<PAGE>
 
                                 UNITED STATES
                      SECURITIES AND EXCHANGE COMMISSION
                             Washington, DC  20549
                                        

                                  FORM 10-K/A


                                  (Mark One)


           [X]  ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d) OF THE
                        SECURITIES EXCHANGE ACT OF 1934


                 For the Fiscal year ended September 30, 1998
                                           ------------------
                                        
                                      OR


        [  ]  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
               SECURITIES EXCHANGE ACT OF 1934 [No Fee Required]

             For the transition period from _________ to _________

                      Commission File Number:   33-98490
                                                ---------


                            STAR GAS PARTNERS, L.P.
                            -----------------------
            (Exact name of registrant as specified in its charter)



Delaware                                                 06-1437793
---------------------------------------                  ---------------------
(State or other jurisdiction of                          (I.R.S. Employer
incorporation or organization)                           Identification No.)



2187 Atlantic Street, Stamford, Connecticut                     06902
-----------------------------------------------------------------------------
(Address of principal executive office)                         (Zip Code)

(203) 328-7300
-----------------------------------------------------------------------------
(Registrant's telephone number, including area code)


          Securities registered pursuant to Section 12(b) of the Act:


     Title of Each Class           Name of Each Exchange on which registered
     -------------------           -----------------------------------------
       Common Units                         New York Stock Exchange


       Securities registered pursuant to Section 12(g) of the Act: None


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 filer pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the best
of registrant's knowledge, in definitive proxy or information statements
incorporated be reference in Part III of this Form 10-K or any amendment to this
Form 10-K.  [ X ]

The aggregate market value of Star Gas Partners, L.P. Common Units held by non-
affiliates of Star Gas Partners, L.P. on November 23, 1998 was approximately
$75,745,000.  At November 23, 1998 there were outstanding 3,858,999 Common Units
and 2,396,078 Subordinated Units, each representing limited partner interests.

Documents Incorporated by Reference:  None
<PAGE>
 
                            STAR GAS PARTNERS, L.P.

                         1998 FORM 10-K ANNUAL REPORT

                               TABLE OF CONTENTS

                                        

                                     PART I

<TABLE>
<CAPTION>
                                                                         Page
<S>           <C>                                                        <C> 
Item  1.      Business                                                     3
Item  2.      Properties                                                  12
Item  3.      Legal Proceedings - Litigation                              12
Item  4.      Submission of Matters to a Vote of Security Holders         13
 
<CAPTION> 
                                    PART II

 
<S>           <C>                                                        <C>
Item  5.       Market for the Registrant's Units and Related Matters      13
Item  6.       Selected Historical Financial and Operating Data           14
Item  7.       Management's Discussion and Analysis of
               Financial Condition and Results of Operations              16
Item  7A.      Qualitative and Quantitive Disclosures about Market Risk   22
Item  8.       Financial Statements and Supplementary Data                22
Item  9.       Changes in and Disagreements with Accountants on
               Accounting and Financial Disclosure                        22
 
<CAPTION> 
                                    PART III

 
<S>           <C>                                                        <C>
Item 10.      Directors and Executive Officers of the Registrant          22
Item 11.      Executive Compensation                                      27
Item 12.      Security Ownership of Certain Beneficial Owners
              and Management                                              28
Item 13.      Certain Relationships and Related Transactions              30
 
<CAPTION> 
                                    PART IV

<S>           <C>                                                        <C>
Item 14.  Exhibits, Financial Statement Schedules, and
           Reports on Form 8-K                                            31
</TABLE> 

                                       2
<PAGE>
 
                                     PART I
                                ITEM 1. BUSINESS
                                        


Structure


     Star Gas Partners, L.P. (the "Partnership" or the "MLP") was formed on
October 16, 1995 to acquire and operate the propane business of Star Gas
Corporation (the "Company", "Star Gas" or the "General Partner") and its parent
corporation Petroleum Heat and Power Co., Inc. ("Petro" and together with Star
Gas collectively the "Predecessor Company").  Substantially all of the
consolidated assets and liabilities of the MLP are accounted for by Star Gas
Propane, L.P. (the "Operating Partnership" or the "OLP") in which the MLP owns a
99% limited partnership interest and the Company owns a 1% general partnership
interest.

     The General Partner directs and manages all activities of the Partnership
and the Operating Partnership and is reimbursed on a monthly basis for all
direct and indirect expenses it incurs on its behalf, including the cost of
employees.

Proposed Acquisition of Petroleum Heat and Power Co., Inc.

    
     On October 23, 1998, the Partnership and Petro jointly announced that they
have signed a definitive merger agreement pursuant to which Petro would be
acquired by the Partnership and would become a wholly owned subsidiary of the
Partnership (the "Star Gas/Petro transaction").  It is anticipated that this
acquisition will be accounted for using the purchase method of accounting.  It
was originally contemplated that this transaction would be effected through the
sale of $120 million of publicly traded high yield debt and $140 million in
additional Common Units.  It is currently contemplated that this transaction
will be effected through the private placement of $90 million of investment
grade debt and the sale of $170 million in Common Units.  In conjunction with
this change, it is also contemplated that the exchange ratio used to calculate
the number of Subordinated Units to be received by Petro shareholders will be
modified from .13064 to .11758.  This transaction would be effected through
Petro shareholders exchanging their 26,452,270 shares of Petro Common Stock for
3,244,977 limited and general partnership units of the Partnership which will be
subordinated to the existing Common Units of the Partnership.      


     The Partnership currently distributes to its partners, on a quarterly
basis, all of its Available Cash, which is generally all of the cash receipts of
the Partnership less all cash disbursements, with a targeted Minimum Quarterly
Distribution ("MQD") of $0.55 per unit, or $2.20 per unit on an annualized
basis.  In connection with the Star Gas/Petro transaction, the Partnership will
increase the MQD to $.575 per unit or $2.30 per unit on an annualized basis.
This increase in the MQD reflects the expectation that the transaction will be
accretive to the Partnership.  The increase in the MQD will also serve to raise
the threshold needed to end the subordination period.
    
     Of the 3,244,977 subordinated Partnership units anticipated to be
distributed to Petro shareholders, 2,491,500 will be Senior Subordinated Units
and 753,477 will be Junior Subordinated Units and General Partnership Units.
The Senior Subordinated Units will be publicly registered and tradable (they are
expected to be listed on the New York Stock Exchange) and will be subordinated
with respect to distributions to the Partnership's Common Units.  The Junior
Subordinated Units and General Partnership Units will not be registered nor
publicly tradable and will be subordinated to both the Common Units and the
Senior Subordinated Units. The Senior Subordinated Units will be exchanged with
holders of Petro's publicly traded Class A Common Stock and the Junior
Subordinated Units and General Partnership Units will be exchanged with
individuals that currently own both Petro's Class C Common Stock and Class A
Common Stock.  Certain holders of Petro's Class C Common Stock will also
exchange their shares for Senior Subordinated Units.      
    
     It is currently contemplated that 21,189,827 shares of Petro Common Stock
will be exchanged for 2,491,500 Senior Subordinated Units of the Partnership.
5,262,443 shares of Petro Common Stock, held by certain individuals who      

                                       3
<PAGE>
 
Proposed Acquisition of Petroleum Heat and Power Co., Inc. (continued)
    
currently own Petro Class C Common Stock, including Irik P. Sevin, Chairman of
both Petro and of the General Partner of the Partnership and other members of a
group that currently controls Petro, will be exchanged for 430,395, Junior
Subordinated Units and 323,082 General Partnership Units which are economically
equivalent to Junior Subordinated Units.  The total value of the Senior
Subordinated and Junior Subordinated units issued for Petro Common Stock is
$50.9 million.  In addition, transaction expenses are estimated to be $7.0
million.      

     Pursuant to the subordination provision, distributions on the Partnership's
Senior Subordinated Units may be made only after distributions of Available Cash
on Common Units meet the MQD target. Distributions on the Partnership's Junior
Subordinated Units and General Partner Units may be made only after
distributions of Available Cash on Common Units and Senior Subordinated Units
meet the MQD.  The Subordination Period will generally extend until the
Partnership earns and pays its MQD for three years.  As a condition of the Star
Gas/Petro transaction, the current Partnership Agreement will be amended so that
no distribution will be paid on the Senior Subordinated Units, Junior
Subordinated Units, or the General Partner Units except to the extent Available
Cash is earned from operations.

     Like many other publicly traded master limited partnerships, the
Partnership Agreement contains a provision which provides the General Partner
with incentive distributions in excess of certain targeted amounts.  Following
the Star Gas/Petro transaction, this provision will be modified so that should
there be any such incentive distributions, they will be made pro rata to the
holders of Senior Subordinated Units, Junior Subordinated Units, and General
Partner Units.

     In connection with the Star Gas/Petro transaction, the Senior Subordinated
Units, Junior Subordinated Units and General Partnership Units can earn, pro
rata, an aggregate of up to 303,000 additional Senior Subordinated Units over a
five year period for each year that Petro meets certain financial goals to a
maximum of 909,000 additional Senior Subordinated Units.
    
     In connection with the Star Gas/Petro transaction, the Partnership intends
to raise approximately $170 million through a public offering of Common Units
and $90 million through a public or private offering of debt securities.  The
net proceeds from these offerings will be used primarily to redeem and
restructure approximately $240 million in Petro public and private debt and
preferred stock.  The exact terms and timing of any such offerings will depend
upon market conditions.  Any such offerings will be made only by means of a
prospectus or in transactions not requiring registration under securities laws.
The foregoing statements do not constitute an offer to sell securities.      

     Petro has completed an exchange offer agreement with institutional holders
of an aggregate of $233 million or 98% of its public debt and preferred stock to
permit the redemption of such securities at the closing of the Star Gas/Petro
transaction.  This agreement allows Petro to redeem its 9 3/8% Subordinated
Debentures, 10 1/8% Subordinated Notes and 12 1/4% Subordinated Debentures at
100%, 100% and 103.5% of principal amount, respectively, plus accrued interest
and also to redeem its 12 7/8% Preferred Stock at $23 per share, plus accrued
and unpaid dividends.  In consideration for this early redemption right, Petro
has agreed to issue to such holders 3.37 shares of newly issued Petro Junior
Convertible Preferred Stock for each $1,000 in principal amount or liquidation
preference of such securities.  Each share of Petro Junior Convertible Preferred
Stock will be exchangeable into .13064 of a Partnership Common Unit at the
conclusion of the Star Gas/Petro transaction representing a maximum of 102,773
Common Units.  Petro also intends to restructure $66.2 million of privately held
notes currently outstanding.
    
     Petro currently has a 40.5% equity interest in the Partnership and the
General Partner is a subsidiary of Petro.  Prior to the Transaction, Petro owns
2,396,078 Subordinated Units and a 2.0% interest in the Partnership or the
equivalent of 127,655 units.  As part of the Transaction, the Subordinated Units
and General Partner Interests will be contributed to      

                                       4
<PAGE>
 
Proposed Acquisition of Petroleum Heat and Power Co., Inc. (continued)
    
the Partnership by Petro in exchange for 42,046 Common Units and 1,718,795
Senior Subordinated Units.  The Common Units will be exchanged by Petro with the
holders of Petro Junior Convertible Preferred Stock and the Senior Subordinated
Units ultimately will be exchanged with certain holders of Petro's Common Stock.
After completion of the Star Gas/Petro transaction, the Petro shareholders will
own approximately 20% of the Partnership's equity through Subordinated Units and
General Partner Units. The holders of the Partnership's Common Units (including
an estimated 8.9 million Common Units that will be sold in the Partnership's
proposed $170 million public offering) will own an aggregate of approximately
80% equity interest in the Partnership following the completion of the
transaction. In connection with the Star Gas/Petro transaction, the General
Partner of the Partnership will be a newly organized Delaware limited liability
company that will be owned by Irik Sevin, Audrey Sevin and two entities
affiliated with Wolfgang Traber, (see Part III Item 10 -  Directors and
Executive Officers of the Registrant).      

     A Special Committee of the Board of Directors of the General Partner acting
on behalf of the holders of the Common Units, negotiated the terms of the Star
Gas/Petro transaction.  A.G. Edwards & Sons, Inc. was retained by the Special
Committee as independent financial advisor, and has rendered an opinion that the
Star Gas/Petro transaction is fair, from a financial point of view, to the
holders of Common Units.

     The completion of the Star Gas/Petro transaction is subject to the receipt
of regulatory approvals, the approval of the Partnership's non-affiliated Common
unitholders and non-affiliated Petro shareholders and other necessary
partnership and corporate approvals.

Business


     The Partnership is primarily engaged in the retail distribution of propane
and related equipment and supplies to residential, commercial, industrial,
agricultural and motor fuel customers.  The Partnership believes that it is the
eighth largest retail propane distributor in the United States, serving
approximately 166,000 customers from 55 branch locations and 32 satellite
storage facilities in the Midwest and 19 branch locations and 14 satellite
storage facilities in the Northeast The Partnership also serves approximately 30
wholesale customers from its wholesale operation in southern Indiana.


Industry Background

     Propane is used primarily for space heating, water heating and cooking by
residential and commercial customers, which constitute the largest portion of
the customer base.  Propane is extracted from natural gas or oil wellhead gas at
processing plants or separated from crude oil during the refining process.
Propane is normally transported and stored in a liquid state under moderate
pressure or  refrigeration for ease of  handling in shipping and  distribution.
When the pressure is released or the temperature is increased, it is usable as a
flammable gas.  Propane is colorless and odorless; an odorant is added to allow
its detection.  Propane is clean-burning, producing negligible amounts of
pollutants when consumed. According to the National Propane Gas Association, the
domestic retail market for propane is approximately 9.4 billion gallons
annually, with limited growth for retail demand for the product.  Based upon
information contained in the Energy Information Administration's Annual Energy
Review-1995, propane accounts for approximately 3.8% of household energy
consumption in the United States.

Business Strategy

     The Partnership's strategy is to maximize its cash flow and profitability,
primarily through (i) acquisitions which have the potential for generating
attractive returns on investment, (ii)  internal growth and (iii) controlling
operating costs. The retail propane industry is mature and experiences only
limited growth in total demand for the product.  The propane industry is also
large and highly fragmented, with approximately 6,000 independently owned and
operated distributors.

                                       5
<PAGE>
 
Business Strategy (continued)

Given these characteristics, the Partnership's acquisition strategy is focused
on acquiring smaller to medium-sized local and regional independent propane
distributors, particularly those with a relatively large percentage of
residential customers which generate higher margins than other types of
customers and those located in the Midwest and Northeast, where the Partnership
believes it can attain higher margins than in other areas of the United States.

     The Partnership has had access to Petro's management expertise and believes
that it will continue to have such access whether or not the Star Gas/Petro
transaction is consummated. The Partnership believes that the extensive
experience of Petro's management team in making acquisitions in the home heating
oil industry, which has many similar characteristics to the propane industry,
provides the Partnership with a competitive advantage. Additionally, the field
of potential acquisition candidates for the Partnership has been broadened
because of the ability to acquire companies with both home heating oil and
propane operations, with the Partnership retaining the propane operations and
Petro retaining the home heating oil operations or the Partnership retaining
both the propane and the home heating oil operations. In this regard, although
the Partnership does not presently have any home heating oil operations, it may
consider acquiring or retaining such operations in the future even if the Star
Gas/Petro transaction is not completed to the extent that the Partnership is
able to identify attractive acquisition candidates in the home heating oil
field.

     In order to facilitate the Partnership's acquisition strategy, the
Operating Partnership has entered into bank credit facilities which consist of a
$25.0 million acquisition facility (of which $9.0 million was outstanding as of
September 30, 1998) and a $12.0 million working capital facility (of which $4.8
million was outstanding as of September 30, 1998).  In addition to borrowings
under the bank credit facilities, the Partnership may fund future acquisitions
from internal cash flow, the issuance of additional Partnership interests or
debt securities.

     While the Partnership regularly considers and evaluates acquisitions as
part of its ongoing acquisition program, the Partnership does not currently have
any present agreements or commitments with respect to any material acquisition
other than the Petro acquisition.  There can be no assurance that the
Partnership will identify attractive acquisition candidates in the future or
that it will be able to acquire such candidates or obtain financing for such
acquisitions on acceptable terms.  If the Partnership is able to make
acquisitions, there can be no assurance, however, that such acquisitions will
not dilute earnings and distributions to Unitholders.  The General Partner has
broad discretion in making acquisitions and it is expected that the General
Partner will not generally seek Unitholder approval of acquisitions.

Marketing and Operations

     As of September 30, 1998, the Partnership distributed propane and provided
related services to approximately 166,000 retail customers in 13 states from 74
branch locations.  The Partnership's operations are conducted under several
trademarks and trade names including: Star Gas(R), Star Gas Service, Silgas,
Blue Flame(R), Maingas, Arrow Gas, Mid-Hudson Valley Propane, Coleman Gas
Service, H & S Gas, Isch Gas, Wilhoyte L.P. Gas, Rural Natural Gas, Pearl Gas,
Bay State-Arrow Gas, Knowles L.P. Gas and Lowe Bros. & Dad.  The Partnership
does not have the right to use the trademark Star Gas(R) in the State of New
York nor does the Partnership have the right to use the Blue Flame(R) trademark
in certain limited areas outside of the Partnership's current area of
operations.  The marketing areas served by the Partnership are generally rural
but also include suburban areas where natural gas is generally not available.

                                       6
<PAGE>
 
Marketing and Operations (continued)

     The Partnership's retail operations are located primarily in the Northeast
and Midwest regions of the United States as follows:



<TABLE>
<CAPTION>
NORTHEAST                                                               MIDWEST
---------                                                               -------                   
<S>                                    <C>                              <C>                      <C> 
Connecticut                            Pennsylvania                     Indiana                  Kentucky (continued)
Stamford                               Hazleton                         Akron                    Shelbyville
Hartford                               Wind Gap                         Batesville
                                                                        Bedford                  Michigan
Maine                                  Rhode Island                     Bluffton                 Charlotte
Fairfield                              Davisville                       Coal City                Hillsdale
Fryeburg                                                                College Corner           Somerset Center
Skowhegan                                                               Columbia City
Wells                                                                   Decatur                  Ohio
Windham                                                                 Ferdinand                Bowling Green
                                                                        Greencastle              Cincinnati
Massachusetts                                                           Jeffersonville           Defiance
Belchertown                                                             Linton                   Deshler
Rochdale                                                                Madison                  Ft. Recovery
Westfield                                                               New Salisbury            Hebron
Swansea                                                                 N. Manchester            Ironton
                                                                        N. Vernon                Kenton
New Hampshire                                                           N. Webster               Lancaster
(from Fryeburg, ME)                                                     Portland                 Lewisburg
                                                                        Remington                Lynchburg
New Jersey                                                              Richmond                 Macon
Maple Shade                                                             Salem                    Maumee
Tuckahoe                                                                Seymour                  McClure
                                                                        Sulphur Springs          Milford
New York                                                                Versailles               Mt. Orab
Addison                                                                 Warren                   North Star
Poughkeepsie                                                            Waterloo                 Ripley
Washingtonville                                                         Winamac                  Sabina
                                                                        Kentucky                 West Union
                                                                        Dry Ridge
                                                                        Glencoe                  West Virginia
                                                                        Prospect                 (from Ironton, OH)
</TABLE>



     The distribution of propane at the retail level generally involves large
numbers of small deliveries averaging 100-150 gallons each to the majority of
the Partnership's customer base.  Homeowners or residential customers use
propane primarily for space heating, water heating, clothes drying and cooking.
Commercial customers such as motels, restaurants, retail stores and laundromats,
generally use propane for the same purposes as residential customers.
Industrial users, such as manufacturers, use propane as a heating and energy
source in the manufacturing and drying processes.  In addition, propane is used
to dry crops, cure tobacco and as a fuel source for certain motor vehicles.

                                       7
<PAGE>
 
Marketing and Operations (continued)


     During the fiscal year ended September 30, 1998, approximately 79% of the
Partnership's sales (by volume of gallons sold) were to retail customers.  Of
this amount, approximately 54% of sales by volume were to residential customers,
19% to commercial/industrial customers, 19% to agricultural customers and 8% to
motor fuel customers.  The remaining 21% of sales by volume were to wholesale
customers.  Sales to residential customers in fiscal year 1998 accounted for 58%
of the Partnership's gross profit on propane sales, reflecting the higher-margin
nature of this segment of the retail market.


     The Partnership also sells installs and services equipment related to its
propane distribution business, including heating and cooking appliances and at
some locations rents water softeners.  Typical branch locations consist of an
office, appliance showroom, warehouse and service facilities, with one or more
12,000 to 30,000 gallon bulk storage tanks located on or near the premises.
Satellite facilities typically contain only bulk storage tanks.


     Retail deliveries of propane are usually made to customers by means of the
Partnership's fleet of 280 bobtail and rack trucks.  Propane is pumped from the
bobtail truck, which generally holds 2,000 to 3,000 gallons, into a stationary
storage tank on the customer's premises.  The Partnership generally owns these
storage tanks.  The capacity of these tanks ranges from approximately 24 gallons
to 1,000 gallons.  The Partnership also delivers propane to retail customers in
portable cylinders, which typically are picked up and replenished at the
Partnership distribution locations, then returned to the retail customer.  To a
limited extent, the Partnership also delivers propane to certain end users of
propane in larger trucks known as transports (which have an average capacity of
9,000 gallons).  Users receiving transport deliveries include industrial
customers, large-scale heating accounts such as local gas utilities which use
propane as a supplemental fuel to meet peak demand requirements and large
agricultural accounts which use propane for crop drying and space heating.  "See
Item 2--Properties".

     A majority of the Partnership's residential customers receive their propane
supply pursuant to an automatic delivery system which eliminates the customer's
need to make an affirmative purchase decision.  The Partnership delivers propane
to its customers approximately five times during the year, depending upon
weather conditions and historical consumption patterns. In addition, the
Partnership provides emergency service seven days a week, 52 weeks a year.
Management believes its propane customer base to be relatively stable. In excess
of 95% of the Partnership's retail propane customers lease their tanks from the
Partnership.  In most states, certain fire safety regulations restrict the
refilling of a leased tank solely to the propane supplier that owns the tank.
Historically, the inconvenience associated with switching tanks greatly reduces
a propane customer's tendency to change their distributor.

     Profits in the retail propane business are primarily based on margins, the
cents-per-gallon difference between the purchase price and the sales price of
propane.  The Partnership generally purchases propane under supply contracts
spanning several months and in the spot market. These purchases are primarily
from natural gas processors and major oil companies. As a result, its supply
costs fluctuate with market price fluctuations.  Should wholesale propane prices
decline in the future, the Partnership's margins on its retail propane
distribution business should increase in the short-term, because retail prices
tend to change less rapidly than wholesale prices.  Should the wholesale cost of
propane increase, for similar reasons, retail margins and profitability would
likely be reduced at least for the short-term, until retail prices can be
increased.

Seasonality

     The retail market for propane is seasonal because it is used primarily for
heating in residential and commercial buildings.  Historically 70% - 75% of the
Partnership's retail propane volume is sold during the peak heating season from
October through March.

                                       8
<PAGE>
 
Seasonality (continued)

     Consequently, sales and operating profits are largely generated during the
Partnership's first and second fiscal quarters. The Partnership seeks to reserve
cash flows from the first and second fiscal quarters for distribution to holders
of its Partnership interests in the third and fourth fiscal quarters. In
addition, sales volume traditionally fluctuates from year to year in response to
variations in weather, prices and other factors.

Supply

     The Partnership obtains propane from over 30 sources, all of which are
domestic or Canadian oil companies, including: Amoco Canada Marketing Corp.;
Bayway Refining Company; Domex, Inc.; Enron Gas Liquids, Inc.; Ferrell North
America; Marathon Ashland Petroleum, LLC; MarkWest Hydrocarbons; Mobil Oil
Company; Petro Canada LPG Inc.; Shell Canada Limited; Sea-3, Inc.; Shell Oil
Company; and Warren Gas Liquids, Inc. Supplies from these sources have
traditionally been readily available, although no assurance can be given that
supplies of propane will be readily available in the future.
    
     The Partnership supplies its Midwest retail and wholesale operations
through a combination of purchases from suppliers in Mont Belvieu, Texas and
from a number of Midwest refineries.  Purchases from Mont Belvieu are typically
transported by pipeline to the Partnership's 21 million gallon underground
storage facility located in Seymour, Indiana (the "Seymour Facility") and then
delivered by truck to the Midwest branches and wholesale customers.  Refinery
based purchases are transported by truck from the terminal location to the
retail operations or to wholesale customers. Typically, refinery purchases are
made pursuant to market based contracts.  The Partnership may enter into forward
contracts with Mont Belvieu suppliers or refineries which call for a fixed price
for the product to be purchased based on current market conditions, with
delivery occurring at a later date.  In most cases, the Partnership has entered
into similar agreements to sell this product to customers for a fixed price.  In
the event that the Partnership enters into a purchase contract without a
subsequent sales contract, it is exposed to some market risk.  For the year
ended September 30, 1998 the Partnership entered into one contract to purchase
1.0 million gallons with delivery to occur prior to March, 1999.      

     The Seymour Facility is located on the TEPPCO Partners, L.P. pipeline
system. The pipeline is connected to Mont Belvieu's storage facilities and is
one of the largest conduits of supply for the U.S. propane industry.  The
Seymour Facility allows the Partnership to buy and store large quantities of
propane during periods of low demand, which generally occur during the summer
months. The General Partner believes that this ability allows the Partnership to
achieve cost savings to an extent generally not available to many of the
Partnership's competitors in its Midwest markets.

     For fiscal 1998, 28% of the Midwest volume was purchased from various Mont
Belvieu sources, 27% was purchased from three refineries in Illinois, Kentucky
and Michigan owned by Marathon Ashland Petroleum, LLC and 23% was purchased from
three refineries in Illinois and Indiana owned by the Amoco Canada Marketing
Corp.  The balance was purchased from seven separate suppliers.  The Partnership
believes that its diversification of suppliers will enable it to purchase all of
its supply needs at market prices if supplies are interrupted from any of the
sources, without a material disruption of its operations.


     Substantially all of the Partnership's propane supply for its Northeast
retail operations are purchased under annual supply contracts which generally
provide for pricing in accordance with market prices at the time of delivery.
Certain contracts provide for minimum and maximum amounts of propane to be
purchased.  During the year ended September 30, 1998, none of the Partnership's
Northeast suppliers accounted for more than 10% of the Partnership's propane
purchases.

                                       9
<PAGE>
 
Competition

     The Partnership's retail propane business is highly competitive, however,
long-standing customer relationships are typical.  Retail propane customers
generally lease their storage tanks from their suppliers.  The lease terms and,
in most states, certain fire safety regulations restrict the refilling of a
leased tank solely to the propane supplier that owns the tank.  The
inconvenience of switching tanks minimizes a customer's tendency to switch among
suppliers of propane.

     Furthermore, the ability to compete effectively depends on the
Partnership's ability to reliably service the customer's needs and the ability
to maintain competitive prices.  The Partnership believes that its superior
service capabilities and customer responsiveness differentiate it from many of
its competitors.  Branch operations offer emergency service twenty-four hours
per day, seven days per week.

     Propane competes primarily with electricity, natural gas and fuel oil as an
energy source on the basis of price, availability and portability.  Propane is
generally less expensive to use than electricity for space heating, water
heating, clothes drying and cooking and competes effectively in those parts of
the country where propane is cheaper than electricity on an equivalent British
Thermal Unit basis.  Propane is generally more expensive than natural gas, but
serves as an alternative to natural gas in rural and suburban areas where
natural gas is unavailable or portability of product is required.  The expansion
of natural gas into traditional propane markets has historically been inhibited
by the capital costs required to expand distribution and pipeline systems.
Although the extension of natural gas pipelines tends to displace propane
distribution in the areas affected, the Partnership believes that new
opportunities for propane sales arise as more geographically remote areas are
developed. Although propane is similar to fuel oil in space heating and water
heating applications as well as in market demand and price, propane and fuel oil
have generally developed their own distinct geographic markets.  Because
furnaces and appliances that burn propane will not operate on fuel oil, a
conversion from one fuel to the other requires the installation of new
equipment.


     In addition to competing with alternative energy sources, the Partnership
competes with other companies engaged in the retail propane distribution
business.  Competition in the propane industry is highly fragmented and
generally occurs on a local basis with other large full-service multi-state
propane marketers, smaller local independent marketers  and farm cooperatives.
Based on industry publications, the Partnership believes that the ten largest
multi-state marketers, including the Partnership, account for less than 35% of
the total retail sales of propane in the United States, and that no single
marketer has a greater than 10% share of the total retail market in the United
States. Most of the Partnership's branches compete with five or more marketers.
The principal factors influencing competition among propane marketers are price
and service.  Each retail distribution outlet operates in its own competitive
environment as retail marketers locate in close proximity to customers to lower
the cost of providing service. The typical retail distribution outlet has an
effective marketing radius of approximately 35 miles.


Employees

     The Partnership has no direct employees, except for certain employees of
its corporate subsidiary, Stellar Propane Service Corporation and is managed by
the General Partner pursuant to the Partnership Agreement.  As of September 30,
1998, Star Gas had 624 employees providing full time services to the Operating
Partnership, of which 44 were employed by the corporate office in Stamford,
Connecticut and 580 were located in branch offices, of which 177 were
Administrative, 286 were engaged in transportation and storage and 117 were
engaged in field servicing.  Approximately 78 of Star Gas' employees are
represented by six different local chapters of labor unions.


     Management believes that its relations with both its union and non-union
employees are satisfactory.

                                       10
<PAGE>
 
Government Regulations

     The Partnership is subject to various federal, state and local
environmental, health and safety laws and regulations.  Generally, these laws
impose limitations on the discharge of pollutants and establish standards for
the handling of solid and hazardous wastes.  These laws include the Resource
Conservation and Recovery Act, the Comprehensive Environmental Response,
Compensation and Liability Act ("CERCLA"), the Clean Air Act, the Occupational
Safety and Health Act, the Emergency Planning and Community Right to Know Act,
the Clean Water Act and comparable state statues.  CERCLA, also known as the
"Superfund law", imposes joint and several liability without regard to fault or
the legality of the original conduct on certain classes of persons that are
considered to have contributed to the release or threatened release of a
hazardous substance into the environment.  Propane is not a hazardous substance
within the meaning of CERCLA.  Such laws and regulations could result in civil
or criminal penalties in cases of non-compliance or impose liability for
remediation costs.  To date, the Partnership has not been named as a party to
any litigation in which the Partnership is alleged to have violated or otherwise
incurred liability under any of the foregoing laws and regulations.


     In connection with all acquisitions of retail propane businesses that
involve the purchase of real estate, the Partnership conducts a due diligence
investigation in an attempt to determine whether any substance, other than
propane, has been sold from or stored on any such real estate prior to its
purchase.


     Such due diligence includes questioning the seller, obtaining
representations and warranties concerning the seller's compliance with
environmental laws and visual inspections of the properties, in which employees
of the General Partner, and in certain cases, independent environmental
consulting firms hired by the General Partner, look for evidence of hazardous
substances or the existence of underground storage tanks.

     National Fire Protection Association Pamphlets No. 54 and No. 58, which
establish rules and procedures governing the safe handling of propane, or
comparable regulations, have been adopted as the industry standard in all of the
states in which the Partnership operates.  In some states these laws are
administered by state agencies, and in others they are administered on a
municipal level.  With respect to the transportation of propane by truck, the
Partnership is subject to regulations promulgated under the Federal Motor
Carrier Safety Act.  These regulations cover the transportation of hazardous
materials and are administered by the United States Department of
Transportation.  The Partnership conducts ongoing training programs to help
ensure that its operations are in compliance with applicable regulations.  The
Partnership maintains various permits that are necessary to operate some of its
facilities, some of which may be material to its operations.  Management
believes that the procedures currently in effect at all of its facilities for
the handling, storage and distribution of propane are consistent with industry
standards and are in compliance in all material respects with applicable laws
and regulations.

     On August 18, 1997, the U.S. Department of Transportation ("DOT") published
its Final Rule for Continued Operation of the Present Propane Trucks ("Final
Rule").  The Final Rule is intended to address perceived risks during the
transfer of propane.  The Final Rule required certain immediate changes in
industry operating procedures, including retrofitting all propane delivery
trucks with a system that would automatically shut down the delivery vehicle's
engine and propane delivery system in the event a leak was detected.  The
Partnership, as well as the National Propane Gas Association ("NPGA") and the
propane industry in general, believe that the Final Rule cannot practicably be
complied with in its current form.  On October 15, 1997, five of the principal
multi-state propane marketers (unrelated to the Partnership) filed an action
against the DOT in the United States District Court for the Western District of
Missouri seeking to enjoin enforcement of the Final Rule.  The NPGA subsequently
filed a similar suit.  Both suits are still pending. On February 13, 1998 the
Court issued a preliminary injunction prohibiting the enforcement of the Final
Rule pending further action by the Court. In addition, Congress passed and on
October 21, 1998 the President of the United States signed the FY 1999
Transportation Appropriations Act which included a provision restricting the
authority of the Department of Transportation from enforcing certain provisions
of the Final Rule.  At this time, the Partnership cannot 

                                       11
<PAGE>
 
Government Regulations (continued)

determine the likely outcome of the litigation or the proposed legislation or
what the ultimate long-term cost of compliance with the Final Rule will be to
the Partnership and the propane industry in general.

     Future developments, such as stricter environmental, health or safety laws
and regulations thereunder, could affect Partnership operations. It is not
anticipated that the Partnership's compliance with or liabilities under
environmental, health and safety laws and regulations, including CERCLA, will
have a material adverse effect on the Partnership.  To the extent that there are
any environmental liabilities unknown to the Partnership or environmental,
health or safety laws or regulations are made more stringent, there can be no
assurance that the Partnership's results of operations will not be materially
and adversely affected.


                               ITEM 2. PROPERTIES
                                        

     At September 30, 1998, the Partnership owned 60 of its 74 branch locations
and 36 of its 46 satellite storage facilities and leased the balance.  In
addition, the Partnership owns a 21 million gallon underground storage facility
located in Seymour, Indiana in which it stores propane for the Partnership and
third parties.  The Partnership leases its corporate headquarters in Stamford,
Connecticut, as well as office and training facilities in the Midwest.

     The transportation of propane requires specialized equipment.  The trucks
utilized for this purpose carry specialized steel tanks that maintain the
propane in a liquefied state.  At September 30, 1998, the Partnership had a
fleet of 29 tractors, 37 transport trailers, 280 bobtail and rack trucks and 302
other service and pick-up trucks.  The majority of these vehicles are owned.  In
addition, the Partnership owns 14 and leases 34 automobiles.  As of September
30, 1998, the Partnership owned approximately 237 bulk storage tanks with
typical capacities of 12,000 to 30,000 gallons, approximately 206,000 stationary
customer storage tanks with typical capacities of 24 to 1,000 gallons and
approximately 30,000 portable propane cylinders with typical capacities of 5 to
24 gallons.  The obligations of the Partnership under its borrowings are secured
by liens and mortgages on all real and personal property of the Partnership.


                     ITEM 3. LEGAL PROCEEDINGS - LITIGATION
                                        

     Propane is a flammable, combustible gas.  Serious personal injury and
property damage can occur in connection with its transportation, storage or use.
The Partnership, in the ordinary course of business, is threatened with or is
named as a defendant in various lawsuits which, among other items, seek actual
and punitive damages for product liability, personal injury and property damage.
However, the Partnership is not a party to any litigation which individually or
in the aggregate could reasonably be expected to have a material adverse effect
on the results of operations or the financial condition of the Partnership.  The
Partnership maintains liability insurance policies with insurers in such amounts
and with such coverages and deductibles as it believes is reasonable and
prudent.  However, there can be no assurance that such insurance will be
adequate to protect the Partnership from material expenses related to such
personal injury or property damage or that such levels of insurance will
continue to be available in the future at economical prices.

                                       12
<PAGE>
 
          ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
                                        

     No matters were submitted to a vote of the security holders of the
Partnership during the fiscal year ended September 30, 1998.

                                    PART II
           ITEM 5. MARKET FOR REGISTRANT'S UNITS AND RELATED MATTERS


     The Common Units, representing common limited partner interests in the
Partnership, are listed and traded on the New York Stock Exchange, Inc. ("NYSE")
under the symbol "SGU".  The Common Units began trading on the NYSE on May 29,
1998.  From December 20, 1995 through May 28, 1998, the Common Units were traded
on the NASDAQ National Market under the symbol "SGASZ".  The following table
sets forth the high and low closing prices for the Common Units and the cash
distribution declared per Common Unit for the periods indicated.


    
<TABLE>
<CAPTION>
                                                                                                     
                                     Common Unit Price Range               Distributions 
                                   High                  Low              Declared per Unit
                           --------------------  --------------------   --------------------    
                                Fiscal Year           Fiscal Year           Fiscal Year 
                           --------------------  --------------------   -------------------- 
Three Months Ending            1997      1998       1997     1998         1997      1998
                               ----      ----       ----     ----         ----      ---- 
<S>                          <C>         <C>       <C>       <C>         <C>       <C> 
December 31,                  $23.88     $23.38    $21.75    $20.50      $0.55     $0.55
                                                                                  
March 31,                     $24.63     $24.75    $20.75    $21.38      $0.55     $0.55
                                                                                  
June 30,                      $21.88     $23.00    $19.00    $20.50      $0.55     $0.55
                                                                                   
September 30,                 $23.50     $22.38    $21.00    $20.13      $0.55     $0.55
                                                                                   
</TABLE>                                    


   As of September 30, 1998, there were approximately 175 holders of record of
the Partnership's Common Units.  There is no established public trading market
for the Partnership's 2,396,078 Subordinated Units, representing limited partner
interests ("Subordinated Units") which are all held by Star Gas Corporation.
The Partnership makes quarterly distributions of cash to its partners in an
aggregate amount equal to its Available Cash (as defined) for such quarter.
Available Cash generally means, with respect to any fiscal quarter of the
Partnership, all cash on hand at the end of such quarter, plus all additional
cash on hand as of the date of determination resulting from borrowings
subsequent to the end of such quarter, less the amount of cash reserves required
under certain lending arrangements and certain discretionary reserves
established by the General Partner for future cash requirements.  These reserves
are retained to provide for the proper conduct of the Partnership's business,
the payment of debt principal and interest and to provide funds for distribution
during the next four quarters.  The full definition of Available Cash is set
forth in the Agreement of Limited Partnership of the Partnership.  The
information concerning restrictions on distributions required in this section is
incorporated herein by reference to the Partnership's Consolidated Financial
Statements which begin on page F-1 of this Report.  Distributions of Available
Cash to the holders of the Subordinated Units are subject to the prior rights of
the Common unitholders to receive the MQD for each quarter during the
subordination period, and to receive any arrearages in the distribution of the
MQD on the Common Units for prior quarters during the subordination period.

                                       13
<PAGE>
 
            ITEM 6. SELECTED HISTORICAL FINANCIAL AND OPERATING DATA


   The following table sets forth selected historical and other data of the
Partnership and the Predecessor Company and should be read in conjunction with
the more detailed financial statements included elsewhere in this report.  See
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations.


   The Selected Financial Data is derived from the financial information of the
Partnership and should be read in conjunction therewith.


    
<TABLE>
<CAPTION>
                                                                              Partnership/Predecessor Company
                                                                --------------------------------------------------------
                                                                                    Year Ended September 30,
                                                                                  ------------------------
Statement of Operations Data:                                     1994        1995       1996(a)     1997        1998(f)
                                                                  ----        ----       -------     ----        -------  
                                                                       (in thousands, except per unit data)
<S>                                                             <C>         <C>         <C>         <C>         <C>
Sales....................................................        $128,040    $104,550    $119,634    $135,159    $111,685
                                                          
                                                          
Costs and expenses:                                       
  Cost of sales..........................................         58,553       49,660      58,557      72,211      49,498
  Delivery and branch expenses                                    41,530       35,222      34,750      36,427      37,216
  General and administrative expenses                              6,011        6,127       6,457       6,818       6,065
  Net gain (loss) on sales of assets                                 486         (913)       (260)       (295)       (271)
  Depreciation and amortization                                   12,878       10,054       9,680      10,242      11,462
                                                               ---------    ---------      ------     -------      ------
Operating income.........................................          9,554        2,574(b)    9,930       9,166       7,173
  Interest expense, net..................................         10,497        8,549       7,124       6,966       7,927
  Amortization of debt issuance costs                                161           19         128         163         176
                                                               ---------    ---------      ------     -------      ------
Income (loss) before income taxes                                 (1,104)      (5,994)(b)   2,678       2,037        (930)
  Income tax expense                                                 300          175          85          25          25
                                                               ---------    ---------      ------     -------      ------
  Net income (loss)......................................        $(1,404)   $  (6,169)(b)  $2,593      $2,012       $(955)
                                                               =========    =========      ======     =======       =====
General Partner's interest in net income (loss)                                                            40         (19)
                                                                                                      -------    --------
Limited Partner's interest in net income (loss)                                                        $1,972     $  (936) 
                                                                                                      =======    ========  
  Net income (loss) per unit (c).........................                                  $ 0.11(e)   $ 0.37     $ (0.16) 
  Cash distribution declared per unit....................                                  $ 1.17(e)   $ 2.20       $2.20
Weighted average number of limited partner units outstanding                                5,271       5,271       6,035
                                                          
Balance Sheet Data (end of period):                       
  Current assets.........................................        $17,374      $14,266     $17,842     $14,165    $17,947
  Total assets...........................................        147,608      155,393     156,913     147,469    179,607
  Long-term debt.........................................         70,163        1,389      85,000      85,000    104,308
  Due to Petro...........................................          8,809       86,002           -           -          -
  Predecessor's equity/Partners' Capital.................         44,328       44,305      61,398      51,578     57,347
                                                          
Summary Cash Flow Data:                                                 
  Net Cash provided by operating activities                        2,107          417       9,982      18,964      9,264
  Net Cash provided by (used in) investing activities             (5,979)       1,412      (6,954)     (4,905)   (13,276)
  Net Cash provided by (used in) financing activities              4,967       (2,927)     (2,649)    (14,276)     4,238
                                                          
Other Data:                                                           
Earnings before interest, taxes, depreciation and                     
 amortization)                                                        
amortization and less net gain (loss) on sales of                     
  equipment (EBITDA)(d)                                          $21,946      $13,541(b)  $19,870     $19,703    $18,906
  Retail propane gallons sold............................        110,069       89,133      96,294      94,893     98,870
Ratio of earnings to fixed charges (g)                                 -            -        1.22x       1.27x         -
</TABLE>      

                                       14
<PAGE>
 
ITEM 6. SELECTED HISTORICAL FINANCIAL AND OPERATING DATA (continued)


(a)  Reflects the results of operations of the Predecessor Company for the
     period October 1, 1995 through December 20, 1995 and the results of the
     Partnership from December 20, 1995 through September 30, 1996. The
     operating results for the year ended September 30, 1996 were combined to
     facilitate an analysis of the fundamental operating data. For the actual
     results of the Partnership from December 20, 1995 through September 30,
     1996, see Item 14, Page F-4.


(b)  The decline in operating income, net income and EBITDA during the fiscal
     year 1995 was primarily due to the significantly warmer than normal weather
     conditions during the 1995 heating season.

(c)  Net income (loss) per unit is computed by dividing the limited partners'
     interest in net income (loss) by the weighted average number of limited
     partner units outstanding.
    
(d)  EBITDA is defined as operating income plus depreciation and amortization,
     less net gain (loss) on sales of assets. EBITDA should not be considered as
     an alternative to net income (as an indicator of operating performance) or
     as an alternative to cash flow (as a measure of liquidity or ability to
     service debt obligations), but provides additional information for
     evaluating the Partnership's ability to make the Minimum Quarterly
     Distribution. The definition of "EBITDA" set forth above may be different
     from that used by other companies.      

(e)  Represents net income per unit and cash distributions paid per unit for the
     period December 20, 1995 through September 30, 1996.

(f)  During fiscal 1998, temperatures were 14.0% warmer than normal and 11.8%
     warmer than fiscal 1997 in the Partnership's marketing areas.
    
(g)  For purposes of determining the ratio of earnings to fixed charges,
    earnings are defined as earnings (loss) from continuing operations before
    income taxes. plus fixed charges. Fixed charges consist of interest expense
    on all indebtedness and amortization of deferred issuance costs and the
    portion of operating lease rental expense that is representative of the
    interest factor. For the years ended September 30, 1994, 1995 and 1998
    earnings were inadequate to cover fixed charges by $1.4 million, $6.2
    million and $0.9 million, respectively.      

                                       15
<PAGE>
 
                ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
                 FINANCIAL CONDITION AND RESULTS OF OPERATIONS


Overview


   In analyzing the historical financial results of the Partnership, the
following matters should be considered.

    
   The financial results of a given year do not necessarily reflect the full
impact of that year's acquisitions.  Historically, most acquisitions have been
made during the non-heating season because many sellers desire to retain winter
profits but avoid summer losses.  Therefore, the effect of acquisitions made
after the heating season would not be fully reflected in the Partnership's sales
volume and operating and financial results until the following fiscal year.  In
fiscal 1998, the Partnership completed six acquisitions after the heating
season, which did not significantly impact fiscal 1998 results.  The aggregate
cost of these acquisitions was $11.0 million with estimated annual volumes of
4.8 million gallons.  Since these acquisitions were completed after the heating
season, the Partnership cannot fully determine the impact of customer losses on
the useful life of the customer lists acquired.  The Partnership intends to
monitor customer losses from acquisitions in order to determine the appropriate
useful life.  The Partnership has assigned a useful life of 15 years to these
acquired customer lists and this estimate may change.      
    
   Gross margins vary according to customer mix.  For example, sales to certain
customer groups, such as residential or commercial, generally generate higher
gross margins than sales to other customer groups, such as agricultural
customers.  Accordingly, a change in customer mix can affect gross margins
without necessarily impacting total sales.      

   Because propane's primary use is for heating in residential and commercial
buildings, weather conditions have a significant impact on the financial
performance of the Partnership.  Management believes that despite year-to-year
fluctuations, average temperatures have been relatively stable over time.
Nevertheless, as reflected by the unusually warm weather in fiscal 1998, actual
yearly weather conditions can vary substantially from historical averages.
Accordingly, in analyzing changes in financial performance, the weather
conditions in which the Partnership operated in any given period should be
considered.

   The following discussion reflects the results of operations and operating
data for fiscal years 1996, 1997 and 1998.  For fiscal 1996, the Predecessor
Company for the period October 1, 1995 through December 20, 1995 and the results
of the MLP from December 20, 1995 through September 30, 1996 were combined in
order to facilitate an analysis of the fundamental operating data.

FISCAL YEAR ENDED SEPTEMBER 30, 1998
------------------------------------
COMPARED TO FISCAL YEAR ENDED SEPTEMBER 30, 1997
------------------------------------------------

Volume



   For the year ended September 30, 1998, retail propane volume increased 4.2%
or 4.0 million gallons to 98.9 million gallons, as compared to 94.9 million
gallons for fiscal 1997.  This increase was due to the October 1997 acquisition
of Pearl Gas Co., and to a lesser extent, six acquisitions completed subsequent
to the end of the heating season which provided 12.1 million gallons of
additional volume.  The positive impact of the fiscal 1998 acquisitions was
partially offset by temperatures which were 11.8% warmer than fiscal 1997 and
14.0% warmer than normal in the Partnership's marketing areas.  For fiscal 1998,
wholesale volume declined by 12.4 million gallons or 32.3% to 26.0 million
gallons, as compared to 38.4 million gallons for fiscal 1997.  This decline was
attributable to the abnormally warm winter weather and a reduction in spot sales
to certain customers.

                                       16
<PAGE>
 
Sales


     Sales decreased 17.4%, or $23.5 million, to $111.7 million for fiscal 1998,
as compared to $135.2 million for fiscal 1997.  This decline was primarily due
to lower retail and wholesale selling prices in response to lower propane supply
costs and weather-related reductions in volume, partially offset by the
additional sales provided by acquisitions.

Cost of Sales

    
     Cost of sales declined 31.5%, or $22.7 million, to $49.5 million for fiscal
1998, as compared to $72.2 million for fiscal 1997.  This decline was
attributable to lower wholesale propane supply costs and the weather-related
decrease in both retail and wholesale volumes.  The decline in sales exceeded
the decline in cost of sales by $0.7 million due to lower wholesale volume and a
decline in wholesale margins.      

         
Delivery and Branch Expenses


     Delivery and branch expenses increased 2.2%, or $0.8 million, to $37.2
million for fiscal 1998, as compared to $36.4 million for fiscal 1997.  This
increase of 2.2% was less than the 4.2% increase in retail propane volume.  The
Partnership was able to partially offset $3.1 million of additional operating
costs associated with operating an approximately 12% larger business, by
reducing personnel costs, insurance expense and certain other discretionary
costs by $2.3 million, reflecting management's response to the warm winter
weather and continuing efforts to reduce operating expenses.


Depreciation and Amortization

    
     Depreciation and amortization expense increased $1.3 million to $11.5
million for fiscal 1998, as compared to $10.2 million for fiscal 1997.  This
increase was due to the additional depreciation and amortization expenses
associated with the fiscal 1998 acquisitions and capital expenditures made
during fiscal 1998 and 1997.      


General and Administrative Expenses


     General and administrative expenses decreased by $0.7 million to $6.1
million for fiscal 1998, as compared to $6.8 million for fiscal 1997.  This
decline was primarily due to the recognition of $0.9 million of expenses in
fiscal 1997 relating to the strategic initiative, which was concluded in March
1997.


Interest Expense, net


     Interest expense, net of interest income, increased 13.8%, or $0.9 million
to $7.9 million for fiscal 1998, as compared to $7.0 million for fiscal 1997.
This increase was primarily due to an increase in long-term debt associated with
the Pearl Gas and other acquisitions.


Net Income (loss)

    
     Net income (loss) declined $3.0 million to a loss of $1.0 million for
fiscal 1998, as compared to net income of $2.0 million for fiscal 1997.  This
change in net income was due to lower wholesale gross margin and to the increase
in depreciation, amortization and interest expenses associated with Pearl Gas
and six additional acquisitions.      

                                       17
<PAGE>
 
    
Earnings before interest, taxes, depreciation and amortization and less net gain
(loss) on sales of equipment (EBITDA)      

    
     Earnings before interest, taxes, depreciation and amortization less net
gain (loss) on sales of equipment (EBITDA) declined $0.8 million or 4.0% to
$18.9 million for fiscal 1998, as compared to $19.7 million for fiscal 1997.
This small decline occurred in a period in which temperatures were 11.8% warmer
than fiscal 1997 and 14.0% warmer than normal.  The Partnership was able to
mitigate the effects of the abnormally warm winter weather by the additional
EBITDA provided from acquisitions, an increase in retail margins and a reduction
in delivery, branch and administrative expenses.  EBITDA should not be
considered as an alternative to net income (as an indicator of operating
performance) or as an alternative to cash flow (as a measure of liquidity or
ability to service debt obligations), but provides additional information for
evaluating the Partnership's ability to make the Minimum Quarterly Distribution.
The definition of "EBITDA" set forth above may be different from that used by
other companies.      


FISCAL YEAR ENDED SEPTEMBER 30, 1997
------------------------------------
COMPARED TO FISCAL YEAR ENDED SEPTEMBER 30, 1996
------------------------------------------------


Volume


     For the year ended September 30, 1997, retail propane volume declined 1.4
million gallons, or 1.5%, to 94.9 million gallons, as compared to 96.3 million
gallons for fiscal 1996.  The decline was primarily attributable to the effect
on volume of warmer temperatures experienced during the second fiscal quarter
compared to the prior year's second fiscal quarter and to customer conservation
efforts attributable to significantly higher propane selling prices.  The
Partnership was able to mitigate the effects of the warmer temperatures on
retail propane volume through both internal account growth and two acquisitions
completed subsequent to the fiscal 1996 heating season.  Also favorably
impacting the year-to-year comparison was an increase in sales to agricultural
customers, resulting from a return to more normal propane demand for
agricultural uses.


Sales


     For the year ended September 30, 1997, sales increased $15.6 million, or
13.0%, to $135.2 million, as compared to $119.6 million for the year ended
September 30, 1996.  The increase was due to higher selling prices in response
to an industry wide significant increase in propane supply costs experienced
during fiscal 1997.

    
Cost of Sales


     Cost of sales increased $13.6 million, or 23.3%, to $72.2 million for
fiscal 1997, as compared to $58.6 million for fiscal 1996.  The increase was due
to higher per gallon propane supply costs.  The increase in sales exceeded the
increase in cost of sales by approximately $1.9 million.  The increase was due
to higher per gallon margins across all market segments and was partially offset
by the impact of slightly lower retail propane volume.      

         
Delivery and Branch Expenses


     Delivery and branch expenses increased $1.6 million, or 4.8%, to $36.4
million for fiscal 1997, as compared to $34.8 million for fiscal 1996.  The
increase was primarily due to the additional expenses associated with the first
fiscal quarter's increase in agricultural volume, higher vehicle operating costs
due to an increase in fuel costs and higher employee benefit expenses.

                                       18
<PAGE>
 
Depreciation and Amortization

    
     Depreciation and amortization expenses increased $0.6 million, or 5.8%, to
$10.2 million for fiscal 1997, as compared to $9.7 million for fiscal 1996, due
to the impact of two acquisitions completed since March 15, 1996, the
amortization of certain deferred charges relating to the Partnership's First
Mortgage Notes and depreciation expense associated with capital expenditures
made during fiscal 1997 and 1996.      


General and Administrative Expenses


     General and administrative expenses increased $0.3 million, or 5.6%, to
$6.8 million for fiscal 1997, as compared to $6.5 million for fiscal 1996.  This
increase was primarily due to $0.9 million of one-time expenses associated with
the exploration of strategic alternatives designed to maximize unitholder value
offset by lower acquisition related expenses.  On March 3, 1997, the General
Partner decided to terminate its efforts to seek a merger or possible sale of
the Partnership.


Interest Expense, net


     Interest expense, net of interest income, declined $0.1 million, or 2.2%,
to $7.0 million for fiscal 1997, as compared to $7.1 million for fiscal 1996.
This reduction was primarily due to a decline in the weighted average borrowing
rate.


Income Tax Expense


     Income tax expense primarily represents certain state income taxes related
to the Partnership's wholly owned corporate subsidiary which conducts non-
qualifying master limited partnership business.


Net Income

    
     Net income decreased $0.6 million or 22.4%, to $2.0 million for fiscal
1997, as compared to $2.6 million for fiscal 1996. This decrease was
attributable to the increase in operating expenses, $0.9 million of one-time
costs associated with the exploration of strategic alternatives and $0.6 million
of depreciation and amortization, which was partially offset by $1.9 million
increase in sales in excess of cost of sales.      

    
Earnings before interest, taxes, depreciation and amortization and less net gain
(loss) on sales of equipment (EBITDA)      

    
     Earnings before interest, taxes, depreciation and amortization less net
gain (loss) on sales of equipment (EBITDA) decreased $0.2 million, or 1.0%, to
$19.7 million for fiscal 1997, as compared to $19.9 million for fiscal 1996.
Excluding the one-time expenses associated with the strategic alternative,
EBITDA increased $0.7 million, or 3.7%, to $20.6 million due to improved per
gallon margins across all market segments and growth in the customer base
provided by both internal marketing and acquisition efforts.  EBITDA should not
be considered as an alternative to net income (as an indicator of operating
performance) or as an alternative to cash flow (as a measure of liquidity or
ability to service debt obligations) but provides additional information for
evaluating the Partnership's ability to make the Minimum Quarterly Distribution.
The definition of "EBITDA" set forth above may be different from that used by
other companies.      

                                       19
<PAGE>
 
Liquidity and Capital Resources

      
     In fiscal 1998, net cash generated by operating activities was $9.3
million, as compared to the $19.0 million generated in fiscal 1997.  This
decline of $9.7 million was attributable to a reduction in cash flows provided
from operations of $1.8 million, $5.6 million relating to changes in inventory
balances and $2.3 million relating to changes in short-term liability accounts.
At the end of fiscal 1998, propane inventory was $8.8 million, $4.0 million
higher than at the end of fiscal 1997.  The Partnership decided to increase its
propane inventory to approximately two months supply, to take advantage of lower
wholesale supply costs.  If wholesale supply costs continue to decline and
accordingly, the Partnership does not realize its expected retail selling
prices, the Partnership's gross profit margin would be negatively impacted. 
      
     In fiscal 1998, the Partnership's cash investing activities included $10.4
million in acquisitions, $2.1 million in growth capital expenditures and $2.6
million in maintenance capital expenditures.  In connection with the Pearl
acquisition, the Partnership acquired $1.8 million in cash, which was used to
partially fund these expenditures.

     In fiscal 1998, the Partnership raised $40.0 million from long-term
financing activities, which included $20.2 million from the sale and issue of
additional Partnership interests and $19.8 million from long-term borrowings,
net of expenses.  These long-term financing activities along with $4.7 million
borrowed under the Partnership's working capital facility and $9.3 million in
cash from operating activities provided $54.0 million in funds, which were used
to acquire propane dealers with an aggregate cost of $35.7 million, to purchase
fixed assets of $4.7 million, pay distributions of $13.4 million and to increase
cash by $0.2 million.

     Based on its current cash position, bank credit availability and expected
net cash flow from operating activities, the Partnership expects to be able to
meet all of its obligations for fiscal 1999, as well as all of its other current
obligations as they become due.  For fiscal 1999, the Partnership anticipates
paying interest on its First Mortgage Notes and acquisition facility of $8.3
million, paying Limited and General Partner distributions and plans to purchase
fixed assets of approximately $2.5 million.

Year 2000


     The Year 2000 issue is the result of computer programs using only the last
two digits to indicate the year.  If uncorrected, such computer programs will
not be able to interpret dates correctly beyond the year 1999 and, in some cases
prior to that time (as some computer experts believe), which could cause
computer system failures or other computer errors disrupting business
operations.  Recognizing the potentially severe consequences of the failure to
be Year 2000 compliant, the Partnership's management has developed and
implemented a company-wide program to identify and remedy the Year 2000 issues.

     The scope of the Partnership's Year 2000 readiness program includes the
review and evaluation of the Partnership's information technology (IT) such as
hardware and software utilized in the operation of the Partnership's business.
If needed modifications and conversions are not made on a timely basis, the Year
2000 issue could cause interruption in delivering propane product to customers
or prevent the Partnership from fulfilling their service needs.  The Partnership
is currently using internal and external resources to identify and correct
systems that are not Year 2000 compliant.  Since the Partnership does not
internally develop software for its own use, software developed externally is
being evaluated for Year 2000 compliance.  This software is being upgraded or
replaced if it is determined that it is not compliant.

     As part of this program, the Partnership's systems are being evaluated for
meeting current and future business needs and the Partnership is using this
process as an opportunity to upgrade and enhance its information systems.  The
Partnership anticipates completing such upgrades and replacements as needed by
September 1999.

                                       20
<PAGE>
 
Year 2000 (continued)


Since many systems are being modified to provide significantly enhanced
capabilities, the Year 2000 expenses have not been nor are planned to be
specifically tracked. The Partnership expects that most of these costs will be
capitalized, as they are principally related to adding new hardware and software
applications and functionality.  Other costs will continue to be expensed as
incurred.  Through September 1998, the Partnership estimates that incremental
costs of approximately $0.1 million have been incurred related to Year 2000
issues and its ongoing information technology upgrade program.  The current
estimated cost to complete the upgrade and remediation of non-compliant systems
is expected to be less than $0.4 million.

     The Partnership's current estimates of the amount of time and costs
necessary to remediate and test its computer systems are based on the facts and
circumstances existing at this time.  The estimates were made using assumptions
of future events including the continued availability of existing resources,
Year 2000 modification plans, implementation success by third-parties and other
factors.  New developments may occur that could affect the Partnership's
estimates of the amount of time and costs necessary to modify and test its IT
and non-IT systems for Year 2000 compliance.  These developments include, but
are not limited to: the availability and cost of personnel trained in this area,
the ability to locate and correct all relevant computer codes and equipment and
the planning and Year 2000 compliance success that key suppliers, vendors and
customers attain.

     In addition the Partnership has anticipated the possibility that not all of
its vendors, suppliers and other third parties will have taken the necessary
steps to adequately address their Year 2000 issues on a timely basis.  In order
to minimize the impact on the Partnership, of non-compliance, the Partnership
intends to contact all key suppliers and evaluate their Year 2000 readiness.  If
it is determined that these parties will not be Year 2000 compliant, the
Partnership will prepare a contingency plan for those suppliers whose non-
compliance could have a material effect on the Partnership's business
activities.


Accounting Principles Not Yet Adopted


     The Financial Accounting Standards Board (the "FASB") issued Statement of
Financial Accounting Standards SFAS No. 131  "Disclosure about Segments of an
Enterprise and Related Information."  SFAS No. 131 requires disclosures about
segments of an enterprise and related information such as different types of
business activities and economic environments in which a business operates.
This statement is effective for fiscal years beginning after December 15, 1997.
Accordingly, the Partnership will not be required to adopt SFAS No. 131 until
fiscal 1999.

     In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities". This statement is effective for fiscal
years beginning after June 15, 1999.  SFAS 133 establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts, and for hedging activities. It requires
that an entity recognize all derivatives as either assets or liabilities and
measure the instruments at fair value. The accounting for changes in fair value
of a derivative depends upon the intended use of such derivative. The
Partnership expects to adopt the provisions of SFAS 133 in first quarter of
fiscal 2000.  The company is still evaluating the effects of SFAS 133.

     The adoption of these standards is not expected to have a material effect
on the Partnership's financial position or results of operations.

                                       21
<PAGE>
 
Statement Regarding Forward-Looking Disclosure

   This report includes "forward-looking statements" within the meaning of
Section 27A of the Securities Act and Section 21E of the Exchange Act which
represent the Partnership's expectations or beliefs concerning future events
that involve risks and uncertainties, including those associated with the effect
of weather conditions on the Partnership's financial performance, the price and
supply of propane and the ability of the Partnership to obtain new accounts and
retain existing accounts.  All statements other than statements of historical
facts included in this Report including, without limitation, the statements
under "Management's Discussion and Analysis of Results of Operations and
Financial Condition" and elsewhere herein, are forward-looking statements.
Although the Partnership believes that the expectations reflected in such
forward-looking statements are reasonable, it can give no assurance that such
expectations will prove to have been correct.



                                    ITEM 7A.
                    QUANTITATIVE AND QUALITATIVE DISCLOSURES
                               ABOUT MARKET RISK
                                        

   The Partnership is exposed to interest rate risk primarily through its Bank
Credit facilities.  The Partnership utilizes these borrowings to meet its
working capital needs and also to fund the short-term needs of its acquisition
program. As of September 30, 1998, the Partnership had outstanding borrowings of
approximately $9.0 million under the acquisition Facility and $4.8 million
outstanding under the Working Capital Facility.  In the event that interest
rates associated with these facilities were to increase 100 basis points, the
impact on future cash flows would be approximately $0.1 million.


                                    ITEM 8.
                  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
                  SEE INDEX TO FINANCIAL STATEMENTS PAGE F-1

                                    ITEM 9.
                       CHANGES IN AND DISAGREEMENTS WITH
              ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
                                     NONE

                                   PART III
                                   ITEM 10.
              DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

                                        
Partnership Management


   The General Partner manages and operates the activities of the Partnership.
Unitholders do not directly or indirectly participate in the management or
operation of the Partnership.  The General Partner owes a fiduciary duty to the
Unitholders.  However, the Partnership agreement contains provisions that allow
the General Partner to take into account the interest of parties other than the
Limited Partners' in resolving conflict of interest, whereby limiting such
fiduciary duties.  Notwithstanding any limitation on obligations or duties, the
General Partner will be liable, as the general partner of the Partnership, for
all debts of the Partnership (to the extent not paid by the Partnership), except
to the extent that indebtedness or other obligations incurred by the Partnership
are made specifically non-recourse to the General Partner.

                                       22
<PAGE>
 
Partnership Management (continued)


   Elizabeth K. Lanier and William P. Nicoletti, who are neither officers nor
employees of the General Partner nor directors, officers or employees of any
affiliate of the General Partner, have been appointed to serve on the Audit
Committee of the General Partner's Board of Directors.  The Audit Committee has
the authority to review, at the request of the General Partner, specific matters
as to which the General Partner believes there may be a conflict of interest in
order to determine if the resolution of such conflict proposed by the General
Partner is fair and reasonable to the Partnership. Any matters approved by the
Audit Committee will be conclusively deemed fair and reasonable to the
Partnership, approved by all partners of the Partnership and not a breach by the
General Partner of any duties it may owe the Partnership or the holders of
Common Units. In addition, the Audit Committee reviews the external financial
reporting of the Partnership, recommends engagement of the Partnership's
independent accountants and reviews the Partnership's procedures for internal
auditing and the adequacy of the Partnership's internal accounting controls.
With respect to the additional matters, the Audit Committee may act on its own
initiative to question the General Partner and, absent the delegation of
specific authority by the entire Board of Directors, its recommendations will be
advisory.

   As is commonly the case with publicly traded limited partnerships, the
Partnership does not directly employ any of the persons responsible for managing
or operating the Partnership, except for certain employees of the Partnership's
wholly-owned subsidiary, Steller Propane Service Corp.  The management and
workforce of Star Gas and certain employees of Petro manage and operate the
Partnership's business as officers and employees of the General Partner and its
Affiliates.  See Item 1 - Business--Employees.

Directors and Executive Officers of the General Partner
 
The following table sets forth certain information with respect to the directors
and executive officers of the General Partner.  Executive officers and directors
are elected for one-year terms.


<TABLE>
<CAPTION>
Name                                                       Age            Position with the General Partner
----                                                       ---            ---------------------------------

<S>                                                 <C>                    <C>
Irik P. Sevin(a) (b) (c).........................           51               Chairman of the Board of Directors
Joseph P. Cavanaugh..............................           61             President and Chief Executive Officer
David R. Eastin..................................           40             Vice President -- Operations
Richard F. Ambury................................           41             Vice President -- Finance
Paul Biddelman(c)................................           52             Director
Thomas J. Edelman................................           47             Director
Elizabeth K. Lanier(d)...........................           47             Director
William P. Nicoletti(d)..........................           53             Director
William G. Powers, Jr (b)........................           45             Director
Audrey L. Sevin..................................           72             Director and Secretary
Wolfgang Traber(a)...............................           54             Director
</TABLE>
_____________________________
(a)  Member of the Compensation Committee
(b)  Member of the Management Committee
(c)  Member of the Distribution Committee
(d)  Member of the Audit Committee

Irik P. Sevin has been the Chairman of the Board of Directors of Star Gas since
December 1993.  Mr. Sevin has been a Director of Petro since its organization in
October 1979, and Chairman of the Board of Petro since January 1993.  Mr. Sevin
has been President of Petro, Inc. since November 1979 and of Petro since 1983.
Mr. Sevin was an associate in the investment banking division of Kuhn Loeb & Co.
and then Lehman Brothers Kuhn Loeb Incorporated from February 1975 to December
1978.

                                       23
<PAGE>
 
Directors and Executive Officers of the General Partner (continued)


Joseph P. Cavanaugh serves as President and Chief Executive Officer of Star Gas.
Prior to December 1, 1997, he served as Senior Vice President of Safety and
Compliance for Petro.  From October 1985 to January 1993, Mr. Cavanaugh was Vice
President and Controller of Petro.  Prior to his current appointment, Mr.
Cavanaugh was active in the Partnership's management with the development of
safety/compliance programs, assisting with acquisitions and their subsequent
integration into the Partnership.

David R. Eastin serves as Vice President of Operations of Star Gas.  Prior to
September 1995, he served as a Regional Manager and as the Director of
Operations--Eastern Area.  Prior to joining Star Gas, he was employed by
Ferrellgas, Inc. from 1987 through 1992 and a predecessor company, Buckeye Gas
Products from 1980 through 1987, in a variety of operational capacities.

Richard F. Ambury serves as Vice President of Finance of Star Gas.  Prior to
joining Star Gas, he was employed by Petro from June 1983 through February 1996,
where he served in various accounting/finance capacities.  From 1979 to 1983,
Mr. Ambury was employed by a predecessor firm of KPMG Peat Marwick LLP, a public
accounting firm.

Paul Biddelman, has been a Director of Star Gas since October 1995.  He also
served in that capacity from December 1993 through June 1995.  Mr. Biddelman has
been President of Hanseatic Corporation since December 1997, and was its
Treasurer and Senior Investment Officer from April 1992 to November 1997.  Mr.
Biddelman joined Hanseatic from Clements Taee Biddelman Incorporated, a merchant
banking firm which he co-founded in 1991.  From 1982 through 1990, he was a
Managing Director in Corporate Finance at Drexel Burnham Lambert Incorporated.
Mr. Biddelman also worked in corporate finance at Kuhn, Loeb & Co., from 1975 to
1979, and at Oppenheimer & Co., from 1979 to 1982. Mr. Biddelman is a director
of Celadon Group, Inc., Electronic Retailing Systems International, Inc.,
Institution Technologies, Inc. and Premier Parks, Inc.

Thomas J. Edelman has been a Director of Star Gas since October 1995.  He also
served in that capacity from December 1993 through June 1995.  Mr. Edelman has
been a Director of Petro since its organization in October 1979.  Mr. Edelman
has been Chairman of Patina Oil & Gas Corporation since its formation in May
1996.  Mr. Edelman also serves as Chairman of Range Resources Corporation.  He
co-founded Snyder Oil Corporation and was its President and a Director from 1981
through February 1997.  From 1975 to 1981, he was a Vice President of The First
Boston Corporation.  Mr. Edelman serves as a Director of Paradise Music &
Entertainment, Inc. and as a Trustee of The Hotchkiss School.

Elizabeth K. Lanier has been a Director of Star Gas since November 1995.  Since
August 1998, Ms. Lanier has been Vice President and General Counsel for General
Electric Power Systems.  From June 1996 until August 1998, Ms. Lanier was Vice
President and Chief of Staff for Cinergy Corp.  Before joining Cinergy, Ms.
Lanier was a partner in the law firm of Frost & Jacobs in Cincinnati Ohio.  From
1977 through 1982, she was associated with Davis Polk & Wardwell in New York,
New York.  Ms. Lanier is also a Director of Patina Oil & Gas Corporation

William P. Nicoletti has been a Director of Star Gas since November 1995.  Since
March 1998 he has been Co-Head of Energy Investment Banking and a Managing
Director of McDonald Investments Inc.  Prior thereto, Mr. Nicoletti was Managing
Director of Nicoletti & Company Inc., a private investment bank servicing
clients in energy-related industries. From 1988 through 1990, he was a Managing
Director and head of the Energy and Natural Resources Group of Paine Webber
Incorporated.  From 1969 through 1987, he was with E.F. Hutton & Company Inc.,
where from 1980 through 1987 he was a Senior Vice President and head of the
Energy and Natural Resources Group.  Mr. Nicoletti is also a Director of
StatesRail, Inc.

                                       24
<PAGE>
 
Directors and Executive Officers of the General Partner (continued)


William G. Powers, Jr. has been President of Petro since December 1, 1997.  From
December 1993 to November 1997, Mr. Powers was President and Chief Executive
Officer of Star Gas.  Prior to joining Star Gas, he was employed by Petro from
1984 to 1993 where he served in various capacities, including Regional
Operations Manager and Vice President of Acquisitions.  From 1977 to 1983, he
was employed by The Augsbury Corporation, a company engaged in the wholesale and
retail distribution of fuel oil and gasoline throughout New York and New England
and served as Vice President of Marketing and Operations.

Audrey L. Sevin has been a Director of Star Gas since December 1993 and the
Secretary of Star Gas since June 1994.  Mrs. Sevin has been a Director and
Secretary of Petro since its organization in October 1979.  Mrs. Sevin was a
Director, executive officer and principal shareholder of A. W. Fuel Co., Inc.
from 1952 until its purchase by Petro in May 1981.

Wolfgang Traber has been a Director of Star Gas since October 1995.  He also
served in that capacity from December 1993 through June 1995.  Mr. Traber has
been a Director of Petro since its organization in October 1979.  Mr. Traber is
Chairman of the Board of Hanseatic Corporation, a private investment corporation
in New York, New York. Mr. Traber is a Director of Deltec Asset Management
Corporation, Blue Ridge Real Estate Company, and M.M. Warburg & Co.

Audrey Sevin is the mother of Irik P. Sevin.  There are no other familial
relationships between any of the directors and executive officers.  Elizabeth K.
Lanier will withdraw as a director upon consummation of the Star Gas/Petro
transaction as a result of additional duties associated with a new position.
She will be replaced by a director selected by the Star Gas LLC, Board and the
new director will not be an officer or employee of Star Gas LLC, or any of its
affiliates.


Meetings and Compensation of Directors

   During fiscal 1998, the Board of Directors met four times.  All Directors
attended each meeting.  Star Gas pays each director including the chairman, an
annual fee of $17,500.  Members of the audit committee receive an additional
$5,000 per annum.

Committees of the Board of Directors

   The Company's Board of Directors has an Audit Committee, a Compensation
Committee, a Distribution Committee and a Management Committee.  The members of
each committee are appointed by the Board of Directors for a one-year term and
until their respective successors are elected.

   In connection with the Partnership's decision to explore the possibility of a
business combination with Petro, the Board of Directors appointed a special
committee to review the proposed Petro/Star transaction.  Ms. Lanier and Mr.
Nicoletti received $40,000 each in compensation for serving on this committee.

Audit Committee

   The duties of the Audit Committee are described above under "Partnership
Management".

   The members of the Audit Committee are Elizabeth K. Lanier and William P.
Nicoletti.  Members of the Audit Committee may not be employees of the Company.

                                       25
<PAGE>
 
Compensation Committee

   The duties of the Compensation Committee are (i) to determine the annual
salary, bonus and other benefits, direct and indirect, of any and all named
executive officers (as defined under Regulation S-K promulgated by the
Securities and Exchange Commission), (ii) to review and recommend to the full
Board any and all matters related to benefit plans covering the foregoing
officers and any other employees and (iii) to administer the Partnership's Unit
Option Plan as the Option Committee thereunder.  The members of the Compensation
Committee are Wolfgang Traber and Irik P. Sevin.

Reimbursement of Expenses of the General Partner

   The General Partner does not receive any management fee or other compensation
in connection with its management of the Partnership.  The General Partner is
reimbursed at cost for all expenses incurred on behalf of the Partnership,
including the costs of compensation described herein properly allocable to the
Partnership, and all other expenses necessary or appropriate to the conduct of
the business of, and allocable to, the Partnership.
    
   The Partnership Agreement provides that the General Partner shall determine
the expenses that are allocable to the Partnership in any reasonable manner
determined by the General Partner in its sole discretion.  Affiliates of the
General Partner, including Petro, perform certain management and acquisition
services for the General Partner on behalf of the Partnership and are reimbursed
for all direct and indirect expenses incurred in connection therewith.  Indirect
expenses are allocated to the Partnership on a basis consistent with the type of
expense incurred.  For example, services performed by employees of the
affiliates on behalf of the Partnership are reimbursed on the basis of hours
worked and rent expense is reimbursed on the proportion of the square footage
leased by the Partnership.  The audit committee approved the allocation of
expenses by Petro to the Partnership for fiscal 1998.      

   In addition, the General Partner owns 2,396,078 subordinated units and 60,727
common units of the Partnership and is entitled to receive distributions on such
Units and the General Partner is entitled to incentive distributions in respect
of its general partner interest.

                                       26
<PAGE>
 
                        ITEM 11.  EXECUTIVE COMPENSATION
                                        

   The following table sets forth the annual salary, bonuses and all other
compensation awards and payouts to the President and Chief Executive Officer and
to certain named executive officers of the General Partner for services rendered
to Star Gas and its subsidiaries during the fiscal years ended September 30,
1998, 1997 and 1996.


                           Summary Compensation Table
                                        
<TABLE>
<CAPTION>
                                                                                                  Other
                                                                                                  Annual
          Name and Principal Position                       Year       Salary        Bonus      Compensation
          ---------------------------                       ----       ------        -----      ------------
<S>                                                         <C>      <C>            <C>         <C>
Joseph P. Cavanaugh, President and Chief
 Executive Officer                                          1998      $181,262(1)        -          $14,076 (2)

William G. Powers, Jr, President and Chief
 Executive Officer                                          1998      $37,500(3)         -                -

Irik P. Sevin, Chairman                                     1998      $150,000           -                -

Richard F. Ambury, Vice President  Finance                                                          
                                                            1998      $150,000       $37,500        $26,032(2)
                                                            1997      $143,000       $35,750        $20,408(2)
                                                            1996      $ 99,667(4)    $25,000              -
David R. Eastin, Vice President  Operations                                                      
                                                            1998      $132,500       $33,125          4,777(5)
                                                            1997      $120,000       $30,000          3,214(5)
                                                            1996      $106,826       $26,707          9,292(6)
</TABLE>
(1)  Mr. Cavanaugh joined Star Gas on December 1, 1997.
(2)  Represents amounts paid in lieu of contribution under Star Gas' 401(k)
     plan.
(3)  Mr. Powers left Star Gas on November 30, 1997 and assumed the position of
     President and Chief Operating Officer of Petro.
(4)  Mr. Ambury joined Star Gas on February 1, 1996.
(5)  Represents matching contributions paid to Star Gas' 401(k) plan.
(6)  Represents a $7,570 relocation allowance and Star Gas' matching
     contribution to Mr. Eastin's 401(k) retirement plan of $1,722.



                Aggregated Option Exercises in Last Fiscal Year
                       and Fiscal Year End Option Values



<TABLE>
<CAPTION>
 
                                        Number of Unexercised Options at                                 
                                               September 30, 1998          Value of In the Money Options 
Name                                    Exercisable(E)/Unexercisable(U)      at September 30, 1998(1)    
----                                    --------------------------------   ----------------------------- 
<S>                                     <C>                                <C> 
William G. Powers, Jr.                           30,000 (U)                         $    -
                                                              
David R. Eastin                                  10,000 (U)                         $    - 
</TABLE>

(1)  Values are calculated by deducting the exercise price from the fair market
     value of the common units as of September 30, 1998.

Options Granted in Last Fiscal Year

         None.

                                       27
<PAGE>
 
Unit Option Plan

         In December 1995, the General Partner adopted the 1995 Star Gas
Corporation Unit Option Plan (the "Unit Option Plan"), which currently
authorizes the issuance of options (the "Unit Options") and Unit Appreciation
Rights ("UARS") covering up to 300,000 Subordinated Units to certain officers
and employees of the General Partner.  A total of 40,000 options were granted to
key executives in December 1995.  The Unit Options have the following
characteristics:  1)  exercise price of $22 per unit, which is an estimate of
the fair market value of the Subordinated Units at the time of grant, 2) vest
over five year period, 3) exercisable after January 12, 2001, assuming the lapse
of the subordination period and 4) expire on the tenth anniversary of the date
of grant.  Upon conversion of the Subordinated Units held by the General Partner
and its affiliates, the Unit Options granted will convert to Common Unit
Options.

401(k) Plan

         The Star Gas Corporation Employee Savings Plan is a voluntary defined
contribution plan covering non-union and union employees who have attained the
age of 21 and who have completed one year of service.  Participants in the plan
may elect to contribute a sum not to exceed 15% of a participant's compensation.
For non-union employees, the Company contributes a matching amount equaling the
participant's contribution not to exceed 3% of the participant's compensation.
In addition, the plan allows the Company to contribute an additional
discretionary amount, which will be allocated to each participant based on such
participant's compensation as a percentage of total compensation of all
participants.


                                    ITEM 12.
         SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT


Ownership of Common and Subordinated Units


     The following table sets forth certain information as of November 23, 1998
regarding the beneficial ownership of the Common and Subordinated Units of the
Partnership by certain beneficial owners and all directors of the General
Partner, each of the named executive officers and all directors and executive
officers as a group.  The General Partner knows of no person beneficially owning
more than 5% of the Common Units.

<TABLE>
<CAPTION>
                                                                              Units                             
                                   Name and Address of                     Beneficially           Percent of     
Title of Class                      Beneficial Owner                          Owned                 Class       
--------------                      ----------------                          -----                 -----      
<S>                             <C>                                       <C>                     <C>
Common Units                     Richard F. Ambury(1)                           625                   -- 
                                                                                                                     
Common Units                     Wolfgang Traber(1) (2)                      10,400(2)               0.3%
                                                                                                                      
Common Units                     Star Gas Corporation(1)                     60,727                  1.6%   
                                                                                                                     
Subordinated Units               Star Gas Corporation(1)                  2,396,078                100.0%   
                                                                                                                     
All officers and directors                                                                                           
 as a group (2 persons)          Star Gas Corporation(1)                     11,025                  0.3%    
</TABLE>

(1)  The address of such person is care of the Partnership at 2187 Atlantic
     Street, Stamford, CT 06902.
(2)  Includes 10,000 Common Units owned by Mr. Traber's wife and 400 Common
     Units owned by Mr. Traber's daughter as to which he may be deemed to share
     beneficial ownership.

                                       28
<PAGE>
 
Ownership of Petro Common Stock by the Directors and Executive Officers of the
General Partner


   The table below sets forth as of November 23, 1998, the beneficial ownership
of Petro Common Stock by each director and each named executive officer of the
General Partner, as well as the directors and all of the executive officers of
the General Partner as a group.  The total shares beneficially owned by the
directors and executive officers as a group represent 21.08% of Petro's
outstanding Class A Common Stock and 54.47% of Petro's outstanding Class C
Common Stock.  Each share of Class A Common Stock is entitled to one vote and
each share of Class C Common Stock is entitled to 10 votes, but otherwise the
two classes have the same rights.  Petro's Class A Common Stock is traded on the
NASDAQ National Market (Symbol:  HEAT).


<TABLE>
<CAPTION>
 
                                               Number of Shares(1)             Percent of Total        Percentage of Total
                                         ----------------------------    --------------------------    -------------------
Name                                         Class A       Class C         Class A       Class C         Voting Power(2)
---------------------------------------  -------------   ------------    -----------   ------------    -------------------
<S>                                                       <C>         <C>          <C>     <C>         <C>
Audrey L. Sevin (3)..................       1,876,863       477,716         7.83%          18.39%             13.32% 
Irik P. Sevin (3)....................         740,438(4)    201,641         3.09%           7.76%              5.52%
Wolfgang Traber (4)..................       1,777,279(5)    606,472(6)      7.42%          23.35%             15.70%
Thomas J. Edelman (3)................         653,312(7)    129,019         2.73%           4.97%              3.89%
Paul Biddelman  (4)..................       1,779,665(5)    597,434(6)      7.43%          23.00%             15.53%
Joesph P. Cavanaugh(3)...............             860             -            -               -                  -      
Richard F. Ambury (3)................             345             -            -               -                  -
David R. Eastin (3)..................               -             -            -               -                  -       
Elizabeth K. Lanier (8)..............               -             -            -               -                  -      
William P. Nicoletti (9).............               -             -            -               -                  -      
All officers and directors as a                                                                       
   group (11 persons)................       5,051,483     1,414,848        21.08%          54.47%             38.45% 
</TABLE>
(1) For purposes of this table, a person or group is deemed to have "beneficial
    ownership" of any shares, which such person has the right to acquire within
    60 days after November 23, 1998. For purposes of calculating the percentage
    of outstanding shares held by each person named above, any shares which such
    person has the right to acquire within 60 days after November 23, 1998 are
    deemed to be outstanding, but not for the purpose of calculating the
    percentage ownership of any other person.
(2) Total voting power means the total voting power of all shares of Class A
    Common Stock and Class C Common Stock. This column reflects the percentage
    of total voting power represented by all shares of Class A Common Stock and
    Class C Common Stock held by the named persons.
(3) The address of such person is c/o the Partnership at 2187 Atlantic Street,
    Stamford, CT 06902.
(4) The address of such person is 450 Park Avenue, New York, NY 10022.
(5) Includes 1,777,279 shares held by Hanseatic Americas LDC, a Bahamian limited
    duration company in which the sole managing member is Hansabel Partners,
    LLC, a Delaware limited liability company in which the sole managing member
    is Hanseatic Corporation, a New York corporation ("Hanseatic"). Messrs.
    Traber and Biddelman are executive officers of Hanseatic and Mr. Traber
    holds in excess of a majority of the shares of capital stock of Hanseatic.
(6) Includes 298,717 shares owned by each of Hanseatic and Tortosa
    Vermogensverwaltungsgesellschaft gmbh ("Tortosa"), a German corporation
    owned and controlled by Hubertus Langen, and as to which Hanseatic and
    Tortosa each hold shared voting power.
(7) Includes 76,000 shares of Class A Common Stock owned by Mr. Edelman's wife
    and minor children.
(8) The address of such person is Bldg., 37-6, 1 River Rd., Schenectady, NY
    12345
(9) The address of such person is One Evertrust Plaza, Jersey City, NJ  07302


   Section 16(a) of the Securities Exchange Act of 1934 requires the General
Partner's officers and directors, and persons who own more than 10% of a
registered class of the Partnership's equity securities, to file reports of
beneficial ownership and changes in beneficial ownership with the Securities and
Exchange Commission ("SEC").  Officers, directors and greater than 10 percent
unitholders are required by SEC regulation to furnish the General Partner with
copies of all Section 16(a) forms.

   Based solely on its review of the copies of such forms received by the
General Partner, or written representations from certain reporting persons that
no Form 5's were required for those persons, the General Partner believes that
during fiscal year 1998 all filing requirements applicable to its officers,
directors, and greater than 10 percent beneficial owners were met in a timely
manner.

                                       29
<PAGE>
 
            ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
                                        

   The Partnership and the General Partner have certain ongoing relationships
with Petro and its affiliates. Affiliates of the General Partner, including
Petro, perform certain administrative services for the General Partner on behalf
of the Partnership.  Such affiliates do not receive a fee for such services, but
are reimbursed for all direct and indirect expenses incurred in connection
therewith.

   For fiscal 1998, the Partnership reimbursed the General Partner $19.5 million
representing salary, payroll tax and other compensation paid to the employees of
the General Partner and paid $0.1 million to Petro for corporate services such
as compliance and supply.  In addition, the Partnership has reimbursed Petro for
$0.8 million relating to the Partnership's share of the costs incurred by Petro
in conducting the operations of a certain shared branch location which includes
managerial services.

   Prior to Petro's acquisition of Star Gas, Star Gas engaged Nicoletti &
Company Inc., an investment banking firm owned by William P. Nicoletti, who is
now a Director of the General Partner, to perform certain investment banking
services for Star Gas.  Pursuant to such engagement, Star Gas paid Nicoletti &
Company Inc. fees of $40,000, $521,500 and $81,600 for services rendered during
1992, 1993 and 1994, respectively.  In 1995, Star Gas paid Nicoletti & Company
Inc. $20,000 in advisory fees in connection with a proposed acquisition.  In
1997, Star Gas paid Mr. Nicoletti $20,000 for serving on the Board of Directors
Special Committee which explored the possible sale or merger of the Partnership.
In 1998, Star Gas paid Mr. Nicoletti $40,000 for serving on the Board of
Directors Special Committee which explored the business combination with Petro.

   Elizabeth K. Lanier, a Director of the General Partner, was a partner in the
law firm of Frost & Jacobs, in Cincinnati, Ohio until June 1996.  Frost & Jacobs
has acted as counsel to Star Gas in connection with certain litigation matters.
In 1997, Star Gas paid Ms. Lanier $20,000 for serving on the Board of Directors
Special Committee which explored the possible sale or merger of the Partnership.
In 1998, Star Gas paid Ms. Lanier $40,000 for serving on the Board of Directors
Special Committee which explored the business combination with Petro.

   In 1993 Star Gas paid an aggregate of $50,000 in advisory fees to Warwick
Energy Advisors, Inc. (Warwick), a company controlled by Thomas Edelman, now a
Director of the General Partner and Petro. In 1993, Petro paid Warwick and Mr.
Edelman an aggregate of $211,500 in advisory fees in connection with Petro's
acquisition of Star Gas. In 1994, Petro paid Mr. Edelman an additional $248,500
in such fees.  In 1995, Petro paid Mr. Edelman $20,000 in advisory fees in
connection with a proposed acquisition by Star Gas.

                                       30
<PAGE>
 
                                    PART IV

    ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
                                        

     (a)  1.  Financial Statements

              See "Index to Consolidated Financial Statements and Financial
              Statement Schedule"
              set forth on page F-1.

          2.  Financial Statement Schedule.

              See "Index to Consolidated Financial Statements and Financial
              Statement Schedule" set forth on page F-1.

          3.  Exhibits.

              See "Index to Exhibits" set forth on page 31.

     (b)      Reports on Form 8-K.
              The Partnership did not file a Form 8-K during the quarter ended
              September 30, 1998.

                                       31
<PAGE>
 
                               INDEX TO EXHIBITS
<TABLE> 
<CAPTION> 
Exhibit
Number    Description
------    -----------

<S>       <C> 
3.1       Form of Agreement of Limited Partnership of Star Gas Partners, L.P.(2)
3.2       Form of Agreement of Limited Partnership of Star Gas Propane, L.P.(2)
5.1       Opinion of Phillips Nizer Benjamin Krim & Ballon LLP as to the legality
          of the securities being registered (7)
8.1       Opinion of Phillips Nizer Benjamin Krim & Ballon LLP relating to tax matters (7)
10.1      Form of Credit Agreement among Star Gas Propane, L.P. and certain banks(3)
10.2      Form of Conveyance and Contribution Agreement among Star Gas
          Corporation, the Partnership and the Operating Partnership.(3)
10.3      Form of First Mortgage Note Agreement among certain insurance companies,
          Star Gas Corporation and Star Gas Propane L.P.(3)
10.4      Intercompany Debt(3)
10.5      Form of Non-competition Agreement between Petro and the Partnership(3)
10.6      Form of Star Gas Corporation 1995 Unit Option Plan(3)
10.7      Amoco Supply Contract(3)
10.8      Stock Purchase Agreement dated October 20, 1997 with respect to the
          Pearl Gas Acquisition(4)
10.9      Conveyance and Contribution Agreement with respect to the Pearl Gas
          Acquisition(4)
10.10     Second Amendment dated as of October 21, 1997 to the Credit Agreement
          dated as of December 13, 1995 among the Operating Partnership, Bank
          Boston, N.A. and NationsBank, N.A.(4)
10.11     Note Agreement, dated as of January 22, 1998, by and between Star Gas
          and The Northwestern Mutual Life Insurance Company(6)
10.12     Third Amendment dated April 15, 1998 to the Bank Credit Agreement (8)
10.13     Fourth Amendment dated November 3, 1998 to the Bank Credit Agreement (1)
10.14     Agreement and Plan of Merger by and among Petroleum Heat and Power Co.,
          Inc., Star Gas Partners, L.P., Petro/Mergeco, Inc., and Star Gas Propane, L.P.(9)
10.15     Exchange Agreement (9)
21        Subsidiaries of the Registrant(5)
23.1      Consent of KPMG Peat Marwick LLP(1)
23.2      Consent of Phillips Nizer Benjamin Krim & Ballon LLP (included in
          Exhibit 5.1)(7)
24.1      Powers of Attorney (7)
27.0      Financial Data Schedule (1)
</TABLE> 
---------------
(1)  Filed herewith.
(2)  Incorporated by reference to Appendix A to the Prospectus filed as part of
     Registrant's Registration Statement on Form S-1 File No. 33-90496.
(3)  Incorporated by reference to the same Exhibit to Registrant's Registration
     Statement on Form S-1, File No. 33-98490, filed with the Commission on
     December 13, 1995.
(4)  Incorporated by reference to the same Exhibit to Registrant's Periodic
     Report on Form 8-K, as amended, as filed with the Commission on October 23
     and 29, 1997.
(5)  Incorporated by reference to the same Exhibit to Registrant's Registration
     Statement on Form S-1, File No. 333-40855, filed with the Commission on
     December 11, 1997
(6)  Incorporated by reference to the same Exhibit to Registrant's Registration
     Statement on Form S-3, File No. 333-47295, filed with the Commission March
     4, 1998.
(7)  Incorporated by reference to the same Exhibit to Registrant's Statement on
     Form S-4, File No. 333-49751, filed with the Commission on April 9, 1998
(8)  Incorporated by reference to the same Exhibit to Registrant's Quarterly
     Report on Form 10-Q, filed with the Commission on May 7, 1998
(9)  Incorporated by reference to the Appendix to Registrant's Registration
     Statement on form S-1 File No. 333-66005, filed with the Commission on
     October 22, 1998

                                       32
<PAGE>
 
                                   SIGNATURE
                                   ---------


Pursuant to the requirements of the Securities Exchange Act of 1934, the Company
has duly caused this report to be signed on its behalf by the undersigned
thereunto duly authorized:


                                         Star Gas Partners, L.P.
                                    By:  Star Gas Corporation (General Partner)


                                         Joseph P. Cavanaugh
                                         ------------------------------
                                    By:  /s/Joseph P. Cavanaugh
                                         President and Chief Executive Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed by the following persons in the capacities and on the date
indicated:

<TABLE> 
<CAPTION> 
Signature                        Title                                               Date            
---------                        -----                                               ----            

<S>                              <C>                                                 <C> 
/s/Joseph P. Cavanaugh           President                                           February 9, 1999
----------------------                                                                               
 Joseph P. Cavanaugh             Star Gas Corporation                                                
                                 (Principal Executive Officer)                                       
                                                                                                     
                                                                                                     
/s/Richard F. Ambury             Vice President - Finance                            February 9, 1999
--------------------                                                                                 
 Richard F. Ambury               Star Gas Corporation                                                
                                 (Principal Financial and Accounting Officer)
                                                                                                     

/s/Irik P. Sevin                 Director                                            February 9, 1999
---------------------------                                                                          
Irik P. Sevin                    Star Gas Corporation                                                
                                                                                                     

                                 Director                                            February 9, 1999
---------------------------                                                                          
 Audrey L. Sevin                 Star Gas Corporation                                                
                                                                                                     

/s/William P. Nicoletti          Director                                            February 9, 1999
---------------------------                                                                          
 William P. Nicoletti            Star Gas Corporation                                                
                                                                                                     

/s/Elizabeth K. Lanier           Director                                            February 9, 1999
---------------------------                                                                          
 Elizabeth K. Lanier             Star Gas Corporation                                                
                                                                                                     

/s/Paul Biddelman                Director                                            February 9, 1999
---------------------------                                                                          
 Paul Biddelman                  Star Gas Corporation                                                
                                                                                                     

/s/ Thomas J. Edelman            Director                                            February 9, 1999
---------------------------                                                                          
 Thomas J. Edelman               Star Gas Corporation                                                
                                                                                                     

/s/Wolfgang Traber               Director                                            February 9, 1999
---------------------------                                                                          
 Wolfgang Traber                 Star Gas Corporation                                                
                                                                                                     

/s/William G. Powers, Jr...      Director                                            February 9, 1999 
---------------------------
 William G. Powers, Jr.          Star Gas Corporation
</TABLE> 

                                       33
<PAGE>
 
                     STAR GAS PARTNERS, L.P. AND SUBSIDIARY

                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
                        AND FINANCIAL STATEMENT SCHEDULE
                                        

<TABLE>
<CAPTION>

                                                                                            PAGE
                                                                                            ----
<S>                                                                                        <C> 
Part II   Financial Information:

          Item 8 - Financial Statements

          Star Gas Partners, L.P. and Subsidiary and the Predecessor Company
          ------------------------------------------------------------------

            Independent Auditors' Report.................................................... F-2

            Consolidated Balance Sheets as of September 30, 1997 and 1998................... F-3

            Consolidated Statements of Operations from October 1, 1995 through
            December 20, 1995 (Predecessor), December 20, 1995 through September
            30, 1996 and the years ended September 30, 1997 and 1998........................ F-4

            Consolidated Statement of Predecessor Equity for the period October
            1, 1995 through December 20, 1995 and the consolidated Statement of
            Partners' Capital for the period December 20, 1995 through September
            30, 1996 and the years ended September 30, 1997 and 1998........................ F-5

            Consolidated Statements of Cash Flows from October 1, 1995 through
            December 20, 1995 (Predecessor), December 20, 1995 through September
            30, 1996 and the years ended September 30, 1997 and 1998........................ F-6

            Notes to Consolidated Financial Statements...................................... F-7 - F-21

            Schedules for the years ended September 30, 1996, 1997 and 1998

                  II.  Valuation and Qualifying Accounts.................................... F-22
</TABLE>

                    All other schedules are omitted because they are not
                    applicable or the required information is shown in the
                    consolidated financial statements or the notes therein.

                                      F-1
<PAGE>
 
                     STAR GAS PARTNERS, L.P. AND SUBSIDIARY

                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
                        AND FINANCIAL STATEMENT SCHEDULE


                          INDEPENDENT AUDITORS' REPORT

The Partners of Star Gas Partners, L.P.:

          We have audited the consolidated financial statements of Star Gas
          Partners, L.P. and Subsidiary as listed in the accompanying index.  In
          connection with our audits of the consolidated financial statements,
          we have also audited the financial statement schedule as listed in the
          accompanying index.  These consolidated financial statements and
          financial statement schedule are the responsibility of the
          Partnership's management.  Our responsibility is to express an opinion
          on these consolidated financial statements and financial statement
          schedule 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 of material misstatement.  An audit includes
          examining, on a test basis, evidence supporting the amounts and
          disclosures in the financial statements.  An audit also includes
          assessing the accounting principles used and significant estimates
          made by management, as well as evaluating the overall financial
          statement presentation.  We believe that our audits provide a
          reasonable basis for our opinion.

          In our opinion, the consolidated financial statements referred to
          above, present fairly, in all material respects, the financial
          position of Star Gas Partners, L.P. and Subsidiary as of September 30,
          1997 and 1998 and the results of their operations and their cash flows
          for each of the years in the three-year period ended September 30,
          1998, in conformity with generally accepted accounting principles.
          Also in our opinion, the related financial statement schedule, when
          considered in relation to the basic consolidated financial statements
          taken as a whole, presents fairly, in all material respects, the
          information set forth therein.

          Stamford, Connecticut                       KPMG Peat Marwick LLP
          November 13, 1998

                                      F-2
<PAGE>
 
                     STAR GAS PARTNERS, L.P. AND SUBSIDIARY

                          CONSOLIDATED BALANCE SHEETS
                                 (in thousands)


<TABLE>
<CAPTION>
 
                                                      September 30,            September 30, 
                                                          1997                     1998                           
                                                      -------------            ------------                       
<S>                                                   <C>                      <C>                    
Assets                                                                                                            
Current assets:                                                                                                   
  Cash and cash equivalents                             $    889                $  1,115  
  Receivables, net of allowance of $273                                                                           
   and $252, respectively                                  5,720                   5,279                          
  Inventories                                              6,597                  10,608                          
  Prepaid expenses and other current assets                  959                     945                          
                                                        --------                --------                          
      Total current assets                                14,165                  17,947                          
                                                        --------                --------                          
Property and equipment, net                               95,282                 110,262                          
Intangibles and other assets, net                         38,022                  51,398                          
                                                        --------                --------                          
      Total assets                                      $147,469                $179,607                          
                                                        ========                ========                          
Liabilities and Partners' Capital                                                                                 
Current Liabilities:                                                                                              
  Accounts payable                                      $  3,178                $  3,097                          
  Bank credit facility borrowings                             --                   4,770                          
  Current maturities of long-term debt                        --                     692                          
  Accrued expenses                                         3,004                   2,830                          
  Accrued interest                                           321                     485                          
  Customer credit balances                                 4,343                   6,038                          
                                                        --------                --------                          
      Total current liabilities                           10,846                  17,912                          
                                                        --------                --------                          
Long-term debt                                            85,000                 104,308                          
Other long-term liabilities                                   45                      40                          
Partners' Capital:                                                                                                
  Common unitholders                                      47,573                  58,686                          
  Subordinated unitholder                                  4,034                  (1,446)                         
  General partner                                            (29)                    107                          
                                                        --------                --------                          
      Total Partners' Capital                             51,578                  57,347                          
                                                        --------                --------                          
      Total Liabilities and Partners' Capital           $147,469                $179,607                          
                                                        ========                ========             
</TABLE>

         See accompanying notes to consolidated financial statements.

                                      F-3
<PAGE>
 
                     STAR GAS PARTNERS, L.P. AND SUBSIDIARY
                     CONSOLIDATED STATEMENTS OF OPERATIONS
                    (in thousands, except per unit amounts)



                                        
<TABLE>    
<CAPTION>
 
                                                                   
                                           October 1,                        October 1,                                   
                                              1995        December 20,          1995                                      
                                             Through          1995            through                                     
                                          December 20,      through        September 30,     Year Ended       Year Ended  
                                              1995         September 30,        1996        September 30,    September 30,   
                                          (Predecessor)       1996           (Combined)          1997             1998    
                                          -------------   --------------   -------------    --------------   --------------
<S>                                       <C>             <C>              <C>              <C>              <C>       
                                                                                                                          
Sales:                                       $28,159         $91,475           $119,634        $135,159         $111,685  
                                                                                                                          
Costs and expenses:                                                                                                       
  Cost of sales                               12,808          45,749             58,557          72,211           49,498  
  Delivery and branch expenses                 7,729          27,021             34,750          36,427           37,216  
  Depreciation and amortization                2,177           7,503              9,680          10,242           11,462  
  General and administrative                   1,349           5,108              6,457           6,818            6,065  
  Net (loss) on sales of assets                 (113)           (147)              (260)           (295)            (271) 
                                             -------         -------            -------        --------         --------  
  Operating income                             3,983           5,947              9,930           9,166            7,173  
                                                                                                                          
Interest expense, net                          1,922           5,202              7,124           6,966            7,927  
                                                                                                                          
Amortization of debt issuance costs               --             128                128             163              176  
                                             -------         -------            -------        --------         --------  
  Income (loss) before income taxes            2,061             617              2,678           2,037             (930) 
                                                                                                                          
  Income tax expense                              60              25                 85              25               25  
                                             -------         -------            -------        --------         --------  
Net income (loss)                            $ 2,001         $   592            $ 2,593        $  2,012         $   (955) 
                                             =======         =======            =======        ========         ========  
General Partner's interest in net                                                                                         
   income (loss)                                             $    12                           $     40         $    (19) 
                                                             -------                           --------         --------  
Limited Partners' interest in net                                                                                         
   income (loss)                                             $   580                           $  1,972         $   (936)     
                                                             =======                           ========         ========  
Basic and diluted, net income (loss)                                                                                      
 per Limited Partner unit                                    $  0.11                           $   0.37         $  (0.16) 
                                                             =======                           ========         ========  
Weighted average number of  Limited                                                                                       
  Partner units outstanding                                    5,271                              5,271            6,035  
                                                             =======                           ========        =========   
</TABLE>      


         See accompanying notes to consolidated financial statements.

                                      F-4
<PAGE>
 
                     STAR GAS PARTNERS, L.P. AND SUBSIDIARY
                                        

       CONSOLIDATED STATEMENT OF PARTNERS' CAPITAL AND PREDECESSOR EQUITY
                    (in thousands, except per unit amounts)


                              PREDECESSOR'S EQUITY
              The period October 1, 1995 through December 20, 1995

<TABLE>     
<CAPTION> 
                                              8%                                                                       Total
                                          Cumulative           12.5%           Capital in                           Predecessor's
                                          Preferred          Preferred          Excess of                              Equity
                                            Stock              Stock            ParValue           Deficit          (Deficiency) 
                                        -------------     ---------------     -------------    ---------------    ----------------
<S>                                     <C>               <C>                 <C>              <C>                <C>
Balance as of September 30, 1995              $189             $319             $51,703           $(7,906)             $44,305 
  Dividends                                                                                       (21,309)             (21,309)
  Additional capital contribution                                                 4,184                                  4,184
  Net income                                                                                        2,001                2,001
                                              ----             ----             -------          --------              -------
Balance as of December 20, 1995               $189             $319             $55,887          $(27,214)             $29,181
                                              ====             ====             =======          ========              =======
</TABLE>      

                               PARTNERS' CAPITAL
       For the period ended December 20, 1995 through September 30, 1996
         and the years ended September 30, 1997 and September 30, 1998


<TABLE>
<CAPTION>
                                          Number of Units                                                                 Total 
                                     ------------------------                                             General        Partners' 
                                     Common         Subordinated         Common      Subordinated         Partner         Capital
                                 -------------    ---------------    -------------  ---------------    -------------    ------------
<S>                              <C>              <C>                <C>            <C>                <C>              <C>
Balance as of December 20, 1995             -                 -          $     -         $     -            $   -         $      -

  Contribution of assets, net               -             2,396                -          10,956              225           11,181 
  Issuance of Common Units, net         2,875                 -           55,875               -               56           55,931 
  Net Income                                -                 -              317             263               12              592 
  Distributions ($1.17 per unit)            -                 -           (3,371)         (2,809)            (126)          (6,306) 

                                        -----             -----           ------           -----              ---           ------
Balance as of September 30, 1996
                                        2,875             2,396           52,821           8,410              167           61,398
                                        -----             -----           ------           -----              ---           ------

  Net Income                                -                 -            1,077             895               40            2,012 
                                            -                 -           (6,325)         (5,271)            (236)         (11,832)
                                        -----             -----           ------           -----              ---           ------
Balance as of September 30, 1997        2,875             2,396           47,573           4,034              (29)          51,578
                                        -----             -----           ------           -----              ---           ------
  Contribution of assets, net             148                  -           3,399               -               68            3,467 
  Issuance of Common Units, net           809                  -          15,745               -              344           16,089 
  Issuance of Common Units in
   connection with an acquisition          27                  -             600                               12              612
  Net loss                                  -                  -            (728)           (208)             (19)            (955)
  Distributions ($2.20 per unit)            -                  -          (7,903)         (5,272)            (269)         (13,444)
                                        -----              -----           ------           -----              ---           ------
Balance as of September 30, 1998        3,859              2,396         $58,686         $(1,446)           $ 107         $ 57,347  
                                        =====              =====         =======         =======            =====          =======
</TABLE>

See accompanying notes to consolidated financial statements.

                                      F-5
<PAGE>
 
                     STAR GAS PARTNERS, L.P. AND SUBSIDIARY
                     CONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (in thousands)

<TABLE>     
<CAPTION>
                                                                   October 1, 1995                                October 1, 1995
                                                                       through            December 20, 1995           through
                                                                  December 20, 1995            Through           September 30, 1996
                                                                    (Predecessor)         September 30, 1996         (Combined)    
                                                                  -----------------------------------------------------------------
<S>                                                                <C>                     <C>                   <C>
Cash Flows from Operating activities:
Net income (loss)                                                         $2,001                   $592                    $2,593
                                                                                                                                   
Adjustments to reconcile net income (loss) to net cash provided by 
  Operating activities:
Depreciation and amortization                                              2,177                  7,503                     9,680
Provision for losses on accounts receivable                                  101                    321                       422
Net loss on sales of assets                                                  113                    147                       260
Amortization of debt issuance costs                                            -                    128                       128
Changes in operating assets and liabilities: 
  Decrease (increase) in receivables                                      (2,779)                 1,766                    (1,013)
  Decrease (increase) in inventories                                       1,430                 (3,770)                   (2,340) 
  Decrease (increase) in prepaid and other assets                           (455)                   754                       299 
  Increase (decrease) in other current liabilities                        (1,703)                 1,757                        54 
  Increase (decrease) in other long-term liabilities                         (12)                   (89)                     (101) 
                                                                      ----------              ---------                 ---------
  Net cash provided by operating activities                                  873                  9,109                     9,982  
                                                                      ----------              ---------                 ---------
                                                                                                                                  
Cash Flows from Investing activities:                                                                                             
Capital expenditures                                                      (1,617)                (3,715)                   (5,332)
Business acquisitions                                                          -                 (2,440)                   (2,440)
Proceeds from sales of fixed assets                                          566                    252                       818 
Cash acquired in conveyance                                                    -                      -                         - 
                                                                      ----------              ---------                 ---------
  Net cash provided by (used in) investing activities                     (1,051)                (5,903)                   (6,954)
                                                                      ----------              ---------                 ---------
                                                                                                                                  
Cash Flows from Financing activities:                                                                                             
Credit facility borrowings                                                     -                  5,850                     5,850  
Credit facility repayments                                                     -                 (3,500)                   (3,500)
Acquisition facility borrowings                                                -                      -                         - 
Acquisition facility repayments                                                -                      -                         - 
Repayments of debt                                                             -                      -                         - 
Repayments of debt to Petro                                              (35,783)               (53,780)                  (89,563)
Repayments of preferred stock to Petro                                    (8,625)                     -                    (8,625)
Cash dividends paid to Petro                                             (21,309)                     -                   (21,309)
Distributions                                                                  -                 (6,306)                   (6,306)
Loan to Petro                                                            (12,000)                     -                   (12,000)
Proceeds from issuance of First Mortgage Notes                            85,000                      -                    85,000 
Proceeds from issuance of Common Units, net                                    -                 55,931                    55,931 
Debt placement and credit agreement expenses                              (1,313)                  (814)                   (2,127)
Cash retained by general partner                                          (6,000)                     -                    (6,000)
                                                                      ----------              ---------                 ---------
  Net cash provided by (used in) financing activities                        (30)                (2,619)                   (2,649)
                                                                      ----------              ---------                 ---------
  Net increase (decrease) in cash                                           (208)                   587                       379 
Cash at beginning of period                                                  727                    519                       727 
                                                                      ----------              ---------                 ---------
Cash at end of period                                                      $519                  $1,106                    $1,106 
                                                                      ==========              =========                 =========

<CAPTION>
                                                                                 Year Ended                    Year Ended
                                                                             September 30, 1997             September 30, 1998
                                                                           ---------------------           --------------------
<S>                                                                        <C>                             <C>                   
Cash Flows from Operating activities:
Net income (loss)                                                                  $  2,012                     $  (955)  
Adjustments to reconcile net income (loss) to net cash provided by 
   Operating activities:
Depreciation and amortization                                                        10,242                      11,462
Provision for losses on accounts receivable                                             312                         239
Net loss on sales of assets                                                             295                         271
Amortization of debt issuance costs                                                     163                         176
Changes in operating assets and liabilities:                               
  Decrease (increase) in receivables                                                  1,193                         342
  Decrease (increase) in inventories                                                  1,897                      (3,705)
  Decrease (increase) in prepaid and other assets                                       114                         198
  Increase (decrease) in other current liabilities                                    2,900                       1,241
  Increase (decrease) in other long-term liabilities                                   (174)                         (5)
                                                                                 ----------                   ---------
  Net cash provided by operating activities                                          18,964                       9,264
                                                                                 ----------                   ---------
                                                                           
Cash Flows from Investing activities:                                                                                      
Capital expenditures                                                                 (5,279)                     (5,015)
Business acquisitions                                                                     -                     (10,401)
Proceeds from sales of fixed assets                                                     374                         315 
Cash acquired in conveyance                                                               -                       1,825 
                                                                                  ---------                   ---------
  Net cash provided by (used in) investing activities                                (4,905)                    (13,276)
                                                                                  ---------                   ---------
                                                                           
Cash Flows from Financing activities:                                      
Credit facility borrowings                                                            5,000                      20,300
Credit facility repayments                                                           (7,350)                    (15,530)
Acquisition facility borrowings                                                       3,350                      30,000
Acquisition facility repayments                                                      (3,350)                    (21,000)
Repayments of debt                                                                        -                     (23,000)
Repayments of debt to Petro                                                               -                           -
Repayments of preferred stock to Petro                                                    -                           -
Cash dividends paid to Petro                                                              -                           -
Distributions                                                                       (11,832)                    (13,444)
Loan to Petro                                                                             -                           -
Proceeds from issuance of First Mortgage Notes                                            -                      11,000
Proceeds from issuance of Common Units, net                                               -                      16,089
Debt placement and credit agreement expenses                                            (94)                       (177)
Cash retained by general partner                                                          -                           -
                                                                                  ---------                   ---------
  Net cash provided by (used in) financing activities                               (14,276)                      4,238
                                                                                  ---------                   ---------
  Net increase (decrease) in cash                                                      (217)                        226
Cash at beginning of period                                                           1,106                         889
                                                                                  ---------                   ---------
Cash at end of period                                                              $    889                    $  1,115
                                                                                  =========                   =========
</TABLE>      

See accompanying notes to consolidated financial statements.

                                      F-6
<PAGE>
 
                     STAR GAS PARTNERS, L.P. AND SUBSIDIARY

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                      (in thousands, except per unit data)


1)  Partnership Organization and Formation

    
          Star Gas Partners, L.P. ("Star Gas Partners" or the "Partnership") was
     formed on October 16, 1995, as a Delaware limited partnership.  Star Gas
     Partners and its subsidiary, Star Gas Propane, L.P., a Delaware limited
     partnership (the "Operating Partnership" or the "OLP") were formed to
     acquire, own and operate substantially all of the propane operations and
     assets and liabilities of Star Gas Corporation ("Star Gas"), a Delaware
     corporation (and the general partner of Star Gas Partners and the Operating
     Partnership) and the propane operations and assets and liabilities of Star
     Gas' parent corporation, Petroleum Heat and Power Co., Inc., a Minnesota
     corporation ("Petro") (collectively hereinafter referred to as the
     "Predecessor Company").  The Operating Partnership is, and the Predecessor
     Company was, engaged in the marketing and distribution of propane gas and
     related appliances to retail and wholesale customers in the United States
     located principally in the Midwest and Northeast.  On December 20, 1995,
     (i) Petro conveyed all of its propane assets and related liabilities to
     Star Gas and (ii) Star Gas and its subsidiaries conveyed substantially all
     of their assets (other than $83.7 million in cash from the proceeds of the
     First Mortgage Notes and certain non-operating assets) to the Operating
     Partnership (the "Star Gas Conveyance") in exchange for general and limited
     partner interests in the Operating Partnership and the assumption by the
     Operating Partnership of substantially all of the liabilities of Star Gas
     and its subsidiaries (excluding certain income tax liabilities and certain
     other long-term obligations of Star Gas that were assumed by Petro),
     including the First Mortgage Notes and approximately $53.8 million in
     outstanding Star Gas debt due to Petro.  The net book value of the
     Predecessor's equity was $29.2 million on December 20, 1995. The partners
     capital on December 20, 1995 after the contribution of assets from the
     Predecessor but before the issuance of Common Units was $11.2 million.  The
     difference of $18.0 million relates to $6.0 million in cash and a $12.0
     million note receivable from Petro, which the Predecessor did not convey to
     the Operating Partnership.  Immediately after the Star Gas Conveyance, Star
     Gas and its subsidiaries conveyed their limited partner interests in the
     Operating Partnership to Star Gas Partners in exchange for an aggregate of
     2.4 million Subordinated Units of limited partner interests in Star Gas
     Partners.     

          Of the $83.7 million in cash retained by the General Partner, $35.8
     million was paid to Petro in satisfaction of additional indebtedness, $8.6
     million was used to redeem preferred stock of the General Partner held by
     Petro, $12.0 million was loaned to Petro, and $6.0 million was retained to
     be available to fund the General Partner's additional capital contribution
     obligation.  The remaining $21.3 million was paid to Petro as dividends.

          During fiscal 1996, Star Gas Partners completed its initial public
     offering of 2.9 million Common Units, including 0.3 million Common Units
     pursuant to an over-allotment option, at a price of $22.00 per unit.  The
     net proceeds received of $55.9 million, after deducting underwriting
     discounts, commissions and  expenses were contributed to the Operating
     Partnership and used to repay $50.3 million of debt due to Petro, which was
     assumed by the Operating Partnership in the Star Gas Conveyance and the
     Partnership used the balance of $5.6 million for general operating
     purposes.

          In order that the Partnership would commence operations with $6.2
     million of working capital on December 20, 1995, the Conveyance Agreement
     provided that the amount of debt due to Petro at closing would be adjusted
     upwards or downwards to the extent that the Star Gas Partners' net working
     capital exceeded or was less than $6.2 million.  At closing, net working
     capital was $9.7 million and $3.5 million was repaid to Petro on January
     18, 1996.

                                      F-7
<PAGE>
 
1)   Partnership Organization and Formation (continued)

        
          The General Partner holds a 1.0% general partner interest in Star Gas
     Partners and a 1.0101% general partner interest in the Operating
     Partnership.  Star Gas Partners and the Operating Partnership have no
     employees, except for certain employees of its corporate subsidiary Stellar
     Propane Service Corporation.  The General Partner conducts, directs and
     manages all activities of Star Gas Partners and the Operating Partnership
     and is reimbursed on a monthly basis for all direct and indirect expenses
     it incurs on their behalf including the cost of employee wages.
     Partners' capital consists of 3,859,000 Common Units representing a 60.4%
     limited partner interest, 2,396,000 Subordinated Units representing a 37.6%
     limited partner interest, and a 2% General Partner interest.     
        
          The Agreement of Limited Partnership for Star Gas Partners, L.P.
     contains specific provisions for the allocation of net earnings and loss to
     each of the partners for purposes of maintaining the partner capital
     accounts as well as provisions as to the rights and preferences of the
     various classes of units.  Common Units are publicly registered and
     publicly tradable and have voting rights as well as preferential
     distribution and liquidation rights over the Subordinated Units and General
     Partner Interests.  The Subordinated Units and General Partner Interests
     are currently not registered or publicly tradable, nor do they have voting
     rights and they are subordinated to the Common Units in distribution and
     liquidation rights.  Subsequent to the Proposed Acquisition of Petro (see
     note 2), Senior Subordinated Units are expected to be registered and
     publicly tradable and have preferential distribution and liquidation rights
     to the Junior Subordinated Units.     

          The Operating Partnership is and the Star Gas Group was, primarily
     engaged in the retail distribution of propane and related supplies and
     equipment to residential, commercial, industrial, agricultural and motor
     fuel customers, operating from 55 branches in the Midwest and 19 branches
     in the Northeast.  Propane is used primarily for space heating, water
     heating and cooking by the Partnership's residential and commercial
     customers and as a result, weather conditions have a significant impact on
     the demand for propane for both heating and agricultural purposes.
     Accordingly, actual weather conditions can vary substantially from year to
     year, significantly affecting the Partnership's financial performance.

2)   Proposed Acquisition of Petroleum Heat and Power Co., Inc.

         
          On October 23, 1998, the Partnership and Petro jointly announced that
     they have signed a definitive merger agreement pursuant to which Petro
     would be acquired by the Partnership and would become a wholly-owned
     subsidiary of the Partnership ("the Star Gas/Petro transaction"). It is
     anticipated that this acquisition will be accounted for using the purchase
     method of accounting.  It was originally contemplated that this transaction
     would be effected through the sale of $120 million of publicly traded high
     yield debt and $140 million in additional Common units.  It is currently
     contemplated that this transaction will be effected through the private
     placement of $90 million of investment grade debt and the sale of $170
     million in Common Units.  In conjunction with this change, it is also
     contemplated that the exchange ratio used to calculate the number of
     Subordinated Units to be received by Petro shareholders will be modified
     from .13064 to .11758. This transaction would be effected through Petro
     shareholders exchanging their 26,452,270 shares of Petro Common Stock for
     3,244,977 limited partnership units and General Partnership units of the
     Partnership which will be subordinated to the existing Common Units of the
     Partnership.     

          The Partnership currently distributes to its partners, on a quarterly
     basis, all of its Available Cash, which is generally all of the cash
     receipts of the Partnership less all cash disbursements, with a targeted
     Minimum Quarterly Distribution ("MQD") of $0.55 per Unit, or $2.20 per Unit
     on an annualized basis.  In connection with the Star Gas/Petro transaction,
     the Partnership will increase the MQD to $.575 per unit or $2.30 per unit
     on an annualized basis. This increase in the MQD reflects the expectation
     that the transaction will be accretive to the Partnership.  The increase in
     the MQD will also serve to raise the threshold needed to end the
     subordination period.

                                      F-8
<PAGE>
 
2)   Proposed Acquisition of Petroleum Heat and Power Co., Inc. (continued)

    
          Of the 3,244,977 subordinated Partnership units anticipated to be
     distributed to Petro shareholders, 2,491,500 will be Senior Subordinated
     Units and 753,477 will be Junior Subordinated Units and General Partnership
     Units.  The Senior Subordinated Units will be publicly registered and
     tradable (they are expected to be listed on the New York Stock Exchange)
     and will be subordinated in distributions to the Partnership's Common
     Units.  The Junior Subordinated Units and General Partnership Units will
     not be registered nor publicly tradable and will be subordinated to both
     the Common Units and the Senior Subordinated Units. The Senior Subordinated
     Units will be exchanged with holders of Petro's publicly traded Class A
     Common Stock and the Junior Subordinated Units and General Partnership
     Units will be exchanged with individuals that currently own Petro's Class C
     common stock and Class A common stock.  Certain holders of Petro's Class C
     Common Stock will also exchange their shares for Senior Subordinated 
     Units.     
    
          It is currently contemplated that 21,189,827 shares of Petro Common
     Stock will be exchanged for 2,491,500 Senior Subordinated Units of the
     Partnership. 5,262,443 shares of Petro Common Stock, held by certain
     individuals who currently own Petro Class C Common Stock, including Irik P.
     Sevin, Chairman of both Petro and of the General Partner of the Partnership
     and other members of a group that currently controls Petro, will be
     exchanged for 430,395 Junior Subordinated Units and 323,082 General
     Partnership Units which are economically equivalent to Junior Subordinated
     Units. The total value of the Senior Subordinated and Junior Subordinated
     units issued for Petro Common Stock is $50.9 million. In addition,
     transaction expenses are estimated to be $7.0 million.    

          Pursuant to the partnership subordination provision, distributions on
     the Partnership's Senior Subordinated Units may be made only after
     distributions of Available Cash on Common Units meet the Minimum Quarterly
     Distribution requirement. Distributions on the Partnership's Junior
     Subordinated Units and General Partner Units may be made only after
     distributions of Available Cash on Common Units and Senior Subordinated
     Units meet the Minimum Quarterly Distribution requirement. The
     Subordination Period will generally extend until the Partnership earns and
     pays its MQD for three years.

          As a condition of the Star Gas/Petro transaction, the Partnership
     agreement will be amended so that no distribution will be paid on the
     Senior Subordinated Units, Junior Subordinated Units, or the General
     Partner Units except to the extent Available Cash is earned from
     operations.

          Like many other publicly traded master limited partnerships, the
     Partnership contains a provision which provides the General Partner with
     incentive distributions in excess of certain targeted amounts.  This
     provision will be modified so that should there be any such incentive
     distributions, they will be made pro rata to the holders of Senior
     Subordinated Units, Junior Subordinated Units, and General Partner Units.

          In connection with the Star Gas/Petro transaction, the Senior
     Subordinated Units, Junior Subordinated Units and General Partnership Units
     can earn, pro rata, 303,000 additional Senior Subordinated Units each year
     that Petro meets certain financial goals to a maximum of 909,000 additional
     Senior Subordinated Units.
    
          In connection with the Star Gas/Petro transaction, the Partnership
     intends to raise approximately $170 million through a public offering of
     Common Units and $90 million through a public or private offering of debt
     securities. The net proceeds from these offerings will be used primarily to
     redeem approximately $240 million in Petro public and private debt and
     preferred stock. Any such offering will be made only by means of a
     prospectus or in transactions not requiring registration under securities
     laws.     

                                      F-9
<PAGE>
 
2)   Proposed Acquisition of Petroleum Heat and Power Co., Inc., (continued)


          Petro has completed an exchange offer agreement with institutional
     holders of an aggregate of $233 million or 98% of its public debt and
     preferred stock to permit the redemption of such securities at the closing
     of the Star Gas/Petro transaction. This agreement allows Petro to redeem
     its 9 3/8% Subordinated Debentures, 10 1/8% Subordinated Notes and 12 1/4%
     Subordinated Debentures at 100%, 100% and 103.5% of principal amount,
     respectively, plus accrued interest and also to redeem its 12 7/8%
     Preferred Stock at $23 per share, plus accrued and unpaid dividends. In
     consideration for this early redemption right, Petro has agreed to issue to
     such holders 3.37 shares of newly issued Petro Junior Convertible Preferred
     Stock for each $1,000 in principal amount or liquidation preference of such
     securities. Each share of Petro Junior Convertible Preferred Stock will be
     exchangeable into .13064 of a Partnership Common Unit at the conclusion of
     the Star Gas/Petro transaction representing a maximum of 102,773 Common
     Units. Petro also intends to restructure $66.2 million of privately held
     Notes currently outstanding.
    
          Petro currently has a 40.5% equity interest in the Partnership. Prior
     to the transaction, Petro owns 2,396,078 Subordinated Units and a 2.0%
     interest in the Partnership or the equivalent of 127,655 units.  As part of
     the Transaction, the Subordinated Units and General Partner Interests will
     be contributed to the Partnership by Petro in exchange for 42,046 Common
     Units and 1,718,795 Senior Subordinated Units.  The Common Units will be
     exchanged by Petro with the holders of Petro Junior Convertible Preferred
     Stock and the Senior Subordinated Units ultimately will be exchanged with
     certain of the holders of Petro's Common Stock.  After completion of the
     Star Gas/Petro transaction, the Petro shareholders will own approximately
     20% of the Partnership's equity through Subordinated Units and General
     Partnership Units.  The holders of the Partnership's Common Units
     (including an estimated 6.8 million Common Units that will be sold in the
     Partnership's $140 million public offering) will own an approximate
     aggregate 80% equity interest in the Partnership following the completion
     of the transaction.  The General Partner of the Partnership will be a newly
     organized Delaware limited liability company that will be owned by Irik
     Sevin, Audrey Sevin and two entities affiliated with Wolfgang Traber, all
     of whom are directors of Star Gas Corporation.    

          A Special Committee of the Star Board of Directors, acting on behalf
     of the Public Common Unitholders, negotiated the terms of the Star
     Gas/Petro Transaction. A.G. Edwards & Sons, Inc. was retained by the
     Special Committee as independent financial advisor, and has rendered an
     opinion that the Star Gas/Petro Transaction is fair, from a financial point
     of view, to the public Common Unitholders.

          The completion of the Star Gas/Petro Transaction is subject to the
     receipt of regulatory approvals, the approval of Star's non-affiliated
     Common unitholders and non-affiliated Petro shareholders and other
     necessary partnership and corporate approvals.

3)   Summary of Significant Accounting Policies

     Basis of Presentation

          The Consolidated Financial Statements for the period October 1, 1995
     through December 20, 1995 include the propane operations, assets and
     liabilities of the Predecessor Company. The Consolidated Financial
     Statements for the period December 20, 1995 through September 30, 1996 and
     for the years ended September 30, 1997 and September 30, 1998 include the
     accounts of Star Gas Partners, L.P., the Operating Partnership and its
     corporate subsidiary, Stellar Propane Service Corp., collectively referred
     to herein as (the "Partnership"). All material intercompany items and
     transactions have been eliminated in consolidation and certain
     reclassifications have been made to the 1996 financial statements to
     conform to the 1997 and 1998 presentation.

                                      F-10
<PAGE>
 
3)   Summary of Significant Accounting Policies (continued)

     Net Income (loss) per Limited Partner Unit
          Net income (loss) per Limited Partner Unit is computed by dividing
     net income (loss), after deducting the General Partner's 2.0% interest, by
     the weighted average number of Common Units and Subordinated Units
     outstanding.

     Revenue Recognition
          Sales of propane and propane appliances are recognized at the time of
     delivery of the product to the customer or at the time of sale or
     installation.  Revenue from service repairs and maintenance is recognized
     upon completion of the service provided.

     Inventories
          Inventories are stated at the lower of cost or market and are computed
     on a first-in, first-out basis. At the dates indicated the components of
     inventory were as follows:


<TABLE>
<CAPTION>
                                                         September 30,      
                                                 ---------------------------
                                                     1997            1998   
                                                     ----            ----   
<S>                                              <C>              <C>  
Propane gas.................................      $ 4,805          $ 8,807
Appliances and equipment....................        1,792            1,801
                                                  -------          -------
                                                  $ 6,597          $10,608
                                                  =======          =======
</TABLE>


          Substantially all of the Partnership's propane supplies for the
     Northeast retail operations are purchased under supply contracts. Certain
     of the supply contracts provide for minimum and maximum amounts of propane
     to be purchased thereunder, and provide for pricing in accordance with
     posted prices at the time of delivery or include a pricing formula that
     typically is based on current market prices. During 1996, 1997 and 1998,
     spot purchases from Mont Belvieu sources accounted for approximately 26%,
     36% and 21%, respectively, of the Partnership's total volume of propane
     purchases. In addition, the three single largest suppliers accounted for an
     aggregate of approximately 32%, 31% and 47%, respectively, of total propane
     purchases in 1996, 1997 and 1998. The Partnership may enter into forward
     contracts with Mont Belvieu suppliers or refineries which call for a fixed
     price for the product to be purchased based on current market conditions,
     with delivery occurring at a later date. In most cases the Partnership has
     entered into similar agreements to sell this product to customers for a
     fixed price based on market conditions. In the event that the Partnership
     enters into these types of contracts without a subsequent sale, it is
     exposed to some market risk. Currently, the Partnership does not have any
     contracts that if market conditions were to change, would have a material
     affect on its financial statements.

     Property and Equipment
          Property and equipment are stated at cost. Depreciation is computed
     over the estimated useful lives of the depreciable assets using the
     straight-line method.

     Intangible Assets
    
          The excess of cost over the fair value of net assets resulting from
     the acquisition of the Predecessor Company by Petro in December 1994 is
     being amortized using the straight-line method over 25 years.  Included in
     other intangible assets are covenants not to compete and customer lists,
     which are recorded at cost.  Covenants not to compete are being amortized
     over the respective lives of the covenant, which are five years.  Customer
     lists are being amortized over 15 years and is based on the Partnership's
     historical retention experience of its customers base.  Also included as
     intangible assets are the costs associated with the issuance of the
     Partnership's First Mortgage Notes which are being amortized under the
     interest method over the life of the notes.    

                                      F-11
<PAGE>
 
     Intangible Assets (continued)

     It is the Partnership's policy to review intangible assets for impairment
     whenever events or changes in circumstances indicate that the carrying
     amount of such assets may not be recoverable.  The Partnership determines
     that the carrying values of intangible assets are recoverable over their
     remaining estimated lives through undiscounted future cash flow analysis.
     If such a review should indicate that the carrying amount of the intangible
     assets is not recoverable, it is the Partnership's policy to reduce the
     carrying amount of such assets to fair value.

     Customer Credit Balances
          Customer credit balances represent pre-payments received from
     customers. These payments relate primarily to a budget payment plan whereby
     customers pay their estimated annual propane gas charges on a fixed monthly
     basis and the payments made have exceeded the charges for the deliveries.

     Use of Estimates
          In accordance with generally accepted accounting principles,
      management of the Partnership has made a number of estimates and
      assumptions relating to the reporting of assets and liabilities and the
      disclosure of contingent assets and liabilities to prepare these financial
      statements. Actual results could differ from those estimates.

     Cash Equivalents
          The Partnership considers all highly liquid investments with a
     maturity of three months or less, when purchased, to be cash equivalents.

     Income Taxes
          The Partnership is a master limited partnership.  As a result, for
     Federal income tax purposes, earnings or losses are allocated directly to
     the individual partners.  Except for the Partnership's corporate subsidiary
     which generates non-qualifying Master Limited Partnership income, no
     recognition has been given to Federal income taxes in the accompanying
     financial statements of the Partnership.  Net earnings for financial
     statement purposes may differ significantly from taxable income reportable
     to unitholders as a result of differences between the tax basis and
     financial reporting basis of assets and liabilities and due to the taxable
     income allocation requirements of the Partnership agreement.

4)   Quarterly Distribution of Available Cash

          The Partnership distributes to its partners, on a quarterly basis, all
     of its "Available Cash." Available Cash generally means, with respect to
     any fiscal quarter of the Partnership, all cash on hand at the end of such
     quarter, less the amount of cash reserves that are necessary or appropriate
     in the reasonable discretion of the General Partner.

          Distribution by the Partnership in an amount equal to 100% of its
     Available Cash will generally be made 98% to the Common and Subordinated
     Unitholders and 2% to the General Partner, subject to the payment of
     incentive distributions in the event Available Cash exceeds the Minimum
     Quarterly Distribution ($0.55) on all Units.  To the extent there is
     sufficient Available Cash, the holders of Common Units have the right to
     receive the Minimum Quarterly Distribution, plus any arrearage, prior to
     the distribution of Available Cash to holders of Subordinated Units. Common
     Units will not accrue arrearage for any quarter after the end of the
     Subordination Period (as defined below) and Subordinated Units will not
     accrue any arrearage with respect to distributions for any quarter.

                                      F-12
<PAGE>
 
4)   Quarterly Distribution of Available Cash (continued)

          The first distribution commenced with the quarter ending March 31,
     1996 and was paid on May 15, 1996 to holders of record as of May 1, 1996.
     The initial distribution was $0.6225 per unit and represented a pro rata
     distribution of $0.0725 per unit for the period December 20, 1995 to
     December 31, 1995 and a quarterly distribution of $0.55 per unit for the
     three months ended March 31, 1996. During fiscal 1996, distributions of
     $1.17 per unit (including the initial distribution) were declared and paid
     on all common, subordinated and general partnership interests. The
     aggregate amount paid for such distributions was $6.3 million during fiscal
     1996.

          During fiscal 1997, distributions of $2.20 per unit were declared and
     paid on all common, subordinated and general partnership interests. The
     aggregate paid for such distributions was $11.8 million during fiscal 1997.

          During fiscal 1998, distributions of $2.20 per unit were declared and
     paid on all common, subordinated and general partnership interests.  The
     aggregate paid for such distributions was $13.4 million during fiscal 1998.

5)   Distributions from Operating Surplus during Subordination Period

          The Subordination Period will generally extend until the first day of
     any quarter beginning on or after January 1, 2001 in respect of which (i)
     distributions of Available Cash from Operating Surplus on the Common Units
     and the Subordinated Units equals or exceeds the sum of the Minimum
     Quarterly Distribution on all of the outstanding Common Units and
     Subordinated Units with respect to each of the three non-overlapping four-
     quarter periods immediately preceding such date, (ii) the Adjusted
     Operating Surplus generated during each of the three immediately preceding
     non-overlapping four-quarter periods equals or exceeds the sum of the
     Minimum Quarterly Distribution on all of the outstanding Common Units and
     Subordinated Units during such periods and (iii) there are no arrearages in
     payment of the Minimum Quarterly Distribution on the Common Units.

          Prior to the end of the Subordination Period, a portion of the
     Subordinated Units will convert into Common Units on the first day after
     the record date established for any quarter ending on or after March 31,
     1999 (with respect to 599,020 of the Subordinated Units) and March 31, 2000
     (with respect to an additional 599,020 of the Subordinated Units), on a
     cumulative basis, in respect of which (i) distributions of Available Cash
     from Operating Surplus on the Common Units and the Subordinated Units
     equals or exceeds the sum of the Minimum Quarterly Distribution on all of
     the outstanding Common Units and Subordinated Units with respect to each of
     the three non-overlapping four-quarter periods immediately preceding such
     date, (ii) the Adjusted Operating Surplus generated during each of the
     three immediately preceding non-overlapping four-quarter periods equals or
     exceeds the sum of the Minimum Quarterly Distribution on all of the
     outstanding Common Units and Subordinated Units during such periods and
     (iii) there are no arrearages in payment of the Minimum Quarterly
     Distribution on the Common Units.

6)   Acquisitions  Pro Forma

          During fiscal 1996, the Partnership acquired two propane dealers with
     an aggregate cost of $2.4 million.

          During fiscal 1997, no acquisitions were completed.

                                      F-13
<PAGE>
 
6)  Acquisitions  Pro Forma (continued)

    
          During fiscal 1998, the Partnership acquired seven unaffiliated retail
     propane dealers with an aggregate cost of $35.6 million. The acquisitions
     were accounted for under the purchase method of accounting. Since these
     acquisitions were completed after the heating season, the Partnership
     cannot fully determine the impact of customer losses on the useful life of
     the customer lists acquired. The partnership intends to monitor customer
     losses from acquisitions in order to determine the appropriate useful life.
     The Partnership has assigned a useful life of 15 years to these acquired
     customer lists and this estimate may change. The following table indicates
     the allocation of the aggregate purchase prices paid for these acquisitions
     and the respective periods of amortization assigned.     

<TABLE>    
<S>                                      <C>                         <C> 
                                                                       Useful Lives
Land                                       $   492                         -
Buildings                                    1,381                       30 years 
Furniture and equipment                        153                       10 years  
Fleet                                        1,613                   5 - 30 years  
Tanks and equipment                         14,829                   5 - 30 years  
Customer lists                               5,231                       15 years  
Restrictive covenants                          300                        5 years  
Goodwill                                    11,503                       25 years  
Deferred charges                                56                        6 years  
                                           -------                                 
                                           $35,558  
Total                                      =======  
</TABLE>     

       
          The most significant transaction was the acquisition of the Pearl Gas
     Co., "Pearl".  In October 1997, pursuant to a purchase agreement, the
     General Partner purchased 240 shares of Common Stock ($100 par value) of
     Pearl, representing all of its issued and outstanding capital stock.  The
     purchase price was $23.0 million and included working capital of $1.9
     million and $0.4 of transaction expenses.  Funding for this purchase was
     provided by a $23.0 million bank acquisition facility.     
       
          The General Partner then contributed to the Partnership all of the
     assets it obtained in the stock purchase of Pearl Gas in exchange for a
     2.7% interest in the Partnership and the assumption of all liabilities
     associated with the Pearl stock including the $23.0 million of bank debt.
     Subsequent to the acquisition, Pearl was merged into the General Partner as
     part of a tax-free liquidation.  The General Partner purchased the
     outstanding shares of Common Stock of Pearl and subsequently conveyed the
     assets obtained in connection with this purchase, primarily to accommodate
     the prior owners desire to sell stock as opposed to assets and to complete
     the transaction using the most tax advantaged method possible.     
            
          The aggregate value of the interests transferred to Star Gas from the
     Partnership was $3.5 million representing a .00027 General Partner interest
     and 147,727 Common Units in the Partnership.  This amount was intended to
     compensate Star Gas for additional significant income tax liabilities which
     would be reflected in the consolidated federal income tax return of the
     General Partner's parent corporation, Petro and was based upon an average
     of the of the Partnership's Common Units.     
        
          The issuance of such partnership interests was approved by the Audit
     Committee of Star Gas and the Executive Committee of Petro.     
    
          The acquisitions were accounted for under the purchase method of
     accounting.  Purchase prices have been allocated to the acquired assets and
     liabilities based on their respective fair market values on the dates of
     acquisition.  The purchase prices in excess of the fair values of net
     assets acquired were classified as intangibles in

                                      F-14
<PAGE>
 
6)   Acquisitions  Pro Forma (continued)

     the Consolidated Balance Sheets. Sales and net income have been included in
     the Consolidated Statements of Operations from the respective dates of
     acquisition.
        
          The following unaudited pro forma information presents the results of
     operations of the Partnership as if the acquisitions had taken place on
     October 1, 1996.     

<TABLE>    
<CAPTION>
 
                                                             Years Ended September 30,
                                                       -----------------------------------
                                                              1997                1998
                                                              ----                ----
<S>                                                        <C>                   <C>   

     Sales                                                  $155,111             $116,071
                                                            ========             ========
                                                                           
     Net income (loss)                                        $4,375               $ (606)
                                                             =======               ======
                                                                                    
     General Partner's interest in net income (loss)          $   88               $  (12)
                                                              ======               ======
                                                                               
     Limited Partners' interest in net income (loss)          $4,287               $ (594)
                                                              ======               ======
                                                                               
     Net income (loss) per limited partner unit               $ 0.69               $(0.10)
                                                              ======               ======
</TABLE>     

7)   Property, Plant and Equipment

     The components of property, plant and equipment and their estimated useful
     lives were as follows at the indicated dates:

<TABLE> 
<CAPTION> 
                                             Years Ended September 30,                             
                                       ----------------------------------                                
                                            1997                1998               Useful Lives          
                                            ----                ----               ------------          
     <S>                                    <C>               <C>              <C>               
    Land                                     $4,060           $4,635                    -                
    Buildings                                 8,871           10,313                30 years             
    Fleet                                    14,464           16,918            5 - 30 years             
    Tanks and equipment                      84,766          102,493            5 - 30 years             
    Furniture and fixtures                    2,504            2,833                10 years             
                                            --------        -------- 
       Total                                114,665          137,192 
Less accumulated depreciation               (19,383)         (26,930)
                                           --------         -------- 
       Total                                $95,282         $110,262 
                                           ========         ======== 
</TABLE>

                                      F-15
<PAGE>
 
8)   Intangibles and Other Assets
    
          The components of intangibles and other assets were as follows at the
     indicated dates:     

<TABLE>    
<CAPTION> 


                                                  Years Ended September 30,
                                             ---------------------------------
                                                   1997             1998               Useful Lives
                                                  -----             ----               ------------
<S>                                           <C>             <C>                  <C> 
Goodwill                                        $14,186          $25,690                 25 years 
Covenants not to compete                          2,040            2,341                  5 years 
Customer lists                                   28,797           34,028                 15 years            
Deferred charges and other assets                 2,822            2,907             6 - 14 years 
                                                 ------          -------          
  Total                                          47,845           64,966
Less accumulated amortization                    (9,823)         (13,568)
  Total                                         $38,022          $51,398
                                                =======          =======
</TABLE>     
   


                                                           
9)  Long-Term Debt and Working Capital Borrowings

    Long-term debt consists of the following:

<TABLE>  
<CAPTION> 
                                            Years Ended September 30,   
                                       ---------------------------------       
                                              1997          1998               
                                              ----          ----               
<S>                                        <C>             <C>                 
8.04% First Mortgage Notes                 $85,000        $ 85,000              
7.17% First Mortgage Notes                     -            11,000              
Acquisition Facility borrowings                -             9,000              
                                            ------         -------
  Total                                     85,000         105,000              
Less current maturities                        -              (692)            
                                           -------        -------- 
  Total                                    $85,000        $104,308             
                                           =======        ========              
</TABLE> 
                                                              
          In December 1995, the General Partner issued $85.0 million of first
     mortgage notes (the "First Mortgage Notes") with an annual interest rate of
     8.04%.  These notes were assumed as part of the Star Gas Conveyance by the
     Operating Partnership.  In January 1998, the Operating Partnership issued
     an additional $11.0 of First Mortgage Notes with an annual interest rate of
     7.17%.  The Operating Partnership's obligations under the First Mortgage
     Note Agreements are secured, on an equal basis with the Operating
     Partnership's obligations under the Bank Credit Facilities, by a mortgage
     on substantially all of the real property and liens on substantially all of
     the operating facilities, equipment and other assets of the Operating
     Partnership.  The First Mortgage Notes will mature September 15, 2010, and
     will require semiannual prepayments, without premium on the principal
     thereof, beginning on March 15, 2001.  Interest on the Notes is payable
     semiannually on March 15 and September 15.  For the year ended September
     30, 1998, the Partnership incurred interest expense in the amount of $7.4
     million on the First Mortgage Notes.

          The First Mortgage Note Agreements contains various restrictive and
     affirmative covenants applicable to the Operating Partnership, including
     restrictions on the incurrence of additional indebtedness and restrictions
     on certain investments, guarantees, loans, sales of assets and other
     transactions.

          The Bank Credit Facilities consist of a $25.0 million Acquisition
     Facility and a $12.0 million Working Capital Facility.  The agreement
     governing the Bank Credit Facilities contains covenants and default
     provisions generally similar to those contained in the First Mortgage Note
     Agreements.  As of September 30, 1998, there were $9.0 million outstanding
     in borrowings under the Acquisition Facility and $4.8 million outstanding
     in borrowings under the Working Capital Facility.

                                      F-16
<PAGE>
 
9)   Long-Term Debt and Working Capital Borrowings (continued)


     The Bank Credit Facilities bear interest at a rate based upon, at the
     Partnership's option, either the London Interbank Offered Rate plus a
     margin or a Base Rate (each as defined in the Bank Credit Facilities).  The
     Partnership is required to pay a fee for unused commitments which amounted
     to $0.1 million for fiscal 1996, $0.2 million for fiscal 1997 and $0.1
     million for fiscal 1998.  For fiscal 1998, the weighted average interest
     rate on borrowings under these facilities was 7.46%

       The Working Capital Facility will expire June 30, 2000, but may be
     extended annually thereafter with the consent of the banks.  Borrowings
     under the Acquisition Facility will revolve until June 30, 1999, after
     which time any outstanding loans thereunder, will amortize quarterly in
     equal principal payments with a final payment due on September 30, 2002.
     However, there must be no amount outstanding under the Working Capital
     Facility for at least 30 consecutive days during each fiscal year.

       As of September 30, 1998, the annual maturities of the First Mortgage
     Notes and borrowing under the acquisition facility are set forth in the
     following table:

          
               <TABLE> 
                         <S>                  <C> 
                          1999                 $    692
                          2000                    2,769
                          2001                    4,693
                          2002                   11,471
                          2003                   10,625
                          Thereafter             74,750
                                               --------
                                               $105,000
                                               ========
</TABLE> 

          As of September 30, 1998, the Partnership was in compliance with all
     borrowing agreement covenants, as amended.
 
10)  Employee Benefit Plans

          Star Gas has a 401(k) plan which covers certain eligible union and 
     non-union employees.  Subject to IRS limitations, the 401(k) plan provides
     for each employee to contribute from 1.0% to 15.0% of compensation.  Star
     Gas contributes to non-union participants a matching amount up to a maximum
     of 3.0% of compensation.  Aggregate matching contributions made to the
     401(k) plan during fiscal 1996, 1997 and 1998 were $0.3 million, $0.4
     million and $0.3 million, respectively.
 
          Star Gas also makes monthly contributions on behalf of its union
     employees to a union sponsored defined benefit plan.  The amount charged to
     expense was $0.3 million, $0.4 million and $0.4 million in fiscal 1996,
     1997 and 1998, respectively.

11)  Unit Option Plan

          On December 20, 1995, the General Partner adopted the 1995 Star Gas
     Corporation Unit Option Plan (the "Unit Option Plan"), which currently
     authorizes the issuance of options (the "Unit Options") and Unit
     Appreciation Rights ("UARS") covering up to 300,000 Subordinated Units to
     certain officers and employees of the General Partner.  A total of 40,000
     options were granted to key executives in December 1995.  The Unit Options
     have the following characteristics:  1) an exercise price of $22 per unit,
     which is an estimate of the fair market value of the Subordinated Units at
     the time of grant, 2) vest over a five year period, 3) are exercisable
     after

                                      F-17
<PAGE>
 
11)  Unit Option Plan (continued)


     January 1, 2001, assuming the subordination period has elapsed, and 4)
     expire on the tenth anniversary of the date of grant.  Upon conversion of
     the Subordinated Units held by the General Partner and its affiliates, the
     Unit Options granted will convert to Common Unit Options.  No UARS have
     been granted pursuant to the plan.
    
          As prescribed by SFAS No. 123, compensation expense is recognized by
     the Partnership for the unit option plan awards to executives who are not
     employees of the Partnership.  The amount recorded is calculated by
     comparing the fair value of the options granted on the grant date based on
     the Black-Scholes model to the market price of the Partnership's units on
     that date and amortizing such difference over the vesting period.  The
     amounts recorded in fiscal years 1996, 1997 and 1998 were not
     significant.    

12)  Lease Commitments

          The Partnership has entered into certain operating leases for office
     space, trucks and other equipment.

          The future minimum rental commitments at September 30, 1998 under
     leases having an initial or remaining non-cancelable term of one year or
     more are as follows:

<TABLE> 
          <S>                               <C> 
           1999                              $  939
           2000                                 808               
           2001                                 751               
           2002                                 638               
           2003                                 285               
           Thereafter                           379               
                                             ------               
           Total Minimum lease payments      $3,800               
                                             ====== 
</TABLE> 

          The Partnership incurred rent expense of $1.2 million, $1.3 million
     and $1.2 million in 1996, 1997 and 1998, respectively.

                                      F-18
<PAGE>
 
13)  Supplemental Disclosures of Cash Flow Information


<TABLE>    
<CAPTION>
                                                               Years Ended September 30,       
                                                     -----------------------------------------    
                                                      1996             1997           1998         
                                                      ----             ----           ----         
<S>                                              <C>                 <C>            <C>            
     Cash paid during the year for:                                                                
       Income taxes                               $     80            $    7        $      8       
                                                  ========            ======        ========       
       Interest                                   $  5,088            $7,170        $  7,915       
                                                  ========            ======        ========       
     Non-cash investing activities:                                                                
     Acquisitions:                                                                                 
         Working capital                            $9,731                          $  1,945       
         Net long-term assets                      140,250                          $ 25,134       
         Assumption of debt                       $(53,800)                         $(23,000)      
         Assumption of First Mortgage Notes       $(85,000)                               --       
                                                                                                   
     Non-cash financing activities:                                                                
         Issuance of Common units                 $(10,956)                         $ (3,999)      
         Additional General Partner interest      $   (225)                         $    (80)      
</TABLE>      

14)  Commitments and Contingencies


          In the ordinary course of business, the Partnership is threatened
     with, or is named in, various lawsuits.  The Partnership is not a party to
     any litigation which individually or in the aggregate could reasonably be
     expected to have a material adverse effect on the Partnership.


15)  Related Party Transactions
    
          The Partnership has no employees except for certain employees of its
     corporate subsidiary, Stellar Propane Service Corporation and is managed
     and controlled by the General Partner.  Pursuant to the Partnership
     Agreement, the General Partner is entitled to reimbursement for all direct
     and indirect expenses incurred or payments it makes on behalf of the
     Partnership, and all other necessary or appropriate expenses allocable to
     the Partnership or otherwise reasonably incurred by the General Partner in
     connection with operating the Partnership's business.  Indirect expenses
     are allocated to the Partnership on a basis consistent with the type of
     expense incurred.  For example, services performed by employees of the
     General Partner on behalf of the Partnership are reimbursed on the basis of
     hours worked and rent expense is reimbursed on the proportion of the square
     footage leased by the Partnership.  For the fiscal years ended September
     30, 1996, 1997 and 1998, the Partnership reimbursed the General Partner and
     Petro $14.4 million, $17.1 million and $19.6 million, respectively,
     representing salary, payroll tax and other compensation paid to the
     employees of the General Partner, including $0.3 million, $0.2 million and
     $0.1 million, respectively, paid to Petro for certain corporate functions
     such as finance and compliance.  In addition, the Partnership reimbursed
     Petro $1.9 million, $0.9 million and $0.8 million for the fiscal years
     ended September 30, 1996, 1997 and 1998, respectively, relating to the
     Partnership's share of the costs incurred by Petro in conducting the
     operations of a certain shared branch location which includes managerial
     services.     

16)  Disclosures About the Fair Value of Financial Instruments
    
     Cash, Accounts Receivable, Notes Receivable and Other Current Assets,
     Working Capital Borrowing, Accounts Payable and Accrued Expenses     

          The carrying amount approximates fair value because of the short
     maturity of these instruments.

                                      F-19
<PAGE>
 
16)  Disclosures About the Fair Value of Financial Instruments (continued)

     Long-Term Debt

          The fair values of each of the Partnership's long-term financing
     instruments, including current maturities, are based on the amount of
     future cash flows associated with each instrument, discounted using the
     Company's current borrowing rate for similar instruments of comparable
     maturity.

          The estimated fair value of the Partnership's long-term debt is
     summarized as follows:


<TABLE>
<CAPTION>
                                                     At September 30, 1998
                                         ------------------------------------------
                                         Carrying Amount       Estimated Fair Value
                                         -------------------   --------------------
<S>                                            <C>                    <C> 
Long-term debt                                 $104,308                $105,914
                                               ========                ========
</TABLE>

17)  General Partner Balance Sheet

     The following presents the Condensed Consolidated Balance Sheet as of
     December 31, 1997 of the General Partner, Star Gas Corporation.

<TABLE>
<CAPTION>
                                                      December 31, 1997
                                                      -----------------
                               Assets                   (in thousands)
<S>                                                   <C>                                 
Current assets                                                                                     
  Cash                                                     $      3                               
  Investments                                                    26                                
  Interest receivable                                           330                                
                                                           --------
     Total current assets                                       359                                
Investment in Star Gas Partners, L.P.                         7,815                                
Note receivable from Petro                                   12,000                                
                                                           --------
     Total assets                                          $ 20,174                                
                                                           ========                                
     Liabilities and Shareholder's Equity                                                  
                                                                                                   
Current liabilities                                                                                
  Accrued expenses                                         $     26   
                                                           --------                                
      Total current liabilities                                  26                                
                                                                                                   
Taxes payable                                                 3,467                                
                                                                                                   
Shareholder's equity                                                                               
     Common stock                                                --                                
     Preferred stock                                            508                                
     Additional paid in capital                                                                    
                                                             55,887                                
     Retained earnings (deficit)                            (39,714)                               
                                                           --------                                
     Total shareholder's equity                              16,681                                
                                                           --------                                
     Total liabilities and shareholder's equity            $ 20,174                                
                                                           ========                                 
</TABLE>                                                              

                                      F-20
<PAGE>
 
18)  Subsequent Events


          On October 21, 1998, the Partnership announced that it would pay a
     distribution of $0.55 per Common Unit for the three months ended September
     30, 1998.  The distribution is payable on November 13, 1998 to holders of
     record as of November 3, 1998.  No distributions were declared on the
     Subordinated Units for this period.

19)  Selected Quarterly Financial Data (unaudited)

          The seasonal nature of the Partnership's business results in the sale
     by the Partnership of approximately 35% of its volume in the first fiscal
     quarter and 40% of its volume in the second fiscal quarter of each year.
     The Partnership generally realizes net income in both of these quarters and
     net losses during the quarters ending June and September.

<TABLE>    
<CAPTION>
                                                              Three Months Ended
                            --------------------------------------------------------------------------
                             December 31, 1996   March 31, 1997     June 30, 1997   September 30, 1997        Total
                            ------------------   --------------   ---------------   ------------------    --------------
<S>                             <C>              <C>               <C>              <C>                   <C>
Sales                              $50,876           $46,442            $20,078           $17,763             $135,159
Operating income (loss)              7,787             7,144             (2,426)           (3,339)               9,166
Income (loss) before taxes           5,898             5,332             (4,138)           (5,055)               2,037
Net income (loss)                    5,892             5,325             (4,143)           (5,062)               2,012
Limited Partner interest in
  net income (loss)                  5,774             5,218             (4,060)           (4,960)               1,972
Net income (loss) per
  Limited Partner Unit(a)          $  1.10           $  0.99            $ (0.77)          $ (0.94)             $  0.37
</TABLE>      
        
                                                     
<TABLE>     
<CAPTION> 
                                                              Three Months Ended
                            --------------------------------------------------------------------------
                             December 31, 1997   March 31, 1998     June 30, 1998   September 30, 1998        Total
                            ------------------   --------------   ---------------   ------------------    --------------
<S>                             <C>               <C>               <C>              <C>                   <C>
 
Sales                              $41,844           $37,884            $16,243           $15,714             $111,685
Operating income (loss)              5,843             8,289             (3,312)           (3,647)               7,173
Income (loss) before taxes           3,713             6,370             (5,229)           (5,784)                (930)
Net income (loss)                    3,707             6,363             (5,235)           (5,790)                (955)
Limited Partner interest in
  net income (loss)                  3,633             6,236             (5,130)           (5,675)                (936)
                                    
Net income (loss) per
  Limited Partner Unit(a)          $  0.66           $  1.00            $ (0.82)          $ (0.91)             $ (0.16)
</TABLE>     

(a)  Amounts do not add due to weighting of Limited Partner Units outstanding.

                                      F-21
<PAGE>
 
                     STAR GAS PARTNERS, L.P. AND SUBSIDIARY
                       VALUATION AND QUALIFYING ACCOUNTS
                 Years Ended September 30, 1996, 1997 and 1998
                                 (in thousands)

                                        
<TABLE>
<CAPTION>
 
                                                                             Additions
                                                                    ----------------------------
 
                                                Balance at            Charged to                           
                                               Beginning of            Costs &           Other Changes        Balance at
 Year               Description                    Year                Expenses            Add(Deduct)        End of Year 
 ----              ------------                   ----                 --------            ----------        ------------
<S>         <C>                                 <C>                    <C>                 <C>                <C> 
  1996       Allowance for doubtful               $362                   422                (184)(b)             $291
             accounts                             ====                   ===                (309)(a)             ====
                                                                                            =====
  1997       Allowance for doubtful accounts      $291                   312                (330)(a)             $273
                                                  ====                   ===                =====                ====

  1998       Allowance for doubtful accounts      $273                   239                (260)(a)             $252
                                                  ====                   ===                ====                 ====
</TABLE>

(a)  Bad debts written off (net of recoveries).
(b)  Amount excluded from the Star Gas Conveyance which took place on December
     20, 1995.

                                      F-22