______________________________________________________________________________________________________________________


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

                                   FORM 10-Q

                                   (Mark One)

         [X]  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
                        SECURITIES EXCHANGE ACT OF 1934

          For the quarterly period ended      September  30,December 31, 1995         

                                        or

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

                           For the transition period from     
                                          to               

                          Commission file number   1-8038  

                               KEY ENERGY GROUP, INC.
              (Exact name of registrant as specified in its charter)

                      Maryland                     04-2648081     
         (State or other jurisdiction of        (I.R.S. Employer 
          incorporation or organization)       Identification No.)

          255 Livingston Ave., New Brunswick, NJ         08901   
         (Address of principal executive offices)      (Zip Code)

   Registrant's telephone number, including area code:  (908) 247-4822 

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

         Indicate by check mark whether the registrant has filed
         documents and reports required to be filed by Section 12, 13 or
         15(d) of the Securities Exchange Act of 1934 subsequent to the
         distribution of securities under a plan confirmed by a court. 
         Yes   X    No      

         Common Shares outstanding at October 16, 1995: 6,913,510
        ________________________________________________________________January 19, 1996: 6,913,513


         ______________________________________________________________


                    KEY ENERGY GROUP, INC. AND SUBSIDIARIES

                                      INDEX

                                              										          
Page Number - ------------------------------------------------------------------------ PART I. FINANCIAL INFORMATION Item 1. Financial Statements 3 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 10Page Number PART I. FINANCIAL INFORMATION Item 1. Financial Statements 3 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 9 PART II. OTHER INFORMATION Item 1. Legal Proceedings. 16 Item 2. Changes in Securities. 16 Item 3. Defaults Upon Senior Securities. 16 Item 4. Submission of Matters to a Vote of Security Holders. 16 Item 6. Exhibits and Reports on Form 8-K. 16 Signatures. 17
- 2 - Key Energy Group,Inc. and Subsidiaries Consolidated Balance Sheets
(unaudited) September 30, June 30, (Thousands, except share and per share data) 1995 1995 - ------------------------------------------------------------------------- ASSETS Current Assets: Cash $ 661 $ 865 Restricted cash 237 410 Restricted marketable securities 267 267 Accounts receivable, net 8,631 8,133 Inventories 1,106 1,257 Prepaid expenses and other current assets 223 358 - ------------------------------------------------------------------------- Total Current Assets 11,125 11,290 - ------------------------------------------------------------------------- Property and equipment: Oilfield service equipment 24,622 23,726 Oil and gas well drilling equipment 2,154 2,014 Motor vehicles 516 526 Oil and gas properties and other related equipment, successful efforts method 8,741 7,652 Furniture and equipment 339 332 Buildings and land 2,086 2,086 - ------------------------------------------------------------------------ 38,458 36,336 Accumulated depreciation & depletion (5,217) (4,394) - ------------------------------------------------------------------------ Net property and equipment 33,241 31,942 - ------------------------------------------------------------------------ Other assets 2,020 2,011 - ------------------------------------------------------------------------ TOTAL ASSETS $46,386 $45,243 ======================================================================== LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities: Accounts payable $ 4,223 $ 3,930 Accrued interest 158 145 Other accrued liabilities 2,045 2,612 Accrued income taxes 174 174 Deferred tax liability 118 118 Current portion of long-term debt 1,745 2,249 - ------------------------------------------------------------------------ Total Current Liabilities 8,463 9,228 - ------------------------------------------------------------------------ Long-term debt, less current portion 14,539 13,700 Deferred income taxes 2,547 2,204 Commitments and contingencies Stockholders' Equity: Common stock, $.10 par value; 10,000,000 shares authorized, 6,913,510 shares issued and outstanding at September 30, 1995 and June 30, 1995, respectively 691 691 Additional paid-in capital 15,186 15,186 Retained earnings 4,960 4,234 - ------------------------------------------------------------------------- Total Stockholders' Equity 20,837 20,111 - ------------------------------------------------------------------------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $46,386 $45,243 =========================================================================
Consolidated Statements of Stockholders' Equity (unaudited) December 31, June 30, (Thousands, except share and per share data) 1995 1995 - ----------------------------------------------------------------------- ASSETS Current Assets: Cash $503 $865 Restricted cash 452 410 Restricted marketable securities 267 267 Accounts receivable, net 8,352 8,133 Prepaid expenses 225 358 Inventories 1,300 1,257 - ----------------------------------------------------------------------- Total Current Assets 11,099 11,290 - ----------------------------------------------------------------------- Property and Equipment: Oilfield service equipment 25,456 23,726 Oil and gas well drilling equipment 2,374 2,014 Motor vehicles 521 526 Oil and gas properties and other related equipment, successful efforts 9,809 7,652 Furniture and equipment 334 332 Buildings and land 2,086 2,086 - ----------------------------------------------------------------------- 40,580 36,336 Accumulated depreciation & depletion (6,188) (4,394) - ----------------------------------------------------------------------- Net Property and Equipment 34,392 31,942 - ----------------------------------------------------------------------- Other Assets 2,020 2,011 - ----------------------------------------------------------------------- Total Assets $47,511 $45,243 ======================================================================= LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities: Accounts payable $3,804 $3,930 Accrued interest 168 145 Other accrued liabilities 1,931 2,612 Accrued income taxes 124 174 Deferred tax liability 118 118 Current portion of long-term debt 1,590 2,249 - ----------------------------------------------------------------------- Total Current Liabilities 7,735 9,228 - ----------------------------------------------------------------------- Long-term debt, less current portion 15,237 13,700 Deferred income taxes 2,934 2,204 Commitments and contingencies Stockholders' equity: Common stock, $.10 par value; 10,000,000 shares authorized, 6,913,513 shares issued and outstanding at December 31, 1995 and June 30, 1995, respectively 691 691 Additional paid-in capital 15,186 15,186 Retained earnings 5,728 4,234 - ----------------------------------------------------------------------- Total Stockholders' Equity 21,605 20,111 - ----------------------------------------------------------------------- Total Liabilities and Stockholders' Equity $47,511 $45,243 ======================================================================= See the accompanying notes which are an integral part of these consolidated financial statements. - 3 - Key Energy Group, Inc. and Subsidiaries Consolidated Statements of Operations (unaudited)
Three Three Months Ended Months Ended (Thousands, except per share data) September 30, 1995 September 30, 1994 - ----------------------------------------------------------------------------- REVENUES: Oilfield services $ 9,767 $10,665 Oil and gas revenues 816 462 Oil and gas well drilling 1,602 - Other revenues, net 213 54 - ----------------------------------------------------------------------------- 12,398 11,181 - ----------------------------------------------------------------------------- COSTS AND EXPENSES: Oilfield services direct costs 7,264 8,418 Oil and gas direct costs 265 118 Oil and gas well drilling 1,347 - General and administrative expense 1,192 1,036 Interest expense 438 284 - ----------------------------------------------------------------------------- 11,329 10,417 - ----------------------------------------------------------------------------- Income before income taxes 1,069 764 Income tax expense 343 245 - ----------------------------------------------------------------------------- NET INCOME $ 726 $ 519 ============================================================================= EARNINGS PER SHARE: Income before income taxes $0.15 $0.13 Net income $0.11 $0.09 WEIGHTED AVERAGE SHARES OUTSTANDING: 6,914 6,091
Three Months Ended Six Months Ended December 31, December 31, (Thousands, except per share data) 1995 1994 1995 1994 - ----------------------------------------------------------------------------- REVENUES: Oilfield services $9,381 $10,258 $19,148 $20,923 Oil and gas revenues 911 615 1,727 1,077 Oil and gas well drilling 2,057 - 3,659 - Other revenues, net 45 (92) 258 (38) - ----------------------------------------------------------------------------- 12,394 10,781 24,792 21,962 - ----------------------------------------------------------------------------- COSTS AND EXPENSES: Oilfield services direct costs 6,889 7,932 14,153 16,350 Oil and gas direct costs 354 166 619 431 Oil and gas well drilling 1,388 - 2,735 - Depreciation and depletion expense 971 684 1,794 1,245 General and administrative expense 1,198 933 2,390 1,822 Interest expense 439 343 877 627 - ----------------------------------------------------------------------------- 11,239 10,058 22,568 20,475 - ----------------------------------------------------------------------------- Income before income taxes 1,155 723 2,224 1,487 Income tax expense 387 231 730 476 - ----------------------------------------------------------------------------- NET INCOME $768 $492 $1,494 $1,011 ============================================================================= EARNINGS PER SHARE : Income before income taxes $0.17 $0.11 $0.32 $0.23 Net income $0.11 $0.08 $0.22 $0.16 WEIGHTED AVERAGE SHARES OUTSTANDING 6,914 6,500 6,914 6,500 See the accompanying notes which are an integral part of these consolidated financial statements. - 4 - Key Energy Group, Inc. and Subsidiaries Consolidated Statements of Cash Flows (unaudited)
Three Three Months Ended Months Ended (Thousands) September 30, 1995 September 30, 1994 - ----------------------------------------------------------------------------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 726 $ 519 Adjustments to reconcile net income to net cash provided by operations: Depreciation, depletion and amortization 823 561 Deferred income taxes 343 245 Changes in operating assets and liabilities, net of effects from the acquisitions: Increase in accounts receivable (498) (840) Increase (decrease) in other current assets 111 (90) Decrease in accounts payable and accrued expenses (274) (192) (Decrease) increase in accrued interest 13 (16) (Increase) decrease in other assets (9) 9 - ----------------------------------------------------------------------------- Net cash provided by operating activities 1,235 196 - ----------------------------------------------------------------------------- CASH FLOWS FROM INVESTING ACTIVITIES: Capital expenditures - Oilwell service operations (886) (1,167) Capital expenditures - Oil and gas operations (7) (7) Capital expenditures - Oil and gas well drilling operations (140) - Expenditures for oil and gas properties (914) (226) - ----------------------------------------------------------------------------- Net cash used in investing activities (1,947) (1,400) - ----------------------------------------------------------------------------- CASH FLOWS FROM FINANCING ACTIVITIES: Principal payments on debt (904) (396) Borrowings (payments) under line-of-credit (66) 588 Proceeds from long-term debt 1,305 685 - ----------------------------------------------------------------------------- Net cash provided by financing activities 335 877 - ----------------------------------------------------------------------------- Net increase (decrease) in cash and restricted cash (377) (327) Cash and restricted cash at beginning of period 1,275 1,173 - ----------------------------------------------------------------------------- Cash and restricted cash at end of period $ 898 $ 846 ============================================================================= Supplemental cash flow disclosures: Interest paid $ 425 $ 268 Supplemental schedule of non-cash investing and financing transactions: Fair market value of Common Stock issued as payment for the WellTech West Texas equipment - 8,584
Three Months Ended Six Months Ended December 31, December 31, (Thousands) 1995 1994 1995 1994 - ----------------------------------------------------------------------------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income $768 $492 $1,494 $1,011 Adjustments to reconcile income from operations to net cash provided by operations: Depreciation, depletion and amortization 971 693 1,794 1,245 Deferred income taxes 387 231 730 476 Change in assets and liabilities, net of effects from acquisitions: (Increase) decrease in accounts receivable 279 (129) (219) (960) (Increase) decrease in other current assets (21) 19 90 (71) Decrease in accounts payable and accrued expenses (533) (1,372) (807) (1,564) (Decrease) increase in accrued interest 10 - 23 (16) Decrease in accrued taxes (50) - (50) - (Increase) decrease in other assets - (9) (9) - - ----------------------------------------------------------------------------- Net cash (used in) provided by operating activities 1,811 (75) 3,046 121 - ----------------------------------------------------------------------------- CASH FLOWS FROM INVESTING ACTIVITIES: Capital expenditures - Oilwell service operations (841) (732) (1,727) (1,899) Capital expenditures - Oil and gas operations - - (7) (7) Capital expenditures - Oil and gas well drilling operations (220) - (360) - Expenditures for oil and gas properties (1,236) (985) (2,150) (1,211) - ----------------------------------------------------------------------------- Net cash used in investing activities (2,297) (1,717) (4,244) (3,117) - ----------------------------------------------------------------------------- CASH FLOWS FROM FINANCING ACTIVITIES: Principal payments (514) (651) (1,418) (1,047) Borrowings under line-of-credit 38 383 (28) 971 Proceeds from long-term debt 1,019 2,181 2,324 2,866 - ----------------------------------------------------------------------------- Net cash provided by financing activities 543 1,913 878 2,790 - ----------------------------------------------------------------------------- Net increase (decrease) in cash and restricted cash 57 121 (320) (206) Cash and restricted cash at beginning of period 898 846 1,275 1,173 - ----------------------------------------------------------------------------- Cash and restricted cash at end of period $955 $967 $955 $967 ============================================================================= Supplemental cash flow disclosures: Interest paid $429 $343 $854 $611 Supplemental schedule of non-cash investing and financing transactions: Fair market value of Common Stock issued as payment for the WellTech West Texas equipment $- $- $- $8,584 See the accompanying notes which are an integral part of these consolidated financial statements. - 5 - Key Energy Group, Inc. and Subsidiaries NOTES TO CONSOLIDATED FINANCIAL STATEMENTS September 30,December 31, 1995 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The Company The consolidated financial information in this report includes the accounts of Key Energy Group, Inc. (the "Company"("Key") and its wholly-owned subsidiaries and was prepared in conformity with accounting policies used in the Annual Report on Form 10-KSB furnished for the preceding fiscal year. The consolidated financial information in this report includes the three operating subsidiaries of the Company; Yale E. Key, Inc. ("Yale E. Key") which is involved in oilwell service operations, Odessa Exploration Inc. ("OEI") which is involved in the production and exploration of oil and natural gas and Key Energy Drilling, Inc. d/b/a Clint Hurt Drilling ("Clint Hurt Drilling") which is involved in the drilling for oil and natural gas. OEI utilizes the successful efforts method of accounting for its oil and gas properties. Under this method, all costs associated with productive wells and nonproductive development wells are capitalized, while nonproductive exploration costs and geological and geophysical costs (if any), are expensed. Capitalized costs relating to proved properties are depleted using the unit-of-production method based on proved reserves expressed as net equivalent Bbls as reviewed by independent petroleum engineers. The carrying amounts of properties sold or otherwise disposed of and the related allowance for depletion are eliminated from the accounts and any gain/loss is included in results of operations. OEI's aggregate oil and gas properties are stated at cost, not in excess of total estimated future net revenues net of related income tax effects. In the opinion of the Company,Key, the accompanying unaudited condensed consolidated financial statements contain all normal recurring adjustments necessary to present fairly the financial position as of September 30,December 31, 1995, the statement of cash flows for the three and six months ended September 30,December 31, 1995 and 1994, and the results of operations for the three and six month periods then ended. The consolidated financial statements of the CompanyKey have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principlesprincipals for complete financial statements. Operating results for interim periods are not necessarily indicative of the results that may be expected for the full year. - 6 - 2. ACQUISITIONS Key Energy Drilling, Inc. d/b/a Clint Hurt Drilling On March 30, 1995, the CompanyKey and Clint Hurt Associates, Inc. ("CHA") entered into an Asset Purchase Agreement pursuant to which CHA sold to the CompanyKey all of its assets in West Texas. Such assets mainly consisted of four (4) oil and gas drilling rigs and related equipment. As consideration for the acquisition, the CompanyKey paid CHA $1,750,000, of which $1,000,000 was paid in cash and the balance in the form of a $725,000 note payable to CHA, and the Company issued to CHA 5,000 shares of Common Stock of the Company and CHA(the note was paid in full in July 1995). Mr. Clint Hurt entered into consulting and noncompetition agreements with the Company. Key Energy Drilling, Inc. a wholly-owned subsidiaryin consideration for which Key issued 5,000 shares of the Company, will operate as Clint Hurt Drilling.Key Common Stock. The acquisition was accounted for using the purchase method and the results of operations of Clint Hurt Drilling have been included in those of the CompanyKey since April 1, 1995. Pending AcquisitionThe Merger In August 1995, the CompanyKey announced an agreement to acquire, through a merger, WellTech. The CompanyKey will be the surviving entity in the merger. ConsiderationIn the merger, WellTech stockholders will receive an aggregate of 4,929,962 shares of Key Common Stock and warrants to purchase 750,000 shares of Key Common Stock at $6.75 per share. As part of the merger, 1,429,962 of the 1,635,000 shares of Key Common Stock currently owned by WellTech and previously issued warrants to purchase 250,000 shares of Key Common Stock at $5.00 per share will be cancelled. Net consideration for the merger will be 3,500,000 shares of the Company'sKey Common Stock and warrants to purchase 500,000 shares at $5.50 per shareadditional shares. WellTech's principal line of the Company's Common Stock. In addition, upon consummation of the merger, previously issued warrants to purchase 250,000 shares of the Company's Common Stock (issued in connection with the purchase of WellTech West Texas, see below) at $5.00 will be cancelledbusiness is oil and new warrants to purchase 250,000 shares of the Company's Common Stock at $5.50 per share will be issued. WellTechgas well servicing and it currently operates in the SouthwestMid-Continent and Northeast areas of the United States and in Russia and Argentina. Until November 1995, Welltech also conducted certain operations in Russia. Consummation of the merger is subject to satisfaction of various conditions including, without limitation, definitive documentation, completion of due diligence and Board and shareholder approval and no assurance can be given that the merger will be consummated. WellTech's principal lineOn January 23, 1996, Key filed a prospectus - proxy statement which will, upon completion and mailing, be used to solicit shareholder approval of business is oil and gas well servicing. The transaction is expected to be completed in December of 1995.the merger. 3. LONG-TERM DEBT The Yale E. Key C.I.T. Credit Finance ("C.I.T.") term note, ($5,747,0005,463,000 approximate principal balance at September 30,December 31, 1995), as amended, requires principal payments of approximately $95,000, plus interest, due the first day of each month plus a final payment of the unpaid balance of the note due December 31, 1996. The interest rate is two and one-half percent above the stated prime rate; 9.0%8.5% at September 30,December 31, 1995. The note is collateralized by all of the assets (including equipment and inventory) of Yale E. Key. - 7 - The Yale E. Key C.I.T. line of credit, ($3,773,0003,818,000 approximate principal balance at September 30,December 31, 1995),as amended, requires monthly payments of interest at two and one-half percent above the stated prime rate (9.0%(8.5% at September 30,December 31, 1995). The expiration of the line of credit is December 31,1996. The line of credit is collateralized by the accounts receivable of Yale E. Key. The line of credit has a maximum limit of 85% of available accounts receivable or $7 million; whichever is less. At September 30,December 31, 1995, there was no credit line availability. The agreement with C.I.T. includes certain restrictive covenants, the most restrictive of which prohibits Yale E. Key from making distributions and declaring dividends on Yale E. Key's common stock. The OEI loan agreement, as amended, with Norwest Bank Texas, N.A. ("Norwest") provides for a $7.5 million revolving line of credit note subject to a borrowing base limitation (approximately $5.5$6.5 million at September 30,December 31, 1995). The borrowing base is redetermined on at least a semi-annual basis. The borrowing base is reduced by approximately $60,000 per month through October 1997; the maturity of the note. The note's interest rate is Norwest's prime rate (9.0%(8.5% at September 30,December 31, 1995) plus one-half percent. The note is secured by substantially all of the oil and gas properties of OEI and the pledge of certain collateral by current and former officers and directors of Key. As of December 31, 1995, Norwest waived the Company.pledge of collateral and released the collateral to the seven individuals who had pledged it. The note is also guaranteed by the Company.Key. The loan agreement contains various restrictive covenants and compliance requirements, including covenants which (a) prohibit OEI from declaring or paying dividends on OEI's common stock, (b) limit the incurrence of additional indebtedness by OEI and, (c) limit the disposition of assets and various other financial covenants. The Clint Hurt Drilling loan agreement with Norwest provided for a $1 million term loan and a $200,000 line of credit. The $1 million term loan ($860,000776,000 approximate principal balance at September 30,December 31, 1995), requires principal payments of approximately $28,000 per month plus interest for 36 months with a maturity date of April 1998. The $200,000 line of credit, ($137,00077,000 approximate principal balance at September 30,December 31, 1995), requires principal payments of $20,000 per month beginning July 5, 1995, plus interest, through its maturity in April 1996. The termBoth the loan and line of credit have an interest rate of Norwest prime rate (9.0%(8.5% at September 30,December 31, 1995), plus 3/4 of one percent. The notes are secured by all of the equipment of Clint Hurt Drilling and are guaranteed by the Company.Key. In addition, the loan agreement contains various restrictive covenants and compliance requirements. - 8 -Each of Key (and Yale E. Key and Clint Hurt) and WellTech recently entered into new credit facilities of approximately $17.5 million (subject to certain advance formulas) the proceeds of the initial borrowings of which were used to repay substantially all of the debt of Key (other than that of OEI) and Welltech (other than that of certain affiliates), respectively. Key believes that such a facility will provide sufficient funds to finance its operating and capital expenditure needs for the foreseeable future. The new indebtedness will be the obligation of Key, as survivor of the merger, and Key's subsidiaries, Yale E. Key and Clint Hurt. The cross-guaranty and cross-collateralization arrangement could, if the merger is not consummated, create contingent liabilities for each of Key and WellTech. The failure to consummate the merger on or prior to April 30, 1996 will, at the option of the lender, constitute an event of default under the new indebtedness if WellTech fails to refinance its credit agreement on or before July 31, 1996 or Key fails to continue to operate Welltech pursuant to the Interim Operations Agreement. Key and WellTech have agreed not to terminate the Interim Operations Agreement without the consent of the lender. (See Note 2, "The Merger) 4. COMMITMENTS AND CONTINGENCIES Various suits and claims arising in the ordinary course of business are pending against the Company.Key. Management does not believe that the disposition of any of these suits or claims will result in a material adverse impact on the consolidated financial position of the Company.Key. During August 1995, the CompanyKey entered into employment agreements with certain of its officers. These employment agreements generally run to June 30, 1998, but will automatically be extended on a yearly basis unless terminated by the CompanyKey or the applicable officer. In addition to providing a base salary for each officer, the employment agreements provide for severance payments for each officer varying from 12 to 36 months of the officersofficer's base salary. The current annual base salaries for the officer'sofficers covered under such employment agreements total approximately $800,000. - 9 - KEY ENERGY GROUP, INC. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION. QUARTER ENDED SEPTEMBER 30,DECEMBER 31, 1995 VERSUS QUARTER ENDED SEPTEMBER 30,DECEMBER 31, 1994 Overview The following discussion provides information to assist in the understanding of the Company'sKey Energy Group, Inc.s ("Key") financial condition and results of operations. It should be read in conjunction with the financial statements and related notes appearing elsewhere in this report. Operating results for the three and six months ended September 30,December 31, 1995 include the Company'sKey's oilfield well service operations conducted by its wholly-owned subsidiary, Yale E. Key, Inc. ("Yale E. Key"), its oil and natural gas exploration and production operations conducted by its wholly-owned subsidiary, Odessa Exploration Inc. ("OEI") and Key Energy Drilling, Inc. d/b/a Clint Hurt Drilling ("Clint Hurt Drilling") which is engaged in oil and natural gas well contract drilling and was acquired in March 1995. Historically, fluctuations in oilfield well service operations and oil and gas well contract drilling activity have been closely linked to fluctuations in crude oil and natural gas prices. However, the Company,Key, through customer alliances and agreements, and diversification of services, is seeking to minimize the effects of such fluctuations on the Company'sKey's results of operations and financial condition. Results of Operations The CompanyKey Revenues of the CompanyKey for the three months ended September 30,December 31, 1995 increased 11%15% to $12,398,000$12,394,000 from $11,181,000$10,781,000 for the comparable 1994 period, while net income of $726,000$768,000 increased 40%56% over the prior year.year total of $492,000. The increase in revenues was primarily due to the addition of Clint Hurt Drilling on April 1, 1995, whose operations were not included in the prior year quartequarter results. The improvement in quarterly net income is partially attributable to the inclusion of Clint Hurt Drilling, but is also a result of an increase in net income fromfor OEI and a decrease in total consolidated CompanyKey costs and expenses declining as a percent of total revenues. - 10 - Yale E. Key, Inc. Oilfield service revenue declined 9% from $10,665,000$10,258,000 for the prior quarter to $9,767,000$9,381,000 for the current quarter. The decline is primarily attributable to curtailed equipment utilization as the result of adverse weather conditions. Despite weather conditions and a slight decline in demand. Yale E. Key averaged an 85%81% equipment utilization for the quarter; and due to lower expenses and costs, the the gross margin increased from 21% to 25% of revenues for the current quarter due to the continued diversification of services into higher margin business segments such as oilfield frac tanks, oilfield fishing tools and trucking operations.operations, the gross margin increased from 21% to 24% of revenues for the current quarter Odessa Exploration, Inc. Revenues from oil and gas activities increased 77%48% from $462,000$615,000 in the 1994 quarter to $816,000$911,000 for the current quarter despite relatively constant crude oil and lower natural gas prices; an average of $17.50 per barrel and $1.25 per mcf during the current quarter compared to $17.42 per barrel and $1.72 per mcf during the same period last year.prices. The increase in revenues was primarily the result of increased production of oil and natural gas as several oil and natural gas wells which were drilled began production during the 1995 quarter. Of the total $816,000$911,000 of revenues for the quarter ended September 30,December 31, 1995, approximately $574,000$734,000 was from the sale of oil and gas - 21,49422,857 barrels of oil at an average price of $16.80$15.57 per barrel and 255,949223,200 MCF of natural gas at an average price of $1.54$1.69 per MCF. The remaining $242,000$177,000 of revenues represented primarily administrative fee income. Clint Hurt Drilling Clint Hurt Drilling was acquired in March 1995 comparable1995. Comparable numbers for the prior year quarter are, therefore, not available. Revenues were $2.1 for the quarter compared to $1.6 million for the quarter with a gross margin of 13% or $214,000.prior 1996 fiscal quarter. Depreciation, Depletion and Amortization Depreciation, depletion and depletionamortization expense for Key increased 47%42% from $561,000$684,000 to $823,000$971,000 during the three months ended September 30,December 31, 1995 as compared with the prior period. The increase is primarily due to oilfield service depreciation - 11 -expense, which is the result of increased capital expenditure depreciation for the current quarter versus the prior years quarter. In addition, depletion expense generated by OEI increased for the quarter due to the increase in the production of oil and natural gas. Interest Expense Interest expense for Key increased 54%28% from $284,000$343,000 during the three months ended September 30,December 31, 1994 to $438,000$439,000 for the current period. The increase is primarily the result of acquisitions and the addition of certain oil and gas properties by OEI and a higher rate of interest due to prime rate increases.OEI. General and Administrative Expenses General and administrative expenses include those of the CompanyKey as well as Yale E. Key, OEI and Clint Hurt Drilling. These expenses increased 15%$265,000 or 32% to $1,192,000$1,198,000 during the three months ended September 30,December 31, 1995 as compared to $1,036,000$933,000 for the three months ended September 30,December 31, 1994. The increase can be primarily attributed to the acquisition and subsequent inclusion of Clint Hurt Drilling's general and administrative expenses. Income Tax Expense Income tax expense for Key for the three months ended September 30,December 31, 1995 and 1994 was $298,000$387,000 and $245,000$231,000 respectively. Net Income Net income before income taxes was $1,069,000$1,155,000 for the three months ended September 30,December 31, 1995, which was an increase of $305,000$432,000 or 60% over the comparable quarter of $764,000.$723,000. The increase in net income before income taxes was primarily due to the addition of Clint Hurt Drilling (see Note 2) and increased oil and gas revenues. Net income for the three months ended September 30,December 31, 1995 was $726,000,$768,000, which was ana $276,000 or 56% increase from $519,000$492,000 for the three months ended September 30,December 31, 1994. Cash Flow Net cash provided by operations increased $1,039,000$1,886,000 from $196,000$75,000 in net cash used by operations during the three months ended September 30,December 31, 1994 to $1,235,000$1,811,000 in net cash provided by operations for the current period. The increase is attributable primarily to lower increasedecrease in accounts receivablepayable and accrued expenses and higher net income and depreciation expense over the same period last year. - 12 - Net cash used in investing activities increased from $1,400,000$1,717,000 for the three months ended September 30,December 31, 1994 to $1,947,000$2,297,000 for the current period. The increase is primarily the result of increased expenditures for oil and gas properties; which is partially offset by a decrease in capital expenditures for the oilwell service operations.properties. In addition, net cash used in investing activities for the current quarter included $140,000$220,000 used in the oil and gas well drilling operations. Net cash provided by financing activities decreased to $335,000was $543,000, a $1,370,000 decrease, for the three months ended September 30,December 31, 1995 as compared to $877,000$1,913,000 for the comparable quarter. The decrease is primarily the result of increased principal payments made during the current quarter versus the prior quarter and a decrease in proceeds from long-term debt during the current quarter. Such proceeds were primarily used for the oil and natural gas drilling program conducted by OEI. Cash increased $57,000 for the three months ended December 31, 1995, as compared to a net increase in cash of $121,000 for the three months ended December 31, 1994. SIX MONTHS ENDED DECEMBER 31, 1995 VERSUS SIX MONTHS ENDED DECEMBER 31, 1994 Results of Operations Key Revenues of Key for the six months ended December 31, 1995 increased 13% to $24,792,000 from $21,962,000 for the comparable 1994 period, while net income of $1,494,000 increased 48% over the prior six month total of $1,011,000. The increase in revenues was primarily due to the addition of Clint Hurt Drilling on April 1, 1995, whose operations were not included in the prior year quarter results. The improvement in quarterly net income is partially attributable to the inclusion of Clint Hurt Drilling, but is also a result of an increase in net income for OEI and a decrease in total consolidated Key costs and expenses as a percent of total revenues. Yale E. Key, Inc. Oilfield service revenue declined $1,775,000 or 9% from $20,923,000 for the prior period to $19,148,000 for the current period. The decline is primarily attributable to curtailed equipment utilization as the result of adverse weather conditions and a slight decline in demand. Yale E. Key averaged an 82% equipment utilization for the six months; and due to lower expenses, and due to the continued diversification of services into higher margin business segments such as oilfield frac tanks, oilfield fishing tools and trucking operations, the gross margin increased from 21% to 24% of revenues for the current quarter Odessa Exploration, Inc. Revenues from oil and gas activities increased 60% from $1,077,000 in the 1994 period to $1,727,000 for the current six month period despite relatively constant crude oil and lower natural gas prices. The increase in revenues was primarily the result of increased production of oil and natural gas as several oil and natural gas wells which were drilled began production during the 1996 period. Of the total $1,727,000 of revenues for the six months ended December 31, 1995, approximately $1,308,000 was from the sale of oil and gas - 44,351 barrels of oil at an average price of $16.19 per barrel and 479,149 MCF of natural gas at an average price of $1.62 per MCF. The remaining $419,000 of revenues represented primarily administrative fee income. Clint Hurt Drilling Clint Hurt Drilling was acquired in March 1995. Comparable numbers for the prior six months are, therefore, not available. Depreciation, Depletion and Amortization Depreciation, depletion and amortization expense for Key increased $549,000 or 44% from $1,245,000 to $1,794,000 during the six months ended December 31, 1995 as compared with the prior period. The increase is primarily due to oilfield service depreciation expense, which is the result of increased capital expenditure depreciation for the current period versus the prior period. In addition, depletion expense generated by OEI increased for the period due to the increase in the production of oil and natural gas. Interest Expense Interest expense for Key increased 40% from $627,000 during the six months ended December 31, 1994 to $877,000 for the current period. The increase is primarily the result of acquisitions and the addition of certain oil and gas properties by OEI. General and Administrative Expenses General and administrative expenses include those of Key as well as Yale E. Key, OEI and Clint Hurt Drilling. These expenses increased $568,000 or 31% to $2,390,000 during the six months ended December 31, 1995 as compared to $1,822,000 for the three months ended December 31, 1994. The increase can be primarily attributed to the acquisition and subsequent inclusion of Clint Hurt Drilling's general and administrative expenses. Income Tax Expense Income tax expense for Key for the six months ended December 31, 1995 and 1994 was $730,000 and $476,000 respectively. Net Income Net income before income taxes was $2,224,000 for the six months ended December 31, 1995, which was an increase of $737,000 or 50% over the comparable quarter of $1,487,000. The increase in net income before income taxes was primarily due to the addition of Clint Hurt Drilling (see Note 2) and increased oil and gas revenues. Net income for the six months ended December 31, 1995 was $1,494,000, which was a $483,000 or 48% increase from $1,011,000 for the six months ended December 31, 1994. Cash Flow Net cash provided by operations increased $2,925,000 from $121,000 during the six months ended December 31, 1994 to $3,046,000 for the current period. The increase is attributable primarily to lower decrease in accounts payable and accrued expenses and higher net income and depreciation expense over the same period last year. Net cash used in investing activities increased $1,127,000 or 36% from $3,117,000 for the six months ended December 31, 1994 to $4,244,000 for the current period. The increase is primarily the result of increased expenditures for oil and gas properties. In addition, net cash used in investing activities for the current period included $360,000 used in the oil and gas well drilling operations. Net cash provided by financing activities was $878,000, a $1,912,000 decrease, for the six months ended December 31, 1995 as compared to $2,790,000 for the comparable period. The decrease is primarily the result of increased principal payments was partially offset by an increasemade during the current quarter versus the prior quarter and a decrease in proceeds from long-term debt during the current quarter. Such proceeds were primarily used for the oil and natural gas drilling program conducted by OEI. Cash decreased $377,000$320,000 for the threesix months ended September 30,December 31, 1995, as compared to a net decrease in cash of $327,000$206,000 for the threesix months ended September 30,December 31, 1994. LIQUIDITY AND CAPITAL RESOURCES At September 30,December 31, 1995, the CompanyKey had $898,000$955,000 in cash and restricted cash as compared to $1,275,000 in cash and restricted cash at June 30, 1995. Yale E. Key has projected $2.5 million for oilwell service capital expenditures over the next1996 fiscal year as compared to $2.8 million for the fiscal year ended June 30, 1995. Capital expenditures are expected to be primarily capitalized improvement costs (totaling over $5,000) to existing equipment and machinery. Capital expenditures are expected to decrease from fiscal 1995 levels due to lowerless capital improvements in 1995 compared with 1994 for the acquired WellTech operations of West Texas operations acquired in August 1994.Texas. Financing forof capital expenditures is expected to come from the operating cash flows of Yale E. Key. Capital expenditures were $886,000$1,418,000 for the threesix months ended September 30,December 31, 1995. OEI has forecasted approximately $3 million in oil and gas property acquisitions for fiscal 1996 as compared to $2.8 million during fiscal 1995. Financing of oil and gas acquisitions is expected to come from borrowings. Oil and gas acquisitions were $914,000$2,150,000 for the threesix months ended September 30,December 31, 1995. Financing of oil and gas acquisitions is expected to be obtained from bank financing and/or private investors. Acquisitions Key Energy Drilling, Inc. d/b/a Clint Hurt Drilling On March 30, 1995, the CompanyKey and Clint Hurt Associates, Inc. ("CHA") entered into an Asset Purchase Agreement pursuant to which CHA sold to the CompanyKey all of its assets in West Texas. Such assets mainly consisted of - 13 - four (4) oil and gas drilling rigs and related equipment. As consideration for the acquisition, the CompanyKey paid CHA $1,750,000, of which $1,000,000 was paid in cash and the balance in the form of a $725,000 note payable to CHA, and the Company issued to CHA 5,000 shares of Common Stock of the Company. In addition, CHA(the note was paid in full in July 1996). Mr. Clint Hurt entered into consulting and noncompetition agreements with the Company. Key Energy Drilling, Inc., a wholly-owned subsidiaryin consideration for which Key issued 5,000 shares of the Company, will operate as Clint Hurt Drilling.Key Common Stock. The acquisition was accounted for using the purchase method and the results of operations of Clint Hurt Drilling have been included in those of the CompanyKey since April 1, 1995. Pending AcquisitionThe Merger In August 1995, the CompanyKey announced an agreement to acquire, through a merger, WellTech. The CompanyKey will be the surviving entity in the merger. ConsiderationIn the merger, WellTech stockholders will receive an aggregate of 4,929,962 shares of Key Common Stock and warrants to purchase 750,000 shares of Key Common Stock at $6.75 per share. As part of the merger, 1,429,962 of the 1,635,000 shares of Key Common Stock currently owned by WellTech and previously issued warrants to purchase 250,000 shares of Key Common Stock at $5.00 per share will be cancelled. Net consideration for the merger will be 3,500,000 shares of the Company'sKey Common Stock and warrants to purchase 500,000 shares at $5.50 per shareadditional shares. WellTech's principal line of the Company's Common Stock. In addition, upon the consummation of the merger, previously issued warrants to purchase 250,000 shares of the Company's Common Stock (issued in connection with the purchase of WellTech West Texas, see below) at $5.00 per share will be cancelledbusiness is oil and new warrants to purchase 250,000 shares of the Company's Common Stock at $5.50 per share will be issued. WellTechgas well servicing and it currently operates in the SouthwestMid-Continent and Northeast areas of the United States and in Russia and Argentina. Until November 1995, Welltech also conducted certain operations in Russia. Consummation of the merger is subject to satisfaction of various conditions including, without limitation, definitive documentation, completion of due diligence and Board and shareholder approval and no assurance can be given that the merger will be consummated. WellTech's principal lineOn January 23, 1996, Key filed a prospectus - proxy statement which will, upon completion and mailing, be used to solicit shareholder approval of businessthe merger. Each of Key (and Yale E. Key and Clint Hurt) and WellTech recently entered into new credit facilities of approximately $17.5 million (subject to certain advance formulas) the proceeds of the initial borrowings of which were used to repay substantially all of the debt of Key (other than that of OEI) and Welltech (other than that of certain affiliates), respectively. Key believes that such a facility will provide sufficient funds to finance its operating and capital expenditure needs for the foreseeable future. The new indebtedness will be the obligation of Key, as survivor of the merger, and Key's subsidiaries, Yale E. Key and Clint Hurt. The cross-guaranty and cross-collateralization arrangement could, if the merger is oilnot consummated, create contingent liabilities for each of Key and gas well servicing.WellTech. The transaction is expectedfailure to be completed in Decemberconsummate the merger on or prior to April 30, 1996 will, at the option of 1995.the lender, constitute an event of default under the new indebtedness if WellTech fails to refinance its credit agreement on or before July 31, 1996 or Key fails to continue to operate Welltech pursuant to the Interim Operations Agreement. Key and WellTech have agreed not to terminate the Interim Operations Agreement without the consent of the lender. (See Note 2, "The Merger) Impact of SFAS 121 In March 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 121 - Accounting for Long-Lived Assets and for Long-Lived Assets to be Disposed Of ("SFAS 121") regarding the impairment of long-lived assets, identifiable intangibles and goodwill related to those assets. SFAS 121 is effective for financial statements for fiscal years beginning after December 15, 1995, although earlier adoption is encouraged. The application of SFAS 121 to oil and gas companies utilizing the successful efforts method (such as OEI) will require periodic determination of whether the book value of long-lived assets exceeds the future cash flows expected to result from the use of such assets and, if so, will require reduction of the carrying amount of the "impaired" assets to their estimated fair values. The Company, currently,Key estimates that the implementation of SFAS 121 will not have a material effect on the Company'sKey's financial position. - 14 - Impact of Inflation on Operations Although in oura complex environment it is extremely difficult to make an accurate assessment of the impact of inflation on the Company'sKey's operations, management is of the opinion that inflation has not had a significant impact on it business. - 15 -Cautionary Statement for Purposes of The "Safe Harbor" Provisions of the Private Securities Litigation Reform Act of 1995. Key desires to take advantage of the new "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995. Key's Report on Form 10-Q contains "forward-looking statements" including statements concerning projections, plans, objectives, future events or performance and underlying assumptions and other statements which are other than statements of historical fact. Key wishes to caution readers that the following important factors, amoung others, may have affected and could in the future affect Keys'actual results and could cause Key's actual results for subsequent periods to differ materially from those expresed in any forward-looking statement made by or on behalf of Key: Occurences affecting the need for, timing and extent of Key's capital expenditures or affecting Key's ability to obtain funds from operations, borrowings or investments to finance needed captial expenditures; Key's ability successfully to identify and finance oil and gas property acquisitions and its ability successfully to operate existing and any subsequently acquired properties; The availability of adquate funds under the new credit facility to fund operations for the foreseeable future, or if such funds are inadquate, the ability of Key to obtain new or additional financing or to generatre adequate funds from operations; Key's ability to enter into and retain profitable oilfield servicing and drilling contracts with customers which make timely payments for such services; The demand for oilfield services, drilling services and for oil and gas, and the supply of and demand for driling and servicing rigs, all of which are subject to fluctuations which could adversely affect Key's operations; The amount and rate of growth in Key's general and admistrative expense, including, but not limited to, the costs of intergrating WellTech's operations into Key assuming consummation of the Merger; The effect of changes in regulations, including environmental regulations with which Key must comply, the cost of such complicance and the potentially material adverse effects if Key were not in substantial compliance either currently or in the future; Key's relationship with its employees and the potential adverse effect if labor disputes or grievances were to occur; The costs and other effects of legal and administrative cases and proceedings and/or settlements, including but not limited to environmental and workers compensation cases; The effect of changes in accounting policies and practices or of changes in Key's organization, compensation and benefit plan, or of changes in Key's material agreements of understandings with third parties. Moreover, in connection with Key's proposed merger with WellTech, readers should consider the important factors set forth under the caption RISK FACTORS in the proxy statement-prospectus forming part of Key's Registration Statement in Form S-4, Commission File No. 333-00369, which RISK FACTORS section, as amended from time to time, is hereby incorporated hereby by reference. Key undertakes no obligation to release publicly the result of any revisions to any forward-looking statements which may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. PART II - OTHER INFORMATION Item 1. Legal Proceedings None. Item 2. Changes in Securities None. Item 3. Defaults Upon Senior Securities. None. Item 4. Submission of Matters to a Vote of Security Holders. None Item 6. Exhibits and Reports on Form 8-K. (a) The following exhibit is filed as a part of the Form 10-Q: Number Description 27 (a) Statement - Financial Data Schedule (Filed herewith as part of the Condensed Consolidated Financial Statements). 99 Risk Factors disclosure from Key's Proxy Statement - Prospectus included as part of Key's Registration Statement on Form S-4, Commission File No. 33-00369. (b) There were no reports filed on form 8-K during the quarter ended September 30,December 31, 1995. - 16 - SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. KEY ENERGY GROUP, INC. (Registrant) By /s/ Francis D. John_________John President, Chief Executive Officer Dated: November 13, 1995February 14, 1996 and Chief Financial Officer By /s/ Danny R. Evatt _________ Dated: November 13, 1995February 14, 1996 Vice President and Chief Accounting Officer - 17 -