ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Cautionary Statements
Certain of the statements included in this quarterly report on Form 10-Q, including those regarding future financial performance or results or that are not historical facts, are "forward-looking" statements as that term is defined in Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), and Section 27A of the Securities Act of 1933, as amended. The words "expect," "plan," "believe," "anticipate," "project," "estimate," and similar expressions are intended to identify forward-looking statements. Blue Dolphin Energy Company (referred to herein, with its predecessors and subsidiaries, as "Blue Dolphin," "we," "us" and "our") cautions readers that these statements are not guarantees of future performance or events and such statements involve risks and uncertainties that may cause actual results and outcomes to differ materially from those indicated in forward-looking statements. Some of the important factors, risks and uncertainties that could cause actual results to vary from forward-looking statements include:
• the level of utilization of our pipelines;

• availability and cost of capital;

• actions or inactions of third party operators for properties where we have an interest;

• the risks associated with exploration;

• the level of production from our oil and gas properties;

• oil and gas price volatility;

• uncertainties in the estimation of proved reserves and in the projection of future rates of production and timing of development expenditures;

• regulatory developments; and

• general economic conditions.

Additional factors that could cause actual results to differ materially from those indicated in the forward-looking statements are discussed under the caption "Risk Factors" in our annual report on Form 10-KSB for the year ended December 31, 2007. Readers are cautioned not to place undue reliance on these forward-looking statements which speak only as of the date thereof. We undertake no duty to update these forward-looking statements. Readers are urged to carefully review and consider the various disclosures made by us which attempt to advise interested parties of the additional factors which may affect our business, including the disclosures made under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations" in this report.
Executive Summary
We are engaged in two lines of business: (i) provision of pipeline transportation services to producer/shippers, and (ii) oil and gas exploration and production. Our assets are located offshore and onshore in the Texas Gulf Coast area. Our goal is to create greater long-term value for our stockholders by increasing the utilization of our existing pipeline assets and acquiring additional strategic assets that diversify our asset base, improve our competitive position and are accretive to earnings. Although we are primarily focused on acquisitions of pipeline assets, we also continue to review and evaluate opportunities to further develop our existing oil and gas properties and acquire additional oil and gas properties.
During 2007, we benefited from an increase in revenues from our pipeline operations resulting from the commencement of deliveries of production from shippers on both the Blue Dolphin System and the GA 350 Pipeline. On the Blue Dolphin System, one shipper commenced deliveries in July 2007 from two wells. The Blue Dolphin System is currently transporting an aggregate of approximately 27 MMcf of gas per day representing production from ten wells from eight shippers.
GA 350 Pipeline throughput has also increased from the addition of two shippers in 2007. The GA 350 Pipeline is currently transporting an aggregate of approximately 23 MMcf of gas per day representing production from six wells from five shippers.

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BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES Management's Discussion and Analysis of Financial Condition and Results of Operations - Continued - Production and resulting revenues from our interests in wells in the High Island area have declined as reserves are depleting. High Island Block 37 is currently producing approximately 2 MMcf of gas per day from one well. We elected to participate in an exploratory well in High Island Block 37 at our 2.8% working interest. Drilling of the well commenced in mid April 2008. The well was determined to be non-commercial subsequent to the current quarter end and will be plugged and abandoned in the third quarter. We expect the remaining costs, subsequent to the end of the current quarter, to total approximately $323,000. The High Island Block A-7 well experienced production difficulties during the second quarter of 2007 and is currently shut in. Production data had previously indicated that the well was nearing the end of its productive life and this point may have been reached. We hold an 8.98% working interest in the block. Activity going forward has not yet been determined by the working interest partners in the block.
During the second quarter of 2007, a well in High Island Block 115 in which we had previously earned a 2.5% working interest was re-entered and successfully sidetracked. Production from this well commenced in late-November 2007. The well is currently producing approximately 9 MMcf of gas per day.
Despite recent throughput gains, our pipeline assets remain significantly underutilized. The Blue Dolphin System is currently operating at approximately 13% of capacity, the GA 350 Pipeline is currently operating at approximately 35% of capacity and the Omega Pipeline is inactive. Production declines, temporary stoppages or cessations of production from wells tied into our pipelines or from our High Island area wells could have a material adverse effect on our cash flows and liquidity if the resulting revenue declines are not offset by increases in revenues from existing sources or revenues from other sources. Due to our geographically concentrated asset base and limited capital resources, any negative event has the potential to have a material adverse impact on our financial condition. We are continuing our efforts to increase the utilization of our existing assets and acquire additional assets that will diversify the risks to our cash flows and be accretive to earnings. Liquidity and Capital Resources
At June 30, 2008, our available working capital was approximately $5.0 million, a decrease of $0.6 million from approximately $5.6 million at both December 31 and June 30, 2007. The decrease in working capital was due primarily to the property insurance renewal in the current quarter and payments for the drilling of an exploratory well in High Island Block 37. Due to the low utilization of our pipeline assets, without the revenues and resulting cash inflows we receive from oil and gas sales, we may be required to use our cash and cash equivalents to cover a portion of our operating and general and administrative expenses. The following table summarizes our financial position at June 30, 2008 and December 31, 2007 (in thousands):

June 30, December 31, 2008 2007 Amount % Amount % Working capital $ 5,021 52 % $ 5,598 55 % Property and equipment, net 4,619 48 % 4,504 45 % Other noncurrent assets 9 - 11 - Total $ 9,649 100 % $ 10,113 100 % Long-term liabilities $ 1,936 20 % $ 1,883 19 % Stockholders' equity 7,713 80 % 8,230 81 % Total $ 9,649 100 % $ 10,113 100 %

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BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES Management's Discussion and Analysis of Financial Condition and Results of Operations - Continued - Our financial condition continues to be adversely affected by the low utilization of our pipeline assets. The Blue Dolphin System is currently transporting approximately 27 MMcf of gas per day. The GA 350 Pipeline is currently transporting approximately 23 MMcf of gas per day. This time last year, the Blue Dolphin System was transporting 28 MMcf of gas per day and the GA 350 Pipeline was transporting 19 MMcf of gas per day.
During the first six months of 2008, revenues from pipeline operations increased to $1,243,219 as compared to $1,091,575 in 2007. The increase in revenue was primarily attributable to an increase in throughput on the GA 350 Pipeline. Throughput on the Blue Dolphin System during the first six months of 2008 and 2007 averaged 21.2 MMcf of gas per day. Average throughput on the GA 350 Pipeline was 25.5 MMcf of gas per day during the first six months of 2008 as compared to 18.7 MMcf of gas per day during the first six months of 2007. We have significant available capacity on the Blue Dolphin System, the GA 350 Pipeline and the inactive Omega Pipeline. We believe that the pipelines are in geographic market areas that are of interest to oil and gas operators. This assessment is based on leasing activity and information obtained directly from the operators of properties near our pipelines.
Ultimately, the future utilization of our pipelines and related facilities will depend upon the success of drilling programs around our pipelines, as well as attraction and retention of producers/shippers to the pipeline systems. If we are successful in our efforts to attract additional shippers to our pipelines, we would gain additional throughput resulting in additional revenues. Additional throughput will be required to offset the natural decline in throughput from existing wells as reserves are depleted.
We recognized gross oil and gas sales revenues of $424,273 and $384,348 for the six months ended June 30, 2008 and 2007, respectively.
Revenues from our working interest in High Island Block 37 have declined as the rate of production has declined. High Island Block 37 production averaged approximately 5.4 MMcf of gas per day in 2007. The A-2 well experienced production problems in April 2007 and was shut in for approximately eight months. The well began producing again in December 2007, and is currently producing at a rate of approximately 2 MMcf of gas per day. We believe that the A-2 well could continue to produce until late 2008, however, the well could deplete faster than currently anticipated or could develop production problems resulting in the cessation of production. The B-1 well went off production in January 2008. Production from that well has not yet been re-established. At this time last year the B-1 well was producing approximately 5 MMcf of gas per day. The resulting decline in the aggregate production from High Island Block 37 is approximately 60%. We elected to participate in an exploratory well in High Island Block 37 at our 2.8% working interest. Drilling of the well commenced in mid April 2008. Subsequent to the end of the current quarter, the well was determined to be non-commercial and will be plugged and abandoned in the third quarter.
The High Island Block A-7 well experienced production problems in the second quarter 2007. The well has produced only intermittently since. It is currently shut in and may have reached the end of its productive life. The well averaged approximately 0.7 MMcf of gas per day in 2007. Future plans for the block have not been determined.
During the second quarter of 2007, a well in High Island Block 115 in which we had previously earned a 2.5% working interest was re-entered and successfully sidetracked. The well commenced production in late November 2007 and produced at an average rate of approximately 6.3 MMcf of gas per day during the remainder of 2007. The well is currently producing at a rate of approximately 9 MMcf of gas per day.

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BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES Management's Discussion and Analysis of Financial Condition and Results of Operations - Continued - The following table summarizes certain of our contractual obligations and other commercial commitments at June 30, 2008 (in thousands): Payments Due by Period 1 Year 5 Years Total or Less 1-3 Years 3-5 Years or More Operating leases $ 331 $ 103 $ 228 $ - $ - Employment agreement 321 175 146 - - Asset retirement obligations 2,149 265 125 - 1,759 Other long-term liabilities 78 26 52 - - Total contractual obligations and other commercial commitments $ 2,879 $ 569 $ 551 $ - $ 1,759

Results of Operations
For the three months ended June 30, 2008 (the "current quarter"), we reported a net loss of $175,479 compared to a net loss of $784,485 for the three months ended June 30, 2007 (the "previous quarter"). For the six months ended June 30, 2008 (the "current period"), we reported a net loss of $700,853 compared to a net loss of $1,103,673 for the six months ended June 30, 2007 (the "previous period").
Three Months Ended June 30, 2008 Compared to Three Months Ended June 30, 2007 Revenue from Pipeline Operations. Revenues from pipeline operations increased by $163,640, or 31%, in the current quarter to $695,402. Revenues in the current quarter from the Blue Dolphin System increased to approximately $583,000 compared to approximately $447,000 in the previous quarter due to increased throughput from existing shippers. Daily gas volumes transported on the Blue Dolphin System averaged 21.6 MMcf of gas per day in the current quarter, up from
19.7 MMcf of gas per day in the previous quarter. Revenues on the GA 350 Pipeline increased by approximately $27,000 in the current quarter due to an increase in average daily gas volumes transported to 26.5 MMcf of gas per day in the current quarter from 19.7 MMcf of gas per day in the previous quarter. Revenue from Oil and Gas Sales. Revenues from oil and gas sales increased by $204,388, or 229%, to $293,553 in the current quarter primarily due to production from High Island Block 115, which commenced in November 2007. Revenue breakdown for the current quarter by field was $133,606 for High Island Block 115 and $159,947 for High Island Block 37. The sales mix by product was 99% gas and 1% condensate. Our average realized gas price per Mcf in the current quarter was $10.99 compared to $6.40 in the previous quarter. Pipeline Operating Expenses. Pipeline operating expenses in the current quarter decreased by $160,596 to $402,096 due to decreases in compressor repair costs of approximately $136,000, legal costs of approximately $34,000 and plant site maintenance expense of approximately $42,000. The decrease was partially offset by increases in property insurance of approximately $33,000 and storage tank repairs of approximately $25,000. General and Administrative Expenses. General and administrative expenses decreased by $75,282 to $561,548 in the current quarter due to decreases in office expense of approximately $62,000, legal costs of approximately $15,000 and employee related costs of approximately $10,000. The decrease was partially offset by an increase in office rent of approximately $18,000. Interest and Other Income. Interest income decreased by $40,441 to $26,727 in the current quarter due to decreases in money market funds and the interest rate earned on those funds.

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BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES Management's Discussion and Analysis of Financial Condition and Results of Operations - Continued - Six Months Ended June 30, 2008 Compared to Six Months Ended June 30, 2007 Revenue from Pipeline Operations. Revenues from pipeline operations increased by $151,644, or 14%, in the current period to $1,243,219. Revenues in the current period from the Blue Dolphin System increased to approximately $1,026,000 compared to approximately $935,000 in the previous period due to increased commodity prices for condensate. Daily gas volumes transported on the Blue Dolphin System averaged 21.2 MMcf of gas per day in both the current period and the previous period. Revenues on the GA 350 Pipeline increased by approximately $61,000 in the current period due to an increase in average daily gas volumes transported to 25.5 MMcf of gas per day in the current period from 18.7 MMcf of gas per day in the previous period.
Revenue from Oil and Gas Sales. Revenues from oil and gas sales increased by $39,925, or 10%, to $424,273 in the current period primarily due to production from High Island Block 115, which commenced in November 2007. Revenue breakdown for the current period by field was $216,604 for High Island Block 115 and $207,669 for High Island Block 37. The sales mix by product was 98% gas and 2% condensate. Our average realized gas price per Mcf in the current period was $9.50 compared to $6.85 in the previous period. Our average realized price per barrel of condensate was $116.83 in the current period compared to $55.01 in the previous period.
Pipeline Operating Expenses. Pipeline operating expenses in the current period decreased by $260,811 to $818,052 due to decreases in pipeline repair costs of approximately $176,000, compressor repair expense of approximately $132,000, legal costs of approximately $81,000 and contract labor of approximately $26,000. The decrease was partially offset by increases in property insurance of approximately $105,000 and storage tank repairs of approximately $49,000. General and Administrative Expenses. General and administrative expenses increased by $75,165 to $1,195,357 in the current period due to increases in employee related costs of approximately $168,000, which includes an increase of approximately $131,000 of stock option expense, and office rent of approximately $48,000. The increase was partially offset by decreases in other accounting fees of approximately $41,000, legal costs of approximately $28,000 and office expense of approximately $72,000.
Interest and Other Income. Interest income decreased by $44,734 to $82,668 in the current period due to a decrease in both money market funds and the interest rate earned on those funds.
Recent Accounting Developments
See Note 1 in Item 1.
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BLUE DOLPHIN ENERGY COMPANY & SUBSIDIARIES