This case is submitted on the objections of BMO Financial, Inc. and Bank of Montreal (collectively, the "Bank") to confirmation of the plan of reorganization proposed by Settle Oil and Gas Company ("SOG"), an affiliate and creditor of the debtor. Settle Oil and Gas Company's Second Amended and Restated Plan of Reorganization dated November 7, 1994, and filed on November 17, 1994, as modified by modifications filed on January 19, 1995 and February 21, 1995, is supported by the debtor. The debtor's plan, which was submitted to creditors concurrently with the SOG plan, was not accepted by any class of creditors whose claims were impaired by the plan. Consequently, the debtor withdrew its plan and has joined in support of the SOG plan. The SOG plan, as modified, has been accepted by all classes of creditors whose claims are impaired by the plan, except Class III. The only creditor in Class III is the Bank, which is strenuously objecting to confirmation of the plan. SOG seeks confirmation of the plan under the "cramdown" provisions of 11 U.S.C. § 1129(b).

The Debtor, an independent oil and gas exploration and production company, was founded as a Kentucky S-Corporation in June 1986, with $850,000 of capital. The Debtor is privately held. The principal shareholders are Howard A. Settle and Jonathan B. Rudney, who together own 96.84% of the outstanding stock of the corporation.

The Debtor maintains two offices. Accounting, administration and financial management are handled in the Lexington, Kentucky office. Geological and geophysical evaluation of leases along with drilling, completion engineering, construction and platform operations are conducted by employees in the Metairie, Louisiana office. After staff reductions made since the commencement of this case the Debtor has 7 employees in the Lexington office and 9 employees in the Metairie office.

Since incorporation the Debtor has participated in the drilling of approximately 50 offshore oil and gas wells in the Gulf of Mexico. Initially the Debtor financed its offshore exploration and production operations by obtaining short term loans, with capital provided by joint venturers, or by sale of assets.

In 1989 Settle Oil and Gas was capitalized with $5,000,000. Thereafter, SOG purchased certain properties of the Debtor and participated in exploration and drilling activities with the Debtor. In 1991 SOG raised additional capital of $5,750,000 with which it continued to participate in the Debtor's exploration activities. In March 1992, the Debtor proposed acquisition of certain leases owned by SOG. In order to participate in a drilling program on these leases SOG raised capital through the issuance of convertible bonds. In all SOG has raised over $15,000,000 in funds which have been made available for exploration and development of leases in which SOG has participated as a working interest partner of the Debtor.

In addition to the financing provided by SOG, commencing in 1989 the Debtor was able to finance its activities with traditional bank loans.

On June 28, 1990, the Bank extended financial accommodations to the Debtor pursuant to an Original Credit Agreement. The indebtedness owed by the Debtor to the Bank under the Original Credit Agreement was evidenced by a $45,000,000 Revolving Note dated June 29, 1990. To secure the obligations under the Original Credit Agreement, the Debtor granted the Bank liens and security interests in certain oil and gas properties owned by the Debtor and personal property related to such oil and gas properties in Breton Sound blocks 45 and 52, West Cameron blocks 364, 365, 368 and 369, and South Timbalier block 107. The Bank perfected its security interest in the collateral by filing the original mortgage in numerous appropriate locations.

The Original Credit Agreement was amended December 13, 1990 to increase the Debtor's line of credit to $49,000,000, evidenced by a new Revolving Note in that amount. The Bank obtained additional collateral in the form of security interests in oil and gas properties and personal property related thereto in Ship Shoal block 62 and Breton Sound block 53. The Bank perfected these security interest therein by appropriate filings.

The Original Credit Agreement was amended June 13, 1991 to increase the Debtor's line of credit to $53,000,000, evidenced by a new Revolving Note in that amount. To further secure the Debtor's obligations under the Credit Agreement the Debtor granted the Bank liens and security interests in certain oil and gas properties in South Timbalier block 148 and in Ship Shoal block 150. The Bank perfected its security interests therein by appropriate filings.

Pursuant to a Third Amendment to the Credit Agreement dated as of February 26, 1992, the $53,000,000 Revolving Note was replaced with a Term Note, dated October 31, 1991 in the original principal amount of $51,500,000. In connection with the Third Amendment the Bank and the Debtor amended the Collateral Pledge, Assignment and Security Agreement, dated as of February 26, 1992.

Pursuant to a Fourth Amendment to the Credit Agreement dated as of July 1, 1992, the Bank released a portion of its security interest in certain parcels of the West Cameron block 365 and West Cameron block 368 leases.

In August of 1992, Hurricane Andrew, a class four hurricane with sustained winds of 145 miles per hour, caused extensive damage to natural gas facilities in the Gulf of Mexico. Four of the Debtor's nine production platforms were in the direct path of the hurricane, and although all of the platforms remained standing, all sustained damage. The storm was followed by a series of events which impaired the value of the Debtor's oil and gas reserves and reduced the debtor's cash flow.

The storm caused major disruptions in the gas industry for an extended period of time which resulted in the debtor suffering major financial losses on hedging transactions entered into during 1992 and 1993. Spikes in gas prices in September 1992 following Hurricane Andrew and again in April 1993 caused the Debtor to lose approximately $12,700,000 in hedging transactions resulting in an additional indebtedness of approximately $10,600,000.

Additional amendments to the Original Credit Agreement between the Debtor and the Bank were made by a Fifth Amendment dated as of December 31, 1992.

In April 1993 the Debtor started notifying creditors, including the Bank, of the Debtor's financial difficulties. The Debtor requested longer payment terms and cooperation for a period of time while the Debtor made repairs to platforms and completed negotiation of deals to increase the Debtor's cash flow.

On July 21, 1993, the Bank and the Debtor entered into a Limited Forbearance Agreement, the terms of which were incorporated into the Credit Agreement through a Sixth Amendment to the Credit Agreement, dated as of August 20, 1993, which provided the Debtor cash flow to September 30, 1993 to enable the Debtor to accomplish certain repair projects. To secure the Debtor's obligations under the Limited Forbearance Agreement and Sixth Amendment to the Credit Agreement, and as further security for the Debtor's obligations under the Credit Agreement, the Debtor granted the Bank a lien and security interest in certain oil and gas properties and personal property related thereto in additional interests owned by the Debtor in South Timbalier block 148. To perfect its security interests in the additional South Timbalier block 148 oil and gas properties, the Bank filed its security interests in various appropriate offices on August 24, 1993. The Debtor was operating under the forbearance agreement at the time of filing bankruptcy.

On August 24, 1993, at 4:54 p.m., the debtor, Century Offshore Management Corporation, filed in this court a petition for relief under chapter 11 of the Bankruptcy Code. On the date of bankruptcy the debtor owed the Bank $27,396,207.53.

The schedules to the Debtor's petition, as subsequently amended, reflect obligations totaling $55,759,695.12 and assets totaling $55,778,516.68.

With the petition the Debtor filed a Motion for an Order Authorizing Use of Cash Collateral pursuant to the terms of an agreed interim order between the Bank and the Debtor. The interim order was approved by the court and a final evidentiary hearing on use of cash collateral was commenced on September 29, 1993. Following the hearing the court authorized continued use of cash collateral. The court found that the indebtedness to the Bank was oversecured with the result that the Bank was entitled to interest payments on its debt during the pendency of the case.

The $51,500,000 Term Note dated October 31, 1991 required the debtor to make monthly payments of $750,000. During 1992 the debtor made accelerated payments of $1,750,000 in January, $9,000,000 in February, $1,000,000 in April, $4,000,000 in July, and $1,250,000 in August, with the result that the loan balance was reduced to $33,000,000 by the end of 1992. Settle Exhibit No. 23.

The Debtor maintained the regular $750,000 monthly payments on the loan for January, February, March, and April 1993, missed the payment for May 1993, but did make the regular payments for June and July. From insurance proceeds the debtor made additional payments of $370,942 in July and $732,851 in August 1993, prior to commencement of this chapter 11 case. Settle Exhibit No. 23.

To make payments on the Bank debt the Debtor apparently had to forego payments to suppliers of goods and services with the result that mechanics' and materialmen's liens were placed against the Debtor's interest in a number of leases and improvements thereon. It was the filing and attempted enforcement of these liens that precipitated the bankruptcy filing.

The right of the Debtor to use cash collateral was extended from time to time. In April of 1994 the Debtor made a payment of $1,196,207 from accumulated cash collateral for application to the principal of the Bank loan, reducing the loan balance to $26,200,000.

By an order entered on July 1, 1994 the right of the Debtor to use cash collateral was extended through September 30, 1994. The Debtor was permitted to use cash collateral for capital expenditures representing the Debtor's share of completion costs of two wells, the B-7 and B-8 wells on South Timbalier block 148. The B-8 well was drilled in a quadrant of South Timbalier block 148 in which the Bank held a security interest. The Debtor granted the Bank a mortgage on the increased interest the Debtor had acquired from Settle Oil and Gas Company in the quadrant in which the A-7 well was drilled.

A comparison of the exhibits provided by Bill R. Hise of The Hise Company during his testimony at the cash collateral hearing in September of 1993 [Exhibit No. 8] and his testimony at the confirmation hearing [Hise Exhibit No. 1, page 1] indicates that the drilling and completion of these wells on the South Timbalier block 148 lease increased the value of the Debtor's interest in oil and gas reserves under parcels of the lease in which the Bank holds a security interest from $13,701,169 to $29,485,208, or by more than $15,000,000. This computation takes into account depletion that has occurred and utilizes a higher discount rate in computing the February 1995 value of the reserves.

While precise figures are difficult to ascertain from the record before the court, it appears that in excess of $12,000,000 of cash collateral subject to the Bank's security interest may have been expended since the commencement of this case. Of that amount, in excess of $5,000,000 in principal and interest has been paid to the Bank and approximately $2.4 million has been expended for capital improvements primarily on the B-3, B-7 and B-8 wells on South Timbalier block 148, all of which wells are subject to the Bank's security interest.

Taking into account the increase in value in proved and producing reserves on South Timbalier block 148, the secured position of the Bank has deteriorated but not significantly since the commencement of this case. The Hise Report [Hise Exhibit No. 1] fixes the present value of the reserves in which the Bank has a security interest at $42,858,138, or approximately $16.5 million above the amount of the Bank debt. A witness for the Bank fixed the liquidation value of the Debtor's oil and gas reserves in place in the ground at approximately $20 million dollars. Bank Exhibit No. 25. But this valuation does not appear to take into account the capital improvements that are already in place for extraction of reserves.

Under the SOG Plan, Settle Oil and Gas Company will be merged into the debtor, Century Offshore Management Company, which will be the surviving entity. The outstanding shares of stock of both entities will be canceled. Common stock of the new entity will be issued to the former holders of SOG and Century stock in accordance with the terms of the merger agreement. See Settle Oil and Gas Plan Document No. 12. The proposed merger of Settle Oil and Gas Company into the debtor, if consummated, will resolve an adversary proceeding commenced by the Creditors' Committee by which the Committee seeks to have set aside as fraudulent a number of prepetition transfers of interests in oil and gas leases of the debtor to Settle Oil and Gas Company. The Committee alleges the transfers were made for less than equivalent value. The merger may enhance the asset value and cash flow of the reorganized company if wells drilled on exploratory acreage in which Settle Oil and Gas presently owns a 45% interest prove to be commercial.

The Bank takes the position that the Settle Oil and Gas Plan is not "fair and equitable" with respect to the Bank because during the first 18 months of the plan the merged and reorganized debtor proposes to use approximately $1.7 million of Bank Collateral Net Revenue to make payments to creditors holding Class IV, Class V, and Class VIII claims.

Settle Oil and Gas Company counters this argument with the observation that its interest in exploratory acreage which it is ceding to the reorganized debtor, and which is not subject to the Bank's mortgages and security interests, will be used to fund the plan to the extent necessary to make up any deficiency in income from the properties presently owned by the Debtor on which the Bank holds mortgages, and to service debt for capital costs of drilling and exploration of the leasehold interests of the reorganized debtor.

The plan provides that net revenues needed to fund payments to creditors under the plan are derived from four sources: production of hydrocarbons from the debtor's interests in oil and gas leases which are pledged to secure repayment of the claim of the Bank of Montreal ("Bank Collateral Net Revenue"); production of hydrocarbons from the B-7 well on South Timbalier block 148 ("B-7 Net Revenues"); the overriding royalty interests in which the debtor holds legal title ("Century Employees' ORRI Net Revenues"); and production of hydrocarbons from interests in oil and gas leases owned by SOG on the petition date which interests are not generating any revenue as of the effective date of the plan or interests in oil and gas leases acquired by the reorganized debtor after confirmation ("SOG Exploratory Net Revenues").

The cash flow budget for the reorganized debtor [Settle Exhibit No. 11] shows total payments to all creditors over the life of the plan (June 1995 through December 1999) will be approximately $67 million. Of that amount, roughly $25 million, or 37.5%, will be generated by Bank Collateral Net Revenues; $3 million, or 4.9%, will be supplied by B-7 Net Revenues; $1 million, or 1.5%, will be received from the Century Employee ORRI Net Revenues, and approximately $37 million, or 56%, will be derived from SOG Exploratory Net Revenues. Creditors in Classes IV, V and VIII are to be paid concurrently with the Bank from Bank Collateral Net Revenues in the manner hereinafter described.

Class IV is comprised of creditors holding mechanics' and materialmen's lien claims against South Timbalier block 148. Their claims are senior to the Bank mortgage on the section of South Timbalier block 148 on which the B-7 well is located. These creditors, whose claims total approximately $1,126,329.87, exclusive of interest and legal fees, are to be paid the net cash flow received by the Debtor from the B-7 well plus a percentage of the Bank Collateral Net Revenue over and above the amount required to make monthly mortgage payments of $664,031 to the Bank.

Class V is comprised of creditors holding mechanics' and materialmen's lien claims on leases other than South Timbalier block 148 in which the Debtor and Settle Oil and Gas have an interest. The claims of these creditors aggregate $2,408,255.40, exclusive of interest and legal fees. These creditors are to be paid a portion of the income from an overriding royalty interest which previously has been allocated to an Employee Bonus Fund. In addition these creditors are to be paid a percentage of the Bank Collateral Net Revenues over and above the amount required to make the $664,031 monthly mortgage payments to the Bank, plus a portion of the net revenues from the B-7 well after creditors in Class IV have been paid in full, plus a portion of the net revenues generated from production of reserves on the exploratory acreage of South Timbalier block 148.

Class VIII is comprised of creditors holding unsecured claims. These claims totaled $17,700,029.62 as of the commencement of the case. Since the commencement of the case Settle Oil and Gas has purchased an interest in some of these claims. Thus, some of these claims may be reduced or extinguished if Settle Oil and Gas Company and the Debtor are merged as proposed by the SOG Plan. The creditors in Class VIII are to be paid a percentage of the Bank Collateral Net Revenue over and above the amount required to make the $664,031 monthly mortgage payments to the Bank, plus a portion of the net revenues from the B-7 well after creditors in Class IV have been paid in full, plus a portion of the Employee Bonus Fund overriding royalty interest, plus a portion of the net revenues from wells drilled on the South Timbalier block 148 exploratory fields.

Based on the formula proposed by the SOG Plan and income projections set out in Settle Exhibit No. 11, Class IV creditors will be paid $66,451.27, Class V creditors $221,550.36, and Class VIII creditors $1,438,486.14 from Bank Collateral Net Revenues during the first 18 months of the plan. The percentage and the amount of the payment of each of these classes may change as the result of the purchase of certain of the Class VIII claims by SOG, if SOG and the Debtor are merged as proposed by the SOG Plan.

Based on projected Bank Collateral Net Revenues as set out in Settle Exhibit No. 11 it appears that the amount of Bank Collateral Net Revenues that will be allocated to payment of claims of creditors in Classes IV, V and VIII may range from a high of approximately $150,000 per month to a low of approximately $13,000 per month during the first 18 months of the plan.

Typically, in secured term financing arrangements, such as that in place between the Debtor and the Bank when bankruptcy intervened, a debtor is permitted to use cash collateral to pay trade debt and other obligations so long as the payments to the lender called for by the term note are maintained. It is not at all clear that use of a portion of the Bank Collateral Net Revenue as proposed in this instance is unfair and inequitable per se. The court is inclined to overrule this objection of the Bank to confirmation of the plan. The court suggests a further modification or clarification of the plan. If the drilling of the well on Ship Shoal block 150 by American Resources, Inc. ("ARI") proceeds, any Bank Collateral Net Revenue from that well, which is not taken into account in present income projections, perhaps should be allocated to payment of the Bank debt. See Bank Exhibit No. 1. Otherwise, it would appear that income realized from this source may be allocated to payment of Class IV, V and VIII claims, if the well comes into production during the first 18 months of the plan, as apparently contemplated.

The more serious objection is that based on 11 U.S.C. § 1129(a)(11) which requires a determination regarding the feasibility of the plan.

Shortly after the commencement of this case the Debtor and SOG, with the concurrence of the Bank, the South Timbalier block 148 mechanic and materialman lienholders, and the creditors' committee, and with the approval of the court, entered into a participation agreement with Newfield Exploration Company for exploration and development of the South Timbalier block 148 lease. In exchange for the conveyance to Newfield by the Debtor and SOG of a one-half interest in the South Timbalier lease, free and clear of liens and encumbrances, Newfield agreed to purchase a 3-D seismic survey of the lease, to drill a well on the Ship Shoal block 150 lease at essentially no cost to the debtor until completion costs exceeded $1,100,000, and to expend $4,400,000 in drilling wells on the South Timbalier block 148 lease at locations chosen by the Debtor, subject to Newfield's concurrence in the locations. With Newfield's concurrence in the locations the B-7 and B-8 wells were the initial wells drilled on South Timbalier block 148 under the agreement. As previously noted, the Debtor's share of the completion costs of the B-7 and B-8 wells, which proved to be commercial, was paid from cash collateral under the order permitting the debtor to use cash collateral for that purpose. The debtor incurred no expenses in completing the well drilled by Newfield on Ship Shoal block 150 because that well did not prove to be commercial.

Newfield, which is a strong company financially, has indicated a strategy for developing the South Timbalier block 148 lease that could involve drilling a total of 16 wells during the life of the plan, or 12 wells in addition to those already drilled. Drilling of one of the additional wells, the No. 6 well, is in process, and commencement of drilling on the No. 5 well is imminent.

Newfield owns a 50% interest, Settle Oil and Gas a 45% interest and the Debtor a 5% interest in the exploratory regions of South Timbalier block 148 where the No. 4 well was drilled, where the No. 6 well is being drilled, and where the No. 5 well is to be drilled. The projected locations of the remaining wells to be drilled are in the exploratory regions.

Settle Oil and Gas obtained a $5,000,000 loan from American Resources of Delaware, Inc. ("ARI") to fund its share of the drilling costs of the No. 4, No. 5, and No. 6 wells. In order to obtain this loan, SOG mortgaged its 45% interest in the exploratory acreage of South Timbalier block 148 to ARI. The Debtor's 5% interest in the exploratory acreage is subject to the mortgages and security interests of the Bank.

There appears to be doubt as to the ability of ARI to meet its obligation to disburse to SOG the remaining $2,000,000 to be released under the $5,000,000 loan commitment unless SOG pays ARI approximately $1.85 million for assignment of the balance of claims against the Debtor purchased by ARI from Enron. Although Mr. Hawthorne, Chairman of the Board at ARI, testified that ARI has the appetite to participate in funding SOG's share of drilling obligations in the development of the South Timbalier block 148 lease, the evidence is rather vague as to the manner in which ARI will raise the capital to fund these obligations. A more detailed discussion of the funding requirements of the reorganized debtor follows.

The reorganized debtor will fund payments under the plan with revenues from existing and future production and sale of oil and gas reserves. The development of wells in the exploratory acreage of South Timbalier block 148 is the cornerstone of the SOG plan. The reorganized debtor has budgeted $33 million in capital expenditures for its share of drilling and completion costs on 12 new wells to be drilled and completed on the South Timbalier block 148 lease between April 1995 and June 1997.

The reorganized debtor has budgeted the following capital expenditures for 1995:

SUBTOTAL THROUGH

JUNE, 1995: 3,446,941

TOTAL CAPITAL

EXPENDITURES

BUDGETED, 1995: $8,849,941

Sources of capital presently available to the reorganized debtor for funding 1995 capital expenditures are as follows:

SOURCES OF

CAPITAL, 1995: $2,558,000

According to the cash flow budget, the reorganized debtor's unfunded capital costs by June 30, 1995 are $888,941. Projected unfunded capital costs escalate to $6.2 million by the end of 1995.

Not included in these budgeted expenditures is the amount of $1,250,000 which Century is obligated to pay for completion costs if ARI drills a new well on Ship Shoal block 150 as indicated by a letter agreement dated December 30, 1994. Bank Exhibit No. 1. That capital requirement could increase the reorganized debtor's unfunded capital costs at the end of 1995 to $7,541,941.

The debtor presented evidence at the confirmation hearing of potential sources of capital, but the reorganized debtor does not yet have sources of funding for approximately $25 million of the $33 million budgeted for capital costs on South Timbalier block 148 from April 1995 through June 1997.

It is primarily the debtor's present inability to fund capital expenditures budgeted as early as June of 1995 that causes the court to question whether the plan should be confirmed at this time. If the reorganized debtor cannot fund its share of drilling costs budgeted for 1995, it may lose revenues necessary to fund the plan and could be denied the right to fully participate in the development of South Timbalier block 148 by Newfield.

According to the Joint Operating Agreement between Century, SOG, and Newfield, if Newfield proposes a new well and the reorganized debtor declines to participate therein (because of lack of available funding), Newfield may drill the well and recoup from that well's production the reorganized debtor's share of drilling costs plus a penalty in an amount equal to 600% (for a development well) or 800% (for an exploratory well) of the reorganized debtor's share of drilling costs. For example, if the reorganized debtor elected not to participate in the drilling and completion of a developmental well and the reorganized debtor's share of costs would have been $2 million, Newfield would be entitled to receive revenues from production of the new well in the amount of $2 million plus a $12 million penalty (600% of $2 million) before the reorganized debtor would be entitled to share in revenues generated from the well. In addition, Newfield could recoup the following additional penalty amounts as may be applicable: 100% of the reorganized debtor's share of operating expenses, the lessor's royalty, and severance taxes, plus 300% of the reorganized debtor's share of certain facilities and equipment (including pipelines), plus 300% of the reorganized debtor's share of the cost of a new platform or of using an existing platform, plus 300% of the reorganized debtor's share of the cost of reworking a well. Joint Operating Agreement ¶¶ 9.6-9.7.

The consequences of a default in payment are even more severe. If, after consenting to participate in an operation with Newfield, the reorganized debtor fails to pay its share of drilling costs, Newfield may invoke the penalty provisions set forth above and additionally may suspend the right of the reorganized debtor to participate in any subsequent operation proposed under the Joint Operating Agreement. ¶ 5.5(a). Presumably Newfield would be entitled to invoke the penalty provisions contained in the Joint Operating Agreement with respect to each operation if the reorganized debtor defaults on only one operation.

The results of the reorganized debtor "going non-consent" or defaulting in its obligations to Newfield in the Joint Operating Agreement would be devastating to the reorganized debtor and its creditors. The reorganized debtor would experience a significant loss of reserves with no correlative increase in revenues. Such a substantial loss of reserves would reduce the value of the bank's collateral and would diminish the reorganized debtor's ability to satisfy its obligations to all creditors under the plan. The prospect of a default occurring as early as June 1995 suggests the plan should not be confirmed at this time.

The Bank has expressed concern that revenue projections for the reorganized debtor have been significantly overstated. In the Summary of Proved Reserves and Values as of January 31, 1995 prepared by The Hise Company [Hise Exhibit No. 1, hereinafter "Hise report"], gas reserves are valued at $2.00/MCF for 1995 and increase each year thereafter. The current price of gas is $1.60/MCF. The average price received by the debtor in 1994 was $1.89/MCF. Approximately half of the reserves of the debtor were valued by the Hise Company as gas reserves. According to Stephen A. Kesner, who testified on behalf of the Bank, if escalated prices starting at $1.60/MCF had been used in estimating revenues from production of gas reserves, budgeted monthly revenues would decrease by approximately 10%. Bank Exhibit No. 21 at 6.3.

The reorganized debtor projects net revenues from the B-1 well on South Timbalier block 148 to be approximately $30,000 per month. Hise Exhibit No. 1 at 76; Bank Exhibit No. 21 at 6.5; Bank Exhibit No. 20 at 15. However, historically the B-1 well has generated an insignificant amount of revenues for Century. From November 1990 through January 1995 the well was in production for only 181 days, including only 33 days in 1994. Bank Exhibit No. 21 at 6.10-6.11. Mr. Hise testified that the B-1 well was operated by Conoco before Century acquired an interest in South Timbalier block 148, the B platform, and the B-1 well. Conoco utilized a compressor in operating the B-1 well and was able to produce more than 60 barrels of oil per day. Conoco removed the compressor from the platform when Century acquired the platform and commenced its operations of the B-1 well. The B-1 well is a gas lift well and needs a compressor. Newfield and Century are in the process of upgrading the B platform and have installed a compressor which can be used on the B-1 well. With a newly installed compressor on the platform pressurized natural gas can being forced into the well to increase oil production. In addition, the B-1 well needs tubing repair. Mr. Hise is of the opinion that once the compressor is completed and the well is repaired the well will be capable of producing the projected 60 barrels per day. Mr. Kesner testified that based on historical data a projection of $30,000 per month at this time is unrealistic.

The reorganized debtor projects the B-3 well on South Timbalier block 148 to produce oil at an average rate of 900 barrels per day and gas at a rate of 1500 MCF per day during 1995, generating revenues of $452,326 per month in 1995. Bank Exhibit No. 21 at 6.5. Mr. Kesner testified that the well is currently producing oil at a rate of 677 barrels per day and gas at a rate of 1500 MCF per day. Bank Exhibit No. 21 at 2.3; Bank Exhibit No. 20 at 5. Mr. Kesner suggested revenues are overstated by approximately $156,200 per month based on current production. Bank Exhibit No. 20 at 15; Bank Exhibit No. 21 at 2.3. The B-3 well, drilled prior to bankruptcy and from which production was interrupted by rework of the B platform to accomodate production of the B-7 and B-8 wells, is returning to full production. Mr. Hise testified that the B-3 well was producing 950 barrels per day before the MMS restricted the rate of flow due to limitations imposed by the MMS on the amount of gas that can be flared. The compressor might enable Century to gradually increase production to 950 barrels per day by the end of 1995. However, increasing the rate of flow is not without risks; it could cause sanding in the well bore. The reserves which can be produced from the B-3 well represent 40% of the debtor's total proved, producing reserves.

The B-8 well is currently producing 440 barrels of oil per day and 1500 MCF of gas per day. The debtor projects production of 500 barrels of oil per day and 1500 MCF gas per day during 1995, which would generate revenues in the amount of $101,000 per month. Bank Exhibit No. 21 at 6.5; Bank Exhibit No. 20 at 4-5. Mr. Kesner opined that revenue projections are overstated by approximately $8,700 per month. See Bank Exhibit No. 20 at 15; Bank Exhibit No. 21 at 6.5. Mr. Hise believes Newfield, the operator of the B-8 well, will try to increase production on the B-8 well as projected.

If adjustments are made to the volume of oil produced on the B-1, B-3, and B-8 wells in 1995 as Mr. Kesner suggests, and if a $1.80 per MCF price of gas is used in calculating revenues for 1995 instead of $2.00 per MCF, the Bank Collateral Net Revenues for the month of June, 1995 would be $930,541 rather than $1,172,365 as projected by the debtor, a 20.6% reduction in Bank Collateral Net Revenues in that month. Bank Exhibit No. 20 at 4. Moreover, if the sidetrack to the #2 well on West Cameron block 368 is not drilled or is not a commercial well, projected Bank Collateral Net Revenues for the month of June 1995 and each month thereafter during 1995 will decrease by an additional $125,416. Bank Exhibit No. 20 at 4, 15. If gas prices in June 1995 have not increased from the current price of $1.60, Bank Collateral Net Revenues will decrease an additional $80,895 for the month of June, 1995. In other words, Bank Collateral Net Revenues could be as low as $770,635 for the month of June 1995. Bank Exhibit No. 20 at 4, 15.

Mr. Kesner further testified that in his opinion lease operating expenses are understated by at least $22,000 per month and perhaps as much as $50,000 per month during 1995. Bank Exhibit No. 20 at 1, 15. Mr. Settle in rebuttal testimony refuted Mr. Kesner's contention by explaining that the operating expenses which Mr. Kesner averaged to compute actual lease operating expenses for the last quarter of 1994 include the nonrecurring extraordinary expense of upgrading the B platform to accommodate production from the B-7 and B-8 wells and to improve production from the B-1 and B-3 wells.

Even if the court rejects the argument that lease operating expenses are understated, the court cannot overlook the very real possibility that revenue projections for early 1995 may be overstated significantly. It does not appear likely that production from the B-1, B-3, and B-8 wells, and the West Cameron block 368 no. 2 sidetrack will be at the levels projected for June 1995 by that time, nor does it appear likely that gas prices will have increased from $1.60/MCF to $2.00/MCF by that time. Once allowance is made for lease operating expenses (even at the debtor's budgeted amounts), G & A expenses, and the MMS P & A Fund, Century/Settle may be unable to pay to the bank the amount of $664,031 per month in June 1995 and thereafter as required by the plan.

Any revenue shortfall may also impede the debtor's ability to fund payments to other classes of creditors as scheduled under the plan and may reduce the amount of cash flow available or delay the time at which cash flow is available to fund capital improvements. See Settle Exhibit No. 36.

The court is not persuaded that ARI is a reliable source of funding.

By letter agreement dated October 17, 1994, between SOG and ARI, ARI agreed to loan SOG the sum of $5,000,000 to fund SOG's working interest share of the drilling and initial completion costs of the no. 4, no. 5, and no. 6 wells on South Timbalier block 148. A promissory note and mortgage and security agreement were executed thereafter in November 1994 by SOG to ARI.

The $5,000,000 note evidencing the loan accrues interest at 22% per annum, payable quarterly on January 1, 1995, April 1, 1995, July 1, 1995, October 1, 1995, and January 2, 1996. Principal is to be repaid in 72 equal monthly installments commencing February 1, 1996 and continuing through January 1, 2002, unless the note is converted to stock.

ARI was given a one-time option, exercisable on January 2, 1996 (the conversion date), to convert the debt into shares of common stock equal to 5% of outstanding shares of common stock in SOG or its successor entity if SOG merges with Century.

ARI agreed to make cash advances as follows: $1,500,000 on November 15, 1994; $1,500,000 on December 15, 1994; and $2,000,000 on January 15, 1995.

To secure repayment of the indebtedness evidenced by the $5,000,000 note, SOG granted to ARI a mortgage and security interest in all of SOG's mineral interests, including a 45% interest in the exploratory acreage on South Timbalier block 148 which the reorganized debtor plans to develop. On November 4, 1994, the debtor filed a motion requesting the court to authorize the debtor to join SOG in executing the mortgage so that the mortgage will not be affected in the event SOG and Century merge. The court sustained the motion by order entered November 4, 1994. Century is not a maker of the note.

ARI also agreed in the letter agreement dated October 17, 1994 to purchase, on or before Nov. 1, 1994, 50% of SOG's 52.5% interest, or a 26.25% interest, in Ship Shoal block 150 for $750,000.

The letter agreement also provided for an exchange of stock. "On or before Jan. 1, 1995, ARI will purchase warrants representing 10% of the common stock of SOG which can be exercised on January 1, 1996. As consideration, ARI will provide SOG with ARI warrants or common stock with a market value of $4,000,000, valued by averaging the closing market price of ARI stock for the twenty days preceding the date of the transaction." Letter agreement dated October 17, 1994, exhibit E to Disclosure Statement.

In November of 1994, Southern Gas Company, Inc., a wholly-owned subsidiary of ARI, purchased the unsecured claim of Enron in the amount of $9,301,244.26 for approximately $1.25 million, or $.14 on the dollar. Southern Gas purchased the claims of other creditors for $.10 to $.12 on the dollar.

On December 30, 1994, ARI and SOG executed a letter agreement by which ARI agreed to purchase an additional 23.75% interest in the Ship Shoal block 150 lease from SOG for $750,000, giving ARI a 50% interest in the Ship Shoal block 150 lease, with SOG retaining a 2.5% interest in the lease. The agreement between ARI and SOG provided that ARI would pay a promoted interest (one-third of costs for a one-fourth interest) to the casing point on the initial well.

ARI agreed to pay for 100% of the drilling costs (estimated to be $1,500,000) for the initial exploratory well on Ship Shoal block 150, and Century and SOG agreed to pay $1,250,000 for completion costs. See Bank Exhibit No. 1.

On January 12, 1995, ARI and SOG executed a letter agreement which modified the schedule by which advances under the October 17, 1994 letter agreement and the promissory note executed in November of 1994 were to be made. ARI agreed to advance to SOG $1,500,000 on January 16, 1995, $500,000 on February 1, 1995, and $1,500,000 on February 15, 1995. The November 15, 1994 advance was made as agreed.

In addition, SOG agreed to purchase from ARI (or its subsidiary, Southern Gas Company, Inc.) $3,750,000 of the $9,301,244.26 claim of Enron for $1,250,000, to be paid in cash by January 16, 1995.

Southern Gas agreed to give to SOG an option to purchase the remaining $5,551,244.26 of Enron's claim as follows:

The option expires on December 31, 1995. See Bank Exhibit No. 2.

A few days prior to Jan. 16, 1995, Howard Settle, Jonathan Rudney, and Tom Lewry loaned to SOG approximately $450,000. That sum, along with the $750,000 SOG received from ARI on December 30, 1994 for the sale of SOG's 23.75 % interest in Ship Shoal block 150, plus a small amount of cash on hand, enabled SOG to purchase from Southern Gas/ARI the agreed upon portion of the claim of Enron. SOG paid Southern Gas/ARI $1,250,000 for $3,750,000 of the claim. On January 16, 1995, ARI advanced $1,500,000 to SOG pursuant to the terms of the loan agreement as modified by the letter agreement dated January 12, 1995. Douglas Hawthorne, Chairman of ARI, testified that if SOG had not paid Southern Gas/ARI $1.25 million for a portion of the Enron claim, ARI might have been required to look to other sources for sufficient funds to advance to SOG $1.5 million pursuant to the terms of the loan agreement.

The advances due on February 1, 1995 ($500,000) and on February 15, 1995 ($1,500,000) have been delayed, at SOG's request or acquiescence. SOG indicated it would not need the funds from ARI until Newfield issues a cash call for drilling the no. 5 well. The cash call is expected to be made on or about March 15, 1995.

On February 20, 1995, the parties executed a letter agreement whereby SOG and ARI agreed to modify the terms of the October 17, 1994 letter agreement with respect to the exchange of warrants. SOG informed ARI that the ownership of SOG warrants by a corporation, ARI, may cause a revocation of SOG's "S" election.

"In order to consummate the stock exchange, ARI has assisted Settle [SOG] in securing a commitment from an accredited investor ("Investor") to purchase ten percent (10%) of the Settle common stock ("Settle shares") for $2,500,000 in cash with the condition that ARI enter into an agreement with the Investor, whereby ARI will purchase the Settle Shares from the Investor for $4,000,000 in cash and common stock of ARI on March 31, 1997." Bank Exhibit No. 5.

The letter agreement continues: "Upon receipt of the $2,500,000 for the Settle Shares, Settle will pay to Southern Gas Company of Delaware, Inc. ("Southern") $1,850,230 for the balance of the Enron claim in accordance with the letter agreement between ARI, Settle, and Southern dated January 12, 1995." Bank Exhibit No. 5.

Mr. Settle testified that after receipt of the $2,500,000 from the sale of 10% of SOG stock, and after payment of $1,850,230 to Southern Gas for purchase of the Enron claim, and after accelerated payment to Class VIII creditors and payment to creditors in the administrative convenience class, SOG would have about $200,000 remaining.

ARI has a credit facility with Bank One which is secured by a mortgage on the assets of Southern Gas Company of Delaware, Inc. Mr. Hawthorne testified that Bank One has agreed to increase ARI's line of credit from approximately $6.4 million to approximately $8.15 million, an increase of approximately $1.75 million. To further secure this increase in the line of credit, ARI will pledge the $5,000,000 note of SOG payable to ARI as collateral for the Bank One loan.

ARI is to receive $1.85 million from SOG for the purchase of the Enron claim as soon as SOG receives the $2.5 million infusion of equity from the new investor. With the expected increase of $1.75 million in its line of credit with Bank One ARI would then have available approximately $3.6 million ($1.75 million plus $1.85 million).

ARI is obligated to advance $2,000,000 to SOG under the terms of the October 17, 1994 letter agreement and the November 1994 loan agreement (as modified).

ARI is also obligated to pay drilling costs of the initial well on Ship Shoal block 150 in the amount of $1,500,000.

Therefore, ARI is obligated to disburse $3.5 million on behalf of or to SOG.

ARI may not be able to meet its obligations to SOG unless and until SOG purchases the balance of the Enron claim from ARI/Southern for $1.85 million.

ARI has also agreed to pledge a certificate of deposit in the amount of $500,000 to Vine Street Trust to guarantee a loan by Vine Street Trust to the investor who is purchasing 10% of SOG's stock for $2.5 million. Settle Exhibit No. 7. Furthermore, ARI is obligated to purchase the shares of SOG stock from the investor in 2 years for $4,000,000 ($3,250,000 in ARI stock and $750,000 in cash payable in 24 monthly installments of $31,250 each). Bank Exhibit No. 5. Additionally, ARI has agreed to provide funding for Crescent Turnkey in the expected amounts of approximately $250,000 in March 1995 and $250,000 in July 1995.

The Debtor has failed to persuade the court that confirmation of the plan is not likely to be followed by the liquidation, or the need for further reorganization, of the debtor or any successor to the debtor under the plan.

Mr. Settle testified in connection with the submission of Settle Exhibit No. 36 that his first choice as a source of financing is ARI. The October 17, 1994 Letter Agreement between Settle Oil and Gas Company and ARI states that "ARI and Settle agree to initiate a venture whereby Settle will generate drilling and development prospects which will be funded by Partnerships structured and marketed by ARI." Yet as indicated by Settle Exhibit No. 36 and according to Settle's testimony, the reorganized debtor's last choice as a source of development financing is industry partners. It is not at all clear from the record in this case whether there is a difference in the amount of revenue from a well that would be lost through sales of working interests to "industry partners," and the amount of revenue that would be allocated to partnerships arranged by ARI. The record indicates that the role of ARI in the future will be to arrange rather than provide funding for development. There is insufficient evidence to indicate that ARI itself can provide funding beyond that which it is committed to provide under the terms of the letter agreement of October 17, 1994.

The conclusion of the court is that rather than denying confirmation of the SOG plan at this time, the court should continue the confirmation hearing to a date in mid-June. This will allow time for funding arrangements between Settle Oil and Gas and ARI or other sources of capital to play or not to play out. During this period of delay the accuracy of income projections for the months of February, March, April and May as set out on Settle Exhibit No. 11 will be tested. The ability of ARI to timely provide financing for SOG's share of the drilling costs for the No. 5 well on the South Timbalier block 148 lease should become manifest. The results of the drilling of the Nos. 5 and 6 wells by Newfield should be known. The uncertainties with respect to the foregoing matters are too great to permit a final decision by the court with respect to confirmation of the plan at this time.

Meantime, the court shall mandate that the right of the debtor to use cash collateral in accordance with the cash collateral order now in effect shall continue through June 30, 1995, subject to such further adjustments as the court may make after notice and hearing, if the parties cannot agree to the terms under which the Debtor may use cash collateral.

Dated:

By the court -

_____________________________

JOE LEE, CHIEF JUDGE

Copies to:

Solomon Van Meter, for service on all interested parties

Joseph M. Scott

In conformity with the memorandum opinion of the court this day entered, IT IS ORDERED AND ADJUDGED as follows:

1. The court declines to confirm the Settle Oil and Gas Company Plan at this time.

2. The hearing on confirmation of the plan is continued to 10:00 a.m., Thursday, June 15, 1995, U. S. Bankruptcy Courtroom, 2nd Floor, Merrill Lynch Building, 100 East Vine Street, Lexington, Kentucky.

3. The right of the Debtor to use cash collateral under the terms and conditions of the cash collateral order presently in effect between the Debtor and BMO Financial, Inc. and Bank of Montreal shall continue through June 30, 1995, subject to such adjustments as may be made by the court to the cash collateral order, after notice and hearing, if the parties are unable to agree to any necessary revisions to the cash collateral order.

The court reserves ruling on the question of the rate of interest which the Debtor must pay to the Bank under the plan. The court further reserves ruling on the disputed provisions of the proposed Amended and Restated Credit Agreement between Century Offshore Management Corporation as the Borrower and BMO Financial, Inc. as the Lender, tendered by the plan proponents.

Dated:

By the court -

______________________________

JOE LEE, CHIEF JUDGE

Copies to:

Solomon Van Meter, for service on interested parties

Joseph M. Scott