<PAGE>
 
                    U.S. SECURITIES AND EXCHANGE COMMISSION
                            WASHINGTON, D.C.  20549

                                   FORM 10-Q

[X]  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES 
     EXCHANGE ACT OF 1934.

For the quarterly period ended September 30, 1997.

[_]  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES 
     EXCHANGE ACT OF 1934.

For the transition period from ___________________ to __________________.


                         Commission File Number 0-9147

                           FOUNTAIN OIL INCORPORATED

            (Exact name of Registrant as Specified in its Charter)


              DELAWARE                                  91-0881481
   (State or other jurisdiction of          (I.R.S. Employer Identification No.)
   incorporation or organization)

                       1400 BROADFIELD BLVD., SUITE 100
                             HOUSTON, TEXAS  77084
                   (Address of Principal Executive Offices)

      Registrant's Telephone Number, Including Area Code:  (281) 492-6992


--------------------------------------------------------------------------------
(FORMER NAME, FORMER ADDRESS AND FORMER FISCAL YEAR, IF CHANGED SINCE LAST 
REPORT)


Indicate by check 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[_]


The number of shares outstanding of issuer's common stock on October 31, 1997
was 22,447,489.
<PAGE>
 
                        PART I - FINANCIAL INFORMATION
                  FOUNTAIN OIL INCORPORATED AND SUBSIDIARIES

                                        
ITEM 1.   FINANCIAL STATEMENTS
          CONDENSED CONSOLIDATED BALANCE SHEET




 
                                                  Unaudited
                                                 -----------------------------
                                                 September 30,    December 31,
                                                     1997             1996
                                                 -----------------------------
                    ASSETS
                    ------
Current Assets:
  Cash and cash equivalents                      $  16,964,898    $  31,424,064
  Accounts receivable - affiliated entities            453,044          259,040
  Other current assets                               1,462,138          622,411
                                                 -------------    -------------
                     Total current assets           18,880,080       32,305,515

Restricted cash                                      9,700,000        5,400,000
Notes receivable                                       188,776          190,186
Property and equipment, net                          8,563,975        7,766,479
Oil and gas properties, net, full cost method
(including unevaluated amounts of $768,180
  and $257,407, respectively)                        1,559,275          259,338
Investment in and advances to
  oil and gas ventures, net                         10,899,562        8,567,563
Other assets                                           141,172          885,980
                                                 -------------    -------------
                     TOTAL ASSETS                $  49,932,840    $  55,375,061
                                                 =============    =============
                                                                                

                     LIABILITIES AND STOCKHOLDERS' EQUITY

Current Liabilities:
  Accounts payable                               $     511,868    $     799,985
  Accrued liabilities                                  614,839        1,124,425
                                                 -------------    -------------
                     Total current liabilities       1,126,707        1,924,410

Minority interest in subsidiaries                       18,990          205,380

Stockholders' Equity:
  Preferred stock                                          ---              ---
  Common stock                                       2,244,749        2,216,849
  Capital in excess of par value                    82,040,156       80,851,120
  Accumulated deficit since October 31, 1988       (35,497,762)     (29,822,698)
                                                 -------------    -------------
                     Total stockholders' equity  $  48,787,143    $  53,245,271
                                                 -------------    -------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY       $  49,932,840    $  55,375,061
                                                 =============    =============


See accompanying notes to unaudited condensed consolidated financial statements.

                                       2
<PAGE>
 
                        PART I - FINANCIAL INFORMATION
                  FOUNTAIN OIL INCORPORATED AND SUBSIDIARIES
                                        
                                        
Item 1.   FINANCIAL STATEMENTS
          CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS


<TABLE> 
<CAPTION> 
                                                Unaudited                        Unaudited
                                   -------------------------------     ----------------------------
                                           Three  Months Ended               Nine Months Ended
                                   SEPTEMBER 30,         August 31,    SEPTEMBER 30,      August 31,
                                        1997              1996             1997             1996
                                   -------------------------------     ----------------------------
                                                        (restated)                        (restated)
<S>                                <C>                 <C>             <C>              <C> 
Operating Revenues:
  Consulting income                $         ---      $      3,778     $        ---     $      6,721
  Oil and gas production                  63,158             9,346          172,818           20,171
                                   -------------      ------------     ------------     ------------
                                          63,158            13,124          172,818           26,892
                                   -------------      ------------     ------------     ------------
Operating Expenses:
  Lease operating expense                 48,696             3,728          116,746            7,535
  Other direct project cost              420,656         1,039,897          814,509        1,242,872
  General and administrative             569,444           798,636        2,716,823        2,852,863
  Depreciation, depletion and
    Amortization                          80,483            21,125          158,111           57,939
  Impairment of oil and
    gas properties                           ---           151,045              ---          419,835
  Loss from investments in
    unconsolidated subsidiaries        1,646,587            32,722        3,011,369           11,247
                                   -------------      ------------     ------------     ------------
                                       2,765,866         2,047,153        6,817,558        4,592,291
                                   -------------      ------------     ------------     ------------
OPERATING LOSS                         2,702,708         2,034,029        6,644,740        4,565,399
                                   -------------      ------------     ------------     ------------
Other Income (Expense):
  Interest income                        425,612           252,308        1,142,950          284,328
  Interest expense                        (8,529)         (288,501)         (25,587)      (1,016,465)
  Other income (expense)                 (27,153)          (21,023)         (68,460)           9,854
  Loss on disposition
    of equipment & property              (43,824)         (182,020)        (265,617)        (182,020)
                                   -------------      ------------     ------------     ------------
TOTAL OTHER INCOME (EXPENSE)             346,106          (239,236)         783,286         (904,303)
                                   -------------      ------------     ------------     ------------

Minority interest in loss of
  Consolidated subsidiary                106,946               ---          186,390              ---
                                   -------------      ------------     ------------     ------------
NET LOSS                           $   2,249,656      $  2,273,265     $  5,675,064     $  5,469,702
                                   =============      ============     ============     ============

Weighted average number of
  Common shares outstanding           22,447,489        17,087,496       22,401,515       13,044,802
                                   -------------      ------------     ------------     ------------
NET LOSS PER COMMON SHARE          $       (0.10)     $      (0.13)    $      (0.25)    $      (0.42)
                                   =============      ============     ============     ============
</TABLE> 

See accompanying notes to unaudited condensed consolidated financial statements.

                                       3
<PAGE>
 
                        PART I - FINANCIAL INFORMATION
                  FOUNTAIN OIL INCORPORATED AND SUBSIDIARIES


ITEM 1.   FINANCIAL STATEMENTS
          CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

<TABLE> 
<CAPTION> 
                                                                        Unaudited
                                                           ----------------------------------
                                                                    Nine Months Ended
                                                             September 30,        August 31, 
                                                                1997                1996
                                                           ----------------------------------
<S>                                                        <C>                  <C> 
Operating activities:                                                              (restated)
  Net loss                                                 $   (5,675,064)      $  (5,469,702)
  Loss on disposition of equipment and property                   265,617             182,020
  Equity loss in unconsolidated subsidiaries                    3,011,369              11,247
  Minority interest in loss of consolidated subsidiary           (186,390)                ---
  Impairment of oil and gas properties                                ---             419,835
  Depreciation, depletion and amortization                        158,111              57,939
  Amortization of debt issuance costs                                 ---             866,666
  Changes in assets and liabilities:
    Accounts receivable                                          (194,004)            126,844
    Other current assets and notes receivable                    (838,317)             75,148
    Accounts payable                                             (288,117)            280,319
    Accrued liabilities                                          (509,586)            (22,757)
                                                           --------------       -------------
NET CASH USED IN OPERATING ACTIVITIES                          (4,256,381)         (3,472,441)
                                                           --------------       -------------
Investing activities:
  Restricted cash                                              (4,300,000)                ---
  Investments in oil and gas properties                          (997,479)           (262,584)
  Purchase of property and equipment                             (907,275)         (3,048,666)
  Issuance of notes receivable                                        ---            (135,186)
  Proceeds from disposition of assets                             232,638             104,000
  Investments in and advances to oil and gas ventures          (4,386,669)         (1,533,484)
                                                           --------------       -------------
NET CASH USED IN INVESTING ACTIVITIES                         (10,358,785)         (4,875,920)
                                                           --------------       -------------
Financing activities:
  Proceeds from exercise of options                               156,000                 ---
  Cash provided from issuance of debentures, net                      ---           3,346,723
  Cash provided from issuance of stock, net                           ---          21,103,189
  Payments on short term borrowings                                   ---          (5,054,114)
  Proceeds from issuance of note payable                              ---            (107,948)
  Proceeds from short term borrowings                                 ---           4,848,476
                                                           --------------       -------------
NET CASH PROVIDED BY FINANCING ACTIVITIES                         156,000          24,136,326
                                                           --------------       -------------
NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS          (14,459,166)         15,787,965
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD                 31,424,064           1,541,272
                                                           --------------       -------------
CASH AND CASH EQUIVALENTS, END OF PERIOD                   $   16,964,898       $  17,329,237
                                                           ==============       =============

Non cash investing and financing activities:
  Issuance of common stock in connection with
  investments in oil and gas ventures                     $     1,060,937       $         ---
                                                          ===============       =============
</TABLE> 

See accompanying notes to unaudited condensed consolidated financial statements.

                                       4
<PAGE>
 
                        PART I - FINANCIAL INFORMATION
                  FOUNTAIN OIL INCORPORATED AND SUBSIDIARIES

ITEM 1.   FINANCIAL STATEMENTS
          NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
          NINE MONTHS ENDED SEPTEMBER 30, 1997 AND AUGUST 31, 1996 (UNAUDITED)


(1)  General

     The condensed consolidated financial statements of the Company included
     herein have been prepared by the Company.  In the opinion of management,
     the condensed consolidated financial statements include all adjustments
     necessary for a fair statement of the financial position, results of
     operations and cash flow for the interim period.  The condensed
     consolidated balance sheet as of December 31, 1996 was derived from audited
     financial statements but does not include all disclosures required by
     generally accepted accounting principles.  Certain reclassifications were
     made to the prior year periods' financial information to conform to the
     current period presentation.  These condensed consolidated financial
     statements should be read in conjunction with the consolidated financial
     statements and the notes thereto included in the Company's Report on Form
     10-K for the four month transition period ended December 31, 1996 filed
     with the Securities and Exchange Commission.

     The Company has changed its fiscal year end from August 31 to December 31,
     in order to conform to the calendar year accounting which is required for
     most of the significant oil and gas projects in which the Company
     participates.  The quarters of the current fiscal year do not coincide with
     the quarters of the previous fiscal year.  The Company is filing its
     quarterly reports for the quarters of the current fiscal year without
     recasting data for the prior fiscal year because recasting is not
     practicable and cannot be cost justified.  The results of operations for
     the three and nine month periods ended August 31, 1996 have been presented
     since these periods are the most nearly comparable to the three and nine
     month periods ended September 30, 1997 of the newly adopted fiscal year.
     There are no seasonal or other factors that would affect the comparability
     of information or trends for the three and nine month periods ended
     September 30, 1997 when compared to the three and nine month periods ended
     August 31, 1996.  The results of operations for the three and nine month
     periods ended September 30, 1997 are not necessarily indicative of the
     results to be expected for the full fiscal year ending December 31, 1997.

     In accordance with Securities and Exchange Commission guidance published in
     early 1997, the consolidated statement of operations for the fiscal year
     ended August 31, 1996 was restated to reflect a $795,500 charge related to
     the discount feature of the Company's 8% Convertible Subordinated
     Debentures.  The discount was amortized from the date of issuance to the
     earliest conversion dates of such Debentures.  The restatement in the three
     and nine month periods ended August 31, 1996 resulted in an increase to
     interest expense of $29,032 and $795,500, respectively.

                                       5
<PAGE>
 
     Participation in ventures having corporate characteristics in which the
     Company's equity interest is 50% or less is accounted for using the equity
     method. This applies to the Company's participation in its four present
     ventures in Eastern Europe, including the Russian Federation. Focan Ltd.,
     which was previously accounted for using the equity method, has been
     included as a consolidated subsidiary since the Company now holds 100% of
     the shares in Focan Ltd.

     The condensed consolidated financial statements of the Company do not
     give effect to any impairment in the value of the Company's investment in,
     including advances to, oil and gas properties and ventures or other
     adjustments that would be necessary if financing cannot be arranged for the
     development of such properties and ventures or if they are unable to
     achieve profitable operations.  The Company's condensed consolidated
     financial statements have been prepared under the assumption of a going
     concern.  Failure to arrange such financing on reasonable terms or failure
     of such properties and ventures to achieve profitability would have a
     material adverse effect on the financial position, including realization of
     assets, results of operations and cash flows of the Company and ultimately
     its ability to continue as a going concern.

     Oil and Gas Properties - The Company and the unconsolidated entities for
     which it accounts using the equity method account for oil and gas
     properties and interests under the full cost method.  Under this accounting
     method, costs, including a portion of internal costs associated with
     property acquisition and exploration for and development of oil and gas
     reserves, are capitalized within cost centers established on a country-by-
     country basis.  Capitalized costs within a cost center, as well as the
     estimated future expenditures to develop proved reserves and estimated net
     costs of dismantlement and abandonment, are amortized using the unit-of-
     production method based on estimated proved oil and gas reserves.  All
     costs relating to production activities are charged to expense as incurred.

     Capitalized oil and gas property costs, less accumulated depreciation,
     depletion and amortization and related deferred income taxes, are limited
     to an amount (the ceiling limitation) equal to (a) the present value
     (discounted at 10%) of estimated future net revenues from the projected
     production of proved oil and gas reserves, calculated at prices in effect
     as of the balance sheet date (with consideration of price changes only to
     the extent provided by fixed and determinable contractual arrangements),
     plus (b) the lower of cost or estimated fair value of unproved and
     unevaluated properties, less (c) income tax effects related to differences
     in the book and tax basis of the oil and gas properties.

     Recently Issued Pronouncements - In February 1997, the Financial Accounting
     Standards Board ("FASB") issued Statement of Financial Accounting Standards
     ("SFAS") No. 128, Earnings Per Share and SFAS No. 129, Disclosure of
     Information about Capital Structure. SFAS 128 specifies the computation of
     earnings per share, and SFAS 129 specifies the presentation and disclosure
     requirements about an entity's capital structure. Both SFAS 128 and SFAS
     129 shall be adopted in the fourth quarter of 1997 with restatement back to
     January 1, 1997. The FASB has also issued SFAS No. 130, Reporting
     Comprehensive Income, and SFAS No. 131, Disclosures about Segments of an
     Enterprise and Related Information, both of which are required to be
     adopted by the Company in the fourth quarter of 1997. The initial adoption
     of all of these standards is not expected to have a material effect on the
     Company's financial statements.

                                       6
<PAGE>
 
(2)  Other Current Assets

     Included within other current assets is inventory of $408,000 and $232,000
     at September 30, 1997 and December 31, 1996, respectively.

(3)  Restricted Cash

     Through September 30, 1997, the Company has pledged a total of $9,700,000
     to collateralize bank letters of credit.  Letters of credit supported by
     the restricted cash have been used to assure repayment of borrowings under
     a line of credit established by Kashtan Petroleum Ltd. ("Kashtan"), which
     operates the Lelyaki Field project, under which $6,600,000 was outstanding
     at September 30, 1997.  The $6,600,000 represents an increase of $1,600,000
     during the third quarter of 1997.  An additional $1,200,000 of letters of
     credit supported by restricted cash has been utilized to assure payment for
     drilling rig mobilization, contracting and other goods and services,
     including interest, procured by Kashtan.  At September 30, 1997, $1,900,000
     remained available to secure future borrowings, including those made to pay
     operating costs, and other obligations of oil and gas ventures in which the
     Company has interests. Kashtan utilizes such borrowings to pay Lelyaki
     Field project operating costs, including repayment of costs previously paid
     by the Company on behalf of Kashtan. If beneficiaries of such
     collateralized bank letters of credit were to draw on the letters of credit
     as a result of nonperformance by ventures of their obligations to the
     beneficiaries or otherwise, the banks would, in turn, draw against the
     restricted cash to reimburse themselves for amounts paid on the letters of
     credit.  In such an event, the amounts withdrawn from the restricted cash
     deposits would be reclassified as advances to oil and gas ventures.  See
     Note 6, "Investments in and Advances to Oil and Gas Ventures."

(4)  Property and Equipment

     Property and equipment and the related accumulated depreciation at
     September 30, 1997 and December 31, 1996 included the following:

 
<TABLE> 
<CAPTION> 
                                                         SEPTEMBER 30,   DECEMBER 31,
                                                             1996           1997
                                                         -----------    -----------
     <S>                                                 <C>            <C> 
     Equipment for electrically enhanced oil recovery    $   562,953    $   564,849
     Oilfield materials and equipment                      1,075,896            ---
     Drilling rigs and related equipment                   6,695,513      6,956,709
     Office furniture, fixtures, equipment and other         926,220        850,031
                                                         -----------    -----------
     TOTAL PROPERTY AND EQUIPMENT                          9,260,582      8,371,589
     Accumulated depreciation                               (696,607)      (605,110)
                                                         -----------    -----------
     NET PROPERTY AND EQUIPMENT                          $ 8,563,975    $ 7,766,479
                                                         ===========    ===========
</TABLE> 

     Drilling rigs and related equipment represents new or reconditioned
     drilling rigs and related equipment which the Company expects to transfer
     to Intergas JSC ("Intergas"), an entity in which the Company holds a 37%
     interest, to use in the Maykop Field, Republic of Adygea, Russian
     Federation. Such equipment is not being depreciated as the assets have not
     yet been placed in service. Upon the Company's transfer of the equipment to
     Intergas, the equipment would be reclassified as investments in and
     advances to oil and gas ventures, with no effect on the Company's statement
     of operations.

                                       7
<PAGE>
 
(5)  Oil and Gas Properties and Investments

     A summary of the Company's oil and gas properties as of September 30, 1997
     and December 31, 1996 is set out below:

<TABLE>
<CAPTION>
 
     OIL AND GAS PROPERTIES                              SEPTEMBER 30,            DECEMBER 31,
                                                              1997                    1996
     -----------------------------------------------------------------------------------------
     <S>                                                  <C>                      <C> 
     United States and Canada
     Proved properties                                   $  1,885,725             $  1,029,947         
     Unevaluated properties                                   768,180                  257,407         
     Less: accumulated depreciation, depletion,                                                        
           amortization and impairment                     (1,094,630)              (1,028,016)        
                                                         ------------             ------------
     TOTAL OIL AND GAS PROPERTIES, NET                   $  1,559,275             $    259,338          
                                                         ============             ============
</TABLE> 

     During the first quarter of 1997, the Company purchased a 60% interest in a
     heavy oil property in the Sylvan Lake area in Alberta, Canada for
     approximately $1,009,000. One new well was successfully drilled during the
     1997 third quarter, and was prepared for installation of the Company's
     electrically enhanced oil recovery equipment. A total of four wells are now
     in production.

     Unevaluated properties and associated costs included in oil and gas
     properties in the United States and Canada at September 30, 1997 and
     December 31, 1996, which have not yet been amortized, were $768,180 and
     $257,407, respectively, substantially all of which relate to the Sylvan
     Lake and Rocksprings Fields. The Rocksprings Field represents $257,407 of
     such costs as of September 30, 1997, which were incurred in fiscal 1995,
     and will be evaluated on the basis of a review of production results and
     test evaluations from third party wells drilled and expected to be drilled
     on adjoining acreage during the fourth quarter of 1997 and the first
     quarter of 1998. The Company believes that the Rocksprings Field properties
     will be substantially evaluated and either depletion will commence or the
     properties will be impaired by mid 1998.

(6)  Investments in and Advances to Oil and Gas Ventures

     The amounts recorded at September 30, 1997 and December 31, 1996 as
     investments in and advances to oil and gas ventures are as follows:

<TABLE>
<CAPTION>
 
     INVESTMENTS IN AND ADVANCES TO                       SEPTEMBER 30,            DECEMBER 31,
     OIL AND GAS VENTURES                                     1997                    1996
     -----------------------------------------------------------------------------------------
     <S>                                                  <C>                      <C> 
     Ukraine - Lelyaki Field, Pryluki Region          
       through an effective 40.5% ownership of
       Kashtan Petroleum Ltd.                             $   2,412,422           $   2,398,566
     Adygea, Russian Federation - Maykop Field
       Through 37% ownership in Intergas JSC                  6,045,446               4,439,213
     Canada - Inverness Unit
       Through 50% ownership in Focan Ltd.                          ---                 106,646
     Albania - Gorisht-Kocul Field
       Through 50% ownership of joint venture                 1,843,778               1,326,581
     Ukraine - Stynawske Field, Boryslaw
       Through 45% ownership of Boryslaw Oil Company          4,966,124               1,655,803
                                                          -------------           -------------
     TOTAL INVESTMENTS IN AND ADVANCES TO
       OIL AND GAS VENTURES                               $  15,267,770           $   9,926,809
                                                          =============           =============
</TABLE>

                                       8
<PAGE>
 
<TABLE>
<CAPTION>
     EQUITY IN LOSS OF OIL AND GAS VENTURES                                                                                  
     --------------------------------------
     <S>                                                  <C>                     <C> 
     Ukraine - Lelyaki Field, Pryluki Region              $  (2,219,584)          $    (355,684)
     Adygea, Russian Federation - Maykop Field               (1,210,839)               (601,366)
     Canada - Inverness Unit                                        ---                  (2,407)
     Albania - Gorisht-Kocul Field                             (653,619)               (399,789)
     Ukraine - Stynawske Field, Boryslaw                       (284,166)                    ---
                                                          -------------           -------------
     TOTAL EQUITY IN LOSS OF OIL AND GAS VENTURES            (4,368,208)             (1,359,246)
                                                          -------------           -------------
     TOTAL INVESTMENTS IN AND ADVANCES TO
     OIL AND GAS VENTURES, NET OF EQUITY LOSS             $  10,899,562           $   8,567,563
                                                          =============           ============= 
</TABLE>
     Focan Ltd. transferred its interest in the Inverness Unit during the third
     quarter of 1997 in redemption of the 50% of its shares not owned by the
     Company.  As a result of this transaction, the Company recorded a $43,000
     loss during the third quarter of 1997, and Focan Ltd. became a wholly-owned
     subsidiary of the Company.

     The total investments shown in the table above for the Lelyaki, Maykop
     and Stynawske Fields at September 30, 1997 include the market value of the
     Company's shares issued as partial consideration for the acquisition of
     ownership interests in the related joint ventures of $684,375, $1,668,750
     and $1,237,187, respectively.

     The total investments shown in the table above also include cumulative
     advances that the Company has made to its various oil and gas ventures
     totaling $5,406,492 at September 30, 1997 and $2,424,891 at December 31,
     1996. The Company believes that in the near term such advances will only be
     recoverable from debt or equity financing made available to the ventures,
     directly or indirectly, by such third parties, if any, as may become
     additional participants in the ventures. The Company has indicated a
     willingness to include additional participants in such ventures.

     The total investments shown in the table above do not include restricted
     cash pledged by the Company to collateralize bank letters of credit issued
     to assure repayment of borrowings and performance of other obligations of
     oil and gas ventures in which the Company has interests.  See Note 3,
     "Restricted Cash."
 
     None of the Company's oil and gas interests outside the United States and
     Canada are being amortized, except for a minor amount of amortization
     related to producing wells at the Lelyaki Field. As of September 30, 1997,
     Kashtan recognized an impairment loss on nonproductive Lelyaki Field wells,
     of which the Company's share was $711,900. Kashtan is analyzing results to
     date of its initial workover program with a view towards defining a program
     for the further development of the Lelyaki Field, if any. If the analysis
     being undertaken by Kashtan results in a conclusion that the Lelyaki Field
     cannot be profitably developed, the Company would recognize losses related
     to its investment in and advances to Kashtan and outstanding Kashtan
     obligations indirectly secured by restricted cash which aggregated
     approximately $7,100,000 at September 30, 1997.










                                       9
<PAGE>
 
(7)  Stockholders' Equity

     During the nine month period ended September 30, 1997, the Company issued
     104,000 shares of Common Stock and received $156,000 of gross proceeds upon
     the exercise of outstanding stock options entitling the holders thereof to
     purchase shares of Common Stock at the exercise price of $1.50 per share.
     In addition, during that period the Company issued 175,000 shares of Common
     Stock valued at $1,060,937 in connection with the acquisition of its
     interest in the Stynawske Field project.

(8)  Commitments and Contingencies

     The Company has contingent monetary obligations relating to its acquisition
     and development of oil and gas properties and ventures that at September
     30, 1997 did not exceed $1,900,000, and at that date the Company's
     contingent obligation to issue shares of its Common Stock in that
     connection involved a maximum of 1,075,000 shares.  The contingent
     obligations are subject to the satisfaction of various conditions related
     to, among other things, the achievement of specified project performance
     standards and actions by third parties.

     As the Company develops current projects and undertakes additional
     projects, significant additional obligations may be incurred.

 

                                       10
<PAGE>
 
ITEM 2.   MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
          AND RESULTS OF OPERATIONS

          Liquidity, Capital Resources, and Changes in Financial Condition

          During the nine month period ended September 30, 1997, cash and cash
equivalents decreased $14,459,000 from $31,424,000 at December 31, 1996 to
$16,965,000 on September 30, 1997.  The principal elements of the decrease were
(i) $4,256,000 of net cash used in operating activities, mainly reflecting the
net loss for the period of $5,675,000, and (ii) net cash used in investing
activities of $10,359,000, including investments in and advances to oil and gas
ventures amounting to $4,387,000, the deposit of an additional $4,300,000 in
restricted bank accounts to collateralize bank letters of credit issued or
issuable to assure repayment of borrowings and performances of other obligations
of oil and gas ventures in which the Company has interests, and a net cash
investment in oil and gas properties and in property and equipment aggregating
$1,672,000 (including a cash payment of $738,000 for the acquisition of an
interest in the Sylvan Lake heavy oil field).

          Other current assets increased from $622,000 at December 31, 1996 to
$1,462,000 at September 30, 1997, primarily because of an increase in prepaid
expenses related to both operating activities and corporate matters.  In
addition, inventory increased during 1997.

          Restricted cash, used to collateralize letter of credit facilities for
the benefit of oil and gas ventures in which the Company has interests, amounted
to $9,700,000 at the end of third quarter 1997. Collateralized letters of credit
have been used to assure repayment of borrowings under a line of credit and
payment of certain other absolute and contingent obligations of Kashtan
Petroleum Ltd. ("Kashtan"), which operates the Lelyaki Field project. At
September 30, 1997, payment of absolute and contingent obligations of Kashtan
totaling $7,800,000, including $6,600,000 principal amount outstanding pursuant
to the line of credit, was assured through the collateralized letters of credit.
Kashtan utilizes borrowings under its line of credit to pay Lelyaki Field
operating costs. At September 30, 1997, $1,900,000 of the $9,700,000 remained
available to secure future borrowings and other obligations of Kashtan and other
ventures. The ability of the Company to regain control of portions of the
currently restricted cash collateralizing letters of credit and to return them
to the status of current assets is dependent primarily upon the ability of
Kashtan to pay its obligations that are secured indirectly by such restricted
cash and the willingness of Kashtan to reduce the amount of borrowings permitted
under its line of credit. In the near term, the only source of funds for payment
by Kashtan of such obligations appears to be debt or equity financing made
available to Kashtan, directly or indirectly, by such third parties, if any, as
may become additional participants in Kashtan. (The preceding sentence
constitutes a forward looking statement [hereinafter identified as "FLS"]. Each
of the forward looking statements herein is subject to various factors that
could cause actual results to differ materially from the results anticipated in
such forward looking statement, as more fully discussed under "Forward Looking
Discussion".) The Company has indicated a willingness to include additional
participants in the oil and gas ventures in which it participates. (FLS) Kashtan
might be willing to reduce the amount of borrowings permitted under its line of
credit if it did not foresee a need for such borrowings during the life of the
line of credit. (FLS) If beneficiaries of such collateralized bank letters of
credit were to draw on the letters of credit as a result of nonperformance by
ventures of their obligations to the beneficiaries or otherwise, the banks
would, in turn, draw against the restricted cash to reimburse themselves for
amounts paid on the letters of credit. (FLS) In such an event, the amounts
withdrawn from the restricted cash deposits would be reclassified as advances to
oil and gas ventures. (FLS)






                                       11
<PAGE>
 
         Property and equipment, net, increased from $7,766,000 at December 31,
1996 to $8,564,000 at September 30, 1997, primarily as a result of the Company's
purchase of tubular goods and other oilfield equipment, acquired early in 1997
in anticipation of transferring such equipment to the relevant ventures for use
in the Maykop Field project in the Republic of Adygea, Russian Federation, and
the Gorisht-Kocul Field project in Albania. Neither project is yet in active
development. This increase was partially offset by sale of some oilfield related
equipment and depreciation charges during the period. At September 30, 1997,
$6,696,000 of the $8,564,000 of property and equipment, net, represented new or
reconditioned drilling rigs and related equipment which the Company expects to
transfer to Intergas JSC, the entity which will develop the Maykop Field and in
which the Company has a 37% interest, for use in the Maykop Field project. (FLS)
Upon transfer to such ventures, such property and equipment would be
reclassified as investments in and advances to oil and gas ventures and will be
depreciated by those ventures. (FLS) Such a transfer would have no effect on the
Company's statement of operations. (FLS)
 
         Oil and gas properties, net, increased by $1,300,000 during the nine
month period ended September 30, 1997, principally as a result of the Company's
purchase of a 60% interest in a heavy oil property in the Sylvan Lake area in
Alberta, Canada. A new well, financed by the Company, has been drilled on that
property during the third quarter of 1997. The recently drilled well is prepared
for later installation of electrically enhanced oil recovery equipment, and the
plan is to continue cold production for a minimum of three months in order to
establish a base line prior to stimulation. (FLS) Production from the new well
is expected to stabilize at a rate in excess of 100 barrels of oil per day.
(FLS)

         Investments in and advances to oil and gas ventures were $5,341,000
during the nine months ended September 30, 1997 as the Company continued to fund
projects in Eastern Europe, including the Russian Federation. Included in this
amount is $1,561,000 relating to the Company's acquisition of its 45% interest
in the Stynawske Field project, $1,061,000 of which relates to the issuance of
175,000 shares of the Company's Common Stock as partial consideration for this
acquisition. These investments and advances were partially offset by losses
during the nine month period ended September 30, 1997 from investments in
unconsolidated ventures of $3,011,000.

         Working capital decreased $12,628,000 from $30,381,000 at December 31,
1996 to $17,753,000 at September 30, 1997, primarily as a result of the decrease
in cash and cash equivalents during the quarter. Until the Company obtains
significant additional financing or sells significant portions of its interests
in oil and gas ventures to third parties, the Company expects working capital to
decrease as it funds operations associated with its oil and gas properties and
ventures and incurs general and administrative expenses associated therewith.
(FLS) The Company is attempting to reduce the rate of expenditures both 
associated with its oil and gas properties and ventures and for general and 
administrative expenses. (FLS)

         At September 30, 1997, the Company's contingent monetary obligations
relating to its acquisition and development of oil and gas properties and
ventures did not exceed $1,900,000, and the Company's contingent obligation to
issue shares of its Common Stock in that connection involved a maximum of
1,075,000 shares. The contingent obligations are subject to the satisfaction of
various conditions related to, among other things, the achievement of specified
project performance standards and actions by third parties. As the Company
develops current projects and undertakes additional projects, significant
additional obligations may be incurred. (FLS)

                                       12
<PAGE>
 

         Initial workover operations in the Lelyaki Field in Ukraine have
resulted in both productive and nonproductive wells. The producing Lelyaki Field
wells have shown an aggregate average productive capacity of 165 barrels of oil
per day. Kashtan has recorded in the third quarter of 1997 an impairment loss
equal to the cost of the nonproductive wells, and the Company's share of such
loss was $712,000. Originally, Kashtan had planned to re-complete 12 wells and
then prepare a full field development plan. However, Kashtan has now decided to
suspend re-completion activity as soon as feasible under its arrangements with
its drilling contractor, analyze the results of the initial development efforts
and then define a program for the further development of the Lelyaki Field, if
any. (FLS) Kashtan is taking measures to minimize its operating and
administrative expenses while this analysis is being undertaken. (FLS) If the
analysis being undertaken by Kashtan results in a conclusion that the Lelyaki
Field cannot be profitably developed, the Company would recognize losses related
to its investment in and advances to Kashtan and outstanding Kashtan obligations
indirectly secured by restricted cash which aggregated approximately $7,100,000
at September 30, 1997. (FLS)

         The Company has delayed shipping its drilling equipment into the
Russian Federation in connection with its arrangements for the Maykop Field
pending completion of corporate formalities, establishment of operating
agreements and arrangements, and certain further data collection and analysis.
(FLS) Documents relating to the restructuring of Intergas JSC ("Intergas"), the
entity licensed to operate the Maykop Field, have been finalized, and an
Intergas Prospectus that must be approved before the importation of the rigs and
equipment has been filed with the Russian Security Exchange Authorities. Upon
approval of the Prospectus and the satisfactory completion of the other matters,
the Company expects to proceed with remobilization and shipment of the
equipment. (FLS)

         In March 1997, the Company considered the political unrest in Albania
to be a force majeure, and the activities related to the development of the
Gorisht-Kocul Field were suspended as a result thereof. While the political
situation in Albania now appears to be improving, the Company believes
conditions in the project area have not yet returned to normal and do not yet
justify full scale operations. After recent meetings with the joint venture
partner, Albpetrol, and visits to the field, the Company is considering 
resumption of limited project activities. (FLS)

         On June 10, 1997, Boryslaw Oil Company, in which the Company holds a
45% interest, signed the license agreement to develop and operate the Stynawske
oilfield in Western Ukraine. Ukrnafta, the Ukrainian national oil company, holds
the remaining 55% interest in Boryslaw Oil Company. Preparation for start-up of
drilling operations is ongoing. (FLS)

         Developing the oil and gas properties and ventures in which the Company
has or expects to acquire an interest involves a multi-year effort. The Company
had working capital of $17,753,000 at September 30, 1997, and at that date
$1,900,000 of additional credit facilities were available for unconsolidated
entities resulting from restricted cash of $9,700,000 pledged by the Company to
collateralize letters of credit to be utilized to support, directly or
indirectly, 

                                       13
<PAGE>
 
developmental expenditures by various oil and gas ventures. Completing
development of such oil and gas properties and ventures would require
substantial additional funds. In recognition thereof, the Company has retained
investment bankers in both Europe and the United States to consider and pursue
strategic alternatives for the Company. Among the strategic alternatives to be
considered are sales of portions of the Company's interest in one or more oil
and gas ventures, a substantial equity investment in the Company by
one or more strategic investors, and a business combination. Pending
identification and implementation of a strategic alternative, the Company
intends to implement a slower phasing of the development of some or all of the
properties and ventures, reducing the early investment requirements but delaying
the anticipated production build up. (FLS) In addition, the Company is
instituting a program to reduce general and administrative expenses both for
the Company and for the various oil and gas ventures in which the Company has
interests. (FLS)

         The Company generally has the principal responsibility for arranging
financing for the oil and gas properties and ventures in which it has an
interest. There can be no assurance, however, that the Company or any such
entity will be able to arrange the financing necessary to develop the projects
being undertaken or to support the corporate and other activities of the Company
or that any such financing offered will be on terms that are acceptable to the
Company or such entities or are deemed to be in the best interest of the Company
and its stockholders or the participants, including the Company, in such
entities. (FLS)

         Recovery of the carrying value of the Company's oil and gas properties
and investments in and advances to oil and gas ventures, amounting to
$12,459,000 as of September 30, 1997, and certain other assets including
restricted cash and property and equipment will require production of oil and
gas in sufficient quantities and marketing such oil and gas at sufficient prices
to provide positive cash flow to the Company and such ventures and depends upon,
among other factors, achieving significant increases in production from existing
levels, production of oil and gas at costs that provide acceptable margins,
reasonable levels of taxation from local authorities, and the ability to market
the oil and gas produced at or near world prices. (FLS) The Company either has
or is attempting to develop plans for each of its Eastern European ventures to
achieve levels of production and profits sufficient to recover its costs. (FLS)
However, if one or more of the above factors, or other factors, are different
than anticipated, these plans may not be realized, and the Company may not
recover its costs. (FLS) The Company will be entitled to distributions from the
various ventures in accordance with the arrangements governing the respective
ventures. (FLS)

         As each of the oil and gas ventures in which the Company has interests
approaches and pursues active operations, it is anticipated that the rate at
which the Company makes investments in and advances to or otherwise provides
financial support to such venture will increase. (FLS)

         The condensed consolidated financial statements of the Company do not
give effect to any impairment in the value of the Company's investment in,
including advances to, oil and gas properties and ventures or other adjustments
that would be necessary if financing cannot be arranged for the development of
such properties and ventures or if they are unable to achieve profitable
operations. (FLS) The Company's condensed consolidated financial statements have
been prepared under the assumption of a going concern. Failure to arrange such
financing on reasonable terms or failure of such properties and ventures to
achieve profitability would have a material adverse effect on the financial
position, including realization of assets, results of 

                                       14
<PAGE>
 
operations and cash flows of the Company and ultimately its ability to continue
as a going concern. (FLS)

         In February 1997, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards ("SFAS") No. 128, Earnings
Per Share and SFAS No. 129, Disclosure of Information about Capital Structure.
SFAS 128 specifies the computation of earnings per share, and SFAS 129 specifies
the presentation and disclosure requirements about an entity's capital
structure. Both SFAS 128 and SFAS 129 shall be adopted in the fourth quarter of
1997 with restatement back to January 1, 1997. The FASB has also issued SFAS No.
130, Reporting Comprehensive Income, and SFAS No. 131, Disclosures about
Segments of an Enterprise and Related Information, both of which are required to
be adopted by the Company in the fourth quarter of 1997. The initial adoption of
all of these standards is not expected to have a material effect on the
Company's financial statements. (FLS)

         Results of Operations
 
         Three month periods ended September 30, 1997 and August 31, 1996:

         The Company recorded an operating loss of $2,703,000 for the three
month period ended September 30, 1997, compared to an operating loss of
$2,034,000 for the three month period ended August 31, 1996. Loss from
investments in unconsolidated subsidiaries increased $1,614,000 from the 1996 to
the 1997 quarter, reflecting the Company's share of increased costs being
incurred by oil and gas ventures preparing for the operational activity and
actual operations as well as the Company's $712,000 share of an impairment loss
recognized during the third quarter of 1997 with respect to nonproductive wells
in the Lelyaki Field venture. The 1996 quarter had $619,000 more of direct
project costs and general and administrative expenses that were $229,000 greater
than the 1997 quarter. In the third quarter of 1996, a $151,000 impairment of
oil and gas properties was recognized.

         Direct project costs for the three month period ended September 30,
1997 amounted to $421,000, as compared with $1,040,000 for the three month
period ended August 31, 1996. Direct project costs represent costs incurred on
projects in the preliminary stages before agreements have been reached, as well
as costs incurred on active projects which the Company cannot charge to the
ventures developing the projects. While the magnitude of direct project costs
are expected to vary from period to period depending upon the volume of these
activities, the Company does not foresee any substantial increase in the level
of direct project costs in the immediate future. (FLS)

         General and administrative expenses for the three month period ended
September 30, 1997 amounted to $569,000 as compared to $799,000 for the three
month period ended August 31, 1996. The decrease is mainly attributable to the
fact that a larger portion of project related general and administrative costs
has been billed to the various ventures during the quarter ended September 30,
1997, as compared to the three month period ended August 31, 1996.  A portion of
these costs are reflected as loss from unconsolidated companies and partially
offset the expense reduction at the operating loss line.  In addition, the joint
venture partners' shares of such costs are reflected by the Company as
investments in and advances to oil and gas ventures.  The Company expects to
continue to allocate appropriate costs to the various oil and gas ventures.
(FLS) The Company is instituting a program to reduce the level of general and
administrative activity, which if successful should result over time in lower
allocations of project related general and administrative costs to the various
oil and gas ventures as well as lower general and administrative expense. (FLS)
The Company's ability to reduce general and administrative costs quickly is
constrained by termination notice provisions in employment agreements with most
employees. (FLS)


                                       15
<PAGE>
 
         The $1,647,000 loss from investments in unconsolidated subsidiaries
recognized during the three month period ended September 30, 1997 represents the
Company's proportionate share of the results of operations of unconsolidated
subsidiaries and entities.  The losses generated from these operations were
largely a result of general and administrative expenses incurred by such
entities in preparing for operations or actual operations and the Company's
share of an impairment loss recorded by Kashtan with respect to nonproductive
wells in the Lelyaki Field amounting to $712,000.  As these ventures are still
in the initial development stage, no material operating revenues have yet been
received.  Initial production has started at the Lelyaki Field, and revenues in
the amount of $115,000 were recorded by Kashtan during the quarter ended
September 30, 1997.  During the three month period ended August 31, 1996, the
only loss from unconsolidated subsidiaries was a $33,000 loss associated with a
Canadian operation; at that time, the Company was still in the process of
acquiring and organizing its interests in Eastern European oil and gas ventures,
so a proportionate share of operating results were not yet being passed through
those ventures to the Company. The Company is instituting a program to reduce
the rate at which the various oil and gas ventures proceed with project
development, which if successful should result in lower period losses from
investments in unconsolidated subsidiaries than would otherwise have been the
case but might also extend the period during which losses are experienced. (FLS)


         The Company recorded operating revenue of $63,000 during the three
month period ended September 30, 1997, as compared with operating revenue of
$13,000 for the three month period ended August 31, 1996. The revenue in both
quarters is attributable primarily to a modest amount of oil and gas production
in Canada.

         During the three month period ended September 30, 1997, the Company
reported interest income of $426,000, compared to interest income of $252,000
during the three month period ended August 31, 1996. The interest income for the
current period relates primarily to the relatively higher average cash balances
reflecting the Company's equity financing activities subsequent to August 31,
1996. For the three month period ended September 30, 1997, the Company reported
interest expense of $9,000 compared to $289,000 for the three month period ended
August 31, 1996. The interest expense for the prior year period related
primarily to the interest on and the amortization of financing costs and
discount related to the Company's 8% Convertible Subordinated Debentures.

         The decrease in net loss per common share from the 1996 to the 1997
quarter reflects primarily the issuance by the Company of a substantial number
of shares of its Common Stock upon exercise of stock purchase warrants
subsequent to August 1996.

         Nine month periods ended September 30, 1997 and August 31, 1996:

         The Company recorded an operating loss of $6,645,000 during the nine
month period ended September 30, 1997, compared with an operating loss of
$4,565,000 for the nine month period ended August 31, 1996. The increased loss
is attributable primarily to the $3,011,000 loss in the 1997 period from
investments in unconsolidated subsidiaries which compared to a $11,000 loss from
such investments in the 1996 period, partially offset by (a) a 1996 $420,000
impairment of oil and gas properties, and (b) a $428,000 reduction in direct
project costs from the 1996 to the 1997 period.

         Direct project costs for the nine month period ended September 30,
1997 amounted to $815,000, as compared with $1,243,000 for the nine month period
ended August 31, 1996.  Direct project costs represent costs incurred on
projects in the preliminary stages before agreements have been reached, as well
as costs incurred on active projects which the Company cannot charge to the
ventures developing the projects.  While the magnitude of direct project costs
is expected to vary from period to period depending upon the volume of these

                                       16
<PAGE>
 
activities, the Company does not foresee any substantial increase in the level
of direct project costs in the immediate future. (FLS)

     General and administrative expenses for the nine month period ended
September 30, 1997 amounted to $2,717,000 as compared to $2,853,000 for the nine
month period ended August 31, 1996.  The slight decrease is mainly attributable
to the fact that a larger portion of project related general and administrative
costs has been billed to the various ventures during the nine months ended
September 30, 1997, as compared to the nine month period ended August 31, 1996.
A portion of these costs are reflected as loss from unconsolidated companies and
partially offset the expense reduction at the operating loss line.  In addition,
the joint venture partners' shares of such costs are reflected by the Company as
investments in and advances to oil and gas ventures.  The Company expects to
continue to allocate appropriate costs to the various oil and gas ventures.
(FLS) The Company is instituting a program to reduce the level of general and
administrative activity, which if successful should result over time in lower
allocations of project related general and administrative costs to the various
oil and gas ventures as well as lower general and administrative expense. (FLS)
The Company's ability to reduce general and administrative costs quickly is
constrained by termination notice provisions in employment agreements with most
employees. (FLS)

     The $3,011,000 loss from investments in unconsolidated subsidiaries
recognized during the nine month period ended September 30, 1997 represents the
Company's proportionate share of the results of operations of unconsolidated
subsidiaries and entities.  The losses generated from these operations were
largely a result of general and administrative expenses incurred by such
entities in preparing for operations or actual operations and the Company's
share of an impairment loss recorded by Kashtan with respect to nonproductive
wells in the Lelyaki Field amounting to $712,000.  Initial production has
started at the Lelyaki Field, and revenues in the amount of $115,000 were
recorded by Kashtan during the nine months ended September 30, 1997.  During the
nine month period ended August 31, 1996, the only loss from unconsolidated
subsidiaries was a $11,000 loss associated with a Canadian operation; at that
time, the Company was still in the process of acquiring and organizing its
interests in the Eastern European oil and gas ventures, so a proportionate share
of operating results were not yet being passed through those ventures to the
Company. The Company is instituting a program to reduce the rate at which the
various oil and gas ventures proceed with project development, which if
successful should result in lower period losses from investments in
unconsolidated subsidiaries than would otherwise have been the case but might
also extend the period during which losses are experienced. (FLS)

         The Company recorded operating revenue of $173,000 during the nine
month period ended September 30, 1997, as compared with operating revenue of
$27,000 for the nine month period ended August 31, 1996. The revenue in both
periods is attributable primarily to a modest amount of oil and gas production
in Canada.

         During the nine month period ended August 30, 1997, the Company
reported interest income of $1,143,000, compared to interest income of $284,000
during the nine month period ended August 31, 1996. The interest income for the
current period relates primarily to the relatively higher average cash balances
reflecting the Company's equity financing activities subsequent to August 31,
1996. For the nine months ended September 30, 1997, the Company reported
interest expense of $26,000 compared to $1,016,000 for the nine month period
ended August 31, 1996. The interest expense for the prior year period related
primarily to the interest on and the amortization of financing costs and
discount related to the Company's 8% Convertible Subordinated Debentures.

         The significant decrease in net loss per common share from the 1996 to
the 1997 nine month period reflects primarily the issuance by the Company of a
substantial number of shares of its Common Stock in a June 1996 equity offering
and in subsequent exercises of stock purchase warrants during 1996.

                                       17
<PAGE>
 
         Other Matters 
     
         The Company may be exposed to the risk of foreign currency exchange
losses in connection with its foreign operations. (FLS) Such losses would be the
result of holding net monetary assets (cash and receivables in excess of
payables) denominated in foreign currencies during periods of a strengthening
U.S. dollar. The Company does not speculate in foreign currencies or presently
maintain significant foreign currency cash balances. (FLS) The Company expects
that operations conducted through certain oil and gas ventures in which the
Company has interests, including unconsolidated entities, will be based
principally on the local currencies in the countries in which operations are
conducted, including Albania, the Russian Federation and Ukraine. The Company
may receive dividends or distribution in such currencies, and there is no
assurance that the Company will be able to convert such currencies into U.S.
dollars or that exchange losses related to these operations will not occur.
(FLS)

         Forward Looking Discussion

         The forward looking discussion contained in this Item 2 are subject to
various risks, uncertainties and other factors that could cause actual results
to differ materially from the results anticipated in such forward looking
discussion. Included among the important risks, uncertainties and other factors
are those hereinafter discussed.

         Few of such forward looking discussion deal with matters that are
within the unilateral control of the Company. Joint venture, acquisition,
financing and other agreements and arrangements must be negotiated with
independent third parties and, in some cases, must be approved by governmental
agencies. Such third parties generally have interests that do not coincide with
those of the Company and may conflict with the Company's interests. Unless the
Company and such third parties are able to compromise their respective
objectives in a mutually acceptable manner, agreements and arrangements will not
be consummated. Operating entities in various foreign jurisdictions must be
registered by governmental agencies, and production licenses for development of
oil and gas fields in various foreign jurisdictions must be granted by
governmental agencies. These governmental agencies generally have broad
discretion in determining whether to take or approve various actions and
matters. In addition, the policies and practices of governmental agencies may be
affected or altered by political, economic and other events occurring either
within their own countries or in a broader international context. The Company
does not have a majority of the equity in the entity that is the licensed
developer of any of the projects that the Company is presently pursuing in
Eastern Europe, even though the Company may be the designated operator of the
oil or gas field. Thus, the concurrence of co-venturers may be required for
various actions. Other parties influencing the timing of events may have
priorities that differ from those of the Company, even if they generally share
the Company's objectives. As a result of all of the foregoing, among other
matters, the forward looking discussion regarding the occurrence and timing of
future events may well anticipate results that will not be realized.

         The availability of equity financing to the Company or debt financing
to the Company and the joint venture or other entities that are developing the
projects is affected by, among other things, world economic conditions,
international relations, the stability and policies of various governments,
fluctuations in the price of oil and gas and the outlook for the oil and gas
industry, the competition for funds and an evaluation of the Company and
specific Company projects. Rising interest rates might affect the feasibility of
debt financing that is offered. Potential investors and lenders will be
influenced by their evaluations of the Company and its 

                                       18
<PAGE>
 
projects and comparisons with alternative investment opportunities. The
Company's ability to finance all of its present oil and gas projects according
to present plans is dependent upon obtaining additional funding.

         The development of oil and gas properties is subject to substantial
risks. Expectations regarding production, even if estimated by independent
petroleum engineers, may prove to be unrealized. There are many uncertainties
inherent in estimating production quantities and in projecting future production
rates and the timing and amount of future development expenditures. Estimates of
properties in full production are more reliable than production estimates for
new discoveries and other properties that are not fully productive. Accordingly,
estimates related to the Company's properties are subject to change as
additional information becomes available. Most of the Company's interests in oil
and gas ventures are located in Eastern European countries. Operations in those
countries are subject to certain additional risks relating to, among other
things, enforceability of contracts, currency convertibility and
transferability, unexpected changes in tax rates, availability of trained
personnel, availability of equipment and services and other factors that could
significantly change the economics of production. Production estimates are
subject to revision as prices and costs change. Production, even if present, may
not be recoverable in the amount and at the rate anticipated and may not be
recoverable in commercial quantities or on an economically feasible basis. World
and local prices for oil and gas can fluctuate significantly, and a reduction in
the revenue realizable from the sale of production can affect the economic
feasibility of an oil and gas project. World and local political, economic and
other conditions could affect the Company's ability to proceed with or to
effectively operate projects in various foreign countries.

         Demands by or expectations of governments, co-venturers, customers and
others may affect the Company's strategy regarding the various projects. Failure
to meet such demands or expectations could adversely affect the Company's
participation in such projects or its ability to obtain or maintain necessary
licenses and other approvals, which could adversely affect the Company's
financial condition, results of operations and cash flows.

ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

         Not yet effective.

                                       19
<PAGE>
 
                          PART II - OTHER INFORMATION
                  FOUNTAIN OIL INCORPORATED AND SUBSIDIARIES



ITEM 3.   LEGAL PROCEEDINGS

          The Company is not a party to, nor is any of its property subject to,
any material legal proceedings.

ITEM 6.   EXHIBITS AND REPORTS ON FORM 8-K

          (a) Exhibits
 
              Management Contracts, Compensation Plans and Arrangements
              are identified by an asterisk (*)

              2(1)     Agreement Relating to the Sale and Purchase of All the
                       Issued Share Capital of Gastron International Limited
                       dated August 10, 1995 by and among Ribalta Holdings, Inc.
                       as Vendor and Fountain Oil Incorporated as Purchaser, and
                       John Richard Tate as Warrantor (Incorporated herein by
                       reference from October 19, 1995 Form 8-K).

              2(2)     Supplemental Agreement Relating to the Sale and Purchase
                       of All the Issued Share Capital of Gastron International
                       Limited dated November 3, 1995 by and among Ribalta
                       Holdings, Inc. as Vendor and Fountain Oil Incorporated as
                       Purchaser, and John Richard Tate as Warrantor
                       (Incorporated herein by reference from October 19, 1995
                       Form 8-K).

              2(3)     Supplemental Deed Relating to the Sale and Purchase of
                       All the Issued Share Capital of Gastron International
                       Limited dated May 29, 1996 by and among Ribalta Holdings,
                       Inc. as Vendor and Fountain Oil Incorporated as
                       Purchaser, and John Richard Tate as Warrantor.

              3(1)     Registrant's Certificate of Incorporation and amendments
                       thereto (Incorporated herein by reference from December
                       16, 1994 Form 8-K ).

              3(2)     Registrant's Bylaws (Incorporated herein by reference
                       from December 31, 1996, Form 10-K).

              4        Form of 8% Convertible Subordinated Debenture
                       (Incorporated herein by reference from February 29, 1996
                       Form 10-QSB).

                                       20
<PAGE>
 
              10(1)    License Agreement among IIT Research Institute, ORS
                       Corporation and Uentech Corporation dated October 27,
                       1986 (Incorporated herein by reference from October 31,
                       1986 Form 10-K, filed by Electromagnetic Oil Recovery,
                       Inc., the Company's predecessor).

              10(2)    Amendment to Revised Single Well Technology License
                       Agreement Dated October 27, 1986 (Incorporated herein by
                       reference from August 31, 1995 Form 10-KSB).

              *10(3)   Securities Compensation Plan (Incorporated herein by
                       reference from August 31, 1994 Form 10-KSB, filed by
                       Electromagnetic Oil Recovery, Inc., the Company's
                       predecessor).

              *10(4)   Form of Certificate for Common Stock Purchase Warrants
                       issued pursuant to the Securities Compensation Plan
                       (Incorporated herein by reference from Form S-8
                       Registration Statement, File No. 33-82944 filed on August
                       17, 1994, filed by Electromagnetic Oil Recovery, Inc.,
                       the Company's predecessor).

              *10(5)   Form of Option Agreement for options granted to certain
                       persons, including Directors (Incorporated herein by
                       reference from August 31, 1994 Form 10-KSB, filed by
                       Electromagnetic Oil Recovery, Inc., the Company's
                       predecessor).

              *10(6)   Form of Certificate for Common Stock Purchase Warrants
                       issued to certain investors in August 1994, including
                       Directors (Incorporated herein by reference from August
                       31, 1994 Form 10-KSB, filed by Electromagnetic Oil
                       Recovery, Inc., the Company's predecessor).

              *10(7)   Management Services Agreement between Fountain Oil
                       Incorporated and Oistein Nyberg. 

              *10(8)   Employment Agreement between Fountain Oil Incorporated
                       and Nils N. Trulsvik (Incorporated herein by reference
                       from August 31, 1995 Form 10-KSB).

              *10(9)   Employment Agreement between Fountain Oil Incorporated
                       and Einar H. Bandlien (Incorporated herein by reference
                       from August 31, 1995 Form 10-KSB).

              *10(10)  Employment Agreement between Fountain Oil Incorporated
                       and Arnfin Haavik (Incorporated herein by reference from
                       August 31, 1995 Form 10-KSB).
 

                                       21
<PAGE>
 
              *10(11)  Employment Agreement between Fountain Oil Incorporated
                       and Svein E. Johansen (Incorporated herein by reference
                       from August 31, 1995 Form 10-KSB).

              *10(12)  Employment Agreement between Fountain Oil Incorporated
                       and Arild Boe (Incorporated herein by reference from
                       August 31, 1995 Form 10-KSB).

              *10(15)  Employment Agreement between Fountain Oil Incorporated
                       and Ravinder S. Sierra (Incorporated herein by reference
                       from August 31, 1995 Form 10-KSB).

              *10(16)  Employment Agreement between Fountain Oil Incorporated
                       and Susan E. Palmer (Incorporated herein by reference
                       from August 31, 1995 Form 10-KSB).

              *10(17)  Amended 1995 Long-Term Incentive Plan.

              *10(19)  Fee Agreement dated November 15, 1995 between Fountain
                       Oil Incorporated and Robert A. Halpin (Incorporated
                       herein by reference from August 31, 1996 Form 10-KSB).

              *10(20)  Fee Agreement between Fountain Oil Incorporated and
                       Eugene J. Meyers (Incorporated herein by reference from
                       August 31, 1996 Form 10-KSB).

              *10(21)  Amendment dated December 10, 1996 to Fee Agreement
                       between Fountain Oil Incorporated and Robert A. Halpin
                       (Incorporated herein by reference from December 31, 1996
                       Form 10-K).

              *10(22)  Employment Agreement between Fountain Oil Incorporated
                       and Whitfield Fitzpatrick.

              *10(23)  Management Services Agreement between Fountain Oil
                       Services Incorporated and Orest Senkiw.

              *10(24)  Employment Agreement between Fountain Oil Incorporated
                       and Alfred Kjemperud.

              27       Financial Data Schedule (EDGAR filing only)

          (b) Reports on Form 8-K

              None.

                                       22
<PAGE>
 
                                  SIGNATURES

In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.


                                          FOUNTAIN OIL INCORPORATED



Date: November 12, 1997              By:  /s/ ARNFIN HAAVIK
                                          ----------------------------
                                          Arnfin Haavik
                                          Executive Vice President and
                                          Chief Financial Officer

                                       23
<PAGE>
 
                                 EXHIBIT INDEX


                                                                      FILED WITH
EXHIBIT                                                                  THIS
NUMBER                                 EXHIBIT                          REPORT
------                                 -------                        ----------
2(1)          Agreement Relating to the Sale and Purchase of All the 
              Issued Share Capital of Gastron International Limited 
              dated August 10, 1995 by and among Ribalta Holdings, Inc.
              as Vendor and Fountain Oil Incorporated as Purchaser, 
              and John Richard Tate as Warrantor (Incorporated herein by
              reference from October 19, 1995 Form 8-K).

 
2(2)          Supplemental Agreement Relating to the Sale and Purchase of
              All the Issued Share Capital of Gastron International Limited
              dated November 3, 1995 by and among Ribalta Holdings, Inc. 
              as Vendor and Fountain Oil Incorporated as Purchaser, and 
              John Richard Tate as Warrantor (Incorporated herein by 
              reference from October 19, 1995 Form 8-K).

2(3)          Supplemental Deed Relating to the Sale and Purchase of All
              the Issued Share Capital of Gastron International Limited 
              dated May 29, 1996 by and among Ribalta Holdings, Inc. as 
              Vendor and Fountain Oil Incorporated as Purchaser, and 
              John Richard Tate as Warrantor.

3(1)          Registrant's Certificate of Incorporation and amendments 
              thereto (Incorporated herein by reference from 
              December 16, 1994 Form 8-K).

3(2)          Registrant's Bylaws (Incorporated herein by reference from 
              December 31, 1996, Form 10-K).

4             Form of 8% Convertible Subordinated Debenture 
              (Incorporated herein by reference from February 29, 1996 
              Form 10-QSB).

10(1)         License Agreement among IIT Research Institute, ORS 
              Corporation and Uentech Corporation dated October 27, 1986 
              (Incorporated herein by reference from October 31, 1986 
              Form 10-K, filed by Electromagnetic Oil Recovery, Inc., the 
              Company's predecessor).

10(2)         Amendment to Revised Single Well Technology License 
              Agreement Dated October 27, 1986 (Incorporated herein by 
              reference from August 31, 1995 Form 10-KSB).
<PAGE>
 
10(3)         Securities Compensation Plan (Incorporated herein by 
              reference from August 31, 1994 Form 10-KSB, filed by 
              Electromagnetic Oil Recovery, Inc., the Company's 
              predecessor).

10(4)         Form of Certificate for Common Stock Purchase Warrants 
              issued pursuant to the Securities Compensation Plan 
              (Incorporated herein by reference from Form S-8 Registration 
              Statement, File No. 33-82944 filed on August 17, 1994, 
              filed by Electromagnetic Oil Recovery, Inc., the Company's
              predecessor).

10(5)         Form of Option Agreement for options granted to certain
              persons, including Directors (Incorporated herein by 
              reference from August 31, 1994 Form 10-KSB, filed by 
              Electromagnetic Oil Recovery, Inc., the Company's 
              predecessor).

10(6)         Form of Certificate for Common Stock Purchase Warrants 
              issued to certain investors in August 1994, including 
              Directors (Incorporated herein by reference from 
              August 31, 1994 Form 10-KSB, filed by Electromagnetic Oil
              Recovery, Inc., the Company's predecessor).

10(7)         Management Services Agreement between Fountain Oil 
              Incorporated and Oistein Nyberg.

10(8)         Employment Agreement between Fountain Oil Incorporated 
              and Nils N. Trulsvik (Incorporated herein by reference 
              from August 31, 1995 Form 10-KSB).

10(9)         Employment Agreement between Fountain Oil Incorporated 
              and Einar H. Bandlien (Incorporated herein by reference 
              from August 31, 1995 Form 10-KSB).

10(10)        Employment Agreement between Fountain Oil Incorporated 
              and Arnfin Haavik (Incorporated herein by reference from 
              August 31, 1995 Form 10-KSB).

10(11)        Employment Agreement between Fountain Oil Incorporated 
              and Svein E. Johansen (Incorporated herein by reference 
              from August 31, 1995 Form 10-KSB).

10(12)        Employment Agreement between Fountain Oil Incorporated 
              and Arild Boe (Incorporated herein by reference from 
              August 31, 1995 Form 10-KSB).
<PAGE>
 
10(15)        Employment Agreement between Fountain Oil Incorporated 
              and Ravinder S. Sierra (Incorporated herein by reference 
              from August 31, 1995 Form 10-KSB).

10(16)        Employment Agreement between Fountain Oil Incorporated 
              and Susan E. Palmer (Incorporated herein by reference 
              from August 31, 1995 Form 10-KSB).

10(17)        Amended 1995 Long-Term Incentive Plan.

10(19)        Fee Agreement dated November 15, 1995 between Fountain 
              Oil Incorporated and Robert A. Halpin (Incorporated 
              herein by reference from August 31, 1996 Form 10-KSB).

10(20)        Fee Agreement between Fountain Oil Incorporated and 
              Eugene J. Meyers (Incorporated herein by reference from 
              August 31, 1996 Form 10-KSB).

10(21)        Amendment dated December 10, 1996 to Fee Agreement between 
              Fountain Oil Incorporated and Robert A. Halpin 
              (Incorporated herein by reference from December 31, 1996 
              Form 10-K).

10(22)        Employment Agreement between Fountain Oil Incorporated 
              and Whitfield Fitzpatrick (Incorporated herein by 
              reference from March 31, 1997 Form 10-Q).

10(23)        Management Services Agreement between Fountain Oil 
              Services Incorporated and Orest Senkiw (Incorporated 
              herein by reference from March 31, 1997 Form 10-Q).

10(24)        Employment Agreement between Fountain Oil Incorporated 
              and Alfred Kjemperud (Incorporated herein by reference 
              from March 31, 1997 Form 10-Q).

27            Financial Data Schedule                                          X