Edgar Filing: ST MARY LAND & EXPLORATION CO

form10q_093007.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

____________

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES

EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2007

____________

Commission file number 001-31539

ST. MARY LAND & EXPLORATION COMPANY

(Exact name of registrant as specified in its charter)

Delaware

(State or other jurisdiction

of incorporation or organization)

41-0518430

(I.R.S. Employer Identification No.)

1776 Lincoln Street, Suite 700, Denver, Colorado

(Address of principal executive offices)

80203

(Zip Code)

(303) 861-8140

(Registrant's telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes þ No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer þ

Accelerated filer o

Non-accelerated filer o

Indicate by check mark whether the registrant is a shell company (as defined by Rule 12b-2 of the Exchange Act).

Yes o No þ

Indicate the number of shares outstanding of each of the issuer’s classes of common stock as of the latest practicable date.

As of October 26, 2007, the registrant had 62,873,327 shares of common stock, $0.01 par value, outstanding.

ST. MARY LAND & EXPLORATION COMPANY

INDEX

Part I.	FINANCIAL INFORMATION		PAGE

	Item 1.	Financial Statements (Unaudited)

		Consolidated Balance Sheets September 30, 2007, and December 31, 2006	3

		Consolidated Statements of Operations Three and Nine Months Ended September 30, 2007, and 2006	4

		Consolidated Statements of Stockholders’ Equity and Comprehensive Income September 30, 2007, and December 31, 2006	5

		Consolidated Statements of Cash Flows Nine Months Ended September 30, 2007, and 2006	6

		Notes to Consolidated Financial Statements September 30, 2007	8

	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	25

	Item 3.	Quantitative and Qualitative Disclosures About Market Risk (included within the content of Item 2)	54

	Item 4.	Controls and Procedures	54

Part II.	OTHER INFORMATION

	Item 1.	Legal Proceedings	54

	Item 1A.	Risk Factors	54

	Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	55

	Item 6.	Exhibits	56

PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS

ST. MARY LAND & EXPLORATION COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
(In thousands, except share amounts)

	September 30,			December 31,
ASSETS	2007			2006
Current assets:
Cash and cash equivalents	$	17,240		$	1,464
Short-term investments		1,158			1,450
Accounts receivable		150,699			142,721
Refundable income taxes		3,097			7,684
Prepaid expenses and other		18,587			17,485
Accrued derivative asset		32,045			56,136
Deferred income taxes		4,186			-
Total current assets		227,012			226,940

Property and equipment (successful efforts method), at cost:
Proved oil and gas properties		2,405,243			2,063,911
Less - accumulated depletion, depreciation, and amortization		(753,914	)		(630,051	)
Unproved oil and gas properties, net of impairment allowance
of $10,210 in 2007 and $9,425 in 2006		117,493			100,118
Wells in progress		154,430			97,498
Oil and gas properties held for sale less accumulated depletion,
depreciation, and amortization		74,076			-
Other property and equipment, net of accumulated depreciation
of $11,298 in 2007 and $9,740 in 2006		9,074			6,988
		2,006,402			1,638,464

Noncurrent assets:
Goodwill		9,452			9,452
Accrued derivative asset		14,775			16,939
Other noncurrent assets		28,360			7,302
Total noncurrent assets		52,587			33,693

Total Assets	$	2,286,001		$	1,899,097

LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses	$	236,044		$	171,834
Short-term note payable		-			4,469
Accrued derivative liability		43,796			13,100
Deferred income taxes		-			14,667
Total current liabilities		279,840			204,070

Noncurrent liabilities:
Long-term credit facility		155,000			334,000
Senior convertible notes		287,500			99,980
Asset retirement obligation		77,258			77,242
Asset retirement obligation associated with oil and gas properties held for sale		7,827			-
Net Profits Plan liability		167,531			160,583
Deferred income taxes		281,250			224,518
Accrued derivative liability		88,111			46,432
Other noncurrent liabilities		8,490			8,898
Total noncurrent liabilities		1,072,967			951,653

Commitments and contingencies

Stockholders' equity:
Common stock, $0.01 par value: authorized - 200,000,000 shares;
issued: 63,733,590 shares in 2007 and 55,251,733 shares in 2006;
outstanding, net of treasury shares: 62,725,278 shares in 2007
and 55,001,733 shares in 2006		637			553
Additional paid-in capital		163,080			38,940
Treasury stock, at cost: 1,008,312 shares in 2007 and 250,000 shares in 2006		(29,126	)		(4,272	)
Retained earnings		845,786			695,224
Accumulated other comprehensive income (loss)		(47,183	)		12,929
Total stockholders' equity		933,194			743,374

Total Liabilities and Stockholders' Equity	$	2,286,001		$	1,899,097

The accompanying notes are an integral part of these consolidated financial statements.

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ST. MARY LAND & EXPLORATION COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
(In thousands, except per share amounts)

	For the Three Months						For the Nine Months
	Ended September 30,						Ended September 30,
	2007			2006			2007			2006
Operating revenues:
Oil and gas production revenue	$	228,497		$	188,159		$	638,357		$	550,181
Realized oil and gas hedge gain		10,173			4,828			36,160			14,808
Marketed gas system revenue		7,414			3,852			31,240			13,086
Gain on sale of proved properties		-			801			-			7,233
Other revenue		603			400			9,090			(299	)
Total operating revenues		246,687			198,040			714,847			585,009

Operating expenses:
Oil and gas production expense		54,970			44,998			157,618			129,490
Depletion, depreciation, amortization,
and asset retirement obligation liability accretion		59,061			39,817			162,677			110,118
Exploration		15,257			9,766			49,669			35,872
Impairment of proved properties		-			5,259			-			6,548
Abandonment and impairment of unproved properties		937			920			3,886			3,368
General and administrative		13,110			9,725			37,948			30,940
Change in Net Profits Plan liability		3,143			(3,710	)		6,948			17,370
Marketed gas system expense		7,278			3,133			29,454			11,149
Unrealized derivative loss (gain)		(2,880	)		68			2,224			5,329
Other expense		460			842			1,577			1,832
Total operating expenses		151,336			110,818			452,001			352,016

Income from operations		95,351			87,222			262,846			232,993

Nonoperating income (expense):
Interest income		355			90			612			1,454
Interest expense		(4,082	)		(2,170	)		(13,885	)		(5,098	)

Income before income taxes		91,624			85,142			249,573			229,349
Income tax expense		(33,971	)		(29,265	)		(92,735	)		(82,866	)

Net income	$	57,653		$	55,877		$	156,838		$	146,483

Basic weighted-average common shares outstanding		63,424			55,398			61,364			56,564

Diluted weighted-average common shares outstanding		64,727			64,926			64,917			66,332

Basic net income per common share	$	0.91		$	1.01		$	2.56		$	2.59

Diluted net income per common share	$	0.89		$	0.88		$	2.43		$	2.25

The accompanying notes are an integral part of these consolidated financial statements.

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ST. MARY LAND & EXPLORATION COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME (UNAUDITED)
(In thousands, except share amounts)

																						Accumulated
							Additional									Deferred						Other			Total
	Common Stock						Paid-in			Treasury Stock						Stock-Based			Retained			Comprehensive			Stockholders'
	Shares			Amount			Capital			Shares			Amount			Compensation			Earnings			Income (Loss)			Equity


Balances, December 31, 2005		57,011,740		$	570		$	123,278			(250,000	)	$	(5,148	)	$	(5,593	)	$	510,812		$	(54,599	)	$	569,320

Comprehensive income, net of tax:
Net income		-			-			-			-			-			-			190,015			-			190,015
Change in derivative instrument fair value		-			-			-			-			-			-			-			87,107			87,107
Reclassification to earnings		-			-			-			-			-			-			-			(18,129	)		(18,129	)
Minimum pension liability adjustment		-			-			-			-			-			-			-			(180	)		(180	)
Total comprehensive income																										258,813
SFAS No. 158 transition amount		-			-			-			-			-			-			-			(1,270	)		(1,270	)
Cash dividends, $ 0.10 per share		-			-			-			-			-			-			(5,603	)		-			(5,603	)
Treasury stock purchases		-			-			-			(3,319,300	)		(123,108	)		-			-			-			(123,108	)
Retirement of treasury stock		(3,275,689	)		(33	)		(122,598	)		3,275,689			122,631			-			-			-			-
Issuance of common stock under Employee
Stock Purchase Plan		26,046			-			814			-			-			-			-			-			814
Sale of common stock, including income
tax benefit of stock option exercises		1,489,636			16			32,970			-			-			-			-			-			32,986
Adoption of Statement of Financial Accounting
Standards No. 123(R)		-			-			(5,593	)		-			-			5,593			-			-			-
Stock-based compensation expense		-			-			10,069			43,611			1,353			-			-			-			11,422

Balances, December 31, 2006		55,251,733		$	553		$	38,940			(250,000	)	$	(4,272	)	$	-		$	695,224		$	12,929		$	743,374

Comprehensive income, net of tax:
Net income		-			-			-			-			-			-			156,838			-			156,838
Change in derivative instrument fair value		-			-			-			-			-			-			-			(37,420	)		(37,420	)
Reclassification to earnings		-			-			-			-			-			-			-			(22,688	)		(22,688	)
Minimum pension liability adjustment		-			-			-			-			-			-			-			(4	)		(4	)
Total comprehensive income																										96,726
Cash dividends, $ 0.10 per share		-			-			-			-			-			-			(6,276	)		-			(6,276	)
Treasury stock purchases		-			-			-			(790,816	)		(25,904	)		-			-			-			(25,904	)
Issuance of common stock under Employee														-
Stock Purchase Plan		14,622			-			455			-			-			-			-			-			455
Conversion of 5.75% Senior Convertible Notes
due 2022 to common stock, including income
tax benefit of conversion		7,692,295			77			107,160			-			-			-			-			-			107,237
Issuance of common stock upon settlement of
RSUs following expiration of restriction period,
net of shares used for tax withholdings		302,370			3			(4,569	)		-			-			-			-			-			(4,566	)
Sale of common stock, including income
tax benefit of stock option exercises		471,320			4			13,538			-			-			-			-			-			13,542
Stock-based compensation expense		1,250			-			7,556			32,504			1,050			-			-			-			8,606

Balances, September 30, 2007		63,733,590		$	637		$	163,080			(1,008,312	)	$	(29,126	)	$	-		$	845,786		$	(47,183	)	$	933,194

The accompanying notes are an integral part of these consolidated financial statements.

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ST. MARY LAND & EXPLORATION COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(In thousands)

	For the Nine Months
	Ended September 30,
	2007			2006
Reconciliation of net income to net cash provided
by operating activities:
Net income	$	156,838		$	146,483
Adjustments to reconcile net income to net cash
provided by operating activities:
Gain on insurance settlement		(6,340	)		-
Gain on sale of proved properties		-			(7,233	)
Depletion, depreciation, amortization,
and asset retirement obligation liability accretion		162,677			110,118
Exploratory dry hole expense		12,714			4,033
Abandonment and impairment of unproved properties		3,886			9,915
Unrealized derivative loss		2,224			5,329
Change in Net Profits Plan liability		6,948			17,370
Stock-based compensation expense		8,606			8,979
Deferred income taxes		79,289			64,612
Other		(5,168	)		398
Changes in current assets and liabilities:
Accounts receivable		(208	)		30,810
Refundable income taxes		4,587			(21,495	)
Prepaid expenses and other		28,035			(15,048	)
Accounts payable and accrued expenses		27,552			(21,612	)
Income tax benefit from the exercise of stock options		(7,658	)		(15,110	)
Net cash provided by operating activities		473,982			317,549

Cash flows from investing activities:
Proceeds from insurance settlement		7,064			-
Proceeds from sale of oil and gas properties		324			1,183
Capital expenditures		(500,111	)		(293,977	)
Acquisition of oil and gas properties		(32,650	)		(9,933	)
Deposits for acquisition of oil and gas assets		(15,310	)		-
Deposits to short-term investments available-for-sale		(1,153	)		-
Receipts from short-term investments available-for-sale		1,450			-
Other		29			79
Net cash used in investing activities		(540,357	)		(302,648	)

Cash flows from financing activities:
Proceeds from credit facility		553,914			338,000
Repayment of credit facility		(732,914	)		(272,000	)
Repayment of short-term note payable		(4,469	)		-
Income tax benefit from the exercise of stock options		7,658			15,110
Proceeds from issuance of senior convertible debt - net		280,664			-
Proceeds from sale of common stock		6,342			16,046
Repurchase of common stock		(25,904	)		(123,108	)
Dividends paid		(3,140	)		(2,858	)
Net cash provided by (used in) financing activities		82,151			(28,810	)

Net change in cash and cash equivalents		15,776			(13,909	)
Cash and cash equivalents at beginning of period		1,464			14,925
Cash and cash equivalents at end of period	$	17,240		$	1,016

The accompanying notes are an integral part of these consolidated financial statements.

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ST. MARY LAND & EXPLORATION COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(Continued)


Supplemental schedule of additional cash flow information and noncash investing and financing activities:

	For the Nine Months
	Ended September 30,
	2007			2006
	(in thousands)

Cash paid for interest, net of capitalized interest	$	13,476		$	8,157

Cash paid or (refunded) for income taxes	$	(1,048	)	$	29,849


Dividends of approximately $3.2 million have been declared by the Company's Board of Directors, but not paid,
as of September 30, 2007.

As of September 30, 2007, and 2006, $103.1 million and $90.5 million, respectively, are included as additions
to oil and gas properties and as increases in accounts payable and accrued expenses. These oil and
gas property additions are reflected in cash used in investing activities in the periods that the
payables are settled.

In May 2007 and 2006 and July 2007 and 2006 the Company issued 26,292, 26,076, 6,212 and 3,751 shares,
respectively, of common stock from treasury to its non-employee directors pursuant to the Company's
non-employee director stock compensation plan. The Company recorded compensation expense related
to issuances of shares to non-employee directors of $855,000 and $465,000 for the nine-month periods ended
September 30, 2007, and 2006, respectively.

In March 2007 the Company called the 5.75% Senior Convertible Notes for redemption. The note
holders elected to convert the 5.75% Senior Convertible Notes to common stock. As a result, the
Company issued 7,692,295 shares of common stock on March 16, 2007, in exchange for the $100
million of 5.75% Senior Convertible Notes. The conversion was executed in accordance with the
conversion provisions of the original indenture. Additionally, the conversion resulted in a $7.0
million decrease in non-current deferred income taxes and a corresponding increase in additional
paid-in capital that is a result of the recognition of the cumulative excess tax benefit earned by the
Company associated with the contingent interest feature of this note.

In June 2006 the Company hired a new senior executive. In doing so, the Company issued 13,784
shares of stock and recorded compensation expense of approximately $728,000. Additionally, in
March 2007 the Company issued 1,250 shares of stock to the senior executive as the Company
reached certain performance levels. The Company has recognized approximately
$93,000 of expense related to this issuance as of September 30, 2007.

In February 2007 and 2006 the Company issued 78,657 and 484,351 restricted stock units,
respectively, pursuant to the Company's Restricted Stock Plan. The total value of the issuances were
$2.5 million and $16.4 million, respectively.

In May 2006 the Company closed a transaction whereby it exchanged oil and gas properties located in
Richland County, Montana for non-core oil and gas properties. This transaction is considered a non-monetary
exchange for accounting purposes with a fair value assigned to this transaction of $11.5 million.

The accompanying notes are an integral part of these consolidated financial statements.

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ST. MARY LAND & EXPLORATION COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

September 30, 2007

Note 1 – The Company and Business

St. Mary Land & Exploration Company (“St. Mary” or the “Company”) is an independent energy company engaged in the exploration, exploitation, development, acquisition, and production of natural gas and crude oil. The Company’s operations are conducted in the continental United States and offshore in the Gulf of Mexico.

Note 2 - Basis of Presentation and Significant Accounting Policies

Basis of Presentation

The accompanying unaudited condensed consolidated financial statements of St. Mary have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information. They do not include all information and notes required by generally accepted accounting principles for complete financial statements. Except as disclosed herein, there has been no material change in the information disclosed in the notes to consolidated financial statements included in St. Mary’s Annual Report on Form 10-K/A for the year ended December 31, 2006. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation of the interim financial information have been included. Operating results for the periods presented are not necessarily indicative of the results that may be expected for the full year.

Other Significant Accounting Policies

The accounting policies followed by the Company are set forth in Note 1 to the Company’s consolidated financial statements in the Form 10-K/A for the year ended December 31, 2006, and are supplemented throughout the footnotes of this document. It is suggested that these unaudited condensed consolidated financial statements be read in conjunction with the consolidated financial statements and notes included in the Form 10-K/A for the year ended December 31, 2006.

Note 3 – Acquisitions, Divestitures, and Assets Held for Sale

Catarina Field Acquisition

On June 1, 2007, the Company acquired oil and gas properties located primarily in the Catarina Field in Webb County, Texas in exchange for $29.0 million of cash. The Company allocated $29.0 million to proved and unproved oil and gas properties. The Company allocated the purchase price based on the estimated fair value of the assets and liabilities acquired. The final purchase price will be adjusted for normal net purchase price adjustments and is expected to be finalized during the fourth quarter of 2007. The acquisition was accounted for using the purchase method and was funded with cash on hand and borrowings under the Company’s credit facility.

Permian Basin Acquisition

On December 14, 2006, the Company acquired oil and gas properties in the Permian Basin in West Texas from private parties in exchange for $247.4 million of cash. After normal net purchase price adjustments of approximately $4.3 million, $239.8 million was allocated to proved and unproved oil and

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gas properties and $3.0 million was allocated to intangible assets. The net difference between cash exchanged and the amount allocated to oil and gas properties and intangible assets was allocated to other assets. The Company allocated the purchase price based on the estimated fair value of the assets and liabilities acquired. The acquisition was accounted for using the purchase method and was funded with cash on hand and borrowings under the Company’s credit facility.

Richland County, Montana Acquisition

On May 15, 2006, the Company closed on a transaction whereby it exchanged oil and gas properties located in the Uinta Basin for oil and gas properties located in Richland County, Montana. The transaction was structured as an Internal Revenue Code Section 1031 tax-deferred exchange. For financial reporting purposes, the transaction is considered a non-monetary exchange and was accounted for at estimated fair value. The exchange of properties resulted in recognition of approximately $6.4 million of gain.

Assets Held for Sale

On September 13, 2007, the Company announced that it had engaged an outside firm to market for sale certain non-core oil and gas properties located primarily in the Rocky Mountain and Mid-Continent regions. In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets”, these properties have been separately presented in the balance sheet at the lower of net book value or fair value less the cost to sell. These assets are now classified as oil and gas properties held for sale on the consolidated balance sheet as of September 30, 2007. Asset retirement obligation liabilities related to these properties have also been reclassified to liabilities associated with oil and gas properties held for sale on the consolidated balance sheet as of September 30, 2007. If these properties had not been classified as held for sale, depletion, depreciation, amortization, and asset retirement obligation accretion expense would have been higher by approximately $428,000 for both the three-month and nine-month periods ended September 30, 2007.

Assets are classified as held for sale when the Company commits to a plan to sell the assets and there is reasonable certainty that the sale will take place within one year. Upon classification as held-for-sale, long-lived assets are no longer depreciated or depleted and a measurement for impairment is performed to expense any excess of carrying value over fair value less costs to sell.

Note 4 – Earnings per Share

Basic net income per common share of stock is calculated by dividing net income available to common stockholders by the weighted-average basic common shares outstanding for the respective period. The shares represented by vested restricted stock units (“RSUs”) are included in the calculation of the weighted-average basic common shares outstanding. The earnings per share calculations reflect the impact of any repurchases of shares of common stock made by the Company.

Diluted net income per common share of stock is calculated by dividing adjusted net income by the weighted-average diluted common shares outstanding, which includes the effect of potentially dilutive securities. Potentially dilutive securities for the earnings per share calculations consist of in-the-money outstanding stock options to purchase the Company’s common stock, shares into which the 5.75% Senior Convertible Notes due 2022 (the “5.75% Convertible Notes”) were convertible for the periods those notes were outstanding, shares into which the 3.50% Senior Convertible Notes due 2027 (the “3.50% Convertible Notes”) are convertible, and unvested RSUs. The shares underlying the unvested grants of RSUs are included in the diluted earnings per share calculation beginning with grant date of the RSUs. Following the lapse of restriction periods, the shares underlying the units are issued and therefore are included in the number of issued and outstanding shares.

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Prior to the conversion of the Company’s 5.75% Convertible Notes on March 16, 2007, potentially dilutive shares associated with this instrument were accounted for using the if-converted method for the determination of diluted earnings per share. Adjusted net income used in the if-converted method was derived by adding interest expense paid on the 5.75% Convertible Notes back to net income and then adjusting for nondiscretionary items that are based on net income and would have changed had the 5.75% Convertible Notes been converted at the beginning of the period. The 5.75% Convertible Notes were called for redemption by the Company on March 16, 2007, and all of the note holders elected to convert the notes to shares of the Company’s common stock. The Company issued 7.7 million common shares in connection with the conversion of the 5.75% Convertible Notes. Upon conversion, these shares were included in the calculation of weighted-average common shares outstanding. The diluted earnings per share calculation for the nine-month period ended September 30, 2007, was adjusted for the conversion and included a time-weighted average of approximately 2.1 million potentially dilutive shares related to the 5.75% Convertible Notes. No potentially dilutive shares related to the 5.75% Convertible Notes were included in the three-month period ended September 30, 2007, as the 5.75% Convertible Notes were not outstanding during the current quarter period. The Company’s 3.50% Convertible Notes have a net-share settlement right, and the treasury stock method is used to measure the potentially dilutive impact of shares associated with the conversion feature. The 3.50% Convertible Notes issued April 4, 2007, have not been dilutive for the entire time they have been outstanding and therefore do not impact the diluted earnings per share calculation for the three-month and nine-month periods ended September 30, 2007.

The dilutive effect of stock options and unvested RSUs is considered in the detailed calculations below. There were no anti-dilutive securities related to stock options or RSUs for the three-month or nine-month periods ended September 30, 2006. There were no other anti-dilutive securities for the three-month or nine-month periods ended September 30, 2007.

-10-

The following table sets forth the calculation of basic and diluted earnings per share:

	For the Three Months Ended September 30,					For the Nine Months Ended September 30,
	2007		2006			2007			2006
	(In thousands, except per share amounts)

Net income	$	57,653	$	55,877		$	156,838		$	146,483

Adjustments to net income for dilution:
Add: Interest expense not incurred if 5.75% Convertible Notes converted		-		1,597			1,284			4,740
Less: Other adjustments		-		(16	)		(13	)		(47	)
Less: Income tax effect of adjustment items		-		(543	)		(471	)		(1,696	)
Net income adjusted for the effect of dilution	$	57,653	$	56,915		$	157,638		$	149,480

Basic weighted-average common shares outstanding		63,424		55,398			61,364			56,564

Add: Dilutive effect of stock options and unvested restricted stock units		1,303		1,836			1,471			2,076
Add: Dilutive effect of 5.75% Convertible Notes using if-converted method		-		7,692			2,082			7,692
Diluted weighted-average common shares outstanding		64,727		64,926			64,917			66,332

Basic net income per common share	$	0.91	$	1.01		$	2.56		$	2.59
Diluted net income per common share	$	0.89	$	0.88		$	2.43		$	2.25

Note 5 – Compensation Plans

Cash Bonus Plan

The Company has a cash bonus plan under which the Company can award participants a cash bonus of up to 50 percent of their aggregate base salary. Any awards under the cash bonus plan are based on Company and regional performance, and then are further refined by individual performance. The Company accrues cash bonus expense related to the current year’s performance. Included in the general and administrative and exploration expense line items in the consolidated statements of operations are $1.3 million and $474,000 of cash bonus expense related to the specific performance year for the three-month periods ended September 30, 2007, and 2006, respectively, and $3.8 million and $2.8 million for the nine-month periods ended September 30, 2007, and 2006, respectively.

Equity Incentive Compensation Plan

There are several current and historical components to the equity incentive compensation plan that are described in this section. Various types of equity awards have been granted by the Company in different periods. This section addresses the disclosure requirements for all equity awards currently outstanding.

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Effective January 1, 2006, the Company adopted SFAS No. 123(R), “Share Based Payment” (“SFAS No.123(R)”), using the modified-prospective transition method. Under that transition method, compensation expense that must be recognized in periods subsequent to January 1, 2006, includes: (a) compensation cost for all share-based payments granted prior to, but not yet vested as of January 1, 2006, based on the grant date fair value estimated in accordance with the original provisions of SFAS No. 123, “ Accounting for Stock-Based Compensation”, and (b) compensation cost for all share-based payments granted subsequent to January 1, 2006, based on the grant date fair value estimated in accordance with the provisions of SFAS No. 123(R).

As of September 30, 2007, 2.4 million shares of common stock remained available for grant under the Company’s 2006 Equity Incentive Compensation Plan (the “2006 Equity Plan”). Any issuances of a full value direct share benefit such as an outright grant of common stock, a grant of a restricted share or a restricted stock unit counts as two shares against the amount eligible to be granted under the 2006 Equity Plan. Each stock option and similar instrument granted counts as one share against the eligible shares authorized to be issued under the 2006 Equity Plan.

The following sections describe the details of RSUs and stock options outstanding as of September 30, 2007.

Restricted Stock Incentive Program Under the 2006 Equity Incentive Compensation Plan

The Company has a long-term incentive program whereby grants of restricted stock or RSUs have been awarded to eligible employees, consultants, and members of the Board of Directors. Restrictions and vesting periods for the awards are determined at the discretion of the Board of Directors and are set forth in the award agreements. Each RSU represents a right for one share of the Company’s common stock to be delivered upon settlement of the award at the end of a specified period. For employees, these grants are determined annually based on a performance formula consistent with the cash bonus plan.

St. Mary issued 78,657 RSUs on February 28, 2007, related to 2006 performance and 484,351 RSUs on February 28, 2006, related to 2005 performance. The total fair value associated with these issuances was $2.5 million in 2007 and $16.4 million in 2006 as measured on the respective grant dates. The granted RSUs vest 25 percent immediately upon grant and 25 percent on each of the first three anniversary dates of the grant. The awards are restricted, and the shares underlying the RSUs are not issued as common shares until the third anniversary of the grant. Compensation expense is recorded monthly over the vesting period of the award. Accordingly, the Company recorded expense in 2005 related to the awards issued in 2006, recorded expense in 2006 related to the awards issued in 2007, and is recording expense over the earning determination period in 2007 for grants that will be issued in 2008. Vested shares of common stock underlying the RSU grants will be issued on the third anniversary of the grants, at which time the shares carry no further restrictions. For all grants made subsequent to and including the 2006 grant period, the Company is using the accelerated amortization method as described in Financial Accounting Standards Board (“FASB”) Interpretation No. 28, “Accounting for Stock Appreciation Rights and Other Variable Stock Option or Award Plans—an interpretation of APB Opinions No. 15 and 25,” whereby approximately 47 percent of the total estimated compensation expense is recognized in the first year of the vesting period. Expense for grants made for plan years prior to 2006 is being amortized under the straight-line method since that method was previously utilized by the Company and was allowed prior to the adoption of SFAS No. 123(R).

St. Mary also issued 20,007 RSUs and 5,000 RSUs for various grants to specific employees during the nine months ended September 30, 2007, and 2006, respectively. These grants have various vesting schedules. The fair value of these awards will be recorded to compensation expense over the respective vesting periods using the same basic framework as described above.

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On June 30, 2007, the Company converted 427,059 RSUs, which were granted on June 30, 2004, into common stock. The Company and the majority of the grant participants mutually agreed to net share settle the awards to cover income and payroll tax withholdings as provided for in the plan document and award agreements. As a result, the Company issued a net 302,370 shares of common stock associated with this grant. The remaining 124,689 shares were withheld to offset tax withholding obligations that occurred upon the delivery of the shares underlying those RSUs.

As of September 30, 2007, there were a total of 693,349 RSUs outstanding, of which 390,804 were vested. Total compensation expense related to the RSUs for the three-month periods ended September 30, 2007, and 2006, was $2.1 million and $1.6 million respectively, and the total compensation expense related to the RSUs for the nine-month periods ended September 30, 2007, and 2006, was $7.1 million and $6.9 million respectively. There is $2.8 million included in compensation expense for the nine-month period ended September 30, 2007, for the first 25 percent vesting of the estimated value of grants expected to be issued in 2008 related to the 2007 performance year. As of September 30, 2007, there was $5.0 million of total unrecognized compensation expense related to unvested restricted stock unit awards. The unrecognized compensation expense is being amortized over each grant’s respective vesting period through 2010.

In measuring compensation expense from the grant of RSUs, SFAS No. 123(R) requires companies to estimate the fair value of the award on the grant date. The fair value of an RSU is inherently less than the market value of an unrestricted security. The fair value of RSUs has been measured using the Black-Scholes option pricing model. The Company’s computation of expected volatility is based on the historic volatility of St. Mary’s common stock. The Company’s computation of expected life is determined based on historical experience of similar awards, giving consideration to the contractual terms of the stock-based awards, vesting schedules, and expectations of future employee behavior. The interest rate for periods within the contractual life of the award is based on the U.S. Treasury constant maturity yield at the time of grant. The fair values of granted RSUs were estimated using the following weighted-average assumptions:

	For the Nine Months Ended September 30,
	2007			2006
Risk free interest rate:		4.6	%		4.7	%
Dividend yield:		0.3	%		0.3	%
Volatility factor of the market price of the Company's common stock:		32.2	%		36.6	%
Expected life of the awards (in years):		3			3

A summary of the status and activity of non-vested RSUs for the nine-month period ended September 30, 2007, is presented below.

	Non-Vested RSUs			Weighted-Average Grant-Date Fair Value
Non-vested as of December 31, 2006		506,161		$	28.92
Granted		98,664		$	32.30
Vested		(264,048	)	$	25.98
Forfeited		(38,232	)	$	31.44
Non-vested as of September 30, 2007		302,545		$	32.26

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Stock Option Grants Under the 2006 Equity Incentive Compensation Plan

The Company previously granted stock options under the St. Mary Land & Exploration Company Stock Option Plan and Incentive Stock Option Plan. The last issuance of stock options was December 31, 2004. Stock options to purchase shares of the Company’s common stock had been issued to eligible employees and members of the Board of Directors. All options granted to date under the option plans were granted at exercise prices equal to the respective closing market price of the Company’s common stock on the grant dates, which generally occurred on the last day of a fiscal period. All stock options granted under the option plans are exercisable for a period of up to ten years from the date of grant.

During the three-month periods ended September 30, 2007, and 2006, the Company recognized stock-based compensation expense of approximately $27,000 and $623,000, respectively, related to stock options that were outstanding as of January 1, 2006. During the nine-month periods ended September 30, 2007, and 2006, the Company recognized stock-based compensation expense of approximately $409,000 and $1.6 million, respectively, related to stock options that were outstanding as of January 1, 2006. There was no cumulative effect adjustment from the adoption of SFAS No. 123(R).

The following table summarizes the stock options outstanding as of September 30, 2007, and activity for the nine-month period then ended.

	Options			Weighted-Average Exercise Price		Weighted-Average Remaining Contractual Term		Aggregate Intrinsic Value
						(In years)		(In thousands)
Outstanding, beginning of period		3,121,602		$	12.56
Exercised		(471,320	)	$	12.48
Forfeited		(2,452	)	$	7.34
Outstanding, end of period		2,647,830		$	12.58		4.62	$	61,150
Vested, or expected to vest, end of period		2,647,830						$	61,150

Exercisable, end of period		2,628,115		$	12.54		4.61	$	60,798

As of September 30, 2007, there was $44,000 of total unrecognized compensation cost related to unvested stock option awards.

The fair value of options was measured at the date of grant using the Black-Scholes option pricing model. There were no stock options granted during the nine-month period ended September 30, 2007.

Net Profits Plan

Under the Company’s Net Profits Interest Bonus Plan (the “Net Profits Plan”), all oil and gas wells that are completed or acquired during a year are designated within a specific pool. Key employees recommended by senior management and designated as participants by the Company’s Compensation Committee of the Board of Directors and employed by the Company on the last day of that year become entitled to payments under the Net Profits Plan after the Company has received net cash flows returning 100 percent of all costs associated with that pool. Thereafter, ten percent of future net cash flows

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generated by the pool are allocated among the participants and are distributed at least annually. The portion of net cash flows from the pool to be allocated among the participants increases to 20 percent after the Company has recovered 200 percent of the total costs for the pool, including payments made under the Net Profits Plan at the ten percent level. The Net Profits Plan has been in place since 1991. Pool years prior to and including 2005 are fully vested. Pool years beginning in 2006 carry a vesting period of three years whereby one-third is vested at the end of the year for which participation is designated and one-third vests on each of the following two anniversary dates. Beginning with the 2006 pool, the maximum benefit to full participants from a single year’s pool is limited to 300 percent of a participating individual’s adjusted base salary paid during the year to which the pool relates.

In a separate calculation, the Company records the estimated liability for future payments under the Net Profits Plan based on the discounted value of estimated future payments associated with each individual pool. The calculation of this liability is a significant management estimate. For a predominate number of the pools, a discount rate of 15 percent is used to calculate this liability and is intended to represent the best estimate of the present value of expected future payments under the Net Profits Plan. The Company’s estimate of its liability is highly dependent on the oil and natural gas price and cost assumptions and discount rates used in the calculations. The commodity price assumptions are formulated by applying a price that is derived from a rolling average of actual prices realized over the prior 24 months together with adjusted New York Mercantile Exchange (“NYMEX”) strip prices for the ensuing 12 months for a total of 36 months of data. This average is adjusted to include the effect of hedge prices for the percentage of forecasted production hedged in the relevant period. The forecasted non-cash expense associated with this significant management estimate is highly volatile from period to period due primarily to fluctuations that occur in the crude oil and natural gas commodity markets. The Company continually evaluates the assumptions used in this calculation in order to include the current market environment for oil and natural gas prices, costs, discount rates, and overall market conditions.

The following table presents the changes in the estimated future liability attributable to the Net Profits Plan. Reductions in the liability relate to the realized results for the periods presented from oil and gas operations for the properties associated with the respective pools that have achieved payout status.

	For the Three Months Ended September 30,						For the Nine Months Ended September 30,
	2007			2006			2007			2006
	(In thousands)						(In thousands)
Liability balance for Net Profits Plan as of the beginning of the period	$	164,388		$	157,904		$	160,583		$	136,824
Increase in liability		11,383			3,043			28,906			37,937
Reduction in liability for cash payments made or accrued and recognized as compensation expense		(8,240	)		(6,752	)		(21,958	)		(20,566	)
Liability balance for Net Profits Plan as of the end of the period	$	167,531		$	154,195		$	167,531		$	154,195

The calculation of the estimated liability for the Net Profits Plan is highly sensitive to price estimates and discount rate assumptions. For example, if the commodity prices used in the calculation changed by five percent, the liability recorded at September 30, 2007, would differ by approximately $15 million. A one percentage point change in the discount rate would result in a change of the liability of approximately $10 million. Actual cash payments to be made in future periods are dependent on realized actual production, prices, and costs associated with the properties in each individual pool of the

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Net Profits Plan. Consequently, actual cash payments will be inherently different from the amounts estimated.

The Company records changes in the present value of estimated future payments under the Net Profits Plan as a separate item in the consolidated statements of operations. The change in the estimated liability is recorded as a non-cash expense or benefit in the current period. The amount recorded as an expense or benefit associated with the change in the estimated liability is not allocated to general and administrative expense or exploration expense because it is associated with the future net cash flows from oil and gas properties in the respective pools rather than current period realized performance. The table below presents the estimated allocation of the change in the liability if the Company did allocate the adjustment to these specific line items:

	For the Three Months Ended September 30,					For the Nine Months Ended September 30,
	2007		2006			2007		2006
	(In thousands)					(In thousands)
General and administrative expense	$	1,202	$	(1,627	)	$	3,086	$	7,337
Exploration expense		1,941		(2,083	)		3,862		10,033
Total	$	3,143	$	(3,710	)	$	6,948	$	17,370

Note 6 - Income Taxes

Income tax expense for the three-month and nine-month periods ended September 30, 2007, and 2006, differs from the amount that would be provided by applying the statutory U.S. federal income tax rate to income before income taxes primarily due to the effect of state income taxes, percentage depletion, the estimated effect of the domestic production activities deduction, and other permanent differences.

	For the Three Months Ended September 30,						For the Nine Months Ended September 30,
	2007			2006			2007			2006
	(In thousands)						(In thousands)
Current portion of income tax expense (benefit):
Federal	$	6,512		$	(766	)	$	11,494		$	17,374
State		627			102			1,952			880
Deferred portion of income tax expense:		26,832			29,929			79,289			64,612
Total income tax expense	$	33,971		$	29,265		$	92,735		$	82,866
Effective tax rates		37.1	%		34.4	%		37.2	%		36.1	%

A change in tax rates between reported periods will generally reflect differences in the Company’s estimated highest marginal state tax rates due to changes in the composition of income between state tax jurisdictions. Differences can also reflect various effects of the Company's estimates of the domestic production activities deduction, percentage depletion, and the possible impact of permanent differences related to state income tax calculations.

The Company adopted the provisions of FASB Interpretation No. 48, "Accounting for Uncertainty in Income Taxes" (“FIN No. 48”), on January 1, 2007. There was no financial statement adjustment required as a result of adoption. At adoption the Company had a long-term liability for unrecognized tax benefit of $1.0 million and accumulated interest liability of $92,000. The entire

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amount of unrecognized tax benefit would affect the Company’s effective tax rate if recognized. Interest expense associated with income tax is recorded as interest expense in the consolidated statements of operations. Penalties associated with income tax are recorded in general and administrative expense in the consolidated statements of operations.

The Company and its subsidiaries file income tax returns in the U.S. federal jurisdiction and in various states. With few exceptions, the Company is no longer subject to U.S. federal or state income tax examinations by these tax authorities for years before and including 2003. The Internal Revenue Service completed audits for the 2000, 2002 and 2003 tax years during the quarter ended March 31, 2007. There was no change to the provision for income tax as a result of these examinations.

In the third quarter of 2007 the Company received a refund of income tax and interest of $3.1 million from a carryback of net operating losses to the 2000 tax year. An additional $980,000 is due to the Company for income tax refunds and accrued interest resulting from a carry over of minimum tax credits to the 2003 tax year. These amounts have been previously recognized by the Company.

Note 7 - Long-term Debt

Revolving Credit Facility

The Company’s revolving credit facility specifies a maximum loan amount of $500 million and has a maturity date of April 7, 2010. Borrowings under the facility are secured by a pledge in favor of the lenders of collateral that includes the majority of the Company’s oil and gas properties and the common stock of the material subsidiaries of the Company. The borrowing base under the credit facility as authorized by the bank group as of the date of this filing is $1.25 billion and is subject to regular semi-annual redeterminations. The borrowing base redetermination process considers the value of St. Mary’s oil and gas properties and other assets, as determined by the bank syndicate. The Company has elected an aggregate commitment amount of $500 million under the credit facility. The Company must comply with certain financial and non-financial covenants. Interest and commitment fees are accrued based on the borrowing base utilization percentage table below. Euro-dollar loans accrue interest at London Interbank Offered Rate (“LIBOR”) plus the applicable margin from the utilization table, and Alternative Base Rate (“ABR”) loans accrue interest at Prime plus the applicable margin from the utilization table. Commitment fees are accrued on the unused portion of the aggregate commitment amount and are included in interest expense in the consolidated statements of operations.

Borrowing base utilization percentage	<50%			>50%<75%			>75%<90%			>90%
Euro-dollar loans		1.000	%		1.250	%		1.500	%		1.750	%
ABR loans		0.000	%		0.000	%		0.250	%		0.500	%
Commitment fee rate		0.250	%		0.300	%		0.375	%		0.375	%

The Company had $155.0 million of Euro-dollar loans outstanding as of September 30, 2007.

5.75% Senior Convertible Notes Due 2022

The Company called for redemption of its 5.75% Convertible Notes on March 16, 2007. The call for redemption resulted in the note holders electing to convert the notes to common stock in accordance with the conversion provision in the original indenture. The 5.75% Convertible Note holders converted all $100.0 million of 5.75% Convertible Notes to common shares at a conversion price of $13.00 per share. The Company issued 7.7 million common shares in connection with the conversion.

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3.50% Senior Convertible Notes Due 2027

On April 4, 2007, the Company issued $287.5 million aggregate principal amount of 3.50% Convertible Notes. The 3.50% Convertible Notes mature on April 1, 2027, unless earlier converted, redeemed, or purchased by the Company. The 3.50% Convertible Notes are unsecured senior obligations and rank equal in right of payment with all of the Company’s existing and any future unsecured senior debt and senior in right of payment to any future subordinated debt.

Holders may convert their notes based on a conversion rate of 18.3757 shares of the Company’s common stock per $1,000 principal amount of the 3.50% Convertible Notes (which is equal to an initial conversion price of approximately $54.42 per share), subject to adjustment, contingent upon and only under the following circumstances: (1) if the closing price of the Company's common stock reaches specified thresholds or the trading price of the notes falls below specified thresholds, (2) if the notes are called for redemption, (3) if specified distributions to holders of the Company’s common stock are made or specified corporate transactions occur, (4) if a fundamental change occurs, or (5) during the ten trading days prior to, but excluding, the maturity date. The notes and underlying shares have been registered under a shelf registration statement. If the Company becomes involved in a material transaction or corporate development, it may suspend trading of the 3.50% Convertible Notes under the prospectus. In the event the suspension period exceeds 45 days within any three-month period or 90 days within any twelve-month period, the Company will be required to pay additional interest to all holders of the 3.50% Convertible Notes, not to exceed a rate per annum of 0.50 percent of the issue price of the 3.50% Convertible Notes; provided that no such additional interest shall accrue after April 4, 2009.

Upon conversion of the 3.50% Convertible Notes, holders will receive cash or common stock, or any combination thereof as elected by the Company. At any time prior to the maturity date of the notes, the Company has the option to unilaterally and irrevocably elect to settle its obligations upon conversion of the notes in cash and, if applicable, shares of common stock. If the Company makes this election, then, for each $1,000 principal amount of notes converted, the Company will pay the following to holders in lieu of shares of common stock: (1) an amount in cash equal to the lesser of (i) $1,000 or (ii) the conversion value determined in the manner set forth in the indenture for the 3.50% Convertible Notes, and (2) if the conversion value exceeds $1,000, the Company will also deliver, at its election, cash or common stock or a combination of cash and common stock with respect to the remaining value deliverable upon conversion. Currently, it is the Company’s intention to net share settle the 3.50% Convertible Notes. However, the Company has not made this a formal legal irrevocable election and thereby reserves the right to settle the 3.50% Convertible Notes in any manner allowed under the offering memorandum as business conditions warrant.

If a holder elects to convert its notes in connection with certain events that constitute a change of control before April 1, 2012, the Company will pay, to the extent described in the related indenture, a make-whole premium by increasing the conversion rate applicable to the 3.50% Convertible Notes. In addition, the Company will pay contingent interest in cash, commencing with any six-month period beginning on or after April 1, 2012, if the average trading price of a note for the five trading days ending on the third trading day immediately preceding the first day of the relevant six-month period equals 120 percent or more of the principal amount of the 3.50% Convertible Notes.

On or after April 6, 2012, the Company may redeem for cash all or a portion of the 3.50% Convertible Notes at a redemption price equal to 100 percent of the principal amount of the notes to be redeemed plus accrued and unpaid interest, if any, up to but excluding, the applicable redemption date. Holders of the 3.50% Convertible Notes may require the Company to purchase all or a portion of their notes on each of April 1, 2012, April 1, 2017, and April 1, 2022, at a purchase price equal to 100 percent of the principal amount of the notes to be repurchased plus accrued and unpaid interest, if any, up to but excluding the applicable purchase date. On April 1, 2012, the Company may pay the

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purchase price in cash, in shares of common stock, or in any combination of cash and common stock. On April 1, 2017 and April 1, 2022, the Company must pay the purchase price in cash.

In August 2007 the FASB proposed FASB Staff Position APB 14-a, “Accounting for Convertible Debt Instruments That May Be Settled in Cash Upon Conversion (including Partial Cash Settlement)”, (“FSP APB 14-a”). FSP APB 14-a proposes that the accounting treatment for certain convertible debt instruments that may be settled in cash, shares of common stock, or any portion thereof at the election of the issuing company be accounted for utilizing a bifurcation model under which the value of the debt instrument would be determined without regard to the conversion feature. The difference between this calculated value and the convertible debt instrument issue price would be allocated to the option and recorded as equity rather than debt. Pending enactment, the changes are proposed to become effective for years beginning after December 15, 2007. FSP APB 14-a does not contain a grandfather provision, thus the Company would be required to account for its existing convertible debt instruments using the prescribed bifurcation method under the framework described by the FASB.

Weighted-average Interest Rate Paid and Capitalized Interest Costs

The weighted-average interest rates paid for the third quarters of 2007 and 2006 were 5.1 percent and 7.5 percent, respectively, including commitment fees paid on the unused portion of the credit facility aggregate commitment, amortization of deferred financing costs, amortization of the contingent interest embedded derivative associated with the 5.75% Convertible Notes, and the effects of interest rate swaps. The weighted-average interest rates paid for the nine-month periods ended September 30, 2007, and 2006, were 5.9 percent and 7.9 percent, respectively. Capitalized interest costs for the Company for the three-month periods ended September 30, 2007, and 2006 were $1.2 million and $896,000, respectively, and capitalized interest costs for the nine-month periods ended September 30, 2007, and 2006, were $3.8 million and $2.3 million, respectively.

Note 8 – Derivative Financial Instruments

Oil and Gas Commodity Hedges

To mitigate a portion of the potential exposure to adverse market changes in oil and natural gas prices, the Company has entered into various derivative contracts. The Company’s derivative contracts in place include swap and collar arrangements for the sale of oil, natural gas, and natural gas liquids. Please refer to the tables under Summary of Oil and Gas Production Hedges in Place in Part I, Item 2 of this quarterly report for details regarding the Company’s hedged volumes and associated prices. As of the date of this filing, the Company has hedge contracts in place through 2011 for approximately 13 million Bbls of anticipated crude oil production, 79 million MMBtu of anticipated natural gas production, and 1 million Bbls of anticipated natural gas liquids production.

The Company attempts to qualify its oil and natural gas derivative instruments as cash flow hedges for accounting purposes under SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS No. 133"), and related pronouncements. The Company formally documents all relationships between the derivative instruments and the hedged production, as well as the Company’s risk management objective and strategy for the particular derivative contracts. This process includes linking all derivatives that are designated as cash flow hedges to the specific forecasted sale of oil or natural gas at its physical location. The Company also formally assesses (both at the derivative’s inception and on an ongoing basis) whether the derivatives being utilized have been highly effective at offsetting changes in the cash flows of hedged production and whether those derivatives may be expected to remain highly effective in future periods. If it is determined that a derivative has ceased to be highly effective as a hedge, the Company will discontinue hedge accounting prospectively for that derivative instrument. If hedge accounting is discontinued and the derivative remains outstanding, the Company

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will recognize all subsequent changes in its fair value in the consolidated statements of operations for the period in which the change occurs. As of September 30, 2007, all oil and natural gas derivative instruments qualified as cash flow hedges for accounting purposes. Two natural gas liquids derivative contracts entered into during the third quarter of 2007 did not qualify for cash flow accounting due to a lack of underlying production. These hedges were entered into as a result of the Gold River acquisition and upon closing of the acquisition in the fourth quarter of 2007 were designated against the acquired production. The Company recorded $1.5 million of derivative loss in the financial statements related to these unqualified hedges for the three- and nine-month periods ended September 30, 2007. The Company anticipates that all forecasted transactions will occur by the end of their originally specified periods. All contracts are entered into for other than trading purposes.

The fair value of derivative instruments is included in the consolidated balance sheets as an asset or liability. The estimated fair value of oil, natural gas, and natural gas liquids derivative contracts was a net liability of $84.9 million at September 30, 2007.

Gains or losses from the settlement of oil and gas derivative contracts are reported in the total operating revenues section in the consolidated statements of operations. Changes in the fair value of derivative instruments designated as cash flow hedges, to the extent they are effective in offsetting cash flows attributable to the hedged risk, are recorded in other comprehensive income until the hedged item is recognized in earnings. Any change in fair value resulting from ineffectiveness is recognized currently in unrealized derivative gain or loss in the consolidated statements of operations.

The Company seeks to minimize ineffectiveness by entering into oil derivative contracts indexed to NYMEX and natural gas contracts indexed to regional index prices associated with pipelines in proximity to the Company’s areas of production. As the Company’s derivative contracts contain the same index as the Company’s sale contracts, this results in hedges that are highly correlated with the underlying hedged item.

Derivative gain from ineffectiveness related to oil, natural gas, and natural gas liquids derivative contracts qualifying for hedge accounting for the three-month period ended September 30, 2007 was $4.3 million. A net loss of $433,000 was recorded for the same period in 2006. Amounts for the nine-month periods ended September 30, 2007, and 2006, were a net loss of $900,000 and $6.2 million, respectively.

As of September 30, 2007, the estimated amount of unrealized derivative loss net of deferred income taxes to be reclassified from accumulated other comprehensive income to realized oil and gas hedge loss in the next twelve months was $5.9 million.

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The following table summarizes derivative instrument gain (loss) activity:

	For the Three Months Ended September 30,					For the Nine Months Ended September 30,
	2007		2006			2007			2006
	(In thousands)					(In thousands)

Derivative contract settlements realized in oil and gas hedge gain	$	10,173	$	4,828		$	36,160		$	14,808
Ineffective portion of hedges qualifying for hedge accounting included in derivative gain (loss)		4,336		(433	)		(889	)		(6,187	)
Non-qualified derivative contracts included in derivative gain (loss)