Document:

Exhibit 10.9

 

EMPLOYMENT AGREEMENT

 

THIS
EMPLOYMENT AGREEMENT
(this “Agreement”) is made and entered into by and between Cano Petroleum Inc., a Delaware corporation with its
principal executive offices in Fort Worth, Texas (the “Company”), and James K. Teringo, Jr., an
individual currently residing in Dallas County, Texas (“Vice President”), as of
the 11th day of July, 2005 (the “Effective Date”).  Company and Vice President may sometimes be
referred to herein individually as “Party” and collectively as “Parties.”

 

Background

 

A.                                   The Company desires to employ Vice President
in such a manner as will reinforce and encourage the highest attention and
dedication to the Company and in the best interest of the Company and its
shareholders; and

 

B.                                     Vice President is willing to serve the
Company on the terms and conditions herein provided.

 

Terms and Conditions

 

In consideration of the
covenants and agreements herein contained and other good and valuable
consideration, the receipt and sufficiency of which are hereby acknowledged,
the Parties hereto agree as follows:

 

1.                                       Employment.  The Company hereby employs Vice President in the capacity of
Vice President and General Counsel, and Vice President hereby agrees to accept
such employment by the Company, upon the terms and conditions stated in this
Agreement.

 

2.                                       Term.  The employment of Vice President by the Company as provided in
this Section will be for a term of two (2) years (the ‘“Term” or “Employment Period”)
commencing on the Effective Date and expiring at the close of business on July,
11, 2007.

 

3.                                       Duties.  Vice President shall perform such services and duties as may be
assigned to him from time to time by the Board of Directors (the “Board”) and
the Chief Executive Officer of the Company. 
Vice President shall devote his full working time, efforts and energies
to the performance of his duties hereunder, which shall include managing the
legal affairs of the Company.

 

4.                                       Compensation.

 

(a)                                  Salary:  The Company shall pay Vice
President for his services, a base salary, on an annualized basis, of
$120,000.00 (One Hundred Twenty Thousand Dollars) per annum for the period from
the Effective Date, which salary shall be payable by the Company in
substantially equal installments on the Company’s normal payroll dates. 
All 

 

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applicable
taxes on the base salary will be withheld in accordance with applicable
federal, state and local taxation guidelines.

 

(b)                                 Bonus:  In addition to the base salary
described in paragraph 4(a) above, Vice President may be eligible for
periodic cash or stock bonuses at the sole discretion of the Board.

 

(c)                                  Stock Options:  In addition to the base salary
described in paragraph 4(a) above, Vice President shall receive options to
purchase 50,000 shares at a strike price equal to the lesser of the closing
price on September 16, 2005 or the ten (10) day average of the stock
price preceding July 11, 2005.  The
terms and conditions of the option shall be contained in a stock option
agreement to be executed by the Company and the Vice President.

 

(d)                                 Raises:  Vice President may receive
increases in the base salary at the discretion of the Board of Directors of the
Company, which increased base salary shall become the base salary for purposes
of this Agreement.

 

5.                                       Vacations and Days Off.  Vice President shall be entitled to a
reasonable paid vacation of not less than twenty (20) days each calendar year
during the Term (prorated for the first calendar year), exclusive of holidays
and weekends, which vacation shall be taken by Vice President in accordance
with the business requirements of the Company at the time and its vacation
plans, policies and practices as applied to other officers of the Company then
in effect relative to this subject.  Vice President shall also be entitled
to up to five (5) paid days off each calendar year for paternity leave and
up to three (3) paid days off to attend the funeral of any member of Vice
President’s immediate family.

 

6.                                       Employment Facilities.  During the Employment Period, the
Company shall provide, at its expense, appropriate and adequate office space,
furniture, communications, stenographic and word-processing equipment, supplies
and such other facilities and services as shall be suitable to Vice President’s
position or necessary for the Vice President to perform his assigned tasks,
duties and responsibilities under this Agreement.

 

7.                                       Expenses and Services.  During the term of Vice President’s
employment hereunder, Vice President shall be entitled to receive prompt
reimbursement for all pre-approved, reasonable expenses incurred by Vice
President by reason of his employment, including travel and living expenses
while away from home at the request of and in the service of the Company,
provided that such expenses are incurred and accounted for in accordance with
the policies and procedures established by the Company and in effect when the
expenses are incurred.

 

8.                                       Rights under Certain Plans.  During the term of Vice President’s
employment hereunder, Vice President shall be entitled to participate in
employee stock ownership plans, 401K plans, health and dental insurance and
other employee benefit plans and programs maintained by the Company applicable
to other officers on the same basis as other officers of the Company.

 

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9.                                       Confidential Information.  Vice President and Company agree
that, upon executing this Agreement, Company will provide Vice President with
its confidential information, including, without limitation, customer information,
trade secrets, lists of suppliers and costs, information concerning the
business and operations of the Company and its Affiliates and other proprietary
data or information, that is valuable, special and a unique asset of the
Company and its Affiliates.  Vice President agrees not to disclose such
confidential information, except as may be necessary in the performance of his
duties, to any Person, nor use such confidential information, except as may be
necessary in the performance of his duties, either (i) while
employed;  (ii) within the later of
three years immediately following his termination of employment or the three
years immediately following expiration of this Agreement without renewal or
replacement unless Vice President has received the prior written consent of the
Company.  Upon termination of Vice President’s employment for any reason
or upon a request, at any time, by the Company’s CEO, Vice President shall
promptly deliver to Company all drawings, manuals, letters, notebooks, customer
lists, documents, records, equipment, files, computer disks or tapes, reports
or any other materials relating to Company’s business (and all copies) which
are in Vice President’s possession or under Vice President’s control.

 

10.                                 Early Termination. Vice President’s employment hereunder may
be terminated without any breach of this Agreement only under the following
circumstances:

 

(a)                                  Vice President’s employment hereunder will
terminate upon his death;

 

(b)                                 If, as a result of Vice President’s
incapacity due to physical or mental illness, Vice President shall have been
absent from his duties or unable to perform his full duties hereunder for a
total of 90 days during any 12 month period (“Disability Period”), and within
15 days after written notice of termination is given (which may occur before or
after the end of such 90 day period), shall not have returned to the
performance of his full duties hereunder on a full-time basis, the Company may
terminate the Vice President’s employment hereunder.

 

(c)                                  The Company may terminate Vice President’s
employment hereunder for Cause.  For purposes of this Agreement, the
Company shall have “Cause” to terminate the Vice President’s employment
hereunder upon (i) the willful and continued failure by Vice President to
substantially perform his duties hereunder (other than any such failure
resulting from Vice President’s incapacity due to physical or mental illness); (ii) the
willful engaging by Vice President in misconduct which is injurious or
disparaging to the Company; or (iii) the conviction of Vice President of
any felony or crime of moral turpitude.  For purposes of this subsection (c),
no act, or failure to act, on Vice President’s part shall be considered “willful”
unless done, or omitted to be done, by him not in good faith and without
reasonable belief that his action or omission was in the best interest of the
Company.

 

(d)                                 Any termination of Vice President’s
employment by the Company or by Vice President (other than termination pursuant
to subsection (a) above) shall be 

 

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communicated
by written Notice of Termination to the other Party hereto.  For purposes
of this Agreement, a “Notice of Termination” shall mean a notice which shall
indicate the specific termination provision in this Agreement relied upon and
shall set forth in reasonable detail the facts and circumstances claimed to
provide a basis for termination of Vice President’s employment under the
provision so indicated.

 

(e)                                  “Date of Termination” shall mean (i) if
Vice President’s employment is terminated by his death, the date of his death; (ii) if
Vice President’s employment is terminated pursuant to subsection (b) above,
15 days after Notice of Termination is given (provided that Vice President
shall not have returned to the performance of his duties on a full-time basis
during such 15 days period); (iii) if Vice President’s employment is
terminated at the expiration of the Term or any extension thereof, the last day
of the Term or, if applicable, the last day of any extension; and (iv) if
Vice President’s employment is terminated for any other reason, the date the
Notice of Termination is given.

 

11.                                 Compensation upon Termination or During
Disability.  Upon
termination of Vice President’s employment hereunder or during any period of
Vice President’s physical or mental disability, Vice President shall be paid as
follows:

 

(a)                                  The Vice President shall continue to receive
his annual base salary at the rate then in effect during any Disability Period
provided, however, that such payments shall not continue beyond the earlier of (i) the
end of the Term, or (ii) the Date of Termination of this Agreement by
Company pursuant to Section 10(e)(ii), provided that payments so made to
the Vice President shall be reduced by the sum of the amounts, if any, payable
to Vice President under any disability benefit plans of the Company and which
were not previously applied to reduce any such payment.  In addition the
Company shall reimburse Vice President for any theretofore unreimbursed
expenses which were incurred prior to the commencement of the Disability
Period.

 

(b)                                 If Vice President’s employment is terminated
by his death, the Company shall pay to Vice President’s designated
beneficiaries, or if he leaves no designated beneficiaries, to his estate, his
annual base salary through the date of Vice President’s death at the rate then
in effect and any theretofore unreimbursed expenses and the Company shall have
no further obligations to Vice President under this Agreement.

 

(c)                                  If Vice President’s employment shall be
terminated for Cause, the Company shall pay Vice President his annual base
salary (but not the compensation described in Sections 4(b)) through the
Date of Termination at the rate in effect at the time Notice of Termination is
given and the Company shall have no further obligations to Vice President under
this Agreement.

 

(d)                                 If the Company shall (i) terminate Vice
President’s employment other than pursuant to Section 10(b) or 10(c) hereof;
(ii) assign to the Vice President any duties materially inconsistent with
Vice President’s position in the Company; or (iii) assign to the Vice
President a title, office or status which is inconsistent than that established

 

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herein
(unless in the nature of a promotion) then, in addition to reimbursement of
Vice President for any theretofore unreimbursed expenses,the Company shall pay
Vice President, with no offset, an amount equal to the greater of (a) Vice
President’s annual base salary at the rate in effect at the time Notice of
Termination is given, for the unexpired term of this Agreement and payment for
any accrued, but unused vacation days hereunder; or (b) six (6) months
of Vice President’s annual base salary at the rate in effect at the time Notice
of Termination is given and payment for any accrued, but untaken vacation days
hereunder.  Such payments to be made in a
single lump sum within ten (10) days of the termination of this Agreement.

 

During
the term of this Agreement Vice President shall give the Company immediate
notice of any change of address.

 

If
Vice President shall terminate his employment pursuant to Section 10(d),
the Company shall pay Vice President, in addition to reimbursement of any
theretofore unreimbursed expenses, his full salary through the Date of
Termination at the rate in effect on the date that Notice of Termination is
received by the Company, plus payment for any accrued, but untaken vacation
days hereunder and Company shall have no further obligation to Vice President
under this Agreement.

 

12.                                 Change
in Control Severance Benefit.  If
within twelve (12) months after the occurrence of a Change in Control (as
defined below) (i) the Company terminates the Vice President’s employment
for any reason; or (ii) the Vice President resigns at any time after any
diminution in the Vice President’s job title, duties or compensation or the
relocation of the Vice President, without the Vice President’s consent, to an
office in a county that does not abut Tarrant County, Texas, the Company shall
pay to the Vice President, in a lump sum, three times the Vice President’s
annual salary in effect as of the date of the Vice President’s termination or
resignation.

 

A “Change in Control” shall mean:

 

(a) any consolidation, merger or share
exchange of the Company in which the Company is not the continuing or surviving
corporation or pursuant to which shares of the Company’s common stock would be
converted into cash, securities or other property, other than a consolidation,
merger or share exchange of the Company in which the holders of the Company’s
common stock immediately prior to such transaction have the same proportionate
ownership of common stock of the surviving corporation immediately after such
transaction; (b) any sale, lease, exchange or other transfer (excluding
transfer by way of pledge or hypothecation) in one transaction or a series of
related transactions, of all or substantially all of the assets of the Company;
(c) the stockholders of the Company approve any plan or proposal for the
liquidation or dissolution of the Company; (d) the cessation of control
(by virtue of their not constituting a majority of directors) of the Board by
the individuals (the “Continuing
Directors”) who (x) at the Effective Date were directors or
(y) become directors after the Effective Date and whose election or
nomination for election by the Company’s stockholders was approved by a vote of
at least two-thirds of the directors then in office who were directors at the
Effective Date or whose election or nomination for election was previously so
approved; (e) the acquisition of beneficial ownership (within the meaning
of Rule 13d-3 under the Securities Exchange Act of 1934) of an aggregate
of 50% or more of 

 

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the voting power of the Company’s outstanding voting securities by any
person or group (as such term is used in Rule 13d-5 under the Securities
Exchange Act of 1934) who beneficially owned less than 50% of the voting power of the Company’s outstanding voting
securities on the Effective Date of this Plan; provided, however,
that notwithstanding the foregoing, an acquisition shall not constitute a
Change in Control hereunder if the acquirer is (x) a trustee or other fiduciary
holding securities under an employee benefit plan of the Company and acting in
such capacity, (y) a subsidiary of the Company or a corporation owned, directly
or indirectly, by the stockholders of the Company in substantially the same
proportions as their ownership of voting securities of the Company or
(z) any other person whose acquisition of shares of voting securities is
approved in advance by a majority of the Continuing Directors; or (f) in a
Title 11 bankruptcy proceeding, the appointment of a trustee or the conversion
of a case involving the Company to a case under Chapter 7.

 

13.                                 Defined Terms.  For purposes of this Agreement, the
terms set forth in this Agreement shall have the following meanings:

 

(a)                                  “Affiliate”
shall mean any individual, corporation, unincorporated organization, trust or
other form of entity controlling, controlled by or under common control with
the Company.  For purposes of this definition, “control” (including “controlled
by” and “under common control with”) means the possession, directly or
indirectly, of the power to direct or cause the direction of the management and
policies of such individual, corporation, unincorporated organization, trust or
other form of entity, whether through the ownership of voting securities or
otherwise.

 

(b)                                 “Person” shall mean an individual, a corporation, a partnership, an
association, a joint-stock company, a trust, an incorporated organization or a
government or political subdivision thereof.

 

14.                                 Waiver. No waiver of any provision of this Agreement shall be deemed, or
shall constitute, a waiver of any other provision, whether or not similar, nor
shall any waiver constitute a waiver of any continuing or succeeding breach of
such provision, a waiver of the provision itself, or a waiver of any right
under this Agreement.  No waiver shall be binding unless executed in
writing by the Party making the waiver.

 

15.                                 Limitation of Rights.  Nothing in this Agreement, except as
specifically stated herein, is intended to confer any rights or remedies under
or by reason of this Agreement on any persons other than the Parties and their
respective permitted successors and assigns and other legal representatives,
nor is anything in this Agreement intended to relieve or discharge the
obligation or liability of any third persons to any Party to this Agreement,
nor shall any provision give any third persons any right of subrogation or
action over against any Party to this Agreement.

 

16.                                 Notices.  All notices given in connection with this Agreement shall be in
writing and shall be delivered either by personal delivery, by telecopy or
similar facsimile means, by certified or registered mail (postage prepaid and
return receipt requested), or by express courier or delivery service, addressed
to the applicable Party hereto at the following address:

 

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If to the Company:

 

Cano Petroleum, Inc.

309 West Seventh Street

Suite 1600

Fort Worth, Texas 76102

Attention: S. Jeffery Johnson

Telecopy No.: 817-698-0761:

 

If to Vice President:

 

James K. Teringo, Jr.

3304 Marquette

University Park, Texas 75225

Telephone:  214-890-0727

 

or such other address and number as either Party
shall have previously designated by written notice given to the other Party in
the manner hereinabove set forth.  Notices shall be deemed given when
received, if sent by telecopy or similar facsimile means (confirmation of such
receipt by confirmed facsimile transmission being deemed receipt of
communications sent by telecopy or other facsimile means); and when delivered
and receipted for (or upon the date of attempted delivery where delivery is
refused), if hand-delivered, sent by express courier or delivery service, or
sent by certified or registered mail.

 

17.                                 Inconsistent Obligations. Vice President represents and warrants that
he is not subject to any undisclosed obligations inconsistent with those of
this Agreement.

 

18.                                 Entirety and Amendments. This instrument and the instruments
referred to herein embody the entire agreement between the Parties, supersede
all prior agreements and understandings, if any, relating to the subject matter
hereof, and may be amended only by an instrument in writing executed by all
Parties, and supplemented only by documents delivered or to be delivered in
accordance with the express terms hereof.

 

19.                                 Successors and Assigns.  This Agreement will be binding upon
and inure to the benefit of the Parties hereto and any successors in interest
to the Company, but neither this Agreement nor any rights hereunder may be
assigned by Vice President or by Company, except that Company may assign this
Agreement to an Affiliate.

 

20.                                 Governing Law And Venue.  This Agreement shall be governed by
and construed and enforced in accordance with the laws of the State of Texas
applicable to agreements made and to be performed entirely in Texas, exclusive
of any provisions of Texas law which would apply the law of another
jurisdiction.  The obligations and undertakings of each of the Parties to
this Agreement shall be performable in Tarrant County, Texas, and each Party
agrees that if any 

 

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action at law or in equity
is necessary by the Company or Vice President to enforce or interpret the terms
of this Agreement, venue shall be in Tarrant County, Texas.

 

21.                                 Cumulative Remedies.  No remedy herein conferred upon any
Party is intended to be exclusive of any other benefits or remedy, and each and
every such remedy shall be cumulative and shall be in addition to every other
benefits or remedy given hereunder or now or hereafter existing at law or in
equity or by statute or otherwise.  No single or partial exercise by any
Party of any right, power or remedy hereunder shall preclude any other or
further exercise thereof.

 

22.                                 Multiple Counterparts. This Agreement may be executed and
delivered by facsimile and in a number of identical counterparts, each of which
constitute collectively, one agreement; but in making proof of this Agreement,
it shall not be necessary to produce or account for more than one counterpart.  This Agreement may be executed and delivered
via facsimile.

 

23.                                 Descriptive Headings.  The headings, captions and
arrangements used in this Agreement are for convenience only and shall not be
deemed to limit, amplify or modify the terms of this Agreement, nor affect the
meanings hereof.

 

24.                                 Severability. 
The parties intend all provisions of this Agreement to be enforced to
the fullest extent permitted by law. 
Accordingly, if any provision of this Agreement is held illegal, invalid,
or unenforceable under present or future law, such provision shall be fully
severable, this Agreement shall be construed and enforced as if such illegal,
invalid, or unenforceable provision were never a part hereof, and the remaining
provisions of this Agreement shall remain in full force and effect and shall
not be affected by the illegal, invalid, or unenforceable provision or by its
severance.

 

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Signatures

 

To evidence the binding
effect of the covenants and agreements described above, the Parties hereto have
executed this Agreement effective as of the Effective Date.

 

 

	
   

  	
  THE COMPANY:

  	
   

  
	
   

  	
   

  	
   

  
	
   

  	
  CANO PETROLEUM, INC.

  	
   

  
	
   

  	
   

  	
   

  
	
   

  	
  By:

  	
  /s/ S. Jeffrey Johnson

  	
   

  
	
   

  	
   

  	
  S. Jeffrey Johnson

  	
   

  
	
   

  	
   

  	
  CEO and Chairman

  	
   

  
	
   

  	
   

  	
   

  
	
   

  	
   

  	
   

  
	
   

  	
  VICE PRESIDENT:

  	
   

  
	
   

  	
   

  	
   

  
	
   

  	
   

  	
  /s/ James K. Teringo, Jr.

  	
   

  
	
   

  	
   

  	
  James K. Teringo, Jr.

  	
   

  

 

9Exhibit
10.10

 

CANO
PETROLEUM INC.

NONQUALIFIED
STOCK OPTION AGREEMENT

 

1.                                      Grant of
Option.  Cano Petroleum Inc., a
Delaware corporation (the “Company”),
hereby grants to James K. Teringo, Jr. (“Individual”)
an option to purchase shares of common stock, par value $0.0001 per share, of
the Company (“Common Stock”), subject to
the terms and conditions of this Cano Petroleum Inc. Nonqualified Stock Option
Agreement (this “Agreement”), as follows:

 

On the date hereof, the
Company grants to Individual an option (the “Option”)
to purchase fifty thousand (50,000) full shares (the “Optioned
Shares”) of Common Stock at an option price equal to $3.98 per
share (the “Option Price”), which equals
or exceeds the Fair Market Value of a share of the Company’s Common Stock on
the Date of Grant.  The date of grant of
this Option is September 16, 2005, 2005 (“Date
of Grant”).

 

The “Option
Period” shall commence on the Date of Grant and shall expire on
the date immediately preceding the tenth (10th) anniversary of the
Date of Grant.  The Option is a
nonqualified stock option.  This Option
is intended to comply with the provisions governing nonqualified stock options
under Internal Revenue Service Notice 2005-1 in order to exempt this Option
from application of Section 409A of the Code.

 

2.                                      Definitions.  Capitalized terms used herein shall have
the meanings assigned to such terms in this Section 2. 

 

a.                                       “Board” means the Board of Directors
of the Company.

 

b.                                      “Change in Control”
means any of the following, except as otherwise provided herein:  (i) any consolidation, merger or share
exchange of the Company in which the Company is not the continuing or surviving
corporation or pursuant to which shares of the Company’s Common Stock would be
converted into cash, securities or other property, other than a consolidation,
merger or share exchange of the Company in which the holders of the Company’s
Common Stock immediately prior to such transaction have the same proportionate
ownership of Common Stock of the surviving corporation immediately after such
transaction; (ii) any sale, lease, exchange or other transfer (excluding
transfer by way of pledge or hypothecation) in one transaction or a series of
related transactions, of all or substantially all of the assets of the Company;
(iii) the stockholders of the Company approve any plan or proposal for the
liquidation or dissolution of the Company; (iv) the cessation of control
(by virtue of their not constituting a majority of directors) of the Board by
the individuals (the “Continuing
Directors”) who (x) at the date of this Agreement were
directors or (y) become directors after the date of this Agreement and
whose election or nomination for election by the Company’s stockholders was
approved by a vote of at least two-thirds of the directors then in office who
were directors at the date of this Agreement or whose election or nomination
for election was previously so approved; (v) the acquisition of beneficial
ownership (within the meaning of Rule 13d-3 under the 1934 Act) of an
aggregate of 50% or more of the
voting power of the Company’s outstanding voting securities by any person or
group (as such term is used in Rule 13d-5 under the 1934 Act) who
beneficially owned less than 50%
of the voting power of the Company’s outstanding voting securities on the date
of this Agreement; provided, however, that notwithstanding the
foregoing, an acquisition shall not constitute a Change in Control hereunder if
the acquirer is (x) a trustee or other fiduciary holding securities under an
employee benefit plan of the Company and acting in such capacity, (y) a
Subsidiary of the Company or a corporation owned, directly or indirectly, by
the stockholders of the Company in substantially the same proportions as their
ownership of voting 

 

 

securities of the Company
or (z) any other person whose acquisition of shares of voting securities
is approved in advance by a majority of the Continuing Directors; or (vi) in
a Title 11 bankruptcy proceeding, the appointment of a trustee or the
conversion of a case involving the Company to a case under Chapter 7.

 

Notwithstanding
the foregoing provisions of this Section 2.b., in the event this
Option is subject to Section 409A of the Code, then, in lieu of the
foregoing definition and to the extent necessary to comply with the requirements
of Section 409A of the Code, the definition of “Change in Control” for
purposes of this Option shall be the definition provided for under Section 409A
of the Code and the regulations or other guidance issued thereunder.

 

c.                                       “Code” means the Internal Revenue
Code of 1986, as amended.

 

d.                                      “Consultant” means any person, who is not an Employee,
performing advisory or consulting services for the Company, with or without
compensation, provided that bona fide services must be rendered by such person
and such services shall not be rendered in connection with the offer or sale of
securities in a capital raising transaction.

 

e.                                       “Employee” means common law employee
(as defined in accordance with the Regulations and Revenue Rulings then
applicable under Section 3401(c) of the Code) of the Company.

 

f.                                         “Exchange Act” means the Securities
Exchange Act of 1934, as amended.

 

g.                                      “Fair Market Value”  means, with respect to the Optioned Shares,
such fair market value as shall be determined in good faith by the Board, giving
due consideration to such factors as it deems appropriate, including, without
limitation, the earnings and certain other financial and operating information
of the Company in recent periods, the potential value of the Company as a
whole, the future prospects of the Company and the industries in which it
competes, the history and management of the Company, the general condition of
the securities markets, and the estimated fair market value of securities of
companies engaged in businesses similar to those of the Company.  The determination of Fair Market Value will
not give effect to any restrictions on transfer of the Optioned Shares or the
fact that such Optioned Shares would represent a minority interest in the
Company.

 

h.                                      “Retirement” means any
Termination of Service solely due to retirement upon or after attainment of age
sixty-two and a half (62 1⁄2), or permitted early retirement as determined by the
Board.

 

i.                                          “Subsidiary” means a “subsidiary
corporation” whether now or hereafter existing, as defined in Section 424(f) of
the Code.

 

j.                                          “Termination of Service” occurs when
Individual ceases to be employed by the Company, for any reason (or, if
Individual is a Consultant of the Company, ceases to serve as a Consultant of
the Company for any reason).  Except as
may be necessary or desirable to comply with applicable federal or state law, a
“Termination of Service” shall not be deemed to have occurred when an
Individual who is an employee becomes a Consultant or vice versa.  Notwithstanding the foregoing provisions of
this Section 2.j., in the event this Agreement is subject to Section 409A
of the Code, then, in lieu of the foregoing definition and to the extent
necessary to comply with the requirements of Section 409A of the Code, the
definition of “Termination of Service” for purposes of this Agreement 

 

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shall be the definition
of “separation from service” provided for under Section 409A of the Code
and the regulations or other guidance issued thereunder.

 

k.                                       “Total and Permanent Disability”
means Individual is qualified for long-term disability benefits under the
Company’s (or any of the Company’s subsidiaries’) disability plan or insurance
policy; or, if no such plan or policy is then in existence or if Individual is
not eligible to participate in such plan or policy, that Individual, because of
a physical or mental condition resulting from bodily injury, disease, or mental
disorder is unable to perform his duties of employment for a period of six (6) continuous
months, as determined in good faith by the Board, based upon medical reports or
other evidence satisfactory to the Board. 
Notwithstanding the foregoing provisions of this Section 2.k.,
in the event this Option is subject to Section 409A of the Code, then, in
lieu of the foregoing definition and to the extent necessary to comply with the
requirements of Section 409A of the Code, the definition of “Total and
Permanent Disability” for purposes of this Option shall be the definition of “disability”
provided for under Section 409A of the Code and the regulations or other
guidance issued thereunder.

 

3.                                      Vesting;
Time of Exercise.   Except as otherwise specifically provided in
this Agreement, 100% of the Optioned Shares shall vest and become exercisable
on July 11, 2006, provided Individual is employed by the Company on that
date.

 

In the event that a
Change of Control occurs, then immediately prior to the effective date of such
Change of Control the total Optioned Shares not previously vested shall thereupon
immediately become fully vested and this Option shall become fully exercisable,
if not previously so exercisable.  In the
event that (i) a Change of Control occurs, (ii) this Agreement is
assumed by the surviving corporation or its parent, and (iii) the
surviving corporation or its parent substitutes its own option (the “Substituted Option”)
for this Option, then upon the effective date of such substitution of this
Option, all shares or other interests subject to such Substituted Option shall
be (or remain, as the case may be) fully vested and fully exercisable.

 

4.                                      Term;
Forfeiture.

 

a.                                       Except
as otherwise provided in this Agreement, to the extent the unexercised portion
of this Option relates to Optioned Shares that are not vested on the date of
Individual’s Termination of Service, this Option will be terminated on that
date.  The unexercised portion of this
Option that relates to Optioned Shares that are vested will terminate at the
first of the following to occur:

 

i.                                          5 p.m.
on the date the Option Period terminates;

 

ii.                                       5 p.m.
on the date which is twelve (12) months following the date of Individual’s
Termination of Service due to death, Total and Permanent Disability, or
Retirement;

 

iii.                                    5 p.m.
on the date of Individual’s Termination of Service by the Company for cause (as
defined herein);

 

iv.                                   5 p.m.
on the date which is ninety (90) days following the date of Individual’s
Termination of Service for any reason not otherwise specified in this Section 4.a.;

 

v.                                      5 p.m.
on the date the Company causes any portion of the Option to be forfeited
pursuant to Section 7 hereof.

 

3

 

b.                                      Solely
for purposes of this Section 4, “Cause”
shall mean (i) Individual’s gross negligence in the performance or
intentional nonperformance of any of his duties and responsibilities (which
remains uncured and continues for thirty (30) days after delivery of written
notice); (ii) Individual’s dishonesty or fraud with respect to the
business, reputation or affairs of the Company; (iii) Individual’s
conviction of a felony or crime involving moral turpitude; (iv) Individual’s
debilitating drug or alcohol abuse as determined by a qualified physician; (v) Individual’s
material breach of any provisions of an employment, consulting or service
agreement between the Company and Individual; or (vi) Individual’s
material violation of any written Company policy (which remains uncured or
continues thirty (30) days after delivery of written notice).

 

5.                                      Who May Exercise.  Subject to the terms and conditions set
forth in Sections 3 and 4 above, during the lifetime of Individual, this
Option may be exercised only by Individual, or by Individual’s guardian or
personal or legal representative.  If
Individual’s Termination of Service is due to his death prior to the date
specified in Section 4.a.i. hereof, or Individual dies prior to the
termination dates specified in Sections 4.a.i., ii., iii., iv. or v.
hereof, and Individual has not exercised the Option as to the maximum number of
vested Optioned Shares as set forth in Section 3 hereof as of the
date of death, the following persons may exercise the exercisable portion of
the Option on behalf of Individual at any time prior to the earliest of the
dates specified in Section 4 hereof:  the personal representative of his estate, or
the person who acquired the right to exercise the Option by bequest or
inheritance or by reason of the death of Individual; provided that the Option
shall remain subject to the other terms of this Agreement and applicable laws,
rules, and regulations.  Notwithstanding
the foregoing sentence, if Individual’s Termination of Service is due to his
death prior to the date specified in Section 4.a.i. hereof, or
Individual dies prior to the termination dates specified in Sections 4.a.i.,
ii., iii., iv. or v. hereof, and Individual has not exercised the Option as
to the maximum number of vested Optioned Shares as set forth in Section 3
hereof as of the date of death, Individual, by delivering to the Company the
prescribed form (see Appendix A), may designate one or more beneficiaries and
successor beneficiaries who may exercise the exercisable portion of the Option
on behalf of Individual at any time prior to the earliest of the dates
specified in Section 4 hereof; provided that the Option shall
remain subject to the other terms of this Agreement and applicable laws, rules,
and regulations.  In the event Individual
does not deliver to the Company a form designating one or more beneficiaries,
or no designated beneficiary survives Individual, the foregoing sentence shall
not apply.

 

6.                                      No Fractional
Shares.  The Option may be
exercised only with respect to full shares, and no fractional share of stock
shall be issued.

 

7.                                      Manner of Exercise.   Subject to such administrative
regulations as the Board may from time to time adopt, this Option may be
exercised by the delivery of written notice to the Company setting forth the
number of shares of Common Stock with respect to which this Option is to be
exercised, the date of exercise thereof (the “Exercise
Date”), which shall be at least three (3) days after giving
such notice unless an earlier time shall have been mutually agreed upon.  On the Exercise Date, Individual shall
deliver to the Company consideration with a value equal to the total Option
Price of the shares to be purchased, payable as follows:  (a) cash, check, bank draft, or money
order payable to the order of the Company, (b) Common Stock owned by
Individual on the Exercise Date, valued at its Fair Market Value on the
Exercise Date, and which Individual has not acquired from the Company within
six (6) months prior to the Exercise Date, (c) by delivery (including
by FAX) to the Company or its designated agent of an executed irrevocable
option exercise form together with irrevocable instructions from Individual to
a broker or dealer, reasonably acceptable to the Company, to sell certain of
the shares of Common Stock purchased upon exercise of this Option or to pledge
such shares to the broker as collateral for a loan from the broker and promptly
deliver to the Company the amount of sale or loan 

 

4

 

proceeds necessary to pay
such purchase price, and/or (d) in any other form of valid consideration
that is acceptable to the Board in its sole discretion.

 

Upon payment of all
amounts due from Individual, the Company shall cause certificates for the
Optioned Shares then being purchased to be delivered to Individual (or the
person exercising Individual’s Option in the event of his death) at its
principal business office within ten (10) business days after the Exercise
Date. The obligation of the Company to deliver shares of Common Stock shall,
however, be subject to the condition that if at any time the Company shall
determine in its discretion that the listing, registration, or qualification of
this Option or the Optioned Shares upon any securities exchange or under any
state or federal law, or the consent or approval of any governmental regulatory
body, is necessary as a condition of, or in connection with, this Option or the
issuance or purchase of shares of Common Stock thereunder, then this Option may
not be exercised in whole or in part unless such listing, registration,
qualification, consent, or approval shall have been effected or obtained free
of any conditions not reasonably acceptable to the Board.

 

If Individual fails to
pay for any of the Optioned Shares specified in such notice or fails to accept
delivery thereof, then this Option, and right to purchase such Optioned Shares
may be forfeited at the election, and in the sole discretion, of the Company.

 

8.                                      Nonassignability.
Neither this Option nor the rights under this Agreement may be transferred,
assigned, pledged, hypothecated or otherwise conveyed or encumbered by
Individual, except by will, by the laws of descent and distribution, or by
designation of a beneficiary in the event of Individual’s death, in accordance
with Section 5 hereof.

 

9.                                      Rights as
Stockholder.  Individual will
have no rights as a stockholder with respect to any shares covered by this
Option until the issuance of a certificate or certificates to Individual for
the Optioned Shares.  The Optioned Shares
shall be subject to the terms and conditions of this Agreement.  Individual, by his execution of this
Agreement, agrees to execute any documents requested by the Company in
connection with the issuance of a certificate or certificates for the Optioned
Shares.  Except as otherwise provided in Section 10
hereof, no adjustment shall be made for dividends or other rights for which the
record date is prior to the issuance of such certificate or certificates.

 

10.                               Adjustment of Number
of Optioned Shares and Related Matters. 
The number of shares of Common Stock covered by this Option, and the
Option Price thereof, shall be subject to adjustment as follows:

 

a.                                       Capital
Adjustments.  In the event that the
Board shall determine that any dividend or other distribution (whether in the
form of cash, common stock, other securities, or other property),
recapitalization, stock split, reverse stock split, rights offering,
reorganization, merger, consolidation, split-up, spin-off, split-off,
combination, subdivision, repurchase, or exchange of the Company’s common stock
or other securities of the Company, issuance of warrants or other rights to
purchase the Company’s common stock or other securities of the Company, or
other similar corporate transaction or event affects the Common Stock such that
an adjustment is determined by the Board to be appropriate to prevent the
dilution or enlargement of the benefits or potential benefits intended to be
made available under this Agreement, then the Board shall, in such manner as it
may deem equitable, adjust (i) the number of shares and type of Common
Stock (or other securities or property) subject to this Option and (ii) the
Option Price, to the end that the same proportion of the Company’s issued and
outstanding shares of Common Stock in each instance shall remain subject to
exercise at the same aggregate
Option Price; provided, however, that the number of shares of Common Stock (or
other securities or property) subject to this Option shall always be a whole
number. In lieu of the foregoing, 

 

5

 

if deemed appropriate,
the Board may make provision for a cash payment to the holder of an outstanding
Option.  Such adjustments shall be made
in accordance with the rules of any securities exchange, stock market, or
stock quotation system to which the Company is subject.  Upon the occurrence of any such adjustment or
cash payment, the Company shall provide notice to each affected Individual of
its computation of such adjustment or cash payment which shall be conclusive
and shall be binding upon each such Individual.

 

b.                                      Recapitalization,
Merger, and Consolidation.

 

(i)                                     No Effect on Company’s Authority. 
The existence of this Agreement shall not affect in any way the right or
power of the Company or its stockholders to make or authorize any or all
adjustments, recapitalizations, reorganizations, or other changes in the Company’s
capital structure and its business, or any merger or consolidation of the
Company, or any issuance of bonds, debentures, preferred or preference stocks
ranking prior to or otherwise affecting the Common Stock or the rights thereof
(or any rights, options, or warrants to purchase same), or the dissolution or
liquidation of the Company, or any sale or transfer of all or any part of its
assets or business, or any other corporate act or proceeding, whether of a
similar character or otherwise.

 

(ii)                                  Conversion of Option Where Company Survives. 
Subject to any required action by the stockholders and except as
otherwise provided by Section 10.b.(iv)  hereof or as may be
required to comply with Section 409A of the Code and the regulations or
other guidance issued thereunder, if the Company shall be the surviving or
resulting corporation in any merger, consolidation or share exchange, this
Option shall pertain to and apply to the securities or rights (including cash,
property, or assets) to which a holder of the number of shares of Common Stock
subject to this Option would have been entitled.

 

(iii)                               Exchange or Cancellation of Option Where
Company Does Not Survive.  Except as otherwise provided by Section 10.b.(iv) hereof
or as may be required to comply with Section 409A of the Code and the
regulations or other guidance issued thereunder, in the event of any merger,
consolidation or share exchange pursuant to which the Company is not the
surviving or resulting corporation, there shall be substituted for each share of
Common Stock subject to the unexercised portions of outstanding Optioned
Shares, that number of shares of each class of stock or other securities or
that amount of cash, property, or assets of the surviving, resulting or
consolidated company which were distributed or distributable to the
stockholders of the Company in respect to each share of Common Stock held by
them, such outstanding Optioned Shares to be thereafter exercisable for such
stock, securities, cash, or property in accordance with their terms.

 

(iv)                              Cancellation of
Options. 
Notwithstanding the provisions of Sections 10.b.(ii) and
10.b.(iii) hereof, and except as may be required to comply with Section 409A
of the Code and the regulations or other guidance issued thereunder, all
Optioned Shares granted hereunder may be canceled by the Board, in its sole
discretion, as of the effective date of any Change in Control, merger,
consolidation or share exchange, or any issuance of bonds, debentures,
preferred or preference stocks ranking prior to or otherwise affecting the
Common Stock or the rights thereof (or any rights, options, or warrants to
purchase same), or of any proposed sale of all or substantially all of the
assets of the Company, or of any dissolution or liquidation of the Company, by
either:

 

6

 

(1)                                  giving
notice to Individual (or his personal representative) of its intention to
cancel those Optioned Shares for which the issuance of shares of Common Stock
involved payment by Individual for such shares and, permitting the purchase
during the 30 day period next preceding such effective date of any or all of
the shares of Common Stock subject to this Option, including in the Board’s
discretion some or all of the shares as to which this Option would not
otherwise be vested and exercisable; or

 

(2)                                  paying
Individual an amount equal to a reasonable estimate of the difference between
the net amount per share payable in such transaction or as a result of such
transaction, and the Option Price per share of the Optioned Shares (hereinafter
the “Spread”), multiplied by the number
of Optioned Shares.  In estimating the
Spread, appropriate adjustments to give effect to the existence of all
outstanding stock options of the Company (the “Outstanding
Options”) shall be made, such as deeming the Outstanding Options
to have been exercised, with the Company receiving the exercise price payable
thereunder, and treating the shares receivable upon exercise of the Outstanding
Options as being outstanding in determining the net amount per share.  In cases where the proposed transaction
consists of the acquisition of assets of the Company, the net amount per share
shall be calculated on the basis of the net amount receivable with respect to
shares of Common Stock upon a distribution and liquidation by the Company after
giving effect to expenses and charges, including but not limited to taxes,
payable by the Company before such liquidation could be completed.

 

Any Optioned Shares that
by would be fully vested or exercisable upon a Change in Control will be
considered vested or exercisable for purposes of Section 10.b.(iv)(1) hereof.

 

c.                                       Liquidation
or Dissolution.  Subject to Section 10.b.(iv) hereof,
in case the Company shall, at any time while this Agreement shall be in force
and remain unexpired, (i) sell all or substantially all of its property,
or (ii) dissolve, liquidate, or wind up its affairs, then Individual shall
be entitled to receive, in lieu of each share of Common Stock which Individual
would have been entitled to receive under this Option, the same kind and amount
of any securities or assets as may be issuable, distributable, or payable upon
any such sale, dissolution, liquidation, or winding up with respect to each
share of Common Stock.  If the Company
shall, at any time prior to the expiration of the Option Period, make any
partial distribution of its assets, in the nature of a partial liquidation,
whether payable in cash or in kind (but excluding the distribution of a cash
dividend payable out of earned surplus and designated as such) then in such
event the Option Price shall be reduced, on the payment date of such
distribution, in proportion to the percentage reduction in the tangible book
value of the shares of Common Stock (determined in accordance with generally
accepted accounting principles) resulting by reason of such distribution.

 

d.                                      Fractional
Shares.  In the event that any event
or transaction described in this Section 10 would result in
Individual being entitled to a fractional share (whether or not the Company
permits the issuance of certificates for fractional shares), the number of
shares to which Individual would be entitled on exercise of this Option shall be rounded up to the
next whole number.

 

7

 

11.                               Nonqualified Option.  The Options shall not be treated as
incentive stock options under Section 422 of the Code.

 

12.                               Community Property.  Each
spouse individually is bound by, and such spouse’s interest, if any, in any
Optioned Shares is subject to, the terms of this Agreement.  Nothing in this Agreement shall create a
community property interest where none otherwise exists.

 

13.                               Dispute
Resolution.

 

a.                                       Arbitration.                                  All disputes and controversies of every kind
and nature between any parties hereto arising out of or in connection with this
Agreement or the transactions described herein as to the construction,
validity, interpretation or meaning, performance, non-performance, enforcement,
operation or breach, shall be submitted to binding arbitration pursuant to the
following procedures:

 

i.                                          After a dispute or controversy arises, any
party may, in a written notice delivered to the other parties to the dispute,
demand such arbitration.  Such notice
shall designate the name of the arbitrator (who shall be an impartial person)
appointed by such party demanding arbitration, together with a statement of the
matter in controversy.

 

ii.                                       Within 30 days after receipt of such demand,
the other parties shall, in a written notice delivered to the first party, name
such parties’ arbitrator (who shall be an impartial person).  If such parties fail to name an arbitrator,
then the second arbitrator shall be named by the American Arbitration
Association (the “AAA”).  The two arbitrators so selected shall name a
third arbitrator (who shall be an impartial person) within 30 days, or in lieu
of such agreement on a third arbitrator by the two arbitrators so appointed,
the third arbitrator shall be appointed by the AAA.  If any arbitrator appointed hereunder shall
die, resign, refuse or become unable to act before an arbitration decision is
rendered, then the vacancy shall be filled by the method set forth in this Section for
the original appointment of such arbitrator.

 

iii.                                    Each party shall bear its own arbitration
costs and expenses.  The arbitration
hearing shall be held in Tarrant County, Texas at a location designated by a
majority of the arbitrators.  The
Commercial Arbitration Rules of the American Arbitration Association shall
be incorporated by reference at such hearing and the substantive laws of the
State of Texas (excluding conflict of laws provisions) shall apply.  Discovery
shall not be permitted in the arbitration.

 

iv.                                   The arbitration hearing shall be concluded
within 10 days of its commencement unless otherwise ordered by the arbitrators
and the written award thereon shall be made within 15 days after the close of
submission of evidence.  An award
rendered by a majority of the arbitrators appointed pursuant to this Agreement shall
be final and binding on all parties to the proceeding, shall resolve the
question of costs of the arbitrators and all related matters, and judgment on
such award may be entered and enforced by either party in any court of
competent jurisdiction.

 

v.                                      Except as set forth in Section 13.b.,
the parties stipulate that the provisions of this Section shall be a
complete defense to any suit, action or proceeding instituted in any federal,
state or local court or before any administrative tribunal with respect to any
controversy or dispute arising out of this Agreement or the transactions
described herein.  The 

 

8

 

arbitration
provisions hereof shall, with respect to such controversy or dispute, survive
the termination or expiration of this Agreement.

 

No
party to an arbitration may disclose the existence or results of any
arbitration hereunder without the prior written consent of the other parties
except to accountants, attorneys, directors, officers, employees and agents as
necessary or as required by law; nor will any party to an arbitration disclose
to any third party any confidential information disclosed by any other party to
an arbitration in the course of an arbitration hereunder without the prior
written consent of such other party.

 

b.                                      Emergency Relief. 
Notwithstanding anything in this Section 13 to the contrary,
any party may seek from a court any provisional remedy that may be necessary to
protect any rights or property of such party pending the establishment of the
arbitral tribunal or its determination of the merits of the controversy or to
enforce a party’s rights under Section 13.

 

14.                               Individual’s
Representations.  Notwithstanding
any of the provisions hereof, Individual hereby agrees that he will not
exercise this Option granted hereby, and that the Company will not be obligated
to issue any shares to Individual hereunder, if the exercise thereof or the
issuance of such shares shall constitute a violation by Individual or the
Company of any provision of any law or regulation of any governmental
authority.  Any determination in this
connection by the Company shall be final, binding, and conclusive.  The obligations of the Company and the rights
of Individual are subject to all applicable laws, rules, and regulations.

 

15.                               Investment Representation.  Unless the Common Stock is issued to him
in a transaction registered under applicable federal and state securities laws,
by his execution hereof, Individual represents and warrants to the Company that
all Common Stock which may be purchased hereunder will be acquired by
Individual for investment purposes for his own account and not with any intent
for resale or distribution in violation of federal or state securities
laws.  Unless the Common Stock is issued to
him in a transaction registered under the applicable federal and state
securities laws, all certificates issued with respect to the Common Stock shall
bear an appropriate restrictive investment legend and shall be held
indefinitely, unless they are subsequently registered under the applicable
federal and state securities laws or Individual obtains an opinion of counsel,
in form and substance satisfactory to the Company and its counsel, that such
registration is not required.

 

16.                               Individual’s
Acknowledgments.  Individual
hereby accepts this Option subject to all the terms and provisions hereof.  Individual hereby agrees to accept as
binding, conclusive, and final all decisions or interpretations of the Board or
the Board, as appropriate, upon any questions arising under this Agreement.

 

17.                               Law Governing.  This Agreement shall be governed by,
construed, and enforced in accordance with the laws of the State of Texas (excluding any conflict of laws rule or
principle of Texas law that
might refer the governance, construction, or interpretation of this agreement
to the laws of another state).

 

18.                               No Right to Continue
Service or Employment.  Nothing
herein shall be construed to confer upon Individual the right to continue in
the employ or to provide services to the Company, whether as an employee, or
interfere with or restrict in any way the right of the Company to discharge
Individual as an employee at any time.

 

19.                               Legal Construction.  In the event that any one or more of the
terms, provisions, or agreements that are contained in this Agreement shall be
held by any arbitrator to be invalid, illegal, or unenforceable in any respect
for any reason, the invalid, illegal, or unenforceable term, provision, or
agreement 

 

9

 

shall not affect any
other term, provision, or agreement that is contained in this Agreement and
this Agreement shall be construed in all respects as if the invalid, illegal,
or unenforceable term, provision, or agreement had never been contained herein.

 

20.                               Covenants and
Agreements as Independent Agreements. Each of the covenants and
agreements that is set forth in this Agreement shall be construed as a covenant
and agreement independent of any other provision of this Agreement.  The existence of any claim or cause of action
of Individual against the Company, whether predicated on this Agreement or
otherwise, shall not constitute a defense to the enforcement by the Company of
the covenants and agreements that are set forth in this Agreement.

 

21.                               Entire Agreement.  This Agreement supersedes any and all
other prior understandings and agreements, either oral or in writing, between
the parties with respect to the subject matter hereof and constitute the sole
and only agreements between the parties with respect to the said subject
matter.  All prior negotiations and
agreements between the parties with respect to the subject matter hereof are
merged into this Agreement.  Each party
to this Agreement acknowledges that no representations, inducements, promises,
or agreements, orally or otherwise, have been made by any party or by anyone
acting on behalf of any party, which are not embodied in this Agreement and
that any agreement, statement or promise that is not contained in this
Agreement shall not be valid or binding or of any force or effect.

 

22.                               Parties Bound.  The terms, provisions, and agreements
that are contained in this Agreement shall apply to, be binding upon, and inure
to the benefit of the parties and their respective heirs, executors,
administrators, legal representatives, and permitted successors and assigns,
subject to the limitation on assignment expressly set forth herein.

 

23.                               Modification.  No
change or modification of this Agreement shall be valid or binding upon the
parties unless the change or modification is in writing and signed by the
parties; provided, however, that the Company may change or modify this
Agreement without Individual’s consent or signature if the Company determines,
in its sole discretion, that such change or modification is necessary for
purposes of compliance with or exemption from the requirements of Section 409A
of the Code or any regulations or other guidance issued thereunder.

 

24.                               Headings.  The headings that are used in this
Agreement are used for reference and convenience purposes only and do not constitute
substantive matters to be considered in construing the terms and provisions of
this Agreement.

 

25.                               Gender and Number.  Words of any gender used in this
Agreement shall be held and construed to include any other gender, and words in
the singular number shall be held to include the plural, and vice versa, unless
the context requires otherwise.

 

26.                               Notice.  Any notice required or permitted to be
delivered hereunder shall be deemed to be delivered only when actually received
by the Company or by Individual, as the case may be, at the addresses set forth
below, or at such other addresses as they have theretofore specified by written
notice delivered in accordance herewith:

 

10

 

a.                                       Notice
to the Company shall be addressed and delivered as follows:

 

Cano
Petroleum Inc.

The
Oil & Gas Commerce Building

309
West 7th Street, Suite 190

Fort
Worth, Texas 76102

Attn.:
Corporate Secretary

 

b.                                      Notice
to Individual shall be addressed and delivered as set forth on the signature
page.

 

27.                               Tax Requirements.  The Company (for purposes of this Section 27,
the term “Company” shall be deemed to
include any applicable Subsidiary of the Company), shall have the right to
deduct from all amounts hereunder paid in cash or other form, any Federal,
state, or local taxes required by law to be withheld in connection with this
Option or the issuance of any Common Stock pursuant to this Agreement, but not
with respect to the grant of this Option. 
The Company may, in its sole discretion, also require Individual
receiving shares of Common Stock to pay the Company the amount of any taxes
that the Company is required to withhold in connection with Individual’s income
arising with respect to this Agreement. 
Such payments shall be required to be made when requested by Company and
may be required to be made prior to the delivery of any certificate
representing such shares of Common Stock. 
Such payment may be made (i) by the delivery of cash to the Company
in an amount that equals or exceeds (to avoid the issuance of fractional shares
under (iii) below) the required tax withholding obligation of the Company;
(ii) if the Company, in its sole discretion, so consents in writing, the
actual delivery by the exercising Individual to the Company of shares of Common
Stock that Individual has not acquired from the Company within six months prior
to the date of exercise, which shares so delivered have an aggregate Fair
Market Value that equals or exceeds (to avoid the issuance of fractional shares
under (iii) below) the required tax withholding payment; (iii) if the
Company, in its sole discretion, so consents in writing, the Company’s
withholding of a number of shares to be delivered upon the exercise of this
Option, which shares so withheld have an aggregate fair market value that
equals (but does not exceed) the required tax withholding payment; or (iv) any
combination of (i), (ii), or (iii).  The
Company may, in its sole discretion, withhold any such taxes from any other
cash remuneration otherwise paid by the Company to Individual.

 

[Signature page follows]

 

11

 

IN WITNESS WHEREOF, the
Company has caused this Agreement to be executed by its duly authorized
officer, and Individual, to evidence his consent and approval of all the terms
hereof, has duly executed this Agreement, as of the Date of Grant specified in Section 1
hereof.

 

	
   

  	
  COMPANY:

  	
   

  
	
   

  	
   

  	
   

  
	
   

  	
  CANO
  PETROLEUM, INC.

  	
   

  
	
   

  	
   

  	
   

  
	
   

  	
   

  	
   

  
	
   

  	
  By:

  	
  /s/ S. Jeffrey Johnson

  	
   

  
	
   

  	
  Name: S. Jeffrey
  Johnson

  	
   

  
	
   

  	
  Title: Chairman and CEO

  	
   

  
	
   

  	
   

  	
   

  
	
   

  	
   

  	
   

  
	
   

  	
  INDIVIDUAL:

  	
   

  
	
   

  	
   

  	
   

  
	
   

  	
  /s/ James
  K. Teringo, Jr.

  	
   

  
	
   

  	
  Signature

  	
   

  
	
   

  	
   

  	
   

  
	
   

  	
  Name:

  	
  James K.
  Teringo, Jr.

  	
   

  
	
   

  	
  Address:

  	
  3304 Marquette

  	
   

  
	
   

  	
   

  	
  University Park, TX
  75225

  	
   

  
					

 

12

 

APPENDIX
A

 

Beneficiary
Designation

 

To:                              Corporate
Secretary designated in the Cano Petroleum Inc. Nonqualified Stock Option
Agreement by and between Cano Petroleum Inc. and James K. Teringo, Jr.
(the “Agreement”)

 

From:                  James
K. Teringo, Jr.

 

Pursuant to Section 5
of the Agreement made as of September 16, 2005, I hereby designate the
following persons(s) as beneficiary(ies) who on my death who may exercise the
exercisable portion of the Option on my behalf pursuant to the Agreement:

 

Primary Beneficiary Name:  Frances Shivers Teringo

 

Secondary Beneficiary
Name:  Stephanie Teringo Smartt

 

In making the above
designation, I reserve the right to revoke this beneficiary designation or
change the beneficiary(ies) designated at any time or times and without the
consent of any beneficiary.

 

This beneficiary
designation cancels and supersedes any beneficiary designation I previously
made with respect to this Agreement.

 

	
  Signed:

  	
   

  
	
   

  	
   

  
	
   

  	
   

  
	
  Individual

  	
   

  
	
   

  	
   

  
	
   

  	
   

  
	
  Date

  	
   

  

 

13

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