<PAGE>

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


                                      FORM 10-Q

                   Quarterly Report Pursuant to Section 13 or 15(d)
                        of the Securities Exchange Act of 1934


For the Quarter Ended September 30, 1996            Commission File No. 0-25214


                             KELLEY OIL & GAS CORPORATION
                (Exact name of registrant as specified in its charter)


                    DELAWARE                               76-0082502
          (STATE OR OTHER JURISDICTION OF                (I.R.S. EMPLOYER
         INCORPORATION OR ORGANIZATION)                IDENTIFICATION NO.)


                 601 JEFFERSON ST.
                   SUITE 1100
                 HOUSTON, TEXAS                               77002
    (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)               (ZIP CODE)


          Registrant's telephone number, including area code: (713) 652-5200


    Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.  Yes  X   No    
                                               ---      ---

    Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.


                 TITLE OF CLASS               OUTSTANDING AT OCTOBER 31, 1996

                  Common Stock                          98,287,838


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<PAGE>

                             KELLEY OIL & GAS CORPORATION

                                        INDEX

<TABLE>
<S>      <C>                                                                   <C>
PART I.  FINANCIAL INFORMATION                                                 PAGE

    Consolidated Balance Sheets as of September 30, 1996 (unaudited)
     and December 31, 1995 ...................................................   2

    Consolidated Statements of Loss for the three months ended September 30,
     1996 and 1995 (unaudited).................................................  3

    Consolidated Statements of Loss for the nine months ended September 30,
     1996 and 1995 (unaudited) ................................................  4

    Consolidated Statements of Cash Flows for the nine months ended 
     September 30, 1996 and 1995 (unaudited) ..................................  5

    Notes to Consolidated Financial Statements ................................  6

    Management's Discussion and Analysis of Financial Condition and Results 
     of Operations ............................................................  8


PART II.  OTHER INFORMATION ................................................... 13
</TABLE>



                                      1

<PAGE>

                            PART I. FINANCIAL INFORMATION

                    KELLEY OIL & GAS CORPORATION AND SUBSIDIARIES
                             CONSOLIDATED BALANCE SHEETS

                                    (IN THOUSANDS)

<TABLE>
                                                                                    SEPTEMBER 30,   DECEMBER 31,
                                                                                       1996            1995
                                                                                    ------------    -----------
                                                                                     (UNAUDITED)
<S>                                                                                 <C>               <C>
ASSETS:
  Cash and cash equivalents. . . . . . . . . . . . . . . . . . . . . . . . . . . . . $   2,531          6,352
  Accounts receivable. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .    16,207         13,753
  Accounts receivable - drilling programs. . . . . . . . . . . . . . . . . . . . . .     2,413          2,035
  Prepaid expenses and other current assets. . . . . . . . . . . . . . . . . . . . .     1,694            557
                                                                                     ---------       --------
      Total current assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . .    22,845         22,697
                                                                                     ---------       --------
  Oil and gas properties, successful efforts method:
    Unevaluated properties, net. . . . . . . . . . . . . . . . . . . . . . . . . . .    13,342         13,050
    Properties subject to amortization . . . . . . . . . . . . . . . . . . . . . . .   330,091        287,970
  Pipelines and other transportation assets, at cost . . . . . . . . . . . . . . . .     4,689          4,723
  Furniture, fixtures and equipment. . . . . . . . . . . . . . . . . . . . . . . . .     1,468          1,233 
                                                                                     ---------       --------
                                                                                       349,590        306,976
  Less:  Accumulated depreciation, depletion and amortization. . . . . . . . . . . .  (194,088)      (178,334)
                                                                                     ---------       --------
      Total property and equipment . . . . . . . . . . . . . . . . . . . . . . . . .   155,502        128,642
                                                                                     ---------       --------
  Other non-current assets (net of accumulated amortization) . . . . . . . . . . . .     1,074              3
                                                                                     ---------       --------
  TOTAL ASSETS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 179,421        151,342
                                                                                     ---------       --------
                                                                                     ---------       --------
LIABILITIES:
  Accounts payable and accrued expenses. . . . . . . . . . . . . . . . . . . . . . . $  28,695         19,500
  Accounts payable - drilling programs . . . . . . . . . . . . . . . . . . . . . . .    11,212         12,430
                                                                                     ---------       --------
      Total current liabilities. . . . . . . . . . . . . . . . . . . . . . . . . . .    39,907         31,930
  Notes payable - long term. . . . . . . . . . . . . . . . . . . . . . . . . . . . .     7,000         22,000
  Senior notes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .    96,796         95,926
  Convertible subordinated debentures. . . . . . . . . . . . . . . . . . . . . . . .    22,605         21,694
  Convertible subordinated notes . . . . . . . . . . . . . . . . . . . . . . . . . .    26,948         25,360
                                                                                     ---------       --------
      TOTAL LIABILITIES. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .   193,256        196,910
                                                                                     ---------       --------
STOCKHOLDERS' DEFICIT:
  Preferred stock, $1.50 par value--20,000 shares authorized at September 30, 1996 
    and December 31, 1995; 1,746 and 4,304 shares outstanding at 
    September 30, 1996 and December 31, 1995, respectively (liquidation value 
    at September 30, 1996 and December 31, 1995 of $47,074 and $66,532, 
    respectively). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .     2,618          6,456
  Common stock, $.01 par value, 200,000 and 100,000 shares authorized at 
    September 30, 1996 and December 31, 1995, respectively; 98,288 and 44,041
    shares outstanding at September 30, 1996 and December 31, 1995, respectively . .       983            440
  Additional paid-in capital . . . . . . . . . . . . . . . . . . . . . . . . . . . .   273,088        225,804
  Retained earnings (deficit). . . . . . . . . . . . . . . . . . . . . . . . . . . .  (290,524)      (278,268)
                                                                                     ---------       --------

      TOTAL STOCKHOLDERS' DEFICIT. . . . . . . . . . . . . . . . . . . . . . . . . .   (13,835)       (45,568)
                                                                                     ---------       --------

  TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT. . . . . . . . . . . . . . . . . . . . $ 179,421        151,342
                                                                                     ---------       --------
                                                                                     ---------       --------
</TABLE>


See Notes to Consolidated Financial Statements.


                                      2

<PAGE>

                    KELLEY OIL & GAS CORPORATION AND SUBSIDIARIES
                           CONSOLIDATED STATEMENTS OF LOSS

                        ($ IN THOUSANDS EXCEPT PER SHARE DATA)

                                     (UNAUDITED)


                                                     THREE MONTHS ENDED  
                                                        SEPTEMBER 30,    
                                                     ------------------- 
                                                      1996        1995   
                                                     -------    -------- 
Oil and gas revenues.............................    $14,878       7,761 
Gas marketing revenues, net......................        370         247 
Gain on sale of oil and gas properties...........        ---         777 
Interest and other income........................        409         187 
                                                     -------    -------- 
  Total revenues.................................     15,657       8,972 
                                                     -------    -------- 

Production expenses..............................      2,471       2,904 
Exploration costs................................      1,163       3,044 
General and administrative expenses..............      2,124       1,326 
Interest and other debt expenses.................      6,067       6,045 
Depreciation, depletion and amortization.........      5,740       6,963 
                                                     -------    -------- 
  Total expenses.................................     17,565      20,282 
                                                     -------    -------- 

Net loss before income taxes.....................     (1,908)    (11,310)

Income taxes.....................................        ---         --- 
                                                     -------    -------- 
Net loss.........................................     (1,908)    (11,310)
Less: Preferred stock dividends..................        ---      (1,765)
                                                     -------    -------- 

NET LOSS APPLICABLE TO COMMON STOCK..............    $(1,908)    (13,075)
                                                     -------    -------- 
                                                     -------    -------- 

Loss per share:
  Primary and assuming full dilution:
    Net loss.....................................    $  (.02)       (.30)
                                                     -------    -------- 
                                                     -------    -------- 

Average common and common equivalent 
 shares outstanding:
  Primary and assuming full dilution.............     97,797      43,668 



See Notes to Consolidated Financial Statements.











                                      3 
<PAGE>

                KELLEY OIL & GAS CORPORATION AND SUBSIDIARIES
                       CONSOLIDATED STATEMENTS OF LOSS

                    ($ IN THOUSANDS EXCEPT PER SHARE DATA)

                                 (UNAUDITED)


                                                     NINE MONTHS ENDED  
                                                        SEPTEMBER 30,    
                                                     ------------------- 
                                                       1996       1995   
                                                     --------   -------- 
Oil and gas revenues.............................    $ 40,201     26,284 
Gas marketing revenues, net......................       1,078        677 
Gain on sale of oil and gas properties...........         ---        777 
Interest and other income........................         938        727 
                                                     --------   -------- 
  Total revenues.................................      42,217     28,465 
                                                     --------   -------- 

Production expenses..............................       7,638      7,739 
Exploration costs................................       4,216     10,523 
General and administrative expenses..............       6,950      4,346 
Interest and other debt expenses.................      18,376     15,137 
Restructuring expense............................       2,000        --- 
Depreciation, depletion and amortization.........      15,293     23,704 
                                                     --------   -------- 
  Total expenses.................................      54,473     61,449 
                                                     --------   -------- 

Net loss before income taxes.....................     (12,256)   (32,984)

Income taxes.....................................         ---        --- 
                                                     --------   -------- 

Net loss.........................................     (12,256)   (32,984)
Less: Preferred stock dividends..................         ---     (4,867)
                                                     --------   -------- 

NET LOSS APPLICABLE TO COMMON STOCK..............    $(12,256)   (37,851)
                                                     --------   -------- 
                                                     --------   -------- 

Loss per share:
  Primary and assuming full dilution:
    Net loss.....................................    $   (.14)      (.94)
                                                     --------   -------- 
                                                     --------   -------- 

Average common and common equivalent 
 shares outstanding:
  Primary and assuming full dilution.............      87,368     40,141 



See Notes to Consolidated Financial Statements.










                                      4 
<PAGE>

                    KELLEY OIL & GAS CORPORATION AND SUBSIDIARIES
                        CONSOLIDATED STATEMENTS OF CASH FLOWS

                                   ($ IN THOUSANDS)

                                     (UNAUDITED)

                                                     THREE MONTHS ENDED  
                                                        SEPTEMBER 30,    
                                                     ------------------- 
                                                       1996       1995   
                                                     --------   -------- 
OPERATING ACTIVITIES:
Net loss..........................................   $(12,256)   (32,984)
Adjustments to reconcile net loss to net cash
 provided by (used in) operating activities:
  Depreciation, depletion and amortization........     15,293     23,704 
  Gain on sale of oil and gas properties..........        (77)      (777)
  Dry hole and impairment costs...................        147      5,576 
  Debt accretion and amortization.................      4,042      2,494
  Restructuring expense...........................      2,000        --- 
Changes in operating assets and liabilities:
  Decrease (increase) in accounts receivable......     (3,115)    11,979 
  Decrease (increase) in prepaid expenses and 
   other current assets...........................     (1,137)        41 
  Decrease (increase) in other non-current assets.     (1,629)     1,971 
  Increase (decrease) in accounts payable and 
   accrued expenses...............................      4,794    (13,365)
                                                     --------   -------- 
Net cash provided by (used in) operating 
 activities.......................................      8,062     (1,361)
                                                     --------   -------- 

INVESTING ACTIVITIES:
Purchases of property and equipment...............    (41,402)   (32,295)
Cash received in consolidation....................        ---      1,596 
Proceeds from sale of oil and gas properties, net.        ---      6,807 
Proceeds from sale of equipment...................        530        403 
                                                     --------   -------- 
Net cash used in investing activities.............    (40,872)   (23,489)
                                                     --------   -------- 
FINANCING ACTIVITIES:
Proceeds from long term borrowings................     29,000     15,100 
Principal payments on long term borrowings........    (44,000)  (100,000)
Proceeds from sale of senior notes................        ---     99,629 
Proceeds from sale of common stock................     48,052     16,319 
Note offering costs...............................        ---     (4,289)
Dividends paid on preferred stock.................        ---     (4,867)
Syndication costs charged to equity...............     (4,063)        (5)
                                                     --------   -------- 
Net cash provided by financing activities.........     28,989     21,887 
                                                     --------   -------- 

Decrease in cash and cash equivalents.............     (3,821)    (2,963)

Cash and cash equivalents, beginning of period....      6,352      9,268 
                                                     --------   -------- 

Cash and cash equivalents, end of period..........   $  2,531      6,305 
                                                     --------   -------- 
                                                     --------   -------- 





See Notes to Consolidated Financial Statements.


                                      5 
<PAGE>

               KELLEY OIL & GAS CORPORATION AND SUBSIDIARIES
          NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (UNAUDITED)


NOTE 1 - BASIS OF PRESENTATION

    The accompanying consolidated financial statements of Kelley Oil & Gas 
Corporation (the "Company" or "KOGC") have been prepared by the Company in 
accordance with generally accepted accounting principles and reflect all 
adjustments (consisting of normal recurring adjustments) necessary for a fair 
statement in all material respects of the results for the interim periods 
presented.  The results of operations for the nine months ended September 30, 
1996 are not necessarily indicative of results to be expected for the full 
year. The accounting policies followed by the Company are set forth in Note 1 
to the financial statements in its Annual Report on Form 10-K for the year 
ended December 31, 1995.

    Certain financial statement items in the interim 1995 period have been 
reclassified to conform to the interim 1996 presentation.  In addition, gas 
marketing revenues and cost of gas sold have been presented on a net basis 
for the periods presented and are reflected in the "Gas marketing revenues, 
net" on the Consolidated Statements of Loss.

NOTE 2 - EQUITY INFUSION

    In February 1996, the Company entered into agreement with Contour 
Production Company L.L.C. ("Contour") for a two stage $75 million equity 
investment (the "Contour Transaction").  In the first stage, the Company 
issued 48 million shares of common stock at $1.00 per share, which 
represented 49.8% of the Company's voting power at the time of the 
transaction. In the second stage Contour is committed to acquire an 
additional 27 million shares at the same price, prior to or within 30 days 
after the satisfaction of certain conditions, but in no event later than 
January 2000.

NOTE 3 - PRO FORMA DATA FOR THE CONSOLIDATION AND THE CONTOUR TRANSACTION 

    THE CONSOLIDATION.  The Company was formed in 1994 to consolidate the 
equity ownership of Kelley Oil & Gas Partners, Ltd. ("Kelley Partners") and 
Kelley Oil Corporation ("Kelley Oil"), the managing general partner of Kelley 
Partners (the "Consolidation").  The Consolidation was recorded as of 
February 7, 1995 for financial accounting purposes.  The following table 
presents unaudited pro forma results of the Company's operations for the nine 
months ended September 30, 1995 as if the Consolidation had occurred on 
January 1, 1995.  This information is presented for illustrative purposes 
only and is not necessarily indicative of the Company's future financial 
performance or results of operations.

                    (IN THOUSANDS, EXCEPT PER SHARE DATA)

                                                               NINE MONTHS  
                                                                 ENDED      
                                                              SEPTEMBER 30, 
                                                                   1995     
                                                              ------------- 
Revenues.....................................................   $ 30,980 
Net loss applicable to common stock..........................    (38,502)
Net loss per share...........................................       (.90)


    The following table reflects the unaudited pro forma results of the 
Company's operations for the nine months ended September 30, 1996 and 1995 as 
if the Contour Transaction had occurred on January 1, 1995.



                                     6 
<PAGE>

                   (IN THOUSANDS, EXCEPT PER SHARE DATA)

                                                NINE MONTHS ENDED   
                                                  SEPTEMBER 30,     
                                              --------------------- 
                                                1996         1995   
                                              --------     -------- 
Net loss applicable to common and common 
 equivalent shares.........................   $(11,939)     (37,342)
Net loss per share.........................       (.13)        (.41)


NOTE 4 - PREFERRED STOCK

    In January 1996, the Company suspended the payment of the quarterly 
dividend on its $2.625 Convertible Exchangeable Preferred Stock (the 
"Preferred Stock") scheduled for February 1, 1996.  Future dividends on the 
Preferred Stock are prohibited under the Company's credit facility.  As of 
September 30, 1996, $3.4 million or $1.97 per share in dividends were in 
arrears, increasing the total liquidation value to $47.1 million.

NOTE 5 - EMPLOYEE STOCK OPTIONS

    In October 1995, the Financial Accounting Standards Board issued 
Statement of Financial Accounting Standards No. 123, "Accounting for 
Stock-Based Compensation" ("FAS 123"), effective for the Company on January 
1, 1996, which established financial accounting and reporting standards for 
stock-based employee compensation plans and for transactions in which an 
entity issues its equity instruments to acquire goods and services from 
nonemployees.  FAS 123 permits, but does not require, a fair-value based 
method of accounting for employee stock option plans, resulting in 
compensation expense being recognized in the results of operations when stock 
options are granted.  The Company has not elected (and does not expect to 
elect) to follow the fair-value based method of accounting for stock option 
plans, and therefore, no compensation expense is (or will be) recognized.  
However, as required by FAS 123, the Company will provide pro forma 
disclosure of net income and earnings per share in the notes to its 
consolidated financial statements for future periods as if the fair-value 
based method of accounting had been applied.  In February 1996 in conjunction 
with the Contour Transaction, the Company granted options to purchase 2.5 
million shares of Common Stock at $1.00 per share.  The Company adopted FAS 
123 in 1996 and will make the required pro forma disclosures in the notes to 
its annual financial statements.

NOTE 6 - RESTRUCTURING EXPENSE

    In the second quarter of 1996, the Company incurred a $2 million 
restructuring charge associated primarily with staff reductions and related 
severance settlements of 12 employees and various reorganization costs, of 
which $.5 million has been paid through September 30, 1996.  These charges 
along with charges incurred in prior periods are included in accounts payable 
and accrued expenses on the balance sheet in the amount of $1.8 million, of 
which $.1 million is associated with restructuring charges incurred in prior 
periods.










                                       7 
<PAGE>

                   MANAGEMENT'S DISCUSSION AND ANALYSIS OF      
               FINANCIAL CONDITION AND RESULTS OF OPERATIONS

GENERAL

    INTRODUCTION.  The Company and its consolidated subsidiaries ("Kelley") 
are engaged in oil and natural gas exploration, development, production and 
acquisition.  Kelley's activities are concentrated primarily in two 
geographic areas:  north Louisiana and south Louisiana. Approximately 86% of 
Kelley's proved reserves are located on 48,620 gross (18,892 net) acres 
within four fields in Webster and Bienville Parishes of north Louisiana, 
where its activities are focused on lower-risk development drilling.  
Substantially all of the balance of Kelley's proved reserves are located in 
south Louisiana, primarily in Terrebonne Parish.

    PROPERTY ACQUISITION.  On September 30, 1996, Kelley closed a $10 million 
acquisition, effective as of July 1, 1996, of undeveloped reserves in four 
fields in the Vacherie Salt Dome area of north Louisiana (Ada, Sailes, Sibley 
and West Bryceland) on properties operated by Kelley.  The acquisition is 
estimated to have increased Kelley's estimated proved reserves by more than 
30 Bcfe (billion cubic feet equivalent).  All capital costs, and all 
operating revenues and expenses incurred since July 1, 1996, with respect to 
the acquired interests are for Kelley's account.  The transaction was booked 
for accounting purposes in August 1996.

    DRILLING OPERATIONS.  In the first nine months of 1996, the Company 
participated in drilling 44 gross (20.3 net) wells, all of which were found 
productive.  These results continued an effective turnaround in field 
operations during 1995, when the Company completed 31 gross (15.2 net) wells 
as producers in 35 attempts.  The improvements in drilling performance have 
been achieved from lower risk operations in north Louisiana.  The Company has 
increased its emphasis on north Louisiana operations, participating in 
drilling 19 gross (9.9 net) successful wells during the third quarter of 
1996.  As of the end of the quarter, KOGC was participating in the drilling 
of 8 wells.

    HEDGING ACTIVITIES.  Kelley periodically uses forward sales contracts, 
natural gas swap agreements and options to reduce exposure to downward price 
fluctuations on its natural gas production.  The swap agreements generally 
provide for Kelley to receive or make counterparty payments on the 
differential between a fixed price and a variable indexed price for natural 
gas.  Gains and losses realized by Kelley from hedging activities are 
included in oil and gas revenues and average sales prices.  Kelley's hedging 
activities also cover the oil and gas production attributable to the interest 
in such production of the public unitholders in Kelley's subsidiary 
partnerships.  Through a combination of natural gas swap agreements, forward 
sales contracts and options, 69.4% of Kelley's natural gas 
production for the third quarter of 1996 was affected by hedging transactions 
at an average Nymex quoted price of $2.17 per MMBtu, before transaction and 
transportation costs on gas delivered under forward sales contracts.  
Approximately 57.6% of Kelley's anticipated natural gas production 
for the balance of 1996 has been hedged by natural gas swap agreements, 
forward sales contracts and options at an average Nymex quoted price of $2.25 
per MMBtu, before transaction and transportation costs.

RESULTS OF OPERATIONS 

    PRO FORMA COMPARISON.  The Company's historical results for periods prior 
to the Consolidation are not comparable with its operating results after 
February 1995.  Accordingly, the following discussion of comparative results 
of operations for the nine months ended September 30, 1995 and 1996 reflects 
pro forma information for the first nine months of 1995, giving effect to the 
Consolidation from the beginning of 1995.  The Company believes this provides 
a more meaningful comparison of results and operational trends than a comparison
based on historical results.  The following table sets forth certain operating 
data regarding net production, average sales prices, production expenses and 
revenues associated with the Company's oil and natural gas operations for the 
periods indicated.

                                      8 
<PAGE>
<TABLE>
                                                 THREE MONTHS ENDED    NINE MONTHS ENDED 
                                                    SEPTEMBER 30,        SEPTEMBER 30,   
                                                 ------------------    ----------------- 
                                                   1995      1996       1995       1996  
                                                  ------    ------     ------     ------ 
                                                                      PRO FORMA
<S>                                               <C>       <C>        <C>        <C>    
NET PRODUCTION DATA:
  Oil and other liquid hydrocarbons (Mbbls)....       74        61        273        181 
  Natural gas (Mmcf) ..........................    4,020     6,317     14,178     16,221 
  Natural gas equivalent (Mmcfe) ..............    4,463     6,682     15,813     17,307 
AVERAGE SALES PRICE PER UNIT: 
  Oil and other liquid hydrocarbons (per Bbl)..   $17.49     21.18      17.53      21.29 
  Natural gas (per Mcf)........................     1.63      2.20       1.69       2.27 
  Natural gas equivalent (per Mcfe)............     1.76      2.27       1.82       2.35 
COST PER MCFE:
  Production expenses..........................   $  .65       .37        .53        .44 
  General and administrative expenses..........      .30       .32        .30        .40 
  Depreciation, depletion and amortization ....     1.56       .86       1.54        .88 
</TABLE>


    THREE MONTHS ENDED SEPTEMBER 30, 1996 AND 1995.  The Company's oil and 
gas revenues of $14.9 million for the third quarter of 1996 increased 91.0% 
compared to $7.8 million in the same period of 1995 primarily as a result of 
increases in both gas production and gas prices.

    For the first three quarters of 1996, revenues from natural gas marketing 
and transportation operations, net of associated costs, increased 100.0% to 
$.4 million from $.2 million for the same period in 1995.

    Production expenses for the third quarter of 1996 decreased 13.8% to $2.5 
million from $2.9 million in the same period last year, primarily reflecting 
lower average costs on north Louisiana production, which is increasing in 
proportion to other higher cost production.  On a unit basis, production 
expenses decreased to $.37 per Mcfe in the third quarter of 1996 compared to 
$.65 per Mcfe in the corresponding quarter last year.

    Exploration costs totaled $1.2 million in the third quarter of 1996 and 
$3.0 million in the corresponding period of 1995, a decrease of 60.0%, 
primarily reflecting a suspension of exploratory drilling pending a 
reevaluation and reorientation of Kelley's exploration activities in south 
Louisiana, including a decrease in geological and geophysical expenses.

    General and administrative expenses of $2.1 million in the third quarter 
of 1996 increased 61.5% compared to $1.3 million in the corresponding period 
last year. The increase was attributable to a decrease in 1996 in the level 
of general and administrative expenses either being capitalized or allocated 
to exploration expense. The amounts so capitalized or allocated were $.5 
million and $.5 million, respectively, less in 1996 than in the corresponding 
period of 1995.  On a unit basis, these expenses were $.32 per Mcfe in the 
third quarter of 1996 compared to $.30 in the corresponding quarter of 1995. 

    Interest and other debt expenses of $6.1 million in the current quarter 
increased slightly from $6.0 million in the same period of 1995.  The 
increase in interest expense resulted primarily from higher interest rates 
under the 13 1/2% Senior Notes than under the $90 million of bank debt 
refinanced with proceeds from the offering of such notes in June 1995 and 
higher average debt levels during the current period.  See "Liquidity and 
Capital Resources." In addition to its 1996 interest expense of $4.8 million, 
the Company recorded noncash charges in the third quarter of 1996 of $.5 
million for amortization of debt issuance costs, $.2 million for accretion of 
note discount, $.5 million for accretion of debt valuation discount and $.1 
million in imputed interest associated with the acquisition of oil and gas 
properties.

    Depreciation, depletion and amortization ("DD&A") decreased 18.6% from 
$7.0 million in the third quarter of 1995 to $5.7 million in the current 
period, primarily as a result of (i) lower depletion rates following 
impairment 

                                     9 
<PAGE>

charges aggregating $150.1 million recognized in the fourth quarter of 1995 
against the carrying value of Kelley's oil and gas properties under the 
Financial Accounting Standards Board's Statement No. 121, Accounting for the 
Impairment of Long-Lived Assets and Long-Lived Assets to be Disposed of ("FAS 
121") and (ii) an increase in quantities of proved developed reserves.  On a 
unit basis, DD&A for oil and gas activities decreased from $1.56 per Mcfe in 
the third quarter 1995 to $.86 per Mcfe in the current period.

    Kelley recognized net losses of $1.9 million in the third quarter of 1996 
and $11.3 million in the same period last year.  The decline in the net 
losses was primarily attributable to higher gas production and oil and gas 
prices and lower DD&A and exploration costs, partially offset by slightly 
higher interest and general and administrative expenses.

    NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1995.  The Company's oil and gas 
revenues of $40.2 million for the first nine months of 1996 increased 39.6% 
compared to $28.8 million on a pro forma basis in the same period of 1995, 
primarily as a result of increased gas prices and production volumes.

    For the first nine months of 1996, revenues from natural gas marketing 
and transportation operations, net of associated costs, increased 57.1% to 
$1.1 million from $.7 million for the same period in 1995.

    Production expenses for the first nine months of 1996 decreased 9.5% to 
$7.6 million from $8.4 million in the same period last year on a pro forma 
basis, reflecting lower average costs on production from north Louisiana, 
which is increasing in proportion to other higher cost production.  On a unit 
basis, production expenses decreased from $.53 per Mcfe in the first nine 
months of 1995 to $.44 per Mcfe in the current period.

    Exploration costs totaled $4.2 million in the first nine months of 1996 
and $10.9 million on a pro forma basis in the corresponding period of 1995, a 
decrease of 61.5%, primarily reflecting a suspension of exploratory drilling 
by the new senior management team pending a reevaluation and reorientation of 
Kelley's exploration activities.  The decrease in these expenses also 
reflects lower geological and geophysical expenses and unproved leasehold 
impairment provisions.

    General and administrative expenses of $7.0 million in the first nine 
months of 1996 increased 48.9% compared to $4.7 million on a pro forma basis 
in the corresponding period last year.  The increase was primarily 
attributable to bonuses and interim salaries (aggregating $1.0 million) paid 
in connection with the Contour transaction to certain members of the 
Company's prior management team and a decrease in 1996 in the level of 
general and administrative expenses either being capitalized or allocated to 
exploration expense.  The amounts so capitalized or allocated were $1.4 
million and $1.6 million, respectively, less in 1996 than in the 
corresponding period of 1995. On a unit basis, these expenses increased from 
$.30 per Mcfe in the first nine months of 1995 to $.40 per Mcfe in the 
current period.

    Interest and other debt expenses of $18.4 million in the current period 
increased 15.7% from $15.9 million on a pro forma basis in the first nine 
months of 1995.  The increase in interest expense resulted primarily from 
higher interest rates under the 13 1/2% Senior Notes than under the $90 
million of bank debt refinanced with proceeds from the offering of such notes 
in June 1995 and higher average debt levels during the current period.  See 
"Liquidity and Capital Resources" below.  Included in its 1996 interest 
expense of $14.5 million, the Company recorded noncash charges in the first 
three quarters of 1996 of $1.7 million for amortization of debt issuance 
costs, $.7 million for accretion of note discount, $1.5 million for accretion 
of debt valuation discount and $.1 million in imputed interest associated 
with the acquisition of oil and gas properties.

    DD&A decreased 37.0% from $24.3 million on a pro forma basis in the first 
nine months of 1995 to $15.3 million in the current period, primarily as a 
result of (i) lower depletion rates following impairment charges aggregating 
$150.1 million recognized in the fourth quarter of 1995 against the carrying 
value of Kelley's oil and gas properties under FAS 121 and (ii) an increase 
in quantities of proved developed reserves.  On a unit basis, DD&A for oil 
and gas activities decreased from $1.54 per Mcfe in the first nine months of 
1995 to $.88 per Mcfe in the current period.

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<PAGE>

    In the second quarter of 1996, the Company incurred a $2 million 
restructuring charge associated primarily with staff reductions and related 
severance settlements with certain employees and various reorganization costs.

    Kelley recognized net losses of $12.3 million in the first nine months of 
1996 and $33.2 million on a pro forma basis in the same period last year.  
The decline in the net losses was primarily attributable to higher oil and 
gas prices, increased production and lower DD&A and exploration costs, 
partially offset by higher interest and general and administrative expenses.

    The results of operations for the quarter and nine months ended September 
30, 1996 are not necessarily indicative of results to be expected for the 
full year.

LIQUIDITY AND CAPITAL RESOURCES

    LIQUIDITY.  Net cash provided from operations during the first nine 
months of 1996 aggregated $8.1 million.  The Company's cash position was 
increased during the period by $48.0 million of proceeds from the issuance of 
48.0 million shares of Common Stock in the Contour transaction.  These 
increases were offset by $4.1 million of transaction costs.  Funds used in 
investing and financing activities were comprised of property and equipment 
expenditures of $40.9 million and net principal retirements of $15.0 million 
on bank borrowings.  As a result of these activities, cash and cash 
equivalents decreased from $6.4 million at December 31, 1995 to $2.5 million 
as of September 30, 1996.
 
    CAPITAL RESOURCES.  On September 24, 1996, the Company commensed a debt 
refinancing by initiating a cash tender offer for its outstanding $100 
million issue of 13 1/2% Senior Notes due 1999 and a related consent 
solicitation for amendments to the Indenture providing for those notes.  The 
Company received tenders aggregating approximately 99.6% of the outstanding 
principal amount of those notes along with the requisite consents allowing it 
to amend the Indenture.  To finance the costs of the tender offer and consent 
solicitation, the Company sold $125 million in aggregate principal amount of 
its 10 3/8% Senior Subordinated Notes due 2006 ("new notes"), at a price of 
99 3/4% of the principal amount (yielding 10.41%).  As part of the 
refinancing, the Company is obligated to use its best efforts to consummate 
an exchange offer pursuant to an effective registration statement or to cause 
resales of the new notes to be registered under the Securities Act of 1933, 
as amended.

    In connection with the repurchase of 13 1/2% Senior Notes and the payment 
of consent fees pursuant to the tender offer and consent solicitation, the 
Company expects to incur an extraordinary loss in the fourth quarter of 1996 
of approximately $17.1 million, representing the excess of the aggregate 
purchase price of the new notes (including consent fees) over their carrying 
value as of the date of the consummation of the refinancing.

    The 8 1/2% Convertible Subordinated Debentures due 2000 and 7 7/8% 
Convertible Subordinated Notes due 1999 remain outstanding in the aggregate 
principal amounts of $26.9 million and $34.4 million, respectively. These 
subordinated debts are convertible into the Company's Common Stock or a 
combination of Common and Preferred Stock.

    At September 30, 1996, the Company has $161 million face amount of public 
debt outstanding, requiring $18.5 million in annual cash interest payments. 
The outstanding preferred stock is cumulative, requiring dividends to 
accumulate at the rate of $4.6 million annually, and carries liquidation 
preferences over the Common Stock totaling $47.1 million at September 30, 
1996, including such dividend arrearages.  Dividends are prohibited under the 
existing credit facility. A new credit facility expected to be executed in 
the fourth quarter will permit the Company to make a one-time $4.6 million 
payment of such dividend arrearages.  The Board of Directors of the Company, 
however, has not determined whether to make any payments with respect to 
dividend arrearages at this time, and any such payment must not be prohibited 
under applicable corporate law.

                                     11 
<PAGE>

    In February 1996, the Company repaid outstanding bank borrowings of $30.0 
million under its prior credit facility with proceeds from the Contour 
Transaction.  In connection with the Contour Transaction, the Company entered 
into the existing credit facility.  At September 30, 1996, $7.0 million was 
outstanding under the existing credit facility.

    Interest on borrowings under the existing credit facility is payable at a 
rate equal to (i) the higher of 1/2% above the agent bank's prime rate or 1% 
above the federal funds rate in effect from time to time or (ii) at the 
Company's election, 1 1/2% above a quoted Libor rate, together with a 
quarterly commitment fee equal to 3/8% per annum of the unused portion of the 
available borrowing base.  The agreement for the existing credit facility 
requires the payment of interest only until March 15, 1999, when all 
borrowings will be repayable, subject to mandatory prepayment with net 
proceeds from asset sales in excess of related borrowing base reductions.

    Borrowings under the existing credit facility are secured by mortgages on 
substantially all of the oil and gas assets of Kelley, together with a 
security interest in production proceeds from oil and gas sales.  The 
agreement covering the existing credit facility prohibits the payment of 
dividends, requires the consent of the lenders for third party borrowings or 
extraordinary transactions and provides for restrictive financial covenants, 
including a maximum ratio of total funded debt to earnings before interest, 
taxes and noncash charges and a minimum interest coverage ratio.

    A new credit facility is anticipated to become effective during December 
1996.  However, while the Company has received a satisfactory term sheet 
regarding the new credit facility from its agent bank, there can be no 
assurance that definitive agreements will be executed.  The Company expects 
that the new credit facility will be a revolving credit arrangement with a 
four-year term in an amount tied to a borrowing base which will increase from 
$35.0 million under its existing credit facility to approximately $60.0 
million. The Company expects that the new credit facility will have an 
improved fee and interest rate structure compared to its existing credit 
facility.  Otherwise, it will carry forward the material terms of the 
existing credit facility, including guarantees by the significant Kelley 
entities and mortgages of substantially all of Kelley's oil and gas 
properties and the proceeds therefrom.

    Pursuant to the second stage of Contour's equity investment in the 
Company, Contour has committed to provide an additional $27.0 million in 
equity financing upon satisfaction of certain conditions, including the 
absence of any Company debt repurchase or redemption obligations, but in no 
event later than January 2000.  While exercise of such commitment cannot be 
assured prior to January 2000, any proceeds received pursuant to such 
commitment will reduce Kelley's dependence on outside financing to support 
subsequent drilling and acquisition activities.

    During 1996, Kelley's capital expenditures continue to be focused on 
development drilling in north Louisiana, where Kelley currently expects to 
participate in drilling a total of approximately 70 gross wells, subject to 
regulatory and third party consents.  In addition, Kelley plans to balance 
its drilling strategy by pursuing acquisition opportunities to expand its 
reserve base and operating areas, while also exploring various options for 
developing its higher potential exploratory prospects in south Louisiana.  
Kelley has an active program for ongoing evaluation of opportunities meeting 
its acquisition criteria.  There can be no assurance that attractive 
acquisition candidates will be available to the Company on terms it deems 
reasonable or that any completed acquisition will ultimately prove to be a 
successful undertaking by the Company.

    The Company anticipates that, except for any significant property 
acquisitions, business combinations or development required by exploratory 
success (and subject to price stability), cash flow from operations, and 
borrowings under the new credit facility will be adequate to fund Kelley's 
debt service obligations, expected capital expenditure requirements and 
working capital needs for the foreseeable future.  To fully realize Kelley's 
objectives for property development and acquisitions, however, the Company 
may be required to pursue additional financing alternatives.

    CAPITAL COMMITMENTS.  In February 1994, the 1994 DDP completed a public 
offering of 20,864,414 units at $3.00 per unit on a preemptive basis to 
Unitholders in Kelley Partners.  Kelley Oil subscribed for 18,821,655 units 
in addition to its 3.94% general partner interest in the 1994 DDP.  An 
additional 342,234 units were subscribed by 

                                     12 
<PAGE>

Kelley Oil following investor defaults, increasing its ownership interest to 
92.15% and its total investment commitment to $60.1 million.  As of September 
30, 1996, Kelley Oil's remaining subscription commitment aggregated $5.8 
million, on which Kelley Oil is paying interest at a market rate.

    INFLATION AND CHANGING PRICES.  Oil and natural gas prices, as with most 
commodities, are highly volatile, have fluctuated during recent years and 
generally have not followed the same pattern as inflation.


                        PART II.  OTHER INFORMATION


ITEM 6.  EXHIBITS 

         (1)  Indenture dated October 15, 1996 by and between the Company and 
    certain guarantors named therein and the United States Trust Company of 
    New York.

         (2)  Registration Agreement dated October 25, 1996 by and between the
    Company and Morgan Stanley Inc.

         (3)  First supplement to the Indenture dated October 28, 1996 by and
    between the Company and certain guarantors named therein and The Chase
    Manhattan Bank.

         (4)  Note governing 10-3/8% subordinated debentures.
















                                     13 
<PAGE>

                                 SIGNATURES

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

                                       KELLEY OIL & GAS CORPORATION


Date: November 14, 1996                By:       /s/  WILLIAM C. RANKIN      
                                          -------------------------------------
                                                    William C. Rankin        
                                                Senior Vice President and    
                                                 Chief Financial Officer     
                                                (Duly Authorized Officer)    
                                              (Principal Accounting Officer) 

















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