U.S. SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                   FORM 10-QSB

     |X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
                              EXCHANGE ACT OF 1934
                                       or
     |_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
                              EXCHANGE ACT OF 1934

                  FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1998

                          Commission File Number 0-6580

                               [GRAPHIC OMITTED]






                        PEASE OIL AND GAS COMPANY (Exact
        name of small business issuer as specified in its charter)


              Nevada                                     87-0285520
  (State or other jurisdiction of                     (I.R.S. Employer
  incorporation or organization)                   Identification Number)
                          751 Horizon Court, Suite 203
                         Grand Junction, Colorado 81506
                    (Address of principal executive offices)
                                 (970) 245-5917
              (Registrant's telephone number, including area code)

      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 past 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____

      As of August 14, 1998 the registrant had 15,884,776 shares of its $0.10
par value Common Stock issued and outstanding.

Transitional Small Business Issuer Disclosure Format (check one): Yes ____ No X

-------------------------------------------------------------------------------


                                       -1-

<PAGE>



                                TABLE OF CONTENTS
                                                                          PAGE
                                                                         NUMBER

PART I - Financial Information
     Item 1.  Financial Statements
         Consolidated Balance Sheets
                 June 30, 1998 (unaudited) and December 31, 1997. . . . . .   3
         Consolidated Statements of Operations (unaudited)
                  For the Three and Six Months Ended June 30, 1998 and 1997   4
         Consolidated Statements of Cash Flows (unaudited)
             For the Three and Six Months Ended June 30, 1998 and 1997 . . . 5-6
         Notes to Consolidated Financial Statements  . . . . . . . . . . . .. 7 
     Item 2.  Management's Discussion and Analysis . . . . . . . . . . . . .  8
         Liquidity, Capital Expenditures and Capital Resources  . . . . . .   8
         Results of Operations . . . . . . . . .  . . . . . . . . . . . . .  10.
             Overview . . . . . . . . . . . . . . . . . . . . . . . . . . .  10 
                 Change in Accounting Principle . . . . . . . . . . . . . .  10.
                 Assets Held For Sale. . . . . . . . . . . . . . . . . . . ..11 
             Total Revenue . . . . . . . . . . . . . . . . . . . . . . . . ..11 
             Oil and Gas . . . . . . . . . . . . . . . . . . . . . . . . . ..12 
             Gas Plant Processing . . . . . .  . . . . . . . . . . . . . . ..13 
             Oil Field Services and Oil Field Supply . . . . . . . . . . . ..14 
             Well Administration and Other Income . . . . . . . . . . . . .  14.
             Consulting Arrangement - Related Party . . . . . . . . . . . .  14.
             General and Administrative . . . . . . . . .  . . . . . . . . ..14 
             Depreciation, Depletion and Amortization  . . . . . . . . . . ..15
             Interest Expense .  . . . . . . . . . . . . . . . . . . . . .   15.
                 Impairment Expense - Oil and Gas Properties. . . . . . . .  15.
                 Dividends and Net Loss Per Common Share. . . . . . . . . .  16
          Other Matters . . . . . . . . . . . . . . . . . . . . . . . . . .  16.
                 Recently Issued Financial Accounting Standards. . . . . . ..16
                 Disclosure Regarding Forward-Looking Statements. . . . . .  17
                 Year 2000 Issue . . . . . . . . . . . . . . . . . . . . . ..17 
PART II - Other Information . . . . . . . . . . . . . . . . . . . . . . . . .18 
         Item 1.  Legal Proceedings . . . . . . . . . . . . . . . . . . . .  18.
         Item 2.  Changes in Securities . . . . . . . . . . . . . . . . . .  18.
         Item 3.  Defaults Upon Senior Securities . . . . . . . . . . . . .  18.
         Item 4.  Submission of Matters to a Vote of Security Holders  . . . 19
         Item 5.  Other Information . . . . . . . . . . . . . . . . . . . .  19.
         Item 6.  Exhibits and Reports on Form 8-K . . . . . . . . . . . . ..20
PART III - Signatures . . . . . . . . . . . . . . . . . . . . . . . . . . .  20.



                                       -2-

<PAGE>



PART 1 - FINANCIAL INFORMATION
ITEM 1.  FINANCIAL STATEMENTS
                   PEASE OIL AND GAS COMPANY AND SUBSIDIARIES
                           CONSOLIDATED BALANCE SHEETS
<TABLE>

<CAPTION>
                                                                 June 30,       December 31,
                                                                  1998            1997
                                                            ----------------   ------------
                                                               (unaudited)
                                     ASSETS

CURRENT ASSETS:
<S>                                                           <C>             <C>         
   Cash and equivalents ..............................        $  1,970,837    $  6,547,804
   Trade receivables .................................             496,339         757,434
   Prepaid expenses and other ........................             100,690          43,979
                                                              ------------    ------------
        Total current assets .........................           2,567,866       7,349,217
                                                              ------------    ------------
ASSETS HELD FOR SALE .................................           3,385,455       4,048,000
                                                              ------------    ------------
OIL AND GAS PROPERTIES, at cost (full cost method):
   Unevaluated properties ............................           6,578,604       4,522,917
   Costs being amortized .............................          11,463,014       9,424,932
                                                              ------------    ------------
        Total oil and gas properties .................          18,041,618      13,947,849
   Less accumulated amortization and impairment ......          (5,943,910)     (4,965,232)
                                                              ------------    ------------
        Net oil and gas properties ...................          12,097,708       8,982,617
                                                              ------------    ------------
 OTHER ASSETS:
   Debt issuance costs, net ..........................             562,115         664,318
   Deposits and other ................................             190,512         167,493
   Office equipment and vehicles, net ................              82,266          82,498
                                                              ------------    ------------
          Total other assets .........................             834,893         914,309
                                                              ------------    ------------
TOTAL ASSETS .........................................        $ 18,885,922    $ 21,294,143
                                                              ============    ============

                      LIABILITIES AND STOCKHOLDERS' EQUITY

CURRENT LIABILITIES:
   Accounts payable, trade ...........................      $      456,636    $  1,500,239
   Accrued production taxes ..........................             239,025         204,108
   Other accrued expenses ............................             413,762         349,396
                                                               ------------    ------------
         Total current liabilities ...................           1,109,423       2,053,743
                                                               ------------    ------------
LONG-TERM LIABILITIES:
   Convertible debentures, net of discount (Note 3) ..           3,084,595       2,922,703
   Accrued production taxes ..........................              84,018         226,019
                                                               ------------    ------------
        Total long-term liabilities ..................           3,168,613       3,148,722
                                                               ------------    ------------
STOCKHOLDERS' EQUITY:
   Preferred  Stock,  par value $0.01 per share, 2,000,000
       shares  authorized,112,836 and 113,333 shares of 
       Series B 5% PIK  Cumulative  Convertible
       Preferred Stock issued and outstanding, respectively 
       (liquidation preference of $5,641,800 at June 30, 1998)       1,128           1,133
   Common Stock, par value $0.10 per share, 40,000,000
       shares authorized, 15,821,232 and 15,789,955 shares
       issued and outstanding, respectively ................     1,582,124       1,578,996
   Additional paid-in capital ..............................    36,731,852      36,875,394
   Accumulated deficit .....................................   (23,707,218)    (22,363,845)
                                                              ------------    ------------
         Total stockholders' equity ........................    14,607,886      16,091,678
                                                              ------------    ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY .................  $ 18,885,922    $ 21,294,143
                                                              ============    ============
</TABLE>
<PAGE>

                   PEASE OIL AND GAS COMPANY AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                                   (unaudited)

<TABLE>
<CAPTION>

                                                       For The Three Months            For The Six Months
                                                          Ended June 30,                 Ended June 30,
                                                    -------------------------      -----------------------
                                                       1998           1997            1998             1997
                                                    ----------   ------------    -------------    -----------
                                                                    (Note 2)                       (Note 2)
REVENUE:
<S>                                               <C>           <C>              <C>             <C>         
   Oil and gas sales .........................    $   655,660   $     670,373    $  1,247,268    $  1,459,579
   Gas plant processing ......................         88,408         162,346         179,527         371,856
   Oil field services and supply .............         63,687         145,893         217,836         344,212
   Well administration and other income ......          2,870          17,099          18,524          38,904
                                                   ------------    ------------    ------------    ------------
        Total revenue ........................        810,625         995,711       1,663,155       2,214,551
                                                   ------------    ------------    ------------    ------------
OPERATING COSTS AND EXPENSES:
   Oil and gas production ....................        389,467         405,677         710,107         734,496
   Gas plant .................................         93,335          99,461         175,148         204,299
   Oil field services and supply .............         83,939         139,475         223,865         293,133
   Consulting agreement-related party ........         62,549          97,795         125,461         181,178
   General and administrative ................        269,231         380,730         526,886         706,179
   Depreciation, depletion and amortization ..        398,994         508,506         752,131         975,112
   Impairment expense - oil & gas properties .        161,000         768,400         639,043       2,389,932
                                                   ------------    ------------    ------------    ------------
            Total operating costs and expenses      1,458,515       2,400,044       3,152,641       5,484,329
                                                   ------------    ------------    ------------    ------------
LOSS FROM OPERATIONS .........................       (647,890)     (1,404,333)     (1,489,486)     (3,269,778)
OTHER INCOME (EXPENSES):
   Interest income ...........................         79,156          45,054         146,170          63,113
   Gain (Loss) on Sale of Assets .............            457          (8,547)            457          (6,191)
   Interest expense ..........................           (269)       (186,539)           (516)       (402,012)
                                                   ------------    ------------    ------------    ------------
NET LOSS .....................................    $  (568,546)   $ (1,554,365)   $ (1,343,375)   $ (3,614,868)
                                                   ============    ============    ============    ============
NET LOSS APPLICABLE TO COMMON
   STOCKHOLDERS ..............................    $  (949,587)   $ (1,599,349)   $ (2,577,755)   $ (3,704,837)
                                                   ============    ============    ============    ============
NET LOSS PER COMMON SHARE ....................    $     (0.06)   $      (0.13)   $      (0.16)   $      (0.34)
                                                   ============    ============    ============    ============
WEIGHTED AVERAGE NUMBER OF
   COMMON SHARES OUTSTANDING .................     15,805,000      12,622,000      15,798,000      10,781,000
                                                   ============    ============    ============    ============
</TABLE>




                                       -3-

<PAGE>



                   PEASE OIL AND GAS COMPANY AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                  (unaudited)
<TABLE>
<CAPTION>

                                                                     For The Six Months
                                                                        Ended June 30,
                                                                   1998           1997
                                                                                (Note 2)
<S>                                                            <C>          <C>          
   Net loss ...................................................$1,343,375)  $ (3,614,868)
   Adjustments to reconcile net loss to net cash provided by
      (used in) operating activities:
            Depreciation, depletion and amortization ..........   752,131        975,112
            Impairment expense ................................   639,043      2,389,932
            Amortization of debt discount and issuance costs ..      --          225,393
            (Gain) Loss on sale of assets .....................      (497)         6,191
            Issuance of common stock for services .............      --           10,155
            Changes in operating assets and liabilities:
                   (Increase) decrease in:
                        Trade receivables .....................   261,095        113,379
                        Inventory .............................    55,270         (6,639)
                        Prepaid expenses and other assets .....   (79,730)       (30,548)
                    Increase (decrease) in:
                        Accounts payable ......................   (67,853)       (62,128)
                        Accrued expenses ......................  (142,063)      (130,686)
                                                               -----------    -----------
            Net cash provided by (used in) operating activities    74,021       (124,707)
                                                               -----------    -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
   Capital expenditures for property, plant and equipment .....(5,417,691)    (4,886,199)
   Proceeds from sale of property and equipment ...............   987,150         49,811
   Proceeds from redemption of certificate of deposit .........      --           17,500
                                                               -----------    -----------
      Net cash provided by (used in) investing activities .....(4,430,541)    (4,818,888)
                                                                             -----------    -----------

CASH FLOWS FROM FINANCING ACTIVITIES:
   Proceeds from exercise of warrants .........................       939      3,608,525
   Proceeds from sale of common stock .........................      --        3,880,000
   Offering costs .............................................  (146,765)      (687,391)
   Repayment of long-term debt ................................    (3,788)      (323,821)
   Payment of Preferred Stock dividends .......................   (70,833)          --
                                                                -----------    -----------
      Net cash provided by (used in) financing activities .....  (220,447)     6,477,313
                                                                -----------    -----------
 INCREASE (DECREASE) IN CASH AND EQUIVALENTS ..................(4,576,967)     1,533,718
 CASH AND EQUIVALENTS, beginning of period .................... 6,547,804      1,995,860
                                                                -----------    -----------

 CASH AND EQUIVALENTS, end of period .......................... 1,970,837    $ 3,529,578
                                                                -----------    -----------
</TABLE>


                                       -4-

<PAGE>



                   PEASE OIL AND GAS COMPANY AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                   (unaudited)
                                   (continued)

                                                         For The Six Months
                                                           Ended June 30,
                                                         1998            1997
                                                     ------------    ----------
                                                                      (Note 2)

SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION:
   Cash paid for interest (net of amount capitalized)$    516    $     220,611
                                                     ===========  =============

   Cash paid for income taxes                        $    -      $       -
                                                     ===========  ------------
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING
AND FINANCING ACTIVITIES:
   Conversion of long-term debt, net of discount, 
   to common stock                                   $    -      $     553,374
   Debt incurred for purchase of vehicles              32,610           29,582
   Increase (decrease) in accounts payable for 
   oil and gas exploration activities                (828,984)         418,820
   Issuance of common stock for oil and gas properties    -            875,000
   Capitalized portion of amortized debt discount and 
   issuance costs                                     264,094           82,451






                                       -5-

<PAGE>



                   PEASE OIL AND GAS COMPANY AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                   (unaudited)

Note 1 - Basis of Presentation:

The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information. They do not include all information and notes required by
generally  accepted  accounting  principles for complete  financial  statements.
However,  except as disclosed  herein,  there has been no material change in the
information disclosed in the notes to consolidated financial statements included
in the Annual  Report on Form 10-KSB of Pease Oil and Gas Company (the  Company)
for the year  ended  December  31,  1997.  In the  opinion  of  Management,  all
adjustments (consisting of normal recurring accruals) considered necessary for a
fair  presentation  have  been  included.  Operating  results  for  the  periods
presented are not necessarily indicative of the results that may be expected for
the full year.

The accounting  policies  followed by the Company are set forth in Note 1 to the
Company's  financial  statements in Form 10-KSB for the year ended  December 31,
1997. It is suggested  that these  financial  statements be read in  conjunction
with the financial statements and notes included in the Form 10-KSB.

Note 2 - Change In Accounting Principle:

As more thoroughly discussed in the Company's 1997 Annual Report on Form 10-KSB,
the  Company  changed  its  method  of  accounting  for oil  and  gas  producing
activities from the successful efforts method to the full cost method during the
fourth quarter of 1997. The 1997 financial statements presented herein have been
restated to reflect the change. As a result of the change in accounting  method,
the net loss applicable to common shareholders increased in 1997 as follows:

<TABLE>
<CAPTION>
                                                       For the Three Months   For the Six Months
                                                       Ended June 30, 1997    Ended June 30, 1997
Description ......................................     Net Loss   Per Share   Net Loss    Per Share
<S>                                                 <C>           <C>        <C>          <C>      
As Previously Reported Under Successful Efforts .   $  (764,248)  $  (0.06)  $(1,419,633) $  (0.13)
As Reported under Full Cost .....................    (1,599,349)     (0.13)   (3,704,837)    (0.34)
                                                  ---------------    -----    -----------    -----
      Increase in Net Loss under Full Cost ......   $  (835,101)  $  (0.07)  $(2,285,204) $  (0.21)
                                                  ===============    =====    ===========    =====
</TABLE>

Note 3 - Long Term Debt:

Long-term  debt  at June  30,  1998  and  December  31,  1997  consisted  of the
following:

                                                    Dec. 31, 1997  June 30, 1998
                                                       -----------   -----------
Convertible debentures, interest at 10%
   collateralized by certain oil and gas properties,
   due April 2001 ...................................  $ 3,975,000  $ 3,975,000
Less unamortized discount ...........................   (1,052,297)    (890,405)
                                                       -----------   -----------
         Net carrying value .........................  $ 2,922,703  $ 3,084,595
                                                       ===========   ===========

As more thoroughly discussed in the Company's 1997 Annual Report on Form 10-KSB,
the Company initiated a private placement in April 1996 to sell up to $5,000,000
of  collateralized  convertible  debentures  in the form of  "Units".  Each Unit
consisted of one $50,000 five-year 10% collateralized  convertible debenture and
detachable  warrants to purchase 25,000 shares of the Company's  common stock at
$1.25 per share.  In November  1996,  the offering was completed and the Company
was successful in selling the entire $5,000,000  generating net cash proceeds of
$4,300,000.  The estimated fair value of the  detachable  warrants of $1,829,000
was treated as a discount and is bring amortized using the interest method.  The
debentures  are  collateralized  by a first  priority  interest in certain Rocky
Mountain oil and gas properties owned and operated by the Company.  During 1997,
$1,025,000 of the  debentures  converted into common stock pursuant to the terms
of the debenture agreement.

                                       -6-

<PAGE>



Note 4 - Dividends and Net Loss Per Common Share:

Net loss per common  share is computed by dividing  the net loss  applicable  to
common  stockholders by the weighted average number of common shares outstanding
during the year.  All  common  stock  equivalents  have been  excluded  from the
computations because their effect would be antidilutive.

The net loss  applicable  to common  stockholders  is  determined  by adding any
dividends accruing to the benefit of the preferred stockholders to the net loss.
The dividends  included for this  calculation  include:  1) paid  dividends;  2)
accrued but unpaid dividends;  and 3) any imputed dividends  attributable to the
beneficial  conversion  feature.  During 1997, the net loss applicable to common
stockholders includes $89,969 for the six months ended and $44,984 for the three
months  ended,  respectively,  of accrued  but unpaid  dividends  related to the
Series A Preferred Stock. The Series A Preferred Stock  automatically  converted
into common on June 11, 1997.  During 1998,  the net loss  applicable  to common
stockholders  includes  the  following  charges  associated  with  the  Series B
Preferred Stock that was issued on December 31, 1997:

                                        For the Period Ended June 30, 1998
                                          Three Months        Six Months
         Dividends declared               $   70,523       $     141,356
         Imputed non-cash dividend           310,518           1,093,024
                                           ----------        ------------
                  Total                   $  381,041       $   1,234,380
                                          ==========         ===========

The Series B Preferred  Stock became  convertible  into common stock on April 1,
1998 at a conversion  price equal to a 12% discount to the average trading price
of the common stock prior to conversion. This discount increases monthly through
March 1999 when the  discount  tops out at 25% (this  discount is  considered  a
"beneficial  conversion  feature").  The additional  non-cash  imputed  dividend
charge included in the net loss applicable to common stockholders represents the
intrinsic value of the discount applicable through June 30, 1998. As long as any
Series B Preferred Stock is outstanding,  additional  non-cash  imputed dividend
charges will be incurred in future periods as the conversion  discount increases
until the discount tops out at 25%.

ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS

Liquidity, Capital Expenditures and Capital Resources
At June 30, 1998,  the  Company's  cash balance was  $1,970,837  with a positive
working capital position of $1,458,443, compared to a cash balance of $6,547,804
and a positive  working capital position of $5,295,474 at December 31, 1997. The
change in the Company's cash balance is summarized as follows:

Cash balance at December 31, 1997 ........................   $ 6,547,804
Sources of Cash:
   Cash provided by operating activities .................        74,021
   Proceeds from the sale of property and equipment ......       987,150
   Proceeds from the exercise of common warrants .........           939
                                                             -----------
         Total Sources of Cash ...........................     1,062,110
                                                             -----------
Uses of Cash:
   Exploration Activities - Gulf Coast ...................    (5,398,813)
   Offering Costs associated with Series B Preferred Stock      (146,765)
   Dividends Paid on Series B Preferred Stock ............       (70,833)
   Other Capital Expenditures ............................       (18,878)
   Payments on long term debt ............................        (3,788)
                                                             -----------
         Total uses of cash ..............................    (5,639,077)
Cash balance at June 30, 1998 ............................   $ 1,970,837

As noted,  most of the  Company's  uses of cash  were  deployed  in  exploration
activities  in the Gulf  Coast.  The costs  incurred in 1998 are  summarized  as
follows  (the  difference  between the total  incurred,  as  illustrated  in the
following  table,  and the total amount paid in 1998,  relates to the changes in
accounts  payable  at  December  31,  1997 and June 30,  1998 as well as amounts
capitalized  for interest and the loss on sale of oil and gas  properties in the
full cost pool):

                                       -7-

<PAGE>


<TABLE>
<CAPTION>

                                                            PROGRAM OPERATOR

         Category ............          NEGX        Parallel         AHC         Other         Total            %
-----------------------------------  ----------    ----------    ----------    ----------    ----------    ----------


<S>                                  <C>           <C>           <C>           <C>           <C>                <C>
  Successful Efforts ..............  $   27,916    $     --      $  435,640    $     --      $  463,556         9%
  Exploratory Dry Holes ...........   1,049,933       165,522          --            --       1,215,455        24%
  Land, G&G-Seismic Programs ......   1,228,510     1,284,149        81,565       570,541     3,164,765        63%
  Other Exploration Costs .........     128,785          --            --          84,786       213,571         4%
                                                                 ----------    ----------    ----------    ----------
         Total Exploration Costs ..  $2,435,144    $1,449,671    $  517,205    $  655,327    $5,057,347       100%
                                     ==========    ==========    ==========    ==========    ==========    ==========
         Percent ..................          48%           29%           10%           13%          100%
                                     ==========    ==========    ==========    ==========    ==========
</TABLE>

The  anticipated  capital  requirements  for 1998 related to the Company's  Gulf
Coast  exploration  program are more thoroughly  discussed in the Company's 1997
Annual  Report on Form  10-KSB.  The only  significant  change in the  Company's
capital requirements as discussed in the 10-KSB relate to the termination of the
Exploration  Agreement with National  Energy Group,  Inc.  ("NEGX") in May 1998.
That  agreement  established  a commitment  up to $5 million on what the Company
believes are higher risk wildcat  projects.  The Company  negotiated out of this
agreement in order to reduce this year's  capital budget and focus on lower risk
projects.  The Company did, however,  retain its interest in the E. Bayou Sorrel
prospect.  Therefore, under the existing commitments,  the Company's anticipated
capital  requirements to meet expected  drilling and  development  costs will be
approximately  $2.65  million for the remainder of 1998 and  approximately  $4.2
million for 1999.

As previously  discussed in the Company's 1997 10-KSB, the Company's current and
anticipated  cash  position  will be  insufficient  to cover the future  working
capital and  exploration  obligations.  The Company's  current  working  capital
position should meet its exploration  obligations through at least October 1998.
The Company has vigorously explored various  alternatives for additional sources
of  capital  including  additional  debt or  equity  financings  and the sale of
certain  existing  assets.  However,  with the  hyper-dilutive  potential of the
outstanding  Series B Preferred  Stock (should the holders elect to convert into
common  stock),  the Company has been  unable to attract any  additional  equity
capital  during 1998.  For example,  using the  Company's  common stock price on
August 14, 1998 of $0.375,  and applying the applicable  discount of 18%, should
all the  holders of the Series B Preferred  Stock  elect to convert  into common
stock, approximately 18.3 million shares would be issued in the conversion. This
would represent  approximately  54% of the then  outstanding  common shares.  In
addition,  the continuing  collapse of the oil and gas commodities  markets have
significantly  impaired the  marketability  and value of the Company's  existing
assets.  Therefore,  it cannot be determined at this time, what alternatives for
future  working  capital  may be  available,  nor to what  extent the  potential
dilution to the existing shareholders may be. If additional sources of financing
are  not  ultimately   available,   the  Company  may  have  to  consider  other
alternatives,   including  a  merger,   cancellation  of  existing   exploration
agreements,  farmouts, joint ventures, restructuring under the protection of the
Federal Bankruptcy Laws and/or liquidation.

As also discussed in the 1997 10-KSB, the Company has been attempting to sell or
otherwise  monitize its Rocky Mountain  assets since the fourth quarter of 1997.
In May,  1998,  the Company  sold all of its Utah  properties  for $230,000 to a
former officer of the Company. These properties represented approximately 16% of
the Company's  proved Rocky  Mountain oil and gas reserves at December 31, 1997.
In  addition,  the Company is  currently  under  contract to sell its gas plant,
service  and  supply  assets  as well as all of the  oil and gas  properties  in
Larimer and Weld Counties,  Colorado (which constituted approximately 60% of all
of the  Company's  Rocky  Mountain  proved oil and gas  reserves at December 31,
1997) for a total price of $2.1  million.  Should the sale close,  the effective
date  will be August 1,  1998.  However,  the  Company's  obligations  under its
outstanding  10%   Collateralized   Convertible   Debentures  (the  "Convertible
Debentures") in the principal  amount of $3.975 million,  together with interest
thereon,  is secured by a first priority security interest in all of the oil and
gas reserves  currently  under  contract.  Therefore,  to complete the sale, the
Company must receive written  approval of at least two-thirds of the outstanding
Convertible  Debentures to release the  collateralized  oil and gas  properties.
Although the approval  process is underway,  the Company cannot determine if the
security interest will ultimately be released by the debenture  holders.  If the
collateral  release  cannot be  obtained  in a timely  manner,  it is likely the
contemplated  sale will fall  through and the Company may remove the oil and gas
assets from the market.  Under this scenario,  the gas plant, service and supply
assets would  probably  continue to be marketed and held for sale since they are
not subject to the security interest.  No amounts from the Rocky Mountain assets
have been  included  as a  current  asset  since the  timing of any sale and the
proceeds thereof are uncertain at this time.

In July 1998,  the Company  initiated  several  steps to improve  the  corporate
governance  and  direction  of  the  Company.  First,  the  Board  of  Directors
established an Executive  Committee  whose purpose is to formulate and implement
recommendations,  strategies  and  actions  which are  intended  to support  and
protect shareholder value. Essentially, the Executive Committee will


                                       -8-

<PAGE>



manage  the  day-to-day  activities  of the  Company  and has  broad  power  and
authority to act in the absence of the full Board of Directors.

Secondly,  Mr. William F. Warnick  replaced Willard H. Pease, Jr. as Chairman of
the Board. Mr. Warnick is an outside Director, a practicing attorney in Lubbock,
Texas,  and also serves as the Texas Attorney  General's  appointee to the Texas
School Board Land Commission. Mr. Warnick has also served in numerous management
positions of private oil and gas companies.  Mr. Warnick received both a B.A. in
finance in 1968 and a J.D. degree in 1971.

Thirdly,  the Company  announced  the  addition of Mr. F.A.  (Allan) Wise to the
Board of Directors.  Mr. Wise has been professionally engaged in the oil and gas
business  for 30  years,  having  worked 7 years  for  Shell  Oil  Company  as a
petroleum  engineer and 9 years for Petro-Lewis  Corporation  where he served in
various  capacities,  including Vice President of Drilling and Production,  Vice
President of the Gulf Coast Region and Vice  President  of  Acquisitions.  Since
1987, Mr. Wise has been co-owner of Wise and Treece Petroleum Management,  inc.,
a petroleum engineering,  land and management consulting firm. Mr. Wise, through
the consulting  firm,  serves the oil and gas industry by providing a wide range
of technical and management  economic analysis and modeling of exploration plays
and the resulting development drilling; acquisition and financing of oil and gas
plays and properties;  financial modeling of oil and gas investment  structures;
supervision of oil and gas field development, drilling and petroleum engineering
and management consulting.

The Executive Committee is comprised of four voting members:  Patrick J. Duncan,
the  Company's  CFO,  Steve  Antry,  a Director and  consultant  to the Company,
William F. Warnick and F. A. Wise, and one non-voting member,  Willard H. Pease,
Jr., the Company's president.  The Board of Directors  implemented these changes
to enhance  the  decision  making  processes  in all  aspects  of the  Company's
business.  The Executive  Committee is diligently working on a resolution to the
Company's financing needs. However, the outcome is unknown at this time.

RESULTS OF OPERATIONS

Overview
The Company's  largest source of operating  revenue is from the sale of produced
oil, natural gas, and natural gas liquids. Therefore, the level of the Company's
revenues  and  earnings  are  affected by prices at which  natural  gas, oil and
natural gas liquids are sold.  Accordingly,  the Company's operating results for
any prior period are not  necessarily  indicative  of future  operating  results
because of the  fluctuations  in natural gas, oil and natural gas liquid  prices
and the lack of  predictability  of those  fluctuations  as well as  changes  in
production levels.

Change In Accounting Principle
As more thoroughly  discussed in the Company's Annual Report on Form 10-KSB, the
Company  changed its method of accounting  for oil and gas producing  activities
from the successful  efforts method to the full cost method.  The 1997 financial
statements  presented  herein have been  restated  to reflect  the change.  As a
result of the change in  accounting  method,  the net loss  applicable to common
shareholders increased in 1997 as follows:

<TABLE>
<CAPTION>
                                                       For the Three Months   For the Six Months
                                                       Ended June 30, 1997    Ended June 30, 1997
Description ........................................   Amount     Per Share   Amount      Per Share
<S>                                                    <C>        <C>        <C>          <C>      
As Previously Reported Under Successful Efforts ....   $(764,248) $  (0.06)  $(1,419,633) $  (0.13)
As Reported under Full Cost ........................  (1,599,349)    (0.13)   (3,704,837)    (0.34)
                                                       ----------    -----    -----------    -----
      Increase in Net Loss under Full Cost .........   $(835,101) $  (0.07)  $(2,285,204) $  (0.21)
                                                       ==========    =====    ===========    =====
</TABLE>

The  majority  of the  increased  loss in 1997 is  recognized  in the  financial
statements  under the caption  "Impairment  Expense" which is discussed later in
this section.

Management  believes the full cost method of accounting is preferable because it
will most accurately reflect the results of the Company's future operations.  In
connection  with the Company's  change in strategy from primarily an acquisition
and production  company to an  exploration  and  production  company,  it is now
focusing its efforts in the Gulf Coast region of the United States.  The Company
seeks  to  allocate  its  capital  resources  over a  diversified  portfolio  of
exploration  and  development  projects  within that area. It seeks to achieve a
balance between the risks of exploratory drilling and the return on investment

                                       -9-

<PAGE>



by investing in projects with large potential.  Dry holes,  abandoned properties
and seismic projects are an inherent part of the exploration  process.  However,
management believes that it is through  disciplined,  consistent  application of
this  balanced  portfolio  strategy  that  the  desired  return  on  its  entire
investment  will be achieved.  Management  believes that the full cost method of
accounting  is the method  used by many  independent  oil and gas  companies  of
comparable  size to the  Company  and allows  investors  to better  measure  the
performance  of the Company.  Management  further  believes that advanced  three
dimensional seismic and computer-aided  exploration technology has become a much
more  significant  factor in the success of an  exploration  program than in the
past.  Management  believes  that  expensing  these costs when  incurred,  as is
required under successful  efforts,  is inconsistent  with the value they add to
the exploration process.

Assets Held For Sale
During the fourth quarter of 1997, the Company's  Board of Directors  determined
that the Company's long-term strategy has shifted to exploration and development
activities  in the Gulf Coast region and that the Rocky  Mountain  assets should
ultimately be divested.  If and when these assets are sold, the revenue,  costs,
operating  margins and cash flows  currently  generated and discussed  under the
captions  "Gas  Plant  Processing",  "Oil  Field  Services  and  Supply",  "Well
Administration  and  Other  Income"  would no  longer  be part of the  Company's
operations.  Since these assets  include a significant  portion of the Company's
current  operations,  the sale of these assets, when and if it occurs, will have
an immediate and material negative impact on the Company's future cash flows and
results of operations.

Total Revenue
Total Revenue from all operations was as follows:

                                            For the Three Months Ended June 30,
                                                1998                 1997
                                              --------               --------
                                           Amount       %      Amount        %

Oil and gas sales .....................   $655,660     81%    $670,373      67%
Gas plant processing ..................     88,408     11%     162,346      16%
Oil field services and supply .........     63,687      7%     145,893      15%
Well administration and other income ..      2,870      1%      17,099       2%
                                          --------   ------   --------   ------
     Total revenue ....................   $810,625    100%    $995,711     100%
                                          ========   ======   ========   ======

                                             For the Six Months Ended June 30,
                                                  1998              1997
                                              ----------     ---------------
                                            Amount      %      Amount       %

Oil and gas sales ....................  $1,247,268     75%  $1,459,579      66%
Gas plant processing .................     179,527     11%     371,856      17%
Oil field services and supply ........     217,836     13%     344,212      15%
Well administration and other income .      18,524      1%      38,904       2%
                                         ---------   -----  ----------    -----
     Total revenue ...................  $1,663,155    100%  $2,214,551     100%
                                        ==========   =====  ==========    =====

The  decrease  in total  revenue,  along with any known  trends or changes  that
effect  revenue  on  a  line-by-line  basis,  are  discussed  in  the  following
paragraphs under their respective captions.












                                      -10-

<PAGE>



Oil and Gas
Operating statistics for oil and gas production for the periods presented are as
follows:
<TABLE>

<CAPTION>
                                      For the Three Months         For the Six Months
                                        Ended June 30,                Ended June 30,
                                 ---------------------------     -----------------------
                                       1998            1997            1998          1997
                                 -----------      ----------     ----------          -------

Production:
   Oil (Bbls)
<S>                                   <C>             <C>             <C>             <C>   
        Rocky Mtns ...........        16,186          20,092          34,981          40,070
        Gulf Coast ...........        13,778           8,308          23,674          16,137
                                 -----------     -----------     -----------     -----------
             Combined Total ..        29,964          28,400          58,655          56,207
                                 ===========     ===========     ===========     ===========
   Gas (Mcf)
        Rocky Mtns ...........        72,450         100,725         157,417         192,937
        Gulf Coast ...........        76,357          11,375         107,312          18,238
                                 -----------     -----------     -----------     -----------
              Combined Total .       148,807         112,100         264,729         211,175
                                 ===========     ===========     ===========     ===========
   BOE (6:1)
        Rocky Mtns ...........        28,261          36,880          61,217          72,226
        Gulf Coast ...........        26,504          10,204          41,559          19,177
                                 -----------     -----------     -----------     -----------
              Combined Total .        54,765          47,084         102,776          91,403
                                 ===========     ===========     ===========     ===========
Average Collected Price:
   Oil (per Bbl)
        Rocky Mtns ...........   $     11.92     $     18.43     $     12.73     $     19.88
        Gulf Coast ...........   $     13.47     $     19.20     $     14.02           20.01
                                 -----------     -----------     -----------     -----------
              Combined Average   $     12.63     $     18.66     $     13.25     $     19.92
                                 ===========     ===========     ===========     ===========
   Gas (per Mcf)
         Rocky Mtns ..........   $      1.45     $      1.12     $      1.44     $      1.51
         Gulf Coast ..........   $      2.26     $      2.44     $      2.26            2.71
                                 -----------     -----------     -----------     -----------
              Combined Average   $      1.86     $      1.25     $      1.78     $      1.61
                                 ===========     ===========     ===========     ===========
   Per BOE (6:1)
         Rocky Mtns ..........   $     10.54     $     13.10     $     10.99     $     15.05
         Gulf Coast ..........   $     13.50     $     18.35     $     13.82           19.42
                                 -----------     -----------     -----------     -----------
              Combined Average   $     11.97     $     14.24     $     12.14     $     15.97
                                 ===========     ===========     ===========     ===========
Operating Margins:
    Rocky Mtns:
        Revenue -
            Rocky Mtns. - Oil    $   192,983     $   370,392     $   445,403     $   796,731
            Rocky Mtns. - Gas        104,823         112,779         227.461         290,496
                                 -----------     -----------     -----------     -----------
                                     297,806         483,171         672,864       1,087,227
        Cost .................      (287,993)       (380,757)       (580,698)       (684,677)
                                 -----------     -----------     -----------     -----------
            Operating Margin .   $     9,813     $   102,414     $    92,166     $   402,550
                                 ===========     ===========     ===========     ===========
            Operating Margin %             3%             21%             14%             37%

    Gulf Coast:
        Revenue -
            Gulf Coast - Oil .   $   185,535     $   159,492     $   331,852     $   322,910
            Gulf Coast - Gas .       172,320          27,710         242,552          49,442
                                 -----------     -----------     -----------     -----------
                                     357,855         187,202         574,404         372,352
        Costs ................      (101,474)        (24,920)       (129,409)        (49,819)
                                 -----------     -----------     -----------     -----------
            Operating Margin .   $   256,381     $   162,282     $   444,995     $   322,533
                                 ===========     ===========     ===========     ===========
            Operating Margin %            72%             87%             77%             87%

</TABLE>

                                                                -11-

<PAGE>



<TABLE>
<CAPTION>
                                    For the Three Months           For the Six Months
                                       Ended June 30,                 Ended June 30,
                                 --------------------------      -----------------------
                                     1998              1997           1998           1997
                                 -----------     ----------      ----------       -------

Combined Totals:
<S>                              <C>             <C>             <C>             <C>        
        Revenue ..............   $   655,660     $   670,373     $ 1,247,268     $ 1,459,579
        Costs ................      (389,467)       (405,677)       (710,107)       (734,496)
                                 -----------     -----------     -----------     -----------
            Operating Margin .   $   266,193     $   264,696     $   537,161     $   725,083
                                 ===========     ===========     ===========     ===========
            Operating Margin %            41%             39%             43%             50%
Production Costs per
BOE before DD&A:
        Rocky Mtn Region .....   $     10.19     $     10.32     $      9.49     $      9.57
        Gulf Coast Region ....          3.83            2.44            3.11            2.60
                                 -----------     -----------     -----------     -----------
            Combined Average .   $      7.11     $      8.62     $      6.91     $      8.03
                                 ===========     ===========     ===========     ===========
Change in Revenue
Attributable to:
  Production .................   $    48,622                     $   105,276
  Price ......................       (63,334)                       (317,587)
                                 -----------                     -----------
 Total Decrease in Revenue ...   $   (14,712)                    $  (212,311)
                                 ===========                     ===========
</TABLE>

Even though the  Company's  total BOE  production  increased  by 12.5%,  the 15%
decrease in oil and gas revenue  during the first half of 1998 when  compared to
the first half of 1997 can be attributed to a substantial  decrease in commodity
prices between the two periods. Approximately 50% of the decrease in oil and gas
production  for the Rocky  Mountain  region  can be  attributed  to the  natural
decline in  production  that is  inherent in oil and gas wells and the other 50%
can be attributed to the sale of the Company's Utah properties in May 1998 (that
sale had an  effective  date of  April 1,  1998).  The  increase  in oil and gas
production for the Gulf Coast region can be attributed to the 1997 discoveries.

Gas Plant Processing
This category accounts for the natural gas processed and the natural gas liquids
extracted and sold by the Gas Plant facility.

Operating statistics for the periods presented are as follows:

<TABLE>
                                                   For the Three Months            For the Six Months
<CAPTION>
                                                      Ended June 30,                  Ended June 30,
                                                ------------------------     -------------------------
                                                   1998           1997          1998           1997
                                                ----------    ----------     ---------     ---------

Production:
<S>                                                 <C>           <C>          <C>           <C>    
  Natural Gas Processed (Inlet Mcf) ..........      82,594        85,312       155,240       164,242
  Liquids Produced -
           B-G Mix (gallons) .................     183,726       204,100       337,806       396,200
           Propane (gallons) .................     140,681       162,300       274,691       321,400
                                                 ---------     ---------     ---------     ---------
                   Total liquids produced ....     324,407       366,400       612,497       717,600
                                                 =========     =========     =========     =========
  Total Liquids produced per Inlet Mcf ("GPM")        3.93          4.29          3.95          4.37
                                                 =========     =========     =========     =========
  Average Sales Price of Liquids (per gallon)    $    0.28     $    0.44     $    0.30     $    0.52
                                                 =========     =========     =========     =========
Gross Margin: ................................      Amount        Amount        Amount        Amount
                                                 ---------     ---------     ---------     ---------
  Revenue ....................................   $  88,408     $ 162,346     $ 179,527     $ 371,856
  Costs ......................................     (93,335)      (99,461)     (175,148)     (204,299)
                                                 ---------     ---------     ---------     ---------
         Gross Margin ........................   $  (4,927)    $  62,885     $   4,379     $ 167,557
                                                 =========     =========     =========     =========
         Gross Margin Percent ................         (6%)          39%            2%           45%
</TABLE>



                                      -12-

<PAGE>



The  decrease  in natural  gas  processing  volumes  (per Mcf)  during 1998 when
compared  to 1997,  can be  substantially  attributed  to the normal  decline in
production from the two fields owned and operated by the Company that supply the
gas plant with natural  gas.  The  decrease in revenue in 1998 when  compared to
1997 is a direct  result of: 1.) the volume of natural  gas  processed;  2.) the
substantial decrease in liquid prices; and 3.) the gas plant encountered several
operational  problems  during 1998 that forced the plant to flare a  significant
amount of unprocessed gas (thus lowering the GPM).

Costs  associated with the Gas Plant  operations  consist of both semi-fixed and
variable  costs.  The  semi-fixed  costs consist of direct  payroll,  utilities,
operating supplies,  general and administrative costs, and other items necessary
in the day-to-day  operations.  The semi-fixed  costs are not expected to change
significantly  regardless of the volume processed by the Gas Plant. The variable
costs consist  primarily of purchased  gas,  plant fuel and shrink,  lubricants,
repair and  maintenance.  These  costs are  generally  a direct  function of the
volume  processed  by the Gas  Plant and are  expected  to  either  increase  or
decrease proportionately with the corresponding plant production.

In response to the decreasing  margins and operational  problems  encountered at
the gas plant, the Company negotiated and entered into a third-party  processing
agreement  in  August  1998.  Accordingly,  it is  expected  that  by the end of
September  1998,  the Company's gas plant facility will be shut down and the gas
currently  processed will be sold to a third party. The Company believes it will
generate better cash flows under a third-party  processing  arrangement  than it
has in the past  using  its own  facility.  At this  time the  Company  does not
believe there is any significant  liability for  dismantlement  or environmental
restoration of the existing gas plant facility (net of salvage) and the costs of
implementing the third-party  processing  agreement are expected to be less than
$30,000 (which will be paid out of existing working capital).

Oil Field Services and Oil Field Supply
Operating  statistics for the Company's oil field service and supply  operations
for the periods presented are as follows:

<TABLE>
<CAPTION>
                                 For the Three Months                 For the Six Months
                                     Ended June 30,                      Ended June 30,
                               -----------------------------        ------------------------
                                    1998             1997              1998         1997
                               -----------     -------------        -----------  ---------

<S>                            <C>             <C>                   <C>         <C>       
Revenue                        $   63,687      $   145,893           $ 217,836   $  344,212
Costs                             (83,939)        (139,475)           (223,865)    (293,133)
                               -----------     ------------         ----------- ------------
   Net Operating Income        $  (20,252)     $     6,418           $  (6,029)  $    51,079
                               ===========     ============         ============ ===========
</TABLE>

Total revenue,  and the net operating income decreased in 1998, when compared to
1997 as a result of less work generated from the Company's  supply store and hot
oil services. This is a result of the Company's supply store manager and hot oil
truck pusher  resigning in light of the  anticipated  sale of the Rocky Mountain
assets and taking a portion of the Company's business with them.

Well Administration and Other Income
The decrease in well  administration  and other income is a direct result of the
Company selling its Utah oil and gas properties  effective April 1, 1998.  These
properties generated most of this revenue.

Consulting Arrangement - Related Party
In March 1996 the Company  entered into a three-year  consulting  agreement with
Beta Capital Group, Inc. ("Beta").  Beta, located in Newport Beach,  California,
specializes  in emerging  companies  with both capital needs and market  support
requirements.  Beta's chairman,  Steve Antry, has been a director of the Company
since August  1996.  The  consulting  agreement  with Beta  provides for minimum
monthly cash payments of $17,500 plus reimbursement for out-of-pocket expenses.

General and Administrative
The decrease in general and  administrative  ("G&A")  expenses of  approximately
$179,000 (or 25%) during the first half of 1998 when compared to the same period
in 1997 is summarized as follows:

$   58,000     - Net reduction of payroll costs substantially attributed to the
                 elimination of two administrative positions(these positions 
                 eliminated as a result of the anticipated sale of the Rocky 
                 Mountain assets).
    45,000     - Consulting services - related to Gulf Coast exploration.
    32,000     - Travel and entertainment costs.
    44,000     - All other, net.
 $ 179,000

                                      -13-

<PAGE>



Although  the  Company  has and will take steps to reduce and monitor G&A costs,
there can be no assurance future G&A costs will be further reduced.  Even if the
Rocky Mountain assets are ultimately sold, the Company does not expect any other
significant  reductions in future G&A expenses,  at least in the near term. This
is primarily due to any reductions  that may be made due to the divestment  will
likely be offset by additional  administrative  costs  associated  with the Gulf
Coast exploration activities.

Depreciation, Depletion and Amortization
Depreciation,  Depletion and Amortization  ("DD&A") for the periods presented by
cost center consisted of the following:

                                       For the Three Months  For the Six Months
                                          Ended June 30          Ended June 30
                                      ---------------------  ------------------
                                          1998      1997       1998        1997
                                      ---------   ---------  --------  --------

Oil and Gas Properties - Rocky Mtns    $ 83,162   $330,209   $186,081   $624,142
Oil and Gas Properties - Gulf Coast     205,469     60,020    339,636    111,333
Gas Plant Operations ...............     61,256     60,929    117,398    121,858
Service and Supply Operations ......     35,880     33,465     83,697     70,027
Furniture and Fixtures .............     13,227     12,384     25,319     24,754
Non-Compete Agreements .............       --       11,499       --       22,998
                                                  --------   --------   --------
    Total ..........................   $398,994   $508,506   $752,131   $975,112
                                       ========   ========   ========   ========

DD&A for the oil and gas  properties,  per BOE, for the periods  presented is as
follows:

         Rocky Mountains                   2.94       8.95       3.04       8.30
         Gulf Coast                        7.75       5.88       8.17       5.81
         Combined Total                    5.27       8.29       5.12       8.05

DD&A for the oil and gas  properties  is  computed  based on one full  cost pool
using the total estimated reserves at the end of each period presented and prior
to applying the ceiling test discussed  later in this section under  "Impairment
Expense".  The  estimated  portion of DD&A for the Rocky  Mountains and the Gulf
Coast are illustrated here for analysis purposes only. Therefore,  the variances
in the DD&A rates for oil and gas properties (per BOE) for the periods presented
are a function of the estimated  reserves (which are  significantly  affected by
the price of oil and gas) and the net costs  being  amortized  at the end of the
respective reporting periods.

Interest Expense
Total interest  incurred,  and its allocation,  for the periods  presented is as
follows:

<TABLE>
<CAPTION>
                                       For the Three Months      For the Six Months
                                          Ended June 30,            Ended June 30,
                                     -----------------------    ---------------------
                                         1998         1997          1998        1997
                                     ----------   ----------    ---------    ---------

<S>                                   <C>          <C>          <C>          <C>      
Interest paid or accrued ..........   $  99,372    $ 103,144    $ 197,633    $ 241,444
Amortization of debt discount .....      80,946       61,942      161,892      119,106
Amortization of debt issuance costs      51,102       98,186      102,203      188,738
                                      ---------    ---------    ---------    ---------
         Total interest incurred ..     231,420      263,272      461,728      549,288
Interest capitalized ..............    (231,151)     (76,733)    (461,212)    (147,276)
                                      ---------    ---------    ---------    ---------
              Interest expense ....   $     269    $ 186,539    $     516    $ 402,012
                                      =========    =========    =========    =========
</TABLE>

The lower  interest  incurred  in 1998 is  attributed  to the face  value of the
convertible debentures issued in 1996 decreased from an average balance of $4.83
million  during the first half of 1997 to an  average  balance of $3.98  million
during 1998. The decrease in the average balance during the periods presented is
attributed  to a portion of the  convertible  debentures  converted  into common
stock during 1997.  More interest was  capitalized in 1998 when compared to 1997
since the average  amounts  invested in  unevaluated  oil and gas properties was
substantially higher in 1998.

Impairment Expense - Oil and Gas Properties
As previously  discussed,  the Company changed its accounting method for oil and
gas activities from successful efforts to full cost during the fourth quarter of
1997. The full cost method regards all costs of  acquisition,  exploration,  and
development  activities  as  being  necessary  for the  ultimate  production  of
reserves. All of those costs are incurred with the knowledge that

                                      -14-

<PAGE>



many of them  relate to  activities  that do not result  directly in finding and
developing  reserves.  However,  the Company expects that the benefits  obtained
from the prospects  that do prove  successful,  together with benefits from past
discoveries,   will  ultimately  recover  the  costs  of  all  activities,  both
successful and  unsuccessful.  Thus, all costs incurred in those  activities are
regarded as integral to the acquisition,  discovery, and development of reserves
that  ultimately  result from the efforts as a whole and are thereby  associated
with the  Company's  proved  reserves.  Establishing  a direct  cause-and-effect
relationship between costs incurred and specific reserves  discovered,  which is
the premise under successful  efforts, is not relevant to the full cost concept.
In light of the transformation  from Rocky Mountain  acquisition and development
to Gulf Coast exploration, the Company believes this method will be a preferable
method of accounting.  However, the costs accumulated in the Company's full cost
pool are subject to a "ceiling", as defined by Regulation SX Rule 4-10(e)(4). As
prescribed by the  corresponding  accounting  standards  for full cost,  all the
accumulated  costs in excess of the  ceiling,  are to be expensed by a charge to
impairment.

Accordingly,  the impairment recognized in 1998 can be substantially  attributed
to  the  costs   incurred  in  connection   with  dry  holes  and  a  continuing
deterioration  of commodity  prices since  December  31,  1997.  The  impairment
recognized  during  the  first  half of 1997 is  associated  with  approximately
$370,000 in dry holes and $2.02 million associated with the cumulative effect of
the change in  accounting  methods  from  successful  efforts  to full cost.  As
thoroughly discussed in the Company's 1997 10- KSB, the cumulative effect of the
accounting change retroactively  increased the carrying value of the oil and gas
properties  (which  at the time  consisted  principally  of the  Rocky  Mountain
properties).  A significant drop in oil and gas prices between December 31, 1996
and June 30, 1997 substantially  lowered the "ceiling" on the full cost pool and
the Company incurred the additional impairment charge.

Dividends and Net Loss Per Common Share
Net loss per common  share is computed by dividing  the net loss  applicable  to
common  stockholders by the weighted average number of common shares outstanding
during the year.  All  common  stock  equivalents  have been  excluded  from the
computations because their effect would be antidilutive.

The net loss  applicable  to common  stockholders  is  determined  by adding any
dividends accruing to the benefit of the preferred stockholders to the net loss.
The dividends  included for this  calculation  include:  1) paid  dividends;  2)
accrued but unpaid dividends;  and 3) any imputed dividends  attributable to the
beneficial  conversion  feature.  During 1997, the net loss applicable to common
stockholders includes $89,969 for the six months ended and $44,984 for the three
months  ended,  respectively,  of accrued  but unpaid  dividends  related to the
Series A Preferred Stock. The Series A Preferred Stock  automatically  converted
into common on June 11, 1997.  During 1998,  the net loss  applicable  to common
stockholders  includes  the  following  charges  associated  with  the  Series B
Preferred Stock that was issued on December 31, 1997:

                                             For the Period Ended June 30, 1998
                                             Three Months          Six Months
         Dividends declared                  $  70,523         $    141,356
         Non-cash imputed dividend charge       310,51            1,093,024
                                              --------          -----------
                  Total                      $ 381,041         $  1,234,380
                                             =========          ===========

The Series B Preferred  Stock became  convertible  into common stock on April 1,
1998 at a conversion  price equal to a 12% discount to the average trading price
of the common stock prior to conversion. This discount increases monthly through
March 1999 when the  discount  tops out at 25% (this  discount is  considered  a
"beneficial  conversion  feature").  The additional  non-cash  imputed  dividend
charge included in the net loss applicable to common stockholders represents the
intrinsic value of the discount applicable through June 30, 1998. As long as any
Series B Preferred Stock is outstanding,  additional  non-cash  imputed dividend
charges will be incurred in future periods as the conversion  discount increases
until the discount tops out at 25%.

OTHER MATTERS

Recently Issued Financial Accounting Standards
In June 1997, the FASB issued  Statement of Financial  Accounting  Standards No.
130, "Reporting  Comprehensive Income" ("SFAS 130"), which establishes standards
for  reporting  and  display of  comprehensive  income and its  components.  The
components of comprehensive income refer to revenues, expenses, gains and losses
that are excluded from net income under current accounting standards,  including
foreign currency  translation items,  minimum pension liability  adjustments and
unrealized  gains  and  losses  on  certain   investments  in  debt  and  equity
securities.  SFAS  130  requires  that  all  items  that  are  recognized  under
accounting  standards as  components  of  comprehensive  income be reported in a
financial statement

                                      -15-

<PAGE>



displayed in equal prominence with the other financial statements;  the total of
other  comprehensive  income for a period is  required  to be  transferred  to a
component  of equity that is  separately  displayed  in a statement of financial
position at the end of an  accounting  period.  SFAS 130 is  effective  for both
interim and annual periods  beginning  after December 15, 1997. The Company does
not believe  that this SFAS will have any  significant  impact on its  financial
statements.

In June 1997, the FASB issued  Statement of Financial  Accounting  Standards No.
131,  "Disclosures  about  Segments of an  Enterprise  and Related  Information"
("SFAS 131"). SFAS 131 establishes  standards for the way public enterprises are
to report  information about operating  segments in annual financial  statements
and requires the reporting of selected  information about operating  segments in
interim financial reports issued to shareholders.  It also establishes standards
for related disclosures about products and services, geographic areas, and major
customers.  SFAS 131 is effective for periods beginning after December 15, 1997.
The  Company  does not  believe  that  this SFAS  will  currently  result in any
significant new disclosures in its financial statements.

Disclosure Regarding Forward-Looking Statements
This  report on Form 10-KSB  includes  "forward-looking  statements"  within the
meaning  of  Section  27A of  the  Securities  Act  of  1933,  as  amended  (the
"Securities  Act"),  and Section 21E of the Securities  Exchange Act of 1934, as
amended (the "Exchange Act"). All statements other than statements of historical
facts included in this report, including,  without limitation,  statements under
"Business and Properties" and "Management's Discussion and Analysis of Financial
Condition and Results of Operations" regarding the Company's financial position,
reserve  quantities  and  net  present  values,  business  strategy,  plans  and
objectives  of  management  of the  Company  for future  operations  and capital
expenditures, are forward-looking statements and the assumptions upon which such
forward-looking  statements are based are believed to be reasonable. The Company
can give no assurance that such  expectations  and assumptions  will prove to be
correct.  Reserve  estimates of oil and gas properties  are generally  different
from the  quantities  of oil and natural gas that are  ultimately  recovered  or
found. This is particularly true for estimates applied to exploratory prospects.
Additionally,  any statements contained in this report regarding forward-looking
statements  are subject to various known and unknown  risks,  uncertainties  and
contingencies,  many of which are beyond the control of the Company. Such things
may cause actual  results,  performance,  achievements or expectations to differ
materially  from  the   anticipated   results,   performance,   achievements  or
expectations.  Factors that may affect such forward-looking  statements include,
but are not limited to: the Company's ability to generate  additional capital to
complete its planned drilling and exploration activities;  risks inherent in oil
and gas acquisitions,  exploration,  drilling, development and production; price
volatility of oil and gas;  competition;  shortages of  equipment,  services and
supplies;  government regulation;  environmental matters; financial condition of
the other companies participating in the exploration, development and production
of oil and gas programs;  and other matters  beyond the  Company's  control.  In
addition, since all of the prospects in the Gulf Coast are currently operated by
another party, the Company may not be in a position to control costs, safety and
timeliness of work as well as other critical factors  affecting a producing well
or exploration and development activities.  All written and oral forward-looking
statements  attributable  to  the  Company  or  persons  acting  on  its  behalf
subsequent to the date of this report are expressly  qualified in their entirety
by this disclosure.

Year 2000 Issue
The Company has begun to address  possible  remedial  efforts in connection with
computer software that could be affected by the Year 2000 problem. The Year 2000
problem is the result of computer programs being written using two digits rather
than four to define the applicable  year. Any programs that have  time-sensitive
software  may  recognize a date using "00" as the year 1900 rather than the year
2000.  This  could  result in a major  system  failure or  miscalculations.  The
Company utilizes a number of computer programs across its entire operation.  The
Company has not completed its assessment,  but currently believes that the costs
of  addressing  this  issue  should not have a  material  adverse  impact on the
Company's  financial  position.  However,  if the Company and third parties upon
which it relies  are  unable to  satisfactorily  address  this issue in a timely
manner, it could result in a material  financial risk to the Company.  There can
be no  assurances  that Year 2000  problems  will not occur with  respect to the
Company's computer systems or business  affiliations.  The Year 2000 problem may
impact other entities with which the Company transacts business, and the Company
cannot  predict  the  effect of the Year 2000  problem on such  entities  or the
Company.



                                      -16-

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PART II - OTHER INFORMATION

Item 1. Legal Proceedings

The  Company  may from time to time be  involved  in various  claims,  lawsuits,
disputes with third parties, actions involving allegations of discrimination, or
breach of contract  incidental to the operation of its business.  The Company is
not currently involved in any such incidental litigation which it believes could
have a  materially  adverse  effect on its  financial  condition  or  results of
operations.

Item 2. Changes in Securities

(a) and (b): not applicable

(c)      Recent sales of  unregistered  securities.  The Company issued and sold
         the following  securities without registration under the Securities Act
         of 1933, as amended  ("Securities  Act"), during the first half of 1998
         and through the date of this Report.

         1.       On February 2, 1998,  the Company  issued  1,250 shares of its
                  common  stock upon  exercise  of  outstanding  stock  purchase
                  warrants at $0.75 per share for total  proceeds of $938 to the
                  Company. The Certificates  representing the shares issued upon
                  exercise  bear  a  restrictive  legend  prohibiting   transfer
                  without   registration   under  the   Securities  Act  or  the
                  availability  of an  exemption  from  registration  and  "stop
                  transfer" instructions have been issued to the transfer agent.
                  These warrants were issued in February 1996 in connection with
                  the Consulting Agreement entered into with Beta Capital Group,
                  Inc. The shares of common  stock  issued upon  exercise of the
                  warrants  were   registered   for  resale  by  the  holder  in
                  Registration No. 333-19589.
         2.       On May 20, 1998 the Company issued 30,027 shares of its common
                  stock  upon  conversion  of 497  shares of Series B  Preferred
                  Stock.  The  Certificates  representing the shares issued upon
                  conversion  bear a  restrictive  legend  prohibiting  transfer
                  without   registration   under  the   Securities  Act  or  the
                  availability  of an exemption  from  registration.  The shares
                  issued  upon  conversion  were  registered  by the Company for
                  resale by the  holders  in  Registration  No.  333-44305.  The
                  Company  relied upon Section  3(a)(9) of the Securities Act of
                  1933, as amended,  in claiming exemption from the registration
                  requirements  of  the  Securities  Act  for  issuance  of  the
                  securities upon conversion.
         3.       On July 17,  1998 the  Company  issued  63,544  shares  of its
                  common  stock  upon  conversion  of 500  shares  of  Series  B
                  Preferred  Stock.  The  Certificates  representing  the shares
                  issued upon conversion bear a restrictive  legend  prohibiting
                  transfer without  registration under the Securities Act or the
                  availability  of an exemption  from  registration.  The shares
                  issued  upon  conversion  were  registered  by the Company for
                  resale by the  holders  in  Registration  No.  333-44305.  The
                  Company  relied upon Section  3(a)(9) of the Securities Act of
                  1933, as amended,  in claiming exemption from the registration
                  requirements  of  the  Securities  Act  for  issuance  of  the
                  securities upon conversion.

         In  connection  with the  issuance of the above noted  securities,  the
         Company also relied upon Section 4(2) of the Securities Act in claiming
         exemption for the  registration  requirement of the Securities Act. All
         of the persons to whom the securities were issued had full  information
         concerning  the  business  and affairs of the Company and  acquired the
         shares  for  investment   purposes.   Certificates   representing   the
         securities   issued  bear  a  restrictive   legend  and  stop  transfer
         instructions have been entered  prohibiting  transfer of the securities
         except in compliance with applicable securities law.

Item 3. Defaults Upon Senior Securities

(a)      There  has  been no  material  default  in the  payment  of  principal,
         interest,   or  any  other  material  default,   with  respect  to  any
         indebtedness  of the small business issuer during the period covered by
         this report.

(b)      There has been no material  default in the payment of dividends for any
         class of preferred stock during the period covered by this report.



                                      -17-

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

The Company's  Annual  Meeting of  Stockholders  was held at the Grand  Junction
Hilton Hotel. 743 Horizon Drive, Grand Junction, Colorado, on Saturday, June 13,
1998, at 10:00 A.M.  Mountain  Daylight Time. The matters submitted to a vote of
the Company's  security  holders as well as the results of the votes cast are as
follows:

                  I.       Matters Voted Upon by Holders of Common Stock
                           The  election of three Class B directors  to serve on
                           the  Company's  Board  of  Directors   totaling  nine
                           directors.  A  summary  of  the  votes  cast  are  as
                           follows:

                                  Votes Received
                                    In Favor of       Votes Withheld
                                           % of                   % of
                                        outstanding            outstanding
                               Number      shares     Number     shares

         James C. Ruane        11,218,411   71.0%    570,048       3.6%
         Homer C. Osborne      11,242,486   71.2%    545,973       3.5%
         Stephen L. Fischer    11,246,161   71.2%    542,298       3.4%
         Steve A. Antry        11,433,461   72.4%    354,998       2.2%

As a result of the voting, James C. Ruane, Homer C. Osborne,  Stephen L. Fischer
and Steve A. Antry were elected as Class B Directors  to serve in that  capacity
until the Annual Meeting of Stockholders in 2001.

Item 5. Other Information

Discretionary Voting by Management
Unless the Company receives notice from a stockholder that the stockholder plans
to  present  a  matter  for   consideration   at  the  next  annual  meeting  of
stockholders,  including information about the matter to be presented,  by March
14,  1999 (45 days  before the date the Company  mailed its proxy  materials  to
stockholders in 1998),  management will have discretionary authority to vote all
shares for which it holds proxies in opposition to the matter if presented. This
procedure  is intended to be in response to  amendments  to Rule 14a-4 under the
Securities Exchange Act of 1934, recently adopted by the Securities and Exchange
Commission.

Change in Corporate Governance
In July 1998,  the Company  initiated  several  steps to improve  the  corporate
governance  and  direction  of  the  Company.  First,  the  Board  of  Directors
established an Executive  Committee  whose purpose is to formulate and implement
recommendations,  strategies  and  actions  which are  intended  to support  and
protect shareholder value. Essentially,  the Executive Committee will manage the
day-to-day activities of the Company and has broad power and authority to act in
the absence of the full Board of Directors.

Secondly,  Mr. William F. Warnick  replaced Willard H. Pease, Jr. as Chairman of
the Board. Mr. Warnick is an outside Director, a practicing attorney in Lubbock,
Texas,  and also serves as the Texas Attorney  General's  appointee to the Texas
School Board Land Commission. Mr. Warnick has also served in numerous management
positions of private oil and gas companies.  Mr. Warnick received both a B.A. in
finance in 1968 and a J.D. degree in 1971.

Thirdly,  the Company  announced  the  addition of Mr. F.A.  (Allan) Wise to the
Board of Directors.  Mr. Wise has been professionally engaged in the oil and gas
business  for 30  years,  having  worked 7 years  for  Shell  Oil  Company  as a
petroleum  engineer and 9 years for Petro-Lewis  Corporation  where he served in
various  capacities,  including Vice President of Drilling and Production,  Vice
President of the Gulf Coast Region and Vice  President  of  Acquisitions.  Since
1987, Mr. Wise has been co-owner of Wise and Treece Petroleum Management,  Inc.,
a petroleum engineering,  land and management consulting firm. Mr. Wise, through
the consulting  firm,  serves the oil and gas industry by providing a wide range
of technical and management  economic analysis and modeling of exploration plays
and the resulting development drilling; acquisition and financing of oil and gas
plays and properties;  financial modeling of oil and gas investment  structures;
supervision of oil and gas field development, drilling and petroleum engineering
and management consulting.

                                      -18-

<PAGE>


The Executive Committee is comprised of four voting members:  Patrick J. Duncan,
the  Company's  CFO,  Steve  Antry,  a Director and  consultant  to the Company,
William F. Warnick and F. A. Wise, and one non-voting member,  Willard H. Pease,
Jr., the Company's president.  The Board of Directors  implemented these changes
to enhance  the  decision  making  processes  in all  aspects  of the  Company's
business.

Item 6. Exhibits and Reports on Form 8-K

(a)      The following exhibits are filed with this report:

                  (1) Exhibit 27-1,  "Financial Data Schedule" - for the quarter
                  ended  June  30,  1998.  (2)  Exhibit  27-2,  "Financial  Data
                  Schedule" - for the quarter ended June 30, 1997 as restated
                  for accounting change from successful efforts to full cost for
                  oil and gas activities.

(b) The following report on Form 8-K was filed during the quarter ended June 30,
1998:

      Item Reported   Date            Financial Statement
      -------------   -------------   ---------------------
(1)   5, 7 ........   June 15, 1998   None - Not Applicable

There were no financial  statements filed during the quarter ended June 30, 1998
other than the Company's  Quarterly  Report on Form 10-QSB for the first quarter
ended March 31, 1998.

                                    SIGNATURES

In  accordance  with  Section 13 or 15 (d) of the Exchange  Act, the  Registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.

                                    PEASE OIL AND GAS COMPANY

Date: August 18, 1998               By: /s/ Willard H. Pease, Jr.
                                    Willard H. Pease, Jr.
                                    President and Chief Executive Officer

Date: August 18, 1998               By: /s/ Patrick J. Duncan
                                    Patrick J. Duncan
                                    Chief Financial Officer, Treasurer,
                                    and Principal Accounting Officer



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