Oil
and natural gas operating expenses for 2005 increased 24% to $10.4 million from
$8.4 million in 2004. Oil and natural gas operating expenses increased primarily
due to higher severance taxes of $1.5 million on higher commodity prices, while
higher lifting costs of $0.5 million were attributable to the increased number
of producing wells and in part due to higher ad valorem taxes. Operating expenses
per equivalent unit in 2005 increased to $1.09 per Mcfe from $1.01 per Mcfe in
2004. The per unit cost increased primarily as a result of the higher costs noted
above. Depreciation, depletion and amortization (“DD&A”)
expense for 2005 increased 38% to $21.4 million from $15.5 million in 2004. This
increase was primarily due to (1) an increase in production volumes and (2) an
increase in the DD&A rate attributable to the increased land, seismic and drilling
costs added to the proved property cost base and to future development costs largely
related to the significant increase in Barnett Shale wells. General
and administrative (“G&A”) expense for 2005 increased 22% to $8.8 million from
$7.2 million for 2004. The increase in G&A was due primarily to higher salary
(due to increased headcount and annual raises) and incentive compensation costs
and in part due to $0.3 million of expenses related to an integrated software
migration project. Mark-to-market loss on derivatives,
net was $5.9 million in 2005 comprised of (1) $2.3 million of realized loss on
net settled derivatives and (2) $3.6 million of net unrealized loss on the derivatives
accounted for as non-designated derivatives. Mark-tomarket gain (loss) of derivatives,
net was ($0.6) million in 2004 comprised of (1) $1.0 million of realized loss
on net settled derivates and (2) $0.4 million of net unrealized gain on the derivatives
accounted for as fair value hedges. We recorded a $2.5
million after tax charge, or $0.10 per fully diluted share, on our minority interest
in Pinnacle for the ended year December 31, 2005. Of this charge, $0.9 million
relates to a valuation allowance for federal income taxes and $1.0 million is
for the mark-to-market loss on derivatives. It is likely that Pinnacle will continue
to record a valuation allowance on the deferred federal tax benefit generated
from the operating losses incurred during the early development stages of Pinnacle’s
coalbed methane project. Concurrently, we will record valuation allowances relative
to our share of Pinnacle’s financial results. Interest
income was $0.9 million for the year of 2005 compared to $0.1 million in the year
of 2004. The increase is due to the significant increase in the average cash and
cash equivalent balance outstanding in connection with the July 2005 debt refinancing
and borrowings under the $150.0 million Second Lien Credit Facility.
Interest expense and capitalized interest in 2005 were $11.0 million and ($5.8)
million, respectively, as compared to interest expense and capitalized interest
of $3.6 million and ($2.9) million in 2004. These increases in 2005 are attributable
to the aforementioned debt refinancing in July 2005. Income
taxes increased to $7.5 million in 2005 from $7.0 million in 2004 due to the increase
in pre-tax income, including the valuation allowance for the equity in loss of
Pinnacle Gas Resources, Inc. Dividends and accretion
of discount on preferred stock decreased to zero in 2005 from $0.4 million in
2004 as a result of the conversion of all of the Series B Preferred Stock into
common stock during the second quarter of 2004. Net
income available to common shareholders for 2005 decreased to $10.6 million from
$10.8 million in 2004 primarily as a result of the factors described above. | 
