelines
must be built to connect to larger pipelines or facilities must be added
to compress or liquefy and transport any CBM that may be produced from those
projects.
 
 The
marketability of any production will depend, in part, upon the availability,
proximity and capacity of pipelines, gas gathering systems and processing
facilities. We may transport our CBM through pipelines or by compressing or
liquefying the CBM for transportation.
  Currently,
two pipelines traverse China in proximity to our Shanxi Province projects;
however, we would need to construct two short connecting pipelines with
compression facilities.  We estimate the initial cost of this would be
approximately $14 million.  If CUCBM elects a 30% working interest in
our Shanxi Province project, our net costs would be approximately $10
million.  A pipeline company currently plans to construct a pipeline
in the Shanxi Province in relatively close proximity to the locations of our
first five horizontal wells in the Shouyang Block, as well as near the Qinnan
Block.  The pipeline company has expressed interest in transporting
our gas if we achieve commercial levels of production; however, the economics of
any such arrangement have not been negotiated.  Should we elect to
construct the connecting pipelines, there is no assurance that any of the
existing pipelines we might connect to in the future will have sufficient
capacity available to meet our requirements.  CBM sales from the
Shanxi Province can also be achieved through development of an LNG
plant.  No LNG plant exists near our properties in the Shanxi
Province.  We estimate that a 100-ton per day LNG plant, which would
be capable of
 14
 Table of Contents
 
 No gas
pipeline, LNG plant, or other off-take candidate currently exists to transport
CBM from our properties in Yunnan Province, and it is not likely that any such
facilities will be built unless favorable results are obtained from several more
wells. There are no pipelines in the vicinity of our Yunnan Province projects,
and we estimate the initial cost to construct a pipeline from our project to the
nearest large city, Kunming, would be approximately $38 million.  If
CUCBM elects a 40% working interest in our Yunnan Province project our costs
would be approximately $23 million.  We could also produce the CBM
through development of an LNG plant or the production of compressed natural gas
as described above.
 
 We do not
have funds to build any of these facilities. Our success will depend on our
ability to raise additional funds through financings or other means or to find a
strategic partner to complete these facilities.
 
 Substantially all of our assets and
operations are located in China.
 
 Substantially
all of our assets and operations are located in China.  Accordingly,
our business is subject to a significant extent, to the economic, political, and
legal developments in China.  China is a developing country, has only
recently begun participating in global trade with its accession to the World
Trade Organization, and has only a limited history of trade practices as a
nation. We are subject to the laws, rules, regulations, and political authority
of the government of China. We may encounter material problems while doing
business in China, such as interactions with the Chinese government and
uncertain foreign legal precedent pertaining to developing coalbed methane gas
in China. Risks inherent in international operations also include the
following:
 
 ·
              Local
      currency instability;
 ·
              Inflation;
 ·
              The
      risk of realizing economic currency exchange losses when transactions are
      completed in currencies other than U.S.
dollars;
 ·
              The
      ability to repatriate earnings under existing exchange control laws;
      and
 ·
              Political
      unrest.
 
 Changes
in domestic and foreign import and export laws and tariffs can also materially
impact international operations. In addition, foreign operations involve
political, as well as economic risks, including:
 
 ·
              Nationalization;
 ·
              Expropriation;
 ·
              Contract
      renegotiations;
 ·
              Government
      intervention and price fixing in certain markets;
  and
 ·
              Changes
      in laws resulting from governmental
changes.
 
 Additionally,
CUCBM is subject to rules and regulations of China or the jurisdiction or
influence of other governmental agencies in China that may adversely affect
CUCBM’s ability to perform under, or our rights and obligations in our
production sharing contracts with CUCBM, such as the potential limitation,
restriction renegotiation or preclusion of our capacity or ability to explore
and develop the full acreage provided for, and opportunities and obligations
under our production sharing contracts. CUCBM could seek to, among other things,
increase our expenditures or accelerate our drilling program beyond the minimum
contractual requirements under our PSCs. We must comply with certain procedural
requirements under our production sharing contracts and with CUCBM in order to
obtain the reimbursement of costs incurred under the production sharing
contracts. We cannot assure you that we will recover or that CUCBM will approve
reimbursement of all costs incurred under the production sharing contract, which
could adversely impact our business, financial conditions and results of
 15
 Table of Contents
   We are exposed to foreign currency
risk.
 
 In July
2005, the Chinese government began to permit the Chinese Yuan to float against
the U.S. dollar.  All of our costs to operate our Chinese offices are
paid in Chinese Yuan. Our exploration costs in China may be incurred under
contracts denominated in Chinese Yuan or U.S. dollars.  If the value
of the U.S. dollar falls in relation to the Chinese Yuan, the cost to us of
funding our Chinese operations would rise because more dollars would be required
to fund the same expenditures in Yuan. Conversely, if the value of the U.S.
dollar rises in relation to the Chinese Yuan, the change in exchange rates would
decrease our dollar cost to fund operations in China.
 
 To date,
we have not engaged in hedging activities to hedge our foreign currency
exposure.  In the future we may enter into hedging instruments to
manage our foreign currency exchange risk or continue to be subject to exchange
rate risk.  However, we may not be successful in reducing foreign
currency exchange risks, and as a result, we may from time to time experience
losses resulting from fluctuations in the value of the Chinese
Yuan.  During 2007, the  U.S. dollar to Yuan exchange rate
fluctuated from a minimum of 1:7.30 to a maximum of 1:7.81, with a yearly
average of 1:7.61.
  Inflation
may adversely affect our financial condition and results of
operations.
  Although
inflation has not materially impacted our operations in the recent past,
increased inflation in China or the U.S. could have a negative impact on our
operating and general and administrative expenses, as these costs could
increase.  China has recently experienced inflationary pressures,
which could increase our costs associated with our operations in
China.  The inflation rate for 2007 was approximately 4.8%, according
to China Daily.  In recent months, the Company has increased its use
of Chinese suppliers, including drilling contractors, that are paid in
Yuan.  In the future, inflation in China may results in higher minimum
expenditure requirements under our PSCs if CUCBM adjusts these requirements for
inflation.  A material increase in these cost as a result of inflation
could adversely affect our operations and, if there are material changes in our
costs, we may seek to raise additional funds earlier than
anticipated.
 
 We
risk the effects of general economic conditions in China.
 
 Any CBM
sales we secure could be adversely affected by a sustained economic recession in
China. As our operations and end user markets are primarily in China, a
sustained economic recession in that country could result in lower demand or
lower prices for the natural gas to be produced by us.
 
 We may depend on a few customers when
we begin selling our gas production.
 
 At
present, we have no coalbed methane gas sales contracts pending and we are not
able to accurately predict when we will recognize meaningful revenues from our
gas production.  However, when we begin selling our gas production,
there may be only a small number of entities we can contract with which will
purchase any gas we may produce.  Losing any such potential contract
or client would have a material negative impact on our business.
 
 Risks
Related to the Oil & Gas Industry
 
 The volatility of natural gas and oil
prices could harm our business.
 
 Our
future revenues, profitability and growth and the carrying value of the oil and
gas properties depend to a large degree on prevailing oil and gas prices.
Commercial lending sources are not currently available to us because of our lack
of operating history or income. Our ability to borrow and to obtain additional
equity funding on attractive terms also substantially depends upon oil and gas
prices. Prices for oil and gas are subject to large fluctuations in response to
relatively minor changes in the supply and demand for oil and gas, uncertainties
within the market and a variety of other factors beyond our control. These
factors include weather conditions in China, the condition of the Chinese
economy, the activities of the Organization of Petroleum Exporting Countries,
 16
 Table of Contents
 
 We may not be able to successfully
compete with rival companies.
 
 The
energy industry is highly competitive in all its phases. Competition is
particularly intense with respect to the acquisition of desirable producing
properties, the acquisition of coalbed methane prospects suitable for enhanced
production efforts, and the hiring of experienced personnel. Our competitors in
coalbed methane acquisition, development, and production include major
integrated oil and gas companies in addition to substantial independent energy
companies. Many of these competitors possess and employ financial and personnel
resources substantially greater than those that are available to us and may be
able to pay more for desirable producing properties and prospects and to define,
evaluate, bid for, and purchase a greater number of producing properties and
prospects than we can. Our financial or personnel resources to generate revenues
in the future will depend on our ability to select and acquire suitable
producing properties and prospects in competition with these
companies.
 
 The production and producing life of
wells is uncertain and production will decline.
 
 If any
well becomes commercially productive, it will not be possible to predict the
life and production of that well. The actual lives could differ from those
anticipated. Sufficient coalbed methane may not be produced for us to receive a
profit or even to recover our initial investment. In addition, production from
our CBM gas wells, if any, will decline over time, and does not indicate any
consistent level of future production.
 
 We may suffer losses or incur
liability for events for which the operator of a property or we have chosen not to
obtain insurance.
 
 Our
operations are subject to hazards and risks inherent in producing and
transporting oil and natural gas, such as fires, natural disasters, explosions,
pipeline ruptures, spills, and acts of terrorism, all of which can result in the
loss of hydrocarbons, environmental pollution, personal injury claims and other
damage to our properties and others. The occurrence of any of these events could
result in the following:
 
 ·
              Substantial
      losses due to injury and loss of
life;
 ·
              Severe
      damage to and destruction of property, natural resources and
      equipment;
 ·
              Pollution
      and other environmental damage;
 ·
              Clean-up
      responsibilities; and
 ·
              Regulatory
      investigation and penalties and suspension of
  operations.
 
 As
protection against operating hazards, we maintain insurance coverage against
some, but not all, potential losses. In addition, we believe any operators of
properties in which we have or may acquire an interest will maintain similar
insurance coverage. The occurrence of an event that is not covered, or not fully
covered, by insurance could have a material adverse effect on our business,
financial condition and results of operations.
 
 Environmental hazards and liabilities
may adversely affect us and result in liability.
 
 There are
numerous natural hazards involved in the drilling of CBM wells, including
unexpected or unusual formations, pressures, and blowouts and involving possible
damages to property and third parties, surface damages, bodily injuries, damage
to and loss of equipment, reservoir damage and loss of reserves. We could also
be liable for environmental damages caused by previous property owners. As a
result, substantial liabilities to third parties or governmental entities may be
incurred which could have a material adverse effect on our financial condition
and results of operations.
 
 We
maintain insurance coverage for our operations in amounts we deem appropriate,
but we do not believe that insurance coverage for environmental damages that
occur over time, or complete coverage for sudden and accidental environmental
damages, is available at a reasonable cost. Accordingly, we may be subject to
liability or may lose the privilege to continue exploration or production
activities upon substantial portions of our properties if certain
 17
 Table of Contents
  We face substantial governmental
regulation and environmental risks.
 
 Our
business is subject to various laws and regulations that may be changed from
time to time in response to economic or political conditions. Matters subject to
regulation include the following:
 
 ·
              Discharge
      permits for drilling operations;
 ·
              Drilling
      bonds;
 ·
              Reports
      concerning operations;
 ·
              The
      spacing of wells;
 ·
              Unitization
      and pooling of properties;
 ·
              Taxation;
      and
 ·
              Environmental
      protection.
 
 Regulatory
agencies may also impose price controls and limitations on production by
restricting the rate of flow of oil and gas wells below actual production
capacity in order to conserve oil and gas.
 
 We are subject to environmental
regulation that can materially adversely affect the timing and cost of our
operations.
 
 Our
exploration and proposed production activities are subject to certain laws and
regulations relating to environmental quality and pollution control. Our
operations in China are governed by production sharing contracts between CUCBM
and us and the Shanxi farmout agreements. We are subject to the laws, decrees,
regulations and standards on environmental protection and safety promulgated by
the Chinese government. Various government laws and regulations concerning the
discharge of incidental materials into the environment, the generation, storage,
transportation and disposal of waste or otherwise relating to the protection of
public health, natural resources, wildlife and the environment, affect our
current exploration efforts and future development, processing and production
operations and the costs related to them. These regulations require us to obtain
environmental permits to conduct seismic acquisition, drilling or construction
activities. Such regulations also typically include requirements to develop
emergency response plans, waste management plans, environmental plans and spill
contingency plans.
 
 Existing
environmental laws and regulations may be revised or new laws and regulations
may be adopted or become applicable to us. Revised or additional laws and
regulations that result in increased compliance costs or additional operating
restrictions, particularly if those costs are not fully recoverable from
insurance or our customers, could have a material adverse effect on our
business, financial condition or results of operations.
 
 The
unavailability or high cost of drilling rigs, equipment, supplies, personnel and
oil field services could adversely affect our ability to execute our exploration
and exploitation plans on a timely basis and within our budget.
 
 Shortages
or the high costs of drilling rigs, equipment, supplies or personnel could delay
or adversely affect our exploration and exploitation operations, which could
have a material adverse effect on our business, financial condition or results
of operations.  If the unavailability or high cost of rigs, equipment,
supplies or personnel were particularly severe in China, we could be materially
and adversely affected.
  Risks
Relating to our Securities
 
 We
have registered on registration statements a substantial amount of our
outstanding shares of common stock and shares of common stock underlying
warrants and options on registration statements and shares of our common stock
that cannot currently be traded without restriction that may become eligible for
trading in the future.  We cannot predict the effect future sales of
our common stock will have on the market price of our common stock.
 18
 Table of Contents
  On
December 31, 2007, we had 500 million shares of common stock authorized, of
which 137.0 million shares of common stock were issued and
outstanding.  We also have 14.3 million shares of common stock subject
to options and warrants.  Of the issued and outstanding shares, 30.3
million, or 22.1%, were "restricted stock" subject to resale restrictions.
Additionally, 1.6 million shares underlying options and warrants will be
restricted stock upon issuance.  Our shares of restricted stock will
be available for trading in the future, so long as all the requirements of Rule
144, promulgated under the Securities Act are met.
 
 We cannot
predict the effect, if any, that future sales of our common stock will have on
the market price of our common stock prevailing from time to time. Sales of
substantial amounts of common stock, such as the outstanding securities
registered pursuant to the registration statements, or the perception that such
sales could occur, may adversely affect prevailing market prices for our common
stock.
 
 We do not currently intend to pay
dividends on our common
stock.
 
 We
currently intend to retain any profits to fund the development and growth of our
business. As a result, we have not paid dividends on our common stock and our
board of directors currently does not intend to declare dividends or make any
other distributions on our common stock in the foreseeable future. Consequently,
it is uncertain when, if ever, we will declare dividends to our common
stockholders.  Investors in our common stock may not derive any
profits from their investment in us for the foreseeable future, other than
through any price appreciation of our common stock that may occur.
 
 The price of our common stock could
be volatile.
 
 The
market price of our common stock will likely fluctuate significantly in response
to the following factors, some of which are beyond our control:
 
  ·
              Variations
      in our quarterly operating results;·
              Changes
      in market valuations of oil and gas
companies;
 ·
              Announcements
      by us of significant contracts, acquisitions, strategic partnerships,
      joint ventures or capital
commitments;
 ·
              Additions
      or departures of key personnel;
 ·
              Future
      sales of our common stock;
 ·
              Stock
      market price and volume fluctuations attributable to inconsistent trading
      volume levels of our common stock; and·
              Commencement
      of or involvement in litigation.
  
 In
addition, the trading volume of our common stock is relatively small, and the
market for our common stock may not be able to efficiently accommodate
significant trades on any given day. As a result, sizable trades of our common
stock may cause volatility in the market price of our common stock to a greater
extent than in more actively traded securities. These broad fluctuations may
adversely affect the market price of our common stock.
 
 Trading
in our common stock is limited and sporadic, and a significant market for our
common stock may not develop.
 
 Our
common stock is currently eligible for trading only on the OTC Bulletin
Board.  While there currently exists a limited and sporadic public
trading market for our common stock, the price paid for our common stock and the
amount of common stock traded are volatile.  We cannot assure or
guarantee you that the trading market for our common stock will improve or
develop further, and as a result, the liquidity of our common stock may be
reduced and you may not recover any of your investment.
  19
 Table of Contents
 
 We may issue our capital stock
without the consent of stockholders. The issuance of any additional equity
securities would further dilute our stockholders.
 
 Our board
of directors has the authority, without further action by the stockholders, to
issue up to 500.0 million shares of preferred stock in one or more series and to
designate the rights, preferences, privileges and restrictions of each series.
We also have 500.0 million shares of common stock authorized under our charter
documents, of which approximately 137.0 million shares are issued and
outstanding as of December 31, 2007. The issuance of preferred stock could
have the effect of restricting dividends on the common stock or delaying or
preventing our change in control without further action by the stockholders.
While we have no present plans to issue any shares of preferred stock, we may
need to do so in the future in connection with capital raising transactions. In
addition, we may issue additional shares of common stock in connection with
capital raising activities. The issuance of additional common stock would also
have a dilutive impact on our stockholders’ ownership interest in our
company.
 
 
 ITEM1B.  UNRESOLVED STAFF COMMENTS
 
 None.
 
 ITEM2. PROPERTIES
 
 Undeveloped
Lease Acreage
 
 As of
December 31, 2007, we owned leasehold interests in China and had rights under
production sharing contracts covering the following undeveloped lease
acreage.
 
 Net
      AcresGross
      Acres
              
              
              Maximum
              
              
              MinimumChina:Qinnan
      and Shouyang Blocks, Shanxi Province
              
              
              1,058,000
              
              
              
              1,021,000
              
              
              
              704,000Enhong
      and Laochang Areas, Yunnan Province
              
              
              265,000
              
              
              
              265,000
              
              
              
              159,000
 
 For
further discussion of our interests in these properties, see the discussion of
our production sharing contracts and farmout agreements under "Our Holdings in
the Shanxi Province of the People’s Republic of China" and "Our Holdings in the
Yunnan Province of the People’s Republic of China" contained in Item 1,
Business.
 
 Other
Properties
 
 Our
principal office is located at 363 N. Sam Houston Parkway East, Suite 380,
Houston, Texas 77060. The principal office consists of approximately 5,770
square feet under lease at December 31, 2007.  We also maintain
offices under lease in the following cities of the People’s Republic of
China:  Beijing, Taiyuan, and Kunming.
  ITEM3. LEGAL PROCEEDINGS
 
 We have
no knowledge of any pending or threatened material litigation, settlement of
litigation, or other material claim involving us.
  20
 Table of Contents
  
 ITEM4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY
HOLDERS
 
 We held
our annual meeting of stockholders in Houston, Texas on December 7, 2007 for the
purposes of electing our Board and amending the 2005 Stock Incentive Plan (the
"2005 Plan").  Proxies for the meeting were solicited pursuant to
Section 14(a) of the Securities Exchange Act of 1934, and there was no
solicitation in opposition to management's solicitations.
 
 (1) Each
of the directors nominated by the Board and listed in the proxy statement was
elected with votes as follows:
 
 Nominee
              
              For
              
              WithheldThomas
      E. Williams
              
              73,988,498
              
              4,130,273Michael
      R. McElwrath
              
              75,179,878
              
              2,938,893William
      A. Anderson
              
              75,210,928
              
              2,907,843C.P.
      Chiang
              
              75,213,878
              
              2,904,893Donald
      A. Juckett
              
              75,214,278
              
              2,904,493John
      C. Mihm
              
              75,199,278
              
              2,919,493
 
 There
were no abstentions or broker non-votes with respect to the matters voted on at
the annual meeting.
 
 (2) The
amendments to the 2005 Plan to add 4,000,000 shares of common stock to the 2005
Plan, to increase the number of shares of common stock that may be granted as
restricted stock, restricted stock units or other stock based awards from
900,000 to 2,400,000 shares and to provide that no repricing of awards under the
2005 Plan can be affected without stockholder approval were approved by the
following vote: 47,296,806 shares for; 3,249,782 shares against; and 274,479
shares abstaining.  For purposes of the amendments, "repricing" means
any of the following or any other action that has the same purpose and effect:
(a) lowering the exercise price of an outstanding Option granted under the 2005
Plan after it is granted or (b) canceling an outstanding award granted under the
2005 Plan at a time when its exercise or purchase price exceeds the then fair
market value of the stock underlying such outstanding award, in exchange for
another award or a cash payment, unless the cancellation and exchange occurs in
connection with a merger, consolidation, sale of substantially all of the
Company's assets, acquisition, spin-off or  other similar corporate
transactions.
  21
 Table of Contents
  PART
II
 
 ITEM5. MARKET FOR
THE REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY
SECURITIES
 
 Common
Stock
 
 Our
common stock is not listed for trading on a registered exchange. Shares of our
common stock are traded over the counter and quoted on the OTC Bulletin Board
under the symbol "FEEC." The OTC Bulletin Board provides information to
professional market makers who match sellers with buyers. The high and low bid
quotations of our common stock presented below includes intra-day trading
prices. These quotations represent inter-dealer prices, without retail mark-up,
mark-down, or commissions, and may not represent actual
transactions.
 
 High
              
              
              Low2007First
      Quarter
              
              $
              1.18
              
              
              $
              0.75Second
      Quarter
              
              $
              1.92
              
              
              $
              0.81Third
      Quarter
              
              $
              1.68
              
              
              $
              1.02Fourth
      Quarter
              
              $
              1.50
              
              
              $
              0.842006First
      Quarter
              
              $
              2.32
              
              
              $
              1.21Second
      Quarter
              
              $
              2.45
              
              
              $
              1.42Third
      Quarter
              
              $
              1.70
              
              
              $
              1.07Fourth
      Quarter
              
              $
              1.28
              
              
              $
              0.75
 
 On
February 18, 2008, we had 137,458,794 shares of common stock outstanding. There
were approximately 120 stockholders of record as of February 18,
2008.  There are an estimated 2,700 beneficial owners of our common
stock, including shares held in street name.
 
 We
currently intend to retain all future earnings to fund the development and
growth of our business. We have not paid dividends on our common stock and do
not anticipate paying cash dividends in the immediate future. We did not
repurchase any of our equity securities in 2007 and have not adopted a stock
repurchase program.
  22
 Table of Contents
  Stock
Performance Graph
 
 The
following graph compares the performance of the Company’s common stock with that
of the S&P 500 Index and the Dow Jones U.S. Exploration & Production
Index. The graph sets forth the cumulative total stockholder return, which
assumes reinvestment of dividends, of a $100 investment on December 31, 2002 in
the Company’s common stock, the S&P Composite Index and the Dow Jones
Industry Index.
  
  Cumulative
      Total Return12/31/02
              
              
              12/31/03
              
              
              12/31/04
              
              
              12/31/05
              
              
              12/31/06
              
              
              12/31/07Far
      East Energy Corporation
              
              $
              100.00
              
              
              $
              78.10
              
              
              $
              29.05
              
              
              $
              32.38
              
              
              $
              21.67
              
              
              $
              22.86S&P
      Composite
              
              
              100.00
              
              
              
              128.68
              
              
              
              142.69
              
              
              
              149.70
              
              
              
              173.34
              
              
              
              182.87Dow
      Jones U.S. Oil & Exploration
              
              
              100.00
              
              
              
              132.89
              
              
              
              185.94
              
              
              
              307.40
              
              
              
              323.91
              
              
              
              465.35
 
 The
information included under this section entitled "Stock Performance Graph" is
deemed not to be "soliciting material" or "filed" with the SEC, is not subject
to the liabilities of Section 18 of the Exchange Act, and shall not be deemed
incorporated by reference into any of the filings previously made or made in the
future by our company under the Exchange Act or the Securities Act of 1933, as
amended ("Securities Act"), except to the extent the Company specifically
incorporates any such information into a document that is filed.
 
 Recent
Sales of Unregistered Securities
 
 We issued
a total of 55,000 shares of our common stock in 2007 and 10,000 shares of our
common stock subsequent to December 31, 2007 through the date of this report, to
a consultant in consideration for investor relations services during the
periods. The securities, which were taken for investment purpose and were
subject to appropriate transfer restrictions, were issued without registration
under the Securities Act in reliance upon the exemption provided in Section 4(2)
of the Securities Act.
  23
 Table of Contents
  ITEM6. SELECTED FINANCIAL DATA
 
 The
following selected financial data should be read in conjunction with the
consolidated financial statements and supplementary information included in Item
8, Financial Statements and Supplementary Data.
 
 As
      of and for the Years Ended December 31,2007
              
              
              2006(1)
              
              
              2005
              
              
              2004
              
              
              2003Operating
      Results DataOperating
      revenues
              
              $
              -
              
              
              $
              -
              
              
              $
              -
              
              
              $
              -
              
              
              $
              -Operating
      expenses:Exploration
      costs
              
              
              3,345,000
              
              
              
              1,914,000
              
              
              
              3,510,000
              
              
              
              2,069,000
              
              
              
              516,000Leasehold
      operating expense
              
              
              1,945,000
              
              
              
              958,000
              
              
              
              -
              
              
              
              -
              
              
              
              -General
      and administrative
              
              
              7,230,000
              
              
              
              7,903,000
              
              
              
              5,052,000
              
              
              
              5,470,000
              
              
              
              3,129,000Impairment
      loss
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              450,000
              
              
              
              3,328,000Amortization
      of contract rights
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              23,000
              
              
              
              58,000Loss
      on investment in joint venture
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              22,000Total
      operating expenses
              
              
              12,520,000
              
              
              
              10,775,000
              
              
              
              8,562,000
              
              
              
              8,012,000
              
              
              
              7,053,000Operating
      loss
              
              
              (12,520,000
              )
              
              
              (10,775,000
              )
              
              
              (8,562,000
              )
              
              
              (8,012,000
              )
              
              
              (7,053,000
              )Other
      income (expense):Interest
      expense
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (9,000
              )
              
              
              (168,000
              )Interest
      income
              
              
              721,000
              
              
              
              560,000
              
              
              
              293,000
              
              
              
              17,000
              
              
              
              6,000Gain
      on sale of assets
              
              
              -
              
              
              
              -
              
              
              
              8,000
              
              
              
              -
              
              
              
              -Foreign
      currency exchange loss
              
              
              (50,000
              )
              
              
              (128,000
              )
              
              
              (31,000
              )
              
              
              -
              
              
              
              (2,000
              )Total
      other income (expense)
              
              
              671,000
              
              
              
              432,000
              
              
              
              270,000
              
              
              
              8,000
              
              
              
              (164,000
              )Loss
      before income taxes
              
              
              (11,849,000
              )
              
              
              (10,343,000
              )
              
              
              (8,292,000
              )
              
              
              (8,004,000
              )
              
              
              (7,217,000
              )Income
      taxes
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -Net
      loss
              
              $
              (11,849,000
              )
              
              $
              (10,343,000
              )
              
              $
              (8,292,000
              )
              
              $
              (8,004,000
              )
              
              $
              (7,217,000
              )Earnings
      per share: Basic and diluted
              
              $
              (0.09
              )
              
              $
              (0.10
              )
              
              $
              (0.10
              )
              
              $
              (0.13
              )
              
              $
              (0.14
              )Financial
      Position DataTotal
      assets
              
              $
              49,793,000
              
              
              $
              45,654,000
              
              
              $
              27,011,000
              
              
              $
              15,413,000
              
              
              $
              4,614,000Total
      liabilities
              
              
              3,298,000
              
              
              
              3,943,000
              
              
              
              2,830,000
              
              
              
              940,000
              
              
              
              870,000Stockholders'
      equity
              
              
              46,495,000
              
              
              
              41,711,000
              
              
              
              24,181,000
              
              
              
              14,473,000
              
              
              
              3,744,000
 
 (1)
During the fourth quarter of 2006, we determined that the functional currency
for our Chinese operations for 2006 and prior reporting periods included in this
Annual Report on Form 10-K was U.S. Dollars, instead of the Chinese Yuan as
previously reported and utilized (see "Foreign Currency Transactions" in Note 1
to the consolidated financial statements).
  24
 Table of Contents
  ITEM7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF
OPERATIONS
 
 The following discussion and
analysis of our financial condition and results of operations should be read
in conjunction with our audited consolidated financial statements
and related notes and all of the other information contained elsewhere in
this report.  The terms "we,"
"us," "our" and "our company" refer to Far East Energy
Corporation.
 
 Overview
 
 We are a
development stage company, and our objective is to become a recognized leader in
CBM property acquisition, exploration, development and production. In 2007, we
continued our primary activities of drilling, testing and completion of
exploratory wells, which we commenced in late 2003.  Our activities
prior to 2003 were principally limited to organizational activities,
including developing a strategic operating plan, capital funding, hiring
personnel, entering into contracts, and acquiring rights to explore, develop,
produce and sell oil and gas or CBM.
  During
2007, we continued our efforts of CBM exploration and development in the
Shouyang and Qinnan Blocks of the Shanxi Province in northern People’s Republic
of China ("PRC" or "China") and in the Enhong and Laochang areas of the Yunnan
Province in southern China.  During 2007, we incurred total
exploratory expenditures of $10.8 million, of which $7.7 million was
capitalized.  For further information concerning our incurred
exploratory costs, see "Capital Resources and Liquidity – Total Exploration
Expenditures" below.
 
 In the
Shouyang Block of the Shanxi Province, we completed a horizontal well, FCC-HZ05,
in the first quarter of 2007.  We extended the horizontal reach in the
coal seam of FCC-HZ03 by drilling the well laterally in the second quarter of
2007.  Also, during the second quarter of 2007, we drilled an
underbalanced vertical well, FCC-HZ06V, and cavitated the well bore in the coal
to accelerate the dewatering process.  In the fourth quarter of 2007,
we drilled two vertical wells, FCC-HZ07V and FCC-HZ08V and began drilling two
other vertical wells, FCC-HZ10V and FCC-HZ15V.  We also entered into a
multi-well drilling contract. We plan to drill five additional vertical wells
during 2008 in a pattern that represents an orderly progression of the field in
a westerly direction using two drilling rigs simultaneously.
 
 In the
Qinnan Block of the Shanxi Province, we processed the test data from a vertical
well we drilled in December 2006 in the first quarter of 2007.  In
June 2007, we entered into a turnkey contract with a Chinese drilling company to
drill a horizontal well for $1.2 million.  The plan for the well was
to achieve a horizontal reach in the coal of approximately 3,000 meters (9,800
feet).  The drilling company encountered serious drilling
difficulties and was unable to complete the well program as specified at
year-end.  We are not liable for payment of the cost of this well
until the drilling company meets its obligations under the
contract.  As such, there is no current accrual for the contracted
amount in our financial statements.  Drilling operations are
continuing, but we cannot predict when or if the drilling company will be able
to successfully drill the well.
 
 In the
Enhong and Laochang areas of the Yunnan Province, we continued our geological
and geophysical activities and drilling of slim hole vertical wells to gain more
data and to enhance our understanding of structure complexity, coal lateral
continuity, coal properties and reservoir characteristics.  To date,
we have drilled eight vertical wells with the most recent one completed in
December 2007.  We are reviewing the data collected from these wells and
other wells drilled by the Chinese coal industry.  Based on the data
gathered, we plan to drill a  cluster of four deviated wells to
stimulate and test-produce the major coal seams in 2008.
 
 Although
we believe the results of our exploration activities in the Yunnan and Shanxi
Provinces have been favorable, we may need to complete several more wells to
achieve commercial viability in these provinces, which will require significant
capital expenditures.  The Shanxi Province is currently constructing
an intra-provincial pipeline network.  One branch of that network is
currently planned to be constructed across or directly adjacent to our current
area of drilling in the northern portion of the Shouyang Block.  No
condensed natural gas ("CNG") facility, liquefied natural gas ("LNG") plant or
other off-take candidate currently exists near our Shanxi Province projects, and
pipelines may need to be built on those projects to connect to larger pipelines
to transport any CBM that may be produced from those projects. No gas pipeline,
CNG facility, LNG plant, or other off-take candidate
 25
 Table of Contents
 
 In August
2007, we entered into a stock subscription agreement with International Finance
Corporation ("IFC") pursuant to which we issued to IFC 11,485,452 shares of our
common stock, for aggregate gross proceeds to us of $15 million.  In
conjunction with the transaction, we also issued to IFC warrants for the
purchase of 4,019,908 shares of common stock at an exercise price of $2.61 per
share.  No placement agent fee, finder fee or commission was paid in
conjunction with the sale of the common stock or the warrants to
IFC.  Legal expenses and other direct costs related to the transaction
totaled $186,000.
 
 We have
not recognized any revenues from our operations and are not able to accurately
predict when we will recognize meaningful revenues. We incurred a net loss of
approximately $11.8 million for the year ended December 31, 2007, and we expect
to incur losses and negative cash flows for the foreseeable future. As we are a
development stage company concentrating on exploration and development of CBM,
our expenditures primarily consist of geological and engineering services and
drilling costs. Our expenses also consist of consulting and professional
services, compensation, legal and accounting and general and administrative
expenses.
 For 2008,
we plan to at least fulfill all of our minimum requirements, including but not
limited to, work programs and minimum expenditure requirements arising under our
PSCs.  We also anticipate expanding our 2008 capital and related
expenditures, depending on the timing of our fundraising efforts and/or
whether results from our current exploratory activities indicate that it is
beneficial for us to incur the additional expenditures.  Based on
funds currently available to us, we believe that we have adequate cash resources
to fund our operations and minimum contractual exploration and development
obligations in China through the fourth quarter of 2008.  We will
require resources to fund significant capital expenditures for exploration and
development activities and to fund operating expenses in future periods beyond
2008. As we do not have a source of revenue, we will require additional
financing in order to continue our exploration and development in the PRC and
sustain our operating losses. We intend to finance our operations by various
methods, which might include issuing equity securities, the continued exercise
of warrants issued to investors in conjunction with previously completed private
offerings, entering into farmout agreements and other arrangements with
strategic partners, and debt financing, among other alternatives.  As
of February 18, 2008, the amount available under our filed registration
statement with the SEC for the offer and sale from time to time of our debt
securities, preferred stock and/or common stock totaled $107.5
million.  If we fail to raise the necessary funds to complete our
exploration activities and we cannot obtain any required extensions to the
requirements under our PSCs, we would not be able to successfully complete our
exploration activities, and we may lose rights under our PSCs.
 
 
 Results
of Operations
 
 Year
Ended 2007 compared to Year Ended 2006
 
 Increase
              
              
              %2007
              
              
              2006
              
              
              (Decrease)
              
              
              ChangeExploration
      costs
              
              $
              3,345,000
              
              
              $
              1,914,000
              
              
              $
              1,431,000
              
              
              
              75
              %Lease
      operating expense
              
              
              1,945,000
              
              
              
              958,000
              
              
              
              987,000
              
              
              
              103
              %General
      and administrative
              
              
              7,230,000
              
              
              
              7,903,000
              
              
              
              (673,000
              )
              
              
              -9
              %Total
              
              $
              12,520,000
              
              
              $
              10,775,000
              
              
              $
              1,745,000
              
              
              
              16
              %
 
 Oil and
gas exploration costs, other than the costs of drilling exploratory wells, are
charged to expense as incurred. The costs of drilling exploratory wells are
capitalized pending determination of whether they have discovered proved
commercial reserves (see "Capital Resources and Liquidity - Exploratory Costs
Incurred" below).  Expensed exploration costs for 2007 was higher than
2006 primarily due to the expensing of exploration permit fees and inclusion of
certain general and administrative expenses, which were identified as directly
related to exploratory activities.
  26
 Table of Contents
 
 LOE for
2007 comprised of expenses pertained to the dewatering efforts of four
horizontal wells and a vertical well in the Shouyang Block in the Shanxi
Province, which presently have small sustained gas flows.  The
production is currently small and the data obtained is not yet sufficient to
project peak gas production.  Recording of these costs related to the
first two of the four horizontal wells as LOE began in July and October 2006,
respectively.  Recording of these costs related to the last two of the
four horizontal wells and the vertical well as LOE began in May 2007 and August
2007, respectively.  LOE for 2007 increased due primarily to the
additional costs as a result of dewatering five wells in 2007 versus two in
2006.
 
 General
and administrative expenses for 2007 decreased primarily due to lower
share-based compensation amortization as grants awarded in the first half of
2004 were completely amortized by the end of the second quarter of 2007 and the
absence of costs incurred related to the proxy contest which began in late third
quarter of 2006.  The decrease was partially offset by salary
adjustments effective in the first quarter of 2007 and higher professional
service fees and costs related to additional employees in China to support
expanded operations.
  Year
Ended 2006 compared to Year Ended 2005
 
 Increase
              
              
              %2006
              
              
              2005
              
              
              (Decrease)
              
              
              ChangeExploration
      costs
              
              $
              1,914,000
              
              
              $
              3,510,000
              
              
              $
              (1,596,000
              )
              
              
              -45
              %Lease
      operating expense
              
              
              958,000
              
              
              
              -
              
              
              
              958,000
              
              
              
              n/aGeneral
      and administrative
              
              
              7,903,000
              
              
              
              5,052,000
              
              
              
              2,851,000
              
              
              
              56
              %Total
              
              $
              10,775,000
              
              
              $
              8,562,000
              
              
              $
              2,213,000
              
              
              
              26
              %
 
 Exploration
costs consist primarily of the write-off of drilling and exploration costs
previously capitalized. Accounting for such write-off’s is determined by
Statement of Financial Accounting Standards (SFAS) No. 19, Financial Accounting and Reporting
by Oil and Gas Producing Entities and Financial Accounting Standards
Board Staff Position (FSP) No. 19-1, Accounting for Suspended Well
Cost,which
require that wells be expensed unless a sufficient quantity of reserves has been
located to justify the well’s completion, and the enterprise is making
sufficient progress assessing the reserves.  For further discussion of
our accounting policies, see "Critical Accounting Policies—Accounting for Oil
and Gas Properties" below.  The higher exploration costs for 2005 were
primarily attributable to the expense in 2005 of drilling and fracture costs of
$2,335,000 that were capitalized in 2004. Comparable write-off’s in 2006 totaled
$559,000, and included trailing costs for the wells identified for write-off in
2005, as well as $451,000 expensed for the Yunnan FCY-LC04 and FCY-LC05
wells.  These Yunnan Province wells were two slim hole wells drilled
for informational purposes, which we do not expect to develop
further.  The increase was also due to higher geologic and engineering
services as a result of seismic surveying and geological costs in the Shanxi and
Yunnan Provinces from increased exploration activity in 2006, which we expect to
continue to increase in subsequent periods as additional exploration activity
occurs.  This increase is partially due to the acquisition of 25
kilometers of 2D seismic information in the Qinnan Block.
  Lease
operating costs for 2006 included production costs related to the first and
third horizontal wells in the Shouyang Block in the Shanxi Province, which have
achieved continuous production, and workover costs related to the first
horizontal well.  The workover has been completed, and the well has
returned to continuous production, although the production is small and the data
obtained is not yet sufficient to project peak gas production. We expect
additional lease operating costs as the second horizontal well is expected to be
worked over and as work to achieve continuous production for additional wells
progresses.
 
 General
and Administrative expenses increased in 2006 compared to 2005 due primarily to
expenses related to the proxy contest in late 2006, higher consultant expenses
related to operations planning for PRC project development and compensation
expense.  Compensation expense increased primarily due to the adoption
of SFAS No. 123 (Revised 2004), Share-Based Payment(SFAS No.
123(R)) in 2006, which requires that we measure the compensation expense for
options awarded to our board of directors and employees at the grant date and
recognize the expense over the period that the compensation is
earned.  Prior to our adoption of  SFAS No. 123(R), we
accounted for our options awarded to employees and members of our board of
directors under Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to
Employees, and recognized expense to the extent that the exercise price
of the option was less than the market price on the date of
grant.  Cash compensation increased due
 27
 Table of Contents
 
 Interest
income increased in 2006 compared to 2005 primarily as a result of increased
cash balances available for investment and higher interest rates in
2006.
 
 Capital
Resources and Liquidity
 
 We have
no source of revenue or cash flow from operations, and our primary source of
cash flow has been cash proceeds from private placements of our common stock and
warrants to purchase our common stock, exercise of warrants and options to
purchase our common stock and, in 2005, the sale of our Montana properties. Our
principal requirements for cash are exploration and development of our CBM
properties in China. Based on funds currently available to us, we believe that
we have adequate cash resources to fund our required operations and exploration
and development operations in China through the fourth quarter of
2008.  However, to continue to operate and explore and develop our
projects in China, we will need to raise additional funds by the first quarter
of 2009.
 
 Exploratory Costs
Incurred
 The table
below sets out components of costs incurred related to our exploratory
activities in China:
 February
      4, 2000Year
      ended December 31,
              
              
              (Inception)
      through2007
              
              
              2006
              
              
              December
      31, 2007Additions
      to Unproved Oil and Gas PropertiesShanxi
      Province
              
              $
              7,326,000
              
              
              $
              14,745,000
              
              
              $
              31,347,000Yunnan
      Province
              
              
              331,000
              
              
              
              93,000
              
              
              
              548,0007,657,000
              
              
              
              14,838,000
              
              
              
              31,895,000Exploration
      Expenditures
              
              
              3,188,000
              
              
              
              1,650,000
              
              
              
              11,735,000Total
      Cost Incurred Related to Exploratory Activities
              
              $
              10,845,000
              
              
              $
              16,488,000
              
              
              $
              43,630,000
 Exploration
Expenditures shown in the above table differ from Exploration Costs in our
Consolidated Statements of Operations.  Exploration Expenditures in
the table represent costs incurred during the current period
only.  Exploration Costs include prior periods’ costs charged to
expense during the current period.  Oil and gas exploration costs,
other than the costs of drilling exploratory wells, are charged to expense as
incurred. The costs of drilling exploratory wells are capitalized pending
determination of whether they have discovered proved commercial
reserves.  We assess our capitalized exploratory well costs each
quarter to determine whether costs should remain capitalized or should be
charged to earnings. Our assessment indicated that our current work programs
demonstrated our efforts in making sufficient continuing progress toward
assessing the reserves. Therefore, we have continued to capitalize these
costs.  As of December 31, 2007, we had exploratory drilling costs
that have been deferred for more than one year (see Note 5 to the Consolidated
Financial Statements).
 
 Cash
flow
 
 As of
December 31, 2007, 2006 and 2005, cash and cash equivalents were $16,906,000,
$20,501,000 and $14,631,000, respectively.
 
 Cash used
in operating activities for 2007 was $10,783,000 as compared to $6,495,000 for
2006 and $4,229,000 for 2005.  We generated no revenue in each of
those years. The increase in cash used in operating activities in 2007 was due
primarily to increased exploration costs and operating expenses and a decrease
in total accounts payable and accrued liabilities.  Operating expenses
increased due to our dewatering efforts of four horizontal wells and a vertical
well, as compared to dewatering efforts of two horizontal wells in
2006.  The increase in cash used in operating activities in 2006, as
compared to 2005, was due to increased operations activities and the cost of the
proxy contest in late 2006.  In 2005, the reduction in cash used in
operating activities was due to the reduction in
 28
 Table of Contents
 
 Cash used
in investing activities for 2007 was $8,055,000 as compared to $13,611,000 for
2006 and $10,078,000 for 2005.  In 2007, cash used in investing
activities was lower than a year ago due primarily to drilling of one horizontal
well, as compared to three in 2006.  In 2006, cash used in investing
activities included $14,861,000, offset by return of an escrow of
$1,250,000.  The increase in cash used in investing activities in
2006, as compared to 2005, was due to increased drilling and testing projects,
including completion of the drilling of our second horizontal well, the drilling
and completion of two additional horizontal wells, and the initial drilling
process for the fifth horizontal well in the Shouyang Block of the Shanxi
project.  In 2005, expenditures related to drilling and testing one
horizontal well and continuing to drill an additional horizontal well in the
Shanxi Province totaled $10,606,000.  Additionally, in 2005, in
conjunction with the sale of our Montana properties, we purchased $100,000 of
overriding royalty interests, which we included in the sale of our Montana
properties for gross proceeds of approximately $1,135,000.  During
2005, we deposited an additional $250,000 in escrow with a vendor in conjunction
with the drilling of the Shanxi horizontal wells.
  Cash
provided by financing activities for 2007 was $15,243,000, as compared to
$26,068,000 for 2006 and $17,424,000 for 2005.  Cash provided by
financing activities for 2007 comprised of net proceeds from the aforementioned
stock subscription agreement with IFC of $14,814,000 and proceeds from exercise
of options to purchase our common stock of $429,000.  The increase in
cash provided by financing activities in 2006 was generated by the private
placement and public offering of our common stock, as well as proceeds from the
exercise of warrants for previously completed equity offerings and from the
exercise of options to purchase our common stock. The increase in cash provided
by financing activities in 2005 reflects proceeds from the private placement of
our common stock and warrants to purchase our common stock as well as the
exercise of warrants from previously completed equity offerings. Net proceeds
from the sale of our common stock and warrants were approximately $25.0 million
in 2006 and $12.7 million in 2005. Additionally, during 2006 and 2005,
respectively, we received approximately $784,000 and $4,549,000 upon the
exercise of warrants, and $331,000 and $156,000 upon the exercise of options to
purchase our common stock.
 
 Capital
Resources and Requirements
 
 Our board
of directors has the authority, without further action by the stockholders, to
issue up to 500 million shares of preferred stock in one or more series and to
designate the rights, preferences, privileges and restrictions of each series.
We also have 500 million shares of common stock authorized under our charter
documents, of which approximately 137.0 million shares were issued and
outstanding as of December 31, 2007. As of February 18, 2008, the amount
available under a filed registration statement with the SEC for the offer and
sale from time to time of our debt securities, preferred stock and/or common
stock totaled $107.5 million. The issuance of preferred stock could have the
effect of restricting dividends on the common stock or delaying or preventing
our change in control without further action by the stockholders. While we have
no present plans to issue any shares of preferred stock, we may need to do so in
the future in connection with capital raising transactions. In addition, we may
issue additional shares of common stock in connection with capital raising
activities. The issuance of additional common stock would also have a dilutive
impact on our stockholders’ ownership interest in our company.
 
 The
exploration and development of coalbed methane gas reserves requires substantial
capital expenditures. In order to reduce our investment in a particular project,
we may form joint ventures and seek joint venture partners to share the costs.
We incurred approximately $10.8 million of costs related to exploratory
activities during 2007.   For  2008, we plan to at
least fulfill all of our minimum requirements, including but not limited to,
work programs and minimum expenditure requirements arising under our
PSCs.  We also anticipate expanding our 2008 capital and related
expenditures, depending on the timing of our fundraising efforts and/or whether
results from our current exploratory activities indicate that it is beneficial
for us to incur the additional expenditures.  Based on funds currently
available to us, management believes that we have adequate cash resources to
fund our operations and minimum contractual exploration and development
operations in China through the fourth quarter of 2008.  If our
operating requirements differ materially from those currently planned, we may
require more financing than currently anticipated.
  29
 Table of Contents
 
 We will
also require resources to fund significant capital expenditures for exploration
and development activities and to fund operating expenses in future periods. We
are not able to accurately predict when we will recognize meaningful
revenues.  CBM projects traditionally require multiple wells to
properly dewater the coal and generate predictable volumes of gas. It is not yet
possible to predict volumes, so firm decisions about marketing the CBM cannot
yet be made. To generate revenue in China prior to the point at which production
reaches pipeline quantities, we may elect to install compressors and produce
CNG, which could be sold to local communities. We estimate that this alternative
would cost approximately $500,000 for a compressor facility which is capable of
processing 3.5 MMcf of natural gas per day. We could also elect to construct LNG
facilities on our properties. We estimate that a 100-ton per day LNG facility,
which would liquefy approximately five MMcf of gas per day, would cost
approximately $15 million to construct. We estimate that a 1,000-ton per day
facility capable of liquefying 50 MMcf of gas per day would cost approximately
$76 million.  Construction of a LNG facility is expected to take at
least two years.  The Shanxi Province is currently constructing an
intra-provincial pipeline network.  One branch of the network is
currently planned to be constructed across or directly adjacent to our current
area of drilling in the northern portion of the Shouyang Block. We may construct
pipelines to move CBM from our fields to either municipalities or other
pipelines. We estimate the initial cost to construct pipelines in the Yunnan
Province and Shanxi Province will total approximately $52 million.  If
CUCBM elects a 30% working interest in Shanxi and 40% working interest in Yunnan
our net costs would be approximately $33 million.  We are delaying any
decisions regarding the construction of CNG facilities, LNG facilities or
pipelines until such time as significant CBM volumes are achieved.  We
believe this delay may allow us to avoid construction costs to the extent other
entities or strategic partners have constructed, are constructing, or are
planning to construct, such facilities.
 We do not
currently have the funds to complete our current and proposed business
operations in China.  To develop our projects in China over the long
term, we need to obtain project funding to satisfy significant expenditures for
exploration and development of those projects, if they are successful. We intend
to obtain the funds for our planned exploration and development activities by
various methods, which might include the issuance of equity securities, issuance
of debt instruments, continued exercise of warrants issued to investors in
conjunction with the recently completed private offerings, obtaining farm-out
partners and the potential sale of property interests, among other alternatives.
No assurance can be given that we will be able to obtain any additional
financing on favorable terms, if at all. If our operating requirements vary
materially from those currently planned, we may require more financing than
currently anticipated. Borrowing money may involve pledging some or all or our
assets.  Raising additional funds by issuing common stock or other
types of equity securities would further dilute our existing
stockholders.  If we fail to raise the necessary funds to complete our
exploration activities and we cannot obtain any required extensions to the
requirements under our PSCs, we would not be able to successfully complete our
exploration activities and we may lose rights under our PSCs.
 
 Contractual
Obligations
 
 Obligations
under non-cancelable agreements at December 31, 2007 were as
follows:
 
 Payments
      Due by Period2014
      andTotal
              
              
              2008
              
              
              
              2009
      - 2011
              
              
              
              2012
      - 2013
              
              
              BeyondLong-Term
      Debt Obligations
              
              $
              -
              
              
              $
              -
              
              
              $
              -
              
              
              $
              -
              
              
              $
              -Capital
      Lease Obligations
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -Operating
      Lease Obligations(1)
              
              
              1,321,000
              
              
              
              385,000
              
              
              
              869,000
              
              
              
              67,000
              
              
              
              -Purchase
      Obligations(2)
              
              
              12,010,216
              
              
              
              7,835,143
              
              
              
              4,175,073
              
              
              
              -
              
              
              
              -Other
      Long-Term Liabilities Reflected on theRegistrant's
      Balance Sheet Under GAAP
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -Totals
              
              $
              13,331,216
              
              
              $
              8,220,143
              
              
              $
              5,044,073
              
              
              $
              67,000
              
              
              $
              -
 ____________
 
 (1)We enter into
operating leases in the normal course of business primarily for our office space
and equipment.
 (2)
We include in purchase obligations contractual agreements to purchase goods or
services that are legally enforceable and that specify all significant terms,
including fixed or minimum quantities, fixed, minimum or variable price
provisions and the approximate timing of the transaction. We have included our
obligations under the PSCs for the Yunnan Province project and Shanxi Province
project for which the amounts were specified in the contracts. We have elected
to enter into Phase II for the
 30
 Table of Contents
 
 Off-Balance
Sheet Arrangements
 
 As part
of our ongoing business, we do not participate in transactions that generate
relationships with unconsolidated entities or financial partnerships, such as
entities often referred to as structure finance or special purpose entities
(SPEs), which would have been established for the purpose of facilitating
off-balance sheet arrangements or other contractually narrow or limited
purposes. As of December 31, 2007, we were not involved in any unconsolidated
SPE transactions or any other form of off-balance sheet
arrangement.
 
 Critical
Accounting Policies
 
 Our
discussion and analysis of our financial condition and results of operations is
based on our consolidated financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United States.
The preparation of our consolidated financial statements requires us to make
estimates and assumptions that affect the reported amounts of assets,
liabilities, revenues and expenses. We consider an accounting estimate to be
critical if (1) it requires assumptions to be made that were uncertain at the
time the estimate was made; and (2) changes in the estimate or different
estimates that could have been selected could have a material impact on our
results of operations or financial condition.
 
 Management
has discussed the development and selection of its critical accounting policies
with our Audit Committee, and the Audit Committee has reviewed the disclosures
presented below relating to them.
 
 We
believe the following critical accounting policies reflect our significant
estimates and judgments used in the preparation of our financial
statements:
 
 Accounting for Oil and Gas
Properties.We use the successful efforts method of accounting for our
oil and gas properties. Under this method, oil and gas lease acquisition costs
and intangible drilling costs associated with exploration efforts that result in
the discovery of proved reserves and costs associated with development drilling,
whether or not successful, are capitalized when incurred. If proved commercial
reserves are not discovered, such drilling costs are expensed. In some
circumstances, it may be uncertain whether proved commercial reserves have been
found when drilling has been completed. Such exploratory well drilling costs may
continue to be capitalized if the reserve quantity is sufficient to justify its
completion as a producing well and sufficient progress in assessing the reserves
and the economic and operating viability of the project is being made. We assess
our capitalized exploratory wells pending evaluation each quarter to determine
whether costs should remain capitalized or should be charged to earnings. Other
exploration costs, including geological and geophysical costs, are expensed as
incurred. We recognize gains or losses on the sale of properties on a field
basis.
 
 The
application of the successful efforts method of accounting requires management’s
judgment to determine the proper designation of wells as either developmental or
exploratory, which will ultimately determine the proper accounting treatment of
the costs incurred. The results from a drilling operation can take considerable
time to analyze, and the determination that commercial reserves have been
discovered requires both judgment and application of industry experience.
Judgment is also required to determine whether to continue to capitalize the
cost of wells pending evaluation of whether proved commercial reserves have been
found.  Wells may be completed that are assumed to be productive and
actually deliver oil and gas in quantities insufficient to be economic, which
may result in the abandonment of the wells at a later date. Seismic costs
incurred to select development locations within a productive oil and gas field
are typically treated as development costs and capitalized. Judgment is required
to determine when the seismic programs are not within proved reserve areas and
therefore would be charged to expense as exploratory. The evaluation of oil and
gas leasehold acquisition costs requires management’s judgment to estimate the
fair value of exploratory costs related to drilling activity in a given
area.
 
 31
 Table of Contents
 The
successful efforts method of accounting can have a significant impact on the
operational results reported when we enter a new exploratory area in hopes of
finding oil and gas reserves. Seismic costs can be substantial which will result
in additional exploration expenses when incurred. The initial exploratory wells
may be unsuccessful and the associated costs will then be expensed and any
associated leasehold costs may be impaired. Coalbed methane wells require a
period of time to dewater the wells prior to testing and determining whether
proved reserves can be attributed to the well. The costs of wells which continue
to be capitalized pending evaluation of whether proved commercial reserves have
been found may ultimately be charged to expense.  Financial Accounting
Standards Board Staff Position No. 19-1, Accounting for Suspended Well
Costs, allows capitalization of costs to be continued beyond one year in
cases where reserves for the well are not yet proven, but the company
demonstrates sufficient continuing progress toward assessing those
reserves.
 Impairment of unproved oil and gas
properties.Unproved leasehold costs and exploratory drilling in progress
are capitalized and are reviewed periodically for impairment. Costs related to
impaired prospects or unsuccessful exploratory drilling are charged to expense.
The estimated fair value of unproved leasehold costs includes the present value
of probable reserves discounted at rates commensurate with the risks involved in
each classification of reserve. Our assessment of the results of exploration
activities, commodity price outlooks, planned future sales or expiration of all
or a portion of such leaseholds impacts the amount and timing of impairment
provisions. An impairment expense could result if oil and gas prices decline in
the future, as it may not be economic to develop some of these unproved
properties. As of December 31, 2007, we had total unproved oil and gas property
costs of approximately $31.9 million, consisting of undeveloped leasehold costs
of $0.4 million in China and unevaluated exploratory drilling costs of $31.5
million incurred in China.
 
 Estimates of future dismantlement,
restoration, and abandonment costs. The accounting for future development
and abandonment costs is determined by SFAS No. 143, Accounting for Asset Retirement
Obligations. SFAS No. 143 requires the fair value of a liability for an
asset retirement obligation to be recognized in the period in which it is
incurred if a reasonable estimate of fair value can be made. The associated
asset retirement costs are capitalized as part of the carrying amount of the
long-lived asset. The accrual is based on estimates of these costs for each of
our properties based upon the type of production structure, reservoir
characteristics, depth of the reservoir, market demand for equipment, currently
available procedures and consultations with construction and engineering
consultants. Because these costs typically extend many years into the future,
estimating these future costs is difficult and requires management to make
estimates and judgments that are subject to future revisions based on numerous
factors, including changing technology, the political and regulatory environment
and estimates as to the proper discount rate to use and timing of
abandonment.
 
 We have
drilled a small number of horizontal wells and vertical wells in the Shanxi
Province and Yunnan Province.  Phillips drilled three wells in the
Shanxi Province, which we acquired through our farmout agreements with
Phillips.  We will be required to plug and abandon those wells and
restore the well site upon completion of their production. Sufficient testing on
the wells has not been completed to determine the lives of these wells and
therefore we have insufficient information to determine the timing of the
obligations related to plugging, abandoning and restoring the site and cannot
determine the present value of the obligation. Due to the small number of wells,
we do not believe the obligation is material, and we will recognize the
liability when a reasonable estimate of fair value can be made. Therefore, there
is no provision in the accompanying consolidated financial
statements.
 
 Assessments of functional
currencies.  Periodically, we assess the functional currencies
of our Chinese subsidiaries to ensure that the appropriate currencies are
utilized in accordance with the guidance in SFAS No. 52, Foreign Currency
Translation.   We determine whether the U.S. or the
Chinese currency is the appropriate functional currency based on an assessment
of the economic and financing environments in which the Chinese subsidiary is
situated.  The assessment includes, among other factors, in what
currencies the financing and operating expenditures are denominated and whether
the subsidiary’s operations are sufficient to service additional
financings.  The assessment of functional currencies can have a
significant impact on periodic results of operations and financial
position.
 
 32
 Table of Contents
 Share-based Compensation.On
January 1, 2006, we adopted SFAS No. 123 (Revised 2004), Share-Based Payment(SFAS No.
123(R)) to account for stock options granted to our employees and members of our
board of directors.  We determine the fair value of the options
awarded using the Black Scholes option pricing model.  We determine
the expected lives based upon historical exercise rates, or if the options
awarded have characteristics that are dissimilar to our historical information,
we utilize the expected life calculation provided for under the Security and
Exchange Commission’s Staff Accounting Bulletin (SAB) 107 for "plain vanilla"
options as defined in the SAB.  We estimate volatility using the
historical daily price intervals for our common stock, unless the expected life
exceeds our available historical information.  We then use an average
of our historical volatility and volatility estimated for similar peer companies
for the remaining period.  We estimate forfeiture rates using
appropriate historical information and analyze our forfeiture rates quarterly to
determine if any revisions are necessary.  Our graded vesting options
are accounted for under the straight-line attribution
method.
   ITEM7A.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 
 In
addition to the U.S. dollar, we conduct our business in Chinese Yuan and
therefore are subject to foreign currency exchange risk on cash flows related to
expenses and investing transactions.  Prior to July 2005, the exchange
rate between U.S. Dollars and Chinese Yuan was fixed, and, consequently, we
experienced no fluctuations in the value of goods and services we purchased in
China because of currency exchange.
 
 In July
2005, the Chinese government began to permit the Chinese Yuan to float against
the U.S. Dollar.  All of our costs to operate our Chinese offices are
paid in Chinese Yuan.  Our exploration costs in China may be incurred
under contracts denominated in Chinese Yuan or U.S. Dollars.  During
2007, the  U.S. dollar to Yuan exchange rate fluctuated from a minimum
of 1:7.30 to a maximum of 1:7.81, with a yearly average of 1:7.61.  If
the Chinese Yuan continues to appreciate with respect to the U.S. dollar, our
costs in China may increase.  To date we have not engaged in hedging
activities to hedge our foreign currency exposure.  In the future, we
may enter into hedging instruments to manage our foreign currency exchange risk
or continue to be subject to exchange rate risk.
 
 Although
inflation has not materially impacted our operations in the recent past,
increased inflation in China or the U.S. could have a negative impact on our
operating and general and administrative expenses, as these costs could
increase.  China has recently experienced inflationary pressures,
which could increase our costs associated with our operations in
China.  The inflation rate for 2007 was approximately 4.8%, according
to China Daily.  In recent months, the Company has increased its use
of Chinese suppliers, including drilling contractors, that are paid in
Yuan.  In the future, inflation in China may result in higher minimum
expenditure requirements under our PSCs if CUCBM adjusts these requirements for
inflation.  A material increase in these cost as a result of inflation
could adversely affect our operations and, if there are material changes in our
costs, we may seek to raise additional funds earlier than
anticipated.
  33
 Table of Contents
  ITEM8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
 
 Management’s Report on Internal
Control Over Financial Reporting
 
 Our
management is responsible for establishing and maintaining adequate internal
control over financial reporting (as defined in Rule 13a-15(f) under the
Exchange Act). Our internal control over financial reporting is designed, under
the supervision and with the participation of our Chief Executive Officer and
Chief Financial Officer, to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of our published
financial statements. All internal control systems, no matter how well designed,
have inherent limitations. Therefore, even those systems determined to be
effective can provide only reasonable assurance with respect to financial
statement preparation and presentation. Further, because of changes in
conditions, the effectiveness of internal controls may vary over
time.
 
 Our
management, under the supervision and with the participation of our Chief
Executive Officer and Chief Financial Officer, assessed the effectiveness of our
internal control over financial reporting as of December 31, 2007. In making
this assessment, our management used the criteria set forth by the Committee of
Sponsoring Organizations of the Treadway Commission in Internal Control-Integrated
Framework. Our
management has concluded that, as of December 31, 2007, our internal control
over financial reporting is effective based on these criteria.
 
 Our
independent registered public accounting firm, Payne Smith & Jones, P.C.,
that audited our consolidated financial statements included in this report, has
issued an audit report on the effectiveness of our internal control over
financial reporting as of December 31, 2007, which is included on page 36 of
this Annual Report on Form 10-K.
  34
 Table of Contents
  REPORT OF INDEPENDENT
REGISTERED PUBLIC ACCOUNTING FIRM
 
 The Board
of Directors
 Far East
Energy Corporation and Subsidiaries
 
 We have
audited the accompanying consolidated balance sheets of Far East Energy
Corporation and Subsidiaries (a development stage company) as of December 31,
2007 and 2006 and the related consolidated statements of operations, changes in
stockholders’ equity and cash flows for each of the years in the three-year
period ended December 31, 2007 and for the period from the date of incorporation
on February 4, 2000 to December 31, 2007. Our audits also included the financial
statement schedule listed in Item 15. These consolidated financial statements
and schedule are the responsibility of the Company’s management. Our
responsibility is to express an opinion on these financial statements and
schedule based on our audits.
 
 We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (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 consolidated financial statements referred to above present fairly,
in all material respects, the financial position of Far East Energy Corporation
and Subsidiaries as of December 31, 2007 and 2006, and the results of its
operations and its cash flows for each of the years in the three-year period
ended December 31, 2007 and for the period from the date of incorporation on
February 4, 2000 to December 31, 2007, in conformity with accounting principles
generally accepted in the United States of America. Also, in our opinion, the
financial statement schedule, when considered in relation to the basic financial
statements taken as a whole, presents fairly in all material respects the
information set forth therein.
 
 We also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the effectiveness of Far East Energy
Corporation’s internal control over financial reporting as of December 31, 2007,
based on criteria established in Internal Control—Integrated
Frameworkissued by the
Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our
report dated February 18, 2008, expressed an unqualified opinion.
 
 February
18, 2008
 
 /s/ Payne Smith & Jones,
P.C.
 Payne
Smith & Jones, P.C.
 
 Dallas,
Texas
  35
 Table of Contents
  REPORT OF INDEPENDENT
REGISTERED PUBLIC ACCOUNTING FIRM
 
 The Board
of Directors
 Far East
Energy Corporation and Subsidiaries
 
 We have
audited Far East Energy Corporation and Subsidiaries' (FEEC) (a development
stage company) internal control over financial reporting as of December 31,
2007, based on criteria established in Internal Control—Integrated Frameworkissued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO). FEEC’s management is responsible for maintaining effective
internal control over financial reporting and for its assessment of the
effectiveness of internal control over financial reporting included in the
accompanying Management's Report on Internal Control Over Financial Reporting.
Our responsibility is to express an opinion on the effectiveness of FEEC’s
internal control over financial reporting based on our audit.
 
 We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether effective
internal control over financial reporting was maintained in all material
respects. Our audit of internal control over financial reporting included
obtaining an understanding of internal control over financial reporting,
assessing the risk that a material weakness exists, and testing and evaluating
the design and operating effectiveness of internal control based on the assessed
risk.  Our audit also included performing such other procedures as we
considered necessary in the circumstances.  We believe that our audit
provides a reasonable basis for our opinion.
 
 A
company’s internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company’s internal control over
financial reporting includes those policies and procedures that (1) pertain to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (2)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of
the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the company’s
assets that could have a material effect on the financial
statements.
 
 Because
of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.
 
 In our
opinion, FEEC maintained, in all material respects, effective internal control
over financial reporting as of December 31, 2007, based on criteria established
in Internal Control—Integrated Frameworkissued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO).
 
 We also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the consolidated balance sheets of FEEC, as of
December 31, 2007 and 2006 and the related consolidated statements of
operations, changes in stockholders’ equity, and cash flows of FEEC for each of
the years in the three-year period ended December 31, 2007 and for the period
from the date of incorporation on February 4, 2000 to December 31, 2007, and our
report dated February 18, 2008 expressed an unqualified opinion.
 
 February
18, 2008
 
 /s/ Payne Smith & Jones
P.C.
 Payne
Smith & Jones, P.C.
 Dallas,
Texas
  36
 Table of Contents
 
 FAR
EAST ENERGY CORPORATION
 (A
Development Stage Company)
 Consolidated
Balance Sheets
 
 At
      December 31,2007
              
              
              2006ASSETSCurrent
      assetsCash
      and cash equivalents
              
              $
              16,906,000
              
              
              $
              20,501,000Inventory
              
              
              297,000
              
              
              
              57,000Prepaid
      expenses
              
              
              149,000
              
              
              
              217,000Deposits
              
              
              94,000
              
              
              
              363,000Other
      current assets
              
              
              30,000
              
              
              
              9,000Total
      current assets
              
              
              17,476,000
              
              
              
              21,147,000Property
      and equipment, net
              
              
              32,317,000
              
              
              
              24,507,000Total
      assets
              
              $
              49,793,000
              
              
              $
              45,654,000LIABILITIES
      AND STOCKHOLDERS' EQUITYCurrent
      liabilitiesAccounts
      payable
              
              $
              1,359,000
              
              
              $
              1,632,000Accrued
      liabilities
              
              
              1,939,000
              
              
              
              2,311,000Total
      current liabilities
              
              
              3,298,000
              
              
              
              3,943,000Commitments
      and contingenciesStockholders'
      equityPreferred
      stock, $0.001 par value,500,000,000 shares authorized, none
      outstanding
              
              
              -
              
              
              
              -Common
      stock, $0.001 par value, 500,000,000 shares authorized,137,005,294 and
      123,767,342 issued, respectively
              
              
              137,000
              
              
              
              124,000Additional
      paid-in capital
              
              
              94,983,000
              
              
              
              77,599,000Unearned
      compensation
              
              
              (764,000
              )
              
              
              -Deficit
      accumulated during the development stage
              
              
              (47,861,000
              )
              
              
              (36,012,000
              )Total
      stockholders' equity
              
              
              46,495,000
              
              
              
              41,711,000Total
      liabilities and stockholders' equity
              
              $
              49,793,000
              
              
              $
              45,654,000
 
 See the
accompanying notes to consolidated financial statements.
  37
 Table of Contents
 
 FAR
EAST ENERGY CORPORATION
 (A
Development Stage Company)
 Consolidated
Statements of Operations
 
 February
      4, 2000Year
      ended December 31,
              
              
              (Inception)
      through2007
              
              
              2006
              
              
              2005
              
              
              December
      31, 2007Operating
      revenues
              
              $
              -
              
              
              $
              -
              
              
              $
              -
              
              
              $
              -Operating
      expenses:Exploration
      costs
              
              
              3,345,000
              
              
              
              1,914,000
              
              
              
              3,510,000
              
              
              
              11,735,000Lease
      operating expense
              
              
              1,945,000
              
              
              
              958,000
              
              
              
              -
              
              
              
              2,903,000General
      and administrative
              
              
              7,230,000
              
              
              
              7,903,000
              
              
              
              5,052,000
              
              
              
              30,573,000Impairment
      loss
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              3,778,000Loss
      on investment in joint venture
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              22,000Amortization
      of contract rights
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              81,000Total
      operating expenses
              
              
              12,520,000
              
              
              
              10,775,000
              
              
              
              8,562,000
              
              
              
              49,092,000Operating
      loss
              
              
              (12,520,000
              )
              
              
              (10,775,000
              )
              
              
              (8,562,000
              )
              
              
              (49,092,000
              )Other
      income (expense):Interest
      expense
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (177,000
              )Interest
      income
              
              
              721,000
              
              
              
              560,000
              
              
              
              293,000
              
              
              
              1,610,000Gain
      on sale of assets
              
              
              -
              
              
              
              -
              
              
              
              8,000
              
              
              
              8,000Foreign
      currency transaction loss
              
              
              (50,000
              )
              
              
              (128,000
              )
              
              
              (31,000
              )
              
              
              (210,000
              )Total
      other income
              
              
              671,000
              
              
              
              432,000
              
              
              
              270,000
              
              
              
              1,231,000Loss
      before income taxes
              
              
              (11,849,000
              )
              
              
              (10,343,000
              )
              
              
              (8,292,000
              )
              
              
              (47,861,000
              )Income
      taxes
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -Net
      loss
              
              $
              (11,849,000
              )
              
              $
              (10,343,000
              )
              
              $
              (8,292,000
              )
              
              $
              (47,861,000
              )Earnings
      per share:Basic
      and diluted
              
              $
              (0.09
              )
              
              $
              (0.10
              )
              
              $
              (0.10
              )Weighted
      average shares outstanding:Basic
      and diluted
              
              
              128,630,619
              
              
              
              104,912,539
              
              
              
              82,464,902
  See the
accompanying notes to consolidated financial statements.
  38
 Table of Contents
 
 FAR
EAST ENERGY CORPORATION
 (A
Development Stage Company)
 CONSOLIDATED
STATEMENTS OF STOCKHOLDERS' EQUITY
 
 DeficitAccumulated
              
              
              AccumulatedCommon
      Stock
              
              
              Additional
              
              
              
              
              
              During
      the
              
              
              Other
              
              
              TotalNumber
      of
              
              
              Par
              
              
              Paid-In
              
              
              Unearned
              
              
              Development
              
              
              Comprehensive
              
              
              Stockholders'Shares
              
              
              Value
              
              
              Capital
              
              
              Compensation
              
              
              Stage
              
              
              Income
      (Loss)
              
              
              EquityFor the Years Ended
      December 31, 2007, 2006 and 2005Balance
      at December 31, 2004
              
              
              76,542,410
              
              
              $
              77,000
              
              
              $
              31,704,000
              
              
              $
              -
              
              
              $
              (17,377,000
              )
              
              $
              (4,000
              )
              
              $
              14,400,000Net
      loss
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              (8,292,000
              )
              
              
              
              
              
              
              (8,292,000
              )Common
      shares issued
              
              
              15,780,792
              
              
              
              16,000
              
              
              
              12,526,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              12,542,000Shares
      issued to consulting firm
              
              
              60,000
              
              
              
              -
              
              
              
              73,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              73,000Stock
      options outstanding
              
              
              
              
              
              
              
              
              
              
              481,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              481,000Stock
      options exercised
              
              
              240,000
              
              
              
              -
              
              
              
              156,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              156,000Warrants
      issued
              
              
              
              
              
              
              
              
              
              
              176,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              176,000Warrants
      exercised
              
              
              4,524,020
              
              
              
              4,000
              
              
              
              4,545,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              4,549,000Foreign
      currency translation adjustment
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              96,000
              
              
              
              96,000Balance
      at December 31, 2005
              
              
              97,147,222
              
              
              
              97,000
              
              
              
              49,661,000
              
              
              
              -
              
              
              
              (25,669,000
              )
              
              
              92,000
              
              
              
              24,181,000Net
      loss
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              (10,343,000
              )
              
              
              
              
              
              
              (10,343,000
              )Common
      shares issued
              
              
              25,514,511
              
              
              
              26,000
              
              
              
              24,927,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              24,953,000Shares
      issued to consulting firm
              
              
              59,259
              
              
              
              -
              
              
              
              91,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              91,000Stock
      options outstanding
              
              
              
              
              
              
              
              
              
              
              1,772,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              1,772,000Stock
      options exercised
              
              
              510,000
              
              
              
              -
              
              
              
              331,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              331,000Warrants
      issued
              
              
              
              
              
              
              
              
              
              
              34,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              34,000Warrants
      exercised
              
              
              536,350
              
              
              
              1,000
              
              
              
              783,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              784,000Foreign
      currency translation adjustment
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              (92,000
              )
              
              
              (92,000
              )Balance
      at December 31, 2006
              
              
              123,767,342
              
              
              
              124,000
              
              
              
              77,599,000
              
              
              
              -
              
              
              
              (36,012,000
              )
              
              
              -
              
              
              
              41,711,000Net
      loss
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              (11,849,000
              )
              
              
              
              
              
              
              (11,849,000
              )Common
      shares issued
              
              
              11,480,452
              
              
              
              11,000
              
              
              
              14,803,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              14,814,000Non-vested
      shares issued
              
              
              1,032,292
              
              
              
              1,000
              
              
              
              922,000
              
              
              
              (764,000
              )
              
              
              
              
              
              
              
              
              
              
              159,000Shares
      issued to consulting firm
              
              
              60,000
              
              
              
              -
              
              
              
              60,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              60,000Stock
      options exercised
              
              
              660,000
              
              
              
              1,000
              
              
              
              428,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              429,000Stock-based
      compensation expense
              
              
              
              
              
              
              
              
              
              
              1,171,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              1,171,000Warrants
      exercised
              
              
              5,208
              
              
              
              -
              
              
              
              -
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              -Balance
      at December 31, 2007
              
              
              137,005,294
              
              
              $
              137,000
              
              
              $
              94,983,000
              
              
              $
              (764,000
              )
              
              $
              (47,861,000
              )
              
              $
              -
              
              
              $
              46,495,000Inception
      (February 4, 2000) through December 31,
    2007Balance
      at February 4, 2000
              
              
              -
              
              
              $
              -
              
              
              $
              -
              
              
              $
              -
              
              
              $
              -
              
              
              $
              -
              
              
              $
              -Net
      loss
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              (47,861,000
              )
              
              
              
              
              
              
              (47,861,000
              )Common
      shares issued
              
              
              126,426,187
              
              
              
              127,000
              
              
              
              78,817,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              78,944,000Non-vested
      shares issued
              
              
              1,032,292
              
              
              
              1,000
              
              
              
              922,000
              
              
              
              (764,000
              )
              
              
              
              
              
              
              
              
              
              
              159,000Shares
      issued to consulting firm
              
              
              211,259
              
              
              
              -
              
              
              
              283,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              283,000Stock
      options outstanding
              
              
              
              
              
              
              
              
              
              
              4,314,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              4,314,000Stock
      options exercised
              
              
              1,410,000
              
              
              
              1,000
              
              
              
              915,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              916,000Stock-based
      compensation expense
              
              
              
              
              
              
              
              
              
              
              1,171,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              1,171,000Warrants
      issued
              
              
              
              
              
              
              
              
              
              
              210,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              210,000Warrants
      exercised
              
              
              7,925,556
              
              
              
              8,000
              
              
              
              8,185,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              8,193,000Warrants
      redeemed unexercised
              
              
              
              
              
              
              
              
              
              
              (2,000
              )
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              (2,000
              )Debt
      issued with beneficial conversion feature
              
              
              
              
              
              
              
              
              
              
              168,000
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              
              168,000Balance
      at December 31, 2007
              
              
              137,005,294
              
              
              $
              137,000
              
              
              $
              94,983,000
              
              
              $
              (764,000
              )
              
              $
              (47,861,000
              )
              
              $
              -
              
              
              $
              46,495,000
  See the
accompanying notes to consolidated financial statements.
  39
 Table of Contents
 
 FAR
EAST ENERGY CORPORATION
 (A
Development Stage Company)
 Consolidated
Statements of Cash Flows
 
 For
      the Years Ended December 31,
              
              
              February
      4, 2000 (Inception) through2007
              
              
              2006
              
              
              2005
              
              
              December
      31, 2007Cash
      flows from operating activitiesNet
      loss
              
              $
              (11,849,000
              )
              
              $
              (10,343,000
              )
              
              $
              (8,292,000
              )
              
              $
              (47,861,000
              )Adjustments
      to reconcile net loss to cash used in operating
      activities:Depreciation
      and amortization
              
              
              88,000
              
              
              
              83,000
              
              
              
              61,000
              
              
              
              347,000Stock
      issued to pay expense
              
              
              61,000
              
              
              
              91,000
              
              
              
              73,000
              
              
              
              283,000Share-based
      compensation
              
              
              1,330,000
              
              
              
              1,772,000
              
              
              
              481,000
              
              
              
              5,644,000Prior
      period capitalized exploratory well costs expensed
              
              
              157,000
              
              
              
              264,000
              
              
              
              2,335,000
              
              
              
              -(Increase)
      decrease in inventory
              
              
              (241,000
              )
              
              
              101,000
              
              
              
              (82,000
              )
              
              
              (298,000
              )(Increase)
      decrease in prepaids
              
              
              68,000
              
              
              
              475,000
              
              
              
              (782,000
              )
              
              
              (149,000
              )(Increase)
      decrease in deposits
              
              
              269,000
              
              
              
              (109,000
              )
              
              
              (65,000
              )
              
              
              (94,000
              )(Increase)
      decrease in other current assets
              
              
              (21,000
              )
              
              
              6,000
              
              
              
              (16,000
              )
              
              
              (30,000
              )Increase
      (decrease) in accounts payable and accrued liabilities
              
              
              (645,000
              )
              
              
              1,147,000
              
              
              
              2,066,000
              
              
              
              3,298,000Impairment
      expense
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              3,778,000Gain
      on sale of assets
              
              
              -
              
              
              
              -
              
              
              
              (8,000
              )
              
              
              (8,000
              )Other,
      net
              
              
              
              
              
              
              18,000
              
              
              
              -
              
              
              
              378,000Net
      cash used in operating activities
              
              
              (10,783,000
              )
              
              
              (6,495,000
              )
              
              
              (4,229,000
              )
              
              
              (34,712,000
              )Cash
      flows from investing activitiesAdditions
      to unproved oil and gas properties in China
              
              
              (7,657,000
              )
              
              
              (14,838,000
              )
              
              
              (10,706,000
              )
              
              
              (31,895,000
              )Other
      oil and gas investment
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (1,278,000
              )Additions
      to other property
              
              
              (398,000
              )
              
              
              (23,000
              )
              
              
              (230,000
              )
              
              
              (769,000
              )Sale
      of oil and gas property
              
              
              -
              
              
              
              -
              
              
              
              1,108,000
              
              
              
              1,108,000Escrow
      account transactions
              
              
              -
              
              
              
              1,250,000
              
              
              
              (250,000
              )
              
              
              -Net
      cash used in investing activities
              
              
              (8,055,000
              )
              
              
              (13,611,000
              )
              
              
              (10,078,000
              )
              
              
              (32,834,000
              )Cash
      flows from financing activitiesNet
      proceeds from sale of common stock
              
              
              14,814,000
              
              
              
              24,953,000
              
              
              
              12,719,000
              
              
              
              75,345,000Net
      proceeds from exercise of options
              
              
              429,000
              
              
              
              331,000
              
              
              
              156,000
              
              
              
              916,000Net
      proceeds from exercise of warrants
              
              
              -
              
              
              
              784,000
              
              
              
              4,549,000
              
              
              
              8,191,000Net
      cash provided by financing activities
              
              
              15,243,000
              
              
              
              26,068,000
              
              
              
              17,424,000
              
              
              
              84,452,000Effect
      of exchange rate changes on cash
              
              
              -
              
              
              
              (92,000
              )
              
              
              96,000
              
              
              
              -Increase
      (decrease) in cash and cash equivalents
              
              
              (3,595,000
              )
              
              
              5,870,000
              
              
              
              3,213,000
              
              
              
              16,906,000Cash
      and cash equivalents--beginning of period
              
              
              20,501,000
              
              
              
              14,631,000
              
              
              
              11,418,000
              
              
              
              -Cash
      and cash equivalents--end of period
              
              $
              16,906,000
              
              
              $
              20,501,000
              
              
              $
              14,631,000
              
              
              $
              16,906,000
 
 See the
accompanying notes to consolidated financial statements.
  40
 Table of Contents
  FAR
EAST ENERGY CORPORATION
 (A
Development Stage Company)
 Notes
to Consolidated Financial Statements
 
 
 1.  Summary of Significant
Accounting Policies
 
 
 Business.  We
were incorporated in the state of Nevada on February 4, 2000, and on January 10,
2002, we changed our name to Far East Energy Corporation. The terms "we," "us,"
"our," "FEEC" and "our company" refer to Far East Energy
Corporation.  We are an independent energy company.  FEEC,
together with its subsidiaries, engages in the acquisition, exploration and
development of coalbed methane ("CBM") gas properties in the People’s Republic
of China ("PRC"). We are a development stage company, and our activities have
been limited to organizational activities, including developing a strategic
operating plan, capital funding, hiring personnel, entering into contracts
acquiring rights to explore for, develop, produce and sell oil and gas or
coalbed methane, and drilling, testing and completion of exploratory
wells.
 
 Principles of
Consolidation.  Our consolidated financial statements include
the accounts of our wholly-owned subsidiaries after the elimination of all
significant intercompany accounts and transactions. Our wholly-owned
subsidiaries include: Far East Energy (Bermuda), Ltd., a Bermuda company; Newark
Valley Oil & Gas, Inc., a Nevada corporation; Yunnan Huayi Eco-Tech
Consulting Co. Ltd., a Chinese company; and Far East (BVI), Inc., organized
under the laws of the British Virgin Islands.
 
 Use of
Estimates.  The preparation of our financial statements in
conformity with accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions that affect the
reported amounts of assets, liabilities, revenues, expenses and disclosure of
contingent assets and liabilities that exist at the date of the financial
statements. While we believe our estimates are appropriate, actual results can,
and often do, differ from those estimates.
 
 Cash and Cash
Equivalents.  We consider short-term investments with little
risk of change in value because of changes in interest rates and purchased with
an original maturity of three months or less to be cash
equivalents.
 
 Inventory.  Inventory
consists primarily of tubular goods and drilling equipment used in our
operations and are stated at the lower of average cost or market
value.
 
 Property and
Equipment.  We use the successful efforts method of accounting
for our oil and gas properties. Under this method, oil and gas lease acquisition
costs and intangible drilling costs associated with exploration efforts that
result in the discovery of proved reserves and costs associated with development
drilling, whether or not successful, are capitalized when incurred. If proved
commercial reserves are not discovered, such drilling costs are expensed. In
some circumstances, it may be uncertain whether proved commercial reserves have
been found when drilling has been completed. Under Financial Accounting
Standards Board Staff Position (FSP) No. 19-1 - Accounting for Suspended Well
Costs, such exploratory
well drilling costs may continue to be capitalized if the reserve quantity is
sufficient to justify its completion as a producing well and sufficient progress
in assessing the reserves and the economic and operating viability of the
project is being made. We assess our capitalized exploratory wells pending
evaluation each quarter to determine whether costs should remain capitalized or
should be charged to earnings. Other exploration costs, including geological and
geophysical costs, are expensed as incurred. We recognize gain or loss on the
sale of properties on a field basis.
 
 Unproved
leasehold costs are capitalized and reviewed periodically for impairment on a
property-by-property basis, considering factors such as drilling and
exploitation plans and lease terms. The estimated fair value of unproved
leasehold costs includes the present value of probable reserves discounted at
rates commensurate with the risks involved in each classification of reserve.
Costs related to impaired prospects are charged to expense. An impairment
expense could result if oil and gas prices decline in the future or if downward
reserves revisions are recorded, as it may not be economic to develop some of
these unproved properties.
  41
 Table of Contents
 
 Costs of
proved leaseholds are depleted on the unit-of-production method based on proved
reserves on a field basis. The depreciation of capitalized production equipment
and drilling costs is based on the unit-of production method using proved
developed reserves on a field basis.
 
 The cost
of unproved properties not being amortized is assessed quarterly to determine
whether such properties have been impaired. In determining whether such costs
should be impaired, we evaluate current drilling results, lease expiration
dates, current oil and gas industry conditions, international economic
conditions, capital availability, foreign currency exchange rates, political
stability in the countries in which the company has an investment, and available
geological and geophysical information. Any impairment assessed is charged to
expense.
 
 Income
Taxes.  Deferred income taxes are accounted for under the asset
and liability method of accounting for income taxes. Under this method, deferred
income taxes are recognized for the tax consequences of temporary differences by
applying enacted statutory tax rates applicable to future years to differences
between the financial statements carrying amounts and the tax basis of existing
assets and liabilities. The effect on deferred taxes of a change in tax rate is
recognized in income in the period the change occurs. Valuation allowances are
established when necessary to reduce deferred tax assets to the amount expected
to be realized.
 
 Environmental Matters.Environmental
expenditures are expensed or capitalized depending on their future economic
benefit. Expenditures that relate to an existing condition caused by past
operations, and do not contribute to current or future revenue generation are
expensed. Liabilities are recorded when assessments and/or remediation are
deemed probable and the costs can be reasonably estimated.
 
 Net Loss Per
Share.  We apply SFAS No. 128 - Earnings Per Share for the
calculation of basic and diluted earnings per share. Basic earnings per share
includes no dilution and is computed by dividing income available to common
stockholders by the weighted average number of common shares outstanding for the
period. Diluted earnings per share reflects the potential dilution of securities
that could share in our earnings.
 
 Share-based
Compensation.  On January 1, 2006, we adopted SFAS No. 123
(Revised 2004) - "Share-Based Payment" (SFAS No. 123(R)), which is a revision of
SFAS No. 123 - "Accounting for Stock-Based Compensation." SFAS No. 123(R)
supersedes Accounting Principles Board Opinion No. 25 and amends SFAS No. 95
-  "Statement of Cash Flows."  SFAS 123(R) is further
amended by SFAS No. 148 - "Accounting for Stock-Based Compensation — Transition
and Disclosure — an amendment of FASB Statement No. 123."   Under
SFAS No. 123(R), we measure the cost of employee services received in exchange
for stock options based on the grant date fair value of the awarded
options.  We estimate the fair value using the Black Scholes model, an
option pricing model.   We recognize that cost over the period
during which an employee is required to provide service in exchange for the
award, usually the vesting period.  As share-based compensation
expense is recognized based on awards ultimately expected to vest, we have
reduced the expense for estimated forfeitures based on historical forfeiture
rates.  Excess tax benefits, as defined in SFAS No. 123(R), if any,
are recognized as an addition to paid-in capital.
 
 We
adopted SFAS No.123(R) under
the modified prospective method.  Under this method, we began
recognizing expense on January 1, 2006 on any unvested awards granted prior to
the adoption date which we expect to vest over the remaining vesting period of
the awards.
 
 Foreign Currency
Transactions.  Periodically,
we assess the functional currencies of our Chinese subsidiaries to ensure that
the appropriate currency is utilized in accordance with the guidance in SFAS No.
52 – "Foreign Currency Translation."  During the fourth quarter of
2006, we determined that the functional currency for our Chinese operations for
the reporting periods included in this Annual Report on Form 10-K was U.S.
Dollars, instead of the Chinese Yuan as previously reported and
utilized.  Foreign currency transaction gains or losses, which
resulted from transactions denominated in the Chinese Yuan, were recorded in
Other Expenses (Income) in the Consolidated Statement of
Operations.
 
 The
change in the functional currency has no impact on the 2004 and prior years’
financial statements as the U.S. Dollar – Chinese Yuan exchange rate remained a
fixed rate until the third quarter of 2005.  We have calculated the
impact of the change in functional currency on the financial statements for the
second half of 2005 and our management believes that the impact was immaterial
and therefore, it was accounted for in 2006.
  42
 Table of Contents
 
 Fair Values of
Financial Instruments.  Our company’s financial instruments
consist primarily of cash and cash equivalents, payables, and accrued
payables.  The carrying values of these financial instruments
approximate their respective fair values as they are either short-term in
nature.
 
 Credit
Concentration.  We had deposited with one financial institution
approximately $6.9 million and with another $8.6 million in cash at December 31,
2007, which exceeded the limit of the Federal Deposit Insurance Corporation. The
funds were deposited in U.S. government agency supported funds.  We
did not require collateral from the financial institutions on these
deposits.
 
 Comprehensive
Income. Comprehensive income is included in the consolidated statement of
changes in stockholders’ equity and reported for all periods. Comprehensive
income includes both net income and other comprehensive income.
 
 Recent Accounting
Pronouncements.In
June 2006, the Financial Accounting Standards Board (FASB) issued Interpretation
No. 48, Accounting for Uncertainty in Income Taxes- An interpretation of FASB
Statement No. 109 (FIN 48).  FIN 48 prescribes a recognition threshold
and measurement attribute for the financial statement recognition and
measurement of a certain tax position taken in a tax return.  The
company must determine whether it is "more likely than not" that a tax position
will be sustained upon examination.  Once it is determined that a
position meets the "more likely than not" recognition threshold, the position is
measured to determine the amount of benefit to recognize in the financial
statements.  We adopted FIN 48 effective January 1,
2007.  The adoption of FIN 48 did not have a material impact on our
financial statements.
 
 In
September 2006, the FASB issued SFAS No. 157, Fair Value Measurements,
which establishes a formal framework for measuring fair values of assets and
liabilities in financial statements that are already required by U.S. generally
accepted accounting principles to be measured at fair
value.  SFASNo.157 clarifies
guidance in FASB Concepts Statement No. 7 which discusses present value
techniques in measuring fair value.  Additional disclosures are also
required for transactions measured at fair value.  No new fair value
measurements are prescribed, and SFASNo.157
is intended to codify the several definitions of fair value included in various
accounting standards.  Adoption is effective for all financial
statements issued for fiscal years beginning after November 15, 2007, and
interim periods within those fiscal years.  We are currently
evaluating the effect of SFAS157, if any, on our financial position, results of
operations and cash flows.
 
 In
February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial
Assets and Financial Liabilities. SFAS No. 159 gives us the irrevocable
option to carry many financial assets and liabilities at fair values, with
changes in fair value recognized in earnings. SFAS No. 159 is effective for us
beginning January 1, 2008.  Currently,
we have elected not to adopt the fair value option provision allowed under SFAS
No. 159.
 In
September 2006, the Securities and Exchange Commission issued Staff Accounting
Bulletin (SAB) No. 108 regarding the process of quantifying financial statement
misstatements.  SAB No. 108 addresses the diversity in practice in
quantifying financial statement misstatements and the potential under current
practice for the build up of improper amounts on the balance
sheet.  SAB No. 108 establishes a "dual approach" which requires the
quantification of the effect of financial statement errors on each financial
statement, as well as related disclosures.  Public companies are
required to record the cumulative effect of initially adopting the "dual
approach" method in the first year ending after November 16, 2006 by recording
any necessary corrections to asset and liability balances with an offsetting
adjustment to the opening balance of retained earnings.  The use of
this cumulative effect transition method also requires detailed disclosure of
the nature and amount of each error being corrected and how and when they
arose.  We have evaluated the effect of SAB No. 108, and have
determined there was no material impact on our financial
statements.
 
 2.  Liquidity
 
 We are a
development stage company, and having acquired an undeveloped natural resource,
we have not established a source of revenue and are not able to accurately
predict when we will recognize meaningful revenues.  Based on funds
currently available to us, management believes that we have adequate cash
resources to fund our operations and minimum contractual exploration and
development operations in China through the fourth quarter of
2008.  However, we will need to raise additional funds by the first
quarter of 2009 to continue to operate and explore
 43
 Table of Contents
 
 3.  Statement
of Cash Flows
 
 We use
the indirect method to present cash flows from operating activities. Other
supplemental cash flow information for 2007, 2006 and 2005, is presented as
follows:
 
 2007
              
              
              2006
              
              
              2005Cash
      transactions:Cash
      paid for interest
              
              $
              -
              
              
              $
              -
              
              
              $
              -Cash
      paid for income taxes
              
              
              -
              
              
              
              -
              
              
              
              -Non-cash
      transactions:Issuance
      of common stock to pay consulting expenses
              
              
              61,000
              
              
              
              91,000
              
              
              
              73,000Increase
      in outstanding stock options
              
              
              1,330,000
              
              
              
              1,772,000
              
              
              
              481,000Settlement
      of payable with warrants to purchase our common stock
              
              
              -
              
              
              
              -
              
              
              
              176,000
 
 
 4.  Disposition
of Montana Properties
 
 In 2005,
we received gross proceeds of $1,135,000 from the sale of our oil and gas
leasehold interests in Montana and recorded a gain of $8,000.
 
 
 5.  Property
and Equipment
 
 Property
and equipment includes the following:
 
 At
      December 31,2007
              
              
              2006Unproved
      leasehold costs
              
              $
              375,000
              
              
              $
              375,000Unevaluated
      wells costs
              
              
              31,520,000
              
              
              
              24,020,000Furniture
      and equipment
              
              
              769,000
              
              
              
              371,00032,664,000
              
              
              
              24,766,000Accumulated
      depreciation and amortization
              
              
              (347,000
              )
              
              
              (259,000
              )$
              32,317,000
              
              
              $
              24,507,000
 
 Unproved
Leasehold Costs.Unproved leasehold
costs include the mineral rights acquired on January 25, 2002, when we entered
into a Production Sharing Contract with the China United Coalbed Methane
Corporation ("CUCBM").  Pursuant to the
Production Sharing Contract, we received the authority from CUCBM to jointly
explore, develop, produce and sell coalbed methane gas in and from a total area
of 1,072 unevaluated square kilometers in the Enhong and Laochang areas of the
Yunnan Province. On December 30, 2002, the PRC’s Ministry of Commerce ("MOC")
ratified this Production Sharing Contract. Under the contract we paid $150,000
to CUCBM upon ratification, and we paid an annual payment of $100,000 on the
anniversary date for two subsequent years.  We have included these
amounts in unproved leasehold costs. We have the right to earn a minimum of a
60% participating interest in the joint venture, with CUCBM retaining the
remaining 40% participating interest. In the event CUCBM elects to participate
at a level less than 40%, their interest will be reduced proportionately,
increasing our participating interest.
 
 Unevaluated Wells
Costs.  Unevaluated well costs include direct exploratory well
costs pending determination of whether proved reserves have been discovered. The
capitalized exploratory well costs relate to wells for which drilling has been
completed, but which have not been attributed proved reserves.  In
2007, costs incurred over one year ago related to two projects are also
included, as more fully described below.
  44
 Table of Contents
 
 Suspended Well
Costs.Accounting guidance
regarding capitalization of exploratory well costs is provided by  FSP
No. 19-1 Accounting for
Suspended Well Costs.  FSP No. 19-1 addresses whether there are
circumstances under the successful efforts method of accounting for oil and gas
producing activities that would permit the continued capitalization of
exploratory well costs beyond one year, other than when additional exploration
wells are necessary to justify major capital expenditures and those wells are
under way or firmly planned for the near future.  Capitalization of
costs should be continued beyond one year in cases where reserves for the
project are not yet proven, but the company demonstrates sufficient continuing
progress toward assessing those reserves.  We have assessed and
analyzed, under the guidance of FSP No. 19-1, our current work programs for
exploratory wells which had capitalized costs beyond one year at December 31,
2007.  Our assessment indicated that our current work programs
demonstrated our efforts in making sufficient continuing progress toward
assessing the reserves and therefore, capitalization of these costs were to be
continued in accordance with FSP No, 19-1.
 
 The
following table provides an aging of capitalized exploratory well costs based on
the date the costs were incurred and the number of related wells for which these
exploratory well costs have been capitalized for a period greater than one
year:
 
 2007
              
              
              2006Capitalized
      exploratory well costs that have been capitalized for a period of one year
      or less
              
              $
              7,657,000
              
              
              $
              14,838,000Capitalized
      exploratory well costs that have been capitalized for a period greater
      than one year
              
              
              23,863,000
              (1)
              
              
              9,182,000Balance
      at December 31
              
              $
              31,520,000
              
              
              $
              24,020,000Number
      of projects that have exploratory well costs that have been capitalized
      for a period greater than one year
              
              
              2
              
              
              
              1
 
 (1)
              Costs
      as of December 31, 2007, related to our exploratory projects in the
      Shouyang and Qinnan Blocks in the Shanxi Province.  We are
      making sufficient progress assessing the reserves and the economic and
      operating viability of the wells, among other efforts, by dedicating
      project personnel who have the appropriate skills and by incurring the
      necessary costs.
 
 The
following table reflects the net changes in capitalized exploratory well costs
during 2007, 2006 and 2005:
 
 2007
              
              
              2006
              
              
              2005Beginning
      balance at January 1
              
              $
              24,020,000
              
              
              $
              9,446,000
              
              
              $
              1,175,000Additions
      to capitalized exploratory well costs pending the determination of proved
      reserves
              
              
              8,026,000
              
              
              
              15,133,000
              
              
              
              10,606,000Reclassifications
      to wells, facilities, and equipment based on the determination of proved
      reserves
              
              
              -
              
              
              
              -
              
              
              
              -Capitalized
      exploratory well costs charged to expense
              
              
              (526,000
              )
              
              
              (559,000
              )
              
              
              (2,335,000
              )Ending
      balance at December 31
              
              $
              31,520,000
              
              
              $
              24,020,000
              
              
              $
              9,446,000
 
 Depreciation
Expense.  Depreciation expense for the years ended December 31,
2007, 2006, and 2005 was approximately $88,000, $83,000 and $61,000,
respectively.
 
 Asset Retirement
Obligations.The accounting for
future development and abandonment costs is determined by SFAS No. 143 – "Accounting for Asset Retirement
Obligations."  SFAS No. 143 requires the fair value of a
liability for an asset retirement obligation to be recognized in the period in
which it is incurred if a reasonable estimate of fair value can be made. The
associated asset retirement costs are capitalized as part of the carrying amount
of the long-lived asset.  Sufficient testing on our wells has not been
completed to determine the lives of these wells and therefore we have
insufficient information to determine the timing of the obligations related to
plugging, abandoning and restoring the site and cannot determine the present
value of the obligation.  Due to the small number of wells, we do not
believe the obligation is material, and we will recognize the liability when a
reasonable estimate of fair value can be made. Therefore, there is no provision
in the accompanying consolidated financial statements.
  45
 Table of Contents
 
 6.  Income
Taxes
 
 During
the third quarter 2006, we implemented a restructuring plan under which we
formed Far East Energy (Bermuda), Ltd. (FEEB), our wholly-owned subsidiary
organized under the laws of Bermuda. We transferred to FEEB substantially all of
our assets relating to operations in the PRC. Subsequent to the restructuring,
we own primarily the outstanding capital stock of our subsidiaries, including
FEEB, and cash and cash equivalents. FEEB is a Bermuda company, and Bermuda does
not currently impose corporate income taxes.
  For U.S.
income tax purposes, the restructuring resulted in a reduction in both our net
operating loss carry forwards and temporary differences attributable to these
assets. Accordingly, our deferred tax assets and valuation allowance related to
the foreign assets were reduced.
  Deferred
income taxes reflect the net tax effects of temporary differences between the
recorded amounts of assets and liabilities for financial reporting purposes and
the amounts used for income tax purposes. Significant components of our deferred
tax assets and liabilities as of December 31, 2007 and 2006 are as
follows:
  
 2007
              
              
              2006Deferred
      tax assets:Net
      operating loss
              
              $
              1,987,000
              
              
              $
              1,232,000Accrued
      expense and other
              
              
              19,000
              
              
              
              15,000Stock-based
      compensation
              
              
              783,000
              
              
              
              703,000Total
      deferred tax assets
              
              
              2,789,000
              
              
              
              1,950,000Total
      deferred tax liabilities
              
              
              -
              
              
              
              -Net
      deferred tax assets
              
              $
              2,789,000
              
              
              $
              1,950,000Net
      deferred tax assets
              
              $
              2,789,000
              
              
              $
              1,950,000Less:
      valuation allowance
              
              
              (2,789,000
              )
              
              
              (1,950,000
              )$
              -
              
              
              $
              -
 
 At
December 31, 2007 and 2006, we had net operating loss carryforwards for
federal income tax purposes of approximately $5,845,000 and $3,624,000,
respectively, which will begin to expire in 2016.  At
December 31, 2007 and 2006, management believed that the above indicated
valuation allowance was necessary in order to comply with the provisions of
Statement of Financial Accounting Standard No. 109 as discussed
below.
 
 Income
taxes for financial reporting purposes differed from the amounts computed by
applying the statutory federal income tax rates due to Bermuda having no income
tax, and the recording of the valuation allowance for the losses generated by
our United States parent company. The net increase in the valuation allowance
for the year ended December 31, 2007 was $839,000.  This increase was
primarily attributable to the net operating loss generated during the year ended
December 31, 2007. The net decrease in the valuation allowance for the year
ended December 31, 2006 was $5,250,000, which was attributable to the
reduction of the net operating loss carryforwards resulting from the
restructuring plan with FEEB.  The net increase in the valuation
allowance for the year ended December 31, 2004 was $2,740,000.  This
increase was the result of net operating losses generated during the
year.
  In June
2006, the Financial Accounting Standards Board ("FASB") issued Interpretation
No. 48, Accounting for
Uncertainty in Income Taxes-an interpretation of FASBStatement No. 109("FIN 48").
FIN 48 clarifies the accounting for uncertainty in income taxes recognized in a
company’s financial statements in accordance with SFAS No. 109, Accounting for Income Taxes.FIN 48 prescribes a recognition threshold and measurement attribute for
the financial statement recognition and measurement of a tax position taken or
expected to be taken in a tax return. FIN 48 also provides guidance on
derecognition, classification, interest and penalties, accounting in interim
periods, disclosure and transition.
  FIN 48
also requires expanded disclosure with respect to the uncertainty in income tax
assets and liabilities. FIN 48 is effective for fiscal years beginning after
December 15, 2006. The effect of adoption of FIN 48 is required to be recognized
as a change in accounting principle through a cumulative-effect adjustment to
retained earnings as of the beginning of the year of adoption. We adopted FIN 48
and its adoption did not have a material impact on our consolidated balance
sheet, statement of operations or statement of cash flow. We did not derecognize
any tax
 46
 Table of Contents
 
 7.  Commitments
and Contingencies
 
 Legal
Proceedings.  We are periodically named in legal actions
arising from normal business activities. We evaluate the merits of these actions
and, if we determine that an unfavorable outcome is probable and can be
estimated, we will establish the necessary accruals. We do not anticipate any
material losses as a result of commitments and contingent liabilities. We are
involved in no material legal proceedings.
 
 Shouyang and
Qinnan Production Sharing Contracts. We are the operator under two
separate PSCs with CUCBM to develop the Shouyang and Qinnan Blocks in the Shanxi
Province.  The term of each of the Shouyang and Qinnan PSCs consists
of an exploration period, a development period and a production period. During
the exploration period, we hold a 100% participating interest in the properties,
and we must bear all exploration costs for discovering and evaluating
CBM-bearing areas. If any CBM field is discovered, the development costs for
that CBM field will be borne by us and CUCBM in proportion to the respective
participating interests. The exploration period is divided into three phases
called Phase I, Phase II and Phase III.  We have completed our Phase I
and Phase II obligations under the PSCs, and elected to enter into Phase
III.  Our work commitment to complete Phase III consists of furthering
the horizontal drilling in the coal seam begun in Phase II to a total of 12,000
meters. This obligation can be met by combining the drilling results in the
Shouyang and Qinnan Blocks.  We have completed two horizontal wells in
the Shouyang Block under Phase III, the second of which was completed in the
first quarter of 2007.  The wells we have drilled to date total
approximately 8,805 meters of horizontal drilling in coal
seam.  Therefore, we will be required to drill additional wells to
fulfill the 12,000 meter obligation.  The Phase III exploration period
will expire on June 30, 2009, unless extended.
 
 In June
2007, we entered into a turnkey contract with a Chinese drilling company to
drill a horizontal well for $1.2 million in the Qinnan Block.  The
plan for the well was to achieve a horizontal reach in the coal of approximately
3,000 meters (9,800 feet).  The drilling company
encountered serious drilling difficulties and was unable to complete the
well program as specified at year-end.  We are not liable for payment
of the cost of this well until the drilling company meets its obligations under
the contract.  As such, there is no current accrual for the contracted
amount in our financial statements.  Drilling operations are
continuing, but we cannot predict when or if the drilling company will be able
to successfully drill the well.
 
 On June
26, 2007, the MOC approved the extension of the exploration phase for both the
Shouyang and Qinnan PSCs from June 30, 2007 to June 30, 2009.  In
connection with the extension, we have committed to satisfy certain annual
minimum exploration expenditure requirements for the Shouyang PSC and for the
Qinnan PSC.  Thus, we must meet both our work obligations (the
12,000-meter drilling in the coal) and our minimum exploration expenditure
requirements under those PSCs.  The PSC’s minimum exploration
expenditure requirements are based on minimum exploration expenditure
requirements of CUCBM established by the PRC’s Ministry of Land and Resources
("MLR").  The MLR sets its requirements by applying a minimum
expenditure per acre to the total acreage encompassed by each
PSC.  Under the PSC, the portion of the exploration expenditures which
exceed the current year’s minimum exploration expenditure requirement can be
carried forward toward the satisfaction of the subsequent year’s minimum
requirement. The resulting minimum expenditure requirement is a significant
factor that influences the company’s exploration work program.
 
 The
annual minimum exploration expenditure requirements for 2007 were prorated based
on the June 2007 date of the extension approval.  For 2007, we have
spent in total more than the total prorated minimum requirement for both
PSCs.  At December 31, 2007, we incurred exploration expenditures of
$3.8 million for the Shouyang PSC which exceeded its prorated 2007 minimum
requirement by $2.5 million.  The 2008 minimum exploration expenditure
for the Shouyang PSC is approximately $2.6 million.  The excess of
$2.5 million from 2007 can be applied to the 2008 minimum exploration
expenditure.  In addition, based on the costs we have incurred to date
at the Shouyang Block in 2008, we have already met the 2008 minimum exploration
expenditure.
 
 47
 Table of Contents
 For the
Qinnan PSC, we incurred exploration expenditures of $0.6 million as of December
31, 2007, which was $0.9 million less than the prorated 2007 exploration
expenditure requirement of $1.5 million.  The deficiency in fulfilling
the prorated 2007 minimum requirement for the Qinnan PSC was due to the
aforementioned failure by the contracted drilling company to complete the
horizontal well program as specified.  As a result, we have agreed to
increase the 2008 minimum exploration expenditure for  the Qinnan
PSC to approximately $4.2 million.
  Under the
PSCs, we are required to make certain payments to CUCBM, including: (1) CUCBM
assistance fees totaling $100,000 per year during the exploration period and
$240,000 per year during the development and production periods; (2) training
fees for Chinese personnel working on the projects of $120,000 per year during
the exploration phase and $300,000 per year during the development and
production periods; (3) signature fees totaling $300,000, which will be due
within 30 days after first approval of the overall development plan following
the exploration period; (4) reimbursement to CUCBM for government-imposed fees
for CBM exploration rights during the exploration period, which were $278,000 in
2007, and are estimated to be approximately $285,000 in 2008, and in proportion
to our participating interest in the development and production periods; and (5)
salary and benefits paid to CUCBM professionals during the exploration period,
which was $151,000 in 2007 and are estimated to be approximately $164,000 in
2008. The allocation of salary and benefits for CUCBM professionals during the
development and production periods are determined by CUCBM and us through
consultation.  As of December 31, 2007, CUCBM has not collected, and
therefore we have carried forward, the accruals of $120,000 and $2,000 of the
$120,000 per year training fees for 2007 and 2006, respectively, and the accrual
of $215,000 of the $278,000 government-imposed fees for 2007.
 
 Yunnan Production
Sharing Contract.We are the operator
under one PSC with CUCBM to develop two areas in the Yunnan Province: Enhong and
Laochang. The term of the PSC consists of an exploration period, a development
period and a production period. The exploration period is divided into two
phases, Phase I and Phase II.  We have completed Phase I and are
operating in Phase II.  The Phase II portion of the exploration period
expires on June 30, 2009, unless extended.
 
 During
the exploration period, we must bear all exploration costs for discovering and
evaluating CBM-bearing areas.  Our work commitment to complete Phase
II consists of drilling at least one horizontal well with a minimum of two
laterals.   We are reviewing the data collected from the vertical
wells we drilled and other wells drilled by the Chinese coal industry to plan
for the drilling of the horizontal well.
 
 On June
26, 2007, MOC approved the extension of the exploration phase from June 30, 2007
to June 30, 2009.  In connection with the extension, we have committed
to satisfy certain annual minimum exploration expenditure requirement for the
Enhong-Laochang PSC.  Thus, we must meet both our work obligations
(drilling at least one horizontal well with a minimum of two laterals) and our
minimum exploration expenditure requirement under the PSC.  The PSC’s
minimum exploration expenditure requirement is based on minimum exploration
expenditure requirements of CUCBM established by MLR.  The MLR sets
its requirements by applying a minimum expenditure per acre to the total acreage
encompassed by the PSC.  Under the PSC, the portion of the exploration
expenditures which exceed the current year’s minimum exploration expenditure
requirement can be carried forward toward the satisfaction of the subsequent
year’s minimum requirement. The resulting minimum expenditure requirement is a
significant factor that influences our exploration work program.
 
 The
annual minimum exploration expenditure requirement for 2007 was prorated based
on the June 2007 date of the extension approval.  As of December 31,
2007, we have incurred exploration expenditures for the Enhong-Laochang PSC of
$0.6 million which is $0.1 million less than the prorated 2007 exploration
expenditure requirement of $0.7 million.  We did not incur the $0.1
million in 2007 due to a delay in the completion of drilling of our next
vertical well which we began in December.  We plan to complete the
vertical well in early 2008.  As a results, we have agreed to increase
the 2008 minimum exploration expenditure for the Yunnan PSC by $0.1 million to
$1.5 million.
 
 Pursuant
to the terms of our Enhong-Laochang PSC with CUCBM, we have paid CUCBM signature
fees totaling $350,000. Under the PSC, we are required to make certain payments
to CUCBM, including: (1) CUCBM assistance fees for Chinese personnel totaling
$45,000 per year during the exploration phase and $80,000 per year during the
development and production periods; (2) training fees for Chinese personnel
working on the projects of $45,000 per year during the exploration period and
$80,000 per year during the development and production
 48
 Table of Contents
 
 Employment
Agreement.  On October 13, 2003, we entered into an employment
agreement with Michael R. McElwrath, Chief Executive Officer, which was approved
by the Board of Directors. In October 2007, the term of the employment agreement
was extended to October 13, 2010 from the original expiration date of October
13, 2008. The employment agreement provides that if we terminate the executive
for cause (as defined in the employment agreements), we shall pay his base
salary and all amounts actually earned, accrued or owing as of the date of
termination, and the executive shall be entitled to exercise all options granted
to him under his employment agreement or otherwise to the extent vested and
exercisable on the date of termination.
 
 If the
executive’s employment is terminated by us (other than as a result of death,
disability (as defined in his employment agreement) or cause, or if the
executive terminates his employment for good reason (as defined in his
employment agreement)), the executive shall be entitled to: (1) a lump sum
payment of two times the sum of executive’s base salary and bonus paid during
the immediately preceding twelve month period, (2) continued participation in
all employee benefit plans, programs or arrangements available to our executive
officers in which executive was participating on the date of termination for a
specified period of time following termination, and (3) the exercise of all
options and restricted stock awards granted to him to the extent vested and
exercisable at the date of termination of executive’s employment
 
 Notwithstanding
the foregoing, if the executive’s termination of employment by the Company
(other than for cause, disability or death) or by the executive for good reason
(as defined in the employment agreement) occurs within 24 months following a
change of control (as defined in the employment agreement), then the executive
shall be entitled to a lump sum payment of three times the sum of executive’s
base salary and bonus during the immediately preceding twelve-month period and
all options and restricted stock granted to executive will immediately vest and
become exercisable as of the date of termination. The employment agreement also
entitles the executive to certain gross up payments for excise taxes in the
event of a change of control.
 
 Operating
Leases.Rent expenses for 2007, 2006 and 2005 were
approximately $243,000, $288,000 and $120,000, respectively.  The
future minimum payments under our operating lease commitments as of December 31,
2007 are as follows:
 
 2008
              
              $
              385,0002009
              
              
              385,0002010
              
              
              369,0002011
              
              
              115,0002012
              
              
              67,000Thereafter
              
              
              -Total
      minimum lease payments
              
              $
              1,321,000
 
 Closing of the 2003 Securities and
Exchange Commission Investigation.  On October 31, 2007, we
were orally notified that the Securities and Exchange Commission ("SEC") is
closing their investigation that they initiated on November 25,
2003.  We learned that the Company and/or certain of its stockholders
were the subject of that investigation.  We believe the SEC was
investigating whether anyone had issued false or misleading statements in
connection with purchases and sales of our common stock, whether anyone has
profited from selling stock at artificially high prices due to the manipulative
statements, and whether any individual or group has failed to file ownership
reports with the SEC as required for 10% or more beneficial owners under Section
16 of the Securities Exchange Act of 1934, as amended ("Exchange Act"), or
failed to file ownership reports with the SEC as required for 5% or more
beneficial owners under Section 13 of the Exchange Act.  On November
14, 2007, the SEC
 49
 Table of Contents
 
 8.  Employee
Savings Plan
 
 At
December 31, 2007, we maintained a defined contribution plan covering all of our
U.S. employees. Employees participating in the plan may select from several
investment options. We match the participant’s contribution ranging from one
percent to a maximum of three percent of the participant’s salary. The amounts
contributed by the participants and us vest immediately. We expensed $41,000,
$32,000 and $8,000 under this plan for 2007, 2006 and 2005,
respectively.
 
 9.   Share-based
Compensation
 
 We grant
options to purchase common stock and non-vested shares of common stock to
employees and members of the board of directors under our 2005 Stock Incentive
Plan (the "2005 Plan"), which is shareholder-approved.  Our
shareholders voted in December 2007 to add 4,000,000 shares of common stock to
the Plan.  The Plan permits the grant of share-based awards, including
options, non-vested shares, and stock appreciation rights and provides a total
of 7,500,000 shares for grants.  Options granted under the Plan must
carry an exercise price equal to or above the market value (defined as average
of high and low prices) of the stock at the grant date, and a term of no greater
than ten years.  The Plan requires that non-vested shares granted
under the Plan must be forfeited upon termination of service.  We
issue new shares when options are exercised or shares are
granted.  Our option grants under the Plan to date have generally
utilized these terms: exercise price above or equal to average market price on
the date of the grant, vesting periods up to four years from date of grant, term
of up to ten years, and forfeiture of unexercised options after 60-90 days after
termination of employment with the company.  Our non-vested shares
granted under the Plan to date have generally utilized vesting periods of six
months to three years.
 
 Prior to
adoption of the Plan, grants of options included varying terms, some differing
from the above.  Since the adoption of the 2005 Plan, we had not
granted any awards outside the 2005 Plan until the fourth quarter of
2007.  During the quarter, share-based awards granted outside the 2005
Plan included inducement award for new director and award granted in conjunction
with the amendments to certain option agreements impacted by the new Section
409A of the Internal Revenue Code of 1986, as amended ("409A Options"),
according to guidance issued by the Internal Revenue Service.  These
awards carried terms similar to those made under the 2005 Plan.
 
 On
January 1, 2006, we adopted SFAS No. 123 (revised 2004) - "Share-Based
Payment,"(SFAS
No.123(R)),
which is a revision of SFAS No. 123 - "Accounting for Stock-Based Compensation."
SFAS No.123(R)
supersedes Accounting Principles Board Opinion No. 25 (APB 25) and amends SFAS
No. 95 - "Statement of Cash Flows."  Under SFAS No.123(R), the
cost of employee services received in exchange for stock options granted is
measured based on the grant date fair value.  That cost is to be
recognized over the period during which an employee is required to provide
service in exchange for the award, usually the vesting period.  We
estimate the fair value of options using the Black-Scholes option pricing
model.  We estimate the fair value of non-vested shares based on the
last quoted price of our stock on the OTC bulletin board on the date of the
share grant.   Excess tax benefits, as defined in SFAS No.123(R), are
recognized as an addition to paid-in capital.
 
 We
adopted SFAS No.123(R) under
the modified prospective method.  Under this method, we began
recognizing expense on January 1, 2006 on any unvested awards granted prior to
the adoption date which we expect to vest over the remaining vesting period of
the awards.  New awards granted after the adoption date are expensed
over the vesting period of the award.  As share-based compensation
expense is recognized based on awards ultimately expected to vest, we have
reduced the expense for estimated forfeitures based on historical forfeiture
rates.  SFAS123(R) requires forfeitures to be estimated at the time of
grant and revised, if necessary, in subsequent periods to reflect actual
forfeitures.
 
 Prior to
January 1, 2006, we accounted for stock options awarded to our employees and
members of our board of directors under APB 25 - "Accounting for Stock Issued to
Employees," and had adopted the disclosure only provisions of SFAS No.123, as
amended by SFAS No. 148 - "Accounting for Stock-Based Compensation—Transition
and Disclosure—an amendment of FASB Statement No. 123."  Under APB 25,
we recognized compensation cost for stock options granted at an exercise price
below market value on the date of grant.  Prior to adopting SFAS
No.123(R), we
 50
 Table of Contents
 
 The
following table summarizes share based compensation expense recognized under
SFAS No.123(R) for
2007 and 2006, and under APB 25 for employees and directors and SFAS No.123(R) for
technical advisors and consultants for 2005, which was allocated as
follows:
 
 2007
              
              
              2006
              
              
              2005General
      and administrative
              
              $
              1,311,000
              
              
              $
              1,863,000
              
              
              $
              730,000Tax
      benefit
              
              
              -
              
              
              
              -
              
              
              
              -Total
      share-based compensation expense, net of tax
              
              $
              1,311,000
              
              
              $
              1,863,000
              
              
              $
              730,000
 
 Share-based
compensation expense included the costs related to options and shares granted to
employees and the cost related to options, shares, and warrants granted to
non-employees as compensation for various services.  No share-based
compensation has been capitalized.  We had net operating loss
carryforwards for federal income tax purposes and, under the provisions of SFAS
No. 109 -  "Accounting for Income Taxes," we have a valuation
allowance equal to the total amount of the deferred tax assets.  The
following table illustrates the pro forma effect on net income and earnings per
share for the year ended December 31, 2005 if we had applied the fair value
recognition provisions of SFAS No.123(R) to the
company’s stock options:
 
 2005Net
      loss as reported
              
              $
              (8,292,000
              )Add:Share-based
      employee compensation costs includedin net loss, net of related
      tax effects
              
              
              387,000Deduct:Share-based
      employee compensation expensedetermined under fair value method
      for all awards, net of related tax effects
              
              
              (1,462,000
              )Pro
      forma net loss
              
              $
              (9,367,000
              )Basic
      and diluted loss per share:As
      reported
              
              $
              (0.10
              )Pro
      forma
              
              $
              (0.11
              )Weighted
      average number of shares
              
              
              82,464,902
 
 We
utilized certain assumptions in determining the fair value of options using the
Black-Scholes model.  We calculated the estimated volatility for
grants of options made in 2006 and 2007 by averaging the historical daily price
intervals for our common stock for the portion of the expected life that our
shares were publicly traded and the historical daily price intervals of similar
peer companies for the remaining period.  The estimated volatility for
grants made in 2005 was estimated by using historical daily and weekly price
intervals for similar peer companies.  The risk-free interest rate is
based on observed U.S. Treasury rates at date of grant, appropriate for the
expected lives of the options. The expected life of options granted during 2007
and 2006 was determined based on the method provided in Staff Accounting
Bulletin 107, as we do not have an adequate exercise history to determine the
average life for the options with the characteristics of those granted in 2007
and 2006.  The expected life of options granted during 2005 was
estimated based on the exercise history with the options of similar
characteristics.
  51
 Table of Contents
  Compensation
expenses for the stock option grants determined under SFAS No.123(R) for
2007, 2006 and 2005 were calculated using the Black-Scholes option pricing model
with the following assumptions:
 
 Actual
              
              
              Actual
              
              
              Pro
      Forma2007
              
              
              2006
              
              
              2005Dividend
      yield
              
              
              0
              %
              
              
              0
              %
              
              
              0
              %Expected
      volatility
              
              
              82
      - 84
              %
              
              
              83
              %
              
              
              50
              %Risk-free
      interest rate
              
              
              4.2
      - 4.9
              %
              
              
              4.5
              %
              
              
              0.9%
      - 4.9
              %Expected
      life of options (years)
              
              
              5.5
      - 6
              
              
              
              6
              
              
              
              5 -
      10Weighted
      average fair valueper share at grant date
              
              $
              0.71
              
              
              $
              1.19
              
              
              $
              0.48
 
 The
following table summarizes stock option transactions for 2007:
 
 Stock
      OptionsWeighted
              
              
              WeightedShares
              
              
              Average
              
              
              Average
              
              
              AggregateUnderlying
              
              
              Exercise
              
              
              Remaining
              
              
              IntrinsicOptions
              
              
              Price
              
              
              Life
      (Years)
              
              
              ValueOutstanding
      at beginning of year
              
              
              10,203,000
              
              
              $
              1.44Granted
              
              
              3,581,000
              
              
              
              1.16Exercised
              
              
              (660,000
              )
              
              
              0.65Canceled
              
              
              (1,840,000
              )
              
              
              1.09Forfeited
              
              
              (1,219,000
              )
              
              
              2.00Expired
              
              
              (100,000
              )
              
              
              3.85Outstanding
      at end of year
              
              
              9,965,000
              
              
              
              1.36
              
              
              
              4.22
              
              
              $
              1,086,000Options
      exercisable at end of year
              
              
              7,176,200
              
              
              $
              1.47
              
              
              
              3.14
              
              
              $
              758,000
 
 The table
above includes 1,840,000 stock options which were modified by cancellation and
replacement with new grants of options for three of our executive officers and
one of our directors during 2007.  The options were modified in order
to avoid potential adverse tax consequences to the holders of these options
under the provisions of IRS Section 409A.  The
modifications  differed with each affected grant, but all changes were
disadvantageous to the option holder.  There was no incremental
expense to the company for these modifications, which included various
combinations of increases to exercise price and changes to the period in which
the options will be exercisable.
 
 The total
intrinsic value of options exercised during the years ended December 31, 2007,
2006 and 2005 was $383,000, $354,000, and $228,000 respectively.
 
 A summary
of options outstanding as of December 31, 2007 is as follows:
 
 AverageRemaining
              
              
              Average
              
              
              
              
              
              AverageRange
      of
              
              
              Number
              
              
              Contractual
              
              
              Exercise
              
              
              Number
              
              
              ExerciseExercise
      Prices
              
              
              Outstanding
              
              
              Life
      (Years)
              
              
              Price
              
              
              Exercisable
              
              
              Price$0.65
      to $1.99
              
              
              
              5,537,000
              
              
              
              4.65
              
              
              $
              0.82
              
              
              
              3,244,000
              
              
              $
              0.79$2.00
              
              
              
              3,768,000
              
              
              
              3.72
              
              
              
              2.00
              
              
              
              3,272,200
              
              
              
              2.00$2.01
      to $2.37
              
              
              
              660,000
              
              
              
              3.45
              
              
              
              2.23
              
              
              
              660,000
              
              
              
              2.239,965,000
              
              
              
              4.22
              
              
              
              1.36
              
              
              
              7,176,200
              
              
              
              1.47
  52
 Table of Contents
  The
following table summarizes activity in non-vested shares of common stock for
2007:
 
 WeightedNon-Vested
              
              
              AverageShares
      of
              
              
              Grant
      DateCommon
      Stock
              
              
              Fair
      ValueOutstanding
      at beginning of year
              
              
              -
              
              
              $
              -Granted
              
              
              1,182,292
              
              
              
              0.90Vested
              
              
              -
              
              
              
              -Forfeited
              
              
              (150,000
              )
              
              
              0.82Outstanding
      at end of year
              
              
              1,032,292
              
              
              
              0.91
 
 The table
above includes 482,292 shares which were issued in conjunction with the
amendments of the aforementioned 409A Options.  These grants of
non-vested restricted stock have vesting periods of approximately four
months.  The total fair value of shares vested was zero during each
of  the years ended December 31, 2007, 2006 and
2005.   As of December 31, 2007, there was a total of $1,865,000
of unrecognized compensation expense related to non-vested option and stock
awards that was expected to be recognized over a weighted average period of two
years.
 
 
 10.  Stockholders’
Equity
 
 Common
Stock.Holders of our common
stock are entitled to one vote for each share held on all matters submitted to a
vote of stockholders and do not have cumulative voting rights. Accordingly,
holders of a majority of the shares of common stock entitled to vote in any
election of directors may elect all other directors standing for election.
Holders of common stock are entitled to receive proportionately any dividends
that may be declared by our board of directors, subject to any preferential
rights of outstanding preferred stock. In the event of our liquidation,
dissolution or winding up, holders of common stock will be entitled to receive
proportionately any of our assets remaining after the payment of liabilities and
subject to the prior rights of any outstanding preferred stock. Holders of
common stock have no preemptive, subscription, redemption or conversion
rights.
 
 Issuances of
Common Stock and Warrants.  The table below summarizes
placements of our shares of common stock and warrants since the inception of the
Company:
 
 Common
              
              
              
              
              
              ProceedsShares
              
              
              Warrants(1)
              
              
              Gross
              
              
              NetCompany
      formation
              
              
              40,500,000
              
              
              
              -
              
              
              $
              53,000
              
              
              $
              53,000Shares
      issued in2002
              
              
              5,250,500
              
              
              
              -
              
              
              
              3,413,000
              
              
              
              3,052,0002003
              
              
              10,595,961
              
              
              
              8,903,270
              
              
              
              6,607,000
              
              
              
              5,383,0002004
              
              
              18,186,471
              
              
              
              11,042,215
              
              
              
              15,962,000
              
              
              
              14,621,0002005(2)
              
              
              14,893,292
              
              
              
              150,000
              
              
              
              13,404,000
              
              
              
              12,469,0002006
      (3)
              
              
              25,514,511
              
              
              
              -
              
              
              
              25,881,000
              
              
              
              24,953,0002007(4)
              
              
              11,485,452
              
              
              
              4,019,908
              
              
              
              15,000,000
              
              
              
              14,814,000126,426,187
              
              
              
              24,115,393
              
              
              $
              80,320,000
              
              
              $
              75,345,000
 __________
 
 (1)
              Details
      of warrants granted from 2005 through 2007 are described below under the
      caption "Warrants."
 
 (2)
              We
      completed two private placements in 2005.  The warrants to
      purchase up to 150,000 shares of our common stock at $0.90 per share were
      issued to the placement agent of one of the two private placements
      .  The warrants have a three year
  term.
  53
 Table of Contents
 
 (3)
              On
      June 30, 2006, we accepted subscription agreements for the purchase of
      6,622,222 common shares in a private placement for gross proceeds of $8.9
      million.  In connection with this sale, commissions of $603,000
      were paid.  In conjunction with this offering, an investor
      purchased 30,068 shares of our common stock for total gross proceeds of
      approximately $41,000, which were offered pursuant to the terms of the
      Stock Subscription Agreement dated December 21, 2004 between us and
      certain investors.  In October 2006, we sold 18,862,221 common
      shares in a registered offering for gross proceeds of approximately $17.0
      million.  In connection with this sale, commissions of $329,000
      were paid.
 (6)
              In
      August 2007, we sold 11,485,452 common shares in a registered offering for
      gross proceeds of approximately $15.0 million.  No placement
      agent fee, finder fee or commission was paid in conjunction with this
      sale.  Legal expenses and other direct costs related to the
      transaction totaled $188,000.
 
 Shelf
Registration.As of February 18, 2008, the amount available under our
filed registration statement with the SEC for the offer and sale from time to
time of our debt securities, preferred stock and/or common stock totaled $107.5
million.
  Basic and Diluted
Shares Outstanding.  Our basic and diluted numbers of shares
outstanding in each of the three years presented were the same because we had
net losses.  There were (1) 9,965,000 options, 10,203,000 options and
9,786,000 options as of December 31, 2007, 2006 and 2005, respectively; and (2)
4,368,222 warrants, 8,661,589 warrants and 11,862,601 warrants as of December
31, 2007, 2006 and 2005, respectively.
 
 Resale
Restrictions.  On December 31, 2007, we had 137,005,294 shares
of common stock outstanding, of which  30,265,354 shares, or 22.1%,
were subject to resale restriction.
 
 Preferred
Stock.Our
board of directors has the authority, without further action by the
stockholders, to issue up to 500,000,000 shares of preferred stock in one or
more series and to designate the rights, preferences, privileges and
restrictions of each series. The issuance of preferred stock could have the
effect of restricting dividends on the common stock, diluting the voting power
of the common stock, impairing the liquidation rights of the common stock or
delaying or preventing our change in control without further action by the
stockholders. We have no present plans to issue any shares of preferred
stock.
 
 Warrants.The following table
summarizes warrant transactions for the years ended December 31, 2007, 2006 and
2005.
 
 2007
              
              
              2006
              
              
              2005Outstanding
      at beginning of year
              
              
              8,661,589
              
              
              
              11,862,601
              
              
              
              16,825,689Issued
      related toCurrent
      year's share placements (1)
              
              
              4,019,908
              
              
              
              -
              
              
              
              150,000Prior
      year's share placements
              
              
              -
              
              
              
              92,287
              
              
              
              1,125,000Exercised
              
              
              (12,650
              )
              
              
              (547,799
              )
              
              
              (4,524,020
              )Surrendered
              
              
              -
              
              
              
              -
              
              
              
              (550,000
              )Expired
              
              
              (8,300,625
              )
              
              
              (2,745,500
              )
              
              
              (1,164,068
              )Outstanding
      at end of year
              
              
              4,368,222
              
              
              
              8,661,589
              
              
              
              11,862,601
 
 (1)
              In
      August 2007, we issued warrants for the purchase of 4,019,908 shares of
      common stock at an exercise price of $2.61 per share.  The
      warrants will terminate on the earlier of August 27, 2012 or the date
      fixed for redemption of the warrant under the warrant
      agreement.
 
 At
December 31, 2007, 2006 and 2005, 4,368,222 shares, 8,661,589 shares and
11,862,601 shares of our common stock authorized were reserved for the exercise
of warrants, respectively.
  54
 Table of Contents
 
 A summary
of warrants outstanding as of December 31, 2007 is as follows:
 
 Exercise
      Price /
              
              
              Warrants
              
              
              Expiration
      Date InRange
              
              
              Outstanding
              
              
              2008
              
              
              2010
              
              
              2012$0.80
      - $0.90
              
              
              
              290,877
              
              
              
              150,000
              
              
              
              140,877
              
              
              
              -$1.50
              
              
              
              20,562
              
              
              
              -
              
              
              
              20,562
              
              
              
              -$2.50
              
              
              
              36,875
              
              
              
              -
              
              
              
              36,875
              
              
              
              -$2.61
              
              
              
              4,019,908
              
              
              
              -
              
              
              
              -
              
              
              
              4,019,908Total
              
              
              
              4,368,222
              
              
              
              150,000
              
              
              
              198,314
              
              
              
              4,019,908
 
 Stock
Options.In
May 2005, our stockholders approved the Far East Energy Corporation 2005 Stock
Incentive Plan (the "Plan"), which permits the granting of incentive stock
options, stock appreciation rights, restricted stock, restricted stock units and
other stock-based awards to employees, consultants and members of the board of
directors.  Our shareholders voted in December 2007 to add 4,000,000
shares of common stock to the Plan.  The Plan provides that the
maximum number of shares of our common stock with respect to which the awards
may be granted is 7,500,000 shares, subject to adjustment in accordance with the
provisions of the Plan.  As of December 31, 2007, we have granted
2,294,000 options under the plan.  As of December 31, 2007, we had
4,656,000 shares available for awards under the Plan, of which 1,850,000 shares
could be issued as restricted stock, non-vesting shares or other full-valued
stock-based awards.  Prior to approval of the Plan, we granted stock
options to employees, directors, technical advisors and consultants under
individual option agreements.
 
 The following table
summarizes stock option transactions for the years ended December 31, 2007, 2006
and 2005:
 
 2007
              
              
              2006
              
              
              2005Weighted
              
              
              
              
              
              Weighted
              
              
              
              
              
              WeightedShares
              
              
              Average
              
              
              Shares
              
              
              Average
              
              
              Shares
              
              
              AverageUnderlying
              
              
              Exercise
              
              
              Underlying
              
              
              Exercise
              
              
              Underlying
              
              
              ExerciseOptions
              
              
              Price
              
              
              Options
              
              
              Price
              
              
              Options
              
              
              PriceOutstanding
      at beginning of year
              
              
              10,203,000
              
              
              $
              1.44
              
              
              
              9,786,000
              
              
              $
              1.35
              
              
              
              10,218,000
              
              
              $
              1.27Granted
              
              
              3,581,000
              
              
              
              1.16
              
              
              
              1,073,000
              
              
              
              1.96
              
              
              
              740,000
              
              
              
              2.00Exercised
              
              
              (660,000
              )
              
              
              0.65
              
              
              
              (510,000
              )
              
              
              0.65
              
              
              
              (240,000
              )
              
              
              0.65Canceled
              
              
              (1,840,000
              )
              
              
              1.09
              
              
              
              -
              
              
              
              -
              
              
              
              (240,000
              )
              
              
              0.65Forfeited
              
              
              (1,219,000
              )
              
              
              2.00
              
              
              
              (146,000
              )
              
              
              2.00
              
              
              
              (932,000
              )
              
              
              1.39Expired
              
              
              (100,000
              )
              
              
              3.85
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -Outstanding
      at end of year
              
              
              9,965,000
              
              
              
              1.36
              
              
              
              10,203,000
              
              
              
              1.44
              
              
              
              9,546,000
              
              
              
              1.35Options
      exercisable at end of year
              
              
              7,176,200
              
              
              $
              1.47
              
              
              
              7,542,100
              
              
              $
              1.31
              
              
              
              6,457,000
              
              
              $
              1.19
 
 11.  Comprehensive
Income
  The
following table presents the components of FEEC’s comprehensive
income:
  Year
      ended December 31,2007
              
              
              2006
              
              
              2005Net
      loss
              
              $
              (11,849,000
              )
              
              $
              (10,343,000
              )
              
              $
              (8,292,000
              )Foreign
      currency translation adjustment
              
              
              -
              
              
              
              (92,000
              )
              
              
              96,000Comprehensive
      loss
              
              $
              (11,849,000
              )
              
              $
              (10,435,000
              )
              
              $
              (8,196,000
              )
  55
 Table of Contents
  SUPPLEMENTAL
INFORMATION TO CONSOLIDATED FINANCIAL STATEMENTS
 
 Unaudited
Quarterly Financial Information
 
 
 Quarter
      EndedMarch
      31
              
              
              June
      30
              
              
              September
      30
              
              
              December
      31
              
              
              Year2007Revenues
              
              $
              -
              
              
              $
              -
              
              
              $
              -
              
              
              $
              -
              
              
              $
              -Total
      expenses
              
              
              2,728,000
              
              
              
              3,444,000
              
              
              
              2,521,000
              
              
              
              3,827,000
              
              
              
              12,520,000Net
      loss
              
              
              (2,528,000
              )
              
              
              (3,347,000
              )
              
              
              (2,327,000
              )
              
              
              (3,647,000
              )
              
              
              (11,849,000
              )Basic
      and dilutedEarnings
      per share
              
              $
              (0.02
              )
              
              $
              (0.03
              )
              
              $
              (0.02
              )
              
              $
              (0.03
              )
              
              $
              (0.09
              )Weighted
      average shares outstanding
              
              
              123,887,898
              
              
              
              124,594,320
              
              
              
              129,429,419
              
              
              
              136,463,863
              
              
              
              128,630,6192006
      *Revenues
              
              $
              -
              
              
              $
              -
              
              
              $
              -
              
              
              $
              -
              
              
              $
              -Total
      expenses
              
              
              2,283,000
              
              
              
              2,025,000
              
              
              
              3,036,000
              
              
              
              3,431,000
              
              
              
              10,775,000Net
      loss
              
              
              (2,172,000
              )
              
              
              (1,966,000
              )
              
              
              (2,913,000
              )
              
              
              (3,292,000
              )
              
              
              (10,343,000
              )Basic
      and dilutedEarnings
      per share
              
              $
              (0.02
              )
              
              $
              (0.02
              )
              
              $
              (0.03
              )
              
              $
              (0.03
              )
              
              $
              (0.10
              )Weighted
      average shares outstanding
              
              
              97,347,274
              
              
              
              97,602,730
              
              
              
              104,361,658
              
              
              
              120,094,577
              
              
              
              104,912,539
 
 * During
the fourth quarter of 2006, we determined that the functional currency for our
Chinese operations for 2006 and prior periods included in this Annual Report on
Form 10-K was U.S. Dollars, instead of the Chinese Yuan as previously reported
and utilized (see "Foreign Currency Transactions" in Note 1 to the consolidated
financial statements).
  56
 Table of Contents
  SCHEDULE
II
 
 FAR
EAST ENERGY CORPORATION
 VALUATION
AND QUALIFYING ACCOUNTS
 
 For
Years Ended December 31, 2007, 2006 and 2005
 
 AdditionsBalance
      at
              
              
              Charged
      to
              
              
              Charged
      to
              
              
              
              
              
              BalanceBeginning
              
              
              Cost
      and
              
              
              Other
              
              
              
              
              
              at
      End ofDescription
              
              of
      Period
              
              
              Expense
              
              
              Accounts
              
              
              Deductions
              
              
              Period2007
      deferred tax valuation allowance
              
              $
              1,950,000
              
              
              $
              839,000
              
              
              $
              -
              
              
              $
              -
              
              
              $
              2,789,0002006
      deferred tax valuation allowance
              
              
              7,200,000
              
              
              
              -
              
              
              
              -
              
              
              
              5,250,000
              
              
              
              1,950,0002005
      deferred tax valuation allowance
              
              
              4,460,000
              
              
              
              2,740,000
              
              
              
              -
              
              
              
              -
              
              
              
              7,200,000
  57
 Table of Contents
  ITEM9.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ON ACCOUNTING AND FINANCIAL DISCLOSURE
 
 Not
applicable.
 
 ITEM9A.  CONTROLS AND PROCEDURES
 
 Evaluation
of Disclosure Controls and Procedures
 
 We
carried out an evaluation under the supervision and with the participation of
our management, including our chief executive officer and chief financial
officer, of the effectiveness of our disclosure controls and procedures (as
defined in Rule 13a-15(e) under the Exchange Act), as of the end of the period
covered by this report. Based upon that evaluation, our chief executive officer
and chief financial officer concluded that our disclosure controls and
procedures were effective as of the end of the period covered by this
report.
 
 Management’s
Report on Internal Control over Financial Reporting
 
 Management’s
report on internal control over financial reporting as of December 31, 2007 is
included on page 34. Additionally, our independent registered public accounting
firm, Payne Smith & Jones, P.C., that audited our consolidated financial
statements included in this report, has issued an audit report on the
effectiveness of our internal control over financial reporting as of December
31, 2007, which is included on page 36 of this report.
 
 Changes
in Internal Controls
 
 In
connection with the evaluation described above, our management, including our
chief executive officer and chief financial officer, identified no change in our
internal control over financial reporting that occurred during the fiscal
quarter ended December 31, 2007, that has materially affected, or is reasonably
likely to materially affect, our internal controls over financial
reporting.
 
 ITEM9B.  OTHER INFORMATION
 
 Not
Applicable.
  58
 Table of Contents
  PART
III
 
 ITEM10.  DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE
GOVERNANCE
 
 Executive
Officers and Board of Directors
 
 The table
below sets forth the names and ages of each of the members of our board of
directors (the "Board") and our executive officers, as well as the positions and
offices held by such persons. A summary of the background and experience of each
of these individuals is set forth after the table.
 
 Name
              
              Age
              
              PositionThomas
      E. Williams
              
              55
              
              Chairman
      of the BoardMichael
      R. McElwrath
              
              56
              
              President,
      Chief Executive Officer and DirectorWilliam
      A. Anderson
              
              68
              
              DirectorC.
      P. Chiang
              
              65
              
              DirectorDonald
      A. Juckett
              
              63
              
              DirectorJohn
      C. Mihm
              
              65
              
              DirectorLucian
      L. Morrison
              
              71
              
              DirectorRandall
      D. Keys
              
              48
              
              Chief
      Financial Officer and Principal Accounting OfficerPhil
      A. Christian
              
              50
              
              Chief
      Operating Officer, President and Country Manager of Far East Energy
      (Bermuda), Ltd.Garry
      R. Ward
              
              49
              
              Senior
      Vice President, EngineeringAlex
      Yang
              
              63
              
              Senior
      Vice President, Exploration and
Production
 
 Thomas E. Williamshas served
as Chairman of the Board since June 2007 and was appointed as a director in
February 2004. Mr. Williams also serves on the Audit Committee of the
Board. From 2000 until his retirement in 2007, Mr. Williams served as Vice
President, Research and Business Development of Noble Technology Services, a
wholly-owned subsidiary of Noble Corporation, a provider of diversified drilling
and other services to the oil and gas industry. Mr. Williams also served as
President of Maurer Technology Inc., a leading drilling R&D and engineering
technology company and a wholly-owned subsidiary of Noble Corporation. He held
senior executive positions at the U.S. Departments of Energy and Interior during
the Bush Administration from 1989 to 1993. From 1993 to 2000, he was Business
Development Director at Westport Technology Center in Houston, an upstream oil
and gas research company. He was a co-founder and served on the Board of
Cementing Solutions, Inc., an oil and gas cementing services and technology
company based in Houston, Texas. He has been in the oil and gas industry for
over 25 years, having owned and operated an oil and gas exploration, production
and consulting company prior to joining the Department of Energy.
Mr. Williams has authored more than 100 energy publications, presentations
and articles and serves on a number of oil and gas organizations, associations
and boards including the Independent Petroleum Association of America, the
Petroleum Technology Transfer Council’s Advisory Group, the Texas Independent
Producers and Royalty Owners Association, the Society of Petroleum Engineers,
American Association of Drilling Engineers, DeepStar Consortium Contributors
Advisory Board and Consumer Energy Alliance. He also serves on the Board of the
Research Partnership to Secure Energy for America consortium. He has a B.S.
degree in business from Campbellsville College.
 
 Michael R. McElwrath has
served as the Company’s President and Chief Executive Officer since October
2003. He became a director in October 2003 and served as Chairman of the Board
from October 2003 until January 2005. Mr. McElwrath also served as
Secretary and Treasurer from October 2003 until March 2005. He was employed as
Vice President of Hudson Highland (formerly known as TMP Worldwide) from 1999
until joining the Company in October 2003. He also served as Acting Assistant
Secretary of Energy in the first Bush Administration, as Director of the
National Institute for Petroleum and Energy Research, as Director of British
Petroleum’s outsourced exploration and production lab for the Americas and as
Deputy Assistant Secretary for policy for the U.S. Department of Interior in the
last year of the Reagan Administration. Mr. McElwrath holds a J.D. from the
University of Texas School of Law, as well as a B.A. from the Plan II Honors
Program at the University of Texas. He is also a member of the Society of
Petroleum Engineers, the Independent Petroleum Association of America, and the
Texas Independent Producers and Royalty Owners Association.
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 William
A. Anderson has served as a member of the Company’s Board since
October 2007. Mr. Anderson is the chairman of the Audit Committee and
has been designated as an "audit committee financial expert." He also
serves on the Compensation Committee of the Board. Mr. Anderson has served
as a consultant for Eastman Dillon Oil and Gas Association since 2006. From 1989
through 2005, he was a founder and partner of Weller, Anderson & Co.
Ltd., a full-service stock brokerage firm. Prior to founding Weller in 1989,
Mr. Anderson held several senior executive positions, including President
of HARC Technologies, President of Rainbow Pipeline Company, President of
Farmers Oil Company, Chief Financial Officer of ENSTAR Corporation, and General
Partner and Senior Vice President of Blyth, Eastman, Dillon & Co.
Mr. Anderson has extensive corporate board experience, having served as a
director, committee chairman and/or committee member for a number of
organizations, including Rancher Energy Corp., Tom Brown, Inc., Equisales, Inc.,
NationsBank Houston, Northern Trust Bank of Texas, American Income Life
Insurance Company, Wing Corporation and Seven J-Stock Farm, Inc. He holds an MBA
from the Harvard Business School and a B.S. in Business Administration from the
University of Arkansas.
 
 C.P. Chiang has served on the
Board since December 2006. He also serves on the Nominating and Corporate
Governance Committee. From 2001 until his retirement in 2006, Mr. Chiang
served as the China Project Manager/Country Manager - China of Burlington
Resources where he was responsible for managing the operations and activities of
Burlington Resources in China and worked closely and negotiated with various
Chinese governmental organizations. Throughout his 36 year career in the oil and
gas industry, Mr. Chiang has held various engineering and management
positions with oil and gas companies including British Gas E&P, Inc.,
Tenneco Oil Production and Exploration and Exxon Oil Company, now known as Exxon
Mobil Corporation. Mr. Chiang earned a B.S. degree in mining engineering
from National Cheng Kung University and a M.S. degree in petroleum engineering
from New Mexico Institute of Mining and Technology.
 
 Donald A. Juckett has served
as a director since May 2004. He also serves on the Nominating and Corporate
Governance Committee and the Compensation Committee of the Board. Since November
2005, Dr. Juckett has held the position of Director of the Washington, D.C.
office of the American Association of Petroleum Geologists. Prior to that,
Dr. Juckett was self-employed as an industry information consultant. He
served at the U.S. Department of Energy from 1988 until his retirement in 2003.
At his retirement, Dr. Juckett was Director of the Office of Natural Gas
and Petroleum Import and Export Activities for Fossil Energy. During his tenure
with the Department of Energy, he also served as a member of the Senior
Executive Service and held positions as Director of the Office of Natural Gas
and Petroleum Import and Export Activities, Director for Natural Gas and
Petroleum Technology and Acting Deputy Assistant Secretary for Natural Gas and
Petroleum Technology. Dr. Juckett managed a portfolio of international
projects including bilateral agreements with China, Russia, Venezuela, Ukraine,
Bangladesh and Mexico. Dr. Juckett also played an active role in the
formation of the United States/China Oil and Gas Industry Forum in 1998. From
1974 to 1988, Dr. Juckett worked for Phillips Petroleum Company, now known
as ConocoPhillips, Inc., in management positions including responsibility for
the support of worldwide divisions with exploration technologies including
geochemistry and satellite imagery. Dr. Juckett earned a B.S. degree in
chemistry from the State University of New York-Oswego and a Ph.D. in chemistry
from the State University of New York-Albany.
 
 John C. Mihm has served as a
director since May 2004. He served as Chairman of the Board from January 2005
through June 2007. Mr. Mihm currently serves as chairman of both the
Compensation Committee and the Nominating and Corporate Governance Committee of
the Board. He serves on the board of eProjectManagement and HNNG, and also as
HNNG’s Vice-President of Engineering. Mr. Mihm is the owner and President
of JCM Consulting, PLLC, which provides services in the engineering,
construction, and project management field. From 1964 until his retirement in
2003, Mr. Mihm worked for Phillips Petroleum Company, now known as
ConocoPhillips, Inc., in various management positions, finally serving as Senior
Vice President of Technology and Project Development. Mr. Mihm’s career
includes over 20 years of work experience in China on offshore development and
onshore coalbed methane exploration, working closely with China National
Petroleum Corporation, China National Offshore Oil Corporation and SINOPEC on
several joint ventures and employee development programs. He is a past board
member of The Society of Petroleum Engineers and the ASME Foundation.
Mr. Mihm is a registered professional engineer in Texas and Oklahoma.
Mr. Mihm earned a B.S. degree in chemical engineering from Texas Tech
University and serves on or has served on advisory boards at Texas Tech
University, Oklahoma State University, University of Tulsa, University of Texas,
Colorado School of Mines, Georgia Tech and University of
Trondheim.
  60
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 Lucian L. Morrison was
appointed to the Board in January 2008. He also serves as a member of
the Audit Committee of the Board and has been designated as an "audit committee
financial expert."  Mr. Morrison currently serves as a director, audit
committee member and compensation committee member of Erie Indemnity
Company.  Additionally, Mr. Morrison served as a director of Encore Trust
Company from 2005 to 2007 and of Encompass Services, Inc. from 1997 to
2003.  He founded Heritage Trust Company in 1979 and served as its CEO
until 1990 when he sold it to Northern Trust Bank of Texas.  He served as
director and chairman of the Trust Committee of Northern Trust Bank of Texas
from 1990 until 1992.  He co-founded Sentinel Trust Company in 1997 and
continues to serve as a consultant to the company and its other founders,
and a director and a member of the company's investment committee.  From
1998 to 2002, he was chairman of Wing Corporation, a private exploration and
production company.  Mr. Morrison serves as an independent trustee and
consultant in trust, estate, probate and qualified plan matters and also manages
oil and gas properties in Texas. He is also a development board
member of the University of Texas Houston Health Science Center. 
He holds a J.D. from the University of Texas School of Law, a graduate
degree from the Southern Methodist University Southwestern Graduate School
of Banking, Trust Division and a B.B.A. in Accounting from the University of
Texas School of Business Administration.
 
 Randall D. Keyswas appointed Chief
Financial Officer and Principal Accounting Officer on October 1,
2007.  Mr. Keys was a director of the Company from June 2004 until
October 1, 2007.  Prior to his appointment, Mr. Keys also chaired the
Audit Committee and served on the Compensation Committee.  From June
2006 to October 2007, Mr. Keys was self-employed as a corporate financial
consultant.  From 2004 through 2006, he served as a financial
consultant and Chief Financial Officer of BPZ Energy, Inc., and from 2002
through 2004, he served as a financial consultant and Chief Financial Officer of
Transmeridian Exploration, Inc., both public international oil and gas
companies. Mr. Keys has over 25 years of experience in the oil and gas
industry.  He earned a B.B.A. in Accounting from the University of
Texas and is a Certified Public Accountant. He began his career with a
predecessor of the public accounting firm of KPMG LLP.
 
 Phil A. Christianwas
appointed as Chief Operating Officer, President and Country Manager of Far East
Energy (Bermuda), Ltd., our wholly-owned subsidiary in March
2008.  Mr. Christian has served in multiple operations management
roles at British Petroleum Company p.l.c. ("BP") since 2003, including as Wells
Manager for BP's Russian offshore operations and, as Director of Internal Audit,
Director of Major Projects, and Technology Performance Team Leader in BP's
Russian joint venture.  Between 1999 and 2003 he served as Project
Manager and Team Leader in BP’s Exploration and Production Technology Group and
as Wells Manager in Colombia.  Prior to 1999, Mr. Christian served as
a Drilling and Operations Manager for Amoco Production Company, in Latin America
and China.  Mr. Christian has over 24 years of experience in the oil
and gas industry. Mr. Christian earned a B.S. in Chemical Engineering from the
University of Texas.
 
 Garry R. Wardwas appointed as
our Senior Vice President, Engineering in February 2004. Mr. Ward has 23 years
work experience in the energy business evaluating oil and gas properties
throughout the United States. Prior to joining our company, Mr. Ward served as
Reservoir Engineer for Plains E&P between June 2003 and February 2004. Mr.
Ward also served as the Reservoir Manager for 3TEC Energy from November 1999 to
June 2003. Mr. Ward holds a M.S. degree in petroleum engineering from the
University of Houston and a B.S. degree in petroleum engineering from the
University of Missouri-Rolla. Additionally, Mr. Ward is a Registered
Professional Engineer in the State of Texas.
 
 Zhendong "Alex" Yangjoined our company in
September 2002 and was appointed as Senior Vice President, Exploration and
Production in November 2003. Dr. Yang has 30 years of working experience in
China’s energy industry and universities. From April 2002 through August 2002,
Dr. Yang was a research fellow at Baylor College of Medicine. From May 1999 to
March 2002, Dr. Yang served as Chief Executive Officer and President of YT
International, LLC, a consulting services company for the petroleum
industry.  From February 1995 to April 1999, Dr. Yang was a Senior
Geologist/Deputy Director of coalbed methane China program of Amoco
Corporation.  He holds a B.S. degree in geology and exploration from
Hefei Industrial University, a M.S. degree in geology from Nanjing University
and a Ph.D in geology from Texas A&M University.
  61
 Table of Contents
  Section
16(a) Beneficial Ownership Reporting Compliance
 
 Section
16(a) of the Exchange Act requires our officers, directors and persons who own
more than ten percent of our common stock to file reports of ownership and
changes in ownership with the SEC.  Officers, directors and greater
than ten percent stockholders are required by the SEC's regulations to furnish
us with copies of all Section 16(a) reports they file.  Based solely
on our review of the copies of such forms received by us, we believe that all
filing requirements applicable to our officers, directors and greater than ten
percent stockholders for the year ended December 31, 2007, were complied with
except for the timely filing of one Form 4 for John Mihm.  This form
was filed by Mr. Mihm following its due date, on January 4, 2008.
 
 Code
of Ethics
 
 We have
adopted a code of ethics entitled "Code of Business Conduct," which applies to
all employees, including our chief executive officer, chief financial officer
and principal accounting officer. The full text of our Code of Business Conduct
is published on our website, at www.fareastenergy.com, under the "Investor
Relations" caption.  We intend to disclose future amendments to, or
waivers from, certain provisions of this code on our website within four
business days following the date of such amendment or
waiver.  Information contained on the website is not part of this
report.
 
 Audit
Committee
 
 The Audit
Committee was established in accordance with Section 3(a)(58)(A) of the Exchange
Act and assists the Board and management of the Company in ensuring that we
consistently act with integrity and accuracy in financial
reporting.  The Board has adopted a written charter for the Audit
Committee.  The Audit Committee's responsibilities
include:
 
 ·
              selecting
      and reviewing our independent registered public accounting firm and their
      services;
 
 ·
              reviewing
      and discussing the audited financial statements, related accounting and
      auditing principles, practices and disclosures with the appropriate
      members of management;
 
 ·
              reviewing
      and discussing our quarterly financial statements prior to the filing of
      those quarterly financial
statements;
 
 ·
              establishing
      procedures for the receipt of, and response to, any complaints received
      regarding accounting, internal accounting controls, or auditing matters,
      including anonymous submissions by
employees;
 
 ·
              reviewing
      the accounting principles and auditing practices and procedures to be used
      for the audit of our financial statements and reviewing the results of
      those audits; and
 
 ·
              monitoring
      the adequacy of our operating and internal controls as reported by
      management and the independent registered public accounting
      firm.
 
 William
A. Anderson is the chairman of the Audit Committee and the other members of the
Audit Committee are John Mihm, Lucian L. Morrison and Thomas E.
Williams.  On January 9, 2008, the Board increased the number of
members of the Audit Committee from three to four independent
directors.  The Board has determined that each member of the Audit
Committee is independent within the meaning of the American Stock Exchange LLC
("AMEX") listing standards and satisfies the AMEX listing standards financial
literacy requirements.  The Board has determined that each of William
A. Anderson and Lucian L. Morrison are "audit committee financial experts" as
that term is defined under Item 407 of Regulation S-K.
  62
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  ITEM11.  EXECUTIVE COMPENSATION
 
 Compensation
Committee Interlocks and Insider Participation
 
 John C.
Mihm, Donald A. Juckett and William A. Andersonserve
on the Compensation Committee. Our independent directors are, and we expect they
will continue to be, the only members of the Compensation Committee. None of our
directors or executive officers has a relationship with us or any other company
that the SEC defines as a compensation committee interlock or insider
participation that should be disclosed to stockholders.
 
 Report
of the Compensation Committee
 
 The
Compensation Committee has reviewed and discussed the Compensation Discussion
and Analysis below with management, and based on reviews and discussions, the
Compensation Committee recommended to the Board, and the Board has approved,
that it be included in this report, and, as applicable, in our 2008 Proxy
Statement.
 
 John C.
Mihm, Chairman of the Compensation Committee
 William
A. Anderson
 Donald A.
Juckett
  63
 Table of Contents
  COMPENSATION
DISCUSSION AND ANALYSIS
 
 Compensation
Committee
 
 It is the
responsibility of the Compensation Committee of our Board to set compensation
for executive officers and directors, to establish and administer an overall
compensation program that promotes the long-term interests of the Company and
our stockholders, and to evaluate performance of executive
officers.
 
 The
Compensation Committee uses information supplied by various sources, including
Company management and outside compensation consultants, to assist it in
determining compensation for our executive officers.  Management’s
role is primarily to provide information relevant to performance
measurement.  At the request of the Compensation Committee, our Chief
Executive Officer provides informal evaluations of the performance of the
executives that report directly to him and may make recommendations as to base
compensation and performance awards for these
individuals.  Additionally, our Chief Executive Officer works with the
Compensation Committee in determining appropriate criteria for evaluating
individual and company performance.  Due to the small size of our
company, the Compensation Committee is able to make or specifically approve
virtually all decisions regarding executive compensation and, therefore, the
delegation of the committee's authority in this regard is very
limited.
 
 We have
used the compensation consulting firm, Towers Perrin, since
2004.  Towers Perrin was selected by the Compensation Committee and
reports directly to it.  They have performed no other work for us and
have no other outside relationship to the Company's directors or
officers.  For further information, see "Use of Compensation
Consultant and Benchmarking."
 
 Compensation
Philosophy and Objectives
 
 In
setting overall total compensation for executive officers, the Compensation
Committee strives to achieve and balance the following objectives:
 
 ·
              hiring
      and retaining executive officers with the background and skills to help us
      achieve our company's objectives;
 ·
              aligning
      the goals of executive officers with those of the stockholders and the
      Company;
 ·
              motivating
      executive officers to achieve the Company's important short, medium and
      long-term goals;
 ·
              conserving
      cash by setting compensation levels consistent with market conditions;
      and
 ·
              providing
      sufficient ongoing cash compensation for our employees to meet their
      personal financial obligations.
 
 The
philosophy we use in setting compensation levels and structures is based on the
following principles:
 
 ·
              compensation
      for our executive officers should be strongly linked to
      performance;
 ·
              compensation
      should consist of an increasingly higher percentage of compensation that
      is at risk and subject to performance-based awards as an executive
      officer’s range of responsibility and ability to influence the Company's
      results increases;
 ·
              compensation
      should be fair and competitive in relation to the
    marketplace;
 ·
              employment
      security should be used to equalize our employment opportunities with
      those of more mature companies, to the extent
  appropriate;
 ·
              sense
      of ownership and long-term perspective should be reaffirmed through our
      compensation structure; and
 ·
              outstanding
      achievement should be recognized.
  64
 Table of Contents
  Setting
Executive Compensation
 
 The
Compensation Committee annually reviews and approves the base salaries, bonuses
and equity awards of our executive officers.  During 2007, our
executive officers included:
 
 
 Name
              
              PositionMichael
      R. McElwrath
              
              President,
      Chief Executive Officer and DirectorRandall
      D. Keys
              
              Chief
      Financial Officer and Principal Accounting Officer (from October 1,
      2007)Bruce
      N. Huff
              
              Chief
      Financial Officer (through September 15, 2007)Garry
      R. Ward
              
              Senior
      Vice President, EngineeringAlex
      Yang
              
              Senior
      Vice President, Exploration and ProductionJeffrey
      R. Brown
              
              President
      of Far East Energy (Bermuda), Ltd. (through May 15,
  2007)Don
      Duttlinger
              
              President
      and Country Manager of Far East Energy (Bermuda), Ltd. (from May 16,
      2007)
 
 We use a
combination of compensation elements in our executive compensation program,
including:
 
 ·
              salaries;
 ·
              cash
      bonuses;
 ·
              equity
      awards;
 ·
              post-termination
      compensation; and
 ·
              benefits.
 
 Salaries
and bonuses are our primary forms of cash compensation.  We strive to
set salaries competitively by utilizing benchmarks as reference
points.  We try to provide a reasonable amount of cash compensation to
our employees to enable them to meet their personal financial
obligations.  We provide short-term incentives by awarding annual cash
bonuses determined by the Compensation Committee on a discretionary
basis.  The bonuses reward achievement of short-term goals and allow
us to recognize individual and team achievements.  The cash portion of
our compensation structure consists of a higher percentage of salary as compared
to bonus.  Bonuses and equity awards are our two forms of
performance-based compensation.  We chose to use more equity awards
than cash awards for performance based compensation.  As a result of
our lower cash bonuses, annual discretionary cash bonuses as a percentage of our
cash compensation is relatively low in comparison to the companies surveyed by
Towers Perrin.
 
 We
provide long-term incentives through equity awards, which have historically
consisted of stock options that vest over time.  In 2007, we also
began to grant awards of restricted stock that vest over time.  Equity
awards are a non-cash form of compensation.  We believe equity awards
are an effective way for us to reward achievement of long-term goals, conserve
cash resources and create a sense of ownership in our
executives.  Options become valuable only as long-term goals are
achieved and our stock price rises.  They provide our executive
officers with a personal stake in the performance of the Company's equity even
before vesting.  Restricted stock awards that vest over time provide
similar incentives.  A large percentage of the total compensation paid
to our executive officers consists of equity awards because we believe this is
consistent with our philosophy of paying for performance and requiring more
compensation to be at risk for employees at the highest level.
 
 Our
executive officers (other than Mr. Randall Keys) have also entered into
employment agreements that have defined termination benefits, which we believe,
in part, compensate for the potentially lower annual salary at our company as
compared to more mature companies by providing security.  Our
employment agreements as well as our equity awards generally provide
compensation to our executive officers if they are terminated within 24 months
of a change in control of the Company, which provides employment and financial
security to our employees in that situation.  The competitive
compensation and the employment agreements foster an environment of relative
security within which we believe our executives will be able to focus on
achieving Company goals.  For further discussion of
 65
 Table of Contents
 
 Use
of Compensation Consultant and Benchmarking
 
 Towers
Perrin provides survey data to the Compensation Committee, which the committee
uses to gauge the reasonableness and competitiveness of both total compensation
and structure of the compensation package for our executive
officers.  In January 2007, Towers Perrin provided the Compensation
Committee with an analysis of compensation for top executives at certain oil and
gas companies, primarily smaller companies with revenues below $175
million.  The analysis included a combination of data from the William
M. Mercer 2006 Energy Industry
Compensation Survey and the Towers Perrin 2006 Oil & Gas Compensation
Survey.  The Mercer survey included data from more than 100
small to mid-sized companies grouped by size.  The Towers Perrin
survey included a smaller number of companies that varied in
size.  All of the companies in the Mercer and Towers Perrin surveys
were energy companies in the exploration and production
sector.  Towers Perrin used the Mercer survey data for smaller
companies to benchmark salaries and its own survey to benchmark short-term and
long-term incentives as a percentage of salary.
 
 Towers
Perrin also provided compensation data for a selected peer group of publicly
traded companies, which the Compensation Committee also used as a reference
point to assist in evaluting the reasonableness of certain elements of
compensation.  Towers Perrin, with the assistance of management,
identified eleven companies in the peer group.  These companies were
selected for similarity of industry and because management believes that the
Company competes with these companies for executive talent.  The
following companies made up the peer group:
 
 Harvest
      Natural Resources, Inc.
              
              Toreador
      Resources Corp.ATP
      Oil & Gas Corp.
              
              Whittier
      Energy Corp.Petroquest
      Energy Inc.
              
              Transmeridian
      Exploration Inc.Carrizo
      Oil & Gas Inc.
              
              FX
      Energy Inc.Endeavour
      International Corp.
              
              Galaxy
      Energy Corp.Harken
      Energy Corporation
 
 Information
on the pay practices of the peer group is provided by Towers Perrin to the
extent such information is available.  The Compensation Committee used
the analysis of performance and survey information in reviewing salaries and
equity awards for 2007 and bonuses for 2007 performance for our executive
officers.  However, the purpose of the analysis and survey information
furnished by Towers Perrin is not to supplant the analysis of individual
performance and other measures used in the compensation decision process for
executive officers.  Because this analysis and information is just one
of several analytical tools that are used in setting executive compensation, the
Compensation Committee has discretion in determining the nature and extent of
its use.
 
 Total
Compensation and Description and Allocation of Its Components
 
 Total
Compensation.  The Compensation Committee reviews total
compensation for executive officers annually when they evaluate existing
salaries and determine annual cash bonuses.  The committee evaluates
survey data provided by Towers Perrin to assist in determining the appropriate
total compensation for each officer.
 
 The
Compensation Committee blends the components of compensation to achieve a total
compensation package that is weighted toward the equity
component.  Total compensation for each officer, with some variation,
was near or below the 25th
percentile of the total compensation of the companies in the survey data
provided by Towers Perrin.  In comparing total compensation to the
Towers Perrin survey, the Compensation Committee did not include the amended
409A Options or the restricted stock granted to executive officers to compensate
them for the loss in value of their 409A Options by reason of the
amendment.  The cash components of compensation, which constitute a
smaller percentage of total compensation, were at or near the 25th
percentile.  Of the two cash components, salary was near the 50th
percentile and cash bonus opportunities were at or near the 25th
percentile.  This is consistent with our objective of emphasizing
equity awards and conserving cash.  Our level of cash compensation
also reflects a key difference between our company and other companies in the
survey.  Our company is in the development stage while the surveyed
companies are generally revenue producing and therefore may be less concerned
about conserving their cash resources.
  66
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 Equity
awards for executive officers have historically constituted a larger percentage
of total compensation and have been between the 50th and the
75th
percentile based on the survey data provided by Towers
Perrin.   During 2007, the Company granted both options
and  restricted stock to executive officers.  As described
further below, some of the shares of the restricted stock granted to Messrs.
McElwrath and Ward in 2007 were used to compensate them for their loss of value
of their 409A Options.  If these one time grants are excluded, then
the non-cash portion of Mr. McElwrath's and Mr. Ward's compensation would fall
between the 25th and the
50th
percentile and below the 25th
percentile, respectively.  Including these grants, the non-cash
portion of their compensation will fall between the 25th and the
50th
percentile and below the 25th
percentile for Messrs. McElwrath and Mr. Ward, respectively.  Equity
awards for our other executive officers were below the 25th
percentile. For further information, see "2007 Summary Compensation Table,"
"2007 Grants of Plan-Based Awards Table" and "Narrative to Summary Compensation
Table and Grants of Plan-Based Awards Table."
 
 Decisions
regarding salary increases, bonus awards and equity awards are ultimately at the
discretion of the Compensation Committee.  However, in making these
decisions, the committee considers the achievements of the Company in the
previous fiscal year, the obstacles overcome in our exploration efforts, the
progress toward commercial gas production and revenues, and whether expenditures
have been reasonably managed.
 
 In
addition to the Company's achievements, the Compensation Committee reviews the
accomplishments and performance of the individual executive
officers.  Before 2007, we did not set specific performance goals
relative to performance awards, but rather, the Compensation Committee used its
experience and judgment in granting both cash and equity awards.  For
2007, in reviewing company and individual performance and as part of the
determination of compensation, the Compensation Committee considered, among
other things, the following company performance factors and individual
performance factors:
 
 Company
Performance Factors
 
 ·
              level
      of production of CBM gas, if any;
and
 ·
              changes
      in the Company's share price.
 
 Individual
Performance Factors
 
 ·
              development
      and implementation of strategic plans related to the executive officer's
      responsibilities;
 ·
              improvement
      of the Company's and our executive officer's relationships with CUCBM and
      other constituencies;
 ·
              improvement
      of data management and technical
analysis,
 ·
              control
      of drilling and exploration costs;
 ·
              creation
      of an overall development plan for the Shouyang Block in the Shanxi
      Province of China;
 ·
              provision
      of relevant operational and production updates to executive team and the
      Board, as appropriate; and
 ·
              completion
      of successful capital raising at an appropriate level to meet upcoming
      operational needs.
 
 During
its review of the 2007 performance criteria, the Compensation Committee gave
approximately one-third of the weight of its evaluation of the executive officer
based on company performance measures.  The remainder of the
evaluation of the executive officer was based on the individual performance
factors and other considerations.  These performance measures were
also discussed with the applicable executive officers. The performance criteria
had a significant impact on the Compensation Committee's decisions regarding
discretionary bonuses for 2007, although they were not determinative in those
decisions.  The committee also considered the 2007 performance
criteria in determining salary increases in 2008.
 
 In 2008,
the Compensation Committee plans to continue to implement guidelines under which
performance at the executive level can be measured with simplicity and
transparency and performance awards can be granted in relation to those
performance measures.  For a development stage company, appropriate,
reliable performance measures can be difficult to identify.  However,
we will seek to identify measurements that are appropriate to a development
stage company and which will relate to the achievement of Company goals,
particularly in the areas of
 67
 Table of Contents
 
 Salaries.  The
Compensation Committee reviews salaries for our executive officers annually near
the beginning of the year and adjustments to salaries, if any, have historically
been made effective as of January 1 of that year.  Initial base
salaries are set forth in the executive's employment agreement.  The
level of salary is determined by market factors when the executive officer is
hired and are adjusted as necessary during the annual review of
salary.  Infrequently, specific circumstances may prompt a salary
change outside the usual review schedule.  The Compensation Committee
evaluates adjustments to salary based, in part, on the survey and peer group
data provided by Towers Perrin and the company and individual performance
criteria.  No executive has yet changed or increased his level of
responsibility within the Company, but if that were to occur, the Compensation
Committee would consider a commensurate change in salary.
 
 In
January 2007, the Compensation Committee approved salary increases of 5% for
each Michael R. McElwrath, Garry Ward and Zhendong "Alex" Yang.  These
increases were made to maintain market competitiveness and to adjust for
increases in cost of living based on available market comparison data, and were
at rates consistent with or below salary rate increases at the Company
generally.  The annual base salary of Mr. Keys did not change because
he was appointed as Chief Financial Officer in the fourth quarter of
2007.
 
 In
addition, the annual salary of Bruce N. Huff was increased in both January 2007
and May 2007 by 5% and 34%, respectively.  The January increase was
made to maintain market competitiveness and  to adjust for increases
in cost of living based on available market comparison data.  The May
increase was used as a means of retention in consideration of alternative
employment offers to Mr. Huff.  The foregoing salary increases on
January 2007 and May 2007 became effective January 1, 2007 and May 1, 2007,
respectively.
 
 Bonuses.   The
Compensation Committee awards cash bonuses each year, typically early in the
first quarter, for performance during the previous fiscal year.  We
are required to pay a minimum bonus of $40,000 per annum to our Chief Executive
Officer pursuant to his employment agreement with the Company, and certain
bonuses related to foreign service for executives working in China.
 
 Other
than contractual bonuses, the amount of each bonus has ultimately been a
discretionary determination, based on the events and accomplishments of the
year. While bonuses are discretionary, they are significantly affected by the
Compensation Committee's evaluation of the performance criteria described above.
During 2007, the Compensation Committee's review of these performance measures
largely determined the committee's decision regarding bonuses.
 
 In
determining discretionary bonuses, the committee generally awards cash bonuses
that are towards the lower end of the range for oil and gas companies in the
survey data provided by Towers Perrin.  This is accomplished by
setting a maximum bonus range as a percentage of salary and, to date, this
percentage has not exceeded 65%.  However, the Compensation Committee
continues to use its discretion in making these compensation
decisions.  The Compensation Committee has, in certain circumstances,
awarded retention bonuses to retain the services of certain executive
officers.  The committee may consider granting retention bonuses in
the future but does not currently intend to award additional retention
bonuses.
 
 68
 Table of Contents
 In
granting the cash bonus awards for 2007, the Compensation Committee considered
the company and individual performance criteria described
above.  Messrs. McElwrath, Keys, Ward and Yang received discretionary
bonuses of $88,993, $12,938, $19,756 and $26,010, respectively.  In
addition to the above, Mr. McElwrath's employment agreement provides that he
receives performance bonuses of not less than $20,000 payable on or before the
13th
of April and October of each year.  Mr. Keys' bonus was prorated for
the period of service between his appointment as Chief Financial Officer in
September 2007 and the end of the year.  Achievements are considered
within the context of the relative difficulty of the circumstances we experience
as one of the first and smallest U.S. companies to explore for coalbed methane
in China.  The committee also considers the recommendations of the
Chief Executive Officer regarding performance awards of the other
executives.
  Equity
Awards.  Equity awards are an important component in our
compensation structure, particularly because we are a development stage company
and it is important for us to conserve cash resources.  Equity awards
may be granted at a date other than the date that salary and bonus decisions are
made but are typically granted during the first quarter of the
year.  Until recently, we granted only awards of non-qualified stock
options.  In 2007, the Compensation Committee began to use restricted
stock grants in addition to the traditional use of option grants and has
continued to grant restricted stock in 2008.
 
 In
December 2007, we amended certain option agreements between the Company and
three of our officers and one of our directors individually that were granted
prior to the adoption of the 2005 Plan.  The amendments were made
solely to avoid the potential adverse tax consequences to our executives of
Section 409A of the Internal Revenue Code of 1986, as amended ("Code"), in
accordance with guidance issued by the Internal Revenue Service.  If
Section 409A applied to these option agreements, the executives would be subject
to a 20% excise tax on the gains from these awards.  The amended
option agreements changed the terms of the original agreements to have a fixed
future exercise date and/or to have a higher exercise price equal to the fair
market value on the original date of grant of those options.  These
amendments were made to the portion of these option agreements that covered any
options that vested subsequent to January 1, 2005.  The portion of
these option agreements that covered any options that vested prior to January 1,
2005 remained unchanged.  In conjunction with the amendment of the
options, we granted shares of restricted stock to those officers and the
director to compensate them for the loss in value to their options created by
the amendments.  These grants of restricted stock have vesting periods
of approximately four months.
 
 Choice of equity
vehicles.  In the past, we chose to use grants of options to
purchase our common stock for the equity awards granted to our executive
officers.  Stock options effectively align our executives’ goals with
those of stockholders and motivate executive officers to achieve our long-term
goals.  Our option agreements typically include both time-vesting and
termination forfeiture terms, which assist us in inducing the employment and
retention of executive officers by providing a financial incentive related to
retention.  The Compensation Committee plans to continue to utilize
options awards.
 
 In
addition to option awards, in 2007, the Compensation Committee also introduced
restricted stock into the forms of equity used for awards.  The
committee considered that the use of this form of equity, rather than options,
would reduce dilution to our existing stockholders, provide equity participation
in our company to these executives and reduce the overall number of shares
granted.  The Compensation Committee believes that decreasing the
dilutive effect related to our equity awards will assist in preserving the
economic value of our existing stockholders.  The committee also
believes that shares of time-vesting restricted stock will encourage achievement
of long-term goals and retention of key executives in a similar manner as option
awards.  The Compensation Committee plans to continue to grant options
and/or restricted stock in the future to our executive officers.
 
 Determining the size of the equity
award.  We use equity awards as both as a reward for past
performance and an incentive for future performance.  The Compensation
Committee has historically approved discretionary equity award grants to
executive officers during the first quarter of the year.
 
 Each of
our executive officers received a grant of equity awards upon joining the
Company, providing them with an initial equity stake and a long-term
incentive.  The size of these initial grants is determined primarily
by market factors, with such grants offered as an inducement to accept our offer
of employment.  Although it has typically granted additional awards
annually, the Compensation Committee is not bound to make continuing equity
awards to executive officers, and in fact, does not in every
case.  Factors considered by the committee in determining whether
 69
 Table of Contents
 
 ·
              the
      performance indicators and the events and accomplishments used to
      determine total compensation, as described
  above;
 ·
              the
      cumulative number of shares and terms (including option exercise price) of
      previous equity awards, which may, in the view of the Compensation
      Committee, be sufficient to achieve the goals of the equity award program
      for a given individual, without supplement in a particular
      year;
 ·
              the
      estimated fair value of the award (using the Black-Scholes option pricing
      model for options) and its impact on the executive’s total
      compensation;
 ·
              the
      estimated impact of the expense of the award on reported income in the
      year of the award and subsequent
years;
 ·
              the
      stockholder dilution, including overhang of existing options and warrants
      for our common stock;
 ·
              the
      shares remaining available for grants under the 2005
  Plan;
 ·
              the
      tax consequences related to the vesting of the equity awards;
      and
 ·
              the
      review of equity award data for comparable companies as provided by Towers
      Perrin.
  2005 Stock Incentive Plan
awards.  Since its approval by our stockholders in 2005, with
certain exceptions described below, we have granted options and restricted
shares to executive officers under the 2005 Plan.  Our grants to
executive officers under the 2005 Plan have historically had a vesting period of
three to four years from date of grant and a term of up to ten
years.  Typically, our option awards provide for forfeiture of
unexercised options after a period of 60 to 90 days after the applicable
executive's termination of employment with the Company.
 
 Awards granted outside the 2005
Plan.  Prior to the adoption of the 2005 Plan, grants of
options to executives included varying terms, some differing from the
above.  Since the adoption of the 2005 Plan, we did not grant any
awards outside the 2005 Plan until the fourth quarter of 2007.  During
the quarter, inducement equity awards in the form of options were granted
outside the 2005 Plan to William Anderson, a new director who was appointed on
October 1, 2007.  Additionally, as described above, we granted
restricted stock outside the 2005 Plan to two executive officers and a director
to compensate them for an amendment to their option agreements that increased
the exercise price of the affected options.  These stock option and
restricted stock awards contained terms similar to those made under the 2005
Plan.  The Compensation Committee may continue to grant options and/or
restricted stock outside of the 2005 Plan, particularly for inducement grants to
newly appointed executive officers and directors.
 
 Expense
recognition.  All compensatory options and restricted stock are
expensed over time in accordance with generally accepted accounting principles.
For information on the equity award expense recognized in 2007 for each
executive officer, see "Summary Compensation Table – Option Awards" and "Summary
Compensation Table – Restricted Stock Awards."  For further details
regarding 2007 equity grants to our named executive officers, see the "Grants of
Plan-Based Awards" table.  For further information on the 2005 Plan,
see "Narrative to Summary Compensation Table and Grants of Plan-Based Awards
Table – 2005 Stock Incentive Plan" and "Security Ownership of Certain Beneficial
Owners and Management and Related Stockholder Matters – Equity Compensation Plan
Information."
 
 Procedures for granting equity
awards.We have generally granted any equity awards to our
executive officers annually during the first quarter of each fiscal year or at
employment.  Since the adoption of the 2005 Plan, options are dated
and assigned exercise prices as of the nearest trading date to the meeting of
the Compensation Committee in which such awards were
approved.  Exercise prices for option grants during 2007 have been set
at the fair market value on the date of grant or higher.  For purposes
of determining exercise prices for our stock option awards, the fair market
value of our common stock, on a given date, means the average of the closing bid
and asked prices of the shares of common stock as reported that day on the OTC
Bulletin Board.  We intend to continue this practice.  We
attempt to avoid issuing options near the time of any expected significant
movement in our stock price by taking care, within reason, not to schedule these
meetings in proximity to upcoming or recent announcements of significance, such
as earnings releases or other public announcements relating to current or future
profitability.  Scheduling of meetings of the Compensation Committee
is also impacted by availability of personnel and the need
 70
 Table of Contents
 
 Awards
have also been granted to new executive officers and incumbent directors on or
near the date of hire or election.  Our current practice is to grant,
date and price options to new executives on the date of hire, which is not the
date of their acceptance of our offer of employment, but rather, the first day
they report for work at the Company.  During 2007, the Compensation
Committee has also began using grants of restricted stock as an inducement of
employment for new executive officers.  Similar to option awards, our
current practice is to grant and date restricted stock awards on the first day
the executive reports for work at the Company.  Grants to newly
elected directors are generally awarded at the first meeting of the Compensation
Committee after their election.
 
 Post Termination
Compensation.  We have employment agreements with four of our
five named executive officers.  All but one of our executive
employment contracts provide some form of termination benefits.  As a
development stage company whose future may be uncertain, we believe it is
necessary to provide contractual assurance of continued employment to our
executives, and that without such assurances, our recruitment efforts would not
be as successful.
  Our
executive employment agreements provide for termination benefits, including in
certain cases upon a change in control.  These clauses assist us in
attracting and retaining executive officers and are designed to provide stable
leadership for the Company during any potential or actual change of
control.  With the assurance of these benefits, we believe our
executives will be better able to objectively evaluate offers to purchase the
Company or other forms of potential change of control.  The clauses
also encourage continuation of the leadership and experience of our key
executives after a change in control, at least through a period of
transition.
  For
further discussion of the terms of each employment agreement, see "Narrative to
Summary Compensation Table and Grants of Plan-Based Awards Table – Employment
Agreements with Named Executive Officers."
 
 Perquisites and
Other Benefits.  We provide health insurance to our executive
officers, which is the same as that provided to our other U.S.
employees.  We also provide matching contributions for those U.S.
employees who contribute to a Simple Individual Retirement Account ("Simple
IRA"), matching up to 3% of annual salary, subject to certain caps provided by
tax regulation.  These benefits were approved by the Compensation
Committee when adopted.  We also provide additional pay to our U.S.
executive officers working in China to compensate those executives for living
outside the U.S.  Don Duttlinger and Jeffrey Brown, who resigned from
the Company in January 2008 and June 2007, respectively, are the only executive
officers who had this arrangement during 2007.  The additional
payments for Messrs. Duttlinger and Brown were determined based on what we
believed was market compensation when each was hired.
 
 In
December 2007, the Compensation Committee also approved the reimbursement of
attorney's fees incurred by Michael R. McElwrath relating to the review and
analysis of the potential adverse tax consequences of Section 409A of the Code
on his employment agreement and/or option agreements.  We have paid
$16,629 in attorney's fees that Mr. McElwrath incurred in connection with
evaluating the amendment of the 409A Option and the affect on his employment
agreement.
 
 Tax
and Accounting Considerations
 
 Section 162(m)
of the Code generally disallows a tax deduction to public companies for
compensation in excess of $1 million paid to any executive officer unless such
compensation is paid pursuant to a qualified performance-based compensation
plan.  All compensation awarded to our executive officers in 2007 is
expected to be tax deductible.  The Compensation Committee considers
such deductibility and the potential cost to the Company when granting awards
and considering salary changes.
  71
 Table of Contents
 
 We
account for equity awards under the provisions of Statement of Financial
Accounting Standard No. 123 (revised 2004), Share-Based Payment (FAS No.
123(R)).  We charge the estimated fair value of option and restricted
stock awards to income over the time of service provided by the employee to earn
the award, typically the vesting period.  The fair value of options is
measured using the Black-Scholes option pricing model.  The fair value
of non-vested stock awards is measured by the closing price of our common stock
on the date of the award, with no discount for vesting period or other
restrictions.  The compensation expense to the Company under FAS No.
123(R) is one of the factors the Compensation Committee considers in determining
equity awards to be granted, and also may influence the vesting period
chosen.
 
 As a
result of the resignation of Bruce N. Huff, during 2007, Mr. Huff forfeited
options to purchase 560,000 shares of common stock, as well as 150,000 shares of
restricted stock awarded to him in 2007.  Similarly, as a result of
the resignation of Jeffrey R. Brown, he forfeited options to purchase 600,000
shares of common stock during 2007.  The amounts reported for Mr. Huff
in the 2007 Summary Compensation Table include no expense for the restricted
stock and a reversal of $139,150 in expense related to the forfeited
options.  The amounts reported for Mr. Brown in the 2007 Summary
Compensation Table include a reversal of $64,800 in expense related to the
forfeited options.  The reversal represents the amount of expense
related to the forfeited options, which was included in Messrs. Huff’s and
Brown's amount for 2006.  Additionally, Don Duttlinger forfeited
options to purchase 225,000 shares of common stock upon his termination of
service in January 2008, and will forfeit an additional options to purchase
75,000 shares of common stock if not exercised prior to March 6,
2008.  No reversal of expense is reflected in the 2007 Summary
Compensation Table for Mr. Duttlinger, as the forfeitures did not occur in
2007.
 
 Chief
Executive Officer Compensation
 
 For 2007,
the compensation of our Chief Executive Officer, Michael R. McElwrath, compares
to the survey data provided by Towers Perrin as follows:
 
 Component
              
              PercentileSalary
              
              Between
      the  25th
      and  50thAnnual
      cash bonus
              
              Below
      the 25thEquity
      award
              
              Below
      the 25thTotal
              
              Below
      the 25th
 
 The
comparison of Mr. McElwrath's compensation to the benchmarks is similar to that
of our other executive officers. For purposes of this comparison, the restricted
stock that was granted to Mr. McElwrath to compensate him for his loss of value
of his 409A Options is not included in his non-cash compensation for
2007.  If these one time grants are included, then the non-cash
portion of Mr. McElwrath's compensation would fall between the 25th and the
50th
percentile.
 
 Of Mr.
McElwrath's 2007 total compensation, 55% was attributable to the elements of
salary and annual cash bonus and 45% to non-cash equity elements if the impact
of the restricted stock granted to compensate for loss of value of 409A options
is excluded.  For other executive officers, the cash elements ranged
from 45% to 76% of total compensation, with the exception of our officers
working outside the U.S., whose cash elements comprised a higher percentage of
their total compensation.  The actual allocation between cash and
non-cash compensation for each executive officer  was approximately
50% to 50%, which was within the range of allocations that the Compensation
Committee considers appropriate.
  72
 Table of Contents
  COMPENSATION
TABLES AND ADDITIONAL INFORMATION
 
 The
following table sets forth a summary of compensation paid to our Chief Executive
Officer, Chief Financial Officer, three other most highly paid persons serving
as executive officers and two former executive officers (the "Named Executive
Officers") for the fiscal years ended December 31, 2007, December 31, 2006 and
December 31, 2005.
 
 2007 Summary Compensation
TableName
      and Principal Position
              
              Year
              
              Salary
      ($)
              
              Bonus
      ($)
              
              Stock
      Awards ($)(1)
              
              Option
      Awards ($)(1)
              
              All
      Other Compen-sation ($)
              
              TotalMichael
      R. McElwrath
              
              2007
              
              315,000
              
              128,993
              (2)(6)
              103,694
              (3)
              458,276
              (3)
              27,129
              (4)
              1,033,092President
      and Chief Executive Officer
              
              2006
                2005
              
              300,000
                236,250
              
              100,000
                60,000
              
              -
                -
              
              637,110
                -
              
              10,001
                23,003
              
              1,047,111
                319,253Randall
      D. Keys(5)
                Chief
      Financial Officer
              
              2007
              
              62,500
              
              12,938
              (2)(6)
              52,500
              
              92,772
              
              44,875
              (7)
              265,585Bruce
      N. Huff(8)
              
              2007
              
              162,250
              
              50,000
              
              -
              
              (90,675)
              (9)
              7,755
              (10)
              129,330Former
      Chief Financial Officer Secretary and Treasurer
              
              2006
                2005
              
              185,000
                168,000
              
              46,250
                35,000
              
              -
                -
              
              258,653
                -
              
              6,600
                9,704
              
              496,503
                212,704Don
      Duttlinger(11)
                Former
      President, Far East Energy (Bermuda), Ltd.
              
              2007
              
              98,222
              
              23,333
              (12)
              -
              
              97,375
              (13)
              30,837
              (14)
              249,767Jeffrey
      R. Brown(15)
              
              2007
              
              56,250
              
              18,750
              (12)
              -
              
              (64,800)
              (16)
              186,337
              (17)
              196,537Former
      President, Far East Energy (Bermuda), Ltd.
              
              2006
                2005
              
              150,000
                32,396
              
              50,000
                7,677
              
              -
                -
              
              64,800
                -
              
              227,758
                24,888
              
              492,558
                64,961Garry
      R. Ward
              
              2007
              
              163,611
              
              19,756
              (6)
              4,370
              (3)
              45,515
              (3)
              -
              
              233,252Senior
      Vice President, Engineering
              
              2006
                2005
              
              155,820
                147,000
              
              23,373
                17,500
              
              -
                -
              
              193,468
                -
              
              -
                17,516
              
              372,661
                182,016Zhendong
      "Alex" Yang
              
              2007
              
              156,450
              
              26,010
              (6)
              -
              
              27,066
              (3)
              5,364
              (10)
              214,890Senior
      Vice PresidentExploration
              
              2006
                2005
              
              149,000
                132,300
              
              22,350
                20,000
              
              -
                -
              
              260,800
                -
              
              5,070
                2,991
              
              437,220
                155,291
 
 (1)
              Stock
      awards and option awards are quantified in the table according to the
      amount included in 2007 and 2006 share-based
      compensation  expense for the equity awards granted to each
      Named Executive Officer through the end of fiscal year 2007 as determined
      in accordance with FAS 123R.  See Footnote 10 to the
      Consolidated Financial Statements included in Part II of this report for
      assumptions used in valuing these awards and the methodology for
      recognizing the related  expense.  The expense, as
      presented  in accordance with SEC rules in this table, has been
      modified to eliminate forfeiture assumptions in computing the expense for
      unforfeited awards, and to reverse previously reported executive
      compensation expense for awards forfeited during the year. All options
      awards are for the purchase of our common stock.  Stock awards
      are grants of restricted stock representing time-vesting
      shares.
 (2)
              The
      bonus for Mr. McElwrath is for performance in 2007 and includes $40,000
      paid during the year of performance, which is required under the terms of
      his employment agreement.
 (3)
              On
      December 19, 2007, we modified certain option agreements with Messrs.
      McElwrath, Ward and Yang that were granted prior to the adoption of the
      2005 Plan.  The exercise prices and/or the vesting dates of the
      awards were modified to avoid potential adverse tax consequences to the
      option holders under Section 409A of the Code.  The existing
      options were cancelled and were replaced with new option grants which
      contain terms that are more restrictive than the previous grants and with
      exercise prices equal to the fair market value of our common stock on the
      original date of grant.  The modifications differed with each
      affected grant, but all changes were disadvantageous to the option
      holder.  In conjunction with modifying the options, we granted
      shares of restricted stock to the affected officers whose options were
      modified by increases to the exercise price, to compensate them for the
      change in option terms.  In each case, the number of shares
      granted was related to the increase in aggregate exercise price of the
      modified options.  Under generally accepted accounting
      principles, the fair value of such modifications is equal to any increase
      in fair value between the original and revised options.  In the
      case of the options, the fair value is zero, as the terms of the modified
      options are more restrictive than those of the original options and there
      has been no increase in fair value.  In the case of the shares
      of restricted stock, we measured the fair value as equal to the value of
      the stock on the grant date with no discount for vesting or other
      restrictions.  During 2007, Mr. McElwrath was granted 788,542
      shares of restricted stock, of which 338,542 were granted to Mr. McElwrath
      to compensate him for the change in the option terms of his option
      agreements affected by Section 409A of the
Code.
  73
 Table of Contents
 
 (4)
              Represents
      $10,500 for the cost of matching funds to the Named Executive Officer's
      Simple IRA and $16,629 for the reimbursement of Mr. McElwrath's attorney's
      fees relating to the review of the impact of Section 409A of the Code on
      his employment agreement and option
agreements.
 (5)
              Mr.
      Keys was appointed Chief Financial Officer on October 1, 2007 and in
      conjunction with the appointment Mr. Keys resigned from the Board and its
      committees.
 (6)
              These
      bonuses represent amounts awarded for 2007
  performance.
 (7)
              Mr.
      Keys' other compensation includes $1,875 for the cost of the Company
      matching funds to his Simple IRA account and $43,000 for fees earned
      in his previous position as a member of the Board, a member of the Audit
      Committee and Chairman of the Audit Committee. The fees include $15,000
      annual cash retainer as a member of the Board, $6,000 for attendance of
      Board meetings; $10,000 for attendance of committee meetings and $12,000
      retainer for Audit Committee
Chairman.
 (8)
              Mr.
      Huff resigned as Chief Financial Officer of the Company on September 15,
      2007.  There were no severance or other payments made to Mr.
      Huff in connection with his
separation.
 (9)
              Mr.
      Huff forfeited options to purchase 560,000 shares of common stock and
      150,000 shares of restricted stock awarded to him in 2007 due to his
      termination of service with us.  The amounts reported for Mr.
      Huff in the Stock Awards and Option Awards columns for 2007 include no
      expense for the restricted stock and a reversal of $139,150 in expense
      related to the forfeited options.  The reversal, included in the
      Options Awards column, represents the amount of expense related to the
      forfeited options, which was included in Mr. Huff’s Options Awards amount
      for 2006.
 (10)
              Represents
      the cost of the Company matching funds to the Named Executive Officer's
      Simple IRA.
 (11)
              Mr.
      Duttlinger resigned as President of Far East Energy (Bermuda) Ltd. on
      January 7, 2008.
 (12)
              The
      bonuses for Messrs. Duttlinger and Brown represent their international
      service bonuses.  Pursuant to their employment agreements,
      the international service bonuses were earned by these employees so long
      as they worked for us in China.
 (13)
              Mr.
      Duttlinger forfeited options to purchase 225,000 shares of common stock
      upon his termination of service in January 2008, and will forfeit an
      additional options to purchase 75,000 shares of common stock if not
      exercised prior to March 6, 2008.  No reversal of expense is
      reflected in the 2007 Summary Compensation Table, as the forfeitures did
      not occur in 2007.
 (14)
              Mr.
      Duttlinger worked at our offices in Beijing, China during a portion of his
      service to us.  Mr. Duttlinger's other compensation includes
      $6,528 for housing in China, $1,600 for moving expenses, $3,845 for tax
      equalization, $6,264 for the expenses of a car and driver, and $12,600 for
      consulting fees earned prior to his employment with the
      Company.  The cost of the car and driver include vehicle leasing
      and maintenance expense, payroll, tolls, and fuel.  No
      allocation of the costs related to the use of the car
      and  driver has been made  between personal use and
      business travel within China.
 (15)
              Mr.
      Brown served as President of Far East Energy (Bermuda) Ltd. until he
      resigned on May 16, 2007.
 (16)
              Mr.
      Brown forfeited options to purchase 600,000 shares of common stock due to
      his termination of service with us. The amount reported for Mr. Brown in
      the Option Awards column for 2007 includes a reversal of $64,800 in
      expense related to the forfeited options.  The reversal,
      included in the Options Awards column, represents the amount of expense
      related to the forfeited options, which was included in Mr. Brown’s
      Options Awards amount for 2006
 (17)
              Mr.
      Brown worked at our offices in Beijing, China during his service to the
      Company.  Mr. Brown's other compensation in 2007 includes
      $37,780 for housing in China, $27,843 for tax equalization on his
      international service bonus and on his housing provision, $20,847 for the
      expenses of a car and driver, and $1,867 for company-paid personal
      travel.  In addition, other compensation in 2007 includes
      $98,000 in termination benefits, consisting of an $80,000 termination
      settlement, $12,000 in consulting costs for transition services
      provided by Mr. Brown to the Company after his resignation, and $6,000
      paid as a relocation allowance. The cost of the car and driver include
      vehicle leasing and maintenance expense, payroll, tolls and
      fuel.  No allocation of the costs related to the use of the car
      and driver has been made between personal use and business travel
      within China.
  74
 Table of Contents
  Grants
of Plan-Based Awards
 
 The
following table provides information on equity awards granted during
2007.
 
 2007 Grants of
      Plan-Based AwardsName
              
              Grant
      Date
              
              Action
                Date
              
              All
      Other Stock Awards: Number of Shares of Stock or Units (#)(1)
              
              All
      Other Option Awards: Number of Securities Underlying Options (#)(1)
              
              Exercise
      or Base Price of Option Awards ($/Sh)(1)
              
              Closing
      Market Price
              
              Grant
      Date Fair Value of Stock and Option Awards ($)Michael
      R. McElwrath
              
              03/21/07
              
              03/21/07
              
              450,000
              
              
              
              
              
              
              
              369,00012/19/07
              
              12/19/07
              
              
              
              260,000
              (2)
              0.65
              
              
              
              -12/19/07
              
              12/19/07
              
              
              
              500,000
              (2)
              1.30
              
              
              
              -12/27/07
              
              12/19/07
              
              338,542
              (2)
              
              
              
              
              
              
              325,000
              (2)Randall
      D. Keys
              
              01/25/07
              
              01/25/07
              
              
              
              40,000
              
              0.765
              
              0.76
              
              23,20010/01/07
              
              10/01/07
              
              
              
              450,000
              
              1.05
              
              
              
              346,50010/01/07
              
              10/01/07
              
              100,000
              
              
              
              
              
              
              
              105,000
              (2)Bruce
      N. Huff(3)
              
              03/21/07
              
              03/21/07
              
              150,000
              (4)
              
              
              
              
              
              
              123,000Don
      Duttlinger(5)
              
              05/16/07
              
              05/11/07
              
              
              
              300,000
              (6)
              1.145
              
              
              
              246,000Garry
      R. Ward
              
              03/13/07
              
              03/13/07
              
              
              
              50,000
              
              0.875
              
              
              
              32,00012/19/07
              
              12/19/07
              
              
              
              300,000
              (2)
              2.37
              
              
              
              -12/27/07
              
              12/19/07
              
              115,625
              (2)
              
              
              
              
              
              
              111,000
              (2)Zhendong
      "Alex" Yang
              
              03/13/07
              
              03/13/07
              
              
              
              30,000
              
              0.875
              
              
              
              19,20012/19/07
              
              12/19/07
              
              
              
              480,000
              (2)
              0.650
              
              
              
              -
  (1)
              Except
      as described in footnote (2) below, all option awards and restricted stock
      awards were granted under the 2005 Plan.  The exercise price of
      all the options granted under the 2005 Plan was equal to the fair market
      value of our common stock on the date of grant.  The fair market
      value, on a given date, means the average of the closing bid and asked
      price of our common stock as reported that day on the OTC Bulletin
      Board.  If the fair market value was less than the closing
      market price on the date of grant, the closing market price is set forth
      in the column entitled "Closing Market
Price."
 (2)
              These
      grants represent the modification of existing option agreements that had
      been granted prior to adoption of the 2005 Plan, as well as certain grants
      of restricted stock.  The exercise prices and/or the vesting
      dates of the awards were modified to avoid potential adverse tax
      consequences to the option holders under Section 409A of the
      Code.  The existing options were cancelled and were replaced
      with new option grants which contain terms that are more restrictive than
      the previous grants and with exercise prices equal to the fair market
      value of our common stock on the original date of grant.  The
      modifications differed with each affected grant, but all changes were
      disadvantageous to the option holder.   In conjunction with
      modifying the options, we granted shares of restricted stock to the
      affected officers whose options were modified by increases to the exercise
      price, to compensate them for the change in option terms.  In
      each case, the number of shares granted was related to the increase in
      aggregate exercise price of the modified options.  Under
      generally accepted accounting principles, the fair value of such
      modifications is equal to any increase in fair value between the original
      and revised options.  In the case of the options, the fair value
      is zero, as the terms of the modified options are more restrictive than
      those of the original options and there has been no increase in fair
      value.  In the case of the shares of restricted stock, we
      measured the fair value as equal to the value of the stock on the grant
      date with no discount for vesting or other restrictions.  See
      "Compensation Tables and Additional Information – Narrative to Summary
      Compensation Table and Grants of Plan-Based Awards Table – Description of
      Option Amendments."
 (3)
              Mr.
      Huff resigned as Chief Financial Officer of the Company on September 15,
      2007.
 (4)
              All
      shares of restricted stock granted to Mr. Huff in 2007 were forfeited in
      connection with the termination of his service with the
      Company.  Although the shares had fair value on the grant date
      as reported in the table above, the 2007 expense recognition related to
      them is not included in the Summary Compensation Table due to the
      forfeiture of the award in the same year as its
  grant.
 (5)
              Mr.
      Duttlinger resigned as President of Far East Energy (Bermuda), Ltd. on
      January 7, 2008.
 (6)
              Options
      to purchase 225,000 shares granted to Mr. Duttlinger in 2007 have been
      forfeited.  Options to purchase up to 75,000 shares of our
      common stock granted to Mr. Duttlinger in 2007 will be forfeited on March
      6, 2008 if not exercised before that
date.
  75
 Table of Contents
 
 Narrative
to Summary Compensation Table and Grants of Plan-Based Awards Table
 
 Employment Agreements with
Name Executive Officers
 
 We have
employment agreements with Named Executive Officers (except for Randall D. Keys)
and those agreements are summarized below.
 
 Agreement with Michael R.
McElwrath.On December 23, 2004, the Company entered into an
amended and restated employment agreement with Michael R. McElwrath on November
26, 2007, the Company amended the agreement by extending the term to October 13,
2010.  The employment agreement provides that Mr. McElwrath will
receive performance bonuses of not less than $20,000 payable on or before the
13th of April and October of each year.  Mr. McElwrath's annual base
salary for 2007 was increased to $315,000 from $300,000.
 
 Unless
further extended, the employment agreement for Mr. McElwrath terminates on
October 13, 2010.  The employment agreement provides that if Mr.
McElwrath is terminated by the Company for Cause (as defined in the employment
agreement), the Company shall pay his base salary and all amounts actually
earned, accrued or owing as of the date of termination and he shall be entitled
for a period of three months after termination to exercise all options granted
to him under his employment agreement or otherwise to the extent vested and
exercisable on the date of termination.  Subsequent to the three-month
exercise period, remaining unexercised options will be forfeited.
 
 If Mr.
McElwrath's employment is terminated by the Company (other than as a result of
death, Disability (as defined in his employment agreement) or Cause), or if he
terminates his employment for Good Reason (as defined in his employment
agreement), he shall be entitled to the following:
 
 ·
              a
      lump sum payment of two times the sum of his base salary and bonus paid
      during the immediately preceding twelve-month
  period;
 ·
              continued
      participation in all employee benefit plans, programs or arrangements
      available to the Company's executive officers in which the executive was
      participating on the date of termination for a specified period of time
      following termination;
 ·
              for
      a period of three years following the termination date, the exercise of
      all options and restricted stock awards granted to him to the extent
      vested and exercisable at the date of termination of executive's
      employment (after the three year period is completed, remaining
      unexercised options will be forfeited);
and
 ·
              certain
      gross-up payments for excise taxes.
 
 Notwithstanding
the foregoing, if Mr. McElwrath's termination of employment by the Company
(other than for death, Cause or Disability) or by him for Good Reason occurs
within 24 months following a Change of Control (as defined in the employment
agreement), then he shall be entitled to a lump sum payment of three times the
sum of his base salary and bonus during the immediately preceding twelve-month
period and all options and restricted stock granted to him will immediately vest
and become exercisable as of the date of termination. After a period of three
years following the termination date, all remaining unexercised options will be
forfeited.  The employment agreement also entitles Mr. Elwrath to
certain gross up payments for excise taxes in the event of a Change of
Control.
 
 If Mr.
McElwrath's employment is terminated as a result of death or Disability, the
Company shall pay his base salary and all amounts actually earned, accrued or
owing as of the date of termination and he or his estate shall be entitled to
exercise all options granted to him regardless of whether or not the option or
restricted stock is vested on the date of termination.  Mr. McElwrath
or his estate may exercise any of the options or restricted stock that vest on
the date of termination for a period of three years, after which time the awards
are forfeited.
 
 Mr.
McElwrath's employment agreement contains no covenant-not-to-compete or similar
restrictions after termination.
 
 76
 Table of Contents
 Agreement with Bruce N.
Huff.   On December 23, 2004, the Company entered into an
amended and restated employment agreement with Bruce N. Huff.  The
employment agreement provided that Mr. Huff receive performance bonuses of
between 15% to 25% of his base salary. The performance criteria for bonuses were
established by the Compensation Committee.  Effective May 1, 2007, Mr.
Huff's base salary was increased from $185,000 to $260,000 and the Compensation
Committee awarded Mr. Huff a discretionary bonus of $50,000.  Both
the  increase in salary and the discretionary bonus were granted for
purposes of employee retention.
  Mr. Huff
resigned as Chief Financial Officer of the Company on September 15,
2007.  He received no compensation in connection with his
resignation.  Mr. Huff's employment agreement contained no
covenant-not-to-compete or similar restrictions after
termination.
 
 Arrangement with Randall D.
Keys.  Mr. Keys was appointed as Chief Financial Officer on
October 1, 2007.  He has no employment contract with
us.  Mr. Keys served as an independent director on our Board from June
2004 until his appointment as Chief Financial Officer, at which time he resigned
from the Board.  While on the Board, Mr. Keys also served as chairman
of the Audit Committee.
 
 Mr. Keys'
annual base salary is $250,000 and he is also eligible to receive discretionary
bonuses as determined by the Compensation Committee.  In the event
that Mr. Keys’ employment with the Company and its subsidiaries is terminated
upon or within 24 months of a Change of Control (as defined in the 2005 Plan),
all options and restricted stock granted to Mr. Keys shall be immediately and
fully vested and exercisable as of the date of termination.
 
 Agreement with Don
Duttlinger.On May 16, 2007, the Company entered into an
employment agreement with Don Duttlinger whereby Mr. Duttlinger served as
President of Far East Energy (Bermuda), Ltd. ("FEEB").  Under the
terms of the agreement, Mr. Duttlinger was entitled to receive an annual base
salary of $160,000, an annual bonus of $80,000 during his service with the
Company in the People's Republic of China, a discretionary performance bonus to
be determined by the Compensation Committee of the Board, a housing allowance of
up to $80,000 per year, an allowance for his children’s education expenses in
China of $40,000 per year, the provision of a car and driver, and a moving
allowance and reimbursement for certain travel between China and the
U.S.  Generally, Mr. Duttlinger was also entitled to receive a tax
equalization payment to the extent the amount Mr. Duttlinger actually paid for
income taxes exceeded the U.S. income tax and social security tax he would have
paid as a citizen of the U.S.
 
 On
September 14, 2007, the employment agreement was amended to extend the date
after which, if Mr. Duttlinger was terminated by FEEB without cause, Mr.
Duttlinger would be entitled to receive a severance payment of 50% of his annual
base, from within 120 days to 240 days of the effective date of the
agreement.  Mr. Duttlinger subsequently resigned from FEEB on January
7, 2008.  There were no severance or other payments made to Mr.
Duttlinger in connection with his separation from service and all of his
unvested stock options were forfeited.  Mr. Duttlinger's employment
agreement contained no covenant-not-to-compete or similar restrictions after
termination.
 
 Agreement with Jeffrey R.
Brown.On October 29, 2005, the Company entered into an
employment agreement with Jeffrey R. Brown whereby Mr. Brown served as President
of FEEB.  Under the terms of the agreement, Mr. Brown was entitled to
receive an annual base salary of $150,000, an annual bonus of $50,000 during his
service with the Company in the People's Republic of China, a discretionary
performance bonus to be determined by the Compensation Committee of the Board, a
housing allowance of up to $96,000 per year, tax gross-up payments on his
international service bonus and on his housing provision, the provision of a car
and driver, and a moving allowance and reimbursement for certain travel between
China and the U.S.  Generally, Mr. Brown was also entitled to receive
a tax equalization payment to the extent the amount Mr. Brown actually paid for
income taxes exceeded the U.S. income tax and social security tax he would have
paid as a citizen of the U.S.  On May 15, 2007, Mr. Brown resigned
from the Company.  Mr. Brown's employment agreement contained no
covenants-not-to-compete or similar restrictions after termination.
 
 In
connection with his resignation, Mr. Brown entered into a release agreement
with FEEB and the Company on May 17, 2007. Under the release agreement,
Mr. Brown agreed to perform certain transition services for a period of six
months from the effective date of his resignation in exchange for a transition
fee of $12,000. In addition, in consideration of Mr. Brown’s release of all
claims, FEEB and the Company agreed to make a severance payment to
Mr. Brown of $80,000, less applicable withholdings and provided a moving
allowance of $6,000.
 77
 Table of Contents
 Agreement with Garry R.
Ward.On February 1, 2004, the Company entered into an
employment agreement with Garry R. Ward whereby Mr. Ward will serve as the
Senior Vice President of Engineering for a term of five years unless sooner
terminated.  Mr. Ward will receive an annual base salary of at least
$140,000. Mr. Ward's annual base salary for 2007 was
$163,611.  Subject to management's discretion, Mr. Ward will also be
eligible to receive annual bonuses in an amount equal to 20% to 25% of his
annual base salary at the time of payment.  If Mr. Ward is terminated
by the Company for any reason other than Cause or is terminated after a Change
in Control (as such terms are defined in the employment agreement), the Company
will pay him a single lump-sum severance payment of $50,000.  If Mr.
Ward's employment is terminated without Cause, he will retain all of his rights
in, and ownership of, all stock options vested as of the date of termination or
that would vest within 30 days following the date of
termination.  Additionally, in the event that Mr. Ward's employment
with the Company and its subsidiaries is terminated upon or within 24 months of
a Change of Control (as defined in the 2005 Plan), all options and restricted
stock granted to Mr. Ward shall be immediately and fully vested and exercisable
as of the date of termination.
 Mr.
Ward's agreement includes a covenant-not-to-compete and a confidentiality
provision, each of which apply for one year after termination.
 
 Agreement with Zhendong "Alex"
Yang.On November 1, 2003, the Company entered into an
employment agreement with Zhendong "Alex" Yang. The term of the employment
agreement is five years unless sooner terminated. Dr. Yang will receive an
annual base salary of at least $126,000.  Dr. Yang's annual base
salary for 2007 was $156,500.  In the event that Dr. Yang's employment
with the Company and its subsidiaries is terminated upon or within 24 months of
a Change of Control (as defined in the 2005 Plan), all options granted to Dr.
Yang shall be immediately and fully vested and exercisable as of the date of
termination.
 
 Dr.
Yang's agreement includes a covenant not to compete and a confidentiality
provision, each of which apply for one year after termination.
 
 2005 Stock Incentive
Plan
 
 On May
27, 2005, the Company's stockholders approved the 2005 Plan. At the Company's
annual meeting held on December 7, 2007, its stockholders approved amendments to
the 2005 Plan (1) to increase the number of shares available from 3,500,000 to
7,500,000, (2)  to increase the number of shares that may be granted
as restricted stock units or any other stock based awards from 900,000 to
2,400,000 shares and (3) to add a provision prohibiting the repricing of options
issued under the 2005 Plan without stockholder approval.  Unless
sooner terminated by the Board or the Compensation Committee, the 2005 Plan will
terminate on May 27, 2015.  The 2005 Plan permits the Compensation
Committee to grant stock options, including incentive stock options ("ISOs") and
non-qualified stock options, stock appreciation rights, restricted stock,
restricted stock units, and other stock-based awards.
 
 The
purpose of the 2005 Plan is to (1) aid the Company in attracting, securing and
retaining employees of outstanding ability, (2) attract members to the Board,
(3) attract consultants to provide services to the Company, as needed, and (4)
motivate such persons to exert their best efforts on behalf of the
Company.
 
 The 2005
Plan is administered by the Compensation Committee.  The 2005 Plan
provides that if the Chief Executive Officer of the Company is a member of the
Board, the Board may authorize him or her to grant awards of up to an aggregate
of 200,000 shares of common stock in each calendar year to participants who are
not subject to the rules promulgated under Section 16 of the Exchange
Act.
 
 The
maximum number of shares of common stock with respect to which awards may be
granted is 7,500,000 shares (subject to adjustment in accordance with the
provisions of the 2005 Plan).  The total number of shares of common
stock that will be available for grants of ISOs is 2,600,000 shares and the
total number of shares of common stock that will be available for grants of
unrestricted shares of common stock, restricted stock, restricted stock units or
any other stock-based awards is 2,400,000 shares.  The maximum number
of shares with respect to which awards of any and all types may be granted
during a calendar year to any participant is limited, in the aggregate, to
1,500,000 shares.  The 2005 Plan also provides that the maximum amount
of a performance-based award to any Covered Employee (as defined in the 2005
Plan) for any fiscal year of the Company will be
 78
 Table of Contents
 With
respect to any options that are awarded, the exercise price pursuant to which
common stock may be purchased will be determined by the Compensation Committee,
but will not be less than the fair market value (as defined in the 2005 Plan) of
the common stock on the date the option is granted.  Under the 2005
Plan, fair market value, on a given day, is defined as the mean of
the  closing bid and asked prices of the common shares as reported
that day on the OTC Bulletin Board.  No option shall be exercisable
more than 10 years after the date of grant.  The 2005 Plan also grants
the Compensation Committee discretion to accelerate vesting or extend the time
available for exercise of options after termination of an executive so long as
termination is not for cause (as determined by the Compensation
Committee).
 Description of Option
Amendments
 
 Section
409A was recently added to the Code, which addresses deferred compensation
arrangements.  Pursuant to Section 409A, certain options granted with
an exercise price less than the fair market value of the underlying stock on the
date of grant that vested after December 31, 2004 are deferred compensation
arrangements subject to Section 409A (the "409A Options") and can result in
taxable income to an optionee with respect to such discount options (or portions
thereof) prior to exercise, including regular state and federal income taxes
plus a 20% additional federal income tax and interest charges. The amendments to
the options described in this report were made in accordance with certain
guidance issued by the Internal Revenue Service with respect to Section 409A and
were made solely to avoid the potential adverse tax consequences of Section
409A.
 
 On
December 19, 2007, our Compensation Committee approved the amendment of that
portion of certain option agreements (the "Option Agreements") between the
Company and each of Michael R. McElwrath, Garry R. Ward, Thomas E. Williams and
Alex Yang that covers the 409A Options.  The portion of the Option
Agreements that covers any options that vested prior to January 1, 2005 remains
unchanged. The Option Agreements with Mr. McElwrath, Mr. Ward and Mr. Williams
were each amended to increase the exercise price of the 409A Options to the fair
market value on the date of grant of those options.   With
respect to 500,000 of Mr. McElwrath's options, the 409A Options were amended to
change the exercise price from $0.65 to $1.30.  With respect to 40,000
of Mr. McElwrath's 409A Options, the options were amended to change the exercise
period from any time on or before January 29, 2009 to a fixed exercise date
during 2008.  With respect to 60,000 of Mr. McElwrath's 409A Options,
the options were amended to change the exercise period from any time on or
before October 13, 2013 to a fixed exercise date during 2008.  The
exercise period for an additional 160,000 of Mr. McElwrath's 409A Options was
changed from any time on or before October 13, 2013 to a fixed exercise date
during 2009.  With respect to 300,000 of Mr. Ward's 409A Options, the
options were amended to change the exercise price from $2.00 to
$2.37.  With respect to 300,000 of Mr. Williams' 409A Options, the
options were amended to change the exercise price from $2.00 to
$2.09.  With respect to Mr. Yang's 480,000 409A Options, the options
were amended to change the exercise period from any time on or before January
29, 2009 to a fixed exercise date during 2008.  In conjunction with
the amendment of the Option Agreements, on December 19, 2007, our Compensation
Committee also approved the grant of 338,542, 115,625 and 28,125 shares of
restricted stock to Mr. McElwrath, Mr. Ward and Mr. Williams, respectively,
which will vest during 2008.  The value of the restricted stock on the
date of grant approximated the aggregate increase in exercise price of the
amended 409A Options.
  79
 Table of Contents
 
 Outstanding
Equity Awards at Fiscal Year-End
 
 The
following table sets forth the number of unexercised options segregated by those
that were exercisable and those that were unexercisable at December 31,
2007.
  2007 Outstanding
      Equity AwardsOption
      Awards
                
                Stock
      AwardsName
                
                Grant
      Date
                
                Number
      of Securities Underlying Unexercised Options Exercisable
                  (#)
                
                Number
      of Securities Underlying Unexercised Options Unexercisable
                  (#)
                
                Option
      Exercise Price ($)
                
                Option
      Expiration Date
                
                Number
      of Shares or Units of Stock That Have Not Vested (#)
                
                Market
      Value of Shares or Units of Stock That Have Not Vested
  ($)Michael
      R. McElwrath
                
                01/29/02
                
                60,000
                
                -
                (1)
                0.65
                
                01/29/09
                
                -
                
                -10/13/03
                
                480,000
                
                
                (2)
                0.65
                
                10/13/13
                
                -
                
                -12/23/04
                
                160,000
                
                40,000
                (3)
                2.00
                
                12/23/09
                
                -
                
                -02/02/06
                
                200,000
                
                300,000
                (3)
                2.00
                
                02/02/16
                
                -
                
                -12/19/07
                
                500,000
                
                -
                (2)
                1.30
                
                10/13/1312/19/07
                
                -
                
                40,000
                (1)
                0.65
                
                12/31/0812/19/07
                
                -
                
                60,000
                (2)
                0.65
                
                12/31/0812/19/07
                
                -
                
                160,000
                (2)
                0.65
                
                12/31/0903/21/07
                
                
                
                
                
                
                
                
                
                450,000
                (4)
                432,00012/27/07
                
                
                
                
                
                
                
                
                
                338,542
                (5)
                325,000Randall
      D. Keys
                
                06/18/04
                
                400,000
                
                -
                (6)
                2.00
                
                06/18/0901/25/07
                
                -
                
                40,000
                (7)
                0.765
                
                01/25/1710/01/07
                
                -
                
                450,000
                (8)
                1.050
                
                10/01/1710/01/07
                
                
                
                
                
                
                
                
                
                100,000
                (9)
                96,000Bruce
      N. Huff(10)
                
                05/01/04
                
                300,000
                
                -
                (11)
                2.00
                
                05/01/09
                
                -
                
                -12/23/04
                
                240,000
                
                -
                (11)
                2.00
                
                12/23/09
                
                -
                
                -Don
      Duttlinger(12)
                
                05/16/07
                
                75,000
                
                225,000
                (13)
                1.145
                
                05/16/17Garry
      R. Ward
                
                02/01/04
                
                100,000
                
                -
                (14)
                2.00
                
                02/01/14
                
                -
                
                -12/23/04
                
                160,000
                
                40,000
                (3)
                2.00
                
                12/23/09
                
                -
                
                -02/02/06
                
                20,000
                
                30,000
                (3)
                2.00
                
                02/02/16
                
                -
                
                -03/13/07
                
                -
                
                50,000
                (8)
                0.875
                
                03/13/1712/19/07
                
                300,000
                
                -
                (14)
                2.37
                
                02/01/1412/27/07
                
                
                
                
                
                
                
                
                
                115,626
                (15)
                111,000Zhendong
      "Alex" Yang
                
                08/08/03
                
                320,000
                
                -
                (16)
                0.65
                
                01/29/09
                
                -
                
                -03/13/07
                
                -
                
                30,000
                (8)
                0.875
                
                03/13/17
                
                -
                
                -12/19/07
                
                -
                
                480,000
                (16)
                0.65
                
                12/31/08
                
                -
                
                -
 (1)
              The
      options aggregate to an original grant to purchase 100,000 shares of
      common stock.  Of the original grant, options to purchase 60,000
      shares of our common stock vested 20% on grant date, and 20% on each grant
      date anniversary thereafter.  These options vested on or before
      December 31, 2004 and, therefore, were not affected by Section 409A of the
      Code.  The balance of the options to purchase 40,000 shares of
      our common stock represent 409A Options and were amended on December 19,
      2007.  With respect to these 409A Options, the options were
      amended to change the exercise period from any time on or before January
      29, 2009 to a fixed exercise date during 2008.  See
      "Compensation Tables and Additional Information – Narrative to Summary
      Compensation Table and Grants of Plan-Based Awards Table – Description of
      Option Amendments".
 (2)
              The
      options aggregate to an original grant to purchase 1,200,000 shares of our
      common stock.  Of the original grant, options to purchase
      480,000 shares of our common stock vested 20% on grant date, and 20% on
      each grant date anniversary thereafter. These options vested on or before
      December 31, 2004 and, therefore, were not affected by Section 409A of the
      Code.  The remaining options exercisable for 720,000 shares of
      our common stock are 409A Options and were amended on December 19,
      2007.  With respect to these 720,000 shares subject to Mr.
      McElwrath's 409A Options, the options were amended to (1) change the
      exercise period with respect to 60,000 of the 720,000 shares subject to
      the original option to purchase 1,200,000 shares of our common stock from
      anytime on or before October 13, 2013 to a fixed date in 2008, (2) change
      the exercise period with respect to 160,000 of the 720,000 shares subject
      to the original option to purchase 1,200,000 shares of our common stock
      from any time on or before October 13, 2013 to a fixed date during 2007
      and (3) change the exercise price with respect to 500,000 of the 720,000
      shares subject to the original option to purchase 1,200,000 shares of our
      common stock from $0.65 to $1.30 per share, the fair market value of our
      common stock on the date of grant.  See "Compensation Tables and
      Additional Information – Narrative to Summary Compensation Table and
      Grants of Plan-Based Awards Table – Description of Option Amendments." See
      also footnote (10) below for a description of the restricted stock granted
      to Mr. McElwrath to compensate him for the loss in the value of his
      options as a result of the amendments of the 409A
  Options.
  80
 Table of Contents
 
 (3)
              These
      options vest 20% on grant date, and 20% on each grant date anniversary
      thereafter.
 (4)
              This
      restricted stock will vest in three equal annual installments beginning on
      the first anniversary date of the
grant.
 (5)
              This
      restricted stock was granted to Mr. McElwrath to compensate him for the
      loss in the value of his options as a result of the amendments of the 409A
      Options and will vest weekly in eight equal installments on each of March
      28, April 4, April 11, April 18, April 25, May 2, May 9, and May 16 of
      2008. The value of the restricted stock on the date of grant approximated
      the aggregate increase in exercise price of the amended 409A Options. See
      "Compensation Tables and Additional Information – Narrative to Summary
      Compensation Table and Grants of Plan-Based Awards Table – Description of
      Option Amendments."  See also footnotes (3) and (4) above for a
      description of the amendments of the 409A
  Options.
 (6)
              These
      options vested 25% on grant date, and 25% on each grant date anniversary
      thereafter.
 (7)
              These
      options vested on January 25, 2008.
 (8)
              These
      options will vest in three equal annual installments beginning on the
      first anniversary date of the
grant.
 (9)
              These
      shares will vest on April 1, 2008.
 (10)
              Mr.
      Huff resigned as Chief Financial Officer of the Company on September 15,
      2007.
 (11)
              These
      options vested 20% on grant date, and 20% on each grant date anniversary
      thereafter.  These vested shares are not subject to forfeiture
      prior to the option expiration
date.
 (12)
              Mr.
      Duttlinger resigned as President of Far East Energy (Bermuda), Ltd. on
      January 7, 2008.
 (13)
              These
      options vest 25% on date of grant, and 25% on each grant date anniversary
      thereafter.  Mr. Duttlinger resigned from the Company in January
      2008, and forfeited unvested options to purchase 225,000
      shares.  He will forfeit the remaining 75,000 vested options on
      March 6, 2008 if they have not been exercised before that
      date.
 (14)
              The
      options aggregate to an original grant to purchase 400,000 shares of
      common stock.  Of the original grant, options to purchase
      100,000 shares of our common stock vested 25% on date of grant, and 25% on
      each grant date anniversary thereafter.  These options vested on
      or before December 31, 2004 and, therefore, were not affected by Section
      409A of the Code.  The balance of the options to purchase
      300,000 shares of our common stock represent 409A Options and were amended
      on December 19, 2007.  With respect to these 409A Options, the
      options were amended to change the exercise price with respect to the
      options from $2.00 to $2.37 per share, the fair market value of our common
      stock on the date of grant.  See "Compensation Tables and
      Additional Information – Narrative to Summary Compensation Table and
      Grants of Plan-Based Awards Table – Description of Option
      Amendments."  See also footnote (15) below for a description of
      the restricted stock granted to Mr. Ward to compensate him for the loss in
      the value of his options as a result of the amendments of the 409A
      Options.
 (15)
              This
      restricted stock was granted to Mr. Ward to compensate him for the loss in
      the value of his options as a result of the amendments of his 409A Options
      and will vest in two equal installments with one on each of April 1, 2008
      and the other on May 1, 2008.  The value of the restricted stock
      on the date of grant approximated the aggregate increase in exercise price
      of the amended 409A Options. See "Compensation Tables and Additional
      Information – Narrative to Summary Compensation Table and Grants of
      Plan-Based Awards Table – Description of Option
      Amendments."  See also footnote (14) above for a description of
      the amendment of the 409A Options.
 (16)
              The
      options aggregate to an original grant to purchase 800,000 shares of
      common stock.  Of the original grant, options to purchase
      320,000 shares of our common stock vested 20% on grant date and an
      additional 20% on January 29 of each year thereafter.  These
      options vested on or before December 31, 2004 and, therefore, were not
      affected by Section 409A of the Code.  The balance of the
      options to purchase 480,000 shares of our common stock represent 409A
      Options and were amended on December 19, 2007.  With respect to
      these 409A Options, the options were amended to change the exercise period
      from any time on or before January 29, 2009 to a fixed date in
      2008.  See "Compensation Tables and Additional Information –
      Narrative to Summary Compensation Table and Grants of Plan-Based Awards
      Table – Description of Option
Amendments."
 
 Potential
Payments Upon Termination or Change in Control
 
 For a
description of the potential payments to our Named Executive Officers upon
termination or a change in control, see "Narrative to Summary Compensation Table
and Grants of Plan-Based Awards Table – Employment Agreements with Executive
Officers" above.   For further discussion of the determination of
termination benefits, see "Compensation Discussion and Analysis – Total
Compensation and Description and Allocation of Its Components – Post-Termination
Compensation."
  81
 Table of Contents
 
 Quantification of termination
benefits.  The following table quantifies the termination
benefits due to each of the executive officers, in the event of terminations for
various reasons, including any termination occurring within 24 months following
a change of control.  The amounts were computed as if each executive
officer's employment terminated on December 31, 2007.
 
 2007 Potential Termination
Benefits for Named Executive Officers
 Executive
      Officer / Element of Compensation
              
              Termination
      due to Death or Disability
              
              
              Termination
      for Other than Cause, Death or Disability; or by Executive for Good
      Reason
              
              
              Termination
      for Other than Cause, Death or Disability; within 24 Months Following a
      Change of ControlMichael
      R. McElwrathSalary
      and bonus
              
              $
              -
              
              
              $
              830,000
              
              
              $
              1,245,000Equity
      awards(1)
              
              
              837,600
              
              
              
              -
              
              
              
              837,600Benefits(2)
              
              
              -
              
              
              
              57,460
              
              
              
              79,110Tax
      Gross-up(3)
              
              
              -
              
              
              
              -
              
              
              
              526,612Total
      Mr. McElwrath
              
              $
              837,600
              
              
              $
              887,460
              
              
              $
              2,688,322Randall
      D. KeysSalary
      and bonus(4)
              
              $
              -
              
              
              $
              24,038
              
              
              $
              24,038Equity
      Awards(1)
              
              
              -
              
              
              
              -
              
              
              
              103,800Total
      Mr. Keys
              
              $
              -
              
              
              $
              24,038
              
              
              $
              127,838Garry
      R. WardSalary
      and bonus
              
              $
              50,000
              
              
              $
              50,000
              
              
              $
              50,000Equity
      awards(1)
              
              
              -
              
              
              
              -
              
              
              
              115,250Total
      Mr. Ward
              
              $
              50,000
              
              
              $
              50,000
              
              
              $
              165,250Zhendong
      "Alex" YangSalary
      and bonus(6)
              
              $
              -
              
              
              $
              24,077
              
              
              $
              24,077Equity
      awards(1)(7)
              
              
              -
              
              
              
              -
              
              
              
              151,350Total
      Dr. Yang
              
              $
              -
              
              
              $
              24,077
              
              
              $
              175,427
 
 
 (1)
              Equity
      awards are quantified at the intrinsic value on December 31, 2007 of all
      options and restricted stock that was not fully vested and exercisable,
      but would become exercisable, under the terms of the Name Executive
      Officer’s employment agreement, due to the form of termination specified
      in the column heading. The intrinsic value of options is determined by
      calculating the difference between the closing market price of our common
      stock on December 31, 2007, which was  $0.96 per share, and the
      exercise price of the option, and multiplying that difference by the
      number of options exercisable at that given exercise price. The intrinsic
      values of all the options are then totaled.  The intrinsic value
      of restricted stock is equal to the number of shares times the closing
      price of our common stock on December 31,
2007.
 (2)
              Benefits
      quantified include the incremental cost to the Company of continuing
      health care benefits (based on January 2008 premium rates) and the cost of
      the Company's matching
contributions.
 (3)
              Tax
      gross-up refers to reimbursement for any excise tax the Named Executive
      Officer is required to pay under Section 4999 of the Code for excess
      parachute payments.  This amount reflects the estimated gross-up
      payments that would be due to Mr. McElwrath as if he had been terminated
      on December 31, 2007.
 (4)
              Mr.
      Keys has no employment contract with the Company.  His severance
      is determined by Company policy at December 31, 2007, which provides for
      one week's salary for each year or partial year of service, plus a base of
      two weeks if employment is terminated without cause (as determined by the
      Company).  Mr. Keys joined the Company as a director in
      2004.
 (5)
              In
      the event that Mr. Keys’ employment with the Company is terminated upon or
      within 24 months of a Change of Control (as defined in the 2005 Plan), all
      options granted to Mr. Keys shall be immediately and fully vested and
      exercisable as of the date of termination, and all restrictions on
      restricted stock will be removed as of the date of
      termination.
 (6)
              Dr.
      Yang's severance is determined by Company policy at December 31, 2007,
      which provides for one week's salary for each year or partial year of
      service, plus a base of two weeks.  Dr. Yang joined the Company
      in 2002.
 (7)
              Dr.
      Yang’s equity compensation in the event of a change of control includes
      $148,800 for the  intrinsic value of 480,000 options to purchase
      common stock, which were not exercisable as of December 31, 2007, but
      became exercisable on January 2,
2008.
  82
 Table of Contents
 
 Bruce N.
Huff resigned as Chief Financial Officer of the Company on September 15,
2007.  There were no severance or other payments made to Mr. Huff in
connection with his separation.  Jeffrey R. Brown served as President
of Far East Energy (Bermuda), Ltd. until his resignation on May 16,
2007.  In connection with his resignation, Mr. Brown entered into a
release agreement with FEEB and the Company on May 17, 2007.  Under
the release agreement, Mr. Brown agreed to perform certain transition services
for a period of six months from the effective the date of his resignation in
exchange for a transition fee of $12,000.  In addition, in
consideration of Mr. Brown’s release of all claims, FEEB and the Company agreed
to pay Mr. Brown the following severance benefits: a severance payment of
$80,000, less applicable withholdings, and certain relocation costs up to
$6,000.  The total termination benefits paid to Mr. Brown were
$98,000, reported in the "All Other Compensation" column of the Summary
Compensation Table.  Mr. Duttlinger resigned as President of Far East
Energy (Bermuda), Ltd. on January 7, 2008.  He received no termination
benefits in connection with his resignation and would have received no
termination benefits if his employment was terminated on December 31,
2007.
 
 Directors'
Compensation
 
 The
following table summarizes compensation paid to non-employee directors for
2007.  Mr. McElwrath is the only employee serving as a director and he
does not receive any additional compensation for his service on the
Board.  Mr. Keys served as an independent director on our Board from
June 2004 until his appointment as Chief Financial Officer on October 1, 2007,
at which time he resigned from the Board and its committees.  All of
Mr. Keys’ compensation, including all compensation earned from service on the
Board, is reported in the 2007 Summary Compensation Table under "All Other
Compensation."
  2007 Director
Compensation
 Name
              
              Fees
      Earned or Paid in Cash ($)
              
              
              Stock
                Awards
      ($)(1)
              
              
              Option
                Awards
      ($)(1)
              
              
              Total
      ($)Thomas
      E. Williams
              
              
              37,000
              
              
              
              1,063
              (3)
              
              
              42,767
              (2)
      (3)
              
              
              80,830William
      A. Anderson(4)
              
              
              12,250
              
              
              
              -
              
              
              
              50,531
              (4)
              
              
              62,781C.P.
      Chiang(5)
              
              
              26,500
              
              
              
              -
              
              
              
              63,434
              (2)(5)
              
              
              89,934Donald
      A. Juckett
              
              
              34,750
              
              
              
              -
              
              
              
              49,197
              (2)
              
              
              83,947John
      C. Mihm
              
              
              52,750
              
              
              
              -
              
              
              
              51,834
              (2)
              
              
              104,584
 
 (1)
              Stock
      Awards and Option Awards are quantified in the table according to the
      amount included in 2007 share-based compensation expense for the awards
      granted to each named director through the end of fiscal year
      2007.  See Footnote 10 to the Consolidated
      Financial  Statements which is included in Part II of this
      report for assumptions used in valuing these awards and the methodology
      for recognizing the related  expense.  The expense has
      been modified in accordance with SEC rules to eliminate forfeiture
      assumptions in computing the expense for the year.   There
      were no actual forfeitures during 2007 by any of the named
      directors.  All options are for the purchase of our common
      stock.  All stock awards are grants of restricted stock
      representing time-vesting shares of our common
  stock.
 (2)
              On
      January 25, 2007, Mr. Williams, Mr. Chiang, Mr. Juckett, and Mr. Mihm were
      granted options to purchase 40,000 shares  of our common
      stock.  The grant date fair values of these awards were $23,200
      to each of these directors.
 (3)
              Options
      to purchase 100,000 shares of our common stock represent 409A Options and
      were amended on December 19, 2007.  With respect to these 409A
      Options, the options were amended to change the exercise price with
      respect to the options from $2.00 to $2.09 per share, the fair market
      value of our common stock on the date of grant.  The amendment
      to the options had no fair value as the terms of the amended options are
      more restrictive than those of the original terms of the options and there
      has been no increase in fair value.  This restricted stock was
      granted to Mr. Williams to compensate him for the loss in the value of his
      options as a result of the amendments of his 409A Options.  The
      value of the restricted stock on the date of grant approximated the
      aggregate increase in exercise price of the amended 409A Options. The
      grant date fair value of the restricted stock was $27,000. See
      "Compensation Tables and Additional Information – Narrative to Summary
      Compensation Table and Grants of Plan-Based Awards Table – Description of
      Option Amendments."
 (4)
              On
      October 1, 2007, Mr. Anderson was appointed as a director.  On
      that date, he was granted options to purchase 210,000 shares of our common
      stock.  The grant date fair value of the options was
      $161,700.
  83
 Table of Contents
  (5)
              On January 25, 2007, Mr. Chiang
      was granted options to purchase up to 160,000 shares of our common stock.
      The grant date fair value of this award was
  $88,000.
 
 The table
below provides information regarding the outstanding stock option and restricted
stock awards for each of our directors as of December 31, 2007.
 
 2007 Outstanding
      Equity Awards for DirectorsName
              
              Number
      of Securities Underlying Unexercised Options (#)
              
              Number
      of Shares of Stock That Have Not Vested (#)Thomas
      E. Williams
              
              440,000
              
              28,125William
      A. Anderson
              
              210,000
              
              -C.P.
      Chiang
              
              200,000
              
              -Donald
      A. Juckett
              
              440,000
              
              -
 
 In 2007,
the Company began paying cash compensation to non-employee directors for their
service on the Board. In January 2007, the Board approved a standard
compensation arrangement for directors, effective January 1, 2007, as
follows:
 
 Annual
      cash retainer
              
              $
              15,000
              
              annuallyBoard
      meetings in person
              
              
              1,500
              
              for
      each meetingBoard
      meetings by telephone
              
              
              500
              
              for
      each meetingCommittee
      meetings in person
              
              
              1,000
              
              for
      each meetingCommittee
      meetings by telephone
              
              
              500
              
              for
      each meetingCommittee
      Chairman retainer
              
              
              5,500
              
              annuallyAudit
      Committee Chairman retainer
              
              
              12,000
              
              annuallyBoard
      Chairman retainer
              
              
              12,000
              
              annually
 
 The
Company also reimburses directors for the reasonable expenses they incur to
attend Board, Board committee and/or investor relations meetings.  In
addition, in 2007, the Board approved an annual grant of options to purchase
40,000 shares of common stock to each non-employee director, which will have an
exercise price equal to fair market value on date of grant, a term of ten years
and will vest 100% on the first anniversary of the date of grant.  The
fair market value, on a given date, is the mean of the  closing bid
and asked prices of the common shares as reported that day on the OTC Bulletin
Board.  These grants are expected to be made during the first quarter
each fiscal year.  The 2007 grant to each of the five non-employee
directors was made on January 25, 2007.  The options have an exercise
price of $0.765, which was the fair market value of our stock on the date of
grant.
 
 From time
to time, non-employee directors have received grants of options to purchase the
Company's common stock in consideration for their service on the
Board.  In 2004, John C. Mihm, Donald A. Juckett, and Thomas E.
Williams each received an option grant to purchase 400,000 shares of the
Company's common stock, which were granted upon their initial election as
directors.  The options vest over three years and have a five-year
term and an exercise price of $2.00 per share.  On December 19, 2007,
100,000 of Mr. Williams’ shares from his 2004 option grant were modified to
increase the exercise price to $2.09, in conjunction with this modification he
was granted 28,125 shares of restricted stock to compensate Mr. Williams for the
loss of value to his options as a result of the amendment.  See
footnote (3) to the Director Compensation Table above for further
explanation.
 
 In
addition to the annual grants of options to directors described above, we
typically grant options to directors upon their initial appointment or election
as a director.  On January 25, 2007, C. P. Chiang received an option
grant of 160,000 shares, with a ten year term and an exercise price of $0.765,
which was the fair market value of our stock on that date.  The
options will vest over three years, with 25% vested immediately and an
additional 25% vesting on
  84
 the
first, second and third anniversary of the date of grant.  William A.
Anderson was appointed to the Board effective October 1, 2007, and on that date
he received an option of 210,000 shares, with a ten year term and an exercise
price of $1.05, which was the fair market value of our stock on that
date.  The options will vest over three years, with 25% vested
immediately and an additional 25% vesting on the first, second and third
anniversary of the date of grant.  If upon or within 24 months of a
Change of Control (as defined in the 2005 Plan) a director’s service in their
capacity as a director of the Company is terminated, then all options granted to
the director will immediately and fully vest and be exercisable as of the date
their service is terminated.
  85
 Table of Contents
  ITEM12.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
 
 Security
Ownership
 
 The
following table sets forth, as of February 18, 2008, certain information with
respect to the beneficial ownership of our common stock by (a) each stockholder
beneficially owning more than 5% of the Company's outstanding common stock; (b)
each director of the Company who is a stockholder of the Company; (c) each
of the Named Executive Officers who is a stockholder of the Company; and (d) all
executive officers and directors of the Company as a group.  Total
shares outstanding on February 18, 2008 were 137,458,794.
 
 Name of Beneficial
      Owner
              
              Amount
      and Nature of Beneficial Ownership of common
      stock
              
              
              Percent
      of Outstanding common stockInternational
      Finance Corporation(1)
              
              
              15,505,360
              (1)
              
              
              11.0
              %Heartland
      Advisors, Inc.(2)
              
              
              7,500,000
              (2)
              
              
              5.5
              %Executive
      Officers:Michael
      R. McElwrath
              
              
              2,388,642
              (3)
              
              
              1.7
              %Randall
      D. Keys
              
              
              620,550
              (4)
              
              
              *Garry
      R. Ward
              
              
              722,292
              (5)
              
              
              *Zhendong
      "Alex" Yang
              
              
              810,000
              (6)
              
              
              *Non-Executive
      Directors:Thomas
      E. Williams
              
              
              468,125
              (7)
              
              
              *William
      A. Anderson
              
              
              62,500
              (8)
              
              
              *C.
      P. Chiang
              
              
              120,000
              (9)
              
              
              *Donald
      A. Juckett
              
              
              459,100
              (10)
              
              
              *John
      C. Mihm
              
              
              442,500
              (11)
              
              
              *Lucian
      L. Morrison
              
              
              47,500
              (12)All
      Directors and Executive Officers as a
              
              
              
              
              
              
              4.4
              %Group
      (10 persons)
              
              
              6,141,209
              (13)
 __________
 * Less
than 1%.
 (1)
              The
      amount of beneficial ownership of the shares are based on a Schedule 13G
      filed with the SEC September 5, 2007.  The address for
      International Finance Corporation is 2121 Pennsylvania Avenue, N.W.,
      Washington, D.C. 20433.  Shares listed in the table include
      4,019,908 shares which are issuable upon the exercise of
      warrants.
 (2)
              The
      amount of beneficial ownership of the shares are based on a Schedule 13G
      filed with the SEC February 12, 2007.  The address for Heartland
      Advisors, Inc. is 789 North Water Street, Milwaukee, Wisconsin 53202.
      Based on the Schedule 13G, Heartland Advisors, Inc. and Mr. William J.
      Nasgovitz share investment and voting power over the
      shares.  Mr. Nasgovitz and Heartland Advisors, Inc. disclaim any
      beneficial ownership of the shares.
 (3)
              Includes
      1,600,000 shares which Michael R. McElwrath may purchase pursuant to
      options which are exercisable within 60 days of February 18,
      2008.  Also includes 450,000 shares of restricted stock which
      vest in three equal annual installments beginning on March 21, 2008, and
      338,542 shares of restricted stock which vest in eight equal installments,
      with one installment vesting during each week during the period March 28,
      2008 through May 16, 2008.
 (4)
              Includes
      440,000 shares which Randall D. Keys may purchase pursuant to options
      which are exercisable within 60 days of February 18, 2008.  Also
      includes 100,000 shares of restricted stock which vest on April 1,
      2008.
 (5)
              Includes
      606,667 shares which Garry R. Ward may purchase pursuant to options which
      are exercisable within 60 days of February 18, 2008.  Also
      includes 115,625 shares of restricted stock which vest on April 1,
      2008.
  86
 Table of Contents
  (6)
              Includes
      810,000 shares which Zhendong "Alex" Yang may purchase pursuant to options
      which are exercisable within 60 days of February 18,
  2008.
 (7)
              Includes
      440,000 shares which Thomas E. Williams may purchase pursuant to options
      which are exercisable within 60 days of February 18, 2008.  Also
      includes 28,125 shares of restricted stock which vest on May 1,
      2008.
 (8)
              Includes
      52,500 shares which William A. Anderson may purchase pursuant to options
      which are exercisable within 60 days of February 18, 2008.  Mr.
      Anderson disclaims beneficial ownership of 10,000 of these securities held
      by Anderson Securities Corp. except to the extent of his pecuniary
      interest therein, and the inclusion of these shares in this report shall
      not be deemed an admission of beneficial ownership of all of the reported
      shares for any purpose.
 (9)
              Includes
      120,000 shares which C.P. Chiang may purchase pursuant to options which
      are exercisable within 60 days of February 18,
  2008.
 (10)
              Includes
      440,000 shares which Donald A. Juckett may purchase pursuant to options
      which are exercisable within 60 days of February 18,
  2008.
 (11)
              Includes
      440,000 shares which John C. Mihm may purchase pursuant to options which
      are exercisable within 60 days of February 18,
  2008.
 (12)
              Includes
      47,000 shares which Lucian L. Morrison may purchase pursuant to options
      which are exercisable within 60 days of February 18,
  2008.
 (13)
              Includes
      4,956,167 shares which may be purchased pursuant to options which are
      exercisable within 60 days of February 18, 2008 by our directors and
      executive officers.
 
 Equity
Compensation Plan Information
  The
following table provides information regarding the equity compensation plans as
of December 31, 2007.
 
 Plan Category
              
              Number
      of securities to be issued upon exercise of outstanding options, warrants
      and rights
                (a)
              
              
              Weighted
      average exercise price of outstanding options, warrants and
      rights
                (b)
              
              
              Number
      of securities remaining available for future issuance under equity
      compensation plans (excluding securities reflected in column
                (c)Equity
      compensation plans approved by security holders
              
              
              2,294,000
              
              
              $
              1.29
              
              
              
              4,656,000Equity
      compensation plans not approved by security holders(1)(2)(3)
              
              
              7,671,000
              
              
              $
              1.38
              
              
              
              -Total
              
              
              9,965,000
              
              
              $
              1.36
              
              
              
              4,656,000
 
 (1)
              We
      granted options to purchase shares of common stock prior to the adoption
      of the 2005 Plan, which are evidenced by individual stock option
      agreements.  The options were granted to officers, directors and
      consultants and have a term of between five and ten years and an exercise
      price of between $0.65 and $2.37 per
share.
 (2)
              We
      granted options to purchase shares of common stock in December 2007 which
      were replacements for options cancelled due to potential adverse tax
      consequences to the holders of the cancelled options under Section 409A of
      the Code.  The cancelled options had been granted prior to
      adoption of the 2005 Plan.  We also granted shares of non-vested
      stock to certain of the affected persons, in conjunction with the
      cancellation and replacement of their stock options.  Both the
      replacement stock options and the non-vested shares were issued outside
      the 2005 Plan.  The replacement stock options have terms between
      one and approximately six years, and exercise prices between $.65 and
      $2.37 per share.
 (3)
              We
      granted options to purchase shares of common stock in 2007 outside the
      2005 Plan as an inducement grant offered Mr. William Anderson upon his
      initial appointment to serve on our Board.  The grant carried a
      term of ten years and an exercise price of
  $1.05.
 
 For
discussion of the 2005 Plan, which was approved by the security holders, see
"Narrative to Summary Compensation Table and Grants of Plan-Based Awards
Table—2005 Stock Incentive Plan."
  87
 Table of Contents
  ITEM13.  CERTAIN RELATIONSHIPS AND RELATED
TRANSACTIONS, AND DIRECTOR INDEPENDENCE
 
 Review
of Related Person Transactions
 
 In
accordance with our audit committee charter, the Audit Committee reviews related
person transactions.  It is the Company’s policy that we will not
enter into transactions that are considered related person transactions that are
required to be disclosed under Item 404 of Regulation S-K unless the committee
or another independent body of the board first reviews and approves the
transactions.
  Board
Independence
 
 The Board
has determined that each director, except for Michael R. McElwrath, has no
material relationship with the Company (either directly or as a partner,
stockholder or officer of an organization that has a relationship with the
Company) and is independent within the meaning of the AMEX listing
standards.
 
 ITEM14.  PRINCIPAL ACCOUNTANT FEES AND
SERVICES
 
 Independent
Registered Public Accounting Firm Fee Information
 
 Audit
Fees
 
 The
aggregate fees billed by Payne Smith & Jones, P.C. for professional services
rendered for the audit of our annual financial statements for the years ended
December 31, 2007 and 2006 and for the review of the financial statements
included in our Quarterly Reports on Form 10-Q for those years were $140,839 and
$153,682, respectively.
 
 Audit-Related
Fees
 
 Payne
Smith & Jones, P.C. did not render any audit-related professional services
for the years ended December 31, 2007 and 2006.
 
 Tax
Fees
 
 The
aggregate fees billed by Payne Smith & Jones, P.C. for professional services
rendered for tax compliance, tax advice and/or tax planning for the years ended
December 31, 2007 and 2006 were $5,000 and $5,553, respectively.  The
fees were for the preparation of the 2006 and 2005 corporate tax
returns.
  All
Other Fees
 
 Payne
Smith & Jones, P.C. did not bill any other fees for professional products or
services rendered to us, other than those described above under "Audit Fees,"
"Audit-Related Fees" and "Tax Fees" for the years ended December 31, 2007 and
2006.
 
 The Audit
Committee pre-approved all of the audit and non-audit fees described above for
the years ended December 31, 2007 and 2006.
  88
 Table of Contents
  Pre-Approval
Policies and Procedures
 
 In
accordance with the Audit Committee Charter, the Audit Committee has established
policies and procedures by which it approves in advance any audit and
permissible non-audit services to be provided by our independent registered
public accounting firm.  Under these procedures, prior to the
engagement of the independent registered public accounting firm for pre-approved
services, requests or applications for the independent registered public
accounting firm to provide services must be submitted to our chief financial
officer or his designee and the Audit Committee and must include a detailed
description of the services to be rendered.  The chief financial
officer or his designee and the independent registered public accounting firm
must ensure that the independent registered public accounting firm is not
engaged to perform the proposed services unless those services are within the
list of services that have received the Audit Committee's pre-approval and must
cause the Audit Committee to be informed in a timely manner of all services
rendered by the independent registered public accounting firm and the related
fees.
 
 Requests
or applications for the independent registered public accounting firm to provide
services that require case-by-case approval will be submitted to the Audit
Committee (or any Audit Committee members who have been delegated pre-approval
authority) by the chief financial officer or his designee.  Each
request or application must include:
 
 ·
              a
      recommendation by the chief financial officer (or designee) as to whether
      the Audit Committee should approve the request or application;
      and
 
 ·
              a
      joint statement of the chief financial officer (or designee) and the
      independent registered public accounting firm as to whether, in their
      view, the request or application is consistent with the SEC's and the
      Public Company Accounting Oversight Board's requirements for
      independence.
 
 The Audit
Committee will not permit the independent registered public accounting firm to
provide services in connection with a transaction initially recommended by them,
the purpose of which may be tax avoidance and the tax treatment of which may not
be supported in the Code and related regulations.  The Audit Committee
also will not permit the independent registered public accounting firm to
provide any services to the extent that the SEC has prohibited the provision of
those services by the independent registered public accounting firm, which
generally include:
 
 ·
              bookkeeping
      or other services related to accounting records or financial
      statements;
 
 ·
              financial
      information systems design and
implementation;
 
 ·
              appraisal
      or valuation services, fairness opinions or contribution-in-kind
      reports;
 
 ·
              actuarial
      services;
 
 ·
              internal
      audit outsourcing services;
 
 ·
              management
      functions;
 
 ·
              human
      resources;
 
 ·
              broker-dealer,
      investment adviser or investment banking
  services;
 
 ·
              legal
      services; and
 
 ·
              expert
      services unrelated to the audit.
 
 89
 Table of Contents
 The Audit
Committee delegated authority to the chairman of the Audit Committee,
to:
 ·
              pre-approve
      any services proposed to be provided by the independent registered public
      accounting firm and not already pre-approved or prohibited by the Audit
      Committee's Pre-Approval Policy;
 
 ·
              increase
      any authorized fee limit for pre-approved services (but not by more than
      20% of the initial amount that was pre-approved) before the Company or its
      subsidiaries engage the independent registered public accounting firm to
      perform services for any amount in excess of the fee limit;
      and
 
 ·
              investigate
      further the scope, necessity or advisability of any services as to which
      pre-approval is sought.
 
 The
Chairman is required to report any pre-approval or fee increase decisions to the
Audit Committee at the next Audit Committee meeting.  The Audit
Committee does not delegate to management any of the Audit Committee's authority
or responsibilities concerning the independent registered public accounting
firm's services.
  90
 Table of Contents
  PART
IV
 
 ITEM15.  EXHIBITS AND FINANCIAL STATEMENT
SCHEDULES
 
 (a)    The
following documents are filed as part of this report:
 
 1. Financial
Statements.
 
 Our
consolidated financial statements are included in Part II, Item 8 of this
report:
 PageReport
      of Independent Registered Public Accounting Firm
              
              35Consolidated
      Balance Sheets
              
              37Consolidated
      Statements of Operations
              
              38Consolidated
      Statements of Stockholders’ Equity
              
              39Consolidated
      Statements of Cash Flows
              
              40Notes
      to the Consolidated Financial Statements
              
              41
 
 2. Financial
statement schedules and supplementary information required to be
submitted.
 
 Schedule
      II — Valuation and qualifying accounts.
              
              57
 
 Schedules
other than that listed above are omitted because they are not
applicable.
 
 3. Exhibits
 
 A list of
the exhibits filed or furnished with this report on Form 10-K (or incorporated
by reference to exhibits previously filed or furnished by us) is provided in the
Exhibit Index beginning on page 93 of this report. Those exhibits incorporated
by reference herein are indicated as such by the information supplied in the
parenthetical thereafter. Otherwise, the exhibits are filed
herewith.
  91
 Table of Contents
 
 SIGNATURES
 
 Pursuant
to the requirements of Section 13 or 15(d) the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized, on February 28, 2008.
 
 FAR
      EAST ENERGY CORPORATIONBy:
              /s/ Michael R. McElwrathMichael
      R. McElwrathChief
      Executive Officer
 
 Pursuant
to the requirements of the Securities Exchange Act of 1934, this report is
signed below by the following persons on behalf of the registrant and in the
capacities and on the dates indicated.
 
 By:
              
              /s/ Michael R. McElwrath
              
              Date:
              
              March
      13, 2008Michael
      R. McElwrath
                Chief
      Executive Officer, President and Director
                (Principal
      Executive Officer)By:
              
              /s/  Randall D.
    Keys
              
              Date:
              
              March
      13, 2008Randall
      D. Keys
                Chief
      Financial Officer
                (Principal
      Financial and Accounting Officer)By:
              
              /s/  Thomas E.
      Williams
              
              Date:
              
              March
      13, 2008Thomas
      E. Williams,
                Chairman
      of the BoardBy:
              
              /s/  William A.
      Anderson
              
              Date:
              
              March
      13, 2008William
      A. Anderson
                DirectorBy:
              
              /s/  C. P. Chiang
              
              Date:
              
              March
      13, 2008C.
      P. Chiang
                DirectorBy:
              
              /s/  Donald A.
      Juckett
              
              Date:
              
              March
      13, 2008Donald
      A. Juckett
                DirectorBy:
              
              /s/  John C. Mihm
              
              Date:
              
              March
      13, 2008John
      C. Mihm
                DirectorBy:
              
              /s/  Lucian L.
      Morrison
              
              Date:
              
              March
      13, 2008Lucian
      L. Morrison
                Director
  92
 Table of Contents
  INDEX OF
EXHIBITS
 
 Exhibit
      Number
              
              Description3.1
              
              Articles
      of Incorporation of the Company, as amended (filed as Exhibit 3.1 to the
      Company’s Annual Report on Form 10-K for the year ended December 31, 2004,
      which was filed on March 15, 2005, and incorporated herein by
      reference).3.2
              
              Amended
      and Restated Bylaws of the Company (filed as Exhibit 3.1 to the Company’s
      Current Report on Form 8-K filed on March 17, 2005, and incorporated
      herein by reference).4.1
              
              Articles
      of Incorporation of the Company, as amended (included as Exhibit
      3.1).4.2
              
              Amended
      and Restated Bylaws of the Company (included as Exhibit
    3.2).4.3
              
              Specimen
      stock certificate (filed as Exhibit 4.5 to the Company’s Annual Report on
      Form 10-K for the year ended December 31, 2005, which was filed on March
      15, 2005, and incorporated herein by reference).4.4
              
              Form
      of Warrant (filed as Exhibit 4.1 to the Company’s Current Report in Form
      8-K filed on August 27, 2007, and incorporated herein by
      reference).4.5
              
              Warrant
      Agreement, dated August 27, 2007, between the Company and Continental
      Stock Transfer & Trust Company (filed as Exhibit 4.2 to the Company’s
      Current Report on Form 8-K filed on August 27, 2007, and incorporated
      herein by reference).10.1*
              
              Amended
      and Restated Employment Agreement, dated December 23, 2004, by and between
      the Company and Michael R. McElwrath (filed as Exhibit 10.1 to the
      Company’s Current Report on Form 8-K filed on December 23, 2004, and
      incorporated herein by reference).10.2*
              
              Amended
      and Restated Employment Agreement, dated December 23, 2004, by and between
      the Company and Bruce N. Huff (filed as Exhibit 10.2 to the Company’s
      Current Report on Form 8-K filed on December 23, 2004, and incorporated
      herein by reference).10.3*
              
              Employment
      Agreement, dated February 1, 2004, by and between the Company and Garry R.
      Ward (filed as Exhibit 10.3 to the Company’s Annual Report on Form 10-K
      for the year ended December 31, 2004, which was filed on March 15, 2005
      and incorporated herein by reference).10.4*
              
              Employment
      Agreement, dated November 1, 2003, by and between the Company and Zhendong
      "Alex" Yang (filed as Exhibit 10.4 to the Company’s Annual Report on Form
      10-K for the year ended December 31, 2004, which was filed on March 15,
      2005, and incorporated herein by reference).10.5*
              
              Amended
      and Restated Nonqualified Stock Option Agreement, dated December 23, 2004,
      by and between the Company and Michael R. McElwrath (filed as Exhibit 10.3
      to the Company's Current Report on Form 8-K filed on December 28, 2004,
      and incorporated herein by reference).10.6*
              
              Amended
      and Restated Nonqualified Stock Option Agreement, dated December 23, 2004,
      by and between the Company and Michael R. McElwrath (filed as Exhibit 10.5
      to the Company's Current Report on Form 8-K filed on December 28, 2004,
      and incorporated herein by reference).10.7*
              
              Nonqualified
      Stock Option Agreement, dated December 23, 2004, by and between the
      Company and Michael R. McElwrath (filed as Exhibit 10.6 to the Company’s
      Current Report on Form 8-K filed on December 28, 2004, and incorporated
      herein by reference).10.8*
              
              Nonqualified
      Stock Option Agreement, dated December 23, 2004, by and between the
      Company and Garry Ward (filed as Exhibit 10.9 to the Company’s Current
      Report on Form 8-K filed on December 28, 2004, and incorporated herein by
      reference).10.9*
              
              Stock
      Option Agreement, dated May 18, 2004, by and between the Company and
      Donald Juckett (filed as Exhibit 10.13 to the Company’s Annual Report on
      Form 10-K for the year ended December 31, 2004, which was filed on March
      15, 2005, and incorporated herein by reference).10.10*
              
              Stock
      Option Agreement, dated June 18, 2004, by and between the Company and
      Randall D. Keys (filed as Exhibit 10.14 to the Company’s Annual Report on
      Form 10-K for the year ended December 31, 2004, which was filed on March
      15, 2005, and incorporated herein by reference).10.11*
              
              Stock
      Option Agreement, dated May 24, 2004, by and between the Company and John
      C. Mihm (filed as Exhibit 10.15 to the Company’s Annual Report on Form
      10-K for the year ended December 31, 2004, which was filed on March 15,
      2005, and incorporated herein by reference).10.12*
              
              Stock
      Option Agreement, dated February 24, 2004, by and between the Company and
      Thomas Williams (filed as Exhibit 10.16 to the Company’s Annual Report on
      Form 10-K for the year ended December 31, 2004, which was filed on March
      15, 2005, and incorporated herein by
reference).
  93
 Table of Contents
 
 10.13*
              
              Stock
      Option Agreement, dated February 1, 2004, by and between the Company and
      Garry Ward (filed as Exhibit 10.17 to the Company’s Annual Report on Form
      10-K for the year ended December 31, 2004, which was filed on March 15,
      2005, and incorporated herein by reference).10.14*
              
              Stock
      Option Agreement, dated December 1, 2003, by and between the Company and
      Zhendong "Alex" Yang (filed as Exhibit 10.19 to the Company’s Annual
      Report on Form 10-K for the year ended December 31, 2004, which was filed
      on March 15, 2005, and incorporated herein by
  reference).10.15
              
              Production
      Sharing Contract for Exploitation of Coalbed Methane Resources in Enhong
      and Laochang, Yunnan Province, the People’s Republic of China, dated
      January 25, 2002, by and between China United Coalbed Methane Corp. Ltd.
      and the Company (filed as Exhibit 2(i) to the Company’s Current Report on
      Form 8-K filed on February 11, 2002, and incorporated herein by
      reference).10.16
              
              Modification
      Agreement for Product Sharing Contract for Exploitation of Coalbed Methane
      Resources in Enhong and Laochang, Yunnan Province, the People’s Republic
      of China, dated October 20, 2005, between China United Coalbed Methane
      Corporation Ltd. and the Company (filed as Exhibit 10.1 to the Company’s
      Current Report on Form 8-K filed on October 26, 2005, and incorporated
      herein by reference).10.17
              
              Production
      Sharing Contract for Exploitation of Coalbed Methane Resources for the
      Qinnan Area in Shanxi Province, Qinshui Basin, the People’s Republic of
      China, dated April 16, 2002, by and between China United Coalbed Methane
      Corporation Ltd. and the Phillips China Inc. (filed as Exhibit 10.21 to
      the Company’s Annual Report on Form 10-K filed on March 15, 2005, and
      incorporated herein by reference).10.18
              
              Application
      for the Extension of Phase Two of the Exploration Period under the Qinnan
      PSC, dated December 2, 2005, by and between the Company and China United
      Coalbed Methane Corporation Ltd. (filed as Exhibit 10.20 to the Company’s
      Annual Report on Form 10-K for the year ended December 31, 2005, which was
      filed on March 14, 2006, and incorporated herein by
      reference).10.19
              
              Application
      for the Extension of Phase Two of the Exploration Period under the Qinnan
      PSC, dated March 16, 2006, by and between the Company and China United
      Coalbed Methane Corporation Ltd. (filed as Exhibit 10.1 to the Company’s
      Current Report on Form 8-K filed on March 17, 2006, and incorporated
      herein by reference).10.20
              
              Approval
      Certificate from the Ministry of Foreign Trade and Economic Cooperation
      dated December 30, 2002 (filed as Exhibit 2(i) to the Company’s Current
      Report on Form 8-K filed on January 13, 2003, and incorporated herein by
      reference).10.21
              
              Memorandum
      of Understanding, dated March 18, 2003, by and between Phillips China Inc.
      and the Company (filed as Exhibit 10.1 to the Company’s Amendment No. 1 to
      its Quarterly Report on Form 10-QSB/A for the quarter ended June 30, 2003,
      which was filed on December 24, 2003, and incorporated herein by
      reference).10.22
              
              Farmout
      Agreement—Qinnan PSC, dated June 17, 2003, by and between Phillips China
      Inc. and the Company (filed as Exhibit 10.2 to the Company’s Amendment No.
      1 to its Quarterly Report on Form 10-QSB/A for the quarter ended June 30,
      2003, which was filed on December 24, 2003, and incorporated herein by
      reference).10.23
              
              First
      Amendment to Farmout Agreement—Qinnan PSC, dated December 15, 2003, by and
      between Phillips China Inc. and the Company (filed as Exhibit 10.26 to the
      Company’s Annual Report on Form 10-K for the year ended December 31, 2004,
      which was filed on March 15, 2005, and incorporated herein by
      reference).10.24
              
              Second
      Amendment to Farmout Agreement—Qinnan PSC, dated December 17, 2004, by and
      between Phillips China Inc. and the Company (filed as Exhibit 10.01 to the
      Company’s Current Report on Form 8-K filed on December 23, 2004, and
      incorporated herein by reference).10.25
              
              Third
      Amendment to Farmout Agreement—Qinnan PSC, dated December 19, 2005, by and
      between ConocoPhillips China Inc. and the Company (filed as Exhibit 10.1
      to the Company’s Current Report on Form 8-K filed on December 21, 2005,
      and incorporated herein by reference).10.26
              
              Assignment
      Agreement—Qinnan PSC, dated June 17, 2003, by and between Phillips China
      Inc. and the Company (filed as Exhibit 10.4 to the Company’s Amendment No.
      1 to its Quarterly Report on Form 10-QSB/A for the quarter ended June 30,
      2003, which was filed on December 24, 2003, and incorporated herein by
      reference).10.27
              
              Farmout
      Agreement—Shouyang PSC, dated June 17, 2003, by and between Phillips China
      Inc. and the Company (filed as Exhibit 10.3 to the Company’s Amendment No.
      1 to its Quarterly Report on Form 10-QSB/A for the quarter ended June 30,
      2003, which was filed on December 24, 2003, and incorporated herein by
      reference).
  94
 Table of Contents
 
 10.28
              
              First
      Amendment to Farmout Agreement—Shouyang PSC, dated December 15, 2003, by
      and between Phillips China Inc. and the Company (filed as Exhibit 10.30 to
      the Company’s Annual Report on Form 10-K for the year ended December 31,
      2004, which was filed on March 15, 2005, and incorporated herein by
      reference).10.29
              
              Second
      Amendment to Farmout Agreement—Shouyang PSC, dated December 17, 2004, by
      and between Phillips China Inc. and the Company (filed as Exhibit 10.02 to
      the Company’s Current Report on Form 8-K filed on December 23, 2004, and
      incorporated herein by reference).10.30
              
              Third
      Amendment to Farmout Agreement—Shouyang PSC, dated December 19, 2005, by
      and between ConocoPhillips China Inc. and the Company (filed as Exhibit
      10.2 to the Company’s Current Report on Form 8-K filed on December 21,
      2005, and incorporated herein by reference).10.31
              
              Assignment
      Agreement—Shouyang PSC, dated June 17, 2003, by and between Phillips China
      Inc. and the Company (filed as Exhibit 10.5 to the Company’s Amendment No.
      1 to its Quarterly Report on Form 10-QSB/A for the quarter ended June 30,
      2003, which was filed on December 24, 2003, and incorporated herein by
      reference).10.32
              
              Application
      for the Extension of Phase Two of the Exploration Period under the
      Shouyang PSC, dated December 2, 2005, by and between the Company and China
      United Coalbed Methane Corporation Ltd. (filed as Exhibit 10.46 to
      Company’s Annual Report on Form 10-K for the year ended December 31, 2005,
      which was filed on March 14, 2006, and incorporated herein by a
      reference).10.33
              
              Application
      for the Extension of Phase Two of the Exploration Period under the
      Shouyang PSC, dated March 16, 2006, by and between the Company and China
      United Coalbed Methane Corporation Ltd. (filed as Exhibit 10.2 to the
      Company’s Current Report on Form 8-K filed on March 17, 2006, and
      incorporated herein by reference).10.34*
              
              Far
      East Energy Corporation 2005 Stock Incentive Plan (filed as Exhibit 10.1
      to the Company’s Registration Statement on Form S-8 (File No. 333-148361)
      filed on December 27, 2007, and incorporated herein by
      reference).10.35
              
              Registration
      Rights Agreement, dated September 20, 2005, by and among Morgan Keegan
      & Company, Inc. and the Company (filed as Exhibit 10.47 to the
      Company’s Registration Statement on Form S-2 (File No. 333-129309) filed
      on October 28, 2005, and incorporated herein by
  reference).10.36*
              
              Employment
      Agreement, dated October 29, 2005, by and between the Company and Jeffrey
      R. Brown (filed as Exhibit 10.1 to the Company’s Current Report on Form
      8-K filed on November 3, 2005, and incorporated herein by
      reference).10.37*
              
              Form
      of Restricted Stock Agreement for Far East Energy Corporation 2005 Stock
      Incentive Plan (filed as Exhibit 10.1 to the Company's Current Report on
      Form 8-K filed on March 21, 2007, and incorporated herein by
      reference.)10.38*
              
              Form
      of Non-Qualified Stock Option Agreement for Far East Energy Corporation
      2005 Stock Incentive Plan (filed as Exhibit 10.1 to the Company's Current
      Report on Form 8-K filed on April 19, 2007, and incorporated herein by
      reference).10.39*
              
              Form
      of Incentive Stock Option Agreement for Far East Energy Corporation 2005
      Stock Incentive Plan (filed as Exhibit 10.2 to the Company's Current
      Report on Form 8-K filed on April 19, 2007, and incorporated herein by
      reference).10.40*
              
              Form
      of Letter Agreement with Zhendong "Alex" Yang, Garry R. Ward and Jeffrey
      R. Brown for Far East Energy Corporation 2005 Stock Incentive Plan (filed
      as Exhibit 10.3 to the Company's Current Report on Form 8-K filed on April
      19, 2007, and incorporated herein by reference).10.41*
              
              Form
      of Letter Agreement with the Company's non-employee directors (filed as
      Exhibit 10.4 to the Company's Current Report on Form 8-K filed on April
      19, 2007, and incorporated herein by reference).10.42*
              
              First
      Amendment to Amended and Restated Employment Agreement, dated April 16,
      2007, between the Company and Michael R. McElwrath (filed as Exhibit 10.4
      to the Company's Current Report on Form 8-K filed on April 19, 2007, and
      incorporated herein by reference).10.43*
              
              First
      Amendment to Amended and Restated Employment Agreement, dated April 16,
      2007, between the Company and Bruce N. Huff (filed as Exhibit 10.5 to the
      Company's Current Report on Form 8-K filed on April 19, 2007, and
      incorporated herein by reference).10.44
              
              Modification
      Agreement, dated April 24, 2007, for Production Sharing Contract for
      Exploitation of Coalbed Methane Resources for the Shouyang Area in Shanxi
      Province, Qinshui Basin, the People's Republic of China, dated April 16,
      2002, by and among China United Coalbed Methane Corporation Ltd.,
      ConocoPhillips China Inc. and Far East Energy (Bermuda), Ltd. (filed as
      Exhibit 10.1 to the Company's Current Report on Form 8-K filed on April
      27, 2007, and incorporated herein by
reference).
  95
 Table of Contents
 
 10.45
              
              Modification
      Agreement, dated April 24, 2007, for Production Sharing Contract for
      Exploitation of Coalbed Methane Resources for the Quinnan Area in Shanxi
      Province, Qinshui Basin, the People's Republic of China, dated April 16,
      2002, by and among China United Coalbed Methane Corporation Ltd.,
      ConocoPhillips China Inc. and Far East Energy (Bermuda), Ltd. (filed as
      Exhibit 10.2 to the Company's Current Report on Form 8-K filed on April
      19, 2007, and incorporated herein by reference).10.46
              
              Modification
      Agreement dated April 24, 2007 for Production Sharing Contract for
      Exploitation of Coalbed Methane Resources for the Enhong and Laochang Area
      in Yunnan Province, the People's Republic of China, dated December 3,
      2002, between China United Coalbed Methane Corporation Ltd. and Far East
      Energy (Bermuda), Ltd. (filed as Exhibit 10.3 to the Company's Current
      Report on Form 8-K filed on April 19, 2007, and incorporated herein by
      reference).10.47*
              
              Release
      Agreement, dated May 17, 2007, among the Company, and Far East Energy
      (Bermuda), Ltd. and Jeffrey R. Brown (filed as Exhibit 10.1 to the
      Company’s Current Report on Form 8-K filed on May 22, 2007, and
      incorporated herein by reference).10.48*
              
              Employment
      Agreement, dated May 16, 2007, between Far East Energy (Bermuda), Ltd. and
      Don Duttlinger (filed as Exhibit 10.1 to the Company’s Current Report on
      Form 8-K filed on May 17, 2007, and incorporated herein by
      reference).10.49*
              
              Stock
      Subscription Agreement, dated August 24, 2007, between the Company and
      International Finance Corporation (filed as Exhibit 10.1 to the Company’s
      Current Report on Form 8-K filed on August 27, 2007, and incorporated
      herein by reference).10.50*
              
              First
      Amendment to Employment Agreement, dated September 14, 2007, between Far
      East Energy (Bermuda), Ltd. and Don Duttlinger (filed as Exhibit 10.1 to
      the Company’s Current Report on Form 8-K filed on September 20, 2007, and
      incorporated herein by reference).10.51*
              
              Non-Qualified
      Stock Option Agreement, dated October 1, 2007, by and between the Company
      and William A. Anderson (filed as Exhibit 10.52 to the Company’s Quarterly
      Report on Form 10-Q for the quarter ended September 30, 2007, which was
      filed on November 7, 2007, and incorporated herein by
      reference).10.52*
              
              Second
      Amendment to Amended and Restated Employment Agreement, dated November 26,
      2007, between the Company and Michael R. McElwrath (filed as Exhibit 10.1
      to the Company's Current Report on Form 8-K filed on November 27, 2007,
      and incorporated herein by reference).10.53*
              
              Form
      of Restricted Stock Agreement (filed as Exhibit 4.4 to the Company's
      Registration Statement on Form S-8 (File No. 333-148363) filed on December
      27, 2007, and incorporated herein by reference).10.54*†
              
              Form
      of Non-Qualified Stock Option Agreement.10.55*†
              
              Restricted
      Stock Agreement, dated December 27, 2007, between the Company and Michael
      R. McElwrath.10.56*†
              
              Restricted
      Stock Agreement, dated December 27, 2007, between the Company and Thomas
      E. Williams.10.57*†
              
              Restricted
      Stock Agreement, dated December 27, 2007, between the Company and Garry R.
      Ward.10.58*†
              
              Non-Qualified
      Stock Option Agreement, dated January 9, 2008, between the Company and
      Lucian L. Morrison.10.59*
              
              Employment
      Agreement, dated March 12, 2008, between Far East Energy (Bermuda), Ltd.
      and Phil Christian (filed as Exhibit 10.1 to the Company’s Current Report
      on Form 8-K filed on March 12, 2008, and incorporated herein by
      reference).10.60*
              
              Non-Qualified
      Stock Option Agreement, dated March 12, 2008, between the Company and Phil
      Christian (filed as Exhibit 10.2 to the Company’s Current Report on Form
      8-K filed on March 12, 2008, and incorporated herein by
      reference).10.61*†
              
              Amended
      and Restated Nonqualified Stock Option Agreement, dated December 27, 2007,
      by and between the Company and Thomas Williams.10.62*†
              
              Amended
      and Restated Nonqualified Stock Option Agreement, dated December 27, 2007,
      by and between the Company and Garry Ward.10.63*†
              
              Amended
      and Restated Nonqualified Stock Option Agreement, dated December 27, 2007,
      by and between the Company and Zhendong "Alex" Yang.10.64*†
              
              Second
      Amended and Restated Nonqualified Stock Option Agreement, dated December
      27, 2007, by and between the Company and Michael McElwrath.  The
      original option agreement was entered into on January 29,
      2002.10.65*†
              
              Second
      Amended and Restated Nonqualified Stock Option Agreement, dated December
      27, 2007, by and between the Company and Michael McElwrath.  The
      original option agreement was entered into on October 13,
    200310.66*
              
              Third
      Amendment to Amended and Restated Employment Agreement, dated March 7,
      2008, between the Company and Michael R. McElwrath (filed as Exhibit 10.3
      to the Company's Current Report on Form 8-K filed on March 12, 2008, and
      incorporated herein by reference).21.1*†
              
              List
      of Subsidiaries of the Company.23.1*†
              
              Consent
      of Payne Smith & Jones,
P.C.
  96
 Table of Contents
 
 31.1
      †
              
              Certification
      of Chief Executive Officer of the Company under Section 302 of the
      Sarbanes-Oxley Act of 2002.31.2
      †
              
              Certification
      of Chief Financial Officer of the Company under Section 302 of the
      Sarbanes-Oxley Act of 2002.32.1
      †
              
              Certification
      of Chief Executive Officer of the Company Pursuant to 18 U.S.C. Sec.
      1350.32.2
      †
              
              Certification
      of Chief Financial Officer of the Company Pursuant to 18 U.S.C. Sec.
      1350.
 ___________
 *
              Management
      contract or compensatory plan
arrangement.
 †
              Filed
      herewith.
   97