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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q

(Mark One)

FOR THE TRANSITION PERIOD FROM         TO       

Commission File Number: 001-32369

GASCO ENERGY, INC.

(Exact name of registrant as specified in its charter)

(303) 483-0044

(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 x  No o

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

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

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

Number of common shares outstanding as of August 9, 2011: 168,013,515

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Please refer to the section entitled “Cautionary Statement Regarding Forward-Looking Statements” at the end of Part I, Item 2 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of this Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2011 (“Quarterly Report”) for a discussion of factors which could affect the outcome of forward-looking statements used in this Quarterly Report.

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ITEM I — FINANCIAL STATEMENTS

PART 1 — FINANCIAL INFORMATION

GASCO ENERGY, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited)

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

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GASCO ENERGY, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS (continued)

(Unaudited)

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

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GASCO ENERGY, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

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

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GASCO ENERGY, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

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

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GASCO ENERGY, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

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

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GASCO ENERGY, INC.

NOTES TO UNAUDITED CONDENSED

CONSOLIDATED FINANCIAL STATEMENTS

THREE AND SIX MONTHS ENDED JUNE 30, 2011 AND 2010

NOTE 1 — ORGANIZATION

Gasco Energy, Inc. (“Gasco,” the “Company,” “we,” “our” or “us”) is a natural gas and petroleum exploitation, development and production company engaged in locating and developing hydrocarbon resources, primarily in the Rocky Mountain region. The Company’s principal business strategy is to enhance stockholder value by generating and developing high-potential exploitation resources in these areas. The Company’s principal business is the acquisition of leasehold interests in petroleum and natural gas rights, either directly or indirectly, and the exploitation and development of properties subject to these leases. The Company is currently focusing its operational efforts in the Riverbend Project located in the Uinta Basin of northeastern Utah, targeting the Green River, Wasatch, Mesaverde, Blackhawk, Mancos, Dakota and Morrison formations.

The unaudited condensed consolidated financial statements included herein were prepared from the records of the Company in accordance with generally accepted accounting principles in the United States (“US GAAP”) applicable to interim financial statements and reflect all normal recurring adjustments which are, in the opinion of management, necessary to provide a fair statement of the results of operations and financial position for the interim periods.  Such financial statements conform to the presentation reflected in the Company’s Annual Report on Form 10-K for the year ended December 31, 2010 (“2010 10-K”) filed with the Securities and Exchange Commission (the “SEC”). The current interim period reported herein should be read in conjunction with the financial statements and accompanying notes, including Note 2 — Significant Accounting Policies, included in the Company’s 2010 10-K.

The results of operations for the six months ended June 30, 2011 are not necessarily indicative of the results that may be expected for the year ending December 31, 2011. All significant intercompany transactions have been eliminated.

NOTE 2 — SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

The accompanying unaudited condensed consolidated financial statements include Gasco and its wholly-owned subsidiaries. All significant intercompany transactions have been eliminated.

Oil and Gas Properties

The Company follows the full cost method of accounting whereby all costs related to the acquisition and development of oil and gas properties are capitalized into a single cost center (“full cost pool”). Such costs include lease acquisition costs, geological and geophysical expenses, internal costs directly related to exploration and development activities and costs of drilling both productive and non-productive wells. The Company capitalized $26,594 and $75,167 of internal costs during the three and six months ended June 30, 2011, respectively, and $29,053 during each of the three and six months ended June 30, 2010. Additionally, the Company capitalized stock compensation expense related to its drilling consultants as further described in Note 7 — Stock-Based Compensation herein. Costs associated with production and general corporate activities are expensed in the period incurred. During April 2010, the Company began charging a marketing fee related to the sale of its natural gas production to the wells in which it is the operator and, therefore, the net income attributable to the outside working interest owners from the marketing activities of $28,341 and $66,335 was

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recorded as a credit to proved properties during the three and six months ended June 30, 2011, respectively, and $56,236 during each of the three and six months ended June 30, 2010. Proceeds from property sales are generally credited to the full cost pool without gain or loss recognition unless such a sale would significantly alter the relationship between capitalized costs and the proved reserves attributable to a cost center.  A significant alteration would typically involve a sale of 25% or more of the proved reserves related to a single full cost pool.

Depletion of exploration and development costs and depreciation of production equipment is computed using the units-of-production method based upon estimated proved oil and gas reserves. Costs included in the depletion base to be amortized include: (a) all proved capitalized costs including capitalized asset retirement costs net of estimated salvage values, less accumulated depletion; (b) estimated future development costs to be incurred in developing proved reserves; and (c) estimated dismantlement and abandonment costs, net of estimated salvage values, that have not been included as capitalized costs because they have not yet been capitalized as asset retirement costs. The costs of unproved properties of $36,659,642 as of June 30, 2011 are withheld from the depletion base until it is determined whether or not proved reserves can be assigned to the properties. The properties are reviewed quarterly for impairment.

Total well costs are transferred to the depletable pool even when multiple targeted zones have not been fully evaluated. For depletion and depreciation purposes, relative volumes of oil and gas production and reserves are converted at the energy equivalent rate of six thousand cubic feet of natural gas to one barrel of crude oil. Estimated reserve quantities are affected by changes in commodity prices and actual well performance.

Under the full cost method of accounting, the ceiling test provides that capitalized costs less related accumulated depletion and deferred income taxes for each cost center may not exceed the sum of (1) the present value of future net revenue from estimated production of proved oil and gas reserves using current prices, excluding the future cash outflows associated with settling asset retirement obligations that have been accrued on the balance sheet, at a discount factor of 10%; plus (2) the cost of properties not being amortized, if any; plus (3) the lower of cost or estimated fair value of unproved properties included in the costs being amortized, if any; less (4) income tax effects related to differences in the book and tax basis of oil and gas properties. Should the net capitalized costs for a cost center exceed the sum of the components noted above, a ceiling test write-down would be recognized to the extent of the excess capitalized costs exceed this ceiling limitation. The present value of estimated future net revenues is computed by applying the average, first-day-of—the-month oil and gas price during the 12-month period ended June 30, 2011 for the 12-month period ended June 30, 2011 to estimated future production of proved oil and gas reserves as of period-end, less estimated future expenditures to be incurred in developing and producing the proved reserves assuming the continuation of existing economic conditions.

Facilities and Equipment

The Company constructed two evaporation pits in the Riverbend area of Utah to be used for the disposal of produced water from the wells that Gasco operates in the area. The pits were depreciated using the straight-line method over their estimated useful life of twenty-five years. The costs of water disposal into the evaporation pits were charged to wells operated by Gasco and therefore, the net income attributable to the outside working interest owners from the evaporation pits of $106,433 was recorded as an adjustment to proved properties during the six months ended June 30, 2010. These evaporative facilities were sold during February 2010. See Note 4 — Asset Sales herein.

The Company’s other oil and gas equipment is depreciated using the straight-line method over an estimated useful life of five to ten years for the equipment and twenty-five years for the evaporative facilities, which were sold in February 2010. The rental of the equipment owned by the Company is charged to the wells that are

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operated by the Company and, therefore, the net income (expense) attributable to the outside working interest owners from the equipment rental was recorded as an adjustment to proved properties in the amount of $(15,310) and $(48,475) during the three and six months ended June 30, 2011, respectively; and $22,200 and $(4,110) during the three and six months ended June 30, 2010, respectively. See Note 4 — Asset Sales herein.

Commodity Derivatives

The Company uses commodity derivative instruments to provide a measure of stability to its cash flows in an environment of volatile oil and gas prices and to manage its exposure to commodity price risk. The Company records all commodity derivative instruments at fair value within the accompanying unaudited condensed consolidated balance sheets. The Company’s management has decided not to use hedge accounting under the accounting guidance for its commodity derivatives and therefore, the changes in fair value are recognized currently in earnings.

Asset Retirement Obligation

The Company accounts for its future asset retirement obligations by recording the fair value of the liability during the period in which it was incurred. The associated asset retirement costs are capitalized as part of the carrying amount of the long-lived asset. The increase in carrying value of a property associated with the capitalization of an asset retirement cost is included in proved oil and gas properties, gathering system (sold in February 2010) or evaporative facilities costs (sold in February 2010) in the consolidated balance sheets. The Company depletes the amount added to proved oil and gas property costs and gathering system using the units-of-production method and the evaporative facilities were depreciated on a straight-line basis over the life of the assets. The Company’s asset retirement obligation consists of costs related to the plugging of wells, removal of facilities and equipment and site restoration on its oil and gas properties and gathering system. The asset retirement liability is allocated to operating expense using a systematic and rational method.

The information below reconciles the value of the asset retirement obligation for the periods presented.

Off Balance Sheet Arrangements

From time-to-time, the Company enters into off-balance sheet arrangements and transactions that can give rise to off-balance sheet obligations. As of June 30, 2011, the off-balance sheet arrangements and transactions that the Company had entered into include undrawn letters of credit, operating lease agreements, gathering, compression, processing and water disposal agreements and gas transportation commitments. The Company does not believe that these arrangements are reasonably likely to materially affect its liquidity or availability of, or requirements for, capital resources.

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Computation of Net Income (Loss) Per Share

Basic net income (loss) per share is computed by dividing net income (loss) attributable to the common stockholders by the weighted average number of common shares outstanding during the reporting period. The shares of restricted common stock granted to certain officers and employees of the Company are included in the computation of basic net income (loss) per share only after the shares become fully vested. Diluted net income per share of common stock includes both the vested and unvested shares of restricted stock. Diluted net income or loss per common share of stock is computed by dividing adjusted net income by the diluted weighted-average common shares outstanding.  Potentially dilutive securities for the diluted earnings per share calculation consist of (i) unvested shares of restricted common stock, (ii) in-the-money outstanding options and warrants to purchase shares of common stock, (iii) outstanding Series C Convertible Preferred Stock, par value $0.001 per share (“Preferred Stock”), which are convertible into shares of common stock, (iv) the Company’s outstanding 5.5% Convertible Senior Notes due 2015 Notes (the “2015 Notes”), which are convertible into shares of Preferred Stock and common stock, and (v) the Company’s 5.5% Convertible Senior Notes due 2011 (the “2011 Notes” and together with the 2015 Notes, the “Convertible Senior Notes”), which are convertible into shares of the Company’s common stock.

The treasury stock method, which assumes that the increase in the number of shares is reduced by the number of shares which could have been repurchased by the Company with the proceeds from the exercise of the options (which were assumed to have been made at the average market price of the common shares during the reporting period), is used to measure the dilutive impact of stock options, shares of restricted common stock , warrants and shares into which the Convertible Senior Notes and Preferred Stock are convertible.

Net income (loss) per share information is determined using the two-class method, which includes the weighted-average number of common shares outstanding during the period and other securities that participate in dividends (“participating security”). The Company considers the Preferred Stock to be a participating security because it includes rights to participate in dividends with the common stock. In applying the two-class method, earnings are allocated to both common stock shares and the Preferred Stock common stock equivalent shares based on their respective weighted-average shares outstanding for the period. Losses are not allocated to Preferred Stock shares. The table below sets forth the computations of basic and diluted net income (loss) per share for the three and six months ended June 30, 2011 and 2010.

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The following shares were excluded from the computation of diluted earnings (loss) per common share as they did not have a dilutive effect.

Use of Estimates

The preparation of the financial statements for the Company in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates.

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The Company’s financial statements are based on a number of significant estimates, including oil and gas reserve quantities which are the basis for the calculation of depreciation, depletion and impairment of oil and gas properties, timing and costs associated with its retirement obligations, estimates of the fair value of derivative instruments, estimates used in stock-based compensation calculations and impairments to unproved property and to proved oil and gas properties.

Reclassifications

Certain reclassifications have been made to prior years’ amounts to conform to the classifications used in the current year. Such reclassifications had no effect on the Company’s net income for the periods presented.

Recently Issued Accounting Pronouncements

Effective January 1, 2011, the Company adopted ASC guidance that requires enhanced disclosure detail in the level 3 reconciliation for fair value measurements. The adoption had no impact on the Company’s consolidated financial position, results of operations or cash flows. Refer to Note 9 — Fair Value Measurement herein for further details regarding the Company’s assets and liabilities measured at fair value.

NOTE 3 — STOCK OFFERINGS

On June 15, 2011, the Company closed its public offering of 25,000,000 units (the “June Offering”) at a price of $0.24 per unit, for gross proceeds of $6.0 million. Each unit consisted of (i) one share of common stock and (ii) one warrant to purchase 0.75 of a share of common stock (the “June Warrants”). The shares of common stock and June Warrants were issued separately. The net proceeds from the June Offering were $5,122,654 million, after deducting the underwriting discounts, commissions and other offering expenses of $877,346.

On August 3, 2011, the Company closed an underwritten registered offering of 16,000,000 units (the “August Offering” and collectively with the June Offering, the “Offerings”) at a price of $0.25 per unit, for gross proceeds of $4.0 million.  Each unit consisted of (i) one share of common stock and (ii) one warrant to purchase 0.71875 of a share of common stock (the “August Warrants” and collectively with the June Warrants, the “Warrants”).  The shares of common stock and August Warrants were issued separately. The net proceeds from the August Offering are expected to be approximately $3.6 million, after deducting underwriting discounts and commissions and other estimated offering expenses.

The Warrants are exercisable for a term of sixty-months, beginning at issuance, at an initial exercise price of $0.35 per share, however, the exercise price and number of shares of common stock issuable on exercise of the Warrants are subject to adjustment in the event of any stock split, reverse stock split, stock dividend, recapitalization, reorganization or similar transaction.  If the Company makes a distribution of its assets to all of its stockholders, holders of the Warrants may be entitled to participate. In the event of a Fundamental Transaction (as defined in the Warrant), at the election of a holder of a Warrant, the Company may be required to purchase the holder’s Warrant for cash in an amount equal to the value of the remaining unexercised portion of the Warrant.  As a result, the Warrants are accounted for as a liability on the Company’s consolidated balance sheet with changes in their fair value reported in earnings. Subject to certain exceptions, if the average of the daily volume weighted average price of a share of common stock for some period of time equals or exceeds 200% of the initial exercise price of the Warrants, and if at the time of such measurement the Equity Conditions (as defined in the Warrant) are satisfied, then the Company may, subject to certain conditions, require the holders of the Warrants to exercise.

The Company intends to use the net proceeds from both of these Offerings for capital expenditures, working capital, acquisitions of oil and natural gas properties, repayment or refinancing of indebtedness or general corporate purposes.

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NOTE 4 — ASSET SALES

On February 26, 2010, the Company completed the sale (the “Closing”) of materially all of the assets (the “Asset Sale”) comprising its gathering system and its evaporative facilities, located in Uintah County, Utah, to Monarch Natural Gas, LLC (“Monarch”) pursuant to an Asset Purchase Agreement dated January 29, 2010 (the “Purchase Agreement”). The Purchase Agreement was subject to customary post-closing terms and conditions for transactions of this size and nature. At Closing, the Company received total cash consideration of $23 million from Monarch, the entirety of which was used to repay amounts outstanding under its Credit Facility.

Pursuant to the Purchase Agreement and simultaneous with Closing, Gasco entered into the following contracts with Monarch: (i) a transition services agreement pursuant to which the Company agreed to provide certain services relating to the operation of the acquired assets to Monarch for a six-month term commencing at Closing; (ii) a gas gathering agreement pursuant to which the Company agreed to dedicate its natural gas production from all of its Utah acreage for a minimum fifteen-year period and Monarch agreed to provide gathering, compression and processing services to the Company utilizing the gathering system; and (iii) a salt water disposal services agreement pursuant to which Monarch agreed that the Company may deliver salt water produced by its operations to the evaporative facilities for a minimum fifteen-year period.

The Company recorded deferred income of approximately $3 million on the Asset Sale which will be amortized over the fifteen-year terms of the gas gathering agreement and salt water disposal services agreement.

The following unaudited pro forma information is presented as if the Asset Sale had an effective date of January 1, 2010.

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NOTE 5 - CONVERTIBLE SENIOR NOTES

As of June 30, 2011, the Company had $400,000 aggregate principal amount of 2011 Notes and $45,168,000 aggregate principal amount of 2015 Notes outstanding.

2011 Notes

The 2011 Notes are governed by an indenture, dated as of October 20, 2004, by and between the Company and Wells Fargo Bank, National Association, as trustee (the “2011 Indenture”). The 2011 Notes were issued on October 20, 2004 and have a maturity date of October 5, 2011.

The 2011 Notes bear interest at a rate of 5.50% per annum, and such interest is payable in cash semi-annually in arrears on April 5th and October 5th of each year.

The 2011 Notes are convertible into shares of common stock at any time prior to maturity at a conversion rate of 250 shares of common stock per $1,000 principal amount of 2011 Notes, which is subject to certain anti-dilution adjustments.

The Company, at its option, may at any time in whole, and from time to time in part, redeem the 2011 Notes on not less than 20 nor more than 60 days’ prior notice mailed to the holders of the 2011 Notes, at a redemption price equal to 100% of the principal amount of 2011 Notes to be redeemed plus any accrued and unpaid interest to but not including the redemption date, if the closing price of the common stock has exceeded 130% of the conversion price for at least 20 trading days in any consecutive 30 trading-day period.

Upon a “change of control” (as defined in the 2011 Indenture), each holder of 2011 Notes can require the Company to repurchase all of that holder’s notes 45 days after the Company gives notice of the change of control, at a repurchase price equal to 100% of the principal amount of 2011 Notes to be repurchased plus accrued and unpaid interest to, but not including, the repurchase date, plus a make-whole premium under certain circumstances described in the 2011 Indenture.

2015 Notes

The 2015 Notes are governed by an indenture, dated as of June 25, 2010, by and between the Company and Wells Fargo Bank, National Association, as trustee (the “2015 Indenture”). The 2015 Notes were issued on June 25, 2010 (the “Issue Date”) pursuant to the exemption from the registration requirements of the Securities Act, provided by Section 4(2) and Regulation D thereunder. The 2015 Notes have a maturity date of October 5, 2015.

The 2015 Notes bear interest at a rate of 5.50% per annum, and such interest is payable in cash semi-annually in arrears on April 5th and October 5th of each year.

The 2015 Notes are convertible, at the option of the holder, at any time prior to maturity, into shares of common stock or, at the election of such holder, into Preferred Stock. The initial conversion price for converting the 2015 Notes into common stock is equal to $0.60 per share of common stock, which is equal to a conversion rate of 1,666.6667 shares of common stock per $1,000 principal amount of 2015 Notes. The conversion rate is subject to adjustment in certain circumstances and limitations. The initial conversion price for converting the 2015 Notes into Preferred Stock is equal to $100, which is equal to a conversion rate of ten shares of Preferred Stock per $1,000 principal amount of 2015 Notes. Pursuant to the 2015 Indenture, a holder may not convert all or any portion of such holder’s 2015 Notes into common stock to the extent that such

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holder and its affiliates would, after giving effect to such conversion, beneficially own more than 4.99% of the outstanding shares of common stock (the “Maximum Ownership Percentage”), provided that such holder, upon not less than 61 days’ prior written notice to the Company, may increase the Maximum Ownership Percentage applicable to such holder (but, for the avoidance of doubt, not for any subsequent or other holder) to 9.9% of the outstanding shares of common stock.

The Company may redeem the 2015 Notes in whole or in part for cash at any time at a redemption price equal to 100% of the principal amount of the 2015 Notes plus any accrued and unpaid interest and liquidated damages, if any, on the 2015 Notes redeemed to but not including the redemption date, if the closing price of the Company’s common stock equals or exceeds 150% of the conversion price for at least 20 trading days within the consecutive 30 trading day period ending on the trading day before the redemption date and all of the equity conditions set forth in the 2015 Indenture are satisfied (or waived in writing by the holders of a majority in aggregate principal amount of the 2015 Notes then outstanding). If a holder elects to convert its 2015 Notes in connection with such a provisional redemption by the Company, the Company will make an additional payment equal to the total value of the aggregate amount of the interest otherwise payable on the 2015 Notes to be calculated from the last day through which interest was paid on the 2015 Notes through and including the third anniversary of the Issue Date and discounted to the present value of such payment; provided, however, that at the Company’s option, in lieu of such discounted cash payment, the Company may deliver shares of Preferred Stock having a value equal to such discounted cash payment. The value of each share of Preferred Stock to be delivered shall be deemed equal to the product of (i) the average closing price per share of common stock over the ten trading day period ending on the trading day before the redemption date, and (ii) the number of whole shares of common stock into which each share of Preferred Stock is then convertible (without giving effect to any limitations on conversion in the Certificate of Designations of the Preferred Stock) (subject to certain conditions).

Upon a change of control (as defined in the 2015 Indenture), each holder of 2015 Notes may require the Company to repurchase some or all of its 2015 Notes at a repurchase price equal to 100% of the aggregate principal amount of the 2015 Notes to be repurchased plus accrued and unpaid interest and liquidated damages, if any, to but not including the date of purchase, plus, in certain circumstances, a make whole premium. The Company may pay the change of control purchase price and/or the make whole premium in cash or shares of Preferred Stock at the Company’s option. In addition, in the case of the make whole premium, at the Company’s option, the Company may pay such premium in the same form of consideration used to pay for the shares of common stock in connection with the transaction constituting the change of control.

The 2015 Indenture contains usual and customary covenants limiting the Company’s ability to incur additional indebtedness, with certain exceptions, or liens on its property or assets, restricting its ability to make dividends or other distributions, requiring its domestic subsidiaries to guaranty the 2015 Notes, requiring it to list the shares of common stock that may be issued upon conversion of the 2015 Notes and the Preferred Stock on the NYSE Amex or any other U.S. national or regional securities exchange on which the common stock is then listed, and requiring it to use reasonable best efforts to obtain stockholder approval for the issuance of shares of common stock upon conversion of the 2015 Notes and upon conversion of any shares of Preferred Stock issuable upon conversion of the 2015 Notes.

The 2015 Notes are unsecured and unsubordinated and rank on a parity in right of payment with all of the Company’s existing and future senior unsecured indebtedness (including outstanding 2011 Notes), rank senior in right of payment to any of the Company’s existing and future subordinated indebtedness, and are effectively subordinated in right of payment to any of the Company’s secured indebtedness or other obligations to the extent of the value of the assets securing such indebtedness or other obligations. The Company’s subsidiaries guarantee the 2015 Notes pursuant to a Guaranty Agreement dated as of June 25, 2010, by and among Gasco Production Company, Riverbend Gas Gathering, LLC, and Myton Oilfield Rentals, LLC, in favor of the Trustee.

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The debt discount that was recognized in connection with the 2015 Notes is being accreted to interest expense under the effective interest method at a rate of 26.3%.

NOTE 6 — DERIVATIVES

The Company uses commodity derivative instruments to provide a measure of stability to its cash flows in an environment of volatile oil and gas prices and to manage its exposure to commodity price risk. As of June 30, 2011, natural gas derivative instruments consisted of one swap agreement for natural gas production through December 31, 2011 and one collar agreement for production from January 1, 2012 through December 31, 2012. As of December 31, 2010, natural gas derivative instruments consisted of two swap agreements for the gas production through March 2011. These natural gas derivative instruments allow the Company to predict with greater certainty the effective natural gas prices to be realized for its production. The Company’s derivative contracts are described below:

·                  For its swap instrument, the Company receives a fixed price for the hedged commodity and pays a floating market price to the counterparty. The fixed-price payment and the floating-price payment are netted, resulting in a net amount due to or from the counterparty.

·                  The Company’s costless collar contains a fixed floor price (put) and ceiling price (call). If the market price exceeds the call strike price or falls below the put strike price, Gasco receives the fixed put or call price and pays the market price. If the market price is between the call and the put strike prices, no payments are due from either party.

On June 15, 2011, the Company issued the June Warrants to purchase 18,750,000 shares of common stock with an initial exercise price of $0.35 per share (subject to adjustment) and sixty-month term, as further described in Note 3 — Stock Offerings, herein. The Warrants contain a contingent cash settlement provision at the option of the holder and accordingly, are classified as a derivative liability and are subject to the classification and measurement standards for derivative financial instruments.

The following table details the fair value of the derivatives recorded in the consolidated balance sheets:

The table below summarizes the realized and unrealized gains and losses related to the Company’s derivative instruments for the three and six months ended June 30, 2011 and 2010.

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These realized and unrealized gains and losses are recorded in the accompanying consolidated statements of operations as derivative gains and losses.

The Company’s swap agreement as of June 30, 2011 is summarized in the table below:

(a)          Northwest Pipeline Rocky Mountains — Inside FERC first of month index price.

The Company’s costless collar agreement as of June 30, 2011 is summarized in the table below:

(a)           Northwest Pipeline Rocky Mountains — Inside FERC first of month index price.

NOTE 7 — STOCK-BASED COMPENSATION

The Company has outstanding common stock options and restricted stock issued under its equity incentive plans. The Company measures the fair value at the grant date for stock option grants and restricted stock awards and records compensation expense over the requisite service period. The expense recognized over the service period includes an estimate of the awards that will be forfeited.  The Company assumes no forfeitures for employee awards based on the Company’s historical forfeiture experience. The fair value of stock options is calculated using the Black-Scholes option-pricing model and the fair value of restricted stock is based on the fair value of the stock on the date of grant.

The Company accounts for stock compensation arrangements with non-employees using a fair value approach. Under this approach, the stock compensation related to the unvested stock options issued to non-employees is recalculated at the end of each reporting period based upon the fair value on that date. During the three and six months ended June 30, 2011 and 2010, the Company recognized stock-based compensation as follows:

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Stock Options

The following table summarizes the stock option activity in the equity incentive plans from January 1, 2011 through June 30, 2011:

During the year ended December 31, 2010, the Company granted 1,371,000 options to purchase 50,000, 175,000, 646,000 and 500,000 shares of common stock with exercise prices of $0.34, $0.35, $0.36 and $0.37 per share, respectively. These options have a one- or two-year vesting period and expire within five years of the grant date. These options were granted contingent on stockholder approval of a new stock option plan, which was approved at the Company’s annual meeting of stockholders during July 2011. Therefore these options were accounted for as liability awards until stockholder approval was obtained. A share-based compensation liability of $68,019 is included in current accrued liabilities in the accompanying consolidated balance sheet as of June 30, 2011.

The following table summarizes information related to the outstanding and vested options as of June 30, 2011: