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                                  UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549
                                ----------------
                                    FORM 10-K
           [ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
                         SECURITIES EXCHANGE ACT OF 1934
                   For the fiscal year ended December 31, 1996

     [ ]  TRANSITION  REPORT  PURSUANT TO SECTION 13 OR 15(d) OF THE  SECURITIES
EXCHANGE ACT OF 1934
                         Commission File Number 0-26662
                                  PANACO, Inc.
             (Exact name of registrant as specified in its charter)

                   Delaware                                  43 - 1593374

 (State or other jurisdiction of incorporation  (I.R.S. Employer Identification
              or organization)                                 Number)


 1050 West Blue Ridge Boulevard, PANACO Building,
                   Kansas City, MO                                 64145-1216

    (Address of principal executive offices)                       (Zip Code)

       Registrant telephone number, including area code: (816) 942 - 6300

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

           Securities registered pursuant to Section 12(g) of the Act:
                          Common Stock, $0.01 par value
                                (Title of Class)

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

     Indicate by check mark if disclosure of delinquent  filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant knowledge,  in definitive proxy or information statements
incorporated by reference in Part III of this form 10-K or any amendment to this
Form 10-K. [ ]

The  aggregate  market value if the voting stock held by  non-affiliates  of the
registrant was approximately $73,589,180 as of March 18, 1997.

20,382,087  shares of the registrant  Common Stock were  outstanding as of March
18, 1997.
                       Documents Incorporated by Reference

                                      None


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<PAGE>

GLOSSARY OF SELECTED OIL AND GAS TERMS

     The following are  abbreviations  and definitions of certain terms commonly
used in the oil and gas industry.

     "3-D seismic" means seismic data that are acquired and processed to yield a
three-dimensional picture of the subsurface.

     "Bank Facility" means the Company's  reducing  revolving bank facility with
First Union National Bank of North Carolina and Banque Paribas.

     "Bbl" means a barrel of oil and condensate or natural gas liquids, being 42
U.S. gallons.

     "Bcf" means billion cubic feet of natural gas.

     "Bcfe" means billion cubic feet of natural gas equivalents.

     "Block" means one offshore unit of lease acreage, generally 5,000 acres.

     "Btu" or  "British  Thermal  Unit" means the  quantity of heat  required to
raise the temperature of one pound of water by one degree Fahrenheit.

     "Condensate" means a hydrocarbon  mixture that becomes liquid and separates
from natural gas when the gas is produced and is similar to crude oil.

     "Developed  acreage"  means oil and gas acreage spaced for or assignable to
productive wells.

     "Development well" means a well drilled within the proved area of an oil or
gas reservoir to the depth of a stratigraphic horizon known to be productive.

     "Dry hole" means a well found to be incapable  of  producing  either oil or
gas in sufficient quantities to justify completion as an oil or gas well.

     "Equivalent Bbls" means a measure of gas volumes representing the estimated
relative  energy  content of natural gas to oil,  being 6 Mcf of natural gas per
Bbl of oil.

     "Estimated  future net revenues"  means revenues from production of oil and
gas, net of all production  -related taxes, lease operating expenses and capital
costs.

     "Exploratory  well" means a well  drilled to find and produce oil or gas in
an unproved  area,  to find a new  reservoir in a field  previously  found to be
productive of oil and gas in another reservoir, or to extend a known reservoir.

     "Farmout"  means an  agreement  whereby  the  lease  owner  agrees to allow
another to drill a well or wells and thereby earn the right to an  assignment of
a portion or all of the lease, with the original lease owner typically retaining
an overriding royalty interest and other rights to participate in the lease.

     "Gross,"  when used  with  respect  to acres or wells,  refers to the total
acres or wells in which the Company

<PAGE>




has a working interest.

     "Group 3-D seismic" means seismic procured by a group of parties or shot on
a speculative basis by a seismic company.

     "MBbls" means thousands of barrels of oil.

     "MBO" means one thousand barrels of oil.

     "Mbtu" means one thousand Btus.

     "Mcf" means thousand cubic feet of natural gas.

     "Mcfe" means thousand cubic feet of natural gas equivalents.

     "MMBbls" means millions of barrels of oil.

     "MMBtu" means one million British Thermal Units.

     "MMcf" means million cubic feet of natural gas.

     "MMcfe" means million cubic feet of natural gas equivalents.

     "Natural  gas  equivalents"  means a volume,  expressed in Mcf's of natural
gas,  that  includes  not only  natural  gas but also  liquids  converted  to an
equivalent quantity of natural gas on an energy equivalent basis. Equivalent gas
reserves are based on a conversion factor of 6 Mcf of gas per barrel of liquids.

     "Net," when used with respect to acres,  wells or reserves  refers to gross
acres,  wells or reserves  multiplied,  in each case, by the percentage  working
interest owned by the Company.

     "Net  pay"  means  the  thickness  of a  productive  reservoir  capable  of
containing hydrocarbons.

     "Net  production"  means  production  that is  owned  by the  Company  less
royalties and production due others.

     "NGLs" means the natural gas liquids such as ethane,  propane,  iso-butane,
normal butane and natural gasoline that have been extracted from natural gas.

     "Oil" means crude oil or condensate.

     "Operator" means the individual or company responsible for the exploration,
development and production of an oil or gas well or lease.

     "Overriding royalty interest" or "ORRI" means an interest in an oil and gas
property  entitling the owner to a share of oil and gas production free of costs
of exploration and production.

     "Payout" means that point in time when a party has recovered  monies out of
the production from a well equal to the cost of drilling and completing the well
and the cost of operating the well through that date.


<PAGE>





     "Present  value of  future  net  revenues"  or  "Present  value  of  proved
reserves"  means the present value of estimated  future revenues to be generated
from the production of proved reserves  calculated in accordance with Securities
and  Exchange  Commission  guidelines,  net of estimated  production  and future
development  costs,  using prices and costs as of the date of estimation without
future  escalation,  except as otherwise  provided by contract,  without  giving
effect to  non-property  related  expenses  such as general  and  administrative
expenses,  debt service,  future income tax expense and depreciation,  depletion
and amortization, and discounted using an annual discount rate of 10%.

     "Production  costs" means costs  necessary for the  production of a well or
field and sale of oil and gas, including production and ad valorem taxes.

     "Productive  well"  means a well  that is  producing  oil or gas or that is
capable of production.

     "Proprietary 3-D seismic" means seismic privately procured and owned by the
procurer.

     "Proved  developed  nonproducing  reserves" means those reserves that exist
behind the casing if existing  wells or at minor depths below the present bottom
of such wells and that are  expected to be produced  through  these wells in the
predictable  future,  when the cost of  making  such oil and gas  available  for
production should be relatively small compared to the cost of a new well.

     "Proved  developed  producing  reserves"  means  those  reserves  that  are
expected  to be  produced  from  existing  completion  intervals  now  open  for
production in existing wells.

     "Proved  developed  reserves"  means  reserves  that can be  expected to be
recovered through existing wells with existing  equipment and operating methods.
Additional oil and gas expected to be obtained  through the application of fluid
injection or other improved  recovery  techniques for  supplementing the natural
forces and mechanisms of primary recovery will be included as "proved  developed
reserves"  only after  testing by a pilot  project or after the  operation of an
installed  program has confirmed  through  production  response  that  increased
recovery will be achieved.

     "Proved reserves" means the estimated  quantities of crude oil, natural gas
and natural gas liquids that geological and engineering  data  demonstrate  with
reasonable  certainty to be  recoverable  in future years from known  reservoirs
under existing economic and operating  conditions (i.e.,  prices and costs as of
the date the  estimate  is made).  Prices  include  consideration  of changes in
existing prices provided only by contractual arrangements, but not on escalation
based upon future conditions.

     i.   Reservoirs  are  considered   proved  if  economic   producibility  is
          supported by either actual  production or conclusive  formation  test.
          The area of a reservoir  considered  proved  includes (A) that portion
          delineated  by  drilling  and  defined  by  gas-oil  and/or  oil-water
          contacts,  if any; and (B) the immediately  adjoining portions not yet
          drilled, but which can be reasonably judged as economically productive
          on the basis of available  geological  and  engineering  data.  In the
          absence of information on fluid contacts,  the lowest known structural
          occurrence  of  hydrocarbons  controls  the lower  proved limit of the
          reservoir.

     ii.  Reserves  that can be produced  economically  through  application  of
          improved recovery techniques (such as fluid injection) are included in
          the  "proved"  classification  when  successful  testing  by  a  pilot
          project,  or the operation of an installed  program in the  reservoir,
          provides support for the engineering  analysis on which the project or
          program was based.


<PAGE>




         iii. Estimates of proved reserves do not include the following: (A) oil
         that may become  available  from  known  reservoirs  but is  classified
         separately as "indicated  additional  reserve",  (B) crude oil, natural
         gas and  natural  gas  liquids,  the  recovery  of which is  subject to
         reasonable  doubt  because  of  uncertainty  as to  geology,  reservoir
         characteristics  or economic  factors;  (C) crude oil,  natural gas and
         natural  gas liquids  that may occur in  undrilled  prospects;  and (D)
         crude oil,  natural gas and natural gas liquids  that may be  recovered
         from oil shales, coal, gilsonite and other such sources.

     "Proved  undeveloped  reserves"  means  reserves  that are  expected  to be
recovered  from new wells on undrilled  acreage,  or from existing wells where a
relatively major expenditure is required for recompletion. Reserves on undrilled
acreage is limited to those drilling units offsetting  productive units that are
reasonably  certain  of  production  when  drilled.  Proved  reserves  for other
undrilled units can be claimed only where it can be demonstrated  with certainty
that there is continuity of production from the existing  productive  formation.
Under no circumstances are estimates of proved undeveloped reserves attributable
to any acreage for which an  application  of fluid  injection or other  improved
recovery  technique is  contemplated,  unless such  techniques  have been proved
effective by actual tests in the area and in the same reservoir.

     "Recompletion"  means the completion for production of an existing wellbore
in another formation from that in which the well has previously been completed.

     "Reserves" means proved reserves.

     "Royalty" means an interest in an oil and gas lease that gives the owner of
the  interest the right to receive a portion of the  production  from the leased
acreage (or of the proceeds of the sale thereof), but generally does not require
the owner to pay any portion of the costs of drilling or operating  the wells on
the lease  acreage.  Royalties may be either  landowner's  royalties,  which are
reserved by the owner of the leased acreage at the time the lease is granted, or
overriding  royalties,  which are usually reserved by the owner of the leasehold
in connection with a transfer to a subsequent owner.

     "SEC 10 Value" means the present  value of estimated  future net  revenues,
before taxes, of the specified reserves or property,  determined in all material
respects in  accordance  with the rules and  regulations  of the SEC  (generally
using prices and costs in effect at a fixed date and a 10% discount rate).

     "Shut-in"  means to close down a producing  well or field  temporarily  for
repair,  cleaning  out,  building  up  reservoir  pressure,  lack of a market or
similar conditions.

     "Undeveloped acreage" means the oil and gas acreage on which wells have not
been  drilled  or to which no Proved  Reserves  other  than  Proved  Undeveloped
Reserves have been attributed by independent petroleum engineers.

     "Unproved  properties"  means  the oil and gas  acreage  to which no Proved
Reserves have been attributed by independent petroleum engineers.

     "Unproved   reserves"   means  those  reserves  based  on  geologic  and/or
engineering  data  similar to that used in  estimates  of proved  reserves;  but
technical,  contractual,  economic,  or regulatory  uncertainties  preclude such
reserves  being  classified  as proved.  They may be estimated  assuming  future
economic conditions different from those prevailing at the time of the estimate.
Unproved  reserves may be divided into two  subclassifications:  "probable"  and
"possible."



<PAGE>




     "Working interest" means an interest in an oil and gas lease that gives the
owner of the  interest  the  right to drill for and  produce  oil and gas on the
leased  acreage and  requires  the owner to pay a share of the costs of drilling
and production  operations.  The share of production to which a working interest
owner is  entitled  will  always be  smaller  than the  share of costs  that the
working  interest owner is required to bear,  with the balance of the production
accruing to the owners of  royalties.  For example,  the owner of a 100% working
interest in a lease  burdened  only by a  landowner's  royalty of 12.5% would be
required to pay 100% of the costs of a well but would be entitled to retain only
87.5% of the production.

                                                      Part I

Item 1.  Business.

General

         PANACO,  Inc.  (the  "Company")  is a  Delaware  corporation  that  was
organized in October 1991.  Effective  September 1, 1992, Pan Petroleum MLP, the
Company's  predecessor,  was merged into the Company.  The Company is in the oil
and  gas  business,  acquiring,  drilling  and  operating  offshore  oil and gas
properties in the Gulf of Mexico.

         Between  1984  and  1988 a  total  of  114  limited  partnerships  were
consolidated  into the Company's  predecessor.  With the acquisition of the West
Delta Properties in 1991, the Company shifted its emphasis offshore.  Additional
offshore  properties  were acquired in 1994,  1995 and 1996. In recent years the
Company  has  been  disposing  of  numerous  onshore  properties.   The  onshore
properties  presently  generate  less than 4% of the Company's  revenues.  These
onshore  property  sales  are  part  of  management's  plan  to  concentrate  on
properties  in the  Gulf of  Mexico,  which  the  Company  considers  to be more
profitable.

Recent Common Share Offering

         On March 7, 1997, the Company completed an offering of 8,403,305 Common
Shares  at  $4.00  per  share,  $3.728  net  of  the  underwriter's  commission,
consisting of 6,000,000  shares sold by the Company and 2,403,305 shares sold by
shareholders. The Company's proceeds of $22,000,000 (net of $350,000 in offering
expenses) from the offering were used to repay  $13,500,000 of its  Subordinated
Notes,  specifically the 1993  Subordinated  Notes and the 1996 Tranche B Bridge
Loan  Subordinated  Notes.  The remaining  proceeds were temporarily paid on the
Company's   reducing  revolving  loan  and  will  ultimately  be  used  for  the
development of its properties and future acquisitions.

Business Strategy

         The  Company's  objective  is  to  enhance  shareholder  value  through
sustained growth in its reserve base, production levels and resulting cash flows
from operations.  In pursuing this objective, the Company maintains a geographic
focus in the Gulf of  Mexico  and  identifies  properties  that may be  acquired
preferably  through  negotiated  transactions  or,  if  necessary,   sealed  bid
transactions.  The  properties  the  Company  seeks  to  acquire  generally  are
geologically complex, with multiple reservoirs,  have an established  production
history and are candidates for  exploitation.  Geologically  complex fields with
multiple  reservoirs  are  fields in which  there  are  multiple  reservoirs  at
different depths and wells which penetrate more than one reservoir that have the
potential for  recompletion  in more than one  reservoir.  Once  properties  are
acquired,  the Company  focuses on  reducing  operating  costs and  implementing
production  enhancements  through the  application of  technologically  advanced
production and recompletion techniques. Over the past five years,


<PAGE>




the Company has taken  advantage  of  opportunities  to acquire  interests  in a
number of producing properties which fit these criteria.

Business Activities

         The Company  owns  interests in 123 offshore  wells,  located  offshore
Louisiana  and Texas.  It also owns  interests  in 308 onshore  wells in Kansas,
Louisiana,  Oklahoma and Texas, but these interests generate less than 4% of its
revenues.  As of December 31, 1996,  these  properties,  including  the recently
acquired  Amoco  Properties  and  excluding  the Bayou  Sorrel  Field  which was
recently sold,  contained  estimated Proved Reserves of approximately  2,239,000
Bbls of oil and condensate and  approximately  41,446,000 Mcf of gas and the SEC
10 Value of such Proved Reserves was approximately  $113,467,000.  Approximately
20% of such Proved  Reserves  are  attributable  to oil and 80% to natural  gas,
based on six Mcf of gas being equivalent to one Bbl of oil. Information included
herein with  respect to Proved  Reserves  and the SEC 10 Value  thereof has been
prepared by the Company. See "Properties - Significant Proved Properties."

      The  Company   expects  to  hold  its  producing   properties   until  the
economically  recoverable reserves  attributable thereto are depleted,  although
the Company may sell any of its properties if management believes that such sale
would be in the Company's best interest.

Recent Explosion and Fire

      The Company  experienced  an explosion  and fire on April 24, 1996 at Tank
Battery #3 in West Delta  resulting in the fields being shut-in from April 24th,
until being  returned to production  on October 7, 1996.  The loss of 67 days of
production in the second  quarter and the entire third quarter  resulted in lost
revenues  of  approximately  $6,000,000.  During the second  quarter the Company
expensed $500,000 for its loss as a result of this explosion.  No further losses
have been recognized or are anticipated.  This $500,000 amount included $225,000
in deductibles under the Company's insurance.

      The Company has spent  $8,500,000  on Tank  Battery #3,  inclusive  of the
$500,000 expensed during second quarter and has received  reimbursement from its
insurance  company  of  $3,900,000,   after  satisfaction  of  the  $225,000  in
deductibles.  The excess of expenditures  over insurance  reimbursement  will be
capitalized. No additional expenditures have been made or are anticipated.

Well Operations

        The  Company  operates  52  offshore  wells and owns all of the  working
interests  in  substantially  all of those  wells.  The  Company's  71 remaining
offshore  wells  are  operated  by  third  party  operators,   including  Unocal
Corporation,  Phillips Petroleum Company, Texaco, Anadarko Petroleum Corporation
and Louisiana Land and Exploration Company. Operations are conducted pursuant to
joint operating  agreements that were in effect at the time the Company acquired
its interest in these  properties.  The Company  considers these joint operating
agreements to be on terms customary within the industry.  The operator of an oil
and gas property supervises  production,  maintains production records,  employs
field  personnel,  and performs other  functions  required in the production and
administration of such property.  The compensation paid to the operator for such
services customarily varies from property to property,  depending on the nature,
depth,  and  location of the  property  being  operated.  Where  properties  are
operated by the  Company,  it generally  owns all of the working  interests or a
majority of the working interest in the properties.  Therefore,  its revenue and
expense  associated  with  portions of  properties it operates for other working
interest holders is not material.



<PAGE>




Acquisition, Development, and Other Activities

        The Company  utilizes  its  capital  budget for (a) the  acquisition  of
interests  in other  producing  properties,  (b)  recompletions  of its existing
wells, and (c) the drilling of development and exploratory wells.

      In recent years,  major oil companies have been selling  certain  offshore
properties to independent  oil companies  because they feel these  properties do
not have the remaining reserve potential needed by a major oil company.  Several
independent  oil companies have acquired these offshore  properties and achieved
significant success in further  exploitation of these properties.  Even though a
property  does not meet the  criteria  for  further  development  by a major oil
company,  that does not mean it is lacking further exploitation  potential.  The
majors  are  simply  moving  further  offshore  into  deeper  water and to other
countries  where  they can find and  produce  the  super-fields  that fit  their
criteria.  Present day technology permits drilling and completing wells in water
as deep as 10,000 feet.

      On October 8, 1996, the Company closed on its  acquisition of interests in
six  offshore  fields  from  Amoco  Production   Company  for  $40,400,000.   In
consideration  for such  interests,  the Company issued Amoco  2,000,000  Common
Shares and paid the sum of $32,000,000 in cash. The interests  acquired  include
(1) a 33.3% working interest in the East Breaks 160 Field (2 Blocks) and a 33.3%
interest in the High Island 302 Field, both operated by Unocal Corporation;  (2)
a 50% interest in the High Island 309 Field (2 Blocks) and a 12% interest in the
High  Island  330  Field  (3  Blocks),  both  operated  by  Costal  Oil  and Gas
Corporation;  (3) a 12%  interest  in the High  Island  474  Field  (4  Blocks),
operated by Phillips  Petroleum  Company;  and (4) a 12.5%  interest in the West
Cameron 180 Field (1 Block),  operated  by Texaco.  Current  production  for the
interests  acquired  is 623  barrels  of oil per day and  10.1  MMcf  per day of
natural gas. See "Properties - Amoco Acquisition."

      Depending  on the sales  prices of oil and gas and its  ability to finance
such activities,  the Company may also drill  exploratory wells on properties it
acquires.  The Company  will  evaluate  potential  prospects  to  determine  the
economic benefit to the Company and may drill  exploratory  wells if the benefit
to the Company is reasonable when measured against the risks involved.

      The number and type of wells  drilled by the Company will vary from period
to period  depending on the amount of the capital budget available for drilling,
the cost of each well,  the  Company's  commitment to  participate  in the wells
drilled on  properties  operated by third  parties,  the size of the  fractional
working  interest  acquired  by the  Company  in each  well  and  the  estimated
recoverable reserves attributable to each well.

      Acquisitions of properties may include  acquisitions of working interests,
royalty interests,  net profits interests,  production payments, and other forms
of direct or indirect ownership interest or interests in oil and gas production.
The Company may also acquire general or limited partner  interests in general or
limited  partnerships  and interests in joint ventures,  corporations,  or other
entities that own, manage, or are formed to acquire, explore for, or develop oil
and gas properties or conduct other activities  associated with the ownership of
oil and gas  production.  The Company  may also  acquire or  participate  in the
expansion of natural gas  processing  plants and natural gas  transportation  or
gathering systems.

      The success of the Company's acquisitions will depend on (a) the Company's
ability to  establish  accurately  the volumes of  reserves  and rates of future
production from producing  properties  being  considered for acquisition and the
future net revenues  attributable to reserves from such properties,  taking into
account  future  operating  costs,  market  prices  for oil and  gas,  rates  of
inflation,  risks  attendant to production of oil and gas, and a suitable return
on investment,  and (b) the Company's ability to purchase properties and produce
and  market  oil and gas  therefrom  at  prices  and  rates  that over time will
generate cash flows resulting in an attractive return on the initial


<PAGE>




investment.  The Company's  cash flow and return on investment  will vary to the
extent that the  Company's  production  from an acquired  property is greater or
less than that estimated at the time of acquisition because of, for example, the
results of drilling or improved recovery  programs,  the demand for oil and gas,
or changes in the prices of oil and gas from the prices  used to  calculate  the
purchase  price  for  producing  properties.   The  Company  will  evaluate  any
economically  feasible  project that would enhance the value of its  properties.
Such a project may involve both the  acquisition  of developed  and  undeveloped
properties and the drilling of infield wells.

      The  Company  expects  that its  primary  activities  will  continue to be
concentrated  offshore in the Gulf of Mexico. The Company can, if it so chooses,
invest  in any  geographic  area.  Drilling  on  and  production  from  offshore
properties often involves higher costs than does drilling on and production from
onshore properties, but the production achieved on successful wells is generally
much greater.

      The Company may also seek to acquire oil and gas  companies  through stock
purchases,  asset  purchases,  and purchases of interests in  partnerships.  The
Company intends to pay for such possible  acquisitions  with its own securities,
cash or any other property, or any combination of the foregoing.  The consent of
the  Company's  lenders is  required  for any such  purchases.  See  "Funding of
Business Activities - Borrowings and Obligations".

Use of 3-D Seismic Technology

        The  use  of  3-D  seismic  and  computer-aided   exploration   ("CAEX")
technology is an integral component of the Company's acquisition,  exploitation,
drilling  and  business  strategy.  In  general,  3-D  seismic is the process of
obtaining  seismic data along multiple lines and grids within a large geographic
area. 3-D seismic differs from 2-D seismic in that it provides  information with
respect to multiple horizontal and vertical points within a geological formation
instead of  information  on a single  vertical line or multiple  vertical  lines
within the formation. By expanding the amount of data obtained with respect to a
geological formation, the user is better able to correlate the data and obtain a
greater  understanding  and image of the  formation.  While it is  impossible to
predict  with  certainty  the  specific  configuration  or  composition  of  any
underground  geological  formation,  3-D seismic  provides a mechanism  by which
clearer and more accurate projected images of complex geological  formations can
be obtained  prior to drilling for  hydrocarbons  therein.  In  particular,  3-D
seismic  delineates  smaller  reservoirs  with  greater  precision  than  can be
obtained with 2-D seismic.

      CAEX technology is the process of  accumulating  and analyzing the various
seismic, production and other data obtained relating to a potential prospect. In
general,  the process of prospect  evaluation  through CAEX technology  requires
inputting  various 2-D and 3-D seismic data obtained with respect to a prospect,
correlating  that data with  historical  well control and  production  data from
similar  properties and analyzing the available data through  computer  programs
and modeling techniques in order to project the likely geological composition of
a prospect and potential  locations of  hydrocarbons.  This process  relies on a
comparison of actual data with respect to the prospect and historical  data with
respect to the  density and sonic  characteristics  of  different  types of rock
formations, hydrocarbons and other subsurface minerals, resulting in a projected
three  dimensional  image of the subsurface.  This modeling is performed through
the use of advanced interactive  computer  workstations and various combinations
of  available  computer  programs  that  have  been  developed  solely  for this
application.

      3-D  seismic  and CAEX  technology  have been in  existence  since the mid
1970's;  however,  it was not until the late  1980's,  with the  development  of
improved  data  acquisition   equipment  and  techniques  capable  of  gathering
significant  amounts  of  data  through  a  large  number  of  channels  and the
availability  of improved  computer  technology  at reasonable  costs,  that the
method  became  economically  available to firms such as the  Company.  Prior to
that, it was the exclusive  province of large  multinational oil companies.  The
Company owns 2-D seismic on all of its offshore properties and, owns 3-D seismic
on East Breaks Block 160 Field, High Island


<PAGE>




304 Field,  High Island 474 Field and West Delta Block 58 Field.  In addition to
this  proprietary  3-D  seismic,  much group  seismic  data is  available on the
Companys' remaining properties.  A new 3-D seismic survey will be shot by Flores
& Rucks,  Inc. on the Companys'  properties in West Delta.  The Company owns its
own seismic processing  equipment,  but it also utilizes the services of outside
firms to process and interpret seismic data.

      The  Company  believes  that  its  application  of 3-D  seismic  and  CAEX
technology in the  exploration  of oil and natural gas provides it with a number
of benefits in the exploration, delineation and development process that are not
generally  available  to those who only use 2-D  seismic  data and  conventional
processing  methods.  In  particular,  the Company  believes  that, by obtaining
clearer and more accurate  projected  images of underground  formations  through
computer  modeling,  the  Company  is able to  specifically  identify  potential
locations  of  hydrocarbon  accumulations  based on the  characteristics  of the
formations  and  analogies   made  with  nearby  fields  and  formations   where
hydrocarbons  have been  found.  This  enhanced  data can be used to assist  the
Company in eliminating  prospects and prospect  locations  that might  otherwise
have been drilled had the Company  relied solely on 2-D seismic data.  This data
can be used to assist the Company in  identifying  the perceived  most desirable
location for the well to maximize the likelihood of a successful  exploratory or
development well and production from the reservoir.

      The Company  believes that the  collective  application of 3-D seismic and
CAEX technology enables a much more accurate definition of the risk profile of a
prospect than was previously available using traditional exploration techniques.
To the extent the Company is  successful  in  increasing  its  success  rate and
reducing its dry hole costs through the use of advanced  technology  the Company
believes it has a  competitive  advantage  over  companies  that do not use such
technology.

      The Company  generated a prospect  in the  northern  portion of West Delta
Block 58 using 3-D seismic, which it farmed out to Tana Oil & Gas Corporation in
1996. Tana drilled a successful well to 12,800 feet which encountered 85 feet of
net pay and  produces in excess of 15,000 Mcf per day.  The  Company  retained a
5.833%  overriding  royalty interest in the farmout.  Three of the fields in the
Amoco  Acquisition  have  proprietary  3-D  seismic,  while  all  of  the  Amoco
Properties  have group 3-D  seismic.  A group 3-D seismic  shooting was recently
completed on the western portion of the Company's properties in West Delta.

Marketing of Production

       Production  from the Company's  properties is marketed in accordance with
industry  practices,  which  include  the sale of oil at the  wellhead  to third
parties and the sale of gas to third parties at prices based on factors normally
considered in the  industry,  such as the spot price for gas or the posted price
for oil, and the quality of the oil and gas.

      The Company  markets all of its offshore oil  production to Amoco,  Citgo,
Conoco,  Texaco,  Unocal and Vastar.  Citgo, Conoco, Texaco and Vastar each have
25% calls  (exclusive  rights to purchase) on the oil  production  from the West
Delta Fields at their average  posted price for each month.  Amoco has a call on
all of the oil production from the Amoco  Properties at their posted prices.  If
the Company has a bona fide offer from a crude oil  purchaser  at a higher price
than Amoco's posted price, then Amoco must match that price or release the call.
Oil from the Zapata  Properties is currently being sold to Unocal and Amoco, but
can be sold to any crude oil purchaser of the Company's  choice.  Natural gas is
sold on the spot market.  There are numerous  potential  purchasers for offshore
gas.  Notwithstanding  this,  natural gas  purchased  by Tenneco  Gas  Marketing
Company  accounted  for 49% of the  revenues  in 1996.  There are  numerous  gas
purchasers  doing  business in the areas involved as well as natural gas brokers
and  clearing  houses.  Furthermore,  the Company  can  contract to sell the gas
directly to end users.  The Company does not believe  that it is dependent  upon
any one customer or group


<PAGE>




of customers for the purchase of natural gas.

      The Company  hedges the prices of its oil and gas  production  through the
use of oil and natural gas futures and swap  contracts  within the normal course
of its  business.  The Company  uses  futures and swap  contracts  to reduce the
effects of  fluctuations  in oil and natural  gas prices.  Changes in the market
value of these  contracts  are  deferred  and  subsequent  gains and  losses are
recognized  monthly as adjustments to revenues in the same production  period as
the  hedged  item,  based on the  difference  between  the  index  price and the
contract price. The Company entered into a hedge agreement beginning in January,
1996, for the delivery of 15,000 MMBtu of gas for each day in 1996 with contract
prices ranging from $1.7511 per MMBtu to $2.253 per MMBtu.

Starting in 1997 the Company's hedge  transactions on natural gas are based upon
published  gas  pipeline  index  prices  and  not the  NYMEX.  This  change  has
eliminated price differences due to transportation. For 1997, 14,000 MMBtu's per
day has been hedged, reduced to 10,000 MMBtu's per day in 1998 and 7,000 MMBtu's
per day in 1999.  The  Company is hedging at a swap price of $1.80 per MMBtu for
1997, with varying levels of participation  (93% in January to 40% in September)
in settlement prices above $1.80 per MMBtu.

Starting in 1997, the Company has also hedged 720 barrels of oil for each day in
1997  at a  swap  price  of  $20.00  per  barrel,  with a 40%  participation  in
settlement prices above the swap price.

Plugging and Abandonment Escrows

        Pursuant to existing agreements the Company is required to deposit funds
in bank trust and escrow accounts to provide a reserve  against  satisfaction of
its eventual responsibility to plug and abandon wells and remove structures when
certain fields no longer  produce oil and gas. Each month,  until November 1997,
$25,000 is deposited in a bank escrow account,  to satisfy such obligations with
respect to a portion of its West Delta Properties.  The Company has entered into
an escrow agreement with Amoco  Production  Company under which the Company will
deposit,  for the life of the fields, in a bank escrow account ten percent (10%)
of the net cash flow, as defined in the agreement, from the Amoco properties. As
of December  31, 1996 the Company has  established  the "PANACO  East Breaks 110
Platform  Trust"  in  favor  of the  Minerals  Management  Service  of the  U.S.
Department of the Interior.  This trust requires an initial  funding of $846,720
in December  1996,  and  remaining  deposits of $244,320  due at the end of each
quarter in 1999 and $144,000 due at the end of each quarter in 2000, for a total
of $2,400,000. In addition, the Company has $9,250,000 in surety bonds to secure
its plugging and abandonment obligations;  including a $4,100,000 bond which was
provided to the  original  sellers of the West Delta  Properties;  a  $2,400,000
supplemental  bond  provided  to the  Minerals  Management  Service  of the U.S.
Department of the Interior in connection with the plugging and structure removal
obligations  for the  Company's  East Breaks  Block 110  Platform and a $300,000
Pipeline Right-of-Way Bond.



Insurance

       The Company maintains insurance coverage as is customary for companies of
a similar size engaged in  operations  similar to the  Company's.  The Company's
insurance  coverage includes  comprehensive  general liability  insurance in the
amount of $50,000,000 per occurrence for personal injury and property damage and
cost of control and operators  extra expense  insurance of $3,000,000 on onshore
wells,  $20,000,000  on wells in  Louisiana  State  waters and  $50,000,000  per
occurrence in Federal offshore waters, which limits are proportionately  reduced
when the Company  owns less than 100% of the  respective  property.  The Company
maintains $65,000,000 in property insurance on its offshore properties. There is
no assurance that such insurance


<PAGE>




will be adequate to cover all such costs or that such insurance will continue to
be available in the future or that such  insurance  will be available at premium
levels that justify its purchase.  The  occurrence  of a  significant  event not
fully insured or indemnified against could have a material adverse effect on the
Company's financial condition and operations.

Funding of Business Activities

      Cash  Flow  from  Operations.  Funding  for the  Company's  activities  is
provided  primarily by cash flow from operations,  however,  the Company may use
its Bank Facility and other sources described below.  Generally,  cash flow from
properties declines over time as production declines. The cash flow generated by
the Company's activities would decline in the absence of (a) the acquisition and
development  of other oil and gas  properties,  (b)  increases in the  Company's
production of oil and gas resulting from the development of its  properties,  or
(c)  increases  in the  prices  that  the  Company  receives  for  oil  and  gas
production.

      Issuance of Additional Common Shares and Other Securities. The Company may
issue additional  Common Shares or other securities for cash, to the extent that
market and other conditions permit, and use the proceeds to fund its activities.
Additional  securities  issued by the Company may be of a class  preferred as to
the Common  Shares with  respect to such matters as  dividends  and  liquidation
rights and may also have other rights and preferences as determined by the Board
of  Directors.  The  Certificate  of  Incorporation  and  By-laws of the Company
generally  do not require the Company to obtain the consent of its  shareholders
for the issuance and sale of Common Shares or other securities.

      Borrowings and Obligations. The Company is permitted to incur indebtedness
for any Company purpose. It is currently expected that Company indebtedness will
consist  primarily of borrowings from commercial banks and credit  corporations,
the  sale of  debt  instruments,  and  possibly  by  advances  from  oil and gas
purchasers.

      On October 8, 1996, the Company amended its bank facility with First Union
National Bank of North  Carolina (60%  participation),  and Banque  Paribas (40%
participation), herein "Bank Facility". The loan is a reducing revolver designed
to provide the Company up to  $40,000,000  depending on the Company's  borrowing
base, as determined by the lenders. The Company's borrowing base at December 31,
1996 was $31 million, with an availability under the revolver of $2,500,000. The
principal  amount of the loan is due July 1, 1999.  However,  at no time may the
Company have  outstanding  borrowings  under the Bank  Facility in excess of its
borrowing base.  Interest on the loan is computed at the bank's prime rate or at
1 to 1 3/4%  (depending upon the percentage of the facility being used) over the
applicable   London  Interbank  Offered  Rate  ("LIBOR")  on  Eurodollar  loans.
Eurodollar  loans can be for terms of one, two, three or six months and interest
on such loans is due at the  expiration of the terms of such loans,  but no less
frequently  than every three  months.  Management  feels that this bank facility
greatly enhances its ability to make necessary capital  expenditures to maintain
and improve  production  from its properties and makes  available to the Company
additional funds for future acquisitions. The bank facility is collateralized by
a first  mortgage  on the  Company's  offshore  properties.  The loan  agreement
contains  certain  covenants  including  a  requirement  to  maintain a positive
indebtedness  to cash flow ratio,  a positive  working  capital ratio, a certain
tangible net worth,  as well as limitations on future debt,  guarantees,  liens,
dividends,  mergers,  material  change in ownership by  management,  and sale of
assets.

      In 1991,  the Company  borrowed  $21,600,000  from New England Mutual Life
Insurance  Company,  NMB Post Bank,  Groep,  N.V.  (now ING Bank),  the  Lincoln
National  Life  Insurance  Company and En Cap 1989-1  Limited  Partnership.  The
balance  owed on this  facility was prepaid in 1994 with part of the proceeds of
the  Company's  Bank  Facility.  As part of the 1991  transaction  these  former
lenders received a net profits interest in part of the West Delta Properties.


<PAGE>




      From  time to time the  Company  has  borrowed  funds  from  institutional
lenders who are advised by Kayne, Anderson Investment  Management,  Inc. In each
case these loans are due at a stated maturity, require payments of interest only
at 12% per annum 45 days after the end of each calendar  quarter and are secured
by a second  mortgage on the  Company's  offshore  oil and gas  properties.  The
respective loan documents contain certain  covenants  including a requirement to
maintain a net worth ratio,  as well as limitations on future debt,  guarantees,
liens, dividends,  mergers, material change in ownership by management, and sale
of assets. The loans are as follows:

            (a) 1993 Subordinated Notes. In 1993,  $5,000,000 was borrowed,  due
      December 31, 1999. These notes were prepaid on March 6, 1997, with part of
      the proceeds of the recent Common Share offering. The lenders were issued,
      and during 1996  exercised,  warrants to acquire  816,526 Common Shares at
      $2.25 per share.

             (b) 1996 Tranche A Convertible  Subordinated  Notes.  On October 8,
      1996,  $8,500,000  was borrowed,  due October 8, 2003,  but prepayable any
      time after May 8, 1998.  After  August 28, 1997 the Notes are  convertible
      into 2,060,606 Common Shares on the basis of $4.125 per share. The Company
      may  deliver up to  $2,000,000  in PIK notes in  satisfaction  of interest
      payment obligations.

            (c) 1996  Tranche B Bridge Loan  Subordinated  Notes.  On October 8,
      1996,  $8,500,000  was  borrowed,  due  October 8, 2003.  These Notes were
      prepaid on March 6, 1997,  with part of the proceeds of the recent  Common
      Share Offering.

Competition, Markets, Seasonality and Regulation

      Competition. There are a large number of companies and individuals engaged
in the exploration for and development of oil and gas properties. Competition is
particularly  intense with respect to the  acquisition  of oil and gas producing
properties.  The Company  encounters  competition  from various  independent oil
companies in raising capital and in acquiring producing properties.  Many of the
Company's  competitors have financial  resources and staffs  considerably larger
than the Company.

      Markets.  The  ability of the  Company  to produce  and market oil and gas
profitably  depends on numerous  factors beyond the control of the Company.  The
effect of these factors  cannot be accurately  predicted or  anticipated.  These
factors include the availability of other domestic and foreign  production,  the
marketing  of  competitive  fuels,  the  proximity  and  capacity of  pipelines,
fluctuations  in supply and demand,  the  availability  of a ready  market,  the
effect of federal and state regulation of production, refining,  transportation,
and  sales  of  oil  and  gas,  political   instability  or  armed  conflict  in
oil-producing  regions,  and general national and worldwide economic conditions.
In recent years,  worldwide oil production  capacity and gas production capacity
in the United States  exceeded  demand and resulted in a substantial  decline in
the price of oil and natural gas in the United States.

      Since  early  1986,  certain  members  of the  Organization  of  Petroleum
Exporting  Countries  ("OPEC")  have, at various times,  dramatically  increased
their  production of oil,  causing a significant  decline in the price of oil in
the world market.  The Company cannot predict future levels of production by the
OPEC  nations,  the prospects for war or peace in the Middle East, or the degree
to which oil and gas prices will be affected, and it is possible that prices for
any oil, natural gas liquids,  or gas produced by the Company will be lower than
those currently available.

     The demand for gas in the United States has  fluctuated in recent years due
to economic factors, a

<PAGE>




deliverability surplus,  conservation and other factors. This lack of demand has
resulted in increased competitive pressure on producers. However,  environmental
legislation is requiring  certain markets to shift consumption from fuel oils to
natural gas, thereby increasing demand for this cleaner burning fuel.

      In view of the many uncertainties affecting the supply and demand for oil,
gas, and refined petroleum products, the Company is unable to predict future oil
and gas prices. In order to minimize these uncertainties the Company,  from time
to time, hedges prices on a portion of its production with futures contracts.

      Seasonality.  Historically the nature of the demand for natural gas caused
prices and demand to vary on a seasonal  basis.  Prices and  production  volumes
were  generally  higher  during the first and fourth  quarters of each  calendar
year.  For example,  during 1991 the price the Company  receives for its natural
gas fell from a high of $1.78 per Mcf in  January  to a low of $1.09 in July and
then climbed to a new high of $1.95 in December,  averaging  $1.49 for the year.
However, the substantial amount of gas storage becoming available in the U.S. is
altering this  seasonality.  During 1993, 1994 and 1995 the Company's gas prices
ranged from $2.78 to $1.64, $2.43 to $1.39 and $2.37 to $1.37,  averaging $2.13,
$1.88 and $1.58, respectively,  in each case, per Mcf. Gas prices averaged $2.17
per Mcf during 1996.  The Company sells its natural gas on the spot market based
upon  published  index  prices  for each  pipeline.  Historically  the net price
received by the Company for its gas has averaged  about $.10 per MMBtu below the
NYMEX Henry Hub index price, due to  transportation  differentials.  Fields that
are located further offshore, such as the Amoco Properties,  will generally sell
their gas for as much as $.20 below that index price.

      Regulation.  The Company's  business is affected by governmental  laws and
regulations,  including price control, energy, environmental,  conservation, tax
and other laws and regulations relating to the petroleum industry.  For example,
state and  federal  agencies  have issued  rules and  regulations  that  require
permits for the drilling of wells,  regulate  the spacing of wells,  prevent the
waste of natural gas and crude oil  reserves,  and  regulate  environmental  and
safety matters including restrictions on the types, quantities and concentration
of various  substances  that can be released into the  environment in connection
with drilling and  production  activities,  limits or  prohibitions  on drilling
activities on certain lands lying within wetlands and other protected areas, and
remedial  measures to prevent  pollution  from  current  and former  operations.
Changes  in any of these  laws,  rules and  regulations  could  have a  material
adverse effect on the Company's business. In view of the many uncertainties with
respect to current law and  regulations,  including their  applicability  to the
Company,  the  Company  cannot  predict  the  overall  effect  of such  laws and
regulations on future operations.

      The Company believes that its operations  comply in all material  respects
with all applicable laws and regulations and that the existence of such laws and
regulations  have  no  more  restrictive  effect  on  the  Company's  method  of
operations  than on other  similar  companies  in the  industry.  The  following
discussion  contains  summaries of certain laws and regulations and is qualified
in its entirety by reference thereto.

      Various  aspects of the  Company's  oil and  natural  gas  operations  are
regulated by  administrative  agencies under statutory  provisions of the states
where such  operations  are  conducted  and by certain  agencies  of the federal
government  for  operations of federal  leases.  The Federal  Energy  Regulatory
Commission  (the "FERC")  regulates  the  transportation  and sale for resale of
natural gas in interstate  commerce pursuant to the Natural Gas Act of 1938 (the
"NGA") and the Natural  Gas Policy Act of 1978 (the  "NGPA").  In the past,  the
federal  government has regulated the prices at which oil and gas could be sold.
Currently,  sales by  producers  of  natural  gas,  and all sales of crude  oil,
condensate  and natural gas liquids can be made at  uncontrolled  market prices,
but Congress could reenact price controls at any time.  Deregulation of wellhead
sales in the natural gas industry  began with the enactment of the NGPA in 1978.
In 1989,  Congress enacted the Natural Gas Wellhead  Decontrol Act which removed
all NGA and NGPA  price  and  non-price  controls  affecting  wellhead  sales of
natural gas effective


<PAGE>




January 1, 1993.

      Sales of crude oil,  condensate  and gas  liquids by the  Company  are not
regulated and are made at market prices. The price the Company receives from the
sale of these products is affected by the cost of  transporting  the products to
market.  Effective  as of  January  1, 1995,  the FERC  implemented  regulations
establishing  an indexing  system for  transportation  rates for oil  pipelines,
which  would  generally  index  such  rates to  inflation,  subject  to  certain
conditions  and  limitations.  These  regulations  could  increase  the  cost of
transporting  crude oil, liquids and condensates by pipeline.  These regulations
are subject to pending petitions for judicial review. The Company is not able to
predict with certainty what effect,  if any, these  regulations will have on it,
but  other  factors  being  equal,   the   regulations   may  tend  to  increase
transportation costs or reduce wellhead prices for such conditions.

      Additional  proposals  and  proceedings  that might affect the oil and gas
industry  are pending  before  Congress,  the FERC and the  courts.  The Company
cannot predict when or whether any such proposals may become  effective.  In the
past,  the natural gas industry  historically  has been very heavily  regulated.
There is no assurance that the current  regulatory  approach pursued by the FERC
will continue indefinitely into the future. Notwithstanding the foregoing, it is
not anticipated  that compliance  with existing  federal,  state and local laws,
rules and regulations will have a material or significantly  adverse effect upon
the capital expenditures, earnings or competitive position of the Company.

      Extensive  federal,  state and local laws and  regulations  govern oil and
natural  gas   operations   regulating  the  discharge  of  materials  into  the
environment or otherwise relating to the protection of the environment. Numerous
governmental  departments  issue rules and  regulations to implement and enforce
such laws which are often  difficult  and costly to comply  with and which carry
substantial  penalties for failure to comply.  Some laws,  rules and regulations
relating to protection of the environment may, in certain circumstances,  impose
"strict  liability" for environmental  contamination,  rendering a person liable
for  environmental  damages and response  costs without  regard to negligence or
fault  on the  part of such  person.  For  example,  the  federal  Comprehensive
Environmental Response, Compensation and Liability Act of 1980, as amended, also
known as the "Superfund"  law, imposes strict liability on an owner and operator
of a  facility  or  site  where a  release  of  hazardous  substances  into  the
environment  has  occurred and on  companies  that  disposed or arranged for the
disposal  of the  hazardous  substances  released at the  facility or site.  The
regulatory  burden on the oil and natural  gas  industry  increases  its cost of
doing business and consequently affects its profitability. These laws, rules and
regulations  affect the  operations and costs of the Company.  While  compliance
with environmental  requirements  generally could have a material adverse effect
upon the capital expenditures,  earnings or competitive position of the Company,
the Company believes that other independent  energy companies in the oil and gas
industry likely would be similarly affected.  The Company believes that it is in
substantial   compliance  with  current   applicable   environmental   laws  and
regulations and that continued  compliance with existing  requirements  will not
have a material adverse impact on the Company.

       Offshore  operations  of the Company are  conducted  on both  federal and
state  lease  blocks  of the Gulf of  Mexico.  In all  offshore  areas  the more
stringent  regulation  of the  federal  system,  as  implemented  by the Mineral
Management  Service of the  Department of the Interior,  are to be applicable to
state leases as well as federal  leases.  The Oil Pollution Act of 1990 requires
operators  of oil and gas  leases  on or near  navigable  waterways  to  provide
$35,000,000 in "financial responsibility", as defined in the Act. At present the
Company is satisfying the financial  responsibility  requirement  with insurance
coverage.

Employees

     The Company has fourteen  full time  employees,  some of whom are officers.
The Company utilizes an

<PAGE>




additional  thirty-two  contract  personnel  in the  operation  of the  offshore
properties,   and  uses  numerous  outside  geologists,   production  engineers,
reservoir  engineers,  geophysicists  and other  professionals  on a  consulting
basis.

Office Facilities

      The Company's  headquarters are located at 1050 West Blue Ridge Boulevard,
PANACO Building,  Kansas City, Missouri 64145-1216,  and its telephone number is
(816) 942-6300, FAX (816) 942-6305. The Houston, Texas office is located at 1100
Louisiana, Suite 5110, Houston, Texas 77002-5220,  telephone (713) 652-5110, FAX
(713) 651-0928.

Item 2.  Properties.

      The  Company's  offshore  properties  are located  offshore  Louisiana and
Texas.  The following table sets forth certain  information  with respect to the
Company's significant properties as of December 31,1996. Such properties account
for 95% of the aggregate SEC 10 Value of its properties.

                          Significant Proved Properties

                                                      Proved Reserves
                                                  Oil      Gas        SEC 10
Property                    Area                 (Bbls)   (Bcf)        Value

AMOCO PROPERTIES        Offshore TX            1,332,000   15.8     $ 42,690,000
WEST DELTA PROPERTIES   Offshore LA              395,000   14.8     $ 41,586,000
ZAPATA PROPERTIES       Offshore TX & LA         168,000    8.5     $ 22,966,000

Amoco Acquisition

        On  August  26,  1996  the  Company  entered  into a  Purchase  and Sale
Agreement  with  Amoco  Production  Company to acquire  Amoco's  interest  in 13
offshore   blocks   comprising   six  fields  in  the  Gulf  of  Mexico  ("Amoco
Properties"). The acquisition closed October 8, 1996. The purchase price for the
assets  acquired in this  transaction was  $40,400,000,  paid by the issuance of
2,000,000  Common  Shares,  at  $4.20  per  share,  and by  payment  to Amoco of
$32,000,000 in cash.

      In  addition to the  interests  acquired,  the  Company  purchased a 33.3%
interest in a 12.67 mile 12" pipeline  connecting East Breaks Block 160 platform
to the High Island  Offshore System  ("HIOS"),  a natural gas pipeline system in
the Gulf of Mexico and a 33.3% interest in a 17.47 mile 10" pipeline  connecting
the East Breaks Block 160 platform to the High Island Pipeline System  ("HIPS"),
a crude oil pipeline system in the Gulf of Mexico. HIOS and HIPS are the primary
natural gas and crude oil pipeline systems in that part of the Gulf of Mexico.

      The East  Breaks  Block 160  platform  also  serves a subsea well owned by
Mobil Oil Corporation in East Breaks Block 117. Under  agreements with Mobil the
owners of the East  Breaks  Block 160  platform  share in  certain  fees paid by
Mobil.

      The  following  table  lists  the  field  names,  block  numbers,  working
interests, net revenue interests and number of wells of the properties.

                                        Working        Net Revenue  Number of


<PAGE>




        Field/Block                     Interest        Interest    Active Wells


     East Breaks 160 Field
     EB 160 (OCS 2647)                  0.3333            0.2778        13
     EB 161 (OCS 2648)                  0.3333            0.2778        10

     High Island A-302 Field
     HI A-302 (OCS 2732)                0.3333            0.2778         5

     High Island A-309 Field
     HI A-309 (OCS 2735)                0.5000            0.4167         9
     HI A-310 (OCS 3378)                0.5000            0.4167         8

     High Island A-330 Field
     HI A-330 (OCS 2421)                0.1200            0.1000        25
     HI A-349 (OCS 2743)                0.1200            0.1000         6
     WC 613 (OCS 3286)                  0.1200            0.1000         3

     High Island A-474 Field
     HI A-474 (OCS 2366)                0.1200            0.1000        18
     HI A-489 (OCS 2372)                0.1200            0.1000        22
     HI A-499 (OCS 3118)                0.1310            0.1092         6
     HI A-475 (OCS 2367)                0.1200            0.1000         0

     West Cameron 180 Field
     WC 144 (OCS 1953)                  0.1250            0.1042         7

      Average net production  from these fields during 1996 was 11.5 MMcf of gas
per day and 583  barrels of oil per day and cash flow net to the  interests  was
$11,200,000.   Management   believes  that  these  fields  have   potential  for
substantial  reserve  and  production  increases.   Three  of  the  fields  have
proprietary 3-D seismic.

East Breaks 160 Field

      This field  consists  of two blocks,  East  Breaks 160 and 161.  The water
depth ranges from 900' to 1,100'. The Company owns a 33.3% working interest with
a 27.8% net revenue interest.  Unocal  Corporation is the operator.  East Breaks
160 field  produces from an  anticlinal  ridge with 12  productive  horizons.  A
proprietary  3-D survey was shot and processed in 1990. Net proved  reserves are
estimated to be 9.7 Bcf and 1,131 MBO. The GA-2 and HB-2 reservoirs  account for
most of the reserves. Additional income is derived from processing fees from the
Mobil Oil Corporation  recent  discovery in adjacent Block 117. This subsea well
is tied back to the East  Breaks 160  platform.  Management  believes  there are
numerous  reservoirs in the field which have not been adequately  evaluated with
wells.  Additional  wells on Blocks 160 and 161 and in adjacent blocks are under
consideration by Unocal Corporation.

High Island A-302 Field

      High Island  Block A-302 is in  approximately  200' of water.  The Company
owns a  33.3%  working  interest  with a  27.8%  net  revenue  interest.  Unocal
Corporation is the operator. Production is from four producing


<PAGE>




horizons on a faulted anticlinal structure. A speculative 3-D survey was shot in
1991 and processed in 1992. One well is producing, with one well scheduled to be
recompleted  in  1997.   Management   believes  additional  reserves  should  be
recoverable  from two sands in an area which  seismic data shows to be undrained
by the existing wells.

High Island A-309 Field

      High Island  A-309 field  consists  of two blocks,  High Island  A-309 and
A-310, in  approximately  200' of water. The Company owns a 45% working interest
in Block A-309 and a 55% working  interest in Block  A-310.  Coastal Oil and Gas
Corporation is the operator. Production is from three faulted anticlines with 18
productive  horizons.  Proprietary  3-D seismic data has been  reprocessed.  Net
Proved Reserves are estimated to be 4.0 Bcf.
 Numerous additional wells and recompletions are planned for 1997 through 1999.

High Island A-330 Field

      The field consists of three blocks,  High Island A-330,  High Island A-349
and West Cameron 613. The field is located in 280' of water.  The Company owns a
12%  working  interest  with a 10%  net  revenue  interest.  Costal  Oil and Gas
Corporation is the operator.  Three wells have been  recompleted  in 1996.  This
field produces from a faulted anticline with 24 productive horizons. The Company
has 2-D  seismic on this  field,  but a 3-D seismic  survey was  recently  shot.
Management  believes that significant upside potential was delineated by the 3-D
seismic.  A well in West Cameron Block 613 has been proposed by the operator for
1997 to offset a field operated by Shell offshore in Block A-350 and other wells
and recompletions are under consideration.

High Island A-474 Field

      This field  consists of three full blocks in the High Island Area,  A-474,
A-489,  A-499,  and  part of Block A- 475.  The  water  depth is 250' to 285 and
Phillips Petroleum Company ("Phillips") is the operator.  The Company owns a 12%
working  interest with a 10% net revenue  interest in Blocks A-474 and A-489,  a
13.1% working  interest with a 10.9% net revenue  interest in Block A-499, and a
12% working interest with a 9% net revenue interest in Block A-475. There are 23
productive  horizons in this faulted  anticline.  A proprietary  3-D seismic was
shot in 1991 and processed in 1993. Net Proved Reserves are 1.2 Bcf and 199 MBO.

West Cameron 180 Field

      This field consists of a single block,  West Cameron 144, in 40' of water.
Texaco is the operator.  The Company owns a 12.5% working  interest with a 10.4%
net  revenue  interest.  The  producing  feature  is a north-  plunging  faulted
anticline  that  underlies  West  Cameron  Blocks  173 and 180.  There are three
productive horizons.


West Delta Properties

        These  properties  consist  of 13,565  acres in Blocks 52 through 56 and
Block 58 in the West Delta Area,  offshore  Louisiana.  The  properties  have 36
wells,  five of which were  recently  drilled.  The West Delta  Properties  were
acquired from Conoco,  Inc.,  Atlantic  Richfield Company (now Vastar Resources,
Inc.),  OXY USA, Inc. and Texaco  Exploration and Production,  Inc. in May 1991.
During 1995 the properties had net production averaging approximately 20,643 Mcf
of natural gas per day and 264  barrels of oil and  condensate  per day.  During
1996 production was substantially diminished by the explosion and fire.



<PAGE>




      The Company has a 87.5% net revenue interest in the field, subject to a 5%
net  profits  interest on the  shallower  reservoirs  in favor of the  Companys'
former lenders and a 4.166% overriding royalty interest on the deeper reservoirs
in favor of Conoco and OXY. In 1994 the  Company  spent  $6,900,000  on drilling
four wells and the recompletion of eight wells on these properties.  The Company
is the operator and generally owns 100% of the working  interest in these wells.
Presently, the wells produce from depths ranging from 1,200 feet to 12,500 feet.
Because of the existing surface structures and production equipment,  management
believes  that  additional  wells  can be added  on the  properties  with  lower
completion costs.

      The Company has agreed to farmout the deep rights in West Delta  Blocks 53
through 56 to Flores & Rucks,  Inc.,  which has agreed to fund a new 3-D seismic
survey.  The Company  retains all  presently  producing  reservoirs.  Management
believes  this  farmout  will bring about an  evaluation  of any deep  reservoir
potential  and allow the Company to further  evaluate  the  presently  producing
reservoirs  using the new 3-D  seismic.  The  Company  will  have the  option of
retaining a 12 1/2% overriding  royalty interest or participating up to 50% as a
working interest owner in any wells drilled by Flores & Rucks, Inc.

         During 1994 the Company  farmed out the deep rights (below 11,300 feet)
to an 1,875  acre  parcel in Block 58 to Energy  Development  Corporation  which
drilled a successful well to 16,500 feet.  Production  commenced in April, 1995.
The Company retained a 12 1/2% overriding  royalty interest in that acreage that
converts to a 15% overriding  royalty interest at Payout.  The well has produced
as much as 21,000 Mcf per day and 1,500  barrels of condensate  per day.  Energy
Development Corporation was subsequently acquired by Samedan Oil Corporation.

         The Company  generated a prospect in the northern portion of West Delta
Block 58 using 3-D seismic, which it farmed out to Tana Oil & Gas Corporation in
1996. Tana drilled a successful well to 12,800 feet which encountered 85 feet of
net pay and  produces in excess of 15,000 Mcf per day.  The  Company  retained a
5.833% overriding royalty interest in the farmout,  convertible to a 25% working
interest at payout.

         The main  production  facility on the West Delta  Properties  is a four
platform  complex  designated  as Tank  Battery  #3.  There  are four  ancillary
platforms in the eastern portion of the properties connected to Tank Battery #3.
Three wells are on one of these  platforms.  In the western portion there is one
production  platform  designated  as Platform "D" in Block 58, with three wells.
The  remaining  30 wells are located on satellite  structures  connected to Tank
Battery  #3 or one of its  ancillary  platforms.  Eight  wells  produce  oil and
natural gas. The remaining wells produce only natural gas.

     The Company has recently  replaced the pipeline  connecting "D" Platform in
Block 58 with Tank Battery # 3 in Block 54 with two new 6" pipelines.

         In  connection   with  the  acquisition  of  the  West  Delta  offshore
properties  the Company  provides  the sellers  with a  $4,100,000  plugging and
abandonment bond collateralized in part with a bank escrow account.

Zapata Properties

           On July 12th,  1995,  the Company  entered  into a Purchase  and Sale
Agreement with Zapata Exploration  Company ("Zapata") to acquire all of Zapata's
offshore oil and gas properties in the Gulf of Mexico. The properties consist of
East Breaks Blocks 109 and 110, East Cameron Block 359, Eugene Island Block 372,
South  Timbalier  Block 185 and West Cameron  Block 538,  totaling  31,134 gross
acres.  The  transaction  was closed July 26,  1995.  The  Company  took over as
operator of the East Breaks and West  Cameron  properties  effective at closing.
The East Cameron  property is operated by Anadarko  Petroleum  Corporation.  The
Eugene Island


<PAGE>




property is operated by Unocal  Corporation and the South Timbalier  property is
operated  by  Louisiana  Land &  Exploration  Company.  Proved net  reserves  at
December 31, 1996 were  168,000  Bbls of oil and 8.5 Bcf of natural gas.  During
1996, the properties  produced 49,275 barrels of oil and 3.5 Bcf of natural gas,
net to the Company's interest.

         In addition to the mineral interests acquired,  the Company purchased a
100% interest in a 31 mile natural gas pipeline  connecting  the Company's  East
Breaks  110  platform  to the  High  Island  Offshore  System  and a 22 mile oil
pipeline  which  connects  the East  Breaks 110  platform  with the High  Island
Pipeline System. HIOS and HIPS are the primary natural gas and crude oil systems
in that part of the Gulf of Mexico.

         The Company's East Breaks 110 platform has significant  excess capacity
for both crude oil and natural gas. Prior to the  acquisition of the properties,
Zapata had entered  into a  Facilities  Sharing  Agreement  with AGIP  Petroleum
Company,  Inc. ("AGIP") to operate and process for AGIP's subsea wells in Blocks
112 and 157.  Under the Agreement  AGIP will pay certain fees to the Company and
split the cost of operating the East Breaks 110 platform with the Company, based
upon  each  company's  proportion  of  production.  A  portion,  not  to  exceed
$6,000,000,  of the monies earned  pursuant to this  Agreement are being paid to
Zapata as part of the acquisition of the properties.

         The  purchase  price for the assets  acquired  in the  transaction  was
$2,748,000  in cash and the  obligation  to pay a  production  payment to Zapata
based upon future  production.  The production  payment is based upon production
from the East Breaks 109 Field after  production  of 12 Bcfe gross (10 Bcfe net)
measured from October 1, 1994. The Company will pay to Zapata $.4167 per Mcfe on
the next 27 Bcfe of gross  production,  if that much is  produced.  Payments  to
Zapata on this production  payment are to be made by the Company when it is paid
for the oil or gas. The  Company's  oil and gas reserves are  calculated  net of
this production payment.

Bayou Sorrel Field

           As of December 27, 1995 the Company  acquired  from Shell Western E &
P, Inc.  all of its  interest in the Bayou  Sorrel  Field in  Iberville  Parish,
Louisiana.  The purchase price of the field and a related receivable of $600,000
was $10,455,000 in cash, including a $205,000 brokers' fee.

          Effective September 1, 1996 the Company sold the Bayou Sorrel Field to
National Energy Group, Inc. for $11,000,000.  The Company received $9,000,000 in
cash and 477,612 shares of National Energy Group, Inc. common stock,  which were
valued at $2,000,000 as of the November 26, 1996, the closing date. These shares
are restricted  securities and are not freely tradeable.  The Company has demand
registration  rights  and has made  such a demand.  The  Company  retained  a 3%
overriding  royalty  interest  in the deep  rights of the field at depths  below
11,000 feet.

Oil and Gas Information

         The following tables set forth selected oil and gas information for the
Company,  and certain forward looking  information about its properties.  Future
results may vary significantly from the amounts reflected in the information set
forth herein because of normal production declines and future acquisitions.

                             Proved Reserves (a) (b)

         The following  table sets forth  information as of December 31, 1996 as
to the estimated Proved Reserves attributable to the Company's properties.


<PAGE>





Oil and liquids (Bbls):
       Proved Developed Reserves ...........................1,867,000
       Proved Undeveloped Reserves ...........................372,000
           Total Proved Reserves ...........................2,239,000

Natural gas (Mcf):
       Proved Developed Reserves ..........................39,288,000
       Proved Undeveloped Reserves ........................ 2,158,000
           Total Proved Reserves ..........................41,446,000

(a)    Calculated by the Company in accordance with the rules and regulations of
       the SEC,  based upon December 31, 1996 prices of $24.25 per barrel of oil
       and $3.84 per MMBtu of gas, adjusted for basis differentials, Btu content
       of gas and specific gravity of oil. The Company's  independent  reservoir
       engineers prepare reserve reports as of the end of each calendar year.
(b) Includes the recently  acquired  Amoco  Properties and excludes the recently
sold Bayou Sorrel Field.


                          Estimated Future Net Revenues
                          from Proved Reserves (a) (b)

         The following  table sets forth  information as of December 31, 1996 as
to the estimated future net revenues (before deduction of income taxes) from the
production  and  sale  of the  Proved  Reserves  attributable  to the  Company's
properties.

                                                    Proved              Total
                                                  Developed             Proved
                                                   Reserves            Reserves
Estimated Future net revenues (c):
         1997...............................  $   42,223,000     $   42,170,000
         1998...............................      31,020,000         32,017,000
         1999...............................      19,236,000         19,783,000
         2000...............................      12,286,000         15,560,000
         Thereafter.........................      34,351,000         39,525,000
                                                ------------        -----------
         Total..............................$    139,115,000     $  149,056,000
Present value (10%) of estimated future net
         revenues (SEC 10 Value)............$    106,918,000     $  113,467,000

     (a)  Calculated by the Company in accordance with the rules and regulations
          of the SEC,  based upon  December 31, 1996 prices of $24.25 per barrel
          of oil and  $3.84  per  MMBtu of  offshore  gas,  adjusted  for  basis
          differentials,  Btu content of gas and  specific  gravity of oil.  The
          Company's  independent  reservoir engineers prepare reserve reports as
          of the end of each calendar year.
     (b)  Includes  the  recently  acquired  Amoco  Properties  and excludes the
          recently sold Bayou Sorrel Field.
     (c)  Estimated  future  net  revenues  represent   estimated  future  gross
          revenues  from the  production  and sale of  Proved  Reserves,  net of
          estimated  operating costs,  future  development costs estimated to be
          required to achieve  estimated future  production and estimated future
          costs of plugging offshore wells and removing offshore structures.



<PAGE>




                                         Production, Price, and Cost Data

          The following  table sets forth certain  production,  price,  and cost
data  with  respect  to the  Company's  properties,  for the three  years  ended
December 31, 1996, 1995 and 1994.
<TABLE>
<CAPTION>


                                                                      For the years
                                                                     ended December 31,

                                                             1996             1995           1994
                                                             ----            ------          ----
Oil:
<S>                                                        <C>               <C>              <C>
         Net Production (Bbls)(a)                          276,000           170,000          137,000
         Revenue..........................           $   5,356,000     $   2,853,000        2,103,000
         Average net Bbls per day                              756               466              375
         Average price per Bbl                       $       19.42     $       16.78    $       15.35

Gas:
         Net Production(Mcf)(a)                          6,788,000         9,850,000        8,139,000
         Revenue........................             $  14,707,000     $  15,594,000    $  15,235,000
         Average net Mcf per day                            19,000            27,000           22,300
         Average price per Mcf                       $        2.17     $        1.58    $        1.87

Total Revenues..........................               $20,063,000     $  18,447,000      $17,338,000

Production Costs:
         Production cost                               $ 8,477,000     $   8,055,000    $  5,231,000
         Mcfe(b)                                         8,444,000        10,870,000        8,961,500
         Production costs per Mcfe(c)                $       1.00      $         .74    $         .58
</TABLE>

------
     (a)  Production  information  is net of all royalty  interests,  overriding
          royalty  interest  and the net  profits  interest  in the  West  Delta
          Properties owned by the Company's former lenders.
     (b)  Oil production is converted to Mcfe  (Equivalent Mcf) at the rate of 6
          Mcf per Bbl,  representing  the estimated  relative  energy content of
          natural gas to oil.
     (c)  The information  shown for 1996 was impacted by the explosion and fire
          on April 24th at West Delta Tank Battery #3,  which  resulted in those
          fields being off  production  until October 7, 1996,  when  production
          resumed.   For  that  reason   management  would  not  consider  these
          production costs to be indicative of the future. Also this information
          includes  Bayou Sorrel Field through  August 31, the date of its sale,
          and includes  any  information  with  respect to the Amoco  Properties
          after October 8, 1996.

                                               Productive Wells(a)

         The  following  table sets forth the number of  productive  oil and gas
wells, as of the date hereof, attributable to the Company's properties.

Gross productive offshore wells (b):   Productive Wells     Company Operated

         Oil     . . . . . . . . . . . . . . . . . 33. . . . . . . . . . .10


<PAGE>




         Gas   . . . . . . . . . . . . . . . . . . .90 . . . . . . . . . .42
           Total  . . . . . . . . . . . . . . . . .123 . . . . . . . . . .52

Net productive offshore wells (c):
         Oil   . . . . . . . . . . . . . . . . .. . .1. . . . .  . . . . .10
         Gas . . . . . . . . . . . . . . . . . . . .49 . . . . . . . . . .38
           Total  . . . . . . . . . . . . . . . . . 64 . . . . . . . . . .48

-----
(a)      Productive  wells  consist  of  producing  wells and wells  capable  of
         production,  including  shut-in wells and water  disposal and injection
         wells.  One or more completions in the same borehole are counted as one
         well.
(b)      A "gross  well" is a well in which a working  interest  is  owned.  The
         number  of  gross  wells  represents  the sum of the  wells  in which a
         working interest is owned.
(c)      A "net well" is deemed to exist when the sum of the fractional  working
         interests in gross wells equals one. The number of net wells is the sum
         of the fractional working interests in gross wells.

                                                Leasehold Acreage

         The  following  table sets forth the  developed  acreage as of the date
hereof attributable to the Company's properties, excluding onshore acreage which
is no longer significant.

Developed offshore acreage (a):
         Gross acres (b)........................................ 103,771
         Net acres (c)..........................................  43,645

(a)      Developed acreage is acreage assignable to productive wells.
(b)      A "gross  acre" is an acre in which a working  interest  is owned.  The
         number  of  gross  acres  represents  the sum of the  acres  in which a
         working interest is owned.
(c)      A "net acre" is deemed to exist when the sum of the fractional  working
         interests in gross acres equals one. The number of net acres is the sum
         of the fractional working interests in gross acres.


                                               Drilling Activities

         The following  table sets forth the number of gross  productive and dry
wells in which the  Company had an  interest,  that were  drilled and  completed
during the four years ended December 31, 1996.  Such  information  should not be
considered indicative of future performance, nor should it be assumed that there
is necessarily  any correlation  between the number of productive  wells drilled
and the oil and gas  reserves  generated  thereby or the costs to the Company of
productive wells compared to the costs to the Company of dry wells.

                         Developmental Wells            Exploratory Wells
                   Completed       Dry            Completed           Dry
                Oil    Gas     Oil    Gas         Oil     Gas     Oil     Gas
                ---    ---     ---    ---         ---     ---     ---     ---
1993             3      0       0      0           0       0        0      0
1994             5      4       0      0           0       1        0      0
1995             0      0       0      0           0       0        0      3
1996             0      0       2      0           0       0        0      0
               ----   ----    ----   ----        -----    ----    ----   ----


<PAGE>




Total          8     4         2      0            0       1        0      3


Title to Oil and Gas Properties

         In the case of acquired  properties title opinions are obtained for the
more significant properties.  Prior to the commencement of drilling operations a
thorough  drillsite  title  examination is conducted and curative work performed
with respect to significant defects.

Undeveloped Acreage and Unproved Properties

          The  Company  does  not  hold  interest  in a  significant  amount  of
Undeveloped Acreage to which no Proved Reserves have been assigned. However, the
Company  retained a 3% overriding  royalty  interest in depths below 11,000 feet
when it sold the Bayou Sorrel  Field,  and no reserves  have been  attributed to
these depths.


                                         PRO FORMA FINANCIAL INFORMATION

         On October  8,1996,  the Company closed its acquisition of interests in
thirteen  offshore blocks comprising six fields in the Gulf of Mexico from Amoco
Production  Company.  The  purchase  price  for  the  assets  acquired  in  this
transaction was $40,400,000, paid by the issuance of 2,000,000 Common Shares and
by payment to Amoco of $32,000,000 in cash.  Concurrently  with this transaction
the Company  entered into a new Bank Facility with First Union  National Bank of
North  Carolina and Banque  Paribas under which its reducing  revolving loan was
increased to  $40,000,000,  with an initial  borrowing  base  (credit  limit) of
$35,000,000.  In addition to that  facility,  the Company  borrowed  $17,000,000
pursuant  to the 1996  Tranche  A  Convertible  Subordinated  Notes and the 1996
Tranche B Bridge Loan Subordinated Notes.

         On July 26, 1995, the Company  completed the  acquisition of all of the
offshore  oil  and  gas  properties  in the  Gulf  of  Mexico  owned  by  Zapata
Exploration  Company, the "Zapata Properties." The purchase price for the Zapata
properties and a related  receivable of $174,000  ($84,000 at December 31, 1995)
was  $2,748,000 in cash and an obligation to pay a production  payment to Zapata
based on future production. See "Properties - Zapata Properties."

         Effective September 1, 1996, the Company sold the Bayou Sorrel Field to
National  Energy  Group,  Inc. for a sales price of  $11,000,000,  consisting of
$9,000,000  in cash and 477,612  shares of National  Energy Group,  Inc.  common
stock,  which were valued at $2,000,000  as of the closing  date.  The field was
purchased by the Company on December 27, 1995 from Shell Western E & P, Inc. for
$10,500,000,  which included a $204,000 broker's fee and a related receivable of
$600,000.


<PAGE>
<TABLE>
<CAPTION>

                                                       PANACO, INC.
                               Unaudited Pro Forma Combined Statement of Income (Operations)
                                           For the Year Ended December 31, 1996
                                       (Amounts in thousands except per share data)



                                                                            Amoco                      Bayou
                                                                          Properties   PANACO, Inc.   Sorrel     PANACO,
                                                                                                                    Inc.
                                                                Amoco     Pro Forma    Pro Forma     Pro Forma   Pro Forma
                                                 PANACO, Inc.  Properties Adjustments   Combined     Adjustments  Combined
                                                 --------------------------------------------------  -----------------------

REVENUS
<S>                                               <C>           <C>       <C>           <C>          <C>         <C>
     Oil and gas revenue                          $   20,063    $10,925   $        -    $  30,988    $ (2,010)   $   28,978


COSTS AND EXPENSES
     Lease operating
                                                       8,477      2,538         110         11,125       (733)       10,392
     Depreciation, depletion and amortization
                                                       9,022          -       6,974         15,996       (888)       15,108
     Exploration expenses
                                                           -          -           -              -           -            -
     Provision for losses and (gains) on
          disposition and write-down of assets
                                                           -          -           -              -           -            -
     General and administrative
                                                         772          -           -            772           -          772
     Production and ad valorem taxes
                                                         559          -           -            559       (239)          320
     West Delta fire loss
                                                         500          -           -            500           -          500
                                                 ------------  ---------  ----------  -------------  ----------  -----------
          Total
                                                      19,330      2,538       7,084         28,952     (1,860)       27,092
                                                 ------------  ---------  ----------  -------------  ----------  -----------

NET OPERATING INCOME (LOSS)
                                                         733      8,387     (7,084)          2,036       (150)        1,886
                                                 ------------  ---------  ----------  -------------  ----------  -----------

OTHER INCOME (EXPENSE)

     Gain/(loss) on investment in securities           (258)          -           -          (258)           -        (258)

     Interest income/(expense), (net)                (2,514)          -     (1,630)        (4,144)         588      (3,556)
                                                 ------------  ---------  ----------  -------------  ----------  -----------

          Total                                      (2,772)          -     (1,630)        (4,402)         588      (3,814)

NET INCOME (LOSS) BEFORE INCOME TAXES
                                                     (2,039)      8,387     (8,714)        (2,366)         438      (1,928)

INCOME TAXES (BENEFIT)
                                                                      -           -              -           -            -
                                                           -
                                                 ------------  ---------  ----------  -------------  ----------  -----------

NET INCOME (LOSS)
                                                  $ (2,039)    $  8,387   $ (8,714)    $   (2,366)     $   438     $(1,928)
                                                 ============  =========  ==========  =============  ==========  ===========

PRIMARY EARNINGS (LOSS) PER SHARE                   $(0.16)                            $    (0.17)                 $ (0.13)
                                                 ============                         =============              ===========


     Weighted average shares outstanding             12,742                  1,540         14,282                   14,282
                                                 ============                         =============              ===========



                                      The  accompanying  notes  are an  integral
part of this statement.
</TABLE>

                                                                    26
<PAGE>

<TABLE>
<CAPTION>

                                                               PANACO, Inc.
                                       Unaudited Pro Forma Combined Statement of Income (Operations)
                                                   For the Year Ended December 31, 1995
                                               (Amounts in thousands except per share data)


                                                                                                                       PANACO, Inc.
                                                                            Zapata         Amoco        Pro Forma       Pro Forma
                                                         PANACO, Inc.     Properties     Properties    Adjustments       Combined
                                                       -----------------------------------------------------------------------------

REVENUES
<S>                                                                 <C>
      Oil and gas revenue                                    $ 18,447       $  3,623       $ 12,528     $        -           34,598


COSTS AND EXPENSES
      Lease operating
                                                                8,055          1,460          2,991            314           12,820
      Depreciation, depletion and amortization
                                                                8,064              -              -         12,408           20,472
      Exploration expenses
                                                                8,112              -              -              -            8,112
      Provision for losses and (gains) on
           disposition and write-down of assets
                                                                  751              -              -              -              751
      General and administrative
                                                                  690              -              -              -              690
      Production and ad valorem taxes
                                                                1,078              -              -              -            1,078
                                                       -----------------------------------------------------------------------------
           Total
                                                               26,750          1,460          2,991         12,722           43,923
                                                       -----------------------------------------------------------------------------

NET OPERATING INCOME (LOSS)
                                                              (8,303)          2,163          9,537       (12,722)          (9,325)
                                                       -----------------------------------------------------------------------------

OTHER INCOME (EXPENSE)
      Interest expense (net)
                                                                (987)              -              -        (2,901)          (3,888)
                                                       -----------------------------------------------------------------------------

NET INCOME (LOSS) BEFORE INCOME TAXES
                                                              (9,290)          2,163          9,537       (15,623)         (13,213)

INCOME TAXES (BENEFIT)
                                                                    -              -              -              -                -
                                                       -----------------------------------------------------------------------------

NET INCOME (LOSS)                                           $ (9,290)        $ 2,163       $  9,537     $ (15,623)      $  (13,213)
                                                       =============================================================================

PRIMARY EARNINGS (LOSS) PER SHARE                             $(0.81)                                                   $    (0.98)
                                                       ===============                                             =================

      Weighted average shares outstanding
                                                               11,505                                        2,000           13,505
                                                       ===============                                             =================


                                      The  accompanying  notes  are an  integral
part of this statement.
</TABLE>


                                                                  27














NOTES TO UNAUDITED PRO FORMA COMBINED STATEMENTS OF INCOME (OPERATIONS)
                                  For the years ended December 31, 1996 and 1995


1.       Basis of Presentation

1996:

         The Unaudited Pro Forma Statement of Income  (Operations)  for the year
ended December 31, 1996 presents the combined  effects of the acquisition of the
Amoco  Properties,  which  closed on  October  8, 1996 and the sale of the Bayou
Sorrel  Field,  effective  September 1, 1996 as if these  transactions  had been
consummated on January 1, 1995. The results of the Amoco Properties are included
in the Company's 1996 results of operations after the acquisition date,  October
8,  1996.  The pro  forma  revenues,  expenses  and  adjustments  for the  Amoco
Properties are only for the period of January 1 to October 7, 1996.

         Included in 1996 is the  issuance of 2,000,000  Common  Shares to Amoco
Production  Company.  These  shares are  included in the  Company's  1996 actual
weighted  average  shares from  October 8 to December  31, the  1,540,000 is the
weighted average number of shares from January 1 to October 7.

         The 1996  pro  forma  total  weighted  average  shares  outstanding  of
14,282,000 is based on the actual weighted  average number of 12,742,000 and the
2,000,000  Common Shares  issued to Amoco  Production  Company  weighted for the
period of January 1 to October 7, or 1,540,000.

1995:

         The Unaudited Pro Forma Statements of Income  (Operations) for the year
ended December 31, 1995 presents the combined  effects of the acquisition of the
Amoco  Properties,  which closed on October 8, 1996, and the Zapata  Properties,
closed on July 26, 1995, as if the  acquisitions had been consummated on January
1, 1995.

         Because the Bayou  Sorrel  Field was  purchased  on December  27, 1995,
there was no activity  included in the Company's  results of operations in 1995,
and therefore, no pro forma elimination adjustments are necessary for 1995.

         The results of the Zapata Properties are included in the Company's 1995
results of operations  after the acquisition  date, July 26, 1995. The pro forma
revenues,  expenses and adjustments  for the Zapata  Properties are only for the
period of January 1 to July 25, 1995.

         The 1995  pro  forma  total  weighted  average  shares  outstanding  of
13,505,000 is based on the actual weighted  average number of 11,505,000 and the
2,000,000  Common Shares issued to Amoco  Production  Company,  weighted for the
entire year.

1996 & 1995:

         There are no pro  forma  adjustments  for  General  and  Administrative
expenses as the Company  anticipates  no increases in this category based on the
nature of the assets acquired.

          The shares  issuable upon conversion of the 1996 Tranche A Convertible
Subordinated  Notes, a part of the financing of the Amoco  acquisition,  are not
considered common stock equivalents and are not included


<PAGE>




in the weighted average shares outstanding calculation for either period.

2.       Amoco and Zapata Properties Pro Forma Adjustments

         Additional lease operating expenses of $110,000 in 1996 and $314,000 in
1995  represent the  estimated  additional  insurance  costs of owning the Amoco
Properties  and the Zapata  Properties.  These amounts are  estimated  using the
Company's current insurance rates for owning the properties  acquired or similar
properties.

         Additional depletion and depreciation expense of $6,974,000 in 1996 and
$12,408,000 in 1995  represents  the estimated  depletion and  depreciation  for
assets acquired in the respective  acquisitions assuming the purchase prices and
proved  reserve  amounts were identical to those that existed at the time of the
actual acquisitions.

         Additional  interest  expense of $1,630,000  in 1996 and  $2,901,000 in
1995 represents the increased  borrowings at January 1, 1995. The purchase price
assumed for each  acquisition is the same as at the actual date of  acquisition.
It is  assumed  that  cash on hand at the  beginning  of 1995  was  used for the
acquisitions,  with the  balance  of any cash  required  being  funded  with the
Company's  Bank  Facility and the 1996  Subordinated  Notes,  using the rates in
effect at the time of the acquisition for the Bank Facility and 12% for the 1996
Subordinated  Notes, also the same rate received at the time of the acquisition.
These assumptions would have required the Company to borrow  $32,000,000 for the
cash portion of the Amoco  Acquisition,  $17,000,000 under the 1996 Subordinated
Notes at 12% and $15,000,000 under the Company's Bank Facility,  with an assumed
interest rate of 7.25%, the actual weighted average rate the Company incurred at
the time of the acquisition.

3.       Bayou Sorrel Pro Forma Adjustments

         The  adjustments  with  respect to the sale of the Bayou  Sorrel  Field
represent  the  revenues  and expenses of the Field from January 1 to August 31,
1996.  Interest  expense is reduced to reflect the  elimination of the financing
for the  acquisition,  closed on December  28, 1995.  The  reduction in interest
expense is based on the Company's pro forma  elimination of the debt  associated
with the purchase of the Bayou Sorrel Field.  The Company  borrowed  $10,455,000
for the purchase  which closed on December 28, 1995, and had reduced this amount
during 1996. The interest rate averaged  approximately  7.5%. The purchase price
for the Field was  $10,455,000  which included a related  receivable of $600,000
and a brokers fee of $205,000.

         Although  the sale of the Bayou  Sorrel  field  closed on November  22,
1996,  the buyer assumed all benefits and  liabilities  of the assets sold after
the effective date of the sale, September 1, 1996.

Item 3.  Legal Proceedings.

         The Company is presently a party to several legal proceedings, which it
considers to be routine and in the ordinary  course of its business.  Management
has no knowledge of any pending or threatened claims that could give rise to any
litigation which management believes would be material to the Company.



Item 4.  Submission of Matters to a Vote of Security Holders.

         None.



<PAGE>




Item 5.  Description of Capital Stock.

         The  authorized  capital  shares of the Company  consist of  40,000,000
Common Shares,  par value $.01 per share, and 5,000,000  preferred  shares,  par
value $.01 per share.  The following  description  of the capital  shares of the
Company does not purport to be complete or to give full effect to the provisions
of  statutory  or common law and is subject in all  respects  to the  applicable
provisions of the Company's  Certificate of  Incorporation  and the  information
herein is qualified in its entirety by this reference.

Common Shares

         The Company is  authorized  by its  Certificate  of  Incorporation,  as
amended,  to issue  40,000,000  Common Shares,  of which  20,382,087  shares are
issued  and  outstanding  as of the  date  hereof  and are  held  by over  6,000
shareholders.

         The  holders of Common  Shares are  entitled to one vote for each share
held on all matters  submitted to a vote of common  holders.  The Common  Shares
have no cumulative voting rights,  which means that the holders of a majority of
the Common Shares  outstanding  can elect all the directors if they choose to do
so. In that event, the holders of the remaining shares will not be able to elect
any directors.

         Each Common Share is entitled to participate  equally in dividends,  as
and when declared by the Board of Directors,  and in the  distribution of assets
in the  event of  liquidation,  subject  in all  cases to any  prior  rights  of
outstanding preferred shares. The Common Shares have no preemptive or conversion
rights,  redemption  rights, or sinking fund provisions.  The outstanding Common
Shares are duly authorized, validly issued, fully paid, and nonassessable.

Warrants

         The Company has  outstanding  warrants to acquire 289,365 Common Shares
at  prices  ranging  from  $2.00  to  $2.375.  These  warrants  contain  limited
provisions for adjustment of the number of shares in the event of a subdivision,
combination or reclassification of Common Shares. They do not have any rights to
demand  registration  or "piggy back" rights in the event of a  registration  of
Common Shares.

         A group of the  Company's  lenders,  pursuant to the 1993  Subordinated
Notes,  acquired 443,221 Common Shares upon the exercise of warrants,  which are
restricted  securities  within the meaning of the Securities Act of 1933 and can
only be sold pursuant to an exemption from  registration or an offering which is
the subject of an effective registration statement.  The holders of these shares
have demand registration rights and "piggy back" rights in the event the Company
registers an offering of its Common Shares.

Convertible Securities

         After August 28, 1997, a group of the  Company's  lenders,  pursuant to
the 1996 Tranche A Convertible  Subordinated  Notes issued October 8, 1996, have
the right to convert  $8,500,000 in notes into 2,060,606 Common Shares at $4.125
per share, which Common Shares would be restricted securities within the meaning
of the Securities Act of 1933 and can only be sold pursuant to an exemption from
registration  or an offering  which is the subject of an effective  registration
statement. The holders of these shares, after conversion, will have the right to
demand  registration  of the  shares  or "piggy  back" in the event the  Company
registers an offering of its Common Shares.



<PAGE>




Preferred Shares

         Pursuant to the Company's Certificate of Incorporation,  the Company is
authorized to issue  5,000,000  preferred  shares,  and the  Company's  Board of
Directors,  by  resolution,  may  establish  one or more  classes  or  series of
preferred  shares  having the number of shares,  designations,  relative  voting
rights,   dividend  rates,   liquidation  and  other  rights  preferences,   and
limitations that the Board of Directors fixes without any shareholder approval.

         A number of preferred shares equal to one share for every one hundredth
of one Common Share  outstanding has been reserved for issuance  pursuant to the
Company's  Shareholder Rights Plan, and designated as Series A Preferred Shares.
No shares of this Series A Preferred Shares have been issued or are outstanding.
Other than the  designation as Series A, the Series A Preferred  Shares have not
had designations,  preferences and rights established by the Board of Directors.
See "Shareholder  Rights Plan," below. The designations,  preferences and rights
will be established  if and when any of the Series A Preferred  Shares are to be
issued.

Transfer Agent

         The transfer  agent,  registrar and dividend  disbursing  agent for the
Common Shares is American Stock  Transfer and Trust  Company,  6201 15th Avenue,
Brooklyn, New York 11204.

Price Range of Common Shares

         The Common Shares are quoted on the National  Association of Securities
Dealers, Inc. Automated Quotation System ("NASDAQ") - National Market, under the
symbol "PANA".  They commenced  trading  September 21, 1989. The following table
sets  forth,  for the  periods  indicated,  the high and low closing bid for the
Common Shares.

                                    1994

 1st Quarter           2nd Quarter            3rd Quarter       4th Quarter
 -----------           -----------            -----------       -----------
High  3 5/8              4 3/8                  4 5/8              4 1/4
Low   2 9/16             2 15/16                3 1/2              3 5/8

                                    1995

 1st Quarter           2nd Quarter            3rd Quarter       4th Quarter
 -----------           -----------            -----------       -----------
High  4 5/16             4 7/8                  5  5/16             5
Low   3 5/8              4                      4 1/8               4
                                    1996

   1st Quarter         2nd Quarter            3rd Quarter       4th Quarter
   -----------         -----------            -----------       -----------
High  5                  4 1/2                  6                   6 3/8
Low   3 7/16             3 11/16                3 3/8               4 3/8

         On March 18, 1997, the last sale price of the Common Shares as reported
on  the  NASDAQ-  NM  was  $4.625  per  share.  There  are  approximately  6,000
shareholders of the Common Shares.

Dividend Policy


<PAGE>





         The Company has not paid any cash dividends on the Common  Shares.  The
Delaware General  Corporation Law, to which the Company is subject,  permits the
Company to pay  dividends  only out of its  capital  surplus  (the excess of net
assets over the aggregate par value of all outstanding capital shares) or out of
net  profits  for the  fiscal  year in which the  dividend  is  declared  or the
preceding fiscal year. The Bank Facility and the Subordinated  Notes require the
consent of the lenders to any dividends or  distributions  by the Company and to
any purchases by the Company of Common Shares.  The Company retains its earnings
and cash flow to finance the  expansion  and  development  of its  business  and
currently  does not intend to pay  dividends  on the Common  Shares.  Any future
payments of dividends  will depend on, among other factors,  the earnings,  cash
flow, financial condition, and capital requirements of the Company.

Shareholder Rights Plan

         On  August  2,  1995,  the  Board  of  Directors  declared  a  dividend
distribution  of one Right for each  outstanding  Common Share of the Company to
the  shareholders of record on August 3, 1995,  (the "Record Date").  Each Right
entitles the registered holder to purchase from the Company one one-hundredth of
one share of the Series A Preferred Shares (the "Preferred Shares"),  or in some
circumstances,  Common  Shares,  other  securities,  cash  or  other  assets  as
summarized below, at a price of $30.00 per share (the "Purchase Price"), subject
to adjustment. The description and terms of the Rights are set forth in a Rights
Agreement  (the  "Rights  Agreement")  between the Company  and  American  Stock
Transfer and Trust Company, as Rights Agent.

         The  Shareholder  Rights Plan was designed to reduce the  likelihood of
inadequate bids, partial bids, market  accumulations and front-end loaded offers
to acquire the Company's  Common  Shares,  which are not in the best interest of
all the  Company's  shareholders.  The  adoption  of the Plan  communicates  the
Company's  intention to resist such  actions as are not in the best  interest of
all  shareholders  and provides  time for the Board of Directors to consider any
offer and seek alternative  transactions to maximize shareholder value. The Plan
was adopted upon the advice of the Company's investment bankers in 1995.

         Until  the  earlier  to occur of (i) the date of a public  announcement
that a person  or group of  affiliated  or  associated  persons  (an  "Acquiring
Person") acquired, or obtained the right to acquire, beneficial ownership of 20%
or more  of the  outstanding  Common  Shares  or (ii)  ten  days  following  the
commencement  or announcement of an intention to make a tender offer or exchange
offer that would result in a Person or group beneficially  owning 20% or more of
such  outstanding  Common  Shares (the  earlier of such dates  being  called the
"Distribution  Date"), the Rights will be evidenced,  with respect to any of the
Company's Common Share  certificates  outstanding as of the Record Date, by such
Common  Share  certificate.  The  Rights  Agreement  provides  that,  until  the
Distribution  Date, the Rights will be transferred with and only with the Common
Shares.  Until the Distribution Date (or earlier redemption or expiration of the
Rights),  new  Common  Share  certificates  issued  after the  Record  Date upon
transfer  or  new  issuance  of  the  Common  Shares  will  contain  a  notation
incorporating the Rights Agreement by reference. Until the Distribution Date (or
earlier  redemption or expiration of the Rights),  the surrender for transfer of
any of the Company's  Common Share  certificates  outstanding  as of the Record,
will also  constitute  the  transfer  of the Rights  associated  with the Common
Shares  represented by such  certificate.  As soon as practicable  following the
Distribution  Date,  separate   certificates   evidencing  the  Rights  ("Rights
Certificates")  will be mailed to holders  of record of the Common  Shares as of
the  close  of  business  on the  Distribution  Date and  such  separate  Rights
Certificates alone will evidence the Rights.

         The Rights are not exercisable until the Distribution  Date. The Rights
will  expire on August 4,  2005,  unless  earlier  redeemed  by the  Company  as
described below.



<PAGE>




         The Purchase  Price  payable,  and the number of  Preferred  Shares (or
Common  Shares,  other  securities,  cash or other assets,  as may be necessary)
issuable upon exercise of the Rights are subject to adjustment from time to time
to prevent  dilution (i) in the event of a stock  dividend on, or a subdivision,
combination or  reclassification of the Preferred Shares, (ii) upon the grant to
holders of the Preferred  Shares of certain  rights or warrants to subscribe for
Preferred Shares or convertible securities at less than the current market price
of the  Preferred  Shares  or (iii)  upon the  distribution  to  holders  of the
Preferred  Shares of  evidences of  indebtedness  or assets  (excluding  regular
periodic  cash  dividends  out of  earnings or  retained  earnings or  dividends
payable in the Preferred  Shares) or of  subscription  rights or warrants (other
than those referred to above).

         In the  event  that the  Company  were  acquired  in a merger  or other
business  combination  transaction of 50% or more of its assets or earning power
were sold, proper provision shall be made so that each holder of a Right,  other
than of Rights that are or were beneficially owned by an Acquiring Person (which
will thereafter be void) shall  thereafter  have the right to receive,  upon the
exercise thereof at the then current exercise price of the Right, that number of
common  shares of the acquiring  company  which at the time of such  transaction
would have a market value of two times the exercise  price of the Right.  In the
event that an Acquiring  Person becomes the  beneficial  owner of 20% or more of
the  outstanding  Common  Shares,  proper  provision  shall be made so that each
holder of a Right,  other than of Rights that are or were beneficially  owned by
the Acquiring  Person (which will thereafter be void),  will thereafter have the
right to receive upon  exercise  that number of the Common Shares (or in certain
other  circumstances,  assets or other securities)  having a market value of two
times the exercise price of the Right.

         With certain  exceptions,  no adjustment in the Purchase  Price will be
required until  cumulative  adjustments  require an adjustment of at least 1% in
such Purchase Price. No fractional  shares will be issued (other than fractional
shares which are integral multiples of one one-hundredth of one Preferred Share)
and, in lieu  thereof,  an  adjustment  in cash will be made based on the market
price of the  Preferred  Shares on the last  Trading  Date  prior to the date of
exercise.

         At any time prior to 5:00 P.M. Kansas City,  Missouri time on the tenth
calendar day after the first date after the public announcement that a person or
group of affiliated or associated persons has acquired  beneficial  ownership of
20% or  more  of the  outstanding  Common  Shares  of the  Company  (the  "Share
Acquisition Date"), the Company may redeem the Rights in whole, but not in part,
at a price of $0.005 per Right (the  "Redemption  Price").  Following  the Share
Acquisition  Date,  but prior to an event listed in Section  13(a) of the Rights
Agreement,  the  Company  may  redeem the  Rights in  connection  with any event
specified in Section 13(a) in which all shareholders are treated alike and which
does  not  include  the  Acquiring  Person  or  his  Affiliates  or  Associates.
Thereafter,  the Company's right of redemption may be reinstated if an Acquiring
Person reduces his beneficial ownership to 10% or less of the outstanding Common
Shares in a  transaction  or series of  transactions  not involving the Company.
Immediately upon the action of the Board of Directors of the Company electing to
redeem the Rights,  the Company shall make announcement  thereof,  and upon such
election,  the right to exercise the Rights will terminate and the only right of
the holders of Rights will be to receive the Redemption Price.

         Until a Right is exercised,  the holder thereof,  as such, will have no
rights as a shareholder of the Company, including, without limitation, the right
to vote or to receive dividends.

         The  provisions of the Rights  Agreement may be amended by the Board of
Directors in order to cure any ambiguity or correct any defect or inconsistency,
extend the  Redemption  Period  and,  prior to the  Distribution  Date,  to make
changes  deemed to be in the best  interests  of the  holders  of the Rights or,
after the  Distribution  Date, to make such other changes which do not adversely
affect the  interests of the holders of the Rights  (excluding  the interests of
any Acquiring Person and its affiliates and associates).


<PAGE>




Certain Anti-takeover Provisions

         The  provisions  of the  Company's  Certificate  of  Incorporation  and
By-laws  summarized  in the  following  paragraphs  may be  deemed  to  have  an
anti-takeover effect and may delay, defer, or prevent a tender offer or takeover
attempt  that a  shareholder  might  consider to be in that  shareholder's  best
interests,  including  attempts  that might  result in a premium over the market
price for the shares held by shareholders.  In addition,  certain  provisions of
Delaware law and the Company's  Long-Term Incentive Plan may be deemed to have a
similar effect.

         Certificate of Incorporation and By-laws. The Board of Directors of the
Company  is  divided  into  three  classes.  The term of  office of one class of
directors expires at each annual meeting of shareholders,  when their successors
are  elected  and  qualified.   Directors  are  elected  for  three-year  terms.
Shareholders  may remove a director  only for cause.  In  general,  the Board of
Directors,  not the Company's shareholders,  has the right to appoint persons to
fill vacancies on the Board of Directors.

         Pursuant to the Company's  Certificate of Incorporation,  the Company's
Board of Directors,  by resolution,  may establish one or more classes or series
of preferred  shares having the number of shares,  designation,  relative voting
rights,  dividend  rates,  liquidation  and  other  rights,   preferences,   and
limitations that the Board of Directors fixes without any shareholder  approval.
Any rights, preferences,  privileges, and limitations that are established could
have the effect of impeding or  discouraging  the  acquisition of control of the
Company.

         The  Company's  Certificate  of  Incorporation  contains a "fair price"
provision that requires the  affirmative  vote of the holders of at least 80% of
the voting shares of the Company and the affirmative vote of at least two-thirds
of the voting shares of the Company not owned,  directly or  indirectly,  by the
Related Person (hereafter defined) to approve any merger, consolidation, sale or
lease of all or substantially all of the assets of the Company, or certain other
transactions  involving  any  Related  Person.  For  purposes  of the fair price
provision,  a "Related Person" is any person  beneficially owning 10% or more of
the voting shares of the Company who is a party to the  Transaction  at issue, a
director who is also an officer of the Company and is a party to the Transaction
at issue, an affiliate of either such person,  and certain  transferees of those
persons.  The voting  requirement  is not  applicable  to certain  transactions,
including  those that are approved by the  Company's  Continuing  Directors  (as
defined in the Certificate of  Incorporation)  or that meet certain "fair price"
criteria contained in the Certificate of Incorporation.

         The  Company's  Certificate  of  Incorporation  further  provides  that
shareholders  may act only at an annual or special meeting of  shareholders  and
not by written consent, that special meetings of shareholders may be called only
by the Board of  Directors,  and that  only  business  proposed  by the Board of
Directors may be considered at special meetings of shareholders.

         The Company's  Certificate of Incorporation also provides that the only
business  (including  election of directors) that may be considered at an annual
meeting of shareholders,  in addition to business proposed (or persons nominated
to be  directors)  by the  directors  of the Company,  is business  proposed (or
persons  nominated to be directors) by  shareholders  who comply with the notice
and disclosure requirements of the Certificate of Incorporation. In general, the
Certificate of Incorporation requires that a shareholder give the Company notice
of  proposed  business  or  nominations  no later than 60 days before the annual
meeting  of  shareholders  (meaning  the  date on  which  the  meeting  is first
scheduled and not  postponements or adjournments  thereof) or (if later) 10 days
after  the  first  public  notice  of the  annual  meeting  is  sent  to  common
shareholders. In general, the notice must also contain certain information about
the  shareholder  proposing  the  business or  nomination,  his  interest in the
business,  and (with respect to nominations for director)  information about the
nominee  of the nature  ordinarily  required  to be  disclosed  in public  proxy
solicitations. The shareholder must also submit a notarized


<PAGE>




letter  from  each of his  nominees  stating  the  nominee's  acceptance  of the
nomination  and  indicating  the  nominee's  intention  to serve as  director if
elected.

         The  Certificate  of  Incorporation   also  restricts  the  ability  of
shareholders  to interfere  with the powers of the Board of Directors in certain
specified ways, including the constitution and composition of committees and the
election and removal of officers.

         The Certificate of Incorporation  provides that approval by the holders
of at least two-thirds of the outstanding voting shares is required to amend the
provisions  of the  Certificate  of  Incorporation  discussed  in the  preceding
paragraphs and certain other provisions,  except that approval by the holders of
at least 80% of the  outstanding  voting  shares of the Company,  together  with
approval by the holders of at least two-thirds of the outstanding  voting shares
not owned,  directly or indirectly,  by the Related Person, is required to amend
the fair price  provisions  and except that  approval of the holders of at least
80% of the  outstanding  voting  shares  is  required  to amend  the  provisions
prohibiting shareholders from acting by written consent.

         Delaware  Anti-takeover  Statute. The Company is a Delaware corporation
and is  subject to Section  203 of the  Delaware  General  Corporation  Law.  In
general,  Section 203 prevents an "interested shareholder" (defined generally as
a person owning 15% or more of the  Company's  outstanding  voting  shares) from
engaging  in a  "business  combination"  (as  defined in  Section  203) with the
Company for three years  following  the date that  person  became an  interested
shareholder unless (a) before that person became an interested shareholder,  the
Board of  Directors  of the  Company  approved  the  transaction  in  which  the
interested shareholder became an interested shareholder or approved the business
combination,  (b) upon  consummation  of the  transaction  that  resulted in the
interested  shareholder's  becoming an interested  shareholder,  the  interested
shareholder owns at least 85% of the voting shares of the Company outstanding at
the time the transaction  commenced  (excluding shares held by directors who are
also  officers of the  Company  and by employee  stock plans that do not provide
employees with the right to determine confidentially whether shares held subject
to the plan will be tendered in a tender or exchange  offer),  or (c)  following
the  transaction  in which that person  became an  interested  shareholder,  the
business  combination  is approved by the Board of  Directors of the Company and
authorized at a meeting of shareholders  by the affirmative  vote of the holders
of at least two-thirds of the outstanding voting shares of the Company not owned
by the interested shareholder.

         Under  Section  203,  these  restrictions  also do not apply to certain
business  combinations  proposed  by an  interested  shareholder  following  the
announcement  or  notification  of one  of  certain  extraordinary  transactions
involving the Company and a person who was not an interested  shareholder during
the  previous  three  years or who  became an  interested  shareholder  with the
approval  of a  majority  of the  Company's  directors,  if  that  extraordinary
transaction  is approved or not opposed by a majority of the  directors who were
directors  before any person  became an interested  shareholder  in the previous
three years or who were  recommended  for  election  or elected to succeed  such
directors by a majority of such directors then in office.

         Long-Term  Incentive  Plan.  Awards  granted  pursuant to the Company's
Long-Term  Incentive  Plan may  provide  that,  upon a change in  control of the
Company,  (a) each  holder of an option  will be granted a  corresponding  stock
appreciation  right,  (b) all outstanding  stock  appreciation  rights and stock
options become immediately and fully vested and exercisable in full, and (c) the
restriction  period on any restricted  stock award shall be accelerated  and the
restrictions shall expire.

         Debt.  Certain  provisions in the Bank Facility and Subordinated  Notes
may also impede a change in control,  in that they provide that the loans become
due if there is a change  in the  management  of the  Company  or a merger  with
another company.


<PAGE>




Item 6.  Selected Financial Data.

         Selected  financial data as of the dates and for the periods  indicated
is presented  below.  In 1995, the Company  changed its method of accounting for
oil and gas  operations  from the full  cost  method to the  successful  efforts
method.  The  information  provided  below reflects this change for all periods.
This data also reflects a retroactive  restatement for all periods  presented to
reflect the merging of the Company's  predecessor,  Pan Petroleum  MLP, into the
Company  effective  September 1, 1992 and reflects the  acquisition  of the West
Delta  offshore  properties  as of May 28, 1991,  accounted  for  utilizing  the
"purchase" method.
<TABLE>
<CAPTION>

Summary of Operations:
For
the year ended December 31,
                                           1996(a)       1995              1994           1993          1992
                                           -------       ----              ----           ----          ----
<S>                                  <C>                <C>             <C>           <C>            <C>
Oil and Gas revenue                  $  20,063,000      18,447,000      17,338,000    12,605,000     13,335,000
Depreciation, depletion
 & amortization                          9,022,000       8,064,000       6,038,000     4,288,000      4,245,000
Lease operating expense                  8,477,000       8,055,000       5,231,000     5,297,000      5,762,000
Production and ad valorem taxes            559,000       1,078,000       1,006,000       754,000        867,000
Exploration expenses                           ---       8,112,000            ---            ---           ---
Provision for losses and (gains)
 on disposition and write-downs
 of assets                                     ---         751,000       1,202,000     3,824,000           ---
West Delta fire loss                       500,000            ---             ---            ---           ---

Net operating income (loss)                733,000     (8,303,000)       3,274,000    (2,100,000)     1,922,000

Gain/(loss) on investment
  in common stock                         (258,000)           ---             ---            ---            ---
Interest expense (net)                   2,514,000        987,000        1,623,000     1,886,000      2,323,000

Net income (loss)                       (2,039,000)    (9,290,000)       1,115,000    (3,986,000)      (401,000)

Net income (loss) per
 Common Share                        $       (0.16)         (0.81)            0.11         (0.53)         (0.05)

Summary Balance Sheet Data:

Oil and Gas Properties, pipelines
and equipment (net)                     61,150,000      29,485,000      23,945,000    19,183,000       26,448,000
Total assets                            73,768,000      36,169,000      29,095,000    24,432,000       31,085,000
Long-term debt                          49,500,000      22,390,000      12,500,000    12,465,000       15,380,000
Stockholders' equity                    17,498,000       9,174,000      14,882,000     8,744,000       11,700,000
Dividends per Common Share           $        0.00            0.00            0.00          0.00             0.00
</TABLE>

(a) Results for the period ended December 31, 1996, were substantially  affected
by the explosion and fire. See "Recent Explosion and Fire". Such results include
the results of operations  through  August 31 for the Bayou Sorrel Field,  which
was sold effective September 1, 1996, and the results of operations of the Amoco
Properties from after October 8, 1996, their date of acquisition.

                                                        34

<PAGE>




Item 7. Management's  Discussion and Analysis of Financial Condition and Results
of Operations.

For the years ended December 31, 1996 and 1995:

General

      The oil and gas industry has experienced  significant volatility in recent
years because of the fluctuatory relationship of the supply of most fossil fuels
relative to the demand for such  products and other  uncertainties  in the world
energy  markets.  These  industry  conditions  should  be  considered  when this
analysis of the Company's operations is read.

      The Company  experienced  an explosion  and fire on April 24, 1996 at Tank
Battery #3 in West Delta  resulting in the fields being shut-in from April 24th,
until being  returned to production  on October 7, 1996.  The loss of 67 days of
production in the second  quarter and the entire third quarter  resulted in lost
revenues  estimated by management  to be  approximately  $6,000,000.  During the
second  quarter the Company  expensed  $500,000 for its loss as a result of this
explosion.  No further  losses have been  recognized  or are  anticipated.  This
$500,000 amount included $225,000 in deductibles under the Company's insurance.

      The Company  has spent  $8,500,000  on Tank  Battery #3  inclusive  of the
$500,000 expensed during second quarter and has received  reimbursement from its
insurance  company  of  $3,900,000,   after  satisfaction  of  the  $225,000  in
deductibles.  The excess of expenditures  over insurance  reimbursement has been
capitalized.  No additional expenditures have been made or are anticipated.  The
Company is  planning  to file suits  against  the  employers  of the persons who
caused the  incidents  for  recovery  of these  costs and its lost  profits.  No
assurance  can be given that the Company will  successfully  recover any amounts
sought in any such suits.

Results of Operations

      "Oil and Gas revenue"  increased  8% for the year ended  December 31, 1996
when compared to the year ended December 31, 1995, in spite of the explosion and
fire at West Delta. The fire and explosion substantially reduced oil and natural
gas  production  for 1996, as production  from the West Delta Fields was shut-in
from the day of the  explosion  and fire (April 24, 1996) until October 7, 1996.
The  decrease  in  production  from West  Delta was  offset by  production  from
properties acquired. The Amoco Properties,  acquired on October 8, 1996, and the
Bayou Sorrel Field,  acquired on December 28, 1995 had no production realized by
the Company in 1995. The offshore  properties of Zapata Exploration Company were
acquired  on July 26,  1995 with the  production  from  these  properties  being
included in the Company's  results of operations  from July 27 through  December
31, 1995. Although production  increased in 1995 over 1994, primarily due to the
acquisition of the Zapata  Properties in July 1995, a drop in natural gas prices
offset most of the benefit of the increased production.

      Production.  Natural gas production decreased 31% to 6,788,000 Mcf in 1996
from  9,850,000 Mcf in 1995.  Natural gas production  from West Delta  decreased
from  7,825,000  Mcf in 1995 to  2,058,000  Mcf for the  same  period  in  1996,
primarily  a result of the  explosion  and fire on April 24,  1996.  A secondary
factor in the decrease in West Delta production was a decline in 1996 production
from four  horizontal  wells  drilled in 1994.  These four wells  produced  more
natural gas in January to April,  1995 than they did for the same period in 1996
(in the  period  prior to the  explosion  and  fire).  Natural  gas  production,
primarily from the Zapata and the Amoco  Properties,  and the Bayou Sorrel Field
(primarily an oil field), somewhat offset the decrease in West Delta production.
The  increase  in Zapata  production  realized by the Company is due to the fact
that they were acquired on July 26, 1995. The production  from these  properties
included  in the year ended  December  31, 1995 is only from July 27 to December
31,  while the  production  for the full year is  included  in 1996.  The Zapata
acquisition

                                                        35

<PAGE>




was the primary factor in natural gas production increasing 21% to 9,850,000 Mcf
in 1995 over 1994.

      Oil  production  from the West Delta  Fields also  decreased  for the year
ended  December 31, 1996 when compared to the same period in 1995,  from 132,000
barrels to 57,000 barrels. However, as with natural gas, acquisitions offset the
decrease from West Delta. The Bayou Sorrel Field,  which produces primarily oil,
produced 93,000 barrels in 1996 which,  along with the Amoco Properties,  had no
oil  production  realized  by the  Company  in 1995,  more than  offsetting  the
decrease from West Delta.  Also,  oil production  from the Zapata  Properties is
included for the full year in 1996,  with only the period of July 27 to December
31  included in the same period of 1995,  due to the July 26  acquisition  date,
also  offsetting the decrease from West Delta.  These factors  resulted in a 62%
increase in oil  production,  from 170,000 barrels in 1995 to 276,000 barrels in
1996. Oil production in 1995 increased 24% over 1994, also primarily as a result
of the Zapata acquisition in July 1995.

      On an Mcf equivalent basis, total oil and natural gas production decreased
22% in 1996 when compared to 1995, and increased 21% in 1995 over 1994.

      Prices.  Natural gas prices increased in 1996 to $2.75 per Mcf compared to
$1.58 in 1995. The Company  entered into a natural gas swap agreement  beginning
January  1,  1996 for the  sale of  15,000  MMBtu of gas each day in 1996,  with
contract prices ranging from $1.75 per MMBtu to $2.25 per MMBtu. A swap loss for
the year ended December 31, 1996 of $3,900,000, decreased the net price received
by the Company to $2.17 per Mcf for the year.  Natural gas prices dropped to the
$1.58 in 1995 from $1.88 in 1994,  offsetting most of the benefit from increased
production in 1995.

      Oil prices  also  increased,  from $15.35 per barrel in 1994 to $16.78 per
barrel in 1995 and to $19.42 per barrel in 1996.

      "Depletion,  depreciation and amortization"  increased 12% in 1996 despite
the  reduced  production  from the West  Delta  Fields  (See the  discussion  of
production  volumes  in "Oil  and  Gas  Revenue").  While  the  production  from
properties  acquired  accounted  for a part  of  the  12%  increase,  depletion,
depreciation and  amortization per Mcf equivalent also increased,  from $0.74 in
1995 to $1.07 in 1996,  due to year-end 1996  engineering  revisions  from Ryder
Scott on the West Delta and East Breaks 109/110 Fields,  and production from the
Amoco Properties in the fourth quarter of 1996, which had higher depletion rates
per Mcf equivalent than previously  owned  properties.  The 34% increase in 1995
was also a result of the Zapata  acquisition  for  $2,700,000 and an increase in
production, bringing about an increased rate of depletion.

      "Lease operating expenses" increased $422,000 in 1996 primarily due to the
Amoco, Zapata and Bayou Sorrel Field  acquisitions.  With the Zapata Properties,
the Company acquired interests in five offshore producing properties.  Since the
acquisition  of the Zapata  Properties  closed on July 26, 1995,  only the lease
operating  expenses  from July 27, to December 31, 1995 are included in the 1995
results of  operations,  while the 1996 period  includes  these expenses for the
full year. 1996 also includes eight months of lease  operating  expenses for the
Bayou  Sorrel  Field  (sold  September  1)  and  almost  three  months  (October
8-December 31) of the Amoco Properties,  with none of these expenses included in
1995.  West Delta lease  operating  expenses did decrease in 1996 ($805,000 from
expected  levels) with the fields being shut-in from April 25 through October 7,
however,  a part of these  lease  operating  expenses  are fixed in  nature  and
continued.  These  expenses  increased  significantly  in 1995  over 1994 by (1)
$1,008,000  related to the  acquisition  of the Zapata  Properties in July which
added  interests in six  offshore  platforms  and 44 wells,  (2)  $1,105,000  of
additional  operating expenses on the West Delta Properties required to maintain
production from some of the more rapidly  declining  wells,  and (3) $711,000 of
expensed items which might have otherwise have been capitalized.


                                                        36

<PAGE>




      "Production and ad valorem taxes" decreased to 2.8% of oil and natural gas
sales in 1996 from 5.8% of oil and  natural  gas sales in  1995.The  decrease is
primarily due to the shift in the Company's  production  volumes from properties
subject to severance  taxes to properties in federal  offshore waters (the Amoco
and  Zapata  Properties)  that  are not  subject  to such  taxes.  A part of the
decrease ($178,000 from expected levels) is also due to the lost production from
the West Delta Properties for 67 days in the second quarter and the entire third
quarter due to the explosion and fire. A large  percentage of this production is
in Louisiana State waters which are subject to severance taxes.

      "Exploration  expenses" in 1995 consisted of dry hole exploratory costs of
$796,000 on Eugene  Island Block 50,  $1,378,000  on South  Timbalier  Block 33,
(both drilled during the second  quarter of 1995),  and $5,938,000 on West Delta
Block 54 (drilled  during the fourth  quarter of 1995).  The  Company  currently
plans no further exploratory activity on these blocks.

      "Provision for  write-downs of assets" in 1995 was related to the group of
onshore  properties,  acquired in the early  1980's  which were  becoming a less
significant part of its operations.

      "West  Delta fire loss" is the expense of the  explosion  and fire at Tank
Battery # 3, the central processing facility for the West Delta Fields. Included
in this expense is the  insurance  deductibles  and the cost of non-  reimbursed
expenditures which were not capitalized.

      "Gain/(loss)  on  investment  in  common  stock" in 1996 was a result of a
decrease in the market value at December 31, 1996 of 477,612  shares of National
Energy Group,  Inc.  common stock  received in  connection  with the sale of the
Bayou Sorrel Field.

      "Net operating income (loss)" increased  significantly in 1996 as a result
of the  $8,100,000  exploration  expenses  and  the  $751,000  onshore  property
write-down  incurred in 1995.  Of the $8.1  million in  exploration  expenses in
1995,  $5,900,000  was  incurred in the fourth  quarter in the drilling of a dry
exploratory  well in West Delta Block 54. The  $5,900,000  exploration  expense,
along  with the  $751,000  property  write  down,  also  incurred  in the fourth
quarter,  were the primary  contributors to the net operating loss of $8,300,000
in 1995.

      "Interest  expense  (net)"  increased  $1,500,000  , or 155% in 1996  when
compared to 1995.  Average Long- Term Debt levels  increased from $11,000,000 in
1995 to $28,000,000 for 1996,  resulting in the primary cause of the increase in
interest  expense.  On December  27, 1995 the Company  borrowed  $10,000,000  in
connection  with the Bayou Sorrel Field  acquisition.  Through April,  1996, the
Company had begun to aggressively  reduce  Long-Term Debt, and it had reduced it
by  $4,000,000.  The April 24th  explosion  and fire at West Delta  reduced  the
Company's  discretionary  cash flows and  restricted  the  Company's  ability to
continue to lower its Long-Term Debt. On October 8, 1996, the Company  completed
its acquisition of oil and gas assets from Amoco  Production  Company.  The cash
portion of the $40,400,000  purchase price ($32,000,000) was funded by long-term
debt. The Company borrowed  $17,000,000 from lenders advised by Kayne,  Anderson
Investment Management,  Inc., bearing interest at 12%. The remaining $15,000,000
in cash paid to Amoco was funded  under the  Company's  bank  facility,  bearing
interest at approximately 7.25%. These were the primary factors in the Company's
average  borrowing levels being higher in 1996 versus 1995. The weighted average
interest rate incurred in 1996 was 8.9%,  relatively flat with the 8.6% in 1995.
The  decrease  in  interest  expense in 1995 from 1994 was a result of the lower
average long-term debt levels that prevailed throughout most of the year.

Sale of Bayou Sorrel

     Effective  September  1, 1996,  the Company  sold its Bayou Sorrel Field to
National Energy Group, Inc. for
                                                        37

<PAGE>




$9,000,000  in cash and 477,612  shares of National  Energy Group,  Inc.  common
stock.  The Company also  retained an  overriding  royalty  interest in the deep
rights of the field for depths  below  11,000'.  The field was  acquired  by the
Company from Shell Western E.P., Inc. for $10,500,000 on December 28,1995, which
included a broker's  fee and a related  receivable.  During the eight months the
Company  owned  the  field  two  wells  were  drilled  which  did not  result in
production in commercial  quantities.  The Company received an offer to purchase
the field. After having made the Amoco Acquisition, Management believed that the
Company's  resources could be better utilized  elsewhere.  The effective date of
the sale was September 1, 1996,  the date at which National  Energy Group,  Inc.
assumed all benefits and liabilities of owning the property. The Company did not
record a gain or loss on the sale.  For the year ended  December 31,  1996,  the
Bayou Sorrel Field accounted for  $2,000,000,  or 10% of the Company's total oil
and gas  revenue.  The Field had also  accounted  for  $733,000,  or 9% of lease
operating  expenses,  $888,000,  or 10% of  depreciation,  and  amortization and
$239,000 or 43% of production and ad valorem taxes. The net results of the field
contributed $150,000 to operating income, or 20%. The purchase price was paid in
cash,  borrowed on the Company's Bank Facility.  The estimated  interest expense
incurred in 1996 by owning the field totaled  $588,000.  The operating income of
the field and interest expense incurred  resulted in a decrease in net income of
$438,000.

Liquidity and Capital Resources

      At December 31, 1996, 82% of the Company's  total assets were  represented
by  oil  and  gas  properties,  pipelines  and  equipment,  net  of  accumulated
depreciation, depletion and amortization.

      On October 8, 1996, the Company amended its bank facility with First Union
National Bank of North  Carolina (60%  participation),  and Banque  Paribas (40%
participation), herein "Bank Facility". The loan is a reducing revolver designed
to provide the Company up to  $40,000,000  depending on the Company's  borrowing
base, as determined by the lenders. The Company's borrowing base at December 31,
1996 was $31,000,000, with an availability under the revolver of $2,500,000. The
principal  amount of the loan is due July 1, 1999.  However,  at no time may the
Company have  outstanding  borrowings  under the Bank  Facility in excess of its
borrowing base.  Interest on the loan is computed at the bank's prime rate or at
1 to 1 3/4%  (depending upon the percentage of the facility being used) over the
applicable   London  Interbank  Offered  Rate  ("LIBOR")  on  Eurodollar  loans.
Eurodollar  loans can be for terms of one, two, three or six months and interest
on such loans is due at the  expiration of the terms of such loans,  but no less
frequently  than every three  months.  Management  feels that this bank facility
greatly enhances its ability to make necessary capital  expenditures to maintain
and improve  production  from its properties and makes  available to the Company
additional funds for future acquisitions. The bank facility is collateralized by
a first  mortgage  on the  Company's  offshore  properties.  The loan  agreement
contains  certain  covenants  including  a  requirement  to  maintain a positive
indebtedness  to cash flow ratio,  a positive  working  capital ratio, a certain
tangible net worth,  as well as limitations on future debt,  guarantees,  liens,
dividends,  mergers,  material  change in ownership by  management,  and sale of
assets. With the proceeds from the recently completed Common Share offering,  on
March 6, 1997, it temporarily  repaid  $8,500,000 on this bank  facility,  which
funds will  ultimately be used for the  development of its properties and future
acquisitions.

      From  time to time the  Company  has  borrowed  funds  from  institutional
lenders who are advised by Kayne, Anderson Investment  Management,  Inc. In each
case these loans are due at a stated maturity, require payments of interest only
at 12% per annum 45 days after the end of each calendar  quarter and are secured
by a second  mortgage on the  Company's  offshore  oil and gas  properties.  The
respective loan documents contain certain  covenants  including a requirement to
maintain a net worth ratio,  as well as limitations on future debt,  guarantees,
liens, dividends,  mergers, material change in ownership by management, and sale
of assets. The loans are as follows:

                                                        38

<PAGE>




     (a) 1993 Subordinated Notes. In 1993, $5,000,000 was borrowed, due December
31,  1999.  These  Notes were  prepaid  on March 6, 1997,  with a portion of the
proceeds of the Company's recent Common Share offering. The lenders were issued,
and during 1996  exercised,  warrants to acquire  816,526 Common Shares at $2.25
per share.

     (b) 1996  Tranche A  Convertible  Subordinated  Notes.  On October 8, 1996,
$8,500,000 was borrowed,  due October 8, 2003, but prepayable any time after May
8, 1998.  After August 28, 1997 the Notes are convertible  into 2,060,606 Common
Shares  on the  basis of  $4.125  per  share.  The  Company  may  deliver  up to
$2,000,000 in PIK notes in satisfaction of interest payment obligations.

     (c) 1996  Tranche B Bridge  Loan  Subordinated  Notes.  On October 8, 1996,
$8,500,000 was borrowed,  due October 8, 2003. These Notes were prepaid on March
6, 1997,  with a portion of the proceeds of the  Company's  recent  Common Share
offering.

      In 1991, in connection with a debt financing which has  subsequently  been
repaid, certain former lenders received a net profits interest (NPI) in the West
Delta  Properties,  which  is a  continuing  obligation  with  respect  to these
properties.  During the three months ended March 31, 1996, payments with respect
to this NPI averaged  $53,000 per month.  Due to the  explosion and fire at Tank
Battery #3, no NPI payments were made in the remaining months of 1996.

      Pursuant to existing  agreements  the Company is required to deposit funds
in bank trust and escrow accounts to provide a reserve  against  satisfaction of
its eventual responsibility to plug and abandon wells and remove structures when
certain fields no longer  produce oil and gas. Each month,  until November 1997,
$25,000 is deposited in a bank escrow account,  to satisfy such obligations with
respect to a portion of its West Delta Properties.  The Company has entered into
an escrow agreement with Amoco  Production  Company under which the Company will
deposit,  for the life of the fields, in a bank escrow account ten percent (10%)
of the net cash flow, as defined in the  agreement,  from the Amoco  properties.
The Company has established the "PANACO East Breaks 110 Platform Trust" in favor
of the Minerals Management Service of the U.S. Department of the Interior.  This
trust  requires an initial  funding of $846,720 in December  1996, and remaining
deposits of $244,320  due at the end of each quarter in 1999 and $144,000 due at
the end of each  quarter in 2000 for a total of  $2,400,000.  In  addition,  the
Company has  $9,250,000  in surety bonds to secure its plugging and  abandonment
obligations;  including a  $4,100,000  bond which was  provided to the  original
sellers of the West Delta Properties; a $2,400,000 supplemental bond provided to
the  Minerals  Management  Service of the U.S.  Department  of the  Interior  in
connection with the plugging and structure removal obligations for the Company's
East Breaks Block 110 Platform and a $300,000 Pipeline Right-of-Way Bond.

      During  1996 the  Company  hedged the price of natural  gas by selling the
equivalent  of 15,000 MMBtu per day for 1996 at fixed prices which ranged from a
high of $2.25 in  January  to a low of $1.75  in July.  When the  closing  price
(settlement  price) on NYMEX for natural  gas futures was greater  than the swap
price for a given  month the  Company  paid that  difference  to the bank  which
effected the swap. If the settlement price was less than the swap price the bank
paid that difference to the Company.  By entering into the swap in December 1995
the Company locked in the fixed prices on 15,000 MMBtu per day for each month in
1996.  Since the Company  sells its natural gas on the spot  market,  in 1996 it
realized  prices  which  approximated  the  settlement  prices  on  NYMEX,  less
differences  for  transportation  due to  pipeline  locations  that are  varying
distances from Henry Hub, Louisiana which is the delivery point used for natural
gas  futures on NYMEX.  Starting in 1997 the  Company's  hedge  transactions  on
natural  gas are based upon  published  gas  pipeline  index  prices and not the
NYMEX.  This change has eliminated the  possibility of price  differences due to
transportation.  For 1997, 14,000 MMBtu's per day has hedged,  reduced to 10,000
MMBtu's per day in 1998 and 7,000 MMBtu's per day in 1999. The

                                                        39

<PAGE>




Company is hedging  at a swap  price of $1.80 per MMBtu for 1997,  with  varying
levels  of  participation  (93%  in  January  of 1997  to 40% in  September)  in
settlement  prices  above to $1.80 per MMBtu swap price  level.  Management  has
generally used hedge  transactions  to protect its cash flows when the Company's
borrowings  under  long-term  debt have been  higher  and  refrained  from hedge
transactions when long-term debt has been lower. For accounting purposes,  gains
or losses on swap transactions are recognized in the production month to which a
swap contract relates.

      Despite a 22% decrease in production and a net loss of $2,000,000 in 1996,
strong  product  prices  contributed  significantly  to cash flows  provided  by
operations of $8,000,000. While 1995 prices were lower, record production offset
this decrease, providing cash flows of $8,400,000 in 1995.

      In 1996,  the Company sold its Bayou Sorrel Field,  the cash proceeds from
the sale being  $9,000,000  along with 477,612 shares of National  Energy Group,
Inc.  common  stock.  The  Company  incurred  a record  $43,000,000  in  capital
expenditures (excluding the 2,000,000 Common Shares to Amoco Production Company)
in 1996,  primarily for the Amoco acquisition in October and $4,000,000 spent to
repair and rebuild  Tank Battery #3 in the West Delta  Fields.  The 1995 capital
expenditures  of  $22,000,000   included  the  Zapata  and  Bayou  Sorrel  Field
acquisitions  and $8,000,000 in  exploratory  drilling  costs.  The 1994 capital
expenditures were primarily for developmental work in the West Delta Fields.

      Along with increasing capital expenditures,  the Company's borrowings have
also  increased  each  year.   Borrowings  increase  in  1996  to  fund  capital
expenditures,  which  included the repair and  rebuilding  of Tank Battery #3 in
West  Delta.  The  explosion  and  fire,  which   necessitated  the  repair  and
rebuilding,  decreased  discretionary cash flows, limiting the Company's ability
to repay  long-term  debt.  The  repayments  in 1996 include  $4,000,000  repaid
through  April with cash  provided by operations  and  $6,000,000  from the cash
proceeds from the sale of the Bayou Sorrel Field.  The Company received cash and
increased  stockholders' equity by $1,800,000 in 1996, $3,200,000 in 1995 and by
$5,000,000 in 1994 by virtue of the exercise of stock options and warrants.

Capital Spending

      In 1996  the  Company  made  $51,000,000  in total  capital  expenditures,
including  (1)  $40,400,000  on the  purchase  of oil and gas assets  from Amoco
Production Company, which included $8,400,000 of the Company's common stock, (2)
$4,000,000  for repair and  rebuilding of the West Delta Tank Battery #3, net of
insurance reimbursements,  and (3) $4,700,000 for development of its oil and gas
properties.  The majority of the  development  costs were  incurred to drill two
unsuccessful  development  wells in the Bayou Sorrel Field and for the Company's
share of successfully  recompleting  two wells on Eugene Island Block 372, which
is operated by Unocal Corporation.

For the years ended December 31, 1992 - December 31, 1994

Results of Operations

          "Oil and Gas revenue" during the years ended December 31, 1992 through
1994  has  varied  due to  several  factors.  The  prices  of oil and  gas  have
fluctuated  widely  during the years shown.  Oil prices are  influenced by world
political  events as well as decisions  made by OPEC  regarding  the  production
quotas  of  its  members.  Prices  are  further  influenced  by  world  economic
conditions which affect industrial output and the need for oil.

         1992 was the first full year of owning the West Delta Fields, purchased
in 1991,  while 1992 and 1993  production  for the Company  remained  relatively
flat. Mcf equivalent production was 6,855,000 in 1992 and

                                                        40

<PAGE>




6,666,000 in 1993. In 1994 the Company drilled four successful  horizontal wells
in the West Delta Fields,  substantially  increasing production to 8,961,000 Mcf
equivalent in that year.

         The average  natural gas price  received by the Company has  fluctuated
but generally  followed the trend of national gas prices.  Gas revenue increased
as a percentage of the Company's  revenue from 75% in 1992 to 88% in 1994. While
production  reached a record high in 1994,  natural gas prices  dropped to a low
for the three year period of $1.88 per Mcf from $2.24 in 1993 and $1.92 in 1992.

         From time to time,  upon the insistence of its bank lenders the Company
has entered into natural gas hedging agreements which have the effect of raising
or lowering the price it receives  for natural gas. In 1992, a contract  loss of
$1,100,000 lowered the average price received per Mcf by $.19 to $1.73. In 1993,
a contract loss of $3,000,000 lowered the average price received per Mcf by $.52
to $1.72.

         In 1994,  the  Company  sold  137,000  barrels of oil for an average of
$15.35 per barrel  accounting  for 12% of oil and gas revenue.  In 1993, oil was
24% of such revenue with 180,000 barrels at an average price of $16.68. In 1992,
oil was 25% of such revenue with 174,000 barrel at an average price of $19.41.

         A large part of the changes  affecting most operating  accounts in 1992
was due to West Delta being operated for twelve months  compared with only seven
months in 1991.

         "Depreciation, depletion and amortization" increased in 1994 due to the
1994  drilling  and  rework  program  increasing  capitalized  cost  and the 34%
increase in production.  The expense for 1993 remained  relatively constant over
1992 with only a slight decrease due to lower production.

         "Lease operating expense" remained relatively flat throughout the three
year period overall.  On an Mcf equivalent  basis, was lower in 1994 at $.58 per
1994 due to the increased  production in that year from $.84 per Mcf  equivalent
in 1992 and $.79 per Mcf in 1993.

         "Production  and  ad  valorem  taxes"  increased  33%  in  1994  due to
increased  production from four horizontal  wells drilled in state waters on the
West Delta Properties in 1994.

         "Provision  for  write-downs  of  assets" in 1993 and 1994 were for the
Company's group of onshore  properties,  acquired in the early 1980's which were
becoming a less significant part of its operations.

         "Net operating income (loss)" increase in 1994 was due to the increased
production in that year, along with $2,600,000 lower asset  write-downs  brought
about the large increase in 1994. The operating income for 1993 decreased due to
lower production, and an asset write-down of $3,800,000.

         "Interest  expense (net)" decreases of 19% in 1993 and 13% in 1994 were
due to the  significant  decrease  in  long-term  debt from 1992  levels and the
refinancing  of such debt on July 1, 1994 at lower interest  rates.  The average
debt  outstanding in 1994 was $14,000,000  with a weighted average interest rate
of 11.5% versus average debt  outstanding of $14,000,000 and a weighted  average
interest  rate  of  14%  in  1993.   Interest  expense  in  1992  had  increased
significantly because of the debt incurred to acquire the West Delta Properties,
purchased in 1991. The average debt  outstanding in 1992 was $17,000,000  with a
weighted average interest rate of 14%.

         "Net income (loss) per common share" is based upon the weighted average
number of shares  outstanding  of  10,039,042  for 1994,  7,583,761 for 1993 and
7,314,041 for 1992.


                                                        41

<PAGE>




Liquidity and Capital Resources

         Cash flow from  operations  was used to reduce  long term  debt,  drill
wells, recomplete wells and acquire properties.

         On July 1, 1994 the Company  entered into a Credit  Agreement  with the
First Union National Bank of North  Carolina.  The loan was a reducing  revolver
designed to provide the Company up to  $30,000,000  depending upon the Company's
borrowing base. The principal amount of the loan was due July 1, 1998.

         During the last part of 1993 the Company increased Stockholders' Equity
$1,163,000,  primarily by virtue of options and warrants being exercised. During
1994, the Company increased  Stockholders'  Equity $5,023,000,  primarily as the
result of such exercises of options and warrants.  At year-end 1993, the Company
issued the 1993 Subordinated Notes. The Company utilized this $5,000,000,  along
with equity proceeds and cash flow from operations described above, to drill the
wells and perform the recompletions in 1994 and 1995.

Capital Spending

         During  1994 the  Company  spent  over  $11,749,000  on eight  offshore
recompletions  and the drilling of four  horizontal  wells.  All four horizontal
wells and all eight  recompletions  in 1994 were successful and offshore natural
gas production increased significantly.

Item 8.  Financial Statement and Supplementary Data.

         The financial statements are included herein beginning at page F-1. The
table of contents at the front of the financial  statements  lists the financial
statements and schedules included therein.

Item  9.  Changes  in and  disagreements  with  Accountants  on  accounting  and
Financial Disclosure.

         None.

Item 10.  Directors and Executive Officers of the Registrant.

         The Company has a classified Board of Directors.  Directors are elected
to serve for  three-year  terms and  until  their  successors  are  elected  and
qualified.  One-third of the  directors  stand for  election  each year as their
terms expire.  The Board of Directors consists of three employees of the Company
and six independent directors.

         Officers  are  elected by and serve at the  discretion  of the Board of
Directors.

         Set forth below are the names,  ages,  and positions of the persons who
are executive  officers and directors of the Company,  and the committees of the
Board on which they serve.

                                Director
          Name              Age  Since        Position

H. James Maxwell..........  52   1992   Chairman of the Board, President,
                                        Chief Executive Officer, and Director(a)
Bob F. Mallory............  64   1992   Chief Operating Officer,  Executive Vice
                                        President and Director- Executive and
                                        Personnel Committee (a)
Larry M. Wright...........  52   1992   Executive Vice President and
                                        Director-Executive and Personnel
                                        Committee (b)
Robert G. Wonish..........  43   ---    Vice President

Edward A. Bush, Jr........  53   ---    Vice President

William J. Doyle..........  45   ---    Vice President

Todd R. Bart..............  32   ---    Chief Financial Officer, Secretary and
                                        Treasurer
A. Theodore Stautberg, Jr.  50   1993   Director(c)-Compensation Committee

Donald W. Chesser.........  57   1992   Director(a)

James B. Kreamer..........  57   1993   Director(c)

N. Lynne Sieverling.......  59   1992   Director(b)-Audit and Compensation
                                        Committees
Mark C. Barrett...........  46   1996   Director(b)-Audit and Compensation
                                        Committees
Michael Springs...........  47   1996   Director(c)-Audit Committee


(a)      These persons are designated as Class III directors, with their term of
         office expiring at the annual meeting of shareholders in 1998.
(b)      These persons are designated as Class II directors,  with their term of
         office expiring at the annual meeting of shareholders in 1997.
(c)      These persons are  designated as Class I directors,  with their term of
         office expiring at the annual meeting of shareholders in 1999.

         Set forth below are descriptions of the principal  occupations,  during
at least the past five years,  of the directors  and  executive  officers of the
Company.

         H.  James  Maxwell  received  a  B.A.  degree  in  Economics  from  the
University  of  Missouri-Kansas  City and received his Law Degree from that same
university in 1972. Mr. Maxwell practiced  securities law from 1972 to 1984, and
was a frequent  author and  speaker on oil and gas tax and  securities  law.  He
served as a General Partner of Castle Royalty Limited  Partnership  from 1984 to
1988,  Managing  General Partner of PAN Petroleum MLP from 1987 to 1992, both of
which were predecessors of the Company,  and President,  CEO and Chairman of the
Company from 1992 to date.

         Bob F. Mallory  received his Ph.D.  in Geology from the  University  of
Missouri in 1968 and a B.A. in Geology from the  University  of Wichita in 1961.
He began  consulting in the oil industry in 1980. He served as a General Partner
of Castle Royalty Limited Partnership from 1984 to 1988, as a General Partner of
PAN  Petroleum  MLP from 1987 to 1992,  both of which were  predecessors  of the
Company, and Executive Vice President and Chief Operating Officer of the Company
from 1992 to date.


                                                        42

<PAGE>




         Larry M.  Wright  received  his B.S.  Degree  in  Engineering  from the
University of Oklahoma in 1966.  From 1966 to 1976 he was with Union Oil Company
of  California  (UNOCAL).  From 1976 to 1980,  he was with  Texas  International
Petroleum  Corporation,  ultimately as division operations manager. From 1980 to
1981,  he was  with  what  is now  Transamerica  Natural  Gas  Company  as  Vice
President-Exploration  and  Production.  From  1981-1982,  he  was  Senior  Vice
President of Operations for Texas International Petroleum Corporation, and, from
1983 to 1985, he was Executive  Vice President of Funk Fuels Corp., a subsidiary
of  Funk  Exploration.  From  1985  to  1993,  Mr.  Wright  was  an  independent
consultant.  From 1993 to date, he has served as Executive Vice President of the
Company.

         Robert G. Wonish  received his B.S. in Mechanical  Engineering  in 1975
from the University of Missouri-Rolla.  He was a production  engineer with Amoco
from 1975 to 1977, Napeco,  Inc. from 1977 to 1979;  Division Operation Engineer
with Texas  International  from 1979 to 1980;  Production  Manager  with  Cliffs
Drilling  Company  from  1980 to 1984  and  District  Superintendent  with  Ladd
Petroleum  Corporation  from  1985 to  1991.  He then  worked  as a  consultant,
starting  with the Company in 1992,  and became an employee in 1993,  serving as
Vice President - Production.

     Edward A. Bush  received his B.S.  Degree in Geology  from Baldwin  Wallace
College in 1964 and his M.A. in Geology from Bowling  Green State  University in
1966. He served in various  geological  and  exploration  capacities  with Exxon
(1968-75),  Union Texas Petroleum  (1975-79),  Home Petroleum  Corp.  (1979-81),
Traverse Oil Co. (1981-83) and Sohio Petroleum Co. (1983-85).  From 1985 to 1995
he served first as Exploration  Manager,  then Vice President of Exploration and
later Vice  President of Operations  for Columbia Gas Devp.  Corp.  From 1995 to
1996 he served as Vice  President-Exploration  and then the  President of Howell
Petroleum Corp.
         William J. Doyle received his Masters in Geology in 1975 from Texas A&M
University  and his B.S. in Earth Sciences from the University of New Orleans in
1973.  From 1975 to 1978 he was a geologist  with Mobil Oil focusing on offshore
Gulf of Mexico  projects.  From 1978 to the present he has worked as an employee
and consultant for various oil and gas  exploration  companies  operating in the
Gulf Coast. He joined the Company as a consulting geologist in 1992 and became a
Vice President in 1995.

         Todd R. Bart received his B.B.A. in Accounting  from Abilene  Christian
University in 1987. He worked in the energy industry with Pennzoil  Company from
1987 to 1990 and the public  accounting firm of Arthur Andersen and Company from
1990 until 1992. From 1992 to 1995 he worked for Yellow Freight System,  Inc., a
trucking company, in financial  accounting and reporting.  He joined the Company
as  Controller in 1995 and was elected Chief  Financial  Officer,  Treasurer and
Secretary in 1996.  He received his C.P.A.  designation  in Texas in 1990 and in
Kansas in 1993, and is a member of the A.I.C.P.A.

     A. Theodore Stautberg, Jr. has since 1981 been the President and a director
of Triumph  Resources  Corporation and its parent  company,  Triumph Oil and Gas
Corporation of New York.  Triumph  engages in the oil and gas business,  assists
others in  financing  energy  transactions,  and  serves as  general  partner of
Triumph  Production  L.P.  Mr.  Stautberg  is  also  the  president  of  Triumph
Securities  Corporation and BT Energy  Corporation.  Prior to forming Triumph in
1981,  Mr.  Stautberg  was a Vice  President  of  Butcher  &  Singer,  Inc.,  an
investment banking firm, from 1977 to 1981. From 1972 to 1977, Mr. Stautberg was
an attorney with the  Securities  and Exchange  Commission.  Mr.  Stautberg is a
graduate of the University of Texas and the University of Texas School of Law.

     Donald W.  Chesser  received  his  B.B.A.  in  Accounting  from  Texas Tech
University  in 1963 and has  served  with  several  CPA firms  since  that time,
including eight years with Elmer Fox and Company. From 1977

                                                        43

<PAGE>




to 1981, he was with IMCO Enterprises, Inc. Since 1982 he has been a shareholder
and President of Chesser & Company,  P.A., a CPA firm.  He is also  President of
Financial Advisors, Inc., a registered investment advisor.

         James  B.  Kreamer  received  his  B.S.  Degree  in  Business  from the
University  of Kansas in 1963 and has been active in  investment  banking  since
that time. Since 1982 he has managed his personal investments.

         N. Lynne  Sieverling  received his B.S.  Degree in Accounting  from the
University  of  Kansas  in 1959 and has  practiced  as a CPA  since  graduation,
serving 17 years as a partner with the accounting firm of Coopers & Lybrand. Mr.
Sieverling  has also been  actively  involved in the oil and gas industry  since
1984 both as an  investor  and as an  operator  of oil and gas leases in Kansas,
Oklahoma and North Dakota.

         Mark   C.   Barrett    received    his   B.S.    Degree   in   Business
Administration/Accounting  in 1972 and is  licensed  to  practice as a Certified
Public  Accountant  in both  Kansas and  Missouri.  He was a partner in the firm
Drees  Dunn  Lubow and  Company  from 1974  until  1981.  He  founded  Barrett &
Associates, a CPA firm, in 1981 and is the president and majority shareholder in
that firm. His CPA firm served as the Company's  independent  public accountants
from 1985 to 1995.

     Michael  Springs  graduated from the Medical Field Service  School,  Brooke
Hospital,  San Antonio,  Texas in 1971 and the  University  of Missouri,  Kansas
City,  in 1969 with a degree in  Business.  He is the  President  and founder of
Ortho-Care, Inc. of Kansas City, Missouri and Ortho-Care Southeast of Charlotte,
North  Carolina.  Ortho-Care,  Inc. is a  manufacturer  of  orthopedic  fracture
management and sports  medicine  products,  and holds a number of patents in the
field. Mr. Springs is also controlling partner in Ortho-Implants,  a distributor
of total joint replacement prosthesis.

         None  of  the  officers  or  directors  serve  pursuant  to  employment
agreements.

Board of Directors

         The Board of Directors has the  responsibility  for establishing  broad
corporate policies and for the overall  performance of the Company,  although it
is not involved in day-to-day operating details.  Directors are kept informed of
the Company's business by various reports and documents, as well as by operating
and financial reports presented at Board and committee  meetings by the Chairman
and other officers.

         Meetings of the Board of Directors are held  regularly each quarter and
there is also a  meeting  following  the  annual  meeting  of the  shareholders.
Additional  meetings,  including  meetings by telephone  conference call, of the
Board may be called whenever needed.  The Board of Directors of the Company held
seven (7) meetings in 1996, four of which were meetings by telephone  conference
call. Each director attended all meetings of the Board, except Donald W. Chesser
who failed to attend two  meetings.  With  respect to the  telephone  conference
calls,  Donald W. Chesser was not  connected  two times and James B. Kreamer and
Alan H. Sweeney (a then director) were not connected on one conference call.

Committees of the Board

         The  committees  established  by the Board of Directors to assist it in
the discharge of its  responsibilities  are described  below. The previous table
identifies the committee memberships currently held.

         The  Executive  Committee  has  three  members,  all of whom  are  also
officers of the Company.  The Committee  meets on call  whenever  needed and has
authority to act on most matters during the intervals between

                                                        44

<PAGE>




Board meetings.  The Executive Committee also serves as the Personnel Committee.

         The Audit  Committee has three members,  none of whom is an employee of
the Company. The Committee meets with management to consider the adequacy of the
internal controls of the Company and the objectivity of its financial reporting;
the  Committee  also meets with the  independent  accountants  concerning  these
matters.   The  Committee  recommends  to  the  Board  the  appointment  of  the
independent  accountants,  subject to  ratification  by the  shareholders at the
annual meeting.  The independent  accountants  periodically  meet alone with the
Committee and have unrestricted access to the Committee.  The Committee met once
in 1996.

         The  Compensation  Committee  has  three  members,  none  of whom is an
employee of the Company.  It makes  recommendations to the Board with respect to
the  compensation  of  management  of the  Company and the  Company's  Long-Term
Incentive Plan. The Committee met twice in 1996.

Compensation of Directors

          Non-employee  directors receive travel expenses incurred and $1,000 in
Common Shares for attending Board of Directors  meetings,  $500 in Common Shares
for  attending  committee  meetings  and $200 in  Common  Shares  for  telephone
meetings.  Officers of the Company who serve as directors do not receive special
compensation  for  serving on the Board of  Directors  or a  committee  thereof.
During 1995 Messrs.  Stautberg,  Chesser,  Sweeney, Kreamer and Sieverling,  the
then  non-employee  directors,  were each issued 1,039 Common Shares as a $5,000
bonus.  In 1995 Mr. Chesser was issued  warrants to acquire 25,000 Common Shares
at $2.50 per share,  which expired December 31, 1995, for services performed for
the Company in 1991.  During 1995 he  exercised  those  warrants.  See  "Certain
Relationships and Related Transactions," herein.

         Newly elected non-employee  directors are granted a one-time restricted
stock award in Common  Shares equal in value to $10,000 upon their being elected
to the Board. See "Long-Term Incentive Plan," herein.

Long-Term Incentive Plan

         The  Company's  Long-Term  Incentive  Plan  (the  "Long-Term  Incentive
Plan"),  adopted in 1992,  provides for the granting to certain officers and key
employees of the Company and its participating  subsidiaries incentive awards in
the form of stock options,  stock appreciation  rights ("SARs"),  Common Shares,
and cash awards. The Long-Term  Incentive Plan is administered by a committee of
non-employee members of the Board of Directors with respect to awards to certain
executive  officers  of the  Company  but may be  administered  by the  Board of
Directors  with  respect to any other  awards  (either,  the "Plan  Committee").
Except for certain automatic awards, the Plan Committee has discretion to select
the employees to be granted  awards,  to determine the type,  size, and terms of
the awards, to determine when awards will be granted,  and to prescribe the form
of the instruments evidencing awards.

         Options,  which include non-qualified stock options and incentive stock
options,  are rights to purchase a specified  number of Common Shares at a price
fixed at the time the option is granted.  Payment may be made with cash or other
Common  Shares  owned by the  optionee  or a  combination  of both.  Options are
exercisable at the time and on the terms that the Plan Committee determines. The
payment  of the  option  price  can be made  either  in  cash  or by the  person
exercising the option turning in to the Company  shares  presently  owned by the
person,  which would be valued at the then current market price. SARs are rights
to receive a payment,  in cash or Common Shares or both, based on the value of a
Common  Share.  A stock  award is an award of Common  Shares or  denominated  in
Common Shares that may be subject to a restriction against transfer as well as a
repurchase  option  exercisable  by  the  Company.  During  the  period  of  the
restriction, the employee may be given

                                                        48

<PAGE>




the right to vote and  receive  dividends  on the shares  covered by  restricted
stock  awards.   Cash  awards  are  generally  based  on  the  extent  to  which
pre-established performance goals are achieved over a pre-established period but
may also include individual bonuses paid for previous, exemplary performance.

         The  Long-Term  Incentive  Plan  provides for the issuance of a maximum
number  of Common  Shares  equal to 20% of the  total  number  of Common  Shares
outstanding from time to time. Unexercised SARs, unexercised options, restricted
stock, and performance  units under the Long-Term  Incentive Plan are subject to
adjustment in the event of a stock dividend,  stock split,  recapitalization  or
combination  of  the  Company,  merger,  or  similar  transaction  and  are  not
transferable except by will and by the laws of descent and distribution.  Except
when a participant's employment terminates as a result of death, disability,  or
retirement under an approved retirement plan or following a change in control in
certain  circumstances,  an award generally may be exercised (or the restriction
thereon may lapse) only if the participant is an officer,  employee, or director
of the Company or a  subsidiary  at the time of exercise or lapse or, in certain
circumstances,  if the exercise or lapse occurs within 180 days after employment
is terminated.

         The  Long-Term   Incentive  Plan  allows  for  the  satisfaction  of  a
participant's  tax  withholding  with respect to an award by the  withholding of
Common Shares issuable  pursuant to the award or the delivery by the participant
of  previously  owned  Common  Shares,  in either case valued at the fair market
value, subject to limitations the Plan Committee may adopt.

         Awards  granted  pursuant to the Long-Term  Incentive  Plan may provide
that, upon a change of control of the Company, (a) each holder of an option will
be granted a  corresponding  SAR,  (b) all  outstanding  SARs and stock  options
become  immediately  and  fully  vested  and  exercisable  in full,  and (c) the
restriction  period on any restricted  stock award shall be accelerated  and the
restriction  shall expire.  Options and SARs will remain  exercisable  for their
original  terms whether or not  employment  is terminated  following a change in
control.

         The Long-Term  Incentive Plan may be amended by the Board of Directors,
except that under current law no amendment that materially  increases the number
of Common Shares  subject to the Long-term  Incentive Plan or that makes certain
other material changes may be made without  shareholder  approval.  No grants or
awards  may  be  made  under  the  Long-Term  Incentive  Plan  after  the  tenth
anniversary  of the Closing  Date.  No  shareholder  approval will be sought for
amendments to the Long-Term  Incentive Plan except as required by law (including
Rule  16b-3  under the  Exchange  Act) or the rules of any  national  securities
exchange on which the Common Shares are then listed.

         There are no incentive  awards  pertaining  to stock  options,  SARs or
Common Shares issued or outstanding under the Long-Term Incentive Plan.

         Under the Company's  Long-Term  Incentive  Plan  beginning in 1996, all
employees on December 31 of each year share a bonus equal to 5% of the Company's
pre-tax net income, computed in accordance with GAAP, exclusive of extraordinary
and  non-recurring  items.  The  bonuses  will be paid to all full time (1,000 +
hours)  employees  at December  31. The bonus will be paid upon  delivery of the
independent audit. The bonus shall be allocated to the full time employees based
upon their salary at December 31 of that year.

         Each non-employee  director of the Company who becomes a director will,
on the day after the first  meeting  of the  Board of  Directors  at which  that
director is in attendance,  automatically be granted a restricted stock award of
the  number  of  Common  Shares  that  have a value of  $10,000,  which  will be
calculated based on the average trading price of the Common Shares during the 60
days immediately preceding the date of grant. These restricted stock awards will
vest over two years, with one-third vesting six months following the date of

                                                        49

<PAGE>




grant,  another one-third vesting on the first anniversary of the date of grant,
and the last one-third vesting on the second anniversary of the date of grant so
long as the  non-employee  director  remains a director of the  Company  through
those vesting dates.

         Each non-employee  director will be entitled to vote each share subject
to these  restricted  stock  awards  from the date of grant until the shares are
forfeited,  if ever.  The Long-Term  Incentive  Plan requires each  non-employee
director  to make an  election  under  Section  83(b) of the Code to include the
value of the  restricted  stock in his income in the year of grant and  provides
for cash awards to the non-employee  directors in amounts  sufficient to pay the
federal income taxes due with respect to the award.

         The following table shows  information with respect to restricted stock
awards owned by non-employee directors.

         Name           Date of Grant            Shares     Price
      ----------        -------------            ------     -----
Michael Springs         September 4, 1996         2,447     $4.09
Mark C. Barrett         September 4, 1996         2,447      4.09
                                                  -----
Total                                             4,894



Employee Stock Ownership Plan

         In 1994,  the  shareholders  approved the adoption of the PANACO,  Inc.
Employee Stock Ownership Plan ("ESOP").  The primary purposes of the ESOP are to
enable  participants to acquire ownership in the Company and to provide a source
of equity  capital to the  Company.  The ESOP  establishes  a trust to hold ESOP
assets,  which  primarily  consist of Common Shares of the Company.  The ESOP is
administered  by the Board of Directors.  Subject to the discretion of the Board
of  Directors,  the Company may  contribute  up to fifteen  percent (15%) of the
participant's  (including employees and other consultants to the Company) annual
compensation to the ESOP. The ESOP does not allow  contributions by participants
in the Plan.

         Company  contributions  to the ESOP may be in the form of Common Shares
or cash.  Cash  contributions  may be used,  at the  discretion  of the Board of
Directors,  to purchase  Common Shares in the open market or from the Company at
prevailing prices.

         The  allocation  of ESOP  assets is  determined  by a formula  based on
participant compensation.  Participation in the ESOP requires completion of more
than one thousand  (1,000)  hours of service to the Company  within  twelve (12)
consecutive months.

         The ESOP is  intended  to satisfy any  applicable  requirements  of the
Internal  Revenue Code of 1986 and the Employee  Retirement and Income  Security
Act of 1974.  The Company has been  advised that its  contributions  to the ESOP
will be deductible for Federal Income Tax purposes,  and the  participants  will
not recognize  income on their  allocated share of ESOP assets until such assets
are distributed.

         As of December 31, 1996, the ESOP owned of record 84,197 Common Shares.
Such Common Shares are owned beneficially by the employees of the Company.

Item 11.  Executive Compensation


                                                        50

<PAGE>




         The  following  table sets forth the  annual  compensation  paid to the
Company's Chief Executive Officer and each executive officer whose  compensation
exceeds $100,000 during 1996.
<TABLE>
<CAPTION>

                                                                       Long-Term Incentive Plan
                                     Annual Compensation                       Awards            Payouts
                                                                                  Securities
                                                      Other       Restricted     Underlying    LTIP       All
Name and Principal                Salary   Bonus       Annual          Stock      Options    Payouts      Other
      Position           Year     ($)(1)       ($)   Comp. ($)    Award(s) ($)         (#)       ($)   Comp.($)(2)
-----------------------------   ------------------------------    ------------    --------------------------------
<S>                      <C>    <C>            <C>        <C>           <C>              <C>    <C>      <C>
H. James Maxwell         1996   166,900        0          0             0                0      0        22,500
  President and Chief    1995   153,500        0          0             0           24,615      0        22,500
  Executive Officer      1994   120,000        0          0             0           22,857      0        18,000

Larry M. Wright          1996   160,300        0          0             0             0         0        22,500
  Executive Vice         1995   147,300        0          0             0             0         0        22,100
  President              1994   134,000        0          0             0             0         0        20,000

Robert G. Wonish         1996   100,200        0          0             0             0         0        15,000
  Vice President         1995     92,100       0          0             0             0         0        13,800
                         1994     78,800       0          0             0             0         0        11,800


(1)      The 1993 salary figures for Messrs. Wright and Wonish include payments made to them as
independent consultants before becoming employees of the Company in that year.
(2)      The other compensation figures represent contributions to the accounts of the employees under the
         Company's Employee Stock Ownership Plan.  The Plan was adopted in 1994.
</TABLE>

Aggregated Option  (Warrants)  Exercises in Last Fiscal Year and Fiscal Year End
Option Values

         The following  table  provides  information  relating to the number and
value of Common Shares subject to options  exercised  during 1996 or held by the
named executive officers as of December 31, 1996.
<TABLE>
<CAPTION>
                                                                  Number of
                                                             securities underlying      Value of unexercised
                        Securities                           unexercised options             in-the-money
                         acquired           Value                                      at fiscal year-end ($)
                        options at year-end($)(2)
          Name          on Exercise (#)   Realized ($)(1)    Exercisable/Unexercisable  Exercisable/Unexercisable
---------------------------------------   ---------------    -------------------------  -------------------------
<S>                          <C>                <C>                     <C>   <C>                    <C>    <C>
H. James Maxwell             0                  0                    -0- / -0-                  -0-  / -0-
Larry M. Wright              0                  0                250,000 / -0-               658,750 / -0-
Robert G. Wonish             0                  0                    -0 -/ -0-                   0-  / -0-
</TABLE>

(1)      Value  realized is  calculated  based upon the  difference  between the
         options exercise price and the market price of the Common Shares on the
         date of  exercise  multiplied  by the  number  of  shares  to which the
         exercise price relates.
(2)      Value of unexercised  in-the-money  options is calculated  based on the
         difference  between the option  exercise price and the closing price of
         the  Common  Shares at  year-end,  multiplied  by the  number of shares
         underlying  the options.  The closing price on December 31, 1996 of the
         Common Shares was $4.875.

Option Grants in Last Fiscal Year

                                                        51

<PAGE>


<TABLE>
<CAPTION>



                     Number of       Percent of
                      Securities    total options
                     Underlying      granted to    Exercise or    Market price
                        Options      employees     Base price        at date       Expiration    Grant Date
          Name         Granted      in fiscal year  ($/Share)      of grant($)         Date        Value($)
<S>                        <C>           <C>
H. James Maxwell          -0-           -0-            N/A             N/A             N/A             N/A
Larry M. Wright           -0-           -0-            N/A             N/A             N/A             N/A
Robert G. Wonish          -0-           -0-            N/A             N/A             N/A             N/A

</TABLE>


Item 12.  Security Ownership of Certain Beneficial Owners and Management.

         The following table sets forth  information  with respect to record and
beneficial ownership of Common Shares by (a) each executive officer and director
of the Company,  (b) all  executive  officers and  directors of the Company as a
group,  and (c) for each person who  beneficially  owns 5% or more of the Common
Shares as of March 18, 1997.
<TABLE>
<CAPTION>
                                                                              Shares Owned
Name and Positions of Owners                                            Of Record                      Beneficially

                                                                Number   Percent        Number       Percent
<S>     <C>    <C>    <C>    <C>    <C>    <C>
H. James Maxwell; Chief Executive Officer,
President, Chairman of the Board & Director ............       283,386    1.39         322,971  (1)      1.35
Larry M. Wright; Executive Vice President &
Director................................................       395,000    1.94         654,999  (1)(2)   2.98
Bob F. Mallory; Chief Operating Officer,
Executive Vice President & Director.....................       228,030    1.12         235,496  (1)      1.07
Todd R. Bart; Chief Financial Officer &
Secretary...............................................         2,500     .01           3,997            .02

Robert G. Wonish; Vice President........................        17,000     .08          26,410  (1)       .12
William J. Doyle; Vice President .......................             -     .00           6,288  (1)       .03
A. Theodore Stautberg, Jr.; Director....................         6,137     .03           9,137            .04
Donald W. Chesser; Director.............................         1,039     .01           1,039            .00
Michael Springs; Director...............................         3,096     .02           3,096  (3)       .01
James B. Kreamer; Director..............................        51,055     .25          51,055            .23

N. Lynne Sieverling; Director...........................         8,137     .04           8,137            .04
Mark C. Barrett; Director...............................         2,447     .01           2,447  (3)       .01

All directors and officers as a group (13 persons)......       997,827    4.90       1,304,302  (1)      5.90

Carl C. Icahn (4).......................................     3,045,000   14.94       3,045,000          13.78
c/o Icahn Associates Corp.
114 West 47th Street, 19th Fl
New York, NY  10036
Richard A. Kayne (5)....................................       443,221    2.17       1,909,888           8.64
</TABLE>

                                                        52

<PAGE>




Kayne, Anderson Investment Management, Inc.
1800 Avenue of the Stars, #200
Los Angeles, CA 90067


     (1)  Includes  shares held in the Company's  Employee Stock  Ownership Plan
          for each officer as follows:  Mr. Maxwell - 14,200 shares,  Mr. Wright
          -14,614 shares,  Mr. Mallory - 7,466 shares, Mr. Wonish - 9,410 shares
          , Mr.  Doyle - 6,288 shares and Mr. Bart - 1,497  shares,  and for all
          directors and officers as a group - 53,475 shares.
     (2)  Includes  250,000 shares  issuable  pursuant to currently  exercisable
          warrants.
     (3)  These  persons  were each  issued  2,447  shares  upon  election  as a
          director in 1996.
     (4)  Mr. Icahn is the sole  shareholder of Riverdale  Investors Corp, Inc.,
          the  general  partner of High River  Limited  Partnership,  the record
          holder of these shares.
     (5)  Includes  (i)  443,221   shares  held  of  record  by  Offense   Group
          Associates,    L.P.   ("Offense"),    Opportunity   Associates,   L.P.
          ("Opportunity"),  Kayne, Anderson  Non-Traditional  Investments,  L.P.
          ("Investments") or ARBCO Associates, L.P. ("ARBCO"), each a California
          limited partnership, which shares were acquired on exercise of certain
          warrants issued with the 1993  Subordinated  Notes; and (ii) 1,466,667
          shares that are  issuable  upon the  conversion  of the 1996 Tranche A
          Convertible   Subordinated   Notes  held  by   Offense,   Opportunity,
          Investments,  ARBCO or Kayne,  Anderson Offshore Limited. Mr. Kayne is
          the President and principal  shareholder of Kayne, Anderson Investment
          Management, Inc., which is the general partner of KIM Non-Traditional,
          L.P. ("KIM").  KIM is the general partner of Offense,  Opportunity and
          Investments. Mr. Kayne is the managing general partner, and KIM is the
          co-general partner, of ARBCO.

Item 13.  Certain Relationships and Related Transactions.

         A. Theodore Stautberg, Jr., a director of the Company since 1993, is an
officer,  director and beneficial shareholder of Triumph Securities Corporation,
which  provided  certain  services in  connection  with the recent  Common Stock
offering, and received .8% of the 6.8% Underwriters discount, namely $268,906.

         During 1996 two new non-employee directors, Michael Springs and Mark C.
Barrett,  were each issued  restricted  stock awards of 2,447 Common Shares upon
election to the Board.

         Mark C. Barrett  became a director of the Company on September 4, 1996.
For the years 1985 through 1995 his CPA firm, Barrett and Associates,  served as
the Company's independent accountants. During 1995 his CPA firm was paid $53,400
for accounting services, including the audit.

         Lenders  advised by Kayne,  Anderson  Investment  Management,  Inc., in
connection with the 1993 Subordinated Notes, own 816,526 Common Shares by virtue
of their  exercise of  warrants  issued to them in 1993 and  exercised  in first
quarter  1996.  In  addition,  the Company is required to pay certain  expenses,
including legal fees, of those lenders.

         During 1995 Donald W. Chesser, a director who is not an employee of the
Company was issued  warrants to acquire  25,000 Common Shares at $2.50 per share
for past  services  to the  Company.  The  warrants,  which  would have  expired
December 31, 1995, were all exercised during 1995.

          Employees of the Company are eligible to receive stock  awards,  stock
options,  stock  appreciation  rights,  and  performance  units  pursuant to the
Company's Long-Term Incentive Plan.

                                                        54

<PAGE>




         The Company has several procedures,  provisions,  and plans designed to
reduce the  likelihood of a change in the  management  or voting  control of the
Company  without  the  consent  of  the  incumbent  Board  of  Directors.  These
provisions  may have the effect of  strengthening  the ability of  officers  and
directors  of the Company to continue as officers  and  directors of the Company
despite changes in share ownership of the Company.

         Messrs.  Maxwell  and  Mallory  are the  partners  of 1050  Blue  Ridge
Building  Partnership,  which owns a 5,200  square foot office  building at 1050
West Blue  Ridge  Boulevard,  Kansas  City,  Missouri,  which  they lease to the
Company  on a triple  net basis for  $4,000  per month for a term of ten  years,
expiring  in 2003.  The lease was  approved  by the  Board of  Directors,  which
determined that the rate was as good or better than that which could be obtained
from a non-affiliated party.

         H. James  Maxwell and Bob F.  Mallory,  officers  and  directors of the
Company,  are personal guarantors of the Company's  obligation to plug the wells
and remove the platforms on the West Delta Properties acquired from Conoco, Arco
(now Vastar), Texaco and Oxy in 1991.


         On  October  8, 1996 the  Company  borrowed  $17,000,000  from  lenders
advised by Kayne, Anderson Investment Management,  Inc. Such lenders own 443,221
Common  Shares and would,  upon  conversion  of the 1996  Tranche A  Convertible
Subordinated Notes, own 1,909,888 Common Shares.

                                                      Part IV

Item 14.  Exhibits, Financial Statement Schedules, and Reports on Form 8-K.

     (a)  See Index to Financial Statement, Page F-1.

     (b)  Reports  on Form 8-K.  The  following  reports  on Form 8-K were filed
          during the last quarter of the period covered by this report.

     (c)  Exhibits: None.

     (d)  Financial Statement Schedules. See Index to Financial Statements, Page
          F-1.
















                                                        54

<PAGE>




















                                                    SIGNATURES

         Pursuant to the  requirements of Section 13, or 15(d) 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.

                PANACO, Inc.

                By: \s\H. James Maxwell
                      H. James Maxwell, President

         Pursuant to the  requirements  of the Securities  Exchange Act of 1934,
this  report has been  signed  below by the  following  persons on behalf of the
registrant and in the capacities and on the dates indicated.

                By: \s\ H. James Maxwell
                     H. James Maxwell, President
                     Chief Executive Officer and
                     Director

                By: \s\Bob F. Mallory
                      Bob F. Mallory, Executive
                      Vice President, Chief Operating
                      Officer and Director

                By: \s\Todd R. Bart
                      Todd R. Bart, Chief Financial
                      Officer, Treasurer and Secretary

                By: \s\N. Lynn Sieverling
                      N. Lynn Sieverling, Director

                By: \s\Larry M. Wright
                      Larry M. Wright, Executive

                                                        55

<PAGE>



                      Vice President and Director

                By: \s\A. Theodore Stautberg
                      A. Theodore Stautberg, Director

<PAGE>

<PAGE>


                                  PANACO, INC.
                          INDEX TO FINANCIAL STATEMENTS

                                                                  Page

PANACO, INC. -  AUDITED FINANCIAL STATEMENTS

   Independent Auditors' Report                                     F-2
   Independent Auditors' Report                                     F-3
   Balance Sheets, December 31, 1996 and 1995                       F-4
   Statements of Income (Operations)  for the Years Ended
         December 31, 1996, 1995 and 1994                           F-6
   Statements of Changes in Stockholders' Equity
         for the Years Ended December 31, 1996, 1995 and 1994       F-7
   Statements of Cash Flows for the Years Ended
         December 31, 1996, 1995 and 1994                           F-8
   Notes to Financial Statements for the Years Ended
         December 31, 1996, 1995 and 1994                          F-10
AMOCO PROPERTIES

   Independent Auditors' Report                                    F-21
   Statement of Revenues and Direct Operating Expenses             F-22
   Notes to the Statement                                          F-23














                                       F-1

<PAGE>



Report of Independent Public Accountants



To the Board of Directors
PANACO, Inc.

       We have  audited  the  accompanying  balance  sheet of  PANACO,  Inc.  (a
Delaware  Corporation)  as of December 31, 1996,  and the related  statements of
income (operations), changes in stockholders' equity and cash flows for the year
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 audit. The financial  statements of PANACO, Inc. for the
years ended  December  31, 1995 and 1994 were  audited by other  auditors  whose
report dated  February 26, 1996 (except with respect to the change in accounting
for oil and gas properties,  as to which the date is June 7, 1996), expressed an
unqualified  opinion on those  statements and included an explanatory  paragraph
that described the retroactive change in accounting for oil and gas properties.

       We conducted our audit in accordance  with  generally  accepted  auditing
standards.  Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement.  An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements.  An audit also includes
assessing the  accounting  principles  used and  significant  estimates  made by
management,  as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.

       In our opinion,  the 1996 financial  statements referred to above present
fairly, in all material respects,  the financial position of PANACO,  Inc. as of
December 31, 1996,  and the results of its operations and its cash flows for the
year then ended in conformity with generally accepted accounting principles.



                                                          Arthur Andersen LLP

Kansas City, Missouri
March 7, 1997



                                       F-1

<PAGE>



Independent Auditors' Report


To the Board of Directors
PANACO, Inc.

We have  audited the  accompanying  balance  sheets of PANACO,  Inc. (a Delaware
corporation)  as of  December  31,  1995 and the  related  statements  of income
(operations), changes in Stockholders' equity and cash flows for each of the two
years in the period ended December 31, 1995. 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  generally   accepted  auditing
standards.  Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement.  An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements.  An audit also includes
assessing the  accounting  principles  used and  significant  estimates  made by
management,  as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

As  discussed  in Note 1 to the  Financial  Statements,  the  Company  has given
retroactive effect to the change in accounting for its oil and gas operations.

In our opinion,  the financial  statements  referred to above present fairly, in
all material respects, the financial position of PANACO, Inc. as of December 31,
1995 and the results of its operations, changes in stockholders' equity and cash
flows  for each of the two  years  in the  period  ended  December  31,  1995 in
conformity with generally accepted accounting principles.



BARRETT & ASSOCIATES
Overland Park, Kansas

February 26, 1996, except for Note 1, which the date is June 7, 1996.
















                                       F-2

<PAGE>

<TABLE>
<CAPTION>


                                                   PANACO, INC.
                                                  BALANCE SHEETS



                                                      ASSETS

                                                                                    December 31,
                                                                          1996                         1995

CURRENT ASSETS

<S>                                                                   <C>                        <C>
Cash and cash equivalents                                             $   1,736,000              $   1,198,000
Accounts receivable                                                       6,197,000                  4,386,000
Investment in common stock                                                1,642,000                       ---
Prepaid and other                                                           424,000                    465,000
                                                                      -------------             --------------
       Total current assets                                               9,999,000                  6,049,000
                                                                      -------------             --------------

OIL AND GAS PROPERTIES, AS DETERMINED
BY THE SUCCESSFUL EFFORTS METHOD
OF ACCOUNTING
    Oil and gas properties, proved                                      125,283,000                103,105,000
    Oil and gas properties, unproved                                      7,128,000                       ---
    Less accumulated depreciation, depletion, amortization,
       and valuation allowances                                         (81,871,000)               (73,620,000)
                                                                        -----------                -----------
       Net oil and gas properties                                        50,540,000                 29,485,000
                                                                       ------------               ------------

PROPERTY, PLANT, AND EQUIPMENT
    Pipelines and equipment                                              10,534,000                    196,000
    Less accumulated depreciation                                          (327,000)                   (92,000)
                                                                     --------------             --------------
       Net property, plant, and equipment                                10,207,000                    104,000
                                                                     --------------             --------------

OTHER ASSET
    Restricted deposits                                                   2,115,000                       ---
    Loan costs, net                                                         611,000                    471,000
    Other                                                                   296,000                     60,000
                                                                     ---------------            --------------
       Total other assets                                                 3,022,000                    531,000
                                                                     ---------------            --------------

TOTAL ASSETS                                                        $    73,768,000                $36,169,000
                                                                    ================               ===========

</TABLE>




                          The  accompanying  notes are an integral  part of this
statement.




                                       F-3

<PAGE>

<TABLE>
<CAPTION>


                                       LIABILITIES AND STOCKHOLDERS' EQUITY


                                                                                  December 31,
                                                                        1996                     1995

CURRENT LIABILITIES
<S>                                                                  <C>                     <C>
    Accounts payable                                                 $ 6,246,000             $   4,444,000
    Interest payable                                                     524,000                   161,000
    Current portion of long-term debt                                       ---                       ---
                                                                   -------------             -------------
       Total current liabilities                                       6,770,000                 4,605,000
                                                                   -------------             -------------


LONG-TERM DEBT                                                        49,500,000                22,390,000

STOCKHOLDERS' EQUITY

    Preferred Shares, $.01 par value,
       1,000,000 shares authorized; no
       shares issued and outstanding                                        ---                       ---
    Common Shares, $.01 par value,
       40,000,000 shares authorized;
       14,350,255 and 11,504,615 shares
       issued and outstanding, respectively                              143,000                   115,000
    Additional paid in capital                                        31,490,000                21,155,000
    Retained earnings (deficit)                                      (14,135,000)              (12,096,000)
                                                                    ------------               ------------
       Total Stockholders' Equity                                     17,498,000                 9,174,000
                                                                    ------------              -------------







TOTAL LIABILITIES AND STOCKHOLDERS'   EQUITY                        $  73,768,000             $ 36,169,000
                                                                    =============             ============


</TABLE>








                          The  accompanying  notes are an integral  part of this
statement.



                                       F-4

<PAGE>

<TABLE>
<CAPTION>


                                                   PANACO, INC.
                                        STATEMENTS OF INCOME (OPERATIONS)

                                                                           Year Ended December 31,
                                                              1996                 1995                1994
REVENUES
<S>                                                         <C>                 <C>                <C>
    Oil and gas sales                                       $20,063,000         $18,447,000        $ 17,338,000

COSTS AND EXPENSES
    Lease operating                                           8,477,000           8,055,000           5,231,000
    Depreciation, depletion and amortization                  9,022,000           8,064,000           6,038,000
    General and administrative                                  772,000             690,000             587,000
    Production and ad valorem taxes                             559,000           1,078,000           1,006,000
    Exploration expenses                                           ---            8,112,000                ---
    Provision for losses and (gains) on disposition
       and write-down of assets                                    ---              751,000            1,202,000
    West Delta fire loss                                        500,000               ---                   ---
                                                            -----------         ------------         -----------
       Total                                                 19,330,000          26,750,000           14,064,000
                                                            -----------         ------------         -----------

NET OPERATING INCOME (LOSS)                                     733,000          (8,303,000)          3,274,000
                                                            -----------         ------------         -----------

OTHER INCOME (EXPENSE)
    Unrealized loss on investment in common stock             (258,000)                ---                 ---
    Interest expense, net                                   (2,514,000)            (987,000)         (1,623,000)
                                                            -----------         ------------         -----------
       Total                                                (2,772,000)            (987,000)         (1,623,000)
                                                            -----------         ------------         -----------
NET INCOME (LOSS) BEFORE INCOME
    TAXES AND EXTRAORDINARY ITEM                            (2,039,000)          (9,290,000)           1,651,000
INCOME TAXES                                                       ---                  ---                  ---
                                                            -----------         ------------         -----------
NET INCOME (LOSS) BEFORE
    EXTRAORDINARY ITEM                                      (2,039,000)          (9,290,000)           1,651,000
EXTRAORDINARY ITEM - LOSS ON EARLY
    RETIREMENT OF DEBT                                             ---                  ---            (536,000)
                                                           ------------         ------------         -----------
NET INCOME (LOSS)                                         $ (2,039,000)       $ ( 9,290,000)      $   1,115,000
                                                           ============       ==============       =============

EARNINGS (LOSS) PER COMMON SHARE
       Earnings (loss) before extraordinary item                  (.16)                (.81)                .16
       Extraordinary loss                                          ---                   ---               (.05)
                                                          -------------         ------------        ------------
       Net earnings (loss)                               $        (.16)       $        (.81)      $         .11
                                                          =============         ============       =============

       Weighted average shares outstanding:                  12,742,213           11,504,615          9,952,870
                                                           ============         ============       =============



</TABLE>


                          The  accompanying  notes are an integral  part of this
statement.



                                       F-5

<PAGE>

<TABLE>
<CAPTION>


                                                   PANACO, INC.
                                   STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
                               FOR THE YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996


                                                                      Common         Additional         Retained
                                                                       Share           Paid-In          Earnings
                                                       Shares        Par Value         Capital          (Deficit)
<S>                <C> <C>                           <C>            <C>              <C>            <C>
Balances, December 31, 1993                          8,155,255      $  82,000        $12,583,000    $(3,921,000)

Net Income                                                ---            ---                ---        1,115,000
Exercises of stock options and warrants and
   shares  issued under Employee Stock
   Ownership Plan                                    2,064,883         20,000          5,003,000             ---
                                                    ----------    -----------       ------------     ------------
Balances, December 31, 1994                         10,220,138        102,000         17,586,000     (2,806,000)

Net Loss                                                   ---            ---                ---     (9,290,000)
Exercise of stock options and warrants               1,181,602         12,000          3,137,000            ---
Issuance of new shares                                 102,875          1,000            432,000            ---
                                                   -----------   ------------       ------------    -------------
Balances, December 31, 1995                         11,504,615        115,000         21,155,000    (12,096,000)

Net Loss                                                 ---            ---                ---       (2,039,000)
Exercise of warrants, shares issued under
   Employee Stock Ownership Plan and
   Director stock bonuses                              845,640          8,000          1,955,000           ---
Acquisition of properties                            2,000,000         20,000          8,380,000           ---
                                                   -----------     ----------       ------------   -------------
Balances, December 31, 1996                         14,350,255      $ 143,000        $31,490,000   $(14,135,000)
                                                  ============      =========        ===========   =============




</TABLE>














                          The  accompanying  notes are an integral  part of this
statement.



                                       F-6

<PAGE>

<TABLE>
<CAPTION>


                                                   PANACO, INC.
                                             STATEMENTS OF CASH FLOWS
                                                                               Year Ended December 31,
                                                                     1996            1995                1994
CASH FLOWS FROM OPERATING ACTIVITIES
<S>                                                             <C>                <C>                <C>
   Net income (loss) before extraordinary item                  $(2,039,000)       $(9,290,000)       $ 1,651,000
   Adjustments to reconcile  net income (loss) to net cash provided by operating
       activities:
     Depreciation, depletion, and amortization                    9,022,000          8,065,000          6,378,000
     Exploration expenses                                              ---           8,112,000               ---
     Provision for losses and (gains) on disposition
       and write-down of assets                                        ---             751,000          1,202,000
     Unrealized loss on investment in common stock                  258,000               ---                ---
     ESOP stock contribution                                        122,000            132,000            123,000
     Changes in operating assets and liabilities:
       Accounts receivable                                       (1,811,000)        (2,155,000)        (1,202,000)
       Prepaid and other                                            274,000           (125,000)          (501,000)
       Accounts payable                                           1,803,000          2,916,000           (202,000)
       Interest payable                                             363,000            (24,000)            26,000
     Extraordinary loss                                                ---                ---            (536,000)
                                                              --------------     --------------     --------------
       Net cash provided by operating activities                   7,992,000         8,382,000           6,939,000
                                                              --------------     --------------     --------------

CASH FLOWS FROM INVESTING ACTIVITIES
   Sale of oil and gas properties                                  9,017,000            11,000            300,000
   Capital expenditures and acquisitions                        (42,958,000)       (21,803,000)       (12,101,000)
   Purchase of other property and equipment, net                    (92,000)           (38,000)           (27,000)
   Increase in restricted deposits                               (2,115,000)              ---                ---
   Other                                                             96,000               ---                ---
                                                              --------------      -------------     --------------
     Net cash used by investing activities                      (36,052,000)       (21,830,000)       (11,828,000)
                                                              --------------      ------------      --------------

CASH FLOW FROM FINANCING ACTIVITIES
   Long-term debt proceeds                                       38,863,000         16,890,000          5,564,000
   Repayment of long-term debt                                  (11,753,000)        (7,000,000)        (7,326,000)
   Issuance of common shares - exercise of
     warrants and options                                         1,837,000           3,173,000         5,023,000
   Additional loan costs                                          ( 349,000)              ---               ---
                                                              -------------       -------------     -------------
     Net cash provided by financing activities                   28,598,000          13,063,000         3,261,000
                                                              -------------       -------------     -------------

NET INCREASE (DECREASE) IN CASH                                     538,000           (385,000)        (1,628,000)

CASH AND CASH EQUIVALENTS AT
   BEGINNING OF YEAR                                               1,198,000          1,583,000          3,211,000
                                                               -------------       ------------      -------------

CASH AND CASH EQUIVALENTS AT END OF YEAR                        $  1,736,000       $  1,198,000        $ 1,583,000
                                                                ============       ============        ===========

</TABLE>


                          The  accompanying  notes are an integral  part of this
statement.

                                       F-8

<PAGE>



Supplemental schedule of non-cash investing and financing activities:

FOR THE YEAR ENDED DECEMBER 31, 1996:

The Company issued 2,000,000 shares of common stock totaling $8,400,000 to Amoco
Production Company in connection with an acquisition of oil and gas assets.

The Company issued 2,447 shares of common stock each to two new  directors.  The
Company also issued 24,220 shares to the ESOP.

The Company received 477,612 shares of National Energy Group,  Inc. common stock
in connection with the sale of the Bayou Sorrel Field.

FOR THE YEAR ENDED DECEMBER 31, 1995:

The Company issued 97,680 shares of common stock  totaling  $409,000 in exchange
for oil and gas properties.

FOR THE YEAR ENDED DECEMBER 31, 1994:

The Company  farmed out an oil and gas property and retained a 12.5%  overriding
royalty interest.

The Company contributed 30,850 shares to the ESOP.

Supplemental disclosures of cash flow information:

Cash paid during the year ended December 31:

                                 1996              1995             1994
                                 ----              ----             ----

Interest                     $2,218,000        $1,016,000       $1,409,000
                             ==========        ==========       ==========

Income taxes                 $     ---         $     ---        $     ---
                             ==========        ===========      ==========

                                       F-9

<PAGE>



                                  PANACO, INC.

                          NOTES TO FINANCIAL STATEMENTS

              FOR THE YEARS ENDED DECEMBER 31, 1996, 1995, AND 1994



Note 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

This summary of significant accounting policies of PANACO, Inc. (the Company) is
presented to assist in understanding  the Company's  financial  statements.  The
financial statements and notes are representations of the Company's  management,
who  are  responsible  for  the  integrity  and  objectivity  of  the  financial
statements.  These accounting  policies conform to generally accepted accounting
principles  and  have  been  consistently  applied  in  the  preparation  of the
financial statements.

Revenue Recognition
The Company  recognizes its ownership  interest in oil and gas sales as revenue.
It records revenues on an accrual basis,  estimating  volumes and prices for any
months for which actual information is not available.  If actual production sold
differs  from  its  allocable  share  of  production  in a  given  period,  such
differences would be recognized as deferred income or accounts receivable.

Hedging Transactions
The Company hedges the prices of its oil and gas  production  through the use of
oil and natural gas futures and swap  contracts  within the normal course of its
business.  The Company uses futures and swap  contracts to reduce the effects of
fluctuations in oil and natural gas prices. Changes in the market value of these
contracts are deferred and subsequent gains and losses are recognized monthly as
adjustments to revenues in the same production  period as the hedged item, based
on the difference  between the index price and the contract  price.  The Company
entered into a hedge agreement  beginning in January,  1996, for the delivery of
15,000  MMBTU of gas for each day in 1996  with  contract  prices  ranging  from
$1.7511/MMBTU to $2.253/MMBTU.

Starting in 1997 the Company's hedge  transactions on natural gas are based upon
published  gas  pipeline  index  prices  and  not the  NYMEX.  This  change  has
eliminated price differences due to transportation. For 1997, 14,000 MMBTU's per
day has been hedged, reduced to 10,000 MMBTU's per day in 1998 and 7,000 MMBTU's
per day in 1999. The Company is hedging at a swap price of $1.80/MMBTU for 1997,
with  varying  levels of  participation  (93% in January to 66% in  December) in
settlement prices above $1.80/MMBTU.

Starting in 1997, the Company has also hedged 720 barrels of oil for each day in
1997  at a  swap  price  of  $20.00  per  barrel.  The  Company  then  has a 40%
participation in settlement prices above the swap price.

Income Taxes
The  Company  records  income  taxes  in  accordance  with the  requirements  of
Statement of Financial  Accounting  Standards  (FAS) No. 109 -  "Accounting  for
Income Taxes", which requires recognition of deferred tax assets and liabilities
for the expected  future tax  consequences  of events that have been included in
the financial statements or tax returns. Under this method,  deferred tax assets
and  liabilities are determined  based on the differences  between the financial
statement  and tax bases of assets and  liabilities  using  enacted tax rates in
effect for the year in which the differences are expected to reverse.



                                                       F-10

<PAGE>



Oil and Gas Producing  Activities and  Depreciation,  Depletion and Amortization
The Company utilizes the successful efforts method of accounting for its oil and
gas properties. Under the successful efforts method, lease acquisition costs are
capitalized.   Exploratory   drilling   costs  are  also   capitalized   pending
determination  of proved  reserves.  If proved reserves are not discovered,  the
exploratory costs are expensed. All development costs are capitalized. Provision
for depreciation and depletion is determined on a field-by-field basis using the
unit-of-production  method. The carrying amounts of unproved  properties are not
depleted  until a  determination  of any  reserves  has been made.  The carrying
amounts  of proven  and  unproven  properties  are  reviewed  periodically  on a
property-by-property  basis,  based on future  net cash flows  determined  by an
independent   engineering  firm,  and  an  impairment  reserve  is  provided  as
conditions  warrant.  The  provision  for write down of assets were $751,000 for
1995, and $1,202,000 for 1994.

Property, Plant & Equipment
Property and  equipment  are carried at cost.  Oil and natural gas pipelines and
equipment are depreciated on the straight-line  method over estimated  remaining
useful lives, primarily fifteen years. Other property is also depreciated on the
straight-line method over estimated remaining useful lives, ranging from five to
seven years.

Amortization of Note Discount
Note  discounts are amortized  utilizing  the interest  method,  which applies a
constant  rate of  interest to the book value of the note.  Additional  interest
expense of $234,000 was recorded in 1994 from the  amortization of the discount.
Effective  July 1, 1994 the debt related to the note discount was  extinguished,
and the  balance of the note  discount  totaling  $106,000  was  recorded  as an
extraordinary item.

Earnings (Loss) per share
The  computation  of  earnings  or loss per  share in each  year is based on the
weighted  average  number of common shares  outstanding.  When  dilutive,  stock
options and warrants are included as share  equivalents using the treasury share
method. Stock options and warrants were not included in the calculation for 1995
and 1996, as the effects were not dilutive. Shares to be contributed to the ESOP
plan are treated as common share equivalents.

Statement of Cash Flows
For purposes of reporting cash flows, the Company considers all cash investments
with original maturities of three months or less to be cash equivalents.

Use of Estimates
The preparation of financial  statements in accordance  with generally  accepted
accounting principles requires management to make estimates and assumptions that
affect the reported  amounts of assets,  liabilities,  revenues and expenses and
disclosure of contingent  assets and  liabilities  in the financial  statements,
including  the use of  estimates  for oil and gas  reserve  information  and the
valuation  allowance for deferred income taxes. Actual results could differ from
those estimates.  Estimates  related to oil and gas reserve  information and the
standardized  measure are based on estimates provided by third parties.  Changes
in prices could significantly affect these estimates from year to year.

Reclassification
Certain  financial  statement  items  have been  reclassified  to conform to the
current year's presentation.

Note 2 - ACQUISITIONS & DISPOSITIONS

On October  8,1996,  the Company closed its acquisition of interests in thirteen
offshore  blocks  comprising  six  fields  in the  Gulf  of  Mexico  from  Amoco
Production  Company  ("Amoco  Properties").  The  purchase  price for the assets
acquired  in  this  transaction  was  $40.4  million,  paid by the  issuance  of
2,000,000 Common Shares,

                                                       F-11

<PAGE>



valued at $4.20 per share, and by payment to Amoco of $32 million in cash. Based
on the assets acquired,  the Company allocated $25,737,000 of the purchase price
to proved oil and gas  properties,  $9,273,000 to pipelines and  structures  and
$5,390,000  to  unproved  oil  and  gas  properties.   Concurrently   with  this
transaction  the  Company  entered  into a new Bank  Facility  with First  Union
National  Bank of North  Carolina  and Banque  Paribas  under which its reducing
revolving  loan was  increased to $40 million,  with an initial  borrowing  base
(credit  limit) of $35  million.  In  addition  to that  facility,  the  Company
borrowed  $17 million  pursuant to the Tranche A  Convertible  and the Tranche B
Bridge Loan Subordinated Notes (see Note 6).

On July 12, 1995,  the Company  entered into a Purchase and Sale  Agreement with
Zapata  Exploration  Company to acquire  all of  Zapata's  offshore  oil and gas
properties in the Gulf of Mexico ("Zapata  Properties").  The transaction closed
July 26, 1995.  The purchase price for the assets  acquired in this  transaction
was $2,748,000 in cash and the obligation to pay a production  payment to Zapata
based upon future  production.  The production  payment is based upon production
from the East Breaks 109 field after  production  of 12 Bcfe gross (10 Bcfe net)
measured from October 1, 1994. The Company will pay to Zapata $.4167 per Mcfe on
the next 27 Bcfe produced.  Payments to Zapata on this production payment are to
be made by the Company  when it is paid for the oil or gas. Oil and gas reserves
attributable to this production payment are not included in the reserves for the
properties set forth herein.

Both of these  acquisitions  were accounted for using the purchase  method.  The
results  for the Amoco  Properties  are  included  in the  Company's  results of
operations  from  October 8 to  December  31,  1996.  The results for the Zapata
Properties are included in the Company's  results of operations  from July 26 to
December 31, 1995 and all of 1996.

Effective September 1, 1996, the Company sold its Bayou Sorrel Field to National
Energy Group, Inc. for $11,000,000, consisting of $9,000,000 in cash and 477,612
shares of National Energy Group,  Inc. common stock. This field was purchased by
the Company on December 27, 1995 from Shell Western E & P, Inc. for $10,500,000,
which included a $204,000 broker's fee and a related receivable of $600,000. The
Company  retained a 3%  overriding  royalty  interest  in the deep rights of the
field, below 11,000 feet. There was no gain or loss on the sale of the field and
the $1,738,000  remaining net book valve was assigned to this overriding royalty
interest.

The following  unaudited pro forma financial  information  assumes the Amoco and
Zapata  acquisitions had been consummated  January 1, 1995, and the Bayou Sorrel
sale was completed  January 1, 1996. It is presented in order to comply with the
disclosure  requirements of Accounting  Principles Board Opinion No. 16. The pro
forma financial  information does not purport to be indicative of the results of
the  Company had these  acquisitions  occurred  on the date  assumed,  nor is it
necessarily  indicative of the future results of the Company.  It should be read
together  with the  financial  statements  of the Company,  including  the notes
thereto.












                                                       F-12

<PAGE>

<TABLE>
<CAPTION>


                                  PANACO, Inc.
                    Unaudited Pro Forma Financial Information
                 For the Years Ended December 31, 1996 and 1995

                                                                  1996                               1995
                                                                  ----                               ----
                                                                 Unaudited                         Unaudited
                                                                PANACO, Inc.                      PANACO, Inc.
                                                                 Pro Forma                         Pro Forma
                                                                 Combined                          Combined

<S>                                                           <C>                                <C>
Revenues                                                      $ 28,978,000                       $ 34,598,000

Income/(loss) before extraordinary items                        (1,928,000)                       (13,213,000)

Net Income/(loss)                                               (1,928,000)                       (13,213,000)

Earnings/(loss) per share                                     $      (0.13)                     $       (0.98)

</TABLE>

Note 3 - WEST DELTA FIRE LOSS

The Company  experienced an explosion and fire on April 24, 1996 at Tank Battery
#3 in West Delta  resulting in the fields being  shut-in from April 24th,  until
being  returned  to  production  on  October  7,  1996.  The  loss of 67 days of
production in the second  quarter and the entire third quarter  resulted in lost
revenues of approximately $6,000,000.  The fire was the principal contributor to
the losses of $.08 per share for the  second  quarter of 1996 and $.11 per share
for the third quarter.  During the second quarter the Company expensed  $500,000
for its  loss as a  result  of this  explosion.  No  further  losses  have  been
recognized  or are  anticipated.  This  $500,000  amount  included  $225,000  in
deductibles under the Company's insurance.

The Company has spent  $8,500,000  on Tank  Battery #3 inclusive of the $500,000
expensed during second quarter and has received reimbursement from its insurance
company of $3,900,000,  after  satisfaction of the $225,000 in deductibles.  The
excess of  expenditures  over  insurance  reimbursement  will be  capitalized as
property  improvements.  No  additional  expenditures  have  been  made  or  are
anticipated.

Note 4 - INVESTMENT IN COMMON STOCK

In connection  with a sale of the Bayou Sorrel to National  Energy Group,  Inc.,
the Company received 477,612 shares of National Energy Group, Inc. common stock.
The market value was $1,900,000 based upon the trading price of the stock on the
NASDAQ National Market.

The Company has classified  this investment as a trading  security.  At December
31, 1996 the market value of the Company's  investment in National Energy Group,
Inc. was $1,642,000,  with a $258,000  valuation  allowance being  recognized to
reflect the decrease in market value of the common stock.

Note 5 - RESTRICTED DEPOSITS

Pursuant to existing agreements the Company is required to deposit funds in bank
escrow and trust  accounts  to  provide a reserve  against  satisfaction  of its
eventual  responsibility  to plug and abandon wells and remove  structures  when
certain fields no longer  produce oil and gas. Each month,  until November 1997,
$25,000 is deposited in a bank escrow account,  to satisfy such obligations with
respect to a portion of its West Delta

                                                       F-13

<PAGE>



Properties.  The  Company  has  entered  into an  escrow  agreement  with  Amoco
Production  Company  under which the Company will  deposit,  for the life of the
fields,  ten percent  (10%) of the net cash flow,  as defined in the  agreement,
from the Amoco  properties.  As of December 31, 1996 the Company has established
the "PANACO East Breaks 110 Platform Trust" in favor of the Minerals  Management
Service of the U.S.  Department of the Interior.  This trust requires an initial
funding of $846,720 in December 1996, and remaining  deposits of $244,320 due at
the end of each  quarter in 1999 and  $144,000 due at the end of each quarter in
2000,  for a total of  $2,400,000.  In addition,  the Company has  $9,250,000 in
surety  bonds to secure its plugging and  abandonment  obligations;  including a
$4,100,000  bond which was  provided to the  original  sellers of the West Delta
Properties;  a $2,400,000  supplemental bond provided to the Minerals Management
Service of the U.S.  Department of the Interior in connection  with the plugging
and  structure  removal  obligations  for the  Company's  East Breaks  Block 110
Platform and a $300,000 Pipeline Right-of-Way Bond.

Note 6- LONG-TERM DEBT
                                    1996                         1995
                               -------------              ------------
Note payable (a)               $ 27,500,000                $ 17,390,000
Note payable (b)                 22,000,000                   5,000,000
                               -------------              -------------
                                 49,500,000                  22,390,000

Less current portion                   ---                         ---
                               -------------              -------------
    Long-term debt             $ 49,500,000                $ 22,390,000
                               =============               ============

     (a)  On October 8, 1996,  the Company  amended its bank facility with First
          Union National Bank of North Carolina (60% participation),  and Banque
          Paribas (40%  participation),  herein "Bank  Facility".  The loan is a
          reducing  revolver  designed  to provide the Company up to $40 million
          depending  on the  Company's  borrowing  base,  as  determined  by the
          lenders.  The  Company's  borrowing  base at December 31, 1996 was $31
          million,  with an availability under the revolver of $2.5 million. The
          principal amount of the loan is due July 1, 1999.  However, at no time
          may the Company have outstanding borrowings under the Bank Facility in
          excess of its borrowing base.  Interest on the loan is computed at the
          bank's prime rate or at 1 to 1 3/4%  (depending upon the percentage of
          the facility being used) over the applicable  London Interbank Offered
          Rate ("LIBOR") on Eurodollar loans.  Eurodollar loans can be for terms
          of one, two,  three or six months and interest on such loans is due at
          the expiration of the terms of such loans, but no less frequently than
          every three months.  The Company's  weighted  average interest rate at
          December 31, 1996 was 7.29%. The bank facility is  collateralized by a
          first  mortgage  on  the  Company's  offshore  properties.   The  loan
          agreement  contains  certain  covenants  including  a  requirement  to
          maintain  a  positive  indebtedness  to cash flow  ratio,  a  positive
          working  capital  ratio,  a certain  tangible  net  worth,  as well as
          limitations on future debt,  guarantees,  liens,  dividends,  mergers,
          material change in ownership by management, and sale of assets.

     (b)  From time to time the Company has  borrowed  funds from  institutional
          lenders who are advised by Kayne, Anderson Investment Management, Inc.
          In each  case  these  loans  are  due at a  stated  maturity,  require
          payments  of  interest  only at 12% per annum 45 days after the end of
          each  calendar  quarter  and are  secured by a second  mortgage on the
          Company's  offshore  oil  and  gas  properties.  The  respective  loan
          documents  contain  certain  covenants   including  a  requirement  to
          maintain a net worth  ratio,  as well as  limitations  on future debt,
          guarantees, liens, dividends, mergers, material change in ownership by
          management, and sale of assets. The loans are as follows:

              (I) 1993 Subordinated Notes. In 1993, $5,000,000 was borrowed, due
     December 31,  1999,  but  prepayable  at any time.  The Company  could have
     delivered up to $1,000,000  in PIK (payment in kind) notes in  satisfaction
     of interest payment  obligations.  The lenders were issued, and during 1996
     exercised, warrants to acquire 816,526 Common Shares at $2.25 per share. In
     March, 1997 the Company repaid these notes.

                                                       F-14

<PAGE>




             (ii) 1996 Tranche A Convertible  Subordinated  Notes. On October 8,
      1996,  $8,500,000  was borrowed,  due October 8, 2003,  but prepayable any
      time after May 8, 1998. The Notes are, after August 28, 1997, convertible,
      into 2,060,606 common shares on the basis of $4.125 per share. The Company
      may  deliver up to  $2,000,000  in PIK notes in  satisfaction  of interest
      payment obligations.

            (iii) 1996 Tranche B Bridge Loan  Subordinated  Notes. On October 8,
      1996, $8,500,000 was borrowed,  due October 8, 2003, but prepayable at any
      time. In March, 1997 the Company repaid these notes.

Maturities of long-term debt are as follows:

                 July 1, 1999                               $27,500,000
                 December 31, 1999                            5,000,000
                 October 8, 2003                             17,000,000
                                                           ------------
                                                            $49,500,000

Note 7 - STOCKHOLDERS' EQUITY

During 1996, 816,526 shares were issued by virtue of the exercise of warrants at
an exercise  price of $2.25 per share,  24,220  shares were  contributed  to the
Company's  ESOP and 4,894 were issued for board of director  fees. On October 8,
1996,  2,000,000  shares were issued to Amoco  Production  Company in connection
with an acquisition of oil and gas assets.  During 1995,  1,181,602  shares were
issued by virtue of the  exercise of warrants and  options,  97,680  shares were
issued in  connection  with  property  acquisition  costs and 5,195  shares were
issued for board of directors fees. During 1994, 2,034,033 shares were issued by
virtue  of the  exercise  of  warrants  and  options,  and  30,850  shares  were
contributed to the Company's ESOP.

In August, 1994, the Company established an Employee Stock Ownership Plan (ESOP)
and Trust that covers  substantially  all employees.  The Board of Directors can
approve  contributions,  up to a maximum  of 15% of  eligible  employees'  gross
wages.  The Company  incurred $ 122,000,  $132,000 and $123,000 in costs for the
years ended December 31, 1996, 1995 and 1994, respectively.

Warrants  outstanding  at  December  31,  1996 to acquire  common  shares are as
follows:

                    Number of        Price per
                      Shares           Share              Expiration Date
                    --------        ----------            ------------------
                      90,000           $2.000              July 31, 1997
                     160,000           $2.375              December 31, 1997
                      39,365           $2.000              December 31, 1997
                   ---------
                     289,365

The 1996 Tranche A Convertible  Subordinated  Notes are,  after August 28, 1997,
convertible into 2,060,606 common shares on the basis of $4.125 share.

On August 26,  1992,  the  shareholders  approved  a  long-term  incentive  plan
allowing  the  Company  to  grant  incentive  and  nonstatutory  stock  options,
performance units,  restricted stock awards and stock appreciation rights to key
employees,  directors, and certain consultants and advisors of the Company up to
a maximum of 20% of the total number of shares outstanding. At December 31, 1996
or 1995, there were no stock options outstanding.

                                                       F-15

<PAGE>



During 1995,  under the terms of the Long-Term  Incentive Plan,  three directors
surrendered  73,845 shares to exercise 124,400 options.  New options were issued
equal to the number of shares surrendered at a price of $2.0313 per share, which
would have expired December 31, 1995, but were exercised by that date.

Note 8 - RELATED PARTY TRANSACTIONS

During  1995,  25,000  warrants at a price of $2.50 per share were issued to and
exercised by a director.  During 1994,  650,000 warrants at a price of $2.75 per
share were issued to the  directors.  All such  warrants were  exercised  during
1994.

The Company entered into a triple net lease  agreement with a partnership  owned
by two directors for the lease of an office building.  The lease,  which expires
November,  2003, has monthly rental  payments of $4,000.  During 1996,  1995 and
1994, $48,000 per year in rent was paid under the lease agreement.

 The  following  is a schedule of future  rental  payments  required  under this
office building lease:


     Year ending December 31,

                           1997                  $   48,000
                           1998                      48,000
                           1999                      48,000
                           2000                      48,000
                           2001                      48,000
                        2002-2003                    92,000
                                                 $  332,000

In 1994,  275,000  options were issued to directors at prices ranging from $2.32
to $3.94 per share. These options were exercised in 1995. Under the terms of the
Long-Term  Incentive  Plan,  three directors were issued 73,845 options at $2.03
per share and 68,567 options at $2.19 per share in 1995 and 1994, respectively.
These options were exercised in 1995.

Note 9 - INCOME TAXES

At December  31, 1996,  the Company had net  operating  loss carry  forwards for
federal income tax purposes of $16,000,000  which are available to offset future
federal taxable income through 2011. The Company's  timing of its utilization of
net  operating  loss  carry  forwards  may be  limited  in the future due to its
issuance of common stock and the related I.R.S. regulations.


                                                       F-16

<PAGE>




Significant  components of the  Company's  deferred tax assets as of December 31
are as follows:
<TABLE>
<CAPTION>

                                                           1996                           1995
                                                     ------------                   ----------
Deferred tax assets
<S>                                                  <C>                           <C>
     Fixed asset basis differences                   $ 2,312,000                    $ 1,408,000
     Net operating loss carry forwards                 6,342,000                      6,306,000
                                                     -----------                   ------------
        Total deferred tax assets                      8,654,000                      7,714,000
                                                      ----------                   ------------

  Valuation allowance for deferred
     tax assets                                       (8,654,000)                   (7,714,000)
                                                     ------------                   -----------
        Total deferred tax assets                    $       ---                   $       ---
                                                     ============                  =============
</TABLE>

A valuation  allowance  is provided to reduce the deferred tax assets to a level
which,  more likely than not,  will be realized.  The  valuation  allowance  for
deferred  tax assets as of December 31, 1994 was  $4,061,000.  The net change in
the total valuation allowance for the years ended December 31, 1996 and 1995 was
an increase of $940,000 and $3,653,000, respectively.

Note 10 - COMMITMENTS AND CONTINGENCIES

The Company is subject to various  legal  proceedings  and claims which arise in
the ordinary course of business  operations.  In the opinion of management,  the
amount  of  liability,  if any,  with the  respect  to these  actions  would not
materially  affect the  financial  position  of the  Company  or its  results of
operation.

Note 11 - FINANCIAL INSTRUMENTS

The carrying  amount and fair values of the Company's  financial  instruments at
December 31, 1996, are as follows:

                                                   Assets (Liabilities)
                                          --------------------------------------
                                           Carrying Amount           Fair Value
Long-term fixed rate debt                 $   (22,000,000)        $ (21,063,000)
Off balance sheet financial instruments
     Letter of credit                                  -                  ---
     Hedge contracts                                   -               (897,000)

Cash and cash equivalents,  receivables,  payables,  and long-term variable rate
debt The carrying amount reported on the consolidated balance sheet approximates
its fair value because of the short maturities of these instruments.

Long-term, fixed rate debt
The Company estimates the fair value of its long-term, fixed rate debt generally
using discounted cash flow analysis based on the Corporation's current borrowing
rates for debt with similar maturities.

Letter of credit
A  $1,000,000  letter of credit  collateralizes  a  plugging  bond.  Fair  value
estimated on the basis of fees paid to obtain the  obligation is not material at
December 31, 1996.


                                                       F-17

<PAGE>



Hedge contracts
The  fair  values  of the  Company's  swap  contracts  are  estimated  based  on
settlement values at December 31, 1996 for volumes hedged at future dates.

Concentrations of Credit Risk
Financial  instruments which potentially subject the Company to concentration of
credit risk consist  principally of bank account balances in excess of federally
insured limits and trade receivables.  The Company's  receivables consist of oil
and gas sales to third parties primarily from offshore production in the Gulf of
Mexico and onshore oil production in the central part of the United States. This
concentration may impact the Company's overall credit risk, either positively or
negatively,  in that these  entities  may be  similarly  affected  by changes in
economic or other  conditions.  Receivables  are generally  not  collateralized.
Historical  credit losses  incurred by the Company on receivables  have not been
significant.  One purchaser  accounted for 49%, 69% and 83% of revenues in 1996,
1995 and 1994, respectively.

NOTE 12 - SUBSEQUENT EVENTS

On March 5, 1997,  the Company  completed  an offering  of  8,403,305  shares of
common  stock at $4.00 per share,  $3.728 net of the  underwriter's  commission,
consisting of 6,000,000  shares sold by the Company and 2,403,305 shares sold by
shareholders,  primarily  2,000,000  by  Amoco  Production  Company  which  were
received  in  connection  with a  property  acquisition  and  373,305 by lenders
advised by Kayne,  Anderson  Investment  Management,  Inc which were received in
connection with the exercise of warrants.  The Company's proceeds of $22,000,000
(net of $350,000  in offering  expenses)  from the  offering  were used to repay
$13,500,000 of its Subordinated Notes,  specifically the 1993 Subordinated Notes
and the 1996 Tranche B Bridge Loan  Subordinated  Notes. The remaining  proceeds
were  temporarily  paid  on the  Company's  reducing  revolving  loan  and  will
ultimately  be  used  for  the   development   of  its   properties  and  future
acquisitions.  These payments,  along with payments made from the Company's cash
flows reduced its Long-Term debt balance at $24,000,000 on March 6, 1997.


Note 13 - SUPPLEMENTAL INFORMATION RELATED TO OIL AND GAS PRODUCING ACTIVITIES
(UNAUDITED)

The  following  table  reflects  the  costs  incurred  in oil and  gas  property
activities for each of the three years ended December 31:
<TABLE>
<CAPTION>

                                                   1996             1995              1994
                                               -------------    -------------    --------------
<S>                                            <C>              <C>              <C>
Property acquisition costs, proved             $ 26,859,000     $ 12,603,000     $      352,000

Property acquisition costs, unproved              5,390,000                                ---

Exploration costs                                                  8,112,000               ---

Development costs                                 8,863,000        1,497,000         11,749,000
</TABLE>

Quantities of Oil and Gas Reserves

The estimates of proved developed and proved  undeveloped  reserve quantities at
December  31,  1996 are based upon  reports of third party  petroleum  engineers
(Ryder Scott Company and McCune Engineering, P.E.) and do

                                                       F-18

<PAGE>



not  purport to reflect  realizable  values or fair  market  values of  PANACO's
reserves.  It  should  be  emphasized  that  reserve  estimates  are  inherently
imprecise  and  accordingly,  these  estimates  are expected to change as future
information  becomes  available.  These are  estimates  only and  should  not be
construed as exact amounts. All reserves are located in the United States.

Proved  reserves  are  estimated  reserves  of  natural  gas and  crude  oil and
condensate  that  geological and engineering  data  demonstrate  with reasonable
certainty to be recoverable in future years from known reservoirs under existing
economic and operating conditions.  Proved developed reserves are those expected
to be recovered through existing wells, equipment, and operating methods.
<TABLE>
<CAPTION>

Proved developed and undeveloped reserves:
                                                                  Oil                 Gas
                                                               (BBLS)               (MCF)
<S>                               <C> <C>                       <C>               <C>
Estimated reserves as of December 31, 1993                      745,000           43,696,000

     Production                                                (137,000)          (8,139,000)
     Extensions and discoveries                                 183,000           16,930,000
     Sale of minerals in-place                                  (24,000)             (45,000)
     Revisions of previous estimates                            176,000          (10,860,000)
                                                         ---------------         -----------
Estimated reserves as of December 31, 1994                      943,000           41,582,000

     Production                                                (170,000)          (9,850,000)
     Sale of minerals in-place                                   (1,000)             (22,000)
     Purchase of minerals in-place                            1,140,000           20,094,000
     Revisions of previous estimates                            (12,000)          (5,093,000)
                                                        ---------------          -----------
Estimated reserves as of December 31, 1995                    1,900,000           46,711,000

     Production                                                (276,000)          (6,788,000)
     Extensions and discoveries                                     ---              972,000
     Sale of minerals in-place                                 (805,000)          (3,102,000)
     Purchase of minerals in-place                            1,379,000           16,633,000
     Revisions of previous estimates                             41,000          (12,980,000)
                                                         --------------          ------------
Estimated reserves as of December 31, 1996                    2,239,000           41,446,000
                                                          ==============        ============

Proved developed reserves:

                                                                  Oil                     Gas
                                                                (BBLS)                  (MCF)
                                                          ---------------        -----------

    December 31, 1993                                            745,000         24,665,000
                                                          ===============        ==========

    December 31, 1994                                            907,000         36,282,000
                                                          ===============        ==========

    December 31, 1995                                          1,794,000         40,323,000
                                                          ==============         ==========

    December 31, 1996                                          1,867,000         39,288,000
                                                          ==============         ==========

</TABLE>


                                                       F-19

<PAGE>



Standardized Measure of Discounted Future Net Cash Flows
Future cash  inflows are  computed  by applying  year-end  prices of oil and gas
(with  consideration of price changes only to the extent provided by contractual
arrangements) to the year-end  estimated future production of proved oil and gas
reserves.  Estimates of future  development  and  production  costs are based on
year-end costs and assume  continuation  of existing  economic  conditions.  The
estimated  future net cash flows are then discounted using a rate of 10 per cent
per  year to  reflect  the  estimated  timing  of the  future  cash  flows.  The
standardized  measure of discounted cash flows is the future net cash flows less
the computed discount.


     The  accompanying  table  reflects the  standardized  measure of discounted
future cash flows  relating to proved oil and gas reserves as of the three years
ended December 31:
<TABLE>
 <CAPTION>

                                                            1996                 1995                  1994
                                                       --------------        --------------        -------------

<S>                                                   <C>                    <C>                  <C>
Future cash inflows                                   $ 210,875,000          $140,247,000         $ 88,893,000
Future development and production costs                  61,822,000            50,723,000           32,197,000
                                                      ---------------        --------------       -------------
Future net cash flows                                   149,053,000            89,524,000           56,696,000
Future income taxes                                      17,899,000            11,755,000            6,304,000
                                                      ---------------        --------------       --------------
Future net cash flows after income taxes                131,154,000            77,769,000           50,392,000
10% annual discount                                     (31,313,000)          (14,848,000)          (8,477,000)
                                                      ---------------        --------------       --------------
Standardized measure after income taxes               $  99,841,000         $  62,921,000         $ 41,915,000
                                                      ==============         =============        ============

</TABLE>

Changes Relating to the Standardized Measure of Discounted Future Net Cash Flows
The  accompanying  table  reflects  the  principal  changes in the  standardized
measure of discounted  future net cash flows  attributable to proved oil and gas
reserves for each of the three years ended December 31:
<TABLE>
<CAPTION>

                                                           1996                 1995                   1994
                                                       -------------       -------------           --------------

<S>                                                   <C>                    <C>                  <C>
Beginning balance                                     $  62,921,000            $41,915,000         $   47,379,000
Sales of oil and gas, net of production costs           (11,027,000)            (9,314,000)           (11,047,000)
Net change in income taxes                               (4,116,000)            (4,267,000)             5,562,000
Changes in price and production costs                    44,088,000             11,498,000            (10,781,000)
Purchases of minerals in-place                           45,521,000             34,415,000                   ---
Sale of minerals in-place                               (10,518,000)                  ---                    ---
Revision of previous estimates, extensions &
   discoveries, net                                     (27,028,000)           (11,326,000)            10,802,000
                                                      -------------          -------------          -------------
Ending balance                                         $ 99,841,000           $ 62,921,000         $   41,915,000
                                                      =============          ==============        ==============
</TABLE>






                                                       F-20

<PAGE>



Report of Independent Public Accountants



To the Board of Directors
PANACO, Inc.


We have audited the  accompanying  Statement  of Revenues  and Direct  Operating
Expenses of the Amoco Properties  (acquired by PANACO,  Inc. on October 8, 1996)
for  each of the  three  years in the  period  ended  December  31,  1995.  This
statement  and the  notes  thereto  are the  responsibility  of  PANACO,  Inc.'s
management.  Our  responsibility is to express an opinion on the statement based
on our audit.

We conducted our audit in accordance with generally accepted auditing standards.
Those standards  require that we plan and perform the audit to obtain reasonable
assurance about whether the Statement of Revenues and Direct Operating  Expenses
is free of material misstatement.  An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the statement.  An audit also
includes assessing the accounting principles used and significant estimates made
by  management,   as  well  as  evaluating  the  overall   financial   statement
presentation.  We believe  that our audit  provides a  reasonable  basis for our
opinion.

In our opinion, the Statement of Revenues and Direct Operating Expenses referred
to above  presents  fairly,  in all material  respects,  the revenues and direct
operating  expenses of the Amoco  Properties  for each of the three years in the
period ended December 31, 1995, in conformity with generally accepted accounting
principles.



                                                             Arthur Andersen LLP


Kansas City, Missouri
September 6, 1996



                                                       F-21

<PAGE>




                                AMOCO PROPERTIES

               STATEMENT OF REVENUES AND DIRECT OPERATING EXPENSES

<TABLE>
<CAPTION>


                                                        Year Ended December 31

                                        1995                    1994                    1993
                                        ----                    ----                    ----


Revenues:

<S>                                 <C>                     <C>                     <C>
         Gas                        $  8,769,000            $ 7,346,000             $ 8,459,000

         Oil & Condensate              3,759,000              3,789,000               3,620,000
                                    -----------             -----------             -----------

Total Revenues                      $12,528,000             $11,135,000             $12,079,000
                                    ===========             ===========             ===========

Direct Operating Expenses           $ 2,991,000            $  3,158,000            $  2,798,000
                                    ============            ============            ============






</TABLE>



















                                     See accompanying notes to this statement.


                                                       F-22

<PAGE>



                                AMOCO PROPERTIES
                     NOTES TO THE STATEMENT OF REVENUES AND
                            DIRECT OPERATING EXPENSES

              FOR THE YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993

Note 1 -  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The  financial  statements  require the use of estimates,  and when  applicable,
specific information  regarding  significant estimates embodied in the financial
statements have been disclosed.  The Statement of Revenues and Direct  Operating
Expenses was prepared for purposes of complying  with the rules and  regulations
of the Securities  and Exchange  Commission and is not intended to be a complete
presentation  of the  financial  position or results of  operations of the Amoco
Properties.

Acquisition
The Amoco  Properties were acquired by the Company on October 8, 1996 from Amoco
Production  Company  (seller)  pursuant to the purchase and sale agreement dated
August 26, 1996.  The properties to be acquired are Amoco  Production  Company's
existing  interests in the  following  offshore  blocks:  East Breaks 160,  East
Breaks  161,  High  Island  (HI) 302, HI 309, HI 310, HI 330, HI 349, HI 474, HI
489, HI 499, a portion of the HI 475 Block, West Cameron (WC) 613, and WC 144.

Revenue Recognition
Revenues  are  recorded  on an accrual  basis,  with  volumes  and prices  being
estimated for properties  during periods when actual  production  information is
not available.  Revenues are recognized based on volumes of production taken and
sold by Amoco which is not materially  different from the entitlement method for
the  three  year  period  ending  December  31,  1995.  For each of the  periods
presented,  Amoco sold  substantially all of their production to a related party
at market based prices.

Direct Operating Expenses
Direct operating  expenses include  necessary and ordinary  expenses to maintain
production.  Insurance  expense is not included since sufficient  information is
not available from the Seller.  Depreciation,  depletion and amortization is not
included.  No severance tax expense is included for the Amoco Properties,  since
the production  from federal  offshore waters are not subject to state severance
taxes.

General, Administrative, and Overhead  Expenses
General,  administrative,  and overhead expenses are not presented as sufficient
information is not available from the Seller.

Note 2 -  SUPPLEMENTAL INFORMATION RELATED TO OIL AND GAS PRODUCING ACTIVITIES
          --------------------------------------------------------------------
          (UNAUDITED)

Quantities of Oil and Gas Reserves
The estimates of proved developed and proved  undeveloped  reserve quantities of
the Amoco Properties at December 31, 1995 are based upon PANACO's computation at
December 31, 1996 and do not purport to reflect realizable values or fair market
values  of the  properties'  reserves.  It  should be  emphasized  that  reserve
estimates are inherently imprecise and accordingly, these estimates are expected
to change as future information becomes available.  These are estimates only and
should not be construed as exact amounts. All reserves are located in the United
States.  Reserve  quantities  for the Amoco  Properties  were not  available  at
December 31, 1992, 1993,

                                                       F-23

<PAGE>



1994,  and 1995,  and the balances at those dates were  derived from  production
activity during 1993, 1994, 1995 and 1996.

Proved  reserves  are  estimated  reserves  of  natural  gas and  crude oil that
geological and engineering  data  demonstrate  with  reasonable  certainty to be
recoverable in future years from known  reservoirs  under existing  economic and
operating  conditions.  Proved  developed  reserves  are  those  expected  to be
recovered through existing wells, equipment, and operating methods.

                                                   Oil                Gas
Proved developed and                              (BBLS)             (MCF)
undeveloped reserves

Estimated reserves as of
   December 31, 1992                           2,209,000          33,506,000

Production                                      (216,000)         (3,874,000)
                                                ---------         -----------

Estimated reserves as of
   December 31, 1993                           1,993,000          29,632,000

Production                                      (236,000)         (4,057,000)
                                                ---------         -----------

Estimated reserves as of
   December 31, 1994                           1,757,000          25,575,000

Production                                      (216,000)         (5,704,000)
                                              ------------        ------------

Estimated reserves as of
    December 31,1995                           1,541,000          19,871,000
                                               =========          ===========

                                                    Oil                 Gas
Proved developed reserves:                       (BBLS)               (MCF)

   December 31, 1993                           1,720,000          27,533,000
                                               =========          ==========

   December 31, 1994                           1,484,000          23,476,000
                                               =========          ==========

   December 31, 1995                           1,268,000          17,772,000
                                               =========          ==========

Standardized Measure of Discounted Future Net Cash Flows
Future cash inflows are computed by applying December 31, 1996 prices of oil and
gas  (with  consideration  of  price  changes  only to the  extent  provided  by
contractual  arrangements) to the estimated future  production of proved oil and
gas reserves.  Estimates of future development and production costs are based on
December 31, 1996 costs and assume continuation of existing economic conditions.
The  estimated  future  net cash  flows are then  discounted  using a rate of 10
percent per year to reflect the estimated  timing of the future cash flows.  The
standardized  measure of discounted cash flows is the future net cash flows less
the discount at December 31, 1996.


                                                       F-24

<PAGE>




The accompanying  table reflects the standardized  measure of discounted  future
cash flows  relating to the proved oil and gas reserves of the Amoco  properties
as of the three years ended December 31:
 <TABLE>
 <CAPTION>

                                             1995                   1994                     1993
                                             ----                   ----                     ----
<S>                                    <C>                     <C>                       <C>
Future cash inflows                    $105,443,000            $117,971,000              $129,106,000
Future development
  and production costs                   34,309,000              37,300,000                40,458,000
                                       ------------            ------------            --------------
Future net cash flows                    71,134,000              80,671,000                88,648,000
10% annual discount
  to reflect timing of
  cash flows                             17,984,000              17,984,000                17,984,000
                                       -------------          --------------            --------------
Standardized measure
  before income taxes                  $ 53,150,000            $ 62,687,000             $  70,664,000
                                        ============           =============             =============
</TABLE>

Changes Relating to the Standardized Measure of Discounted Future Net Cash Flows
The  accompanying  table  reflects  the changes in the  standardized  measure of
discounted  future  net  cash  flows  from  the  sales  of oil and  gas,  net of
production  costs  attributable  to  proved  oil and gas  reserves  of the Amoco
properties for each of the three years ended December 31:
<TABLE>
<CAPTION>

                                            1995                    1994                     1993
                                            ----                    ----                     ----
<S>                                     <C>                     <C>                      <C>
Beginning balance                       $ 62,687,000            $ 70,664,000             $ 79,945,000
  Sales of oil and gas,
  net of production
  costs                                    9,537,000               7,977,000                9,281,000
                                       ---------------          --------------           --------------

Ending balance                         $  53,150,000            $ 62,687,000             $ 70,664,000
                                       =============            ============             ============

</TABLE>





                                                       F-25