In MarchOctober 2005, the FASB issued FASB Interpretation (FIN) No. 47, “Accounting for Conditional Asset Retirement Obligations.” This Interpretation clarifiesFSP FAS 123(R)-2, “Practical Accommodation to the definition and treatmentApplication of conditional asset retirement obligationsGrant Date as discusseddefined in FASB Statement No. 143, “Accounting for Asset Retirement Obligations.123(R).” A conditional asset retirement obligationThis FSP provides guidance on the definition and practical application of “grant date” as described in SFAS No. 123(R). The grant date is defineddescribed as an asset retirement activity in which the timing and/or method of settlement are dependent on future eventsdate that may be outside the controlemployee and employer have met a mutual understanding of the Company. FIN 47 states that a Company must record a liability when incurred for conditional asset retirement obligations if the fair valuekey terms and conditions of an award. The other elements of the obligationdefinition of grant date are: 1) the award must be authorized, 2) the employer must be obligated to transfer assets or distribute equity instruments so long as the employee has provided the necessary service and 3) the employee is affected by changes in the company’s stock price. To determine the grant date, the Company is allowed to use the date the award is approved in accordance with its corporate governance requirements so long as the three elements described above are met. Furthermore, the recipient cannot negotiate the award’s terms and conditions with the employer and the key terms and conditions of the award are communicated to all recipients within a reasonably estimable. This Interpretation is intended to provide more information about long-lived assets, more information about future cash outflows for these obligations and more consistent recognition of these liabilities. FIN 47 is effective for fiscal years ending after December 15, 2005.short time period from the approval date. The Company does not believe that its financial position, resultswill adopt this FSP in conjunction with the adoption of operations or cash flows will be impacted by this Interpretation.SFAS 123(R).

Stock BasedStock-Based Compensation

The Company accounts for stock-based compensation in accordance with the intrinsic value based method prescribed by Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees.” Under the intrinsic value based method, compensation cost is the excess, if any, of the quoted market price of the stock at the grant date over the amount an employee must pay to acquire the stock.

SFAS 123, “Accounting for Stock-Based Compensation,” as amended by SFAS 148, “Accounting for Stock-Based Compensation – Transition and Disclosure,” outlines a fair value based method of accounting for stock options or similar equity instruments.

The following table illustrates the effect on Net Income and Earnings per Share if the Company had applied the fair value recognition provisions of SFAS 123 to stock-based employee compensation. The Earnings per Share amounts for prior periods have been retroactively adjusted to reflect the 3-for-2 split of the Company’s Common Stock effective March 31, 2005.

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The assumptions used in the fair value method calculation as well as additional stock-based compensation information are disclosed in the following table.

On October 26, 2005, the Compensation Committee of the Board of Directors of the Company approved the acceleration, to December 15, 2005, of the vesting of 200,299 unvested stock options awarded in February 2003 under the Company’s Second Amended and Restated Long-Term Incentive Plan and 24,500 unvested stock options awarded in April 2004 under the Company’s 2004 Incentive Plan.

The 200,299 shares awarded to employees at an exercise price of $15.32, would have vested in February 2006. The 24,500 shares, awarded to the non-employee directors at an exercise price of $23.32, would have vested 12,250 in April 2006 and April 2007, respectively. Of the 200,299 shares, 91,500 were awarded to the named executive officers.

The decision to accelerate the vesting of these unvested options, which the Company believes to be in the best interest of its shareholders and employees, was made solely to reduce compensation expense and administrative burden associated with the Company’s adoption of Financial Accounting Standards Board Statement No. 123(R), “Share Based Payment (revised 2004).” The accelerated vesting of the options will not have a material impact on the Company’s results of operations or cash flows. The Company currently accounts for stock-based compensation using the provisions of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” under which the Company has not recognized any compensation expense for its stock option grants. SFAS 123(R) will require the Company to recognize compensation expense equal to the fair value of all equity-based compensation over the vesting period of each such award beginning on January 1, 2006. The acceleration of vesting will reduce the Company’s compensation expense related to these options by an estimated $0.2 million for the year 2006.

2. PROPERTIES AND EQUIPMENT

Properties and equipment are comprised of the following:

As of JuneSeptember 30, 2005, we did not have any significant changes from year-end in our amount of capitalized well costs that have been capitalized for greater than one year end as definedafter drilling was suspended.

During the third quarter of 2004, the Company recorded an impairment of approximately $3.5 million on a two-well field in south Louisiana resulting from production performance issues related to water encroachment. This impairment charge was recorded due to the capitalized cost of the fields exceeding the future undiscounted cash flows. This charge was reflected in the FASB Staff Position FAS 19-1.quarterly results and was measured based on discounted cash flows utilizing a discount rate appropriate for risks associated with the related field. There were no impairments of proved oil and gas properties during the nine months ended September 30, 2005.

During the nine months ended September 30, 2005, we spent $60.4 million on producing property acquisitions. Of this amount, $59.4 million was spent in the third quarter of 2005. During the quarter, the Company closed on two large producing property acquisitions for interests in fields in the Gulf Coast. For the McCampbell field acquisition, we spent $41.2 million. The Vernon field acquisition was $18.0 million.

3. INVENTORIES

Inventories are comprised of the following:

Natural gas and oil in storage is valued at average cost. Tubular goods and well equipment is valued at historical cost. All inventory balances are carried at the lower of cost or market.

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4. ADDITIONAL BALANCE SHEET INFORMATION

Certain balance sheet amounts are comprised of the following:

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5. LONG-TERM DEBT

At JuneSeptember 30, 2005, the Company did not have anyhad $10 million of debt outstanding under its Revolving Credit Agreement (Credit Facility), which provides for an available credit line of $250 million, which can be expanded up to $350 million, either with the existing banks or new banks. To expand the credit line, the Company must seek prior approval from the administrative agent and the bank whose commitment is increasing. The term of the Credit Facility expires in December 2009. The Credit Facility is unsecured. The available credit line is subject to adjustment from time to time on the basis of the projected present value (as determined by the banks’ petroleum engineer) of estimated future net cash flows from certain proved oil and gas reserves and other assets of the Company. While the Company does not expect a reduction in the available credit line, in the event that it is adjusted below the outstanding level of borrowings, the Company has a period of six months to reduce its outstanding debt to the adjusted credit line available with a requirement to provide additional borrowing base assets or pay down one-sixth of the excess during each of the six months.

TheIn addition to the $10 million of debt outstanding on the Credit Facility, the Company has the following debt outstanding at JuneSeptember 30, 2005:

6. EARNINGS PER SHARE

Basic Earnings per Share (EPS) is computed by dividing Net Income (the numerator) by the weighted average number of common shares outstanding for the period (the denominator). Diluted EPS is similarly calculated using the treasury stock method except that the denominator is increased to reflect the potential dilution that could occur if outstanding stock options and stock awards outstanding at the end of the applicable period were exercised for common stock.

The following is a calculation of basic and diluted weighted average shares outstanding for the three months and sixnine months ended JuneSeptember 30, 2005 and 2004.

7. COMMITMENTS AND CONTINGENCIES

Contingencies

The Company is a defendant in various legal proceedings arising in the normal course of our business. All known liabilities are accrued based on management’s best estimate of the potential loss. While the outcome and impact of such legal proceedings on the Company cannot be predicted with certainty, management believes that the resolution of these proceedings through settlement or adverse judgment will not have a material adverse effect on the Company’s consolidated financial position.position or cash flow. Operating results, and cash flow, however, could be significantly impacted in the reporting periods in which such matters are resolved.

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Wyoming Royalty Litigation

In June 2000, the Company was sued by two overriding royalty owners in Wyoming state court for unspecified damages. The plaintiffs requested class certification. The plaintiffs alleged that the Company improperly deducted costs from their overriding royalty interests. Further, the suit alleged the Company had failed to properly report information required to be reported by a Wyoming statute. At a mediation held in April 2003, the plaintiffs in this case claimed total damages of $9.5 million plus attorney fees. The Company settled the case on a class basis for a total of $2.25 million. The State District Court Judge entered his order approving the settlement in the fourth quarter of 2003. The class included all private fee royalty and overriding royalty owners of the Company in the State of Wyoming except those in the suit discussed below and one owner who opted out of the settlement. The settlement included provisions for the method of valuation of gas for royalty payment purposes going forward and for reporting of royalty payments, which should prevent further litigation of these issues by the class members.

In January 2002, 13 overriding royalty owners sued the Company in Wyoming federal district court.court, as reported in previous filings. The plaintiffs in that case made the same general claims pertaining to deductions from their overriding royalty as the plaintiffs in the Wyoming state court. The judge has recently issued an order requested by the Company striking plaintiffs’ expert witness on damages. In a related case with the same plaintiffs, but different oil and gas company defendants, the same federal district court judge then granted the oil and gas company defendants summary judgment on a legal issue that if applied to the Company’s case would result in judgmentclaims concerning penalties for the Company.improper reporting. As a result of theseseveral decisions by the Court favorable to the Company, the case was settled in September 2005 with no payment from the Company and the plaintiffs have reached an orala dismissal with prejudice of all claims by plaintiffs. The settlement included provisions for reporting and settlement documents are being prepared.payment going forward. Management has areversed the reserve it believes is adequate based on its estimate of the probable outcome ofhad recorded regarding this case.

West Virginia Royalty Litigation

In December 2001, the Company was sued by two royalty owners in West Virginia state court for an unspecified amount of damages. The plaintiffs have requested class certification and allege that the Company failed to pay royalty based upon the wholesale market value of the gas, that it had taken improper deductions from the royalty and failed to properly inform royalty owners of the deductions. The plaintiffs have also claimed that they are entitled to a 1/8th royalty share of the gas sales contract settlement that the Company reached with Columbia Gas Transmission Corporation in 1995 bankruptcy proceedings.

Discovery and pleadings necessary to place the class certification issue before the state court have been ongoing. The court entered an order on June 1, 2005 granting the motion for class certification. The parties have negotiated a modification to the order which, if entered by the court, would result in the dismissal of the claims related to the gas sales contract settlement in connection with the Columbia Gas Transmission bankruptcy proceedings. Trial has been set for April 17, 2006. The Company intends to challenge the class certification order by filing a Petition for Writ of Prohibition with the West Virginia Supreme Court of Appeals.

The Company is vigorously defending the case. ItA reserve has a reservebeen established that management believes is adequate based on its estimate of the probable outcome of this case.

Texas Title Litigation

On January 6, 2003, the Company was served with Plaintiffs’ Second Amended Original Petition in Romeo Longoria, et al. v. Exxon Mobil Corporation, et al. in the 79th Judicial District Court of Brooks County, Texas. Plaintiffs filed their Second Supplemental Original Petition on November 12, 2004.2004 and their Third Supplemental Original Petition on February 22, 2005 (which added Wynn-Crosby 1996, Ltd. and Dominion Oklahoma Texas Exploration & Production, Inc.). Plaintiffs allege that they are the owners of a one-half undivided mineral interest in and to certain lands in Brooks County, Texas. Cody Energy, LLC, a subsidiary of the Company, acquired certain leases and wells in 1997 and 1998.

The plaintiffs allege that they are entitled to be declared the rightful owners of an undivided interest in minerals and all improvements on the lands on which the Company acquired these leases. The plaintiffs also assert claims for trespass to try title, action to remove a cloud on the title, failure to properly account for royalty, fraud, trespass, conversion, all for unspecified actual and exemplary damages. Plaintiffs claim that

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they acquired title to the property by adverse possession. Plaintiffs also assert the discovery rule and a claim of fraudulent concealment to avoid the affirmative defense of limitations. The Company has not had the opportunity to conduct discovery in this matter. The Company estimates that production revenue from this field since its predecessor, Cody Energy, LLC, acquired title and since the Company acquired its lease is approximately $14.8$15.2 million, and that the carrying value of this property is approximately $33.8$33.7 million.

Although the investigation into this claim continues, the Company intends to vigorously defend the case. Should the Company receive an adverse ruling in this case, an impairment review would be assessed to determine whether the carrying value of the property is recoverable. Management cannot currently determine the likelihood of an unfavorable outcome or range of any potential loss should the outcome be unfavorable. Accordingly, there has been no reserve established for this matter.

Raymondville Area

In April 2004, the Company’s wholly owned subsidiary, Cody Energy, LLC, filed suit in state court in Willacy County, Texas against certain of its co-working interest owners in the Raymondville Area, located in Kenedy and Willacy Counties. In early 2003, Cody had proposed a new prospect under the terms of the Joint Operating Agreement. Some of the co-working interest owners elected not to participate. The initial well was successful and subsequent wells have been drilled to exploit the discovery made in the first well.

The working interest owners who elected not to participate notified Cody that they believed that they had the right to participate in wells drilled after the initial well. Cody contends that the working interest owners that elected not to participate are required to assign their interest in the prospect to those who elected to participate. Alternatively, Cody contends that such owners lost their right to participate in subsequent wells within a 1,200 foot radius of the initial well. The defendants have filed a counter claim against the Company, and one of the defendants has filed a lien against Cody’s interest in the leases in the Raymondville area.

Cody has signed a settlement agreement with certain of the defendants representing approximately 3% of the interest in the area. Cody and the remaining defendant filed cross motions for summary judgment. In August, 2005, the trial judge entered an order granting Cody’s Motion for Summary Judgment requiring the remaining defendant to assign to Cody all of its interest in the prospect and to remove the lien filed against Cody’s interest. The Companydefendant has filed a Motion for Reconsideration and Opposition to Proposed Order. The court is awaiting a ruling by the Court. Trial has been set for mid-Novemberscheduled to consider these two motions in December 2005.

The Company is vigorously defending the case. It has a reserve that management believes is adequate based on its estimate of the probable outcome of this case.

Commitment and Contingency Reserves

The Company has established reserves for certain legal proceedings. The establishment of a reserve involves an estimation process that includes the advice of legal counsel and subjective judgment of management. While management believes these reserves to be adequate, it is reasonably possible that the Company could incur approximately $13$14.9 million of additional loss with respect to those matters in which reserves have been established. Future changes in the facts and circumstances could result in the actual liability exceeding the estimated ranges of loss and amounts accrued.

While the outcome and impact on the Company cannot be predicted with certainty, management believes that the resolution of these proceedings through settlement or adverse judgment will not have a material adverse effect on the consolidated financial position or cash flow of the Company. Operating results, and cash flow, however, could be significantly impacted in the reporting periods in which such matters are resolved.

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8.DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITY

The Company periodically enters into derivative commodity instruments to hedge its exposure to price fluctuations on natural gas and crude oil production. At JuneSeptember 30, 2005, the Company had 1420 cash flow hedges open: 511 natural gas price collar arrangements, 2 crude oil price collars and 7 natural gas price swap arrangements. Additionally, the Company had 2 crude oil financial instruments open at JuneSeptember 30, 2005, that did not qualify for hedge accounting. At JuneSeptember 30, 2005, a $31.5$114.8 million ($19.570.8 million net of tax) unrealized loss was recorded to Accumulated Other Comprehensive Income, along with a $42.1$114.6 million short term derivative liability a $0.1and an $8.9 million shortlong term derivative receivable,liability, which is included in other current assets on the balance sheet, and a $0.2 million long term derivative receivable, which is included in other non-current assetsliabilities on the balance sheet. The change in the fair value of derivatives designated as hedges that is effective is initially recorded to Accumulated Other Comprehensive Income. The ineffective portion, if any, of the change in the fair value of derivatives designated as hedges, and the change in fair value of all other derivatives is recorded currently in earnings as a component of Natural Gas Production and Crude Oil and Condensate revenue.

Assuming no change in commodity prices, after JuneSeptember 30, 2005 the Company would reclassify to earnings,the Statement of Operations, over the next 12 months, $19.6$65.4 million in after-tax expenditures associated with commodity derivatives.hedges. This reclassification represents the net liability associated with open positions currently not reflected in earnings at JuneSeptember 30, 2005 related to remaining anticipated 2005 production and a portion of anticipated 2006 production.

From time to time, the Company enters into natural gas and crude oil swap arrangements that do not qualify for hedge accounting in accordance with SFAS 133. These financial instruments are recorded at fair value at the balance sheet date. At JuneSeptember 30, 2005, the fair value of the Company’s 2two open crude oil swap arrangements was $9.3$7.3 million, and is reported as a component of Derivative Contracts in the liability section of the accompanying Condensed Consolidated Balance Sheet. The change in fair value oftotal loss related to these oil swaps, which were an increase of $3.0arrangements was $2.9 million and a decrease of $3.9$12.2 million for the three months and sixnine months ended JuneSeptember 30, 2005, respectively, and has been reported as a component of Operating Revenues in the accompanying Condensed Consolidated Statement of Operations.

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9. COMPREHENSIVE INCOME

Comprehensive Income includes Net Income and certain items recorded directly to Stockholders’ Equity and classified as Accumulated Other Comprehensive Income. The following table illustrates the calculation of Comprehensive Income for the sixnine month periods ended JuneSeptember 30, 2005 and 2004.

Comprehensive income (loss) for the three months ended September 30, 2005 and 2004 was ($16.5) million and $13.1 million, respectively.

Deferred income tax of $0.3$31.5 million at Junefor the nine months ended September 30, 2005 represents the net deferred tax liability of ($6.6)15.8) million on the Reclassification Adjustment for Settled Contracts, $7.7$48.7 million on the Changes in Fair Value of Hedge Positions, ($0.8) million on the Minimum Pension Liability Adjustment and less than $0.1($0.6) million on the Foreign Currency Translation Adjustment.

Deferred income tax of $11.1$14.0 million at Junefor the nine months ended September 30, 2004 represents the net deferred tax liability of ($8.8)11.5) million on the Reclassification Adjustment for Settled Contracts, $19.5$25.6 million on the Changes in Fair Value of Hedge Positions, and less than $0.4($0.1) million on the Foreign Currency Translation Adjustment.

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10. ASSET RETIREMENT OBLIGATIONS

The following table reflects the changes of the asset retirement obligations during the sixnine months ended JuneSeptember 30, 2005.

Accretion expense was $0.7$1.1 million and $1.1$1.4 million for the sixnine months ended JuneSeptember 30, 2005 and 2004, respectively, and is included within Depletion, Depreciation and Amortization expense.expense on the Company’s Condensed Consolidated Statement of Operations.

11. PENSION AND OTHER POSTRETIREMENT BENEFITS

The components of net periodic benefit costs for the three months and sixnine months ended JuneSeptember 30, 2005 and 2004 are as follows: