NOTE 1. NATURE OF BUSINESS

NYTEX Energy Holdings, Inc. (“NYTEX Energy”) is an energy holding company with operations centralized in two subsidiaries, NYTEX Petroleum, Inc. (“NYTEX Petroleum”), an exploration and production company concentrating on the acquisition and development of crude oil and natural gas reserves, and Francis Drilling Fluids, Ltd., (“Francis Drilling Fluids,” or “FDF”), a full-service provider of drilling, completion, and specialized fluids, dry drilling and completion products, technical services, industrial cleaning services, transportation, storage and handling of liquid and dry drilling products, and equipment rental for the oil and gas industry. On November 23, 2010, through our newly-formed subsidiary, NYTEX FDF Acquisition, Inc. (“Acquisition Inc.”), we acquired 100% of the membership interests of New Francis Oaks, LLC, formerly Francis Oaks, LLC (“Oaks”) and its wholly-owned operating subsidiary, FDF (together with Oaks, the “Francis Group”). The Francis Group has no other assets or operations other than FDF (See Note 4). NYTEX Energy and subsidiaries are collectively referred to herein as the “Company,” “we,” “us,” and “our.”

Liquidity, Events of Default, and Waiver

Our loan agreements generally stipulate that we comply with certain reporting and financial covenants. These covenants include among other things, providing the lender, within set time periods, with financial information, notifying the lender of any change in management, limitations on the amount of capital expenditures, and maintaining certain financial ratios. As a result of the challenges incurred in integrating the FDF operations and due to higher than anticipated capital expenditures at FDF, we were unable to meet several reporting and financial covenants under our senior revolving credit and term loan facility (“Senior Facility”) with PNC Bank measured as of November 30, 2010 and February 28, 2011. Failure to meet the loan covenants under the loan agreement constituted a default and on April 13, 2011, PNC Bank, as lender, provided us with a formal written notice of default. PNC Bank did not commence the exercise of any of its other rights and remedies.

On November 3, 2011, we entered into a First Amendment to Revolving Credit, Term Loan and Security Agreement and Limited Waiver (“First Amendment”) with PNC Bank. The effective date of the Amendment and Waiver is November 1, 2011 (“First Amendment Effective Date”). The First Amendment amends the existing Senior Facility with PNC Bank. Pursuant to the First Amendment, PNC Bank waived each of the existing events of default under the Senior Facility, including the breach of the fixed charge coverage ratio and the breach of the reporting requirement covenant. The First Amendment also amended the Senior Facility, to, among other things:

	•		Require the Company to obtain third-party financing for certain unencumbered real property of FDF no later than 180 days following the First Amendment Effective Date;

	•		Modify the calculation of the fixed charge coverage ratio covenant;

	•		Set monthly limitations on capital expenditures;

	•		Modify the limitations on distributions;

	•		Modify the limitations on certain indebtedness;

	•		Modify the limitations on certain transactions with affiliates and

	•		Modify the timing and amount of any early termination fee.

Due to cross-default provisions and other covenant requirements, we remained, as of September 30, 2011, in default under the Preferred Stock and Warrant Purchase Agreement (“WayPoint Purchase Agreement”) with WayPoint Nytex, LLC (“WayPoint”). The amounts reported on our consolidated balance sheet as of September 30, 2011 and December 31, 2010 related to the WayPoint Purchase Agreement include a derivative liability totaling $33,890,000 and $32,554,826, respectively, which are reported as current liabilities on our consolidated balance sheets. In addition, accrued expenses at September 30, 2011 include $2,371,264 of accrued and unpaid dividends on the Senior Series A Redeemable Preferred Stock. As a result, WayPoint became entitled to seek certain remedies afforded to them under the WayPoint Purchase Agreement including the right to (i) exercise their Control Warrant, or (ii) exercise their put right.

On May 4, 2011, WayPoint provided formal written notice (“Put Notice”) to us of its election to cause us to repurchase (i) warrants issued to WayPoint that, in the aggregate, allow WayPoint to purchase that number of shares of our common stock to equal 51% of our fully diluted capital stock then outstanding, (ii) the 20,750 shares of Senior Series A Redeemable Preferred Stock of Acquisition Inc. owned by WayPoint, and (iii) one share of our Series B Preferred Stock owned by WayPoint (the “WayPoint Securities”), for an aggregate purchase price of $30,000,000 within five business days following the date of the Put Notice. We did not have the funds available to satisfy this Put Notice in a timely manner.

On September 30, 2011, we entered into a Forbearance Agreement (the “Forbearance Agreement”) with WayPoint relating to WayPoint’s mezzanine debt financing to the NYTEX Parties made pursuant to the WayPoint Purchase Agreement. Pursuant to the Forbearance Agreement, WayPoint agreed to forbear from exercising its rights and remedies resulting from (i) events of default under the WayPoint Purchase Agreement and (ii) our failure to repurchase the WayPoint Securities for an aggregate purchase price of $30,000,000, as demanded by WayPoint in its May 4, 2011 Put Notice, which failure resulted in an additional event of default under the WayPoint Purchase Agreement.

To induce WayPoint to enter into the Forbearance Agreement, we have agreed to, among other things, within 60 days after the effective date of the Forbearance Agreement, September 29, 2011 (the “Forbearance Effective Date”), recapitalize the Company (the “Recapitalization”) by effecting a repurchase of the WayPoint Securities for the aggregate purchase price equal to the sum of $32,371,264 as of September 30, 2011 (which sum reflects the $30,000,000 amount set forth in the Put Notice plus accrued interest on other WayPoint Securities), plus interest accruing at the default rate set forth in the WayPoint Purchase Agreement through the closing date of the Recapitalization (the “Closing”), plus payment of reasonable legal fees and disbursements incurred by WayPoint.

WayPoint’s agreement to forbear ends on the earlier of 60 days after the Forbearance Effective Date, (the “Forbearance Period”) or the occurrence of a “Forbearance Default,” defined in the Forbearance Agreement. The term “Forbearance Default” includes nine categories of events, which are listed in Section 1(f) of the Forbearance Agreement and which list includes, among other events, the occurrence of any Default or Event of Default (without taking into account any grace or cure periods) under the WayPoint Purchase Agreement other than the Current Events of Default, and failure to comply with any term, condition or covenant in the Forbearance Agreement.

To induce the Company to enter into the Forbearance Agreement, WayPoint agreed to, among other things, until the earlier to occur of the Closing or the termination of the Forbearance Period, forbear from exercising rights and remedies under the WayPoint Purchase Agreement, including but not limited to (1) exercising warrant rights to acquire a majority of our outstanding common stock, (2) effecting any change in our officers or directors, (3) taking any further action to enforce any of its rights under the WayPoint Purchase Agreement with respect to events of default, and (4) having its financial advisor actively and publicly market Acquisition Inc., Oaks, and FDF for sale to a third party.

On November 14, 2011, WayPoint provided a formal written notice (“Forbearance Default”) that the Company was in default of Section 1(f)(iii) the Forbearance Agreement, which required the Company to (i) either identify a lead investor in connection with the Recapitalization that would, among other things, fund the purchase of the WayPoint Securities, or (ii) provide WayPoint with evidence of progress toward such a proposed recapitalization that is satisfactory to WayPoint at its sole discretion. As a result, WayPoint may seek certain remedies afforded to them under the Forbearance Agreement and the WayPoint Purchase Agreement including the marketing for sale of FDF to a third party. We continue to negotiate with WayPoint to waive the default or amend the Forbearance Agreement. On November 18, 2011, WayPoint provided a written formal notice that allows us to continue the ability to repurchase the WayPoint Securities at the amount stated in the Forbearance Agreement through December 8, 2011. Accordingly, we continue with our efforts to effect the Recapitalization and continue to evaluate financing alternatives. However, there are no assurances that the Company will be successful with the Recapitalization or in its negotiations with WayPoint, and WayPoint has reserved all other rights, remedies, actions and powers to which it may be entitled. Due to cross-default provisions, the default under the Forbearance Agreement constitutes a default under the First Amendment with PNC Bank.

Accordingly, at September 30, 2011, and December 31, 2010, the outstanding principal balance of the amounts owed under the Senior Facility was $17,472,137 and $17,752,723, respectively, and was, because of the default, reported within current liabilities on the consolidated balance sheet at September 30, 2011 and December 31, 2010.

We cannot be certain that our existing sources of cash will be adequate to meet our liquidity requirements including cash requirements that may be due under either the Senior Facility or the WayPoint Purchase Agreement. We are currently evaluating long-term financing alternatives that would allow us to comply with the terms of the Forbearance Agreement and enhance our working capital position. Additionally, management has implemented plans to improve liquidity through slowing or stopping certain planned capital expenditures, through the sale of selected assets deemed unnecessary to our business, and improvements to results from operations. There can be no assurance that we will be successful with our plans or that our results of operations will materially improve in either the short-term or long-term and accordingly, we may be unable to meet our obligations as they become due.

A fundamental principle of the preparation of financial statements in accordance with generally accepted accounting principles is the assumption that an entity will continue in existence as a going concern, which contemplates continuity of operations and the realization of assets and settlement of liabilities occurring in the ordinary course of business. This principle is applicable to all entities except for entities in liquidation or entities for which liquidation appears imminent. In accordance with this requirement, our policy is to prepare our consolidated financial statements on a going concern basis unless we intend to liquidate or have no other alternative but to liquidate. Our consolidated financial statements have been prepared on a going concern basis and do not reflect any adjustments that might specifically result from the outcome of this uncertainty.