BLUE DOLPHIN ENERGY CO (Form: 10-Q, Received: 05/21/2012 17:27:02)

Large accelerated filer

Accelerated filer

Non-accelerated filer

¨ (Do not check if a smaller reporting company)

Smaller reporting company

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: March 31, 2012

¨	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: 0-15905

BLUE DOLPHIN ENERGY COMPANY

(Exact name of registrant as specified in its charter)

Delaware

73-1268729

(State or other jurisdiction of

incorporation or organization)

(I.R.S. Employer

Identification No.)

801 Travis Street, Suite 2100, Houston, Texas 77002

(Address of principal executive offices)

(713) 568-4725

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) 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 submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x


Number of shares of common stock, par value $0.01 per share (the “Common Stock”) outstanding as of May 12, 2012:			10,533,070

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

INDEX TO QUARTERLY REPORT

ON FORM 10-Q


PART I. FINANCIAL INFORMATION		3

Item 1.	Financial Statements	3
	Condensed Consolidated Balance Sheets	3
	Condensed Consolidated Statements of Operations	4
	Condensed Consolidated Statements of Cash Flows	5
	Notes to Condensed Consolidated Financial Statements	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	22
Item 3.	Quantitative and Qualitative Disclosure About Market Risk	25
Item 4.	Controls and Procedures	25

PART II. OTHER INFORMATION		27

Item 1.	Legal Proceedings	27
Item 1A.	Risk Factors	27
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	28
Item 3.	Defaults Upon Senior Securities	28
Item 4.	Mine Safety Disclosures	28
Item 5.	Other Information	28
Item 6.	Exhibits	28

SIGNATURES		29

PART I. FINANCIAL INFORMATION

Item 1.

Financial Statements

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Condensed Consolidated Balance Sheets


	March 31, 2012			December 31, 2011
	(Unaudited)
	2012			2011
ASSETS
CURRENT ASSETS
Cash and cash equivalents	$	1,109,821		$	1,822
Restricted cash		192,155			192,004
Accounts receivable		16,447,101			—
Prepaid expenses and other current assets		329,718			58,713
Deposits		1,140,447			473,026
Inventory		5,143,569			4,533,961

Total current assets		24,362,811			5,259,526

Total property and equipment, net		43,132,695			32,307,929
Debt issue costs		557,684			566,133
Other assets		17,076			10,468
Trade name		184,368			—
Goodwill		8,667,401			—

TOTAL ASSETS	$	76,922,035		$	38,144,056

LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES
Accounts payable	$	21,663,071		$	4,841,859
Accounts payable, related party		260,035			908,139
Note payable		46,318			46,318
Asset retirement obligations, current portion		242,299			—
Accrued expenses and other current liabilities		1,094,408			744,921
Interest payable, current portion		1,004,515			995,916
Other long-term liabilities, current portion		1,841,852			1,839,501

Total current liabilities		26,152,498			9,376,654
Asset retirement obligations, net of current portion		2,480,402			—
Long term debt		14,813,846			12,455,102
Long term interest payable, net of current portion		703,211			650,214

Total long-term liabilities		17,997,459			13,105,316
Commitments and contingencies
STOCKHOLDERS’ EQUITY
Common stock ($0.01 par value, 20,000,000 shares authorized, 10,533,070 and 2,098,390 shares issued and outstanding at March 31, 2012 and December 31, 2011, respectively)		105,331			20,984
Additional paid-in capital		36,360,944			17,365,405
Accumulated deficit		(3,694,197	)		(1,724,303	)

Total stockholders’ equity		32,772,078			15,662,086

TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY	$	76,922,035		$	38,144,056

See accompanying notes to condensed consolidated financial statements.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Condensed Consolidated Statements of Operations (Unaudited)


	Three Months Ended March 31,
	2012			2011
REVENUE FROM OPERATIONS
Refined product sales	$	45,770,963		$	—
Pipeline operations		69,910			—
Oil and gas sales		200,340			—

Total revenue from operations		46,041,213			—
COST OF OPERATIONS
Cost of refined products sold		44,261,395			—
Refinery operating expenses		2,445,437			—
Pipeline operating expenses		109,618			—
Lease operating expenses		201,713			—
Depletion, depreciation and amortization		275,107			4,308
General and administrative expenses		525,587			113,828
Accretion expense		23,775			—

Total cost of operations		47,842,632			118,136

Loss from operations		(1,801,419	)		(118,136	)
OTHER INCOME (EXPENSE)
Net tank rental revenue		93,955			342,745
Interest and other income		1,650			6,094
Interest expense		(233,517	)		(12,311	)

Total other income (expense)		(137,912	)		336,528

Income (loss) before income taxes		(1,939,331	)		218,392
Income tax expense		(30,563	)		—

Net income (loss)	$	(1,969,894	)	$	218,392

Loss per common share:
Basic	$	(0.37	)	$	218,392

Diluted	$	(0.37	)	$	218,392

Weighted average number of common shares outstanding:
Basic		5,324,410			1
Diluted		5,324,410			1

See accompanying notes to condensed consolidated financial statements.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Condensed Consolidated Statements of Cash Flows (Unaudited)


	Three Months Ended March 31,
	2012			2011
OPERATING ACTIVITIES
Net income (loss)	$	(1,969,894	)	$	218,392
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
Depletion, depreciation and amortization		275,107			4,308
Amortization of debt issue costs		8,449			8,449
Accretion expense		23,775			—
Common stock issued for services		20,000			—
Changes in operating assets and liabilities (net of effects of Acquisition in 2012)
Restricted cash		(151	)		(294	)
Accounts receivable		(15,923,454	)		—
Prepaid expenses and other current assets		(240,934	)		—
Deposits		(484,000	)		—
Inventory		(554,441	)		—
Accounts payable, accrued expenses and other liabilities		16,010,567			(460,040	)
Accounts payable, related party		1,253,764			455,568

Net cash provided by (used in) operating activities		(1,581,212	)		226,383
INVESTING ACTIVITIES
Capital expenditures		(1,346,477	)		(216,458	)
Cash acquired on Acquisition		1,674,594			—

Net cash provided by (used in) investing activities		328,117			(216,458	)
FINANCING ACTIVITIES
Proceeds from issuance of debt		2,364,010			—
Payments on notes payable		(2,916	)		(10,417	)

Net cash provided by (used in) financing activities		2,361,094			(10,417	)

Net increase (decrease) in cash and cash equivalents		1,107,999			(492	)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD		1,822			733

CASH AND CASH EQUIVALENTS AT END OF PERIOD	$	1,109,821		$	241

Supplemental Information:
Non-cash investing and financing activities:
Financing of insurance premiums	$	82,560		$	—

Related party payable converted to equity	$	993,732		$	—

Acquisition of Blue Dolphin at fair value, inclusive of cash acquired of $1,674,594	$	18,046,154		$	—

See accompanying notes to condensed consolidated financial statements.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

(1)

Organization

Company Operations

Blue Dolphin Energy Company (referred to herein, with its predecessors and subsidiaries, as “Blue Dolphin,” “we,” “us” and “our”), a Delaware corporation, was formed in 1986 as a holding company and conducts substantially all of its operations through its wholly-owned subsidiaries. Our operating subsidiaries include:

•

Lazarus Energy, LLC (“LE”), a Delaware limited liability company (petroleum processing assets);

•

Blue Dolphin Pipe Line Company, a Delaware corporation (pipeline operations);

•

Blue Dolphin Petroleum Company, a Delaware corporation (exploration and production activities);

•

Blue Dolphin Services Co., a Texas corporation (administrative services);

•

Blue Dolphin Exploration Company, a Delaware corporation (inactive); and

•

Petroport, Inc., a Delaware corporation (inactive).

(2)

Acquisition

Blue Dolphin acquired 100% of the issued and outstanding membership interests of LE, a Delaware limited liability company from Lazarus Energy Holdings, LLC, a Delaware limited liability company (“LEH”), effective February 15, 2012 (the “Acquisition”). As consideration for LE, Blue Dolphin issued, in reliance on the exemption provided by Section 4(2) of the Securities Act of 1933, as amended (the “Securities Act”), 8,393,560 shares of common stock, par value $0.01 per share (the “Common Stock”), subject to anti-dilution adjustments, to LEH (the “Original BDEC Shares”). Additionally, on February 21, 2012, pursuant to anti-dilution provisions, Blue Dolphin issued, in reliance on the exemption provided by Section 4(2) of the Securities Act, 32,896 shares of Common Stock to LEH (the “Anti-Dilution Shares” and together with the Original BDEC Shares, the “BDEC Shares”). As a result of Blue Dolphin’s issuance of the BDEC Shares, LEH owns 80% of Blue Dolphin’s issued and outstanding Common Stock. The issuance of the BDEC Shares to LEH resulted in a change in control of Blue Dolphin.

LE owns a petroleum refinery located in Nixon, Texas (the “Nixon Facility”). The processing plant at the Nixon Facility is currently in a recommissioning phase and has not yet reached its full operational capacity. The tank farm has 120,000 barrels of crude oil storage capacity and 148,000 barrels of refined product storage capacity. After refurbishment of the process units is complete, the Nixon Facility will have the capability to produce products such as off-road diesel, kerosene, jet fuel and intermediate products such as liquefied petroleum gas, naphtha and atmospheric gas oil. LE has leased 20,000 barrels of refined product storage capacity to an unrelated third-party.

The Acquisition has been accounted for as a reverse merger using accounting principles applicable to reverse acquisitions whereby the financial statements subsequent to the date of the transaction are presented as a continuation of LE. Under reverse acquisition accounting LE (the legal subsidiary) has been treated as the accounting parent (acquirer) and Blue Dolphin (the legal parent) has been treated as the accounting subsidiary (acquiree). Accordingly, the financial statements subsequent to the date of the transaction are presented herein as the continuation of LE.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

(Continued)

The value assigned to the purchase price was allocated to Blue Dolphin’s tangible and intangible assets and liabilities based on their fair values on the transaction closing date. LE’s purchase price to acquire Blue Dolphin was based on the fair value of Blue Dolphin’s issued and outstanding common stock at February 15, 2012, which was 2,098,390 shares, multiplied by Blue Dolphin’s closing stock price of $8.60 on February 15, 2012, the transaction closing date. This resulted in a fair value assessment of Blue Dolphin of $18,046,154.

In connection with the Acquisition, we engaged an independent third-party to fair value the net assets of Blue Dolphin. The fair value assessment of Blue Dolphin is ongoing and has not been completed and as a result, the purchase price allocation for the transaction is provisional and will be adjusted upon completion of the fair value assessment. Fair value of financial and non-financial assets and liabilities is defined as an exit price, representing the amount that would be received to sell an asset or liability in an orderly transaction between market participants.

The following table summarizes the provisional purchase price allocation of the net assets acquired as of the acquisition date:


Current assets	$	2,466,901
Oil and gas properties		1,503,596
Pipelines		4,466,273
Onshore separation and handling facilities		325,435
Land		473,225
Other property and equipment		282,972
Other long-term assets		9,463
Trade name		184,368
Goodwill		8,667,401

Total assets acquired		18,379,634
Current liabilities		333,480

Total liabilities assumed		333,480

Net assets acquired	$	18,046,154

Goodwill recognized in the transaction is related to the expected value to be received from the combination of LE’s crude oil and condensate processing facility and Blue Dolphin’s oil and gas and pipeline properties and operational expertise.

From the date of the Acquisition (February 15, 2012) until March 31, 2012, Blue Dolphin’s revenues and net loss included in the condensed consolidated statements of operations for the three months ended March 31, 2012 was $270,250 and $513,540, respectively.

Remainder of Page Intentionally Left Blank

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

(Continued)

Supplemental Pro Forma Information

The following pro forma condensed consolidated statements of operations for the three months ended March 31, 2012 and March 31, 2011 consolidate the historical consolidated statements of operations of Blue Dolphin and LE giving effect to the Acquisition as if it had occurred on January 1, 2011, respectively. The unaudited pro forma condensed combined financial statements are presented for illustrative purposes only:


	Three Months Ended March 31, 2012
	Historical						Pro forma
	Blue Dolphin			LE			Consolidated
REVENUE FROM OPERATIONS
Refined product sales	$	—		$	45,770,963		$	45,770,963
Pipeline operations		109,334			—			109,334
Oil and gas sales		310,698			—			310,698

Total revenue from operations		420,032			45,770,963			46,190,995

COST OF OPERATIONS
Cost of refined products sold		—			44,261,395			44,261,395
Refinery operating expenses		—			2,445,437			2,445,437
Pipeline operating expenses		169,083			—			169,083
Lease operating expenses		304,437			—			304,437
Depletion, depreciation and amortization		124,587			192,049			316,636
General and administrative expenses		540,070			158,461			698,531
Accretion expense		35,662			—			35,662

Total cost of operations		1,173,839			47,057,342			48,231,181

Loss from operations		(753,807	)		(1,286,379	)		(2,040,186	)

OTHER INCOME (EXPENSE)
Net tank rental revenue		—			93,955			93,955
Interest and other income		2,339			150			2,489
Interest expense		—			(233,517	)		(233,517	)

Total other income (expense)		2,339			(139,412	)		(137,073	)

Loss before income taxes		(751,468	)		(1,425,791	)		(2,177,259	)
Income tax expense		—			(30,563	)		(30,563	)

Net loss	$	(751,468	)	$	(1,456,354	)	$	(2,207,822	)

There were no adjustments necessary; hence, no column has been shown for adjustments to the proforma information.


	Three Months Ended March 31, 2011
	Historical						Pro forma
	Blue Dolphin			LE			Consolidated
REVENUE FROM OPERATIONS
Pipeline operations	$	342,630		$	—		$	342,630
Oil and gas sales		349,704			—			349,704

Total revenue from operations		692,334			—			692,334

COST OF OPERATIONS
Pipeline operating expenses		221,334			—			221,334
Lease operating expenses		258,443			—			258,443
Depletion, depreciation and amortization		146,708			4,308			151,016
General and administrative expenses		473,391			113,828			587,219
Accretion expense		33,086			—			33,086

Total cost of operations		1,132,962			118,136			1,251,098

Loss from operations		(440,628	)		(118,136	)		(558,764	)

OTHER INCOME (EXPENSE)
Net tank rental revenue		—			342,745			342,745
Interest and other income		8,540			6,094			14,634
Interest expense		—			(12,311	)		(12,311	)

Total other income (expense)		8,540			336,528			345,068

Income (loss) before income taxes		(432,088	)		218,392			(213,696	)
Income tax expense		—			—			—

Net income (loss)	$	(432,088	)	$	218,392		$	(213,696	)

There were no adjustments necessary; hence, no column has been shown for adjustments to the proforma information.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

(Continued)

(3)

Significant Accounting Policies

Basis of Presentation

We have prepared our unaudited condensed consolidated financial statements, in accordance with U.S. generally accepted accounting principles (“GAAP”) as codified by the Financial Accounting Standards Board in its Accounting Standards Codification (“ASC”), pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”). In the opinion of management, such condensed consolidated financial statements reflect all adjustments necessary to present fair condensed consolidated statements of operations, financial position and cash flows. We believe that the disclosures are adequate and the presented information is not misleading. This report has been prepared in accordance with the SEC’s Form 10-Q instructions and therefore, certain information and footnote disclosures normally included in audited financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to the SEC’s rules and regulations.

The results of operations for the three months ended March 31, 2012, are not necessarily indicative of the results of operations to be expected for the year ending December 31, 2012.

Use of Estimates

We have made a number of estimates and assumptions related to the reporting of condensed consolidated assets and liabilities and to the disclosure of contingent assets and liabilities to prepare these unaudited condensed consolidated financial statements in conformity with GAAP. While we believe current estimates are reasonable and appropriate, actual results could differ from those estimated.

Cash and Cash Equivalents

Cash equivalents include liquid investments with an original maturity of three months or less. Cash balances are maintained in depository and overnight investment accounts with financial institutions that, at times, exceed insured limits. We monitor the financial condition of the financial institutions and have experienced no losses associated with these accounts.

Restricted Cash

Restricted cash was $192,155 and $192,004 at March 31, 2012 and December 31, 2011, respectively. These amounts relate to escrow accounts for potential environmental matters and loan repayments.

Accounts Receivable, Allowance for Doubtful Accounts and Concentrations of Credit Risk

Accounts receivable are customer obligations due under normal trade terms. The allowance for doubtful accounts represents our estimate of the amount of probable credit losses existing in our accounts receivable. We have a limited number of customers with individually large amounts due at any given date. Any unanticipated change in any one of these customers’ credit worthiness or other matters affecting the collectability of amounts due from such customers could have a material adverse effect on our results of operations in the period in which such changes or events occur. We regularly review all aged accounts receivables for collectability and establish an allowance as necessary for individual customer balances. As of March 31, 2012 and December 31, 2011, there was no allowance recorded related to trade accounts receivable.

We had two customers that accounted for 43% of our total revenue for the three months ended March 31, 2012, which represented approximately $8.1 million of accounts receivable at March 31, 2012.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

(Continued)

Inventory

Our inventory primarily consists of refined petroleum products valued at lower of cost or market with costs being determined by the average cost method.

Property and Equipment

Refinery and Facilities . Additions to refinery and facilities are capitalized. Expenditures for repairs and maintenance are charged to expense. Refinery and facilities are carried at cost. Adjustment of the asset and the related accumulated depreciation accounts are made for refinery and facilities retirements and disposals, with the resulting gain or loss included in the statements of operations.

For financial reporting purposes, depreciation of refinery and facilities is computed using the straight-line method over the estimated useful lives of assets when the refinery and facilities are placed in service. For tax reporting purposes, depreciation of refinery and facilities is computed using the straight-line and accelerated methods over the estimated useful lives of the assets.

We review the carrying values of our long-lived assets for possible impairment whenever events or changes in circumstances indicate that the carrying amount of assets to be held and used may not be recoverable. The assessment of facts and circumstances that are used for impairment testing to suggest that the carrying amount of the assets may exceed its recoverable amount is a subjective process that often involves a number of estimates and is subject to interpretation. A long-lived asset is generally not recoverable if its carrying amount exceeds the sum of the undiscounted cash flows expected to result from its use and eventual disposition. If a long-lived asset is not recoverable, an impairment loss is recognized in an amount by which its carrying amount exceeds its fair value. We did not record any impairment for the three months ended March 31, 2012 or 2011.

Oil and Gas Properties . We account for our oil and gas properties using the full-cost method of accounting, whereby all costs associated with acquisition, exploration and development of oil and gas properties, including directly related internal costs, are capitalized on a cost center basis. We use one cost center for domestic properties and one cost center for foreign properties. Amortization of such costs and estimated future development costs are determined using the unit-of-production method. Costs directly associated with the acquisition and evaluation of unproved properties are excluded from the amortization computation until it is determined whether or not proved reserves can be assigned to the properties or impairment has occurred.

Estimated proved oil and gas reserves are based on reports prepared by third-party petroleum engineering consulting firms. For determining impairment of our oil and gas properties, we are required on a quarterly basis to determine whether the book value of our oil and natural gas properties (excluding unevaluated properties) is less than or equal to a “ceiling,” which is determined based upon the expected after tax present value (discounted at 10%) of the future net cash flows from our proved reserves, calculated using prevailing oil and natural gas prices on the last day of the period, or a subsequent higher price under certain circumstances. Any excess of the net book value of our oil and natural gas properties over the ceiling must be recognized as a non-cash impairment expense. We did not have any impairment of our oil and gas properties for the three months ended March 31, 2012.

Pipelines and Facilities . Pipelines and facilities are recorded at cost. Depreciation is computed using the straight-line method over estimated useful lives ranging from 10 to 22 years. In accordance with the ASC guidance on accounting for the impairment or disposal of long-lived assets, assets are grouped and evaluated for impairment based on the ability to identify separate cash flows generated therefrom. We did not have any impairment of our pipelines and facilities for the three months ended March 31, 2012.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

(Continued)

Construction in Progress . Construction in progress consists of costs we incurred to purchase and refurbish the Nixon Facility. Amounts were capitalized as incurred and depreciation began when the Nixon Facility became operational. Capitalized interest was added to the cost of the underlying assets and will be amortized over the useful life of the Nixon Facility.

Trade Name

In connection with the Acquisition, we recognized $184,368 as trade name. We have determined our trade name has an indefinite useful life. We perform an evaluation for impairment of trade name either annually or when events and circumstances indicate a trade name impairment that is considered necessary.

Goodwill

We recognized goodwill in connection with our Acquisition. Goodwill has an indefinite useful life and reflects the amount of the purchase consideration that exceeded the fair value of Blue Dolphin’s net assets acquired. We perform an evaluation for impairment of goodwill either annually or when events and circumstances indicate a goodwill impairment test is considered necessary.

Debt Issue Costs

Debt issue costs are capitalized and amortized over the term of the related debt using the straight-line method, which approximates the effective interest method. When a loan is paid in full, any unamortized financing costs are removed from the related accounts and charged to operations. Debt issue costs of $675,980, net of accumulated amortization in the amount of $118,296 and $109,847 at March 31, 2012 and at December 31, 2011, respectively, are being amortized over the life of the loan. Amortization expense was $8,449 for the three months ended March 31, 2012 and 2011, and is included in interest expense.

Revenue Recognition

Refined Products Revenue . Revenue from the sale of refined products is recognized in the month that the refined products are shipped out of the Nixon Facility.

Tank Storage Rental Revenue . Revenue from tank storage is recorded on a straight line basis in accordance with the terms of the related lease agreement. The lessee is invoiced monthly for the amount of rent due for the related period.

Recognition of Oil and Gas Revenue . Sales from producing wells are recognized on the entitlement method of accounting, which defers recognition of sales when, and to the extent that, deliveries to customers exceed our net revenue interest in production. Similarly, when deliveries are below our net revenue interest in production, sales are recorded to reflect the full net revenue interest. Our imbalance liability at March 31, 2012 was not material.

Pipeline Transportation Revenue . Revenue from our pipelines is derived from fee-based contracts and is typically based on transportation fees per unit of volume transported multiplied by the volume delivered. Revenue is recognized when volumes have been physically delivered for the customer through the pipeline.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

(Continued)

Income Taxes

We provide for income taxes using the asset and liability method of accounting for income taxes. Under the asset and liability method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis and operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.

The evaluation of a tax position is a two-step process. The first step is a recognition process whereby the enterprise determines whether it is more likely than not that a tax position will be sustained upon examination, including resolution of any related appeals or litigation processes, based on the technical merits of the position. In evaluating whether a tax position has met the more-likely-than-not recognition threshold, the enterprise should presume that the position will be examined by the appropriate taxing authority that has full knowledge of all relevant information. The second step is a measurement process whereby a tax position that meets the more-likely-than-not recognition threshold is calculated to determine the amount of benefit to recognize in the financial statements. The tax position is measured at the largest amount of benefit that is greater than 50% likely of being realized upon ultimate settlement.

Recently Issued Accounting Pronouncements

We have evaluated recent accounting pronouncements and determined that they would not have a material impact on our consolidated financial statements or disclosures.

(4)

Business Segment Information

We are engaged in three lines of business: (i) ownership of crude oil and condensate processing assets, (ii) pipeline transportation services to producers/shippers and (iii) oil and gas exploration and production. Our primary assets include the Nixon Facility, oil and natural gas pipelines in the Gulf of Mexico region, and oil and natural gas leasehold interests in the U.S. Gulf of Mexico and the North Sumatra Basin offshore Indonesia.

Management uses earnings before interest expense and income taxes (“EBIT”), a non-GAAP financial measure, to assess the operating results and effectiveness of our business segments, which consist of our consolidated businesses and investments. We believe EBIT is useful to our investors because it allows them to evaluate our operating performance using the same performance measure analyzed internally by management. EBIT is adjusted for: (i) items that do not impact our income or loss from continuing operations, such as the impact of accounting changes, (ii) income taxes and (iii) interest expense (or income). We exclude interest expense (or income) and other expenses or income not pertaining to the operations of our segments from this measure so that investors may evaluate our current operating results without regard to our financing methods or capital structure. We understand that EBIT may not be comparable to measurements used by other companies. Additionally, EBIT should be considered in conjunction with net income (loss) and other performance measures such as operating cash flows.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

(Continued)

Following is a reconciliation of our EBIT (by business segment) for the three months ended March 31, 2012, and at March 31, 2012:


	Three Months Ended March 31, 2012
	Segment
	Crude Oil and Condensate Processing			Pipeline Transportation			Oil and Gas Exploration & Production			Corporate & Other ⁽¹⁾			Total
Revenues	$	45,770,963		$	69,910		$	200,340		$	—		$	46,041,213
Operation cost ⁽²⁾		46,865,293			195,716			388,875			117,639			47,567,523
Depletion, depreciation and amortization		192,049			58,300			22,209			2,549			275,107
Other non-interest income		93,955			—			—			—			93,955

EBIT	$	(1,192,424	)	$	(184,106	)	$	(210,744	)	$	(120,188	)	$	(1,707,462	)

Capital expenditures	$	1,346,477		$	—		$	—		$	—		$	1,346,477

Identifiable assets ⁽³⁾	$	56,220,025		$	16,972,084		$	2,724,985		$	1,004,941		$	76,922,035

⁽¹⁾	Includes unallocated general and administrative costs associated with corporate maintenance costs (such as director fees and legal expenses).

⁽²⁾	General and administrative costs are allocated based on revenue.

⁽³⁾	Identifiable assets contain related legal obligations of each segment including cash, accounts receivable and payable and recorded net assets.

Following is a reconciliation of our EBIT (by business segment) for the three months ended March 31, 2011, and at March 31, 2011:


	Three Months Ended March 31, 2011
	Segment
	Crude Oil and Condensate Processing		Pipeline Transportation		Oil and Gas Exploration & Production		Corporate & Other ⁽¹⁾		Total
Revenues	$	—	$	—	$	—	$	—	$	—
Operation cost ⁽²⁾		113,828		—		—		—		113,828
Depletion, depreciation and amortization		4,308		—		—		—		4,308
Other non-interest income		342,745		—		—		—		342,745

EBIT	$	224,609	$	—	$	—	$	—	$	224,609

Capital expenditures	$	216,458	$	—	$	—	$	—	$	216,458

Identifiable assets ⁽³⁾	$	38,144,056	$	—	$	—	$	—	$	38,144,056

⁽¹⁾	Includes unallocated general and administrative costs associated with corporate maintenance costs (such as director fees and legal expenses).

⁽²⁾	General and administrative costs are allocated based on revenue.

⁽³⁾	Identifiable assets contain related legal obligations of each segment including cash, accounts receivable and payable and recorded net assets.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

March 31, 2012

(Continued)

(5)

Inventories

No inventory reserve was deemed necessary at March 31, 2012 and December 31, 2011. Inventory balances consisted of the following:


	March 31,		December 31,
	2012		2011
Low-sulfur diesel	$	2,323,091	$	2,193,864
Naphtha		1,254,407		1,067,011
Atmospheric gas oil		1,399,718		1,010,877
Other liquids		33,396		64,486
Propane		58,748		59,599
Crude		74,209		134,289
Supplies		—		3,835

	$	5,143,569	$	4,533,961

(6)

Property, Plant and Equipment, Net

Property and equipment consisted of the following:


	March 31, 2012		December 31, 2011
Refinery and facilities	$	33,149,561	$	—
Oil and gas properties (full-cost method)		2,318,844		—
Pipelines		6,351,325		—
Onshore separation and handling facilities		325,435		—
Land		577,965		104,740
Other property and equipment		500,108		217,136

		43,223,238		321,876

Less: Accumulated depletion, depreciation and amortization		337,550		62,443

		42,885,688		259,433

Construction in Progress		247,007		32,048,496

Property, Plant and Equipment, Net	$	43,132,695	$	32,307,929

(7)

Accounts Payable

Related Party Transactions

As part of the Acquisition, we entered into a Management Agreement with LEH effective February 15, 2012 (the “Management Agreement”) in which LEH manages and operates the Nixon Facility and our other operations (the “Services”). Pursuant to the Management Agreement, aggregate amounts expensed, relating to Services provided by LEH for the three months ended March 31, 2012 were $1,065,606 (approximately $2.86 per barrel). At March 31, 2012 and December 31, 2011, the amounts owed to LEH were $260,035 and $908,140, respectively and are included in accounts payable – related party. LEH owns 80% of our issued and outstanding common stock.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

(Continued)

(8)

Note Payable

In January 2010, LE issued a $100,000 short-term note as payment for financing costs. The balance on this note was $46,318 at March 31, 2012 and December 31, 2011. The unsecured note, which bears interest at 10% and was originally due in January 2012, has been extended to December 2012.

(9)

Asset Retirement Obligations

We have asset retirement obligations associated with the future abandonment of our pipelines and related facilities and our offshore oil and gas properties. The following table summarizes our asset retirement obligation:


Fair value of asset retirement obligations at February 15, 2012	$	2,699,036
Liabilities incurred		—
Liabilities settled		(110	)
Accretion expense		23,775

Asset retirement obligations as of March 31, 2012		2,722,701
Less: current portion of asset retirement obligations		242,299

Asset retirement obligations, long-term balance at March 31, 2012	$	2,480,402

We are currently evaluating our asset retirement obligation, if any, related to the Nixon Facility. At March 31, 2012 and December 31, 2011, the Nixon Facility had not yet reached its full operational capacity. The fair value of the Nixon Facility’s asset retirement obligation cannot be reasonably estimated because sufficient information to estimate an amount and a range of potential settlement dates for the liability is not available.

(10)

Long-Term Debt

Our long-term debt consists of notes payable, construction financing and capital leases with third parties, as follows:


	March 31, 2012		December 31, 2011
Refinery Loan	$	9,669,173	$	9,669,173
Notre Dame Debt		1,300,000		1,300,000
Construction Funding		5,683,204		3,319,193
Captial Leases		3,321		6,237

		16,655,698		14,294,603
Less: Current portion of long-term debt		1,841,852		1,839,501

	$	14,813,846	$	12,455,102

Refinery Loan . In September 2008, LE obtained a loan payable to 1 ^st International Bank (“FIB”) under a promissory note in the amount of $10,000,000 (the “Refinery Loan”). The note, which is currently in default, accrues interest at a rate of prime plus 2.25% and has a maturity date of October 2028. The note is: (i) secured by a first lien on the refinery and the general assets of LE and (ii) subject to certain restrictive financial covenants related to debt to net worth and current ratio. Interest was accrued on the note in the amount of $910,106 and $967,567 at March 31, 2012 and December 31, 2011, respectively.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

(Continued)

In August 2011, LE entered into a Forbearance Agreement with FIB (the “Refinery Loan Forbearance Agreement”) that provides for a minimum monthly payment of $60,000. The initial forbearance period under the Refinery Loan Forbearance Agreement is one year (the “Initial Forbearance Period”), subject to termination by FIB if any of the following termination events (the “Termination Events”) occur:

We do not, prior to the Nixon Facility becoming operational, pay a tank storage fee totaling $60,000 to FIB by the fifth day of each calendar month;

ii.

We do not, upon the Nixon Facility becoming operational, and the cessation of the payment of tank storage fees, make a monthly payment in the amount of $69,443 to FIB each month;

iii.

There is a default under the Refinery Loan (other than an existing default) that is not cured within 30 days subject to certain extensions;

iv.

There is a default under the Refinery Loan Forbearance Agreement, the Construction and Funding Contract between LE and a third-party (the “Construction and Funding Contract”), the Joint Marketing Agreement between LE and a third-party (the “Joint marketing Agreement”) or the Crude Oil Supply and Throughput Services Agreement between LE and a third-party and such default continues for 10 days after its occurrence; or

LE files for bankruptcy protection or takes part in any other insolvency proceeding, seeks relief under any debtor relief law or has a receiver or similar official appointed.

The Refinery Loan Forbearance Agreement provides for an extended forbearance period for an additional year to August 2013 (the “Extended Forbearance Period”), if we satisfy certain forbearance extension conditions (the “Forbearance Extension Conditions”) within the Initial Forbearance Period.

The Forbearance Extension Conditions, which must be satisfied in order for the Extended Forbearance Period to become effective, are summarized as follows:

FIB must have received payments in the amount of either the tank storage fee or regular monthly payment, as applicable, during each of the twelve (12) months of the Initial Forbearance Period;

ii.

The services must have been completed under the Construction and Funding Contract; and

iii.

The Nixon facility must be operational and generating gross profits to the extent that FIB is receiving not only regular monthly payments, but also payments of its 50% portion of the Lazarus profit share (as determined under the Joint Marketing Agreement) in reduction of some portion of the arrearage.

During the Initial Forbearance Period and any Extended Forbearance Period, we will remain subject to the terms, conditions and covenants of the Refinery Loan, other than those that qualified as existing defaults at the time we entered into the Refinery Loan Forbearance Agreement.

If any Termination Event occurs, then FIB may terminate the Refinery Loan Forbearance Agreement at any time. Further, if the Forbearance Extension Conditions are not satisfied by August 12, 2012, then FIB may terminate the Refinery Loan Forbearance Agreement. If the Refinery Loan Forbearance Agreement is terminated, then FIB may be able to demand payment of all of the amounts owed under the Refinery Loan. Additionally, after all past due principal, interest, costs, fees and tax have been paid under the Refinery Loan Forbearance Agreement, LE is required to pay $83,333.33 per month for a period of twelve consecutive months to FIB in order to replenish the $1.0 million payment reserve required by the Refinery Loan Agreement. After all past due principal and interest (as well as costs, fees and taxes) have been paid, FIB will re-amortize the Refinery Loan, and it will have a maturity date of October 1, 2028.

As of March 31, 2012, no Termination Event had occurred and the Forbearance Extension Conditions had been complied with. We expect to remain in compliance with the Forbearance Extension Conditions for the foreseeable future.

Notre Dame Debt . LE obtained a loan in the original amount of $8,000,000 pursuant to a promissory note previously held by Notre Dame Investors, Inc. and currently held by John Kissick (the “Notre Dame Debt”). The note, which is currently in default, accrues interest at the default rate of 16% and is secured by a second lien on the refinery and general assets of LE. Interest was accrued on the note in the amount of $703,211 and $650,214 at March 31, 2012 and December 31, 2011, respectively.

In August 2011 LE entered into an intercreditor and subordination agreement under which Mr. Kissick, as second lienholder on the Nixon Facility, agreed to forebear his rights under the note evidencing the Notre Dame Debt for so long as amounts are outstanding on our more senior construction funding obligations. Further, in a letter agreement in August 2011, Mr. Kissick confirmed, acknowledged and agreed not to institute a suit or other proceeding against LE to foreclose upon any liens that have been established pursuant to the Notre Dame Debt or exercise any other rights or remedies pursuant to the promissory note under applicable law or otherwise so long as the Joint Marketing Agreement is in effect and has not been terminated. The Joint Marketing Agreement expires in August 2014.

As of March 31, 2012, the Joint Marketing Agreement was in effect and had not been terminated and LE expects that the Joint Marketing Agreement will remain in effect and will not be terminated in the foreseeable future. There are no financial covenants associated with this debt.

Construction Funding . In August 2011, a third-party committed funding for the completion of the Nixon Facility’s refurbishment and start-up operations. Payments commenced in the first quarter of 2012. Interest accrues at the rate of 6%. Interest was accrued on the financing in the amount of $94,409 and $23,578 at March 31, 2012 and December 31, 2011, respectively. There are no financial covenants associated with this debt.

Capital Leases . At March 31, 2012 and December 31, 2011, LE was obligated under various capital lease agreements for equipment totaling $3,320 and $6,237, respectively. The capital leases require monthly payments ranging from $164 to $2,559, including imputed interest at rates ranging from 8.50% to 13.39%, and maturing at various dates through February 2014. The assets and liabilities under capital leases are recorded at the lower of the present value of the minimum lease payments or the fair value of the assets. The assets are amortized over the lower of their related lease terms or their estimated productive lives.

The following is a summary of equipment held under capital leases:


	March 31, 2012		December 31, 2011
Cost	$	9,396	$	9,396
Less: Accumulated depreciation		3,837		3,602

	$	5,559	$	5,794

Amortization on assets under capital leases charged is included in depletion, depreciation and amortization expense in the consolidated statement of operations and was $235 and $1,456 for the three months ended March 31, 2012 and March 31, 2011, respectively.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

(Continued)

(11)

Income Taxes

Due to a change in control of Blue Dolphin, Section 382 of the Internal Revenue code imposes potential limitations on the use of our NOL carryovers. The amount of NOL subject to any such limitation is approximately $19.7 million. The NOL generated subsequent to the Acquisition, approximately $1.9 million, is not subject to any such limitation. For the three months ended March 31, 2012 we did not recognize any deferred tax asset related to such NOL’s due to the uncertainty of its use.

LE is an LLC and prior to the Acquisition its taxable income or loss flowed through to its individual member for federal and state income tax purposes. Blue Dolphin is a “C” corporation and is a taxable entity for federal and state income tax purposes. On Acquisition, LE became the legal subsidiary of Blue Dolphin and LE’s taxable income or loss flows through to Blue Dolphin for federal and state income tax purposes. As a result of the Acquisition, Section 382 of the Internal Revenue Code imposes a limitation on the use Blue Dolphin’s NOLs. For the three months ended March 31, 2012, we did not recognize any deferred tax assets resulting from our NOLs due to the uncertainty to the realization of our NOLs.

The State of Texas has a business tax that is imposed on gross margin revenue to replace its prior franchise tax regime. Although the Texas margins tax (“TMT”) is imposed on an entity’s gross profit revenue rather than on its net income, certain aspects of the tax make it similar to an income tax. At March 31, 2012 we accrued $30,563 in TMT.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

(Continued)

(12)

Commitments and Contingencies

Management Agreement

Pursuant to the Management Agreement, LEH receives as compensation for Services, the right to receive (i) weekly payments based on revenues from the sale of diesel blend stocks processed by the Nixon Facility not to exceed $750,000 per month, (ii) reimbursement for certain accounting costs related to the preparation of financial statements of LE not to exceed $50,000 per month, (iii) $0.25 for each barrel processed at the Nixon Facility during the term of the Management Agreement, up to a maximum quantity of 10,000 barrels per day determined on a monthly basis, and (iv) $2.50 for each barrel processed at the Nixon Facility during the term of the Management Agreement, to the extent the quantity exceeds 10,000 barrels per day determined on a monthly basis. We further agreed to reimburse LEH at cost for all reasonable expenses incurred while performing the Services. All compensation owed to LEH under the Management Agreement is to be paid to LEH within 30 days of the end of each calendar month. The Management Agreement expires upon the earliest to occur of (a) the date of the termination of the Joint Marketing Agreement between LE and a third party dated August 12, 2011, which has an initial term of three years and year-to-year renewals at the option of either party thereafter, (b) August 12, 2014, or (c) upon written notice of either party to the Management Agreement of a material breach of the Management Agreement by the other party. If the Management Agreement is renewed after the expiration of its initial term, then it will thereafter be reviewed on an annual basis by our Board of Directors (the “Board”) and it may be terminated if the Board determines that the Management Agreement is no longer in our best interests.

Legal Matters

Pursuant to a Settlement Agreement and Mutual Release dated February 15, 2012, by and among Blue Dolphin, LEH and Lazarus Louisiana Refinery II, LLC, the parties agreed to settle and compromise all disputes between them in connection with closing of the Acquisition. LEH agreed to file a non-suit with prejudice of all pending claims against Blue Dolphin under Cause No. 210-32561, styled Blue Dolphin Energy Company v. Lazarus Energy Holdings, L.L.C. and Lazarus Louisiana Refinery II, L.L.C. , in the 129 ^th District Court of Harris County, Texas (the “Lawsuit”). Blue Dolphin agreed that it will not execute or attempt to execute on an order that was signed on May 16, 2011 in the Lawsuit severing LEH’s counterclaims into Cause No. 2010-32561-A, which resulted in a Partial Summary Judgment becoming a final judgment in Blue Dolphin’s favor.

Environmental Matters

Our operations are subject to extensive and periodically changing federal and state environmental regulations governing air emissions, wastewater discharges and solid and hazardous waste management activities. Our policy is to accrue environmental and clean-up related costs of a non-capital nature when it is probable that a liability has been incurred and the amount can be reasonably estimated. Such estimates may be subject to revision in the future as regulations and other conditions change.

Periodically, we receive communications from various federal, state, and local governmental authorities asserting violations of environmental laws and/or regulations. These governmental entities may also propose or assess fines or require corrective action for these asserted violations. We intend to respond in a timely manner to all such communications and to take appropriate corrective actions. We do not anticipate that any such manners currently asserted will have a material adverse impact on our consolidated financial condition, results of operations or cash flows.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

(Continued)

(13)

Earnings Per Share

We apply the provisions of the ASC guidance for computing earnings per share. The guidance requires the presentation of basic earnings per share (“EPS”), which excludes dilution and is computed by dividing net income (loss) available to common stockholders by the weighted-average number of shares of common stock outstanding for the period. The guidance requires dual presentation of basic EPS and diluted EPS on the face of the unaudited condensed consolidated statement of operations and requires a reconciliation of the numerators and denominators of basic EPS and diluted EPS. Diluted EPS is computed by dividing net income (loss) available to common shareholders by the diluted weighted average number of common shares outstanding, which includes the potential dilution that could occur if securities or other contracts to issue common stock were converted to common stock that then shared in the earnings of the entity. Diluted EPS excludes all dilutive potential shares if their effect is anti-dilutive.

For the three months ended March 31, 2012, the weighted average number of common shares is computed as LE’s number of common shares outstanding from the beginning of the period to the date of the Acquisition date combined with Blue Dolphin’s number of common shares outstanding from the date of the Acquisition to the end of the period. For the three months ended March 31, 2011, the weighted average number of common shares is computed as LE’s number of common shares outstanding, which was one member unit.

The following table provides reconciliation between basic and diluted loss per share:


	Three Months Ended March 31,
	2012			2011
Net income (loss)	$	(1,969,894	)	$	218,392

Basic and Diluted
Weighted average number of shares of common stock outstanding and potential dilutive shares of common stock		5,324,410			1

Per share amount	$	(0.37	)	$	218,392

(14)

Stock Options

Following the Acquisition, the Compensation Committee approved the continuation of Blue Dolphin’s 2000 Stock Incentive Plan (the “Plan”). LE did not have any stock option plan. The Plan offers incentive awards to employees, including officers (whether or not they are directors), consultants and non-employee directors. The Plan was initially established by the Board on April 14, 2000 and approved by Blue Dolphin’s stockholders on May 18, 2000. The Plan was amended effective March 19, 2003 and ratified by Blue Dolphin’s stockholders on May 21, 2003 to increase the common stock available for issuance under the Plan from 500,000 shares to 650,000 shares (Amendment No. 1). The Plan was further amended effective April 5, 2007 and ratified by Blue Dolphin’s stockholders effective May 30, 2007 to increase the common stock available for issuance under the Plan from 650,000 shares to 1,200,000 shares (Amendment No. 2). Effective July 16, 2010, Blue Dolphin’s stockholders approved a 1-for-7 reverse-stock-split of its common stock, which reduced the number of shares of common stock available for issuance under the Plan from 1,200,000 shares to 171,128 shares (Amendment No. 3). Effective January 27, 2012, Blue Dolphin’s stockholders approved an amendment to the Plan to change the expiration date of the Plan from 10 to 20 years (to April 14, 2020), as well as increase the aggregate number of common stock available for issuance under the Plan from 171,128 shares to 1,000,000 shares (Amendment No. 4).

The Plan provides that upon a change in control, the Compensation Committee may: i) accelerate the vesting of options, cancel options and make payments in respect thereof in cash in accordance with the terms of the Plan, (ii) adjust the outstanding options as appropriate to reflect such change in control or (iii) provide that each option shall thereafter be exercisable for the number and class of securities or property that the optionee would have been entitled to receive had the option been exercised. The Plan provides that a change of control

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

(Continued)

occurs if any person, entity or group acquires or gains ownership or control of more 50% of the outstanding Common Stock or, if after certain enumerated transactions, the persons who were directors before such transactions cease to constitute a majority of the Board. Issuance of Common Stock to LEH in connection with the Acquisition resulted in a change in control under the Plan. The Compensation Committee of the Board approved the continuation of the Plan and determined that each option outstanding under the Plan would remain exercisable for the number and class of securities or property that the optionee was entitled to receive prior to the Acquisition. As of the Acquisition, all options granted under the Plan had vested.

Options granted under the Plan have contractual terms from 6 to 10 years. The exercise price of incentive stock options cannot be less than 100% of the fair market value of a share of our common stock determined on the grant date. Although the Plan provides for the granting of other incentive awards, only incentive stock options and non-statutory stock options have been issued under the Plan to date. The Plan is administered by the Compensation Committee of the Board.

Pursuant to the ASC guidance on accounting for stock based compensation, we estimate the fair value of stock options granted on the date of grant using the Black-Scholes-Merton option-pricing model. There were no stock options granted in the three months ended March 31, 2012.

At March 31, 2012, there were a total of 26,402 shares of common stock reserved for issuance upon exercise of outstanding options under the Plan. A summary of the status of stock options granted to key employees, officers and directors, for the purchase of shares of common stock for the periods indicated, is as follows:


	Shares			Weighted Average Exercise Price		Weighted Average Remaining Contractual Life		Aggregate Intrinisic Value
Options outstanding at December 31, 2011		28,887		$	13.29
Options granted		—		$	—
Options exercised		—		$	—
Options expired or cancelled		(2,485	)	$	—

Options outstanding at March 31, 2012		26,402		$	13.30		1.7	$	—

Options exercisable at March 31, 2012		26,402		$	13.30		1.7	$	—

The following table summarizes additional information about stock options outstanding at March 31, 2012:


	Options Outstanding						Options Exercisable
Range of Exercise Prices	Number Outstanding		Weighted Average Remaining Contractual Life (Years)		Weighted Average Exercise Price		Number Exercisable		Weighted Average Exercise Price
$2.45 to $5.60		10,118		1.0	$	3.06		10,118	$	3.06
$13.30 to $19.67		16,284		2.0	$	19.67		16,284	$	19.67

		26,402						26,402

We recognized no compensation expense for vested stock options for the three months ended March 31, 2012 and March 31, 2011. As of March 31, 2012, there was no unrecognized compensation cost related to non-vested stock options granted under the Plan.

We recognized $20,000 of expense related to the fair value issuance of restricted common stock to our independent directors as compensation for the three months ended March 31, 2012, respectively.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

Our quarterly report on Form 10-Q contains forward-looking statements that are based on management’s current expectations, estimates and projections related to our operations, the energy industry and other-related industries. Words such as “expect,” “plan,” “believe,” “anticipate,” “project,” “estimate” and similar expressions are intended to identify such forward-looking statements. These statements are not guarantees of future performance and are subject to certain risks, uncertainties and other factors, some of which are beyond our control and are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or forecasted in such forward-looking statements. It is not possible to identify all of these risks, uncertainties or assumptions. Among the important factors that could cause actual results to differ materially from those in the forward-looking statements are:

•

key supplier failure;

•

loss of market share with or by a key customer;

•

failure to comply with forbearance agreements relating to long-term indebtedness under which we are in default;

•

failure to realize the anticipated benefits of acquired operations;

•

volatility of refining margins;

•

market acceptance of our refined products;

•

performance of third-party operators;

•

potential downtime for maintenance and repairs;

•

environmental costs and liabilities associated with our operations;

•

related party transactions and ownership;

•

continued declines in throughput volumes and production rates from our Indonesian leasehold property;

•

our ability to offset revenue from one key customer; our ability to generate sufficient funds from operations or obtain financing from other sources;

•

changing crude oil, condensate or natural gas prices;

•

changes in reserve estimates;

•

local and regional events that may negatively affect our assets;

•

competition from larger companies;

•

acquisition expenses and integration difficulties;

•

operating hazards;

•

insurance coverage limitations;

•

retention and recruitment of key employees;

•

compliance with environmental and other regulations; and

•

the effects of greenhouse gas emissions regulation.

Additionally, the information set forth under the heading “Risk Factors” in Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2011, as well as disclosures made under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 2 of this report could cause actual results to differ materially from those in the forward-looking statements. Other unpredictable or unknown factors not discussed in this report could also cause actual results to differ materially from those in the forward-looking statements. The reader should not place undue reliance on these forward-looking statements, which speak only as of the date of this report. Unless legally required, we undertake no obligation to publicly update any forward-looking statements, whether as a result of new information, future events or otherwise.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

Executive Summary

We are engaged in three lines of business: (i) ownership of crude oil and condensate processing assets, (ii) pipeline transportation services to producer/shippers and (iii) oil and gas exploration and production.

Crude Oil and Condensate Processing Assets . Crude oil and condensate processing operations are conducted through our crude oil processing facility, located near Nixon, Texas (the “Nixon Facility”). The Nixon Facility, which has an operating capacity of approximately 15,000 barrels of oil per day, consists of tankage, a distillation unit, naphtha stabilizer, recovery facilities and the necessary utility systems. The standard refining process is complex and involves numerous stages to create final products. By contrast, the Nixon Facility is only involved in the first stage of the refining process. As a “topping unit,” the Nixon Facility separates crude oil and condensate into off-road diesel and jet fuel for sale into nearby markets, as well as naphtha and atmospheric gas oil for sale to nearby refineries for further processing. Crude oil and condensate is currently purchased under a supply agreement with a third-party gathering and distribution entity and delivered by truck. The Nixon facility also has the ability to receive crude oil and condensate via pipeline. Refined products are currently sold and delivered by truck. All of our crude oil and condensate processing assets are owned by our wholly-owned subsidiary, Lazarus Energy, LLC (“LE”). The Nixon Facility is currently processing 10,000 barrels of oil per day.

Pipeline Operations . We gather and transport oil and natural gas for producers/shippers operating offshore in the vicinity of our pipelines in the U.S. Gulf of Mexico and charge a fee based on anticipated throughput volumes. For oil, onshore transportation, facilities services, such as storage, and sale are handled by a third-party. We handle the sale of gas through a chemical plant complex and intrastate pipeline system tie-in. All of our pipeline assets are held by and the business conducted by our wholly-owned subsidiary, Blue Dolphin Pipeline Company. Unless otherwise stated herein, all gas liquid volumes transported are attributable to production from third-party producers/shippers.

The following provides a summary of our pipeline assets:


Pipeline Segment	Market	Undivided Ownership Interest	Miles of Pipeline	Capacity (MMcf/d)
BDPS	Gulf of Mexico	83 ¹ / 3 %	38	180
GA 350	Gulf of Mexico	83 ¹ / 3 %	13	65
Omega	Gulf of Mexico	83 ¹ / 3 %	18	110

•

Blue Dolphin Pipeline System (“BDPS”) – The BDPS spans approximately 38 miles and runs from Galveston Area Block 288 offshore to our onshore facilities and the Dow Chemical Plant Complex in Freeport, Texas. The BDPS has an aggregate capacity of approximately 180 MMcf of gas and 7,000 Bbls of crude oil and condensate per day. The BDPS is currently transporting an aggregate of approximately 1 MMcf of gas per day, which represents less than 1% of throughput capacity.

The BDPS includes: (i) approximately 188 acres of land in Brazoria County, Texas where the Blue Dolphin Pipeline comes ashore and where the BDPS’ onshore facilities, pipeline easements and rights-of-way are located, (ii) an offshore platform and (iii) the Blue Dolphin Pipeline. The BDPS gathers and transports oil and gas from various offshore fields in the Galveston Area of the U.S. Gulf of Mexico to our onshore facilities located in Freeport, Texas. The oil is processed, stored and sold by a third-party. The gas is transported to the Dow Chemical Plant Complex and a major intrastate pipeline system with further downstream tie-ins to other intrastate and interstate pipeline systems and end users.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

•

Galveston Area Block 350 Pipeline (the “GA 350”) – The GA 350 is an 8-inch, 13 mile offshore pipeline extending from Galveston Area Block 350 to an interconnect with a transmission pipeline in Galveston Area Block 391 located approximately 14 miles south of the Blue Dolphin Pipeline. Current system capacity on the GA 350 is 65 MMcf of gas per day. The GA 350 is currently transporting an aggregate of approximately 4 MMcf of gas per day, which represents approximately 6% of throughput capacity.

•

Omega Pipeline (the “Omega”) – The Omega originates in the High Island Area, East Addition Block A-173 and extends to West Cameron Block 342, where it was previously connected to the High Island Offshore System. The Omega is currently inactive. Reactivation of the Omega is dependent upon future drilling activity in the vicinity and successfully attracting producer/shippers to the system.

Exploration and Production . Our oil and gas exploration and production activities include leasehold interests in properties located in the U.S. Gulf of Mexico and the North Sumatra Basin offshore Indonesia. Our leasehold interests, which are held by and the business conducted by our wholly-owned subsidiary, Blue Dolphin Petroleum Company, are subject to royalty and overriding royalty interests. We evaluate and manage oil and gas properties by considering geology, reserve life and hydrocarbon mix based on seismic and other data.

The following provides a summary of our oil and gas assets:


Field	Operator	Interest

Indonesia:

North Sumatra Basin-Langsa Field	Blue Sky Langsa, Ltd.	7% WI, 5.20625% NRI (+ reversion)

U.S. Gulf of Mexico:
High Island Block 115	Rooster Petroleum, LLC	2.5% WI, 2.008% NRI
Galveston Area Block 321	Black Elk Energy Offshore Operations LLC	0.5% ORRI
High Island Block 37	Hilcorp Energy Company	2.88% WI, 2.246% NRI

•

North Sumatra Basin-Langsa Field – Located offshore Indonesia, the North Sumatra Basin-Langsa Field covers approximately 77 square kilometers and contains two oil fields – the “L” Field and the “H” Field. Four wells have been completed in each field. All four wells in the “L” Field were shut-in following unsuccessful attempts to raise capital for well remedial programs. In the “H” Field, two of the wells were plugged and abandoned, one was suspended due to formation pressure and one (the H-4 Well) is currently producing. The wells are completed subsea in 325 feet of water and productive via flexible pipelines to a Floating Production Storage and Offloading barge. The H-4 Well is currently producing approximately 360 barrels of oil per day.

Although our fully impaired U.S. Gulf of Mexico oil and gas properties may continue to operate over the next twelve to eighteen months, we expect the operating costs of the properties to exceed gross revenues based on current reserves and net cash flow estimates making these properties uneconomical.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Results of Operations

Three Months Ended March 31, 2012 Compared to Three Months Ended March 31, 2011

Blue Dolphin acquired LE effective February 15, 2012. Under reverse acquisition accounting LE (the legal subsidiary) has been treated as the accounting parent (acquirer) and Blue Dolphin (the legal parent) has been treated as the accounting subsidiary (acquiree). Accordingly, the financial statements subsequent to the date of the transaction are presented as the continuation of LE. LE’s operations, the primary asset of which is the Nixon Facility, had no operations during the three months ended March 31, 2011. The Nixon Facility began operations on a reduced basis in February 2012 and operated for a total of 60 days during the three months ended March 31, 2012 (the “current quarter”) during which time we calibrated our equipment and adjusted the refining process.

For the current quarter, we reported a net loss of $1,969,894 on total revenue of $46,041,213. The bulk of our revenue came from the Nixon Facility, which generated revenue of $45,770,963 in the current quarter. Throughput increased consistently during the current quarter from an initial rate of approximately 7,500 barrels of oil per day to approximately 10,000 barrels of oil per day. Management anticipates that the Nixon Facility may approach its operating capacity throughput on a consistent basis by the second half of 2012, during which time management will also look to optimize its operations through: (i) the reduction of its crude oil and condensate acquisition cost; (ii) the type, yield, quality and consistency of the products produced and (iii) its ability to capture market opportunities through logistics and fine-tuning of an evolving market and customer base.

We recorded Nixon Facility operating expenses of $2,445,437 in the current quarter, of which $1,379,831 was primarily related to fuel costs. In addition, we incurred $1,065,606 relating to Services provided by LEH to manage and operate the Nixon Facility. Once the Nixon Facility completes refurbishment of additional equipment, we will significantly reduce our fuel cost through our own fuel production and/or through the purchase of natural gas.

Depletion, depreciation, and amortization increased from $4,308 in the first quarter of 2011 to $275,107 in the current quarter primarily as a result of depreciation of constructed equipment at the Nixon Facility and pipeline assets.

General and administrative expenses increased from $113,328 in the first quarter of 2011 to $525,587 in the current quarter. The expenses in the current quarter were primarily related to leased corporate personnel costs, stock maintenance fees, consulting, legal, audit and office expenses.

We recognized $93,955 in net tank rental revenue in the current quarter compared to $342,745 in the same quarter last year. This decline was driven by expiring contracts and the use of our tanks for our own operations. In the future, we do not expect net tank rental revenue at the Nixon Facility to be a significant source of income for our business.

Also see Note (4) to our condensed consolidated financial statements for additional information regarding the results of operations of our business sections in the current quarter as compared to the first quarter of 2011.

Sources and Uses of Cash . Our primary source of cash is cash on hand, tank rental income and advances for construction funding. During the current quarter, we had negative cash flow from operations of $1,581,212, primarily due to the limited operations of the Nixon Facility during its refurbishment in the current quarter. We received proceeds of $2,364,010 from our construction funding during the current quarter.

Management assesses our liquidity by our ability to generate cash to fund our operations. Significant factors in the management of liquidity are: funds generated by operations; levels of accounts receivable, inventories, accounts payable and capital expenditures; adequate credit facilities; and financial flexibility to attract long-term capital on satisfactory terms. We anticipate being able to support our short-term liquidity and operating needs for the remainder of 2012 largely through cash generated from operations at the Nixon Facility.

Our capital expenditures in the current quarter were $1,346,477, all of which were related to refurbishment of the Nixon Facility. These expenditures included repair costs, construction and commissioning of pumps, motors, lines, tanks, vessels and processing units at the Nixon Facility. We expect to fund additional capital expenditures at the Nixon Facility primarily from our construction funding agreement. The principal balance owed on the construction funding was $5,683,204 and $3,319,193 at March 31, 2012 and December 31, 2011, respectively.

The principal balance outstanding on the Refinery Loan, which is currently in default, was $9,669,173 and $9,669,173 at March 31, 2012 and December 31, 2011, respectively. As of March 31, 2012, no Termination Event had occurred and we had satisfied the Forbearance Extension Conditions and we expect to remain in compliance with the Forbearance Extension Conditions for the foreseeable future. After all past due principal, interest, costs, fees and tax have been paid under the Refinery Loan Forbearance Agreement, LE is required to pay $83,333.33 per month for a period of twelve consecutive months to FIB in order to replenish the $1.0 million payment reserve required by the Refinery Loan Agreement. After all past due principal and interest (as well as costs, fees and taxes) have been paid, FIB will re-amortize the Refinery Loan, and it will have a maturity date of October 1, 2028.

The principal balance outstanding on the Notre Dame Debt note, which is currently in default, was $1,300,000 at March 31, 2012 and December 31, 2011. There are no financial covenants associated with this debt.

For a more detailed description of our forbearance arrangements relating to the Refinery Loan and Notre Dame Debt, see Note (10), Long-Term Debt, to our condensed consolidated financial statements.

We do not currently enter into any hedges or any type of derivatives to offset changes in commodity prices.

At March 31, 2012, our current available cash was $1,109,821.


	Three Months Ended March 31,
	2012			2011
Cash flow from operations
Adjusted income (loss) from operations	$	(1,642,563	)	$	231,149
Change in current assets and liabilities		61,351			(4,766	)

Total cash flow from operations		(1,581,212	)		226,382
Cash inflows (outflows)
Proceeds from issuance of debt		2,364,010			—
Cash acquired on Acquisition		1,674,594			—
Capital expenditures		(1,346,477	)		(216,458	)
Payments on note payable		(2,916	)		(10,417	)

Total cash inflows (outflows)		2,689,211			(226,875	)

Total change in cash flows	$	1,107,999		$	(492	)

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Item 3.

Quantitative and Qualitative Disclosure About Market Risk

Commodity Price Risk . We are exposed to market risks related to the volatility of crude oil and refined product prices. Our net sales fluctuate significantly with movements in refined product prices. The spread between crude oil and refined product prices is the primary factor affecting our earnings and cash flows from operations. The cost to acquire feedstocks and the price of the refined products that we ultimately sell depends on numerous factors beyond our control. These factors include the supply of and demand for crude oil, gasoline, off-road diesel and other refined products. Supply and demand for these products depend on changes in domestic and foreign economies; weather conditions; domestic and foreign political affairs; production levels; availability of imports and exports; marketing of competitive fuels; and government regulation. As a result of these influences, refining margins may exhibit extreme volatility.

In order to manage the uncertainty relating to inventory price volatility, we have generally applied a policy of maintaining inventories at or below a targeted operating level.

Item 4.

Controls and Procedures

Evaluation of Disclosure Controls and Procedures

As of the end of the period covered by this report, we carried out an evaluation under the supervision and with the participation of our management, including our Principal Executive Officer and Principal Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act). Based upon this evaluation, as of March 31, 2012, our Principal Executive Officer and Principal Financial Officer concluded that our disclosure controls and procedures were effective to ensure that information required to be disclosed by us in reports that we file or submit under the Exchange Act, are recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and that such information is accumulated and communicated to our management, including our Principal Executive Officer and Principal Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Changes in Internal Controls over Financial Reporting

On February 15, 2012, we acquired LE through a reverse acquisition. Our management is analyzing, evaluating and, where necessary, implementing changes in controls and procedures. Due to the significance of this acquisition and the limited period of time since the acquisition date, we did not have sufficient resources available to assess the internal controls of LE for the quarter ended March 31, 2011. Therefore, we excluded LE from our evaluation of internal controls over financial reporting contained in this quarterly report. However, management considers the LE acquisition material to our results of operations, cash flows and financial positions and believes that the disclosure controls and procedures of LE will have a material effect on internal controls over financial reporting. LE will be included in the overall assessment of, and report on, internal controls over financial reporting as of December 31, 2012.

Remainder of Page Intentionally Left Blank

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

PART II. OTHER INFORMATION

Item 1.

Legal Proceedings

Pursuant to a Settlement Agreement and Mutual Release dated February 15, 2012, by and among Blue Dolphin, Lazarus Energy Holdings, LLC (“LEH”) and Lazarus Louisiana Refinery II, LLC, the parties agreed to settle and compromise all disputes between them in connection with closing of the Acquisition. LEH agreed to file a non-suit with prejudice of all pending claims against Blue Dolphin under Cause No. 210-32561, styled Blue Dolphin Energy Company v. Lazarus Energy Holdings, L.L.C. and Lazarus Louisiana Refinery II, L.L.C. , in the 129 ^th District Court of Harris County, Texas (the “Lawsuit”). Blue Dolphin agreed that it will not execute or attempt to execute on an order that was signed on May 16, 2011 in the Lawsuit severing LEH’s counterclaims into Cause No. 2010-32561-A, which resulted in a Partial Summary Judgment becoming a final judgment in Blue Dolphin’s favor.

From time to time we are subject to various lawsuits, claims and administrative proceedings that arise out of the normal course of business. We do not expect that the legal proceedings in which we are currently involved will individually or in the aggregate have a significant impact on our business, financial condition, results of operations or liquidity.

Item 1A.

Risk Factors

We have updated risk factors affecting our business since those presented in Part I, Item 1A in our Annual Report on Form 10-K for the year ended December 31, 2011 (the “Annual Report”). Except for the additions below, there have been no material changes in our assessment of our risk factors from those set forth in our Annual Report.

Failure by a significant supplier to provide crude oil and condensate for processing may adversely affect our operations.

We currently rely on a single supplier for crude oil and condensate for processing into refined products. We are therefore dependent on this supplier to be able and willing to deliver crude oil and condensate for our processing activities. The failure of this supplier to deliver crude oil and condensate will adversely affect our business and financial results.

Loss of market share with or by a key customer, or consolidation among our customer base, could harm our operating results.

During the quarter ended March 31, 2012, a large percentage of our revenue, 43%, came from sales to our top two customers. These customers have a variety of suppliers to choose from and therefore can make substantial demands on us, including demands on product pricing and on contractual terms, which often results in the allocation of risk to us as the supplier. Our ability to maintain strong relationships with our principal customers is essential to our future performance. If we lose a key customer, if any of our key customers reduce their orders of our refined products or require us to reduce our prices before we are able to reduce costs, if a customer is acquired by one of our competitors or if a key customer suffers financial hardship, our operating results would likely be harmed.

Additionally, if there is consolidation among our customer base, our customers may be able to command increased leverage in negotiating prices and other terms of sale, which could adversely affect our profitability. In addition, if, as a result of increased leverage, customer pressures require us to reduce our pricing such that our gross margins are diminished, we could decide not to sell our refined products to a particular customer, which could result in a decrease in our revenue. Consolidation among our customer base may also lead to reduced demand for our products, replacement of our products by the combined entity with those of our competitors and cancellations of orders, each of which could harm our operating results.

We are currently in default under certain of our long-term debt and are operating under forbearance agreements. Our failure to comply with provisions contained in the forbearance agreements, including as a result of events beyond our control, could materially and adversely affect our operating results and our financial condition.

We entered into forbearance agreements related to certain notes payable classified as long-term debt that require us to satisfy certain conditions in order to receive extensions under the forbearance agreements. If the forbearance agreement conditions are not met, the lender(s), or their assignees, could cause all amounts outstanding with respect to the notes to be due and payable immediately. We cannot assure that our assets or cash flow would be sufficient to fully repay borrowings under our outstanding notes payable, either upon maturity or if accelerated, or that we would be able to refinance or restructure the payments on the notes payable. If the senior lender does not agree to extend the forbearance period, then the senior lender may exercise any rights and remedies available under the loan agreement and applicable law including, without limitation, foreclosing on our assets. Any such action by our senior secured lender would have a material adverse effect on our financial condition and ability to continue as a going concern.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

None.

Item 3.

Defaults Upon Senior Securities

None.

Item 4.

Mine Safety Disclosures

Not applicable.

Item 5.

Other Information

None.

Item 6.

Exhibits

(a)

Exhibits:

The following exhibits are filed herewith:


10.1		Loan Agreement dated September 29, 2008 among 1 ^st International Bank as Lender, Lazarus Energy LLC as Borrower and Jonathan Pitts Carroll, Sr. and Lazarus Energy Holdings LLC as Guarantors.
10.2		Subordination Agreement effective August 21, 2008 by Notre Dame Investors, Inc. in favor of First International Bank.
10.3		Intercreditor and Subordination Agreement dated September 29, 2008 by and between Notre Dame Investors, Inc., Richard Oberlin, Lazarus Energy LLC and First International Bank.

10.4		Letter Agreement dated September 12, 2011 between GEL Tex Marketing, LLC, Milam Services, Inc., 1 ^st International Bank, Lazarus Energy LLC and Lazarus Energy Holdings LLC.

10.5		Forbearance Agreement dated August 12, 2011 by and among 1 ^st International Bank, Lazarus Energy LLC, Jonathan P. Carroll, Gina L. Carroll, Lazarus Energy Holdings, LLC, GEL Tex Marketing, LLC and Milam Services, Inc.

10.6		Promissory Note between Lazarus Energy LLC as maker and Notre Dame Investors Inc. as Payee in the Principal Amount of $8,000,000 dated June 1, 2006.

10.7		Intercreditor and Subordination Agreement dated August 12, 2011 by and among John H. Kissick, Lazarus Energy LLC and Milam Services, Inc.

31.1		Jonathan P. Carroll Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to section 302 of the Sarbanes-Oxley Act of 2002.

31.2		Tommy L. Byrd Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to section 302 of the Sarbanes-Oxley Act of 2002.

32.1		Jonathan P. Carroll Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002.

32.2		Tommy L. Byrd Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002.

101.INS		XBRL Instance Document.

101.SCH		XBRL Taxonomy Schema Document.

101.CA		XBRL Calculation Linkbase Document.

101.LAB		XBRL Label Linkbase Document.

101.PRE		XBRL Presentation Linkbase Document.

101.DEF		XBRL Definition Linkbase Document.

BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES

SIGNATURES

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.


				By: BLUE DOLPHIN ENERGY COMPANY

May 21, 2012				/s/ JONATHAN P. CARROLL
				Jonathan P. Carroll Chief Executive Officer, President, Assistant Treasurer and Secretary (Principal Executive Officer)

May 21, 2012				/s/ TOMMY L. BYRD
				Tommy L. Byrd Interim Chief Financial Officer, Treasurer and Assistant Secretary (Principal Financial Officer)

Exhibit 10.1

LOAN AGREEMENT

AMONG

1 ^ST INTERNATIONAL BANK

as Lender

LAZARUS ENERGY LLC

as Borrower

and

JONATHAN PITTS CARROLL, SR.

LAZARUS ENERGY HOLDINGS LLC

as Guarantors

September 29 ^. , 2008


LOAN AGREEMENT		Page 1

LOAN AGREEMENT

This Loan Agreement (this “Agreement”) is made and entered this 29 ^1- Alay of September, 2008, by and among 1s ^t International Bank (“Lender”), Lazarus Energy LLC, a Delaware limited liability company (“Borrower”), and Jonathan Pitts Carroll, Sr. and Lazarus Energy Holdings LLC, a Delaware limited liability company (“Guarantor”, whether one or more). In the event the terms and provisions of this Agreement conflict with or are inconsistent with the provisions of the Loan Documents, as herein defined, the terms and provisions of this Agreement will control.

Article 1 Definitions.

1.1

Certain Defined Terms.

Unless a particular term, word or phrase is otherwise defined or the context otherwise requires, capitalized terms, words and phrases used herein shall have the following meanings (all definitions that are defined in this Agreement in the singular to have the same meanings when used in the plural and vice versa):

Affiliate shall mean any Person controlling, controlled by or under common control with any other Person. 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 Person, whether through the ownership of voting securities or otherwise.

Agreement shall mean this Loan Agreement, as it may from time to time be amended, modified, restated or supplemented.

Annual Audited Financial Statements shall mean the annual audited financial statements of a Person, including all notes and supporting schedules thereto, for a fiscal year of such Person, which statements shall include, at a minimum, a balance sheet as of the end of such fiscal year, an income statement, a statement of cash flows, a profit and loss statement showing the result of operations for such fiscal year, and a reconciliation of surplus, each for such fiscal year, all setting forth in comparative form the corresponding figures from the previous fiscal year, all prepared in conformity with GAAP, accompanied by the auditor’s notes and audited with no qualifications and reported upon by a firm of independent certified public accountants acceptable to Lender which shall state, in writing, that such financial statements, in the opinion of such accountants present fairly the financial position of such Person as of the date thereof and the results of its operations for the period covered thereby in conformity with GAAP. Such statements shall include a statement by such accountants that in making the appropriate audit and/or investigation in connection with such report and opinion, such accountants did not become aware of any Default relating to the financial tests set forth in Section 4.2 hereof or, if in the opinion of such accountant any such Default exists, a description of the nature and status thereof.

Bankruptcy Code shall mean the United States Bankruptcy Code, as amended, and any successor statute.


LOAN AGREEMENT		Page 2

Business Day shall mean any day other than a Saturday or Sunday or a legal holiday on which commercial banks are authorized or required to close in Plano, Texas.

Closing Date shall mean September 29, 2008.

Code shall mean the Internal Revenue Code of 1986, as amended, as now or hereafter in effect, together with all regulations, rulings and interpretations thereof or thereunder by the Internal Revenue Service.

Collateral means all Property, tangible or intangible, real, personal or mixed, now or hereafter subject to the Security Documents, as more particularly described in Exhibit “A” attached hereto.

Commercial Land shall mean that certain real property located at 11372 Highway 87 East, Nixon, Wilson County, Texas, as more particularly described on Exhibit “A-1” attached hereto and made a part hereof.

Conditional Commitment shall mean United States Department of Agriculture Form 42793, Conditional Commitment (Business and Industry) issued on or about June 27, 2008 by RBS in connection with the Loan (Case No. 51-047-134321870), as same may be amended from time to time.

Construction Rider shall mean that certain “Construction Rider To Loan Agreement” attached hereto, as it may from time to time be amended, modified, restated or supplemented. The Construction Rider is hereby incorporated by reference herein.

Current Assets shall mean all assets which in accordance with GAAP would be included in “current assets.”

Current Liabilities shall mean all Debt which in accordance with GAAP would be included as “current liabilities.”

Current Ratio shall mean the ratio of Current Assets to Current Liabilities.

Debt shall mean and include, without duplication, (a) all items which in accordance with GAAP would be included on the liability side of a balance sheet on the date as of which Debt is to be determined (excluding capital stock, surplus, surplus reserves and deferred credits); (h) all guaranties, letter of credit, contingent reimbursement obligations and other contingent obligations in respect of, or any obligations to purchase or otherwise acquire, indebtedness of others, (c) the redemption amount with respect to any equity interest required to be redeemed, and (d) all indebtedness secured by any Lien existing on any interest of the Person with respect to which Debt is being determined in Property owned subject to such Lien whether or not the indebtedness secured thereby shall have been assumed; provided, that the term “Debt” shall not mean or include any indebtedness in respect of which monies sufficient to pay and discharge the same in full (either on the expressed date of maturity thereof or on such earlier date as such indebtedness may be duly called for redemption and payment) shall be deposited with a depository, agency or trustee acceptable to Lender in trust for the payment thereof.


LOAN AGREEMENT		Page 3

Debt to Worth Ratio shall mean for any period the ratio of Total Liabilities of the Borrower divided by the Tangible Net Worth of the Borrower.

Default shall mean an event which with notice or lapse of time or both would, unless cured or waived, become an Event of Default.

Disbursement Account shall mean a non-interest bearing account in Lender’s or its designee’s name in a financial institution selected by Lender.

Environmental Claim means any third party (including Governmental Authorities and employees) action, lawsuit, claim or proceeding (including claims or proceedings at common law or under the Occupational Safety and Health Act or similar laws relating to safety of employees) which seeks to impose liability for (i) noise; (ii) pollution or contamination of the air, surface water, ground water or land or the cleanup of such pollution or contamination; (iii) solid, gaseous or liquid waste generation, handling, treatment, storage, disposal or transportation; (iv) exposure to Hazardous Substances; (v) the safety or health of employees; or (vi) the manufacture, processing, distribution in commerce or use of Hazardous Substances. An “Environmental Claim” includes, but is not limited to, a common law action, as well as a proceeding to issue, modify or terminate an Environmental Permit, or to adopt or amend a regulation to the extent that such a proceeding attempts to redress violations of an applicable permit, license, or regulation as alleged by any Governmental Authority.

Environmental Liabilities includes all liabilities arising from any Environmental Claim, Environmental Permit or Requirement of Environmental Law under any theory of recovery, at law or in equity, and whether based on negligence, strict liability or otherwise, including but not limited to: remedial, removal, response, abatement, investigative, monitoring, personal injury and damage to property or injuries to persons, and any other related costs, expenses, losses, damages, penalties, fines, liabilities and obligations, and all costs and expenses necessary to cause the issuance, reissuance or renewal of any Environmental Permit including attorneys’ fees and court COS is .

Environmental Permit means any permit, license, approval or other authorization under any applicable Legal Requirement relating to pollution or protection of health or the environment, including laws, regulations or other requirements relating to emissions, discharges, releases or threatened releases of pollutants, contaminants or hazardous substances or toxic materials or wastes into ambient air, surface water, ground water or land, or otherwise relating to the manufacture, processing, distribution, use, treatment, storage, disposal, transport, or handling of pollutants, contaminants or Hazardous Substances.

Environmental Reserve Account shall mean the reserve account established by virtue of that certain “Environmental Reserve Agreement” of even date herewith by and between the Borrower and the Lender.

Event of Default shall have the meaning assigned to it in Section 7.1 hereof.

Financing Statements means all such Uniform Commercial Code financing statements as Lender shall require, in Proper Form to give notice of and to perfect or continue perfection of Lender’s Liens in all Collateral.


LOAN AGREEMENT		Page 4

GAAP shall mean, as to a particular Person, such accounting practice as, in the opinion of independent certified public accountants of recognized national standing, conforms at the time to generally accepted accounting principles, consistently applied. In addition, GAAP means those principles and practices (a) which are recognized as such by the Financial Accounting Standards Board; and (b) which are consistently applied for all periods after the Closing Date so as to reflect properly the financial condition, and results of operations and changes in financial position, of such Person. If any change in any accounting principle or practice is required by the Financial Accounting Standards Board in order for such principle or practice to continue as GAAP, all reports and financial statements required hereunder may be prepared in accordance with such change. Notwithstanding the foregoing, as to individuals only, GAAP means such accounting principles and practices as, in the opinion of such accountants, conform at the time to such individual’s federal income tax basis of accounting, consistently applied.

Governmental Authority shall mean any foreign governmental authority, the United States of America, any State of the United States and any political subdivision of any of the foregoing, and any central bank, agency, department, commission, board, bureau, court or other tribunal having jurisdiction over Lender, Borrower, Guarantor, any Party or their respective Property.

Guaranty shall mean collectively all guaranties dated as of the Closing Date in Proper Form executed by the Guarantor in favor of Lender, as any of the same may from time to time be amended, modified, restated, supplemented or substituted.

Guarantor shall mean each of Jonathan P. Carroll and Lazarus Energy Holdings LLC, a Delaware limited liability company.

Hazardous Substance shall mean petroleum products, and any hazardous or toxic waste or substance defined or regulated as such from time to time by any law, rule, regulation or order described in the definition of “Requirements of Environmental Law”.

Improvements shall mean all buildings and other improvements now or hereafter placed on the Commercial Land, as well as all appurtenances, betterments and additions thereto; all and singular the rights, privileges, hereditaments, and appurtenances in any wise incident or appertaining to said Land and improvements, including, without limitation, any and all rights to the present or future use of waste water, waste water capacity, drainage, water or other utility facilities to the extent same pertain to or benefit said Land or the improvements located thereon, including, without limitation, all reservations of or commitments or letters covering any such use in the future whether now owned or hereafter acquired.

Key Agreements means all contracts, permits, licenses and other rights acquired by a Person or to which such Person is a party or by which such Person is bound and from time to time material to the ownership of assets or the operations of such Person.

Legal Requirement shall mean any law, statute, ordinance, decree, requirement, order, judgment, rule, or regulation (or interpretation of any of the foregoing) of, and the terms of any license or permit issued by, any Governmental Authority, whether presently existing or arising in the future, including, without limitation, any Requirements of Environmental Law.


LOAN AGREEMENT		Page 5

Lender means the Lender named in the first paragraph of this Agreement and its successors and assigns, in whole or in part.

Lien shall mean any mortgage, pledge, charge, encumbrance, security interest, collateral assignment or other lien whether based on common law, constitutional provision, statute or contract.

Loan shall mean the loan provided for in Section 2.1 hereof.

Loan Documents shall mean, collectively, the Note, the Guaranty, this Agreement, the Security Documents, the authorization agreement for automatic drafts (if required by Lender), and all other documents prepared and/or executed in connection with the Loan, each dated as of the Closing Date, and all instruments, certificates and agreements now or hereafter executed or delivered to Lender pursuant to any of the foregoing or in connection with the Obligations or any commitment regarding the Obligations, and all amendments, modifications, renewals, extensions, increases and rearrangements of, and substitutions for, any of the foregoing. The term “Loan Documents” shall also include each and every Affidavit of Borrower, Application for Advance, and Approved Budget, as those terms are defined in the Construction Rider.

Material Adverse Effect means a material adverse effect upon (a) the financial condition, business, operations, assets or prospects of the Borrower or Guarantor, (b) the ability of Borrower, Guarantor, or any other Party to perform its respective obligations under any of the Loan Documents or (c) the ability of Lender to enforce any of the Loan Documents against Borrower, Guarantor, or any other Party.

Maximum Rate shall mean, with respect to each holder hereof, the maximum nonusurious interest rate, if any, that at any time, or from time to time, may under applicable law be contracted for, taken, reserved, charged or received on the indebtedness evidenced by this Note under the laws which are presently in effect of the United States and the State of Texas applicable to such holder and such indebtedness or, to the extent allowed by law under such applicable laws of the United States of America and the State of Texas which may hereafter be in effect, which allow a higher maximum non-usurious interest rate than applicable laws now allow; provided, that in determining the Maximum Rate, due regard shall be given, to the extent required by applicable law, to any and all relevant payments, fees, charges, deposits, balances, agreements and calculations which may constitute or be deemed to constitute interest, or be deducted from principal to calculate the interest rate or otherwise affect interest rate determinations, so that in no event shall the Lender contract for, charge, receive, take, collect, reserve or apply, on the Note, any amount in excess of the maximum non-usurious rate of interest permitted by applicable law. To the extent that Texas law determines the Maximum Rate, the Maximum Rate shall be determined by utilizing the “indicated rate ceiling” from time to time in effect pursuant to the Texas Finance Code (V .T.0 .A. Finance Code Section 303.001 et seq.) (the “Texas Finance Code”) or such successor statute, as then in effect, governing usury. The Maximum Rate shall not be limited to the applicable rate ceiling in the Texas Finance Code or such successor statute if Federal laws or other state laws now or hereafter in effect and applicable to the Note (and the interest contracted for, charged and collected hereunder) shall permit a higher rate of interest.

Net Operating Income shall mean the gross income received by Borrower for the period in question, less the expenses incurred by Borrower that are allocable to such period computed without regard to taxes, depreciation, amortization, or interest on the Note but otherwise in accordance with GAAP.


LOAN AGREEMENT		Page 6

Net Worth shall mean Total Assets minus Total Liabilities.

Note shall mean that certain adjustable rate promissory note dated as of the Closing Date, the form of which is attached hereto and incorporated by reference herein as Exhibit “B” , made and executed by Borrower payable to the order of Lender in the original principal amount of Ten Million and 00/100 Dollars ($10,000,000.00), and all modifications, renewals, extensions, increases and rearrangements of, and substitutions for, such promissory note.

Obligations shall mean, as at any date of determination thereof, the sum of the following: (i) any and all sums, including principal, interest, expenses, Prepayment Consideration (as defined in the Note), court costs and attorneys’ fees called for in the Note, plus (ii) all other agreements, covenants, conditions, warranties, representations, liabilities, obligations and indebtedness of any Party now or hereafter created or incurred, in whole or in part, under this Agreement or any other Loan Document, plus (iii) all other debts of any kind and character now or hereafter owing by Borrower to the Lender and whether they be direct obligations arising out of a guaranty, endorsement, suretyship or otherwise, or whether they be joint, several or indirect, and whether they were heretofore or are hereafter purchased or acquired and any and all amendments, modifications, renewals, extensions, increases, or rearrangements in whole or in part of any of the above. Obligations herein shall not include those owed by any Guarantor herein outside those created by the Loan Documents.

Organizational Documents shall mean, with respect to a corporation, the certificate of incorporation, articles of incorporation and bylaws of such corporation; with respect to a limited liability company, the articles of organization, the limited liability company operating agreement and the regulations of such limited liability company; with respect to a partnership, the partnership agreement establishing such partnership and the certificate of limited partnership as to any limited partnership; with respect to a joint venture, the joint venture agreement establishing such joint venture; and, with respect to a trust, the instrument establishing such trust; in each case including any and all modifications thereof as of the date of the Loan Document referring to such Organizational Document and any and all future modifications thereof.

Parties shall mean Borrower, Guarantor, and any other party (other than Lender) executing any Loan Document.

Payment Reserve Account shall mean the reserve account established by virtue of that certain “Payment Reserve Agreement” of even date herewith by and between the Borrower and the Lender.

Person shall mean any individual, corporation, limited liability company, partnership, joint venture, joint stock association, business trust, other business entity, trust, unincorporated organization, Governmental Authority or any other form of entity.

Proper Form shall mean in form and substance reasonably satisfactory to Lender.


LOAN AGREEMENT		Page 7

Property shall mean any interest in any kind of property or asset, whether real, personal or mixed, tangible or intangible.

Quarterly Financial Statements shall mean the quarterly financial statements of a Person, including all notes and supporting schedules thereto, which statements shall include a business balance sheet, an income statement, a statement of cash flow, and any supporting statements for such quarter and for the fiscal year to date, all setting forth in comparative form the corresponding figures for the corresponding calendar quarter of the preceding year, prepared in accordance with GAAP and certified as fairly reflecting the financial condition of such Person as of the date thereof and for the period covered thereby, subject to normal year end adjustments, by the Chief Financial Officer or President of such Person.

RBS shall mean The United States of America acting by and through its agency, the Rural Business Cooperative Service, United States Department of Agriculture, or its successor agency.

RBS Documents shall mean all of the following duly executed by or on behalf of the parties thereto and in Proper Form:

Loan Note Guarantee (Form 4279-5)

Certificate of Incumbency (Form 4279-7)

Lender’s Agreement (Form 4279-4)

and all amendments, modifications, renewals, extensions, increases and rearrangements of, and substitutions for, any of the foregoing.

RBS Guarantee shall mean that certain guaranty of the United States of America acting through RBS in the amount of ninety percent (90%) of the amount of the Note, said guaranty amount being Nine Million and 00/100 Dollars ($9,000,000.00).

RBS Guarantee Fee shall mean that certain fee imposed by RBS in the amount of two percent (2%) of the amount of the RBS Guarantee in connection with this Loan, said fee being One Hundred Eighty Thousand and 00/100 Dollars ($180,000.00).

Remedial Action shall mean any action necessary to ensure compliance with the Requirements of Environmental Law including, but not limited to, (i) the removal and disposal or containment (if containment is practical under the circumstances and is permissible within Requirements of Environmental Law) or monitoring of any and all Hazardous Substances at the Property; (ii) the taking of necessary precautions to protect against the release or threatened release of Hazardous Substances at, on, in, about, under, within or near the air, soil, surface water, groundwater or soil vapor at the Property or any public domain affected by the Property or any surrounding areas thereof; (iii) any action necessary to mitigate the usurpation of wetlands, pinelands or other protected land or reclaim the same or to protect and preserve wildlife species; (iv) any action necessary to meet the requirements of an environmental permit, and/or (v) any other action required to satisfy Requirements of Environmental Law imposed upon Borrower, the Property and/or any operation thereon by the Texas Commission on Environmental Quality.

Related Person shall mean any individual, corporation, organization or other entity that is an officer, director, stockholder, partner or employee of Borrower.


LOAN AGREEMENT		Page 8

Requirements of Environmental Law means all requirements imposed by any law (including for example and without limitation The Resource Conservation and Recovery Act and The Comprehensive Environmental Response, Compensation, and Liability Act), rule, regulation, or order of any Governmental Authority in effect at the applicable time which relate to (i) noise; (ii) pollution, protection or cleanup of the air, surface water, ground water or land; (iii) solid, gaseous or liquid waste generation, treatment, storage, disposal or transportation; (iv) exposure to Hazardous Substances; (v) the safety or health of employees or (vi) regulation of the manufacture, processing, distribution in commerce, use, discharge or storage of Hazardous Substances.

Residential Property shall mean that certain residential real property located at 3860 Woodside Road, Woodside, San Mateo County, California 94062, as more particularly described on Exhibit “A-2”, attached hereto and made a part hereof.

Rural Area shall mean all territory of a State that is not within the outer boundary of any city having a population of fifty thousand or more and its immediately adjacent urbanized and urbanizing area with a population density of more than one hundred persons per square mile, as determined by the Secretary of Agriculture according to the latest decennial census of the United States.

Secretary’s/ Member’s Certificate shall mean a certificate, in Proper Form, of the Secretary or an Assistant Secretary or a Member of a Person as to (a) the resolutions of the Board of Directors or other governing body of such Person authorizing the execution, delivery and performance of the documents to be executed by such Person; (b) the incumbency and signature of the officer of such Person executing such documents on behalf of such Person, and (c) the Organizational Documents of such Person.

Security Agreements shall mean (i) that certain Security Agreement dated as of the Closing Date executed by Borrower in favor of Lender covering, among other Property, all of the personal property generally described in Exhibit “A” hereto (save and except any Property leased by Borrower, as disclosed in writing to Lender), and (ii) that certain Assignment of Life Insurance as Collateral Security dated as of the Closing Date executed by Jonathan P. Carroll in favor of Lender covering, among other Property, a $5,000,000.00 life insurance policy on the life of Jonathan P. Carroll, together with any and all security agreements hereafter executed in favor of Lender in connection with, or as security for, the Obligations, as any of them may be amended, modified, restated or supplemented from time to time.

Security Documents shall mean this Agreement, the Security Agreements, the Guaranty, the Financing Statements and any and all other agreements, deeds of trust, mortgages, chattel mortgages, security agreements, pledges, guaranties, undertakings, subordination agreements and other instruments and financing statements now or hereafter executed and delivered by any Person (other than solely by Lender), as the same may be amended, modified, restated or supplemented from time to time, in connection with, or as security for the payment of the Obligations.

Tangible Net Worth shall mean as to Borrower total assets (valued at cost less normal depreciation), less (1) all intangibles and (2) all liabilities, all determined in accordance with GAAP. The term “intangibles” shall include (i) deferred charges, (ii) the amount of any write-up in the book value of any assets contained in any balance sheet resulting from revaluation thereof


LOAN AGREEMENT		Page 9

or any write-up in excess of the cost of such assets acquired (excluding marketable securities) and (iii) the aggregate of all amounts appearing on the assets side of any such balance sheet for franchises, licenses, permits, patents, patent applications, copyrights, trademarks, trade names, goodwill, experimental or organizational expenses and other like intangibles.

Total Assets shall mean all assets of Borrower which in accordance with GAAP would be included in “assets.”

Total Liabilities shall mean the sum of all short-term note obligations, current maturities of long-term obligations due within the next fiscal year, open accounts due to trade, income taxes including current portion of deferred taxes, bank overdrafts, accrued expenses, long-term note obligations, bonds, debentures, mortgages, deferred portions of long-term debt, capital leases, subordinated debt, liability reserves and any other obligations of the Borrower.

UCC shall mean the Uniform Commercial Code of the State of Texas, or if the creation, perfection, and enforcement of any security interest granted in the Security Documents is governed by the laws of a state other than the State of Texas, then, as to the matter in question, the Uniform Commercial Code in effect in that state.

1.2 Miscellaneous. The words “hereof,” “herein” and “hereunder” and words of similar import when used in this Agreement shall refer to this Agreement as a whole and not to any particular provision of this Agreement.

Article 2 The Loan

2,1 The Loan. Subject to the terms and conditions of this Agreement, Lender agrees to make a loan to Borrower in an amount not to exceed Ten Million and 00/100 Dollars ($10,000,000.00) (the “Loan”).

2.2 Use of Proceeds. The proceeds of the Loan shall be used by Borrower as follows:

(a)

approximately Four Million Three Hundred Thousand and 00/100 Dollars ($4,300,000.00) for the refinance of existing debt with Notre Dame Investors, Inc.;

(b)

approximately Three Million and 00/100 Dollars ($3,000,000.00) for construction/renovation of the Commercial Land;

(c)

approximately One Million Four Hundred Thousand and 00/100 Dollars ($1,400,000.00) for working capital;

(d)

approximately Seven Hundred Fifty Thousand and 00/100 Dollars ($750,000.00) for professional service fees, RBS Guarantee fee, and Lender origination fee; and

(e)

approximately Five Hundred Fifty Thousand and 00/100 Dollars ($550,000.00) for construction contingency.


LOAN AGREEMENT		Page 10

2.3 Note. The Loan made by Lender to Borrower shall be evidenced by the Note to be executed and delivered by Borrower to Lender on the Closing Date. The Loan shall bear interest from time to time at the rate and be due and payable on the terms and conditions set forth in the Note and in this Agreement.

2.4 Security. The Obligations will be secured by the Security Documents which cover, without limitation, the following Collateral: (a) a first lien on the Commercial Land and Improvements; (h) a first lien on all personal property described on Exhibit “A” attached hereto and made part hereof for all purposes, as more fully set forth in the Security Agreements; (c) a Fourth lien on the Residential Property; and (d) an assignment of a $5,000,000.00 life insurance policy on the life of Jonathan P. Carroll.

Article 3 Conditions for Ma kin g the Loan

3.1 Conditions Precedent to Initial Advance. The obligation of Lender to make the initial advance under the Loan is conditioned upon and subject to all legal matters incident to the transactions hereby contemplated being reasonably satisfactory to Lender and Lender’s legal counsel, and is further conditioned upon Lender’s receipt of the following in Proper Form or the following conditions precedent having been otherwise fulfilled or waived:

(a)

the Loan Documents and all other agreements, documents and instruments required by Lender to be executed and/or delivered at or prior to Closing, each duly executed where appropriate, and in Proper Form.

(b)

a duly executed Secretary’s/Member’s Certificate with respect to Borrower and any Party which is not a natural person.

(c)

an opinion of counsel to Borrower and Guarantor in Proper Form.

(d)

a list and summary of all pending or threatened litigation against Borrower and/or Guarantor, certified to by Guarantor and Borrower.

(e)

evidence satisfactory to Lender that there has been no material deterioration in the Borrower’s financial condition since the issuance of the Conditional Commitment.

( ¹ )

evidence satisfactory to Lender that Borrower has Tangible Net Worth of at least twenty percent (20.0%) of Total Assets. At a minimum, such evidence will consist of a certification by an independent Certified Public Accountant acceptable to Lender that Borrower has a tangible balance sheet equity position of a minimum 20%, which certification will include a balance sheet of the Borrower as of the date required by Lender. Tangible balance sheet equity will be determined in accordance with GAAP and will not include subordinated debt or appraisal surplus.

(g)

the RBS Guarantee Fee will be paid out of the initial Advance.


LOAN AGREEMENT		Page 11

(h)

complete professionally-prepared appraisal(s) acceptable to Lender in its sole discretion. Such appraisal(s) shall cover such Collateral as is required by Lender.

(i)

the RBS Documents.

insurance policies reflecting the insurance required by the Loan Documents. Without waiving the generality of the foregoing, Borrower will be required to provide Lender with evidence of fire and extended hazard insurance coverage acceptable to Lender, naming the Lender as loss payee, in an amount that is at least the lesser of the depreciated replacement value of the Collateral or the amount of the Loan, with endorsements as required by Lender and builder’s risk insurance acceptable to Lender. As used herein, the term “hazard insurance” includes, but is not limited to, fire, windstorm, lightning, hail, explosion, riot, civil commotion, aircraft, vehicle, marine, smoke, builder’s risk during construction, and property damage.

(k)

at Lender’s request, invoices and/or statements of bills owed or incurred or other evidence that advances are for purposes authorized under this Agreement.

(1)

current financial statements of Borrower and Guarantor dated no earlier than thirty (30) days prior to the Closing Date.

(m)

an environmental assessment satisfactory to Lender and RBS.

(n)

a current certificate from the appropriate official of the state of organization of Borrower as to the existence and good standing of Borrower.

(a)

a current certificate from the appropriate public official of each jurisdiction other than Borrower’s state of organization as to the due qualification to do business and good standing of Borrower where such qualification is necessary to conduct Borrower’s business in such jurisdiction.

12 Conditions Precedent to All Advances. The obligation of Lender to make any advance hereunder shall be subject to the further conditions precedent that on the date of each advance (a) the following statements shall be true (and each of the giving of the applicable “Request for Advance” and the acceptance by Borrower of the proceeds of such advance shall constitute a representation and warranty by Borrower that on the date of such advance such statements are true):

(i)

The representations and warranties contained in Article 6 of this Agreement are correct in all material respects on and as of the date of such advance, before and after giving effect to such advance, and to the application of the proceeds therefrom, as though made on and as of such date;


LOAN AGREEMENT		Page 12

(ii)

No event has occurred and is continuing, or would result from such advance or the application of the proceeds therefrom, which constitutes a Default or an Event of Default;

(iii)

No law, regulation, order, judgment or decree of any Governmental Authority shall enjoin, prohibit or restrain, or impose or result in the imposition of any material adverse condition upon Lender’s making the requested advance; and

(iv)

evidence satisfactory to Lender that Borrower has Tangible Net Worth of at least twenty percent (20.0%) of Total Assets. At a minimum, such evidence will consist of a certification by an independent Certified Public Accountant acceptable to Lender that Borrower has a tangible balance sheet equity position of a minimum 20%, which certification will include a balance sheet of the Borrower as of the date required by Lender. Tangible balance sheet equity will be determined in accordance with GAAP and will not include subordinated debt or appraisal surplus.

(b) Lender shall have received such other approvals, opinions or documents as Lender may request, and

3.3 Borrowing Procedures. Within two (2) Business Days after satisfaction of all of

the conditions set forth in Section 3.1 above, Lender shall advance the proceeds of the Loan for the purposes set forth in Section 2.2, with any funds used for any purpose not supported by evidence of payment at the Closing Date deposited into the Disbursement Account to be further disbursed by Lender for the purposes set forth in Section 2.2 hereof. Interest shall begin to accrue on the Loan from the date advanced, whether that advance is to Borrower, an escrow agent, a third party or to the Disbursement Account. Borrower hereby grants to Lender a security interest in the Loan proceeds in the Disbursement Account. While a Default or Event of Default exists, Lender shall not be obligated to advance any funds from the Disbursement Account. From time to time, Borrower may request advances under the Loan by submitting to Lender a “Request for Advance” no later than two (2) Business Days preceding the date of the requested advance. Subject to the terms of this Agreement, Lender shall advance to Borrower or, at Lender’s option, by joint payee checks or directly to the applicable third party, the amount requested; provided in no event, will the aggregate amount advanced under the Loan exceed the original principal amount of the Note.

3.4 Advances for Construction. During construction of Improvements to the Commercial Land, the Construction Rider shall control advances and other requirements of the Loan. The provisions of the Construction Rider shall survive through maturity of the Loan.


LOAN AGREEMENT		Page 13

Article 4 Affirmative Covenants

Until payment in full of and satisfaction of all Obligations (unless full compliance with any of the following provisions has been waived in writing, signed by both Lender and Borrower or Guarantor, as the case may be), Borrower and Guarantor will do and, if necessary, cause to be done, each and all of the following:

4.1 Financial Statements and Information. Without request by Lender (unless otherwise indicated), furnish Lender the following documents, instruments, and information, in a form acceptable to Lender:

(a)

Within thirty (30) days of the end of each fiscal quarter, Borrower’s year-to-date Quarterly Financial Statements.

(b)

Within one hundred twenty (120) days after the end of each fiscal year of Borrower, Borrower’s Annual Audited Financial Statements, prepared in accordance with GAAP by an independent Certified Public Accountant acceptable to Lender and in a form acceptable to Lender. Along with the required Annual Audited Financial Statements, Borrower shall provide Lender with an annual report specifying the number of jobs and type (full/part time) that the Borrower has in its employment.

(c)

Within one hundred twenty (120) days after the end of each calendar year, annual financial statements of Jonathan P. Carroll (on a form acceptable to Lender) as of December 31st of each year, which financial statements need to be reviewed and shall be certified and signed by said Guarantor as being true, correct and complete.

(d)

Within one hundred twenty (120) days after the end of each fiscal year, annual reviewed financial statements of Lazarus Energy Holdings LLC (on a form reasonably acceptable to Lender), which financial statements need to be reviewed and shall be certified and signed by said Guarantor as being true, correct and complete in all material respects.

(e)

Furnish Lender (and RBS, if requested) with copies of tax returns and accompanying schedules of Borrower and Guarantor, including Schedule “C” (if applicable), within 120 days after filing with the Internal Revenue Service, or in the case of extension (copies also to be provided), no later than 6 months after first filing due date.

Such other financial and other information concerning Borrower and Guarantor as Lender and/or RBS may reasonably request from time to time, including but limited to evidence that Borrower is current on all liabilities.


LOAN AGREEMENT		Page 14

(g)

Upon request of Lender, evidence of payment and discharge of all taxes, assessments and governmental charges or levies imposed on Borrower, Guarantor, their income or profits or any of their Property prior to the date on which penalties or liens attach thereto, provided, however, neither Borrower nor Guarantor shall be required to pay any such tax, assessment, charge, levy or claim the payment of which is being contested in good faith and by proper proceedings and against which adequate reserves have been set up in accordance with GAAP.

(h)

Prompt written notice of all claims, actions or litigation, including, without limitation, all proceedings before any Governmental Authority affecting Borrower, Guarantor or the Property of either of them, except litigation or proceedings not materially affecting the financial condition of Borrower or Guarantor.

(i)

Prompt written notice of the occurrence of any Default hereunder or any other event or occurrence which has had or can be expected to have a Material Adverse Effect.

4.2 Financial Tests. Borrower shall have and maintain at all times as of the end of each fiscal quarter:

(a)

a Debt to Worth Ratio not exceeding 3.4 to I.

(b)

a Current Ratio of not less than 1 to I

4.3 Taxes, Existence, Property, Etc. At all times (a) pay when due all taxes and governmental charges of every kind upon Borrower or Guarantor or against its income, profits or Property, unless and only to the extent that the same shall be contested diligently in good faith and by proper proceedings and against which Borrower, or Guarantor, as the case may be has set up adequate reserves in accordance with GAAP and have in operation a depository plan for payment of future withholding taxes when required; (b) do all things necessary to preserve its existence, qualifications, rights and franchises in all jurisdictions where its Property or the nature of its business makes such licensing or qualification necessary; and (c) cause the Collateral and its Property necessary or appropriate to the conduct of its business to be protected, maintained and kept in good repair, ordinary wear and tear excepted, and make all replacements and additions to its Property as may be necessary to conduct its business properly and efficiently. Notwithstanding the foregoing, the parties hereto acknowledge that the Residential Property is currently subject to Liens for unpaid taxes. The existence of such taxes will not be deemed to be a Default under the Loan at this time; however Borrower and Guarantor agree that all amounts due and owing to the taxing authorities must be paid in full prior to any foreclosure sale of the Residential Property.

4.4. Legal Requirements. Comply with, and provide Lender (if requested) with reasonable evidence of compliance with, all applicable legal requirements in respect of the conduct of its business and the ownership of its Property, including, without limitation, the following:

(a)

Requirements of Environmental Law.

(b)

all equal opportunity and nondiscrimination requirements as more fully set out in RBS Instruction 4279A, 4279B and 4287B.


LOAN AGREEMENT		Page 15

(c)

all requirements under Clean Air Act and Water Pollution Control Act as more fully set out in RBS Instruction 4279A, 4279B and 4287B.

(d)

all federal, state and/or local laws and regulations, as well as any and all requirements contained in RBS Instruction 4279A, 4279B and 4287B.

(e)

The Americans with Disabilities Act.

4.5 Inspection. Permit Lender and/or RBS, as well as any accompanying personnel, at any time to enter upon the Commercial Land and inspect its Property (including, but not limited to, the Collateral), to examine its files, books and records except privileged communication with legal counsel and classified governmental material, and make and take away copies thereof, and to discuss its affairs with its officers and accountants, all during normal business hours and at such intervals and to such extent as Lender or RBS may desire. RBS personnel and any person(s) accompanying RBS personnel shall be authorized to enter upon the premises and into any building thereon, whether permanent or temporary, jointly or separately, with personnel of the Lender to carry out the functions involving their interests. Scheduled and unscheduled inspections shall be conducted during normal business hours by these personnel as well as final acceptance inspections.

4.6 Further Assurances. Promptly execute and deliver, at Borrower’s expense, any and all other and further instruments which may be requested by Lender to cure any defect in the execution and delivery of any Loan Document in order to effectuate the transactions contemplated by the Loan Documents, and in order to grant, preserve protect and perfect the validity and priority of the Liens created by the Security Documents.

4.7 Books and Records. Maintain books of record and account in such detail, form and scope as Lender and/or RBS shall require and in accordance with GAAP.

4.8 Insurance. Borrower will maintain at Borrower’s sole expense insurance with such insurers, on such of its Property, with responsible companies in such amounts, with such deductibles and against such risks as may be required by Lender and furnish Lender satisfactory evidence thereof promptly upon request. Without limiting the generality of the foregoing, Borrower will maintain the hazard insurance described in Section 3.1(j), above, and worker’s compensation insurance in compliance with all Legal Requirements.

4.9 Cultural Materials. If cultural materials are encountered during any construction or other activity, work must cease in the immediate area of discovery. Work may continue in the project area where no cultural materials are present, with the written approval from the RBS. Upon discovery of any cultural materials, the Borrower must immediately notify the consultant engineer, the Texas Historical Commission [(512) 463-5867], and the USDA Rural Development State Environmental Coordinator [(254) 742-9785].

4.10 Protection of Collateral. Lender may at any time after notice to Borrower take such steps as Lender deems necessary to protect Lender’s interest in and to preserve the Collateral. Borrower agrees to cooperate fully with all of Lender’s efforts to preserve the Collateral and will take such actions to preserve the Collateral as Lender may direct. All of Lender’s expenses of preserving the Collateral shall be charged to Borrower’s account and added to the Note. Upon the occurrence and continuation of an Event of Default, Lender may use any of Borrower’s owned or leased lifts, hoists, trucks or other facilities or equipment for handling or removing the Collateral and Lender shall have, and is hereby granted, a right of ingress or egress to and through any of Borrower’s owned or leased Property.


LOAN AGREEMENT		Page 16

4.11 Rural Areas. Borrower will utilize all Loan proceeds in improving, developing or financing business, industry and employment and improving the economic or environmental climate in a Rural Area.

4. 12 Rural Development Instructions. Borrower and Guarantor certify and represent that they understand, accept, and will comply with all of the conditions of the Conditional Commitment.

4.13 Escrow Fund Upon an Event of Default which remains uncured after the expiration of any applicable cure period, and at the option of Lender, Lender may require Borrower to establish an Escrow Fund (defined below) sufficient to discharge its obligations for the payment of taxes, insurance premiums, and maintenance as required by the Mortgage/Deed of Trust in an amount equal to one hundred five percent (105%) of the total of these payments. The initial deposits together with the amounts set forth in this subsection shall be called the “Escrow Fund” Initial deposits for taxes, premiums, and maintenance shall be made by Borrower to Lender in amounts determined by Lender in its sole and exclusive discretion on the date hereof to be held in Lender’s Escrow Fund. Additionally, Borrower shall pay to Lender or its designee on the first day of each calendar month: (a) one twelfth of an amount which would be sufficient to pay the taxes payable, or estimated by Lender to be payable, upon the due dates established by the appropriate taxing authority during the ensuing twelve (12) months; (b) one-twelfth of an amount which would be sufficient to pay the insurance premiums due for the renewal of the coverage afforded by the policies upon the expiration thereof; and (c) one-twelfth of an amount which would be sufficient to pay all costs associated with maintenance and upkeep of building, grounds, equipment, and all other property which needs to be maintained in the ordinary course of business (“CAM”). Borrower shall notify Lender immediately of any changes to the amounts, schedules and instructions for payment of taxes, insurance premiums, and CAM of which it has obtained knowledge and expressly authorizes Lender or its designee to obtain the bills for taxes and other charges directly from the appropriate authority. The Escrow Fund and the payments of interest or principal, or both, payable pursuant to the Note, shall be added together and shall be paid as the aggregate sum by Borrower to Lender. Provided there are sufficient amounts in the Escrow Fund and no Default or an Event of Default exists, Lender shall be obligated to pay on behalf of Borrower the taxes, insurance premiums and CAM as they become due on their respective due dates by applying the Escrow Fund to the payment of such taxes, insurance premiums, and CAM required to be made by Borrower hereunder. If the amount of the Escrow Fund shall not be sufficient to pay the amounts due for taxes, insurance premiums, and CAM herein, Borrower shall promptly pay top Lender, upon demand, an amount which Lender shall estimate to make up the deficiency. The Escrow Fund shall constitute a separate fund and shall not be commingled with other monies held by Lender. No interest or earnings shall be payable to Borrower on the Escrow Fund.

4.14 Copies of Leases. Borrower and Guarantor shall provide Lender with true, correct, and complete copies of any and all leases relating to the Collateral, if any. Borrower shall also provide Lender with such other and further information regarding such leases as Lender may request.


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4.15 Fidelity Bond. Borrower will provide Lender with evidence of one or more fidelity bonds, in a form and with such issuer acceptable to Lender, covering all Persons who have access to any funds of Borrower, as determined by Lender and/or RBS in their sole discretion. Such bonds) shall be in an amount acceptable to Lender and RBS, but in no event less than the maximum amount of funds on hand at any time.

4.16 [RESERVED]

4.17 In accordance with the Phase I and Phase II Environmental Site Assessments report dated November 30, 2006 and February 7, 2007, respectively, and the Addendum to these reports, dated June 13, 2008, completed by Enercon Services, Inc., 1700 West Loop South, Suite 825, Houston, Texas 77027, Borrower will implement and maintain all of the recommended mitigation measures in order to avoid any adverse environmental impact to the Commercial Land including, but not limited to all of the following mitigation measures: (a) New, sophisticated equipment to minimize emissions and effectively treat effluents, such as low NOx burners on the heaters, scrubbing systems for vent gases to reduce SOx emissions, and state-of-the-art wastewater treatment systems; (b) Efficient waste management and overall good housekeeping, such as safe, effective disposal of waste carbon, neutralization of spent caustics, and smart procedures to reduce human waste; (c) Regularly-scheduled equipment maintenance to ensure overall plant efficiency and minimal excess waste or emission; (d) Use of experienced, certified contractors to manage removal of hazardous substances; and (e) Regular audits to ensure compliance with Texas Commission on Environmental Quality issued permits.

4.18. The following environmental concerns relating to the Commercial Land have been raised:

(a)

A three-sided metal shed with dirt floor contained nine (9) drums containing unknown materials. Several drums were rusted with holes and were stored on old wood pellets. Staining was observed on the soil and wood pallets under the drums. Numerous glass jars containing an unknown powder mixture were observed in and around, a plastic garbage container. Some jars were broken. Rusted containers (approximately five-gallon size) had leaked unknown substances onto the soil. Sulfur powder and potters were observed on the soil and in 25 gallon plastic and garbage cans. Approximately twenty five (25) three-gallon, plastic containers of aqueous film forming foam (defoamer) were observed on a sheet metal surface. The defoamer containers appeared in good condition.

(b)

The elevated RCRA-8 metals include arsenic, cadmium, lead, selenium and silver are higher than the applicable TRRP Tier 1 PCL or Texas-Specific Background Concentration.

With respect to the concern stated in 4.18 (a), above, Borrower agrees that the wastes stored in the above mentioned storage must be properly identified and shipped off-site for proper waste disposal.


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The elevated RCRA-8 metals referenced in 4.18 (b), above, include arsenic, cadmium, lead, selenium and silver are higher than the applicable TRRP Tier 1 PCL or Texas-Specific Background Concentration. These high levels must be reported to the Texas Commission on Environmental Quality (TCEQ) and a copy of the No Further Action Report from the TCEQ, or other such correspondence as may be deemed appropriate by Lender and RBS, must be forwarded to the Lender upon receipt Borrower will initiate the process of obtaining the required No Further Action Report immediately and will forward it to the Lender and RBS upon completion.

In the event that the cost of the required remediation measures exceeds the amount held in the Environmental Reserve Account, any additional remediation expenses will be paid by the Borrower.

All wastes and stained soils on the Commercial Land must be reported to the Texas Commission on Environmental Quality (TCEQ) and a copy of the TCEO Response Action Completion Report, or other such correspondence as may be deemed appropriate by Lender and RBS, must be forwarded to the Lender upon receipt.

All mitigation measures required or needed in order to resolve these environmental concerns must be taken by Borrower to the satisfaction of Lender.

4.19 Payment Reserve. Borrower shall place $1,000,000.00 into a Payment Reserve Account with Lender, and will be held by Lender as a payment reserve to be drawn upon by Lender in the event that Borrower fails to timely make any payment required under the Loan. In the event that any funds are withdrawn from the Reserve Account pursuant to this Agreement and/or the Reserve Agreement, Borrower must replenish the full amount so withdrawn within ninety (90) days thereafter, plus interest at the Note rate. The Reserve Account will remain in place for the life of the Loan, unless otherwise approved by both Lender and RBS.

4.20 Environmental Reserve. Borrower shall place $195,000.00 into an Environmental Reserve Account with Lender, and will be held by Lender as a reserve to be drawn upon by Borrower, in accordance with the terms of Borrower’s agreement with Lender, as necessary, to satisfy any environmental remediation measures required by the RBS and/or the TCEQ.

4.21 Air Quality Compliance. Borrower will comply, and remain in compliance during the term of the Loan, with all of the twenty-one (21) items listed in Air Permit #81194, dated August 1, 2007, issued by the TCEQ.

Article 5 Negative Covenants

Until payment in full of and satisfaction of all Obligations, Borrower shall not, without prior express written consent of Lender and RBS, which consent will not be unreasonably withheld:


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5.1 Indebtedness. Create, incur or assume, directly or indirectly, or become or remain liable with respect to any Debt whether direct, indirect, contingent or otherwise, other than the Loan and Current Liabilities arising out of transactions in the ordinary course of Borrower’s business. To the extent not already excluded under the term “Current Liabilities”, the prohibition in this Section 5.1 does not include the Borrower’s current liability to Notre Dame Investors, Inc.

5.2 Contingent Liabilities. Directly or indirectly assume, guarantee, endorse or otherwise become liable upon, or agree to purchase or otherwise furnish funds for the payment of, the liability or obligation, including contingent liabilities or obligations, of any Person other than Borrower except for transactions in the ordinary course of Borrower’s business.

5.3 Liens. Create, incur, assume or suffer to exist any Lien upon any of its Property now owned or hereafter acquired, except (i) Liens securing payment of the Note under this Agreement;(ii) purchase money security interests in equipment, provided the debt associated with same does not cause Borrower to be unable to satisfy the Financial tests described in Section 4.2 of this Agreement or otherwise create an event of default under the Loan Documents, (iii) mechanics’ , carriers’, workmen’s, repairmen’s or other like Liens incurred in the ordinary course of business in respect of obligations which are not overdue or are being contested in good faith by appropriate proceedings, if adequate reserves with respect thereto are maintained in accordance with GAAP, and (iv) Liens set forth in Exhibit “E” attached hereto and made a part hereof.

5.4 Nature of Business. Engage in any business other than Borrower’s principal business activity or a business activity which is directly related thereto, or change the nature or method of operation or its manner of conducting business in any material respect.

5.5 Loans to Affiliates. Make any loans or advances to any officer, director, shareholder, or Affiliate of Borrower or to Guarantor.

5.6 Mergers, Consolidations., Dispositions, Acquisitions, Investments. Liquidate or dissolve, form any new subsidiary or merge or consolidate with any corporation or other entity, or sell, lease, assign, transfer or otherwise dispose of (whether in one transaction or a series of transactions) all or substantially all of its assets, whether now owned or hereafter acquired; or acquire by purchase in any acquisitive corporate transaction or otherwise, all or substantially all of the assets of any corporation or other entity or make any investment in the assets of any corporation or other entity or business venture; or allow any changes, by sale of stock or otherwise, in the current equity ownership of Borrower.

5.7 Change of President or Chief Executive Officer. Make any change or substitution of the president or other chief executive officer of the Borrower without prior written notification to Lender and the execution by such new president or chief executive officer of a personal guaranty in form and substance satisfactory to Lender.

5.8 Capital Expenditures. During any fiscal year, make or incur any expenditures for acquiring or improving any real property, machinery, equipment, furniture or fixtures by purchase, lease purchase agreement or option the aggregate cost or annual rental of which is in excess of Five Hundred Thousand and No/100 Dollars ($500,000.00) except as may be acquired by, or improved with, the proceeds of the Loan.


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5.9 Disposition of Assets. During any fiscal year, sell, lease or dispose of (whether in one or more transactions) in any manner any real property, machinery, equipment, furniture or fixtures, other than Collateral, and shall not sell or dispose of any Collateral except in accordance with Section 5.14 hereof.

5.10 Redemptions, Dividends, Distributions. Redeem, retire or otherwise acquire, directly or indirectly, any shares of Borrower’s capital stock or other equity interest, declare or pay any dividend on or in respect any shares of Borrower’s capital stock or bonuses to officers or shareholders unless (1) after-tax profit was made in the preceding fiscal year, (2) the Borrower is and will remain in compliance with covenants of this Agreement and the Conditional Commitment, (3) all of the Borrower’s debts are paid to a current status, and (4) prior written concurrence of the Lender and U.S.D.A. , or make any other distribution of any Property or cash to owners of an equity interest in Borrower (in their capacity as such) except as provided above.

5.11 New Management Practices. Implement any new management practices without the prior written consent of Lender.

5.12 Change of Name or Location. Change its name or the location of its chief executive office or principal place of business or the place where it keeps its books and records without the consent of Lender which shall not be unreasonably withheld.

5.13 Organizational Documents. Amend, modify, restate or supplement any of its Organizational Documents if such action could be expected to materially and adversely affect the Loan or any Obligation or the abilities of any of the Parties to perform their respective Obligations under any Loan Document.

5.14 Collateral. Dispose of any of the Collateral, except for replacement of Collateral acquired in the normal course of business, or use the Collateral, permit the same to be used, for any unlawful purpose or in any manner inconsistent with the provisions or requirements of any insurance policy required in the Loan Documents, or allow any tangible Collateral to be moved from its current location, except in connection with the leasing of any said Collateral. Borrower further agrees that all payments of any kind from any sale, including but not limited to public or private, of any of the Collateral, will be made jointly payable to the Lender and the Borrower and shall be kept separate and distinct from other Property of the Borrower. All proceeds must be applied to the Obligations upon receipt of such proceeds. If the Collateral is evidenced by promissory notes or other instruments for the payment of money, Borrower, will, at the request of Lender, immediately deliver them to Lender, appropriately endorsed to Lender’s order and regardless of the form of endorsement, Borrower waives presentment, demand, notice of dishonor, protest and notice of protest.

5.1 5 Compensation. Advance any monetary compensation, whether bonus, salary, dividends or any other compensation to any owner or officer of the Borrower, or any family member of any owner or officer of Borrower in excess of the aggregate of $200,000.00 per calendar year, without Lender’s prior written consent. Notwithstanding anything herein to the contrary, no salaries, compensation and/or other like payments to officers and/or owners will be increased unless an after tax profit (excluding extraordinary and non-recurring gains) (as shown on the Annual Audited Financial Statements) was made in the preceding fiscal year and all of Borrower’s Debt is paid to current status, the Borrower remains in compliance with the covenants of this Agreement and prior written concurrence of the Lender is obtained.


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5.16 Key Agreements. Amend, modify or grant a waiver of any provision of any of the Key Agreements if such amendment, modification or waiver could have a Material Adverse Effect.

5.17 Additional Life Insurance. Without the prior written consent of Lender and RBS, purchase additional life insurance from Borrower’s business assets or income.

5.18 Related Parties. Engage in any transactions with any Related Person except upon terms equally available in like transactions with other parties.

5.19 Gambling Activity. Borrower shall not derive more than ten percent (10%) of its annual gross revenue from gambling activity.

5.20 Loans From Affiliates. All loans from any officer, director, shareholder, or Affiliate of Borrower (“Affiliate Loan”) shall be subordinated to the Loan. Borrower will not make any payments on any Affiliate Loan without the prior written consent of Lender, which consent will be conditioned upon Lender’s satisfaction that the Loan is current and in good standing, and any such payment will not have a Material Adverse Effect.

5.21 Cost Overruns. Allow any change or cost overrun on any contract or other commitment which will result in an additional cash flow expenditure and/or debt to the Borrower and/or request for a subsequent loan, either guaranteed or not.

Article 6 Representations and Warranties

To induce Lender to extend the credit and financial accommodations evidenced by the Loan Documents, Borrower and Guarantor each represents and warrants to Lender that:

6.1 Organization. Borrower is a limited liability company, validly existing and in good standing under the laws of the jurisdiction of its organization and has all requisite power and authority necessary in order for it to conduct its business and own its Properties. Borrower is in good standing and authorized to transact business under the laws of the State of Texas and of all other jurisdictions in which qualification is necessary in order for it to conduct its business and own its Property as conducted and owned in such jurisdictions.

6.2 Financial Statements. The financial statements of Borrower and Guarantor delivered to Lender fairly present the financial condition of the Borrower and Guarantor as of the date(s) of such financial statements for the period ended on such date all in accordance with GAAP, and since the date of such financial statements, no event has occurred which has had or is likely to have a Material Adverse Effect.

6.3 Enforceable Obligations ^. , Authorization. The execution, delivery and performance of the Loan Documents to which Borrower is a party are within its corporate powers and have been duly authorized by all necessary corporate action of Borrower. Neither execution or delivery of any Loan Documents nor the fulfillment of or compliance with its terms will contravene or violate (i) Borrower’s Organizational Documents, (ii) any Legal Requirement binding on or


LOAN AGREEMENT		Page 22

affecting Borrower or Guarantor or (iii) any mortgage, indenture, contract, agreement or other instrument, or any judgment, order or decree binding upon Borrower or Guarantor. No authorization or approval or other action by, and no notice to or filing with, any franchisor, licensor, distributor, Governmental Authority, regulatory body, or other Person is required for the due execution, delivery and performance by Borrower or Guarantor of the Loan Documents to which each is a party. The Loan Documents to which each is a party have been duly executed and delivered and are legal, valid and binding obligations of Borrower and Guarantor, enforceable against each in accordance with their respective terms. The Improvements and the use of the Commercial Land and Improvements complies in all respects with applicable Legal Requirements.

6.4 Contractual Obligations. Neither Borrower nor Guarantor has received notice nor has any actual knowledge that (i) it is in default in the performance, observance or fulfillment of any of the obligations, covenants or conditions contained in any contractual obligation, including, without limitation, franchise and distribution contracts, applicable to it, or (ii) any condition exists which, with the giving of notice or the lapse of time or both, would constitute such a default under such contractual obligations, in each case, except where such default or defaults, if any, will not have or is not likely to have a Material Adverse Effect, except as described on Exhibit “C” attached hereto and made a part hereof.

6.5 Litigation. There is no pending or, to the knowledge of Borrower or Guarantor, threatened action or proceeding affecting Borrower or Guarantor before any court, governmental agency or arbitrator, which has had or is likely to have an adverse effect on the financial position of Borrower or Guarantor or the results of operations of Borrower or any of their businesses or the ability of Borrower or Guarantor to perform its obligations under the Loan Documents, or would subject Borrower or Guarantor to any liability not fully covered by insurance, or would be required to be disclosed in the notes to any financial statements of Borrower or Guarantor prepared in accordance with GAAP, except as described on Exhibit “D” attached hereto and made a part hereof.

6.6 Title; Permits. Borrower has, and will maintain, licenses, permits, patents, patent applications, copyrights, trademarks, trademark applications, trade names, technology, processes, and franchise and distribution rights to continue to conduct its business as heretofore conducted by it. Borrower will maintain evidence of such licenses, permits, patents, patent applications, copyrights, trademarks, trademark applications, trade names, technology, processes, and franchise and distribution rights and provide such evidence to Lender upon request. Borrower has and will continue to have good and indefeasible title to its Property free and clear of all Liens other than as permitted by Section 5.3. No Liens exist as of the Closing Date upon or with respect to any Property of Borrower other than Liens permitted under Section 5.3

6.7 Indebtedness. Except for trade payables arising and endorsements of negotiable instruments for collection, in each case, in the ordinary course of its business, and except as permitted under Section 5.1 of this Agreement, Borrower will not have, as of the Closing Date, (i) any obligation or liability (including, without limitation, contingent liabilities) which would have a Material Adverse Effect, (ii) any Debt for borrowed money other than the Obligations or (iii) any obligation to guarantee the obligations of any other Person.


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6.8 Regulations G U and X. Borrower is not engaged in the business of extending credit for the purpose of purchasing or carrying margin stock (within the meaning of Regulations G, U or X issued by the Board of Governors of the Federal Reserve System), and no proceeds of any Loan will be used to purchase or carry any margin stock or to extend credit to others for the purpose of purchasing or carrying any margin stock or for any purpose which would be inconsistent with the provisions of Regulations G, U or X.

6.9 Company Structure. At least fifty-one percent (51%) of the outstanding interests in Borrower are owned by citizens of the United States or individuals who reside in the United States after being legally admitted for permanent residence.

6.10 No Untrue or Misleading Statements. The representations and warranties of Borrower, Guarantor and of each other Party to a Loan Document contained in the Loan Documents, and all certificates and other documents delivered pursuant to the terms thereof do not contain any untrue statement of a material fact or omit to state a material fact necessary in order to make the statements contained herein or therein, in light of the circumstances under which they were made, not misleading. Neither Borrower nor Guarantor has intentionally withheld any material fact from Lender in regard to any matter which will have or is likely to have a Material Adverse Effect.

6.11 Investment Company Act; Public Utility Holding Company Act, Etc. Borrower is not subject to regulation under the Public Utility Holding Company Act of 1935, the Federal Power Act, the Interstate Commerce Act, the Investment Company Act of 1940, or any other Legal Requirements which limit the ability of Borrower to incur indebtedness or its ability to consummate the transactions contemplated hereby or by the other Loan Documents.

6.12 Solvency. After giving effect to the consummation of the transactions evidenced by the Loan Documents, Borrower has capital sufficient to carry on its respective business and transactions and all businesses and transactions in which it is about to engage and is solvent and able to pay its respective debts as they mature; and Borrower owns Property having a value, both at fair valuation and at present fair salable value, greater than the amount required to pay its respective debts.

6.13 Legal Requirements. Borrower and Guarantor are in compliance with all Legal Requirements applicable to them or their respective business, the violation of which would have a Material Adverse Effect.

6.14 Environmental Matters. The operations of Borrower are in compliance with all applicable Requirements of Environmental Law, (i) none of the Properties of Borrower or Guarantor require any Remedial Action, other than such action as may be required by the matters revealed in the Phase I and Phase II Environmental Site Assessments report dated November 30, 2006 and February 7, 2007, respectively, and completed by Enercon Services, Inc., 1700 West Loop South, Suite 825, Houston, Texas 77027; (ii) to the knowledge of Borrower and Guarantor, there is not now on or in the Properties of Borrower or Guarantor: (A) any asbestos containing materials; (B) any underground or aboveground storage tanks (except as previously disclosed to Lender); or (C) any polychlorinated biphenyls (PCBs) used in hydraulic oils, electrical transformers or other equipment (except as previously disclosed to Lender); (iii) neither Borrower nor Guarantor has received or is otherwise aware of any notice or claim to the effect that Borrower or Guarantor is or may be liable in any respect to any Person as a result of the release or threatened release of Hazardous Substances into the environment, and (iv) neither Borrower nor Guarantor, nor any of their past or present Properties or operations, are subject to any


LOAN AGREEMENT		Page 24

investigation, judicial or administrative proceeding, order, judgment, decree, settlement or other agreement respecting (x) any Requirements of Environmental Law, (y) any Remedial Action or (z) any Environmental Claim or Environmental Liabilities arising from the release or threatened release of Hazardous Substances into the environment except those disclosed in writing to Lender.

6.15 Taxes. Each of Borrower and Guarantor has filed (or has obtained a currently effective extension of time for the filing of), and will continue to timely file during the term of the Loan, all federal and all state, local and other tax returns and other reports which each is required by any Legal Requirement to file, and all taxes, assessments, fees and other governmental charges thereupon and upon their respective Property, assets, income and franchises which are shown in such returns or reports to be due and payable have been paid other than those taxes, fees, assessments and charges which are being contested pursuant to Section 4.3 hereof and such returns properly reflect the United States income, foreign taxes and/or state taxes of Borrower and Guarantor for the periods covered thereby. Neither Borrower nor Guarantor have any knowledge of any proposed tax assessment against Borrower or Guarantor that will have or is likely to have a Material Adverse Effect. Notwithstanding the foregoing, the parties hereto acknowledge that the Residential Property is currently subject to Liens for unpaid taxes. The existence of such taxes will not be deemed to be a Default under the Loan at this time; however Borrower and Guarantor agree that all amounts due and owing to the taxing authorities must be paid in full prior to any foreclosure sale of the Residential Property.

6.16 Use of Proceeds. Borrower’s uses of the proceeds of the Loan are and will continue to be, legal and proper corporate uses (duly authorized by Borrower’s Board of Directors, partners or members or managers, as applicable) in connection with Borrower’s business and are consistent with this Agreement and all applicable Legal Requirements in effect from time to time. None of the proceeds of the Loan will be disbursed to the owner(s), partners, stockholders or beneficiaries of Borrower or any members of their families.

6.17 Security Interests. The Liens of Lender attaching to the Collateral will at all times constitute valid and enforceable first priority Liens in favor of Lender, subject to no prior Lien except for those prior liens noted on Collateral as set forth in Exhibit “E” hereto. Before any funding under the Note, Borrower and Guarantor will have taken or will have participated with Lender in taking, all necessary action and make all necessary filings to provide Lender with perfected, first priority Liens in the Collateral under the laws of all applicable jurisdictions. The Collateral is free from damage caused by fire or other casualty. Borrower and/or Guarantor, as applicable, has good and marketable title to and enjoy peaceful and undisturbed possession of all of the Collateral.

6.18 Business Loan. All loans evidenced by the Note are and shall be for business, commercial, investment or other similar purposes and not primarily for personal, family, household or agricultural use, as such terms are used in the commercial law provision of the Texas Code.

6.19 Principal Place of Business & Collateral. Borrower’s principal place of business is located on the Commercial Land, where all personal property Collateral will be located, and its chief executive office is located at 2929 Allen Parkway, Suite 1400, Houston, Texas 77019.

6.20 Certificate of Title. No part of the Collateral is covered by a certificate of title or subject to any certificate of title law.


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6.21 Federal Debt, Neither the Borrower, nor any Guarantor, is delinquent on any Debt to any Governmental Authority.

6.22 ADA Compliance. Borrower’s office facilities and all places accessible to the public are accessible to physically handicapped persons who may be employed or come to visit and otherwise compliant with the Americans With Disabilities Act (ADA) which became effective January 26, 1992. The office layout is in compliance with the Uniform Federal Accessibility Standards (UFAS).

6.23 Utility Availability. Subject only to payment of fees to be paid from the Approved Budget, all utility and municipal services required for the construction, occupancy and operation of the Improvements, including but not limited to, water supply, storm and sanitary sewer systems, gas electric and telephone facilities, are available for use and tap-on at the boundaries of the Commercial Land and will be available in sufficient amounts for the normal and intended use of the Improvements, and written permission has been or will be obtained from the applicable utility companies or municipalities to connect the Improvements into each of said services.

Article 7 Events of Default and Remedies

7.1 Events of Default. If any of the following events (“Events of Default”) shall occur, then the Lender may do any or all of the following without any notice to the Borrower (except as hereinafter expressly provided): (i) declare the Note to be, and thereupon such Note shall forthwith become, immediately due and payable, together with all accrued interest thereon and all fees and other amounts payable hereunder and under the other Loan Documents, without notice of any kind, notice of acceleration or of intention to accelerate, presentment and demand or protest, all of which are hereby expressly waived; (ii) exercise its rights of offset against each account and all other Property of the Borrower in the possession of the Lender, which right is hereby granted by Borrower to Lender; (iii) terminate Lender’s obligation to make any further advances under the Loan and (iv) exercise any and all other rights available to Lender under the Loan Documents, at law or in equity:

(a)

Borrower or Guarantor fails to make any payment of principal or interest on the Note or in respect of any other Obligations under any Loan Document as and when due; or

(b)

Borrower or Guarantor shall fail to pay when due, any principal of, or interest on, any other Debt; or if the holder of such other Debt declares, or may declare, such Debt due prior to its stated maturity because of Borrower’s or Guarantor’s default thereunder; or

(c)

Any representation or warranty made by the Borrower or Guarantor herein or by Borrower, Guarantor or any other Party in any other Loan Document or in any certificate, financial statement or other written statement furnished to Lender proves to have been incorrect, false or misleading in any material respect when made; or

(d)

Borrower, Guarantor or any other Party violates any covenant, agreement or condition or otherwise fails to perform any obligation (other than the obligation to pay principal of, or interest on, the Note) contained in this Agreement or any of the other Loan Documents or in connection with any other Debt owed by Borrower, Guarantor or any other Party to Lender, in Lender’s reasonable discretion, if allowed by RBS; or


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(e)

Final judgment for the payment of money is rendered against the Borrower and the same is not paid or sufficiently bonded or escrowed within 30 days; or

(t)

Borrower claims, or any court finds or rules, that the Lender does not have a valid Lien under any Security Document; or

(g)

Borrower or any other Party sells, encumbers, or abandons (except as otherwise expressly permitted by the Loan Documents) any of the Property now or hereafter subject to any of the Security Documents; or any levy, seizure or attachment is made on any material portion thereof or thereon and same is not dismissed within 30 days; or any material portion of such Property is lost, stolen, substantially damaged or destroyed unless such loss, damage or destruction is in Lender’s judgment adequately covered by insurance; or

(h)

Borrower or any other Party makes a general assignment for the benefit of creditors or becomes insolvent or fails generally to pay its debts as they become due, or petitions or applies to any tribunal for the appointment of a trustee, custodian, receiver, (or other similar official) of the Borrower or any other Party of all or any substantial part of the assets of the Borrower or any other Party or commences a voluntary case or any other proceeding relating to the Borrower or any other Party under any bankruptcy, reorganization, compromise arrangement, insolvency, readjustment of debt, dissolution or liquidation or similar law (herein called the “bankruptcy law”) of any jurisdiction; or

(i)

Any such petition or application is filed, or any such proceeding is commenced, against the Borrower or any other Party and the Borrower or such other Party by any act or omission indicates its approval, consent, or acquiescence thereto, or an order for relief is entered in an involuntary case under the federal bankruptcy laws as now or hereafter constituted, or an order, judgment or decree is entered appointing any such trustee, custodian, receiver, liquidator, or similar official or adjudicating the Borrower or such other Party bankrupt or insolvent, or approving the petition in any such proceedings, and such order, judgment, or decree remains in effect for 30 days; or

Borrower or any other Party conceals, removes, or permits to be concealed or removed, any part of its Property, with intent to hinder, delay or defraud its creditors or any of them, or makes or suffers a transfer of any of its Property which may be fraudulent under any bankruptcy, fraudulent conveyance or similar law; or shall have made any transfer of its Property to or for the benefit of a creditor at a time when other creditors similarly situated have not been paid; or


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(k)

Any event shall occur or condition exist which results in a Material Adverse Effect; or

(I)

Any litigation commences which hinders or delays the collection of any part of the Obligations or the exercise of any right or option of Lender; or

(m)

Death, incapacity, dissolution, business failure, merger, or similar event, adversely affects the Borrower, Guarantor or any other Party; or

(n)

Borrower uses the Loan proceeds or Collateral in any manner different from the manner contemplated in the Loan Documents; or

(o)

[Reserved]

(p)

Failure of Borrower to comply with the terms of the Conditional Commitment; or

(q)

Any event occurs which, with or without the passage of time or the giving of notice, would permit the holder of any lien on any of the Collateral to accelerate the secured debt, or

(r)

Any lien, claim of lien, or affidavit of lien is filed against any of the Collateral, other than the liens described in Exhibit “E” hereto, or

(s)

An inability of Borrower to satisfy any condition specified herein as precedent to the obligation of Lender to make an Advance after an Application for Advance has been submitted by Borrower to Lender, or

(t)

A determination by Lender that construction of the Improvements will not be completed on or before the Completion Date.

However, it is provided that, notwithstanding anything contained herein, and in the other Loan Documents, to the contrary, Lender shall give Borrower ten (10) days written notice of any Event of Default under Section 7.1(a) or 7.1(d), above, and Borrower shall have an opportunity to cure such Event of Default within the notice period. The notice and cure period specified herein shall begin to run on the date said notice is (1) mailed or (2) delivered, whichever is earlier. It is understood and agreed that Borrower shall not be entitled to more than two (2) opportunities to cure within any twelve (12) month time period.

7.2 Other Remedies. In addition to and cumulative of any rights or remedies provided for in Section 7.1 hereof, if any one or more Events of Default shall have occurred, the Lender may proceed to protect and enforce its rights hereunder, by any appropriate proceedings, and the Liens evidenced by the Security Documents shall be subject to foreclosure in any manner provided for therein or provided for by law as the Lender may elect. The Lender may also proceed either by the specific performance of any covenant or agreement contained in this Agreement or the other Loan Documents or to enforce the payment of the Note or to enforce any other legal or equitable right provided under this Agreement or the other Loan Documents, or otherwise existing under any law in favor of the holders of Debt of the Borrower.


LOAN AGREEMENT		Page 28

Article 8 Miscellaneous

8.1 Not an Agent. Nothing contained herein shall be construed to constitute Borrower or Guarantor as Lender’s agent for any purpose whatsoever and Lender shall not be responsible or liable for any shortage, discrepancy, damage, loss or destruction of any part of the Collateral wherever same may be located and regardless of the cause thereof. Lender does not, by anything herein or in any assignment or otherwise, assume any of Borrower’s or Guarantor’s obligations under any contract or agreement assigned to Lender and Lender shall not be responsible in any way for the performance by Borrower or Guarantor of any of the terms and conditions hereof.

8.2 Notices. Any notice or other document required or permitted to be delivered to any party hereto shall be in writing and shall be given or delivered by hand delivery, by depositing it with an overnight delivery service, by registered or certified mail, return receipt requested, or sent by facsimile (“fax”) or electronic mail (“e-mail”) transmission (provided an identical notice is also sent simultaneously by prepaid certified mail (return receipt requested), overnight delivery, or personal delivery as otherwise provided in this Section 8.2 to the party entitled to receive such notice or other document at the address specified adjacent to their signature on the signature pages of this Agreement or any such other address as such party shall request in a written notice made in compliance herewith. Provided an identical notice is sent as required herein, any notice or document will be deemed given or delivered on the earliest of (a) the date actually received if hand delivered, e-mailed, or faxed (provided confirmation of complete receipt of said fax is received by the transmitting party during normal business hours or the next Business Day if not confirmed during normal business hours), (b) the first Business Day after deposit with an overnight delivery service, or (c) on the date deposited in the mail, if mailed. Actual notice, however and from whoever given or received, shall always be effective when received. With respect to notices or documents sent via e-mail, said e-mail may contain an attachment in portable document format (“pdf”), which pdf attachment will be considered as part of the e-mail transmission for notice purposes .

8.3 Waiver • Remedies Cumulative. No failure to exercise and no delay in exercising on the part of Lender of any right, power or privilege under any Loan Document shall operate as a waiver thereof, nor shall any single or partial exercise of any right, power or privilege under any Loan Document preclude any other right, power or privilege. The rights and remedies provided in the Loan Documents are cumulative of, and not exclusive of, any rights or remedies provided by law, in equity, or in any other agreement or Loan Document, all of which Lender may pursue at any time and from time to time.

8.4 Assignment. This Agreement shall be binding upon Borrower, Guarantor, and Lender and their respective successors and permitted assigns; provided, however, neither Borrower nor Guarantor may assign or transfer any of their rights or obligations hereunder without the prior written consent of Lender, and any such assignment or transfer without such consent shall be null and void. Borrower acknowledges and agrees that Lender may sell one or more participations or assign its interest in all or any part of the Loan to others.


LOAN AGREEMENT		Page 29

8.5 Severability. . If a court of competent jurisdiction finds any provision of this Agreement, the Note, or any other Loan Document to be invalid or unenforceable as to any Person or circumstance, such finding shall not render that provision invalid or unenforceable as to any other Person or circumstance. If feasible, any such unenforceable or invalid provision shall be deemed to be modified to be within the limits of enforceability or validity; however, if such provision cannot be so modified, it shall be stricken and all of the remaining provisions of the Loan Documents in all other respects shall remain valid and enforceable and in no way affected thereby.

8.6 Expenses, Etc. Borrower shall pay or reimburse Lender on demand: (a) the reasonable fees and expenses of legal counsel to Lender, in connection with the preparation, negotiation, execution and delivery of this Agreement (including the Exhibits and schedules hereto), and the other Loan Documents and the making of the Loan, and any modification, supplement or waiver of any of the terms of this Agreement, or any other Loan Document; (b) out-of-pocket expenses incurred by Lender in connection with the preparation, documentation and administration of the Loan or any of the Loan Documents; and (c) all amounts expended, advanced or incurred by Lender to satisfy any obligation of Borrower, Guarantor or any Party under this Agreement or any other Loan Document to collect the Obligations or to enforce, protect, preserve or defend the rights of Lender under this Agreement or any other Loan Document, including, without limitation, fees and expenses incurred in connection with Lender’s participation as a member of a creditor’s committee in a case commenced under the Bankruptcy Code or other similar law, fees and expenses incurred in connection with lifting the automatic stay prescribed in Section 362 of the Bankruptcy Code, fees and expenses incurred in connection with any action pursuant to Section 1129 of the Bankruptcy Code and all other customary out-of-pocket expenses incurred by Lender in connection with such matters, together with interest thereon at the Past Due Rate on each such amount until the date of reimbursement to Lender.

8.7 Indemnification. Borrower shall indemnify the Lender and its directors, officers, employees and agents from, and hold each of them harmless against, any and all losses (except loss of profits), liabilities, claims or damages to which any of them may become subject, REGARDLESS OF WHETHER CAUSED IN WHOLE OR IN PART BY THE NEGLIGENCE OF ANY INDEMNIFIED PARTIES, except for gross negligence or willful conduct of the Lender, insofar as such losses (except loss of profits), liabilities, claims or damages arise out of or result from any (i) actual or proposed use by Borrower of the proceeds of any extension of credit by Lender hereunder; (ii) breach by Borrower of this Agreement or any other Loan Document or the breach by any Party of any Loan Document; (iii) violation by Borrower or any other Party of any Legal Requirement; (iv) investigation, litigation or other proceeding relating to any of the foregoing, and Borrower shall reimburse Lender and its directors, officers, employees and agents, upon demand for any expenses (including legal fees) incurred in connection with any such investigation or proceeding; or (v) taxes (excluding income taxes and franchise taxes) payable or ruled payable by any Governmental Authority in respect of the Obligations or any Loan Document, together with interest and penalties, if any.


LOAN AGREEMENT		Page 30

8.8 Amendments, Etc. No amendment or modification of this Agreement, the Note or any other Loan Document shall in any event be effective against Borrower unless the same shall be agreed or consented to in writing by Borrower. No amendment, modification or waiver of any provision of this Agreement, the Note or any other Loan Document, nor any consent to any departure by Borrower therefrom, shall in any event be effective against the Lender unless the same shall be agreed or consented to in writing by Lender, and each such waiver or consent shall be effective only in the specific instance and for the specific purpose for which given.

8.9 Limitation of Interest. Borrower, Guarantor, and Lender intend to comply with the applicable law governing the Maximum Rate. Interest contracted for, charged, or received shall not exceed the Maximum Rate, and, if in any contingency whatsoever, Lender shall receive anything of value deemed interest under applicable law which would cause the interest contracted for, charged, or received by the holder thereof to exceed the maximum amount of interest permissible under applicable law, the excessive interest shall be applied to the reduction of the unpaid principal balance hereof and not to the payment of interest, or if such excessive interest exceeds the unpaid principal balance hereof such excess shall be refunded to Borrower, and the provisions of this Note and any demand on Borrower shall immediately be deemed reformed and the amounts thereafter collectible hereunder shall be reduced, without the necessity of the execution of any new documents, so as to comply with the applicable law, but so as to permit the recovery of the fullest amount otherwise called for hereunder. All interest paid or agreed to be paid to the holder hereof shall, to the extent permitted by applicable law, shall be amortized, prorated, allocated, and spread throughout the full term of such indebtedness until payment in full (including the period of any renewal or extension hereof) so that the rate or amount of interest on account of such indebtedness does not exceed the Maximum Rate.

8.10 Survival. The obligations of Borrower and Guarantor under each Loan Document to which each is a Party shall survive the repayment of the Loan.

8.11 Captions. Captions and section headings appearing herein are included solely for convenience of reference and are not intended to affect the interpretation of any provision of this Agreement.

8.12 Counterparts. This Agreement may be executed in any number of counterparts, all of which taken together shall constitute one and the same agreement and any of the parties hereto may execute this Agreement by signing any such counterpart.

8.13 Governing Law. This Agreement shall be governed by and construed in accordance with the laws of the State of Texas and the laws of the United States applicable to transactions within the State of Texas.

8.14 Venue. Borrower hereby irrevocably (a) agrees that any legal proceeding against Lender arising out of or in connection with the Loan Documents shall be brought in the district courts of Collin County, Texas, or in the United States District Court for the Eastern District of Texas, or elsewhere (collectively, the “Courts”); (b) submits to the nonexclusive jurisdiction of the Courts; (c) agrees and consents that service of process may be made upon it in any proceeding arising out of the Loan Documents or any transaction contemplated thereby by service of process as provided by Texas law; (d) WAIVES, to the fullest extent permitted by law, any objection which it may now or hereafter have to the laying of venue of any suit, action or proceeding arising out of any Loan Document or the transactions contemplated thereby in the Courts; and (e) WAIVES any claim that any such suit, action or proceeding in any Court has been brought in an


LOAN AGREEMENT		Page 31

inconvenient forum. Nothing herein shall affect the right of Lender to commence legal proceedings or otherwise proceed against Borrower in any jurisdiction or to serve process in any manner permitted by applicable law. Borrower agrees that a final and nonappealable judgment in any such action or proceeding may be enforced in other jurisdictions in any manner provided by law.

8.15 Construction Project. A portion of the proceeds of the Loan will be used to construct or improve certain Improvements on the Commercial Land. A Construction Rider is attached hereto and incorporated herein for all purposes and the undersigned hereby represent and agree that they have read the Construction Rider and agree to its terms and conditions.

8.16 Final Agreement. IN ACCORDANCE WITH SECTION 26.02 OF THE TEXAS BUSINESS AND COMMERCE CODE, LENDER HEREBY NOTIFIES BORROWER THAT :

(a) A LOAN AGREEMENT IN WHICH THE AMOUNT INVOLVED IN THE LOAN AGREEMENT EXCEEDS $50,000 IN VALUE IS NOT ENFORCEABLE UNLESS THE AGREEMENT IS IN WRITING AND SIGNED BY THE PARTY TO BE BOUND OR BY THAT PARTIES’ AUTHORIZED REPRESENTATIVE.

(b) THE RIGHTS AND OBLIGATIONS OF THE PARTIES TO AN AGREEMENT SUBJECT TO SUBSECTION (a) OF THIS SECTION SHALL BE DETERMINED SOLELY FROM THE WRITTEN LOAN AGREEMENT, AND ANY PRIOR ORAL AGREEMENTS BETWEEN THE PARTIES ARE SUPERSEDED BY AND MERGED INTO THE LOAN AGREEMENT.

(c) THE LOAN DOCUMENTS REPRESENT THE FINAL AGREEMENT BETWEEN THE PARTIES AND MAY NOT BE CONTRADICTED BY EVIDENCE OF PRIOR, CONTEMPORANEOUS, OR SUBSEQUENT ORAL AGREEMENTS OF THE PARTIES.

THERE ARE NO UNWRITTEN ORAL AGREEMENTS BETWEEN THE PARTIES.

IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of the date first written above.


LENDER: lst International Bank

By:		/s/ John Shaver
		Name: John Shaver Title: Vice President

Address for Notice: 1912 Avenue K Plano, Texas 75074 Attn: John Shaver, Vice President


LOAN AGREEMENT		Page 32


Fax No.: (972) 424-6328 BORROWER: Lazarus Energy LLC, a Delaware limited liability company By: Lazarus Energy Holdings LLC, a Delaware limited liability company, its sole member

By:		/s/ Jonathan Pitts Carroll
		Jonathan Pitts Carroll, Sr., Director

Address for Notice: 2929 Allen Parkway, Suite 1800 Houston, Texas 77019 Fax No.: (713) 850-0520 GUARANTOR:

/s/ Jonathan Pitts Carroll Jonathan Pitts Carroll, Sr.

Lazarus Energy Holdings LLC, a Delaware limited liability company

By:		Jonathan Pitts Carroll
		Jonathan Pitts Carroll, Sr. Director

Address for Notice: 2929 Allen Parkway, Suite 1800 Houston, Texas 77019 Fax No.: (713) 850-0520


LOAN AGREEMENT		Page 33

CONSTRUCTION RIDER TO LOAN AGREEMENT

This Construction Rider To Loan Agreement (this “Construction Rider”) is made and entered as of the Closing Date, by and among Lender, Borrower, and Guarantor. In the event the terms and provisions of this Construction Rider are in conflict with the terms and provisions of the Loan Documents, the terms and provisions of this Construction Rider will control. However, the terms, conditions, requirements, and agreements contained herein are intended to be in addition to, and not a replacement of, the terms, conditions, requirements, and agreements contained in, and consistent with, the Agreement.

Unless a particular term, word or phrase is otherwise defined or the context otherwise requires, capitalized terms, words and phrases used herein have the following meanings (all definitions that are defined in this Construction Rider in the singular to have the same meanings when used in the plural and vice versa). Capitalized terms not otherwise defined in this Construction Rider shall have the same meaning as defined in the Agreement:

“Advance” means a disbursement by Lender of any of the Escrow or proceeds of the Loan for the construction of the Improvements.

“Agreement” shall mean the Loan Agreement to which this Construction Rider is attached, as it may from time to time be amended, modified, restated or supplemented.

“Affidavit of Borrower” means a sworn affidavit of Borrower (and such other parties as Lender may require) to the effect that all statements, invoices, bills, and other expenses incident to the construction of the Improvements incurred to a specified date, whether or not specified in the Approved Budget, have been paid in full, except for (a) amounts retained pursuant to a Construction Contract, and (b) items to be paid from the proceeds of an Advance then being requested or in another manner satisfactory to Lender.

“Application for Advance” means a written application by Borrower (and such other parties as Lender may require) to Lender, on a form approved by Lender, specifying by name, current address, and amount all parties to whom Borrower is obligated for labor, materials, or services supplied for the construction of the Improvements and all other expenses incident to the Loan, the Commercial Land, and the construction of the Improvements, whether or not specified in the Approved Budget, requesting an Advance for the payment of such items, containing, if requested by Lender, an Affidavit of Borrower, accompanied by such schedules, affidavits, releases waivers, statements, invoices, bills, and other documents as Lender may request.

“Approved Budget” means a budget and cost itemization prepared by Borrower, and approved in writing by Lender, specifying the cost by item of (a) all labor, materials, and services necessary for the construction of the Improvements in accordance with the Plans and all Governmental Requirements; and (b) all other expenses anticipated by Borrower incident to the Loan, the Commercial Land, and the construction of the Improvements.

“Architect” means the architect named on Exhibit “1” attached hereto and incorporated herein by reference.

“Architectural Contract” means a written agreement between Borrower and Architect, if any, for architectural services pertaining to construction of the Improvements.


LOAN AGREEMENT		Page 34

“Escrow” means any funds placed on deposit with Lender or Lender’s Representative and to be disbursed per the Agreement or any other agreement.

“Completion Date” means the Completion Date specified in Exhibit “1”.

“Construction Contract” means each agreement made by Borrower for construction of the Improvements.

“Contractor” means each Person with whom Borrower makes a Construction Contract.

“Deed of Trust” means the Deed of Trust (With Security Agreement and Assignment of Rents) covering the Commercial Land and Improvements to secure payment and performance of the Obligations.

“Governmental Requirements” means all statutes, laws, ordinances, rules, regulations, orders, writs, injunctions or decrees of any Governmental Authority applicable to Borrower, Guarantor or the Commercial Land.

“Inspecting Architects/Engineers” means the inspecting architects and/or engineers, if any, specified by Lender from time to time.

“Lender’s Representative” means the party who would make the actual advances from Escrow to Borrower.

“Plans” means the final working drawings and specifications for the construction of the Improvements (including soil reports and engineering calculations) prepared by Architect and as modified or supplemented from time to time and approved by Lender, Borrower, any lessee of the Commercial Land, if applicable, and, to the extent necessary, by each Governmental Authority.

“Principal Debt” means the aggregate unpaid balance of all Advances of the Loan, and all other principal indebtedness, if any, under the Note, at the time in question.

“Title Company” means the title company or title companies named in Exhibit “1”.

“Title Insurance” means one or more title insurance commitments, binders, or policies, as Lender may require, issued by the Title Company, on a coinsurance or reinsurance basis (with direct access in Texas) if and as required by Lender, in the maximum amount of the Loan insuring or committing to insure that the Deed of Trust constitutes a valid lien covering the Commercial Land and all Improvements thereon subject only to those exceptions which Lender may approve.

A. General. Subject to the conditions hereof and the other terms, conditions, and requirements contained in the Agreement, and provided that an Event of Default has not occurred, Lender will make Advances for construction-related expenses to Borrower in accordance with this Construction Rider. However, prior to any construction-related Advance, the following additional terms and conditions must be satisfied:

Borrower must pay to Lender all required fees, costs, and expenses.


LOAN AGREEMENT		Page 35

Lender must obtain an inspection of and acceptable report on the Improvements by the Inspecting Architects/Engineers, if required by Lender.

The sum of the Principal Debt plus the amount of the requested Advance shall not be in excess of the amount then available under Section 3, below.

The Title Insurance shall be endorsed and extended, if required by Lender, to cover each Advance with no additional title exceptions objectionable to Lender.

Borrower shall procure and deliver to Lender, if required by Lender, releases or waivers of mechanic’s liens and receipted bills showing payment of all amounts due to all Persons who have furnished materials or services or performed labor of any kind in connection with the construction of any of the Improvements or otherwise with respect to the Commercial Land.

At the option of Lender, Advances shall be made only on the certificate of the Inspecting Architects/Engineers or other designated agent of Lender approved by the Lender, to which certificate shall be attached an estimate by the Contractor setting forth items to be paid out of the proceeds of each such Advance. However, the Lender may, at its discretion, make advances without requiring such certificate and Contractor’s estimate, in which event the Borrower shall furnish Lender a list of and the amounts of each items to be paid out of the Advances, or such other evidence that Lender may require.

B . Procedure for Borrowing . Lender shall not be required to make Advances more frequently than specified in Exhibit “1”, hereto. Each Application for Advance shall be submitted by Borrower to Lender a reasonable time (but not less than five Business Days) prior to the requested date (which must be a Business Day) of the Advance. Except as Lender may otherwise determine from time to time, each Advance will be made at Lender’s principal office or at such other place as Lender may designate.

C . Advances . Advances shall be made only for costs and expenses specified in the Approved Budget, and then only for work performed, services rendered, or materials furnished; invoices for same must be provided to Lender; no Advance shall be made for advance or unearned payments. Advances for payment of costs of construction of the Improvements shall be made only after actual commencement of construction of the Improvements and shall not exceed the aggregate of (a) the costs of labor, materials, and services incorporated into the Improvements in a manner acceptable to Lender, plus (b) if approved by Lender, the purchase price of all uninstalled materials to be utilized in the construction of the Improvements stored on the Commercial Land, or elsewhere with the written consent of, and in a manner acceptable to, Lender, less (c) retainage, if any, specified in Exhibit “1”, and less (d) all prior Advances for payment of costs of labor, materials, and services for the construction of the Improvements. Without limitation of other conditions applicable thereto, the final Advance, including all retainage, will not be made until Lender has received the following: (1) a completion certificate from the Architect and from the


LOAN AGREEMENT		Page 36

Inspecting Architects/Engineers, if any, (2) evidence that all Governmental Requirements have been satisfied, including, but not limited to, delivery to Lender of certificates of occupancy permitting the Improvements to be legally occupied, if applicable, (3) evidence that no mechanic’s or materialmen’s liens or other encumbrances have been filed and remain in effect against the Commercial Land, (4) final lien releases or waivers by Architect, Contractor, and all subcontractors, materialmen and other Persons who have supplied labor, materials or services for the construction of the Improvements, or who otherwise might be entitled to claim a contractual, statutory or constitutional lien against the Commercial Land, (5) an “as-built” Survey showing that the Improvements as completed do not encroach on any boundary line, easement, building set back line, or other restricted area. Ten percent (10%) retainage shall be withheld from all Advances until thirty (30) days after “completion” (as that term is used in §53.106 of the Texas Property Code) of the Improvements. In addition, the final Advance hereunder shall, at Lender’s option, be withheld until thirty (30) days after (i) the “completion” of the Improvements and (ii) an affidavit of completion has been filed with the county clerk of the county in which the Commercial Land is located in compliance with §53.106 of the Texas Property Code. To the extent that the Improvements are divided into phases or identifiable segments, references in the preceding sentence to a final Advance shall include each final Advance with respect to such a phase or segment. As a condition precedent to the first Advance for labor, materials, or construction services (whether or not it is the first Advance), Borrower and each original Contractor shall have jointly executed and recorded with the county clerk of the county in which the Commercial Land is situated, an affidavit of commencement of work, in form and substance approved by Lender, which contains the information required by §53.124(c) of the Texas Property Code, provided further that the date of commencement of work specified in such affidavit shall be subsequent to the date of recordation of the Deed of Trust.

D. Approved Budget Allocations. Lender shall not be obligated to make an Advance of an item allocated in the Approved Budget to the extent that the amount of the Advance of such item, when added to the amount of prior Advance of such item, would exceed the amount allocated to such item in the Approved Budget. Lender reserves the right to make Advances which are allocated to any of the items in the Approved Budget for such other items therein or in such different proportions as Lender may, in its sole discretion, deem necessary or advisable. Borrower may not reallocate items of cost in or change the Approved Budget without the prior written consent of Lender.

E. Disbursement of Loan Proceeds. The Borrower and Lender agree, anything herein or in the other Loan Documents to the contrary notwithstanding, that the Lender shall have the right, in its sole discretion, to advance the proceeds of the Loan in installments, from time to time, as, in the opinion of the Lender, funds are needed by the Borrower for the purposes herein expressed; and the Lender reserves the right in its discretion to advance only such part of said Loan proceeds as it deems best, and to discontinue making such Advances to the Borrower if, in its discretion, further or additional Advances shall seem to it unjustified, unwise or undesirable or if it deems itself insecure; and said Loan Documents shall be and remain valid and binding as security for the aggregate amount advanced at any time, whether or not the full amount of said Loan is Advanced. Lender will use its best efforts to make a requested disbursement within ten (10) days after Borrower has made a written request for payment and Lender has received all supporting information and documentation as may be required by Lender and/or any construction manager retained by Lender.


LOAN AGREEMENT		Page 37

F. Timely Payment of Construction Costs . The Borrower agrees to pay, as the work progresses, all bills for labor and materials going into construction of the Improvements, and agrees to submit to the Lender all such receipts, affidavits, canceled checks or other evidences of payment as may be requested from time to time, and when and if requested by the Lender at any time to furnish adequate proof of payment of all indebtedness of every kind and character incurred in the development of the Commercial Land and/or the construction of Improvements.

G . No Work Done—Condition of Premises . The Borrower warrants that no construction materials, supplies or equipment have been placed on the Commercial Land, that no labor has been performed therein incidental to the contemplated construction, and that Borrower has not received any notice of a claim of a mechanic’s or materialman’s lien against the Commercial Land except those liens shown on Exhibit “E” to this Agreement and which will be paid in full with proceeds of the Loan and released. Borrower also warrants that the Improvements are not now damaged or injured as a result of any fire, explosion, accident, flood or other casualty.

H . Work in Accordance with Plans . The Borrower agrees to proceed with diligence to construct the Improvements called for by the Plans and the Construction Contract, a copy of which Plans and Construction Contract have been delivered to the Lender, and Borrower further agrees that said construction work shall be done strictly in accordance with Plans and Construction Contract as approved by the Lender, and with all applicable Governmental Requirements. The Plans and the Construction Contract heretofore delivered to, and approved by, the Lender may not be materially changed, altered or added to without the prior written consent of Lender.

I . Disbursements. Inspections shall be made by a representative of Lender for all disbursements. At no time and in no event shall Lender be obligated to disburse funds in excess of the amount recommended by Lender’s agent or the Inspecting Architects/Engineers; or if any Event of Default shall have occurred; or if Lender is unsatisfied with the progress of construction; or, if in the sole opinion of Lender, the estimated remaining cost of construction in accordance with the Plans exceeds the remaining undisbursed portion of the Loan proceeds; or if any Improvements shall have been damaged by fire or other casualty and Lender shall not have received insurance proceeds sufficient in the sole judgment of Lender to effect the restoration of the Improvements to the condition immediately preceding such damage and in accordance with the Plans, if applicable, and permit the completion of the Improvements on or before the scheduled completion date. It is understood that any sum or sums required for the construction of the Improvements over and above the proceeds of the Loan herein agreed to be made shall be advanced by, and be the sole responsibility of, Borrower.

J. Remedies of Lender. Upon the occurrence of any Even of Default, and after the expiration of any applicable cure period, Lender shall at its option be entitled, in addition to and not in lieu of the remedies provided in the Agreement and other Loan Documents, to proceed to exercise any or all of the following remedies:

I. Require Borrower to vacate the Commercial Land and Improvements. Borrower agrees that, upon Lender’s request in the event of a Default, to immediately vacate the Commercial Land and Improvements;

2. Enter into possession of the Commercial Land and Improvements;


LOAN AGREEMENT		Page 38

3. Perform or cause to be performed any and all work and labor necessary to complete the Improvements in accordance with the Plans and Construction Contract;

4. Employ security watchmen to protect the Commercial Land and Improvements;

5. Disburse that portion of the Loan proceeds not previously disbursed (including any retainage) to the extent necessary to complete construction of the Improvements in accordance with Plans and Construction Contract, and if the completion requires a larger sum than the remaining undisbursed portion of the Loan, to disburse such additional funds, all of which funds so disbursed by Lender shall be deemed to have been disbursed to Borrower and shall be secured by the Security Documents. For this purpose, Borrower hereby constitutes and appoints Lender its true and lawful attorney-in-fact with full power of substitution to complete the construction of the Improvements in the name of the Borrower, and hereby empowers Lender as said attorney to take all actions necessary in connection therewith including any Escrow and any funds which may remain unadvanced under the Loan for the purpose of completing the Improvements in the manner called for by the Plans; to make such additions and changes and corrections in the Plans which shall be necessary or desirable to complete the Improvements in substantially the manner contemplated by the Plans; to employ such contractors, subcontractors, agents, architects, and inspectors as shall be required for said purposes; to pay, settle or compromise all existing or future bills and claims which are or may be liens against said Commercial Land, or may be necessary or desirable for the completion of the Improvements or the clearance of the title to the Commercial Land; to execute all applications and certificates in the name of Borrower which may be required by any construction contract and to do any and every act with respect to the construction of the Improvements and to take such action and require such performance as it deems necessary. In accordance therewith Borrower hereby assigns and quitclaims to Lender all sums to be advanced hereunder including retainage and any sums in escrow conditioned upon the use of said sums, if any, for the completion of the Improvements; and/or

6. Take any other action that Lender, in its sole discretion, deems necessary or advisable under the circumstances to protect and preserve the Collateral. Borrower agrees to immediately reimburse Lender for all costs incurred to protect and preserve the Collateral .

K . Right of Inspection . Borrower agrees to permit Lender and its representatives and agents to enter upon the Commercial Land during normal business hours with 24 hours notice and to inspect the Improvements and all materials to be used in the construction thereof and to cooperate and cause Contractor to cooperate with Lender and its representatives and agents during such inspections; provided, however, that this provision shall not be deemed to impose upon Lender any duty or obligation whatsoever to undertake such inspection, to correct any defects in the Improvements or to notify any person with respect thereto.

L . Correction of Defects . Borrower agrees to promptly correct any structural defect in the Improvements and to promptly correct any departure from the Plans not previously approved by Lender. An Advance shall not constitute a waiver of Lender’s right to require compliance with this, or any other, covenant.


LOAN AGREEMENT		Page 39

M. General Conditions. The following conditions shall be applicable throughout the term of the Agreement:

1. Rights of Third Parties. All conditions of the obligations of Lender hereunder, including the obligation to make Advances, are imposed solely and exclusively for the benefit of Borrower and Borrower’s successors and assigns and no other person shall have standing to require satisfaction of such conditions in accordance with their terms or be entitled to assume that Lender will refuse to make advances in the absence of strict compliance with any or all thereof and no other person shall, under any circumstances, be deemed to be a beneficiary of such conditions, any and all of which may be freely waived in whole or in part by the Lender at any time if in its sole discretion it deems it desirable to do so. In particular, Lender makes no representations and assumes no duties or obligations as to third parties concerning the quality of the construction by Borrower or the Improvements or the absence therefrom of defects. In this connection, Borrower agrees to and shall indemnify Lender from any liability, claims or losses resulting from the disbursement of the Loan proceeds or from the condition of the Improvements whether related to the quality of construction or otherwise and whether arising during or after the term of the Loan. This provision shall survive the repayment of said Loan and shall continue in full force and effect so long as the possibility of such liability, claims, or losses exists.

2. Evidence of Satisfaction of Conditions. Any condition of this Construction Rider which requires the submission of evidence of the existence or nonexistence of a specified fact or facts implies as a condition the existence or nonexistence, as the case may be, of such fact or facts, and Lender shall, at all times, be free to independently establish to its satisfaction and in its absolute discretion such existence or nonexistence.

N. Advances Do Not Constitute a Waiver. No Advance shall constitute a waiver of the conditions of Lender’s obligation to make further Advances nor, in the event Borrower is unable to satisfy any such condition, shall any such waiver have the effect of precluding Lender from thereafter declaring such inability to be a Default. In addition, any waiver of any provision of the Agreement shall not constitute a waiver of any other provision, and shall not act as a future waiver of any provision of the Agreement.

0. Compliance With Federal Law. Borrower will ensure that each Contractor complies with Executive Order 11246, entitled “Equal Employment Opportunity”, as amended by Executive Order 11375, and as supplemented by applicable Department of Labor Regulations (41 CFR, Part 60). Failure of the Contractor to comply with these laws will be an Event of Default.

P. Cost Overruns. Borrower will not allow any change and/or cost overrun on any contract or other commitment which will result in an additional cash flow expenditure and/or debt to the business and/or request for a subsequent loan, either guaranteed or not, without the express written approval of RBS. In no event will a subsequent Business & Industry Guaranteed Loan be approved to cover such costs. Furthermore, Borrower will not divert Loan funds from purposes identified in Section 2.2 of this Agreement for any of the aforementioned items without the express written approval of RBS. Failure to comply with the terms of this paragraph will be considered a material adverse change in the Borrower’s financial condition and a default under the Loan. In the event any of the aforementioned increases in costs and/or expenses are incurred by the Borrower, the Borrower must provide for such increases in a manner that there is no diminution of the Borrower’s operating capital.


LOAN AGREEMENT		Page 40

Q. Purpose of Loan and Escrow. The proceeds of the Loan and Escrow will be used for the purposes specified in the Loan Documents. Such Loan and Escrow will not be used directly or indirectly for personal, family, household or agricultural purposes or for the purposes of purchasing or carrying any Margin Stock or for the purpose of extending credit to others for the purpose of purchasing or carrying any Margin Stock.


LOAN AGREEMENT		Page 41

EXHIBIT “I”

CONSTRUCTION RIDER


Loan:		$10,000,000.00

The Architect:		N/A

The Closing Date:		The date of this Agreement.

The Completion Date:		On or before fourteen (14) weeks from project start.

The Contractor:		Spectrum Engineering, Inc. 11100 Mead Road, Suite 110 Baton Rouge, Louisiana 70816

The Improvements:		Restoration of the Crude Unit and related tankage of the existing Nixon, Texas plant to operational condition to produce Raw Kerosene, Diesel, Gasoil and Reduced Crude pursuant to EPC Project Specific Contract (Contract Number 2580-08) dated July 30, 2008 by and between Lazarus Energy LLC and Spectrum Engineering, Inc., as Contractor, and in accordance with plans and specifications as more particularly described in said contract.

Retainage to be deducted from Advance:		Ten Percent (10%).

Frequency of Advances:		At sole discretion of Lender.

The Title Company:		Lawyers Title Insurance Corporation
		c/o Federal Title, Inc.
		6750 Hillcrest Plaza Drive, Ste. 315
		Dallas, Texas 75230


LOAN AGREEMENT		Page 42

EXHIBIT “A”

A. A first Deed of Trust lien in and to the Commercial Land.

B. The following personal property of Borrower, wherever located, and whether now owned

or hereafter acquired or arising, including Proceeds and Supporting Obligations, but in all cases exluding accounts receivable and inventory (Any capitalized term relating to a Collateral definition and not otherwise defined in this Agreement, shall have the meaning accorded thereto in the Uniform Commercial Code, as now enacted and hereinafter amended in the State of Texas):

Chattel Paper, including Tangible Chattel Paper and Electronic Chattel Paper;

Deposit Accounts;

Documents;

General Intangibles, including Payment Intangibles;

Goods, including Equipment, Fixtures, and Accessions;

Instruments, including Promissory Notes;

7 .

Records; and

Software .

C. A fourth Deed of Trust lien in and to the Residential Property.

D. An assignment of a $5,000,000.00 life insurance policy on the life of Jonathan P. Carroll.

Any capitalized term in Section B, above, shall have the respective meanings assigned to them in the UCC in force on the Closing Date.

Exhibit A-1

Being a 56,309 ACRE TRACT situated George McPeters Survey, A-419, Wilson County, Texas. Said 56,309 ACRE TRACT is that tract conveyed by Bill Klingemann Substitute Trustee, to Notre Dame Investors, Inc, by Substitute Trustee’s Deed, in Volume 1159 at Page 609, dated May 06, 2003 and is comprised of all the tract called 51.30 acres in conveyance from Leal Petroleum Corporation to American Petro Chemical Corporation recorded in Volume 842 at Page 705 and all of a tract called 5.000 acres in conveyance from Notre Dame Refining Corporation to American Petro Chemical Corporation recorded in Volume 1049 at Page 651 of the Official Records of said county and being described by metes and bounds as follows:

BEGINNING at a one-half inch diameter rebar set with cap (B&A) marking the northwest corner of the tract herein described, same being the northwest corner of said 51.30 acre tract, northeast corner of a tract called Tract 2-B (41.245 acres) in Volume 685 at Page 101, lying in the south line of a tract called 7.654 acres in Volume 271 at Page 30, further described as lying in the south line of U.S. Highway No. 87; said point bears N 76° 16’ 00” E, 1495.62 feet from a concrete right of way marker found;

THENCE with a segment of the north line of the tract herein described, same being a segment of the common line of said 51.30 acre tract and said 7.654 acre tract, along a segment of the south line of U.S. Highway 87, N 76° 16’ 00” E, 140.71 feet (called N 76° 16’ E, 140.0 feet—basis of bearing) to a one-half inch diameter rebar set with cap (B&A) marking a north corner of the tract herein described, same being the north corner of said 51.30 acre tract, northwest corner residue called 640 acres in Volume X at Page 136;

THENCE continuing with the north line of the tract herein described, same being the common line of said 51.30 acre tract with that of said residue 640 acre tract and a tract called 1.666 acres in Volume 1030 at Page 772 as follows: S 13° 27’ 49” E, 208.63 feet (called S 13° 37’ E, 207.4 feet) to a five-eighths inch diameter rebar found near a two way fence corner, N 76° 26’ 34” E, 368.39 feet (called N 76° 29’ E, 368.4 feet) to a one-half inch diameter rebar set with cap (B&A), N 76° 28’ 28” E, 31.40 feet (called N 76° 49’ E, 31.4 feet) to a five-eighths inch diameter rebar found near a two way fence corner, S 13° 55’ 25” E, 238.17 feet (called S 14° 00’ E, 238.0 feet) to a five-eighths inch diameter rebar found marking a reentrant corner of the tract herein described, same being the southwest corner of said residue 640 acre tract, N 76° 06° 05” E, at 386.77 feet a one Inch diameter iron pipe found and at, 388.52, (N 76° 16 ¹ E, 388.1 feet) to a one-half inch diameter rebar set with cap (B&A) marking a re-entrant corner of he (the) tract herein described, same being the southeast corner of said residue 640 acre tract and N 13° 36’ 45” W, at 1.84 feet a one inch diameter iron pipe found and at 446.92 feet (called N 13° 37’ W, 447.1 feet) to a one-half inch diameter rebar found marking a north corner of the tract herein described, same being the northeast corner of said 1.666 acre tract, lying in the south line of said 7.654 acre tract, further described as lying in the south line of U.S. Highway 87;

THENCE continuing with the north line of the tract herein described, same being a segment of the common line of said 51.30 acre tract and said 5.000 acre tract with that of said 7.654 acre tract, along a segment of the south line of U.S. Highway 87 as follows: N 76° 16 ¹ 00” E, 275.15 feet (called N 76° E, 275.3 feet) to a railroad spike found in asphalt driveway, N 81° 58’ 38” E, 100.50 feet (called N 82° 12’ E, 99.2 feet) to a one-half Inch diameter rebar set with cap (B&A), N 76° 16’ 00” E, 800.00 feet (called N 76° 14’ E, 800.5 feet) to a one-half inch diameter rebar set with cap (B&A), N 70° 33’ 22” E, 100.50 feet(called N 70 ^° 43’ E, 101.2 feet) to a concrete right of way marker found broken, and N 76° 16’ 00” E, 464.56 feet (in total called No record call, and N 75° 02’ 04” E, 278 feet) to a one-half inch diameter rebar set with cap (B&A) marking the northeast corner of the tract herein described, same being the northeast corner of said 5.000 acre tract, lying in the south line of said 7.654 acre tract, being the northwest corner of a tract called 200.008 acres in Volume 691 at Page 41; said point bears S 76° 16’ 00” W, 278.37 feet from an iron pipe found;

THENCE with the east line of the tract herein described, same being a segment of the common line of said 5.000 acre tract and said 51.30 acre tract with that of said 200.008 acre tract as follows: S 13° 43’ 44” E, 783.78 feet (called S 15° 01’ E, 783.5 feet) to a five-eighths inch diameter rebar found near a two way fence corner marking the east most southeast corner of the tract herein described, same being the southeast corner of said 5.000 acre tract, re-entrant corner of said 200.008 acre tract, S 76° 16’ 39” W, 277.87 feet (called 5 75° 02’ 04” W, 278 feet) to a five-eighths inch diameter rebar found marking a reentrant corner of the tract herein described, same being the southwest corner of said 5.000 acre tract, lying in the east line of said 51.30 acre tract and being a north corner of said 200.008 acre tract, and S 13° 24’ 23” E, 261.29 feet (called S 13° 24’ E, 261.7 feet) to a four inch diameter iron pipe post fence corner marking the south most southeast corner of the tract herein described, same being the southeast corner of said 51.30 acre tract and reentrant corner of said 200.008 acre tract;

THENCE with the south line of the tract herein described, same being a segment of the common line of said 51.30 acre tract and said 200.008 acre tract as follows: S 76° 08’ 20” W, 768.00 feet (called S 76° 10’ W, 768.0 feet) to a one-half inch diameter rebar set with cap (B&A), and S 76° 15’ 20” W, 1619.78 feet (called S 76° 17’ W, 1619.8 feet) to a five-eighths inch diameter rebar found near a three way fence corner marking the southwest corner of the tract herein described, same being the southwest corner of said 51.30 ay acre tract, lying in the north line of said 200.008 acre tract and being the southeast corner of said 41.245 acre tract;

THENCE with the west line of the tract herein described, same being the common line of said 51.30 acre tract and said 41.245 acre tract as follows: N 13° 57’ 38” W, 223.50 feet (called N 13° 55’ W, 223.5 feet) to a one-half inch diameter rebar set with cap (B&A), N 13° 53’ 37” W, 3/3.70 feet(called N 13° 51’ W, 373.7 feet) to a fence post, and N 13° 49’ 38” W, 449.84 feet (called N 13° 47’ W, 448.8 feet) to the PLACE OF BEGINNING and containing 56.309 ACRES OF LAND.

EXHIBIT “A-2”

THE LAND REFERRED TO IN THIS REPORT IS SITUATED IN THE STATE OF CALIFORNIA, COUNTY OF SAN MATEO, TOWN OF WOODSIDE AND IS DESCRIBED AS FOLLOWS:

PARCEL I:

BEGINNING AT A POINT IN THE CENTERLINE OF A STATE HIGHWAY, FORMERLY A COUNTY ROAD, DESIGNATED AS ROUTE 6 DIVISION 2 OF THE SAN MATEO COUNTY ROAD SYSTEM, SAID POINT OF BEGINNING BEING DISTANT SOUTHEASTERLY ALONG SAID CENTERLINE SOUTH 40„a 10’ EAST 370.00 FEET FROM ENGINEER’S STATION 300 PLUS 96.81 OF THE COUNTY ENGINEER’S SURVEY OF SAID ROUTE 6 DIVISION 2, SAID STATION BEING MARKED ON THE GROUND BY CONCRETE MONUMENTS SET OPPOSITE AS SHOWN ON THAT CERTAIN RECORD OF SURVEY MAP FILED IN BOOK 1 OF RECORD OF SURVEY MAPS AT PAGE 102, RECORDS OF SAN MATEO COUNTY; THENCE FROM SAID POINT OF BEGINNING LEAVING THE CENTERLINE OF SAID HIGHWAY SOUTH 6„a 01’ EAST 190.72 FEET; THENCE SOUTH 25„a 00’ EAST 77.00 FEET; THENCE SOUTH 14,„a 15’ WEST 100.00 FEET; THENCE SOUTH 35„a 43’ EAST 225.00 FEET; THENCE NORTH 70„a 51’ EAST 15.00 FEET; THENCE SOUTH 19,a 09’ EAST 110.45 FEET; THENCE SOUTH 10„a 52’ 30” EAST 91.76 FEET; THENCE SOUTH 20„a 37 EAST 112.69 FEET; THENCE SOUTH 6„a 50’ WEST 15.75 FEET TO A POINT WHICH BEARS SOUTH 23„a 48’ EAST 23.58 FEET FROM AN IRON PIPE MONUMENT; THENCE SOUTH 23„a 48’ EAST 104.42 FEET TO A NAIL SET IN THE ROOT OF AN OAK TREE 30 INCHES IN DIAMETER; THENCE SOUTH 62„a 45’ EAST 188.15 FEET TO AN IRON PIPE MONUMENT; THENCE NORTH 45„a 22’ EAST 261 FEET, MORE OR LESS, TO THE CENTERLINE OF THE HEREINABOVE MENTIONED STATE HIGHWAY; THENCE NORTHWESTERLY ALONG SAID CENTERLINE 1075 FEET, MORE OR LESS, TO THE POINT OF BEGINNING.

EXCEPTING ‘THEREFROM ANY AND ALL PORTIONS OF THE HEREINABOVE DESCRIBED PARCEL THAT LIE WITHIN THE LIMITS OF SAID STATE HIGHWAY.

PARCEL II:

AND MARIE E. CHRIST, HIS WIFE, DATED SEPTEMBER 28, 1953 AND RECORDED OCTOBER 28, 1953 IN VOLUME 2491 OF OFFICIAL RECORDS OF SAN MATEO COUNTY, AT PAGE 555, SOUTH 06„a 01’ EAST 190.72 FEET, SOUTH 25„a 00’ EAST 77.00 FEET AND SOUTH 14,,a 15’ WEST 100.00 FEET TO THE TRUE POINT OF BEGINNING OF THIS DESCRIPTION; THENCE FROM SAID TRUE POINT OF BEGINNING ALONG SAID WESTERLY LINE OF SAID 4.46 ACRE PARCEL SOUTH 35„a 43’ EAST 225.00 FEET; THENCE LEAVING SAID WESTERLY LINE SOUTH 54„a 06’ 10” WEST 70.50 FEET; THENCE NORTH 18„a 20’ 10” WEST 236.00 FEET TO THE POINT OF BEGINNING.

PARCEL III:

AN EASEMENT FOR ROADWAY PURPOSES OVER A PORTION OF THAT CERTAIN STRIP OF LAND 30 FEET IN WIDTH HEREINAFTER DESCRIBED AS PARCEL “A”. SAID PORTION BEING 15 FEET IN WIDTH AND LYING SOUTHWESTERLY OF AND IMMEDIATELY ADJACENT TO THAT PORTION OF THE CENTERLINE OF SAID PARCEL “A” DESCRIBED AS FOLLOWS:

BEGINNING AT A POINT IN THE CENTERLINE OF PARCEL “A” SAID POINT OF BEGINNING BEING DISTANT SOUTHEASTERLY ALONG SAID CENTERLINE 570.71 FEET FROM THE POINT OF BEGINNING OF SAID PARCEL “A”; THENCE ALONG SAID CENTERLINE SOUTH 19,,a 09’ EAST 110.45 FEET; SOUTH 10„a 52’ 30” EAST 91.76 FEET AND SOUTH 20„a 37’ EAST 102.66 FEET AND SOUTH 6„a 50’ EAST 15.75 FEET.

PARCEL “A”—A STRIP OF LAND 30 FEET IN WIDTH, LYING 15 FEET ON EITHER SIDE OF THE FOLLOWING DESCRIBED CENTERLINE:

BEGINNING AT A POINT IN THE CENTERLINE OF A STATE HIGHWAY, FORMERLY A COUNTY ROAD, DESIGNATED AS ROUTE 6 DIVISION 2 OF THE SAN MATEO COUNTY ROAD SYSTEM, SAID POINT OF BEGINNING BEING DISTANT SOUTHEASTERLY ALONG SAID CENTERLINE SOUTH 40„a 10’ EAST 370.00 FEET FROM ENGINEER’S STATION 300 PLUS 96.81 OF THE COUNTY ENGINEER’S SURVEY OF SAID ROUTE 6 DIVISION 2, SAID STATION BEING MARKED ON THE GROUND BY CONCRETE MONUMENTS SET OPPOSITE AS SHOWN ON THAT CERTAIN RECORD OF SURVEY MAP FILED IN BOOK 1 OF RECORD OF SURVEY MAPS AT PAGE 102, RECORDS OF SAN MATEO COUNTY; THENCE FROM SAID POINT OF BEGINNING SOUTH 25,a 49’ 20” EAST 275.82 FEET; THENCE SOUTH 0„a 06’ WEST 131.71 FEET; THENCE SOUTH 19„a 09’ EAST 163.18 FEET TO A POINT IN THE SOUTHWESTERLY LINE OF THE HEREINABOVE DESCRIBED 4.46 ACRE PARCEL, SAID POINT BEING DEFINED AS THE EASTERLY TERMINUS OF THE COURSE DESCRIBED AS “NORTH 70„a 51’ EAST 15.00 FEET’ IN THE DESCRIPTION OF SAID 4.46 ACRE PARCEL; THENCE FOLLOWING THE SOUTHWESTERLY BOUNDARY OF SAID 4.46 ACRE PARCEL SOUTH 19„a 09’ EAST 110.45 FEET; SOUTH 10„a 52’ 30” EAST 91.76 FEET, SOUTH 20„a 37’ EAST 112.69 FEET AND SOUTH 6„a 50’ WEST 15.75 FEET TO A POINT WHICH BEARS SOUTH 23,,a 48’ EAST 23.58 FEET FROM AN IRON PIPE MONUMENT.

APN: 072-180-050 and 072-180-010 and 072-180-080 and 072-180-070, 3PN: 072-018-180-01A AND 072-018-180-08A AND 072-018-180-07A AND 072-01B-180-05A

EXHIBIT ⁴ ’B”


	PROMISSORY NOTE	Note No. 273725

$10,000,000.00		September , 2008

FOR VALUE RECEIVED, Lazarus Energy LLC, a Delaware limited liability company (hereinafter referred to as “Maker”), hereby unconditionally promises to pay to the order of 1st International Bank (“Payee”) at 1912 Avenue K, Plano, Texas 75074, or at such other address given to Maker by Payee, the principal sum of TEN MILLION AND NO/100 DOLLARS ($10,000,000.00), in lawful money of the United States of America, together with interest per annum (calculated on the basis of a 360-day year) on the unpaid principal balance from day-to-day remaining, computed from the date of advance until maturity at the rate equal to the lesser of (a) the Maximum Rate (as hereinafter defined) or (b) Prime Rate (as hereafter defined) plus two and one quarter percent (P + 2.25 %)*. The interest rate as of the date hereof is 7.25%. Principal and interest under this note (the “Note”) are due and payable as follows:

Initial monthly payment of principal and interest shall be due and payable in the amount of Eighty Thousand One Hundred Thirty-Nine and 73/100 Dollars ($80,139.73), with the first such installment due on the day of , 2008. Monthly payments shall continue to be due and payable on the same day of each calendar month thereafter until , 2028 (the

“Maturity Date”), when all unpaid principal and unpaid interest shall be due and payable in full. Monthly payments shall be increased or decreased based on the changes in interest rate to ensure that the entire loan balance is paid in full on the final Maturity Date.

The interest rate will adjust on the first day of each calendar quarter (the “Adjustment Date”) to a rate equal to TWO AND ONE QUARTER PERCENT (2.25%) per annum (on the basis of actual days elapsed over a 360-day year) above the minimum prime lending rate charged by large U.S. money center commercial banks as published from time to time in the Money Rates Section of the Wall Street Journal (“Prime Rate”), each change in the rate charged hereunder to become effective without notice to the undersigned as of the Adjustment Date, but in no event shall the rate charged hereunder exceed the Maximum Rate (as hereafter defined). The undersigned understand and acknowledge that Payee may from time to time make various loans at rates of interest having no relationship to the Prime Rate, and that the Prime Rate may not be the lowest interest rate charged for loans by Payee. In the event the Wall Street Journal is no longer published or in the event the Wall Street Journal discontinues publishing a “Prime Rate”, the Prime Rate shall be the nearest comparable published rate, as determined by the holder of this Note.


PROMISSORY NOTE		PAGE 1

The term “Maximum Rate, “ as used herein, shall mean, with respect to each holder hereof, the maximum nonusurious interest rate, if any, that at any time, or from time to time, may under applicable law be contracted for, taken, reserved, charged or received on the indebtedness evidenced by this Note under the laws which are presently in effect of the United States and the State of Texas applicable to such holder and such indebtedness or, to the extent allowed by law under such applicable laws of the United States of America and the State of Texas which may hereafter be in effect, which allow a higher maximum non-usurious interest rate than applicable laws now allow; provided, that in determining the Maximum Rate, due regard shall be given, to the extent required by applicable law, to any and all relevant payments, fees, charges, deposits, balances, agreements and calculations which may constitute or be deemed to constitute interest, or be deducted from principal to calculate the interest rate or otherwise affect interest rate determinations, so that in no event shall the Payee contract for, charge, receive, take, collect, reserve or apply, on the Note, any amount in excess of the maximum non-usurious rate of interest permitted by applicable law. To the extent that Texas law determines the Maximum Rate, the Maximum Rate shall be determined by utilizing the “indicated rate ceiling” from time to time in effect pursuant to the Texas Finance Code (V.T.C. A. Finance Code Section 303.001 et seq.) (the “Texas Finance Code”) or such successor statute, as then in effect, governing usury. The Maximum Rate shall not be limited to the applicable rate ceiling in the Texas Finance Code or such successor statute if Federal laws or other state laws now or hereafter in effect and applicable to this Note (and the interest contracted for, charged and collected hereunder) shall permit a higher rate of interest.

Maker and Payee intend to comply with the applicable law governing the Maximum Rate. Interest contracted for, charged, or received shall not exceed the Maximum Rate, and, if in any contingency whatsoever, Payee shall receive anything of value deemed interest under applicable law which would cause the interest contracted for, charged, or received by the holder thereof to exceed the maximum amount of interest permissible under applicable law, the excessive interest shall be applied to the reduction of the unpaid principal balance hereof and not to the payment of interest, or if such excessive interest exceeds the unpaid principal balance hereof such excess shall be refunded to Maker, and the provisions of this Note and any demand on Maker shall immediately be deemed reformed and the amounts thereafter collectible hereunder shall be reduced, without the necessity of the execution of any new documents, so as to comply with the applicable law, but so as to permit the recovery of the fullest amount otherwise called for hereunder. All interest paid or agreed to be paid to the holder hereof shall, to the extent permitted by applicable law, shall be amortized, prorated, allocated, and spread throughout the full term of such indebtedness until payment in full (including the period of any renewal or extension hereof) so that the rate or amount of interest on account of such indebtedness does not exceed the Maximum Rate.

As of the seventh anniversary of this Note, should the outstanding principal amount due hereunder be greater than $7,850,000.00, Maker will make a one-time principal reduction in an amount sufficient to reduce the principal balance to $7,850,000.00 (the “Required Principal Reduction”). The Required Principal Reduction will be subject to the Prepayment Consideration (as hereinafter defined).


PROMISSORY NOTE		PAGE 2

Maker agrees to pay a late charge of five percent (5%) of the payment amount if such payment is not received within ten (10) days of the due date. Payments, when made, shall be applied in a manner and order according to the sole discretion of the holder of this Note.

All past-due principal and, to the extent permitted by applicable law, past-due interest upon this Note shall bear interest at the Maximum Rate.

Remittances in payment of any part of this Note other than in the required amount in immediately available funds at the place where this Note is payable shall not, regardless of any receipt or credit issued therefor, constitute payment until the required amount is actually received by Payee in full accordance herewith and shall be made and accepted subject to the condition that any check or draft may be handled for collection in accordance with the practice of the collecting bank or banks. Acceptance by Payee of any payment in an amount less than the full amount then due shall be deemed an acceptance on account only, and the failure to pay the entire amount then due shall be and continue to be a Default (hereinafter defined).

This Note is secured in part by a Deed of Trust (with Security Agreement and Assignment of Rents), which together with all other documents evidencing, securing or pertaining to the transaction in which the indebtedness evidenced hereby is incurred are collectively referred to as the “Loan Documents” .

Maker and each surety, endorser, guarantor and other party ever liable for payment of any sums of money payable on this Note, jointly and severally waive presentment, protest, notice of protest and nonpayment, notice of default and notice of acceleration and intention to accelerate, and agree that their liability under this Note shall not be affected by any renewal or extension in the time of payment hereof, or in any indulgences, or by any release or change in any security for the payment of this Note, and hereby consent to any and all renewals, extensions, indulgences, releases or changes, regardless of the number of such renewals, extensions, indulgences, releases or changes.

If this Note or any Loan Documents are given by Payee to an attorney for collection or enforcement, or if suit is brought for collection or enforcement, or if it is collected or enforced through probate, bankruptcy, or other judicial proceeding, then Maker shall pay Payee all costs of collection and enforcement, including reasonable attorney’s fees and court costs, in addition to other amounts due.

No waiver by Payee of any of its rights or remedies under this Note or any Loan Documents, shall be considered a waiver of any other right or remedy of Payee; no delay or omission in the exercise or enforcement by Payee of any rights or remedies shall ever be construed as a waiver of any right or remedy of Payee; and no exercise or enforcement of any such rights or remedies shall ever be held to exhaust any right or remedy of Payee.


PROMISSORY NOTE		PAGE 3

Maker agrees that in the event any portion of this Note is prepaid in whole or in part prior to the Maturity Date, so as to constitute a “Prepayment”, consideration will be tendered with the prepayment to the Payee (“Prepayment Consideration”) based upon the following schedule:

Ten percent (10.0 %) of the outstanding loan principal balance prepaid if prepaid during the first Loan Year.

Nine percent (9.0%) of the outstanding loan principal balance prepaid if prepaid during the second Loan Year.

Eight percent (8.0%) of the outstanding loan principal balance prepaid if prepaid during the third Loan Year.

Seven percent (7.0%) of the outstanding loan principal balance prepaid if prepaid during the fourth Loan Year.

Six percent (6.0%) of the outstanding loan principal balance prepaid if prepaid during the fifth Loan Year.

Five percent (5.0%) of the outstanding loan principal balance prepaid if prepaid during the sixth Loan Year.

Four percent (4.0 %) of the outstanding loan principal balance prepaid if prepaid during the seventh Loan Year.

Three percent (3.0%) of the outstanding loan principal balance prepaid if prepaid during the eighth Loan Year.

Two percent (2.0%) of the outstanding loan principal balance prepaid if prepaid during the ninth Loan Year.

One percent (1.0%) of the outstanding loan principal balance prepaid if prepaid during the tenth Loan Year.

It is understood and agreed that a “Prepayment” shall be any principal payment on this Note other than scheduled monthly payments of principal and interest as provided under this Note. A “Loan Year” is defined as the twelve (12) month period commencing on the date of this Note or any consecutive twelve (12) month period during the term hereof.

Maker acknowledges that the Prepayment Consideration is consideration to Payee for the privilege of prepaying the indebtedness evidenced by this Note prior to maturity, and Maker recognizes that Payee would incur substantial additional costs and expenses in the event of a prepayment of the indebtedness evidenced by this Note and that the Prepayment Consideration compensates Payee for such costs and expenses (including without limitation, the loss of Payee’s investment opportunity during the period from the date of prepayment until the Maturity Date).


PROMISSORY NOTE		PAGE 4

Maker agrees that Payee shall not, as a condition to receiving the Prepayment Consideration, be obligated to actually reinvest the amount prepaid in any manner whatsoever.

“Default” shall mean any one or more of the following: (i) the failure by Maker to pay any installment of principal or interest under this Note when due, (ii) the failure by Maker to pay all sums owed to Payee under this Note and every Loan Document on or before the Maturity Date, or (iii) the occurrence of any Event of Default under the Loan Documents.

Upon the occurrence of a Default, Payee may, at its option, without notice or demand, declare the unpaid principal balance of, and the accrued but unpaid interest on this Promissory Note immediately due and payable and exercise and pursue any and all other rights and remedies as provided herein or in any of the Loan Documents.

Upon the occurrence of a Default, Payee is hereby authorized at any time and from time to time, without notice to Maker (any such notice being expressly waived by each such Maker), to set off and apply any and all deposits (general or special, time or demand, provisional or final) at any time held, and other indebtedness at any time owing, by the Payee to or for the credit or the account of Maker, against any and all obligations of such Maker now or hereafter existing under this Note, irrespective of whether or not Payee shall have made demand under this Note and although such obligations may be contingent and unmatured. The rights of the Payee under this section are in addition to all other rights and remedies (including, without limitation, other rights of offset) which Payee may have hereunder or under any applicable law.

All obligations, covenants, and terms of payment are expressly performable solely in Collin County, Texas. The substantive laws of the State of Texas shall govern the validity, construction, enforcement and interpretation of this Note. In the event of a dispute involving this Note or any of the Loan Documents, the undersigned irrevocably agrees that venue for such dispute shall lie in any court of competent jurisdiction in Collin County, Texas.


Maker: Lazarus Energy LLC, a Delaware limited liability company

By:		Lazarus Energy Holdings LLC, a Delaware limited liability company, its sole ember —


		/s/ Jonathan Pitts Carroll
		Jonathan Pitts Carroll, Sr. Director


PROMISSORY NOTE		PAGE 5

EXHIBIT “C”

NONE

EXHIBIT “D”

NONE

EXHIBIT “E”

1.	Prior Liens against the Commercial Land:


$8,000,000.00		DEED OF TRUST—ROLAND OBERLIN, SUCCESSOR ESCROW AGENT—Four Million Three Hundred Thousand and No/100 Dollars ($4,300,000.00) of the Loan proceeds will be paid to this creditor on or about the Closing Date. This Lien will be subordinated to the Lien of Lender.

$ 33,066.46		AFFIDAVIT OF CLAIM FOR MECHANIC’S AND MATERIALMAN’S LIEN—AUSTIN MAINTENANCE & CONSTRUCTION, INC.—This Lien will be paid in full from proceeds of the Loan and released

$ 521,370.99		AFFIDAVIT CLAIMING MECHANIC’S AND MATERIALMAN’S LIEN—H & S CONSTRUCTION, INC.—This Lien will be paid in full from proceeds of the Loan and released

$ 157,378.94		LIEN AFFIDAVIT AND CLAIM—RABALAIS I&E CONSTRUCTORS—This Lien will be paid in full from proceeds of the Loan and released

$ 2,735.32		MECHANIC’S AND MATERIALMAN’S LIEN AFFIDAVIT—SOUTHERN STEEL & SUPPLY, LLC—This Lien will be paid in full from proceeds of the Loan and released

2.	Prior Liens against the Residential Property:


$3,750,000.00		NORTH AMERICAN LIFE IN—SURANCE COMPANY OF TEXAS—DEED OF TRUST—To remain in full force and effect

$3,000,000.00		AP ENERGY PARTNERS LLC—DEED OF TRUST—To remain in full force and effect

$2,988,000.00		JOHN KISSICK—DEED OF TRUST—To remain in full force and effect

Miscellaneous tax liens and delinquent tax obligations as described in Exhibit “E-1” attached hereto and made a part hereof.

EXHIBIT “E” (Continued)

3.	Prior Liens against the personal property described in Exhibit “A”:

Scoggin Capital Management, LP II, a Delaware limited partnership, in its capacity as collateral agent—This Lien will be subordinated to the Lien of Lender.

4.	Prior Liens against $5,000,000.00 life insurance policy on the life of Jonathan P. Carroll:

None

EXHIBIT “E-1”

Tax Liens and delinquent tax obligations against the Residential Property:

(a)	General and special taxes and assessments for the fiscal year 2008-2009 in the amount of $10,631.42.

(b)	General and special taxes and assessments for the fiscal year 2008-2009 in the amount of $14,314.94.

(c)	The lien of defaulted taxes for the fiscal year 2005-2006, and any subsequent delinquencies in the amount of $66,051.24.

(d)	The lien of defaulted taxes for the fiscal year 2005-2006, and any subsequent delinquencies in the amount of $89,639.85.

(e)	The lien of supplemental taxes, if any, assessed pursuant to Chapter 3.5 commencing with Section 75 of the California Revenue and Taxation Code.

Exhibit 10.2

STATE OF TEXAS

COUNTY OF WILSON

SUBORDINATION AGREEMENT

WHEREAS, on June 1, 2006, Lazarus Energy LLC, a Delaware limited liability company (the “Grantor’) conveyed to Steven R. Brook, Trustee, that certain Deed of Trust, Security Agreement and Financing Statement recorded in Volume 1342, Page 695 of the Official Public Records of Wilson County, Texas (the “Subordinated Deed of Trust”), to secure that certain Promissory Note in the original principal sum of EIGHT MILLION AND NO/100 DOLLARS ($8,000,000.00), payable to the order of Notre Dame Investors, Inc. (the “Subordinated Note”), which said Subordinated Deed of Trust encumbers that certain real estate described in Exhibit “A” attached hereto and incorporated by reference herein (the “Real Property”) and that certain personal property of Grantor more particularly described in the Subordinated Deed of Trust and UCC-1 Financing Statement Number 06-0019628294 (the “Personal Property”) ;

WHEREAS, the interest of Notre Dame Investors, Inc., in the Subordinated Note and Subordinated Deed of Trust was transferred and assigned to Steven R. Brook, Escrow Agent, pursuant to Transfer of Lien dated December 6, 2006, recorded in Volume 1375, Page 309 of the Official Public Records of Wilson County, Texas;

WHEREAS, the interest of Steven R. Brook, Escrow Agent, in the Subordinated Note and Subordinated Deed of Trust was transferred and assigned to Roland Oberlin, Successor Escrow Agent (“Oberlin”), pursuant to Transfer of Lien dated August 27, 2007, recorded in Volume 1421, Page 845 of the Official Public Records of Wilson County, Texas;

WHEREAS, Grantor has requested First International Bank (“Lender”) to advance funds to Grantor in the amount of TEN MILLION AND NO/100 DOLLARS ($10,000,000.00);

WHEREAS, Lender demands that, as a condition of granting Grantor’s request that Lender advance such funds (or any portion thereof), it be secured by a first and superior lien upon the Real Property and the Personal Property, and Grantor has requested Oberlin, the current owner and holder of the Subordinated Note and Subordinated Deed of Trust to subordinate his interest and liens in the Real Property and the Personal Property to the liens created in that certain Deed of Trust and that certain Security Agreement in favor of Lender as hereinafter set out; and

WHEREAS, Oberlin has agreed to the subordination herein effected.

NOW THEREFORE, KNOW ALL MEN BY THESE PRESENTS:


SUBORDINATION AGREEMENT

THAT Oberlin, for valuable consideration, the receipt and sufficiency of which are acknowledged, does hereby represent and agree that (a) the above recitations are true and correct; (b) he has the authority to enter into this Subordination Agreement; and (C) any and all of his liens and rights with respect to the Real Property and the Personal Property, now or in the future, including but not limited to those rights of Oberlin under the Subordinated Deed of Trust and the Subordinated Note are and shall henceforth remain inferior and subordinate to the rights of Lender pursuant to that certain Deed of Trust and the Security Agreement in favor of Lender, and any other security documents in favor of Lender executed by Grantor given to secure that certain Promissory Note in the original principal sum of TEN MILLION AND NO/100 DOLLARS ($10,000,000.00), and further given to secure all obligations of Grantor as defined in said Deed of Trust and said Security Agreement in favor of Lender regardless of how often or in what manner the indebtedness owing to Lender together with the liens securing same, may be modified, renewed, extended or altered.

Oberlin does hereby agree to execute any and all instruments which may be necessary or required of him by Lender to further document this subordination. This Agreement shall be binding on the heirs, successors, and assigns of the undersigned.

EXECUTED on , August 21 2008.

Roland Oberlin, Successor Escrow Agent

ACKNOWLEDGED AND AGREED:

Notre Dame Investors, Inc., an Arizona corporation

By:

/s/

Roland Oberlin, President

STATE OF TEXAS

COUNTY OF HARRIS §

BEFORE ME, the undersigned, a Notary Public in and for the said County and Stare, on this day personally appeared Roland Oberlin, Successor Escrow Agent, known to me to be the person whose name is subscribed to the foregoing document and acknowledged to me that he executed the same for the purposes and consideration therein expressed, and in the capacity therein stated.

GIVEN UNDER MY HAND AND SEAL OF OFFICE, this the 21ST/ day of

STATE OF TEXAS §

COUNTY OF HARRIS

BEFORE ME, the undersigned, a Notary Public hi and for the said County and State, on this day personally appeared Roland Oberlin, President of Notre Dame Investments, Inc. , an Arizona corporation, known to me to be the person whose name is subscribed to the foregoing document and acknowledged to me that he executed the same for the purposes and consideration therein expressed, and in the capacity therein stated.

GIVEN UNDER MY HAND AND SEAL OF OFFICE, this the,.0 day of

AFTER RECORDING RETURN TO:


First International Bank
1912 Avenue K
Plano, Texas 75074
Attn: John Shaver, Vice President


SUBORDINATION AGREEMENT		PAGE 3

Exhibit A

Exhibit 10.3

INTERCREDITOR AND SUBORDINATION AGREEMENT

This Intercreditor and Subordination Agreement (the “Agreement”) is entered into this 29 th day of September 2008 by and between NOTRE DAME INVESTORS, INC., an Arizona corporation (“Notre Dame”), ROLAND OBERLIN, as Successor Escrow Agent (“Oberlin”), LAZARUS ENERGY LLC, a Delaware limited liability company (“Lazarus”) and FIRST INTERNATIONAL BANK (“Lender”). Oberlin and Notre Dame are hereafter collectively referred to as the “Subordinated Creditors”.

WHEREAS, on June 1, 2006, Lazarus, conveyed to Steven R. Brook, Trustee, that certain Deed of Trust, Security Agreement and Financing Statement recorded in Volume 1342, Page 695 of the Official Public Records of Wilson County, Texas (the “Subordinated Deed of Trust”), to secure that certain Promissory Note in the original principal sum of EIGHT MILLION AND NO/100 DOLLARS ($8,000,000.00), payable to the order of Notre Dame (the “Subordinated Note”), which said Subordinated Deed of Trust encumbers that certain real estate described in Exhibit “A” attached hereto and incorporated by reference herein (the “Real Property”) and that certain personal property of Lazarus more particularly described in the Subordinated Deed of Trust and in that certain UCC-1 Financing Statement No. 06-0019628294 (the “Personal Property”);

WHEREAS, the interest of Notre Dame in the Subordinated Note and Subordinated Deed of Trust was transferred and assigned to Steven R. Brook, Escrow Agent, pursuant to Transfer of Lien dated December 6, 2006, recorded in Volume 1375, Page 309 of the Official Public Records of Wilson County, Texas;

WHEREAS, the interest of Steven R. Brook, Escrow Agent, in the Subordinated Note and Subordinated Deed of Trust was transferred and assigned to Oberlin pursuant to Transfer of Lien dated August 27, 2007, recorded in Volume 1421, Page 845 of the Official Public Records of Wilson County, Texas. Oberlin is the current owner and holder of the Subordinated Note and Subordinated Deed of Trust;

WHEREAS, as of the date of this Agreement, Lazarus is indebted to Oberlin in the principal amount of Five Million, Six Hundred Thousand Dollars ($5,600,000.00) as evidenced by the Subordinated Note, and may from time to time become indebted to Subordinated Creditors in further amounts, including but not limited to the obligations imposed by those certain Forbearance Agreements entered into by and between Lazarus, Oberlin, and Notre Dame. All indebtedness and other obligations of Lazarus to Subordinated Creditors, now or hereafter existing, including, but not limited to the Subordinated Note are hereinafter collectively referred to as the “Subordinated Debt”.

WHEREAS, Lazarus has requested that Lender make a loan to Lazarus in the amount of TEN MILLION AND NO/100 DOLLARS ($10,000,000.00) (“Lender’s Loan”), the proceeds of which will be used to partially satisfy the amount due and owing under the Subordinated Note; and

WHEREAS, Lender demands that, as a condition of granting Lazarus’s request that Lender advance such funds (or any portion thereof), it be secured by a first and superior lien upon the Real Property and the Personal Property, and Lazarus has requested Subordinated Creditors to subordinate their interests and liens in the Real Property and the Personal Property to the liens created in that certain Deed of Trust and that certain Security Agreement in favor of Lender as hereinafter set out; and

WHEREAS, Lender is unwilling to make the Lender’s Loan and advance any funds unless Lazarus and Subordinated Creditors will each agree to the various terms and conditions contained herein.

NOW, THEREFORE, in consideration of the above premises and for other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, and in order to induce Lender to fund all, or a portion of, Lender’s Loan, Subordinated Creditors, and Lazarus each jointly and severally agree as follows:

Upon funding of the Lender’s Loan, Lazarus shall pay for the benefit of Oberlin, the amount of Four Million Three Hundred Thousand and No/100 Dollars ($4,300,000.00). The remaining portion of the Subordinated Debt owed to Subordinated Creditors is and shall be subordinate to the prior payment in full of all amounts owing under the Lender’s Loan.

So long as there is no default existing under the documents relating to the Lender’s Loan, Oberlin may accept only regular monthly payments of principal and interest under the Subordinated Note beginning on October 31, 2008. The amount of each monthly principal and interest payment allowed hereunder shall equal Thirty —three thousand six hundred sixty six dollars and 60/100 ($33,660.60) for a period of sixty-one (61) months. Interest on the unpaid balance of the Subordinated Loan shall be calculated at a rate equal to Eight Percent (8%) per annum. The first payment is attributable, and will be applied, 100% to interest accrued but unpaid prior to the date of this agreement. No other payments are allowed under any Subordinated Debt. Upon written notification to Oberlin that an event of default exists under Lender’s Loan (“Notice of Default”), Oberlin agrees that any payments received from and after said Notice of Default, shall be immediately delivered to Lender. In the event any such payment is received in the form of a negotiable instrument, Oberlin and/or Subordinated Creditor, as applicable, agree to endorse said instrument to the order of Lender prior to delivery of same to Lender.

All payments or distributions upon or with respect to the Subordinated Debt that are received (or retained) by any Subordinated Creditor contrary to the provisions of this Agreement shall be deemed to be held in trust by the recipient for the benefit of Lender until such payments or distributions are delivered to the Lender as required herein. Subordinated Creditors agree that any funds so received (or retained) shall be segregated from other funds and property held by Subordinated Creditors until paid over to Lender. Subordinated Creditors hereby represent to Lender that all payments required to be made on the Subordinated Debt to date, if any, have been made.

3.	Subordinated Creditors and Lazarus hereby represent to Lender that no prepayments of either principal or interest have been made, or will be made, under any Subordinated Debt, except as approved in writing by the Lender.

4.	The Subordinated Note will not be modified or amended without the prior written consent of Lender.

Any material default under the terms of the Lender’s Loan shall also constitute a default under the terms of the Subordinated Debt. Upon the event of any material default, the Lender agrees to notify the Subordinated Creditors of such default as provided herein. In the event that the indebtedness owed to the Lender is accelerated, such acceleration shall also serve as an acceleration of the Subordinated Debt. As used herein, “material default” shall mean a default of which Lender notifies Lazarus in writing.

Subordinated Creditors agree that any lien(s) that Subordinated Creditors may have against any property to secure any Subordinated Debt, including any lien(s) securing the Subordinated Note, shall at all times be and remain secondary and inferior to any lien(s) that Lender may have on that same property. Subordinated Creditors agree to sign appropriate documentation, as determined and required by Lender, to subordinate any lien or security interest pursuant to this Agreement.

8.	Lender in its sole discretion may take any action without affecting this Agreement, including but not limited to the following:

Modify the terms of Lender’s Loan.

Grant an extension, renewal, or increase the amount, of Lender’s Loan. Notwithstanding any provisions to the contrary, the Subordinated Creditors do not agree or consent to subordinate the Subordinated Debt if the aggregate indebtedness by Lazarus evidenced by the Lender’s Loan exceeds twelve million dollars ($12,000,000.00). It is understood and agreed that in the event the Lender’s Loan exceeds the $12,000,000.00 loan limitation, the liens and encumbrances that secure the payment of the Subordinated Note shall not be inferior or junior to the liens to the Lender for any amount above $12,000,000.00 but shall be treated for all purposes as a parri passu obligation.

Defer payments or enter into a workout agreement on Lender’s Loan.

Release or substitute collateral securing Lender’s Loan.

Forbear from collecting on existing collateral or requiring additional collateral.

Declare a default on Lender’s Loan and notify Oberlin to stop accepting payments as provided in this Agreement.

Agree to release, compromise, or settlement of Lender’s Loan.

9.	Lazarus agrees that it will not make any payment of any of the Subordinated Debt, or take any other action, in contravention of the provisions of this Agreement.

10.	Oberlin hereby represents to Lender that it is the sole owner and holder of the Subordinated Note and the sole owner of all Subordinated Debt now outstanding, free and clear of any encumbrance.

11.

This Agreement shall (a) remain in full force and effect until the payment in full of the Lender’s Loan; (b) be binding upon the Subordinated Creditors, Lazarus, and their respective successors, transferees, and assigns, including any bankruptcy trustee or receiver or guarantors or sureties of the Subordinated Debt; and (c) inure to the benefit of, and be enforceable by, the Lender and its successors, transferees, and assigns.

12.	Upon request therefor, Subordinated Creditors agree to provide Lender with a written accounting of all payments received by Subordinated Creditors from Lazarus.

13.

Subordinated Creditors hereby represent to Lender that the original Subordinated Note contains the following language (or similar language approved by Lender) written on its face: “This note is further governed by the terms of that certain Intercreditor and Subordination Agreement, a copy of which is attached hereto and incorporated by reference herein.”

14.

Any notice or request required or permitted to be given under this Agreement shall be deemed to have been properly given when delivered in person or by facsimile transmission to the number shown below, or two days after being sent by certified or registered United States mail, return receipt requested, postage prepaid, addressed as follows:

If to Subordinated Creditors:

Notre Dame Investors, Inc.

Attn: Roland Oberlin

5404 Holly

Bellaire, Texas 77401

Fax No. 713-432-1343

If to Lazarus:

Lazarus Energy LLC

Attention: Jonathan Carroll

2929 Allen Parkway, Suite 1400

Houston, Texas 77019

Fax No. (713) 850-0520

If to Lender:

First International Bank

Attn: John Shaver, Vice President

1912 Avenue K

Plano, Texas 75074

Fax No. (972) 422-7144

15.	This Agreement shall be governed by, and construed in accordance with, the laws of the State of Texas.

16.

It is further understood and agreed that nothing contained herein shall prohibit or preclude Oberlin from assigning and/or transferring its interest in the Subordinated Note or underlying collateral to another party, provided any such assignment or transfer may only be made as expressly subject to the terms of this Agreement. It is further agreed that in the event of a default under the Subordinated Note, nothing contained herein shall prohibit or preclude Oberlin or Notre Dame from seeking to enforce its legal and equitable remedies against any guarantor of the Subordinated Debt or against any unrelated collateral which may serve to secure payment of the Subordinated Debt. As used herein, the term “unrelated collateral” shall mean any property which is not encumbered by a lien in favor of the Lender.

17.

This Agreement constitutes the legal, valid, and binding agreement of the parties hereto, enforceable in accordance with its terms and shall be binding on the undersigned and the Subordinated Lenders. The undersigned represent that they have full authority to enter into this Agreement in the capacity stated.


SUBORDINATED CREDITOR:

LENDER: Notre Dame Investors, Inc., an

International Bank LENDER: Arizona corporation		LAZARUS: Lazarus Energy LLC, a Delaware limited liability company

By:
	Roland Oberlin, President	By:	Lazarus Energy Holdings LLC, a Delaware limited liability Company, its Sole Member
OBERL IN:

		By:
Roland Oberlin, as Successor Escrow Agent			Jonathan P. Carroll Title: Director

By:
	John Shaver, Vice-President

STATE OF TEXAS

COUNTY OF HARRIS.

BEFORE ME, the undersigned, a Notary Public in and for said County and State, on this day personally appeared Roland Oberlin, President of Notre Dame Investors, Inc., an Arizona corporation, known to me to be the person whose name is subscribed to the foregoing instrument and acknowledged to me that he executed the same for the purposes and consideration therein expressed, and in the capacity therein stated.

GIVEN UNDER MY HAND AND SEAL OF OFFICE, this 29th day of September 2008.

LOGO

STATE OF TEXAS

COUNTY OF DALLAS §

BEFORE ME, the undersigned, a Notary Public in and for said County and State, on this day personally appeared Roland Oberlin, as Successor Escrow Agent known to me to be the person whose name is subscribed to the foregoing instrument and acknowledged to me that he executed the same for the purposes and consideration therein expressed, and in the capacity therein stated.

GIVEN UNDER MY HAND AND SEAL OF OFFICE, this 29th day of September 2008.

LOGO

STATE OF TEXAS

COUNTY OF HARRIS §

BEFORE ME, the undersigned, a Notary Public in and for said County and State, on this day personally appeared John P. Carroll, Sr. , Director of Lazarus Energy Holdings LLC, a Delaware limited liability company, sole Member of Lazarus Energy LLC, a Delaware limited liability company, known to me to be the person whose name is subscribed to the foregoing instrument and acknowledged to me that he executed the same for the purposes and consideration therein expressed, and in the capacity therein stated.

GIVEN UNDER MY HAND AND SEAL OF OFFICE, this 29th day of September 2008.

THOMAS ANDERSON,

JR. NOTARY PUBLIC

STATE OF TEXAS

My Comm. Exp. 3-22-2010

NOTARY PUBLIC, State of Texas

PAGE 6

Exhibit 10.4

LETTER AGREEMENT

September 12, 2011

1 ^St International Bank

1912 Avenue K

Plano, Texas 75074

Attn: John Shaver

Lazarus Energy LLC

3200 Southwest Freeway, Suite 3300

Houston, Texas 77027

Attn: Jonathan Carroll, Manager

Lazarus Energy Holdings LLC

3200 Southwest Freeway, Suite 3300

Houston, Texas 77027

Attn: Jonathan Carroll, Manager

Re:

That certain Forbearance Agreement dated effective August 12, 2011 (the “Effective Date”) by and among 1 ^st International Bank, a Texas state bank, (“1St International”), Lazarus Energy LLC, a Delaware limited liability company (“Lazarus”), Jonathan P. Carroll (“Jonathan Carroll”), Gina L. Carroll (“Gina Carroll”), Lazarus Energy Holdings LLC, a Delaware limited liability company (“Lazarus Holdings”), GEL Tex Marketing, LLC, a Delaware limited liability company (“GEL”), and Milam Services, Inc., a Delaware corporation (“MSI”) (1 ^st International, Lazarus, Jonathan Carroll, Gina Carroll, Lazarus Holdings, GEL and MSI shall each be referred to herein individually as a “Party” and collectively as the “Parties”)

Gentlemen:

As you are aware, pursuant to the above referenced Forbearance Agreement (the “Forbearance Agreement”), the continued effectiveness of the Forbearance Agreement is conditioned upon consent to the Forbearance Agreement and the transactions contemplated therein by the United States Department of Agriculture (the “USDA”) pursuant to Section 12 of the Forbearance Agreement within thirty (30) days after the Effective Date. The Parties wish to extend the deadline for consent to the Forbearance Agreement by the USDA pursuant to the terms of this letter agreement.

For good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, the Parties hereby agree to amend Section 12 of the Forbearance Agreement to provide that the deadline for consent by the USDA to the Forbearance Agreement and the transactions contemplated thereby shall be extended to sixty (60) days after the Effective Date from the original thirty (30) day deadline originally provided for in the Forbearance Agreement.

September 12, 2011

1 ^St International Bank

Lazarus Energy LLC

Lazarus Energy Holdings LLC

Page 2 of 3

Except as modified by this letter agreement, all of the terms and conditions of the Forbearance Agreement are hereby ratified and confirmed and shall remain in full force and effect.

Facsimile or electronic mail delivery of this letter agreement signed by each Party to the others shall be binding and effective the same as if an original signed copy has been delivered by each Party to the others. This letter agreement may be executed in multiple counterparts, each of which shall be considered an original, and all of which together shall constitute one and the same document.


Sincerely,

GEL TEX MARKETING, LLC

By:
Name:
Title:

MILAM SERVICES, INC.

By:
Name:
Title:

ACKNOWLEDGED AND AGREED BY:

1 ^sT INTERNATIONAL BANK, a

Texas state bank

By: /s/ JOHN SHAVER

John Shaver, Vice President

September 12, 2011

1St International Bank

Lazarus Energy LLC

Lazarus Energy Holdings LLC

Page 3 of 3

ACKNOWLEDGED AND AGREED BY:

LAZARUS ENERGY LLC, a

Delaware limited liability company

By: /s/ Jonathan Carroll

Jonathan Carroll, Manager

LAZARUS ENERGY HOLDINGS LLC,

a Delaware limited liability company

By: /s/ JONATHAN P. CARROLL

Jonathan Carroll, Manager

/s/ JONATHAN P. CARROLL

Jonathan P. Carroll

/s/ GINA L. ARROLL

Gina L. Carroll

Exhibit 10.5

FORBEARANCE AGREEMENT

THIS FORBEARANCE AGREEMENT (this “ Agreement ”) is dated effective as of August 12, 2011 (the “ Effective Date ”) and is entered into by and among 1 ^st International Bank, a Texas state bank, whose address is 1912 Avenue K, Plano, Texas 75074 (“ Lien Holder ”), Lazarus Energy LLC, a Delaware limited liability company, whose address is 3200 Southwest Freeway, Suite 3300, Houston, Texas 77027 (“ Lazarus ”), Jonathan P. Carroll (“ Jonathan Carroll ”), Gina L. Carroll (“ Gina Carroll ”), Lazarus Energy Holdings LLC, a Delaware limited liability company (“ Lazarus Holdings ”), GEL Tex Marketing, LLC, a Delaware limited liability company, whose address is 919 Milam, Suite 2100, Houston, Texas 77002 (“ GEL ”) and Milam Services, Inc., a Delaware corporation, whose address is 919 Milam, Suite 2100, Houston, Texas 77002 (“ MSI ”). Each of Lien Holder, Lazarus, Jonathan Carroll, Gina Carroll, Lazarus Holdings, GEL and MSI may be referred to in this Agreement individually as “ Party ” or collectively “ Parties .”

RECITALS:

WHEREAS, Lien Holder and Lazarus are parties to a loan (the “ Loan ”) evidenced by that certain Promissory Note, dated as of September 29, 2008 as amended, supplemented, or modified from time to time, the (“ Note ”) and further described in that certain Loan Agreement dated September 29, 2008, by and among Lazarus, Lien Holder and the below defined Guarantors (the “ Loan Agreement ”);

WHEREAS, Lazarus’ obligations to Lien Holder under the Note are secured by that certain Deed of Trust (with Security Agreement and Assignment of Rents), dated September 29, 2008 (the “ Deed of Trust ”) which has been filed to perfect a senior mortgage lien in certain property of Lazarus (the “ Lien ”) described more particularly therein and referred to herein as the “ Facility ” and by a Security Agreement dated September 29, 2008 (the “ Security Agreement ”), describing certain collateral referred to herein as the “ Collateral ”: and

WHEREAS, Jonathan Carroll, Gina Carroll and Lazarus Holdings (together, the “ Guarantors ”) guaranteed the Loan, by Guaranties (herein so called) and the Note, Deed of Trust, Security Agreement, Guaranties, Loan Agreement and other documents evidencing and securing the Loan (as amended, supplemented or modified from time to time) are referred to collectively herein as the “ Loan Documents ”; and

WHEREAS, Lazarus is in default under the Loan Documents as a result of Lazarus’ failure to pay certain amounts now due and payable to Lien Holder thereunder and Lazarus’ failure to perform certain covenants in the Loan Documents (the “ Existing Defaults ”) and Lien Holder has accelerated the Loan and has initiated foreclosure proceedings; and

WHEREAS, Lazarus and MSI are parties to that certain Construction and Funding Contract (as amended, supplemented or modified from time to time, the “ Construction Contract ”); and

WHEREAS, Lazarus and GEL are parties to a Joint Marketing Agreement and a Crude Oil Supply and Throughput Services Agreement (as amended, supplemented or modified from time to time, the “ Marketing Agreement ” and the “ Supply Agreement ”, respectively, and collectively the “ GEL Transaction Documents ”); and

WHEREAS, in connection with the execution of the Construction Contract, Lazarus has requested that Lien Holder forbear taking certain actions with respect to the Lien and the Loan Documents for the period of time set forth in this Agreement, and Lien Holder is willing to do so pursuant to the terms and conditions of this Agreement, so long as GEL and MSI agree to the terms hereof involving those Parties.

AGREEMENT:

NOW THEREFORE, in consideration of the mutual promises and covenants contained herein and other valuable consideration, the receipt and sufficiency of which are hereby mutually acknowledged, Lien Holder, Lazarus, GEL and MSI each agree as follows:

1. Forbearance Agreement . Notwithstanding the continued existence of the Existing Defaults, Lien Holder hereby agrees not to institute a suit or other proceeding against GEL, MSI or Lazarus or the Guarantors to foreclose the Lien pursuant to the Deed of Trust or exercise any other rights or remedies Lien Holder may have pursuant to the Note or other Loan Documents under applicable law or otherwise during the Forbearance Period (hereinafter defined) for any of the Existing Defaults. Lazarus, GEL, MSI and the Guarantors hereby agree not to institute a suit or proceeding against Lien Holder for claims or disputes relating to this Agreement during the Forbearance Period. Such forbearance by Lien Holder shall not constitute a waiver of the Existing Defaults or of any other default which may now or hereafter exist under the Loan Documents or of any right or remedy available to Lien Holder under the Loan Documents, except as expressly set forth herein.

2. Forbearance Period .

a. Initial Forbearance Period . The forbearance period (the “ Forbearance Period ”) shall commence on the Effective Date and shall continue until such date that is one (1) year after the Effective Date (the “ Termination Date ”), subject to termination by Lien Holder if any of the following should occur (the “ Forbearance Termination Events ”):

i. If the payment of any Tank Storage Fees (as such term is defined in the Storage Agreement) required under Section 4 is not wired to Lien Holder by the fifth (5 ^th ) day of any calendar month;

ii. Once Tank Storage Fees are no longer being paid because the Facility is operational and Operations Payments are being generated from Gross Profits, if Lien Holder does not receive a Regular Monthly Payment during any calendar month, it being understood that Lien Holder is to receive Regular Monthly Payments in lieu of Tank Storage Fees after the Facility is operational (and in no event will Lien Holder receive less than the Tank Storage Fee payment amount in any calendar month);

iii. A default on the part of Lazarus occurs under the Loan Documents other than the Existing Defaults that is not cured within the applicable cure period as provided in Section 13(p) herein;

iv. A default on the part of Lazarus, GEL or MSI occurs under this Agreement, the Construction Contract, Marketing Agreement or Supply Agreement and such default continues for ten (10) days after its occurrence; or

v. The filing of a petition by or against Lazarus (1) in any bankruptcy or other insolvency proceeding, (2) seeking relief under any debtor relief law, or (3) for the appointment of a liquidator, receiver or similar official for all or substantially all of Lazarus’ property or for Lazarus’ interest in the Facility.

b. Extended Forbearance Period . So long as the Forbearance Extension Conditions (defined below) are met within one (1) year after the Effective Date, the Forbearance Period shall be extended for an additional twelve (12) month period (the “ Extended Forbearance Period ”), subject to termination by Lien Holder if any of the Forbearance Termination Events occurs during such extended period. The “ Forbearance Extension Conditions ” (herein so called), which must be satisfied in order for the Forbearance Period to be extended, are as follows:

i. Lien Holder must have received payments in the amount of either the Tank Storage Fee or Regular Monthly Payment, as applicable, during each of the twelve (12) months of the Forbearance Period;

ii. The Services must have been completed under the Construction Contract;

iii. The Facility must be operational and generating Gross Profits to the extent that Lien Holder is receiving not only Regular Monthly Payments but also payments of its 50% portion of the Lazarus Profit Share in reduction of some portion of the Arrearage (defined below).

c. Termination of Forbearance . If any Termination Event occurs during the Forbearance Period or the Extended Forbearance Period, or if the Forbearance Extension Conditions are not satisfied prior to the expiration of the Forbearance Period, Lien Holder shall have the right to terminate its forbearance hereunder immediately and exercise any and all rights and remedies available to Lien Holder under the Loan Documents, at law, in equity or otherwise, without further notice, demand, notice of intent to accelerate, notice of acceleration, presentment, protest or other formalities of any kind, all of which are expressly waived by Borrower.

3. Payment of Arrearage and Cure of Other Existing Defaults .

a. Arrearage . As of the date hereof, the principal balance of the Loan is $9,669,173.04. The Note is in default, has been accelerated, and in addition to the principal balance, Lazarus owes to Lien Holder the following amounts for interest (including post default interest and late charges), attorneys’ fees and related costs incurred by Lien Holder (including attorneys’ fees, filing fees and expenses incurred by Lien Holder for review, preparation and finalization of this Agreement and documents executed in connection herewith), taxes paid by Lien Holder and annual renewal fees paid by Lien Holder to the United States Department of Agriculture in relation to the Loan (collectively the “ Arrearage ”) in the amount of $1,356,081.98. The Arrearage also includes the principal portions of past due monthly payments and the principal portions of monthly payments that will accrue between the Effective Date and

the payment of the entire Arrearage. Section 4 of this Agreement provides a mechanism for paying the Arrearage. If Lien Holder incurs any additional expenses or advances additional funds due to Lazarus’ failure to perform any covenants under the Loan Documents, such amounts shall be part of the Arrearage. The Arrearage must be fully paid by the expiration of the Extended Forbearance Period.

b. Other Existing Defaults . All other Existing Defaults must be cured by the expiration of the Extended Forbearance Period.

4. Assignment of Tank Storage Fees and other Payments . Lazarus agrees that certain payments due to Lazarus under the GEL Transaction Documents will be paid directly by GEL to Lien Holder, as set forth in this Section 4. All payments to be made to Lien Holder will be paid prior to payments due by GEL to Lazarus.

a. Tank Storage Fees . Lazarus does hereby transfer, assign and convey to Lien Holder all Tank Storage Fees (as such term is defined in the Supply Agreement) owed to Lazarus after the Effective Date under the Supply Agreement, and GEL shall pay to Lien Holder, on behalf of Lazarus, such Tank Storage Fees by the fifth (5 ^th ) day of each calendar month. The Tank Storage Fees will continue until the Facility is operational and Operations Payments are being generated from Gross Profits from the Facility. Only when GEL is paying Lien Holder Regular Monthly Payments (defined below) each and every calendar month will the Tank Storage Fees cease to be paid to Lien Holder.

b. Lazarus’ Share of Gross Profits . Lazarus hereby directs GEL to make the following payments to Lien Holder, which payments are to be deducted from amounts due to Lazarus under the Marketing Agreement:

i. Operations Payments . $69,443.63 per month (the “ Regular Monthly Payment ”) is to be withheld by GEL from the Operations Payments due to Lazarus under Paragraph (b) of Exhibit B to the Marketing Agreement and such amount shall be paid to Lien Holder. GEL will accumulate weekly Operations Payments due to Lazarus until the accumulation reaches the amount of the Regular Monthly Payment and will remit same to Lien Holder pursuant to Section 4(b)(iii). If Operations Payments due and owing to Lazarus are insufficient to pay the Regular Monthly Payment, then GEL will pay to Lien Holder such Operations Payments funds as are available and the unpaid portion will be paid along with the next accruing Regular Monthly Payment.

ii. Lazarus Profit Share . 50% of the Lazarus Profit Share, as determined under Paragraphs (c)-(e) of Exhibit B to the Marketing Agreement, shall be withheld by GEL from payments otherwise due to Lazarus, and such amount shall be paid to Lien Holder. These payments shall continue until the Loan has been brought current, including not only principal and interest payments, but payment of all sums due to Lien Holder.

iii. Timing and Application of Payments . All payments described in Section 4(b) above shall be (A) paid on the first Business Day (defined below) of the month following the month upon which the calculation of such payments are confirmed by GEL (with such confirmation by GEL to occur on or before the 20 ^th day of each month) and (B) applied to the Arrearage until it is fully paid.

iv. Reserve . After the Arrearage has been fully paid, Lazarus agrees to pay $83,333.33 per month for a period of twelve (12) consecutive months with Lien Holder in replenishment of the $1,000,000.00 Payment Reserve described in Section 4.19 of the Loan Agreement. GEL is directed to continue payments from the Lazarus Profit Share to build up the Payment Reserve. If for any month the Lazarus Profit Share is insufficient to pay the $83,333.33, then GEL will pay to Lien Holder such funds as are available and the unpaid portion will be paid along with the next accruing monthly payment to the Payment Reserve, until the entire $1,000,000.00 is replenished.

All payments shall be paid to Lien Holder if by wire transfer to:


Account:		1 ^st International Bank
ABA#:		111915259
In Favor Of:		Lazarus Energy, LLC
Account #:		37273725

Lazarus waives any right, claim or demand it may now or hereafter have against GEL under the GEL Transaction Documents by reason of such direct payments to Lien Holder and agrees that such direct payments to Lien Holder shall discharge all obligations of GEL to make such payments to Lazarus.

5. Reinstatement . After the Arrearage has been fully paid (the “ Reinstatement Date ”), and so long as Lazarus is not in default under this Agreement, the GEL Transaction Documents or the Construction Contract, the Loan will be reinstated in accordance with the terms and conditions thereof, as modified hereby.

a. Principal and Interest Payments . On the first Business Day of the calendar month following the Reinstatement Date, Lien Holder will reamortize the Loan based on the remaining principal balance thereof, the interest rate then applicable pursuant to the terms of the Note (Prime Rate plus two and one quarter percent), and the stated maturity date of October 1, 2028. Monthly payments of principal and interest sufficient to amortize the Note over the remaining term thereof shall be due and payable on the first Business Day of each calendar month, and the interest rate shall be adjusted on the first day of each calendar quarter thereafter until the Note is fully paid.

b. Other Monetary Obligations . In addition to regular payments of principal and interest, Lazarus will be responsible for payment of all other Obligations (as defined in the Loan Agreement), including without limitation expenses, attorneys fees and other costs, and any other debts or obligations due and owing by Lazarus to Lien Holder. Further, if any amount is advanced by Lien Holder under the Loan Documents to protect or preserve the Facility or the Lien or for taxes, assessments or insurance premiums or for performance of any of Lazarus’ obligations under the other Loan Documents or for any other purpose provided in the Loan Documents, or if Lien Holder determines in its reasonable judgment that funds are necessary for payment for protection or preservation of the Facility or the Lien, then such amounts shall be

immediately due and payable to Lien Holder. Lien Holder will notify Lazarus and GEL of the amount advanced by Lien Holder or deemed necessary for protection or preservation of the Facility or the Lien or otherwise payable under the immediately preceding sentence.

c. Lazarus directs GEL to continue paying the monthly principal and interest payments to Lien Holder and other payments provided under Paragraph 5(b) above from the funds otherwise due to Lazarus, as long as any of the GEL Transaction Documents remain in effect, after which Lazarus will resume Loan payments.

6. Ratification of Liens and Security Interests . Lazarus acknowledges and ratifies the existence and priority of the Lien in favor of Lien Holder in and to the Property of Lazarus (as such term is defined in the Deed of Trust). All rights of Lien Holder contained in the Loan Documents shall remain in full force and effect, subject to the provisions of this Agreement. Except as expressly modified hereby, the Loan Documents shall not be deemed modified or amended.

7. Construction Contract . MSI subordinates any lien or other interest it may have on any Equipment (as defined in the Construction Contract) to the lien created in the Deed of Trust in favor of Lien Holder, and any renewals, extensions, modifications or assignments thereof. MSI expressly subordinates any lien rights it may have to removables to the lien of the Deed of Trust. MSI will execute and deliver the Lien Subordination Agreement attached hereto as Exhibit A and incorporated herein by reference, for recording in the real property records of Wilson County, Texas.

8. Subordination of GEL and MSI Agreements . The GEL Transaction Documents are now, and shall at all times and for all purposes continue to be, subject and subordinate, in each and every respect, to the Deed of Trust, with the provisions of the Deed of Trust controlling in all respects over the provisions of GEL Transaction Documents, it being understood and agreed that the foregoing subordination shall apply to any and all increases, renewals, modifications, extensions, substitutions, replacements and/or consolidations of the Deed of Trust, provided that any and all such increases, renewals, modifications, extensions, substitutions, replacements and/or consolidations shall nevertheless be subject to the terms of this Agreement, subject to the following terms and conditions:

(a) No Termination . So long as (i) GEL is not in default in the payment of any amounts due to Lien Holder, as set forth in Section 4 above or in the performance of any of the other terms, covenants or conditions of the GEL Transaction Documents on GEL’s part to be performed, (ii) the Supply Agreement and Marketing Agreement are in full force and effect, and (iii) GEL attorns to Lien Holder or a purchaser of the Facility as provided in Section 8(b)(i) below, then GEL’s rights to store and process Crude Oil under the Supply Agreement shall not be terminated, diminished or interfered with by Lien Holder in the exercise of any of its rights under the Deed of Trust.

(b) Foreclosure or Similar Change in Title . If Lien Holder shall become the owner of the Facility or the Facility shall be sold by reason of non-judicial or judicial foreclosure or other proceedings brought to enforce the Deed of Trust or the Facility shall be conveyed by deed in lieu of foreclosure, the GEL Transaction Documents shall continue in full force and effect as direct agreements (where applicable) between Lien Holder or other purchaser of the Facility, who shall succeed to the rights and duties of Lazarus, and GEL.

(i) Attornment . In such event, GEL shall attorn to Lien Holder or such purchaser or their respective successors-in-interest, as the case may be, and shall recognize Lien Holder or such purchaser or their respective successors-in-interest, as the case may be, as the successor to Lazarus under the GEL Transaction Documents. Such attornment shall be effective and self-operative without the execution of any further instrument on the part of any of the parties hereto. GEL agrees, however, to execute and deliver at any time and from time to time, upon the request of Lazarus or of any holder(s) of any of the Indebtedness or other obligations secured by the Deed of Trust or any such purchaser, any instrument or certificate which is necessary or appropriate, in connection with any such foreclosure or deed in lieu of foreclosure or otherwise, to evidence such attornment, which instrument or certificate shall be in form and content reasonably acceptable to Lazarus. GEL and Lazarus hereby waive the provisions of any statute or rule of law, now or hereafter in effect, which may give or purport to give GEL or Lazarus any right or election to terminate or otherwise adversely affect the GEL Transaction Documents and the obligations of GEL or Lazarus thereunder as a result of any such foreclosure or deed in lieu of foreclosure.

(ii) Lien Holder’s Obligations and Remedies . In such event, Lien Holder or other purchaser of the Facility, as the case may be, shall have the same remedies in the event of any default by GEL (that continues beyond any notice and/or cure period set forth in the applicable GEL Transaction Documents) in the payment of Tank Storage Fees or other payments due by GEL under the GEL Transaction Document, or in the performance of any of the other terms, covenants and conditions of GEL Transaction Documents on GEL’s part to be performed that Lazarus had or would have had if Lien Holder or such purchaser had not succeeded to the interest of Lazarus. Upon attornment by GEL as provided herein, Lien Holder or such purchaser shall be bound to GEL under all the terms, covenants and conditions of the GEL Transaction Documents and GEL shall have the same remedies against Lien Holder or such purchaser for the breach of an agreement contained in any of the GEL Transaction Documents that GEL might have had under the GEL Transaction Documents against Lazarus if Lien Holder or such purchaser had not succeeded to the interest of Lazarus; provided, however, that Lien Holder or such purchaser shall not be liable or bound to GEL:

(1) for any act or omission of Lazarus under the GEL Transaction Documents; provided, however, nothing herein shall be deemed to be a waiver of GEL’s rights or remedies in the event such act or omission is of a continuing nature and such default is not cured within the time periods set forth in the applicable GEL Transaction Document by Lien Holder or such purchaser after Lien Holder or such purchaser acquires the Mortgaged Premises; or

(2) for any offsets or defenses which the GEL might be entitled to assert against Lazarus arising prior to the date Lien Holder takes possession of Lazarus’s interest in the GEL Transaction Documents or becomes a mortgagee in possession; or

(3) by any amendment or modification of the GEL Transaction Documents made without Lien Holder’s consent prior to the date of succession of Lien Holder or another purchaser to the interest of Lazarus.

Except as expressly set forth above, the person or entity to whom GEL attorns shall be liable to GEL under the GEL Transaction Documents only for matters arising during such person’s or entity’s ownership.

(iii) No Abridgement . Nothing herein contained is intended, nor shall it be construed, to abridge or adversely affect any right or remedy of Lazarus under the GEL Transaction Documents in the event of any default by GEL (that continues beyond any notice and/or period set forth in the applicable GEL Transaction Document) in the performance of any of the terms, covenants or conditions of the GEL Transaction Documents on GEL’s part to be performed.

9. Accounting Reports . GEL will provide Lien Holder with copies of all reports, reconciliations, accountings, or other financial data provided to Lazarus, including without limitation the accounting reports described in Section 4.3 of the Marketing Agreement, at the same time as they are provided to Lazarus. GEL will provide Lien Holder with copies of any reports from any audits or examinations promptly after GEL receives same. The reports, reconciliations, accountings, data, audits and examinations to be provided under this Section 9 shall be provided by GEL to Lien Holder until such time as the Arrearage is fully paid and $1,000,000.00 has been paid into the Payment Reserve.

10. Construction of Additional Facilities . The Supply Agreement contemplates that additional tank storage facilities may be built at the Facility (referred to in the Supply Agreement as “ Additional Facilities ”) by either GEL or a third party. Lazarus will comply with the approval process and other requirements of the Loan Documents with respect to the installation of Additional Facilities by GEL or a third party.

11. Collateral Assignment of GEL Transaction Documents . Lazarus agrees to execute and deliver to Lien Holder a Collateral Assignment of the GEL Transaction Documents in the form of Exhibit B attached hereto and incorporated herein by reference. GEL consents to this Collateral Assignment and in the event Lien Holder exercises any of its rights under the GEL Transaction Documents, GEL will recognize Lien Holder in such capacity.

12. USDA Approval . Notwithstanding anything herein to the contrary, this Agreement and the rights, privileges and obligations thereunder are conditioned on consent from the United States Department of Agriculture relating to the Loan. If USDA does not grant consent to this Agreement within thirty (30) days after the Effective Date, it shall be null and void.

13. Miscellaneous .

(a) Continuing Nature of Provisions. Except as provided in Section 13(x), this Agreement shall continue to be effective, and shall not be revocable by any Party hereto, until the Termination Date.

(b) Specific Performance . Each of GEL and Lien Holder may demand specific performance of this Agreement.

(c) Waiver of Notice of Acceptance . Notice of acceptance of this Agreement is waived, acceptance on the part of Lien Holder being conclusively presumed by its request for this Agreement and/or delivery of the same to it.

(d) LIMITATION OF LIABILITY . NOTWITHSTANDING ANY OTHER PROVISION OF THIS AGREEMENT, NO PARTY OR ITS AFFILIATES SHALL HAVE ANY LIABILITY TO ANY OTHER PARTY OR ITS AFFILIATES FOR ANY SPECIAL, INDIRECT, INCIDENTAL, OR CONSEQUENTIAL LOSS OR DAMAGE WHATSOEVER, OR ANY SPECIAL, INDIRECT, INCIDENTAL, OR CONSEQUENTIAL (INCLUDING LOST PROFITS OR LOST INVESTMENT OPPORTUNITY) LIABILITY IN CONNECTION WITH ITS PERFORMANCE OF ITS OBLIGATIONS UNDER THIS AGREEMENT, WHETHER SUCH LIABILITY ARISES IN CONTRACT, TORT (INCLUDING NEGLIGENCE AND STRICT LIABILITY), OR OTHERWISE.

(e) Guarantors’ Agreement . Guarantors have executed this Agreement to indicate their agreement and consent to the terms of this Agreement. Guarantors hereby ratify and reconfirm their Guaranties, agree that the Guaranties shall remain in full force and effect and cover the obligations under the Loan Documents as modified hereby; and acknowledge that there are no claims or offsets against or defenses or counterclaims to the terms and provisions of the Guaranties.

(f) Release, Representation and Waiver . Lazarus and the Guarantors hereby represent and warrant to Lien Holder that they do not have any claims or offsets against, defenses or counterclaims to, the terms and provisions of the Loan Documents. Nevertheless, if any determination or assertion is hereafter made that Lazarus or either of the Guarantors has any such claims, offsets, defenses or counterclaims, each of them WAIVE AND HEREBY RELEASE Lien Holder, it successors and assigns, its agents, attorneys, officers, directors, and employees (collectively, the “ Released Parties ”) from any and all losses, costs, expenses, claims, damages, actions, causes of action, liability, or suits in law or equity, of whatever kind or nature, that Lazarus and/or Guarantors has ever had or may now have against the Released Parties and that have accrued or arisen on or prior to the Effective Date and that arise from or are related in any manner to or concern the Note, Deed of Trust, Guaranties, Loan Agreement or other Loan Documents, INCLUDING THOSE THAT ARISE OUT OF THE SOLE OR PARTIAL NEGLIGENCE OR FAULT OF THE RELEASED PARTIES, OR THE GROSS NEGLIGENCE, USURY, FRAUD, DECEIT, MISREPRESENTATION, CONSPIRACY, UNCONSIONABILITY, DURESS, ECONOMIC DURESS, DEFAMATION, CONTROL, INTERFERENCE WITH CONTRACTUAL AND BUSINESS RELATIONSHIPS, CONFLICTS OF INTEREST, CONCEALMENT, MISUSE OF COLLATERAL, VIOLATIONS OF STATUTES AND REGULATIONS OF GOVERNMENTAL ENTITIES, RACKETEERING ACTIVITIES, DECEPTIVE TRADE PRACTICES, BREACH OF FIDUCIARY DUTY, BREACH OF ANY ALLEGED SPECIAL RELATIONSHIP, LENDER LIABILITY, WHETHER OR NOT IN CONNECTION WITH THE LOAN DOCUMENTS OR THIS AGREEMENT, AT LAW OR IN EQUITY, IN CONTRACT OR IN TORT, OR OTHERWISE, KNOWN OR UNKNOWN. Lazarus hereby acknowledges and agrees that Lien

Holder shall not be deemed to have assumed any responsibility or liability for the Facility, or the management or operations thereof, and that no Released Party has done anything in connection with the use, operation or management of the Facility which caused any harm or damage to the Facility, Lazarus or Guarantors. Lien Holder shall not be construed to be a mortgagee in possession as a result of this Agreement or any actions taken by Lien Holder or Lazarus pursuant hereto. The parties hereto agree that all applicable statutes of limitations in respect to the Loan Documents shall be tolled and not begin running until the end of the Forbearance Period.

(g) Preservation of Liability . Neither this Agreement nor the exercise by any Party of (or the failure to so exercise) any right, power or remedy conferred herein or by law shall be construed as relieving any Party from liability hereunder.

(h) Reliance by GEL and MSI . Lazarus and Lien Holder each acknowledges and agrees that the provisions of this Agreement are, and are intended to be, an inducement to GEL and MSI to enter into and perform their respective obligations under the GEL Transaction Documents and the agreements ancillary thereto and consideration to GEL and MSI therefor.

(i) Notices . Any record, notice, demand or document which a Party is required or may desire to give hereunder shall be in writing and, except to the extent provided in the other provisions of this Agreement, given by messenger, facsimile or other electronic transmission, or United States registered or certified mail, postage prepaid, return receipt requested, addressed to such party at its address and telecopy number shown below, or at such other address as such Party shall have furnished to the other by notice given in accordance with this provision:

If to GEL, to:

GEL Tex Marketing, LLC

919 Milam, Suite 2100

Houston, Texas 77002

Attention: Karen Pape

Telephone: (713) 860-2500

Facsimile: (713) 860-2640

E-Mail: karen.pape@genlp.com

If to Lazarus, to:

Lazarus Energy LLC

3200 Southwest Freeway, Suite 3300

Houston, Texas 77027

Attention: Jonathan Carroll, Manager

Telephone: (713)850-0513

Facsimile: (713)850-0520

E-Mail: JCarroll@LazarusEnergy.com

If to Lien Holder, to:

1 ^st International Bank

1912 Avenue K

Plano, Texas 75074

Attention: John Shaver

Telephone: 469-429-2408

Facsimile: 972-422-7144

E-Mail: jshaver@fibtx.com.

(j) Choice of Law . THIS AGREEMENT SHALL BE GOVERNED BY THE LAWS OF THE STATE OF TEXAS WITHOUT REGARD TO ITS CONFLICTS OF LAWS PRINCIPLES.

(k) Amendment and Waiver . This Agreement may not be amended (nor may any of its terms be waived) except by a written document signed by all Parties, stating that it is intended to amend this Agreement.

(1) Severability . If any provision of this Agreement is rendered or declared invalid, illegal or unenforceable by reason of any existing or subsequently enacted legislation or by a judicial decision which shall have become final, the Parties shall promptly meet and discuss substitute provisions for those rendered invalid, illegal or unenforceable, but all of the remaining provisions shall remain in full force and effect.

(m) Survival of Agreements . All representations and warranties contained herein, and all covenants and agreements herein not fully performed before the Effective Date shall survive such date.

(n) Counterparts . This Agreement may be executed in two or more counterparts, and it shall not be necessary that the signatures of all Parties hereto be contained on any one counterpart hereof. Each counterpart shall be deemed an original, but all such counterparts taken together shall constitute one and the same instrument.

(o) Successors and Assigns .

(i) The terms of this Agreement shall be binding upon, and shall inure to the benefit of, the Parties hereto and their respective successors or heirs, assigns and personal representatives.

(ii) Lien Holder will not assign or transfer (or agree to assign or transfer) to any other person or entity any claim Lien Holder has or may have against Lazarus, except upon at least ten (10) days prior written notice to GEL.

(p) Notice and Cure . GEL and MSI both respectively agree to provide written notice to Lien Holder of any default by Lazarus on any agreements to which GEL and MSI are parties. Lien Holder will have a period of not less than thirty (30) days from receipt of notice to cure any default (or if cure cannot be effected within said thirty (30) days due to the nature of the default, Lien Holder shall have a reasonable time to cure provided that it commences cure within said thirty (30) day period of time and diligently carries such cure to completion) before GEL or

MSI, as the case may be, will take steps to terminate the GEL Transaction Documents or the Construction Contract or assert any remedies they may have under those agreements. Notice to Lazarus under the GEL Transaction Documents (oral or written) shall not constitute notice to Lien Holder.

Lien Holder shall notify GEL in writing promptly of any material default or breach by Lazarus under the Loan Documents (excluding the Existing Defaults). With respect to any default under the Loan Documents, GEL shall have the right, but not the obligation, to cure such default on behalf of Lazarus. The cure period shall be the time period provided in the Loan Documents, as applicable, for the cure of any such default; provided, however, that such cure period shall not begin until GEL receives notice of a Lazarus default pursuant to Section 13(i).

During the Forbearance Period and the Extended Forbearance Period, in lieu of the cure period set forth in the Loan Documents, Lazarus’ right to cure nonmonetary defaults on the Loan Documents (i.e. defaults due to Lazarus’ failure to perform any covenant, agreement or obligation, other than the obligation to pay principal or interest on the Note or other monetary obligations under the other Loan Documents) shall be determined in accordance with this paragraph. Lien Holder shall notify Lazarus and GEL of any such nonmonetary default and Lazarus shall promptly commence and shall diligently pursue the cure of such default to completion. Lazarus shall have a period of thirty (30) days to cure such default; however, if such cure cannot be accomplished within said thirty (30) day period, then so long as Lazarus commences to cure such default promptly after receipt of notice thereof from Lien Holder and thereafter diligently pursues the curing of such default, such period of time shall be extended for such period of time as may be necessary to cure such default with reasonable diligence. Lazarus shall keep Lien Holder and GEL apprised of Lazarus’ efforts and progress to cure any default. At the conclusion of the Extended Forbearance Period, the cure period set forth in this Section 13(p) shall no longer be applicable, and the cure periods set forth in the Loan Documents shall be in effect as originally stated.

(q) WAIVER OF JURY TRIAL . TO THE MAXIMUM EXTENT NOT PROHIBITED BY LAW, EACH OF THE UNDERSIGNED HEREBY KNOWINGLY, VOLUNTARILY AND INTENTIONALLY WAIVES ANY RIGHT WHICH IT MAY HAVE TO A TRIAL BY JURY IN RESPECT OF ANY LITIGATION DIRECTLY OR INDIRECTLY AT ANY TIME ARISING OUT OF, UNDER OR IN CONNECTION WITH THIS AGREEMENT, OR ANY TRANSACTION CONTEMPLATED THEREBY.

(r) FINAL AGREEMENT . THIS AGREEMENT AND ALL OTHER DOCUMENTS RELATING TO THE LOAN AND TO THIS AGREEMENT REPRESENT THE FINAL AGREEMENT BETWEEN THE PARTIES WITH RESPECT TO THE MATTERS ADDRESSED HEREIN AND THEREIN AND MAY NOT BE CONTRADICTED BY EVIDENCE OF PRIOR, CONTEMPORANEOUS, OR SUBSEQUENT ORAL AGREEMENTS OF THE PARTIES. THERE ARE NO UNWRITTEN ORAL AGREEMENTS BETWEEN THE PARTIES.

(s) Conflicting Provisions . To the extent the provisions of this Agreement conflict with or are otherwise inconsistent with the provisions of the GEL Transaction Documents or the Construction Contract or any other agreements among the parties hereto, the provisions of this Agreement shall prevail.

(t) Time of Essence . Time is of the essence in the performance of all terms and conditions and other obligations under this Agreement.

(u) Business Day . For purposes of this Agreement “ Business Day ” means any day except Saturday, Sunday and any day which shall be in Texas a legal holiday, or a day on which banking institutions are authorized or required by law or other government action to close in any city situated in Texas.

(v) Paragraph Headings . The paragraph headings contained in this Agreement are for convenience only and shall in no way enlarge or limit the scope or meaning of the various and several paragraphs hereof.

(w) Gender and Number . Within this Agreement, words of any gender shall be held and construed to include any other gender, and words in the singular number shall be held and construed to include the plural and words in the plural number shall be held and construed to include the singular, unless the context otherwise requires.

(x) Duration; Memorandum of Forbearance Agreement . Notwithstanding anything to the foregoing in this Agreement, the rights and obligations of the Parties as set forth under Section 8 herein are obligations that run with the land so as to be forever binding upon the Parties and their respective heirs, personal representatives, administrators, successors and assigns and shall survive the Termination Date. The Parties agree to execute a Memorandum of Forbearance Agreement in the form of Exhibit C attached hereto and incorporated herein by reference, which shall be filed in the real county records of any jurisdiction as deemed necessary by a Party to provide notice to third parties of the terms, covenants, and conditions of this Agreement. No Party shall record this Agreement or cause the recordation of this Agreement.

[SIGNATURES BEGIN ON THE FOLLOWING PAGE]

EXECUTED by the duly authorized representative of the Parties set forth below, to be effective for all purposes as of the Effective Date.


LIEN HOLDER:

1 ^ST INTERNATIONAL BANK

By:		/s/ John Shaver
Name:		John Shaver
Title:		Vice President

S IGNATURE P AGE TO F ORBEARANCE A GREEMENT

EXECUTED by the duly authorized representative of the Parties set forth below, to be effective for all purposes as of the Effective Date.


LAZARUS:

LAZARUS ENERGY LLC

By:		/s/ Jonathan P. Carroll
Name:		Jonathan P. Carroll
Title:		Manager

GUARANTORS:

/s/ Jonathan P. Carroll
Jonathan P. Carroll

/s/ Gina L. Carroll
Gina L. Carroll

LAZARUS ENERGY HOLDINGS LLC

By:		/s/ Jonathan P. Carroll
Name:		Jonathan P. Carroll
Title:		Manager

S IGNATURE P AGE TO F ORBEARANCE A GREEMENT

EXECUTED by the duly authorized representative of the Parties set forth below, to be effective for all purposes as of the Effective Date.


GEL:

GEL TEX MARKETING, LLC

By:		/s/ R. V. Deere
Name:		R. V. Deere
Title:		CFO

S IGNATURE P AGE TO F ORBEARANCE A GREEMENT

EXECUTED by the duly authorized representative of the Parties set forth below, to be effective for all purposes as of the Effective Date.


MSI:

MILAM SERVICES, INC.

By:		/s/ R. V. Deere
Name:		R. V. Deere
Title:		CFO

S IGNATURE P AGE TO F ORBEARANCE A GREEMENT

Exhibit A

Lien Subordination Agreement

See attached.

E XHIBIT TO F ORBEARANCE A GREEMENT

Exhibit B

Collateral Assignment of GEL Transaction Documents

See attached.

E XHIBIT TO F ORBEARANCE A GREEMENT

Exhibit C

Memorandum of Forbearance Agreement

See attached.

E XHIBIT TO F ORBEARANCE A GREEMENT

Exhibit 10.6

PROMISSORY NOTE

Date: June 1, 2006

Maker: LAZARUS ENERGY LLC

Maker’s Mailing Address (including county):

4400 Post Oak Parkway, 24th Floor

Houston, Texas 77027

Payee: NOTRE DAME INVESTORS, INC.

Place for Payment (including county):

5404 Holly

Bellaire, Harris County, Texas 77401

Principal Amount: $8,000,000.00

Annual Interest Rate on Unpaid Principal Balance: 6.0%

Final Maturity: June 1, 2010

Terms of Payment (principal and interest):

(i)

Interest shall begin to accrue immediately on a 365/366 day basis, as the case may be. Principal payments of $1,000,000.00 along with any unpaid, accrued interest shall be due on or before June 1 and December 1 of each year until Final Maturity, with the first such payment due on December 1, 2006 (or, if the due date of such payment is not a Business Day, the next succeeding Business Day). For purposes of this note (this “Note”), “Business Day” means any day except Saturday, Sunday or any day on which banks are generally not open for business in the City of Houston, Texas.

(ii)

Pre-payments, either in whole or in part, may be allowed at any time without penalty or discount.

Security for Payment: First Lien Deed of Trust, of even date herewith, executed by Maker to Steven R. Brook, Trustee, for the benefit of Payee, on certain real and personal property in Wilson County, Texas (“Deed of Trust”).

Maker promises to pay to the order of Payee at the place for payment stated above and according to the terms of this Note the principal amount plus interest at the rate stated above. All unpaid amounts shall be due and payable on the date of final maturity.

If Maker defaults in the payment of this Note or in the performance of any obligation in the Deed of Trust, and the default continues after Payee gives Maker notice of the default with 10 calendar days to cure such default, the Payee may declare the unpaid principal balance and accrued and unpaid interest on this Note immediately due and payable. Any event of default by Maker as declared by any other lender providing credit on, for or with the Security described herein will be considered to be a default under this agreement and, in such event, the Payee may declare the unpaid principal balance and any accrued and unpaid interest on this Note immediately due and payable. Any acceleration of maturity or demand for payment by any other lender providing credit to Maker will be considered to be a default under this agreement and the Payee may declare the unpaid principal balance and any earned unpaid interest on the

Note to be immediately due and payable. Maker waives all demands for payment, presentations for payment, notices of intention to accelerate maturity, notices of acceleration of maturity, protests, and notices of protest, to the extent permitted by law.

If this Note or any instrument securing or collateral to it is given to an attorney for collection or enforcement, or if suit is brought for collection or enforcement, or if it is collected or enforced through probate, bankruptcy, or other judicial proceeding, then Maker shall pay Payee all costs of collection and enforcement, including reasonable attorney’s fees and court costs, in addition to other amounts due.

Interest on the debt evidenced by this Note shall not exceed the maximum amount of nonusurious interest that may be contracted for, taken, reserved, charged, or received under law; any interest in excess of that maximum amount shall be credited on the principal of the debt or, if that has been paid, refunded. On any acceleration or required or permitted prepayment, any such excess shall be canceled automatically as of the acceleration or prepayment or, if already paid credited on the principal of the debt or, if the principal of the debt has been paid, refunded. This provision overrides other provisions in this and all other instruments concerning the debt.

When the context requires, singular nouns and pronouns include the plural.

[Signature Page Follows]

IN WITNESS WHEREOF, Maker has executed and delivered this Note as of the date first above written.


LAZARUS ENERGY LLC

By:		Lazarus Energy Holdings LLC, its sole member

By:
		Jonathan Carroll
		Director

Pay to the Order of STEVEN R. BROOK, ESCROW AGENT.


NOTREDAM E INVESTORS, INC.

By:
		Roland Oberlin, President

Pay to the Order of Roland Oberlin as successor Escrow Agent, but without warranty by or recourse on the undersigned:





		Steven R. Brook, Escrow Agent

This Note is further governed by the terms of that certain Intercreditor and Subordination Agreement, a copy of which is attached hereto and incorporated by reference herein.

Exhibit 10.7

INTERCREDITOR AND SUBORDINATION AGREEMENT

THIS INTERCREDITOR AND SUBORDINATION AGREEMENT (this “ Agreement ”) is made and entered into as of August 12, 2011, by and among John H. Kissick, whose address is c/o Ares Management LLC, 2000 Avenue of the Stars, 12 ^th floor, Los Angeles, CA 90067 (“ Second Lien Holder ”), Lazarus Energy LLC, a Delaware limited liability company, whose address is 3200 Southwest Freeway, Suite 3300, Houston, Texas 77027 (“ Company ”), and Milam Services, Inc, a Delaware corporation, whose address is 919 Milam, Suite 2100, Houston, TX 77002 (“ Senior Creditor ”). Each of Second Lien Holder, Company and Senior Creditor may be referred to in this Agreement individually as “ Party ” or collectively “ Parties .”

RECITALS:

WHEREAS, Company and Senior Creditor are parties to that certain Construction and Funding Contract (as amended, supplemented, or modified from time to time, the “ Construction Contract ”):

WHEREAS, Company’s obligations to Senior Creditor under the Construction Contract are secured by a senior lien and first-priority security interest in all of the personal property of Company; and

WHEREAS, a condition precedent of the Construction Contract is the subordination of all obligations owed by Company to Second Lien Holder to the obligations owed by Company to Senior Creditor under the Construction Contract and the other Contract Documents.

NOW, THEREFORE, to comply with the terms and conditions of the Construction Contract and for and in consideration of the premises and the mutual promises and covenants contained herein, the Parties hereto agree as follows:

ARTICLE I

DEFINITIONS

1.1 Definitions Contained in the Construction Contract . Unless otherwise defined herein or context otherwise requires, all capitalized terms used but not defined in this Agreement have the meanings given to those terms in the Construction Contract.

1.2 Certain Definitions . As used in this Agreement, the following terms shall have the following meanings, unless the context otherwise requires:

“ Agreement ” has the meaning set forth in the introductory paragraph and includes any amendment, modification or restatement of this Agreement.

“ Avoidable Transfer ” means a transfer of money or property that is avoided under Chapter 5 of the Bankruptcy Code or any other applicable law.

“ Bankruptcy Code ” means the United States Bankruptcy Code (11 U.S.C. §101 et seq.), as amended from time to time.

“ Company ” has the meaning set forth in the introductory paragraph to this Agreement and includes any successor or assigns.

“ Construction Contract ” has the meaning set forth in the Recitals to this Agreement.

“ Liens ” means any interest in property (real or personal) securing an obligation owed to, or a claim by, a Person other than the owner of the Property, whether such interest is based on the common law, statute or contract, and whether such obligation or claim is fixed or contingent, and including but not limited to (a) the lien or security interest arising from a mortgage, encumbrance, pledge, security agreement, conditional sale or trust receipt or a lease, consignment or bailment for security purposes or (b) production payments and the like payable out of oil and gas properties and the Properties. The term “ Lien ” shall include easements, restrictions, servitudes, permits, conditions, covenants, exceptions or reservations.

“ Property ” or “ Properties ” means all real and personal property of Company, whether now owned or later acquired, including but not limited to all Personal Property.

“ Second Lien Holder ” has the meaning set forth in the introductory paragraph of this Agreement and includes any successor or assigns.

“ Senior Creditor ” has the meaning set forth in the introductory paragraph of this Agreement and includes any successor or assigns.

“ Senior Documents ” means the Construction Contract and any other Contract Documents.

“ Senior Obligations ” means all obligations of Company to Senior Creditor under the Construction Contract and the Contract Documents, whether now existing or hereafter created or arising.

“ Subordinated Documents ” means all of the documents evidencing the Subordinated Obligations and any amendment, modification or extension thereto.

“ Subordinated Obligations ” means any and all indebtedness, liabilities and obligations of Company to Second Lien Holder, including but not limited to any loans or other extensions of credit, any shares, warrants or other equity interests, whether absolute or contingent, direct or indirect, joint, several or independent, now outstanding or owing or which may hereafter be existing or incurred, arising by operation of law or otherwise, due or to become due, or held or to be held by Second Lien Holder, whether created directly or acquired by assignment, as a participation, conditionally, as collateral security from another or otherwise, including indebtedness, obligations and liabilities of Company to Second Lien Holder as a member of any partnership, syndicate, association or other group, and whether incurred by Company as principal, surety, endorser, guarantor, accommodation party or otherwise, including, without limiting the generality of the foregoing, all indebtedness, liabilities and obligations of Company to Second Lien Holder arising out of any guaranty agreement, operating agreement or similar agreement between Second Lien Holder and Company.

1.3 Other Capitalized Terms . Capitalized terms not otherwise defined in Section 1.2 shall have the meanings given them elsewhere in this Agreement.

1.4 Exhibits and Schedules . All exhibits and schedules attached to this Agreement are part of this Agreement for all purposes.

1.5 Amendment of Defined Instruments . Unless the context otherwise requires or unless otherwise provided herein, the terms defined in this Agreement which refer to a particular agreement, instrument or document also refer to and include all renewals, extensions, modifications, amendments and restatements of such agreement, instrument or document. Nothing contained in this Section 1.5 will be construed to authorize any renewal, extension, modification, amendment or restatement.

1.6 References and Titles . All references in this Agreement to exhibits, schedules, articles, sections, subsections and other subdivisions refer to the exhibits, schedules, articles, sections, subsections and other subdivisions of this Agreement unless expressly provided otherwise. The words “this Agreement,” “this instrument,” “herein,” “hereof,” “hereby,” “hereunder” and words of similar import refer to this Agreement as a whole and not to any particular subdivision unless expressly so limited. The phrases “this section” and “this subsection” and similar phrases refer only to the sections or subsections of this Agreement in which those phrases occur. The word “or” is not exclusive; the word “including” (in its various forms) means “including without limitation.” Pronouns in masculine, feminine and neuter genders shall be construed to include any other gender, and words in the singular form shall be construed to include the plural and vice versa, unless the context otherwise requires. The word “will” shall be construed to have the same meaning and effect as the word “shall.” Unless the context requires otherwise (a) any reference herein to any law shall be construed as referring to such law as amended, modified, codified or reenacted, in whole or in part, and in effect from time to time, (b) any reference herein to any Person shall be construed to include such Person’s successors and assigns (subject to the restrictions contained herein), (c) with respect to the determination of any time period, the word “from” means “from and including” and the word “to” means “to and including.” No provision of this Agreement or any other Contract Document shall be interpreted or construed against any Person solely because such Person or its legal representative drafted such provision.

ARTICLE II

SUBORDINATION

2.1 Subordination of Obligations . The payment and performance of any and all Subordinated Obligations, regardless of how acquired, whether by grant, statute, operation of law, subrogation or otherwise, are expressly subordinated to the Senior Obligations, to the extent and in the manner set forth in this Agreement and notwithstanding anything to the contrary in any of the Subordinated Documents, without regard to the date any loan or extension of credit is made to Company.

2.2 Subordination of Liens . Regardless of the time or order of attachment or the time, order or manner of perfection or the time or order of filing financing statements, mortgages, mechanic’s and materialmen’s liens or other security agreements or documents, and

notwithstanding anything to the contrary in any of the Subordinated Documents or any provision of the UCC or any other applicable law, any and all Liens on the assets of Company or any other obligor in favor of Senior Creditor, whether now existing or hereafter created or arising, shall in all respects be first and senior Liens to secure payment of the Senior Obligations and shall be superior in all respects to any and all Liens on any assets of Company or any other obligor (to the extent such obligor also grants a Lien in favor of Senior Creditor) in favor of Second Lien Holder, whether now existing or hereafter created or arising and Second Lien Holder hereby subordinates all of its Liens, whether now existing or hereafter created or arising, to the Liens in favor of Senior Creditor, whether now existing or hereafter created or arising.

ARTICLE III

SECOND LIEN HOLDER RESTRICTIONS; PRIORITY

3.1 Restrictions on Second Lien Holder .

(a) Except as otherwise expressly provided in Section 3.1(b) below, during such time as any Senior Obligations remain unpaid, Second Lien Holder will not ask for, demand, sue for, take, receive or accept from the Company or any obligor, by set off or in any other manner, any payment or distribution on account of any of the Subordinated Obligations, nor present any instrument evidencing any of the Subordinated Obligations for payment (other than such presentment as may be necessary to prevent discharge of other liable parties on such instrument).

(b) Company may, however, pay to Second Lien Holder, and Second Lien Holder may receive and accept, amounts owed to Second Lien Holder in respect of the Subordinated Obligations if an Event of Default does not exist under the Senior Documents, from cash that Company is not otherwise required under the Senior Documents to pay to Senior Creditor in respect of any of the Senior Obligations.

(c) Second Lien Holder agrees and acknowledges that ( i ) it has received from the Company a true and complete copy of each of the Senior Documents, ( ii ) it has reviewed or had the opportunity to review with its own counsel the Senior Documents, and ( iii ) it understands and appreciates the effect that the terms and conditions of the Senior Documents may have on Company’s ability to repay the Subordinated Obligations.

3.2 Prohibition of All Payments Following an Event of Default . If for any reason any portion of the Senior Obligations is not paid when due, or if there shall occur and be continuing any event which with the giving of notice or lapse of time or both would constitute a default or Event of Default under the any of the Senior Documents, then, unless and until such default or Event of Default shall have been cured, or unless and until the Senior Obligations shall be paid in full, Second Lien Holder may not ask for, sue for, take, demand, receive or accept from Company or any obligor, by set off or in any other manner, any payment or distribution on account of the Subordinated Obligations nor present any instrument evidencing the Subordinated Obligations for payment (other than such presentment as may be necessary to prevent discharge of other liable parties on such instrument).

3.3 Payments Cannot Create a Default . Second Lien Holder will not ask for, demand, sue for, take, receive or accept from Company, by set off or in any other manner, any payment or distribution on account of the Subordinated Obligations, if the making of such payment would constitute, or would result in the occurrence of, a violation of the provisions of any Senior Document or would result in the occurrence of any event which with the giving of notice or lapse of time or both would constitute a default or an Event of Default under any Senior Document.

3.4 Unauthorized Receipt of Payment by Second Lien Holder . If Second Lien Holder shall receive any payment or distribution on account of the Subordinated Obligations which Second Lien Holder is not entitled to receive under this Agreement, Second Lien Holder will hold any amount so received in trust for Senior Creditor and will promptly (but in any event on or before the immediately following Business Day) turn over such payment to Senior Creditor in the form received by Second Lien Holder (together with any necessary endorsement) to be applied against the Senior Obligations.

3.5 Restrictions on Actions to Recover Subordinated Obligations . Until the Senior Obligations are irrevocably paid in full and Senior Creditor’s commitment to provide any funding under the Construction Contract has been irrevocably terminated in writing, Second Lien Holder shall not, and shall not solicit, support or encourage any person or entity to, (a) contest or object to the validity, extent, perfection, priority or enforceability of any Lien granted with respect to the Senior Obligations, or (b) commence any action or proceeding against Company or any obligor to recover all or any part of the Subordinated Obligations or join with any other creditor in commencing or maintaining any such action or proceeding, unless Senior Creditor shall also join, in bringing any case, proceedings or other actions against Company or any obligor under any existing or future law or statute of any jurisdiction relating to bankruptcy, reorganization, adjustment of debt, arrangement of debt, assignment for the benefit of creditors, receivership, liquidation or insolvency (a “ Proceeding ”); provided , however , that in the event of any Proceeding, sale of all or substantially all of the assets, dissolution, liquidation, or any other marshaling of the assets and liabilities of Company or any obligor, Second Lien Holder may, if Senior Creditor shall not have already so requested it to do so as provided in Section 4.2 below, file any claim, proof of claim, proof of interest or other instrument of similar character necessary to preserve the rights of Second Lien Holder and the obligations of Company or any obligor, as applicable, in respect of and under the Subordinated Obligations.

3.6 Priority . Notwithstanding any failure by Senior Creditor to perfect any Lien with respect to the Senior Obligations or any avoidance, invalidation or subordination by any third party or court of competent jurisdiction of any Lien with respect to the Senior Obligations, the priority and rights as between Senior Creditor and the Second Lien Holder with respect to the Properties shall be as set forth herein.

3.7 Judgment Creditors . In the event that either of Senior Creditor or Second Lien Holder becomes a judgment Lien creditor in respect of Company’s Properties as a result of its enforcement of its rights as an unsecured creditor, such judgment Lien shall be subject to the terms of this Agreement for all purposes to the same extent as all other Liens securing the Senior Obligations (created pursuant to the Senior Documents) or Subordinated Obligations (created pursuant to the Subordinated Documents) subject to this Agreement.

ARTICLE IV

INSOLVENCY PROCEEDINGS

4.1 Effectiveness in Insolvency Proceedings . This Agreement, which the Parties hereto expressly acknowledge is a “subordination agreement” under Section 510(a) of the Bankruptcy Code, shall be effective before, during and after the commencement of a Proceeding. All references in this Agreement to Company shall include Company as a debtor-in-possession and any receiver or trustee for Company in any Proceeding.

4.2 Insolvency or Bankruptcy by Company . In the event of any Proceeding, the sale of all or substantially all of the assets, dissolution, liquidation, or any other marshaling of the assets and liabilities of Company, and unless and until the Senior Obligations are irrevocably paid in full:

(a) Second Lien Holder will, at Senior Creditor’s request, file any claim, proof of claim, proof of interest or other instrument of similar character necessary to enforce the obligations of Company in respect of the Subordinated Obligations;

(b) If Second Lien Holder shall fail to take any action of the type described in Section 4.2(a) above and as requested by Senior Creditor, Senior Creditor may, as attorney-in-fact for Second Lien Holder, take such action on behalf of Second Lien Holder;

(c) Second Lien Holder hereby appoints Senior Creditor as such Second Lien Holder’s agent and grants to Senior Creditor an irrevocable power of attorney coupled with an interest, and its proxy, for the purpose of exercising any and all rights and taking any and all actions available to Second Lien Holder in connection with any case by or against Company or any obligor in any Proceeding, including, without limitation, the right to ( i ) prove and vote all claims and to receive and collect all dividends and payments to which the undersigned would be otherwise entitled, ( ii ) accept or reject to the extent to which Second Lien Holder would be entitled to accept or reject, any plan of reorganization, arrangement, extension, or composition in any such proceedings, and ( iii ) make any election under Section 1111(b) of the Bankruptcy Code. In addition, Second Lien Holder will execute and deliver to Senior Creditor such further powers of attorney, assignments or other instruments as Senior Creditor may request in order to enable Senior Creditor to enforce any and all claims upon or with respect to any or all Subordinated Obligations and any of its other rights hereunder, and to collect and receive any and all payments or distributions which may be payable or deliverable at any time upon or with respect to any Subordinated Obligations;

(d) No payment or distribution shall be made on account of any of the Subordinated Obligations, and Second Lien Holder will hold in trust for Senior Creditor and pay over to Senior Creditor, in the form received (with any necessary endorsements), to be applied to the Senior Obligations, any and all moneys, dividends, or other assets received in any Proceeding on account of the Subordinated Obligations; and

(e) Second Lien Holder shall not request judicial relief that would hinder, delay, limit or prohibit the lawful exercise or enforcement of any right or remedy otherwise available to Senior Creditor, or oppose or otherwise contest any request for judicial relief made by Senior Creditor.

4.3 Rights of Parties in Insolvency Proceeding . In the event of any Proceeding, the Parties hereby agree as follows:

(a) To the extent that Second Lien Holder has or acquires any rights under Section 362, 363 or 364 of the Bankruptcy Code with respect to the Collateral, Second Lien Holder hereby agrees not to assert such rights without the prior written consent of Senior Creditor; provided that, if requested by Senior Creditor, Second Lien Holder shall seek to exercise such rights in the manner requested by Senior Creditor, including the rights in payments in respect of such rights. Without limiting the generality of the foregoing sentence, to the extent that Senior Creditor consents to Company’s use of cash collateral under Section 363 of the Bankruptcy Code or Senior Creditor agrees to provide financing to Company under Section 364 of the Bankruptcy Code, Second Lien Holder hereby agrees not to impede, object to (on grounds of lack of adequate protection, or otherwise), or otherwise interfere with such use of cash collateral or financing.

(b) Second Lien Holder specifically agrees that in connection with such cash collateral usage or such financing, Company (or a trustee appointed for the estate of Company) may grant to Senior Creditor, for the benefit of Senior Creditor, liens and security interests upon all or any part of the assets of Company, which liens and security interests: ( i ) shall secure payments of all Senior Obligations (whether such Senior Obligations arose prior to the filing of a Proceeding or thereafter); and ( ii ) shall be superior in priority to the liens on and security interests in the assets of Company held by Second Lien Holder.

(c) Second Lien Holder (both in its capacity as a Second Lien Holder and in its capacity (if any) as a party which may be obligated to Company or their respective affiliates with respect to contracts which are part of Senior Creditor’s Collateral) agrees not to initiate or prosecute or support or encourage any other person or entity to ( i ) initiate or prosecute any claim, action, objection or other proceeding (A) challenging the enforceability of the claim of Senior Creditor, (B) challenging the enforceability of any liens or security interests in any assets securing the Senior Obligations, or (C) asserting any claims which Company may hold with respect to Senior Creditor, or ( ii ) file any pleadings or motions, take any position at any hearing or proceeding of any nature in contravention of this Agreement, or otherwise take any action whatsoever in contravention of this Agreement, in each case in respect of any of the Property.

(d) Second Lien Holder agrees that it will not object to or oppose a sale or other disposition of any assets securing the Senior Obligations (or any portion thereof) free and clear of its security interests, liens or other claims under Section 363 of the Bankruptcy Code or any other provision of the Bankruptcy Code (provided that the lien and security interest of Second Lien Holder shall attach to the proceeds of such sale, and such lien and security interest shall be subject in all respects to the applicable provisions of this Agreement) if Senior Creditor has consented to such sale or disposition of such assets.

(e) Second Lien Holder agrees not to assert any right it may have to “adequate protection” of its interest in the Collateral in any Proceeding and agrees that it will not seek to have the automatic stay lifted with respect to such security, without the prior written consent of Senior Creditor.

(f) Second Lien Holder waives any claim it may now or hereafter have against Senior Creditor in any Proceeding of the application of Section 1111(b)(2) of the Bankruptcy Code, and/or out of any cash collateral arrangement, or financing arrangement, or out of any grant of a security interest, under Section 363 or 364 of the Bankruptcy Code, with or by Company, as a debtor-in-possession (or with or by any trustee for the Company). Second Lien Holder agrees that it will not, in any capacity whatsoever: ( i ) propose, vote to accept, or otherwise support confirmation of, a plan of reorganization opposed by Senior Creditor, or ( ii ) object to the confirmation of, or otherwise oppose confirmation of, a plan of reorganization supported by Senior Creditor.

4.4 Avoidance Issues . If Senior Creditor is required in any Proceeding or otherwise to disgorge, turn over or otherwise pay to the estate of Company, because such amount was avoided or ordered to be paid or disgorged because it was found to be an Avoidable Transfer, any amount (a “ Recovery ”), whether received as proceeds of security, enforcement of any right of set-off or otherwise, then the Senior Obligations shall be reinstated to the extent of such Recovery and deemed to be outstanding as if such payment had not occurred, unless a bankruptcy court finds that such Avoidable Transfer is the result of an intentional fraudulent act by Senior Creditor or conduct giving rise to equitable subordination by the Senior Creditor. If this Agreement shall have been terminated prior to such Recovery, this Agreement shall be reinstated in full force and effect, and such prior termination shall not diminish, release, discharge, impair or otherwise affect the obligations of the Parties hereto. The Second Lien Holder agrees that it shall not be entitled to benefit from any Recovery relating to any distribution or allocation made in accordance with this Agreement, it being understood and agreed that the benefit of such Recovery otherwise allocable to them shall instead be allocated and turned over for application in accordance with the priorities set forth in this Agreement; provided that, the Second Lien Holder may, but is not required to, defend any such action against the Senior Creditor.

4.5 Asset Dispositions in a Proceeding . If there is a sale or disposition of any assets of Company pursuant to a sale approved in or in connection with any Proceeding, each of Senior Creditor and Second Lien Holder shall retain their respective Liens in the proceeds of any such sale, which Liens shall attach to the sales proceeds in their relative priority as set forth in this Agreement.

4.6 No Waivers of Rights of Senior Creditor . Nothing contained herein shall prohibit or in any way limit Senior Creditor from objecting in any Proceeding or otherwise to any action taken by Second Lien Holder, including the seeking by Second Lien Holder of adequate protection or the asserting by Second Lien Holder of any of its rights and remedies under the Subordinated Documents or otherwise.

4.7 Marshaling and Rights of Subrogation .

(a) Second Lien Holder hereby waives any requirement for marshaling of assets thereby in connection with any foreclosure of any security interest or any other realization upon collateral in respect of the Construction Contract, or any exercise of any rights of set-off or otherwise. Second Lien Holder and Senior Creditor assume all responsibility for keeping themselves informed as to the condition (financial or otherwise) of Company, the condition of all collateral securing the repayment of the Senior Obligations and other circumstances and, except for notices expressly required by this Agreement, neither Senior Creditor nor Second Lien Holder shall have any duty whatsoever to obtain, advise or deliver information or documents to the other relative to such condition, business, assets and/or operations. Second Lien Holder agrees that Senior Creditor owes no fiduciary duty to Second Lien Holder in connection with the administration of the Senior Obligations and the Senior Documents, and Second Lien Holder agrees not to assert any such claim.

(b) No payment or distribution to Senior Creditor pursuant to the provisions of this Agreement shall entitle Second Lien Holder to exercise any right of subrogation in respect thereof prior to the payment in full of the Senior Obligations, and Second Lien Holder agrees that prior to the satisfaction of all Senior Obligations, it shall not acquire, by subrogation or otherwise, any lien, estate, right or other interest in any portion of the collateral now securing the repayment of the Senior Obligations or the proceeds therefrom that is or may be prior to, or of equal priority to, any of the Senior Documents or the liens, rights, estates and interests created thereby.

ARTICLE V

RIGHTS AND OBLIGATIONS OF PARTIES

5.1 Senior Creditor’s Rights . Senior Creditor may, at any time, and from time to time, without the consent of or notice to Second Lien Holder, without incurring responsibility to Second Lien Holder and without impairing or releasing any of Senior Creditor’s rights or any of the obligations of Second Lien Holder under this Agreement:

(a) Change the amount, manner, place or terms of payment, or change or extend for any period the time of payment of, or renew, rearrange or otherwise modify or alter, the Senior Obligations or any instrument or agreement now or hereafter executed evidencing, in connection with, as security for or providing for the issuance of any of the Senior Obligations in any manner, or enter into or amend in any manner any other agreement relating to the Senior Obligations (including provisions restricting or further restricting payments of the Subordinated Obligations);

(b) Sell, exchange, release or otherwise deal with all or any part of any property by whomsoever at any time pledged or mortgaged to secure, howsoever securing, any of the Senior Obligations;

(d) Exercise or refrain from exercising any rights against Company or others (including Second Lien Holder); and

(e) Apply any sums received by Senior Creditor, by whomsoever paid and however realized, to payment of the Senior Obligations in such a manner as Senior Creditor, in its sole discretion, may deem appropriate.

5.2 Documentation of Subordinated Obligations . Second Lien Holder shall:

(a) cause all Subordinated Obligations to be evidenced by a note, debenture or other instrument evidencing the Subordinated Obligations,

(b) at Senior Creditor’s request, promptly surrender or cause to be surrendered any such note, debenture, or instrument evidencing the Subordinated Obligations so that a statement or legend may be entered thereon to the effect that such note, debenture, or other instrument is subordinated to the Senior Obligations in favor of Senior Creditor in the manner and to the extent set forth in this Agreement,

(c) mark the books of Second Lien Holder to show that the Subordinated Obligations are subordinated to the Senior Obligations in the manner and to the extent set forth in this Agreement,

(d) cause all financial statements of Second Lien Holder hereafter prepared for delivery to any person to make specific reference to the provisions of this Agreement, and

(e) at Senior Creditor’s request, promptly provide such documentary evidence as Senior Creditor may request to confirm Second Lien Holder’s compliance with the requirements of this Section 5.2 .

5.3 Execution of Instruments . Second Lien Holder agrees to execute any and all other instruments necessary as required by Senior Creditor to subordinate the Subordinated Obligations to the Senior Obligations as herein provided.

5.4 Warranties and Representations . Second Lien Holder represents and warrants that (a) the execution, delivery and performance of this Agreement by Second Lien Holder (i) has been duly authorized by all necessary corporate or company action and (ii) does not require the consent or approval of any other Person, (b) neither the execution nor delivery of this Agreement nor fulfillment of or compliance with the terms and provisions hereof will conflict with, or result in a breach of the terms, conditions or provisions of, or constitute a default under, any agreement or instrument (including, without limitation, any of its formation or governing documents) to which Second Lien Holder is now subject, (c) this Agreement constitutes a legal, valid and binding obligation of Second Lien Holder, enforceable against it in accordance with its terms, and (d) none of the Subordinated Obligations is or will be subordinated to any other indebtedness of Company other than the Senior Obligations unless otherwise agreed by Senior Creditor.

5.5 Application of Payments . All payments received by Senior Creditor may be applied, reversed and reapplied, in whole or in part, to such part of the Senior Obligations

provided for in the Senior Documents. Second Lien Holder consents to any extension or postponement of the time of payment of the Senior Obligations or any part thereof and to any other indulgence with respect thereto, to any substitution, exchange or release of any security which may at any time secure any part of the Senior Obligations and to the addition or release of any other Person primarily or secondarily liable therefore, but only if, in each case, the stated maturity date is not changed.

ARTICLE VI

MISCELLANEOUS

6.1 Conflicts . In the event of any conflict between the provisions of this Agreement and the provisions of any Senior Document or any Subordinated Document, the provisions of this Agreement shall govern.

6.2 Continuing Nature of Provisions . This Agreement shall continue to be effective, and shall not be revocable by any Party hereto, until the obligations under the Senior Documents have been irrevocably satisfied in full.

6.3 Specific Performance . Each of Senior Creditor and Second Lien Holder may demand specific performance of this Agreement. Senior Creditor under its Senior Documents, and Second Lien Holder hereby irrevocably waives any defense based on the adequacy of a remedy at law and any other defense which might be asserted to bar the remedy of specific performance in any action which may be brought by Senior Creditor or Second Lien Holder, as the case may be.

6.4 Waiver of Notice of Acceptance . Notice of acceptance of this Agreement is waived, acceptance on the part of Senior Creditor being conclusively presumed by its request for this Agreement and delivery of the same to it.

6.5 LIMITATION OF LIABILITY . NOTWITHSTANDING ANY OTHER PROVISION OF THIS AGREEMENT, NO PARTY OR ITS AFFILIATES SHALL HAVE ANY LIABILITY TO ANY OTHER PARTY OR ITS AFFILIATES FOR ANY SPECIAL, INDIRECT, INCIDENTAL, OR CONSEQUENTIAL LOSS OR DAMAGE WHATSOEVER, OR ANY SPECIAL, INDIRECT, INCIDENTAL, OR CONSEQUENTIAL (INCLUDING LOST PROFITS OR LOST INVESTMENT OPPORTUNITY) LIABILITY IN CONNECTION WITH ITS PERFORMANCE OF ITS OBLIGATIONS UNDER THIS AGREEMENT, WHETHER SUCH LIABILITY ARISES IN CONTRACT, TORT (INCLUDING NEGLIGENCE AND STRICT LIABILITY), OR OTHERWISE.

6.6 Preservation of Liability . Neither this Agreement nor the exercise by any Party of (or the failure to so exercise) any right, power or remedy conferred herein or by law shall be construed as relieving any Party from liability hereunder.

6.7 Notices . Any record, notice, demand or document which either Party is required or may desire to give hereunder shall be in writing and, except to the extent provided in the other provisions of this Agreement, given by messenger, facsimile or other electronic transmission, or United States registered or certified mail, postage prepaid, return receipt requested, addressed to

such Party at its address and telecopy number shown below, or at such other address as either Party shall have furnished to the other by notice given in accordance with this provision:

If to Senior Creditor, to:

Milam Services, Inc.

919 Milam, Suite 2100

Houston, TX 77002

Attention: Karen Pape

Telephone: (713) 860-2500

Facsimile: (713)860-2640

E-Mail: karen.pape@genlp.com

If to Company, to:

Lazarus Energy Holdings LLC

3200 Southwest Freeway, Suite 3300

Houston, Texas 77027

Attention: Jonathan Carroll, Manager

Telephone: (713)850-0513

Facsimile: (713) 850-0520

E-Mail: JCarroll@LazarusEnergy.com

If to Second Lien Holder, to:

John H. Kissick

c/o Ares Management LLC

2000 Avenue of the Stars, 12 ^th floor

Los Angeles, CA 90067

PH: (310)201-4139

FX: (310)201-4173

Email: kissick@aresmgmt.com , with a copy to lacotera@aresmgmt.com

6.8 Choice of Law . THIS AGREEMENT SHALL BE GOVERNED BY THE LAWS OF THE STATE OF TEXAS WITHOUT REGARD TO ITS CONFLICTS OF LAWS PRINCIPLES.

6.9 Amendment and Waiver . This Agreement may not be amended (nor may any of its terms be waived) except by a written document signed by all Parties, stating that it is intended to amend this Agreement.

6.10 Severability . If any provision of this Agreement is rendered or declared invalid, illegal or unenforceable by reason of any existing or subsequently enacted legislation or by a judicial decision which shall have become final, the Parties shall promptly meet and discuss substitute provisions for those rendered invalid, illegal or unenforceable, but all of the remaining provisions shall remain in full force and effect.

6.11 Survival of Agreements . All representations and warranties contained herein, and all covenants and agreements herein not fully performed before the effective date of this Agreement, shall survive such date.

6.12 Counterparts . This Agreement may be executed in two or more counterparts, and it shall not be necessary that the signatures of all Parties hereto be contained on any one counterpart hereof. Each counterpart shall be deemed an original, but all such counterparts taken together shall constitute one and the same instrument.

6.13 Successors and Assigns .

(a) The terms of this Agreement shall be binding upon, and shall inure to the benefit of, the Parties hereto and their respective successors or heirs, assigns and personal representatives.

(b) Second Lien Holder will not assign or transfer (or agree to assign or transfer) to any other Person any claim Second Lien Holder has or may have against Company as long as any of the Senior Obligations remain outstanding, except upon at least ten (10) days prior written notice to Senior Creditor and unless such assignment or transfer (or agreement to make such assignment or transfer) is expressly made subject to this Agreement.

6.14 Titles of Articles, Sections and Subsections . All titles or headings to articles, sections, subsections or other divisions of this Agreement are only for the convenience of the Parties and shall not be construed to have any effect or meaning with respect to the other content of such articles, sections, subsections or other divisions, such other content being controlling as to the agreement between the Parties hereto.

6.15 Joint Drafting . Each Party acknowledges that it and its legal counsel have actively participated in the drafting and negotiation of this Security Agreement and, as such, this Security Agreement will be construed as having been jointly drafted by the Parties.

6.16 WAIVER OF JURY TRIAL . TO THE MAXIMUM EXTENT NOT PROHIBITED BY LAW, EACH OF THE UNDERSIGNED HEREBY KNOWINGLY, VOLUNTARILY AND INTENTIONALLY WAIVES ANY RIGHT WHICH IT MAY HAVE TO A TRIAL BY JURY IN RESPECT OF ANY LITIGATION DIRECTLY OR INDIRECTLY AT ANY TIME ARISING OUT OF, UNDER OR IN CONNECTION WITH THIS AGREEMENT, OR ANY TRANSACTION CONTEMPLATED THEREBY.

6.17 FINAL AGREEMENT . THIS AGREEMENT REPRESENTS THE FINAL AGREEMENT BETWEEN THE PARTIES WITH RESPECT TO THE MATTERS ADDRESSED HEREIN AND THEREIN AND MAY NOT BE CONTRADICTED BY EVIDENCE OF PRIOR, CONTEMPORANEOUS, OR SUBSEQUENT ORAL AGREEMENTS OF THE PARTIES. THERE ARE NO UNWRITTEN ORAL AGREEMENTS BETWEEN THE PARTIES.

[SIGNATURES BEGIN ON THE FOLLOWING PAGE]

IN WITNESS WHEREOF, the undersigned has caused this instrument to be executed effective as of the date first set forth above.

SECOND LIEN HOLDER:

/s/ John H. Kissick

John H. Kissick

S IGNATURE P AGE TO I NTERCREDITOR AND S UBORDINATION A GREEMENT

IN WITNESS WHEREOF, the undersigned have caused this instrument to be executed by their duly authorized undersigned officers effective as of the date first set forth above.


SENIOR CREDITOR:

MILAM SERVICES, INC.

By:		/s/ R. V. Deere
Name:		R. V. Deere
Title:		CFO

S IGNATURE P AGE TO I NTERCREDITOR AND S UBORDINATION A GREEMENT

IN WITNESS WHEREOF, the undersigned have caused this instrument to be executed by their duly authorized undersigned officers effective as of the date first set forth above.


COMPANY:

LAZARUS ENERGY LLC

By:		/s/ Jonathan P. Carroll
Name:		Jonathan P. Carroll
Title:		Member/Manager

S IGNATURE P AGE TO I NTERCREDITOR AND S UBORDINATION A GREEMENT

Exhibit 31.1

I, Jonathan P. Carroll, certify that:

1.	I have reviewed this Quarterly Report on Form 10-Q of Blue Dolphin Energy Company (the “Registrant”).

2.	Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.	Based on my knowledge, the financial statements and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the Registrant as of, and for, the periods presented in this report;

The Registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the Registrant and we have:

a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the Registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c) Evaluated the effectiveness of the Registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

d) Disclosed in this report any change in the Registrant’s internal control over financial reporting that occurred during the Registrant’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Registrant’s internal control over financial reporting;

5.	The Registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the Registrant’s auditors and the audit committee of the Registrant’s board of directors (or persons performing the equivalent functions):

a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the Registrant’s ability to record, process, summarize and report financial information; and

b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the Registrant’s internal control over financial reporting.

Date: May 21, 2012

/s/ JONATHAN P. CARROLL

Jonathan P. Carroll

Chief Executive Officer, President,

Assistant Treasurer and Secretary

(Principal Executive Officer)

Exhibit 31.2

I, Tommy L. Byrd, certify that:

1.	I have reviewed this Quarterly Report on Form 10-Q of Blue Dolphin Energy Company (the “Registrant”).

2.	Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.	Based on my knowledge, the financial statements and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the Registrant as of, and for, the periods presented in this report;

5.	The Registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the Registrant’s auditors and the audit committee of the Registrant’s board of directors (or persons performing the equivalent functions):

b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the Registrant’s internal control over financial reporting.

Date: May 21, 2012

/s/ TOMMY L. BYRD

Tommy L. Byrd

Interim Chief Financial Officer, Treasurer and Assistant Secretary

(Principal Financial Officer)

Exhibit 32.1

CERTIFICATION PURSUANT TO

18 U.S.C. SECTION 1350,

AS ADOPTED PURSUANT TO SECTION 906

OF THE SARBANES-OXLEY ACT OF 2002

In connection with this Quarterly Report of Blue Dolphin Energy Company (the “Company”) on Form 10-Q for the period ended March 31, 2012 (the “Report”), as filed with the Securities and Exchange Commission on the date hereof, I, Jonathan P. Carroll, Chief Executive Officer, President, Assistant Treasurer and Secretary (Principal Executive Officer) of the Company, certify, pursuant to 18 U.S.C. §1350, as adopted pursuant to §906 of the Sarbanes-Oxley Act of 2002, that:

1. The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and

2. The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

/s/ JONATHAN P. CARROLL

Jonathan P. Carroll

Chief Executive Officer, President,

Assistant Treasurer and Secretary

(Principal Executive Officer)

Date: May 21, 2012

Exhibit 32.2

CERTIFICATION PURSUANT TO

18 U.S.C. SECTION 1350,

AS ADOPTED PURSUANT TO SECTION 906

OF THE SARBANES-OXLEY ACT OF 2002

In connection with this Quarterly Report of Blue Dolphin Energy Company (the “Company”) on Form 10-Q for the period ended March 31, 2012 (the “Report”), as filed with the Securities and Exchange Commission on the date hereof, I, Tommy L. Byrd, Interim Chief Financial Officer, Treasurer and Assistant Secretary (Principal Financial Officer) of the Company, certify, pursuant to 18 U.S.C. §1350, as adopted pursuant to §906 of the Sarbanes-Oxley Act of 2002, that:

1. The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and

2. The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

/s/ TOMMY L. BYRD

Tommy L. Byrd

Interim Chief Financial Officer, Treasurer

and Assistant Secretary

(Principal Financial Officer)

Date: May 21, 2012