UNITED STATES SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                   Form 10-KSB

[X]  ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES  EXCHANGE ACT
     OF 1934

                   For the fiscal year ended December 31, 1996

[ ]  TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
     OF 1934

                 For the transition period from        to
                                               --------  --------

                         Commission file number: 0-22782

                        FRONTIER NATURAL GAS CORPORATION
              ----------------------------------------------------
              (Exact name of small business issuer in its charter)

        Oklahoma                                         73-1421000
------------------------                    ------------------------------------
(State of incorporation)                    (I.R.S. Employer Identification No.)

                             500 Dallas, Suite 2920
                              Houston, Texas 77002
    (Address of registrant's principal executive offices, including zip code)

Registrant's telephone number, including area code:     (713) 739-7100

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

                                                  Name of each exchange
  Title of each class                              on which registered
  -------------------                             ---------------------
        None                                                None

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

                                  COMMON STOCK
                                 PREFERRED STOCK
                     SERIES A COMMON STOCK PURCHASE WARRANTS
                     SERIES B COMMON STOCK PURCHASE WARRANTS

     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.                         Yes [X] No [ ]


     Indicate by check mark if disclosure of delinquent  filers pursuant to Item
405 of Regulation S-B 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-KSB or any  amendment to
this Form 10-KSB.                                                            [X]

     State issuer's revenues for its most recent fiscal year: $3,378,792

     The aggregate  market value of the voting stock held by  non-affiliates  of
the registrant (treating all executive officers and directors of the registrant,
for  this  purpose,  as if  they  may  be  affiliates  of  the  registrant)  was
approximately $23,401,719 on February 28, 1997 (based on the last sales price of
$2.75 per share as reported on the NASDAQ Stock Market).

         9,865,906 shares as the  registrant's  common stock were outstanding as
of February 28, 1997.

                       DOCUMENTS INCORPORATED BY REFERENCE

     Registrant's Proxy Statement for its 1997 Annual Meeting of Stockholders is
incorporated by reference into Part III.

<PAGE>
                        FRONTIER NATURAL GAS CORPORATION
                        For Year Ended December 31, 1996

                                TABLE OF CONTENTS
                                   FORM 10-KSB

                                     PART I

Item                                                                     Page

1.   Description of Business.............................................  1

2.   Description of Property.............................................  8

3.   Legal Proceedings................................................... 10

4.   Submission of Matters to a Vote of Security Holders................. 10

                                     PART II

5.   Market for Common Equity and Related Stockholder Matters............ 11

6.   Management's Discussion and Analysis or Plan of Operation........... 11

7.   Financial Statements................................................ 17

8.   Changes in and  Disagreements  with Accountants on 
     Accounting and Financial Disclosure................................. 38

                                    PART III

9.   Directors,  Executive Officers,  Promoters and Control
     Persons;  Compliance with Section 16(a) of the Exchange Act......... 38

10.  Executive Compensation.............................................. 38

11.  Security Ownership of Certain Beneficial Owners and Management...... 38

12.  Certain Relationships and Related Transactions...................... 38

                                     PART IV

13.  Exhibits and Reports on Form 8-K.................................... 38

     Signatures.......................................................... 41

<PAGE>
                                     PART I

     This Form 10-KSB contains forward-looking  statements within the meaning of
Section 27A of the  Securities  Act of 1933 and  Section  21E of the  Securities
Exchange Act of 1934. The Company's actual results could differ  materially from
those set forth in the  forward-looking  statements.  Certain factors that might
cause  such  a  difference  are  discussed  in  the  introductory  paragraph  to
Management's Discussion and Analysis beginning on page 11 of this Form 10-KSB.

ITEM 1. DESCRIPTION OF BUSINESS

General

     Frontier Natural Gas Corporation,  an Oklahoma Corporation  incorporated in
1988 (the "Company"),  is an independent energy company primarily engaged in the
exploration for natural gas and oil reserves and in the acquisition, production,
development and marketing of natural gas and oil properties. The Company's early
growth was through  acquisitions  of natural gas  reserves,  principally  in the
Mid-Continent  Area of Arkansas,  Kansas,  Oklahoma and Texas.  In recent years,
however,  the Company's business activities have focused more on exploration and
related developmental drilling projects situated in Southern Louisiana and along
the Gulf Coast of Alabama, Mississippi and Texas. The Company's current business
strategy is to increase  its  reserves by drilling  natural gas and oil wells on
prospects  identified  and  developed  through  the  use of  well  correlations,
Computer Aided Exploration ("CAEX")  technologies and 3-D seismic surveys,  with
emphasis on the Gulf Coast and,  particularly,  the transition  zone of Southern
Louisiana. As a supplemental part of such strategy, the Company may also acquire
producing properties as market conditions and the Company's resources allow.

     During 1996, as part of its  refocusing  activities,  the Company moved its
headquarters  to Houston,  Texas,  and sold its interests in the N.E.  Cedardale
field in Major County,  Oklahoma,  which  represented its primary  Mid-Continent
Area producing  properties.  Its primary focus is now along the Gulf Coast where
its most  significant  project is referred  to as the  Starboard  Prospect.  The
Starboard  Prospect is  comprised  of a group of four  distinct  high  potential
exploration  prospects,  as well as proved  undeveloped  locations.  The  proved
undeveloped  portion of the Starboard Prospect has been evaluated by independent
petroleum engineers as containing substantial proved undeveloped reserves. As of
December 31, 1996,  the Company had acquired  acreage in the Starboard  Prospect
which included  estimated  proved  undeveloped  reserves of 8 Bcfe and estimated
future net  revenues of over $17 million net to its  interest.  These  estimates
will  likely  change as the 3-D seismic  data  discussed  below is  interpreted.
Funding for the project has been provided from a variety of sources.  Affiliates
of a public utility funded,  through a non-recourse  loan, most of the Company's
cost in  acreage.  A 3-D  seismic  survey  was  funded by Fina Oil and  Chemical
Company and certain of its partners. The Company has a credit facility with Bank
of America,  Illinois,  available to fund its share of developmental drilling on
the  project.  Exploratory  drilling  will be funded  via cash  and/or  industry
partners.  The 3-D seismic has been shot and  processed and  interpretation  has
begun.  Final drilling plans are pending  interpretation of the 3-D seismic with
initial  drilling  locations  anticipated  to be selected by mid-May  1997.  The
Company owns working interests in the project ranging from 12% to 48%.

     The Company also has interests in three South Louisiana  drilling prospects
which are currently  waiting on drilling  rigs.  Two have been confirmed via 3-D
seismic  and the  third is a high  potential  wildcat  in which  Hunt  Petroleum
Corporation purchased a 50% working interest.

     In addition to 3-D seismic,  the Company makes extensive use of 2-D seismic
reprocessing  and CAEX  enhancement  technologies  to  delineate  "bright  spot"
seismic  anomalies.  The Company believes that additional  drilling prospects in
the Gulf Coast area may be identified through  delineation of such "bright spot"
seismic  anomalies.  In September 1995, the Company entered into an agreement to
acquire,  reprocess  and  interpret up to 1,600 miles of 2-D seismic data in the
shallow offshore Gulf Coast area. The reprocessing  and  interpretation  of such
data is designed to identify "bright spot" gas  accumulations  which potentially
can  identify  the  location  of  commercial  quantities  of  hydrocarbons.   In
connection with this agreement,  the Company also entered into an agreement with
Marconi,  Inc.  to fund the project and to jointly  explore any  prospects  thus
identified.

     The Company plans to continue to expand its  exploration  activities in the
Gulf  Coast  area  through a number of  current  activities,  including  the (1)
generation  of  prospects  with its existing  partners;  (2)  identification  of


                                       1
<PAGE>
"bright  spot"  seismic  anomalies;  (3)  continuing  acquisition  of acreage on
additional high potential Southern Louisiana  exploration projects identified by
the Company; and (4) continuing  evaluation of high-graded  exploration prospect
opportunities in Southern Louisiana and other Gulf Coast areas.

CAEX Technology and 3-D Seismic

     The Company,  either directly or through its partners, uses CAEX technology
to collect and analyze  geological,  geophysical,  engineering,  production  and
other  data  obtained  about  a  potential  gas  or  oil  prospect.  Using  such
technology,   the  Company  correlates  density  and  sonic  characteristics  of
subsurface  formations obtained from  two-dimensional  seismic surveys with like
data from similar properties and uses computer programs and modeling  techniques
to determine  the likely  geological  composition  of a prospect  and  potential
locations of hydrocarbons.

     Once all  available  data has been analyzed in this manner to determine the
areas with the highest potential within a prospect area, the Company may conduct
3-D seismic surveys to enhance and verify the geological  interpretation  of the
structure,  including its location and potential  size. The 3-D seismic  process
produces  a  three-dimensional  image  based upon  seismic  data  obtained  from
multiple  horizontal  and vertical  points  within a geological  formation.  The
tremendous  number of calculations  needed to process such data is made possible
by computer programs and advanced computer hardware.

     While  3-D  seismic  and CAEX  technologies  have  been  used by large  oil
companies for  approximately 20 years, the method was not affordable by smaller,
independent gas and oil companies until recently, when improved data acquisition
equipment and techniques  and computer  technology  became  available at reduced
costs. The Company began using 3-D seismic and CAEX  technologies in 1992 and is
using these technologies on a continuing basis. In 1995, the Company created its
own seismic processing division-Exploration Geophysical Services-for the purpose
of  assisting  the  prospect  generation  efforts of the  Company.  The  Company
believes  that its use of CAEX and 3-D  seismic  technology  may provide it with
certain  advantages in the exploration  process over those companies that do not
use this technology.  Because computer modeling  generally  provides clearer and
more accurate projected images of geological formations, the Company believes it
is better able to identify potential locations of hydrocarbon  accumulations and
the desirable locations for wellbores. However, the technology has not been used
extensively  enough  by  the  Company  to  make  any  conclusion  regarding  its
performance  and the  Company's  ability to  interpret  and use the  information
developed from the technology.

Exploration and Development

     Gulf  Coast.  The  Company  considers  the Gulf  Coast,  and in  particular
Southern  Louisiana,  to be the premier area in the United States to explore for
significant new reserves. This conclusion is based on several characteristics of
Southern  Louisiana  including  (1)  a  large  number  of  productive  intervals
throughout a significant  sedimentary  section, (2) numerous wells with which to
calibrate 3-D seismic, and (3) complicated geology that the Company believes 3-D
seismic is  particularly  well suited to interpret.  In 1994,  the Company began
devoting  more of its energy to the Gulf Coast  region.  The  Company  initially
entered this area by evaluating  the onshore  shallow  Frio/Miocene  Trend.  The
Company's emphasis is shifting to larger exploration targets in this area due to
the  greater  potential  return  on  investment  resulting  from the size of the
geological  features  which remain to be explored and  produced.  This  includes
shallow  offshore  prospects and deeper and  potentially  much larger  prospects
centering in the transitional lands and waters of Southern Louisiana. Additional
2-D and 3-D seismic  surveys may need to be  conducted  to evaluate  these areas
more fully,  and when determined  appropriate,  the Company will acquire acreage
and drill wells as indicated by the evaluations.

     Most of the  prospects in Southern  Louisiana  being pursued by the Company
are  either on the edge of a large  existing  producing  field or  between  such
fields.  The prospects  generally  involve drilling in fault blocks that to date
have not been  adequately  tested.  Thus, the Company intends to drill prospects
where the  formations  being tested are known to be  productive  in the area and
where it believes  3-D seismic  can be used to increase  resolution  and thereby
lower risk.  The extent to which the Company will pursue its  activities  in the
Gulf Coast region will be determined by the  availability  of Company  resources
and the availability of joint venture partners.


                                       2
<PAGE>
     Southern Louisiana and Gulf Coast of Texas. A primary area of focus for the
Company to identify gas and oil on prospects is in Southern  Louisiana and along
the Gulf Coast of Texas.  The Company  directly and in conjunction with industry
partners  has  identified  a number of  prospects  to be  explored in the target
areas, and the Company has acquired its initial  position in certain  prospects,
including  one  which  the  Company  refers to as the  Starboard  Prospect.  The
Starboard  Prospect is  comprised  of a group of four  distinct  high  potential
exploration  prospects,  as well as proved  undeveloped  locations.  The  proved
undeveloped  portion of the Starboard Prospect has been evaluated by independent
petroleum engineers as containing substantial proved undeveloped reserves. A 3-D
seismic survey funded by Fina Oil and Chemical Company and its partners has been
shot and processed. Interpretation began in March 1997 and initial 3-D evaluated
drill sites are  anticipated  to be selected  within 60 days. As of December 31,
1996, the Company had acquired acreage in the Starboard  Prospect which included
proved  undeveloped  reserves.  Estimated  reserves  will  likely  change  after
interpretation of the 3-D seismic.  Based on subsurface and currently  available
2-D seismic surveys, the Company has defined potential well locations within the
Starboard Prospect,  including a number of both proved undeveloped locations and
exploratory  prospects.  The presence of proved undeveloped  reserves within the
Starboard   Prospect  is  expected  to  lower  the   project's   overall   risk.
Interpretation  of  the  3-D  seismic  will  alter  the  final  mapping  of  the
sub-surface  with such  changes  altering the pre 3-D mapping of both proven and
exploratory   locations.   It  is  too  early  to  evaluate  the  changes  since
interpretation  just began in March 1997.  The Company has  continued and likely
will continue to acquire additional acreage in the Starboard Prospect as revised
subsurface  mapping is  completed.  No  significant  acquisition  of acreage has
occurred since December 31, 1996.

     In the first quarter of 1996 the Company  completed a credit  facility with
Bank  of  America,   Illinois,  which  included  a  tranche  of  $2,500,000  for
developmental   drilling  on  the  Starboard  Project.  The  $2,500,000  tranche
currently  expires on June 30,  1997,  but the bank has stated it is prepared to
extend the date upon request.  It also completed an agreement with affiliates of
a utility which funded acreage and related costs including the Company's  share.
The Company currently has an $864,000 non-recourse note payable pursuant to said
agreement.  The note is payable solely from an 8% overriding royalty interest in
the  Starboard  Project  which  reduces to 2%  proportionately  to the Company's
interest  after  payout plus a yield of 15%.  In the second  quarter of 1996 the
Company  finalized  a joint  exploration  agreement  with Fina Oil and  Chemical
Company and its partners to fund the 3-D seismic over the Starboard Project.  As
a result of all of the  foregoing,  the  Company,  as  between it and all of its
Starboard  Project  partners,  owns a 48%  working  interest  in all  formations
through the base of the Duval Sand  (approximately  15,500 feet),  a 36% working
interest in all  formations  from the base of the Duval Sand through the base of
the DeLarge  Sand  (approximately  16,500  feet) and a 12%  working  interest in
deeper formations.  It intends to fund its share of developmental drilling costs
through the Bank of America,  Illinois,  facility  and its share of  exploratory
costs through cash and/or industry partners.

     In the first quarter of 1997 the Company participated in three dry holes in
South  Louisiana,  for a cost of approximately  $693,000 of which  approximately
$159,000 of related  costs were  incurred  and expensed as of December 31, 1996.
None of these wells were on prospects  confirmed  with 3-D  seismic.  It is also
evaluating  a proved  location  which was  attempted  to be  penetrated  with an
unsuccessful  sidetrack operation from an existing wellbore in the first quarter
of 1997.

     The Company  originated and assembled its  Plaquemines  Parish,  Louisiana,
high-potential Schooner Prospect in 1996 resulting in the sale of a promoted 50%
working  interest to Hunt  Petroleum  Corporation  in the first quarter of 1997.
After the sale of two additional  promoted  interests the Company  retains a 37%
working interest in this  exploratory  well. The well is scheduled to be drilled
in the second quarter of 1997.

     The Company is also  participating  in two  Terrebonne  Parish,  Louisiana,
prospects  which are both waiting on a drilling  rig. The prospects are both 3-D
seismic  delineated  "bright  spot"  anomalies.  The Company  owns a 65% working
interest in its Lucky 13 prospect  and a 37.5%  working  interest in its Channel
Prospect.

     Mobile Bay, Alabama.  In February and April 1995, the Company  successfully
completed  two  wells  in the  Mobile  Bay  area  of  Alabama  offshore  waters.
Initially,  the wells were  producing gas at the combined rate of  approximately
10,000 Mcf of gas per day. The Company owns approximately a 30% working interest
in each  well.  Sales from  these  wells  commenced  in  December  1995 and have
generated gross revenues to the Company of  approximately  $1,406,000 from their
inception through December 31, 1996. The wells, drilled on "bright spot" seismic


                                       3
<PAGE>
anomalies,   were  identified  and  developed  by  the  Company  utilizing  CAEX
technologies.  In the fourth  quarter of 1996 the  production  from these  wells
unexpectedly declined significantly due to rapidly accelerated water production.
This resulted in  significant  cash  expenditures  and  operating  losses to the
Company.  In February 1997, the Company  unsuccessfully  drilled the State Lease
#804 well to test the  previously  undrilled  Oligocene  formation for a cost of
$214,000 of which $10,000 in leasehold costs were incurred and expensed in 1996.
It is currently attempting to recomplete one of the two initial wells in another
formation.  Production from these wells is not expected to result in significant
revenues for the Company in the future.

     Gulf Coast "Bright Spot" Project.  In September  1995, the Company  entered
into an agreement with a seismic  vendor to acquire,  reprocess and interpret up
to 1,600 miles of 2-D seismic  data in the shallow  offshore  Gulf Coast area to
identify "bright spot" gas accumulation  indicators on the reprocessed data. The
Company  entered into an agreement  with  Marconi,  Inc. to jointly  explore any
prospects thus  identified.  Under the joint venture  agreement,  Marconi,  Inc.
bears  100%  of  the  anticipated   costs  of  the  seismic   reprocessing   and
interpretation.  The  Company  has  rights  to a 50%  working  interest  in  all
prospects located pursuant to this agreement.

     Mid-Continent Area. The Company continues to phase out of the Mid-Continent
Area. It will continue in 1997 to work through industry  partners to exploit its
3-D seismic data and leasehold position in the area but has no current plans for
significant expenditures in the area for its own account.

Acquisitions and Divestments

     The Company periodically acquires producing natural gas and oil properties.
Initially,   the  Company  concentrated  its  acquisition  activity  in  Kansas,
Oklahoma,  Arkansas  and Texas,  believing  that these areas had  potential  for
exploitation  through additional  development and enhanced recovery and improved
operating  techniques.   The  Company  typically  sought  properties  that  were
underdeveloped,  overly burdened with expenses or owned by financially  troubled
companies.  During 1994,  natural gas and oil reserves  generally  available for
acquisition  were at  unusually  high costs.  As a result and in reaction to the
market  conditions,  the Company divested  selected proved producing natural gas
and oil properties to take advantage of the relatively  higher prices being paid
for such  properties,  and refocused most of its 1994 and 1995 activities on its
exploration  program.  However, the Company will continue to evaluate properties
for  acquisition  if  they  meet  the  Company's  acquisition  criteria,  and as
resources permit.

     During  1994,  the  Company  sold  its  interest  in the  Lirette  field in
Louisiana  in two  separate  transactions  for a sales  price of $914,000 in the
first  transaction and $1,239,000 in the second  transaction.  The  transactions
resulted in net gains of $468,000 in the first  transaction  and $515,000 in the
second  transaction.  During 1995,  the Company sold  interests in over 40 wells
which did not fit the Company's  long-term  objectives  for a sale price of over
$2,166,000 resulting in net gains of over $722,000.

     On September 27, 1996, the Company completed the sale of its N.E. Cedardale
field  located in Major  County,  Oklahoma  to OXY USA Inc.,  for  consideration
totaling  $3,550,000.  The properties sold represented a substantial  portion of
the Company's Oklahoma  production.  The divestiture of the Oklahoma  properties
further  facilitates  the  Company's  focus of its  resources  on its Gulf Coast
projects and reduces debt service  requirements  over the next three years in an
amount greater than the anticipated  net revenues from the properties  sold. The
sale  to OXY  USA,  Inc.  included  cash  of  $2,840,000  and  certain  exchange
properties which were concurrently  sold to a third party for $710,000,  netting
the Company $3,550,000. The sale was effective September 1, 1996 and the Company
incurred a book loss of $10,523.  In connection  with the sale, the Company also
incurred a loss of $212,000  resulting from the reduction in the quantity of gas
covered by a swap agreement.  Due to the early  repayment of the borrowing,  the
Company reduced debt issuance costs by $293,000 and discount on notes payable by
$207,000. Said non-cash amounts were recorded as additional interest expense.

     The  Company's  acquisition  program is  overseen by its  management  which
includes four officers with combined experience of more than 75 years in the gas
and oil  industry.  It is  anticipated  that  acquisition  opportunities  may be


                                       4
<PAGE>
brought to the attention of the Company's management by certain of its officers,
directors and their affiliates as well as by various  unaffiliated  sources. The
Company  currently  does  not  engage  professional  firms or  consultants  that
specialize in acquisitions on a formal basis.  The Company may engage such firms
in the future, in which case the Company may pay a finder's fee or other cash or
stock compensation.

     In connection with each acquisition,  the Company considers (i) current and
historic production levels and reserve estimates;  (ii) exploitation  potential;
(iii) capital  requirements;  (iv) proximity of product markets;  (v) regulatory
compliance; (vi) acreage potential; and (vii) existing production transportation
capabilities.  The Company  also  considers  the  historic  financial  operating
results  and  cash  flow  potential  of  each  acquisition   opportunity.   Each
acquisition  involves  management's  analysis  of its  ability  to  improve  the
operations of the acquired properties.  Evaluation of the merits of a particular
acquisition  is based,  to the extent  relevant,  on all of the above factors as
well as other factors deemed relevant by the Company's management.

Marketing

     The Company  markets its natural gas through  monthly  spot sales.  Because
sales made under spot sales contracts may result in fluctuating  revenues to the
Company  depending  upon the market  price of gas,  the  Company  may enter into
various hedging agreements to minimize the effect of price fluctuations.  During
January 1996,  pursuant to the  Company's  credit  arrangement  with the Bank of
America  Illinois,  the Company  entered  into a natural gas swap  agreement  on
62,500  Million  British  thermal units  ("MMBTU") of its monthly  Mid-Continent
natural gas  production for $1.566 per MMBTU for the period  beginning  April 1,
1996 and ending  January  31,  1999.  The swap was  reduced  to 31,250  MMBTU on
September  25, 1996, in connection  with the sale of the N.E.  Cedardale  field.
Frontier  recorded a loss of $212,000 on this swap  reduction.  The Company also
had entered into another  natural gas swap  agreement on 45,000 MMBTU of natural
gas per  month at $2.03  per MMBTU for its  Mobile  Bay gas  production  for the
period from January 24, 1996 through December 24, 1996, which swap agreement has
expired.

     All of the Company's oil production is sold under  market-sensitive or spot
price contracts.  The Company's revenues from oil sales fluctuate depending upon
the  market  price of oil.  No  purchaser  accounted  for  more  than 10% of the
Company's  total  revenue  in 1996 or 1995  except  for the gas  sales  contract
discussed below. The Company does not believe the loss of any existing purchaser
would have a materially adverse effect on the Company.

     In December 1991 the Company  entered into and performed  under a long-term
fixed price contract with an industrial  end-user,  Waldorf  Corporation,  which
contract  initially  covered  seven years and the delivery of 7.1 Bcf of natural
gas. The contract included certain prepayments to the Company. The agreement was
satisfied  in January  1996 when the  Company  entered  into an  agreement  with
Waldorf to terminate the Waldorf  agreement as of January 31, 1996.  The Company
paid Waldorf  $2,181,489 which represents a return of Waldorf's $0.75 advance on
2,490,103  MMBTU  of  gas  (the  balance  due as of  January  31,  1996)  plus a
settlement  payment of  $313,912.  The Company has been able to sell all natural
gas production to other sources at equal or higher prices since the  termination
of the  contract.  The Company  anticipates  that it will be able to continue to
sell all available natural gas production in the foreseeable future.

Operating Hazards and Insurance

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

     The Company  maintains a gas and oil lease operator policy that insures the
Company  against certain sudden and accidental  risks  associated with drilling,
completing  and  operating  its  wells.  There  can be no  assurance  that  this


                                       5
<PAGE>
insurance  will be adequate to cover any losses or  exposure to  liability.  The
Company also carries  comprehensive  general liability  policies and an umbrella
policy. The Company and its subsidiaries carry workers'  compensation  insurance
in all states in which they  operate.  The Company  maintains  various  bonds as
required by state and federal regulatory authorities. While the Company believes
these  policies are  customary  in the  industry,  they do not provide  complete
coverage against all operating  risks. An uninsured or partially  insured claim,
if successful and of sufficient magnitude,  could have a material adverse effect
on  the  Company  and  its  financial  condition.  If  the  Company  experiences
significant  claims  or  losses,  the  Company's  insurance  premiums  could  be
increased which may adversely affect the Company and its financial  condition or
limit the ability of the Company to obtain coverage. Any difficulty in obtaining
coverage may impair the Company's ability to engage in its business activities.

Regulation

     The gas and oil industry is  extensively  regulated  by federal,  state and
local  authorities.  In  particular,  gas  and  oil  production  operations  and
economics are affected by price controls, environmental protection statutes, tax
statutes and other laws and regulations  relating to the petroleum industry,  as
well as  changes  in such  laws,  changing  administrative  regulations  and the
interpretations and application of such laws, rules and regulations. Gas and oil
industry  legislation  and  agency  regulation  are under  constant  review  for
amendment and expansion for a variety of political,  economic and other reasons.
Numerous  regulatory  authorities,  federal,  state and local,  issue  rules and
regulations binding on the gas and oil industry, some of which carry substantial
penalties  for  failure  to  comply.  The  regulatory  burden on the gas and oil
industry  increases the  Company's  cost of doing  business  and,  consequently,
affects its  profitability.  The Company  believes it is in compliance  with all
federal,  state and local laws, regulations and orders applicable to the Company
and its properties and operations,  the violation of which would have a material
adverse effect on the Company or its financial condition.

     Seismic  Permits.  Current law in the State of Louisiana  requires  permits
from owners of at least an undivided  80% interests in each tract over which the
Company intends to conduct seismic surveys. As a result of such requirement, the
Company may not be able to conduct seismic  surveys  covering its entire area of
interest.  Moreover,  3-D seismic  surveys are typically  conducted from various
locations  both  inside and  outside the area of interest in order to obtain the
most detailed  data of the  geological  features  within the area. To the extent
that the Company is unable to obtain permits to access  locations to conduct the
seismic surveys,  the data obtained may not be as detailed as might otherwise be
available.

     Exploration and Production. The Company's operations are subject to various
types of regulation  at the federal,  state and local  levels.  Such  regulation
includes  (i)  requiring  permits for the  drilling of wells;  (ii)  maintaining
bonding  requirements in order to drill or operate wells;  and (iii)  regulating
the location of wells,  the method of drilling and casing wells, the surface use
and  restoration  of properties  upon which wells are drilled,  the plugging and
abandoning  of wells and the  disposal  of fluids used in  connection  with well
operations.  The Company's  operations are also subject to various  conservation
regulations.  These  include the  regulation of the size of drilling and spacing
units, the density of wells which may be drilled, and the unitization or pooling
of gas and oil  properties.  In  addition,  state  conservation  laws  establish
maximum rates of production  from gas and oil wells,  generally  prohibiting the
venting  or  flaring  of gas  and  impose  certain  requirements  regarding  the
ratability of production. The effect of these regulations is to limit the amount
of gas and oil the company can produce from its wells and to limit the number of
wells  or the  locations  at which  the  Company  can  drill.  Recently  enacted
legislation and/or regulatory action in Texas and Oklahoma is intended to reduce
the total production of natural gas in those states.  Although such restrictions
have not had a material  impact on the Company's  operations to date, the extent
of any future  impact  therefrom  cannot be predicted.  The  Company's  drilling
activities  in the Mobile Bay area are  subject not only to the State of Alabama
regulation,  but also to  regulations  of the U.S.  Army Corps of Engineers  and
various other federal and state environmental  regulations  relating to offshore
activities.

     Marketing and  Transportation.  The sale of some natural gas  production by
the  Company  may be subject to  regulation  under the  Natural  Gas Act and the
Natural  Gas Policy Act of 1978 (the  "NGPA").  Under the NGPA,  ceiling  prices
apply to first sales of certain  natural gas  production in both  interstate and
intrastate  commerce.  Administration and enforcement of the NGPA ceiling prices
are delegated to the Federal Energy  Regulatory  Commission  (the "FERC").  As a


                                       6
<PAGE>
result of the Natural Gas Wellhead  Decontrol Act of 1989 (the "Decontrol Act"),
all price and non-price  controls are  eliminated  for gas not under contract on
July 26,  1989.  With  respect  to gas  under  contract  on July 26,  1989,  the
Decontrol  Act provides that price and non-price  controls are  eliminated  upon
contract  termination  or by written  agreement  of the parties.  Since  current
market  prices for the  Company's  gas  production  which  continues to be price
controlled are below NGPA maximum  lawful  prices,  the Company is doubtful that
the Decontrol Act will have a significant  impact on the prices  received by the
Company for gas production in the near future.

     In April  1992,  the FERC  issued  Order No. 636,  which  provided  for the
fundamental  restructuring  of  interstate  pipeline  sales  and  transportation
services.  Among other things,  Order No. 636 required  interstate  pipelines to
"unbundle" their merchant sales functions from their  transportation and storage
functions and to assign capacity  rights they have on upstream  pipelines to the
pipelines'  former sales customers,  and provided for the recovery by interstate
pipelines of costs  associated  with the  pipelines'  transition  from providing
bundled  sales  services  to  providing  unbundled  transportation  and  storage
services.  Order No. 636 may also increase  transportation  costs and tariffs on
interstate  pipelines and cause  interstate  pipelines to seek to renegotiate or
terminate  certain of their  existing  purchase  contracts,  but  ultimately may
enhance gas  marketing  opportunities  and available  transportation.  The rules
contained  in Order No.  636,  as amended by Order No.  636-A  (issued in August
1992) and  Order No.  636-B  (issued  in  November  1992) are far  reaching  and
complex. In addition,  several provisions of Order No. 636 are currently subject
to court  challenges.  Although the ultimate  outcome of these  challenges under
Order No. 636 cannot be predicted with  certainty,  the Company does not believe
the Order No. 636 will adversely effect its operations.  Nevertheless, the Order
has resulted in a degree of uncertainty  with respect to interstate  natural gas
sales and transportation.

     No Price  Controls on Liquid  Hydrocarbons.  There are  currently  no price
controls on crude oil, condensate or natural gas liquids.

     Environmental and Occupational Regulation. Various federal, state and local
laws and regulations  covering the discharge of materials into the  environment,
or  otherwise   relating  to  the  protection  of  the  public  health  and  the
environment, may effect the Company's operations,  expenses and costs. The trend
in  environmental  regulation  which  affect the  Company has been to place more
restrictions and limitations on activities that impact the environment,  such as
emissions of pollutants, generation and disposal of wastes, and use and handling
of chemical  substances.  Increasingly,  strict  environmental  restrictions and
limitations  have resulted in higher  operating  costs for the Company and other
similar  businesses  throughout the United  States,  and it is possible that the
costs of compliance with  environmental  laws and  regulations  will continue to
increase.

     State  initiatives  to regulate  further the disposal of gas and oil wastes
are also pending in certain  states,  including  states in which the Company has
operations, and these initiatives could have a similar impact on the Company. In
addition, the Company is subject to laws and regulations concerning occupational
health and safety.  It is not  anticipated  that the Company will be required in
the near  future to expend  amounts  that are  material in relation to its total
capital  expenditures  program by reason of environmental or occupational health
and safety laws and  regulations,  but inasmuch as such laws and regulations are
frequently  changed,  the  Company is unable to  predict  the  ultimate  cost of
compliance.

     The Company does not believe that its  environmental  risks are  materially
different  from those of comparable  gas and oil companies  operating in similar
geographic  areas.  Nevertheless,  no assurance can be given that  environmental
laws will not, in the future,  result in a curtailment of production or material
increase in the cost of  production,  development  or  exploration  or otherwise
adversely affect the Company's operations and financial condition.  Although the
Company  maintains  liability  insurance  coverage for certain  liabilities from
pollution, such environmental risks generally are not fully insurable.

     Louisiana  Legislation.  The Louisiana  legislature passed Act 404 in 1993,
which  permits  a  party   transferring   an  oil  field  site  to  establish  a
site-specific  trust  account  for such oil field.  If the  site-specific  trust
account is established in accordance with the  requirements of the statute,  the
party transferring the oil field site shall not thereafter be held liable by the
state for any site restoration costs or actions  associated with the transferred


                                       7
<PAGE>
oil  field  site.  The  parties  to a  transfer  may elect  not to  establish  a
site-specific  trust account;  however,  in the absence of such an account,  the
transferring  party will continue to have liability for the costs of restoration
of the  site.  In the event the  parties  to a  transfer  elect to  establish  a
site-specific trust account pursuant to the statute, the Louisiana Department of
Natural Resources  ("DNR") requires an oil field site restoration  assessment to
be made at the time of the transfer or within one year thereafter,  to determine
the site restoration  requirements existing at the time of transfer.  Based upon
the site restoration assessment, the parties to the transfer must propose to the
DNR a funding schedule for the site-specific  trust account,  providing for some
contribution  to the  account  at the time of  transfer  and at least  quarterly
payment thereafter.  If the establishment and funding of the site-specific trust
account is approved by the DNR, the selling  party shall not  thereafter be held
liable  by the  state  for  any  site  restoration  costs.  The  purchaser  will
thereafter be the responsible  party to the state,  except that the failure of a
transferring  party  to  make a good  faith  disclosure  of all oil  field  site
conditions  existing at the time of the  transfer  will render that party liable
for the costs of  restoration  of such  undisclosed  conditions in excess of the
balance of the site-specific fund.

Competition

     The gas and oil industry is highly  competitive  in all of its phases.  The
Company encounters  competition from other gas and oil companies in all areas of
its  operations,   including  the  acquisition  of  producing  properties,   the
permitting  and  conducting of seismic  surveys and the marketing of gas and oil
and the availability of drilling rigs. Many of these competitors possess greater
financial,  technical  and other  resources  than the Company.  Competition  for
acquisition of producing properties is affected by the amount of funds available
to the Company, information about producing properties available to the Company,
and any standards  established  from time to time by the Company for the minimum
projected return on investment. Competition may also be presented by alternative
fuel  sources,  including  heating oil and other  fossil  fuels.  There has been
increased competition for lower risk development opportunities and for available
sources of  financing.  In addition,  the  marketing and sale of natural gas and
processed  gas are  competitive.  Because  the  primary  markets for natural gas
liquids are refineries,  petrochemical plants and fuel distributors,  prices are
generally set by or in competition  with the prices for refined  products in the
petrochemical, fuel and motor gasoline markets.

Facilities

     In July 1996 the Company  executed a five year lease  agreement  commencing
September 1, 1996 to occupy  approximately  7,600 square feet of office space in
downtown Houston, at an annual rate of $111,120.  Frontier completed the move of
its corporate  headquarters  to Houston,  Texas in September  1996, to allow the
Company to more  effectively  exploit  opportunities  in their  primary areas of
exploration,  which are focused  along the Gulf Coast,  and in  particular,  the
transition zones of South Louisiana.

Employees

     The Company  employs 13 people in its Houston  office and one person in its
Southern  Louisiana  office.  They are all full time employees.  Their functions
include  management,  engineering,  production,  geology,  geophysics,  land and
legal, gas marketing, accounting, financial planning and administration. Certain
operations  of  the  Company's  field   activities  are   accomplished   through
independent  contractors and are supervised by the Company. The Company believes
its relations with its employees and  contractors  are good. No employees of the
Company are represented by a union.

ITEM 2. DESCRIPTION OF PROPERTY

Principal Areas of Operations

     The Company owns and operates  producing  properties  located in six states
with  proved  reserves  located  primarily  in Oklahoma  and Texas.  The Company
currently  owns  interests  in 8 wells it  operates  and also owns  non-operated
interests in  approximately  30 producing wells in Oklahoma,  Texas,  Louisiana,
Arkansas and Kansas.  Daily production from both operated and non-operated wells
net to the Company's  interest  averaged 3,852 Mcf per day and 25.41 Bbls of oil
per day for the year ended December 31, 1996 These properties  provide the basis
for the Company's revenues to date.


                                       8
<PAGE>
Drilling Activity

     The Company  drilled only one well in each of 1991, 1992 and 1993, and such
wells were productive.  In 1994, the Company drilled five  exploratory  wells of
which four were productive and one developmental  well which was not productive.
In 1995,  the  Company  drilled  seven  exploratory  wells of  which  four  were
productive.  In 1996,  the Company  participated  in the drilling of four Garvin
County,  Oklahoma  wells of which two were  productive.  In the first quarter of
1997 the Company  participated in three dry holes in South Louisiana and one dry
hole in Mobile Bay representing  approximately $907,000 in drilling costs net to
the Company of which  approximately  $168,000  was  incurred  and expensed as of
December 31, 1996.  Only the Mobile Bay dry hole was on a 3-D seismic  confirmed
location.  The  Company has three  wells  scheduled  to be drilled in the second
quarter of 1997,  two of which are 3-D seismic  confirmed  and one of which is a
high-potential exploratory well. In addition,  drilling will be scheduled on the
Starboard Project in 1997.

Productive Well Summary

     The following table sets forth certain information  regarding the Company's
ownership as of December 31, 1996 of  productive  gas and oil wells in the areas
indicated.

                         Gas                     Oil
                  ---------------          -------------
                  Gross      Net           Gross    Net
                  -----      ----          -----    ----
Oklahoma           13        2.08             6      .78
Texas               1        0.07            11     3.54
Louisiana           2        0.79             0        0
Alabama             2        0.44             0        0
Arkansas            2        0.15             0        0
Kansas              1        0.10             0        0
                    -        ----             -     ----

     Total         21        3.63            17     4.32
                   ==        ====            ==     ====

Volumes, Prices and Production Costs

     The following table sets forth certain information regarding the production
volumes,  average prices received and average  production  costs associated with
the Company's sale of gas and oil for the periods indicated.

                                   Year Ended December 31,
                               -----------------------------
                                   1996              1995
                               ----------        -----------
Net Production:
    Oil (Bbl)                       9,276            23,244
    Gas (Mcf)                   1,406,016         1,146,696
    Gas equivalent (Mcfe)       1,461,672         1,286,160
Average sales price:
    Oil ($ per Bbl)            $    20.99        $    17.36
    Gas ($ per Mcf)            $     2.18        $     1.58
Average production expenses
 and taxes ($ per Mcfe)        $      .78        $      .84

Leasehold Acreage

     The following  table sets forth as of December 31, 1996,  the gross and net
acres of proved  developed and proved  undeveloped  gas and oil leases which the
Company holds or has the right to acquire.


                                       9
<PAGE>
                      Proved Developed         Proved Undeveloped
     State            Gross       Net         Gross          Net
Oklahoma             38,606     14,091        1,370         452

Texas                10,742      1,998           54          54

Alabama - Onshore     2,730      2,582        3,362       1,101
Alabama - Offshore    2,425      2,295        2,348         704

Arkansas              1,672        357        6,360       2,544

Louisiana             1,474        449        4,075       3,397

Kansas               1,600         126            0           0
                    ------      ------       ------       -----
           Total    59,249      21,898       17,569       8,252

Title to Properties

     Title to  properties  is subject to royalty,  overriding  royalty,  carried
working,  net  profits,  working and other  similar  interests  and  contractual
arrangements  customary in the gas and oil industry,  to liens for current taxes
not yet due and to other  encumbrances.  As is  customary in the industry in the
case of undeveloped properties,  little investigation of record title is made at
the time of  acquisition  (other than a  preliminary  review of local  records).
Investigations,  including a title opinion of local counsel,  are generally made
before commencement of drilling  operations.  The Company has granted a mortgage
on  its  interest  in  the  Starboard   Prospect  to  secure  repayment  of  the
non-recourse  funding, and has granted to Bank of America,  Illinois, a mortgage
on virtually all remaining  producing gas and oil properties to secure repayment
under its credit facility with the bank.

ITEM 3. LEGAL PROCEEDINGS

     The  Company is party to a lawsuit  filed in 1994 in the  Circuit  Court of
Mobile, Alabama. Said lawsuit was brought by Frontier Exploration and Production
Corporation  ("Frontier")  a subsidiary  of the  Company,  as plaintiff to quiet
title to leases it owns in the Mobile Bay area in Mobile  County,  Alabama.  The
original   defendant,   The  Offshore  Group,   Inc.   ("TOG"),   filed  various
counterclaims  pursuant  to which,  inter  alia,  it (i)  claimed  an  ownership
interest  in the Mobile Bay area wells  drilled by the  Company  and (ii) sought
recovery of substantial damages it claimed to have sustained due to, among other
stated reasons, delays in drilling allegedly caused by the Company. The well for
which TOG alleged it sustained  damages was a dry hole.  TOG has  dismissed  its
claims in this regard with  prejudice.  The  Company  has been  awarded  summary
judgment as to all remaining counterclaims of TOG with respect to the Mobile Bay
area  wells,  and the Company  has sued TOG and  certain of its  principals  for
fraudulently  asserting such claims.  On June 6, 1996, the summary  judgment was
appealed. The Company does not believe TOG's appeal will succeed.

     In addition to the above,  the Company is a defendant  from time to time in
lawsuits  incidental  to its  business.  The Company  believes that none of such
current  proceedings,  individually or in the aggregate,  will have a materially
adverse effect on the Company.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

     None. 


                                       10
<PAGE>
                                    PART II

ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

     On November 12, 1993, Frontier Natural Gas Corporation's stock was admitted
to trading  on the NASDAQ  Small Cap  Market  under the  symbols  "FNGC" for its
common stock,  "FNGCP" for its convertible  preferred stock, and "FNGCW" for its
Series A  Warrants.  On August  9, 1996 the  Company's  Series B  Warrants  were
admitted  to trading on the same  market.  At  February  28,  1997,  the Company
estimates  there are  approximately  68 common  shareholders of record and 1,709
beneficial owners of the common stock.

     For the periods  indicated  below, the following table sets forth the range
of high and low sales  prices for  Frontier  Natural  Gas  Corporation's  common
stock,  convertible preferred stock, Series A Warrants, and series B Warrants as
reported  by  NASDAQ.  There was no public  market for the  securities  prior to
November 12, 1993.  NASDAQ  quotations  represent prices between dealers without
adjustment for retail markups,  markdowns or commissions and may not necessarily
represent actual transactions.  There have been no dividends declared or paid to
the owners of the common stock nor does the Company  currently intend to declare
any such dividends. The Company's convertible preferred stock has priority as to
dividends  over the  common  stock  and no common  stock  cash  dividend  can be
declared or paid unless all accrued  convertible  preferred stock dividends have
been paid.  The Company has  undeclared  and unpaid  dividends  in the amount of
$128,941 on its  convertible  preferred stock for the period from May 1, 1995 to
June 30,  1996.  Although,  the Company is not  required to declare and pay such
dividends,  the  Company  is  precluded  from  paying  dividends  to its  common
shareholders  until such  dividends  are paid  current.  The  Company  has since
declared and paid dividends on the convertible  preferred stock for the quarters
ended September 30, 1996 and December 31, 1996.

<TABLE>
<CAPTION>
                                               Convertible          Series A          Series B
                            Common              Preferred           Warrants          Warrants
Quarter Ended           High        Low       High      Low      High       Low     High      Low
-------------         --------   --------   -------   ------   -------   -------   ------    -----
<S>                   <C>        <C>        <C>       <C>      <C>       <C>
December 31, 1996     $2 15/16   $      2   $10 1/4   $    8   $ 11/32   $ 1/16    $1 3/8    $9/16
September 30, 1996     2   3/4    1   5/8     8 5/8    7 3/8     11/16     3/16     1 1/8     5/16
June 30, 1996          2 11/16    1   7/8     7 3/8    7 1/4      1/2      7/32         -        -
March 31, 1996         2 11/16    1 27/64     7 1/4    7 1/4     15/32     1/8          -        -
December 31, 1995            2        7/8         9    6 3/4      3/16     1/16         -        -
September 30, 1995     2  3/32    1   3/4        10        9      5/16     5/32         -        -
June 30, 1995          3   3/4    1   7/8    10 1/4    7 7/8      3/4      1/4          -        -
March 31, 1995         4   7/8    3   1/4        12    8 3/4    1 1/4     13/16         -        -
</TABLE>

ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION

     The  following   discussion  and  analysis  reviews  Frontier  Natural  Gas
Corporation's  operations  for the years  ended  December  31, 1996 and 1995 and
should be read in conjunction  with its  consolidated  financial  statements and
notes  related  thereto.  Certain  statements  contained  herein  that set forth
management's  intentions,  plans,  beliefs,  expectations  or predictions of the
future are forward-looking  statements.  It is important to note that Frontier's
actual   results  could  differ   materially   from  those   projected  in  such
forward-looking  statements.  The risks and  uncertainties  include  but are not
limited to potential unfavorable or uncertain results of 3-D seismic surveys not
yet completed,  drilling cost and operational  uncertainties,  risks  associated
with  quantities of total reserves and rates of production from existing gas and
oil reserves and pricing  assumptions of said reserves,  potential delays in the
timing of  planned  operations,  competition  and other  risks  associated  with
permitting  seismic surveys and with leasing oil and gas  properties,  potential
cost overruns, regulatory uncertainties, and the availability of capital to fund
planned expenditures as well as general industry and market conditions.

Overview

         The  Company's  exploration  activities  for 1996  continued  to center


                                       11
<PAGE>
around  furthering its Gulf Coast  Projects,  and in particular,  the transition
zones of South Louisiana which it initiated in 1995. The Company's main emphasis
was in  furthering  acquisition  and financing of the  Starboard  Prospect.  The
Company moved its headquarters to Houston,  Texas, in September,  1996, to allow
the Company to more effectively exploit  opportunities in these primary areas of
exploration.

     During 1996, the Company  raised funds through a bank financing  agreement,
issued stock in a public offering, sold producing properties which no longer fit
the  Company's   business  plan,  and  obtained  partners  for  its  exploration
activities.

     The Company has what it considers to be an aggressive  drilling program for
1997 with over $3.7 million in planned drilling  activities along the Gulf Coast
Region.  This includes a 15,000 foot test on the Company's  Schooner Prospect in
Plaquemines  Parish,  Louisiana,  a Company operated well in which it owns a 37%
working  interest as well as two shallower tests (7,500 feet and 10,500 feet) on
3-D seismic confirmed  prospects in Terrebonne Parish,  Louisiana.  All three of
these  wells  are  expected  to be  drilled  in  the  second  quarter.  This  is
anticipated to be followed by drilling on the Starboard Project in which the 3-D
seismic  data  acquisition  is  complete.  The  Starboard  Project  is the  most
significant  project in the  Company's  history.  Partners  include Fina Oil and
Chemical Company,  two affiliates of public utilities and a development drilling
financing  commitment from Bank of America,  Illinois.  The Company owns working
interests in its leases over said project ranging from 12% to 48% depending upon
the target  formation  depths.  The 3-D seismic has been shot and  processed and
interpretation is under way. The project includes  developmental and exploratory
locations  which will likely be modified  after 3-D  seismic  interpretation  is
complete.  Initial drilling sites are anticipated to be identified in the second
quarter of 1997 and developmental and exploratory drilling commenced late in the
second or early in the third quarter of 1997.

     In the first quarter of 1997, the Company  participated  in three dry holes
and one unsuccessful  recompletion attempt on South Louisiana prospects, none of
which was  confirmed by 3-D  seismic.  Approximate  cost to the Company  totaled
$907,000.  It also participated in a dry hole in Mobile Bay on a high risk, high
potential  Oligocene  feature  in  which  its  cost,  net  to the  Company,  was
approximately  $214,000.  With the exception of the Mobile Bay well, the Company
has not yet  drilled  any of its high  potential  prospects  which  include  its
Schooner Prospect and the exploratory targets in the Starboard Project.

Comparison of 1996 to 1995

     Revenue.  Total Revenues  decreased 27% from  $4,654,474 for the year ended
December 31, 1995, to $3,378,792 for the year ended December 31, 1996.

     Total gas and oil revenues  increased  18.7% from $2,676,847 to $3,176,861.
The increase in gas and oil revenues were  primarily  attributable  to increased
production  from the Mobile Bay wells  which came on stream in  December of 1995
and a 40%  increase  in average  gas sales  prices  ($2.18 in 1996 vs.  $1.58 in
1995).  Total gas and oil revenues (net of production  taxes and  transportation
expenses)  from  Mobile Bay were  $1,337,018  in 1996 as  compared to $35,718 in
1995.  The  increase  in gas and oil  revenues  from  Mobile Bay and from higher
prices was partially offset by decreases in production  attributable to the sale
of properties in the Mid-Continent Area.

     Offsetting the increase in gas and oil revenues  during 1996 were decreases
in  revenues  from  operating  fees,  gains on sales of  assets  and the sale of
seismic data, all of which relate  directly or indirectly to the  divestiture of
the  Company's  operations  in the  Mid-Continent  Area,  as  well  as a loss on
commodity  transactions.  During 1995, the Company realized revenues of $601,100
from the sale of seismic  data from its  library  covering  prospects  in Garvin
County,  Oklahoma. The cost of such seismic data had previously been expensed in
1994 under the successful efforts method of accounting. No similar revenues were
recognized in 1996. The sale of  substantially  all of the Company's gas and oil
properties  in Oklahoma,  including  the N.E.  Cedardale  field in Major County,
Oklahoma,  which was sold in 1996,  resulted in gains to the Company of $722,004
in 1995 and $250,437 in 1996. As a result of a sale of a substantial  portion of
the Company's properties,  operating fees to the Company decreased from $415,925
in 1995 to $213,834 in 1996.  Finally,  the Company realized losses from various
commodity transactions totaling $602,029 in 1996 as compared to $3,350, in 1995.


                                       12
<PAGE>
Such  losses for 1996 were  attributable  to various  transactions  in which the
Company  hedged  its  future  gas  delivery  obligations.  In  addition  to  the
foregoing,  the  Company  had other  revenues of $339,689 in 1996 as compared to
$241,948 in 1995.

     Costs and Expenses.  Total costs and expenses of the Company  increased 34%
from  $6,249,952  in 1995 to  $8,403,811  in 1996.  The  increase  in costs  and
expenses was primarily  attributable to a combination of increases in depletion,
interest expense,  exploration  costs,  transportation  and gathering costs, and
settlements  of futures and gas delivery  contracts.  Partially  offsetting  the
foregoing  increases in expenses  were  decreases in lease  operating  expenses,
production taxes and general and administrative expenses.

     Depletion,  Depreciation,  and Amortization  Expense ("DD&A")  increased by
93.5% from  $1,182,998 in 1995 to  $2,288,648 in 1996.  The increase in DD&A was
primarily  attributable  to  depletion  recorded  on the  Company's  Mobile  Bay
properties  ($832,642)  and the  write-down  of the  reserves  of the Mobile Bay
properties  ($930,502)  during the fourth quarter of 1996 following  significant
production  declines  experienced  in the fourth  quarter.  The increase in DD&A
attributable  to the Mobile Bay properties was partially  offset by decreases in
DD&A from Mid-Continent properties which were disposed of during 1995 and 1996.

     Interest  expense  increased to $783,872 in 1996 from $43,000 in 1995.  The
increase in interest  expense was  attributable to the receipt of financing from
Bank of America  in the  amount of $4  million  in January of 1996 and  includes
$500,000 of financing  costs which were classified as interest  expense.  Due to
the early  repayment of the  borrowing,  the Company has reduced  debt  issuance
costs by $293,000 and discount on notes payable by $207,000 in  accordance  with
the interest  method.  Said  non-cash  amounts have been  expensed as additional
interest  expense.  Such  financing  was  utilized  to pay  certain  amounts  in
connection  with the  termination  of a Gas Sales  Agreement  as well as certain
other obligations of the Company. The loan was substantially repaid in September
1996 from the proceeds of the sale from the N.E. Cedardale properties.

     Exploration  costs increased 19.2% from $1,105,214 in 1995 to $1,317,161 in
1996. The exploration costs in 1996 reflect $927,273 of charges  attributable to
the impairment of oil and gas leases and expensed  investments,  $295,454 of dry
hole costs and  $43,071 of  expensed  seismic  costs.  Included in 1996 dry hole
costs are $158,833 of leasehold and acquisition  costs associated with the first
quarter 1997 drilling activity.

     Transportation  and  gathering  costs  increased  from  $38,394  in 1995 to
$368,716  in 1996.  The  increase  in  transportation  and  gathering  costs was
attributable  to the  commencement  of  production  of the  Mobile Bay wells and
payments pursuant to related transportation contracts. With the substantial drop
in production from the Mobile Bay wells, transportation costs in connection with
those wells are expected to decline substantially during 1997.

         Cost of settling gas contracts and futures  contracts  attributable  to
the settlement of a gas sales contract with Waldorf  Corporation  ($368,960) and
the settlement of a gas swap agreement due to a reduction in quantities  covered
thereunder in connection with the sale of the N.E.  Cedardale field  ($212,000),
net of reductions in gas purchases to fulfill the Waldorf  contract  ($467,339),
totaled $113,621 in 1996. The Company incurred no similar costs in 1995.

     Lease operating  expense  decreased 32.4% from $824,181 in 1995 to $556,925
in 1996. The reduction in lease operating costs was  attributable to the sale of
operated properties, including the N.E. Cedardale field, and a decline in rework
activity.

     Production  taxes  declined  3.1% from $214,664 in 1995 to $207,969 in 1996
due to the sale of the N.E.  Cedardale  properties which was partially offset by
increased production in Mobile Bay during the first half of 1996.

     General  administrative  expenses ("G&A") decreased by 3.3% from $2,291,701
in 1995 to $2,217,099 in 1996.


                                       13
<PAGE>
     Net Income (loss). The net loss increased from $1,595,478 to $5,025,019 for
the year ended  December 31, 1995,  and  December 31, 1996,  respectively.  This
increase was due to the factors discussed above.

     The net loss per common share  decreased from a net loss of $1.05 per share
in 1995 to a net loss of $0.72  per  share in 1996.  This is  reflective  of the
secondary  offering  that  was  finalized  on  August  14,  1996,  resulting  in
approximately  7,142,000  weighted average common  equivalent shares at December
31,  1996  as  compared  to  approximately  3,977,000  weighted  average  common
equivalent shares at December 31, 1995.

Known and Anticipated  Trends,  Contingencies and Developments  Impacting Future
Operating Results.

     As  noted  elsewhere,  the  Company's  future  operating  results  will  be
substantially dependent upon the success of the Company's efforts to develop the
Starboard  Project and other prospects in South  Louisiana.  Because the Company
had  divested   substantially   all  of  its  oil  and  gas  properties  in  the
Mid-Continent region by the end of 1996, revenues from the operation and sale of
such properties will be  substantially  reduced during 1997 and in future years.
Further,  following a sharp and unexpected drop in production from the Company's
Mobile Bay wells during the fourth quarter of 1996, the Company anticipates that
revenues from Mobile Bay will be  substantially  reduced  during 1997.  Revenues
from the operation of the  Mid-Continent  and Mobile Bay properties and the sale
of  Mid-Continent   properties  constituted  the  substantial  majority  of  the
Company's revenues during 1996.

     As a result  of the loss of  revenues  from the  Mid-Continent  region  and
Mobile Bay, the Company  expects  that its revenues  during 1997 will be sharply
reduced  unless  and until the  Company's  South  Louisiana  prospects  begin to
produce revenue.  While management believes that the Starboard Project and other
prospects  in South  Louisiana  represent  the most  promising  prospects in the
Company's  history,  none of those prospects are currently  producing revenue to
the Company. The Company expects to drill exploratory and developmental wells on
a number of  prospects  during  the second and third  quarters  of 1997.  If the
Company's drilling  activities do not produce the anticipated levels of reserves
and production or if the Company  experiences  delays in drilling and completing
such wells,  the Company's  anticipated  revenues would be materially  adversely
impacted in 1997 and  possibly in future  periods.  Accordingly,  the Company is
substantially  dependent upon the outcome of its planned drilling efforts during
1997.

Liquidity and Capital Resources

     The Company,  largely through four major financing transactions,  increased
its cash  position  from $64,000 at December 31, 1995, to $4,956,000 at December
31, 1996, and increased its working  capital by  approximately  $6,867,000 as of
December 31, 1996. The four financing  transactions  included a credit  facility
with Bank of America, in January 1996, a project financing in March 1996 related
to the  Starboard  Project,  a secondary  offering of common stock  effective in
August of 1996, and the sale of the Company's N.E. Cedardale properties in Major
County, Oklahoma, to OXY USA, Inc. in September of 1996.

     During  January  1996,  the  Company  entered  into  a  $15,000,000  credit
agreement with the Bank of America,  to provide  $4,000,000 in immediate cash to
the Company.  The loan was reduced by $3,316,112 in September 1996 with proceeds
of the N.E.  Cedardale  property sale and totaled $455,956 at December 31, 1996.
This loan is collateralized by the most significant proved developed gas and oil
properties  of the  Company  and is  payable  in  monthly  installments  through
December 1998. The Company has entered into an interest rate swap guaranteeing a
fixed interest rate of 8.28% on the loan.

     The bank credit facility provides for an additional $2,500,000,  subject to
bank  prospect  approval,  to be used for the Company's  share of  developmental
drilling  costs  in the  Starboard  Project,  a  developmental  and  exploratory
drilling project in Terrebonne Parish,  Louisiana.  This portion of the facility
is set to expire June 30, 1997, however the bank has indicated it is prepared to
extend this commitment.  An additional  $8,500,000 will be available  contingent
upon the Company's reserve base meeting the bank's lending parameters. Under the
terms of the loan, the Company is subject to certain  restrictions and covenants
which escalate in 1997. The covenants  include  current ratio,  cash on hand and
tangible  net  worth  requirements  among  other  requirements.  Because  of the


                                       14
<PAGE>
disposal of substantially all of the Company's operating properties,  management
does not  believe  that the  Company  will be able to comply  with the cash flow
covenants of the loan during 1997. The Company obtained a waiver of the covenant
through March 31, 1997, and has requested an additional waiver of such covenant.
Bank financing  costs of $293,000  associated with the facility were expensed in
the third quarter of 1996, as a result of early paydown of the loan.

     The second  financing  transaction  occurred in March 1996 when the Company
entered  into an  agreement  whereby it conveyed a 48%  working  interest in the
Company's  working  interest in the  Starboard  Project.  The acquirer  provided
funding  through a  non-recourse  loan to the  Company to cover all the costs in
obtaining the leasehold and seismic data on the Starboard Project.  The loan was
originally  anticipated to be approximately  $1,728,000 at its conclusion and it
will be repaid solely by the assignment of an 8% overriding  royalty interest in
the Starboard  Project payable from the Company's  interest in the project until
such time as the lender has  received an amount  equal to the loan plus  closing
costs and a 15%  internal  rate of return.  The loan is secured by a mortgage on
the  Starboard  Prospect.  The  Company  received  a  reimbursement  of costs of
approximately  $255,000 from the third party and a $240,000 prospect fee as part
of the agreement.  Approximately  $682,000 was advanced on the non-recourse loan
as of December 31, 1996.

     In August 1996, the Company closed a joint exploration  agreement with Fina
Oil and Chemical Company and certain of its partners wherein Fina etal paid 100%
of the 3-D seismic costs related to the Starboard  Project in return for certain
deep acreage  rights,  which deep rights had a limited  affect on the  Company's
primary exploration  objectives in this project. The agreement preserves 100% of
Frontier's interest in proven undeveloped reserves while expanding its potential
exploratory  drilling  opportunities  in terms of both number of potential wells
and net  exploratory  reserve  potential.  The  new  agreement  includes  all of
Frontier's prior industry partners in the Starboard Project, as well as Fina and
certain of its industry  partners.  The 3-D seismic has been shot and  processed
and  interpretation  is  underway  with  initial  drill  sites  expected  to  be
determined by mid-May 1997. In conjunction  with said Fina agreement,  the total
loan amount for borrowing  pursuant to the second financing  discussed above was
reduced from  $1,728,000  to $864,000.  Expenditures  in excess of the remaining
funds under the second financing are anticipated to be incurred.

     The third  financing  occurred when, on August 14, 1996, the Company closed
the  sale  of  a  public   offering  of  1,350,000   Units  of  its  securities.
Subsequently,  the Company sold an additional  overallotment  of 202,500  Units.
Each  unit  consisted  of three  shares  of  Common  Stock  and  three  Series B
Redeemable  Stock Purchase  Warrants.  The net proceeds after the  underwriter's
commission and expense were approximately $6,431,000.

     On  September  27,  1996,  the  Company   completed  the  fourth  financial
transaction  which was the sale of its N.E.  Cedardale  field  located  in Major
County,  Oklahoma to OXY USA Inc., for consideration  totaling  $3,550,000.  The
properties  sold  represent  a  substantial   portion  of  Frontier's   Oklahoma
production. The sale was pursued for three basic reasons. The first was an offer
management  deemed  as  favorable;  second,  the  divestiture  of  the  Oklahoma
properties further  facilitated the Company's focus of its resources on its Gulf
Coast  projects,  and  finally,  the  result  was a  reduction  in debt  service
requirements over the next three years in an amount greater than the anticipated
net revenues from the properties  sold. The sale to OXY USA, Inc.  included cash
of $2,840,000 and certain exchange  properties which were concurrently sold to a
third party for $710,000, netting the Company $3,550,000. The sale was effective
September  1, 1996,  and the Company  incurred a non-cash  loss of  $10,523.  In
connection  with the sale, the Company also incurred a loss of $212,000 due to a
reduction in the  quantities  covered by a gas swap  contract.  Due to the early
repayment of the  borrowing,  the Company also  reduced debt  issuance  costs by
$293,000 and discount on notes payable by $207,000 and recorded  these  non-cash
amounts as interest expense.

     As of  December  31,  1996,  the Company  had  $4,956,000  in cash and cash
equivalents.  The Company's  1997 business plan included  early 1997 drilling on
three prospects  which were not confirmed with 3-D seismic and one  recompletion
prospect,  all of which were  originated  by third  parties  and  pursued by the
Company in a project intended to increase its oil and gas revenues. The projects
were not successful.  The Company's revenues were also adversely impacted due to
the previously  unanticipated early declines in its Mobile Bay production in the


                                       15
<PAGE>
fourth  quarter of 1996. As a result of the  foregoing the Company  continues to
incur  significant cash flow deficits.  In the event its second quarter drilling
is not  successful it may not have  sufficient  funds for its share of third and
fourth  quarter  1997  drilling  costs.  Alternative  courses of action  include
reducing its ownership through reduced activity, or the sale of promoted working
interests,  or increases in equity  capital.  In that  drilling  costs are, to a
large extent, discretionary items, reductions in expenditures, if necessary, can
be made but this will  reduce the  Company's  share of  potential  revenue  from
successful  wells.  The Company does not believe  such actions are  necessary at
this time.

     The Company's business  philosophy has been to seek to minimize natural gas
price volatility by marketing reserves through the use of long-term end-user gas
contracts  and  utilizing  the purchase of  short-term  commodity  futures.  The
Company  currently has in effect a gas swap  agreement  initially  incurred as a
requirement  of the Bank of America,  Illinois,  financing.  As of December  31,
1996,  spot market prices  exceeded the swap price.  The Company is  considering
reducing the volumes under the swap agreement.

     In addition to its obligations discussed above, the Company had accrued but
undeclared  and unpaid  dividends  with  respect to its  outstanding  cumulative
convertible  preferred stock totaling  $128,941 (or $1.50 per share) at December
31, 1996. The cumulative  convertible  preferred stock is entitled to cumulative
cash  dividends at a maximum annual rate of $1.20 per share when and if declared
by the  Board  of  Directors.  The  cumulative  preferred  stock is  subject  to
redemption at $10.00 per share,  plus any accrued and unpaid  dividends,  and is
convertible  into two shares of common stock and two Series A Warrants,  subject
to  adjustment,  at the option of the holder or  automatically  in the event the
sales price of the cumulative  preferred  stock exceeds $13.00 per share for ten
consecutive trading days. A total of 85,961 shares of cumulative preferred stock
were  outstanding at December 31, 1996.  Although the Company is not required to
declare and pay such  dividends,  such dividends are cumulative and no dividends
may be paid on the  Company's  common  stock  until  such  dividends  are  paid.
Further, in the event that unpaid cumulative dividends aggregate an amount equal
to at least six quarterly  dividends (or $1.80), the number of directors will be
increased  by two and the  holders  of the  cumulative  preferred  stock will be
entitled  to elect the  additional  directors.  The Company has paid all current
quarterly dividends since September 30, 1996.

     Other than  funding  committed to the Company,  as described  above,  funds
provided by future oil and gas  operations  and the  potential  receipt of funds
from the exercise of outstanding warrants,  the Company presently has no sources
of financing or commitments to provide financing.  A total of 1,578,078 Series A
Warrants  issued in connection  with the Company's  initial public  offering and
conversion of shares of cumulative preferred stock,  4,657,500 Series B Warrants
issued in  connection  with the  Company's  1996  public  offering  and  855,000
warrants issued in connection with various financing and other transactions were
outstanding  and exercisable at December 31, 1996. Such warrants are exercisable
at prices ranging from $1.47 to $6.00 per share and expire between  November 12,
1998 and August 8, 2001 subject to various redemption  provisions.  The exercise
of all outstanding  warrants would result in the receipt by the Company of gross
proceeds of approximately  $21.3 million and the issuance of 7,090,578 shares of
common stock. There can be no assurance,  however,  when, if ever, any or all of
the outstanding warrants will be exercised.

     Other than funding its day-to-day operating costs and its proposed drilling
operations,  the Company  does not  anticipate  any  substantial  demands on the
liquidity or capital resources of the Company during the following twelve months
except as otherwise discussed above.

     As stated, the Company does not currently  believe,  pending the results of
its second  quarter  drilling,  that it will need  additional  funds  beyond its
capital and credit  lines over the next  twelve  months.  However,  in the event
second  quarter  drilling  is  unsuccessful,  or it develops  currently  unknown
prospects and/or acquisition  opportunities,  it may seek additional exploration
and/or  acquisition  capital.  Options  available  to the  Company  to raise any
additional  funds  for  exploration  and/or  acquisitions  include,  but are not
limited to, (a) additional  outside partners,  (b) additional private borrowing,
(c) the further sale of 3-D seismic  data and (d) the exercise of the  Company's
currently  outstanding warrants should the Company's stock prices rise by August
of 1997 to levels necessary to allow said warrants to be called.


                                       16
<PAGE>
ITEM 7. FINANCIAL STATEMENTS

                          INDEPENDENT AUDITORS' REPORT

To the Board of Directors
Frontier Natural Gas Corporation

We have audited the accompanying consolidated balance sheets of Frontier Natural
Gas  Corporation  and  subsidiaries  (the "Company") as of December 31, 1996 and
1995, and the related  consolidated  statements of income,  stockholders' equity
and cash flows for the years then  ended.  These  financial  statements  are the
responsibility of the Company's management.  Our responsibility is to express an
opinion on these financial statements based on our audits.

We  conducted  our  audits  in  accordance  with  generally   accepted  auditing
standards.  Those standards require that we plan and perform the audit to obtain
reasonable  assurance  about  whether  the  financial  statements  are free from
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,  such consolidated  financial  statements present fairly, in all
material respects,  the consolidated  financial position of Frontier Natural Gas
Corporation  and  subsidiaries  as of  December  31,  1996  and  1995,  and  the
consolidated  results of their  operations  and their cash flows for each of the
years then ended, in conformity with generally accepted accounting principles.



/s/ Deloitte & Touche LLP
---------------------------
Deloitte & Touche LLP
Oklahoma City, Oklahoma
March 31, 1997


                                       17
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                           CONSOLIDATED BALANCE SHEETS

                                     ASSETS
<TABLE>
<CAPTION>

                                        December 31,      December 31,
                                            1996              1995
                                         ----------       ------------
<S>                                      <C>              <C>
Current Assets:
  Cash and cash equivalents              $4,956,656       $    63,908
  Accounts receivable, net of 
   allowance for doubtful
   accounts of $10,533 at 
   December 31, 1996 and 
   $12,710 at December 31, 1995             366,498           612,876
  Prepaid expenses and other                282,317           178,737
  Receivables from affiliates               152,419           210,016
                                         ----------       -----------
          Total current assets            5,757,890         1,065,537

Property and equipment:
  Gas and oil properties, at 
   cost-successful efforts 
   method of accounting                   5,280,115        11,109,678
  Other property and equipment            1,074,727           906,453
                                         ----------       -----------
                                          6,354,842        12,016,131
  Less accumulated depletion, 
   depreciation and amortization         (2,918,918)       (2,895,159)
                                         ----------       -----------
                                          3,435,924         9,120,972

Other Assets                                437,378           252,966
                                         ----------       -----------
          Total assets                   $9,631,192       $10,439,475
                                         ==========       ===========
</TABLE>


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


                                       18
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                           CONSOLIDATED BALANCE SHEETS

                      LIABILITIES AND STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>

                                            December 31,       December 31,
                                                1996               1995
                                            -----------        -----------
<S>                                         <C>                <C>
Current liabilities:
  Accounts payable                          $   725,222        $ 2,065,341
  Revenue distribution payable                  360,163            493,072
  Current portion of long-term debt             304,540            227,302
  Deferred gas revenues                               -            828,000
  Accrued and other liabilities                 271,805            222,778
                                            -----------        -----------
          Total current liabilities           1,661,730          3,836,493

Deferred gas revenues                                 -          1,113,977
Long-term debt                                  325,394            150,271
Non-recourse debt                               681,618                  -
Other long-term liabilities                     223,624            275,298
                                            -----------        -----------
          Total liabilities                   2,892,366          5,376,039

Commitments and contingencies

Stockholders' equity:
  Cumulative  convertible  preferred
   stock $.01 par value;  5,000,000
   shares authorized; 85,961 shares
   issued and outstanding at
   December 31, 1996 and 1995;
   ($856,910 aggregate liquidation
   preference at December 31, 1996 
   and 1995)                                        860               860
  Common stock:
    Class A  Common  stock,  $.01  par
     value;  20,000,000  shares
     authorized;  9,865,906  and  
     5,058,406  outstanding  at  
     December  31,  1996 and
     December 31, 1995, respectively             98,659            50,584
    Unamortized value of warrants issued        (54,325)                -
    Common stock subscribed    45,000            45,000
    Common stock subscription receivable        (45,000)          (45,000)
    Additional paid-in capital               14,599,326         7,866,879
    Deficit                                  (7,905,694)       (2,854,887)
                                            -----------       -----------

          Total stockholders' equity          6,738,826         5,063,436
                                            -----------       -----------

          Total liabilities and 
           stockholders' equity             $ 9,631,192       $10,439,475
                                            ===========       ===========
</TABLE>


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


                                       19
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                      CONSOLIDATED STATEMENTS OF OPERATIONS

<TABLE>
<CAPTION>

                                                     Year Ended December 31,
                                                    1996               1995
                                                 ----------        -----------
<S>                                              <C>               <C>
Revenues:
  Gas and oil revenues                           $ 3,176,861       $ 2,676,847
  Gain (loss) on commodity transactions             (602,029)           (3,350)
  Gain on sale of assets                             250,437           722,004
  Sale of seismic data                                     -           601,100
  Operating fees                                     213,834           415,925
  Other revenues                                     339,689           241,948
                                                ------------       -----------
                           Total revenues          3,378,792         4,654,474
                                                ------------       -----------

Costs and expenses:
  Lease operating expense                            556,925           824,181
  Production taxes                                   207,969           214,664
  Transportation and gathering costs                 368,716            38,394
  Gas purchases under deferred contract               82,461           549,800
  Depletion, depreciation and amortization         2,288,648         1,182,998
  Exploration costs                                1,317,161         1,105,214
  Interest expense                                   783,872            43,000
  Deferred gas contract settlement                   368,960                 -
  Loss on settlement of futures contract             212,000                 -
  General and administrative expense               2,217,099         2,291,701
                                                 -----------       -----------
          Total costs and expenses                 8,403,811         6,249,952
                                                 -----------       -----------
Income (loss) before provision for
 income taxes                                     (5,025,019)       (1,595,478)
Benefit (provision) for income taxes                       -                 -
                                                 -----------       -----------
Net income (loss)                                 (5,025,019)       (1,595,478)

Cumulative preferred stock dividend                  103,153           395,381

Value of  common  stock  issued  for
  cumulative  preferred  stock in  
  excess of original terms, net of 
  relieved preferred stock dividend                        -         2,183,471
                                                 ===========       ===========

Net income (loss) applicable to
 common stockholders                             $(5,128,172)      $(4,174,330)
                                                 ===========       ===========

Net income (loss) per common and
 common equivalent share                         $     (0.72)      $     (1.05)
                                                 -----------       -----------

Weighted average number of common
 equivalent shares (in thousands)                      7,142             3,977
                                                 ===========       ===========
</TABLE>


  The accompanying notes are an intergral part of these financial statements.


                                       20
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                 CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

<TABLE>
<CAPTION>
                                                                              Unauthorized
                                      Preferred                 Class A         Value of     Additional
                                        Stock                Common Shares      Warrants      Paid-in
                                 -------------------    --------------------
                                 Shares       Amount     Shares      Amount     Issued        Capital          Deficit
                                 --------    -------    ---------   --------    --------    -----------       ------------
<S>                              <C>         <C>        <C>          <C>        <C>         <C>               <C>
Balance, December 31, 1994        694,400    $ 6,944    2,418,050    $24,181           -    $ 7,548,605       $(1,025,301)

Issuance of common stock                -          -       95,000        949           -        135,144                 -

Issuance of subscribed
 common stock                           -          -      120,600      1,206           -        201,294                 -

Conversion of preferred stock    (608,439)    (6,084)   2,424,756     24,248           -        (18,164)                -  

Cumulative preferred 
 stock dividend                         -          -            -          -           -              -          (234,108)

Net loss                                -          -            -          -           -              -        (1,595,478)

Balance, December 31, 1995         85,961        860    5,058,406     50,584           -      7,866,879        (2,854,887)

Issuance of common stock                -          -    4,807,500     48,075           -      6,616,947                 -

Warrant issued for services             -          -            -          -     (82,500)       115,500                 -

Cumulative preferred
 stock dividend                         -          -            -          -           -              -           (25,788)

Amortization of warrants                -          -            -          -      28,175              -                 -

Net loss                                -          -            -          -           -              -        (5,025,019)

Balance, December 31, 1996          85,961   $   860    9,865,906    $98,659    $(54,325)    $14,599,326      $(7,905,694)
</TABLE>


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


                                       21
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                      CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
                                                     Year Ended December 31,
                                                  ----------------------------
                                                      1996              1995
                                                  -----------      -----------
<S>                                               <C>              <C>
Cash flows from operating activities:
  Net income (loss)                               $(5,025,019)     $(1,595,478)
  Adjustments to  reconcile  net loss
   to net cash  provided by  operating
   activities: 
    Depletion, depreciation and amortization        2,288,648        1,182,998
    Deferred gas contract  settlement                 368,960                -
    Gain on sale of assets                           (250,437)        (722,004)
    Deferred revenues under gas  contract             (74,400)        (846,450)
    Amortization  of financing costs                  710,573                -
    Non-cash compensation expense 
     attributable to SAR's                                  -         (107,509)
    Stock issued for settlement of
      litigation                                            -           96,093
    Exploration costs                               1,317,161        1,105,214
    Changes in operating assets and
     liabilities:
      Accounts receivable                             303,975          276,083
      Prepaid expenses and other                     (103,580)          39,595
      Other assets                                   (191,791)        (171,833)
      Accounts payable                               (279,119)         278,155
      Revenue distribution payable                   (132,909)          97,001
      Accrued and other                                (2,647)         141,522
                                                  -----------      -----------
      Net cash (used) in operating activities      (1,070,585)        (226,613)
                                                  -----------      -----------
Cash flows used in investing activities:
  Capital expenditures - gas and oil properties    (3,515,841)      (2,387,383)
  Capital expenditures - other property
   and equipment                                     (203,808)        (131,775)
  Proceeds from sale of assets                      4,671,088        2,171,365
                                                  -----------      -----------
      Net cash provided by (used in)
       investing activities                           951,439         (347,793)
                                                  -----------      -----------
Cash flows from financing activities:
  Proceeds from issuance of debt                    4,717,280          442,001
  Repayments of long-term debt                     (3,745,369)        (287,795)
  Debt issuance cost                                 (183,387)               -
  Payment for settlement of deferred
   gas contract                                    (2,181,489)               -
  Redemption of preferred stock of a subsidiary             -          (99,540)
  Preferred stock dividends paid                      (25,788)        (234,108)
  Net proceeds from issuance of common stock        6,430,647          202,500
                                                  -----------      -----------
      Net cash provided by financing activities     5,011,894           23,058
                                                  -----------      -----------
    Net increase (decrease) in cash and
     cash equivalents                               4,892,748         (551,348)

Cash and cash equivalents at beginning of year         63,908          615,256
                                                  -----------      -----------

Cash and cash equivalents at end of year          $ 4,956,656      $    63,908
                                                  ===========      ===========
Supplemental disclosure of cash
 flow information: 

    Cash paid for interest                        $   818,769      $    72,679
                                                  ===========      ===========
</TABLE>


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


                                       22
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


1.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

     Basis of Presentation - The Company's primary business  activities  include
gas and oil exploration, production and sales, primarily in the Southwestern and
Gulf Coast areas of the United States. The accompanying  consolidated  financial
statements include the accounts of the Company, and its subsidiaries.

     The  preparation  of financial  statements  in  conformity  with  generally
accepted  accounting  principles  requires  management  to  make  estimates  and
assumptions  that  affect the  reported  amounts of assets and  liabilities  and
disclosure of  contingent  assets and  liabilities  at the date of the financial
statements  and the  reported  amounts  of  revenues  and  expenses  during  the
reporting period. Actual results could differ from those estimates.

     Cash Equivalents - The Company considers all investments with a maturity of
three months or less when purchased to be cash equivalents.

     Gas and Oil Properties - The Company uses the successful  efforts method of
accounting  for gas and oil  exploration  and  development  costs.  All costs of
acquired  wells,   productive  exploratory  wells,  and  development  wells  are
capitalized.  Exploratory dry hole costs,  geological and geophysical costs, and
lease  rentals on  non-producing  leases are expensed as  incurred.  Gas and oil
leasehold  acquisition costs are capitalized.  Costs of unproved  properties are
transferred to proved  properties  when reserves are proved.  Gains or losses on
sale of leases and  equipment  are  recorded  in income as  incurred.  Valuation
allowances are provided if the net  capitalized  costs of gas and oil properties
at the field level exceed their realizable  values based on expected future cash
flows.  Unproved  properties are  periodically  assessed for impairment  and, if
necessary, a loss is recognized by providing an allowance.

     The costs of multiple producing properties acquired in a single transaction
are allocated to individual  producing  properties based on estimates of gas and
oil reserves and future cash flows.

     Depletion is provided by the unit of  production  method based upon reserve
estimates.  Depletion,  depreciation  and  amortization  includes  approximately
$51,000 and $109,000 in 1996 and 1995,  respectively,  in  impairment of gas and
oil properties.

     Other  Property and Equipment - Other  property and equipment is carried at
cost.  The Company  provides for  depreciation  of other  property and equipment
using the  straight-line  method over the  estimated  useful lives of the assets
which range from three to ten years.

     Upon sale or retirement of an asset,  the cost of the asset disposed of and
the related  accumulated  depreciation  are removed from the  accounts,  and the
resulting gain or loss is reflected in income.

     Income  Taxes - The  Company  accounts  for  income  taxes on an asset  and
liability  method which requires the recognition of deferred tax liabilities and
assets for the tax effects of temporary  differences between tax bases of assets
and liabilities, operating loss carryforwards, and tax credit carryforwards.

     Commodity Transactions - The Company attempts to minimize the price risk of
a portion of its future oil and gas production with commodity futures contracts.
Gains and  losses  on these  contracts  are  recognized  in the  period in which
revenue  from  the  related  gas and oil  production  is  recorded  or when  the
contracts  are  closed.  To the  extent  that the  quantities  hedged  under the
commodity transaction exceed current production, the Company recognizes gains or
losses on the overhedged amount.

     Capitalized  Interest - The Company capitalizes  interest costs incurred on
exploration projects.  The interest capitalized for the years ended December 31,
1996 and 1995 was approximately $107,000 and $129,000, respectively.


                                       23
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


     Gas Balancing - The Company  records gas revenue  based on the  entitlement
method.  Under this  method,  recognition  of revenue is based on the  Company's
pro-rata  share of each well's  production.  During  such time as the  Company's
sales of gas exceed its  pro-rata  ownership in a well, a liability is recorded,
and  conversely a receivable is recorded for wells in which the Company's  sales
of gas are less than its pro-rata share. At December 31, 1996, the Company's gas
balancing position was approximately 31,500 MCF overproduced.

     Exploration  Costs - The  Company  expenses  exploratory  dry  hole  costs,
geological and geophysical costs, and impairment of unproved properties.  During
1996 and 1995,  $43,000  and  $390,000  respectively  of such costs  represented
geological  and  geophysical  costs  expensed as required  under the  successful
efforts method of accounting.

     Earnings  (Loss) per share - Primary  average  shares are  computed  on the
basis of weighted average shares of common stock outstanding and, when dilutive,
common stock equivalent shares attributable to outstanding stock options,  stock
subscriptions  and warrants.  Common stock equivalent  shares are computed using
the treasury stock method.  The  computation of fully diluted loss per share was
antidilutive; therefore the amounts of primary and fully diluted earnings (loss)
are the same.

     Fair Value of Financial  Instruments  - Statement  of Financial  Accounting
Standards  No.  107.  "Disclosures  about Fair Value of  Financial  Instruments"
requires disclosure regarding the fair value of financial  instruments for which
it is practical  to estimate  that value.  The carrying  amount of cash and cash
equivalents  approximates  fair market  value  because of the short  maturity of
those instruments.  The fair value of the Company's  long-term debt is estimated
to approximate  carrying value based on the borrowing rates currently  available
to the Company for bank loans with similar terms and average maturities.

     The Company has interest  rate and gas swap  agreements  that subject it to
off-balance sheet risk. The unrealized  losses on these contracts,  as disclosed
in the following footnotes,  are based on market quotes. These unrealized losses
are not  recorded  in the  consolidated  financial  statements  since  the swaps
qualify for hedge accounting.

     Stock-Based  Compensation  - In  October  1995,  the  Financial  Accounting
Standards  Board  issued  Statement of Financial  Accounting  Standards  No. 123
("SFAS 123"), "Accounting for Stock-Based  Compensation." SFAS 123 establishes a
fair value method and disclosure standards for stock-based employee compensation
arrangements, such as stock purchase plans and stock options. It also applies to
transactions  in which an entity issues its equity  instruments to acquire goods
or services from  non-employees,  requiring that such  transactions be accounted
for based on fair value.  As allowed by SFAS 123, the Company  will  continue to
follow the provisions of Accounting  Principles Board Opinion No. 25 ("APB") for
its stock-based employee compensation  arrangements.  SFAS 123 requires entities
that elect to  continue  to measure  compensation  cost using APB 25 to disclose
proforma  information  computed as if the fair value based accounting  method of
SFAS 123 had been applied for all awards granted after December 15, 1994.

     New  Accounting  Standards - In February  1997,  the  Financial  Accounting
Standards  Board  issued  Statement of Financial  Accounting  Standards  No. 128
("SFAS  128"),  "Earnings  per  Share" and  Statement  of  Financial  Accounting
Standards  No.  129 ("SFAS  129"),  "Disclosure  of  Information  about  Capital
Structure." SFAS 128 establishes standards for computing and presenting earnings
per  share  ("EPS")  and  requires  restatement  of all  prior-period  EPS  data
presented.  SFAS 129 establishes  standards for disclosing  information about an
entity's  capital  structure.  These  statements  are  effective  for  financial
statements  for periods  ending after  December  15,  1997.  The Company has not
determined if adoption of these standards will have a significant  effect on its
consolidated financial statements.

     Reclassification  -  Certain  reclassifications  have been made to the 1995
financial statements to conform them to the classification used in 1996.


                                       24
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


2.   STOCKHOLDERS' EQUITY:

     Effective  November  12, 1993 the  Company  completed  its  initial  public
offering of 350,000 Units of its  securities.  Each unit consisted of two shares
of cumulative  convertible preferred stock (valued at $10.00 per share), one (1)
share of common stock (valued at $4.00) and one (1) warrant ("Series A Warrant")
(valued at $ .10).  During  1995,  the Company  offered to exchange one share of
cumulative  convertible  preferred  stock plus all unpaid and accrued  preferred
dividends  for four  shares of  common  stock and two  Series A  Warrants  for a
limited period.  The Company concluded its offer on May 26, 1995 with a total of
603,939  shares of  convertible  preferred  stock  tendered.  As a result of the
offering,  the Company  issued  2,415,756  shares of Common Stock and  1,207,878
Series A  Warrants.  After May 26,  1995,  the  exchange  ratio  reverted to the
original  conversion  terms.  The  Company  reflected  the  market  value of the
additional  two  shares of common  stock  paid as a  one-time  premium to induce
conversion of the cumulative  convertible  preferred stock as an addition to net
loss in  computing  loss  applicable  to common  shareholders  in the  amount of
$2,415,756.  The Company was relieved of $232,285 of accrued dividends  relating
to the shares tendered which has been offset against the inducement  premium. As
of December 31, 1996 and 1995, 85,961 shares of cumulative convertible preferred
stock were outstanding.

     During 1995, the Company issued 120,600 shares of common stock for $202,500
pursuant to stock  subscription  agreements  entered into in a private placement
transaction in March 1993.

     In connection with the debt financing  obtained during the first quarter of
1996, the Company,  pursuant to an agreement with a financial advisor, agreed to
pay  a  combination   of  cash,   stock  and  warrants  (See  -  "Warrants")  in
consideration  for  assisting  with  obtaining the  financing.  The Company paid
$200,000 in cash and issued 150,000 shares of the Company's  common stock to the
advisor on June 6, 1996.  These  shares have been valued at  $234,375,  the fair
market value at the date granted.

     On August 14,  1996,  the Company  closed the sale of a public  offering of
1,350,000 Units of its securities.  Subsequently, the Company sold an additional
overallotment  of 202,500  Units.  Each Unit consisted of three shares of Common
Stock and three Series B Redeemable  Common Stock Purchase  Warrants  ("Series B
Warrants").  The price for each Unit was  $5.0625.  The net  proceeds  after the
underwriter's commission and expenses was approximately $6,431,000.

     Convertible  Preferred  Stock - The Board of  Directors  of the Company has
adopted a Certificate of Designations creating a series of convertible preferred
stock consisting of 1,000,000  shares,  par value $ .01 per share, none of which
was  outstanding  as of December  31, 1996 and 1995.  Shares of the  convertible
preferred  stock may be issued from time to time in one or more series with such
designations,  voting powers, if any, preferences,  and relative  participating,
optional or other  special  rights,  and such  qualifications,  limitations  and
restrictions  thereof, as are determined by resolution of the Board of Directors
of the Company.  However, the holders of the shares of the convertible preferred
stock will not be entitled to receive  liquidation  preference  of such  shares,
until the  liquidation  preference of any other series or class of the Company's
stock  hereafter  issued  that  ranks  senior  as to  liquidation  rights to the
cumulative convertible preferred stock, has been paid in full.

     Cumulative  Convertible  Preferred  Stock - Holders of shares of cumulative
convertible preferred stock will be entitled to receive, when and if declared by
the  Board  of  Directors  out of  funds at the  time  legally  available,  cash
dividends  at a maximum  annual  rate of $1.20  per  share,  payable  quarterly,
commencing 90 days after the date of first  issuance.  Dividends are  cumulative
from the date of issuance of the cumulative  convertible preferred stock. During
1996 and  1995,  $25,788  and  $234,108  was  declared  and  paid in  cumulative
preferred stock  dividends.  The Company has undeclared and unpaid  dividends in
the amount of $128,941  ($1.50 per share) on its cumulative  preferred stock for
the period from May 1, 1995 to June 30,  1996.  The Company has paid all current
quarterly  dividends  since  September 30, 1996.  The Company is not required to
declare and pay such dividends;  however, until such dividends are paid current,
the Company is precluded from paying dividends to its common shareholders.


                                       25
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


     In the event of any  liquidation,  dissolution  or wind-up of the  Company,
holders of shares of  cumulative  convertible  preferred  stock are  entitled to
receive the liquidation  preference of $10.00 per share, plus an amount equal to
any accrued and unpaid  dividends  to the  payment  date,  before any payment or
distribution  is made to the holders of common stock,  or any series or class of
the Company's  stock hereafter  issued,  that will rank junior as to liquidation
rights to the cumulative convertible preferred stock.

     The holders of cumulative  convertible preferred stock will not have voting
rights  except as required by law in  connection  with  certain  defaults and as
provided  to  approve  certain  future  actions  including  any  changes  in the
provisions of the stock or the issuance of additional  shares equal or senior to
the stock. Whenever dividends on the cumulative convertible preferred stock have
not been paid in an aggregate amount equal to at least six quarterly  dividends,
the number of  directors of the Company will be increased by two and the holders
of preferred stock will be entitled to elect these additional directors.

     Redemption - The cumulative  convertible  preferred stock is redeemable for
cash,  in whole or in part,  at the option of the Company,  at $10.00 per share,
plus any accrued and unpaid dividends, whether or not declared.

     Optional  Conversion  - At any  time  after  the  initial  issuance  of the
cumulative  convertible preferred stock and prior to the redemption thereof, the
holders  of  cumulative  convertible  preferred  stock  shall  have  the  right,
exercisable  at their  option,  to convert any or all of such shares into common
stock at the rate of  conversion  described  below.  During  1996 no  shares  of
cumulative  convertible preferred stock were converted to common stock under the
original conversion terms and 4,500 shares of cumulative  convertible  preferred
stock were  converted to common stock during 1995 under the original  conversion
terms.

     Automatic  Conversion - If, at any time after the initial issuance thereof,
the last reported sales price of the cumulative  convertible  preferred stock as
reported  on the NASDAQ  System (or the  closing  sale price as  reported on any
national securities exchange on which the cumulative convertible preferred stock
is then listed),  shall,  for a period of 10  consecutive  trading days,  exceed
$13.00,  then, effective as of the closing of business on the tenth such trading
day, all shares of cumulative convertible preferred stock then outstanding shall
immediately  and  automatically  be  converted  into shares of common  stock and
warrants at the rate of conversion described below.

     Conversion  Rate - The  conversion  rate  for  the  cumulative  convertible
preferred  stock  (i.e.,  the  number of shares of common  stock into which each
share of cumulative convertible preferred stock is convertible) is determined by
dividing the conversion  price then in effect by $5.00.  The initial  conversion
price is  $10.00;  therefore,  the  cumulative  convertible  preferred  stock is
initially  convertible into common stock and Series A Warrants at the conversion
rate of two shares of common  stock and two Series A Warrants  for each share of
cumulative convertible preferred stock converted.

     Warrants - Each Series A Warrant issued in the initial public  offering and
in the conversion of the  cumulative  convertible  preferred  stock entitles the
holder  thereof to purchase one share of common stock at a price equal to $6.00,
until  five  years  from the  effective  date of the  initial  public  offering.
Outstanding Series A Warrants may be redeemed by the Company for $.25 each on 30
days notice.  As of December 31, 1996 and 1995,  there were  1,578,078  Series A
Warrants outstanding.

     Each Series B Warrant issued in the August 1996 public securities  offering
entitles the holder to purchase one share of Common Stock for $2.025  commencing
August 8, 1997,  and ending August 8, 2001.  Each Series B Warrant is redeemable
by the Company with the prior consent of the underwriter at a price of $0.01 per
Series B Warrant,  at any time after the Series B Warrants  become  exercisable,
upon not less than 30 days  notice,  if the last sale price of the Common  Stock
has been at least 200% of the then  exercise  price of the Series B Warrants for
the 20  consecutive  trading  days  ending on the third day prior to the date on
which the notice of redemption is given.

     The  Company  has also issued a common  stock  warrant to  purchase  25,000
shares of common stock at $4.00 per share in connection  with a loan  agreement.


                                       26
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATMENTS


This warrant  expires five (5) years from the  effective  date of the  Company's
initial public offering. The loan was paid in full in 1993.

     The Company and  Hi-Chicago  Trust agreed to a settlement  in December 1995
whereby the Company  issued 75,000  shares of common stock and a stock  purchase
warrant to purchase up to 300,000 shares of common stock at an exercise price of
$3.00 per share to settle a claim asserted by Hi-Chicago  Trust.  The warrant is
exercisable  through the earlier of 60 months from the settlement  date or for a
period of 30 days after the closing bid price of the  Company's  stock equals or
exceeds $6.00 per share for sixty  consecutive  trading days.  The issued shares
are unregistered.

     In 1996,  the Company issued to a bank  providing  financing,  a warrant to
purchase  up to  250,000  shares  of common  stock  for a period  of five  years
beginning  January 3, 1996, at an exercise  price of the highest  average of the
daily  closing  bid prices for thirty  (30)  consecutive  trading  days  between
January 1, 1996,  and June 30, 1996.  The Company has recorded the warrants at a
value of  approximately  $82,500 as unamortized  value of warrants  issued.  The
warrants  are being  amortized  using the  interest  method with an  unamortized
balance of $54,325 at December 31, 1996.

     The Company has also  issued a warrant to  purchase  250,000  shares of the
Company's  common stock at $2.00 per share to a financial  advisor.  The warrant
has  a  five  year  term  commencing  on  January  12,  1996  and  provides  for
anti-dilution  protection,  registration rights, and permits partial exercise at
the election of the holder by  exchanging  the warrants with  appreciated  value
equal to each  exercise  price  in lieu of cash.  If  additional  funds  are not
borrowed from the bank, a portion of the warrants will be returned.  The Company
has recorded the warrants which are not subject to return at their fair value of
approximately  $33,000.  The  warrants  subject to return will be recorded  when
additional funds are borrowed.

     Stock Incentive  Option Plan - 1996 - The 1996 stock incentive  option plan
was approved by the Company's  stockholders in June, 1996, and 350,000 shares of
common stock were reserved for issuance thereunder.

     Each  option  grants the holder the right to  purchase  one share of Common
Stock at the  exercise  price  which will be at least  equal to the fair  market
value of the  Common  Stock on the date of  grant.  Any  terminated  or  expired
options will be available for future grant.

     The Board shall  determine and designate from time to time the employees of
the  Company  to  whom  options  are  to  be  granted  and  who  thereby  become
participants  in the Plan.  Options  granted to officers and other key employees
are vested over a three year period with one-third of the option  exercisable on
or after each of the three succeeding  anniversary  dates of the granting of the
option.  The options are  exercisable for a period of ten years from the date of
the grant.  The Board may at its  discretion  set forth such other  vesting  and
exercise  periods  as it may from time to time  establish.  Options  granted  to
directors who are not full-time employees are determined  initially by the Board
and  automatically  granted  annually.  The  directors  who were  not  full-time
employees were granted an aggregate of 12,000 options in 1996.

     Initially  three officers were granted options under the plan to purchase a
total of 305,000  shares of common  stock and one key  employee  was granted the
option under the plan to purchase a total of 20,000 shares of common stock.  The
exercise  price is $1.47 for all options  except for 120,000  options  that were
granted to one officer  whose  option price is 110% plus $.01 of said $1.47 fair
market value.

     During 1996, 20,000 options expired three months after an employee left the
company.  On May 15, 1996,  the Board of Directors  granted 25,000 options to an
officer at an exercise  price of $2.125  which  equaled the fair market value of
the Common Stock on the date of grant.

     Management  Incentive  Stock Plan - The plan  provides  for the granting of
Units to officers  and other key  employees  and for the  automatic  granting of
Units to directors who are not full-time employees. Each Unit consists of (1) an
option to purchase one share of common  stock at the exercise  price (as defined


                                       27
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


below) and (2) a cash payment ("Stock  Appreciation  Right" or "SAR") to be made
by the Company  when the option is  exercised.  Said SAR shall be equal to twice
the amount by which the fair  market  value of the  common  stock on the date of
exercise of the option exceeds the exercise price.  The exercise price for Units
issued  prior to the  effective  date of the initial  public  offering of common
stock of the Company was the average bid price per share of common stock for the
thirty day period  immediately  following the effective date (November 12, 1993)
of said initial public  offering  which was $3.10.  The exercise price for Units
granted  following the effective date of the initial public offering will be the
fair  market  value of the common  stock on the grant  date.  Payment for shares
purchased may be made, at the option of the  purchaser,  in cash or in shares of
common stock (valued at their then fair market  value).  The "fair market value"
of common  stock will be defined by the plan by reference to the market price of
the common stock.

     The  total  number  of  Units  which  may be  granted  under  the  plan was
originally  240,000 Units.  During 1996 the Board of Directors  canceled 120,000
Units  available for grant under the plan.  Units not granted in any year may be
granted in any future year. The number is subject to adjustment to reflect stock
splits,  stock  dividends,  recapitalization  and other  corporate  events which
affect  outstanding shares of common stock. If any such event occurs while Units
are outstanding under the plan,  similar  adjustments will be made in the number
of shares and the exercise price per share covered by such options.  The options
expire ten years from date of grant if not exercised.

     Remaining  Units  outstanding at December 31, 1996 from prior years' grants
are as follows:

Grant Date           Outstanding Units     Exercise Price
-----------------    -----------------     --------------
September 2, 1993          86,000                $3.10
January 20, 1994           18,000                $3.50
April 22, 1994             4,000                 $2.09
June 6, 1995               4,000                 $2.00

     All options originally issued were vested as of January 31, 1996. All Units
issued  subsequent  to the  initial  grant  shall be  exercisable  on the  three
succeeding  anniversaries of their grant dates. All outstanding  Units will also
become  exercisable  during a limited  period prior to the  consummation  of any
merger  of the  Company  (if it is not  the  surviving  corporation),  a sale of
substantially  all of the Company's  assets or dissolution  of the Company,  but
will terminate on the  consummation of any such  transaction.  In addition,  all
Units will  become  exercisable  if any  party,  together  with its  affiliates,
acquires  ownership  or control of the  majority  of the  outstanding  shares of
common stock of the Company.

     All Units granted to outside  directors are  exercisable one year after the
date of the grant. Except for outside directors,  a holder of Units will forfeit
all unexercised Units if, prior to exercise,  he or she ceases to be an employee
of the  Company  for any  reasons  except  death,  retirement  (including  early
retirement)  or  disability.  If employment  terminates  because of any of these
reasons, Units may be exercised during limited periods thereafter.

     Incentive  Stock Option Plan - The incentive stock option plan was approved
by the Company's stockholders on September 2, 1993, and 180,000 shares of common
stock are reserved for issuance thereunder.  Options granted under the plan must
be equal to or greater than the fair market value of common stock on the date of
grant, and are exercisable during the period beginning one year from the date of
grant and expiring nine years from the date of grant.  On February 2, 1993,  the
Board of Directors of the Company granted one employee the option under the plan
to purchase  180,000 shares of common stock.  The rights to purchase  156,000 of
said shares have vested,  and the remaining 24,000 shares will vest in 1997. The
exercise price of this option is $1.679.


                                       28
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


     The plan  allowed for the  granting  of options to  officers  and other key
employees  and for the  automatic  granting of options to directors  who are not
full-time  employees.  Each  option  in the new plan  consists  of an  option to
purchase one share of common stock at an exercise  price equal to the last trade
on the day preceding the date the grant was authorized. Units not granted in any
year may be granted in any future  year.  The option  expires ten years from the
date of grant if not  exercised.  All  options  except  those  issued to outside
directors will be exercisable  equally on the three succeeding  anniversaries of
their grant date. Options issued to outside directors will be exercisable twelve
months after the date of grant.

     The following  table  summarizes  activity under the Company's stock option
plans for the years ended December 31, 1996 and 1995.

<TABLE>
<CAPTION>
                                     Incentive               Management           Stock Incentive
                                 Stock Option Plan      Incentive Stock Plan     Option Plan - 1996
                                 -----------------    ------------------------   ------------------
                                  1996      1995          1996         1995             1996
                                 -------   -------    ----------    ----------       -----------
<S>                              <C>       <C>        <C>           <C>              <C>
Shares available for grant       180,000   180,000       120,000       240,000           350,000
Shares under option at end
 of period                       180,000   180,000       112,000       120,000           342,000
Option price per share            $1.679    $1.679    $2.00-3.50    $2.00-3.50       $1.47-2.125
Shares exercisable at end
 of period                       156,000   132,000       102,000        72,667                 -

Shares exercised during
 the period                            -         -             -             -                 -
Shares canceled                        -         -       120,000             -                 -
Weighted average option price     $1.679         -         $3.09             -            $1.569

</TABLE>

     Stock Option Plans - The Company has three fixed option plans which reserve
shares of common stock for issuance to executives,  key employees and directors.
The Company has adopted the disclosure-only provisions of Statement of Financial
Accounting  Standards  No.  123,  "Accounting  for  Stock-Based   Compensation".
Accordingly,  no  compensation  cost has been  recognized  for the stock  option
plans.  Had  compensation  cost for the Company's  three stock option plans been
determined  based on fair  value at the grant  date for  awards in 1996 and 1995
consistent  with  the  provisions  of SFAS  No.  123,  the  Company's  net  loss
applicable to common  stockholders and net loss per common and common equivalent
share would have been the pro forma amounts indicated below:

                                            1996                     1995
                                        -------------           ------------
Net loss applicable to common
 stockholders - as reported             $  (5,128,172)          $ (4,174,330)
                                        =============           ============
Net loss applicable to common
 stockholders - pro forma               $  (5,296,335)          $ (4,176,704)
                                        =============           ============
Net loss per common and common
 equivalent share - as reported         $       (0.72)          $      (1.05)
                                        =============           ============
Net loss per common and common
 equivalent share - pro forma           $       (0.74)          $      (1.05)
                                        =============           ============

     The fair value of each option grant is estimated on the date of grant using
the  Black-Scholes  option-pricing  model  with the  following  weighted-average
assumptions:  no dividends;  expected volatility of 60%; risk-free interest rate
of 5.84% and 5.36% in 1996 and 1995,  respectively;  and expected  lives of five
(5) years.

         Redeemable Preferred Stock of a Subsidiary - In 1991, Frontier, Inc., a


                                       29
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

subsidiary of the Company,  issued 563,700 shares of redeemable  preferred stock
through private  placements.  During 1995 and 1994, the Company redeemed 142,200
and 421,500 shares for a price of $99,540 and $290,217, respectively.

3.   SALE OF GAS AND OIL ASSETS AND SEISMIC DATA:

     On June 7, 1995, the Company entered into an agreement to jointly explore a
33 square mile area in Garvin County,  Oklahoma.  Pursuant to the agreement, the
Company  sold a 50%  ownership  interest  in its  3-D  seismic  data  which  had
previously been expensed under the successful efforts method of accounting.  The
Company  recognized  revenue of approximately  $589,000  relating to the sale of
this seismic data.

     On September 27, 1996, the Company sold its N.E. Cedardale field located in
Major County,  Oklahoma to OXY USA Inc., for consideration  totaling  $3,550,000
which included cash of $2,840,000  and certain  exchange  properties  which were
concurrently  sold to a  third  party  for  $710,000.  The  sale  was  effective
September  1, 1996 and the Company  incurred a loss of $10,523.  The  properties
sold represent a substantial portion of the Company's production.  In connection
with the sale,  the  Company  recorded  a loss of  $212,000  resulting  from the
reduction  in the quantity of gas covered by a swap  agreement.  In addition the
Company sold other  properties in 11 and 18 different  transactions  during 1996
and 1995,  respectively.  These  transactions  resulted in an aggregate  gain of
approximately $272,000 and $722,000 for 1996 and 1995, respectively.

4.   GAS SALE AGREEMENT:

     Effective  December 1, 1991, the Company  entered into a Gas Sale Agreement
to deliver gas to an end-user over a specified period of time in the future.

     The  Company  was  committed  to  deliver  7,100,000  MMBTU  of  gas to the
purchaser over a period of seven years  beginning  December 1, 1991. The Company
was allowed to deliver gas to satisfy the  commitment  from its own  reserves or
from purchasing gas on the open market.  The Company  delivered 44% and 37% from
purchases  on the open  market for the years ended  December  31, 1996 and 1995,
respectively as follows:

                                                For Year Ended December 31,
                                              ------------------------------
                                              1996 (MMBTU)      1995 (MMBTU)
                                              ------------      ------------
Gas purchased on open market                      43,783           413,434
Gas delivered from Company reserves               55,417           715,166
                                                  ------         ---------
Total deliveries                                  99,200         1,128,600
                                                  ======         =========

     The purchase price under the contract was fixed at $1.50 per MMBTU over the
life of the contract.  The contract  required the prepayment by the purchaser of
$0.75 per MMBTU for the remaining contract obligations.

     On January 5, 1996, the Company entered into an agreement with the end user
to terminate  the Gas Sales  Agreement as of January 31, 1996.  The Company paid
the end user  $2,181,489  which  represents  a return  of its  $.75  advance  on
2,490,103 MMBTU of gas plus a settlement payment of $313,912.


                                       30
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

5.   LONG-TERM DEBT:

Long-term debt consists of the following:                  December 31,
                                                      ----------------------
                                                         1996           1995
                                                      ----------      -------
Note payable pursuant to a credit agreement
 with a bank of $493,888, interest at LIBOR
 rate  (reserve  adjusted),  plus one and 
 seven-eighths  percent  (1.875%) (7.25% at
 December 31, 1996),  payable in monthly  
 installments,  due in various monthly amounts
 through December, 1998,  collateralized by
 producing oil and gas properties; net
 of discount of $37,931                               $  455,956      $      -

Non-recourse loan, payable out of an 8% ORRI
 on the Starboard Prospect, interest imputed
 at 15%                                                  681,618             -

Note  payable to bank,  interest  at a New York
 prime plus 1% (9.75% at December 31, 1995),
 principal due August 1, 1996                                  -       180,554

Note  payable  to  bank,  interest  at  7.49%
 to  12.5%,   payable  in  monthly installments,
 due in various  amounts  through  2001, 
 collateralized  by other property and equipment          73,978        97,019

Note payable, interest at 12%, payable monthly,
 principal due December 31, 1997                         100,000       100,000
                                                      ----------      --------
                                                       1,311,552       377,573
Less current portion                                     304,540       227,302
                                                      ----------      --------
                                                      $1,007,012      $150,271
                                                      ==========      ========

     Maturities  of  the  non-current   portion  of  long-term  debt  (excluding
non-recourse debt) are as follows:

Year                     At December 31,
                             1996
-----                    ---------------
1998                       $301,807
1999                       $ 17,093
2000                       $  6,494
2001                       $      0

     On January 3, 1996, the Company entered into a $15,000,000 credit agreement
with a bank.  The  agreement  provided for the  immediate  funding of $4,000,000
which was used to terminate  the Gas Sales  Agreement and repay the deferred gas
revenues  incurred under the Gas Sales  Agreement,  payoff the note payable to a
bank due August 1, 1996,  pay the bank fees  related to the  financing  with the
remainder  being used to pay current  liabilities.  The remaining  funds will be
available  for  specified  future  drilling and  acquisition  activities  of the
Company  subject to the approval of the bank.  The Company  repaid a substantial
portion of this  borrowing  with  proceeds  from the sale of its N.E.  Cedardale
properties in September of 1996. Due to this early repayment of borrowings,  the
Company reduced debt issuance costs by $293,000 and discount on notes payable by
$207,000 and recorded these amounts as interest expense.  The loan is secured by
a mortgage on all of the Company's significant producing properties.  As part of
the  credit  agreement,   the  Company  is  subject  to  certain  covenants  and
restrictions, among which are the limitations on additional borrowing, and sales
of significant  properties,  working  capital,  cash, and net worth  maintenance
requirements and a minimum debt to net worth ratio. As additional  consideration
for the loan, the Company  assigned the bank an overriding  royalty  interest in
the mortgaged properties. The required covenants during 1997 are as follows:


                                       31
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Covenant, as defined
--------------------
Tangible Net Worth         $5,000,000
Current Ratio               1.1 : 1.0
Debt to Capitalization      0.6 : 1.0
Cash Flow Ratio             3.0 : 1.0
Cash on Hand               $  200,000
Working Capital            $  400,000

     The  Company  does not believe it will be able to comply with the cash flow
covenant during 1997. The Company has obtained a waiver of the covenant  through
March 31, 1997.  Management believes that the Company will require an additional
waiver or waivers during 1997.

     In  addition,   the  Company  has  entered  into  an  interest   rate  swap
guaranteeing  a fixed  interest rate of 8.28% on the loan,  and the Company will
pay fees of  one-eighth  of 1% (.8%) on the  unused  portion  of the  commitment
amount.  The unrealized  loss on the interest rate swap agreement was $28,000 at
December 31, 1996.

     On March 12, 1996, the Company  completed a financial  package with a group
funded by a public  utility to  evaluate  and  develop a project  in  Terrebonne
Parish, Louisiana. This group will participate in 48% of all costs of evaluation
and development of the project area and provide a non-recourse  loan to fund the
Company's  48%  share  of the  leasehold  and  seismic  evaluation  costs of the
project.  The loan is secured by a mortgage  on the  Company's  interest  in the
project.   During  1996,  the  Company  received  a  $240,000  prospect  fee,  a
reimbursement  of cost of $255,000  and an advance on the  non-recourse  loan of
$681,618.  The non-recourse  loan will be paid solely by the assignment on an 8%
overriding  royalty  interest in the future  revenues of the  financed  project.
Future funding will be provided as costs are incurred.

6.   INCOME TAXES:

     Deferred tax assets and liabilities are as follows:

                                                        At December 31,
                                              ---------------------------------
                                                     1996              1995
                                              -------------        ------------
Net operating tax loss carryforward           $  3,494,442         $ 1,589,676
Property and equipment                          (1,942,813)         (1,010,789)
Employee Benefits                                   76,032             (66,500)
Valuation Allowance                             (1,627,661)           (645,387)
                                              ------------         -----------
      Net deferred tax asset (liability)      $          -         $         -
                                              ============         ===========

     The Company has recorded a deferred tax valuation allowance since, based on
an  assessment of all available  historic  evidence,  it is more likely than not
that future  taxable  income will not be  sufficient to realize the tax benefit.
The Company and its subsidiaries have estimated net operating loss carryforwards
("NOLs")at  December 31, 1996, of approximately  $7,280,000 which may be used to
offset future taxable income. The operating loss carryforwards expire in the tax
years 2006 through 2011.

     The ability of the Company to utilize NOLs and tax credit  carryforwards to
reduce  future  federal  income  taxes of the  Company may be subject to various
limitations  under the Internal  Revenue Code of 1986,  as amended (the "Code").
One such  limitation  is contained  in Section 382 of the Code which  imposes an
annual  limitation on the amount of a  corporation's  taxable income that can be
offset by those  carryforwards in the event of a substantial change in ownership

                                       32
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


as defined in Section 382 ("Ownership  Change").  In general,  Ownership  Change
occurs  if  during  a  specified  three-year  period  there  are  capital  stock
transactions  which  result  in an  aggregate  change  of more  than  50% in the
beneficial  ownership of the stock of the Company. The Company may have incurred
such an Ownership Change.

7.   RELATED PARTY TRANSACTIONS:

     The Company made advances to officers and  affiliates of the Company during
1996 and 1995 of $51,143 and $14,234,  respectively,  and received repayments of
$18,741 and $30,282,  respectively.  The December 31, 1996 and 1995  receivables
include  approximately  $48,000 and $138,000,  respectively,  from an affiliated
partnership for which the Company serves as the managing general partner. During
1996, as a result of the Company's  relocation,  the Company purchased the homes
of two officers for a total aggregate cost of approximately $369,000. The houses
were  subsequently  sold for a total  aggregate  sales  price  of  approximately
$354,000 and the net amount realized by the Company was approximately $324,000.

8.   COMMITMENTS AND CONTINGENCIES:

     The Company leases office space under lease agreements which are classified
as operating  leases.  Lease expense under these agreements was $106,440 in 1996
and   $106,656  in  1995.  A  summary  of  future   minimum   rentals  on  these
non-cancelable operating leases is as follows:


Year             At December 31,
                     1996
-----            ---------------
1997              $ 111,120
1998              $ 111,120
1999              $ 111,120
2000              $ 111,120
2001              $  74,080

     The Company has entered into employment  agreements with certain employees.
Two of these agreements  expire December 31, 1999 (and  automatically  renew for
additional  one-year  terms each December 31 unless  specifically  terminated by
either the Company or employee).  The  agreements  provide for salaries for each
person and in addition,  each of said two employees shall be entitled to receive
deferred  compensation,  provided the employee remains employed with the Company
until  expiration  of the initial term of his agreement and that he has not been
terminated for cause thereunder.  Such deferred  compensation shall be an annual
payment  equal to the  product of $9,000  multiplied  by the number of years the
employee is employed by the Company  commencing July 1, 1993 (up to a maximum of
ten years, and payments commence the year the Employee reaches age 65 or retires
from the Company,  whichever is later).  Deferred  payments  shall be paid for a
maximum  of 15 years  thereafter.  The  liability  for these  payments  is being
accrued over a ten year period commencing July 1, 1993.

     The Company also has employment  agreements with two other employees.  Both
agreements  expire on December 31, 1997 and  automatically  renew for successive
one-year  terms unless  terminated  by either the Company or the  employee.  The
agreements provide for salaries as well as certain incentive  compensation.  All
agreements  contain  provisions  prohibiting  the disclosure to third parties of
proprietary information relating to the Company.

     The  Company has entered  into an  agreement  with a director to serve as a
consultant to the Company. The consulting agreement provides for the director to
furnish exploration and production  oversight services on the Company's existing
properties and prospects in the Mid-Continent  Area and prospect  generation and
evaluation  services on the Company's  existing 3-D seismic data over acreage in
the Mid-Continent  Area, for a period of 23 months commencing on May 1, 1996 for
a monthly compensation of $10,000. This consulting agreement was entered into in


                                       33
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


settlement of a previously existing  employment  agreement which would have been
more costly to the Company and for a longer period of time.

     The  Company is party to a lawsuit  filed on June 14,  1994 in the  Circuit
Court of Mobile,  Alabama.  This lawsuit was brought by Frontier Exploration and
Production Corporation ("Frontier") a subsidiary of the Company, as plaintiff to
quiet title to leases it owns in the Mobile Bay area in Mobile County,  Alabama.
The  original  defendant,  The  Offshore  Group,  Inc.  ("TOG"),  filed  various
counterclaims  pursuant  to which,  inter  alia,  it (i)  claimed  an  ownership
interest  in the Mobile Bay area wells  drilled by the  Company  and (ii) sought
recovery of substantial damages it claimed to have sustained due to, among other
stated reasons, delays in drilling allegedly caused by the Company. The well for
which TOG alleged it sustained  damages was a dry hole.  TOG has  dismissed  its
claims in this regard with  prejudice.  The  Company  has been  awarded  summary
judgment as to all remaining counterclaims of TOG with respect to the Mobile Bay
area  wells,  and the Company  has sued TOG and  certain of its  principals  for
fraudulently  asserting such claims.  On June 6, 1996, the summary  judgment was
appealed. The Company does not believe TOG's appeal will succeed.

     The Company is party to various other lawsuits arising in the normal course
of business. Management believes that the ultimate outcome of these matters will
not have a material effect on the Company's  consolidated  financial position or
results of operations.

     Pursuant to the credit  agreement with the bank, the Company entered into a
natural gas swap  agreement  on 62,500  MMBTU of natural gas per month at $1.566
per  MMBTU for  Mid-Continent  gas for the  period  from  April 1, 1996  through
January 31, 1999.  The swap was amended to 31,250  MMBTU on September  25, 1996,
due to the sale of the N.E.  Cedardale  field.  The  Company  recorded a loss of
$212,000 in connection  with this  reduction in  quantities  covered by the swap
agreement.  The  unrealized  loss on the amended swap  agreement was $312,000 at
December  31, 1996.  The Company  also  entered  into  another  natural gas swap
agreement on 45,000 MMBTU of natural gas per month at $2.03 per MMBTU for Mobile
Bay gas which expired on December 24, 1996.

9.   SUPPLEMENTAL GAS AND OIL INFORMATION (Unaudited):

     The Company's proved gas and oil reserves are located in the United States.
Proved  reserves are those  quantities of natural gas and crude oil which,  upon
analysis  of  geological  and  engineering  data,  demonstrate  with  reasonable
certainty  to be  recoverable  in the future from known gas and oil  reservoirs.
Proved  developed  (producing  and  non-producing)  reserves  are  those  proved
reserves  which can be  expected to be  recovered  through  existing  wells with
existing  equipment  and  operating  methods.  Proved  undeveloped  gas  and oil
reserves are proved reserves that are expected to be recovered from new wells on
undrilled  acreage,  or from existing wells where a relatively major expenditure
is required for recompletion.

     Financial Data

     The Company's gas and oil producing activities represent  substantially all
of the business activities of the Company.  The following costs include all such
costs incurred during each period,  except for  depreciation and amortization of
costs  capitalized:  


                                       34
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

COSTS INCURRED IN GAS AND OIL EXPLORATION AND PRODUCTION ACTIVITIES:

                                                       Years ended December 31,
                                                       ------------------------
                                                          1996           1995
                                                       ----------   -----------
Acquisition of properties
  Proved                                               $1,305,219   $    33,586
  Unproved                                                644,323       908,812
Exploration costs                                         182,147     1,601,664
Development costs                                         313,152       944,321
                                                       ----------   -----------
       Total costs incurred                            $2,444,841   $ 3,488,383
                                                       ==========   ===========

CAPITALIZED COSTS:                                          At December 31,
                                                       ------------------------
                                                          1996          1995
                                                       ----------    ----------
Proved and unproved properties being amortized         $4,681,518    $9,641,369
Unproved properties not being amortized                   598,596     1,468,308
Less accumulated amortization                          (2,277,984)   (2,399,465)
                                                       ----------    ----------
            Net capitalized costs                      $3,002,130    $8,710,212
                                                       ==========    ==========

Costs incurred include $1,061,000 of amounts in accounts payable at December 31,
1995.

ESTIMATED QUANTITIES OF PROVED GAS AND OIL RESERVES:

     The estimates of proved  producing  reserves were  estimated by independent
petroleum engineers,  Hofmann & Associates  Engineering and Atwater Consultants,
Inc.  Proved  reserves  cannot be measured  exactly  because the  estimation  of
reserves involves numerous judgmental and arbitrary determinations. Accordingly,
reserve  estimates  must be continually  revised as a result of new  information
obtained  from  drilling  and  production  history  or as a result of changes in
economic conditions.
<TABLE>
<CAPTION>
                                                                 Crude Oil, condensate and
                                          Natural gas (Mcf)    natural gas liquids (barrels)
                                     Years ended December 31,    Years ended December 31,
                                     ------------------------    -------------------------
                                        1996            1995          1996       1995
                                    -----------     ----------     --------     --------
<S>                                 <C>              <C>            <C>         <C>  
Proved developed and
 undeveloped reserves:
  Beginning of period                18,564,141       9,885,882      279,501     359,604
  Purchases of minerals-in-place      2,615,187      10,518,110       84,096     119,719
  Sales of minerals-in-place        (10,092,754)       (866,892)    (187,006    (174,165)
  Revisions of previous estimates      (791,059)     (1,474,440)       8,534      (2,412)
  Extensions, discoveries and
   other additions                       12,056       1,648,177        7,886           -
  Production                         (1,406,016)     (1,146,696)      (9,276)    (23,244)
                                    -----------      ----------      -------     -------
  End of period                       8,901,555      18,564,141      183,735     279,501
                                    ===========      ==========      =======     =======
Proved developed reserves:
  Beginning  of period                7,307,717       7,792,814       72,515     254,107
                                    ===========      ==========      =======     =======

  End of period                         985,524       7,307,717       46,420      72,515
                                    ===========      ==========      =======     =======
</TABLE>


                                       35
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

     Reserves of wells which have  performance  history were  estimated  through
analysis of production trends and other appropriate  performance  relationships.
Where production and reservoir data were limited, the volumetric method was used
and it is more susceptible to subsequent revisions.

STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS:

     The  standardized  measure of discounted  future net cash flows is based on
criteria  established by Financial  Accounting Standards Board Statement No. 69,
"Accounting  for Oil and Gas Producing  Activities"  and is not intended to be a
"best estimate" of the fair value of the Company's oil and gas  properties.  For
this to be the case, forecasts of future economic conditions,  varying price and
cost estimates,  varying  discount rates and  consideration of other than proved
reserves  (i.e.,  probable  reserves)  would  have to be  incorporated  into the
valuations.

     Future  net cash  inflows  are  based on the  future  production  of proved
reserves  of natural  gas,  natural gas  liquids,  crude oil and  condensate  as
estimated by petroleum engineers by applying current prices of gas and oil (with
consideration  of price  changes only to the extent fixed and  determinable  and
with  consideration of the timing of gas sales under existing  contracts or spot
market sales) to estimated future production of proved reserves.  Average prices
used in determining  future cash inflows for natural gas and oil for the periods
ended December 31, 1996 and 1995 were as follows: 1996 - $ 4.13 per MCF - Gas, $
24.42 per  barrel - Oil;  1995 - $1.83 per MCF - Gas,  $18.28  per barrel - Oil,
respectively.  Future  net cash  flows  are then  calculated  by  reducing  such
estimated cash inflows by the estimated  future  expenditures  (based on current
costs) to be incurred in developing and producing the proved reserves and by the
estimated  future  income taxes.  Estimated  future income taxes are computed by
applying the  appropriate  year-end tax rate to the future pretax net cash flows
relating to the Company's  estimated proved oil and gas reserves.  The estimated
future  income  taxes give effect to permanent  differences  and tax credits and
allowances.

     The following table sets forth the Company's estimated standardized measure
of discounted future net cash flows:

                                                    Year ended December 31,
                                                 -----------------------------
                                                     1996              1995
                                                 -----------      ------------

Future cash inflows                              $41,251,837      $ 45,403,797
Future development and production costs           (8,288,416)      (14,138,352)
                                                 -----------      ------------
Future net cash flows before income taxes         32,963,421        31,265,445

Discount of future net cash flows at 10%          11,267,101        11,215,719
                                                 -----------      ------------
Discounted future net cash flows before
 income taxes                                     21,696,320        20,049,726

Future income taxes, net of discount at 10%        4,937,776         3,645,106
                                                 -----------      ------------
Standardized measure of discounted future
          net cash flows                         $16,758,544      $ 16,404,620
                                                 ===========      ============


                                       36
<PAGE>
                        FRONTIER NATURAL GAS CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


     The  following  table sets forth  changes  in the  standardized  measure of
discounted future net cash flows:

                                                 Year ended December 31,
                                              ------------------------------
                                                  1996              1995
                                              ------------      ------------

Standardized measure of discounted
 future cash flows - beginning of period      $ 16,404,620      $ 9,015,439
Net changes in sales prices and
 production costs                                7,177,867         (352,359)
Sales of oil and gas produced, net of
 operating expenses                             (1,977,577)        (976,107)
Purchases of minerals-in-place                   7,787,886       11,580,164
Sales of minerals-in-place                     (11,270,558)      (2,254,822)
Revisions of previous quantity estimates        (1,940,104)      (1,461,688)
Extensions, discoveries and improved
 recovery, less related costs                      187,877        2,034,255
Previously estimated development costs 
 incurred during the year                          115,440                -
Change in future development costs                 (17,400)         (56,220)
Accretion of discount                            2,004,973        1,050,983
Net change of income taxes                      (1,292,670)      (2,150,712)
Other                                             (421,810)         (24,313)
                                              ------------      -----------
Standardized measure of discounted future
 cash flows - end of period                   $ 16,758,544      $16,404,620
                                              ============      ===========


                                       37
<PAGE>
ITEM 8.  CHANGES  IN  AND  DISAGREEMENTS  WITH  ACCOUNTANTS  ON  ACCOUNTING  AND
         FINANCIAL DISCLOSURE

     Not Applicable.

                                    PART III

ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE
         WITH SECTION 16(a) OF THE EXCHANGE ACT

     The information  required by this item is hereby partially  incorporated by
reference  to the  Company's  proxy  statement  which  will be  filed  with  the
Commission  within one hundred twenty (120) days of the close of the fiscal year
pursuant to regulation 14A. The balance of the information is as follows:

     The following person is a key employee:

     Michael A. Barnes, Vice President of Exploration and Production, joined the
Company on May 15, 1996.  From March 1991 until his employment with the Company,
Mr.  Barnes  served  as  Exploration  Manager - Gulf  Coast  for  Great  Western
Resources, Inc. Prior to that Mr. Barnes worked for Sandefer Oil & Gas, Inc. for
ten years where he served as Vice President of Exploration and Vice President of
Exploitation.  Mr.  Barnes has 30 years  experience  in the gas and oil industry
with emphasis in the Gulf Coast  region.  Mr. Barnes holds a Bachelor of Science
degree in Geology from the University of Texas.

ITEM 10. EXECUTIVE COMPENSATION

     The information  required by this item is hereby  incorporated by reference
to the Company's proxy statement, which will be filed with the Commission within
one  hundred  twenty  (120) days of the close of the  fiscal  year  pursuant  to
regulation 14A.

ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

     The information  required by this item is hereby  incorporated by reference
to the Company's proxy statement, which will be filed with the Commission within
one  hundred  twenty  (120) days of the close of the  fiscal  year  pursuant  to
regulation 14A.

ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

     The information  required by this item is hereby  incorporated by reference
to the Company's proxy statement, which will be filed with the Commission within
one  hundred  twenty  (120) days of the close of the  fiscal  year  pursuant  to
regulation 14A.

                                     PART IV

ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K


Exhibit                               Name of Exhibit
-------  -----------------------------------------------------------------------
3(a)     Certificate of  Incorporation  of the Company as currently in effect is
         incorporated  by  reference  to the  Company's  Registration  Statement
         33-69640-FW  dated  September 29, 1993 wherein same appeared as Exhibit
         3.1.

3(b)     By-Laws  of the  Company  as  currently  in effect is  incorporated  by
         reference to the Company's  Registration  Statement  33-69640-FW  dated
         September 29, 1993 wherein the same appeared as Exhibit 3.2.


                                       38
<PAGE>
4        See Articles V, and VI, of the Company's  Certificate of  Incorporation
         and Article V of the Company's By-Laws as provided at Exhibits 3(a) and
         3(b) above,  and see also the Company's  Certificate of Designations of
         Convertible   Preferred   Stock  as   currently   in  effect  which  is
         incorporated  by  reference  to the  Company's  Registration  Statement
         number  33-69640-FW  dated September 29, 1993 wherein the same appeared
         as Exhibit 3.3.

10(a)    Employment  Agreement  by and between the Company and David W. Berry as
         currently  in effect is  incorporated  by  reference  to the  Company's
         Registration Statement 33-69640-FW dated September 29, 1993 wherein the
         same appeared as Exhibit 10.1.

10(b)    Employment   Agreement   by  and  between  the  Company  and  David  B.
         Christofferson  as currently in effect is  incorporated by reference to
         the Company's  Registration  Statement  33-69640-FW dated September 29,
         1993 wherein the same appeared as Exhibit 10.2.

10(c)    Employment  Agreement  by and between the Company and Jeffrey R. Orgill
         as currently in effect is  incorporated  by reference to the  Company's
         Registration Statement 33-69640-FW dated September 29, 1993 wherein the
         same appeared as Exhibit 10.3.

10(d)    Frontier  Natural Gas Corporation  Stock Incentive Plan as currently in
         effect is  incorporated  by  reference  to the  Company's  Registration
         Statement  33-69640-FW  dated  September  29,  1993  wherein  the  same
         appeared as Exhibit 10.4.

10(e)    Frontier  Natural  Gas  Corporation  Incentive  Stock  Option  Plan  as
         currently  in effect is  incorporated  by  reference  to the  Company's
         Registration Statement 33-69640-FW dated September 29, 1993 wherein the
         same appeared as Exhibit 10.5.

10(f)*   Consulting Agreement by and between the Company and Jeffrey R. Orgill
         dated May 1, 1996.

10(g)    Joint Venture Agreement between Polaris Energy Corporation and Frontier
         Natural Gas Corporation dated May 10, 1995 as amended December 12, 1995
         as currently in effect as  incorporated  by reference to the  Company's
         Annual  Report on Form  10-KSB for the fiscal year ended  December  31,
         1995 dated March 29, 1996 wherein the same appears as Exhibit 10(g).

10(h)    Engagement Agreement between Weisser, Johnson & Co. Capital Corporation
         and  Frontier  Natural  Gas  Corporation  dated May 10, 1995 as amended
         January 12, 1996 as currently in effect as incorporated by reference to
         the  Company's  Annual  Report on Form 10-KSB for the fiscal year ended
         December  31,  1995 dated March 29,  1996  wherein the same  appears as
         Exhibit 10(h).

10(i)    Common Stock  Purchase  Warrant with  Hi-Chicago  Trust as currently in
         effect as incorporated  by reference to the Company's  Annual Report on
         Form 10-KSB for the fiscal year ended December 31, 1995 dated March 29,
         1996 wherein the same appears as Exhibit 10(i).

10(j)    Maysville Project Agreement between Amoco Production Company and Aspect
         Resources   Limited   Liability   Company  and  Frontier   Natural  Gas
         Corporation  dated June 7, 1995 as currently in effect as  incorporated
         by  reference  to the  Company's  Annual  Report on Form 10-KSB for the
         fiscal year ended  December  31, 1995 dated March 29, 1996  wherein the
         same appears as Exhibit 10(j).

10(k)    Gulf Coast Seismic  "Bright Spot" Joint Venture dated September 8, 1995
         as currently in effect as  incorporated  by reference to the  Company's
         Annual  Report on Form  10-KSB for the fiscal year ended  December  31,
         1995 dated March 29, 1996 wherein the same appears as Exhibit 10(k).

10(l)    $15,000,000  Credit  Agreement  dated as of  January  3,  1996  between
         Frontier  Natural Gas  Corporation  as the borrower and Bank of America
         Illinois,  as the lender,  as currently in effect and  incorporated  by


                                       39
<PAGE>
         reference to the Company's  current report on Form 8-K dated January 9,
         1996.

10(m)*   $15,000,000  Credit  Agreement  dated as of  January  3,  1996  between
         Frontier  Natural Gas  Corporation  as the borrower and Bank of America
         Illinois,  as the lender,  Amendment No. 1 to Credit  Agreement,  dated
         November 1, 1996, as currently in effect.

10(n)    Gas Sales  Agreement dated December 31, 1991, by and among the Company,
         Centran   Corporation  and  Waldorf   Corporation  is  incorporated  by
         reference to the Company's  Registration  Statement  33-69640-FW  dated
         September 29, 1993 wherein the same appeared as Exhibit 10.14.

10(o)    Exchange Agreement between OXY USA Inc. and Frontier, Inc. and Frontier
         Acquisition Corporation entered into as of September 1, 1996, as 
         currently in effect and incorporated by reference to the Company's
         current report on Form 8-K dated September 27, 1996.

10(p)    Lease  Agreement  dated July 16,  1996,  by and between the Company and
         Allen Center  Company is  incorporated  by  reference to the  Company's
         registration  statement  333-06261 dated July 31, 1996 wherein the same
         appeared as Exhibit 10.23.

10(q)    Sale Agreement  between  Frontier  Acquisition  Corporation and Special
         Energy Corporation  entered into as of September 27, 1996, as currently
         in effect and incorporated by reference to the Company's current report
         on Form 8-K dated September 27, 1996.

10(r)    Loan Agreement by and between  Frontier Natural Gas Corporation and 420
         Energy Investments,  Inc. dated March 1, 1996 as currently in effect as
         incorporated by reference to the Company's Annual Report on Form 10-KSB
         for the fiscal  year ended  December  31,  1995  dated  March 29,  1996
         wherein the same appears as Exhibit 10(r).

10(s)    Warrant Agreement between Frontier Natural Gas Corporation and LaSalle 
         Street Natural Resources Corporation dated as of January 3, 1996 as
         currently in effect as incorporated by reference to the Company's 
         Annual Report on Form 10-KSB for the fiscal year ended December 31, 
         1995 dated March 29, 1996 wherein the same appears as Exhibit 10(s).

10(t)    Frontier Natural Gas Corporation Stock Incentive Plan 1996 as currently
         in effect as incorporated  by reference to the Company's  Annual Report
         on Form 10-KSB for the fiscal year ended  December 31, 1995 dated March
         29, 1996 wherein the same appears as Exhibit 10(t).

10(u)*   3-D Seismic Participation Agreement dated May 30, 1996 by and between
         Frontier Natural Gas Corporation and Fina Oil and Chemical Company.

11*      Statement re: computation of per share earnings.

21*      Subsidiaries of Registrant.

27*      Financial Data Schedule.

(b)      Reports on Form 8-K.
         None

------------------------
*  Filed herewith


                                       40
<PAGE>
                                   SIGNATURES

     Pursuant to the  requirements of Section 13, or 15(d) of the Securities and
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.

                                 FRONTIER  NATURAL  GAS  CORPORATION


March 31, 1997                   By: /s/  DAVID W. BERRY
                                    --------------------------------------------
                                    David W. Berry, Chairman of the
                                    Board of Directors; President


     Pursuant to the  requirements of Section 13, or 15(d) of the Securities and
Exchange Act of 1934,  the  registrant  has duly caused this report to be signed
below by the following persons on behalf of the registrant and in the capacities
and on the dates indicated.


March 31, 1997                      /s/  DAVID W. BERRY
                                    --------------------------------------------
                                    David W. Berry, Chief Executive Officer,
                                    (Principal Executive Officer) and Director


March 31, 1997                      /s/  DAVID B. CHRISTOFFERSON
                                    --------------------------------------------
                                    David B. Christofferson, Executive Vice
                                    President, General Counsel, Chief Financial
                                    Officer, (Principal Accounting and Financial
                                    Officer) and Director


March 31, 1997                      /s/  S. Gordon Reese, Jr.
                                    --------------------------------------------
                                    S. Gordon Reese, Jr., Senior Vice President
                                    - Gulf Coast Region and Director


March 31, 1997                      /s/  Jeffrey R. Orgill
                                    --------------------------------------------
                                    Jeffrey R. Orgill, Vice Chairman of the
                                    Board of Directors


March 31, 1997                      /s/  Allen H. Sweeney
                                    --------------------------------------------
                                    Allen H. Sweeney, Director


March 31, 1997                      /s/  Neal M. Elliott
                                    --------------------------------------------
                                    Neal M. Elliott, Director


                                       41