EXHIBIT
10.1


AMENDMENT NO. 5 AND AGREEMENT


This AMENDMENT NO. 5 AND AGREEMENT (“Agreement”) entered into and made
effective as of March 6, 2007 (“Effective Date”) is among Cano Petroleum, Inc.,
a Delaware corporation (“Borrower”), the Guarantors (as defined below), the
Lenders (as defined below), and Union Bank of California, N.A., as
administrative agent for such Lenders (in such capacity, the “Administrative
Agent”) and as issuing lender (in such capacity, the “Issuing Lender”).


RECITALS


A.            The Borrower is party to that
certain Credit Agreement dated as of November 29, 2005, as amended by the
Amendment No. 1 dated as of February 24, 2006, and as amended by the Amendment
No. 2, Assignment and Agreement dated as of April 28, 2006, Amendment No. 3
entered into on May 12, 2006 but made effective as of March 31, 2006, and
Amendment No. 4 dated as of June 30, 2006 (as so amended, the “Credit Agreement”)
among the Borrower, the lenders party thereto from time to time (the “Lenders”),
the Administrative Agent, and the Issuing Lender.


B.            The
Borrower, the Lenders and the Administrative Agent wish to, subject to the
terms and conditions of this Agreement make certain other amendments to the
Credit Agreement as provided herein.


THEREFORE, the Borrower, the Guarantors, the
Lenders, and the Administrative Agent hereby agree as follows:


Section 1.              Defined
Terms.  As used in
this Agreement, each of the terms defined in the opening paragraph and the
Recitals above shall have the meanings assigned to such terms therein.  Each term defined in the Credit Agreement and
used herein without definition shall have the meaning assigned to such term in
the Credit Agreement, unless expressly provided to the contrary.


Section 2.              Other
Definitional Provisions. Article, Section, Schedule, and
Exhibit references are to Articles and Sections of and Schedules and Exhibits
to this Agreement, unless otherwise specified. 
All references to instruments, documents, contracts, and agreements are
references to such instruments, documents, contracts, and agreements as the
same may be amended, supplemented, and otherwise modified from time to time,
unless otherwise specified.  The words “hereof”,
“herein”, and “hereunder” and words of similar import when used in this
Agreement shall refer to this Agreement as a whole and not to any particular
provision of this Agreement.  The term “including”
means “including, without limitation,”. 
Paragraph headings have been inserted in this Agreement as a matter of
convenience for reference only and it is agreed that such paragraph headings
are not a part of this Agreement and shall not be used in the interpretation of
any provision of this Agreement.













 


Section 3.              Amendments to Credit Agreement.


(a)           Section 1.01 of the Credit Agreement is
amended by replacing the definitions of “Maturity Date” and “Interest Expense”
in their entirety with the following corresponding terms:


“Maturity
Date” means November 29, 2009.


“Interest
Expense” means, for the Borrower and its consolidated Subsidiaries for any
period, total interest, letter of credit fees, and other fees and expenses
incurred in connection with any Debt for such period, whether paid or accrued,
including, without limitation, (i) all commissions, discounts and other fees
and charges owed with respect to letters of credit and bankers’ acceptance
financing, imputed interest under Capital Leases, and net costs under Interest
Hedge Agreements, all as determined in conformity with GAAP, and (ii) all
interests, dividends, distributions, or other payments made in respect of preferred
Equity Interests or Debt Issuances; but excluding (A) dividends payable solely
in Equity Interests of the Borrower made in respect of preferred Equity
Interests and (B) the expensing of deferred amortized costs pertaining to the
payment in full of the Subordinated Debt and pertaining to the Obligations.


(b)           Section 1.01 of the
Credit Agreement is further amended by deleting the phrase “but excluding the Barnett Shale
Properties” from the definition of “Material Adverse Change”.


(c)           Section 1.01 of the
Credit Agreement is further amended by deleting the phrase “(other than the
Barnett Shale Properties)” from the definition of “Borrowing Base”.


(d)           Section 1.01 of the
Credit Agreement is further amended by adding the following terms in
alphabetical order:


“Fire
Litigation” means those certain lawsuits and claims now pending or
hereafter filed against Borrower or any of its Subsidiaries related to or
arising from fires beginning on March 12, 2006 in the Texas panhandle.


(e)           Sections 2.02(c),
5.01, 5.06(d), 5.08 and 5.10 of the Credit Agreement are amended by deleting
the phrase “(other than the Barnett Shale Properties)”.


(f)            Section 5.02(b) of
the Credit Agreement is hereby amended by adding the following sentence to the
end thereof:


“Notwithstanding
the foregoing, the Borrower is not required to turn over to the Collateral
Trustee the casualty insurance proceeds received by the Borrower and its
Subsidiaries in connection with the fires beginning on March 12, 2006 in the
Texas Panhandle; provided that (i) the aggregate amount of insurance proceeds
the Borrower is permitted to retain pursuant to the preceding provision shall
not exceed $6,000,000, (ii) the Borrower shall deposit all such insurance
proceeds into a controlled deposit account with the Collateral Trustee, and
(iii) the Borrower shall use such proceeds to pay the attorneys’ fees,
settlement amounts and other litigation expenses incurred by the Borrower and
its Subsidiaries in defending or settling the Fire Litigation.



 2
 









(g)           Section 5.06(b) of
the Credit Agreement is hereby deleted in its entirety and replaced with the
following:


(b)          Quarterly Financials.  As soon as available and in any event not
later than 45 days after the end of each of the first three fiscal quarters of
each fiscal year of the Borrower and its consolidated Subsidiaries, commencing
with the fiscal quarter ending March 31, 2007, (i) to the extent not otherwise
provided in the Form 10-Q for such fiscal quarter end, the unaudited balance
sheet and the statements of income, cash flows, and retained earnings of each
such Person for the period commencing at the end of the previous year and
ending with the end of such fiscal quarter, all in reasonable detail and duly
certified with respect to such consolidated statements (subject to year-end
audit adjustments) by a Responsible Officer of the Borrower as having been
prepared in accordance with GAAP, (ii) the Form 10-Q filed with the SEC for
such fiscal quarter end, and (iii) a Compliance Certificate executed by the
Responsible Officer of the Borrower;


(h)           Section 5.06(c)(iv)
of the Credit Agreement is hereby is amended by deleting the reference to the “ monthly
cash flow budget for the twelve months” and replacing such reference with the
phrase “quarterly cash flow budget for the four quarters”.


(i)            Section 5.06(c) of
the Credit Agreement is amended by deleting the proviso contained therein.


(j)            Section 5.06(d) of
the Credit Agreement is deleted in its entirety and replaced with the
following:


(d)          Production and Hedging Reports.  As soon as available and in any event within
45 days after the end of each quarter, commencing with the quarter ending March
31, 2007, a report certified by a Responsible Officer of the Borrower in form
and substance satisfactory to the Administrative Agent prepared by the Borrower
(i) covering each of the Oil and Gas Properties of the Borrower and its
Subsidiaries (including the Barnett Shale Properties) and detailing on a
quarterly basis (A) the production, revenue, and price information and
associated operating expenses for each such quarter, (B) any changes to any
producing reservoir, production equipment, or producing well during each such
quarter, which changes could cause a Material Adverse Change, and (C) any sales
of the Borrower’s or any Subsidiaries’ Oil and Gas Properties during each such
quarter, (ii) setting forth a true and complete list of all Hedge Contracts of
the Borrower and its Subsidiaries and detailing the material terms thereof
(including the type, term, effective date, termination date and notional
amounts or volumes), the net mark to market value thereof, all credit support
agreements relating thereto (including any margin required or supplied), and
the counterparty to each such agreement, and (iii) certifying the Borrower’s
compliance with Section 5.12 hereof.



 3
 









(k)           Section 5.09 of the
Credit Agreement is hereby deleted in its entirety and replaced with the
following:


Section
5.09         Use of Proceeds.  The Borrower shall use the proceeds of the
Advances and Letters of Credit (a) to develop and acquire Oil and Gas
Properties, (b) for working capital purposes and (c) for general corporate
purposes; provided that the Borrower shall not use the proceeds of any Advance
for general corporate purposes or working capital purposes unless the use
thereof for such purposes would not cause the General Corporate Advance Amount,
after the application thereof, to exceed $10,000,000.  For the avoidance of doubt, in calculating
the General Corporate Advance Amount, development and acquisition of Oil and
Gas Properties shall not constitute general corporate or working capital
purposes.


(l)            Section 5.12 of the
Credit Agreement is hereby deleted in its entirety and replaced with the
following:


Section
5.12         Hedging Arrangements.  The Borrower shall maintain (a) each Hydrocarbon
Hedge Agreement that is in place as of the effective date of the Amendment No.
5 and Agreement which amends this Agreement until the stated maturity of such
Hydrocarbon Hedge Agreement and (b) 
Hydrocarbon Hedge Agreements covering no less than 50% and no more than
80% of the production volumes attributable to “proved, developed and producing”
Proven Reserves of the Borrower’s and its Subsidiaries’ Oil and Gas Properties
for a minimum period of at least three years as of the end of December 31, 2006
and as of the end of each six month period ending thereafter, and at a minimum
price floor as required by the Majority Lenders from time to time.


(m)          Section 6.04 of the
Credit Agreement is hereby deleted in its entirety and replaced with the
following:


Section
6.04         Merger or Consolidation;
Asset Sales.  The Borrower shall not,
nor shall it permit any of its Subsidiaries to (a) merge or consolidate with or
into any other Person without the prior consent of all of the Lenders; provided
that the Borrower or any Subsidiary may merge or may be consolidated into the
Borrower or any Guarantor if the Borrower or such Guarantor is the surviving
entity; or (b) sell, lease, transfer, assign, farm-out, convey, or otherwise
dispose of any of its Property (including, without limitation, any working
interest, overriding royalty interest, production payments, net profits
interest, royalty interest, or mineral fee interest) other than: (i) the sale
of Hydrocarbons in the ordinary course of business and (ii) the sale or transfer
of equipment that is (A) obsolete, worn out, depleted or uneconomic and
disposed of in the ordinary course of business, (B) no longer necessary for the
business of such Person or (C) contemporaneously replaced by equipment of at
least comparable value and use.



 4
 









(n)           Section 6.18 of the
Credit Agreement is hereby deleted in its entirety and replaced with the
following:


Section
6.18         Leverage Ratio.  The Borrower (a) shall not permit the
Leverage Ratio at the end of each fiscal quarter ending on or after March 31,
2007 to be greater than 5.00 to 1.00; (b) shall not permit the Leverage Ratio
at the end of each fiscal quarter ending on or after September 30, 2007 to be
greater than 4.50 to 1.00; and (c) shall not permit the Leverage Ratio at the
end of each fiscal quarter ending on or after March 31, 2008 to be greater than
4.00 to 1.00; provided that, solely for purposes of calculating Leverage Ratio
under this clause, “consolidated Debt” shall not include Debt outstanding under
preferred Equity Interests issued in compliance with Section 6.22.


(o)           Schedule I-Pricing Grid, Schedule 4.07, Exhibit B
— Compliance Certificate, and Exhibit F- Notice of Borrowing which are attached
to the Credit Agreement are hereby replaced in their entirety with the
corresponding Schedule I-Pricing Grid, Schedule 4.07, Exhibit B — Compliance
Certificate, and Exhibit F- Notice of Borrowing attached to this Agreement.


Section 4.              Borrower Representations and Warranties.  The Borrower represents and warrants that:
(a) after giving effect to this Agreement, the representations and warranties
contained in the Credit Agreement and the representations and warranties
contained in the other Loan Documents are true and correct in all material
respects on and as of the Effective Date as if made on as and as of such date
except to the extent that any such representation or warranty expressly relates
solely to an earlier date, in which case such representation or warranty is
true and correct in all material respects as of such earlier date; (b) after
giving effect to this Agreement, no Default has occurred and is continuing; (c) the execution,
delivery and performance of this Agreement are within the corporate power and
authority of the Borrower and have been duly authorized by appropriate
corporate and governing action and proceedings; (d) this Agreement constitutes
the legal, valid, and binding obligation of the Borrower enforceable in
accordance with its terms, except as limited by applicable bankruptcy,
insolvency, reorganization, moratorium, or similar laws affecting the rights of
creditors generally and general principles of equity; (e) there are no
governmental or other third party consents, licenses and approvals required in
connection with the execution, delivery, performance, validity and enforceability
of this Agreement; and (f) the Liens under the Security Instruments are valid
and subsisting and secure Borrower’s obligations under the Loan Documents.


Section 5.              Guarantors Representations and Warranties.  Each Guarantor represents and warrants that:
(a) after giving effect to this Agreement, the representations and warranties
contained in the Guaranty and the representations and warranties contained in
the other Loan Documents are true and correct in all material respects on and
as of the Effective Date as if made on as and as of such date except to the
extent that any such representation or warranty expressly relates solely to an
earlier date, in which case such representation or warranty is true and correct
in all material respects as of such earlier date; (b) after giving effect to
this Agreement, no Default has occurred and is continuing; (c) the execution,
delivery and performance of this Agreement are within the corporate,



 5
 









limited liability company,
or partnership power and authority of such Guarantor and have been duly
authorized by appropriate corporate, limited liability company, or partnership
action and proceedings; (d) this Agreement constitutes the legal, valid, and
binding obligation of such Guarantor enforceable in accordance with its terms,
except as limited by applicable bankruptcy, insolvency, reorganization,
moratorium, or similar laws affecting the rights of creditors generally and
general principles of equity; (e) there are no governmental or other third
party consents, licenses and approvals required in connection with the
execution, delivery, performance, validity and enforceability of this
Agreement; (f) it has no defenses to the enforcement of the Guaranty; and (g)
the Liens under the Security Instruments are valid and subsisting and secure
such Guarantor’s and the Borrower’s obligations under the Loan Documents.


Section 6.              Conditions to Effectiveness.  This Agreement and the
amendments to the Credit Agreement provided herein shall become effective on
the Effective Date and enforceable against the parties hereto upon the
occurrence of the following conditions precedent:


(a)           The Administrative Agent shall have
received multiple original counterparts, as requested by the Administrative
Agent, of this Agreement duly and validly executed and delivered by duly
authorized officers of the Borrower, the Guarantors, the Administrative Agent,
and the Lenders.


(b)           The representations
and warranties in this Agreement shall be true and correct in all material
respects.


(c)           The Borrower shall have paid all fees and expenses of the Administrative Agent’s
outside legal counsel and other consultants pursuant to all invoices presented
for payment on or prior to the Effective Date.


Section 7.              Acknowledgments and Agreements.


(a)           The Borrower acknowledges that on the
date hereof all Obligations are payable without defense, offset, counterclaim
or recoupment.


(b)           The Administrative
Agent and the Lenders hereby expressly reserve all of their rights, remedies,
and claims under the Loan Documents.  Nothing
in this Agreement shall constitute a waiver or relinquishment of (i) any
Default or Event of Default under any of the Loan Documents, (ii) any of the
agreements, terms or conditions contained in any of the Loan Documents, (iii)
any rights or remedies of the Administrative Agent or any Lender with respect
to the Loan Documents, or (iv) the rights of the Administrative Agent or any
Lender to collect the full amounts owing to them under the Loan Documents.


(c)           Each of the
Borrower, the Guarantors, Administrative Agent, and Lenders does hereby adopt,
ratify, and confirm the Credit Agreement, as amended hereby, and acknowledges
and agrees that the Credit Agreement, as amended hereby, is and remains in full
force and effect, and the Borrower and the Guarantors acknowledge and agree
that their respective liabilities and obligations under the Credit Agreement,
as amended hereby, and the Guaranty, are not impaired in any respect by this
Agreement.



 6
 









 


(d)           From and after the
Effective Date, all references to the Credit Agreement and the Loan Documents
shall mean such Credit Agreement and such Loan Documents as amended by this
Agreement.


(e)           This Agreement is a
Loan Document for the purposes of the provisions of the other Loan
Documents.  Without limiting the foregoing,
any breach of representations, warranties, and covenants under this Agreement
shall be a Default or Event of Default, as applicable, under the Credit
Agreement.


Section 8.              Reaffirmation of the Guaranty.  Each Guarantor hereby ratifies, confirms,
acknowledges and agrees that its obligations under the Guaranty are in full
force and effect and that such Guarantor continues to unconditionally and
irrevocably guarantee the full and punctual payment, when due, whether at
stated maturity or earlier by acceleration or otherwise, all of the Guaranteed
Obligations (as defined in the Guaranty), as such Guaranteed Obligations may
have been amended by this Agreement, and its execution and delivery of this
Agreement does not indicate or establish an approval or consent requirement by
such Guarantor under the Guaranty in connection with the execution and delivery
of amendments, consents or waivers to the Credit Agreement, the Notes or any of
the other Loan Documents.


Section 9.              Counterparts.  This Agreement may be signed in any number of
counterparts, each of which shall be an original and all of which, taken
together, constitute a single instrument. 
This Agreement may be executed by facsimile signature and all such
signatures shall be effective as originals.


Section 10.            Successors
and Assigns.  This
Agreement shall be binding upon and inure to the benefit of the parties hereto
and their respective successors and assigns permitted pursuant to the Credit
Agreement.


Section 11.            Invalidity.  In the event that any one or more of the
provisions contained in this Agreement shall for any reason be held invalid,
illegal or unenforceable in any respect, such invalidity, illegality or
unenforceability shall not affect any other provision of this Agreement.


Section 12.            Governing
Law.  This
Agreement shall be deemed to be a contract made under and shall be governed by
and construed in accordance with the laws of the State of Texas.


Section 13.            Entire
Agreement. THIS AGREEMENT, THE CREDIT AGREEMENT AS AMENDED BY THIS AGREEMENT, THE
NOTES, AND THE OTHER LOAN DOCUMENTS CONSTITUTE THE ENTIRE UNDERSTANDING AMONG
THE PARTIES HERETO WITH RESPECT TO THE SUBJECT MATTER HEREOF AND SUPERSEDE ANY
PRIOR AGREEMENTS, WRITTEN OR ORAL, WITH RESPECT THERETO.


THERE
ARE NO UNWRITTEN ORAL AGREEMENTS AMONG THE PARTIES.


[SIGNATURES BEGIN ON NEXT PAGE]


 



 7














EXECUTED effective as of the date first above written.


	
  BORROWER:

  	
  CANO PETROLEUM, INC.

  
	
   

  	
   

  
	
   

  	
  By:

  	
  /s/ S. Jeffrey Johnson

  
	
   

  	
   

  	
   

  	
   S. Jeffrey
  Johnson

  
	
   

  	
   

  	
   

  	
   Chairman and
  Chief Executive Officer

  
	
   

  	
   

  
	
  GUARANTORS:

  	
  SQUARE ONE ENERGY, INC.

  
	
   

  	
  LADDER COMPANIES, INC.

  
	
   

  	
  W.O. ENERGY OF NEVADA, INC.

  
	
   

  	
  WO ENERGY, INC.

  
	
   

  	
  PANTWIST, LLC

  
	
   

  	
  CANO PETRO OF NEW MEXICO, INC.

  
	
   

  	
   

  
	
   

  	
  Each by:

  	
  /s/ S. Jeffrey Johnson

  
	
   

  	
   

  	
   

  	
   S. Jeffrey
  Johnson

  
	
   

  	
   

  	
   

  	
   President

  
	
   

  	
   

  
	
   

  	
  W.O. OPERATING COMPANY, LTD.

  
	
   

  	
  By:  WO
  Energy, Inc., its general partner

  
	
   

  	
   

  
	
   

  	
   

  	
  By:

  	
  /s/ S. Jeffrey Johnson

  
	
   

  	
   

  	
   

  	
   

  	
   S. Jeffrey
  Johnson

  
	
   

  	
   

  	
   

  	
   

  	
   President

  
	
   

  	
   

  
	
   

  	
  W.O. PRODUCTION COMPANY, LTD.

  
	
   

  	
  By:  WO
  Energy, Inc., its general partner

  
	
   

  	
   

  
	
   

  	
   

  	
  By:

  	
  /s/ S. Jeffrey Johnson

  
	
   

  	
   

  	
   

  	
   

  	
   S. Jeffrey
  Johnson

  
	
   

  	
   

  	
   

  	
   

  	
   President

  
									



 











 


	
  ADMINISTRATIVE
  AGENT/

  	
   

  
	
  ISSUING
  LENDER/LENDER:

  	
  UNION BANK OF
  CALIFORNIA, N.A.,

  
	
   

  	
   

  	
   

  
	
   

  	
   

  	
   

  
	
   

  	
  By:

  	
  /s/ Kimberly Coil

  
	
   

  	
   

  	
   

  	
  Kimberly Coil

  
	
   

  	
   

  	
   

  	
  Vice President

  



 











 


	
  

  	
  NATIXIS (formerly known
  as Natexis Banques

  
	
   

  	
  Populaires) as a Lender

  
	
   

  	
   

  	
   

  
	
   

  	
   

  	
   

  
	
   

  	
  By:

  	
   /s/ Donovan C. Broussard

  
	
   

  	
  Name:

  	
  Donovan C. Broussard

  
	
   

  	
  Title:

  	
  Managing Director

  
	
   

  	
   

  	
   

  
	
   

  	
   

  	
   

  
	
   

  	
  By:

  	
   /s/ Timothy L. Polvado

  
	
   

  	
  Name:

  	
  Timothy L. Polvado

  
	
   

  	
  Title:

  	
  Managing Director

  
						



 















SCHEDULE I


PRICING GRID


 


Applicable
Margins




	
  Utilization Level*

  	
   

  	
  Base Rate

  Advances

  	
   

  	
  Eurodollar Rate

  Advances

  	
   

  	
  Commitment Fee

  	
   

  
	
  Level I

  	
   

  	
  0.25

  	
  %

  	
  1.75

  	
  %

  	
  0.25

  	
  %

  
	
  Level II

  	
   

  	
  0.50

  	
  %

  	
  2.00

  	
  %

  	
  0.25

  	
  %

  
	
  Level III

  	
   

  	
  0.75

  	
  %

  	
  2.25

  	
  %

  	
  0.375

  	
  %

  
	
  Level IV

  	
   

  	
  1.00

  	
  %

  	
  2.50

  	
  %

  	
  0.375

  	
  %

  










* Utilization Levels are
described below and are determined in accordance with the definition of “Utilization
Level”.


1.  Level I: If
the Utilization Level is less than 50%.


2.  Level II:
If the Utilization Level is greater than or equal to 50% but less than 75%.


3.  Level III: If
the Utilization Level is greater than or equal to 75% but less than 90%.


4.  Level IV: If
the Utilization Level is greater than or equal to 90%.
















EXHIBIT B


FORM OF COMPLIANCE
CERTIFICATE


FOR THE PERIOD FROM           ,
200     TO            ,
200    


This certificate dated as
of                      ,
         is prepared pursuant to the
Credit Agreement dated as of November 29, 2005 (as amended, supplemented or
otherwise modified from time to time, the “Credit Agreement”) among CANO
PETROLEUM, INC., a Delaware corporation (“Borrower”), the lenders party
thereto (the “Lenders”), and UNION BANK OF CALIFORNIA, N.A., as administrative
agent for such Lenders (in such capacity, the “Administrative Agent”)
and as issuing lender.  Unless otherwise
defined in this certificate, capitalized terms that are defined in the Credit
Agreement shall have the meanings assigned to them by the Credit Agreement.


The undersigned hereby
certifies that:


(a)                                  all
of the representations and warranties made by the Borrower in the Credit
Agreement and the other Loan Documents are true and correct in all material
respects as if made on this date, except to the extent that any such representation
or warranty expressly relates solely to an earlier date, in which case it shall
have been true and correct in all material respects as of such earlier date;


[(b)     that no Default or Event of Default has
occurred and is continuing; and]


[(b)     the following Default[s] or Event[s] of
Default exist as of the date hereof or have occurred since the date of the
Borrower’s previous certification to the Administrative Agent, if any, and the
actions set forth below have been or are being taken to remedy such
circumstances:


                                                          ;
and]


(c) that as of the last
day of the previous quarter the following statements, amounts, and calculations
were true and correct:


I.                                         Current
Ratio—Section 6.17.


	
  (a)

  	
  consolidated
  current assets (1)

  	
  $

  	
   

  
	
   

  	
   

  	
   

  	
   

  
	
  (b)

  	
  consolidated current liabilities (2)

  	
  $

  	
   

  
	
   

  	
   

  	
   

  	
   

  
	
  Current Ratio =
  (a) to (b) =

  	
   

  	
   

  
	
   

  	
   

  	
   

  	
   

  
	
  Minimum Current
  Ratio not less than:

  	
  1.00 to 1.00

  	
   

  	
   

  
	
   

  	
   

  	
   

  	
   

  
	
  COMPLIANCE?

  	
  YES

  	
  NO

  	
   

  	
   

  
						



II.            Leverage
Ratio—Section 6.18.


	
  (a)

  	
  consolidated
  Debt (3)

  	
   

  	
   

  







(1)             “current
assets” shall include the aggregate Unused Commitment Amounts of the
Lenders, but shall exclude (A) any cash deposited with or at the request of a
counterparty to any Hedge Contract or any other similar hedge arrangement and
(B) any assets representing a valuation account arising from the application of
SFAS 133 and 143.


(2)             “current
liabilities” shall exclude, as of the date of calculation, the current
portion of long-term Debt existing under the Credit Agreement and any
liabilities representing a valuation account arising from the application of
SFAS 133 and 143.


(3)             “consolidated
Debt” shall not include Debt outstanding under preferred Equity Interests
issued in compliance with Section 6.22 of the Credit Agreement.


 



 1
 









 


	
  (b)

  	
  consolidated
  EBITDA (4) =

  
	
   

  
	
                 (i)
  + [(ii) + (iii) + (iv)] (5) — (v) =

  	
  $

  
	
   

  
	
   

  	
  (i)

  	
  Consolidated Net
  Income

  	
  $

  
	
   

  
	
   

  	
  (ii)

  	
  consolidated
  Interest Expense

  	
  $

  
	
   

  
	
   

  	
  (iii)

  	
  taxes

  	
  $

  
	
   

  
	
   

  	
  (iv)

  	
  depreciation,
  amortization, depletion & other non-cash items (6)

  	
  $

  
	
   

  
	
   

  	
  (v)

  	
  all non-cash items of income included in determining
  Consolidated Net Income (7)

  	
  $

  
	
   

  	
   

  
	
  Leverage Ratio = (a) to (b) = 

  
	
   

  	
   

  
	
  Maximum Leverage Ratio:

  	
   

  	
  [5.00 to 1.00] [4.50 to 1.00]

  
	
   

  	
   

  	
  [4.00 to 1.00] (8)

  
	
   

  	
   

  	
   

  
	
   

  	
   

  	
   

  
	
  COMPLIANCE?

  	
  YES

  	
  NO

  
									







(4)    EBITDA
shall be measured for the four fiscal quarter period then ended.


(5)    Items (ii)
— (iv) shall be included to the extent deducted in determining Consolidated Net
Income.


(6)    Other
non-cash items should include any provisions for the reduction in the carrying
value of assets recorded in accordance with GAAP and including non-cash charges
resulting from the requirements of SFAS 133 or 143.


(7)    Non-cash
items of income should include any items resulting from the requirements of
SFAS 133 or 143.


(8)    Use (i)
5.00 to 1.00 for fiscal quarter ending March 31, 2007, (ii) 4.50 to 1.00 for
fiscal quarter ending September 30, 2007 and (iii) 4.00 to 1.00 for fiscal
quarters ending on or after March 31, 2008.



 2
 









III.           Interest
Coverage Ratio—Section 6.19.


	
  (a)

  	
  consolidated EBITDA = See II(b) above =

  	
  $

  	
   

  
	
   

  	
   

  	
   

  	
   

  
	
  (b)

  	
  consolidated Interest Expense (9) =

  	
  $

  	
   

  
	
   

  	
   

  	
   

  	
   

  
	
  Interest Coverage Ratio = (a) to (b) = 

  	
   

  	
   

  
	
   

  	
   

  	
   

  	
   

  
	
  Minimum Interest Coverage Ratio =

  	
  [1.25 to 1.00]

  
	
   

  	
   

  	
  [1.50 to 1.00][2.00 to
  1.00] (10)

  
	
   

  	
   

  	
   

  	
   

  
	
  COMPLIANCE?

  	
  YES

  	
  NO

  	
   

  	
   

  
						







(9) For the fiscal quarter ending December 31, 2006, Interest Expense
shall be calculated using Interest Expense for the three fiscal quarter period
then ended multiplied by 4/3 and for fiscal quarters ending on or after March
31, 2007, Interest Expense shall be calculated using Interest Expense for the
four fiscal quarters then ended.


(10) Use (a) 1.25 to 1.00 for fiscal quarters ending on
or after June 30, 2006 but prior to March 31, 2007, (b) 1.50 to 1.00 for fiscal
quarter ending March 31, 2007, and (c) 2.00 to 1.00 for fiscal quarters ending
on or after June 30, 2007.


 


IN WITNESS THEREOF, I
have hereto signed my name to this Compliance Certificate as of                        ,
20    .


	
  

  	
  CANO PETROLEUM, INC., a Delaware corporation

  
	
   

  	
   

  	
  By:

  	
   

  	 

	
   

  	
  Name:

  	
   

  	 

	
   

  	
  Title:

  	
   

  	 

										



 



 3















EXHIBIT F


FORM OF NOTICE OF BORROWING


[Date]


Union Bank of California, N.A., as
Administrative Agent


445 South Figueroa Street, 15th Floor


Los
Angeles, California 90071


Attention:              [LOAN PROCESSOR]


Ladies and Gentlemen:


The undersigned, Cano
Petroleum, Inc., a Delaware corporation (the “Borrower”), refers to the
Credit Agreement dated as of November 29, 2005 (as the same has been and may be
amended, restated or modified from time-to-time, the “Credit Agreement,”
the defined terms of which are used in this Notice of Borrowing unless
otherwise defined in this Notice of Borrowing) among the Borrower, the lenders
party thereto (the “Lenders”), and Union Bank of California, N.A., as
administrative agent for the Lenders (the “Administrative Agent”) and as
issuing lender for the Lenders (the “Issuing Lender”), and hereby gives
you irrevocable notice pursuant to Section 2.03(a) of the Credit Agreement that
the undersigned hereby requests a Borrowing, and in connection with that
request sets forth below the information relating to such Borrowing (the “Proposed
Borrowing”) as required by Section 2.03(a) of the Credit Agreement:


1.             The Business Day of the Proposed Borrowing is                    ,
         .


2.             The Proposed Borrowing will be composed of [Reference
Rate Advances] [Eurodollar Rate Advances].


3.             The aggregate amount of the Proposed Borrowing is $                   .


4.             [The Interest Period for each Eurodollar Rate Advance
made as part of the Proposed Borrowing is [            
month[s]].]


The Borrower hereby certifies
that the following statements are true on the date hereof, and will be true on
the date of the Proposed Borrowing:


(a)                                  the representations and warranties
contained in Article IV of the Credit Agreement and the representations and
warranties contained in the Security Instruments, the Guaranties, and each of
the other Loan Documents are true and correct in all material respects on and
as of the date of the Proposed Borrowing, before and after giving effect to the
Proposed Borrowing and to the application of the proceeds from the Proposed
Borrowing, as though made on and as of such date, except to the extent that any
such representation or warranty expressly relates solely to an earlier date, in
which case it shall have been true and correct in all material respects as of
such earlier date;



 1
 









(b)                                 no Default has occurred and is continuing
or would result from the Proposed Borrowing or from the application of the
proceeds therefrom; and


(c)                                  $                        
of the Proposed Borrowing will be used for general corporate or working capital
purposes and, after giving effect to such application of proceeds, the General
Corporate Advance Amount is not in excess of $10,000,000.


	
  

  	
  Very truly
  yours,

  
	
   

  	
   

  
	
   

  	
  CANO PETROLEUM,
  INC., a Delaware corporation

  
	
   

  	
   

  
	
   

  	
  By:

  	
   

  
	
   

  	
  Name:

  	
   

  
	
   

  	
  Title:

  	
   

  
					



 



 2














Schedule 4.07


Litigation


On March 23, 2006, the following lawsuit was filed in
the 100th Judicial District Court in Carson County,
Texas; Cause No. 9840, The Tom L. and Anne Burnett Trust, by Anne Burnett
Windfohr, Windi Phillips, Ben Fortson, Jr., George Beggs, III and Ed Hudson,
Jr. as Co-Trustees; Anne Burnett Windfohr; and Burnett Ranches, Ltd. v. Cano
Petroleum, Inc., W.O. Energy of Nevada, Inc.; W. O. Operating Company, Ltd, and
W.O. Energy, Inc. The owner of the remainder of the mineral estate, Texas
Christian University, has intervened in the suit joining the plaintiffs’
request to terminate certain oil and natural gas leases and on January 26,
2007, Southwestern Public Service Company d/b/a XCEL Energy, intervened in the
suit as a party adverse to all defendants, claiming that the fire that is the
subject of this lawsuit destroyed transmission and distribution equipment,
including utility poles, lines and other equipment with an estimated loss of
$1,876,000.


On April 28, 2006, the
following lawsuit was filed in the 31st Judicial District Court of Roberts County,
Texas, Case No. 1922, Robert and Glenda Adcock, et al. v. Cano Petroleum, Inc.,
W.O. Energy of Nevada, Inc.; W. O. Operating Company, Ltd, and W.O. Energy,
Inc.  There are 43 plaintiffs and four
groups of interveners in this suit.


On April 10, 2006, the
following lawsuit was filed in the 31st Judicial District Court of Roberts County,
Texas, Case No. 1920, Joseph Craig Hutchison and Judy Hutchison v. Cano
Petroleum, Inc., W.O. Energy of Nevada, Inc.; W. O. Operating Company, Ltd, and
W.O. Energy, Inc.


On May 1, 2006, the
following lawsuit was filed in the 31st Judicial District Court of Roberts County,
Texas, Case No. 1923, Chisum Family Partnership, Ltd. v. Cano Petroleum, Inc.,
W.O. Energy of Nevada, Inc.; W. O. Operating Company, Ltd, and W.O. Energy,
Inc.


The plaintiffs in the
above actions claim that the electrical wiring and equipment of Cano Petroleum,
Inc. or certain of its subsidiaries relating to its oil and gas operations
started a wildfire that began on March 12, 2006 in Carson County, Texas.  The plaintiffs (i) allege negligence and
gross negligence, trespass or nusiance and (ii) seek undisclosed damages,
including, but not limited to, damages for damage to their land and livestock,
certain expenses related to fighting the fire and certain remedial
expenses.  In addition, certain
plaintiffs seek (i) termination of certain oil and gas leases, (ii)
reimbursement for their attorney’s fees and (iii) exemplary damages.


On July 3, 2006, the following lawsuit was filed in
the 31st Judicial District Court of Roberts County, Texas, Case No. 1928,
Rebecca Lee Martinez, et al v. Cano Petroleum, Inc., W.O. Energy of Nevada,
Inc.; W. O. Operating Company, Ltd., and W.O. Energy, Inc. The plaintiffs claim
that the electrical wiring and equipment of Cano or certain of its subsidiaries
relating to oil and natural gas operations started a wildfire that began on
March 12, 2006 in Carson County, Texas. The plaintiffs (i) allege negligence
and gross negligence and (ii) seek undisclosed damages for the wrongful death
of two individuals who they claim died as a result of the fire. Additional
heirs and relatives of one of the decedents have intervened in this case
seeking similar claims.


On August 9, 2006, the following lawsuit was filed in
the 233rd Judicial District Court of Gray County, Texas, Yolanda Villareal,
Individually and on behalf of the Estate of Gerardo Villareal v. Cano
Petroleum, Inc., W.O. Energy of Nevada, Inc., W. O. Operating Company, Ltd., and
W.O. Energy, Inc. The plaintiffs claim that the electrical wiring and equipment
of Cano or certain of its subsidiaries relating to oil and natural gas
operations started a wildfire that began on March 12, 2006 in Carson County,
Texas. The plaintiffs (i) allege negligence and gross negligence and (ii) seek
undisclosed damages for the wrongful death of Gerardo Villareal who they claim
died as a result of the fire. Relatives of Roberto Chavira have intervened in
the case alleging similar claims regarding the death of Roberto Chavira.


On June 20, 2006, the following lawsuit was filed in
the United States District Court for the Northern District of Texas, Fort Worth
Division, C.A. No. 4-06cv-434-A, Mid-Continent Casualty Company, Plaintiff, vs.
Cano Petroleum, Inc., W.O. Energy of Nevada, Inc., W.O. Operating Company, Ltd.
and W.O. Energy, Inc. seeking a declaration that the plaintiff is not
responsible for pre-tender defense costs and that the plaintiff has the sole
and exclusive right to select defense counsel and to defend, investigate,
negotiate and settle the litigation described above











and on September 18, 2006, the First Amended Complaint
for Declaratory Judgment was filed with regard to the cases described
above.  On February 9, 2007, Cano and its
subsidiaries entered into a Settlement Agreement and Release with the plaintiff
pursuant to which in exchange for mutual releases, in addition to the
approximately $923,000 that had been reimbursed by plaintiff, the plaintiff
agreed to pay to Cano within 20 business days of February 9, 2007 the amount of
$6,699,827 comprised of the following: (a) the $1,000,000 policy limits of the
primary policy; (b) the $5,000,000 policy limits of the excess policy; (c)
$500,000 for future defense costs; (d) $144,000 as partial payment for certain
unpaid invoices for litigation related expenses; (e) all approved reasonable
and necessary litigation related expenses through December 21, 2006 that are
not part of the above referenced $144,000; and (f) certain specified attorneys
fees.