KARBON,
CJSC









Financial
Statements


for the
years ended December 31, 2008, 2007 and 2006













































1















KARBON,
CJSC














Contents
              
              
              
              PageReport
      of Independent Registered Public Accounting Firm
              
              
              
              3Balance
      sheets
              
              
              
              4Statements
      of operations
              
              
              
              5Statements
      of stockholders’ equity and comprehensive income
              
              
              
              6Statements
      of cash flows
              
              
              
              7Notes
      to the financial statements
              
              
              
              8-20














2


















Report of Independent
Registered Public Accounting Firm







To
the Board of Directors and stockholders of


KARBON,
CJSC


Orenburg,
Russia

















We have
audited the accompanying balance sheets of KARBON, CJSC as of December 31,
2008, 2007 and 2006  and the related statements of operations,
stockholders` equity and comprehensive incomes and cash flows for the years then
ended.  These financial statements are the responsibility of the
Company’s management.  Our responsibility is to express an opinion on
these financial statements based on our audits.




We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States).  Those standards require
that we plan and perform the audit to obtain reasonable assurance about whether
the financial statements are free of material misstatement.  An audit
includes consideration of internal control over financial reporting as a basis
for designing audit procedures that are appropriate in the circumstances, but
not for the purpose of expressing an opinion on the effectiveness of the
Company's internal control over financial reporting.  Accordingly, we
express no such opinion.  An audit also includes examining, on a test
basis, evidence supporting the amounts and disclosures in the financial
statements, 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 financial statements referred to above present fairly, in all
material respects, the financial position of KARBON, CJSC as of December
31, 2008, 2007 and 2006 , and the results of its operations and its cash flows
for the year then ended in conformity with accounting principles generally
accepted in the United States of America.




The
accompanying financial statements have been prepared assuming that the Company
will continue as a going concern. As discussed in Note 2 to the financial
statements, the Company has suffered recurring losses from operations and has a
significant working capital deficit that raise doubt about its ability to
continue as a going concern. The financial statements do not include any
adjustments that might result from the outcome of this uncertainty.









Audit
Firm “Femida-Audit”, LLC





Moscow,
Russia


February
23, 2009














3








KARBON,
CJSC


Balance sheetsUS
      Dollars
                  
                  Note
                  
                  
                  As
      of December 31, 2008
                  
                  
                  As
      of December 31, 2007
                  
                  
                  As
      of December 31, 2006ASSETSCURRENT
      ASSETS:Cash
      and cash equivalents
                  
                  
                  
                  
                  $
                  52
                  
                  
                  $
                  162
                  
                  
                  $
                  12,317Accounts
      and notes receivable, net
                  
                  
                  
                  
                  
                  85,369
                  
                  
                  
                  291,482
                  
                  
                  
                  98,458Inventories
                  
                  
                  4
                  
                  
                  
                  121,171
                  
                  
                  
                  151,443
                  
                  
                  
                  148,465Prepaid
      taxes and expenses
                  
                  
                  5
                  
                  
                  
                  451,765
                  
                  
                  
                  640,225
                  
                  
                  
                  850,448Prepaid
      and other assets
                  
                  
                  6
                  
                  
                  
                  13,323
                  
                  
                  
                  14,830
                  
                  
                  
                  282,898TOTAL
      CURRENT ASSETS
                  
                  
                  
                  
                  
                  
                  671,680
                  
                  
                  
                  1,098,142
                  
                  
                  
                  1,392,586PROPERTY,
      PLANT AND EQUIPMENTProven
      Oil and Gas properties (successful efforts), at cost
                  
                  
                  
                  
                  
                  
                  8,266,831
                  
                  
                  
                  10,108,778
                  
                  
                  
                  9,197,027Less
      - accumulated depletion, depreciation and amortization
                  
                  
                  
                  
                  
                  
                  (3,594,193
                  )
                  
                  
                  (4,037,837
                  )
                  
                  
                  (3,435,916
                  )Other
      property, plant and equipment
                  
                  
                  
                  
                  
                  
                  102,396
                  
                  
                  
                  124,885
                  
                  
                  
                  116,420Less
      - accumulated depreciation
                  
                  
                  
                  
                  
                  
                  (82,169
                  )
                  
                  
                  (90,091
                  )
                  
                  
                  (70,168
                  )NET
      PROPERTY, PLANT AND EQUIPMENT
                  
                  
                  
                  
                  
                  
                  4,692,866
                  
                  
                  
                  6,105,736
                  
                  
                  
                  5,807,363Deferred
      income tax assets
                  
                  
                  9
                  
                  
                  
                  78,683
                  
                  
                  
                  -
                  
                  
                  
                  -TOTAL
      ASSETS
                  
                  
                  
                  
                  
                  $
                  5,443,230
                  
                  
                  $
                  7,203,877
                  
                  
                  $
                  7,199,949LIABILITIES
      AND STOCKHOLDERS’
      EQUITYCURRENT
      LIABILITIES:Accounts
      payable
                  
                  
                  7
                  
                  
                  $
                  315,624
                  
                  
                  $
                  711,982
                  
                  
                  $
                  828,978Short-term
      borrowings
                  
                  
                  8
                  
                  
                  
                  310,194
                  
                  
                  
                  3,196,468
                  
                  
                  
                  2,861,800Production
      Taxes payable
                  
                  
                  
                  
                  
                  
                  148,602
                  
                  
                  
                  154,767
                  
                  
                  
                  61,052TOTAL
      CURRENT LIABILITIES
                  
                  
                  
                  
                  
                  
                  774,420
                  
                  
                  
                  4,063,216
                  
                  
                  
                  3,751,830LONG-TERM
      LIABILITIES:Deferred
      income tax liabilities
                  
                  
                  9
                  
                  
                  
                  -
                  
                  
                  
                  48,185
                  
                  
                  
                  1,089,578Provision
      for litigations
                  
                  
                  10
                  
                  
                  
                  96,319
                  
                  
                  
                  -
                  
                  
                  
                  -Asset
      retirement obligations
                  
                  
                  11
                  
                  
                  
                  566,279
                  
                  
                  
                  616,185
                  
                  
                  
                  522,196TOTAL
      LONG-TERM LIABILITIES
                  
                  
                  
                  
                  
                  
                  662,597
                  
                  
                  
                  664,370
                  
                  
                  
                  1,611,775STOCKHOLDERS’
EQUITY:Share
      capital
                  
                  
                  12
                  
                  
                  
                  2,251,569
                  
                  
                  
                  2,251,569
                  
                  
                  
                  2,251,569Additional
      paid-in capital
                  
                  
                  
                  
                  
                  
                  8,040,668
                  
                  
                  
                  5,175,344
                  
                  
                  
                  5,175,344Accumulated
      Deficit
                  
                  
                  
                  
                  
                  
                  (6,102,629
                  )
                  
                  
                  (5,005,553
                  )
                  
                  
                  (5,483,548
                  )Accumulated
      other comprehensive income
                  
                  
                  
                  
                  
                  
                  (183,395
                  )
                  
                  
                  54,932
                  
                  
                  
                  (107,020
                  )TOTAL
      STOCKHOLDERS’
      EQUITY
                  
                  
                  
                  
                  
                  
                  4,006,213
                  
                  
                  
                  2,476,292
                  
                  
                  
                  1,836,344TOTAL
      LIABILITIES AND STOCKHOLDERS’ EQUITY
                  
                  
                  
                  
                  
                  $
                  5,443,230
                  
                  
                  $
                  7,203,877
                  
                  
                  $
                  7,199,949





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








4






KARBON,
CJSC


Statements of operationsUS
      Dollars
                  
                  Note
                  
                  
                  For
      year ended December 31, 2008
                  
                  
                  For
      year ended December 31, 2007
                  
                  
                  For
      year ended December 31, 2006Operating
      revenues:Oil
      and gas production revenue
                  
                  
                  
                  
                  $
                  807,730
                  
                  
                  $
                  779,174
                  
                  
                  $
                  809,268Other
      revenue
                  
                  
                  
                  
                  
                  481
                  
                  
                  
                  -
                  
                  
                  
                  -Total
      operating revenue
                  
                  
                  
                  
                  
                  808,211
                  
                  
                  
                  779,174
                  
                  
                  
                  809,268Operating
      Expenses:Oil
      and gas production expense
                  
                  
                  
                  
                  
                  (265,008
                  )
                  
                  
                  (451,355
                  )
                  
                  
                  (320,629
                  )Mineral
      extraction tax
                  
                  
                  
                  
                  
                  (434,658
                  )
                  
                  
                  (258,769
                  )
                  
                  
                  (354,866
                  )Depreciation,
      depletion and amortization
                  
                  
                  
                  
                  
                  (376,614
                  )
                  
                  
                  (348,940
                  )
                  
                  
                  (321,498
                  )Taxes
      other than income taxes
                  
                  
                  
                  
                  
                  (87,708
                  )
                  
                  
                  (28,807
                  )
                  
                  
                  (41,534
                  )Loss
      on sales proven properties
                  
                  
                  
                  
                  
                  (111,979
                  )
                  
                  
                  -
                  
                  
                  
                  (5,876
                  )Marketing
      and transportation expenses
                  
                  
                  13
                  
                  
                  
                  (318,845
                  )
                  
                  
                  (204,797
                  )
                  
                  
                  (283,131
                  )General
      and administrative expenses
                  
                  
                  14
                  
                  
                  
                  (321,190
                  )
                  
                  
                  (43,975
                  )
                  
                  
                  (144,610
                  )Total
      operating expenses
                  
                  
                  
                  
                  
                  
                  (1,916,002
                  )
                  
                  
                  (1,336,644
                  )
                  
                  
                  (1,472,144
                  )Loss
      from operations
                  
                  
                  
                  
                  
                  
                  (1,107,791
                  )
                  
                  
                  (557,470
                  )
                  
                  
                  (662,876
                  )Other
      Income (Expenses):Currency
      translation gain/(loss)
                  
                  
                  
                  
                  
                  
                  (66,661
                  )
                  
                  
                  23,764
                  
                  
                  
                  47,432Interest
      expense
                  
                  
                  
                  
                  
                  
                  (61,058
                  )
                  
                  
                  (53,272
                  )
                  
                  
                  (45,986
                  )Loss
      before Income Taxes
                  
                  
                  
                  
                  
                  
                  (1,235,511
                  )
                  
                  
                  (586,977
                  )
                  
                  
                  (661,431
                  )Benefit
      for Income Taxes
                  
                  
                  9
                  
                  
                  
                  138,434
                  
                  
                  
                  1,064,973
                  
                  
                  
                  115,010NET
      INCOME/(LOSS)
                  
                  
                  
                  
                  
                  $
                  (1,097,077
                  )
                  
                  $
                  477,995
                  
                  
                  $
                  (546,421
                  )Per
      share of common stock (US dollars):Basic
                  
                  
                  
                  
                  
                  
                  (1.83
                  )
                  
                  
                  0.80
                  
                  
                  
                  (0.91
                  )Diluted
                  
                  
                  
                  
                  
                  
                  (1.83
                  )
                  
                  
                  0.80
                  
                  
                  
                  (0.91
                  )








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








5












KARBON,
CJSC


Statements
      of changes in stockholders’ equity and comprehensive
incomeUS
      Dollars
                      
                      Comprehensive
      income/(loss)
                      
                      
                      Share
      capital
                      
                      
                      Additional
      paid-in capital
                      
                      
                      Accumulated
      Deficit
                      
                      
                      Accumulated
      other comprehensive income
                      
                      
                      Total
      Stockholders’ equityShare
                      
                      
                      AmountBalance
      as of December 31, 2005
                      
                      
                      
                      
                      
                      601,000
                      
                      
                      $
                      3,435
                      
                      
                      $
                      5,175,344
                      
                      
                      $
                      (4,937,127
                      )
                      
                      $
                      -
                      
                      
                      $
                      241,651Capital
      contributions
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      2,248,134
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      2,248,134Net
      loss
                      
                      
                      (546,421
                      )
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      (546,421
                      )
                      
                      
                      
                      
                      
                      
                      (546,421
                      )Foreign
      currency translation adjustment
                      
                      
                      (107,020
                      )
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      (107,020
                      )
                      
                      
                      (107,020
                      )Total
      comprehensive loss
                      
                      
                      (653,441
                      )Balance
      as of December 31, 2006
                      
                      
                      
                      
                      
                      
                      601,000
                      
                      
                      
                      2,251,569
                      
                      
                      
                      5,175,344
                      
                      
                      
                      (5,483,548
                      )
                      
                      
                      (107,020
                      )
                      
                      
                      1,836,344Net
      income
                      
                      
                      477,995
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      477,995
                      
                      
                      
                      
                      
                      
                      
                      477,995Foreign
      currency translation adjustment
                      
                      
                      161,952
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      161,952
                      
                      
                      
                      161,952Total
      comprehensive income
                      
                      
                      639,947Balance
      as of December 31, 2007
                      
                      
                      
                      
                      
                      
                      601,000
                      
                      
                      
                      2,251,569
                      
                      
                      
                      5,175,344
                      
                      
                      
                      (5,005,553
                      )
                      
                      
                      54,932
                      
                      
                      
                      2,476,292Additional
      paid-in contribution
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      2,865,325
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      2,865,325Net
      loss
                      
                      
                      (1,097,077
                      )
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      (1,097,077
                      )
                      
                      
                      
                      
                      
                      
                      (1,097,077
                      )Foreign
      currency translation adjustment
                      
                      
                      (238,327
                      )
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      (238,327
                      )
                      
                      
                      (238,327
                      )Total
      comprehensive loss
                      
                      
                      (1,335,404
                      )Balance
      as of December 31, 2008
                      
                      
                      
                      
                      
                      
                      601,000
                      
                      
                      $
                      2,251,569
                      
                      
                      $
                      8,040,668
                      
                      
                      $
                      (6,102,629
                      )
                      
                      $
                      (183,395
                      )
                      
                      $
                      4,006,213









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












6
















KARBON,
CJSC


Cash
      flow statementsUS
      Dollars
                    Note
                    
                    For
      year ended December 31, 2008
                    
                    
                    For
      year ended December 31, 2007
                    
                    
                    For
      year ended December 31, 2006Cash
      flows from operating activitiesNet
      income/(loss)
                    
                    
                    $
                    (1,097,077
                    )
                    
                    $
                    477,995
                    
                    
                    $
                    (546,421
                    )Adjustments
      to reconcile net income (loss) to cash provided by (used in) operating
      activities:Depreciation,
      depletion and amortization
                    
                    
                    
                    376,614
                    
                    
                    
                    345,272
                    
                    
                    
                    321,498Interest
      expense
                    
                    
                    
                    61,058
                    
                    
                    
                    53,272
                    
                    
                    
                    45,986Loss
      on disposals and impairments of assets
                    
                    
                    
                    111,979
                    
                    
                    
                    -
                    
                    
                    
                    5,876Deferred
      income taxes
                    
                    
                    
                    (211,283
                    )
                    
                    
                    (1,060,434
                    )
                    
                    
                    (115,052
                    )Provision
      for litigations
                    
                    
                    
                    96,709
                    
                    
                    
                    -
                    
                    
                    
                    -Changes
      in operating assets and liabilities:Accounts
      and notes receivable
                    
                    
                    
                    206,113
                    
                    
                    
                    (193,024
                    )
                    
                    
                    (33,092
                    )Inventories
                    
                    
                    
                    30,271
                    
                    
                    
                    (2,978
                    )
                    
                    
                    2,066Prepaid
      expenses and taxes
                    
                    
                    
                    188,460
                    
                    
                    
                    210,224
                    
                    
                    
                    (246,327
                    )Prepaid
      and others assets
                    
                    
                    
                    1,507
                    
                    
                    
                    268,068
                    
                    
                    
                    106,994Accounts
      payable and accrued expenses
                    
                    
                    
                    (396,357
                    )
                    
                    
                    (116,996
                    )
                    
                    
                    (185,972
                    )Taxes
      payable
                    
                    
                    
                    (6,165
                    )
                    
                    
                    93,715
                    
                    
                    
                    8,167Net
      Cash Flows used in operating activities
                    
                    
                    
                    (638,171
                    )
                    
                    
                    75,113
                    
                    
                    
                    (636,277
                    )Cash
      flows from investing activitiesProceeds
      from Sales and disposal of Property, Plant and Equipment
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    8,205Payments
      to Acquire Oil and Gas properties
                    
                    
                    
                    -
                    
                    
                    
                    (230,366
                    )
                    
                    
                    (2,340,276
                    )Payments
      to Acquire Property, Plant and Equipment
                    
                    
                    
                    (2,123
                    )
                    
                    
                    -
                    
                    
                    
                    (32,374
                    )Net
      cash used in investing activities
                    
                    
                    
                    (2,123
                    )
                    
                    
                    (230,366
                    )
                    
                    
                    (2,364,445
                    )Cash
      flows from financing activitiesCash
      proceeds from issuing shares and additional capital
                    
                    
                    
                    2,865,325
                    
                    
                    
                    -
                    
                    
                    
                    2,248,134Short-term
      Borrowings
                    
                    
                    
                    (2,886,274
                    )
                    
                    
                    334,668
                    
                    
                    
                    964,643Net
      cash provided by financing activities
                    
                    
                    
                    (20,949
                    )
                    
                    
                    334,668
                    
                    
                    
                    3,212,777Effect
      of exchange rate changes on cash and cash equivalents
                    
                    
                    
                    661,132
                    
                    
                    
                    (191,569
                    )
                    
                    
                    (216,989
                    )Net
      increase (decrease) in cash and cash equivalents
                    
                    
                    
                    (110
                    )
                    
                    
                    (12,155
                    )
                    
                    
                    (4,934
                    )Cash
      and cash equivalents at beginning of period
                    
                    
                    
                    162
                    
                    
                    
                    12,317
                    
                    
                    
                    17,251Cash
      and cash equivalents at end of period
                    
                    
                    $
                    52
                    
                    
                    $
                    162
                    
                    
                    $
                    12,317Supplemental
      disclosures of cash flow information:Interest
      paid
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -Income
      taxes paid
                    
                    
                    
                    1,261
                    
                    
                    
                    1,130
                    
                    
                    
                    45









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








7







KARBON,
CJSC


Notes
to the financial statements





Note
1. Organization and environment





KARBON,
CJSC (the “Company”) was organized October 16, 2000 as a Closed Joint Stock
Company Company under the Civil Code of the Russian Federation and carries on
its principal activity in the territory of the Russian Federation.





The
registered address of the Company is: 1A Ilekskaya street, 460034, Orenburg
Russia.





The
principal activity of the Company is the exploration and production of oil and
gas within the Russian Federation.




Note
2. Summary of significant accounting policies





Business
and economic environment





The
Russian Federation has been experiencing political and economic change, which
has affected and will continue to affect the activities of enterprises operating
in this environment. Consequently, operations in the Russian Federation involve
risks, which do not typically exist in other markets.





The
accompanying financial statements reflect management’s assessment of the impact
of the business environment in the country in which the Company operates and the
financial position of the Company. The future business environments may differ
from management’s assessment.




Basis
of Presentation





The
accompanying financial statements include the accounts of the Company and have
been prepared in accordance with accounting principles generally accepted in the
United States of America ("generally accepted accounting
principles").




Use
of Estimates in the Preparation of Financial Statements





The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the reported amounts of oil and gas reserves, assets
and liabilities, disclosure of contingent assets and liabilities at the date of
the financial statements, and the reported amounts of revenues and expenses
during the reporting period.  Actual results could differ from those
estimates.  Estimates of oil and gas reserve quantities provide the
basis for calculations of depletion, depreciation, and amortization (“DD&A”)
and impairment, each of which represents a significant component of the
accompanying financial statements.




Going
concern





As
reflected in the accompanying Statements of Operations, the Company has had a
history of losses. In addition, the Company has a significant working capital
deficit and is currently experiencing liquidity problems.





As
further disclosed in Note 10, the Company is litigating with Tintrade Limited, a
lender of the Company, with regard to repayment of a $300,000 loan that matured
in July 2003. The Company is contesting the claim for repayment of the loan,
accrued penalties and applicable court fees and also has appealed against the
court ruling made in favour of the settlement demand of the
plaintiff.





Due to
the uncertainties related to these matters, there exists doubt about the
Company’s ability to continue as a going concern. The financial statements do
not include any adjustments relating to the recoverability and classification of
asset carrying amounts or the amount and classification of liabilities that
might result should the Company be unable to continue as a going
concern.






8







Revenue





The
Company derives revenue primarily from the sale of produced natural gas and
crude oil.  The Company reports revenue as the gross amount received before
taking into account production taxes and transportation costs, which are
reported as separate expenses.  Revenue is recorded in the month the
Company’s production is delivered to the purchaser, but payment is generally
received between 30 days after the date of production.  No revenue is
recognized unless it is determined that title to the product has transferred to
a purchaser.








Reporting
currency





The
Company maintains its accounting records in Russian roubles. The Company’s
functional currency is the Russian rouble.





The
Company’s reporting currency is United States Dollar ($). The balance sheet is
translated into US Dollars at a principal rate of exchange. The statement of
income is translated at average principal rate of exchange for the appropriate
periods.





The
principal rate of exchange used for translating foreign currency balances was
following:


as
of December 31,
2008                                                                                     $1
= RUB29.38;


as
of December 31,
2007                                                                                     $1
= RUB24.55;


as
of December 31,
2006                                                                                     $1
= RUB26.33.





Average
principal rate used of exchange income and expenses were following:


for year
ended December 31,
2008                                                                        $1
= RUB24.85;


for year
ended December 31,
2007                                                                        $1
= RUB25.08;


for year
ended December 31,
2006                                                                        $1
= RUB27.18.





Resulting
translation adjustments are reflected as a separate component of comprehensive
income.





The
exchange rate fluctuation of the Russian Rouble against the US Dollar may affect
the book value of the Company’s assets and liabilities.





Accordingly,
the translation of amounts recorded in this currency into US dollars should not
be construed as a representation that such currency amounts have been, could be
or will in the future be converted into US dollars at the exchange rate shown or
at any other exchange rate.




Cash
and cash equivalents





Cash and
cash equivalents comprise cash on hand, deposits held with banks, and other
short-term highly liquid investments with original maturities of three months or
less.




Inventories





Inventories
are stated at the lower of cost (first-in, first-out) or market (net realizable
value). The cost of inventories comprises all costs of purchase, costs of
conversion and other costs incurred in bringing the inventories to their present
location and condition.




Accounts
and notes receivable





Accounts
and notes receivable are recorded at their transaction amounts less provisions
for doubtful debts. Provisions for doubtful debts are recorded to the extent
that there is a likelihood that any of the amounts due will not be obtained. As
of December 31, 2006, 2007 and 2008 the Company did not have any allowances for
uncollectable accounts receivable.






9









Property,
plant and equipment





Fixtures
and fittings are stated at cost, less accumulated depreciation. Depreciation is
calculated using the straight-line method over the expected economic life of the
asset. Gains and losses on the sale of property, plant and equipment are
included in other business income. Costs related to repair and maintenance
activities are expensed in the period in which they are incurred and significant
renewals and improvements are capitalized.





Vehicles
under capital leases are initially recorded at the present value of minimum
lease payments. These assets are amortized using the straight-line method over
the shorter of lease term or the estimated useful life of the
asset.





Expected
economic life of the assets is summarized as follows:





Office
equipment                   5
years


Vehicles                                5
years





Useful
life and depreciation methods are regularly reviewed in order to ensure the
methods and depreciation periods remain appropriate.





Oil
and Gas Properties





In
accordance with Statement of Financial Accounting Standard ("SFAS") 19,
Financial Accounting and Reporting by Oil and Gas Producing Companies, oil and
gas properties and the related expenses are recognized under the successful
efforts method. This method prescribes that certain exploration costs, including
the costs of exploratory dry holes, delay rentals, geological and geophysical
costs are charged to expense when incurred.





Exploratory
well costs (including costs associated with stratigraphic test wells) are
initially capitalized pending determination of whether commercial oil and gas
reserves have been discovered by the drilling effort. The length of time
necessary for this determination depends on the specific technical or economic
difficulties in assessing the recoverability of the reserves. If a determination
is made that the well did not encounter oil and gas in economically viable
quantities, the well costs are expensed and are reported in "exploration
expenses".





Exploratory
drilling costs are temporarily capitalized pending determination of whether the
well has found proved reserves if both of the following conditions are
met:


·
            The
      well has found a sufficient quantity of reserves to justify, if
      appropriate, its completion as a producing well, assuming that the
      required capital expenditure is made; and·
            Satisfactory
      progress toward ultimate development of the reserves is being achieved,
      with the Company making sufficient progress assessing the reserves and the
      economic and operating viability of the
project.





The
Company evaluates the progress made on the basis of regular project reviews
which take into account the following factors:




·
            First,
      if additional exploratory drilling or other exploratory activities (such
      as seismic work or other significant studies) are either underway or
      firmly planned, the Company deems there to be satisfactory progress. For
      these purposes, exploratory activities are considered firmly planned only
      if they are included in the Company’s three-year exploration
      plan/budget.·
            In
      cases where exploratory activity has been completed, the evaluation of
      satisfactory progress takes into account indicators such as the fact that
      costs for development studies are incurred in the current period, or that
      governmental or other third-party authorizations are pending or that the
      availability of capacity on an existing transport or processing facility
      awaits confirmation.




Costs,
including "internal" costs relating to drilling and equipping of development
wells, including development dry holes, as well as costs required for drilling
and equipping of injection wells in the process of oil and gas reserves
development, are capitalized. These costs are included in oil and gas properties
in the balance sheet.





Depreciation,
depletion and amortization of capitalized costs of oil and gas properties is
calculated using the unit-of-production method based upon proved reserves for
the cost of property acquisitions and proved developed reserves for development
costs.





Production
and related overhead costs are expensed as incurred.






10








Impairment
of long-lived assets





Long-lived
assets, including blocks with proved oil and gas reserves, are assessed for
potential impairment in accordance with SFAS 144, Accounting for the Impairment
or Disposal of Long-Lived Assets.





Oil and
gas properties are assessed whenever events or circumstances indicate potential
impairment. If the carrying value of oil and gas properties is not recoverable
through undiscounted cash flows, an impairment is recognized. The impairment is
determined on the basis of the estimated fair value of oil and gas properties
which, in turn, is measured by discounting future net cash flows. Discounted
future cash flows from oil and gas fields are based on the management estimates
of future prices that rely on recent actual prices and published prices for
forward transactions; such prices are applied to forecast production volumes at
particular fields with further discounting for the expected risk
level.





Forecast
production volumes shall be understood as reserves, including probable reserves
that are proposed to be extracted using a known amount of capital expenditures.
Production volumes and prices correspond to the internal plans and forecasts, as
well as other data in the published financial statements. Assumptions regarding
future prices and costs used to assess oil and gas properties for impairment
differ from those used in the Standardized measure of proved oil and gas
reserves. During the years ended December 31, 2008, 2007 and 2006, no property
impairments were recorded.





Grouping
of assets for the purpose of impairment is performed on the basis of the lowest
level of identifiable cash flows that are largely independent of the cash flows
from other groups of assets – as a rule, for oil and gas properties such level
is represented by the field. Long-lived assets intended by management for use
during a period not exceeding one year are recorded at the lower of depreciated
value or fair value, less selling expenses.





Acquisition
costs of unproved oil and gas properties are assessed for impairment on a
regular basis and any estimated impairment is charged to expense.





Asset
retirement obligations





The
Company has asset retirement obligations associated with its core business
activities. The nature of the assets and potential obligations are as
follows:





Exploration
and Production – The Company’s exploration, development and production
activities involve the use of the following assets: wells, related equipment,
operating site and in-field pipeline.





Generally,
licenses and other regulatory acts require that such assets be decommissioned
upon the completion of production. According to these requirements, the Company
is obliged to decommission wells, dismantle equipment, restore the sites and
perform other related activities. The Company’s estimates of these obligations
are based on current regulatory or license requirements, as well as actual
dismantling and other related costs. Asset retirement obligations are calculated
in accordance with the provisions of SFAS 143, Accounting for Asset Retirement
Obligations.




Deferred
tax





Deferred
tax assets and liabilities are measured using the balance sheet liability
method, providing for temporary differences between the carrying amounts of
assets and liabilities for financial reporting purposes and the amounts used for
taxation purposes. Deferred tax assets are recognized to the extent it is more
likely than not that future taxable profit will be available against which the
temporary differences can be applied. Deferred tax is calculated using the tax
rates (and laws) that have been enacted or substantively enacted by the balance
sheet date and that are expected to apply when the deferred tax asset concerned
is realized or the deferred tax liability is settled.





Interest-bearing
borrowings





The
Company’s financial instruments including cash and cash equivalents, accounts
receivable, and accounts payable are carried at cost, which approximates fair
value due to the short-term maturity of these instruments. The recorded value of
the Company’s credit facility approximates its fair value as it bears interest
at a floating rate.





The
Company had $ 310,194 in loans outstanding under its credit agreements as of
December 31, 2008, $ 3,196,468 in loans outstanding under its credit agreements
as of December 31, 2007, and $ 2,861,800 in loans outstanding under its credit
agreements as of December 31, 2006.




Contingencies





Certain
conditions may exist as of the balance sheet date, which may result in losses to
the Company but the impact of which will only be resolved when one or more
future events occur or fail to occur.





If a
Company’s assessment of a contingency indicates that it is probable that a
material loss has been incurred and the amount of the liability can be
estimated, then the estimated liability is accrued and charged to the statement
of income. If the assessment indicates that a potentially material loss is not
probable, but is reasonably possible, or is probable, but cannot be estimated,
then the nature of the contingent liability, together with an estimate of the
range of possible loss, is disclosed in the notes to the financial statements.
Loss contingencies considered remote or related to unasserted claims are
generally not disclosed unless they involve guarantees, in which case the nature
of the guarantee is disclosed.




11






Income
Taxes





Operations
in the Russian Federation are subject to Federal and city income tax rates that
total 9.5% and a regional income tax rate that varies from 10.5% to 14.5% at the
discretion of the individual regional administration. The combined statutory tax
rate in the Russian Federation is 24%.




Recent
accounting pronouncements





In March
2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments
and Hedging Activities.” This Statement improves financial reporting about
derivative instruments and hedging activities by enhanced disclosures of their
effects on entity’s financial position, financial performance and cash flows.
The Company is required to adopt the provisions of SFAS No. 161 no later than
the first quarter of 2009 and does not expect any material impact on its results
of operations, financial position or cash flows upon adoption.





In
December 2007, the FASB issued SFAS No. 141 (Revised), “Business combinations.”
This Statement will apply to all transactions in which an entity obtains control
of one or more businesses. SFAS No. 141 (Revised) requires an entity to
recognize the fair value of assets acquired and liabilities assumed in a
business combination; to recognize and measure the goodwill acquired in the
business combination or gain from a bargain purchase and modifies the disclosure
requirements. The Company is required to prospectively adopt the provisions of
SFAS No. 141 (Revised) for business combinations for which the acquisition date
is on or after January 1, 2009. Early adoption of SFAS No. 141 (Revised) is
prohibited.





In
December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in
Consolidated Financial Statements – an amendment of ARB No. 51.” This Statement
will apply to all entities that prepare consolidated financial statements
(except not-for-profit organizations) and will affect those which have an
outstanding noncontrolling interest (or minority interest) in their subsidiaries
or which have to deconsolidate a subsidiary. This Statement changes the
classification of a non-controlling interest; establishing a single method of
accounting for changes in the parent company’s ownership interest that does not
result in deconsolidation and requires a parent company to recognize a gain or
loss when a subsidiary is deconsolidated. The Company is required to
prospectively adopt the provisions of SFAS No. 160 in the first quarter of 2009,
except for the presentation and disclosure requirements which shall be applied
retrospectively. Early adoption of SFAS No. 160 is prohibited.





In
February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for
Financial Assets and Financial Liabilities.” This Statement expands the
possibility of using fair value measurements and permits enterprises to choose
to measure certain financial assets and financial liabilities at fair value.
Enterprises shall report unrealized gains and losses on items for which the fair
value option has been elected in earnings in each subsequent period. The Company
adopted the provisions of SFAS No. 159 in the first quarter of
2008.


The
Company elected not to use the fair value option for its financial assets and
financial liabilities not already carried at fair value in accordance with other
standards. Therefore the adoption of SFAS No. 159 did not have any impact on the
Company’s results of operations, financial position or cash flows.





In
September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements,” which
establishes a single authoritative definition of fair value, sets out a
framework for measuring fair value and requires additional disclosures about
fair value measurements. In February 2008, the FASB issued Staff Position FSP
No. 157-2, “Effective date of FASB Statement No. 157,” which defers the
effective date of SFAS No. 157 for certain nonfinancial assets and nonfinancial
liabilities to the first quarter of 2009. The initial adoption of the provisions
of SFAS No. 157 did not have a material impact on the Company’s results of
operations, financial position or cash flows.





In June
2006, the FASB issued FASB Interpretation No. 48, “Accounting for Uncertainty in
Income Taxes, an interpretation of FASB Statement No. 109.” This Interpretation
clarifies the accounting for uncertainty in income taxes recognized in an
enterprise’s financial statements in accordance with FASB Statement No. 109,
“Accounting for Income Taxes.” The Company adopted the provisions of FIN No. 48
in the first quarter of 2007. The adoption of the provisions of FIN No. 48 did
not have a material impact on the Company’s results of operations, financial
position or cash flows.




Note 3.  Concentration of
credit risk





Substantially
all of the Company's receivables are within the oil and gas industry, primarily
from purchasers of oil and gas. Although diversified among many companies,
collectability is dependent upon the financial wherewithal of each individual
company as well as the general economic conditions of the industry. The
receivables are not collateralized. To date the Company has had minimal bad
debts.








12





During
2008, sales to four unrelated customers represented 91 %, 6%, 2.6% and 0.4% of
total revenue.


During
2007, sales to four unrelated customers represented 36 %, 33%, 16% and 11% of
total revenue. During 2006, sales to five unrelated customers represented 42%,
35%, 9%, 7% and 5% of total revenue.





Note
4. Inventories.





Inventories
are summarized as follows:





US
      Dollars
              
              As
      of December 31, 2008
              
              
              As
      of December 31, 2007
              
              
              As
      of December 31, 2006Inventories
      of crude oil
              
              $
              113,849
              
              
              $
              -
              
              
              $
              74,068Valuation
      allowance
              
              
              (90,241
              )
              
              
              -
              
              
              
              (50,428
              )Raw
      materials
              
              
              97,564
              
              
              
              151,443
              
              
              
              124,825$
              121,171
              
              
              $
              151,443
              
              
              $
              148,465




Note
5. Prepaid taxes and expenses.





Prepaid
taxes and expenses include:





US
      Dollars
              
              As
      of December 31, 2008
              
              
              As
      of December 31, 2007
              
              
              As
      of December 31, 2006VAT
      receivable
              
              $
              432,160
              
              
              $
              558,642
              
              
              $
              688,516Current
      Income Tax Receivables
              
              
              114
              
              
              
              901
              
              
              
              -Other
      taxes receivable
              
              
              19,249
              
              
              
              80,682
              
              
              
              20,564Deferred
      expenses
              
              
              241
              
              
              
              -
              
              
              
              141,369$
              451,765
              
              
              $
              640,225
              
              
              $
              850,448




Note
6. Prepaid and other assets.





Prepaid
and other assets include:





US
      Dollars
              
              As
      of December 31, 2008
              
              
              As
      of December 31, 2007
              
              
              As
      of December 31, 2006Prepayments
              
              
              10,773
              
              
              
              14,830
              
              
              
              55,031Loans
      to related parties
              
              
              2,551
              
              
              
              -
              
              
              
              227,867$
              13,323
              
              
              $
              14,830
              
              
              $
              282,898





Note 7 Accounts
payable





Accounts
payable are summarized as follows:





US
      Dollars
              
              As
      of December 31, 2008
              
              
              As
      of December 31, 2007
              
              
              As
      of December 31, 2006Trade
      accounts payable
              
              $
              234,183
              
              
              $
              659,352
              
              
              $
              766,192Wages
      and salaries payable
              
              
              33,810
              
              
              
              21,854
              
              
              
              34,338Other
      accounts payable
              
              
              47,632
              
              
              
              30,775
              
              
              
              28,448$
              315,624
              
              
              $
              711,982
              
              
              $
              828,978









13







Note
8 Borrowings





The
Company borrows operating funds under several loans agreements with
non-financial institutions:





US
      Dollars
              
              As
      of December 31, 2008
              
              
              As
      of December 31, 2007
              
              
              As
      of December 31, 2006Interest
      free, unsecured loans from RossGas, LLC a related party (debt is repayable
      on mutual consent)
              
              
              -
              
              
              $
              2,896,468
              
              
              $
              2,561,800Interest
      free, unsecured loan from Tintrade Limited ($ 300 000 is overdue, for
      disclosure see Note 10)
              
              
              300,000
              
              
              
              300,000
              
              
              
              300,000Interest
      free, unsecured loans from members of staff
              
              $
              10,194
              
              
              
              -
              
              
              
              -$
              310,194
              
              
              $
              3,196,468
              
              
              $
              2,861,800





As of
December 30, 2008 Auxerre Trading Ltd, the sole shareholder at Karbon, CJSC, has
been assigned the right of being entitled to repayment of all loans originally
advanced by RossGas, LLC to Karbon, CJSC whereby Auxerre Trading Ltd assumed
control of the loans previously repayable to RossGas, LLC.





As of
December 31, 2008 Auxerre Trading Ltd has forgiven all the loans it has assumed
control of from RossGas, LLC as at December 30, 2008 and Karbon, CJSC has
reclassified $ 2,865,325 worth of loan forgiveness as additional paid-in capital
in the US GAAP accounts.





Note
9. Recognized deferred tax assets and liabilities





Deferred
tax assets and liabilities are composed of the following items:





US
      Dollars
                
                Asset
                
                
                Liability
                
                
                NetAs
      of December 31, 2008
                
                
                As
      of December 31, 2007
                
                
                As
      at December 31, 2006
                
                
                As
      of December 31, 2008
                
                
                As
      of December 31, 2007
                
                
                As
      at December 31, 2006
                
                
                As
      of December 31, 2008
                
                
                As
      of December 31, 2007
                
                
                As
      at December 31, 2006Property,
      plant and equipment
                
                $
                544
                
                
                $
                652
                
                
                
                607
                
                
                $
                -
                
                
                $
                -
                
                
                
                (19,029
                )
                
                $
                544
                
                
                $
                652
                
                
                
                (18,422
                )Proved
      Oil and Gas properties
                
                
                31,441
                
                
                
                (60,323
                )
                
                
                349,494
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                31,441
                
                
                
                (60,323
                )
                
                
                349,494Inventories
                
                
                21,658
                
                
                
                -
                
                
                
                12,103
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                21,658
                
                
                
                -
                
                
                
                12,103Accounts
      payable
                
                
                3,088
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                3,088
                
                
                
                -
                
                
                
                -Assets
      retirement obligations
                
                
                33,798
                
                
                
                25,666
                
                
                
                11,393
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                33,798
                
                
                
                25,666
                
                
                
                11,393Borrowings
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (11,846
                )
                
                
                (14,179
                )
                
                
                (1,444,147
                )
                
                
                (11,846
                )
                
                
                (14,179
                )
                
                
                (1,444,147
                )Deferred
      tax assets/(liabilities)
                
                $
                90,529
                
                
                $
                (34,005
                )
                
                $
                373,597
                
                
                $
                (11,846
                )
                
                $
                (14,179
                )
                
                $
                (1,463,175
                )
                
                $
                78,683
                
                
                $
                (48,185
                )
                
                $
                (1,089,578
                )





Temporary
differences between these financial statements and tax records gave rise to
deferred income tax assets and liabilities as of December 31, 2008 as
above.


Income
tax expenses for the years ended December 31 comprise the
following:





US
      Dollars
                  
                  For
      the year ended December 31, 2008
                  
                  
                  For
      year ended December 31, 2007
                  
                  
                  For
      year ended December 31, 2006Current
      tax expenseCurrent
      period
                  
                  $
                  -
                  
                  
                  $
                  -
                  
                  
                  $
                  (42
                  )Adjustments
      for prior periodsDeferred
      tax  expenseOrigination
      and reversal of temporary differences
                  
                  
                  138,434
                  
                  
                  
                  1,064,973
                  
                  
                  
                  115,052Total
      income tax expense in income statement
                  
                  $
                  138,434
                  
                  
                  $
                  1,064,973
                  
                  
                  $
                  115,010








14







A
reconciliation of expected income tax expense to the actual tax expense for the
years ended December 31 is as follows:





US
      Dollars
                  
                  For
      the year ended December 31, 2008
                  
                  
                  For
      year ended December 31, 2007
                  
                  
                  For
      year ended December 31, 2006Income/(loss)
      before Income tax
                  
                  $
                  (1,235,511
                  )
                  
                  $
                  (586,977
                  )
                  
                  $
                  (661,431
                  )Statutory
      income tax rate
                  
                  
                  24
                  %
                  
                  
                  24
                  %
                  
                  
                  24
                  %Theoretical
      income tax benefit/(expense)
                  
                  
                  296,523
                  
                  
                  
                  140,875
                  
                  
                  
                  158,743Permanent
      accounting differences arising from:Non-deductible
      items, net
                  
                  
                  (158,088
                  )
                  
                  
                  924,098
                  
                  
                  
                  (43,734
                  )Other
      permanent differences
                  
                  
                  -
                  
                  
                  
                  -$
                  138,434
                  
                  
                  $
                  1,064,973
                  
                  
                  $
                  115,010








Note
10. Provision for litigation





The
Company is litigating with Tintrade Limited, a lender of the Company, with
regard to repayment of a $300,000 loan that matured in June 2003. The lender is
also claiming $ 73,970 of penalties in addition to $2,772 and $ 19,965 of court
fees to be recovered.





The
Company is contesting this claim and appealing against the court ruling made in
favour of the settlement demand of the plaintiff.





Full
provision for the amounts in question has been recognized in the reporting
period.







Note
11. Assets retirement obligations





US
      Dollars
              
              As
      of December 31, 2008
              
              
              As
      of December 31, 2007
              
              
              As
      of December 31, 2006Beginning
      asset retirement obligation
              
              $
              616,185
              
              
              $
              522,196
              
              
              $
              434,292Liabilities
      incurred
              
              
              -
              
              
              
              -
              
              
              
              -Liabilities
      settled
              
              
              -
              
              
              
              -
              
              
              
              -Accretion
      expense
              
              
              61,058
              
              
              
              53,272
              
              
              
              45,986Revision
      to estimated cash flows
              
              
              -
              
              
              
              -
              
              
              
              -Foreign
      currency translation
              
              
              (11,152
              )
              
              
              (147,261
              )
              
              
              (133,890
              )Ending
      asset retirement obligation
              
              
              -
              
              
              
              -
              
              
              
              -$
              566,279
              
              
              $
              616,185
              
              
              $
              522,196





The asset
retirement obligations represent the estimated future costs associated with the
plugging and abandonment of oil and gas wells, removal of equipment and
facilities from owned and leased acreage, and land restoration.





Note
12. Share capital





As of
December 31, 2008 the Company's authorized share capital was 601,000 shares of
common stock, par value of $3.75 each.





As of
December 31, 2008 the Company had issued 601,000, 601,000 (2007), and 601,000
(2006) shares of common stock, all of which are outstanding.






15






Note
13. Marketing and transportation expenses





Marketing
and transportationexpenses are summarized
as follows:





US
      Dollars
                
                For
      the year ended December 31, 2008
                
                
                For
      year ended December 31, 2007
                
                
                For
      year ended December 31, 2006Staff
      cost
                
                $
                221,932
                
                
                $
                142,090
                
                
                $
                187,101Transport
      expense
                
                
                51,223
                
                
                
                24,502
                
                
                
                50,091Insurance
      expense
                
                
                398
                
                
                
                389
                
                
                
                381Rental
      expense
                
                
                42,152
                
                
                
                35,769
                
                
                
                34,876Business
      trips
                
                
                3,139
                
                
                
                1,945
                
                
                
                8,007Laboratory
      analysis
                
                
                -
                
                
                
                -
                
                
                
                -Evaporative
      losses
                
                
                -
                
                
                
                -
                
                
                
                -Other
      expenses
                
                
                -
                
                
                
                102
                
                
                
                2,676$
                318,845
                
                
                $
                204,797
                
                
                $
                283,131







Note
14. General and administrative expenses





General
and administrative expenses are summarized as follows:





US
      Dollars
                  
                  For
      the year ended December 31, 2008
                  
                  
                  For
      year ended December 31, 2007
                  
                  
                  For
      year ended December 31, 2006Provision
      for inventory valuation
                  
                  $
                  97,235
                  
                  
                  $
                  21,671
                  
                  
                  $
                  48,849Bad
      debt allowance
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  21,317Bank
      cost
                  
                  
                  4,202
                  
                  
                  
                  1,225
                  
                  
                  
                  3,964Consumables
                  
                  
                  1,555
                  
                  
                  
                  996
                  
                  
                  
                  1,282Audit,
      legal, advisory and information expense
                  
                  
                  38,275
                  
                  
                  
                  4,956
                  
                  
                  
                  10,483Telephone
      and mobile
                  
                  
                  8,120
                  
                  
                  
                  7,798
                  
                  
                  
                  8,277Charitable
      contribution and corporate events
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  905Fines
      and penalties
                  
                  
                  63,329
                  
                  
                  
                  2,867
                  
                  
                  
                  43,712Provision
      for claims litigation
                  
                  
                  100,741
                  
                  
                  
                  -
                  
                  
                  
                  -Other
      operating expenses
                  
                  
                  7,733
                  
                  
                  
                  4,462
                  
                  
                  
                  5,821$
                  321,190
                  
                  
                  $
                  43,975
                  
                  
                  $
                  144,610








Note
15. Operating lease





The
following is a schedule by years of future minimum rental payments required
under operating lease that have initial or remaining noncancelable lease terms
in excess of one year as of December 31, 2008:





US
      DollarsYear
      ended December 31, 2009
                
                $
                70,260Year
      ended December 31, 2010
                
                
                -$
                70,260





The
Company rents office space and the monthly rental at September 2008 was $ 2,860.
The Monthly Rental is paid on or before the first day of each month. The Tenancy
Agreement expires in December 2009. The Company has the exclusive right to
extend the term of the Tenancy whereas the Owner has the right to revise the
Monthly Rental.





Further,
the company rents 3 plots of land and the monthly rental at December 2008 was
$2,995. The Monthly Rental is paid on or before the first day of each month. The
Land Lease Agreement expires in December 2009. The Company has the exclusive
right to extend the term of the Lease through to December 2014 whereas the Owner
has the right to revise the Monthly Rental.






16






Note
16. Related party transactions





In the
years ended December 31, 2006, 2007 and 2008 the Company did not enter into
transactions with related parties that are material either to the Company or any
related party, or that are unusual in their nature of conditions.


Year
end balances with related parties are set out below:





As
      of December 31, 2008
                
                
                As
      of December 31, 2007
                
                
                As
      of December 31, 2006Receivable
      from related parties:Receivable
      from companies under common control and key members of staff, non-interest
      bearing loans
                
                $
                2,551
                
                
                $
                -
                
                
                $
                227,867Total
      receivable from related parties
                
                $
                2,551
                
                
                $
                -
                
                
                $
                227,867Payable
      to related parties:Payable
      to companies under common control, trade
                
                $
                136,911
                
                
                $
                163,875
                
                
                $
                71,530Payable
      to companies under common control, non interest bearing
                
                
                10,194
                
                
                
                2,896,468
                
                
                
                2,561,800Total
      payable to related parties
                
                $
                147,105
                
                
                $
                3,060,342
                
                
                $
                2,633,331




Note
17. Disclosure about Oil and Gas Producing Activity





Oil
and Natural Gas Reserves (Unaudited)





Net
proved oil and natural gas reserve estimates for all years presented were
prepared by a firm of independent petroleum engineers located in Texas, and
interpreted by the management as contained herein. The reserves were prepared in
accordance with guidelines established by the Securities and Exchange Commission
and, accordingly, were based on existing economic and operating conditions. Oil
and natural gas prices in effect as of the reserve report date were used without
any escalation. (See “Standardized Measure of Discounted Future Net Cash Flows
and Changes Therein Relating to Proved Oil and Natural Gas Reserves” below for a
discussion of the effect of the different prices on reserve quantities and
values.) Operating costs, production and ad valorem taxes and future development
costs were based on current costs with no escalation.





There are
numerous uncertainties inherent in estimating quantities of proved reserves and
in projecting the future rates of production and timing of development
expenditures. The following reserve data represents estimates only and should
not be construed as being exact. Moreover, the present values should not be
construed as the current market value of our oil and natural gas reserves or the
costs that would be incurred to obtain equivalent reserves. All of our reserves
are located in the Russian Federation.






Presented
below is a summary in estimated proved reserves of the company:





For
      year ended
                    December
      31, 2008
                  
                  
                  For
      year ended
                    December
      31, 2007
                  
                  
                  For
      year ended
                    December
      31, 2006Oil
      or Conden-sate
                  
                  
                  Gas
                  
                  
                  Oil
      or Conden-sate
                  
                  
                  Gas
                  
                  
                  Oil
      or Conden-sate
                  
                  
                  Gas(TBbl)
                  
                  
                  (MMcf)
                  
                  
                  (TBbl)
                  
                  
                  (MMcf)
                  
                  
                  (TBbl)
                  
                  
                  (MMcf)Developed
      and undeveloped:Beginning
      of period
                  
                  
                  8,066
                  
                  
                  
                  45,211
                  
                  
                  
                  8,093
                  
                  
                  
                  45,237
                  
                  
                  
                  8,127
                  
                  
                  
                  45,262Revision
      of previous estimate
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Discoveries
      and extensions
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Infill
      reserves in an existing proved fields
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Purchase
      of minerals in place
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Sales
      of reserves
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Production
                  
                  
                  (22
                  )
                  
                  
                  (22
                  )
                  
                  
                  (27
                  )
                  
                  
                  (26
                  )
                  
                  
                  (34
                  )
                  
                  
                  (25
                  )End
      of period
                  
                  
                  8,044
                  
                  
                  
                  45,189
                  
                  
                  
                  8,066
                  
                  
                  
                  45,211
                  
                  
                  
                  8,093
                  
                  
                  
                  45,237Proved
      developed reserves:Beginning
      of period
                  
                  
                  37
                  
                  
                  
                  151
                  
                  
                  
                  64
                  
                  
                  
                  177
                  
                  
                  
                  98
                  
                  
                  
                  152End
      of period
                  
                  
                  15
                  
                  
                  
                  129
                  
                  
                  
                  37
                  
                  
                  
                  151
                  
                  
                  
                  64
                  
                  
                  
                  177









17








Standardized
Measure of Discounted Future Net Cash Flows and Changes Therein Relating to
Proved Oil and Natural Gas Reserves (Unaudited)





Statement
of Financial Accounting Standard No. 69, “Disclosures about Oil and Gas
Producing Activity” (SFAS No. 69”) prescribes guidelines for computing a
standardized measure of future net cash flows and changes therein to estimated
proven reserves. The Company follows these guidelines, which are briefly
discussed below.





Future
cash inflows and future production and developments costs are determined by
applying benchmark prices and costs, including transportation, quality, and
basis differentials, in effect at year (period) end to the year(period)-end
estimated quantities of oil and gas to be produced in future. Each property the
Company operates is also charged with field-level overhead in the estimated
reserve calculation. Estimated future income taxes are computed using current
statutory income taxes rate, including consideration for estimated future
statutory depletion. The resulting future cash flows are reduced to present
value amounts by applying a ten percent annual discount factor.





Future
operating costs are determined based on estimates of expenditures to be incurred
in developing and producing the proved oil and gas reserves in place at the end
period using year(period)-end costs and assuming continuation of existing
economic conditions, plus Company overheads incurred by the administrative
office attributable to operating activities.





The
assumptions used to compute the standardized measure are those prescribed by the
FASB and the Securities and Exchange Commission. These assumptions do not
necessarily reflect the Company’s expectations of actual revenues to be derived
from those reserves, nor their present value. The limitations inherent in the
reserve quantity estimation process, as discussed previously, are equally
applicable to the standardized measure computation since these reserve quantity
estimates are the basis for the valuation process. The following prices as
adjusted for transportation, quality and basis differentials were used in
calculation of standardized measure:





US
      Dollars
                
                As
      of December 31, 2008
                
                
                As
      of December 31, 2007
                
                
                As
      of December 31, 2006Gas
      (per Mcf)
                
                $
                1.01
                
                
                $
                0.87
                
                
                $
                0.54Oil
      (per Bbl)
                
                $
                20.92
                
                
                $
                31.86
                
                
                $
                31.67





The
following summary sets forth the Company’s future net cash flows relating to
proved oil and gas reserves based on the standardized measure prescribed in SFAS
No. 69:





US
      Dollars (In thousands)
                
                As
      of December 31, 2008
                
                
                As
      of December 31, 2007
                
                
                As
      of December 31, 2006Future
      cash inflows
                
                $
                204,106
                
                
                $
                288,431
                
                
                $
                275,487Future
      production costs
                
                
                (125,132
                )
                
                
                (169,257
                )
                
                
                (135,746
                )Future
      development cost
                
                
                (63,504
                )
                
                
                (68,211
                )
                
                
                (73,171
                )Future
      income taxes
                
                
                (2,872
                )
                
                
                (19,754
                )
                
                
                (24,736
                )Future
      net cash flows
                
                
                12,599
                
                
                
                31,209
                
                
                
                41,83410
      percent annual discount
                
                
                (2,264
                )
                
                
                (3,431
                )
                
                
                (3,990
                )Standardized
      measure of discounted future net cash flows
                
                $
                10,335
                
                
                $
                27,778
                
                
                $
                37,844





The
principle sources of change in the standardized measure of discounted future net
cash flows are:





US
      Dollars (In thousands)
                
                For
      year ended December 31, 2008
                
                
                For
      year ended December 31, 2007
                
                
                For
      year ended December 31, 2006Standardized
      measure, beginning of period
                
                $
                27,778
                
                
                $
                37,844
                
                
                $
                37,844Sales
      of oil and gas produced, net of production costs
                
                
                (870
                )
                
                
                (294
                )
                
                
                -Net
      charge in prices and production costs
                
                
                (34,622
                )
                
                
                (15,313
                )
                
                
                -Extensions,
      discoveries and other including infill reserves in an existing proved
      field, net of production costs
                
                
                -
                
                
                
                -
                
                
                
                -Purchase
      of mineral in place
                
                
                -
                
                
                
                -
                
                
                
                -Development
      costs incurred during the period
                
                
                -
                
                
                
                -
                
                
                
                -Change
      in estimated future development costs
                
                
                -
                
                
                
                -
                
                
                
                -Revisions
      of previous quantity estimates
                
                
                -
                
                
                
                -
                
                
                
                -Accretions
      of discount
                
                
                1,167
                
                
                
                559
                
                
                
                -Sales
      of reserves in place
                
                
                
                
                
                
                
                
                
                
                -Net
      charge of income taxes
                
                
                16,882
                
                
                
                4,982
                
                
                
                -Changes
      in timing and other
                
                
                -
                
                
                
                -
                
                
                
                -Standardized
      measure, end of period
                
                $
                10,335
                
                
                $
                27,778
                
                
                $
                37,844






18





Note
18. Commitments, contingencies and operating risks





Capital
expenditure, exploration and investment programs





The
entity owns and operates the asset (natural gas and crude oil reserves located
in the North Kopanskoye Field) under which it has commitments for capital
expenditure in relation to its exploration programs. It relates to an existing
license agreement in the Russian Federation.





Development
plan calls for the implementing of pressure maintenance by water flooding both
the Artinsky-1 and Bashkirian A4 Central oil reservoirs. A combination of
procedures and injectors totaling 18 wells in Artinsky-1 reservoir and 9 wells
in the Bashkirian A4 Central reservoir are scheduled to be active when the water
flood development plant are fully implemented. Additionally, two wells are
scheduled to be completed  in the Bashkirian A4 South reservoir, which
will be produced by primary depletion.





The
capital commitments to undertake the drilling and oilfield construction
activities envisaged by the North Kopanskoye Field exploration and development
plan, were assessed and estimated by the management to be in the region of $
70,000,000 to $ 73,000,000. Unless the Company is able to raise sufficient
capital, the Company will not be able to meet its license obligations and may
not be able to continue as a going concern.





Russian
Business Environment.





While
there have been improvements in the Russian economic situation, such as an
increase in gross domestic product and a reduced rate of inflation, Russia
continues economic reforms and development of its legal, tax and regulatory
frameworks as required by a market economy. The future stability of the Russian
economy is largely dependent upon these reforms and developments and the
effectiveness of economic, financial and monetary measures undertaken by the
government. In addition, laws and regulations, including interpretations,
enforcement and judicial processes, continue to evolve in Russia. Other laws and
regulations and certain other restrictions have a significant effect on the
Company's industry, including, but not limited to the following issues: rights
to use subsurface resources, environmental matters, site restoration,
transportation and export, corporate governance, taxation, etc.





Political
environment.





Trading
activity and the profit derived therefrom may be affected by political,
statutory, financial and administrative changes, including the changes in
environment protection legislation that are currently underway in
Russia.





Insurance.





During
the normal course of business disputes and claims may arise and there can be
uncertainties surrounding the ultimate resolution of these matters.





Taxation.





The
taxation system in the Russian Federation is relatively new and is characterized
by frequent changes in legislation, official pronouncements and court decisions,
which are often unclear, contradictory and subject to varying interpretation by
different tax authorities. Taxes are subject to review and investigation by a
number of authorities, which have the authority to impose severe fines,
penalties and interest charges. A tax year remains open for review by the tax
authorities during the three subsequent calendar years.





Russian
transfer pricing rules were introduced in 1999, giving Russian tax authorities
the right to make transfer pricing adjustments and impose additional tax
liabilities in respect of all “controlled” transactions, provided that the
transaction price deviates from the market price by more than 20%. Controlled
transactions include transactions between related entities and certain other
types of transactions between independent parties, such as foreign trade
transactions with significant (by more than 20%) price
fluctuations.









19







The
Russian transfer pricing rules are vaguely drafted, leaving wide scope for
interpretation by Russian tax authorities and courts. Due to the uncertainties
in interpretation of transfer pricing legislation, the tax authorities may
challenge the Company’s prices and propose an adjustment. If such price
adjustments are upheld by the Russian courts and implemented, the Company’s
future financial results could be adversely affected. In addition, the Company
could face significant losses associated with the assessment of prior tax
underpaid and related interest and penalties, which could have an adverse effect
on the Company’s financial condition and results of operations. The Company’s
management believes that such transfer pricing related tax contingencies are
remote and therefore may not have any significant impact on the Company’s
financial statements.





Environmental
liabilities.





Potential
liabilities that may arise as a result of changes in laws and regulations and
settlement of the civil disputes can not be reliably assessed but they may prove
to be material. Under existing legislation, management believes that there are
no significant unrecorded liabilities which could have a significant adverse
effect on the operating results or financial position of the
Company.





Environmental
protection





Environmental
protection liabilities are carried in accounts when they arise and can be
reliably measured and when there are probabilities of arising of such
liabilities.





Pension
Benefits





The
Company makes payments to State Pension Fund of Russian Federation. These
payments are calculated by the employer as a percentage of salary expense and
are expensed as they are incurred.




Note
19. Subsequent events





As of
January 30, 2009, in mitigation of the consequences Karbon CJSC might be facing
in the claim from Stroystile, LLC as one of the guarantors to Rossgas, LLC if
the later were to default, Karbon CJSC has been presented with a hold harmless
arrangement.  As of February 17, 2009, Stroystile, LLC agreed to an
out of court settlement suggested by Rossgas, LLC thereby establishing grounds
for an amicable resolution of the dispute on or before March 16,
2009.