| x |   | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
|---|--------|-----------------------------------------------------------------------------------------|

|  ̈ |   | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
|--------|--------|------------------------------------------------------------------------------------------|

| Nevada                                                        |   | 20-4711443                             |
|---------------------------------------------------------------|--------|----------------------------------------|
| (State or other jurisdiction ofincorporation or organization) |   | (I.R.S. EmployerIdentification Number) |

| 218 N. Broadway, Suite 204Tyler, Texas 75702        |
|-----------------------------------------------------|
| (Address of principal executive offices) (Zip Code) |

|  Large accelerated filer o               |  Accelerated filer o         |
|-----------------------------------------------|-----------------------------------|
|  Non-accelerated filer o                 |  Smaller reporting company x |
| (Do not check if a smaller reporting company) |                              |

----

  

|                                                                                                | Page   |
|-----------------------------------------------------------------------------------------------------|--------|
| PART I - FINANCIAL INFORMATION                                                                      |
|                                                                                                |   |
| Item 1. Financial Statements                                                                        | 3      |
| Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations | 11     |
| Item 3. Quantitative and Qualitative Disclosures About Market Risk                                  | 17     |
| Item 4T. Controls and Procedures                                                                    | 17     |
|                                                                                                |   |
| PART II - OTHER INFORMATION                                                                         |
|                                                                                                |
| Item 1. Legal Proceedings                                                                           | 18     |
| Item 1A. Risk Factors                                                                               | 18     |
| Item 2. Unregistered Sales of Equity Securities and Use of Proceeds                                 | 18     |
| Item 3. Defaults Upon Senior Securities                                                             | 18     |
| Item 4. Submission of Matters to a Vote of Security Holders                                         | 18     |
| Item 5. Other Information                                                                           | 18     |
| Item 6. Exhibits                                                                                    | 18     |
|                                                                                                |   |
| SIGNATURES                                                                                          | 21     |

----

PART I - FINANCIAL INFORMATION 

|                                                                       |   | June 30,    |       |   | December 31, |   |
|----------------------------------------------------------------------------|--------|-------------|------------|--------|--------------|--------|
|                                                                       |   | 2009        |       |   | 2008         |   |
|                                                                       |   | (Unaudited) |       |   |         |   |
| Assets                                                                     |   |        |       |   |         |   |
| Current assets:                                                            |   |        |       |   |         |   |
|    Cash and cash equivalents                                |   | $           | 307,153    |   |         | $      | 792,255 |   |
|    Accounts receivable, trade                               |   |        | 125,153    |   |         |   | 249,651 |   |
|    Accounts receivable, related parties                     |   |        | 42,409     |   |         |   | 69,408 |   |
|    Joint-interest billings receivable, related parties, net |   |        | 23,970     |   |         |   | 58,249 |   |
|    Other current assets                                     |   |        | 244,401    |   |         |   | 166,972 |   |
| Total current assets                                                       |   |        | 743,086    |   |         |   | 1,336,535 |   |
|                                                                       |   |        |       |   |         |   |   |   |
| Property and equipment:                                                    |   |        |       |   |         |   |   |   |
|    Equipment                                                |   |        | 597,145    |   |         |   | 573,188 |   |
|    Pipelines                                                |   |        | 701,806    |   |         |   | 701,806 |   |
|    Buildings                                                |   |        | 19,916     |   |         |   | 19,916 |   |
|    Leasehold improvements                                   |   |        | 7,022      |   |         |   | 7,022 |   |
|    Vehicles                                                 |   |        | 50,663     |   |         |   | 50,663 |   |
|    Office furniture                                         |   |        | 134,407    |   |         |   | 134,407 |   |
|    Website                                                  |   |        | 15,000     |   |         |   | 15,000 |   |
| Total property and equipment                                               |   |        | 1,525,959  |   |         |   | 1,502,002 |   |
| Less accumulated depreciation                                              |   |        | (441,649   | )      |         |   | (368,878 | ) |
| Property and equipment, net                                                |   |        | 1,084,310  |   |         |   | 1,133,124 |   |
|                                                                       |   |        |       |   |         |   |   |   |
| Oil and gas properties:                                                    |   |        |       |   |         |   |   |   |
|    Oil and gas properties, proved                           |   |        | 11,928,135 |   |         |   | 11,905,413 |   |
|    Oil and gas properties, unproved                         |   |        | 9,065,855  |   |         |   | 8,714,577 |   |
|    Capitalized asset retirement obligations                 |   |        | 220,237    |   |         |   | 220,237 |   |
| Total oil and gas properties                                               |   |        | 21,214,227 |   |         |   | 20,840,227 |   |
| Less accumulated depreciation and depletion                                |   |        | (855,424   | )      |         |   | (806,303 | ) |
| Oil and gas properties, net                                                |   |        | 20,358,803 |   |         |   | 20,033,924 |   |
|                                                                       |   |        |       |   |         |   |   |   |
| Total assets                                                               |   | $           | 22,186,199 |   |         | $      | 22,503,583 |   |

----

|                                                |   | June 30,    |    |   | December 31, |   |
|-----------------------------------------------------|--------|-------------|---------|--------|--------------|--------|
|                                                |   | 2009        |    |   | 2008         |   |
|                                                |   | (Unaudited) |    |   |         |   |
| Liabilities and Stockholders' Equity                |   |        |    |   |         |   |
| Current liabilities:                                |   |        |    |   |         |   |
|    Accounts payable                  |   | $           | 127,404 |   |         | $      | 202,710 |   |
|    Accounts payable, related parties |   |        | 768,612 |   |         |   | 684,996 |   |
|    Revenues payable                  |   |        | 171,719 |   |         |   | 194,560 |   |
|    Interest payable, related parties |   |        | 600,013 |   |         |   | 385,160 |   |
|    Liquidated damages payable        |   |        | 131,831 |   |         |   | 121,579 |   |
|    Other payables                    |   |        | 45,604  |   |         |   | 54,061 |   |

|    Current portion of notes payable                         |   |   | 6,628      |   |   |   | 6,575      |   |
|----------------------------------------------------------------------------|--------|--------|------------|--------|--------|--------|------------|--------|
|    Current portion of notes payable, related parties        |   |   | 5,777,303  |   |   |   | -          |   |
| Total current liabilities                                                  |   |   | 7,629,114  |   |   |   | 1,649,641  |   |
|                                                                       |   |   |       |   |   |   |       |   |
| Notes payable                                                              |   |   | 8,089      |   |   |   | 11,387     |   |
| Notes payable, related parties                                             |   |   | -          |   |   |   | 4,857,303  |   |
| Asset retirement obligations                                               |   |   | 291,810    |   |   |   | 283,307    |   |
| Total liabilities                                                          |   |   | 7,929,013  |   |   |   | 6,801,638  |   |
|                                                                       |   |   |       |   |   |   |       |   |
| Commitments and contingencies (Note 5)                                     |   |   |       |   |   |   |       |   |
|                                                                       |   |   |       |   |   |   |       |   |
| Stockholders' equity:                                                      |   |   |       |   |   |   |       |   |
| Common stock; $0.001 par value; 75,000,000 shares authorized;              |   |   |       |   |   |
| 33,610,801 shares issued and outstanding                                   |   |   |       |   |   |
|       at June 30, 2009 and December 31, 2008 |   |   | 33,611     |   |   |   | 33,611     |   |
|    Additional paid-in capital                               |   |   | 19,673,102 |   |   |   | 19,673,102 |   |
|    Accumulated deficit                                      |   |   | (5,449,527 | )      |   |   | (4,004,768 | )      |
| Total stockholders' equity                                                 |   |   | 14,257,186 |   |   |   | 15,701,945 |   |
|                                                                       |   |   |       |   |   |   |       |   |
| Total liabilities and stockholders' equity                                 |   | $      | 22,186,199 |   |   | $      | 22,503,583 |   |

----

|                                         |   |  Three Months Ended June 30, |       |   |  Six Months Ended June 30, |   |
|----------------------------------------------|--------|-----------------------------------|------------|--------|---------------------------------|--------|
|                                         |   | 2009                              |       |   | 2008                            |   |   | 2009 |   |   | 2008 |   |
| Revenues:                                    |   |                              |       |   |                            |   |   |   |   |   |   |   |
|   Oil and gas                      |   | $                                 | 131,449    |   |                            | $      | 317,554 |   |   | $ | 246,256 |   |   | $ | 547,902 |   |
|   Condensate and skim oil          |   |                              | 19,556     |   |                            |   | 68,857 |   |   |   | 40,823 |   |   |   | 100,066 |   |
|   Transportation and gathering     |   |                              | 61,828     |   |                            |   | 267,973 |   |   |   | 136,660 |   |   |   | 439,386 |   |
|   Saltwater disposal income        |   |                              | 25,086     |   |                            |   | 42,003 |   |   |   | 96,575 |   |   |   | 90,003 |   |
| Total revenues                               |   |                              | 237,919    |   |                            |   | 696,387 |   |   |   | 520,314 |   |   |   | 1,177,357 |   |
|                                         |   |                              |       |   |                            |   |   |   |   |   |   |   |   |   |   |   |
| Operating expenses:                          |   |                              |       |   |                            |   |   |   |   |   |   |   |   |   |   |   |
|   Lease operating expenses         |   |                              | 129,814    |   |                            |   | 43,822 |   |   |   | 206,554 |   |   |   | 69,116 |   |
|   Saltwater disposal expenses      |   |                              | 68,541     |   |                            |   | 52,541 |   |   |   | 140,273 |   |   |   | 100,586 |   |
|   Pipeline operating expenses      |   |                              | 20,974     |   |                            |   | 52,319 |   |   |   | 46,288 |   |   |   | 100,246 |   |
|   Cost of gas purchased for resale |   |                              | 35,902     |   |                            |   | 231,460 |   |   |   | 86,227 |   |   |   | 380,344 |   |
|   Depletion and depreciation       |   |                              | 60,827     |   |                            |   | 65,940 |   |   |   | 121,892 |   |   |   | 125,969 |   |
|   General and administrative       |   |                              | 457,208    |   |                            |   | 686,613 |   |   |   | 1,140,289 |   |   |   | 1,306,711 |   |
| Total operating expenses                     |   |                              | 773,266    |   |                            |   | 1,132,515 |   |   |   | 1,741,523 |   |   |   | 2,082,972 |   |
| Loss from operations                         |   |                              | (535,347   | )      |                            |   | (436,128 | ) |   |   | (1,221,209 | ) |   |   | (905,615 | ) |
|                                         |   |                              |       |   |                            |   |   |   |   |   |   |   |   |   |   |   |
| Other income (expenses):                     |   |                              |       |   |                            |   |   |   |   |   |   |   |   |   |   |   |
|   Interest income                  |   |                              | 412        |   |                            |   | 16,306 |   |   |   | 1,827 |   |   |   | 63,865 |   |
|   Interest expense                 |   |                              | (112,589   | )      |                            |   | (97,599 | ) |   |   | (215,420 | ) |   |   | (194,998 | ) |
|   Liquidated damages               |   |                              | (5,126     | )      |                            |   | - |   |   |   | (10,252 | ) |   |   | (150,756 | ) |
|   Other income                     |   |                              | 59         |   |                            |   | (296 | ) |   |   | 665 |   |   |   | 8,883 |   |
| Total other expenses                         |   |                              | (117,244   | )      |                            |   | (81,589 | ) |   |   | (223,180 | ) |   |   | (273,006 | ) |
|                                         |   |                              |       |   |                            |   |   |   |   |   |   |   |   |   |   |   |
| Loss before income tax expense               |   |                              | (652,591   | )      |                            |   | (517,717 | ) |   |   | (1,444,389 | ) |   |   | (1,178,621 | ) |
|                                         |   |                              |       |   |                            |   |   |   |   |   |   |   |   |   |   |   |
| Income tax expense                           |   |                              | -          |   |                            |   | (17,392 | ) |   |   | (370 | ) |   |   | (62,752 | ) |
|                                         |   |                              |       |   |                            |   |   |   |   |   |   |   |   |   |   |   |
| Net loss                                     |   | $                                 | (652,591   | )      |                            | $      | (535,109 | ) |   | $ | (1,444,759 | ) |   | $ | (1,241,373 | ) |
|                                         |   |                              |       |   |                            |   |   |   |   |   |   |   |   |   |   |   |
| Basis and diluted loss per share             |   | $                                 | (0.02      | )      |                            | $      | (0.02 | ) |   | $ | (0.04 | ) |   | $ | (0.04 | ) |
|                                         |   |                              |       |   |                            |   |   |   |   |   |   |   |   |   |   |   |
| Weighted average shares outstanding          |   |                              | 33,610,801 |   |                            |   | 29,375,801 |   |   |   | 33,610,801 |   |   |   | 29,374,738 |   |

----

|                                                                                                                   |   |  Six Months Ended June 30, |       |
|------------------------------------------------------------------------------------------------------------------------|--------|---------------------------------|------------|
|                                                                                                                   |   | 2009                            |       |   | 2008 |   |
| Operating Activities                                                                                                   |   |                            |       |   |   |   |
|  Net loss                                                                                                         |   | $                               | (1,444,759 | ) |   | $ | (1,241,373 | ) |
| Adjustments to reconcile net loss to net cash used in operating activities:                                            |   |                            |       |   |   |   |   |   |
|   Depletion and depreciation                                                                                 |   |                            | 121,892    |   |   |   | 125,969 |   |
|   Accretion of discount on asset retirement obligations                                                      |   |                            | 8,503      |   |   |   | 8,018 |   |
|   Deferred income taxes                                                                                      |   |                            | -          |   |   |   | 52,111 |   |
|   Liquidated damages                                                                                         |   |                            | 10,252     |   |   |   | 150,756 |   |
|   Changes in operating assets and liabilities:                                                               |   |                            |       |   |   |   |   |   |
|     Accounts receivable, trade                                                                     |   |                            | 124,498    |   |   |   | (121,031 | ) |
|     Accounts receivable, related parties                                                           |   |                            | 26,999     |   |   |   | (153,438 | ) |
|     Joint-interest billings receivable, related parties, net                                       |   |                            | 34,279     |   |   |   | (240,747 | ) |
|     Other current assets                                                                           |   |                            | (77,429    | ) |   |   | 217,394 |   |
|     Accounts payable                                                                               |   |                            | (75,306    | ) |   |   | (202,605 | ) |
|     Accounts payable, related parties                                                              |   |                            | 103,616    |   |   |   | (6,308 | ) |
|     Revenues payable                                                                               |   |                            | (22,841    | ) |   |   | 132,354 |   |
|     Interest payable, related parties                                                              |   |                            | 214,853    |   |   |   | (82,660 | ) |
|     Other payables                                                                                 |   |                            | (8,457     | ) |   |   | 177,344 |   |
|     Joint-interest deposits, related parties                                                       |   |                            | -          |   |   |   | (849,619 | ) |
| Net cash used in operating activities                                                                                  |   |                            | (983,900   | ) |   |   | (2,033,835 | ) |
|                                                                                                                   |   |                            |       |   |   |   |   |   |
| Investing Activities                                                                                                   |   |                            |       |   |   |   |   |   |
| Purchases of property and equipment                                                                                    |   |                            | (23,957    | ) |   |   | (478,822 | ) |
| Purchases of oil and gas properties                                                                                    |   |                            | (374,000   | ) |   |   | (3,178,489 | ) |
| Net cash used in investing activities                                                                                  |   |                            | (397,957   | ) |   |   | (3,657,311 | ) |
|                                                                                                                   |   |                            |       |   |   |   |   |   |
| Financing Activities                                                                                                   |   |                            |       |   |   |   |   |   |
| Payments on notes payable                                                                                              |   |                            | (3,245     | ) |   |   | (2,820 | ) |
| Proceeds from borrowing on notes payable, related party                                                                |   |                            | 900,000    |   |   |   | - |   |
| Payments on notes, related party                                                                                       |   |                            | -          |   |   |   | (742,544 | ) |
| Payments for cancelled shares of common stock1                                                                         |   |                            | -          |   |   |   | (6,610 | ) |
| Net cash provided by (used in) financing activities                                                                    |   |                            | 896,755    |   |   |   | (751,974 | ) |
|                                                                                                                   |   |                            |       |   |   |   |   |   |
| Net decrease in cash and cash equivalents                                                                              |   |                            | (485,102   | ) |   |   | (6,443,120 | ) |
| Cash and cash equivalents at beginning of period                                                                       |   |                            | 792,255    |   |   |   | 8,935,283 |   |
|                                                                                                                   |   |                            |       |   |   |   |   |   |
| Cash and cash equivalents at end of period                                                                             |   | $                               | 307,153    |   |   | $ | 2,492,163 |   |
|                                                                                                                   |   |                            |       |   |   |   |   |   |
| Supplemental Disclosure of Cash Flow Information                                                                       |   |                            |       |   |   |   |   |   |
| Cash paid during the period for interest                                                                               |   | $                               | 567        |   |   | $ | 277,658 |   |
|                                                                                                                   |   |                            |       |   |   |   |   |   |
| 1 2,681 net shares of common stock were cancelled by investors during the three months  ended June 30, 2008. |   |                            |       |   |   |   |   |   |

----

----

|                                                                                                                                                                                                                                                                    |   | June 30,2009 |       |   | December 31, 2008 |   |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------------|------------|--------|-------------------|--------|
| Original note payable dated May 21, 2007 to Teton, Ltd. (“Teton”).  Additional funds added by the                                                                                                                                                 |   |         |       |   |              |   |   |   |
| the third and fourth amendments to the note result in an outstanding balance of $5,777,303 including interest at 8%, with interest payment due on September 21, 2009 for periodfrom date of note, remaining interest and principal due on maturity date ofMay 21, 2010. |   | $            | 5,777,303  |   |              | $      | 4,857,303 |   |
|                                                                                                                                                                                                                                                                    |   |         |       |   |              |   |   |   |
| Total notes payable, related parties                                                                                                                                                                                                                                    |   |         | 5,777,303  |   |              |   | 4,857,303 |   |
| Less current portion                                                                                                                                                                                                                                                    |   |         | (5,777,303 | )      |              |   | - |   |
| Total long-term notes payable, related parties                                                                                                                                                                                                                          |   | $            | -          |   |              | $      | 4,857,303 |   |
|                                                                                                                                                                                                                                                                    |   |         |       |   |              |   |   |   |

----

|                                                       |   | Three Months EndedJune 30, 2009 |     |   | Three Months EndedJune 30, 2008 |   |     | Six Months EndedJune 30,2009 |   |   | Six Months EndedJune 30,2008 |   |
|------------------------------------------------------------|--------|---------------------------------|----------|--------|---------------------------------|--------|----------|------------------------------|--------|--------|------------------------------|--------|
|                                                       |   |                            |     |   |                            |   |     |                         |   |   |                         |   |
| Business segment revenue:                                  |   |                            |     |   |                            |   |     |                         |   |   |                         |   |
|      Oil and gas                  |   | $                               | 131,449  |   |                            | $      | 317,554  |                         |   | $      | 246,256                      |   |   | $ | 547,902 |   |
|  Condensate and skim oil                              |   |                            | 19,556   |   |                            |   | 68,857   |                         |   |   | 40,823                       |   |   |   | 100,066 |   |
|  Transportation and gathering                         |   |                            | 61,828   |   |                            |   | 267,973  |                         |   |   | 136,660                      |   |   |   | 439,386 |   |
|  Saltwater disposal income                            |   |                            | 25,086   |   |                            |   | 42,003   |                         |   |   | 96,575                       |   |   |   | 90,003 |   |
| Total revenues                                             |   | $                               | 237,919  |   |                            | $      | 696,387  |                         |   | $      | 520,314                      |   |   |   | 1,177,357 |   |
|                                                       |   |                            |     |   |                            |   |     |                         |   |   |                         |   |   |   |   |   |
| Business segment profit (loss):                            |   |                            |     |   |                            |   |     |                         |   |   |                         |   |   |   |   |   |
|      Oil and gas                  |   | $                               | (83,590  | )      |                            | $      | 24,406   |                         |   | $      | (280,886                     | )      |   | $ | 87,800 |   |
|      Condensate and skim oil      |   |                            | 19,556   |   |                            |   | 98,367   |                         |   |   | 40,823                       |   |   |   | 142,951 |   |
|      Transportation and gathering |   |                            | (7,049   | )      |                            |   | (49,768  | )                            |   |   | (24,319                      | )      |   |   | (78,597 | ) |
|      Saltwater disposal           |   |                            | (68,301  | )      |                            |   | (43,936  | )                            |   |   | (95,653                      | )      |   |   | (75,189 | ) |
|      General corporate            |   |                            | (395,963 | )      |                            |   | (465,197 | )                            |   |   | (861,174                     | )      |   |   | (982,580 | ) |
| Loss from operations                                       |   | $                               | (535,347 | )      |                            | $      | (436,128 | )                            |   | $      | (1,221,209                   | )      |   | $ | (905,615 | ) |
|                                                       |   |                            |     |   |                            |   |     |                         |   |   |                         |   |   |   |   |   |
| Depreciation and depletion:                                |   |                            |     |   |                            |   |     |                         |   |   |                         |   |   |   |   |   |
|      Oil and gas                  |   | $                               | 27,235   |   |                            | $      | 25,770   |                         |   | $      | 54,987                       |   |   | $ | 53,068 |   |
|      Transportation and gathering |   |                            | 7,599    |   |                            |   | 12,520   |                         |   |   | 15,198                       |   |   |   | 17,903 |   |
|      Saltwater disposal           |   |                            | 16,865   |   |                            |   | 20,251   |                         |   |   | 33,469                       |   |   |   | 40,501 |   |
|      General corporate            |   |                            | 9,128    |   |                            |   | 7,399    |                         |   |   | 18,238                       |   |   |   | 14,497 |   |
| Total depreciation and depletion                           |   | $                               | 60,827   |   |                            | $      | 65,940   |                         |   | $      | 121,892                      |   |   | $ | 125,969 |   |

|                                                       |   | Six Months EndedJune 30, 2009 |       |   | Six Months EndedJune 30, 2008 |   |
|------------------------------------------------------------|--------|-------------------------------|------------|--------|-------------------------------|--------|
| Capital expenditures:                                      |   |                          |       |   |                          |   |
|      Oil and gas                  |   | $                             | 374,000    |   |                          | $      | 3,178,489 |   |
|      Transportation and gathering |   |                          | -          |   |                          |   | 384,126 |   |
|      Saltwater disposal           |   |                          | 23,197     |   |                          |   | 6,550 |   |
|      General corporate            |   |                          | 760        |   |                          |   | 88,146 |   |
| Total capital expenditures                                 |   | $                             | 397,957    |   |                          | $      | 3,657,311 |   |
|                                                       |   |                          |       |   |                          |   |   |   |
|                                                       |   |                          |       |   |                          |   |   |   |
|                                                       |   | June 30, 2009                 |       |   | December 31, 2008             |   |
| Business segment assets:                                   |   |                          |       |   |                          |   |   |   |
|      Oil and gas                  |   | $                             | 20,796,987 |   |                          | $      | 20,921,001 |   |
|      Transportation and gathering |   |                          | 656,755    |   |                          |   | 773,767 |   |
|      Saltwater disposal           |   |                          | 309,844    |   |                          |   | 344,113 |   |
|      General corporate            |   |                          | 422,613    |   |                          |   | 464,702 |   |
| Total assets                                               |   | $                             | 22,186,199 |   |                          | $      | 22,503,583 |   |
|                                                       |   |                          |       |   |                          |   |   |   |

----

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| ·  | Develop the Cornerstone Project in East Texas through an aggressive drilling program.  We will focus our near-term efforts on development drilling on existing acreage.  We expect this drilling program to increase our proved reserve and cash flow profile.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
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| ·  | Apply management expertise in the Cornerstone Project area and recent developments in drilling and completion technology to identify new drilling opportunities and enhance production.  We plan to maximize the present value of our vertical wells by utilizing a shotgun dualor sawtooth production technique.  We will also implement the latest drilling, fracturing, and completion techniques, including shotgun duals, to develop our properties as well as horizontal drilling.  These horizontal wells will primarily target the Bossier formation and we anticipate these wells will yield significantly higher hydrocarbon flow rates than our vertical wells.                                                                |
| ·  | Continue to lease underdeveloped acreage in the Cornerstone Project area.  We plan to use our extensive proprietary database to help optimize additional drilling locations and to acquire additional acreage.  We intend to target acreage with exploitation and technologyupside within the Cornerstone Project area.  Most properties in the project area are held by smaller independent companies that lack the resources to exploit them fully.  We intend to pursue these opportunities to selectively expand our portfolio of properties.  These acreage additions will complement our existing substantial acreage position in the area and provide us with significant additional drilling inventory.  |
| ·  | Maintain a conservative and flexible financial strategy.  We intend to continue to focus on maintaining a low level of corporate overhead expense in addition to continued utilization of outsourcing, when appropriate, to maximize cash flow.  We believe this internally-generatedcash flow, coupled with reserve-based debt financing when appropriate, will provide the optimal capital structure to fund our future drilling activity.                                                                                                                                                                                                                                                                                                             |

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Summarized Results of Operations 

|                           |   | 2009   |     |   | 2008   |   |      | Increase (Decrease) |   |
|--------------------------------|--------|--------|----------|--------|--------|--------|-----------|---------------------|--------|
| Total revenues                 |   | $      | 237,919  |   |   | $      | 696,387   |                |   | $ | (458,468 | ) |
| Total operating expenses       |   |   | 773,266  |   |   |   | 1,132,515 |                |   |   | (356,249 | ) |
| Loss from operations           |   |   | (535,347 | )      |   |   | (436,128  | )                   |   |   | 99,219 |   |
| Total other expenses           |   |   | (117,244 | )      |   |   | (81,589   | )                   |   |   | 35,655 |   |
| Loss before income tax expense |   |   | (652,591 | )      |   |   | (517,717  | )                   |   |   | 134,874 |   |
| Income tax expense             |   |   | -        |   |   |   | (17,392   | )                   |   |   | (17,392 | ) |
| Net loss                       |   | $      | (652,591 | )      |   | $      | (535,109  | )                   |   | $ | 117,482 |   |

| ·   | Lease Operating Expense:  The $85,992 increase in lease operating expense to $129,814 for the three months ended June 30, 2009 from $43,822 for the three months ended June 30, 2008 is due to workover costs on the Bramlett and Ralph #1 wells and the operating costs of the Childers #2 andHarris #2 wells, which were not operating during the second quarter of 2008. |
|--------------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| ·   | General and Administrative Expense:  The $229,405 decrease in general and administrative expense to $457,208 for the three months ended June 30, 2009 from $686,613 for the three months ended June 30, 2008 is primarily due to decreased audit and accounting fees.  The large partof the audit and accounting fees decrease is due to work performed during 2008 related to the 2007 10-K and S-1 registration statement preparation. |
|--------------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| ·   | Cost of Gas Purchased for Resale:  The $195,558 decrease in cost of gas purchased for resale to $35,902 for the three months ended June 30, 2009 from $231,460 for the three months ended June 30, 2008 is due to a drop in the purchase price for natural gas purchased from operators. |
|--------------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

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|                           |   | 2009   |       |   | 2008   |   |       | Increase (Decrease) |   |
|--------------------------------|--------|--------|------------|--------|--------|--------|------------|---------------------|--------|
| Total revenues                 |   | $      | 520,314    |   |   | $      | 1,177,357  |                |   | $ | (657,043 | ) |
| Total operating expenses       |   |   | 1,741,523  |   |   |   | 2,082,972  |                |   |   | (341,449 | ) |
| Loss from operations           |   |   | (1,221,209 | )      |   |   | (905,615   | )                   |   |   | 315,594 |   |
| Total other expenses           |   |   | (223,180   | )      |   |   | (273,006   | )                   |   |   | (49,826 | ) |
| Loss before income tax expense |   |   | (1,444,389 | )      |   |   | (1,178,621 | )                   |   |   | 265,768 |   |
| Income tax expense             |   |   | (370       | )      |   |   | (62,752    | )                   |   |   | (62,382 | ) |
| Net loss                       |   | $      | (1,444,759 | )      |   | $      | (1,241,373 | )                   |   | $ | 203 386 |   |

| ·   | Lease Operating Expense:  The $137,438 increase in lease operating expense to $206,554 for the six months ended June 30, 2009 from $69,116 for the six months ended June 30, 2008 is primarily due to workover costs on the Bramlett and Ralph #1 wells and the operating costs of the Childers#2 and Harris #2 wells, which were not operating during the first six months of 2008. |
|--------------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| ·   | General and Administrative Expense:  The $166,422 decrease in general and administrative expense to $1,140,289 for the six months ended June 30, 2009 from $1,306,711 for the six months ended June 30, 2008 is primarily due to decreased audit and accounting fees.  The large partof the audit and accounting fees decrease is due to work performed during the second quarter of 2008 related to the 2007 10-K and S-1 registration statement preparation.  The second quarter decrease is partially offset by a first quarter increase in accounting fees for 2009 as compared to the same period in 2008.  The large part of the first quarter accounting fee increase is due to work performed during 2009 related to the 2008 10-K preparation and documentation of internal controls in relationto management’s evaluation of disclosure controls and procedures and internal controls over financial reporting as required by Sarbanes-Oxley. |
|--------------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| ·   | Cost of Gas Purchased for Resale:  The $294,117 decrease in cost of gas purchased for resale to $86,227 for the six months ended June 30, 2009 from $380,344 for the six months ended June 30, 2008 is due to a drop in the purchase price for natural gas purchased from operators. |
|--------------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

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|                                  |   | Six Months Ended June 30, |     |
|---------------------------------------|--------|---------------------------|----------|
|                                  |   | 2009                      |     |   | 2008 |   |
| Total cash provided by (used in):     |   |                      |     |   |   |   |
| Operating activities                  |   | $                         | (983,900 | ) |   | $ | (2,033,835 | ) |
| Investing activities                  |   |                      | (397,957 | ) |   |   | (3,657,311 | ) |
| Financing activities                  |   |                      | 896,755  |   |   |   | (751,974 | ) |
| Decrease in cash and cash equivalents |   | $                         | (485,102 | ) |   | $ | (6,443,120 | ) |

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| a)   | We did not maintain sufficient personnel with an appropriate level of technical accounting knowledge, experience, and training in the application of GAAP commensurate with our complexity and our financial accounting and reporting requirements.  We have limited experience in the areas of financial reporting and disclosure controls and procedures.  Also,we do not have an independent audit committee.  As a result, there is a lack of monitoring of the financial reporting process and there is a reasonable possibility that material misstatements of the consolidated financial statements, including disclosures, will not be prevented or detected on a timely basis; and |
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| b)   | Due to our small size, we do not have a proper segregation of duties in certain areas of our financial reporting process.  The areas where we have a lack of segregation of duties include cash receipts and disbursements, approval of purchases and approval of accounts payable invoices for payment.  This control deficiency, which is pervasivein nature, results in a reasonable possibility that material misstatements of the financial statements will not be prevented or detected on a timely basis. |
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From time to time, we may become involved in various lawsuits and legal proceedings which arise in the ordinary course of business.  However, litigation is subject to inherent uncertainties, and an adverse result in these or other matters may arise from time to time that may harm our business.  Weare currently not aware of any such legal proceedings or claims that we believe will have, individually or in the aggregate, a material adverse affect on our business, consolidated financial condition or operating results. 

| 10.01 | Third Amendment to Renewal Promissory Note and Loan Modification Agreement, dated as of May [  ], 2009, by and among Pegasi Energy Resources Corporation, Pegasi Energy Resources Corporation, Pegasi Operating Inc., TR Rodessa, Inc. 59 Disposal, Inc., and Teton, Ltd. |
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| 10.02 | Fourth Amendment to Renewal Promissory Note and Loan Modification Agreement, dated as of May [  ], 2009, by and among Pegasi Energy Resources Corporation, Pegasi Energy Resources Corporation, Pegasi Operating Inc., TR Rodessa, Inc. 59 Disposal, Inc., and Teton, Ltd. |
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| 31.01 | Certification of Chief Executive Officer pursuant to Exchange Act Rules 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
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| 31.02 | Certification of Chief Financial Officer pursuant to Exchange Act Rules 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
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| 32.01 | Certifications of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
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|                             | PEGASI ENERGY RESOURCES CORPORATION                                               |
|----------------------------------|----------------------------------------------------------------------------------------|
| Date:  August 13, 2009 | By: /s/ MICHAEL NEUFELD                                                           |
|                             | Michael Neufeld                                                                        |
|                             | Chief Executive Officer (Principal Executive Officer)                                  |
|                             |                                                                                   |
| Date:  August 13, 2009 | By: /s/ RICHARD LINDERMANIS                                                       |
|                             | Richard Lindermanis                                                                    |
|                             | Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer) |