Edgar Filing: Pacific Ethanol, Inc.

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-KSB

(Mark One)
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934

FOR THE FISCAL YEAR ENDED DECEMBER 31, 2005

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

For the transition period from __________ to __________

Commission file number: 0-21467

PACIFIC ETHANOL, INC.
(Name of small business issuer in its charter)

DELAWARE 41-2170618
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)

5711 N. WEST AVENUE, FRESNO, CA 93711
(Address of principal executive offices) (Zip Code)

(559) 435-1771
(Issuer's telephone number, including area code)

Securities registered under Section 12(b) of the Act:

Title of each class Name of exchange on which registered
NONE NONE

Securities registered under Section 12(g) of the Exchange Act:

COMMON STOCK, $0.01 PAR VALUE
(Title of Class)

Check whether the issuer is not required to file reports pursuant to
Section 13 or 15(d) of the Exchange Act. Yes [ ] No [X]

Check whether the issuer: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 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 [ ]

Check if there is no disclosure of delinquent filers in response to Item
405 of Regulation S-B contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. [ ]

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

The issuer's revenues for its most recent fiscal year were $87,599,012.

The aggregate market value of the voting common equity held by
non-affiliates of the registrant computed by reference to the closing sale price
of the common equity on March 31, 2006 was $659,442,542. The registrant has no
outstanding non-voting common equity.

The number of shares outstanding of the registrant's only class of common
stock, $0.01 par value, was 30,549,888 on March 31, 2006.

DOCUMENTS INCORPORATED BY REFERENCE:
NONE

Transitional Small Business Disclosure Format (check one): Yes [ ] No [X]

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TABLE OF CONTENTS

PAGE
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PART I

Item 1. Description of Business. .......................................... 3

Item 2. Description of Property. .......................................... 16

Item 3. Legal Proceedings. ................................................ 16

Item 4. Submission of Matters to a Vote of Security Holders. .............. 18

PART II

Item 5. Market For Common Equity and Related Stockholder Matters .......... 19

Item 6. Management's Discussion and Analysis or Plan of Operation. ........ 20

Item 7. Financial Statements. ............................................. 48

Item 8. Changes In and Disagreements With Accountants on Accounting and
Financial Disclosure. ............................................. 48

Item 8A. Controls and Procedures. .......................................... 48

Item 8B. Other Information. ................................................ 51

PART III

Item 9. Directors and Executive Officers, Promoters and Control Persons;
Compliance with Section 16(a) of the Exchange Act. ................ 52

Item 10. Executive Compensation. ........................................... 56

Item 11. Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters. ...................................... 63

Item 12. Certain Relationships and Related Transactions. ................... 65

Item 13. Exhibits .......................................................... 71

Item 14. Principal Accountant Fees and Services. ........................... 76

Index to Consolidated Financial Statements ................................ F-1

Signatures ................................................................. 77

Index to Exhibits Filed With This Form 10-KSB .............................. 78

PART I

ITEM 1. DESCRIPTION OF BUSINESS.

OVERVIEW

Our primary goal is to become a leader in the production, marketing and
sale of ethanol and other renewable fuels in the Western United States.

Through our wholly-owned subsidiary, Kinergy Marketing, LLC, or Kinergy,
we are currently engaged in the business of marketing ethanol in the Western
United States. We provide transportation, storage and delivery of ethanol
through third-party service providers. We sell ethanol primarily in California,
Nevada, Arizona, Washington and Oregon and have extensive customer relationships
throughout the Western United States and extensive supplier relationships
throughout the Western and Midwestern United States. We do not currently produce
any ethanol that we sell. Until we commence the production of ethanol, if at
all, we expect our operations to consist primarily of the marketing and sale of
ethanol produced by third-parties. Accordingly, we expect that until we complete
the construction of our initial ethanol production facility in Madera County,
California, our consolidated net sales will consist solely of net sales
generated by Kinergy. We anticipate that our sales will grow in the long-term as
demand for ethanol increases and as a result of our marketing agreements with
third-party ethanol producers.

We believe that we have a competitive advantage due to the market niche
that we have developed by supplying ethanol to customers in several major
metropolitan and rural markets in California and other Western states. We also
believe that the experience of our management over the past two decades and the
operations Kinergy has conducted over the past five years have enabled us to
establish valuable relationships in the ethanol marketing industry and
understand the business of marketing ethanol.

Through Pacific Ethanol Madera, LLC, or PEI Madera, a second-tier
subsidiary of our wholly-owned subsidiary, Pacific Ethanol California, Inc., or
PEI California, we are constructing an ethanol production facility in Madera
County to begin the production and sale of ethanol and its co-products. We also
intend to construct or otherwise acquire one or more additional ethanol
production facilities as financing resources and business prospects make the
construction or acquisition of these facilities advisable.

Our wholly-owned subsidiary, ReEnergy, LLC, or ReEnergy, does not
presently have any significant business operations or plans. ReEnergy previously
held an option to acquire real property in Visalia, California, on which we
intended to build an ethanol production facility. Recently, we decided not to
proceed with our initial plans to build a facility on the Visalia site and, as a
result, we allowed the option to expire on December 15, 2005 without exercising
our right to purchase the land and we are in the process of dissolving ReEnergy.
We have secured an option to acquire an additional parcel of real property on
which we may construct an additional ethanol production facility.

In April 2006, we raised $84.0 million in an offering of our Series A
Cumulative Redeemable Convertible Preferred Stock and secured up to
approximately $34.0 million in debt financing. A portion of the preferred stock
financing and up to the entire amount of the debt financing will be used to
complete the construction of our ethanol production facility in Madera County.
See "Management's Discussion and Analysis or Plan of Operation--Preferred Stock
Financing" and "--Debt Financing."

In March 2005, we completed a share exchange transaction, or the Share
Exchange Transaction, with the shareholders of PEI California, and the holders
of the membership interests of each of Kinergy and ReEnergy. Upon completion of
the Share Exchange Transaction, we acquired all of the issued and outstanding
shares of capital stock of PEI California and all of the outstanding membership
interests of each of Kinergy and ReEnergy. Immediately prior to the consummation
of the Share Exchange Transaction, our predecessor, Accessity Corp., a New York
corporation, or Accessity, reincorporated in the State of Delaware under the
name Pacific Ethanol, Inc. See "Management's Discussion and Analysis or Plan of
Operation--Share Exchange Transaction."

Prior to the Share Exchange Transaction, through its wholly-owned
subsidiary Sentaur Corp., Accessity was in the business of providing medical
billing recovery services for hospitals. Sentaur Corp's services were designed
to help hospitals recoup discounts improperly taken by insurance companies and
other institutional payors of medical treatments. In addition, through its
wholly-owned subsidiary DriverShield CRM Corp., Accessity was in the business of
providing internet-based vehicle repair management services, including collision
and general repair programs, estimating and auditing services and vehicle
rentals for insurance companies and affinity group members.

INDUSTRY OVERVIEW

OVERVIEW OF ETHANOL MARKET

Methyl tertiary-butyl ether, or MTBE, was used for over 20 years in
California and other states as an oxygenate. An oxygenate is a substance that,
when added to gasoline, increases the amount of oxygen in the gasoline blend and
improves its air quality characteristics. Oxygenated fuels sometimes are
mandated by the Environmental Protection Agency, or EPA, for sale and use in
geographical areas which fail to achieve certain air quality standards. MTBE is,
however, a known carcinogen that contaminates groundwater, and California banned
the addition of MTBE to motor fuels effective January 1, 2004. The EPA lists on
its website at least 20 states with partial or complete bans on the use of MTBE.
Ethyl alcohol, or ethanol, has recently replaced MTBE as a fuel additive and an
oxygenate in California, New York and Connecticut.

California is the nation's largest market for gasoline. According to the
California Department of Motor Vehicles, approximately 30.5 million motor
vehicles were registered in California in 2005 and were estimated to use
approximately 16.8 billion gallons of gasoline. California's last oil refinery
was built in 1969. We believe that California's stringent permitting process and
the economics of constructing and operating an oil refinery in California
present difficult barriers to entry into the oil refining market. In addition,
we believe that California is in a volatile and highly-sensitive energy
situation due to its relative geographic isolation from oil refiners located
elsewhere in the United States coupled with what we believe is an overall
decline in oil refining capacity in the United States. According to the
California Energy Commission, California imports approximately 10% of its
finished fuel products and during 2004 imported over 55% of its total petroleum
supply.

We believe that the ethanol industry produced approximately 4.0 billion
gallons of ethanol in 2005, an increase of approximately 18% from the
approximately 3.4 billion gallons of ethanol produced in 2004. We believe that
the ethanol market in California exceeded 950 million gallons in 2005,
representing nearly 25% of the national market. However, California has only
three ethanol plants with a combined production capacity of less than 35 million
gallons per year, leaving California with ethanol production levels
substantially below the demand for ethanol in California. The balance of ethanol
is shipped via rail from the Midwest to California. Gasoline and diesel products
that supply the major fuel terminals are shipped in pipelines throughout the
northern and southern portions of California. Unlike gasoline and diesel,
however, ethanol cannot be shipped in these pipelines because ethanol has an
affinity for mixing with water already present in the pipelines. When mixed,
water dilutes ethanol and creates significant quality control issues. Therefore,
ethanol must be trucked from rail terminals to regional fuel terminals, or
blending racks.

We believe that approximately 95% of the ethanol produced in the United
States is made in the Midwest from corn. According to the U.S. Department of
Energy, ethanol is typically blended at 5.7% to 10% by volume in the United
States, but is also blended at up to 85% by volume for vehicles designed to
operate on 85% ethanol. Compared to gasoline, ethanol is generally considered to
be less expensive and cleaner burning and contains higher octane. We anticipate
that the increasing demand for transportation fuels coupled with limited
opportunities for gasoline refinery expansions and the growing importance of
reducing CO(2) emissions through the use of renewable fuels will generate
additional growth in the California ethanol market.

Ethanol sold into the Central Valley region of California, or Central
Valley, is currently shipped via rail from the Midwest, and then
"double-handled" into trucks and shipped to blending racks in Sacramento,
Stockton, Fresno and Bakersfield. We believe that this one to two thousand mile
transport and "double handling" can add significantly to the final price of
ethanol. We estimate that ethanol demand in the Central Valley was approximately
200 million gallons in 2005.

We believe that ethanol prices, net of tax incentives offered by the
federal government, are positively correlated to fluctuations in gasoline
prices. In addition, we believe that ethanol prices in California are typically
$0.15 to $0.20 per gallon higher than in the Midwest due to the freight costs of
delivering ethanol from Midwest production facilities.

Currently, ethanol represents only up to 3% of the total annual gasoline
supply in the United States. We believe that the ethanol industry has
substantial room to grow to reach what we estimate is an achievable level of at
least 10% of the total annual gasoline supply in the United States. An increase
in the demand for ethanol from California's current level of 5.7% to at least
10% of total annual gasoline supply would result in demand for approximately 700
million additional gallons of ethanol, representing an increase in annual demand
in California of approximately 75%. An additional 700 million gallons of ethanol
would represent an increase in annual demand of approximately 18% for the entire
United States.

OVERVIEW OF ETHANOL PRODUCTION PROCESS

The production of ethanol from starch or sugar-based feedstocks has been
practiced for thousands of years. While the basic production steps remain the
same, the process has been refined considerably in recent years, leading to a
highly-efficient process that we believe now yields more energy in the ethanol
and co-products than is required to make the products. The modern production of
ethanol requires large amounts of corn, or other high-starch grains, and water
as well as chemicals, enzymes and yeast, and denaturants such as unleaded
gasoline or liquid natural gas, in addition to natural gas and electricity.

In the dry milling process, corn or other high-starch grains are first
ground into meal and then slurried with water to form a mash. Enzymes are then
added to the mash to convert the starch into the simple sugar, dextrose. Ammonia
is also added for acidic (pH) control and as a nutrient for the yeast. The mash
is processed through a high temperature cooking procedure, which reduces
bacteria levels prior to fermentation. The mash is then cooled and transferred
to fermenters, where yeast is added and the conversion of sugar to ethanol and
CO(2) begins.

After fermentation, the resulting "beer" is transferred to distillation,
where the ethanol is separated from the residual "stillage." The ethanol is
concentrated to 190 proof using conventional distillation methods and then is
dehydrated to approximately 200 proof, representing 100% alcohol levels, in a
molecular sieve system. The resulting anhydrous ethanol is then blended with
about 5% denaturant, which is usually gasoline, and is then ready for shipment
to market.

The residual stillage is separated into a coarse grain portion and a
liquid portion through a centrifugation process. The soluble liquid portion is
concentrated to about 40% dissolved solids by an evaporation process. This
intermediate state is called condensed distillers solubles, or syrup. The coarse
grain and syrup portions are then mixed to produce wet distillers grains, or
WDG, or can be mixed and dried to produce dried distillers grains with solubles,
or DDGS. Both WDG and DDGS are high-protein animal feed products.

OVERVIEW OF DISTILLERS GRAINS MARKET

We believe that approximately 5.8 to 6.8 million tons of dried distillers
grains are produced and sold every year in North America. Dairy cows and beef
cattle are the primary consumers of distillers grains. According to Rincker and
Berger, in their 2003 article entitled OPTIMIZING THE USE OF DISTILLER GRAIN FOR
DAIRY-BEEF PRODUCTION, a dairy cow can consume 12-15 lbs of WDG per day in a
balanced diet. At this rate, the WDG output of an ethanol facility that produces
25 million gallons of ethanol per year can feed approximately 75,000-95,000
dairy cows and an ethanol facility that produces 35 million gallons of ethanol
per year can feed approximately 105,000-130,000 dairy cows. We believe that the
only distillers grains currently available in California are shipped from the
Midwest via rail cars in dry form.

Successful and profitable delivery of DDGS from the Midwest faces a number
of challenges, including product inconsistency, handling difficulty and lower
feed values. All of these challenges are mitigated with a consistent supply of
WDG from a local plant. DDGS delivered via rail to California from the Midwest
undergoes an intense drying process and exposure to extreme heat at the
production facility and in the railcars, during which various nutrients are
burned off which reduces the nutritional composition of the final product. In
addition, DDGS shipped via rail can take as long as two weeks to be delivered to
California, and scheduling errors or rail yard mishaps can extend delivery time
even further. DDGS tends to solidify and set in place as it sits in a rail car
and thus expedient delivery is important. After solidifying and setting in
place, DDGS becomes very difficult and thus expensive to unload. During the
summer, rail cars typically take a full day to unload but can take longer. Also,
DDGS shipped from the Midwest can be inconsistent because some Midwest producers
use a variety of feedstocks depending on the availability and price of competing
crops. Corn, milo sorghum, barley and wheat are all common feedstocks used for
the production of ethanol but lead to significant variability in the nutritional
composition of distillers grains. California dairies depend on rations that are
calculated with precision and a subtle difference in the makeup of a key
ingredient can significantly affect bovine milk production. By not drying the
distillers grains and by shipping them locally, we believe that we will be able
to preserve the feed integrity of these grains.

Historically, the market price for distillers grains has been stable in
comparison to the market price for ethanol. We believe that the market price of
DDGS is determined by a number of factors, including the market value of corn,
soybean meal and other competitive protein ingredients, the performance or value
of DDGS in a particular feed formulation and general market forces of supply and
demand. We also believe that nationwide, the market price of distillers grains
historically has been influenced by producers of distilled spirits and more
recently by the large corn dry-millers that operate fuel ethanol plants. In
California, the market price of distillers grains is often influenced by
nutritional models that calculate the feed value of distillers grains by
nutritional content.

OUR STRATEGY

Our primary goal is to become a leader in the production, marketing and
sale of ethanol and other renewable fuels in the Western United States. Our
business strategy to achieve this goal includes the following elements:

o CONTINUE TO DEVELOP AND EXPAND OUR ETHANOL DISTRIBUTION NETWORK. We
have developed and plan to continue to develop and expand, our
ethanol distribution network for delivery of ethanol by truck to
virtually every significant fuel terminal as well as to numerous
smaller fuel terminals throughout California. Fuel terminals have
limited storage capacity and we have been successful in securing
storage tanks in California. In addition, we have an extensive
network of third-party delivery trucks available to deliver ethanol
throughout California.

o CONTINUE TO EXPAND OUR BUSINESS IN GROWING GEOGRAPHIC MARKETS. We
intend to continue to expand our business in regions where MTBE has
been banned and that represent growing markets for ethanol,
including Phoenix, Arizona, Las Vegas, Nevada and Portland, Oregon.

o COMPLETE CONSTRUCTION OF FIVE ETHANOL PRODUCTION FACILITIES ON THE
WEST COAST BY THE END OF 2008. We are currently constructing our
first ethanol production facility located in Madera County to
produce ethanol and its co-products, specifically, WDG and CO(2),
for sale in the Central Valley. We are also in the process of
developing additional plant sites. We believe that, following the
completion of construction of our planned five facilities, if it
occurs, we will be the largest producer of ethanol on the West Coast
and that our proximity to the geographic market in which we plan to
sell our ethanol provides us significant competitive advantages over
ethanol producers in the Midwest.

o MAKE STRATEGIC ACQUISITIONS OF EXISTING OR PENDING ETHANOL
PRODUCTION FACILITIES. We plan to explore opportunities to make
strategic acquisitions of existing or pending ethanol production
facilities. In circumstances where, in our judgment, the acquisition
of existing or pending ethanol production facilities represents an
opportunity to more quickly or successfully meet our business goals,
we intend to undertake to consummate these acquisitions.

o IDENTIFY AND EXPLOIT NEW RENEWABLE FUELS AND TECHNOLOGIES. We plan
to identify and exploit new renewable fuels and technologies. We are
currently examining new technologies enabling the conversion of
cellulose, which is generated predominantly from wood waste, paper
waste and agricultural waste, into ethanol and we are also
researching opportunities to produce bio-diesel to serve West Coast
markets.

KINERGY CUSTOMERS

We purchase and resell ethanol to various customers in the Western United
States. We also arrange for transportation, storage and delivery of ethanol
purchased by our customers through our agreements with third-party service
providers. Our revenue is obtained primarily from sales of ethanol to large oil
companies.

During 2005, Kinergy purchased and resold an aggregate of approximately 67
million gallons of fuel grade ethanol to approximately 27 customers. Sales to
Kinergy's three largest customers represented approximately 39% of our net sales
in 2005. Sales to each of our other customers did not represent 10% or more of
our net sales in 2005. Customers who accounted for 10% or more of our net sales
in 2005 were New West Petroleum, Chevron Products USA, and Southern Counties Oil
Co., which accounted for 18%, 11% and 10%, respectively, of Kinergy's net sales
during that year.

During 2004, Kinergy purchased and resold an aggregate of approximately 55
million gallons of fuel grade ethanol to approximately 25 customers. Net sales
to Kinergy's four largest customers represented in the aggregate approximately
49% of Kinergy's total revenues in 2004. Sales to each of Kinergy's other
customers did not represent 10% or more of Kinergy's net sales in 2004.
Customers who accounted for 10% or more of Kinergy's net sales in 2004 were
Southern Counties Oil Co., which accounted for 13% of Kinergy's net sales during
that period and Conoco Phillips, Chevron Products USA and Valero, each of which
accounted for 12% of Kinergy's net sales during that period.

Most of the major metropolitan areas in California have fuel terminals
served by rail, but other major metropolitan areas and more remote smaller
cities and rural areas in California do not. We believe that we have developed a
valuable niche in California by growing our business to supply customers in
areas without rail access at fuel terminals, which are primarily located in the
Sacramento, San Joaquin and Imperial Valleys of California. We manage the
complicated logistics of shipping ethanol from the Midwest by rail to
intermediate storage locations throughout the Western United States and trucking
the ethanol from these storage locations to blending racks where the ethanol is
blended with gasoline. We believe that by establishing an efficient service for
truck deliveries to these more remote locations, we have differentiated
ourselves from our competitors, which has resulted in increased sales and
profitability. In addition, by producing ethanol in California, we believe that
we will benefit from our ability to increase spot sales of ethanol from this
additional supply following ethanol price spikes caused from time to time by
rail delays in delivering ethanol from the Midwest to California.

In March 2005, we agreed with Phoenix Bio-Industries, LLC, or PBI, to
market and sell PBI's entire ethanol production volume from its facility in
Goshen, California, which is approximately fifty miles southeast of our Madera
County site. PBI commenced ethanol production at this facility in the fourth
quarter of 2005 and we expect initial production volume to be approximately 25
million gallons per year. The term of the agreement is two years from the date
that ethanol is first available for marketing from PBI's production facility. We
believe that through Kinergy, we could market and sell locally all of the 25
million gallons expected to be produced each year at PBI's Goshen facility as
well as all or substantially all of the 35 million gallons of ethanol expected
to be produced each year at our Madera County ethanol production facility.

Kinergy has two principal methods of conducting its ethanol marketing and
sales activities: direct sales and inventory sales. Kinergy's first method of
marketing and selling ethanol involves direct sales through which suppliers
deliver ethanol directly via rail to Kinergy's customers. For direct sales,
Kinergy typically matches ethanol purchase and sale contracts of like quantities
and delivery periods. These back-to-back direct sales typically involve no price
risks to Kinergy that otherwise may result from fluctuations in the market price
of ethanol. Kinergy's second method of marketing and selling ethanol involves
truck deliveries from inventory purchased by Kinergy in advance. For inventory
sales, as with direct sales, Kinergy typically matches ethanol purchase and sale
contracts of like quantities. However, timing differences do exist and
consequently, a back-to-back inventory sale may lag by up to two or more weeks.
This time lag results from inventory transit and turnover times. As a result,
Kinergy may supply ethanol under new inventory sales contracts from existing
inventory. These back-to-back inventory sales therefore involve some price risks
to Kinergy resulting from potential fluctuations in the market price of ethanol.

We believe that the only consistent price risk to Kinergy currently is
inventory risk. Management seeks to optimize transitions to new inventory sales
contracts and reduce the effects of declining ethanol prices by managing
inventory as carefully as possible to decrease inventory levels in anticipation
of declining ethanol prices. In addition, management seeks to increase inventory
levels in anticipation of rising ethanol prices. Because Kinergy decreases
inventory levels in anticipation of declining ethanol prices and increases
inventory levels in anticipation of rising ethanol prices, it is subject to the
risk of ethanol prices moving in unanticipated directions, which could result in
declining or even negative gross profit margins over certain periods of time,
but also enables Kinergy to potentially benefit from above-normal gross profit
margins.

Over the past few years, the market price of ethanol has experienced
significant fluctuations. More recently, the price of ethanol declined by
approximately 25% from its 2004 average price per gallon in five months from
January 2005 through May 2005 and reversed this decline and increased to
approximately 55% above its 2004 average price per gallon in four months from
June 2005 through September 2005. Since September 2005, the price of ethanol has
generally trended downward and the average price of ethanol during October 2005
and through December 2005 was approximately 24% above its 2004 average price per
gallon. We believe that the market price of ethanol will, for the foreseeable
future, continue to experience significant fluctuations which may cause our
future results of operations to fluctuate significantly. As a result, our
historical results of operations may not be predictive of our future results of
operations.

Historically, Kinergy's gross profit margins have averaged between 2.0%
and 4.4%. Kinergy's gross profit margin in 2005 and 2004 was 3.6% and 3.9%,
respectively. We believe that Kinergy's future gross profit margins may be lower
than historical levels for two principal reasons. First, increased competition
in the ethanol market may reduce margins. Second, Kinergy may, in some cases,
engage in direct sales arrangements that typically result in lower gross
margins. Historically, Kinergy's sales were comprised to a greater degree of
inventory sales that often involved the buying and selling of ethanol based on
anticipated trends in the market price of ethanol. These inventory sales
represented higher-risk positions but enabled Kinergy to achieve higher margin
levels, as compared to direct sales, as a result of correctly anticipating
fluctuations in the market price of ethanol. As a result of highly-volatile
ethanol prices, we are unable to estimate Kinergy's future gross profit margins
from inventory sales. However, we believe that over longer periods of up to a
year or more, our gross profit margin from inventory sales is unlikely to exceed
our historic high average gross profit margin of 4.4%.

If we are able to complete our ethanol production facility in Madera
County and commence producing ethanol, we expect our gross profit margins for
ethanol that we produce to be substantially higher than our gross profit margins
for Kinergy's direct sales and inventory sales activities. However, any gross
profits that we realize from the production of ethanol will be highly dependent
upon the prevailing market price of ethanol at the time of sale. Moreover, in
light of the recent and expected future volatility in the price of ethanol, we
are now, and expect for the foreseeable future to be, unable to estimate our
gross profit margins resulting from the sale of ethanol that we may produce.

We expect to begin to market and sell ethanol we produce upon completion
of construction of our initial ethanol production facility in Madera County. We
intend to continue to market ethanol and manage the shipping, storage and
delivery of ethanol from the Midwest to existing and new customers in the
Western United States. In addition, we intend to continue to expand our business
in regions that represent growing markets for ethanol, including Phoenix,
Arizona, Las Vegas, Nevada and Portland, Oregon.

KINERGY SUPPLIERS

During 2005, Kinergy purchased an aggregate of approximately 67 million
gallons of fuel grade ethanol from approximately 15 suppliers. Purchases from
Kinergy's three largest suppliers represented approximately 59% of Kinergy's
total purchases in 2005. Purchases from each of Kinergy's other suppliers did
not represent 10% or more of total purchases in 2005. Suppliers who accounted
for 10% or more of these purchases in 2005 were Chief Industries, Inc., Archer
Daniels Midland Company, and Renewable Products Marketing Group, LLC, which
accounted for 22%, 20% and 17%, respectively, of Kinergy's purchases during that
year.

During 2004, Kinergy purchased an aggregate of approximately 55 million
gallons of fuel grade ethanol from approximately 13 suppliers. Suppliers who
accounted for 10% or more of the purchases in 2004 were Archer Daniels Midland
Company, Chief Industries, Inc. and C&N Ethanol which accounted for 27%, 23% and
14%, respectively, of Kinergy's purchases during that year representing an
aggregate of approximately 64% of the total ethanol Kinergy purchased for
resale.

We do not presently engage in any ethanol production activities. However,
we are in the process of constructing an ethanol plant in Madera County for the
production of at least 35 million gallons of ethanol per year. We are a marketer
and reseller of ethanol throughout the Western United States. Accordingly, we
are dependent upon various producers of fuel grade ethanol for our ethanol
supplies. In addition, we provide ethanol transportation, storage and delivery
services through third-party service providers.

We assume risk of loss with respect to each shipment of ethanol once the
ethanol is delivered to us by our suppliers at the agreed upon delivery
location. We maintain this risk of loss until the ethanol is delivered to a fuel
terminal. If our suppliers ship ethanol directly to our customers, risk of loss
passes directly from our suppliers to our customers and we do not assume any
risk of loss. We maintain insurance to cover the risks associated with our
activities.

Historically, we have not owned or leased any rail cars, tanker trucks or
other fuel transportation vehicles. Instead, we have entered into contracts with
third-party providers to receive ethanol at agreed upon locations from our
suppliers and to store and/or deliver the ethanol to agreed upon locations on
behalf of our customers. These contracts generally run from year-to-year,
subject to termination by either party upon advance written notice before the
end of the then-current annual term. However, due to increasing constraints on
the availability of rail cars, we are in the process of executing long-term
leases on rail cars to provide our customers with additional options to support
their distribution needs.

PEI CALIFORNIA CUSTOMERS

Upon completion of our ethanol plant in Madera County, we expect to market
and sell ethanol produced at this plant through Kinergy. Kinergy's business
focus has been on growing its market share at the Fresno fuel terminal, which is
the only wholesale distribution point for gasoline for over 200 miles between
Stockton and Bakersfield, California. The Fresno fuel terminal is only 20 miles
southeast of our Madera County site. The Fresno/Clovis metro area population is
approximately 850,000. In addition, the Fresno fuel terminal serves the Central
Valley, which is one of the largest agricultural regions in the world. We are
currently supplying over 50% of the ethanol distributed out of the Fresno fuel
terminal. We expect that all of the ethanol generated by our Madera County
facility will be able to be sold locally in the Fresno market that Kinergy has
developed, capturing a key competitive advantage over Midwest ethanol producers
who must incur the costs of delivering ethanol from thousands of miles away and
subject their supplies to rail delays and other challenges.

The San Joaquin Valley of California (located in the southern half of the
Central Valley) has one of the highest concentrations of dairy cows in the
world, with over 1.4 million head of cattle in an area covering approximately
30,000 square miles. We believe that there are approximately 500,000 dairy cows
within a 50-mile radius of our production site in Madera County. We expect that
our Madera County facility will be able to produce enough WDG to feed 105,000 to
130,000 dairy cows each year.

We expect to be one of the few WDG producers with production facilities
located in California. We intend to position WDG as the protein feed of choice
based on its nutritional composition, consistency of quality and delivery, ease
of handling and its mixing ability with minerals and other feed ingredients. We
believe that WDG has an ideal moisture level to carry minerals and other feed
ingredients and we expect to capture a higher combined profit margin by
providing WDG to the feed market in California.

PEI CALIFORNIA SUPPLIERS

The production of ethanol requires a significant amount of raw materials
and supplies, such as corn, natural gas, electricity and water. The cost of corn
is the most important variable cost associated with the production of ethanol. A
35 million gallon per year ethanol facility requires approximately 12.5 million
bushels of corn each year or, according to the United States Department of
Agriculture--National Agricultural Statistics Survey, nearly 66% of California's
total 2005 annual corn production of approximately 19 million bushels.
Therefore, a California ethanol plant must be able to efficiently ship corn from
the Midwest via rail and then cheaply and reliably truck processed ethanol to
local markets. We believe that our grain receiving facility at our Madera County
site is one of the most efficient grain receiving facilities in the United
States. The unloading system was designed to unload 110 rail cars consistently
in less than fifteen hours. The plant will have the capacity to store a 49-day
supply of corn, or approximately 1.8 million bushels.

We plan to source corn using standard contracts, such as spot purchases,
forward purchases and basis contracts. We plan to establish a relationship with
a forwarding broker at the Chicago Board of Trade and expect to establish
allowable limits of open and un-hedged grain transactions that its merchants
will be required to follow pursuant to a risk management program. The limits
established are expected to be reviewed and adjusted on a regular basis.

CONSTRUCTION OF ETHANOL PLANT

PEI California, through PEI Madera, has entered into construction
agreements with W.M. Lyles Co. for the construction of an ethanol plant at our
Madera County site. The total construction cost of the facility is currently
estimated to be $55.3 million. Of this amount, approximately $50.6 million is a
guaranteed maximum price, or GMP, provided by W.M. Lyles Co. under construction
agreements while the balance of approximately $4.7 million of construction and
related expenditures are outside the scope of the W.M. Lyles Co. GMP. The GMP
sets a cap on total construction costs while providing for shared savings if the
actual cost falls below the GMP price. However, PEI Madera is liable for
additional costs to the extent that the scope of work actually performed by W.M.
Lyles Co. exceeds the scope of work that is the basis for the GMP. The
construction agreements also provide that if PEI Madera terminates W.M. Lyles
Co. in favor of another contractor, PEI Madera will be required to pay a
termination fee of $5.0 million in addition to payment of all costs incurred by
W.M. Lyles Co. for services rendered through the date of termination.

PEI California has entered into a letter agreement with W.M. Lyles Co.
that provides that if W.M. Lyles Co. pays performance liquidated damages to PEI
Madera as a result of a defect attributable to Delta-T Corporation (our process
design and technology provider), or if W.M. Lyles Co. pays liquidated damages to
PEI Madera under PEI Madera's construction agreements as a result of a delay
that is attributable to Delta-T Corporation, then PEI California will reimburse
W.M. Lyles Co. for the liquidated damages to the extent they exceed $2.0 million
and up to a maximum of $8.1 million.

Responsibility for the proper and timely construction of our initial
ethanol production facility in Madera County rests with W.M. Lyles Co. We are
requiring a payment and performance bond to guarantee the quality and the
timeliness of the construction of this facility. We had previously authorized
W.M. Lyles Co. to expend up to $15.0 million on Phase I of construction, which
has been completed. PEI Madera also issued a formal Notice to Proceed effective
March 1, 2006, for the balance of the estimated $34.0 million necessary to
complete the construction.

Water supply is one of the most critical issues in developing a project in
the State of California. There is a pervasive water shortage in the Central
Valley, often causing spikes in the price of available water. We have taken a
number of steps to reduce our exposure to interruptions in our water supply and
to fluctuations in the market price of water. We have selected Delta-T
Corporation, a process design and technology provider, that we believe is
recognized in its industry for efficient use of water. Also, our Madera County
property has one deep-water well with another deep-water well currently being
developed, which together we believe will provide an ample supply of fresh water
for our proposed ethanol production facility.

COMPETITION

We operate in the highly-competitive ethanol marketing industry and plan
to construct ethanol production facilities to begin producing our own ethanol.
The largest ethanol producer in the United States is Archer-Daniels-Midland
Company, or ADM, with wet and dry mill plants in the Midwest and a total
production capacity of about 1.2 billion gallons per year, or about 30% of total
United States ethanol production. According to the Renewable Fuels Association's
ETHANOL INDUSTRY OUTLOOK 2006, there are approximately 95 ethanol plants
currently operating with a combined annual production capacity of approximately
4.0 billion gallons. In addition, 29 ethanol plants and 9 expansions were under
construction with a combined annual capacity of approximately 1.5 billion
gallons. We believe that most of the growth in ethanol production over the last
ten years has been by farmer-owned cooperatives that have commenced or expanded
ethanol production as a strategy for enhancing demand for corn and adding value
through processing. We believe that many smaller ethanol plants rely on
marketing groups such as Ethanol Products, Aventine Renewable Energy, Inc. and
Renewable Products Marketing Group to move their product to market. We believe
that, because ethanol is a commodity, many of the Midwest ethanol producers can
target California, though ethanol producers further west in states such as
Nebraska and Kansas often enjoy delivery cost advantages.

In March 2005, we agreed with PBI to market and sell PBI's entire ethanol
production from its facility in Goshen, California, which is approximately fifty
miles southeast of our Madera County site. PBI commenced ethanol production at
this facility in the fourth quarter of 2005 and we expect initial production to
be approximately 25 million gallons per year. The term of the agreement is two
years from the date that ethanol is first available for marketing from PBI's
production facility.

We believe that our ability to successfully compete in the ethanol
marketing industry depends on many factors, including the following principal
competitive factors:

o OUR ETHANOL DISTRIBUTION NETWORK. We believe that we have a
competitive advantage due to the market niche that we have developed
by supplying ethanol to customers in areas and markets in the
Western United States that are not served by rail. We have developed
an ethanol distribution network for delivery of ethanol by truck to
virtually every significant fuel terminal as well as to numerous
smaller fuel terminals throughout California. Fuel terminals have
limited storage capacity and we have been successful in securing
storage tanks in California. In addition, we have an extensive
network of third-party delivery trucks available to deliver ethanol
throughout California.

o OUR CUSTOMER AND SUPPLIER RELATIONSHIPS. We have developed strong
business relationships with our customers and suppliers. In
particular, we have developed strong business relationships with
major and independent un-branded customers who collectively control
the majority of all gasoline sales in California. In addition, we
have developed strong business relationships with ethanol suppliers
throughout the Western and Midwestern United States.

Although we believe that Kinergy is in an advantageous position relative
to its competitors, Kinergy does have certain competitive vulnerabilities,
including the current limited supply of available ethanol, which may result in
Kinergy's inability to fully satisfy all of the demands of its customers,
resulting in customers seeking alternative supplies of ethanol, including
directly from ethanol producers such as ADM. If customers purchase ethanol from
sources other than Kinergy, Kinergy's market share, sales and profitability may
decline. In addition, if the price of ethanol stabilizes at historically high
levels, or continues to increase, ethanol producers may seek to circumvent
Kinergy's marketing and distribution services in order to obtain additional
profits that Kinergy may otherwise be generating. Also, because ethanol competes
with other alternative fuels, Kinergy's focus on ethanol subjects it to the
vulnerability that other alternative fuels may offer advantages relative to
ethanol or may, in the future, be favored through governmental regulations and
offer greater tax incentives.

We believe that our ability to successfully compete in the ethanol
production industry depends on many factors, including the following principal
competitive factors:

o OUR LOCATION IN CALIFORNIA. We believe that after the completion of
construction of an ethanol production facility, if it occurs, we
will have a competitive advantage in the Central Valley market for
ethanol because competing Midwest-sourced ethanol must be
"double-handled" to reach Central Valley distribution racks and
Midwest ethanol producers must incur the costs of delivering ethanol
from hundreds of miles away and subject their supplies to rail
delays and other challenges. In addition, the San Joaquin Valley has
over 1.4 million head of dairy cattle in an area less than 30,000
square miles, which we believe will provide an excellent market for
WDG, a co-product of ethanol and an important protein source for
dairy cows.

o OUR ETHANOL MARKETING DIVISION. Upon completion of our initial
ethanol production facility in Madera County, if it occurs, we
expect to market and sell ethanol produced at this facility through
Kinergy. We estimate that ethanol demand in the Central Valley was
approximately 200 million gallons in 2005. Kinergy is currently
supplying over 50% of the ethanol distributed out of the Fresno fuel
terminal. We expect that all or substantially all of the ethanol
generated by PBI's facility in Goshen and at our Madera County
facility will be able to be sold locally in the Fresno market that
Kinergy has developed.

Although we believe that our ethanol production business will be in an
advantageous position relative to our competitors, we do have certain
competitive vulnerabilities, including the fact that we are not yet producing
ethanol. Because we are not presently in the ethanol production business, unlike
our competitors, and other than through certain activities of Kinergy, we are
not benefiting from sales of ethanol at the current, historically unprecedented
high price levels. Our inability to capture profits based on the currently high
price levels may provide our competitors, who are presently producing ethanol,
with greater relative advantages resulting from greater capital resources
available to these competitors.

Although we believe that we have certain competitive advantages over our
competitors, realizing and maintaining those advantages will require a continued
high level of investment in marketing and customer service and support. We may
not have sufficient resources to continue to make such investments. Even if
sufficient funds are available, we may not be able to make the modifications and
improvements necessary to maintain our competitive advantages.

GOVERNMENTAL REGULATION

We and our existing and proposed business operations are subject to
extensive and frequently changing federal, state and local laws and regulations
relating to the protection of the environment. These laws, their underlying
regulatory requirements and the enforcement thereof, some of which are described
below, impact, or may impact, our existing and proposed business operations by
imposing:

o restrictions on our existing and proposed business operations and/or
the need to install enhanced or additional controls;
o the need to obtain and comply with permits and authorizations;
o liability for exceeding applicable permit limits or legal
requirements, in certain cases for the remediation of contaminated
soil and groundwater at our facilities, contiguous and adjacent
properties and other properties owned and/or operated by third
parties; and
o specifications for the ethanol we market and plan to produce.

In addition, some of the governmental regulations to which we are subject
are helpful to our ethanol marketing business and proposed ethanol production
business. The ethanol fuel industry is greatly dependent upon tax policies and
environmental regulations that favor the use of ethanol in motor fuel blends in
North America. Some of the governmental regulations applicable to our ethanol
marketing business and proposed ethanol production business are briefly
described below.

FEDERAL EXCISE TAX EXEMPTION

Ethanol blends have been either wholly or partially exempt from the
federal excise tax, or FET, on gasoline since 1978. The exemption has ranged
from $0.04 to $0.06 per gallon of gasoline during that 25-year period. Current
law provides a $0.051 per gallon exemption from the $0.183 per gallon FET on
gasoline if the taxable product is blended in a mixture containing at least 10%
ethanol. The FET exemption was revised and its expiration date was extended for
the sixth time since its inception as part of the Jumpstart Our Business
Strength, or JOBS, Act enacted in October 2004. The new expiration date of the
FET exemption is December 31, 2010. We believe that it is highly likely that
this tax incentive will be extended beyond 2010 if Congress deems it necessary
for the continued growth and prosperity of the ethanol industry.

CLEAN AIR ACT AMENDMENTS OF 1990

In November 1990, a comprehensive amendment to the Clean Air Act of 1977
established a series of requirements and restrictions for gasoline content
designed to reduce air pollution in identified problem areas of the United
States. The two principal components affecting motor fuel content are the
Oxygenated Fuels Program, which is administered by states under federal
guidelines, and a federally supervised Reformulated Gasoline Program.

OXYGENATED FUELS PROGRAM

Federal law requires the sale of oxygenated fuels in certain carbon
monoxide non-attainment Metropolitan Statistical Areas, or MSA, during at least
four winter months, typically November through February. Any additional MSA not
in compliance for a period of two consecutive years in subsequent years may also
be included in the program. The EPA Administrator is afforded flexibility in
requiring a shorter or longer period of use depending upon available supplies of
oxygenated fuels or the level of non-attainment. This law currently affects the
Los Angeles area, where over 150 million gallons of ethanol are blended with
gasoline each winter.

REFORMULATED GASOLINE PROGRAM

The Clean Air Act Amendments of 1990 established special standards
effective January 1, 1995 for the most polluted ozone non-attainment areas: Los
Angeles Basin, Baltimore, Chicago Area, Houston Area, Milwaukee Area, New
York-New Jersey, Hartford Region, Philadelphia Area and San Diego, with
provisions to add other areas in the future if conditions warrant. California's
Central Valley was added in 2002. At the outset of the program there were a
total of 96 MSAs not in compliance with clean air standards for ozone, which
currently represents approximately 60% of the national market.

The legislation requires a minimum of 2.0% oxygen by weight in
reformulated gasoline as a means of reducing carbon monoxide pollution and
replacing octane lost by reducing aromatics which are high octane portions of
refined oil. The Reformulated Gasoline Program also includes a provision that
allows individual states to "opt into" the federal program by request of the
governor, to adopt standards promulgated by California that are stricter than
federal standards, or to offer alternative programs designed to reduce ozone
levels. Nearly all of the Northeast and middle Atlantic areas from Washington,
D.C., to Boston not under the federal mandate have "opted into" the federal
standards.

These state mandates in recent years have created a variety of gasoline
grades to meet different regional environmental requirements. Reformulated
gasoline accounts for about 30% of nationwide gasoline consumption. Under
current law, California refiners must blend a minimum of 2.0% oxygen by weight.
This is the equivalent of 5.7% ethanol in every gallon of gas, or roughly 900
million gallons of ethanol per year in California alone.

NATIONAL ENERGY LEGISLATION

A national Energy Bill was signed into law in August 2005 by President
Bush. The Energy Bill substitutes the existing oxygenation program in the
Reformulated Gasoline Program with a national "renewable fuels standard." The
standard sets a minimum amount of renewable fuels that must be used by fuel
refiners. Beginning in 2006, the minimum amount of renewable fuels that must be
used by fuel refiners is 4.0 billion gallons, which increases progressively to
7.5 billion gallons in 2012. While we believe that the overall national market
for ethanol will grow, we believe that the market for ethanol in geographic
areas such as California could experience either increases or decreases in the
demand for ethanol depending on the preferences of petroleum refiners and state
policies. See "Risk Factors."

ADDITIONAL ENVIRONMENTAL REGULATIONS

In addition to the governmental regulations applicable to the ethanol
marketing and production industries described above, our business is subject to
additional federal, state and local environmental regulations, including
regulations established by the EPA, the California Air Quality Management
District, the San Joaquin Valley Air Pollution Control District and the
California Air Resources Board, or CARB. We cannot predict the manner or extent
to which these regulations will harm or help our business or the ethanol
production and marketing industry in general.

EMPLOYEES

As of March 31, 2006, we employed 22 persons on a full-time basis,
including through our subsidiaries. Our employees are highly skilled, and our
success will depend in part upon our ability to retain such employees and
attract new qualified employees who are in great demand. We have never had a
work stoppage or strike, and no employees are presently represented by a labor
union or covered by a collective bargaining agreement. We consider our relations
with our employees to be good.

ITEM 2. DESCRIPTION OF PROPERTY.

Our corporate headquarters, located in Fresno, California, consists of a
3,000 square foot office rented on a month-to-month basis. We also rent, on a
month-to-month basis, an office in Davis, California, consisting of 500 square
feet. In addition, we rent, under a three-year lease, an office in Portland,
Oregon, consisting of 860 square feet.

We have acquired real property located in Madera County consisting of
approximately 137 acres on which we are constructing our first ethanol
production facility. See "Business--Construction of Ethanol Plant" above. In
management's opinion, this property is adequately covered by insurance.

We have also secured an option to acquire an additional parcel of real
property on which we may construct additional ethanol production facilities.

ITEM 3. LEGAL PROCEEDINGS.

We are subject to legal proceedings, claims and litigation arising in the
ordinary course of business. While the amounts claimed may be substantial, the
ultimate liability cannot presently be determined because of considerable
uncertainties that exist. Therefore, it is possible that the outcome of those
legal proceedings, claims and litigation could adversely affect our quarterly or
annual operating results or cash flows when resolved in a future period.
However, based on facts currently available, management believes such matters
will not adversely affect our financial position, results of operations or cash
flows.

BARRY SPIEGEL

On December 23, 2005, Barry J. Spiegel, a stockholder of Pacific Ethanol
and former director of Accessity, filed a complaint in the Circuit Court of the
17th Judicial District in and for Broward County, Florida (Case No. 05018512),
or the Spiegel Action, against Barry Siegel, Philip Kart, Kenneth Friedman and
Bruce Udell, or collectively, the Defendants. Messrs. Siegel, Udell and Friedman
are former directors of Accessity and Pacific Ethanol. Mr. Kart is a former
executive officer of Accessity and Pacific Ethanol.

The Spiegel Action relates to the Share Exchange Transaction and purports
to state the following five counts against the Defendants: (i) breach of
fiduciary duty, (ii) violation of Florida's Deceptive and Unfair Trade Practices
Act, (iii) conspiracy to defraud, (iv) fraud, and (v) violation of Florida
Securities and Investor Protection Act. Mr. Spiegel is seeking $22.0 million in
damages. On March 8, 2006, Defendants filed a motion to dismiss the Spiegel
Action.

We have agreed with Messrs. Friedman, Siegel, Kart and Udell to advance
the costs of defense in connection with the Spiegel Action. Under applicable
provisions of Delaware law, we may be responsible to indemnify each of the
Defendants in connection with the Spiegel Action. The final outcome of the
Spiegel Action will most likely take an indefinite time to resolve.

GERALD ZUTLER

In January 2003, DriverShield CRM Corp., or DriverShield, then a
wholly-owned subsidiary of our predecessor, Accessity, was served with a
complaint filed by Mr. Gerald Zutler, its former President and Chief Operating
Officer, alleging, among other things, that DriverShield breached his employment
contract, that there was fraudulent concealment of DriverShield's intention to
terminate its employment agreement with Mr. Zutler, and discrimination on the
basis of age and aiding and abetting violation of the New York State Human
Rights Law. The complaint was filed in the Supreme Court of the State of New
York, County of Nassau, Index No.: 654/03. Mr. Zutler is seeking damages
aggregating $2.225 million, plus punitive damages and reasonable attorneys'
fees. DriverShield's management believes that DriverShield properly terminated
Mr. Zutler's employment for cause, and intends to vigorously defend this suit.
An Answer to the complaint was served by DriverShield on February 28, 2003. In
2003, Mr. Zutler filed a motion to have DriverShield's attorney removed from the
case. The motion was granted by the court, but was subsequently overturned by an
appellate court. DriverShield has filed a claim with its insurance carrier under
its directors and officers and employment practices' liability policy. The
carrier has agreed to cover certain portions of the claim as they relate to Mr.
Siegel, DriverShield's former Chief Executive Officer. The policy has a $50,000
deductible and a liability limit of $3.0 million per policy year. At the present
time, the carrier has agreed to cover the portion of the claim that relates to
Mr. Siegel and has agreed to a fifty percent allocation of expenses.

MERCATOR GROUP, LLC

We filed a Demand for Arbitration against Presidion Solutions, Inc., or
Presidion, alleging that Presidion breached the terms of the Memorandum of
Understanding, or the MOU, between Accessity and Presidion dated January 17,
2003. We sought a break-up fee of $250,000 pursuant to the terms of the MOU
alleging that Presidion breached the MOU by wrongfully terminating the MOU.
Additionally, we sought out of pocket costs of its due diligence amounting to
approximately $37,000. Presidion filed a counterclaim against us alleging that
we had breached the MOU and therefore owe Presidion a break-up fee of $250,000.
The dispute was heard by a single arbitrator before the American Arbitration
Association in Broward County, Florida in late February 2004. During June 2004,
the arbitrator awarded us the $250,000 break-up fee set forth in the MOU between
us and Presidion, as well as our share of the costs of the arbitration and
interest from the date of the termination by Presidion of the MOU, aggregating
approximately $280,000. During the third quarter of 2004, Presidion paid us the
full amount of the award with accrued interest. The arbitrator dismissed
Presidion's counterclaim against us.

In 2003, we filed a lawsuit seeking damages in excess of $100 million as a
result of information obtained during the course of the arbitration discussed
above, against: (i) Presidion Corporation, f/k/a MediaBus Networks, Inc.,
Presidion's parent corporation, (ii) Presidion's investment bankers, Mercator
Group, LLC, or Mercator, and various related and affiliated parties and (iii)
Taurus Global LLC, or Taurus, (collectively referred to as the "Mercator
Action"), alleging that these parties committed a number of wrongful acts,
including, but not limited to tortuously interfering in the transaction between
us and Presidion. In 2004, we dismissed this lawsuit without prejudice, which
was filed in Florida state court. We recently refiled this action in the State
of California, for a similar amount, as we believe this to be the proper
jurisdiction. On August 18, 2005, the court stayed the action and ordered the
parties to arbitration. The parties agreed to mediate the matter. Mediation took
place on December 9, 2005 and was not successful. On December 5, 2005, we filed
a Demand for Arbitration with the American Arbitration Association. On April 6,
2006, a single arbitrator was appointed. The final outcome of the Mercator
Action will most likely take an indefinite time to resolve. We currently have
limited information regarding the financial condition of the defendants and the
extent of their insurance coverage. Therefore, it is possible that we may
prevail, but may not be able to collect any judgment. The share exchange
agreement relating to the Share Exchange Transaction provides that following
full and final settlement or other final resolution of the Mercator Action,
after deduction of all fees and expenses incurred by the law firm representing
us in this action and payment of the 25% contingency fee to the law firm,
shareholders of record of Accessity on the date immediately preceding the
closing date of the Share Exchange Transaction will receive two-thirds and we
will retain the remaining one-third of the net proceeds from any Mercator Action
recovery.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.

(a) We held our 2005 annual meeting of stockholders on December 30,
2005. As of the close of business on November 28, 2005, the record date for the
meeting, we had outstanding 28,667,185 shares of common stock. A total of
26,052,724 shares of common stock were represented in person or by proxy at the
meeting and constituted a quorum.

(b) Management's nominees for election as directors were William L.
Jones, Neil M. Koehler, Frank P. Greinke, Charles W. Bader, John J. Prince,
Terry L. Stone and Kenneth J. Friedman, each of whom was an incumbent director.
Each of those nominees was elected as a director at the meeting.

NOMINEE FOR WITHHOLD AUTHORITY
------------------- ---------- ------------------

William L. Jones 23,726,744 40,980
Neil M. Koehler 23,738,184 29,540
Frank P. Greinke 23,723,482 44,242
Charles W. Bader 23,732,584 35,140
John L. Prince 23,721,144 46,580
Terry L. Stone 23,721,144 46,580
Kenneth J. Friedman 23,672,761 94,963

(c) (ii) Proposal 2: To consider and approve the issuance of shares of
Series A Cumulative Redeemable Convertible Preferred Stock pursuant to the
Purchase Agreement dated November 14, 2005 between Pacific Ethanol, Inc. and
Cascade Investment, L.L.C. and the Certificate of Designations, Powers,
Preferences and Rights of the Series A Cumulative Redeemable Convertible
Preferred Stock, and the consummation of the transactions contemplated by the
Purchase Agreement and the Certificate of Designations.

For: 18,986,755
Against: 201,745
Abstention: 9,224
Broker non-votes: 2,285,000

(c) (iii) Proposal 3: To ratify the appointment of Hein & Associates
LLP as the independent registered public accounting firm to audit our financial
statements for the year ending December 31, 2005.

For: 23,731,918
Against: 29,200
Abstention: 6,606
Broker non-votes: 2,285,000

(d) Not applicable.

PART II

ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

Our common stock has been traded on the Nasdaq National Market under the
symbol "PEIX" since October 10, 2005. Prior to October 10, 2005 and since March
24, 2005, our common stock traded on the Nasdaq Capital Market (formerly, the
Nasdaq SmallCap Market) under the symbol "PEIX." Prior to March 24, 2005, our
common stock traded on the Nasdaq SmallCap Market under the symbol "ACTY." The
table below shows, for each fiscal quarter indicated, the high and low closing
prices for shares of our common stock. This information has been obtained from
The Nasdaq Stock Market. The prices shown reflect inter-dealer prices, without
retail mark-up, mark-down or commission, and may not necessarily represent
actual transactions.

HIGH LOW
--------- --------
YEAR ENDED DECEMBER 31, 2004
First Quarter........................................ $ 2.61 $ 1.70
Second Quarter....................................... 6.09 1.62
Third Quarter........................................ 5.71 4.50
Fourth Quarter....................................... 6.75 4.48

YEAR ENDED DECEMBER 31, 2005
First Quarter........................................ $ 10.25 $ 5.49
Second Quarter....................................... 12.94 8.58
Third Quarter........................................ 11.20 7.78
Fourth Quarter....................................... 13.48 7.71

As of March 31, 2006, we had 30,549,888 shares of common stock outstanding
and held of record by approximately 516 stockholders. These holders of record
include depositories that hold shares of stock for brokerage firms which, in
turn, hold shares of stock for numerous beneficial owners. On March 31, 2006,
the closing sale price of our common stock on the Nasdaq National Market was
$21.59 per share.

We have never paid cash dividends on our common stock and do not currently
intend to pay cash dividends on our common stock in the foreseeable future. We
currently anticipate that we will retain any earnings for use in the continued
development of our business.

Our current and future debt financing arrangements may limit or prevent
cash distributions from our subsidiaries to us, depending upon the achievement
of certain financial and other operating conditions and our ability to properly
service the debt, thereby limiting or preventing us from paying cash dividends.
In addition, the holders of our preferred stock are entitled to dividends of 5%,
and those dividends must be paid prior to the payment of any dividends to our
common stockholders.

In June 2005, we issued 28,749 shares of common stock upon the exercise of
warrants with an exercise price of $0.0001 per share.

In September 2005, we issued 28,750 and 6,906 shares of common stock upon
the exercise of warrants with an exercise price of $0.0001 and $2.00 per share,
respectively.

In November 2005, we issued 25,006 shares of common stock upon the
exercise of warrants with an exercise price of $1.50 per share.

In December 2005, we issued 28,750, 2,501, 20,000, 109,000 and 22,000
shares of common stock upon the exercise of warrants with an exercise price of
$0.0001, $2.00, $2.65, $3.00 and $5.00 per share, respectively.

Exemption from the registration provisions of the Securities Act of 1933
for the transactions described above is claimed under Section 4(2) of the
Securities Act of 1933, among others, on the basis that such transactions did
not involve any public offering and the purchasers were accredited or
sophisticated with access to the kind of information registration would provide.
In each case, appropriate investment representations were obtained, stock
certificates were issued with restricted stock legends, and stop transfer orders
were placed with our transfer agent.

ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.

The following discussion and analysis should be read in conjunction with
our consolidated financial statements and notes to consolidated financial
statements included elsewhere in this report. This report and our consolidated
financial statements and notes to consolidated financial statements contain
forward-looking statements, which generally include the plans and objectives of
management for future operations, including plans and objectives relating to our
future economic performance and our current beliefs regarding revenues we might
generate and profits we might earn if we are successful in implementing our
business strategies. The forward-looking statements and associated risks may
include, relate to or be qualified by other important factors, including,
without limitation:

o the projected growth or contraction in the ethanol market in which we
operate;
o fluctuations in the market price of ethanol;
o our business strategy for expanding, maintaining or contracting our
presence in this market;
o our ability to obtain the necessary financing to complete construction
of our planned ethanol production facilities other than our facility
in Madera County, California;
o anticipated trends in our financial condition and results of
operations; and
o our ability to distinguish ourselves from our current and future
competitors.

We do not undertake to update, revise or correct any forward-looking
statements.

Any of the factors described above or in the "Risk Factors" section below
could cause our financial results, including our net income or loss or growth in
net income or loss to differ materially from prior results, which in turn could,
among other things, cause the price of our common stock to fluctuate
substantially.

OVERVIEW

Our primary goal is to become a leader in the production, marketing and
sale of ethanol and other renewable fuels in the Western United States.

Through our wholly-owned subsidiary, Kinergy Marketing, LLC, or Kinergy,
we are currently engaged in the business of marketing ethanol in the Western
United States. We provide transportation, storage and delivery of ethanol
through third-party service providers. We sell ethanol primarily in California,
Nevada, Arizona, Washington and Oregon and have extensive customer relationships
throughout the Western United States and extensive supplier relationships
throughout the Western and Midwestern United States. We do not currently produce
any ethanol that we sell. Until we commence the production of ethanol, if at
all, we expect our operations to consist primarily of the marketing and sale of
ethanol produced by third-parties. Accordingly, we expect that unless and until
we complete the construction of our initial ethanol production facility in
Madera County our consolidated net sales will consist solely of net sales
generated by Kinergy. We anticipate that our net sales will grow in the
long-term as demand for ethanol increases and as a result of our marketing
agreements with third-party ethanol producers.

Through Pacific Ethanol Madera, LLC, or PEI Madera, a second-tier
subsidiary of our wholly-owned subsidiary, Pacific Ethanol California, Inc., or
PEI California, we are constructing an ethanol production facility in Madera
County to begin the production and sale of ethanol and its co-products. In April
2006, we secured all the necessary financing to complete construction of this
facility. See "Preferred Stock Financing" and "Debt Financing." We also intend
to construct or otherwise acquire additional ethanol production facilities as
financing resources and business prospects make the construction or acquisition
of these facilities advisable.

Historically, Kinergy's gross profit margins have averaged between 2.0%
and 4.4%. Kinergy's gross profit margins in 2005 and 2004 were 3.6% and 3.9%,
respectively. We believe that Kinergy's future gross profit margins may be lower
than historical levels for two principal reasons. First, increased competition
in the ethanol market may reduce margins. Second, Kinergy may, in some cases,
engage in direct sale arrangements that typically result in lower gross margins.
Historically, Kinergy's sales were comprised to a greater degree of inventory
sales that often involved the buying and selling of ethanol based on anticipated
trends in the market price of ethanol. These inventory sales represented
higher-risk positions but enabled Kinergy to achieve higher margin levels, as
compared to direct sales, as a result of correctly anticipating fluctuations in
the market price of ethanol. As a result of highly-volatile ethanol prices, we
are unable to estimate Kinergy's future gross profit margins from inventory
sales. However, we believe that over longer periods of up to a year or more, our
gross profit margin from inventory sales is unlikely to exceed our historic high
average gross profit margin of 4.4%.

Kinergy's gross profit margin declined by 56% from 3.9% in 2004 to 1.7% in
the first quarter of 2005, declined further by 82% from 3.9% in 2004 to 0.7% in
the second quarter of 2005 and increased by 59% from 3.9% in 2004 to 6.2% in the
third quarter of 2005 and decreased by 6.2% from 3.9% in 2004 to 3.7% in the
fourth quarter of 2005. Kinergy's gross profit margin for 2005 declined by 7.8%
from 3.9% in 2004 to 3.6% in 2005. Kinergy's gross profit margin in the first
quarter of 2005 is generally reflective of the contracted margins for that
period. The decline in Kinergy's gross profit margin in the second quarter of
2005 resulted primarily from the transition from inventory sales contracts
ending in the first quarter of 2005 to new inventory sales contracts beginning
in the second quarter of 2005 during a period of rapidly declining market
prices. As discussed above, because of the time lag in delivering ethanol under
new inventory sales contracts, Kinergy sold ethanol under these contracts from
existing inventory that was purchased at levels higher than the prevailing
market price at the time of sale. The increase in Kinergy's gross profit margin
in the third quarter of 2005 is generally reflective of opportunistic buying and
selling during a period of rapidly increasing market prices. The decrease in
Kinergy's gross profit margin in the fourth quarter of 2005 resulted primarily
from the transition to new sales contracts beginning in the fourth quarter of
2005 at lower market prices. As noted above, the price of ethanol declined
during the first and second quarters of 2005 by approximately 25% from its 2004
average price per gallon in five months from January 2005 through May 2005 and
reversed this decline and increased during the third quarter of 2005 to
approximately 55% above its 2004 average price per gallon in four months from
June 2005 through September 2005. Since September 2005, the price of ethanol has
generally trended downward and the average price of ethanol for the fourth
quarter of 2005 was approximately 24% above its 2004 average price per gallon.

Management correctly anticipated a softening in the price of ethanol in
early 2005, but neither management nor, we believe, the ethanol industry as a
whole, anticipated the speed and the extent of the decline in the price of
ethanol from January 2005 through May 2005. As a result, Kinergy was forced to
sell some ethanol at negative gross profit levels following the rapid and
extensive decline in the price of ethanol. In the second quarter of 2005, and
before ethanol prices increased to levels significantly higher than their recent
lows, Kinergy sold much of this ethanol inventory that was acquired at prices
higher than those prevailing at the time of sale. Accordingly, despite the
general increase in ethanol prices during the second quarter of 2005, this
inventory and these sales still had the effect of depressing Kinergy's gross
profit margin to 0.7% for the entire second quarter of 2005 and to 0.8% for the
six months ended June 30, 2005. However, as a result of the substantial increase
in the price of ethanol during the third quarter of 2005, and the opportunistic
buying and selling of ethanol during that period, Kinergy's gross profit margin
increased to 6.2% for the third quarter of 2005, a level significantly higher
than our gross profit margins for either the first or second quarters of 2005.
As noted above, our results in the third quarter of 2005, together with our
results in the fourth quarter of 2005, raised Kinergy's gross profit margin to
3.6% for year ended December 31, 2005.

Management decided to maintain net long ethanol positions in the first and
second quarters of 2005 as a result of a confluence of factors, including its
expectation of increased prices of gasoline and petroleum and anticipated
favorable federal legislation that we expected would increase the demand for and
price of ethanol over the short- and longer-terms. We believe that these factors
were, however, outweighed by a sudden but short-lived excess of ethanol supplied
to the market by a number of new ethanol production facilities. We believe that
the sudden and short-lived excess of ethanol supplied to the market coupled with
higher market-wide inventory levels caused the rapid and steep decline in the
price of ethanol. Following its rapid decline during January 2005 through May
2005, the price of ethanol reversed and subsequently increased to unprecedented
high levels from June 2005 through September 2005. Though prices showed a
moderate downward trend in the fourth quarter of 2005, we believe that the
year's overall trend of increasing ethanol prices reflects the market's
relatively quick absorption of the additional supply of ethanol that was, and
that continues to be, supplied to the market by new ethanol production
facilities.

SHARE EXCHANGE TRANSACTION

On March 23, 2005, we completed a share exchange transaction, or the Share
Exchange Transaction, with the shareholders of PEI California, and the holders
of the membership interests of each of Kinergy and ReEnergy, pursuant to which
we acquired all of the issued and outstanding shares of capital stock of PEI
California and all of the outstanding membership interests of each of Kinergy
and ReEnergy. Immediately prior to the consummation of the share exchange, our
predecessor, Accessity Corp., or Accessity, reincorporated in the State of
Delaware under the name "Pacific Ethanol, Inc." through a merger of Accessity
with and into its then-wholly-owned Delaware subsidiary named Pacific Ethanol,
Inc., which was formed for the purpose of effecting the reincorporation. We are
the surviving entity resulting from the reincorporation merger and Kinergy, PEI
California and ReEnergy are three of our wholly-owned subsidiaries.

The Share Exchange Transaction has been accounted for as a reverse
acquisition whereby PEI California is deemed to be the accounting acquiror. As a
result, our results of operations for 2004 consist of the operations of PEI
California only. We have consolidated the results of PEI California, Kinergy and
ReEnergy beginning March 23, 2005, the date of the Share Exchange Transaction.
Accordingly, our results of operations for 2005 consist of the operations of PEI
California for the entire 12-month period and the operations of Kinergy and
ReEnergy from March 23, 2005 through December 31, 2005. We expect that, until we
complete construction of our ethanol production facility in Madera County, our
operations will consist solely of operations conducted by Kinergy.

In connection with the Share Exchange Transaction, we issued an aggregate
of 20,610,987 shares of common stock to the shareholders of PEI California,
3,875,000 shares of common stock to the limited liability company member of
Kinergy and an aggregate of 125,000 shares of common stock to the limited
liability company members of ReEnergy. In addition, holders of options and
warrants to acquire an aggregate of 3,157,587 shares of common stock of PEI
California were, following the consummation of the Share Exchange Transaction,
deemed to hold warrants to acquire an equal number of our shares of common
stock. Also, a holder of a promissory note, a portion of which was convertible
into an aggregate of 664,879 shares of common stock of PEI California was,
following the consummation of the Share Exchange Transaction, entitled to
convert the note into an equal number of shares of our common stock.

The following table summarizes the unaudited assets acquired and
liabilities assumed in connection with the Share Exchange Transaction:

Accessity Kinergy ReEnergy
March 23, 2005 March 23, 2005 March 23, 2005 Total
---------------- ---------------- ---------------- ---------------

Current Assets
Cash $ 2,870,270 $ 454,099 $ 2,555 $ 3,326,924
Other current assets -- 3,407,272 -- 3,407,272
--------------- --------------- --------------- --------------
Total Current Assets 2,870,270 3,861,371 2,555 6,734,196
--------------- --------------- --------------- --------------
Property and Equipment -- 6,224 -- 6,224
--------------- --------------- --------------- --------------
Other Assets
Land option -- -- 120,000 120,000
--------------- --------------- --------------- --------------
Intangible Assets
Distribution backlog -- 136,000 -- 136,000
Customer relations -- 4,741,000 -- 4,741,000
Non-compete -- 695,000 -- 695,000
Trade name -- 2,678,000 -- 2,678,000
Goodwill -- 2,565,750 -- 2,565,750
--------------- --------------- --------------- --------------
Total Intangible Assets -- 10,815,750 -- 10,815,750
--------------- --------------- --------------- --------------

Total Assets 2,870,270 14,683,345 122,555 17,676,170
--------------- --------------- --------------- --------------
Current Liabilities
Accounts payable and accrued expenses 138,978 1,771,981 1,116 1,912,075
Amount due to Cagan-McAfee 83,017 -- -- 83,017
Due to Kinergy/ReEnergy Members -- 2,095,614 1,439 2,097,053
--------------- --------------- --------------- --------------
Total Current Liabilities 221,995 3,867,595 2,555 4,092,145
--------------- --------------- --------------- --------------

Net Assets $ 2,648,275 $ 10,815,750 $ 120,000 $ 13,584,025
=============== =============== =============== ==============

Expense for services rendered in
connection with feasibility study $ -- $ -- $ 852,250 $ 852,250
=============== =============== =============== ==============

Stock Issued 2,339,452 3,875,000 125,000 6,339,452
Stock issued to Accessity officers 600,000 -- -- 600,000
Stock Issued as finders fee 150,000 -- -- 150,000
--------------- --------------- --------------- --------------
Total Stock Issued 3,089,452 3,875,000 125,000 7,089,452
=============== =============== =============== ==============

The purchase price represented a significant premium over the recorded net
worth of the acquired entities' assets. In deciding to pay this premium, we
considered various factors, including the value of Kinergy's trade name,
Kinergy's extensive market presence and history, Kinergy's industry knowledge
and expertise, Kinergy's extensive customer relationships and expected synergies
with Kinergy's business and assets and our planned entry into the ethanol
production business.

The following table summarizes, on an unaudited pro forma basis, our
combined results of operations, as though the acquisitions occurred as of
January 1, 2004. The pro forma amounts give effect to appropriate adjustments
for amortization of intangibles and income taxes. The pro forma amounts
presented are not necessarily indicative of future operating results.

Year Ended December 31,
-----------------------------------
2005 2004
-------------- --------------

Net sales $ 111,186,711 $ 82,810,168
============== ==============
Net loss $ (9,829,336) $ (3,706,158)
============== ==============
Loss per share of common stock
Basic and diluted $ (0.35) $ (0.13)
============== ==============

Prior to the Share Exchange Transaction, through its wholly-owned
subsidiary Sentaur Corp., Accessity was in the business of providing medical
billing recovery services for hospitals. Sentaur Corp.'s services were designed
to help hospitals recoup discounts improperly taken by insurance companies and
other institutional payors of medical treatments. In addition, through its
wholly-owned subsidiary DriverShield CRM Corp., Accessity was in the business of
providing internet-based vehicle repair management services, including collision
and general repair programs, estimating and auditing services and vehicle
rentals for insurance companies and affinity group members.

COMMON STOCK FINANCING

On March 23, 2005, prior to the consummation of the Share Exchange
Transaction, PEI California issued to 63 accredited investors in a private
offering an aggregate of 7,000,000 shares of common stock at a purchase price of
$3.00 per share, two-year investor warrants to purchase 1,400,000 shares of
common stock at an exercise price of $3.00 per share and two-year investor
warrants to purchase 700,000 shares of common stock at an exercise price of
$5.00 per share, for total gross proceeds of approximately $21,000,000. PEI
California paid cash placement agent fees and expenses of approximately
$1,850,400 and issued five-year placement agent warrants to purchase 678,000
shares of common stock at an exercise price of $3.00 per share in connection
with the offering. Additional costs related to the financing include legal,
accounting and consulting fees that totaled approximately $274,415.

We were obligated under a registration rights agreement, or Registration
Rights Agreement, related to the above financing to file, on the 151st day
following March 23, 2005, a Registration Statement with the Securities and
Exchange Commission, or the Commission, registering for resale shares of common
stock, and shares of common stock underlying investor warrants and certain of
the placement agent warrants, issued in connection with the private offering. If
(i) we did not file the Registration Statement within the time period
prescribed, or (ii) we failed to file with the Commission a request for
acceleration in accordance with Rule 461 promulgated under the Securities Act of
1933, within five trading days of the date that we are notified (orally or in
writing, whichever is earlier) by the Commission that the Registration Statement
will not be "reviewed," or is not subject to further review, or (iii) the
Registration Statement filed or required to be filed under the Registration
Rights Agreement was not declared effective by the Commission on or before
November 3, 2005, or (iv) after the Registration Statement is first declared
effective by the Commission, it ceases for any reason to remain continuously
effective as to all securities registered thereunder, or the holders of such
securities are not permitted to utilize the prospectus contained in the
Registration Statement to resell such securities, for more than an aggregate of
45 trading days during any 12-month period (which need not be consecutive
trading days) (any such failure or breach being referred to as an "Event," and
for purposes of clause (i) or (iii) the date on which such Event occurs, or for
purposes of clause (ii) the date on which such five-trading day period is
exceeded, or for purposes of clause (iv) the date on which such 45-trading
day-period is exceeded being referred to as "Event Date"), then in addition to
any other rights the holders of such securities may have under the Registration
Statement or under applicable law, then, on each such Event Date and on each
monthly anniversary of each such Event Date (if the applicable Event shall not
have been cured by such date) until the applicable Event is cured, we are
required to pay to each such holder an amount in cash, as partial liquidated
damages and not as a penalty, equal to 2.0% of the aggregate purchase price paid
by such holder pursuant to the Securities Purchase Agreement relating to such
securities then held by such holder. If we fail to pay any partial liquidated
damages in full within seven days after the date payable, we are required to pay
interest thereon at a rate of 18% per annum (or such lesser maximum amount that
is permitted to be paid by applicable law) to such holder, accruing daily from
the date such partial liquidated damages are due until such amounts, plus all
such interest thereon, are paid in full. The partial liquidated damages are to
apply on a daily pro-rata basis for any portion of a month prior to the cure of
an Event.

The Registration Rights Agreement also provides for customary piggy-back
registration rights whereby certain holders of shares of our common stock, or
warrants to purchase shares of our common stock, can cause us to register such
shares for resale in connection with our filing of a Registration Statement with
the Commission to register shares in another offering. The Registration Rights
Agreement also contains customary representations and warranties, covenants and
limitations.

The Registration Statement was not declared effective by the Securities
and Exchange Commission on or before 225 days following March 23, 2005. We
endeavored to have all security holders entitled to these registration rights
execute amendments to the Registration Rights Agreement reducing the penalty
from 2.0% to 1.0% of the aggregate purchase price paid by such holder pursuant
to the Securities Purchase Agreement relating to such securities then held by
such holder. This penalty reduction applied to penalties accrued on or prior to
January 31, 2006 as a result of the related Registration Statement not being
declared effective by the Securities and Exchange Commission. Certain of the
security holders executed this amendment. However, not all security holders
executed this amendment and as a result, we paid an aggregate of $298,050 in
penalties on November 8, 2005. The Registration Statement was declared effective
by the Securities and Exchange Commission on December 1, 2005.

PREFERRED STOCK FINANCING

GENERAL

On April 13, 2006, we issued to one investor, Cascade Investment, L.L.C.,
or Cascade, 5,250,000 shares of our Series A Cumulative Redeemable Convertible
Preferred Stock, or Series A Preferred Stock, at a price of $16.00 per share,
for an aggregate purchase price of $84.0 million. Of the $84.0 million aggregate
purchase price, $4.0 million was paid to us at closing and $80.0 million was
deposited into a restricted cash account and will be disbursed in accordance
with the Deposit Agreement described below. We are entitled to use the initial
$4.0 million of proceeds for general working capital purposes and must use the
remaining $80.0 million for the construction or acquisition of one or more
ethanol production facilities in accordance with the terms of the Deposit
Agreement described below.

CERTIFICATE OF DESIGNATIONS

The Certificate of Designations, Powers, Preferences and Rights of the
Series A Cumulative Redeemable Convertible Preferred Stock, or Certificate of
Designations, provides for 7,000,000 shares of preferred stock to be designated
as Series A Cumulative Redeemable Convertible Preferred Stock. The Series A
Preferred Stock ranks senior in liquidation and dividend preferences to our
common stock. Holders of Series A Preferred Stock are entitled to quarterly
cumulative dividends payable in arrears in cash in an amount equal to 5% of the
purchase price per share of the Series A Preferred Stock; however, such
dividends may, at our option, be paid in additional shares of Series A Preferred
Stock based on the value of the purchase price per share of the Series A
Preferred Stock. The holders of Series A Preferred Stock have a liquidation
preference over the holders of our common stock equivalent to the purchase price
per share of the Series A Preferred Stock plus any accrued and unpaid dividends
on the Series A Preferred Stock. A liquidation will be deemed to occur upon the
happening of customary events, including transfer of all or substantially all of
our capital stock or assets or a merger, consolidation, share exchange,
reorganization or other transaction or series of related transaction, unless
holders of 66 2/3% of the Series A Preferred Stock vote affirmatively in favor
of or otherwise consent to such transaction.

The holders of the Series A Preferred Stock have conversion rights
initially equivalent to two shares of common stock for each share of Series A
Preferred Stock. The conversion ratio is subject to customary antidilution
adjustments. In addition, antidilution adjustments are to occur in the event
that we issue equity securities at a price equivalent to less than $8.00 per
share, including derivative securities convertible into equity securities (on an
as-converted or as-exercised basis). Certain specified issuances will not result
in antidilution adjustments. The shares of Series A Preferred Stock are also
subject to forced conversion upon the occurrence of a transaction that would
result in an internal rate of return to the holders of the Series A Preferred
Stock of 25% or more. Accrued but unpaid dividends on the Series A Preferred
Stock are to be paid in cash upon any conversion of the Series A Preferred
Stock.

The holders of Series A Preferred Stock vote together as a single class
with the holders of our common stock on all actions to be taken by our
stockholders. Each share of Series A Preferred Stock entitles the holder to the
number of votes equal to the number of shares of our common stock into which
each share of Series A Preferred Stock is convertible. However, the number of
votes for each share of Series A Preferred Stock may not exceed the number of
shares of common stock into which each share of Series A Preferred Stock would
be convertible if the applicable conversion price were $8.99. The holders of
Series A Preferred Stock are afforded numerous customary protective provisions
with respect to certain actions that may only be approved by holders of a
majority of the shares of Series A Preferred Stock. The holders of the Series A
Preferred Stock are also afforded preemptive rights with respect to certain
securities offered by us and are entitled to certain redemption rights.

DEPOSIT AGREEMENT

The Deposit Agreement between us and Comerica Bank provides for a
restricted cash account into which $80.0 million of the aggregate purchase price
for the Series A Preferred Stock has been deposited. We may not withdraw funds
from the restricted cash account except in accordance with the terms of the
Deposit Agreement. Under the Deposit Agreement, we may, with certain prescribed
limitations, requisition funds from the restricted cash account for the payment
of construction costs in connection with the construction of ethanol production
facilities.

REGISTRATION RIGHTS AND STOCKHOLDERS AGREEMENT

In connection with the issuance of the Series A Preferred Stock, we
entered into a Registration Rights and Stockholders Agreement, or Rights
Agreement, with Cascade. The Rights Agreement is to be effective until the
holders of the Series A Preferred Stock, and their affiliates, as a group, own
less than 10% of the Series A Preferred Stock issued under the purchase
agreement with Cascade, including common stock into which such Series A
Preferred Stock has been converted (the "Termination Date"). The Rights
Agreement provides that holders of a majority of the Series A Preferred Stock,
including common stock into which the Series A Preferred Stock has been
converted, may demand and cause us, at any time after April 13, 2007, to
register on their behalf the shares of common stock issued, issuable or that may
be issuable upon conversion of the Series A Preferred Stock, or Registrable
Securities. Following such demand, we are required to notify any other holders
of the Series A Preferred Stock or Registrable Securities of our intent to file
a registration statement and, to the extent requested by such holders, include
them in the related registration statement. We are required to keep such
registration statement effective until such time as all of the Registrable
Securities are sold or until such holders may avail themselves of Rule 144(k),
which requires, among other things, a minimum two-year holding period and
requires that any holder availing itself of Rule 144(k) not be an affiliate of
Pacific Ethanol. The holders are entitled to three demand registrations on Form
S-1 and unlimited demand registrations on Form S-3; however, we are not
obligated to effect more than two demand registrations on Form S-3 in any
12-month period.

In addition to the demand registration rights afforded the holders under
the Rights Agreement, the holders are entitled to "piggyback" registration
rights. These rights entitle the holders who so elect to be included in
registration statements to be filed by us with respect to other registrations of
equity securities. The holders are entitled to unlimited "piggyback"
registration rights.

The Rights Agreement provides for the initial appointment of two persons
designated by Cascade to our Board of Directors, and the appointment of one of
such persons as the Chairman of the Compensation Committee of the Board of
Directors. Following the Termination Date, Cascade is required to cause its
director designees, and all other designees, to resign from all applicable
committees and boards of directors, effective as of the Termination Date.

DEBT FINANCING

OVERVIEW

On April 13, 2006, PEI California's second-tier subsidiary, Pacific
Ethanol Madera LLC, or PEI Madera, entered into a Construction and Term Loan
Agreement, or Construction Loan, with Hudson United Capital, or Hudson, and
Comerica Bank, or Comerica. This debt financing, or Debt Financing, is in the
aggregate amount of up to approximately $34.0 million and will provide a portion
of the total financing necessary for the completion of our ethanol production
facility in Madera County, or Project. The Project cost is not to exceed
approximately $65.1 million, or Project Cost.

We have contributed assets to PEI Madera having a value of approximately
$13.9 million (the "Contributed Assets"). We are is responsible for arranging
cash equity (the "Contributed Amount") in an amount that, when combined with the
Contributed Assets would be equal to no less than the difference between the
Debt Financing amount of $34.0 million and the total Project Cost. The
Contributed Amount is expected to be approximately $31.1 million and been
satisfied through the application of $17.7 million of Cascade's investment in
our Series A Preferred Stock.

CONSTRUCTION LOAN AND TERM LOAN

The Debt Financing will initially be in the form of a construction loan,
or Construction Loan, that will mature on or before the Final Completion Date,
after which the Debt Financing will be converted to a term loan, or Term Loan,
that will mature on the seventh anniversary of the closing of the Term Loan. If
the conversion does not occur and PEI Madera elects to repay the Construction
Loan, then PEI Madera must pay a termination fee equal to 5.00% of the amount of
the Construction Loan. The closing of the Term Loan is expected to be the Final
Completion Date. The Construction Loan interest rate will float at a rate equal
to the 30-day London Inter Bank Offered Rate, or LIBOR, plus 3.75%. PEI Madera
will be required to pay the Construction Loan interest monthly during the term
of the Construction Loan. The Term Loan interest rate will float at a rate equal
to the 90-day LIBOR plus 4.00%. PEI Madera will be required to purchase interest
rate protection in the form of a LIBOR rate cap of no more than 5.50% from a
provider on terms and conditions reasonably acceptable to Lender, and in an
amount covering no less than 70% of the principal outstanding on any loan
payment date commencing on the first draw down date through the fifth
anniversary of the Term Loan. Loan repayments on the Term Loan are to be due
quarterly in arrears for a total of 28 payments beginning on the closing of the
Term Loan and ending on its maturity date. The loan amortization for the Project
will be established on the closing of the Term Loan based upon the operating
cash projected to be available to PEI Madera from the Project as determined by
closing pro forma projections. The Debt Financing will be the only secured
indebtedness permitted on the Project. The Debt Financing will be senior to all
obligations of the Project and PEI Madera other than direct Project operating
expenses and expenses incurred in the ordinary course of business. All direct
and out-of-pocket expenses of Pacific Ethanol or our direct and indirect
subsidiaries will be reimbursed only after the repayment of the Debt Financing
obligations.

The Term Loan amount is to be the lesser of (i) $34.0 Million, (ii) 52.25%
of the total Project cost as of the Term Loan Conversion Date, and (iii) an
amount equal to the present value (discounted at an interest rate of 9.5% per
annum) of 43.67% of the operating cash distributable to and received by PEI
Madera supported by the closing pro forma projections, from the closing of Term
Loan through the seventh anniversary of such closing.

LENDER'S SECURITY INTEREST

The Debt Financing is secured by: (i) a perfected first priority security
interest in all of the assets of PEI Madera, including inventories and all right
title and interest in all tangible and intangible assets of the Project; (ii) a
perfected first priority security interest in the Project's grain facility,
including all of PEI Madera's and Pacific Ethanol's and its affiliates' right
title and interest in all tangible and intangible assets of the Project's grain
facility; (iii) a pledge of 100% of the ownership interest in PEI Madera; (iv) a
pledge of the PEI Madera's ownership interest in the Project; (v) an assignment
of all revenues produced by the Project and PEI Madera; (vi) the pledge and
assignment of the material Project documents, to the extent assignable; (vii)
all contractual cash flows associated with such agreements; and (viii) any other
collateral security as Lender may reasonably request. In addition, the
Construction Loan is secured by a completion bond provided by W.M. Lyles Co.

CRITICAL ACCOUNTING POLICIES

Our discussion and analysis of our financial condition and results of
operations are based upon our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States. The preparation of these financial statements requires us to make
estimates and judgments 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 amount of net sales and expenses for
each period. The following represents a summary of our critical accounting
policies, defined as those policies that we believe are the most important to
the portrayal of our financial condition and results of operations and that
require management's most difficult, subjective or complex judgments, often as a
result of the need to make estimates about the effects of matters that are
inherently uncertain.

REVENUE RECOGNITION

We derive revenue primarily from sales of ethanol. Our sales are based
upon written agreements or purchase orders that identify the amount of ethanol
to be purchased and the purchase price. Shipments are made to customers, either,
directly from suppliers or from our inventory to our customers by truck or rail.
Ethanol that is shipped by rail originates primarily in the Midwest and takes
from 10 to 14 days from date of shipment to be delivered to the customer or to
one of four terminals in California and Oregon. For local deliveries the product
is shipped by truck and delivered the same day as shipment. Revenue is
recognized upon delivery of ethanol to a customer's designated ethanol tank in
accordance with Staff Accounting Bulletin ("SAB") No. 104, REVENUE RECOGNITION,
and the related Emerging Issues Task Force ("EITF") Issue No. 99-19, REPORTING
REVENUE GROSS AS A PRINCIPAL VERSUS NET AS AN AGENT.

Revenues on the sale of ethanol, which is shipped from our stock of
inventory, are recognized when the ethanol has been delivered to the customer,
provided that appropriate signed documentation of the arrangement, such as a
signed contract, purchase order or letter of agreement, has been received, the
fee is fixed or determinable and collectibility is reasonably assured.

In accordance with EITF Issue No. 99-19, revenue from drop shipments of
third-party ethanol sales are recognized upon delivery, and recorded at the
gross amount when we are responsible for fulfillment of the customer order, have
latitude in pricing, incur credit risk on the receivable and have discretion in
the selection of the supplier. Shipping and handling costs are included in cost
of goods sold.

We have entered into certain contracts under which we may pay the owner of
the ethanol the gross payments received by us from third parties for forward
sales of ethanol less certain transaction costs and fees. From the gross
payments, we may deduct transportation costs and expenses incurred by or on
behalf of Pacific Ethanol in connection with the marketing of ethanol pursuant
to the agreement, including truck, rail and terminal fees for the transportation
of the facility's ethanol to third parties and may also deduct and retain a
marketing fee calculated after deducting these costs and expenses. During 2005,
we did not record revenues under these terms. If and when we do purchase and
sell ethanol under these terms, we will evaluate the proper recording of the
sales under EITF Issue No. 99-19.

INVENTORIES

Inventories consist of fuel ethanol and is valued at the lower of cost or
market, cost being determined on a first-in, first-out basis. Shipping, handling
and storage costs are classified as a component of cost of goods sold. Title to
ethanol transfers from the producer to us when the ethanol passes through the
inlet flange of our receiving tank.

INTANGIBLES, INCLUDING GOODWILL

We periodically evaluate our intangibles, including goodwill, for
potential impairment. Our judgments regarding the existence of impairment are
based on legal factors, market conditions and operational performance of our
acquired businesses.

In assessing potential impairment of goodwill, we consider these factors
and forecast financial performance of the acquired businesses. If forecasts are
not met, we may have to record additional impairment charges not previously
recognized. In assessing the recoverability of our goodwill and other
intangibles, we must make assumptions regarding estimated future cash flows and
other factors to determine the fair value of those respective assets. If these
estimates or their related assumptions change in the future, we may be required
to record impairment charges for these assets that were not previously recorded.
If that were the case, we would have to record an expense in order to reduce the
carrying value of our goodwill.

In connection with the Share Exchange Transaction and our acquisition of
Kinergy and ReEnergy, we engaged a valuation firm to determine what portion of
the purchase price should be allocated to identifiable intangible assets.
Through that process, we have estimated that for Kinergy, the distribution
backlog is valued at $136,000, the customer relationships are valued at
$4,741,000, a non-compete agreement is valued at $695,000 and the trade name is
valued at $2,678,000. We issued stock valued at $9,803,750 for the acquisition
of Kinergy. In addition, certain stockholders sold stock to the sole member of
Kinergy and a related party, increasing the purchase price by $1,012,000. The
purchase price for Kinergy totaled $10,815,750. Goodwill directly associated
with the Kinergy acquisition therefore totaled $2,565,750. The Kinergy trade
name is determined to have an indefinite life and therefore, rather than being
amortized, is being periodically tested for impairment. The distribution backlog
has an estimated life of six months, the customer relationships were estimated
to have a ten-year life and the non-compete had an estimated life of three years
and, as a result, will be amortized accordingly, unless otherwise impaired at an
earlier time.

We made a $150,000 cash payment and issued stock valued at $316,250 for
the acquisition of ReEnergy. In addition, certain stockholders sold stock to the
members of ReEnergy, increasing the purchase price by $506,000. The purchase
price for ReEnergy totaled $972,250. Of this amount, $120,000 was recorded as an
asset for the option to acquire land and because the acquisition of ReEnergy was
not deemed to be an acquisition of a business, the remaining purchase price of
$852,250 was recorded as an expense for services rendered in connection with a
feasibility study. Upon the expiration of the land option on December 15, 2005,
we expensed the $120,000 fair value of the option.

STOCK-BASED COMPENSATION

We account for stock-based compensation in accordance with Accounting
Principles Board Opinion ("APB") Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO
EMPLOYEES. Under the intrinsic-value method prescribed by APB Opinion No. 25,
compensation cost is the excess, if any, of the quoted market price of the stock
on the grant date of the option over the exercise price of the option.

Pro forma information regarding net loss and loss per share is required by
Statement of Financial Accounting Standards ("SFAS") No. 123, ACCOUNTING FOR
STOCK-BASED COMPENSATION, and has been determined as if we had accounted for our
employee stock options under the fair value method of that Statement. The
Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options that have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of highly
subjective assumptions including the expected stock price volatility. Because
our employee stock options have characteristics significantly different from
those of traded options, and because changes in the subjective input assumptions
can materially affect the fair value estimate, in management's opinion, the
existing models do not necessarily provide a reliable single measure of the fair
value of its employee stock options.

RESULTS OF OPERATIONS

The tables presented below, which compare our results of operations from
one period to another, present the results for each period, the change in those
results from one period to another in both dollars and percentage change, and
the results for each period as a percentage of net sales. The columns present
the following:

o The first two data columns in each table show the absolute results for
each period presented.

o The columns entitled "Dollar Variance" and "Percentage Variance" show
the change in results, both in dollars and percentages. These two
columns show favorable changes as a positive and unfavorable changes
as negative. For example, when our net sales increase from one period
to the next, that change is shown as a positive number in both
columns. Conversely, when expenses increase from one period to the
next, that change is shown as a negative in both columns.

o The last two columns in each table show the results for each period as
a percentage of net sales.

YEAR ENDED DECEMBER 31, 2005 COMPARED TO YEAR ENDED DECEMBER 31, 2004

RESULTS AS A
PERCENTAGE
DOLLAR PERCENTAGE OF NET SALES FOR THE
YEAR ENDED VARIANCE VARIANCE YEAR ENDED
DECEMBER 31, ------------ ------------- DECEMBER 31,
--------------------------- FAVORABLE FAVORABLE ----------------------
2005 2004 (UNFAVORABLE) (UNFAVORABLE) 2005 2004
------------- ------------ ------------- ------------- --------- -----------

Net sales................................. $ 87,599,012 $ 19,764 $ 87,579,248 443,125% 100.0% 100.0%
Cost of sales............................. 84,444,183 12,523 (84,431,660) (674,213) 96.4 63.4
------------- ------------ ------------- ------------- --------- -----------
Gross profit.............................. 3,154,829 7,241 3,147,588 43,469 3.6 36.6
Selling, general and administrative
expenses................................ 10,994,630 2,277,510 (8,717,120) (383) 12.6 11,523.5
Feasibility study expensed in connection
with acquisition of ReEnergy............ 852,250 -- (852,250) (100) 1.0 --
Acquisition cost expense in excess of
cash received........................... 480,948 -- (480,948) (100) 0.5 --
Discontinued design of cogeneration
facility................................ 310,523 -- (310,522) (100) 0.3 --
------------- ------------ ------------- ------------- --------- -----------
Loss from operations ..................... (9,483,521) (2,270,269) (7,213,252) (318) (10.8) (11,486.9)
Total other expense....................... (433,998) (530,698) 96,700 18 (0.5) (2,685.2)
------------- ------------ ------------- ------------- --------- -----------
Loss from operations before income taxes.. (9,917,519) (2,800,967) (7,116,552) (254) (11.3) (14,172.1)
Provision for income taxes ............... 5,600 1,600 (4,000) (250) -- 8.1
------------- ------------ ------------- ------------- --------- -----------

Net loss.................................. $ (9,923,119) $(2,802,567) $ (7,120,552) (254)% (11.3)% (14,180.2)%
============= ============ ============= ============= ========= ===========

NET SALES. Net sales for the year ended December 31, 2005 increased by
$87,579,248 to $87,599,012 as compared to $19,764 for the year ended December
31, 2004. Sales attributable to the acquisition of Kinergy on March 23, 2005
contributed $87,583,105 of this increase. Without the acquisition of Kinergy,
our net sales would have been $15,907.

GROSS PROFIT. Gross profit for 2005 increased by $3,147,588 to $3,154,829
as compared to $7,241 for 2004, primarily due to the acquisition of Kinergy on
March 23, 2005. Gross profit as a percentage of net sales decreased to 3.6% for
2005 as compared to 36.6% for 2004. This difference is attributable to the
acquisition of Kinergy on March 23, 2005.

Kinergy's gross profit margin declined from 3.9% in 2004 to 3.6% for 2005.
This slight decline in Kinergy's gross profit margin for 2005 resulted primarily
from a combination of factors. The transition from inventory sales contracts
ending in the first quarter of 2005 to new inventory sales contracts beginning
in the second quarter of 2005 during a period of rapidly declining market prices
reduced gross profit margins for the first and second quarters of 2005 as
compared to the same periods in 2004. This reduction was offset by rapidly
increasing market prices during the third quarter of 2005 resulting in a gross
profit margin of 6.2% for that period and a combined gross profit margin of 3.6%
for the nine months ended September 30, 2005. Kinergy sold ethanol under these
contracts from existing inventory that was purchased at levels higher than the
prevailing market price at the time of sale in the second quarter of 2005 and
conversely sold ethanol under these contracts from existing inventory that was
purchase at levels lower than the prevailing market price at the time of sale in
the third quarter. Kinergy's gross profit margin in the fourth quarter of 2005
was 3.7% as compared to 3.9% during the same period in 2004. Accordingly, the
fluctuation in ethanol prices during 2005, had the net effect of reducing
Kinergy's gross profit margin by 0.3% from 3.9% in 2004 to 3.6% in 2005.

SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses in 2005 increased by $8,717,120 (383%) to $10,994,630 as
compared to $2,277,510 in 2004. This increase was primarily due to $2,041,052 in
additional legal, accounting and consulting fees, $2,058,009 in abandoned debt
financing fees, $802,177 in additional amortization of intangibles and
$1,250,904 in additional payroll expense related to the three executive
employment agreements that became effective upon the consummation of the Share
Exchange Transaction on March 23, 2005, the addition of two staff positions in
May and June 2005, an employee promotion in May 2005, the addition of two
executive positions in June 2005, the addition of two high-level ethanol plant
management positions in September 2005 and the addition of three additional
staff positions in the fourth quarter of 2005. Additionally, non-cash
compensation and consulting fees increased $651,000 for non-cash compensation
from stock grants in connection with the hiring of two employees, $232,250 for a
stock grant that vested upon closing of the Share Exchange Transaction on March
23, 2005, $104,400 for non-cash consulting fees related to stock options granted
to a consulting firm in connection with the employment of our Chief Financial
Officer, $58,834 for non-cash compensation related to stock options granted in
connection with the hiring of two ethanol plant managers, $21,656 for non-cash
compensation related to stock options granted to reward employees for past
performance, $172,500 for non-cash consulting fees related to warrants that were
granted in February 2004 and vested over one year, and $822,636 for non-cash
consulting fees related to warrants that were granted in connection with the
Share Exchange Transaction that vest ratably over two years. The increase in
selling, general and administrative expenses was also due to $194,564 in
additional insurance expense related primarily to liability and property
coverage for our Madera County construction site, a $408,914 increase in
non-sales commission expense related to insurance proceeds for the casualty loss
at the Company's Madera facility, a $164,296 increase for expenses related to
the termination of the proposed acquisition of PBI, a $221,260 increase in
business travel expenses, a $81,899 increase in research and development
expense, a $168,027 increase in market and filing fees, a $164,542 increase in
policy and investor relations expenses, a $71,726 increase in rents, a $47,527
increase in advertising and marketing expense, an $54,780 increase in dues and
trade memberships, a $54,157 increase in printing and postage expense, a $25,057
increase in telephone expense, a $7,158 increase in bad debt expense, and the
net balance of $45,295 related to various increases in other selling, general
and administrative expenses.

We expect that over the near-term, our selling, general and administration
expenses will increase as a result of, among other things, increased legal and
accounting fees associated with increased corporate governance activities in
response to the Sarbanes-Oxley Act of 2002, recently adopted rules and
regulations of the Securities and Exchange Commission, increased employee costs
associated with planned staffing increases, increased sales and marketing
expenses, increased activities related to the construction of our Madera County
ethanol production facility and increased activity in searching for and
analyzing potential acquisitions.

SERVICES RENDERED IN CONNECTION WITH FEASIBILITY STUDY. Services rendered
in connection with feasibility study in 2005 increased by $852,250 (100%) as
compared to $0 in 2004. This amount arose in the connection with the acquisition
of ReEnergy and relates to a feasibility study for an ethanol plant in Visalia,
California. Based on this study, ReEnergy entered into an option to buy land for
the ethanol plant that expired on December 15, 2005.

DISCONTINUED DESIGN OF COGENERATION FACILITY. We had recorded $310,522 as
construction in progress related to the design of an energy cogeneration
facility at our Madera ethanol production facility. Based on various factors
including increased project complexity and rising natural gas costs, making
construction less favorable, further development was not pursued and we expensed
the full amount at December 31, 2005.

OTHER INCOME/(EXPENSE). Other income/(expense) increased by $96,700 to
($433,998) in 2005 as compared to ($530,698) in 2004, primarily due to a
$345,261 increase in interest income on cash held in seven day investment
accounts, $27,726 in management fees and other income, a net decrease of $37,232
in interest expense related to long-term debt, amortization of discount, and
construction payables, net of capitalized interest related to our planned Madera
County ethanol plant, an increase of ($15,010) in bank charges, finance charges,
and short-term interest, and an increase in liquidated damages and fees paid to
shareholders in the amount of ($298,509).

LIQUIDITY AND CAPITAL RESOURCES

During 2005, we funded our operations primarily from $2,596,765 in net
income from Kinergy, $18,875,185 in net proceeds we received in connection with
PEI California's private offering of common stock and warrants to purchase
common stock in March 2005, and $939,384 in net proceeds from the exercise of
warrants and options to purchase shares of our common stock. As of December 31,
2005, we had negative working capital of $2,894,133, which represented a
$1,869,386 decrease from negative working capital of $1,024,747 at December 31,
2004. This decrease in working capital is primarily due to accounts payable from
the acquisition of Kinergy and accounts payable to W.M. Lyles Co. for the
construction of the Madera ethanol production facility. As of December 31, 2005
and 2004, we had an accumulated deficit of $13,584,365 and $3,661,246,
respectively, and cash and cash equivalents of $4,521,111 and $42, respectively.

Our current available capital resources consist primarily of approximately
$4.5 million in cash and $2.75 million in investments in marketable securities
as of December 31, 2005. This amount was primarily raised through the private
offering by PEI California described above and the exercise of outstanding
warrants and options. We expect that our future available capital resources will
consist primarily of any balance of the $4.5 million in cash and $2.75 million
in investments in marketable securities as of December 31, 2005, cash generated
from Kinergy's ethanol marketing business, if any, restricted and unrestricted
proceeds from the issuance of our Series A Preferred Stock, and any future debt
and/or equity financings.

Short-term investments increased $2,750,000 from $0 to $2,750,000 as of
December 31, 2005. Short-term investments mainly consist of Auction Rate
Securities, or ARS. ARS generally have long-term maturities beyond three months
but are priced and traded as short-term instruments.

Accounts receivable increased $4,939,074 during 2005 from $8,464 as of
December 31, 2004 to $4,947,538 as of December 31, 2005. Sales attributable to
the acquisition of Kinergy contributed substantially all of this increase.

Inventory balances increased $362,972 during 2005, from $0 as of December
31, 2004 to $362,972 as of December 31, 2005. This increase was entirely due to
the acquisition of Kinergy. Inventory represented 0.75% of our total assets as
of December 31, 2005.

Cash provided by our operating activities totaled $4,007,011 in 2005 as
compared to cash used in our operating activities of $454,515 in 2004. This
$4,461,526 increase in cash provided by operating activities primarily resulted
from an increase in accounts payable and accrued expenses.

Cash used in our investing activities totaled $17,250,958 in 2005 as
compared to $969,998 of cash used in 2004. Included in the results for the year
ended December 31, 2005 are net cash of $540,825 used in connection with the
Share Exchange Transaction, net cash of $17,272,971 used to purchase property,
plant and equipment, $15,000,000 from the sale of available-for-sale
investments, $12,250,000 used purchase available-for-sale investments, $14,086
used for payment of deposits, and net cash of $3,326,924 that we acquired in
connection with the Share Exchange Transaction.

Cash provided by our financing activities totaled $17,765,016 in 2005 as
compared to $1,175,471 in 2004. The change is due to the net proceeds of
$18,875,185 from a private offering of equity securities on March 23, 2005, as
described above, $2,097,053 used as payment of notes payable to Kinergy and
ReEnergy, $300,000 used as payment of related party notes payable
$280,000 proceeds from notes payable to a related party, $939,384 from the
exercise of warrants and options to purchase shares of our common stock and the
receipt of $67,500 in connection with a stockholder receivable.

On April 13, 2006, we issued to Cascade 5,250,000 shares of our Series A
Preferred Stock at a price of $16.00 per share for an aggregate purchase price
of $84.0 million. Of the $84.0 million aggregate purchase price, $4.0 million
was paid to us at closing and $80.0 million has been deposited into a restricted
cash account and will be disbursed in accordance with the Deposit Agreement
described above. We are entitled to use the initial $4.0 million of proceeds for
general working capital and must use the remaining $80.0 million for the
construction or acquisition of one or more ethanol production facilities in
accordance with the terms of the Deposit Agreement.

On April 13, 2006, PEI Madera entered into a Construction Loan with Hudson
and Comerica for debt financing in the aggregate amount of up to approximately
$34.0 million. We must use these loan proceeds for the construction of our
Madera County ethanol production facility.

We have a $2.0 million revolving line of credit with Comerica Bank, or
Comerica, that we use from time to time in connection with the operations of
Kinergy. Principal amounts outstanding under the line of credit accrue interest,
on a per annum basis, at Comerica's "base rate" of interest plus 1.0%.
Comerica's "base rate" of interest is currently the prime rate of interest and
is subject to adjustment from time to time by Comerica. As of December 31, 2005,
the interest rate on principal amounts outstanding under the line of credit
would have been 8.25%. There were no balances outstanding on the line of credit
as of December 31, 2005 and 2004.

On October 1, 2005, we issued an Irrevocable Standby Letter of Credit by
Comerica Bank for any sum not to exceed a total of $400,000, leaving funds
available of $1.6 million on the line of credit. The designated beneficiary of
the letter of credit is one of our vendors, and the letter was initially valid
through March 31, 2006. On April 1, 2006, the Irrevocable Standby Letter of
Credit extended to September 30, 2006.

We have used a portion of the net proceeds from PEI California's private
offering that occurred in March 2005 to fund our working capital requirements
and begin site preparation at our Madera County site. We expect to use the
remainder of the net proceeds from this offering and the $4.0 million
unrestricted net proceeds from the offering of shares of our Series A Preferred
Stock to fund our working capital requirements over the next 12 months. A
portion of the proceeds from the Series A Preferred Stock financing and the
entire amount of the approximately $34.0 million in Debt Financing are expected
to be used as follows for a total cost of completion of our Madera County
ethanol production facility estimated at approximately $55.3 million: site work
($1.7 million); building and concrete ($7.0 million); site utilities ($1.1
million); equipment and tanks ($19.2 million); piping ($5.7 million); electrical
($3.7 million); and engineering, general conditions, and other ($16.9 million).
The above amounts do not include up to $10.2 million in additional funding
required for capital raising expenses, interest expense during construction, and
working capital.

The Registration Statement relating to PEI California's March 2005 private
offering described above was not declared effective by the Securities and
Exchange Commission on or before November 3, 2005 as required by the terms of
the Registration Rights Agreement. We endeavored to have all security holders
entitled to these registration rights execute amendments to the Registration
Rights Agreement reducing the penalty from 2.0% to 1.0% of the aggregate
purchase price paid by such holder pursuant to the Securities Purchase Agreement
relating to such securities then held by such holder. This penalty reduction
applied to penalties accrued on or prior to January 31, 2006 as a result of the
related Registration Statement not being declared effective by the Securities
and Exchange Commission. Certain of the security holders executed this
amendment. However, not all security holders executed this amendment and as a
result, we paid an aggregate of $298,050 in liquidated damages on November 8,
2005. The Registration Statement was declared effective by the Securities and
Exchange Commission on December 1, 2005.

We believe that current and future available capital resources, revenues
generated from operations, and other existing sources of liquidity, including
the credit facilities we have and the remaining proceeds we have from PEI
California's March 2005 private offering, our offering of Series A Preferred
Stock and the available proceeds from the Debt Financing, will be adequate to
meet our anticipated working capital and capital expenditure requirements for at
least the next twelve months. If, however, our capital requirements or cash flow
vary materially from our current projections, if unforeseen circumstances occur,
or if we require a significant amount of cash to fund future acquisitions, we
may require additional financing. Our failure to raise capital, if needed, could
restrict our growth or hinder our ability to compete.

EFFECTS OF INFLATION

The impact of inflation and changing prices has not been significant on
the financial condition or results of operations of either our company or our
operating subsidiaries.

IMPACTS OF NEW ACCOUNTING PRONOUNCEMENTS

In December 2004, the FASB issued SFAS No. 123R (revised 2004),
SHARE-BASED PAYMENT. SFAS No. 123R replaced SFAS No. 123, ACCOUNTING FOR
STOCK-BASED COMPENSATION, and superseded APB Opinion No. 25, ACCOUNTING FOR
STOCK ISSUED TO EMPLOYEES. In March 2005, the Securities and Exchange Commission
issued SAB No. 107, VALUATION OF SHARE-BASED PAYMENT ARRANGEMENT FOR PUBLIC
COMPANIES, which expresses views of the staff of the Securities and Exchange
Commission regarding the interaction between SFAS No. 123R and certain
Securities and Exchange Commission rules and regulations, and provides the
staff's views regarding the valuation of share-based payment arrangements for
public companies. SFAS No. 123R will require compensation cost related to
share-based payment transactions to be recognized in the financial statements.
SFAS No. 123R required public companies to apply SFAS No. 123R in the first
interim or annual reporting period beginning after June 15, 2005. In April 2005,
the Securities and Exchange Commission approved a new rule that delays the
effective date, requiring public companies to apply SFAS No. 123R in their next
fiscal year, instead of the next interim reporting period, beginning after June
15, 2005. As permitted by SFAS No. 123, we elected to follow the guidance of APB
Opinion No. 25, which allowed companies to use the intrinsic value method of
accounting to value their share-based payment transactions with employees. SFAS
No. 123R requires measurement of the cost of share-based payment transactions to
employees at the fair value of the award on the grant date and recognition of
expense over the requisite service or vesting period. SFAS No. 123R requires
implementation using a modified version of prospective application, under which
compensation expense of the unvested portion of previously granted awards and
all new awards will be recognized on or after the date of adoption. SFAS No.
123R also allows companies to adopt SFAS No. 123R by restating previously issued
statements, basing the amounts on the expense previously calculated and reported
in their pro forma footnote disclosures required under SFAS No. 123. We will
adopt SFAS No. 123R using the modified prospective method in the first interim
period of fiscal 2006 and we are currently evaluating the impact that the
adoption of SFAS No. 123R will have on our consolidated results of operations
and financial position.

In May 2005, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 154, ACCOUNTING CHANGES AND ERROR CORRECTIONS, which addresses the
accounting and reporting for changes in accounting principles. SFAS No. 154
replaces APB Opinion No. 20 and FIN 20 and is effective for accounting changes
in fiscal years beginning after December 31, 2005. This Statement applies to all
voluntary changes in accounting principle. This Statement defines retrospective
application as the application of a different accounting principle to prior
accounting periods as if that principle had always been used or as the
adjustment of previously issued financial statements to reflect a change in the
reporting entity. This Statement redefines restatement as the revising of
previously issued financial statements to reflect the correction of an error.

In September 2005, the FASB reached a final consensus on EITF Issue No.
04-13, ACCOUNTING FOR PURCHASES AND SALES OF INVENTORY WITH THE SAME
COUNTERPARTY. EITF Issue No. 04-13 concludes that two or more legally separated
exchange transactions with the same counterparty should be combined and
considered as a single arrangement for purposes of applying APB Opinion No. 29,
ACCOUNTING FOR NONMONETARY TRANSACTIONS, when the transactions were entered into
"in contemplation" of one another. The consensus contains several indicators to
be considered in assessing whether two transactions are entered into in
contemplation of one another. If, based on consideration of the indicators and
the substance of the arrangement, two transactions are combined and considered a
single arrangement, an exchange of finished goods inventory for either raw
material or work-in-process should be accounted for at fair value. The
provisions of EITF Issue No. 04-13 are applied to transactions completed in
reporting periods beginning after March 15, 2006. We do not expect this
statement to have a material impact on our financial condition or our results of
operations.

In February 2006, the FASB issued SFAS No. 155, ACCOUNTING FOR CERTAIN
HYBRID FINANCIAL INSTRUMENTS, which amends SFAS No. 133, ACCOUNTING FOR
DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES, and SFAS No. 140, ACCOUNTING OR
THE IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS. Specifically, SFAS No. 155
amends SFAS No. 133 to permit fair value remeasurement for any hybrid financial
instrument with an embedded derivative that otherwise would require bifurcation,
provided the whole instrument is accounted for on a fair value basis.
Additionally, SFAS No. 155 amends SFAS No. 140 to allow a qualifying special
purpose entity to hold a derivative financial instrument that pertains to a
beneficial interest other than another derivative financial instrument. SFAS No.
155 applies to all financial instruments acquired or issued after the beginning
of an entity's first fiscal year that begins after September 15, 2006, with
early application allowed. The adoption of SFAS No. 155 is not expected to have
a material impact on tour results of operations or financial position.

RISK FACTORS

AN INVESTMENT IN OUR COMMON STOCK INVOLVES A HIGH DEGREE OF RISK. IN
ADDITION TO THE OTHER INFORMATION IN THIS REPORT AND IN OUR OTHER FILINGS WITH
THE SECURITIES AND EXCHANGE COMMISSION, YOU SHOULD CAREFULLY CONSIDER THE
FOLLOWING RISK FACTORS BEFORE DECIDING TO INVEST IN SHARES OF OUR COMMON STOCK
OR TO MAINTAIN OR INCREASE YOUR INVESTMENT IN SHARES OF OUR COMMON STOCK. IF ANY
OF THE FOLLOWING RISKS ACTUALLY OCCUR, IT IS LIKELY THAT OUR BUSINESS, FINANCIAL
CONDITION AND RESULTS OF OPERATIONS COULD BE SERIOUSLY HARMED. AS A RESULT, THE
TRADING PRICE OF OUR COMMON STOCK COULD DECLINE, AND YOU COULD LOSE PART OR ALL
OF YOUR INVESTMENT.

RISKS RELATED TO OUR COMBINED OPERATIONS

WE HAVE INCURRED SIGNIFICANT LOSSES IN THE PAST AND WE MAY INCUR SIGNIFICANT
LOSSES IN THE FUTURE. IF WE CONTINUE TO INCUR LOSSES, WE WILL EXPERIENCE
NEGATIVE CASH FLOW, WHICH MAY HAMPER OUR OPERATIONS, MAY PREVENT US FROM
EXPANDING OUR BUSINESS AND MAY CAUSE OUR STOCK PRICE TO DECLINE.

We have incurred losses in the past. As of December 31, 2005, we had an
accumulated deficit of approximately $13.6 million. For the year ended December
31, 2005, we incurred a net loss of approximately $9.9 million. We expect to
incur losses for the foreseeable future and at least until the completion of our
first ethanol production facility in Madera County. We estimate that the
earliest completion date of this facility and, as a result, our earliest date of
ethanol production, will not occur until the fourth quarter of 2006. We expect
to rely on cash from operations and financings to fund all of the cash
requirements of our business. If our net losses continue, we will experience
negative cash flow, which may hamper current operations and may prevent us from
expanding our business. We may be unable to attain, sustain or increase
profitability on a quarterly or annual basis in the future. If we do not
achieve, sustain or increase profitability our stock price may decline.

OUR INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM HAS ADVISED MANAGEMENT AND
OUR AUDIT COMMITTEE THAT THEY HAVE IDENTIFIED A MATERIAL WEAKNESS IN OUR
DISCLOSURE CONTROLS AND PROCEDURES. OUR BUSINESS AND STOCK PRICE MAY BE
ADVERSELY AFFECTED IF WE DO NOT REMEDIATE THIS MATERIAL WEAKNESS OR IF WE
HAVE OTHER MATERIAL WEAKNESSES IN OUR DISCLOSURE CONTROLS AND PROCEDURES.

In connection with its audit of our consolidated financial statements for
the year ended December 31, 2005, our independent registered public accounting
firm advised management of the following matter that the accounting firm
considered to be a material weakness: The current organization of our accounting
department does not provide us with the appropriate resources and adequate
technical skills to accurately account for and disclose our activities. Our
resources to produce reliable financial reports and fulfill our other
obligations as a public company are limited due to our small number of employees
and the limited public company experience of our management. The existence of
one or more material weaknesses in our disclosure controls and procedures could
result in errors in our financial statements and substantial costs and resources
may be required to rectify these material weaknesses. If we are unable to
produce reliable financial reports, investors could lose confidence in our
reported financial information, the market price of our stock could decline
significantly, we may be unable to obtain additional financing to operate and
expand our business, and our business and financial condition could be harmed.

THE HIGH CONCENTRATION OF OUR SALES WITHIN THE ETHANOL PRODUCTION AND
MARKETING INDUSTRY COULD RESULT IN A SIGNIFICANT REDUCTION IN SALES AND
NEGATIVELY AFFECT OUR PROFITABILITY IF DEMAND FOR ETHANOL DECLINES.

Our revenue is and will continue to be derived primarily from sales of
ethanol. Currently, the predominant oxygenate used to blend with gasoline is
ethanol. Ethanol competes with several other existing products and other
alternative products could also be developed for use as fuel additives. We
expect to be completely focused on the production and marketing of ethanol and
its co-products for the foreseeable future. We may be unable to shift our
business focus away from the production and marketing of ethanol to other
renewable fuels or competing products. Accordingly, an industry shift away from
ethanol or the emergence of new competing products may reduce the demand for
ethanol. A downturn in the demand for ethanol would significantly and adversely
affect our sales and profitability.

THROUGH A SUBSIDIARY, WE HAVE ISSUED A SIGNIFICANT AMOUNT OF DEBT, RESULTING
IN SUBSTANTIAL DEBT SERVICE REQUIREMENTS THAT COULD REDUCE THE VALUE OF YOUR
INVESTMENT.

Our subsidiary, PEI Madera, recently completed a debt financing of up to
approximately $34.0 million to be used to complete construction of our first
ethanol production facility in Madera County. As a result, our capital structure
is highly leveraged. Our debt levels and debt service requirements could have
important consequences which could reduce the value of your investment,
including:

o limiting our ability to borrow additional amounts for operating capital or
other purposes and causing us to be able to borrow additional funds only
on unfavorable terms;
o reducing funds available for operations and distributions because a
substantial portion of our cash flow will be used to pay interest and
principal on our debt;
o making us vulnerable to increases in prevailing interest rates;
o placing us at a competitive disadvantage because we may be substantially
more leveraged than some of our competitors;
o subjecting significant assets to liens, which means that there may be no
assets left for our stockholders in the event of a liquidation; and
o limiting our ability to adjust to changing market conditions, which could
increase our vulnerability to a downturn in our business or general
economic conditions.

If PEI Madera is unable to pay its debt service obligations, we could be
forced to reduce or eliminate dividends to our stockholders, if they were to
commence, and/or reduce or eliminate needed capital expenditures. It is possible
that we could be forced to sell assets, seek to obtain additional equity capital
or refinance or restructure all or a portion of this debt on substantially less
favorable terms. In the event that we are unable to refinance all or a portion
of this debt or raise funds through asset sales, sales of equity or otherwise,
we may be forced to liquidate and you could lose your entire investment.

GOVERNMENTAL REGULATIONS OR THE REPEAL OR MODIFICATION OF VARIOUS TAX
INCENTIVES FAVORING THE USE OF ETHANOL COULD REDUCE THE DEMAND FOR ETHANOL
AND CAUSE OUR SALES AND PROFITABILITY TO DECLINE.

Our business is subject to extensive regulation by federal, state and
local governmental agencies. We cannot predict in what manner or to what extent
governmental regulations will harm our business or the ethanol production and
marketing industry in general. For example the energy bill signed into law by
President Bush in August 2005 includes a national renewable fuels standard that
requires refiners to blend a percentage of renewable fuels into gasoline. This
legislation replaced the then current oxygenate requirements in the State of
California and may potentially decrease the demand for ethanol in the State of
California. If the demand for ethanol in the State of California decreases, our
sales and profitability would decline.

The fuel ethanol business benefits significantly from tax incentive
policies and environmental regulations that favor the use of ethanol in motor
fuel blends in the United States. Currently, a gasoline marketer that sells
gasoline without ethanol must pay a federal tax of $0.18 per gallon compared to
$0.13 per gallon for gasoline that is blended with 10% ethanol. Smaller credits
are available for gasoline blended with lesser percentages of ethanol. The
repeal or substantial modification of the federal excise tax exemption for
ethanol-blended gasoline or, to a lesser extent, other federal or state policies
and regulations that encourage the use of ethanol could have a detrimental
effect on the ethanol production and marketing industry and materially and
adversely affect our sales and profitability.

VIOLATIONS OF ENVIRONMENTAL REGULATIONS COULD SUBJECT US TO SEVERE PENALTIES
AND MATERIALLY AND ADVERSELY AFFECT OUR SALES AND PROFITABILITY.

The production and sale of ethanol is subject to regulation by agencies of
the federal government, including, but not limited to, the EPA, as well as other
agencies in each jurisdiction in which ethanol is produced, sold, stored or
transported. Environmental laws and regulations that affect our operations, and
that are expected to affect our planned operations, are extensive and have
become progressively more stringent. Applicable laws and regulations are subject
to change, which could be made retroactively. Violations of environmental laws
and regulations or permit conditions can result in substantial penalties,
injunctive orders compelling installation of additional controls, civil and
criminal sanctions, permit revocations and/or facility shutdowns. If significant
unforeseen liabilities arise for corrective action or other compliance, our
sales and profitability could be materially and adversely affected.

WE RELY HEAVILY ON OUR PRESIDENT AND CHIEF EXECUTIVE OFFICER, NEIL KOEHLER.
THE LOSS OF HIS SERVICES COULD ADVERSELY AFFECT OUR ABILITY TO SOURCE ETHANOL
FROM OUR KEY SUPPLIERS AND OUR ABILITY TO SELL ETHANOL TO OUR CUSTOMERS.

Our success depends, to a significant extent, upon the continued services
of Neil Koehler, who is our President and Chief Executive Officer. For example,
Mr. Koehler has developed key personal relationships with our ethanol suppliers
and customers. We greatly rely on these relationships in the conduct of our
operations and the execution of our business strategies. The loss of Mr. Koehler
could, therefore, result in the loss of our favorable relationships with one or
more of our ethanol suppliers and customers. In addition, Mr. Koehler has
considerable experience in the construction, start-up and operation of ethanol
production facilities and in the ethanol marketing business. Although we have
entered into an employment agreement with Mr. Koehler, that agreement is of
limited duration and is subject to early termination by Mr. Koehler under
certain circumstances. In addition, we do not maintain "key person" life
insurance covering Mr. Koehler or any other executive officer. The loss of Mr.
Koehler could also significantly delay or prevent the achievement of our
business objectives.

THE ETHANOL PRODUCTION AND MARKETING INDUSTRY IS EXTREMELY COMPETITIVE. MANY
OF OUR SIGNIFICANT COMPETITORS HAVE GREATER FINANCIAL AND OTHER RESOURCES
THAN WE DO AND ONE OR MORE OF THESE COMPETITORS COULD USE THEIR GREATER
RESOURCES TO GAIN MARKET SHARE AT OUR EXPENSE. IN ADDITION, CERTAIN OF OUR
SUPPLIERS MAY CIRCUMVENT OUR MARKETING SERVICES, CAUSING OUR SALES AND
PROFITABILITY TO DECLINE.

The ethanol production and marketing industry is extremely competitive.
Many of our significant competitors in the ethanol production and marketing
industry, such as Archer-Daniels-Midland Company, or ADM, have substantially
greater production, financial, research and development, personnel and marketing
resources than we do. In addition, we are not currently producing any ethanol
that we sell and therefore are unable to capture the higher gross profit margins
generally associated with production activities. As a result, our competitors,
who are presently producing ethanol, may have greater relative advantages
resulting from greater capital resources due to higher gross profit margins. As
a result, our competitors may be able to compete more aggressively and sustain
that competition over a longer period of time than we could. Our lack of
resources relative to many of our significant competitors may cause us to fail
to anticipate or respond adequately to new developments and other competitive
pressures. This failure could reduce our competitiveness and cause a decline in
our market share, sales and profitability.

In addition, some of our suppliers are potential competitors and,
especially if the price of ethanol remains at historically high levels, they may
seek to capture additional profits by circumventing our marketing services in
favor of selling directly to our customers. If one or more of our major
suppliers, or numerous smaller suppliers, circumvent our marketing services, our
sales and profitability will decline.

OUR FAILURE TO MANAGE OUR GROWTH EFFECTIVELY COULD PREVENT US FROM ACHIEVING
OUR GOALS.

Our strategy envisions a period of rapid growth that may impose a
significant burden on our administrative and operational resources. The growth
of our business, and in particular, the completion of construction of our
planned ethanol production facilities, will require significant investments of
capital and management's close attention. In addition to our plans to construct
additional ethanol production facilities after the completion of our first
facility in Madera County, we have entered into significant marketing agreements
with Front Range Energy, LLC and PBI, and we are seeking to enter into
additional similar agreements with companies that currently, or expect to,
produce ethanol, all of which may result in a substantial growth in our
marketing business. Our ability to effectively manage our growth will require us
to substantially expand the capabilities of our administrative and operational
resources and to attract, train, manage and retain qualified management,
technicians and other personnel. We may be unable to do so. In addition, our
failure to successfully manage our growth could result in our sales not
increasing commensurately with our capital investments. If we are unable to
successfully manage our growth, we may be unable to achieve our goals.

RISKS RELATING TO THE BUSINESS OF KINERGY

KINERGY'S PURCHASE AND SALE COMMITMENTS AS WELL AS ITS INVENTORY OF ETHANOL
HELD FOR SALE SUBJECT US TO THE RISK OF FLUCTUATIONS IN THE PRICE OF ETHANOL,
WHICH MAY RESULT IN LOWER OR EVEN NEGATIVE GROSS PROFIT MARGINS AND WHICH
COULD MATERIALLY AND ADVERSELY AFFECT OUR PROFITABILITY.

Kinergy's purchases and sales of ethanol are not always matched with sales
and purchases of ethanol at prevailing market prices. Kinergy commits from time
to time to the sale of ethanol to its customers without corresponding and
commensurate commitments for the supply of ethanol from its suppliers, which
subjects us to the risk of an increase in the price of ethanol. Kinergy also
commits from time to time to the purchase of ethanol from its suppliers without
corresponding and commensurate commitments for the purchase of ethanol by its
customers, which subjects us to the risk of a decline in the price of ethanol.
In addition, Kinergy increases inventory levels in anticipation of rising
ethanol prices and decreases inventory levels in anticipation of declining
ethanol prices. As a result, Kinergy is subject to the risk of ethanol prices
moving in unanticipated directions, which could result in declining or even
negative gross profit margins. Accordingly, our business is subject to
fluctuations in the price of ethanol and these fluctuations may result in lower
or even negative gross margins and which could materially and adversely affect
our profitability.

KINERGY DEPENDS ON A SMALL NUMBER OF CUSTOMERS FOR THE VAST MAJORITY OF ITS
SALES. A REDUCTION IN BUSINESS FROM ANY OF THESE CUSTOMERS COULD CAUSE A
SIGNIFICANT DECLINE IN OUR OVERALL SALES AND PROFITABILITY.

The vast majority of Kinergy's sales are generated from a small number of
customers. During 2005, sales to Kinergy's three largest customers, each of whom
accounted for 10% or more of total net sales, represented approximately 18%, 11%
and 10%, respectively, representing an aggregate of approximately 39%, of
Kinergy's total net sales. During 2004, sales to Kinergy's four largest
customers, each of whom accounted for 10% or more of total net sales,
represented approximately 13%, 12%, 12% and 12%, respectively, representing an
aggregate of approximately 49%, of Kinergy's total net sales. We expect that
Kinergy will continue to depend for the foreseeable future upon a small number
of customers for a significant portion of its sales. Kinergy's agreements with
these customers generally do not require them to purchase any specified amount
of ethanol or dollar amount of sales or to make any purchases whatsoever.
Therefore, in any future period, Kinergy's sales generated from these customers,
individually or in the aggregate, may not equal or exceed historical levels. If
sales to any of these customers cease or decline, Kinergy may be unable to
replace these sales with sales to either existing or new customers in a timely
manner, or at all. A cessation or reduction of sales to one or more of these
customers could cause a significant decline in our overall sales and
profitability.

KINERGY'S LACK OF LONG-TERM ETHANOL ORDERS AND COMMITMENTS BY ITS CUSTOMERS
COULD LEAD TO A RAPID DECLINE IN OUR SALES AND PROFITABILITY.

Kinergy cannot rely on long-term ethanol orders or commitments by its
customers for protection from the negative financial effects of a decline in the
demand for ethanol or a decline in the demand for Kinergy's services. The
limited certainty of ethanol orders can make it difficult for us to forecast our
sales and allocate our resources in a manner consistent with our actual sales.
Moreover, our expense levels are based in part on our expectations of future
sales and, if our expectations regarding future sales are inaccurate, we may be
unable to reduce costs in a timely manner to adjust for sales shortfalls.
Furthermore, because Kinergy depends on a small number of customers for a
significant portion of its sales, the magnitude of the ramifications of these
risks is greater than if Kinergy's sales were less concentrated within a small
number of customers. As a result of Kinergy's lack of long-term ethanol orders
and commitments, we may experience a rapid decline in our sales and
profitability.

KINERGY DEPENDS ON A SMALL NUMBER OF SUPPLIERS FOR THE VAST MAJORITY OF THE
ETHANOL THAT IT SELLS. IF ANY OF THESE SUPPLIERS IS UNABLE OR DECIDES NOT TO
CONTINUE TO SUPPLY KINERGY WITH ETHANOL IN ADEQUATE AMOUNTS, KINERGY MAY BE
UNABLE TO SATISFY THE DEMANDS OF ITS CUSTOMERS AND OUR SALES, PROFITABILITY
AND RELATIONSHIPS WITH OUR CUSTOMERS WILL BE ADVERSELY AFFECTED.

Kinergy depends on a small number of suppliers for the vast majority of
the ethanol that it sells. During 2005, Kinergy's three largest suppliers, each
of whom accounted for 10% or more of total purchases, represented approximately
22%, 20%, and 17%, respectively, of purchases, representing an aggregate of
approximately 59%, of the total ethanol Kinergy purchased for resale. During
2004, Kinergy's three largest suppliers, each of whom accounted for 10% or more
of the total purchases, represented approximately 27%, 23% and 14%,
respectively, of purchases, representing an aggregate of approximately 64% of
the total ethanol Kinergy purchased for resale. We expect that Kinergy will
continue to depend for the foreseeable future upon a small number of suppliers
for a significant majority of the ethanol that it purchases. In addition,
Kinergy sources the ethanol that it sells primarily from suppliers in the
Midwestern United States. The delivery of the ethanol that Kinergy sells is
therefore subject to delays resulting from inclement weather and other
conditions. Also, there is currently a substantial demand for ethanol which has,
for most of 2005, far exceeded ethanol production capacities and Kinergy's
management has, from time to time, found it very difficult to satisfy all the
demands for ethanol by Kinergy's customers. If any of these suppliers is unable
or declines for any reason to continue to supply Kinergy with ethanol in
adequate amounts, Kinergy may be unable to replace that supplier and source
other supplies of ethanol in a timely manner, or at all, to satisfy the demands
of its customers. If this occurs, our sales and profitability and Kinergy's
relationships with its customers will be adversely affected.

RISKS RELATING TO THE BUSINESS OF PEI CALIFORNIA

THE COMPLETION OF CONSTRUCTION OF OUR PLANNED ETHANOL PRODUCTION FACILITIES,
OTHER THAN OUR MADERA COUNTY FACILITY, WILL REQUIRE SIGNIFICANT ADDITIONAL
FUNDING, WHICH WE EXPECT TO RAISE THROUGH DEBT FINANCING. WE MAY NOT BE
SUCCESSFUL IN RAISING ADEQUATE CAPITAL WHICH MAY FORCE US TO ABANDON
CONSTRUCTION OF ONE OR MORE, OR EVEN ALL, OF OUR PLANNED ETHANOL PRODUCTION
FACILITIES, OTHER THAN OUR MADERA COUNTY FACILITY.

In order to complete the construction of the various planned ethanol
production facilities, other than our Madera County facility, we will require
significant additional funding. Any prospective debt financing transaction will
be subject to the negotiation of definitive documents and any closing under
those documents will be subject to the satisfaction of numerous conditions, many
of which are likely to be beyond our control. We may not be able to obtain any
funding from one or more lenders, or if funding is obtained, that it will be on
terms that we have anticipated or that are otherwise acceptable to us. If we are
unable to secure adequate debt financing, or debt financing on acceptable terms
is unavailable for any reason, we may be forced to abandon our construction of
one or more, or even all, of our planned ethanol production facilities, other
than our Madera County facility.

PEI CALIFORNIA HAS NOT CONDUCTED ANY SIGNIFICANT BUSINESS OPERATIONS AND HAS
BEEN UNPROFITABLE TO DATE. IF PEI CALIFORNIA FAILS TO COMMENCE SIGNIFICANT
BUSINESS OPERATIONS, IT WILL BE UNSUCCESSFUL, WILL DECREASE OUR OVERALL
PROFITABILITY AND WE WILL HAVE FAILED TO ACHIEVE ONE OF OUR SIGNIFICANT
GOALS.

PEI California has not conducted any significant business operations and
has been unprofitable to date. Accordingly, there is no prior operating history
by which to evaluate the likelihood of PEI California's success or its
contribution to our overall profitability. PEI California may never complete
construction of an ethanol production facility and commence significant
operations or, if PEI California does complete the construction of an ethanol
production facility, PEI California may not be successful or contribute
positively to our profitability. If PEI California fails to commence significant
business operations, it will be unsuccessful and will decrease our overall
profitability and we will have failed to achieve one of our significant goals.

THE MARKET PRICE OF ETHANOL IS VOLATILE AND SUBJECT TO SIGNIFICANT
FLUCTUATIONS, WHICH MAY CAUSE OUR PROFITABILITY TO FLUCTUATE SIGNIFICANTLY.

The market price of ethanol is dependent on many factors, including on the
price of gasoline, which is in turn dependent on the price of petroleum.
Petroleum prices are highly volatile and difficult to forecast due to frequent
changes in global politics and the world economy. The distribution of petroleum
throughout the world is affected by incidents in unstable political
environments, such as Iraq, Iran, Kuwait, Saudi Arabia, the former U.S.S.R. and
other countries and regions. The industrialized world depends critically on oil
from these areas, and any disruption or other reduction in oil supply can cause
significant fluctuations in the prices of oil and gasoline. We cannot predict
the future price of oil or gasoline and may establish unprofitable prices for
the sale of ethanol due to significant fluctuations in market prices. For
example, the price of ethanol declined by approximately 25% from its 2004
average price per gallon in only five months from January 2005 through May 2005.
In recent years, the prices of gasoline, petroleum and ethanol have all reached
historically unprecedented high levels. If the prices of gasoline and petroleum
decline, we believe that the demand for and price of ethanol may be adversely
affected. Fluctuations in the market price of ethanol may cause our
profitability to fluctuate significantly.

We believe that the production of ethanol is expanding rapidly. There are
a number of new plants under construction and planned for construction, both
inside and outside California. We expect existing ethanol plants to expand by
increasing production capacity and actual production. Increases in the demand
for ethanol may not be commensurate with increasing supplies of ethanol. Thus,
increased production of ethanol may lead to lower ethanol prices. The increased
production of ethanol could also have other adverse effects. For example,
increased ethanol production could lead to increased supplies of co-products
from the production of ethanol, such as wet distillers grain, or WDG. Those
increased supplies could lead to lower prices for those co-products. Also, the
increased production of ethanol could result in increased demand for corn. This
could result in higher prices for corn and cause higher ethanol production costs
and, in the event that PEI California is unable to pass increases in the price
of corn to its customers, will result in lower profits. We cannot predict the
future price of ethanol, WDG or corn. Any material decline in the price of
ethanol or WDG, or any material increase in the price of corn, will adversely
affect our sales and profitability.

THE CONSTRUCTION AND OPERATION OF OUR PLANNED ETHANOL PRODUCTION FACILITIES
MAY BE ADVERSELY AFFECTED BY ENVIRONMENTAL REGULATIONS AND PERMIT
REQUIREMENTS.

The production of ethanol involves the emission of various airborne
pollutants, including particulate matter, carbon monoxide, oxides of nitrogen
and volatile organic compounds. PEI California will be subject to extensive air,
water and other environmental regulations in connection with the construction
and operation of our planned ethanol production facilities. PEI California also
may be required to obtain various other water-related permits, such as a water
discharge permit and a storm-water discharge permit, a water withdrawal permit
and a public water supply permit. If for any reason PEI California is unable to
obtain any of the required permits, construction costs for our planned ethanol
production facilities are likely to increase; in addition, the facilities may
not be fully constructed at all. It is also likely that operations at the
facilities will be governed by the federal regulations of the Occupational
Safety and Health Administration, or OSHA, and other regulations. Compliance
with OSHA and other regulations may be time-consuming and expensive and may
delay or even prevent sales of ethanol in California or in other states.

VARIOUS RISKS ASSOCIATED WITH THE CONSTRUCTION OF OUR PLANNED ETHANOL
PRODUCTION FACILITIES MAY ADVERSELY AFFECT OUR SALES AND PROFITABILITY.

Delays in the construction of our planned ethanol production facilities or
defects in materials and/or workmanship may occur. Any defects could delay the
commencement of operations of the facilities, or, if such defects are discovered
after operations have commenced, could halt or discontinue operation of a
particular facility indefinitely. In addition, construction projects often
involve delays in obtaining permits and encounter delays due to weather
conditions, fire, the provision of materials or labor or other events. For
example, PEI California experienced a fire at its Madera County site during the
first quarter of 2004 which required repairs to areas and equipment damaged by
the fire. In addition, changes in interest rates or the credit environment or
changes in political administrations at the federal, state or local levels that
result in policy change towards ethanol or our project in particular, could
cause construction and operation delays. Any of these events may adversely
affect our sales and profitability.

PEI California may encounter hazardous conditions at or near each of its
planned facility sites, including the Madera County site that may delay or
prevent construction of a particular facility. If PEI California encounters a
hazardous condition at or near a site, work may be suspended and PEI California
may be required to correct the condition prior to continuing construction. The
presence of a hazardous condition would likely delay construction of a
particular facility and may require significant expenditure of resources to
correct the condition. For example, W.M. Lyles Co., the company we have selected
to construct our Madera County ethanol production facility, may be entitled to
an increase in its fees and afforded additional time for performance if it has
been adversely affected by the hazardous condition. If PEI Madera encounters any
hazardous condition during construction, our sales and profitability may be
adversely affected.

We have based our estimated capital resource needs on a design for our
first ethanol production facility in Madera County that we estimate will cost
$55.3 million to complete. The estimated cost of completion of the facility is
based on estimates, but the final construction cost of the facility may be
significantly higher. Any significant increase in the final construction cost of
the facility will adversely affect our profitability, liquidity and available
capital resources.

PEI MADERA'S DEPENDENCE ON AND AGREEMENTS WITH W.M. LYLES CO. FOR THE
CONSTRUCTION OF OUR ETHANOL PRODUCTION FACILITY IN MADERA COUNTY COULD
ADVERSELY AFFECT OUR LIQUIDITY AND AVAILABLE CAPITAL RESOURCES, OUR SALES AND
OUR PROFITABILITY.

PEI Madera will be highly dependent upon W.M. Lyles Co. to design and
build our ethanol production facility in Madera County. PEI Madera has entered
into agreements with W.M. Lyles Co. for the construction of this facility. These
agreements contain a number of provisions that are favorable to W.M. Lyles Co.
and unfavorable to PEI Madera. These agreements also include a provision that
requires PEI Madera to pay a termination fee of $5.0 million to W.M. Lyles Co.
in addition to payment of all costs incurred by W.M. Lyles Co. for services
rendered through the date of termination, if PEI Madera terminates it in favor
of another contractor. Consequently, if PEI Madera terminates these agreements,
the requirement that it pay the termination fee and costs could adversely affect
our liquidity and available capital resources. In addition, if W.M. Lyles Co.
has entered into or enters into a construction contract with one or more other
parties, it may be under pressure to complete another project or projects and
may prioritize the completion of another project or projects ahead of our Madera
County facility. As a result, PEI Madera's ability to commence production of and
sell ethanol would be delayed, which would adversely affect our overall sales
and profitability.

THE RAW MATERIALS AND ENERGY NECESSARY TO PRODUCE ETHANOL MAY BE UNAVAILABLE
OR MAY INCREASE IN PRICE, ADVERSELY AFFECTING OUR SALES AND PROFITABILITY.

The production of ethanol requires a significant amount of raw materials
and energy, primarily corn, water, electricity and natural gas. In particular,
we estimate that our Madera County ethanol production facility will require
approximately 12.5 million bushels or more of corn each year and significant and
uninterrupted supplies of water, electricity and natural gas. The prices of
corn, electricity and natural gas have fluctuated significantly in the past and
may fluctuate significantly in the future. In addition, droughts, severe winter
weather in the Midwest, where we expect to source corn, and other problems may
cause delays or interruptions of various durations in the delivery of corn to
California, reduce corn supplies and increase corn prices. Local water,
electricity and gas utilities may not be able to reliably supply the water,
electricity and natural gas that our Madera County facility will need or may not
be able to supply such resources on acceptable terms. In addition, if there is
an interruption in the supply of water or energy for any reason, we may be
required to halt ethanol production. We may not be able to successfully
anticipate or mitigate fluctuations in the prices of raw materials and energy
through the implementation of hedging and contracting techniques. PEI
California's hedging and contracting activities may not lower its prices of raw
materials and energy, and in a period of declining raw materials or energy
prices, these hedging and contracting strategies may result in PEI California
paying higher prices than its competitors. In addition, PEI California may be
unable to pass increases in the prices of raw materials and energy to its
customers. Higher raw materials and energy prices will generally cause lower
profit margins and may even result in losses. Accordingly, our sales and
profitability may be significantly and adversely affected by the prices and
supplies of raw materials and energy.

RISKS RELATED TO OUR COMMON STOCK

AS A RESULT OF OUR ISSUANCE OF SHARES OF SERIES A PREFERRED STOCK TO CASCADE,
COMMON STOCKHOLDERS MAY EXPERIENCE NUMEROUS NEGATIVE EFFECTS AND MOST OF THE
RIGHTS OF OUR COMMON STOCKHOLDERS WILL BE SUBORDINATE TO THE RIGHTS OF
CASCADE.

As a result of our issuance of shares of Series A Preferred Stock to
Cascade, common stockholders may experience numerous negative effects, including
substantial dilution. The 5,250,000 shares of Series A Preferred Stock issued to
Cascade is immediately be convertible into 10,500,000 shares of our common
stock, which amount, when issued, would, based upon the number of shares of our
common stock outstanding as of April 14, 2006, represent approximately 25.5% of
our shares outstanding and, in the event that we are profitable, would likewise
result in a decrease in our earnings per share by approximately 25.5%, without
taking into account cash or stock payable as a dividend on the Series A
Preferred Stock. In addition, income available to common stockholders will be
reduced during the second quarter of 2006 to the extent that the market price of
our common stock is in excess of the $8 per share purchase price, on an
as-converted basis, at which we issued the Series A Preferred Stock. This
reduction will be calculated based on the number of shares of common stock
deemed issued, on an as-converted basis, multiplied by the difference in the
market price of our common stock and the $8 per share purchase price.

Other negative effects to our common stockholders will include potential
additional dilution from dividends paid in Series A Preferred Stock and certain
antidilution adjustments. In addition, rights in favor of holders of our Series
A Preferred Stock include: seniority in liquidation and dividend preferences;
substantial voting rights; numerous protective provisions; the right to appoint
two persons to our board of directors and periodically nominate two persons for
election by our stockholders to our board of directors; preemptive rights; and
redemption rights. Also, the Series A Preferred Stock could have the effect of
delaying, deferring and discouraging another party from acquiring control of
Pacific Ethanol. In addition, based on our current number of shares of common
stock outstanding, Cascade would, on an as-converted basis, initially have
approximately 25.5% of all outstanding voting power as compared to approximately
30.0% of all outstanding voting power held in aggregate by our current executive
officers and directors. Any of the above factors may materially and adversely
affect our common stockholders and the values of their investments in our common
stock.

OUR COMMON STOCK HAS A SMALL PUBLIC FLOAT AND SHARES OF OUR COMMON STOCK
ELIGIBLE FOR PUBLIC SALE COULD CAUSE THE MARKET PRICE OF OUR STOCK TO DROP,
EVEN IF OUR BUSINESS IS DOING WELL, AND MAKE IT DIFFICULT FOR US TO RAISE
ADDITIONAL CAPITAL THROUGH SALES OF EQUITY SECURITIES.

As of March 31, 2006, we had outstanding approximately 30.5 million shares
of our common stock. Approximately 16.8 million of these shares were restricted
under the Securities Act of 1933, including approximately 9.3 million shares
beneficially owned, in the aggregate, by our executive officers, directors and
10% stockholders. Accordingly, our common stock has a public float of
approximately 11.9 million shares held by a relatively small number of public
investors.

We have registered for resale approximately 11.8 million shares of our
common stock, including shares of our common stock underlying warrants. Of this
amount, as of March 31, 2006, approximately 3.2 million shares of our common
stock, including shares of our common stock underlying warrants, remained
registered for resale and unsold. Holders of these remaining shares are
permitted, subject to few limitations, to freely sell these shares of common
stock. As a result of our small public float, sales of substantial amounts of
common stock, including shares issued upon the exercise of stock options or
warrants, or an anticipation that such sales could occur, may materially and
adversely affect prevailing market prices for our common stock. Any adverse
effect on the market price of our common stock could make it difficult for us to
raise additional capital through sales of equity securities at a time and at a
price that we deem appropriate.

OUR STOCK PRICE IS HIGHLY VOLATILE, WHICH COULD RESULT IN SUBSTANTIAL LOSSES
FOR INVESTORS PURCHASING SHARES OF OUR COMMON STOCK AND IN LITIGATION AGAINST
US.

The market price of our common stock has fluctuated significantly in the
past and may continue to fluctuate significantly in the future. The market price
of our common stock may continue to fluctuate in response to one or more of the
following factors, many of which are beyond our control:

o the volume and timing of the receipt of orders for ethanol from major
customers;

o competitive pricing pressures;
o our ability to produce, sell and deliver ethanol on a cost-effective and
timely basis;
o our inability to obtain construction, acquisition, capital equipment
and/or working capital financing;
o the introduction and announcement of one or more new alternatives to
ethanol by our competitors;
o changing conditions in the ethanol and fuel markets;
o changes in market valuations of similar companies;
o stock market price and volume fluctuations generally;
o regulatory developments or increased enforcement;
o fluctuations in our quarterly or annual operating results;
o additions or departures of key personnel; and
o future sales of our common stock or other securities.

Furthermore, we believe that the economic conditions in California and
other states, as well as the United States as a whole, could have a negative
impact on our results of operations. Demand for ethanol could also be adversely
affected by a slow-down in overall demand for oxygenate and gasoline additive
products. The levels of our ethanol production and purchases for resale will be
based upon forecasted demand. Accordingly, any inaccuracy in forecasting
anticipated revenues and expenses could adversely affect our business.
Furthermore, we recognize revenues from ethanol sales at the time of delivery.
The failure to receive anticipated orders or to complete delivery in any
quarterly period could adversely affect our results of operations for that
period. Quarterly results are not necessarily indicative of future performance
for any particular period, and we may not experience revenue growth or
profitability on a quarterly or an annual basis.

The price at which you purchase shares of our common stock may not be
indicative of the price that will prevail in the trading market. You may be
unable to sell your shares of common stock at or above your purchase price,
which may result in substantial losses to you and which may include the complete
loss of your investment. In the past, securities class action litigation has
often been brought against a company following periods of stock price
volatility. We may be the target of similar litigation in the future. Securities
litigation could result in substantial costs and divert management's attention
and our resources away from our business. Any of the risks described above could
adversely affect our sales and profitability and also the price of our common
stock.

ITEM 7. FINANCIAL STATEMENTS.

Our consolidated financial statements are included in this Form 10-KSB
beginning on page F-1.

ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.

None.

ITEM 8A. CONTROLS AND PROCEDURES.

EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES

We conducted an evaluation, with the participation of our Chief Executive
Officer and Chief Financial Officer, of the effectiveness of the design and
operation of our disclosure controls and procedures, as defined in Rules
13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended,
or the Exchange Act, as of December 31, 2005, to ensure that information
required to be disclosed by us in the reports filed or submitted by us under the
Exchange Act is recorded, processed, summarized and reported, within the time
periods specified in the Securities Exchange Commission's rules and forms,
including to ensure that information required to be disclosed by us in the
reports filed or submitted by us under the Exchange Act is accumulated and
communicated to management, including our principal executive and principal
financial officers, or persons performing similar functions, as appropriate to
allow timely decisions regarding required disclosure. Based on that evaluation,
our Chief Executive Officer and Chief Financial Officer have concluded that as
of December 31, 2005, our disclosure controls and procedures were not effective
at the reasonable assurance level due to the material weakness described below.

UNREMEDIATED MATERIAL WEAKNESS

A material weakness is a control deficiency (within the meaning of the
Public Company Accounting Oversight Board (PCAOB) Auditing Standard No. 2) or
combination of control deficiencies, that results in more than a remote
likelihood that a material misstatement of the annual or interim financial
statements will not be prevented or detected.

On April 7, 2006, in connection with its audit of our consolidated
financial statements for the year ended December 31, 2005, Hein & Associates
LLP, our independent registered public accounting firm ("Hein"), advised
management and our audit committee of the following matter that Hein considered
to be a material weakness: The current organization of our accounting department
does not provide us with the appropriate resources and adequate technical skills
to accurately account for and disclose our activities.

Hein stated that this matter is evidenced by the following issues
encountered in connection with its audit of our consolidated financial
statements for the year ended December 31, 2005: (i) we were unable to provide
accurate accounting for and disclosure of the Share Exchange Transaction, (ii)
our closing procedures were not adequate and resulted in significant accounting
adjustments, and (iii) we were unable to adequately perform the financial
reporting process as evidenced by a significant number of suggested revisions
and comments by Hein to our consolidated financial statements and related
disclosures for the year ended December 31, 2005.

As a result of the identification of this matter by Hein, management
evaluated, with consultation from our audit committee, in the second quarter of
2006 and as of December 31, 2005, the impact of our lack of appropriate
resources and adequate technical skills in our accounting department and
concluded, in the second quarter of 2006 and as of December 31, 2005, that the
control deficiency that resulted in our lack of appropriate resources and
adequate technical skills in our accounting department represented a material
weakness and concluded that, as of December 31, 2005, our disclosure controls
and procedures were not effective at the reasonable assurance level.

To initially address this material weakness, management performed
additional analyses and other procedures to ensure that the financial statements
included herein fairly present, in all material respects, our financial
position, results of operations and cash flows for the periods presented.

REMEDIATION OF MATERIAL WEAKNESS

To remediate the material weakness in our disclosure controls and
procedures identified above, we have done or intend to do the following
subsequent to December 31, 2005, in the periods specified below:

In the second quarter of 2006, we developed plans to alter the current
organization of our accounting department to hire additional personnel to assist
in our financial reporting processes, including a Director of Financial
Reporting who has expertise in public company financial reporting compliance and
at least one additional accounting supervisory support staff member who will
report to our Controller and/or our Director of Financial Reporting. Our plans
also include exploring the advisability of seeking guidance from financial
consultants who are certified public accountants with the requisite background
and experience to assist us in identifying and evaluating complex accounting and
reporting matters. In addition, we intend to define new internal processes for
identifying and disclosing both routine and non-routine transactions and for
researching and determining proper accounting treatment for those transactions.
We plan to assign individuals with appropriate knowledge and skills to perform
these processes and plan to provide those individuals with adequate technical
and other resources to help ensure the proper application of accounting
principles and the timely and appropriate disclosure of routine and non-routine
transactions. We also intend to hire a General Counsel who has expertise in
public company reporting compliance who will work with our Chief Financial
Officer and Director of Financial Reporting to help ensure that our disclosures
are timely and appropriate.

We believe that the new position of Director of Financial Reporting, once
it is filled with a suitable candidate, and our additional accounting
supervisory support staff member, once hired, will contribute additional
expertise to our team of finance and accounting personnel. We also believe that
our new position of General Counsel, once it is filled with a suitable
candidate, will contribute additional expertise to help ensure that our
reporting obligations are satisfied.

Management is unsure, at the time of the filing of this report, when the
actions described above will remediate the material weakness also described
above. Although management intends to hire the personnel identified above as
soon as practicable, it may take an extended period of time until suitable
candidates can be located and hired. Management is, however, optimistic that the
personnel identified above can be located and hired by the third quarter of 2006
and that the material weakness described above can be fully remediated by the
fourth quarter of 2006. In the interim period between the filing of this report
and the hiring of the accounting personnel identified above, management intends
to explore the advisability of hiring outside consultants to assist us in
satisfying our financial reporting obligations.

Management believes that suitable candidates for its new positions of
Director of Financial Reporting and General Counsel will have annual base
salaries in the range of $90,000 to $125,000 and $150,000 to $200,000,
respectively, not including benefits and other costs of employment. Management
also believes that a suitable candidate for our additional accounting
supervisory support staff member will have an annual base salary in the range of
$40,000 to $50,000, not including benefits and other costs of employment.
Management is unable, however, to estimate our expenditures related to fees, if
any, that may be paid to financial consultants in connection with their guidance
in identifying and evaluating complex accounting and reporting matters. In
addition, Management is unable to estimate our expenditures related to the
hiring of outside consultants to assist us in satisfying our financial reporting
obligations. Management is also unable to estimate our expenditures related to
the development of new internal processes for identifying and disclosing both
routine and non-routine transactions and for researching and determining proper
accounting treatment for those transactions. In addition, management is unable
to estimate our expenditures related to higher fees to be paid to our
independent auditors in connection with their review of this remediation.

PREVIOUSLY REMEDIATED MATERIAL WEAKNESS

In conjunction with the preparation of our Registration Statement on Form
S-1, and after receiving comments from the Staff of the Securities and Exchange
Commission relating to our Registration Statement on Form S-1, management
reviewed, during the third and fourth quarters of 2005, our purchase accounting
methodology for the acquisition of ReEnergy. As a result of this review,
management concluded, during the fourth quarter of 2005, that our controls over
the selection of appropriate assumptions and factors affecting our purchase
accounting methodology for the acquisition of ReEnergy were not in accordance
with generally accepted accounting principles. Based upon the foregoing,
management and our audit committee decided, in the fourth quarter of 2005, to
restate our financial statements as of and for the three months ended March 31,
2005 and the six months ended June 30, 2005 to reflect the correction in our
purchase accounting methodology. Management evaluated, in the fourth quarter of
2005 and as of September 30, 2005, the impact of this restatement on our
assessment of our disclosure controls and procedures and concluded, as of
September 30, 2005, that the control deficiency that resulted in the use of an
incorrect purchase accounting methodology represented a material weakness.

To remediate the material weakness in our disclosure controls and
procedures identified above, we revised our purchase accounting methodology as
it relates to the acquisition of ReEnergy. We determined that we made an error
in our application of the relevant accounting principles under SFAS No. 141,
paragraph 9 (with reference to EITF Issue No. 98-3) and determined that we
should have expensed $852,250 and capitalized $120,000 of the $972,250 purchase
price for ReEnergy. The revision of our purchase accounting methodology as it
relates to the acquisition of ReEnergy was completed in the fourth quarter of
2005. In addition, management resolved to use more care in the selection of
appropriate assumptions and factors affecting our purchase accounting
methodology for future acquisitions, if any.

Management believes that the remediation described above has remediated
the material weakness also described above. Management believes that our
expenditures associated with this remediation, not including the
reclassification as an expense of part of the purchase price for ReEnergy,
totaled approximately $20,000. These expenditures consisted primarily of legal
and accounting fees related to the filing of amendments to our Forms 10-QSB for
the quarterly periods ended March 31, 2005 and June 30, 2005.

CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING

The changes in our controls over the selection of appropriate assumptions
and factors affecting our purchase accounting methodology for the acquisition of
ReEnergy and our commitment to use more care in the selection of appropriate
assumptions and factors affecting our purchase accounting methodology for future
acquisitions, if any, are the only changes during our most recently completed
fiscal quarter that have materially affected or are reasonably likely to
materially affect, our internal control over financial reporting, as defined in
Rules 13a-15(f) and 15d-15(f) under the Exchange Act.

ITEM 8B. OTHER INFORMATION.

None.

PART III

ITEM 9. DIRECTORS AND EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT.

DIRECTORS AND EXECUTIVE OFFICERS

The names, ages and positions held by our directors and executive officers
as of April 13, 2006 are as follows:

NAME AGE POSITIONS HELD
---- --- --------------

William L. Jones........ 56 Chairman of the Board and Director

Neil M. Koehler......... 48 Chief Executive Officer, President and Director

Ryan W. Turner.......... 31 Chief Operating Officer and Secretary

William G. Langley...... 56 Chief Financial Officer

Frank P. Greinke........ 51 Director

Douglas L. Kieta (1).... 63 Director

John L. Prince (2)...... 63 Director

Terry L. Stone (3)...... 56 Director

Robert P. Thomas (4).... 28 Director
___________
(1) Member of the nominating and governance committee.
(2) Member of the audit committee.
(3) Member of the audit, nominating and governance, and compensation
committees.
(4) Member of the audit and compensation committees.

WILLIAM L. JONES has served as Chairman of the Board and as a director
since March 2005. Mr. Jones is a co-founder of PEI California and served as
Chairman of the Board of PEI California since its formation in January 2003
through March 2004, when he stepped off the board of PEI California to focus on
his candidacy for one of California's United States Senate seats. Mr. Jones was
California's Secretary of State from 1995 to 2003. Since May 2002, Mr. Jones has
also been the owner of Tri-J Land & Cattle, a diversified farming and cattle
company in Fresno County, California. Mr. Jones has a B.A. degree in
Agribusiness and Plant Sciences from California State University, Fresno.

NEIL M. KOEHLER has served as Chief Executive Officer, President and as a
director since March 2005. Mr. Koehler served as Chief Executive Officer of PEI
California since its formation in January 2003 and as Chairman of the Board
since March 2004. Prior to his association with PEI California, Mr. Koehler was
the co-founder and General Manager of Parallel Products, one of the first
ethanol production facilities in California (and one of only two currently
existing ethanol production facilities in California), which was sold to a
public company in 1997. Mr. Koehler was also the sole manager and sole limited
liability company member of Kinergy, which he founded in September 2000. Mr.
Koehler has over 20 years of experience in the ethanol production, sales and
marketing industry in the Western United States. Mr. Koehler is the Director of
the California Renewable Fuels Partnership and a speaker on the issue of
renewable fuels and ethanol production in California. Mr. Koehler has a B.A.
degree in Government, from Pomona College.

RYAN W. TURNER has served as Chief Operating Officer and Secretary since
March 2005 and served as a director from March 2005 until July 2005. Mr. Turner
is a co-founder of PEI California and served as its Chief Operating Officer and
Secretary and as a director and led the business development efforts of PEI
California since its inception in January 2003. Prior to co-founding and joining
PEI California, Mr. Turner served as Chief Operating Officer of Bio-Ag, LLC from
March 2002 until January 2003. Prior to joining Bio-Ag, LLC, Mr. Turner served
as General Manager of J & J Farms, a large-scale, diversified agriculture
operation on the west side of Fresno County, California from June 1997 to March
2002, where he guided the production of corn, cotton, tomatoes, melons, alfalfa
and asparagus crops and operated a custom beef lot. Mr. Turner has a B.A. degree
in Public Policy from Stanford University, an M.B.A. from Fresno State
University and was a member of Class XXIX of the California Agricultural
Leadership Program.

WILLIAM G. LANGLEY has served as Chief Financial Officer since April 2005.
Mr. Langley has been a partner in Tatum CFO Partners, LLP ("Tatum"), a national
partnership of more than 350 professional highly-experienced chief financial
officers, since November 2002. During this time, Mr. Langley has acted as the
full-time Chief Financial Officer for Ensequence, Inc., an inter-active
television software company, Norton Motorsports, Inc., a motorcycle
manufacturing and marketing company and Auctionpay, Inc., a software and
fundraising management company. From 2001 to 2002, Mr. Langley served as the
President, Chief Financial Officer and Chief Operating Officer for Laservia
Company, which specializes in advanced laser system technology. From 2000 to
2001, Mr. Langley acted as the Chief Financial Officer of Rulespace, Inc., a
developer of artificial intelligence software. Mr. Langley has prior public
company experience, is licensed both as an attorney and C.P.A. and will remain a
partner in Tatum during his employment with Pacific Ethanol. Mr. Langley has a
B.A. degree in accounting and political science from Albertson College, a J.D.
degree from Lewis & Clark School of Law and an LL.M. degree from the New York
University School of Law.

FRANK P. GREINKE has served as a director since March 2005. Mr. Greinke
served as a director of PEI California commencing in October 2003. Mr. Greinke
is currently, and has been for at least the past five years, the CEO and sole
owner of Southern Counties Oil Co., a petroleum distribution group. Mr. Greinke
is also a director of the Society of Independent Gasoline Marketers of America,
the Chairman of the Southern California Chapter of the Young Presidents
Organization and serves on the Board of Directors of The Bank of Hemet and on
the Advisory Board of Solis Capital Partners, Inc.

DOUGLAS L. KIETA has served as a director since April 2006. From April
1999 to April 2006, Mr. Kieta was employed at Calpine Corporation. At the time
of his retirement in April 2006, Mr. Kieta was the Senior Vice President of
Construction and Engineering with Calpine Corporation. Calpine Corporation is
a major North American power company which leases and operates integrated
systems of fuel-efficient natural gas-fired and renewable geothermal power
plants and delivers clean, reliable and fuel-efficient electricity to customers
and communities in 21 U.S. states and three Canadian provinces. Mr. Kieta has
a B.S. degree in civil engineering from Clarkson University and a master's
degree in civil engineering from Cornell University.

JOHN L. PRINCE has served as a director since July 2005. Mr. Prince is
retired but also works as a consultant to Land O' Lakes, Inc. and other
companies. Mr. Prince was an Executive Vice President with Land O' Lakes, Inc.
from July 1998 until his retirement in 2004. Prior to that time, Mr. Prince was
President and Chief Executive Officer of Dairyman's Cooperative Creamery
Association, or the DCCA, located in Tulare, California, until its merger with
Land O' Lakes, Inc. in July 1998. Land O' Lakes, Inc. is a farmer-owned,
national branded organization based in Minnesota with annual sales in excess of
$6 billion and membership and operations in over 30 states. Prior to joining the
DCCA, Mr. Prince was President and Chief Executive Officer for nine years until
1994, and was Operations Manager for the preceding ten years commencing in 1975,
of the Alto Dairy Cooperative in Waupun, Wisconsin. Mr. Prince has a B.A. degree
in Business Administration from the University of Northern Iowa.

TERRY L. STONE has served as a director since March 2005. Mr. Stone is a
Certified Public Accountant with over thirty years of experience in accounting
and taxation. He has been the owner of his own accountancy firm since 1990 and
has provided accounting and taxation services to a wide range of industries,
including agriculture, manufacturing, retail, equipment leasing, professionals
and not-for-profit organizations. Mr. Stone has served as a part-time instructor
at California State University, Fresno teaching classes in taxation, auditing,
and financial and management accounting. Mr. Stone is also a financial advisor
and franchisee of Ameriprise Financial Services, Inc. Mr. Stone has a B.S. in
Accounting from California State University, Fresno.

ROBERT P. THOMAS has served as a director since April 2006. Since July
1999, Mr. Thomas has held various positions and is currently a portfolio manager
with the William H. Gates III investment group which oversees Mr. Gates'
personal investments through Cascade Investment, L.L.C. and the investment
assets of the Bill and Melinda Gates Foundation. Mr. Thomas is a graduate of
Claremont McKenna College.

Our business, property and affairs are managed under the direction of our
board of directors. Our directors are kept informed of our business through
discussions with our executive officers, by reviewing materials provided to them
and by participating in meetings of our board of directors and its committees.
During 2005, our board of directors held 9 meetings attended by members of the
board of directors either in person or via telephone, and on 11 occasions
approved resolutions by unanimous written consent in lieu of a meeting.

Our officers are appointed by and serve at the discretion of our board of
directors. There are no family relationships among our executive officers and
directors, except that William L. Jones is the father-in-law of Ryan W. Turner.

BOARD COMMITTEES

Our board of directors currently has an audit committee, a compensation
committee and a nominating and governance committee. Our board of directors has
determined that Terry L. Stone, John L. Prince, Douglas L. Kieta and Robert
Thomas, each of whom is a member of one or more of these committees, are
"independent" as defined in NASD Marketplace Rule 4200(a)(15) and that Messrs.
Stone, Thomas and Prince meet the other criteria contained in NASD Marketplace
Rule 4350 relating to audit committee members.

The audit committee selects our independent auditors, reviews the results
and scope of the audit and other services provided by our independent auditors,
and reviews our financial statements for each interim period and for our year
end. From March 23, 2005 to April 13, 2006, this committee consisted of Terry L.
Stone, John L. Prince and Kenneth J. Friedman. Concurrent with Mr. Friedman's
resignation from the board on April 13, 2006, Mr. Thomas was appointed as a
member of the audit committee. The audit committee operates pursuant to a
charter approved by our board of directors and our audit committee. Our board of
directors has determined that Mr. Stone is an "audit committee financial
expert."

The compensation committee is responsible for establishing and
administering our policies involving the compensation of all of our executive
officers and establishing and recommending to our board of directors the terms
and conditions of all employee and consultant compensation and benefit plans.
Our entire board of directors also may perform these functions with respect to
our employee stock option plans. From March 23, 2005 to April 13, 2006, this
committee consisted of Messrs. Stone and Friedman. Concurrent with Mr.
Friedman's resignation from the board on April 13, 2006, Mr. Thomas was
appointed as a member and chairman of the compensation committee. The
compensation committee operates pursuant to a charter approved by our board of
directors and compensation committee.

The nominating committee selects nominees for the board of directors. From
March 23, 2005 to April 13, 2006, the nominating and governance committee has
consisted of Messrs. Stone and Friedman. Concurrent with Mr. Friedman's
resignation from the board on April 13, 2006, Mr. Kieta was appointed a member
of the nominating committee. The nominating and governance committee utilizes a
variety of methods for identifying and evaluating nominees for director.
Candidates may also come to the attention of the nominating and governance
committee through current board members, professional search firms and other
persons. The nominating and governance committee operates pursuant to a charter
approved by our board of directors and our nominating and governance committee.

During the period commencing on March 23, 2005, the closing of the Share
Exchange Transaction, and ending on December 31, 2005, all directors, other than
Messrs. Kieta and Thomas who were appointed as members of the board of directors
on April 13, 2006, attended at least 75% of the aggregate of the meetings of the
board of directors and of the committees on which they served, or that were held
during the period they were directors or committee members.

SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE

Section 16(a) of the Exchange Act requires our executive officers and
directors, and persons who beneficially own more than 10% of a registered class
of our common stock, to file initial reports of ownership and reports of changes
in ownership with the Securities and Exchange Commission ("Commission"). These
officers, directors and stockholders are required by the Commission regulations
to furnish us with copies of all reports that they file.

Based solely upon a review of copies of the reports furnished to us during
the year ended December 31, 2005 and thereafter, or any written representations
received by us from directors, officers and beneficial owners of more than 10%
of our common stock ("reporting persons") that no other reports were required,
we believe that, during 2005, except as set forth below, all Section 16(a)
filing requirements applicable to our reporting persons were met.

The following individuals did not timely file the following numbers of
Forms 4 to report the following numbers of transactions: John Pimentel -- 1
report, 1 transaction; William Jones -- 2 reports, 2 transactions; Terry Stone
-- 1 report, 1 transaction; Kenneth Friedman -- 1 report, 1 transaction; Frank
Greinke -- 1 report, 1 transaction; John L. Prince -- 1 report, 1 transaction;
Charles W. Bader -- 1 report, 1 transaction; William G. Langley -- 1 report, 1
transaction; Barry Siegel -- 7 reports, 31 transactions; Philip Kart -- 8
reports, 36 transactions.

The following individuals did not timely file Forms 3 upon becoming
directors or executive officers of Pacific Ethanol: William Jones, John L.
Prince, Charles W. Bader and William G. Langley.

We believe that each of the foregoing persons have prepared and filed all
required Forms 3 and 4 to report their respective transactions.

CODES OF ETHICS

Our board of directors has adopted a Code of Business Conduct and Ethics
that applies to all of our directors, officers and employees and an additional
Code of Business Ethics that applies to our Chief Executive Officer and senior
financial officers.

We intend to satisfy the disclosure requirement under Item 5.05 of Form
8-K relating to amendments to or waivers from provisions of these codes that
relate to one or more of the items set forth in Item 406(b) of Regulation S-B,
by describing on our Internet website, located at http://www.pacificethanol.net,
within four business days following the date of a waiver or a substantive
amendment, the date of the waiver or amendment, the nature of the amendment or
waiver, and the name of the person to whom the waiver was granted.

Information on our Internet website is not, and shall not be deemed to be,
a part of this report or incorporated into any other filings we make with the
Commission.

ITEM 10. EXECUTIVE COMPENSATION.

COMPENSATION OF EXECUTIVE OFFICERS

The following table shows for the period commencing on the closing of the
Share Exchange Transaction on March 23, 2005 through December 31, 2005,
compensation awarded or paid to, or earned by, our current Chief Executive
Officer and each of our other most highly compensated executive officers who
earned more than $100,000 in salary during that period, or the Named Executive
Officers. Mr. Siegel resigned his positions in connection with the Share
Exchange Transaction that was consummated on March 23, 2005. Information for Mr.
Siegel is provided for the years ended December 31, 2004 and 2003 and the period
from January 1, 2005 through March 23, 2005.

SUMMARY COMPENSATION TABLE

NAME AND PRINCIPAL POSITION YEAR ANNUAL COMPENSATION LONG-TERM COMPENSATION
--------------------------- ---- ------------------- -------------------------
AWARDS
-------------------------
SECURITIES
RESTRICTED UNDERLYING
STOCK OPTIONS/
SALARY ($) BONUS ($) AWARDS ($) SARS (#)
---- ---------- --------- ------------ ----------

Neil M. Koehler.......................... 2005 154,615(1) 300,000 -- --
President and Chief Executive Officer

Ryan W. Turner........................... 2005 109,135(1) -- -- --
Chief Operating Officer and Secretary

William G. Langley....................... 2005 149,375(1) -- -- 425,000
Chief Financial Officer

Barry Siegel............................. 2005 67,397(1) -- 3,620,000(2) --
Former Chairman of the Board, 2004 300,000 -- -- --
President and Chief Executive Officer 2003 300,000 -- -- --

___________________
(1) Messrs. Koehler, Turner and Langley each became executive officers, and
Mr. Siegel ceased to be an executive officer, of Pacific Ethanol on March
23, 2005.
(2) On March 23, 2005, we issued 400,000 shares of common stock to Mr. Siegel
in connection with his execution of a Confidentiality, Non-Competition,
Non-Solicitation and Consulting Agreement dated March 23, 2005. These
shares vested immediately and were not subject to forfeiture. Mr. Siegel
was eligible to receive dividends on these shares. As of December 31,
2005, Mr. Siegel held none of these shares.

OPTION GRANTS IN LAST FISCAL YEAR

The following table provides information regarding options granted in 2005
to the Named Executive Officers. We have never granted any stock appreciation
rights.

PERCENT
OF TOTAL
NUMBER OF OPTIONS
SECURITIES GRANTED TO
UNDERLYING EMPLOYEES EXERCISE
GRANT OPTIONS IN FISCAL PRICE PER EXPIRATION
NAME DATE GRANTED(1) YEAR (2) SHARE DATE
----------------------------- ------- ---------- ----------- --------- ----------

Neil M. Koehler ............. -- -- -- -- --
Ryan W. Turner .............. -- -- -- -- --
William L. Langley .......... 8/10/05 425,000 70.5% $8.03 8/10/15
Barry Siegel ................ -- -- -- -- --

_________________
(1) Option vested as to 20% of the shares on the date of grant and will vest
as to 20% of the shares on each of the first, second, third and fourth
anniversaries of the date of grant.
(2) Based on options to purchase 602,500 shares granted to our employees
during 2005.

AGGREGATED OPTION/SAR EXERCISES IN LAST FISCAL YEAR AND FY-END OPTION/SAR VALUES

The following table provides information regarding the number of shares of
our common stock underlying exercisable and unexercisable in-the-money stock
options held by the Named Executive Officers and the values of those options at
fiscal year-end. An option is "in-the-money" if the fair market value for the
underlying securities exceeds the exercise price of the option. The Named
Executive Officers did not hold any stock appreciation rights.

NUMBER OF SECURITIES VALUE OF UNEXERCISED
SHARES UNDERLYING UNEXERCISED IN-THE-MONEY OPTIONS/SARS
ACQUIRED ON VALUE OPTIONS/SARS AT FY-END (#) AT FY-END ($)
NAME EXERCISE (#) REALIZED ($) EXERCISABLE/UNEXERCISABLE EXERCISABLE/UNEXERCISABLE(1)
---- ------------- ------------ --------------------------- ----------------------------

Neil M. Koehler........... -- -- -- --
Ryan W. Turner............ -- -- -- --
William G. Langley........ -- -- 85,000/340,000 237,150/948,600
Barry Siegel.............. 116,667(2) 472,668 0/0 --

___________________
(1) Based on the $10.82 closing price of our common stock on the Nasdaq
National Market on December 30, 2005, the last trading day of fiscal 2005,
less the exercise price of the options.
(2) Mr. Siegel tendered 76,712 shares of our common stock in connection with a
cashless exercise of this option.

LONG-TERM INCENTIVE PLAN AWARDS

In 2005, no awards were given to the Named Executive Officers under
long-term incentive plans.

REPORT ON REPRICING OF OPTIONS/SARS

No adjustments to or amendments of the exercise price of stock options or
stock appreciation rights previously awarded to the Named Executive Officers
occurred in 2005.

EMPLOYMENT CONTRACTS AND TERMINATION OF EMPLOYMENT AND CHANGE-IN-CONTROL
ARRANGEMENTS

EXECUTIVE EMPLOYMENT AGREEMENTS DATED MARCH 23, 2005 WITH EACH OF NEIL M.
KOEHLER AND RYAN W. TURNER

The Executive Employment Agreement with Neil M. Koehler provides for a
three-year term and automatic one-year renewals thereafter, unless either the
employee or Pacific Ethanol provides written notice to the other at least 90
days prior to the expiration of the then-current term. The Executive Employment
Agreement with Ryan W. Turner provides for a one-year term and automatic
one-year renewals thereafter, unless either the employee or Pacific Ethanol
provides written notice to the other at least 90 days prior to the expiration of
the then-current term.

Neil M. Koehler is to receive a base salary of $200,000 per year and is
entitled to receive a cash bonus not to exceed 50% of his base salary to be paid
based upon performance criteria set by the board on an annual basis and an
additional cash bonus not to exceed 50% of the net free cash flow (defined as
revenues of Kinergy, less his salary and performance bonus, less capital
expenditures and all expenses incurred specific to Kinergy), subject to a
maximum of $300,000 in any given year; provided that such bonus will be reduced
by ten percentage points each year, such that 2009 will be the final year of
such bonus at 10% of net free cash flow.

Ryan W. Turner is to receive a base salary of $125,000 per year and is
entitled to receive a cash bonus not to exceed 50% of his base salary to be paid
based upon performance criteria set by the board on an annual basis. Effective
as of October 1, 2005, the compensation committee of our board of directors
increased Mr. Turner's base salary to $175,000 per year.

We are also required to provide an office and administrative support to
each of Messrs. Koehler and Turner and certain benefits, including medical
insurance (or, if inadequate due to location of permanent residence,
reimbursement of up to $1,000 per month for obtaining health insurance
coverage), three weeks of paid vacation per year, participation in the stock
option plan to be developed in relative proportion to the position in the
organization, and participation in benefit plans on the same basis and to the
same extent as other executives or employees.

Each of Messrs. Koehler and Turner are also entitled to reimbursement for
all reasonable business expenses incurred in promoting or on behalf of the
business of Pacific Ethanol, including expenditures for entertainment, gifts and
travel. Upon termination or resignation for "good reason," the terminated
employee is entitled to receive severance equal to three months of base salary
during the first year after termination or resignation and six months of base
salary during the second year after termination unless he is terminated for
cause or voluntarily terminates his employment without providing the required
written notice. If the employee is terminated (other than for cause) or
terminates for good reason following, or within the 90 days preceding, any
change in control, in lieu of further salary payments to the employee, we may
elect to pay a lump sum severance payment equal to the amount of his annual base
salary.

The term "for good reason" is defined in each of the Executive Employment
Agreements as (i) a general assignment by us for the benefit of creditors or
filing by us of a voluntary bankruptcy petition or the filing against us of any
involuntary bankruptcy which remains undismissed for 30 days or more or if a
trustee, receiver or liquidator is appointed, (ii) any material changes in the
employee's titles, duties or responsibilities without his express written
consent, or (iii) the employee is not paid the compensation and benefits
required under the Executive Employment Agreement.

The term "for cause" is defined in each of the Executive Employment
Agreements as (i) any intentional misapplication by the employee of Pacific
Ethanol funds or other material assets, or any other act of dishonesty injurious
to Pacific Ethanol committed by the employee; or (ii) the employee's conviction
of (a) a felony or (b) a crime involving moral turpitude; or (iii) the
employee's use or possession of any controlled substance or chronic abuse of
alcoholic beverages, which use or possession the board reasonably determines
renders the employee unfit to serve in his capacity as a senior executive of
Pacific Ethanol; or (iv) the employee's breach, nonperformance or nonobservance
of any of the terms of his Executive Employment Agreement with us, including but
not limited to the employee's failure to adequately perform his duties or comply
with the reasonable directions of the board. However, we may not terminate the
employee unless the board first provides the employee with a written memorandum
describing in detail how his performance is not satisfactory and the employee is
given a reasonable period of time (not less than 30 days) to remedy the
unsatisfactory performance related by the board to the employee in that
memorandum. A determination of whether the employee has satisfactorily remedied
the unsatisfactory performance shall be promptly made by a majority of the
disinterested directors of the board (or the entire board, but not including the
employee, if there are no disinterested directors) at the end of the period
provided to the employee for remedy, and the board's determination shall be
final.

A "change in control" of Pacific Ethanol is deemed to have occurred if, in
a single transaction or series of related transactions: (i) any person (as such
term is used in Section 13(d) and 14(d) of the Exchange Act, other than a
trustee or fiduciary holding securities under an employment benefit program is
or becomes a "beneficial owner" (as defined in Rule 13-3 under the Exchange
Act), directly or indirectly of securities of Pacific Ethanol representing 51%
or more of the combined voting power of Pacific Ethanol, (ii) there is a merger
(other than a reincorporation merger) or consolidation in which Pacific Ethanol
does not survive as an independent company, or (iii) the business of Pacific
Ethanol is disposed of pursuant to a sale of assets.

EXECUTIVE EMPLOYMENT AGREEMENT DATED AUGUST 10, 2005 WITH WILLIAM G. LANGLEY

The Executive Employment Agreement with William G. Langley provides for a
four-year term and automatic one-year renewals thereafter, unless either the
employee or Pacific Ethanol provides written notice to the other at least 90
days prior to the expiration of the then-current term. Mr. Langley is to receive
a base salary of $185,000 per year. All other terms and conditions of Mr.
Langley's Executive Employment Agreement are substantially the same as those
contained in Mr. Turner's Executive Employment Agreement, except that Mr.
Langley is entitled to six months of severance pay during the entire term of his
agreement and is also entitled to reimbursement of his costs associated with his
relocation to Fresno, California.

COMPENSATION OF DIRECTORS

The Chairman of our board of directors receives annual compensation of
$80,000. Each member of our board of directors, including the Chairman, receives
$1,500 for each board meeting attended, whether attended in person or
telephonically. The Chairman of our audit committee receives an additional
$3,500 per quarterly period. In addition, non-employee directors are reimbursed
for certain reasonable and documented expenses in connection with attendance at
meetings of our board of directors and committees.

COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION

No member of the board of directors has a relationship that would
constitute an interlocking relationship with executive officers and directors of
another entity.

STOCK OPTION PLANS

We currently have two stock option plans: an Amended 1995 Incentive Stock
Plan and a 2004 Stock Option Plan. These plans are administered by our
compensation committee, which currently consists of Messrs. Stone and Thomas.

The Amended 1995 Incentive Stock Plan authorizes the issuance of incentive
stock options, commonly known as ISOs, and non-qualified stock options, commonly
known as NQOs, to our employees, directors or consultants for the purchase of up
to 1,200,000 shares of our common stock. The Amended 1995 Incentive Stock Plan
terminated in 2005. As of March 31, 2006, options to purchase up to 105,000
shares of common stock were outstanding under the Amended 1995 Incentive Stock
Plan.

The 2004 Stock Option Plan authorizes the issuance of ISOs and NQOs to our
officers, directors or key employees or to consultants that do business with
Pacific Ethanol for up to an aggregate of 2,500,000 shares of common stock. The
2004 Stock Option Plan terminates on November 4, 2014. Our board of directors'
adoption of the 2004 Stock Option Plan was ratified by our stockholders at our
2004 annual meeting of stockholders that was initially convened on December 28,
2004, adjourned to February 1, 2004 and further adjourned to and completed on
February 28, 2005. The 2004 Stock Option Plan was amended on January 24, 2006
and further amended on April 12, 2006.

As of March 31, 2006, we had approximately 22 employees and officers and 6
non-employee directors eligible to receive options under the 2004 Stock Option
Plan. As of that date, options to purchase up to 795,000 shares of common stock
were outstanding under the 2004 Stock Option Plan and 1,705,500 shares remained
available for grants under this plan. The following is a description of some of
the key terms of the 2004 Stock Option Plan.

SHARES SUBJECT TO THE 2004 STOCK OPTION PLAN

A total of 2,500,000 shares of our common stock are authorized for
issuance under the 2004 Stock Option Plan. Any shares of common stock that are
subject to an award but are not used because the terms and conditions of the
award are not met, or any shares that are used by participants to pay all or
part of the purchase price of any option, may again be used for awards under the
2004 Stock Option Plan.

ADMINISTRATION

It is the intent of the 2004 Stock Option Plan that it be administered in
a manner such that option grants and exercises would be "exempt" under Rule
16b-3 of the Exchange Act. The compensation committee is empowered to select
those eligible persons to whom options shall be granted under the 2004 Stock
Option Plan; to determine the time or times at which each option shall be
granted, whether options will be ISOs or NQOs and the number of shares to be
subject to each option; and to fix the time and manner in which each option may
be exercised, including the exercise price and option period, and other terms
and conditions of options, all subject to the terms and conditions of the 2004
Stock Option Plan. The compensation committee has sole discretion to interpret
and administer the 2004 Stock Option Plan, and its decisions regarding the 2004
Stock Option Plan are final, except that our board of directors can act in place
of the compensation committee as the administrator of the 2004 Stock Option Plan
at any time or from time to time, in its discretion.

OPTION TERMS

ISOs granted under the 2004 Stock Option Plan must have an exercise price
of not less than 100% of the fair market value of a share of common stock on the
date the ISO is granted and must be exercised, if at all, within ten years from
the date of grant. In the case of an ISO granted to an optionee who owns more
than 10% of the total voting securities of Pacific Ethanol on the date of grant,
the exercise price may be not less than 110% of fair market value on the date of
grant, and the option period may not exceed five years. NQOs granted under the
2004 Stock Option Plan must have an exercise price of not less than 85% of the
fair market value of a share of common stock on the date the NQO is granted.

Options may be exercised during a period of time fixed by the committee
except that no option may be exercised more than ten years after the date of
grant. In the discretion of the committee, payment of the purchase price for the
shares of stock acquired through the exercise of an option may be made in cash,
shares of our common stock, a combination of cash and shares of our common
stock, through net exercise or a combination of cash and net exercise.

AMENDMENT AND TERMINATION

The 2004 Stock Option Plan may be wholly or partially amended or otherwise
modified, suspended or terminated at any time and from time to time by our board
of directors. However, our board of directors may not materially impair any
outstanding options without the express consent of the optionee or materially
increase the number of shares subject to the 2004 Stock Option Plan, materially
increase the benefits to optionees under the 2004 Stock Option Plan, materially
modify the requirements as to eligibility to participate in the 2004 Stock
Option Plan or alter the method of determining the option exercise price without
stockholder approval. No option may be granted under the 2004 Stock Option Plan
after November 4, 2014.

FEDERAL INCOME TAX CONSEQUENCES

NQOS. Holders of NQOs do not realize income as a result of a grant or
vesting of an option in the event that the stock option is granted at an
exercise price at or above the fair market value of the underlying shares of our
stock on the date of grant, but realize compensation income upon exercise of an
NQO to the extent that the fair market value of the shares of common stock on
the date of exercise of the NQO exceeds the exercise price paid. We will be
required to withhold taxes on ordinary income realized by an optionee upon the
exercise of an NQO.

In the event of the grant of an NQO with a per share exercise price that
is less than the fair market value per share of our underlying common stock on
the date of grant, the grant is treated as deferred compensation. Except in
certain limited circumstances, such a grant results in ordinary income, to the
same extent applicable to an option grant with an exercise price at or above
fair market value, realized by the optionee at vesting of the option, as opposed
to upon its exercise, plus as an additional tax of 20% payable by the optionee.

In the case of an optionee subject to the "short-swing" profit recapture
provisions of Section 16(b) of the Exchange Act, the optionee realizes income
only upon the lapse of the six-month period under Section 16(b), unless the
optionee elects to recognize income immediately upon exercise of his or her
option.

ISOS. Holders of ISOs will not be considered to have received taxable
income upon either the grant of the option or its exercise. Upon the sale or
other taxable disposition of the shares, long-term capital gain will normally be
recognized on the full amount of the difference between the amount realized and
the option exercise price paid if no disposition of the shares has taken place
within either two years from the date of grant of the option or one year from
the date of transfer of the shares to the optionee upon exercise. If the shares
are sold or otherwise disposed of before the end of the one-year or two-year
periods, the holder of the ISO must include the gain realized as ordinary income
to the extent of the lesser of the fair market value of the option stock minus
the option price, or the amount realized minus the option price. Any gain in
excess of these amounts, presumably, will be treated as capital gain. We will be
entitled to a tax deduction in regard to an ISO only to the extent the optionee
has ordinary income upon the sale or other disposition of the option shares.

Upon the exercise of an ISO, the amount by which the fair market value of
the purchased shares at the time of exercise exceeds the option price will be an
"item of tax preference" for purposes of computing the optionee's alternative
minimum tax for the year of exercise. If the shares so acquired are disposed of
prior to the expiration of the one-year or two-year periods described above,
there should be no "item of tax preference" arising from the option exercise.

POSSIBLE ANTI-TAKEOVER EFFECTS

Although not intended as an anti-takeover measure by our board of
directors, one of the possible effects of the 2004 Stock Option Plan could be to
place additional shares, and to increase the percentage of the total number of
shares outstanding, in the hands of the directors and officers of Pacific
Ethanol. Those persons may be viewed as part of, or friendly to, incumbent
management and may, therefore, under some circumstances be expected to make
investment and voting decisions in response to a hostile takeover attempt that
may serve to discourage or render more difficult the accomplishment of the
attempt.

In addition, options may, in the discretion of the committee, contain a
provision providing for the acceleration of the exercisability of outstanding,
but unexercisable, installments upon the first public announcement of a tender
offer, merger, consolidation, sale of all or substantially all of our assets, or
other attempted changes in the control of Pacific Ethanol. In the opinion of our
board of directors, this acceleration provision merely ensures that optionees
under the 2004 Stock Option Plan will be able to exercise their options as
intended by the board of directors and stockholders prior to any extraordinary
corporate transaction which might serve to limit or restrict that right. Our
board of directors is, however, presently unaware of any threat of hostile
takeover involving Pacific Ethanol.

INDEMNIFICATION OF DIRECTORS AND OFFICERS

Section 145 of the Delaware General Corporation Law permits a corporation
to indemnify its directors and officers against expenses, judgments, fines and
amounts paid in settlement actually and reasonably incurred in connection with a
pending or completed action, suit or proceeding if the officer or director acted
in good faith and in a manner the officer or director reasonably believed to be
in the best interests of the corporation.

Our certificate of incorporation provides that, except in certain
specified instances, our directors shall not be personally liable to us or our
stockholders for monetary damages for breach of their fiduciary duty as
directors, except liability for the following:

o any breach of their duty of loyalty to our company or our
stockholders;
o acts or omissions not in good faith or which involve intentional
misconduct or a knowing violation of law;
o unlawful payments of dividends or unlawful stock repurchases or
redemptions as provided in Section 174 of the Delaware General
Corporation Law; and
o any transaction from which the director derived an improper personal
benefit.

In addition, our certificate of incorporation and bylaws obligate us to
indemnify our directors and officers against expenses and other amounts
reasonably incurred in connection with any proceeding arising from the fact that
such person is or was an agent of ours. Our bylaws also authorize us to purchase
and maintain insurance on behalf of any of our directors or officers against any
liability asserted against that person in that capacity, whether or not we would
have the power to indemnify that person under the provisions of the Delaware
General Corporation Law. We have entered and expect to continue to enter into
agreements to indemnify our directors and officers as determined by our board of
directors. These agreements provide for indemnification of related expenses
including attorneys' fees, judgments, fines and settlement amounts incurred by
any of these individuals in any action or proceeding. We believe that these
bylaw provisions and indemnification agreements are necessary to attract any
retain qualified persons as directors and officers. We also maintain directors'
and officers' liability insurance.

The limitation of liability and indemnification provisions in our
certificate of incorporation and bylaws may discourage stockholders from
bringing a lawsuit against our directors for breach of their fiduciary duty.
They may also reduce the likelihood of derivative litigation against our
directors and officers, even though an action, if successful, might benefit us
and other stockholders. Furthermore, a stockholder's investment may be adversely
affected to the extent that we pay the costs of settlement and damage awards
against directors and officers as required by these indemnification provisions.
At present, there is no pending litigation or proceeding involving any of our
directors, officers or employees regarding which indemnification is sought, and
we are not aware of any threatened litigation that may result in claims for
indemnification.

Insofar as the provisions of our certificate of incorporation or bylaws
provide for indemnification of directors or officers for liabilities arising
under the Securities Act of 1933, as amended, or the Securities Act, we have
been informed that in the opinion of the Commission this indemnification is
against public policy as expressed in the Securities Act and is therefore
unenforceable.

ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS.

The following table sets forth information with respect to the beneficial
ownership of our common stock as of April 14, 2006, the date of the table, by:

o each person known by us to beneficially own more than 5% of the
outstanding shares of our common stock;
o each of our directors;
o each of our current executive officers identified at the beginning of
the "Management" section of this report; and
o all of our directors and executive officers as a group.

Beneficial ownership is determined in accordance with the rules of the
Commission, and includes voting or investment power with respect to the
securities. To our knowledge, except as indicated by footnote, and subject to
community property laws where applicable, the persons named in the table below
have sole voting and investment power with respect to all shares of common stock
shown as beneficially owned by them. Shares of common stock underlying
derivative securities, if any, that currently are exercisable or convertible or
are scheduled to become exercisable or convertible for or into shares of common
stock within 60 days after the date of the table are deemed to be outstanding in
calculating the percentage ownership of each listed person or group but are not
deemed to be outstanding as to any other person or group. Percentage of
beneficial ownership is based on 30,601,880 shares of common stock outstanding
as of the date of the table.

AMOUNT AND NATURE
OF BENEFICIAL PERCENT
NAME AND ADDRESS OF BENEFICIAL OWNER (1) TITLE OF CLASS OWNERSHIP OF CLASS
------------------------------------------------ -------------- ----------------- --------

William L. Jones................................ Common 2,500,000(2) 8.17%
Neil M. Koehler................................. Common 4,188,139 13.69%
Ryan W. Turner.................................. Common 914,166(3) 2.99%
William G. Langley.............................. Common 85,000(4) *
Frank P. Greinke................................ Common 1,500,000(5) 4.90%
Douglas L. Kieta................................ Common -- --
John L. Prince.................................. Common -- --
Terry L. Stone.................................. Common -- --
Robert Thomas................................... Common -- --
Lyles Diversified, Inc.......................... Common 2,000,000(6) 6.55%
Cascade Investment, L.L.C....................... Common 10,500,000(7) 25.55%
Series A
Preferred 5,250,000(7) 100.00%
All executive officers and directors as a group
(9 persons).................................... Common 9,187,305(8) 30.00%

___________________
* Less than 1.00%
(1) Messrs. Jones, Koehler, Greinke, Prince, Stone, Kieta and Thomas are
directors of Pacific Ethanol. Messrs. Koehler, Turner and Langley are
executive officers of Pacific Ethanol. The address of each of these
persons, unless otherwise indicated below, is c/o Pacific Ethanol, Inc.,
5711 N. West Avenue, Fresno, California 93711.
(2) Represents shares held by William L. Jones and Maurine Jones, husband and
wife, as community property.
(3) Represents shares held by Ryan W. Turner and Wendy Turner, husband and
wife, as community property.
(4) Represents shares of common stock underlying options.
(5) Represents shares held by the Greinke Personal Living Trust. Mr. Greinke
is a trustee of the Greinke Personal Living Trust. Mr. Greinke has sole
voting and sole investment power over the shares held by the trust.
(6) Based on information included by Lyles Diversified, Inc. in a Schedule 13D
for May 27, 2005. Lyles Diversified, Inc. reported that it holds sole
voting and dispositive power over 2,000,000 shares. The Schedule 13D was
executed by William M. Lyles IV, as Vice-President of Lyles Diversified,
Inc. The address for Lyles Diversified, Inc. is P.O. Box 4376, Fresno, CA
93744.
(7) Amount of common stock represents shares of common stock underlying our
Series A Preferred Stock. All Series A Preferred Stock held by Cascade
may be deemed to be beneficially owned by Mr. William H. Gates III as the
sole member of Cascade. The address for Cascade Investment, L.L.C is 2365
Carillon Point, Kirkland, Washington 98033.
(8) Includes 85,000 shares underlying options.

EQUITY COMPENSATION PLAN INFORMATION

The following table provides information about our common stock that may
be issued upon the exercise of options, warrants, and rights under all of our
existing equity compensation plans as of December 31, 2005.

NUMBER OF NUMBER OF
SECURITIES TO BE WEIGHTED AVERAGE SECURITIES REMAINING
ISSUED UPON EXERCISE OF EXERCISE PRICE OF AVAILABLE
OUTSTANDING, OUTSTANDING FOR FUTURE ISSUANCE
OPTIONS, WARRANTS OPTIONS, WARRANTS UNDER EQUITY
PLAN CATEGORY OR STOCK RIGHTS AND RIGHTS COMPENSATION PLANS
------------- ----------------------- ----------------- --------------------

EQUITY COMPENSATION PLANS APPROVED BY
SECURITY HOLDERS:
1995 Plan............................. 377,667 $5.53 822,333
2004 Plan............................. 822,500 $7.78 1,677,500

ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

TRANSACTIONS BETWEEN ACCESSITY AND ITS RELATED PARTIES PRIOR TO THE SHARE
EXCHANGE TRANSACTION

We were a party to an Employment Agreement with Barry Siegel, our former
Chairman of the Board, President and Chief Executive Officer, that commenced on
January 1, 2002, and initially expired on December 31, 2004 and which expiration
date was extended to December 31, 2007. Mr. Siegel's annual salary was $300,000,
and was granted stock options, under our Amended 1995 Incentive Stock Plan, to
purchase 60,000 shares of our common stock, in addition to certain other
perquisites. The Employment Agreement provided that following a change of
control, which included the Share Exchange Transaction, we would be required to
pay Mr. Siegel (i) a severance payment of 300% of his average annual salary for
the past five years, less $100, (ii) the cash value of his outstanding but
unexercised stock options, and (iii) other perquisites should he be terminated
for various reasons specified in the agreement. The agreement specified that in
no event would any severance payments exceed the amount we could deduct under
the provisions of the Internal Revenue Code. In recognition of the sale of one
of our divisions, Mr. Siegel was also awarded a $250,000 bonus, which was paid
in February 2002, and an additional grant of options to purchase 50,000 shares
of our common stock. In connection with the Share Exchange Transaction and the
Confidentiality, Non-Competition, Non-Solicitation and Consulting Agreement
dated March 23, 2005 between us and Mr. Siegel, Mr. Siegel's Employment
Agreement was terminated and he waived the payments that otherwise would have
been due to him under the change of control provisions of his Employment
Agreement.

We were a party to an Employment Agreement with Philip B. Kart, our former
Senior Vice President, Secretary, Treasurer and Chief Financial Officer, that
commenced on January 1, 2002, and initially expired on January 1, 2004 and which
expiration date, under the amendments referenced above, was extended first to
December 31, 2004 and subsequently to December 31, 2005. Mr. Kart's annual
salary was $155,000 per annum and he was granted stock options, under our
Amended 1995 Incentive Stock Plan, providing the right to purchase 30,000 shares
of the our common stock, in addition to certain other perquisites. The
Employment Agreement provided that following a change of control, which included
the Share Exchange Transaction, we would be required to pay Mr. Kart a severance
payment of 100% of his annual salary. The Employment Agreement also provided
that following a change in control, all stock options previously granted to him
would immediately become fully exercisable. The amendment to the Employment
Agreement dated November 15, 2002 also provided for relocation expense payments
that were conditioned upon Mr. Kart's relocation to our former headquarters in
Florida, which occurred in early 2003. In connection with the Share Exchange
Transaction and the Confidentiality, Non-Competition, Non-Solicitation and
Consulting Agreement dated March 23, 2005 between us and Mr. Kart, Mr. Kart's
Employment Agreement was terminated and he waived the payments that otherwise
would have been due to him under the change of control provisions of his
Employment Agreement.

Under an agreement with our formerly wholly-owned subsidiary, Sentaur
Corp., we were party to an employment agreement with Steven DeLisi that
commenced on September 3, 2002 and expired on December 31, 2004. Mr. DeLisi's
annual salary was $175,000 per annum and he was granted stock options under our
1995 Incentive Stock Option Plan to purchase up to 50,000 shares of our common
stock. Mr. DeLisi also participated in a bonus program that provided a bonus of
50% of his salary upon the achievement of $25,000 in profits for three
consecutive months. During the first twelve months of his employment, Mr. DeLisi
received an interim bonus of $5,000 for each signed customer contract.

In May 2002 we signed a five and a half year lease to occupy a 7,300
square foot building in Coral Springs, Florida. We terminated this lease on
January 14, 2005, and the building was sold, concurrently, by the landlord. This
property was owned and operated by B&B Lakeview Realty Corp., one shareholder of
which, Barry Siegel, was our former Chairman of the Board, President and Chief
Executive Officer, another shareholder of which, Kenneth J. Friedman, was a
member of our Board of Directors and another shareholder of which, Barry
Spiegel, was formerly a member of our Board of Directors. The terms of the lease
required net rentals increasing in annual amounts from $127,000 to $168,000 plus
real estate taxes, insurance and other operating expenses. The lease period
commenced in October 2002 and was to terminate five years and six months
thereafter. We and the landlord each expended approximately $140,000 to complete
the interior space. In addition, during July 2002, we pledged $300,000 in an
interest bearing account initially as a certificate of deposit, with a Florida
bank (the mortgage lender to B&B Lakeview Realty Corp.) as security for our
future rental commitments for the benefit of the landlord's mortgage lender. The
certificate of deposit was to decline in $100,000 increments on the 36th month,
48th month, and 60th month, as the balance of the rent commitment declined.
These funds, along with unpaid and earned interest, were returned to us in
January 2005 upon the consummation of the sale of the building. We also had a
security deposit of $22,000 held by the related party which was also repaid at
that time. At our request, the Landlord agreed to sell the building and permit
us to terminate this lease early, in exchange for our reimbursing the Landlord
for the prepayment penalty that the Landlord incurred due to the early pay off
of its mortgage loan. These fees paid to the Landlord equaled far less than our
liabilities pursuant to the lease. During 2004, we paid B&B Lakeview Realty rent
payments of $145,000. Operating expenses, insurance and taxes, as required by
the lease, were generally paid directly to the providers by us.

In December 2004, we sold certain fully depreciated personal property
assets, which we anticipated would be transferred to Mr. Siegel upon
consummation of the Share Exchange Transaction. The proceeds, equal to
approximately $14,000, were advanced to Mr. Siegel in anticipation of the
transaction being completed. Upon learning that this advance was prohibited
under Section 402 of the Sarbanes-Oxley Act of 2002, Mr. Siegel repaid the
advance in February 2005.

TRANSACTIONS BETWEEN OUR NOW-WHOLLY-OWNED SUBSIDIARIES AND THEIR RELATED
PARTIES PRIOR TO THE SHARE EXCHANGE TRANSACTION

Please note that the Certain Relationships and Related Transactions set
forth below are with regard to PEI California, Kinergy and ReEnergy, which
became our wholly-owned subsidiaries in connection with the Share Exchange
Transaction.

TRANSACTIONS BETWEEN PEI CALIFORNIA AND ITS RELATED PARTIES

Neil M. Koehler, our President and Chief Executive Officer and a director
is also the Chief Executive Officer of PEI California and was the sole manager
and sole limited liability company member of Kinergy and a limited liability
company member of Kinergy Resources, LLC, which was a member of ReEnergy. Mr.
Koehler did not receive compensation from PEI California.

Tom Koehler, our Vice President, Public Policy and Markets, also held the
same position with PEI California and was a limited liability company member of
ReEnergy. Mr. Koehler is the brother of Neil M. Koehler and received
compensation from PEI California (through Celilo Group, LLC) as an independent
contractor.

PEI California and ReEnergy are parties to an Option to Purchase Land
dated August 28, 2003, pursuant to which ReEnergy has agreed to sell
approximately 89 acres of real property in Visalia to PEI California at a price
of $12,000 per acre, with respect to which real property ReEnergy has executed
an Option Agreement dated as of July 20, 2003 with Kent Kaulfuss, who was a
limited liability company member of ReEnergy, and his wife, which Option
Agreement grants ReEnergy an option to purchase such real property for a
purchase price of $1,071,600 on or before December 15, 2005 and requires
ReEnergy to lease the Wood Industries plant (comprising 35 acres) to Wood
Industries (which is owned by Kent Kaulfuss and his wife) for an indefinite
period of time for a monthly rental of $800. Accordingly, if the real property
had been purchased by PEI California pursuant to the terms of the Option to
Purchase Land dated August 28, 2003, Kent Kaulfuss and his wife would have
realized a gain on sale of approximately $178,600. The option expired on
December 15, 2005 without being exercised.

PEI California entered into a consulting agreement with Ryan W. Turner,
our Chief Operating Officer and Secretary, and a former director, for consulting
services at $6,000 per month. During 2005 and 2004, PEI California paid Mr.
Turner a total of $21,000 and $72,000, respectively, pursuant to the consulting
contract. This consulting agreement was terminated in connection with Mr.
Turner's entry into an Executive Employment Agreement with us as described above
under "Management - Employment Contracts and Termination of Employment and
Change-in-Control Arrangements."

On October 27, 2003, William and Maurine Jones, Ryan and Wendy Turner and
Andrea Jones entered into an agreement with Southern Counties Oil Co., a former
shareholder of PEI California, of which Frank P. Greinke, one of our directors
and a director of PEI California, is the owner and CEO, to sell 1,500,000 shares
of common stock of PEI California personally held by them at $1.50 per share for
total proceeds of $2,250,000. In connection with the sale of the shares, the
parties entered into a Voting Agreement under which William and Maurine Jones,
Ryan and Wendy Turner and Andrea Jones agreed to vote a significant number of
their existing shares of common stock of PEI California in favor of Mr. Greinke
to be elected to the board of directors of PEI California or any
successor-in-interest to PEI California, including Pacific Ethanol.

In March 2005, Barry Siegel, on the one hand, and William and Maurine
Jones, Ryan and Wendy Turner and Andrea Jones, on the other, entered into a
stock purchase agreement that provided for, among other things, the sale of an
aggregate of 250,000 shares of common stock of PEI California to Mr. Siegel for
an aggregate purchase price of $25.00.

Immediately prior to the closing of the Share Exchange Transaction,
William L. Jones sold 200,000 shares of common stock of PEI California to the
individual members of ReEnergy at $.01 per share, to compensate them for
facilitating the closing of the Share Exchange Transaction.

Immediately prior to the closing of the Share Exchange Transaction,
William L. Jones sold 300,000 shares of common stock of PEI California to Neil
M. Koehler at $.01 per share to compensate Mr. Koehler for facilitating the
closing of the Share Exchange Transaction.

Immediately prior to the closing of the Share Exchange Transaction,
William L. Jones sold 100,000 shares of common stock of PEI California to Tom
Koehler at $.01 per share to compensate Mr. Koehler for facilitating the closing
of the Share Exchange Transaction.

TRANSACTIONS BETWEEN KINERGY AND ITS RELATED PARTIES

Neil M. Koehler, our President and Chief Executive Officer and one of our
directors, is also the Chief Executive Officer of PEI California and was the
sole manager and sole limited liability company member of Kinergy and was a
limited liability company member of Kinergy Resources, LLC, which was a member
of ReEnergy. Mr. Koehler did not receive compensation from PEI California and
did not receive compensation in his capacity as the sole manager of Kinergy.

Neil M. Koehler is the brother of Tom Koehler, our Vice President, Public
Policy and Markets. Tom Koehler was a limited liability company member of
ReEnergy.

One of Kinergy's larger customers, Southern Counties Oil Co., doing
business at SC Fuels, was a principal shareholder of PEI California and is one
of our former stockholders. Mr. Frank P. Greinke, the Chief Executive Officer of
the corporate general partner of Southern Counties Oil Co., is one of our
directors and was a director of PEI California. During the years ended December
31, 2005 and 2004, Southern Counties Oil Co. accounted for approximately 10% and
13%, respectively, of the total net sales of Kinergy.

TRANSACTIONS BETWEEN REENERGY AND ITS RELATED PARTIES

TRANSACTIONS BETWEEN US AND OUR RELATED PARTIES AT THE TIME OF OR AFTER THE
SHARE EXCHANGE TRANSACTION

On March 23, 2005, we issued to Philip B. Kart, our former Senior Vice
President, Secretary, Treasurer and Chief Financial Officer, 200,000 shares of
common stock in consideration of Mr. Kart's obligations under a Confidentiality,
Non-Competition, Non-Solicitation and Consulting Agreement that was entered into
in connection with the Share Exchange Transaction.

On March 23, 2005, we issued to Barry Siegel, our former Chairman of the
Board, President and Chief Executive Officer, 400,000 shares of common stock in
consideration of Mr. Siegel's obligations under a Confidentiality,
Non-Competition, Non-Solicitation and Consulting Agreement that was entered into
in connection with the Share Exchange Transaction. We also transferred
DriverShield CRM Corp., one of our wholly-owned subsidiaries, to Mr. Siegel in
connection with this transaction. In addition we sold Sentaur Corp., another of
our wholly-owned subsidiaries, to Mr. Siegel for the cash sum of $5,000.

On March 23, 2005, in connection with the Share Exchange Transaction, we
entered into Confidentiality, Non-Competition and Non-Solicitation Agreements
with each of Neil M. Koehler, Tom Koehler, William L. Jones and Ryan W. Turner.
The agreement is substantially the same for each of the foregoing persons,
except as otherwise noted below, and provides for certain standard
confidentiality protections in our favor prohibiting each of the foregoing
persons, each of whom is a stockholder and our officers and/or directors, from
disclosure or use of our confidential information. The agreement also provides
that each of the foregoing persons is prohibited from competing with us for a
period of five years; however, Neil M. Koehler's agreement provides that he is
prohibited from competing with us for a period of three years. In addition,
during the period during which each of the foregoing persons is prohibited from
competing, they are also prohibited from soliciting our customers, employees or
consultants and are further prohibited from making disparaging comments
regarding us, our officers or directors, or our other personnel, products or
services.

On March 23, 2005, in connection with the Share Exchange Transaction, we
became the sole owner of the membership interests of Kinergy. Neil M. Koehler,
our President and Chief Executive Officer and one of our directors and principal
stockholders was formerly the sole owner of the membership interests of Kinergy
and personally guaranteed certain obligations of Kinergy to Comerica Bank. As
part of the consummation of the Share Exchange Transaction, we executed a Letter
Agreement dated March 23, 2005 with Mr. Koehler that provides that we will, as
soon as reasonably practical, replace Mr. Koehler as guarantor under certain
financing agreements between Kinergy and Comerica Bank. Under the Letter
Agreement, prior to the time that Mr. Koehler is replaced by us as guarantor
under such financing agreements, we will defend and hold harmless Mr. Koehler,
his agents and representatives for all losses, claims, liabilities and damages
caused or arising from out of (i) our failure to pay our indebtedness under such
financing agreements in the event that Mr. Koehler is required to pay such
amounts to Comerica Bank pursuant to his guaranty agreement with Comerica Bank,
or (ii) a breach of our duties to indemnify and defend as set forth above.

On July 26, 2005, we issued options to purchase up to 50,000 shares of our
common stock to William L. Jones, options to purchase up to 20,000 shares of our
common stock to Terry L. Stone, options to purchase up to 15,000 shares of our
common stock to Frank P. Greinke, options to purchase up to 15,000 shares of our
common stock to John Pimentel, who was then a current director and is now a
former director, and options to purchase up to 15,000 shares of our common stock
to Ken Freidman, who was then a current director and is now a former director.
The options have an exercise price of $8.25 per share, which represents the
closing price of a share of our common stock on the date of grant. The options
have a term of 10-years and vest in full one year from their date of grant.

On July 26, 2005, we set the compensation and expense reimbursement
policies for non-employee members of our board of directors, which policies were
made retroactive to May 18, 2005. The Chairman of the Board, currently William
L. Jones, is to receive annual compensation of $80,000. Each member of our board
of directors, including the Chairman of the Board, is to receive $1,500 for each
board or committee meeting attended, whether attended in person or
telephonically. The Chairman of the audit committee, currently Terry L. Stone,
is to receive an additional $2,000 for each audit committee meeting attended,
whether in person or telephonically. In addition, non-employee directors are
reimbursed for certain reasonable and documented expenses in connection with
attendance at meetings of our board of directors and committees.

On July 28, 2005, we issued options to purchase up to 15,000 shares of our
common stock to Charles W. Bader, who was then a current director and is now a
former director, and options to purchase up to 15,000 shares of our common stock
to John L. Prince, a director. The options have an exercise price of $8.30 per
share, which represents the closing price of a share of our common stock on the
date of grant. The options have a term of 10-years and vest in full one year
from their date of grant.

On August 10, 2005, we issued options to purchase up to 425,000 shares of
our common stock to William G. Langley, our Chief Financial Officer. The options
have an exercise price of $8.03 per share, which represents the closing price of
a share of our common stock on the date immediately preceding the date of grant.
The options have a term of 10-years. The options vested immediately as to 85,000
shares and vest as to an additional 85,000 shares on each of the first, second,
third and fourth anniversaries of the date of grant.

On September 19, 2005, we issued 3,000 shares of common stock to Kenneth
J. Friedman, who was then a current director and is now a former director, upon
exercise of outstanding options with an exercise price of approximately $5.63
per share for total gross proceeds of approximately $16,875.

On November 3, 2005, William L. Jones, our Chairman, executed a Continuing
Guaranty in favor of W.M. Lyles Co. Under the Guaranty, Mr. Jones guarantees to
W.M. Lyles Co. the payment obligations of PEI California under a certain Letter
Agreement between PEI California and W.M. Lyles Co. The Letter Agreement relates
to a Phase 2 Design-Build Agreement between PEI Madera and W.M. Lyles Co.
relating to the construction of our ethanol production facility in Madera
County. The Letter Agreement provides that, if W.M. Lyles Co. pays performance
liquidated damages to PEI Madera as a result of a defect attributable to Delta-T
Corporation, the engineer for the ethanol production facility in Madera County,
or if W.M. Lyles Co. pays liquidated damages to PEI Madera under the Phase 2
Design-Build Agreement as a result of a delay that is attributable to Delta-T
Corporation, then PEI California agrees to reimburse W.M. Lyles Co. for such
liquidated damages. However, PEI California is not responsible for the first
$2.0 million of reimbursement. In addition, in the event that W.M. Lyles Co.
recovers amounts from Delta-T Corporation for such defect or delay, then W.M.
Lyles Co. is to not seek reimbursement from PEI California. The aggregate
reimbursement obligations of PEI California under the Letter Agreement are not
to exceed $8.1 million. Under the Guaranty, W.M. Lyles Co. is to seek payment on
a pro rata basis from Mr. Jones and Neil M. Koehler (as described below), but in
the event that Mr. Koehler fails to make payment, then Mr. Jones is responsible
for any shortfall. However, the full extent of Mr. Jones' liability under his
Guaranty, including for any shortfall for non-payment by Mr. Koehler, is limited
to $4.0 million plus any attorneys' fees, costs and expenses.

On November 3, 2005, Neil M. Koehler, a director and our President and
Chief Executive Officer, executed a Continuing Guaranty in favor of W.M. Lyles
Co. Under the Guaranty, Mr. Koehler guarantees to W.M. Lyles Co. the payment
obligations of PEI California under the Letter Agreement described above. Under
the Guaranty, W.M. Lyles Co. is to seek payment on a pro rata basis from Messrs.
Jones (as described above) and Koehler, but in the event that Mr. Jones fails to
make payment, then Mr. Koehler is responsible for any shortfall. However, the
full extent of Mr. Koehler's liability under his Guaranty, including for any
shortfall for non-payment by Mr. Jones, is limited to $4.0 million plus any
attorneys' fees, costs and expenses.

On November 14, 2005, William L. Jones, Neil M. Koehler, Ryan W. Turner,
Kenneth J. Friedman and Frank P. Greinke, each of whom is a stockholder and one
of our directors and/or executive officers, or the Stockholders, and us, entered
into a Voting Agreement, or the Voting Agreement, with Cascade (other than Mr.
Friedman who was then a current director and is now a former director). The
Stockholders collectively hold an aggregate of approximately 9.2 million shares
of our common stock. The Voting Agreement provides that the Stockholders may not
transfer their shares of our common stock, and must keep their shares free of
all liens, proxies, voting trusts or agreements until the Voting Agreement is
terminated. The Voting Agreement provides that the Stockholders will each vote
or execute a written consent in favor of Cascade's purchase of 5,250,000 shares
of our Series A Preferred Stock for an aggregate purchase price of $84.0
million. In addition, under the Voting Agreement, each Stockholder grants an
irrevocable proxy to Neil M. Koehler, a director and our President and Chief
Executive Officer, to act as such Stockholder's proxy and attorney-in-fact to
vote or execute a written consent in favor of the sale of the preferred stock.
The Voting Agreement is effective until the earlier of the approval of the sale
of the preferred stock by our stockholders or the termination of the purchase
agreement under which the preferred stock is to be sold in accordance with its
terms.

On April 13, 2006 Robert P. Thomas was appointed to our board of
directors. Mr. Thomas has held various positions and is currently a portfolio
manager with the William H. Gates III investment group which oversees Mr. Gates'
personal investments through Cascade Investment, L.L.C. and the investment
assets of the Bill and Melinda Gates Foundation. Immediately preceding his
appointment as a director of Pacific Ethanol, we issued 5,250,000 shares of our
Series A Preferred Stock to Cascade Investment, L.L.C.

We are or have been a party to employment and compensation arrangements
with related parties, as more particularly described above under the headings
"Compensation of Executive Officers," "Employment Contracts and Termination of
Employment and Change-in-Control Arrangements" and "Compensation of Directors."

We have entered into an indemnification agreement with each of our
directors and executive officers. The indemnification agreements and our
certificate of incorporation and bylaws require us to indemnify our directors
and officers to the fullest extent permitted by Delaware law.

ITEM 13. EXHIBITS

EXHIBIT
NUMBER DESCRIPTION
-------- -----------

2.1 Agreement and Plan of Merger dated March 23, 2005 between the
Registrant and Accessity Corp. (1)

2.2 Share Exchange Agreement dated as of May 14, 2004 by and among
Accessity Corp., Pacific Ethanol, Inc., Kinergy Marketing, LLC,
ReEnergy, LLC and the other parties named therein (1)

2.3 Amendment No. 1 to Share Exchange Agreement dated as of July 29,
2004 by and among Accessity Corp., Pacific Ethanol, Inc., Kinergy
Marketing, LLC, ReEnergy, LLC and the other parties named therein
(1)

2.4 Amendment No. 2 to Share Exchange Agreement dated as of October 1,
2004 by and among Accessity Corp., Pacific Ethanol, Inc., Kinergy
Marketing, LLC, ReEnergy, LLC and the other parties named therein
(1)

2.5 Amendment No. 3 to Share Exchange Agreement dated as of January 7,
2005 by and among Accessity Corp., Pacific Ethanol, Inc., Kinergy
Marketing, LLC, ReEnergy, LLC and the other parties named therein
(1)

2.6 Amendment No. 4 to Share Exchange Agreement dated as of February 16,
2005 by and among Accessity Corp., Pacific Ethanol, Inc., Kinergy
Marketing, LLC, ReEnergy, LLC and the other parties named therein
(1)

EXHIBIT
NUMBER DESCRIPTION
-------- -----------

2.7 Amendment No. 5 to Share Exchange Agreement dated as of March 3,
2005 by and among Accessity Corp., Pacific Ethanol, Inc., Kinergy
Marketing, LLC, ReEnergy, LLC and the other parties named therein
(1)

3.1 Certificate of Incorporation of the Registrant (1)

3.2 Certificate of Designations, Powers, Preferences and Rights of the
Series A Cumulative Redeemable Convertible Preferred Stock

3.3 Bylaws of the Registrant (1)

10.1 Confidentiality, Non-Competition, Non-Solicitation and Consulting
Agreement dated March 23, 2005 between the Registrant and Barry
Siegel (1)

10.2 Confidentiality, Non-Competition, Non-Solicitation and Consulting
Agreement dated March 23, 2005 between the Registrant and Philip B.
Kart (1)

10.3 Form of Confidentiality, Non-Competition and Non-Solicitation
Agreement dated March 23, 2005 between the Registrant and each of
Neil M. Koehler, Tom Koehler, William L. Jones, Andrea Jones and
Ryan W. Turner (1)

10.4 Confidentiality, Non-Competition and Non-Solicitation Agreement
dated March 23, 2005 between the Registrant and Neil M. Koehler (1)

10.5 Form of Indemnification Agreement between the Registrant and each of
its Executive Officers and Directors (#)

10.6 Executive Employment Agreement dated March 23, 2005 between the
Registrant and Neil M. Koehler (#)(1)

10.7 Executive Employment Agreement dated March 23, 2005 between the
Registrant and Ryan W. Turner (#)(1)

10.8 Stock Purchase Agreement and Assignment and Assumption Agreement
dated March 23, 2005 between the Registrant and Barry Siegel (1)

10.9 Letter Agreement dated March 23, 2005 between the Registrant and
Neil M. Koehler (1)

10.10 Ethanol Purchase and Marketing Agreement dated March 4, 2005 between
Kinergy Marketing, LLC, Phoenix Bio-Industries, LLC, Pacific
Ethanol, Inc. and Western Milling, LLC (2)

10.11 Pacific Ethanol Inc. 2004 Stock Option Plan (3)

10.12 First Amendment to Pacific Ethanol, Inc. 2004 Stock Option Plan (14)

10.13 Amended 1995 Stock Option Plan (4)

10.14 Warrant dated March 23, 2005 issued by the Registrant to Liviakis
Financial Communications, Inc. (1)

10.15 Form of Registration Rights Agreement dated effective March 23, 2005
between Pacific Ethanol, Inc., a California corporation and the
investors who are parties thereto (1)

10.16 Form of Warrant dated March 23, 2005 issued by the Registrant to
subscribers to a private placement of securities by Pacific Ethanol,
Inc., a California corporation (1)

10.17 Form of Placement Warrant dated March 23, 2005 issued by the
Registrant to certain placement agents (1)

EXHIBIT
NUMBER DESCRIPTION
-------- -----------

10.18 Executive Employment Agreement dated August 10, 2005 between the
Registrant and William G. Langley (#)(5)

10.19 Form of Registration Rights Agreement of various dates between
Pacific Ethanol, Inc., a California corporation and the investors
who are parties thereto (7)

10.20 Form of Placement Warrant dated effective of various dates issued by
Pacific Ethanol, Inc., a California corporation, to certain
placement agents (7)

10.21 Form of Registration Rights Agreement dated effective May 14, 2004
between Pacific Ethanol, Inc., a California corporation and the
investors who are parties thereto (6)

10.22 Form of Placement Warrant dated effective May 14, 2004 issued by
Pacific Ethanol, Inc., a California corporation, to certain
placement agents (7)

10.23 Form of Registration Rights Agreement of various dates between
Pacific Ethanol, Inc., a California corporation and the investors
who are parties thereto (6)

10.24 Form of Warrant of various dates issued to subscribers to a private
placement of securities of Pacific Ethanol, Inc., a California
corporation (7)

10.25 Warrant dated March 23, 2005 issued by the Registrant to Jeffrey H.
Manternach (7)

10.26 Warrant dated June 15, 2001 issued to Rotom Enterprises, Inc. (9)

10.27 Warrant dated February 8, 2002 issued to Rotom Enterprises, Inc. (9)

10.28 Warrant dated June 15, 2001 issued to Colin Winthrop & Co., Inc. (9)

10.29 Ethanol Marketing Agreement dated as of August 31, 2005 by and
between Kinergy Marketing, LLC and Front Range Energy, LLC (8)

10.30 Master Revolving Note dated September 24, 2004 of Kinergy Marketing,
LLC in favor of Comerica Bank (10)

10.31 Loan Revision/Extension Agreement dated October 4, 2005 and
effective as of June 20, 2005 between Kinergy Marketing, LLC and
Comerica Bank (10)

10.32 Letter Agreement dated as of October 4, 2005 between Kinergy
Marketing, LLC and Comerica Bank (10)

10.33 Guaranty dated October 4, 2005 by Pacific Ethanol, Inc. in favor of
Comerica Bank (10)

10.34 Security Agreement dated as of September 24, 2004 executed by
Kinergy Marketing, LLC in favor of Comerica Bank (13)

10.35 Amended and Restated Phase 1 Design-Build Agreement dated November
2, 2005 by and between Pacific Ethanol Madera LLC and W.M. Lyles Co.
(11)

10.36 Phase 2 Design-Build Agreement dated November 2, 2005 by and between
Pacific Ethanol Madera LLC and W.M. Lyles Co. (11)

10.37 Letter Agreement dated November 2, 2005 by and between Pacific
Ethanol California, Inc. and W.M. Lyles Co. (11)

10.38 Continuing Guaranty dated as of November 3, 2005 by William L. Jones
in favor of W.M. Lyles Co. (11)

10.39 Continuing Guaranty dated as of November 3, 2005 by Neil M. Koehler
in favor of W.M. Lyles Co. (11)

EXHIBIT
NUMBER DESCRIPTION
-------- -----------

10.40 Description of Non-Employee Director Compensation (12)

10.41 Purchase Agreement dated November 14, 2005 between Pacific Ethanol,
Inc. and Cascade Investment, L.L.C. (12)

10.42 Deposit Agreement dated April 13, 2006 by and between Pacific
Ethanol, Inc. and Comerica Bank

10.43 Registration Rights and Stockholders Agreement dated as of April 13,
2006 by and between Pacific Ethanol, Inc. and Cascade Investment,
L.L.C.

10.44 Amendment No. 1 to Ethanol Purchase and Marketing Agreement dated
effective as of March 4, 2005 between Kinergy Marketing, LLC,
Phoenix Bio-Industries, LLC, Pacific Ethanol, Inc. and Western
Milling, LLC

10.45 Construction and Term Loan Agreement dated April 10, 2006 by and
among Pacific Ethanol Madera LLC, Comerica Bank and Hudson United
Capital, a division of TD Banknorth, N.A.

10.46 Construction Loan Note dated April 13, 2006 by Pacific Ethanol
Madera LLC in favor of Comerica Bank

10.47 Construction Loan Note dated April 13, 2006 by Pacific Ethanol
Madera LLC in favor of Hudson United Capital, a division of TD
Banknorth, N.A.

10.48 Assignment and Security Agreement dated April 13, 2006 by and
between Pacific Ethanol Madera LLC and Hudson United Capital, a
division of TD Banknorth, N.A.

10.49 Member Interest Pledge Agreement dated April 13, 2006 by Pacific
Ethanol Madera LLC in favor of Hudson United Capital, a division of
TD Banknorth, N.A.

10.50 Intercreditor and Collateral Sharing Agreement dated April 13, 2006
by and among Hudson United Capital, a division of TD Banknorth,
N.A., Lyles Diversified, Inc. and Pacific Ethanol Madera LLC

10.51 Disbursement Agreement dated April 13, 2006 by and among Pacific
Ethanol Madera LLC, Hudson United Capital, a division of TD
Banknorth, N.A., Comerica Bank and Wealth Management Group of TD
Banknorth, N.A.

10.52 Amended and Restated Term Loan Agreement effective as of April 13,
2006 by and between Lyles Diversified, Inc. and Pacific Ethanol
Madera LLC

10.53 Letter Agreement dated as of April 13, 2006 by and among Pacific
Ethanol California, Inc., Lyles Diversified, Inc. and Pacific
Ethanol Madera LLC.

14.1 Code of Ethics (1)

14.2 Code of Ethics for Chief Executive Officer and Senior Financial
Officers (1)

21.1 Subsidiaries of the Registrant

23.1 Consent of Independent Registered Public Accounting Firm

31.1 Certification of Principal Executive Officer Required by Rule
13a-14(a) of the Securities Exchange Act of 1934, as amended, as
Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

31.2 Certification of Principal Financial Officer Required by Rule
13a-14(a) of the Securities Exchange Act of 1934, as amended, as
Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

EXHIBIT
NUMBER DESCRIPTION
------- -----------

32 Certification of Chief Executive Officer and Chief Financial Officer
Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section
906 of the Sarbanes-Oxley Act of 2002

______________
(#) Management contract or compensatory plan, contract or arrangement
required to be filed as an exhibit.

(1) Filed as an exhibit to the Registrant's current report on Form 8-K for
March 23, 2005 filed with the Securities and Exchange Commission on
March 29, 2005 and incorporated herein by reference.

(2) Filed as an exhibit to the Registrant's quarterly report on Form 10-QSB
for March 31, 2005 (File No. 0-21467) filed with the Securities and
Exchange Commission on May 23, 2005 and incorporated herein by
reference.

(3) Filed as an exhibit to the Registrant's Registration Statement on Form
S-8 (Reg. No. 333-123538) filed with the Securities and Exchange
Commission on March 24, 2005 and incorporated herein by reference.

(4) Filed as an exhibit to the Registrant's annual report Form 10-KSB for
December 31, 2002 (File No. 0-21467) filed with the Securities and
Exchange Commission on March 31, 2003 and incorporated herein by
reference.

(5) Filed as an exhibit to the Registrant's current report on Form 8-K for
August 10, 2005 filed with the Securities and Exchange Commission on
August 16, 2005 and incorporated herein by reference.

(6) The Form of the Registration Rights Agreement was filed as Exhibit 4.4
to the Registrant's Registration Statement on Form S-1 (Reg. No.
333-127714) filed with the Securities and Exchange Commission on August
19, 2005 and incorporated herein by reference.

(7) Filed as an exhibit to the Registrant's Registration Statement on Form
S-1 (Reg. No. 333-127714) filed with the Securities and Exchange
Commission on August 19, 2005 and incorporated herein by reference.

(8) Filed as an exhibit to the Registrant's current report on Form 8-K for
August 31, 2005 filed with the Securities and Exchange Commission on
September 7, 2005 and incorporated herein by reference.

(9) Filed as an exhibit to the Registrant's Amendment No. 1 to Registration
Statement on Form S-1 (Reg. No. 333-127714) filed with the Securities
and Exchange Commission on November 1, 2005 and incorporated herein by
reference.

(10) Filed as an exhibit to the Registrant's current report on Form 8-K for
November 1, 2005 filed with the Securities and Exchange Commission on
November 7, 2005 and incorporated herein by reference.

(11) Filed as an exhibit to the Registrant's current report on Form 8-K for
November 2, 2005 filed with the Securities and Exchange Commission on
November 8, 2005 and incorporated herein by reference.

(12) Filed as an exhibit to the Registrant's current report on Form 8-K for
November 10, 2005 filed with the Securities and Exchange Commission on
November 15, 2005 and incorporated herein by reference.

(13) Filed as an exhibit to the Registrant's Amendment No. 2 to Registration
Statement on Form S-1 (Reg. No. 333-127714) filed with the Securities
and Exchange Commission on November 22, 2005 and incorporated herein by
reference.

(14) Filed as an exhibit to the Registrant's current report on Form 8-K for
January 26, 2006 filed with the Securities and Exchange Commission on
February 1, 2006 and incorporated herein by reference.

ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES.

The following table presents fees for professional audit services rendered
by Hein & Associates LLP for the year ended December 31, 2005 and Nussbaum Yates
& Wolpow, P.C. for the year ended December 31, 2004.

2005 2004
---------- ---------
Audit Fees $ 395,189 $ 67,500
Audit-Related Fees 98,938 --
Tax Fees 6,296 --
All Other Fees -- 40,726
---------- ---------
Total $ 500,423 $ 108,226
========== =========

AUDIT FEES. Consist of amounts billed for professional services rendered
for the audit of our annual consolidated financial statements included in our
Annual Reports on Forms 10-KSB, and reviews of our interim consolidated
financial statements included in our Quarterly Reports on Forms 10-QSB and our
Registration Statement on Form S-1, including amendments thereto.

AUDIT-RELATED FEES. Consist of amounts billed for professional services
performed in connection with mergers and acquisitions.

TAX FEES. Consists of amounts billed for professional services rendered
for tax return preparation, tax planning and tax advice.

ALL OTHER FEES. Consists of amounts billed for services other than those
noted above. In 2004, these services were primarily related to assistance and
review of our proxy statement that was filed with the Commission in the fourth
quarter of 2004 and matters related to the review of the Share Exchange
Agreement in connection with the Share Exchange Transaction that ultimately
occurred in March 2005. In 2005, these services were primarily related to
document review.

Our audit committee is responsible for approving all audit, audit-related,
tax and other services. The audit committee pre-approves all auditing services
and permitted non-audit services, including all fees and terms to be performed
for us by our independent auditor at the beginning of the fiscal year. Non-audit
services are reviewed and pre-approved by project at the beginning of the fiscal
year. Any additional non-audit services contemplated by Pacific Ethanol after
the beginning of the fiscal year are submitted to the audit committee chairman
for pre-approval prior to engaging the independent auditor for such services.
Such interim pre-approvals are reviewed with the full audit committee at its
next meeting for ratification.

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

PAGE
----

Report of Independent Registered Public Accounting Firm.....................F-2

Consolidated Balance Sheets as of December 31, 2005 and 2004................F-3

Consolidated Statements of Operations for the Years Ended
December 31, 2005 and 2004...............................................F-5

Consolidated Statement of Stockholders' Equity for the Years Ended
December 31, 2005 and 2004...............................................F-6

Consolidated Statements of Cash Flows for the Years Ended
December 31, 2005 and 2004...............................................F-8

Notes to Consolidated Financial Statements..................................F-10

F-1

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors
Pacific Ethanol, Inc.
Fresno, California

We have audited the consolidated balance sheets of Pacific Ethanol, Inc. (the
"Company") as of December 31, 2005 and 2004 and the related consolidated
statements of operations, stockholders' equity and cash flows for the years
ended December 31, 2005 and 2004. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audits to obtain reasonable assurance about whether the
financial statements are free of material misstatement. The Company has
determined that it is not required to have, nor were we engaged to perform, an
audit of its internal control over financial reporting. Our audits included
consideration of internal control over financial reporting as a basis for
designing audit procedures that are appropriate in the circumstances, but not
for the purpose of expressing an opinion on the effectiveness of the Company's
internal control over financial reporting. Accordingly, we express no such
opinion. An audit includes examining, on a test basis, evidence supporting the
amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Pacific
Ethanol, Inc., as of December 31, 2005 and 2004 and the consolidated results of
its operations and its cash flows for the years ended December 31, 2005 and
2004, in conformity with accounting principles generally accepted in the United
States of America.

/s/ HEIN & ASSOCIATES LLP
Irvine, California
April 14, 2006

F-2

PACIFIC ETHANOL, INC.

CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, 2005 AND 2004

ASSETS 2005 2004
------ -------------- -------------

CURRENT ASSETS:
Cash and cash equivalents $ 4,521,111 $ 42
Investments in marketable securities 2,750,000 --
Accounts receivable (including $937,713 and $0 as
of December 31, 2005 and 2004,
respectively, from a related party) 4,947,538 8,464
Notes receivable - related party 135,995 5,286
Inventories 362,972 --
Prepaid expenses 626,575 --
Prepaid inventory 1,349,427 293,115
Other current assets 86,054 479,199
-------------- -------------
Total current assets 14,779,672 786,106
-------------- -------------
PROPERTY AND EQUIPMENT, NET 23,208,248 6,324,824
-------------- -------------
OTHER ASSETS:
Debt issuance costs, net 48,333 68,333
Deposits 14,086 --
Goodwill 2,565,750 --
Intangible assets, net 7,568,723 --
-------------- -------------
Total other assets 10,196,892 68,333
-------------- -------------
TOTAL ASSETS $ 48,184,812 $ 7,179,263
============== =============

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

F-3

PACIFIC ETHANOL, INC.

CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, 2005 AND 2004 (CONTINUED)

LIABILITIES AND STOCKHOLDERS' EQUITY 2005 2004
------------------------------------ --------------- --------------

CURRENT LIABILITIES:
Current portion - related party note payable $ 1,200,000 $ --
Accounts payable - trade 4,755,235 383,012
Accounts payable - related party 6,411,618 846,211
Accrued retention - related party 1,450,500 --
Accrued payroll 433,887 18,963
Accrued interest payable - related party -- 30,864
Other accrued liabilities 3,422,565 531,803
--------------- --------------
Total current liabilities 17,673,805 1,810,853

RELATED-PARTY NOTES PAYABLE, NET OF CURRENT PORTION 1,995,576 4,012,678
--------------- --------------
TOTAL LIABILITIES (NOTE 11) 19,669,381 5,823,531
--------------- --------------
COMMITMENTS AND CONTINGENCIES

STOCKHOLDERS' EQUITY:
Preferred stock, $0.001 par value; 10,000,000
shares authorized, no shares issued and
outstanding as of December 31, 2005 and 2004 -- --
Common stock, $0.001 par value; 100,000,000 shares
authorized, 28,874,442 and 13,445,866 shares
issued and outstanding as of December 31, 2005
and 2004, respectively 28,874 13,446
Additional paid-in capital 43,697,486 5,071,632
Unvested consulting expense (1,625,964) --
Due from stockholders (600) (68,100)
Accumulated deficit (13,584,365) (3,661,246)
--------------- --------------
Total stockholders' equity 28,515,431 1,355,732
--------------- --------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 48,184,812 $ 7,179,263
=============== ==============

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

F-4

PACIFIC ETHANOL, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

2005 2004
--------------- --------------

Net sales (including $9,060,273 and $0 for the years
ended December 31, 2005 and 2004, respectively, to
a related party) $ 87,599,012 $ 19,764

Cost of goods sold 84,444,183 12,523
-------------- --------------
Gross profit 3,154,829 7,241

Operating expenses:

Selling, general and administrative expenses
(including $2,063,276 and $1,207,500 of
non-cash compensation expense for the years
ended December 31, 2005 and 2004, respectively) 10,994,630 2,277,510

Feasibility study expensed in connection with
acquisition of ReEnergy 852,250 --

Acquisition cost expense in excess of cash received 480,948 --

Discontinued design of cogeneration facility 310,522 --
-------------- --------------
Loss from operations (9,483,521) (2,270,269)

Other expense:

Other expense (270,783) (2,166)

Interest expense (163,215) (528,532)
-------------- --------------
Loss before provision for income taxes (9,917,519) (2,800,967)

Provision for income taxes 5,600 1,600
-------------- --------------
Net loss $ (9,923,119) $ (2,802,567)
============== ==============
Net loss per share, basic and diluted $ (0.40) $ (0.23)
============== ==============
Weighted-average shares outstanding, basic and diluted 25,065,872 12,396,895
============== ==============

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

F-5

PACIFIC ETHANOL, INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

Common Stock
-------------------- Additional Unvested
Paid-In Due from Consulting Accumulated
Shares Amount Capital Stockholders Expense Deficit Total
---------- ------- ------------ ------------- ----------- ------------- ------------

BALANCES, January 1, 2004 11,733,200 $11,733 $ 2,215,774 $ (1,000) $ -- $ (858,679) $ 1,367,828

Issuance of common stock to
friends and family, net of
offering costs of $7,127 19,000 19 21,354 -- -- -- 21,373

Issuance of warrants to purchase
920,000 shares of common
stock for non-cash
compensation to non-
employee for services -- -- 1,380,000 -- -- -- 1,380,000

Exercise of warrants 920,000 920 (828) -- -- -- 92

Collection of shareholder
receivable -- -- -- 400 -- -- 400

Issuance of common stock in
working capital round, net
of offering costs of $107,418 500,000 500 892,082 (67,500) -- -- 825,082

Issuance of common stock in
working capital round, net
of offering costs of $2,475 103,666 104 308,420 -- -- -- 308,524

Conversion of LDI debt 170,000 170 254,830 -- -- -- 255,000

Net loss -- -- -- -- -- (2,802,567) (2,802,567)
---------- ------- ------------ ------------- ----------- ------------- ------------
BALANCES, December 31, 2004 13,445,866 $13,446 $ 5,071,632 $ (68,100) $ -- $ (3,661,246) $ 1,355,732
========== ======= ============ ============= =========== ============= ============

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

F-6

PACIFIC ETHANOL, INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004 (CONTINUED)

BALANCES, January 1, 2005 13,445,866 $13,446 $ 5,071,632 $ (68,100) $ -- $ (3,661,246) $ 1,355,732

Amounts received from shareholder -- -- -- 67,500 -- -- 67,500

Issuance of shares in private
placement, net of offering
costs of $2,124,815 7,000,000 7,000 18,868,185 -- -- -- 18,875,185

Share Exchange 7,089,452 7,089 13,576,936 -- -- -- 13,584,025

Acquisition costs in excess of cash
acquired -- -- 480,948 -- -- -- 480,948

Compensation expense related to
issuance of warrants for
consulting services -- -- 2,553,000 -- (1,625,964) -- 927,036

Stock issued for exercise of
warrants for cash 237,249 237 489,772 -- -- -- 490,009

Stock issued in cashless exercise
of warrants 34,413 34 (34) -- -- -- --

Compensation expense for options
issued to employees -- -- 80,490 -- -- -- 80,490

Compensation expense for employee
option converted into a warrant -- -- 232,250 -- -- -- 232,250

Stock issued for exercise of stock
options for cash 78,000 78 449,297 -- 449,375

Stock issued for cashless exercise
of stock options 89,462 89 (89) --

Issuance of stock to employees 70,000 70 650,930 651,000

Conversion of LDI debt 830,000 830 1,244,170 -- -- -- 1,245,000

Net loss -- -- -- -- -- (9,923,119) (9,923,119)
---------- ------- ------------ ------------- ------------ ------------- ------------
BALANCES, December 31, 2005 28,874,442 $28,874 $43,697,486 $ (600) $(1,625,964) $(13,584,365) $28,515,431
========== ======= ============ ============= ============ ============= ============

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

F-7

PACIFIC ETHANOL, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

2005 2004
----------------- ----------------

Net loss $ (9,923,119) $ (2,802,567)
Adjustments to reconcile net loss to
cash used in operating activities:
Depreciation and amortization of intangibles 766,525 78,743
Amortization of debt issuance costs 20,000 20,000
Interest expense relating to amortization of debt discount 427,898 240,536
Discontinued design of cogeneration facility 310,522 --
Non-cash compensation expense 963,740 --
Non-cash consulting expense 1,099,536 1,207,500
Expiration of option acquired in acquisition of ReEnergy 120,000 --
Feasibility study expensed in connection with acquisition of ReEnergy 852,250 --
Acquisition cost expense in excess of cash received 480,948 --
(Increase) decrease in:
Accounts receivable (2,427,415) 15,724
Notes receivable, related party (130,709) (5,286)
Inventories 218,593 1,734
Prepaid expenses and other assets (514,874) (98,938)
Prepaid inventory (1,041,865) --
Other receivable (21,848) 261,850

Increase (decrease) in:
Accounts payable 2,496,109 87,055
Accounts payable, related party 5,565,407 396,190
Accrued retention, related party 1,450,500 --
Accrued payroll 414,924 5,604
Accrued interest payable (31,315) (121,316)
Accrued liabilities 2,911,204 258,656
----------------- ----------------
Net cash provided by (used in) operating activities 4,007,011 (454,515)
----------------- ----------------
Cash flows from Investing Activities:
Additions to property and equipment (17,272,971) (739,354)
Proceeds from sales of available-for-sale investments (15,000,000)
Purchases of available-for-sale investments 12,250,000 --
Payment on related party notes receivable -- 199,749
Payment on deposit (14,086) --
Net cash acquired in acquisition of Kinergy, ReEnergy and Accessity 3,326,924 --
Cash payments in connection with share exchange transaction (540,825) (430,393)
----------------- ----------------
Net cash used in investing activities (17,250,958) (969,998)
----------------- ----------------
Cash flows from Financing Activities: --
Proceeds from sale of stock, net 18,875,185 1,155,379
Payment on notes payable, Kinergy and ReEnergy (2,097,053) --
Proceeds from notes payable, related party 280,000 20,000
Payment on notes payable, related party (300,000) --
Proceeds from exercise of stock options 939,384 92
Receipt of stockholder receivable 67,500 --
----------------- ----------------
Net cash provided by financing activities 17,765,016 1,175,471
----------------- ----------------
Net increase (decrease) in cash and cash equivalents 4,521,069 (249,042)
Cash and cash equivalents at beginning of period 42 249,084
----------------- ----------------
Cash and cash equivalents at end of period $ 4,521,111 $ 42
================= ================

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

F-8

PACIFIC ETHANOL, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004 (CONTINUED)

2005 2004
---------------- ---------------

Supplemental Information:

Interest paid $ 386,854 $ 422,233
================ ===============
Income taxes paid $ 5,600 $ 2,400
================ ===============
Non-Cash Financing and Investing activities:

Conversion of debt to equity $ 1,245,000 $ 255,000
================ ===============
Issuance of stock for receivable $ -- $ 67,100
================ ===============
Purchase of ReEnergy with stock $ 316,250 $ --
================ ===============
Shares contributed by stockholder in purchase of ReEnergy $ 506,000 $ --
================ ===============
Shares contributed by stockholder in purchase of Kinergy $ 1,012,000 $ --
================ ===============
Purchase of Kinergy with stock $ 9,803,750 $ --
================ ===============

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

F-9

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

ORGANIZATION AND BUSINESS - These consolidated financial statements
include the accounts of Pacific Ethanol, Inc., a Delaware corporation, and
its wholly-owned subsidiaries Pacific Ethanol California, Inc., a
California corporation that was incorporated on January 30, 2003 ("PEI
California"), Kinergy Marketing, LLC, an Oregon limited liability company
that was organized on September 13, 2000 ("Kinergy"), and ReEnergy, LLC, a
California limited liability company that was organized on March 7, 2001
("ReEnergy") (collectively, the "Company"). The Company is engaged in the
business of marketing ethanol in the Western United States and is in the
process of constructing an ethanol production facility in Madera County,
California.

On March 23, 2005, the Company completed a share exchange transaction with
the shareholders of PEI California and the holders of the membership
interests of each of Kinergy and ReEnergy, pursuant to which the Company
acquired all of the issued and outstanding capital stock of PEI California
and all of the outstanding membership interests of Kinergy and ReEnergy
(the "Share Exchange Transaction"). Immediately prior to the consummation
of the Share Exchange Transaction, the Company's predecessor, Accessity
Corp., a New York corporation ("Accessity"), reincorporated in the State
of Delaware under the name "Pacific Ethanol, Inc" through a merger of
Accessity with and into its then-wholly-owned Delaware subsidiary named
Pacific Ethanol, Inc., which was formed for the purpose of effecting the
reincorporation (the "Reincorporation Merger"). In connection with the
Reincorporation Merger, the shareholders of Accessity became stockholders
of the Company and the Company succeeded to the rights, properties and
assets and assumed the liabilities of Accessity. (See Note 2.)

The Share Exchange Transaction has been accounted for as a reverse
acquisition whereby PEI California is deemed to be the accounting
acquiror. The Company has consolidated the results of PEI California,
Kinergy and ReEnergy beginning March 23, 2005, the date of the Share
Exchange Transaction. Accordingly, the Company's results of operations for
the year ended December 31, 2004 consist only of the operations of PEI
California and the Company's results of operations for the year ended
December 31, 2005 consist of the operations of PEI California for the
twelve month period and the operations of Kinergy and ReEnergy from March
23, 2005 through December 31, 2005. (See Note 2.)

BASIS OF PRESENTATION - These consolidated financial statements and
related notes have been prepared in accordance with accounting principles
generally accepted in the United States of America and include the
accounts of Pacific Ethanol, Inc. and each of its subsidiaries. All
significant intercompany accounts and transactions have been eliminated in
consolidation.

LIQUIDITY - The Company believes that current and future available capital
resources, revenues generated from operations, and other existing sources
of liquidity, including the credit facilities the Company has and the
remaining proceeds the Company has from PEI California's March 2005
private offering, the Company's offering of Series A Preferred Stock and
the available proceeds from the Debt Financing, will be adequate to meet
the Company's anticipated working capital and capital expenditure
requirements for at least the next twelve months. If, however, the
Company's capital requirements or cash flow vary materially from the
Company's current projections, if unforeseen circumstances occur, or if
the Company requires a significant amount of cash to fund future
acquisitions, the Company may require additional financing. The Company's
failure to raise capital, if needed, could restrict its growth or hinder
its ability to compete. (See "Preferred Stock Financing and Debt
Financing" in Note 13.)

F-10

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

CASH AND CASH EQUIVALENTS - For financial statement purposes, the Company
considers all highly liquid investments with an original maturity of three
months or less, to be cash equivalents.

MARKETABLE SECURITIES- The Company's short-term investments consist
primarily of Auction Rate Securities ("ARS"), which represent funds
available for current operations. In accordance with SFAS No. 115, ACTING
FOR CERTAIN INVESTMENTS IN DEBT AND EQUITY SECURITIES, these short-term
investments are classified as available-for-sale and are carried at cost
or par value, which approximates the fair market value. These securities
have stated maturities beyond three months but are priced and traded as
short-term instruments.

ALLOWANCE FOR DOUBTFUL ACCOUNTS - The Company does business and extends
credit based on an evaluation of the customers' financial condition
generally without requiring collateral. Exposure to losses on trade
receivables is expected to vary by customer due to the financial condition
of each customer. The Company monitors exposure to credit losses and
maintains allowances for anticipated losses considered necessary under the
circumstances.

Delinquent accounts receivable are charged against the allowance for
doubtful accounts once uncollectibility has been determined. The allowance
is determined through an analysis of the aging of accounts receivable and
assessments of risk that are based on historical trends and an evaluation
of the impact of current and projected economic conditions. The Company
evaluates the past-due status of its receivables based on contractual
terms of sale. If the financial condition of the Company's customers were
to deteriorate, resulting in an impairment of ability to make payments,
additional allowances may be required.

At December 31, 2005 and 2004, management of the Company believed that all
receivables were collectible, and therefore has not established an
allowance for bad debt. The Company has had no material bad debt expense
for the period from January 1, 2004 to December 31, 2005.

CONCENTRATIONS OF CREDIT RISK - Credit risk represents the accounting loss
that would be recognized at the reporting date if counterparties failed
completely to perform as contracted. Concentrations of credit risk
(whether on or off balance sheet) that arise from financial instruments
exist for groups of customers or counterparties when they have similar
economic characteristics that would cause their ability to meet
contractual obligations to be similarly affected by changes in economic or
other conditions described below.

Financial instruments that subject the Company to credit risk consist of
cash balances maintained in excess of federal depository insurance limits
and accounts receivable, which have no collateral or security. The
accounts maintained by the Company at the financial institution are
insured by the Federal Deposit Insurance Corporation (FDIC) up to
$100,000. At December 31, 2005, the uninsured balance was $4,048,476 and
at December 31, 2004, the uninsured balance was $0. The Company has not
experienced any losses in such accounts and believes it is not exposed to
any significant risk of loss on cash.

F-11

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

During 2004 and the beginning of 2005, the Company received a handling fee
from its trans-loading capabilities. From March 23, 2005 (acquisition of
Kinergy) to December 31, 2005, the Company received proceeds from sales of
fuel grade ethanol to its customers. During the years ended December 31,
2005 and December 31, 2004, the Company had sales from customers
representing 10% or more of total sales as follows:

2005 2004
---------- ----------
Customer A 18% 0%
Customer B 11% 0%
Customer C 10% 0%
Customer D 0% 36%
Customer E 0% 25%
Customer F 0% 22%
Customer G 0% 15%

As of December 31, 2005, the Company had receivables of approximately
$2,203,759 from these customers, representing 45% of total accounts
receivable.

From March 23, 2005 (acquisition of Kinergy) to December 31, 2005, the
Company purchased fuel grade ethanol from its suppliers. During the year
ended December 31, 2005, the Company had purchases from vendors
representing 10% or more of total purchases as follows:

2005
----------
Vendor A 22%
Vendor B 20%
Vendor C 17%

INVENTORIES - Inventories consist of bulk ethanol fuel and is valued at
the lower of cost or market; cost being determined on a first-in,
first-out basis. Shipping and handling costs are classified as a component
of cost of goods sold in the accompanying statements of operations and
stockholders' equity.

PROPERTY AND EQUIPMENT - Property and equipment are stated at cost.
Depreciation is computed using the straight-line method over the following
estimated useful lives:

Facilities 10 - 25 years
Equipment and vehicles 7 years
Office furniture, fixtures and equipment 5 - 10 years

F-12

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

The cost of normal maintenance and repairs is charged to operations as
incurred. Material expenditures that increase the life of an asset are
capitalized and depreciated over the estimated remaining useful life of
the asset. The cost of fixed assets sold, or otherwise disposed of, and
the related accumulated depreciation or amortization are removed from the
accounts, and any resulting gains or losses are reflected in current
operations.

NET INCOME (LOSS) PER SHARE - Basic net income (loss) per share is
computed by dividing net income (loss) by the weighted average number of
shares of common stock outstanding during the period. Diluted net income
(loss) per share is computed by dividing net income (loss) by the weighted
average number of shares of common stock and common stock equivalents
outstanding during the period. There were 3,832,318 and 979,587 of stock
options, common stock warrants, and convertible securities outstanding as
of December 31, 2005 and 2004, respectively. These options and warrants
were not considered in calculating diluted net loss per common share as
their effect would be anti-dilutive. As a result, for all periods
presented, the Company's basic and diluted net loss per share are the
same.

The following table computes basic and diluted net loss per share:

Year Ended December 31,
-----------------------------
2005 2004
------------- -------------
Numerator (basic and diluted):
Net loss $ (9,923,119) $ (2,802,567)
------------- -------------
Denominator:
Weighted average common shares
outstanding - basic and diluted 25,065,872 12,396,895
------------- -------------
Net loss per share - basic and diluted $ (0.40) $ (0.23)
============= =============

FINANCIAL INSTRUMENTS - Statement of Financial Accounting Standards
("SFAS") No. 107, DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS,
requires all entities to disclose the fair value of financial instruments,
both assets and liabilities recognized and not recognized on the balance
sheet, for which it is practicable to estimate fair value. This statement
defines fair value of a financial instrument as the amount at which the
instrument could be exchanged in a current transaction between willing
parties. As of December 31, 2005 and 2004, the fair value of all financial
instruments approximated carrying value.

The carrying amount of cash and cash equivalents, marketable securities,
accounts receivable, accounts payable and accrued expenses are reasonable
estimates of their fair value because of the short maturity of these
items. The Company believes the carrying amounts of its notes payable and
long-term debt approximate fair value because the interest rates on these
instruments are variable.

DEFERRED FINANCING COSTS - Deferred financing costs are costs incurred to
obtain debt financing, including all related fees, and are included in the
accompanying consolidated balance sheets and are amortized as interest
expense over the term of the related financing, using the straight-line
method which approximates the interest rate method.

F-13

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

IMPAIRMENT OF LONG-LIVED ASSETS - The Company evaluates impairment of
long-lived assets in accordance with SFAS No. 144, ACCOUNTING FOR THE
IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSET. The Company assesses the
impairment of long-lived assets, including property and equipment and
purchased intangibles subject to amortization, which are reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. The asset impairment
review assesses the fair value of the assets based on the future cash
flows the assets are expected to generate. An impairment loss is
recognized when estimated undiscounted future cash flows expected to
result from the use of the asset plus net proceeds expected from the
disposition of the asset (if any) are less than the related asset's
carrying amount. Impairment losses are measured as the amount by which the
carrying amounts of the assets exceed their fair values. Estimates of
future cash flows are judgments based on management's experience and
knowledge of the Company's operations and the industries in which the
Company operates. These estimates can be significantly affected by future
changes in market conditions, the economic environment, and capital
spending decisions of the Company's customers and inflation.

ReEnergy held an option to purchase real property that was recorded as an
asset at a fair value of $120,000. Upon expiration of this option on
December 15, 2005, the Company expensed the $120,000 fair value of the
option.

The Company had recorded $310,522 as construction in progress related to
the design of an energy cogeneration facility at the Madera ethanol
production facility. Based on various factors including increased project
complexity and rising natural gas costs, making construction less
favorable, further development was not pursued and the Company expensed
the full amount at December 31, 2005.

The Company believes the future cash flows to be received from its
long-lived assets, net of these impairments, will exceed the assets'
carrying value, and, accordingly, the Company has not recognized any other
impairment losses through December 31, 2005.

GOODWILL - Goodwill represents the excess of cost of an acquired entity
over the net of the amounts assigned to net assets acquired and
liabilities assumed. The Company accounts for its goodwill in accordance
with SFAS No. 142, GOODWILL AND OTHER INTANGIBLE ASSETS, which requires an
annual review for impairment or more frequently if impairment indicators
arise. This review would include the determination of each reporting
unit's fair value using market multiples and discounted cash flow
modeling. Separable intangible assets that have finite lives continue to
be amortized over their estimated useful lives. The Company has adopted
SFAS No. 142 guidelines for annual review of impairment of goodwill and
intends to perform the annual review analysis on the anniversary of its
Share Exchange Transaction. (See Note 5.)

STOCK-BASED COMPENSATION - The Company accounts for stock-based
compensation in accordance with Accounting Principles Board ("APB")
Opinion No. 25, Accounting for Stock Issued to Employees. Under the
intrinsic-value method prescribed by APB Opinion No. 25, compensation cost
is the excess, if any, of the quoted market price of the stock on the
grant date of the option over the exercise price of the option.

F-14

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

Pro forma information regarding net loss and loss per share is required by
SFAS No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION, and has been
determined as if the Company had accounted for its employee stock options
under the fair value method of that Statement. The Black-Scholes option
valuation model was developed for use in estimating the fair value of
traded options that have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of
highly subjective assumptions including the expected stock price
volatility. Because the Company's employee stock options have
characteristics significantly different from those of traded options, and
because changes in the subjective input assumptions can materially affect
the fair value estimate, in management's opinion, the existing models do
not necessarily provide a reliable single measure of the fair value of its
employee stock options. In December 2002, the Financial Accounting
Statements Board ("FASB") issued SFAS No. 148, ACCOUNTING FOR STOCK-BASED
COMPENSATION--TRANSITION AND DISCLOSURE. SFAS No. 148 amends the
disclosure requirements of SFAS No. 123 to require prominent disclosures
in both annual and interim financial statements about the method of
accounting for stock-based employee compensation and the effect of the
method used on reported results.

In accordance with SFAS No. 148, the following table illustrates the
effect on the Company's net loss and loss per share as if the Company had
applied the fair value recognition provisions of SFAS No. 123 to its
stock-based employee compensation awards, and recognized expense over the
applicable award vesting period:

Year Ended December 31,
------------------------------
2005 2004
------------- --------------

Net loss, as reported $ (9,923,119) $ (2,802,567)
Add: stock-based employee compensation expense (reversal)
included in reported net loss 312,740 --
Less: Stock-based employee compensation (expense) reversal
determined under fair value based method for all awards,
net of related tax effects (1,305,943) --
------------- --------------

Pro forma net loss $(10,916,322) $ (2,802,567)
============= ==============

Basic and diluted net loss per share, as reported $ (0.40) $ (0.23)
============= ==============

Pro forma basic and diluted net loss per share $ (0.44) $ (0.23)
============= ==============

The Company's assumptions made for purposes of estimating the fair value
of its stock options, as well as a summary of the activity under the
Company's stock option plan are included in Note 10.

The Company accounts for the stock options granted to non-employees in
accordance with Emerging Issues Task Force ("EITF") Issue No. 96-18,
ACCOUNTING FOR EQUITY INSTRUMENTS THAT ARE ISSUED TO OTHER THAN EMPLOYEES
FOR ACQUIRING, OR IN CONJUNCTION WITH SELLING, GOODS OR SERVICES and SFAS
No. 123. Options granted to non-employees are analyzed under the
guidelines of EITF Issue No. 96-18 to determine the appropriate date of
measurement of fair value and method of recording the non-cash equity
compensation expense.

F-15

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

REVENUE RECOGNITION - The Company derives revenue primarily from sales of
ethanol. The Company's sales are based upon written agreements or purchase
orders that identify the amount of ethanol to be purchased and the
purchase price. Shipments are made to customers, either, directly from
suppliers or from the Company's inventory to the Company's customers by
truck or rail. Ethanol that is shipped by rail originates primarily in the
Midwest and takes from 10 to 14 days from date of shipment to be delivered
to the customer or to one of four terminals in California and Oregon. For
local deliveries the product is shipped by truck and delivered the same
day as shipment. Revenue is recognized upon delivery of ethanol to a
customer's designated ethanol tank in accordance with Staff Accounting
Bulletin ("SAB") No. 104, REVENUE RECOGNITION, and the related EITF Issue
No. 99-19, REPORTING REVENUE GROSS AS A PRINCIPAL VERSUS NET AS AN AGENT.

Revenues on the sale of ethanol that are shipped from the Company's stock
of inventory are recognized when the ethanol has been delivered to the
customer provided that appropriate signed documentation of the
arrangement, such as a signed contract, purchase order or letter of
agreement, has been received, the fee is fixed or determinable and
collectibility is reasonably assured.

In accordance with EITF Issue No. 99-19, revenue from drop shipments of
third-party ethanol sales are recognized upon delivery, and recorded at
the gross amount when the Company is responsible for fulfillment of the
customer order, has latitude in pricing, incurs credit risk on the
receivable and has discretion in the selection of the supplier. Shipping
and handling costs are included in cost of goods sold.

The Company has entered into certain contracts under which the Company may
pay the owner of the ethanol the gross payments received by the Company
from third parties for forward sales of ethanol less certain transaction
costs and fees. From the gross payments, the Company may deduct
transportation costs and expenses incurred by or on behalf of the Company
in connection with the marketing of ethanol pursuant to the agreement,
including truck, rail and terminal fees for the transportation of the
facility's ethanol to third parties and may also deduct and retain a
marketing fee calculated after deducting these costs and expenses. (See
Note 11.) During 2005, the Company has not recorded revenues under these
terms. If and when the Company does purchase and sell ethanol under these
terms, the Company will evaluate the proper recording of the sales under
EITF Issue No. 99-19.

INCOME TAXES - Income taxes are accounted for under SFAS No. 109,
ACCOUNTING FOR INCOME TAXES. Under SFAS No. 109, deferred tax assets and
liabilities are determined based on differences between financial
reporting and tax basis of assets and liabilities, and are measured using
enacted tax rates and laws that are expected to be in effect when the
differences reverse. Valuation allowances are established when necessary
to reduce deferred tax assets to the amounts expected to be realized.

F-16

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

ESTIMATES AND ASSUMPTIONS - The preparation of the consolidated financial
statements in conformity with accounting principles generally accepted in
the United States 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. Significant estimates are required as part of
determining allowance for doubtful accounts, estimated lives of property
and equipment and intangibles, goodwill and long-lived asset impairments,
valuation allowances on deferred income taxes, and the potential outcome
of future tax consequences of events recognized in the Company's financial
statements or tax returns. Actual results and outcomes may materially
differ from management's estimates and assumptions.

RECLASSIFICATIONS - Certain prior year amounts have been reclassified to
conform to the current presentation. Such reclassification had no effect
on net loss.

RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS - In December 2004, the FASB
issued SFAS No. 123R (revised 2004), SHARE-BASED PAYMENT. SFAS No. 123R
replaced SFAS No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION, and
superseded APB Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES.
In March 2005, the United States Securities and Exchange Commission (SEC)
issued SAB No. 107, VALUATION OF SHARE-BASED PAYMENT ARRANGEMENT FOR
PUBLIC COMPANIES, which expresses views of the SEC staff regarding the
interaction between SFAS No. 123R and certain SEC rules and regulations,
and provides the staff's views regarding the valuation of share-based
payment arrangements for public companies. SFAS No. 123R will require
compensation cost related to share-based payment transactions to be
recognized in the financial statements. SFAS No. 123R required public
companies to apply SFAS No. 123R in the first interim or annual reporting
period beginning after June 15, 2005. In April 2005, the SEC approved a
new rule that delays the effective date, requiring public companies to
apply SFAS No. 123R in their next fiscal year, instead of the next interim
reporting period, beginning after June 15, 2005. As permitted by SFAS No.
123, the Company elected to follow the guidance of APB Opinion No. 25,
which allowed companies to use the intrinsic value method of accounting to
value their share-based payment transactions with employees. SFAS No. 123R
requires measurement of the cost of share-based payment transactions to
employees at the fair value of the award on the grant date and recognition
of expense over the requisite service or vesting period. SFAS No. 123R
requires implementation using a modified version of prospective
application, under which compensation expense of the unvested portion of
previously granted awards and all new awards will be recognized on or
after the date of adoption. SFAS No. 123R also allows companies to adopt
SFAS No. 123R by restating previously issued statements, basing the
amounts on the expense previously calculated and reported in their pro
forma footnote disclosures required under SFAS No. 123. The Company will
adopt SFAS No. 123R using the modified prospective method in the first
interim period of fiscal 2006 and is currently evaluating the impact that
the adoption of SFAS No. 123R will have on its consolidated results of
operations and financial position.

F-17

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

In May 2005, the FASB issued SFAS No. 154, ACCOUNTING CHANGES AND ERROR
CORRECTIONS, which addresses the accounting and reporting for changes in
accounting principles. SFAS No. 154 replaces APB Opinion No. 20 and FIN 20
and is effective for accounting changes in fiscal years beginning after
December 31, 2005. This Statement applies to all voluntary changes in
accounting principle. This Statement defines retrospective application as
the application of a different accounting principle to prior accounting
periods as if that principle had always been used or as the adjustment of
previously issued financial statements to reflect a change in the
reporting entity. This Statement redefines restatement as the revising of
previously issued financial statements to reflect the correction of an
error.

In September 2005, the FASB reached a final consensus on EITF Issue No.
04-13, ACCOUNTING FOR PURCHASES AND SALES OF INVENTORY WITH THE SAME
COUNTERPARTY. EITF Issue No. 04-13 concludes that two or more legally
separated exchange transactions with the same counterparty should be
combined and considered as a single arrangement for purposes of applying
APB Opinion No. 29, ACCOUNTING FOR NONMONETARY TRANSACTIONS, when the
transactions were entered into "in contemplation" of one another. The
consensus contains several indicators to be considered in assessing
whether two transactions are entered into in contemplation of one another.
If, based on consideration of the indicators and the substance of the
arrangement, two transactions are combined and considered a single
arrangement, an exchange of finished goods inventory for either raw
material or work-in-process should be accounted for at fair value. The
provisions of EITF Issue No. 04-13 are applied to transactions completed
in reporting periods beginning after March 15, 2006. The Company does not
expect this statement to have a material impact on its financial condition
or its results of operations.

In February 2006, the FASB issued SFAS No. 155, ACCOUNTING FOR CERTAIN
HYBRID FINANCIAL INSTRUMENTS which amends SFAS No. 133, ACCOUNTING FOR
DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES and SFAS No. 140, ACCOUNTING
OR THE IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS. Specifically, SFAS No.
155 amends SFAS No. 133 to permit fair value remeasurement for any hybrid
financial instrument with an embedded derivative that otherwise would
require bifurcation, provided the whole instrument is accounted for on a
fair value basis. Additionally, SFAS No. 155 amends SFAS No. 140 to allow
a qualifying special purpose entity to hold a derivative financial
instrument that pertains to a beneficial interest other than another
derivative financial instrument. SFAS No. 155 applies to all financial
instruments acquired or issued after the beginning of an entity's first
fiscal year that begins after September 15, 2006, with early application
allowed. The adoption of SFAS No. 155 is not expected to have a material
impact on the Company's results of operations or financial position.

2. SHARE EXCHANGE TRANSACTION:

On March 23, 2005, the shareholders of PEI California and Accessity, and
the holders of the membership interests of each of Kinergy and ReEnergy,
completed a stock-for-stock share exchange (the "Share Exchange
Transaction"). The Share Exchange Transaction has been accounted for as a
reverse acquisition whereby PEI California is deemed to be the accounting
acquiror.

F-18

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

The following table summarizes the assets acquired and liabilities assumed
in connection with the Share Exchange Transaction:

Accessity Kinergy ReEnergy
March 23, 2005 March 23, 2005 March 23, 2005 Total
-------------- -------------- -------------- --------------

Current Assets
Cash $ 2,870,270 $ 454,099 $ 2,555 $ 3,326,924
Other current assets -- 3,407,272 -- 3,407,272
-------------- -------------- -------------- --------------
Total Current Assets 2,870,270 3,861,371 2,555 6,734,196
-------------- -------------- -------------- --------------
Property and Equipment -- 6,224 -- 6,224
-------------- -------------- -------------- --------------
Other Assets
Land option -- -- 120,000 120,000
-------------- -------------- -------------- --------------
Intangible Assets
Distribution backlog -- 136,000 -- 136,000
Customer relations -- 4,741,000 -- 4,741,000
Non-compete -- 695,000 -- 695,000
Trade name -- 2,678,000 -- 2,678,000
Goodwill -- 2,565,750 -- 2,565,750
-------------- -------------- -------------- --------------
Total Intangible Assets -- 10,815,750 -- 10,815,750
-------------- -------------- -------------- --------------

Total Assets 2,870,270 14,683,345 122,555 17,676,170
-------------- -------------- -------------- --------------
Current Liabilities
Accounts payable and accrued
expenses 138,978 1,771,981 1,116 1,912,075
Amount due to Cagan McAfee 83,017 -- -- 83,017
Due to Kinergy/ReEnergy Members -- 2,095,614 1,439 2,097,053
-------------- -------------- -------------- --------------
Total Current Liabilities 221,995 3,867,595 2,555 4,092,145
-------------- -------------- -------------- --------------

Net Assets $ 2,648,275 $ 10,815,750 $ 120,000 $ 13,584,025
============== ============== ============== ==============

Expense for services rendered in
connection with feasibility study $ -- $ -- $ 852,250 $ 852,250
============== ============== ============== ==============

Stock Issued 2,339,452 3,875,000 125,000 6,339,452
Stock issued to Accessity officers 600,000 -- -- 600,000
Stock Issued as finders fee 150,000 -- -- 150,000
-------------- -------------- -------------- --------------
Total Stock Issued 3,089,452 3,875,000 125,000 7,089,452
============== ============== ============== ==============

REVERSE ACQUISITION - Immediately prior to the consummation of the Share
Exchange Transaction, the Company's predecessor, Accessity, reincorporated
in the State of Delaware under the name "Pacific Ethanol, Inc" through a
merger of Accessity with and into its then-wholly-owned Delaware
subsidiary named Pacific Ethanol, Inc., which was formed for the purpose
of effecting the reincorporation (the "Reincorporation Merger"). In
connection with the Reincorporation Merger, the shareholders of Accessity
became stockholders of the Company and the Company succeeded to the
rights, properties and assets and assumed the liabilities of Accessity.

F-19

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

In addition, Accessity divested its two operating subsidiaries.
Accordingly, effective as of the closing of the Share Exchange
Transaction, Accessity did not have any ongoing business operations.
Assets consisting primarily of cash and cash equivalents totaling
$2,870,270 were acquired and certain current liabilities of $221,995 were
assumed from Accessity. Because Accessity had no operations and only net
monetary assets, the Share Exchange Transaction is being treated as a
capital transaction, whereby PEI California acquired the net monetary
assets of Accessity, accompanied by a recapitalization of PEI California.
As such, no fair value adjustments were necessary for any of the assets
acquired or liabilities assumed.

The former shareholders of Accessity, who collectively held 2,339,452
shares of common stock of Accessity, became the stockholders of an equal
number of shares of common stock of the Company and holders of options and
warrants to acquire shares of common stock of Accessity, who collectively
held options and warrants to acquire 402,667 shares of common stock of
Accessity, became holders of options and warrants to acquire an equal
number of shares of common stock of the Company.

In connection with the reverse acquisition, the Company issued to
Accessity's and the Company's former Chairman of the Board, President and
Chief Executive Officer, 400,000 shares of the Company's common stock in
consideration of his obligations under a Confidentiality, Non-Competition,
Non-Solicitation and Consulting Agreement that was entered into with the
Company in connection with the Share Exchange Transaction. These shares,
valued at $1,012,000, are accounted for as transaction costs of the
reverse acquisition.

In connection with the reverse acquisition, the Company issued to
Accessity's and the Company's former Senior Vice President, Secretary,
Treasurer and Chief Financial Officer, 200,000 shares of the Company's
common stock in consideration of his obligations under a Confidentiality,
Non-Competition, Non-Solicitation and Consulting Agreement that was
entered into with the Company in connection with the Share Exchange
Transaction. These shares, valued at $506,000, are accounted for as
transaction costs of the reverse acquisition.

On March 23, 2005, the Company issued 150,000 shares of common stock to an
independent contractor for services rendered by her as a finder in
connection with the Share Exchange Transaction. These shares, valued at
$379,500, are accounted for as transaction costs of the reverse
acquisition.

Immediately prior to the closing of the Share Exchange Transaction,
certain shareholders of PEI California sold an aggregate of 250,000 shares
of PEI California's common stock owned by them to the then-Chief Executive
Officer of Accessity at $0.01 per share to compensate him for facilitating
the closing of the Share Exchange Transaction. These shares, valued at
$632,500, are accounted for as transaction costs of the reverse
acquisition.

F-20

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

In addition to the value of the shares transferred as discussed above
totaling $2,530,000, the Company incurred $821,218 in legal fees, finder's
fees and valuation services in connection with the reverse acquisition,
resulting in total transaction costs of $3,351,218. The Company has
recorded an expense with a corresponding increase in paid in capital in
the amount of $480,948 for transaction costs incurred in excess of the
cash acquired from Accessity.

KINERGY ACQUISITION - In connection with the Share Exchange Transaction,
the Company issued 3,875,000 shares of common stock to the sole limited
liability company member of Kinergy to acquire Kinergy. This stock was
valued at $9,803,750.

Immediately prior to the closing of the Share Exchange Transaction, the
Chairman of the Board of Directors of the Company and PEI California sold
300,000 shares of PEI California's common stock to the sole member of
Kinergy and an officer and director of the Company and PEI California, at
$0.01 per share to compensate him for facilitating the closing of the
Share Exchange Transaction. The transfer of these shares resulted in
additional purchase price of $759,000.

Immediately prior to the closing of the Share Exchange Transaction, the
Chairman of the Board of Directors of the Company and PEI California sold
100,000 shares of PEI California's common stock to a member of ReEnergy
and a related party of the sole member of Kinergy, at $0.01 per share to
compensate him for facilitating the closing of the Share Exchange
Transaction. The transfer of these shares resulted in additional purchase
price of $253,000.

The transfer of these shares increased the purchase price by $1,012,000,
resulting in a total purchase price for Kinergy of $10,815,750.

Pursuant to the terms of the Share Exchange Transaction, Kinergy
distributed to its sole member in the form of a promissory note in the
amount of $2,095,614, Kinergy's net worth as set forth on Kinergy's
balance sheet prepared in accordance with generally accepted accounting
principles, as of March 23, 2005. As a result, there was no value to the
net assets acquired, resulting in a significant premium paid to acquire
Kinergy. In deciding to pay this premium, the Company considered various
factors, including the value of Kinergy's trade name, Kinergy's extensive
market presence and history, Kinergy's industry knowledge and expertise,
Kinergy's extensive customer relationships and expected synergies among
Kinergy's businesses and assets and the Company's planned entry into the
ethanol production business. The purchase price has been allocated as
follows:

Backlog................................. $ 136,000
Customer relationships.................. 4,741,000
Non-compete............................. 695,000
Kinergy trade name...................... 2,678,000
Goodwill................................ 2,565,750
-------------
Total assets acquired................... $ 10,815,750
=============

F-21

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

The Company has determined that the Kinergy trade name has an indefinite
life and therefore, rather than being amortized, it will be periodically
tested for impairment. The distribution backlog had an estimated life of
six months, the customer relationships were estimated to have a ten-year
life and the non-compete had an estimated life of three years and, as a
result, will be amortized accordingly, unless otherwise impaired at an
earlier time.

REENERGY ACQUISITION - The Company made a $150,000 cash payment and issued
125,000 shares of stock valued at $316,250 for the acquisition of
ReEnergy. In addition, immediately prior to the closing of the Share
Exchange Transaction, the Company's and PEI California's Chairman of the
Board of Directors, sold 200,000 shares of PEI California's common stock
to the individual members of ReEnergy at $0.01 per share, to compensate
them for facilitating the closing of the Share Exchange Transaction. The
contribution of these shares increased the purchase price by $506,000 for
a total of $972,250. Of this amount, $120,000 was recorded as an asset for
an option to acquire land and because the acquisition of ReEnergy was not
deemed to be an acquisition of a business, the remaining purchase price of
$852,250 was recorded as an expense for services rendered in connection
with a feasibility study. Upon expiration of ReEnergy's option on December
15, 2005, the Company expensed the $120,000 asset associated with the fair
value of the option.

The following table summarizes, on an unaudited pro forma basis, the
combined results of operations of the Company, as though the acquisitions
occurred as of January 1, 2004. The pro forma amounts give effect to
appropriate adjustments for amortization of intangible assets and income
taxes. The pro forma amounts presented are not necessarily indicative of
future operating results.

Year Ended December 31,
-----------------------------
2005 2004
------------- -------------
Net sales $111,186,711 $ 82,810,168
============= =============
Net loss $ (9,829,336) $ (3,706,158)
============= =============
Loss per share of common stock
Basic and diluted $ (0.35) $ (0.13)
============= =============

3. RELATED PARTY NOTES RECEIVABLE:

On December 30, 2005, a management employee was advanced $39,520 at 5%
interest, due and payable on or before June 30, 2006, for the withholding
taxes due on the reportable gross taxable income related to a stock grant
of 25,000 shares on June 23, 2005.

On December 30, 2005, a management employee was advanced $96,475 at 5%
interest, due and payable on or before June 30, 2006, for the withholding
taxes due on the reportable gross taxable income related to a stock grant
of 45,000 shares on June 23, 2005.

F-22

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

4. PROPERTY AND EQUIPMENT:

In June 2003, the Company acquired a grain facility in Madera County,
California for approximately $5,100,000. (See Note 9.) The Company is in
the process of constructing an ethanol plant at the grain facility. On
November 2, 2005, Pacific Ethanol Madera LLC ("PEI Madera"), a second-tier
subsidiary of PEI California that was formed in April 2005 as the holding
company for the Company's Madera County facility, entered into an Amended
and Restated Phase 1 Design-Build Agreement (the "Amended Agreement") with
W.M. Lyles Co., a subsidiary of Lyles Diversified, Inc. ("LDI"), a
significant shareholder of the Company. The Amended Agreement amended and
restated that certain Standard Form of Design-Build Agreement and General
Conditions dated July 7, 2003 between W.M. Lyles Co. and PEI California.
The Amended Agreement provides for design and build services to be
rendered by W.M. Lyles Co. to PEI Madera with respect to the Madera County
facility (the "Project"). In addition, on November 2, 2005, PEI Madera
entered into a Phase 2 Design-Build Agreement (the "Phase 2 Agreement")
with W.M. Lyles Co. The Phase 2 Agreement covers additional work to be
performed by W.M. Lyles Co. for the completion of the Project. (See Note
11.)

As of December 31, 2005 and 2004, the Company had incurred costs of
$17,917,253 and $1,306,926, respectively, under the design-build contract
with W.M. Lyles Co., which has been included in construction in progress
at December 31, 2005 and 2004, respectively. Included in this amount is a
total of $853,173 and $453,325 related to the construction management fee
of W.M. Lyles Co., of which $195,901 and $236,259 had not been paid at
December 31, 2005 and 2004, respectively. As of December 31, 2005 and
2004, the Company had accounts payable related to the construction in
progress of an ethanol plant due to W.M. Lyles Co. for $6,411,618 and
$836,211, respectively. The Company accrued retention due to W.M. Lyles
Co. related to the construction in progress of an ethanol plant for
$1,450,500 and $0 as of December 31, 2005 and 2004, respectively. Included
in construction in progress at December 31, 2005 and 2004 is capitalized
interest of $343,793 and $45,995, respectively. The total cost of
construction of the Madera County ethanol production facility is currently
estimated to be $55.3 million, which does not include up to $10.2 million
in additional funding required for capital raising expenses, interest
during construction, and working capital.

F-23

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

Property and equipment consist of the following:

December 31,
-----------------------------
2005 2004
------------- -------------
Land $ 515,298 $ 515,298
Facilities 4,234,703 4,234,703
Equipment and vehicles 373,520 350,000
Office furniture, fixtures and equipment 378,149 43,324
------------- -------------
5,501,670 5,143,325
Accumulated depreciation (210,675) (125,427)
------------- -------------
5,290,995 5,017,898
Construction in progress 17,917,253 1,306,926
------------- -------------
$ 23,208,248 $ 6,324,824
============= =============

As of December 31, 2005 and 2004, property and equipment totaling
$4,114,391 and $3,897,328 had not been placed in service. Depreciation
expense was $85,250 for the year ended December 31, 2005 and $78,743 for
the year ended December 31, 2004.

In January 2004, canola stored in one of the silos at the Company's Madera
County, California facility caught on fire. The facility was fully insured
with $10 million of property and general liability insurance. The canola
was owned by a third party who was also insured. As of December 31, 2005,
the Company has received gross insurance proceeds of $4,089,512. The
Company is proceeding with the restoration. (See Note 7.)

5. GOODWILL AND OTHER ACQUISITION-RELATED INTANGIBLE ASSETS:

Information regarding the Company's acquisition-related intangible assets
is as follows:

December 31, 2005 December 31, 2004
---------------------------------------- --------------------------------------
Useful Accumulated
Life Amortization Net Book Accumulated Net Book
(Years) Gross /Impairment Value Gross Amortization Value
------- ----------- ------------ ----------- ---------- ------------ ----------

Non-Amortizing:
Goodwill $ 2,565,750 $ -- $ 2,565,750 $ -- $ -- $ --
Trade name 2,678,000 -- 2,678,000 -- -- --
Amortizing:
Customer relationship,
non-compete and backlog 0 - 10 5,572,000 681,277 4,890,723 -- -- --
----------- ------------ ----------- ---------- ------------ ----------
Total intangible asset $10,815,750 $ 681,277 $10,134,473 $ -- $ -- $ --
=========== ============ =========== ========== ============ ==========

During the year ended December 31, 2005, the Company recorded $2,565,750
of goodwill, $2,678,000 of indefinite life intangibles and $5,572,000 of
amortizing intangible assets associated with the Company's acquisition of
Kinergy and ReEnergy. (See Note 2.) The fair value of the intangible
assets acquired as part of the acquisition, which were given useful lives
that range from less than one year to ten years, were determined by
management, which considered a number of factors including an evaluation
by an independent appraiser. The goodwill was recorded as the excess of
the total consideration paid for Kinergy, less the net assets identified.

F-24

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

Amortization expense of intangible assets was approximately $681,277 and
$0 for 2005 and 2004, respectively. Amortization expense related to
intangible assets at December 31, 2005 in each of the next five fiscal
years and beyond is expected to be as follows:

2006 $ 705,767
2007 705,767
2008 526,780
2009 474,100
2010 474,100
Thereafter 2,004,209
-------------
$ 4,890,723
=============

6. LINE OF CREDIT:

On November 1, 2005, Kinergy executed a Loan Revision/Extension Agreement
(the "Agreement") dated October 4, 2005 with Comerica Bank. The Agreement
is effective as of June 20, 2005 and relates to a Master Revolving Note
dated September 24, 2004 in the amount of $2.0 million, reduced by an
Irrevocable Standby Letter of Credit in the amount of $400,000, leaving
funds available of $1.6 million on the line of credit, as further
described below. Under the Agreement, the maturity date of the Master
Revolving Note was extended from October 5, 2005 to October 5, 2006. As of
the execution date of the Agreement, no amounts were owed to Comerica
under the Master Revolving Note. Principal amounts outstanding under the
Note accrue interest, on a per annum basis, at the prime rate of interest
plus 1.0% (8.25% at December 31, 2005). There were no balances outstanding
under the Master Revolving Note as of December 31, 2005.

On October 1, 2005, the Company was issued an Irrevocable Standby Letter
of Credit by Comerica Bank, for any sum not to exceed a total of $400,000.
The designated beneficiary is a vendor of the Company, and the letter is
valid through March 31, 2006. On April 4, 2006, the Irrevocable Standby
Letter of Credit was extended through September 30, 2006.

In connection with the Agreement, certain other agreements were also
entered into with Comerica by Kinergy and the Company. A Letter Agreement
provides for the delivery by Kinergy of certain financial documents and
includes certain financial covenants and limitations. In addition, Kinergy
is obligated to provide to Comerica annual audited financial statements of
the Company and quarterly financial statements of the Company and Kinergy
as well as quarterly accounts receivable and accounts payable ageing
reports of Kinergy. A Guaranty dated October 4, 2005 in favor of Comerica
was executed by the Company and relates to the Agreement and the Master
Revolving Note described above and any other obligations of Kinergy to
Comerica. Under the Guaranty, the Company guarantees payment and
performance of all indebtedness and obligations of Kinergy to Comerica. A
Security Agreement dated as of September 24, 2004 was executed by Kinergy
in favor of Comerica in connection with Kinergy's indebtedness and
obligations under the Master Revolving Note and other agreements with
Comerica. The Security Agreement grants a continuing security interest and
lien to Comerica in certain collateral comprising essentially all of
Kinergy's assets. Kinergy is obligated to keep the collateral free of all
liens, claims and encumbrances other than those in favor of Comerica.

F-25

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

7. ACCRUED EXPENSES:

Accrued expenses as of December 31, 2005 and 2004 consisted of the
following:

2005 2004
------------- -------------

Fire damage claim liability (See Notes 4 and 7.) $ 3,157,969 $ 419,626
Insurance policy premium financing 209,469 73,195
Other accrued expenses 55,127 38,982
------------- -------------
Total accrued expenses $ 3,422,565 $ 531,803
============= =============

No other individual item represented more than 5% of total current
liabilities.

8. INCOME TAXES:

The Company files a consolidated U.S. federal income tax return. This
return includes all companies 80% or more owned by the Company. State tax
returns are filed on a consolidated, combined or separate basis depending
on the applicable laws relating to the Company and its subsidiaries.

Income tax expense (benefit) consists of the following:

2005 2004
------------- -------------

Current
Federal $ -- $ --
State 5,600 --
------------- -------------
Total Current $ 5,600 $ --
============= =============

Deferred
Federal $ -- $ --
State -- --
------------- -------------
Total Deferred $ -- $ --
============= =============

Total
Federal $ -- $ --
State 5,600 --
------------- -------------
Total $ 5,600 $ --
============= =============

F-26

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

Income tax rate (benefit) differs from the statutory federal income tax
rate of 35% to income (loss) from continuing operations before income
taxes as follows:

2005 2004
------------- -------------

Tax expense (benefit) at U.S. federal
statutory rate (35.0)% (35.0)%
State taxes, net of federal income tax benefit (5.7) --
Nondeductible acquisition costs 10.7 (0.1)
Stock option exercised (4.7) 35.0
Change in valuation allowance 34.8 --
------------- -------------
Effective rate 0.1% --
============= =============

Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial
reporting purposes and the amounts used for income tax purposes.
Significant components of the Company's deferred tax assets and
liabilities are as follows:

2005 2004
------------- -------------

Deferred tax assets:
Depreciation $ -- $ (29,010)
Other accrued liabilities 139,797 --
Stock option compensation 505,159 --
Net operating loss carryforwards 5,714,740 1,488,430
------------- -------------
Total deferred tax assets 6,359,696 1,459,420
Valuation allowance for deferred tax assets (6,359,696) (1,459,420)
------------- -------------
Net deferred tax assets $ -- $ --
============= =============

The Company had federal and state net operating loss carryforwards of
approximately $13,748,000 and $10,213,000 as of December 31, 2005,
respectively, that expire at various dates beginning in 2013.

The net change in the total valuation allowance for the years ended
December 31, 2005 and 2004 was an increase of $4,900,276 and $1,459,420,
respectively.

In assessing if the deferred tax assets are realizable, SFAS No. 109
establishes a more likely than not standard. If it is determined that it
is more likely than not that deferred tax assets will not be realized, a
valuation allowance must be established against the deferred tax assets.
The ultimate realization of deferred tax assets is dependent upon the
generation of future taxable income during the periods in which the
associated temporary differences become deductible. Management considers
the scheduled reversal of deferred tax liabilities, projected future
taxable income, and tax planning strategies in making this assessment.

As of December 31, 2005, a valuation allowance of $6,359,696 has been
provided based on the Company's assessment of the future realizability of
certain deferred assets. The valuation allowance on deferred tax assets
related to future deductible temporary differences and net operating loss
carryforwards for which the Company has concluded it is more likely than
not these items will not be realized in the ordinary course of operations.

F-27

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

Although the Company anticipates future sustained profitability, SFAS No.
109 requires that recent historical operating performance and income
projections be considered in assessing if the deferred tax assets are
realizable. The more likely than not assessment was principally based upon
the tax losses generated during 2005 and 2004.

As a result of the Share Exchange Transaction, the Company experienced a
more than 50% ownership change for federal income tax purposes. As a
result, an annual limitation could be placed upon the Company's ability to
realize the benefit of its net operating loss carryforwards. The amount of
this annual limitation has been assessed pursuant to Section 382 of the
Internal Revenue Code and determined to be $999,304 on $3,499,182 of the
total net operating loss carryforward of $7,218,981.

9. RELATED PARTY NOTES PAYABLE:

On December 28, 2004, January 10, 2005 and February 22, 2005, the chairman
of the board of directors of the Company and PEI California advanced the
Company $20,000, $60,000 and $20,000, respectively, at 5% interest, due
and payable upon the closing of the Share Exchange Transaction. The
accumulated principal due was repaid on March 24, 2005 and the related
interest of $921 was paid on April 15, 2005.

On January 10, 2005, a shareholder and officer of PEI California advanced
the Company $100,000 at 5% interest, due and payable upon the closing of
the Share Exchange Transaction. The principal was repaid on March 24, 2005
and the related interest or $1,003 was paid on April 15, 2005.

On January 31, 2005, a principal of Cagan-McAfee Capital Partners, LLC
("CMCP"), a founding shareholder of PEI California, advanced the Company
$100,000 at 5% interest, due and payable upon close of the Share Exchange
Transaction. The principal was repaid on March 24, 2005 and the related
interest of $714 was paid on April 15, 2005.

LDI TERM LOAN - In connection with the acquisition of the grain facility
in March 2003, on June 16, 2003 PEI California entered into a Term Loan
Agreement (the "Loan Agreement") with LDI whereby LDI loaned PEI
California $5,100,000. In addition, PEI California agreed to engage LDI at
the appropriate time, on mutually acceptable terms substantially similar
to the Design-Build Agreement for the Madera facility, on a design-build
agreement for a second ethanol production facility. (See Note 13.) On
March 23, 2005 the Loan Agreement was assigned by PEI California to the
Company. On April 13, 2006, PEI Madera and LDI entered into an Amended and
Restated Loan Agreement (the "Amended and Restated Loan Agreement")
whereby the Loan Agreement was assigned by the Company to PEI Madera.

The Amended and Restated Loan Agreement provides for a fixed interest rate
of 5% per annum on the unpaid principal balance through June 19, 2004, at
which time it converted to a variable interest rate based on THE WALL
STREET JOURNAL PRIME RATE (7.25% as of December 31, 2005) plus 2%. The
first payment, consisting of interest only, was due June 19, 2004, after
which interest is due and payable monthly. Principal payments are due
annually in three equal installments beginning June 20, 2006 and ending
June 20, 2008. Should the construction costs of the ethanol production
facility be less than $42,600,000, the Company must prepay principal owing
under the loan equal to the difference between the actual construction
cost and $42,600,000. Construction costs are currently estimated to exceed
$42,600,000. (See Notes 4 and 11.)

F-28

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

In addition, should the Company obtain construction funding for a future
ethanol project in the State of California, all principal and accrued
interest outstanding at the time becomes due. The amounts owing under the
Amended Loan Agreement are collateralized by a lien created by a deed of
trust on the grain facility. LDI had the option to convert up to
$1,500,000 of the debt into PEI California's and/or the Company's common
stock, as the case may be, at a purchase price of $1.50 per share
originally through March 31, 2005. On December 28, 2004, the Company and
LDI amended the Loan Agreement to extend this option until June 30, 2005.
During 2004, LDI converted $255,000 of debt into 170,000 shares of common
stock, at a conversion price equal to $1.50 per share. Prior to June 30,
2005, LDI converted $1,245,000 of debt into 830,000 shares of the
Company's common stock, at a conversion price equal to $1.50 per share.

In partial consideration for entering into the Loan Agreement, PEI
California issued 1,000,000 shares of common stock to LDI. The fair value
of the common stock on the date of issuance, $1,202,682, was recorded as a
debt discount and is being amortized over the life of the loan and
recorded as interest expense. As of December 31, 2005 and 2004, the
unamortized debt discount was $404,424 and $832,322, respectively. PEI
California also incurred fees to obtain the loan in the amount of
$100,000, which is also being expensed over the life of the loan. These
fees were paid to CMCP.

The aggregate maturities of the note at December 31, 2005 are as follows:

Year ending December 31,
2006 $ 1,200,000
2007 1,200,000
2008 1,200,000
-------------
3,600,000
Less: Unamortized original issuance discount (404,424)
-------------
$ 3,195,576
=============

10. STOCKHOLDERS' EQUITY:

PREFERRED STOCK - The Company has 10,000,000 shares of preferred stock
authorized, 7,000,000 of which have been designated Series A Cumulative
Redeemable Convertible Preferred Stock. (See Note 13.) As of December 31,
2005, no shares of preferred stock were issued and outstanding.

F-29

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

COMMON STOCK - From January 2004 through February 2004, the Company sold
19,000 shares of common stock at $1.50 per share for net proceeds of
$21,373. In connection with the sale of these shares, the Company paid
offering costs of $7,127, including a finder's fee of $2,850. The Company
also issued warrants to purchase 1,900 shares of common stock to the
finder with an exercise price of $1.50 per share and an expiration date
nine years from the date of issuance.

From April 2004 through June 2004, the Company sold 500,000 shares of
common stock at $2.00 per share for net proceeds of $892,582. (Of this
amount, $67,500 was included in subscriptions receivable in the equity
section as of December 31, 2004 and was received by the Company in 2005).
In connection with the sale of these shares, the Company paid offering
costs of $107,418 including a finder's fee of $100,000 to CMCP. The
Company also issued warrants to purchase 50,000 shares of common stock to
CMCP with an exercise price of $2.00 per share and an expiration date nine
years from the date of issuance.

From October 2004 through December 2004, the Company sold 103,666 shares
of common stock in a third working capital round at $3.00 per share for
net proceeds of $308,524. In connection with the sale of these shares, the
Company paid offering costs of $2,475.

PRIVATE OFFERING - On March 23, 2005, PEI California issued to 63
accredited investors in a private offering an aggregate of 7,000,000
shares of common stock at a purchase price of $3.00 per share, two-year
investor warrants to purchase 1,400,000 shares of common stock at an
exercise price of $3.00 per share and two-year investor warrants to
purchase 700,000 shares of common stock at an exercise price of $5.00 per
share, for total gross proceeds of approximately $21,000,000. PEI
California paid cash placement agent fees and expenses of approximately
$1,850,400 and issued five-year placement agent warrants to purchase
678,000 shares of common stock at an exercise price of $3.00 per share in
connection with the offering. Additional costs related to the financing
include legal, accounting, consulting, and stock certificate issuance fees
that totaled approximately $274,415.

On April 1, 2004, certain founders of the Company agreed to sell an
aggregate of 500,000 shares of the Company's common stock owned by them to
CMCP at $0.01 per share for securing financing to close the Share Exchange
Transaction on or prior to March 31, 2005. (See Note 2.) Immediately prior
to the closing of the Share Exchange Transaction, the founders sold these
shares at the agreed upon price to CMCP. The contribution of these shares
is accounted for as a capital contribution. However, because the shares
were issued as a finder's fee in a private offering the related expense is
offset against the proceeds received, resulting in no effect on equity.

F-30

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

The Company was obligated under a Registration Rights Agreement to file,
on the 151st day following March 23, 2005, a Registration Statement with
the SEC registering for resale shares of common stock, and shares of
common stock underlying investor warrants and certain of the placement
agent warrants, issued in connection with the private offering. If (i) the
Company did not file the Registration Statement within the time period
prescribed, or (ii) the Company failed to file with the SEC a request for
acceleration in accordance with Rule 461 promulgated under the Securities
Act of 1933, within five trading days of the date that the Company is
notified (orally or in writing, whichever is earlier) by the SEC that the
Registration Statement will not be "reviewed," or is not subject to
further review, or (iii) the Registration Statement filed or required to
be filed under the Registration Rights Agreement was not declared
effective by the SEC on or before 225 days following March 23, 2005, or
(iv) after the Registration Statement is first declared effective by the
SEC, it ceases for any reason to remain continuously effective as to all
securities registered thereunder, or the holders of such securities are
not permitted to utilize the prospectus contained in the Registration
Statement to resell such securities, for more than an aggregate of 45
trading days during any 12-month period (which need not be consecutive
trading days) (any such failure or breach being referred to as an "Event,"
and for purposes of clause (i) or (iii) the date on which such Event
occurs, or for purposes of clause (ii) the date on which such five-trading
day period is exceeded, or for purposes of clause (iv) the date on which
such 45-trading day-period is exceeded being referred to as "Event Date"),
then in addition to any other rights the holders of such securities may
have under the Registration Statement or under applicable law, then, on
each such Event Date and on each monthly anniversary of each such Event
Date (if the applicable Event shall not have been cured by such date)
until the applicable Event is cured and except as disclosed below, the
Company is required to pay to each such holder an amount in cash, as
partial liquidated damages and not as a penalty, equal to 2.0% of the
aggregate purchase price paid by such holder pursuant to the Securities
Purchase Agreement relating to such securities then held by such holder.
If the Company fails to pay any partial liquidated damages in full within
seven days after the date payable, the Company is required to pay interest
thereon at a rate of 18% per annum (or such lesser maximum amount that is
permitted to be paid by applicable law) to such holder, accruing daily
from the date such partial liquidated damages are due until such amounts,
plus all such interest thereon, are paid in full. The partial liquidated
damages are to apply on a daily pro-rata basis for any portion of a month
prior to the cure of an Event.

The Registration Rights Agreement also provides for customary piggy-back
registration rights whereby holders of shares of the Company's common
stock, or warrants to purchase shares of common stock, can cause the
Company to register such shares for resale in connection with the
Company's filing of a Registration Statement with the SEC to register
shares in another offering. The Registration Rights Agreement also
contains customary representations and warranties, covenants and
limitations.

The Company has evaluated the classification of common stock and warrants
issued in the private offering in accordance with EITF Issue No. 00-19,
ACCOUNTING FOR DERIVATIVE FINANCIAL INSTRUMENTS INDEXED TO, AND
POTENTIALLY SETTLED IN, A COMPANY'S OWN STOCK and EITF D-98,
CLASSIFICATION AND MEASUREMENT OF REDEEMABLE SECURITIES. The Company has
determined, based on a valuation performed by an independent appraiser
that the maximum potential liquidated damages are less than the difference
in fair value between registered and unregistered shares of the Company's
stock and, therefore, has classified the common stock and warrants as
equity.

The Registration Statement was not declared effective by the SEC on or
before 225 days following March 23, 2005. The Company endeavored to have
all security holders entitled to these registration rights execute
amendments to the Registration Rights Agreement reducing the penalty from
2.0% to 1.0% of the aggregate purchase price paid by such holder pursuant
to the Securities Purchase Agreement relating to such securities then held
by such holder. This penalty reduction applies to penalties accrued on or
prior to January 31, 2006 as a result of the related Registration
Statement not being declared effective by the SEC. Certain of the security
holders executed this amendment. However, not all security holders
executed this amendment and as a result, the Company paid an aggregate of
$298,050 in penalties on November 8, 2005. The Registration Statement was
declared effective by the SEC on December 1, 2005.

F-31

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

STOCK GRANTS - The Company issued an aggregate of 70,000 shares of common
stock to two employees of the Company on their date of hire on June 23,
2005. A non-cash charge of $651,000 was recorded during the year ended
December 31, 2005.

STOCK OPTIONS - The Company currently has two stock option plans: the
Amended 1995 Incentive Stock Plan and the 2004 Stock Option Plan.

The Amended 1995 Incentive Stock Plan was carried over from Accessity as a
result of the Share Exchange Transaction. The plan authorizes the issuance
of incentive stock options, commonly known as ISOs, and non-qualified
stock options, commonly known as NQOs, to the Company's employees,
directors or consultants for the purchase of up to 1,200,000 shares of the
Company's common stock. As of December 31, 2005, options to purchase up to
105,000 shares of common stock were outstanding under the Amended 1995
Incentive Stock Plan. The Company's board of directors does not intend to
issue any additional options under the Amended 1995 Incentive Stock Plan.

The 2004 Stock Option Plan authorizes the issuance of ISOs and NQOs to the
Company's officers, directors or key employees or to consultants that do
business with Pacific Ethanol for up to an aggregate of 2,500,000 shares
of common stock. The 2004 Stock Option Plan terminates on November 4,
2014, except as to options then outstanding.

As of December 31, 2005, the Company had approximately 19 employees and
officers and 6 non-employee directors eligible to receive options under
the 2004 Stock Option Plan. As of that date, options to purchase up to
822,500 shares of common stock were outstanding under the 2004 Stock
Option Plan and 1,677,500 shares remained available for grants under this
plan. Activity under the 2004 Stock Option Plan as well as options
acquired as a result of the Share Exchange Transaction are summarized in
the following table:

F-32

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

Shares Weighted
Available for Number of Price Per Average
Grant Shares Share Exercise Price
------------- -------------- ------------ --------------

Balance at January 1, 2004 -- -- -- --
2004 Stock Option Plan
effective November 4, 2004 2,500,000 -- -- --
Options granted (25,000) 25,000 $0.01 $ 0.01
Options exercised -- --
Options forfeited -- -- -- --

Balance at December 31, 2004 2,475,000 25,000(1) $0.01 $ 0.01
Options granted (822,500) 822,500(2) 6.63 - 8.30 7.78
Options acquired in Share Exchange
Transaction -- 377,667 1.56 - 10.63 5.98
Options exercised -- (269,667) 1.56 - 8.00 6.10
Options canceled 25,000 (25,000)(1) 0.01 0.01
Options forfeited -- (3,000) -- --
------------- -------------- ------------ --------------
Balance at December 31, 2005 1,677,500 927,500 $3.75 - 8.30 $ 7.53

_______________________
(1) One outstanding option granted to an employee of the Company to
acquire 25,000 shares of common stock vested on March 23, 2005 and
was converted into a warrant. A non-cash charge of $232,250 to
compensation expense was recorded in the year ended December 31,
2005.

(2) On July 26, 2005, the Company issued options to purchase an
aggregate of 17,500 shares of the Company's common stock at an
exercise price equal to $7.01 per share, which exercise price equals
85% of the closing price per share of the Company's common stock on
that date. The options vested upon issuance and expire 10 years
following the date of grant. A non-cash charge of $21,656 to
compensation expense was recorded during the year ended December 31,
2005.

On July 26, 2005, the Company granted options to purchase an
aggregate of 115,000 shares of the Company's common stock at an
exercise price equal to $8.25, the closing price per share of the
Company's common stock on that date, to various non-employee
directors. The options vest one year following the date of grant and
expire 10 years following the date of grant. Since the options were
granted at par with the market price of the stock, no non-cash
charge was recorded.

On July 28, 2005, the Company granted options to purchase an
aggregate of 30,000 shares of the Company's common stock at an
exercise price equal to $8.30, the closing price per share of the
Company's common stock on that date, to two new non-employee
directors. The options vest one year following the date of grant and
expire 10 years following the date of grant. Since the options were
granted at par with the market price of the stock, no non-cash
charge was recorded.

On August 10, 2005, the Company granted options to purchase an
aggregate of 425,000 shares of the Company's common stock at an
exercise price equal to $8.03, the closing price per share of the
Company's common stock on the day immediately preceding that date,
to its Chief Financial Officer. The options vested as to 85,000
shares immediately and 85,000 shares will vest on each of the next
four anniversaries of the date of grant.

F-33

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

The options expire 10 years following the date of grant. Since the
options were granted at par with the market price of the stock, no
non-cash charge was recorded.

On August 10, 2005, the Company granted options to purchase an
aggregate of 75,000 shares of the Company's common stock at an
exercise price equal to $8.03, the closing price per share of the
Company's common stock on the day immediately preceding that date,
to a consultant. The options vested as to 15,000 shares immediately
and 15,000 shares will vest on each of the next four anniversaries
of the date of grant. The options expire 10 years following the date
of grant. Under the guidelines of EITF Issue No. 96-18, the Company
has determined that the grant date of the option is the same date
upon which the counterparty earned the equity instruments via
completion of its performance commitment. Therefore, the measurement
date to determine the fair value of the Consultant Options is the
same date as the grant date. The fair value of the options will be
amortized on a straight line basis over a four year vesting period,
with the amortization expense reflected as non-cash equity
compensation expense. The fair value of the consultant options was
determined to be $414,000 based on the Black-Scholes method with
inputs of: an exercise price of $8.03, a stock price of $8.03 on the
date of measurement, a contractual term of 10 years, and volatility
of 53.6%. The fair value is being amortized over five years,
resulting in non-cash expense of $104,400 during the period from
August 10, 2005 to December 31, 2005. The unvested warrants in the
amount of $309,600 will vest ratably at $21,600 per quarter over the
remainder of the four year period.

On September 1, 2005, the Company granted options to purchase an aggregate
of 160,000 shares of the Company's common stock at an exercise price equal
to $6.63 per share, which exercise price equals 85% of the closing price
per share of the Company's common stock on the day immediately preceding
that date. The options expire 10 years following the date of grant. A
non-cash charge of $58,834 was recorded to compensation expense during the
year ended December 31, 2005. The options will be amortized ratably over
the dates of additional vesting occurring on each of the next three
anniversaries of the date of grant.

As discussed in Note 1, the Company has elected to follow APB Opinion No.
25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES (AS PERMITTED UNDER SFAS NO.
123, ACCOUNTING FOR STOCK-BASED COMPENSATION), in accounting for
stock-based awards to its employees and directors. Accordingly, the
Company accounts for grants of stock options to its employees and
directors according to the intrinsic value method and, thus, recognizes no
stock-based compensation expense for options granted with exercise prices
equal to or greater than the fair value of the Company's common stock on
the date of grant. The Company records deferred stock-based compensation
when the market price of the Company's common stock exceeds the exercise
price of the stock options or purchase rights on the measurement date
(generally, the date of grant). Any such deferred stock-based compensation
is amortized ratably over the vesting period of the individual options.

F-34

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

In accordance with SFAS No. 148, the Company must estimate the fair value
of stock-based compensation awards under the provisions of SFAS No. 123.
To estimate the fair value of options granted to employees and directors,
the Company uses the Black-Scholes Option Valuation model. The assumptions
and inputs for the Black-Scholes model include: the exercise price of the
options, the price of the stock on the date of grant, the expected term,
and volatility and risk free rate commensurate with the expected term. The
expected term is the employee's or director's anticipated holding period
(estimated in years) of the option until exercise and thus is after
vesting but generally prior to the expiration date of the option. SFAS No.
123 allows companies to make a reasonable estimate for the expected term,
generally based on historical observations of stock option holding
periods. Since limited historical observations are available for the
Company's options, the Company has elected to use the simplified method in
accordance with SAB No. 107. Under the SAB No. 107 guidelines, the
simplified method estimates the expected term of the option as the average
between the weighted average vesting period and the contractual term
(expiration date). The expected term of the Company's employee and
director options range from 5.5 to 6.0 years. Volatility for the model has
been estimated based on an appropriately similar proxy company and ranges
from 53.6% to 55.0% depending on the expected term of the option being
valued. The risk free rate is based on U.S. Treasury Separate Trading of
Registered Interest and Principal of Securities (STRIPS) and range from
3.9% to 4.5% depending on the option being valued.

The weighted average remaining contractual life and weighted average
exercise price of all options outstanding and of options exercisable as of
December 31, 2005 were as follows:

Options Outstanding Options Exercisable
----------------------------------------------------- --------------------------------------
Weighted
Average Weighted- Weighted
Remaining Average Weighted- Average Weighted-
Range of Number Contractual Exercise Average Number Exercise Average
Exercise Prices Outstanding Life Price Fair Value Exercisable Price Fair Value
--------------- ----------- ----------- --------- ---------- ------------ -------- ----------

$3.75 - 7.45 105,000 2.28 $ 5.53 $ 4.33 105,000 $ 5.53 $ 4.33
6.63 160,000 9.67 6.63 4.63 40,000 6.63 4.63
7.01 17,500 9.57 7.01 4.60 17,500 7.01 4.60
8.03 500,000 9.61 8.03 4.70 100,000 8.03 4.70
8.25 115,000 9.57 8.25 4.51 -- -- 4.51
8.30 30,000 9.58 8.30 4.53 -- 4.53
----------- ------------
927,500 262,500
=========== ============

WARRANTS - On February 12, 2004, the Company entered into a consulting
agreement with a consultant to represent the Company in investors'
communications and public relations with existing shareholders, brokers,
dealers and other investment professionals as to the Company's current and
proposed activities. As compensation for such services, the Company issued
warrants to the consultant to purchase 920,000 shares of the Company's
common stock at an exercise price of $0.0001, expiring on March 12, 2009.
These warrants vested upon the effective date of the agreement and were
recognized at the fair value on the date of issuance in the amount of
$1,380,000. The fair value was amortized over one year, resulting in
non-cash expense of $172,500 and $1,207,500 for consulting services during
the years ended December 31, 2005 and 2004, respectively. On September 29,
2004, the consultant exercised the warrant to acquire 920,000 shares of
the Company's common stock at an aggregate exercise price of $92.

F-35

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

Pursuant to the consulting agreement, upon completion of the Share
Exchange Transaction, the Company issued warrants to the consultant to
purchase 230,000 additional shares of common stock at an exercise price of
$0.0001 and expiring on March 23, 2009 that will vest ratably over a
period of two years from the date of the Share Exchange Transaction. The
warrants were recognized at the fair value as of the start of business on
March 24, 2005 in the amount of $2,139,000 and recorded as contra-equity.
The fair value is being amortized over two years, resulting in non-cash
expense of $822,636 during the period from March 24, 2005 to December 31,
2005. The unvested warrants in the amount of $1,316,364 will vest ratably
at $89,125 per month over the remainder of the two year period.

The following table summarizes warrant activity for 2005 and 2004:

Weighted
Number of Price per Average
Shares Share Exercise Price
------------- ------------------ ----------------

Balance at January 1, 2004 41,587 $1.50 $1.50
Warrants granted 1,003,000 $0.0001 - $5.00 $0.27
Warrants exercised (920,000) $0.0001 $0.0001
Warrants forfeited -- -- --

Balance at December 31, 2004 124,587 $1.50 - $5.00 $2.24
Warrants granted 3,058,000 $0.0001 - $5.00 $3.21
Warrants exercised (277,769) $0.0001 - $5.00 $2.01
Warrants canceled -- -- --
Warrants forfeited -- -- --
------------- ------------------ ----------------
Balance at December 31, 2005 2,904,818 $0.0001 - $5.00 $3.26
=============

The weighted average remaining contractual life and weighted average
exercise price of all warrants outstanding and of warrants exercisable as
of December 31, 2005 were as follows:

Warrants Outstanding Warrants Exercisable
------------------------------------------------------ ---------------------------------
Weighted
Range of Average
Exercise Number Remaining Weighted-Average Number Weighted-Average
Prices Outstanding Contractual Life Exercise Price Exercisable Exercise Price
------------- --------------- ---------------- ---------------- ------------- ------------------

$0.0001 143,751 3.23 $0.0001 -- --
$0.01 25,000 0.22 $0.01 25,000 $0.01
$1.50 43,487 3.12 $1.50 43,487 $1.50
$2.00 50,000 3.37 $2.00 50,000 $2.00
$3.00 1,949,214 2.11 $3.00 1,949,214 $3.00
$4.35 5,000 0.73 $4.35 5,000 $4.35
$5.00 688,366 1.23 $5.00 688,366 $5.00
--------------- -------------
2,904,818 2,761,067
=============== =============

F-36

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

11. COMMITMENTS AND CONTINGENCIES:

OPERATING LEASES - The Company leases shared office space in Fresno,
California on a month-to-month basis at $4,132 per month. The related
office rent expense was $40,276 and $24,983 for the years ended December
31, 2005 and 2004, respectively.

The Company leases office space in Davis, California at a rate of $1,100
per month. The lease term expired on November 30, 2005 and the Company
continues to rent this office space on a month-to-month basis. The related
office rent expense was $21,703 for the year ended December 31, 2005.

The Company entered into a lease for office space in Portland, Oregon on
August 3, 2005. The term of the lease is three years, commencing December
1, 2005 through November 30, 2008 with monthly lease payments of $1,290
through May 31, 2007 and $1,362 from June 1, 2007 through the end of the
lease term. The related office rent expense was $1,290 for the year ended
December 31, 2005.

TERMINAL CONTRACT - The Company is party to four terminal contracts
relating to the storage of ethanol. The contracts expire on different
dates, ranging from March 31, 2006 through October 31, 2006, and are
renewable on a year-to-year basis at the end of the term. All four
agreements are cancelable by either party at the end of the base term, or
with 30 - 90 days notice prior to the end of any extended term. Fees
associated with these contracts vary, and are dependent either on the
volume of product in storage or on the volume of product delivered. One of
the terminals charges a minimum monthly fee of $1,015 in addition to the
variable rate. Storage fees paid to these terminals were $99,011 for the
period from March 23, 2005 (Kinergy acquisition) to December 31, 2005, and
are recorded as cost of goods sold in the accompanying consolidated
statements of operations.

PURCHASE COMMITMENTS - From March 23, 2005 (Kinergy acquisition) to
December 31, 2005, the Company entered into purchase contracts with its
major vendors to acquire certain quantities of ethanol, at specified
prices. The contracts generally run for six months from April through
September, and from October through March. On October 1, 2005, the
contracts were renewed and renegotiated to extend through March 31, 2006.
The outstanding balance on the new contracts was $23,705,507 at December
31, 2005.

SALES COMMITMENTS - From March 23, 2005 (Kinergy acquisition) to December
31, 2005, the Company entered into sales contracts with its major
customers to sell certain quantities of ethanol, at specified prices. The
contracts generally run for six months from April through September, and
from October through March. On October 1, 2005, the contracts were renewed
and renegotiated to extend through March 31, 2006. The outstanding balance
on the new contracts was $31,748,940 at December 31, 2005.

F-37

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

ETHANOL PURCHASE AND MARKETING AGREEMENT - On March 4, 2005 as amended in
April 2006, Kinergy entered into an Ethanol Purchase and Marketing
Agreement with the owner of an ethanol production facility. The agreement
is effective for two years with automatic renewals for additional one-year
periods. Kinergy has the exclusive right to market and sell all of the
ethanol from the facility. Pursuant to the terms of the agreement, the
purchase price of the ethanol may be negotiated monthly between Kinergy
and the owner of the ethanol production facility without regard to the
price at which Kinergy will re-sell the ethanol to its customers or
Kinergy may pay the owner the gross payments received by Kinergy from
third parties for forward sales of ethanol less certain transaction costs
and fees and retain a 1.0% marketing fee calculated after deducting these
costs and expenses. During 2005, all purchases of ethanol from this
facility were based on the monthly negotiated prices.

ETHANOL MARKETING AGREEMENT - On August 31, 2005, Kinergy entered into an
Ethanol Marketing Agreement with the owner of an ethanol production
facility. The agreement is effective for three years with automatic
renewals for additional one-year periods thereafter. Kinergy is to have
the exclusive right to market and sell all of the ethanol from the
facility once construction of the facility has been completed. Kinergy is
to pay the owner the gross payments received by Kinergy from third parties
for forward sales of ethanol less certain transaction costs and fees.
Kinergy may also deduct and retain an amount equal to 1.0% of the
difference between the gross payments received by Kinergy and the
transaction costs and fees. As of December 31, 2005, there were no
transactions completed under this agreement.

LITIGATION - GENERAL - The Company is subject to legal proceedings, claims
and litigation arising in the ordinary course of business. While the
amounts claimed may be substantial, the ultimate liability cannot
presently be determined because of considerable uncertainties that exist.
Therefore, it is possible that the outcome of those legal proceedings,
claims and litigation could adversely affect the Company's quarterly or
annual operating results or cash flows when resolved in a future period.
However, based on facts currently available, management believes such
matters will not adversely affect the Company's financial position,
results of operations or cash flows.

LITIGATION - BARRY SPIEGEL - On December 23, 2005, Barry J. Spiegel, a
stockholder of the Company and former director of Accessity, filed a
complaint in the Circuit Court of the 17th Judicial District in and for
Broward County, Florida (Case No. 05018512) (the "Spiegel Action"),
against Barry Siegel, Philip Kart, Kenneth Friedman and Bruce Udell
(collectively, the "Defendants"). Messrs. Siegel, Udell and Friedman are
former directors of Accessity and the Company. Mr. Kart is a former
executive officer of Accessity and the Company. The Spiegel Action relates
to the Share Exchange Transaction and purports to state five counts
against the Defendants: (i) breach of fiduciary duty, (ii) violation of
Florida's Deceptive and Unfair Trade Practices Act, (iii) conspiracy to
defraud, (iv) fraud, and (v) violation of Florida Securities and Investor
Protection Act. Mr. Spiegel is seeking $22.0 million in damages. On March
8, 2006, Defendants filed a motion to dismiss the Spiegel Action. The
Company has agreed with Messrs. Friedman, Siegel, Kart and Udell to
advance the costs of defense in connection with the Spiegel Action. Under
applicable provisions of Delaware law, the Company may be responsible to
indemnify each of the Defendants in connection with the Spiegel Action.

F-38

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

LITIGATION - GERALD ZUTLER - In January 2003, DriverShield CRM Corp., or
DriverShield, then a wholly-owned subsidiary of the Company's predecessor,
Accessity, was served with a complaint filed by Mr. Gerald Zutler, its
former President and Chief Operating Officer, alleging, among other
things, that DriverShield breached his employment contract, that there was
fraudulent concealment of DriverShield's intention to terminate its
employment agreement with Mr. Zutler, and discrimination on the basis of
age and aiding and abetting violation of the New York State Human Rights
Law. The complaint was filed in the Supreme Court of the State of New
York, County of Nassau, Index No.: 654/03. Mr. Zutler is seeking damages
aggregating $2.225 million, plus punitive damages and reasonable
attorneys' fees. DriverShield's management believes that DriverShield
properly terminated Mr. Zutler's employment for cause, and intends to
vigorously defend this suit. An Answer to the complaint was served by
DriverShield on February 28, 2003. In 2003, Mr. Zutler filed a motion to
have DriverShield's attorney removed from the case. The motion was granted
by the court, but was subsequently overturned by an appellate court.
DriverShield has filed a claim with its insurance carrier under its
directors and officers and employment practices' liability policy. The
carrier has agreed to cover certain portions of the claim as they relate
to Mr. Siegel, DriverShield's former Chief Executive Officer. The policy
has a $50,000 deductible and a liability limit of $3.0 million per policy
year. At the present time, the carrier has agreed to cover the portion of
the claim that relates to Mr. Siegel and has agreed to a fifty percent
allocation of expenses.

LITIGATION - MERCATOR - In 2003, Accessity filed a lawsuit seeking damages
in excess of $100 million against: (i) Presidion Corporation, f/k/a
MediaBus Networks, Inc., Presidion's parent corporation, (ii) Presidion's
investment bankers, Mercator Group, LLC, or Mercator, and various related
and affiliated parties and (iii) Taurus Global LLC, or Taurus,
(collectively referred to as the "Mercator Action"), alleging that these
parties committed a number of wrongful acts, including, but not limited to
tortuously interfering in a transaction between Accessity and Presidion.
In 2004, Accessity dismissed this lawsuit without prejudice, which was
filed in Florida state court. The Company recently refiled this action in
the State of California, for a similar amount, as the Company believes
that this is the proper jurisdiction. On August 18, 2005, the court stayed
the action and ordered the parties to arbitration. The parties agreed to
mediate the matter. Mediation took place on December 9, 2005 and was not
successful. On December 5, 2005, the Company filed a Demand for
Arbitration with the American Arbitration Association. On April 6, 2006, a
single arbitrator was appointed. The share exchange agreement relating to
the Share Exchange Transaction provides that following full and final
settlement or other final resolution of the Mercator Action, after
deduction of all fees and expenses incurred by the law firm representing
the Company in this action and payment of the 25% contingency fee to the
law firm, shareholders of record of Accessity on the date immediately
preceding the closing date of the Share Exchange Transaction will receive
two-thirds and the Company will retain the remaining one-third of the net
proceeds from any Mercator Action recovery.

ADVISORY FEE - On April 14, 2004, the Company entered into an agreement
with CMCP and Chadbourn Securities ("Chadbourn"), a related entity to
CMCP, in connection with raising funding for an ethanol production
facility. The agreement provided that upon raising a minimum of
$15,000,000 the Company would pay CMCP a fee, through that date, equal to
$10,000 per month starting from April 15, 2003. The Company paid an
advisory fee to CMCP in the amount of $235,000 on March 24, 2005, pursuant
to the terms of the agreement between CMCP and the Company and in
connection with the private placement transaction. (See Note 10.) In
addition, $83,017 was paid related to cash received from Accessity in
connection with the Share Exchange Transaction. (See Note 2.) In addition,
the agreement provided for payment of $25,000 per month for a minimum of
12 months upon the completion of a merger between the Company and a public
company, starting from the date of close of such merger, as well as an
advisory fee of 3% of any equity amount raised through the efforts of
CMCP, including cash amounts received through a merger with another
corporate entity.

F-39

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

The Company terminated the consulting agreement on November 1, 2005
pursuant to the terms of a Settlement Agreement and Release (the
"Settlement Agreement") and paid CMCP $150,000 for the remainder of their
contract for a total of $300,000 paid in 2005 related to this consulting
agreement. In connection with the Settlement Agreement, if the Company is
successful in closing its offering of Series A Cumulative Redeemable
Convertible Preferred Stock , the Company has agreed to pay Chadbourn
$960,000 within five business days after the closing. This amount was paid
on April 13, 2006.

On January 5, 2005, the Company entered into an agreement with Northeast
Securities, Inc. ("NESC") and Chadbourn, a related party, in connection
with the private offering on March 23, 2005 described above. The agreement
provides that upon completion of a financing within the time-frame of the
engagement covered by the agreement, the Company will pay NESC 6% (plus a
1% non-accountable expense allowance) of gross proceeds received by the
Company, and warrants exercisable at the offering price in an amount equal
to 7% of the aggregate number of shares of common stock sold in the
financing. In addition, the agreement provides that Chadbourn will receive
2% (plus a 1% non-accountable expense allowance) of gross proceeds and
warrants exercisable at the offering price in an amount equal to 3% of the
aggregate number of shares of common stock sold in the financing. Pursuant
to the terms of the agreement and in connection with the completion of the
private offering described above, the Company paid NESC $1,168,800, (net
of a reduction of $183,600, as agreed on March 18, 2005), and issued to
NESC placement warrants to purchase 450,800 shares of the Company's common
stock exercisable at $3.00 per share. The Company also paid Chadbourn
$627,600 and issued to Chadbourn placement warrants to purchase 212,700
shares of the Company's common stock exercisable at $3.00 per share. (See
Note 10.)

In April 2005, the Company entered into a consulting agreement with NESC.
Under the terms of the agreement, the Company paid an initial payment of
$30,000 and made monthly payments of $12,500. The Company paid NESC
$142,500 during the year ended December 31, 2005 and terminated the
consulting agreement effective March 31, 2006.

CASUALTY LOSS - In January 2004, canola stored in one of the silos at the
Company's Madera County, California facility caught on fire. The facility
was fully insured with $10 million of property and general liability
insurance. The canola was owned by a third party who was also insured. As
of December 31, 2005, the Company has received gross insurance proceeds of
$4,089,512, of which $931,543 has been expended on capital improvements at
the facility. The remaining amount of $3,157,969 is included in other
accrued liabilities. The Company is proceeding with the restoration and
expects that such proceeds will cover the cost of restoration.

F-40

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

CONSULTING AGREEMENT- On April 27, 2005, the Company engaged a consulting
firm to explore capital raising alternatives. The Company paid the
consulting firm an initial engagement fee of $300,000 upon execution of
its engagement agreement. The engagement agreement also requires an
additional engagement fee, the amount of which is dependent upon the
number of the Company's projects to be financed. The additional engagement
fee has a range of a minimum of $300,000 and a maximum of one-half of one
percent (1/2%) of the capital raised, and is payable upon the occurrence
of certain events. In addition, the Company is obligated to pay to the
consulting firm an arrangement fee of 3% to 3.5% of the capital raised. On
April 3, 2006, the consulting firm waived any rights it may have had to be
paid a fee in connection with the Closing of the Company's debt financing
with Hudson United Capital and Comerica Bank. (See Note 13.)

EMPLOYMENT AGREEMENTS - On March 23, 2005, the Company entered into an
Executive Employment Agreement with Neil M. Koehler, its President and
Chief Executive Officer, that provides for a three-year term and automatic
one-year renewals thereafter. Mr. Koehler is to receive a base salary of
$200,000 per year and is entitled to receive a cash bonus not to exceed
50% of his base salary and an additional cash bonus not to exceed 50% of
the net free cash flow (defined as revenues of Kinergy, less his salary
and performance bonus, less capital expenditures and all expenses incurred
specific to Kinergy), subject to a maximum of $300,000 in any given year;
provided that such additional cash bonus will be reduced by ten percentage
points each year, such that 2009 will be the final year of such bonus at
10% of net free cash flow. The terms of the additional cash bonus were met
in 2005 and the Company recorded an accrual for earned compensation
expense of $300,000. Upon termination or resignation for "good reason,"
Mr. Koehler is entitled to receive severance equal to $50,000 for three
months of base salary during the first year after termination or
resignation and $100,000 for six months of base salary during the second
year after termination unless he is terminated for cause or voluntarily
terminates his employment without providing the required written notice.

On March 23, 2005, the Company entered into an Executive Employment
Agreement with Ryan W. Turner, its Chief Operating Officer, that provides
for a one-year term and automatic one-year renewals thereafter. Mr. Turner
is to receive a base salary of $125,000 per year and is entitled to
receive a cash bonus not to exceed 50% of his base salary. Effective as of
October 1, 2005, the compensation committee of the Company's board of
directors increased Mr. Turner's base salary to $175,000 per year. Upon
termination or resignation for "good reason," Mr. Turner is entitled to
receive severance equal to $43,750 for three months of base salary during
the first year after termination or resignation and six months of base
salary during the second year after termination unless he is terminated
for cause or voluntarily terminates his employment without providing the
required written notice.

On August 10, 2005, the Company entered into an Executive Employment
Agreement with William G. Langley, its Chief Financial Officer, that
provides for a four-year term and automatic one-year renewals thereafter,
unless either Mr. Langley or the Company provides written notice to the
other at least 90 days prior to the expiration of the then-current term.
Mr. Langley is to receive a base salary of $185,000 per year. Mr. Langley
is entitled to $92,500 for six months of severance pay effective
throughout the entire term of his agreement and is also entitled to
reimbursement of his costs associated with his relocation to Fresno,
California. Mr. Langley is obligated to relocate to Fresno, California
within six months of the date of his Executive Employment Agreement.

F-41

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

RESOURCES AGREEMENT - Effective August 10, 2005, the Company entered into
a resources agreement with Tatum CFO Partners ("Tatum") relating to the
Executive Employment Agreement with William G. Langley, its Chief
Financial Officer, whereby the Company agreed to pay as compensation for
resources to be provided by Tatum, a lump sum signing fee of $69,375 and
$1,000 per month during the term of the Resources Agreement, which remains
in effect for the duration of Mr. Langley's employment with the Company.
In addition, on August 10, 2005, the Company granted options to purchase
an aggregate of 75,000 shares of the Company's common stock at an exercise
price equal to $8.03, the closing price per share of the Company's common
stock on the day immediately preceding that date, to Tatum CFO Partners.
(See Note 10.) The agreement requires that of the options to be issued in
the future, if any, to William G. Langley, the Company's Chief Financial
Officer, 15% of such options are to be issued to Tatum.

OPTION TO ACQUIRE LAND - On August 22, 2005, the Company entered into an
Option Agreement to acquire approximately 60 acres of unimproved real
property at a purchase price of $7,500 per acre, for the purpose of
developing an ethanol plant. The Company paid $50,000 as option
consideration on the grant date and an additional $100,000 will be due on
the first and second anniversary dates of the grant date. This option
expires on August 21, 2008.

AMENDED AND RESTATED PHASE 1 DESIGN-BUILD AGREEMENT - On November 2, 2005,
PEI Madera entered into an Amended Agreement with W.M. Lyles Co. Under the
Amended Agreement, W.M. Lyles Co. is to operate in a general contractor
capacity and procure engineering and construction services from third
parties. The Amended Agreement stipulates that the engineer for the
Project is to be Delta-T Corporation. The Amended Agreement provides for a
guaranteed maximum price proposal of $14.5 million. However, PEI Madera is
liable for additional costs to the extent that the scope of work actually
performed by W.M. Lyles Co. exceeds the scope of work that is the basis
for the guaranteed maximum price.

PEI Madera may terminate the Amended Agreement but must pay W.M. Lyles Co.
for all costs associated with the work on the Project. If PEI Madera
terminates the Amended Agreement and selects another design-build
contractor other than W.M. Lyles Co., then PEI Madera is to pay for all
costs associated with the work on the Project as well as a $5.0 million
premium. PEI Madera is also required to pay W.M. Lyles Co. fair
compensation for all equipment retained by W.M. Lyles Co. and PEI Madera
is required to assume all obligations, commitments and unsettled claims
that W.M. Lyles Co. has undertaken or incurred in good faith in connection
with the work on the Project. In the event that W.M. Lyles Co. fails to
perform any of its material obligations under the Amended Agreement, PEI
Madera may terminate the Amended Agreement without the obligation to pay
the $5.0 million premium but only after such failure continues for
forty-five days following receipt by W.M. Lyles Co. of written notice of
such failure.

F-42

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

PHASE 2 DESIGN-BUILD AGREEMENT - On November 2, 2005, PEI Madera entered
into a Phase 2 Agreement with W.M. Lyles Co.. The Phase 2 Agreement covers
additional work to be performed by W.M. Lyles Co. for the completion of
the Project. The final completion date of the work contemplated by the
Phase 2 Agreement is 545 days after PEI Madera's final notice to W.M.
Lyles Co. to proceed. On April 13, 2006, PEI Madera delivered its notice
to proceed to W.M. Lyles Co.. The Phase 2 Agreement provides for a
guaranteed maximum price proposal of approximately $36.2 million. However,
PEI Madera is liable for additional costs to the extent that the scope of
work actually performed by W.M. Lyles Co. exceeds the scope of work that
is the basis for the guaranteed maximum price. In the event that the total
costs and fees for Phase 2 of the Project are less than the guaranteed
maximum price of approximately $36.2 million, then W.M. Lyles Co. and PEI
Madera are to share such difference equally.

Delays in work beyond the substantial completion date not caused by PEI
Madera or force majeure events will result in PEI Madera being entitled to
delay liquidated damages. These liquidated damages are to be calculated as
$23,000 per day multiplied by one minus the daily operating rate for such
day. The daily operating rate is calculated based on the actual operating
capacity for that day (expressed in millions of gallons per year) divided
by thirty-five million gallons. As an incentive bonus for achieving
substantial completion prior to the specified date, PEI Madera is to pay
to W.M. Lyles Co. $12,500 per day for each day in advance of such date.
Fifty percent of any bonus is payable within thirty days after substantial
completion and the remaining fifty percent is payable once final
completion is achieved. The aggregate amount of any delay liquidated
damages or incentive bonus is not to exceed $2.5 million.

LETTER AGREEMENT - On November 2, 2005, PEI California entered into a
Letter Agreement (the "Letter Agreement") with W.M. Lyles Co. The Letter
Agreement relates to the Amended Agreement and the Phase 2 Agreement
described above. Under the Letter Agreement, if W.M. Lyles Co. pays
liquidated damages to PEI Madera under the Phase 2 Agreement as a result
of a defect attributable to Delta-T Corporation, the engineer for the
Project, or if W.M. Lyles Co. pays liquidated damages to PEI Madera under
the Phase 2 Agreement as a result of a delay that is attributable to
Delta-T Corporation, then PEI California agrees to reimburse W.M. Lyles
Co. for such liquidated damages. However, PEI California is not
responsible for the first $2.0 million of reimbursement. In addition, in
the event that W.M. Lyles Co. recovers amounts from Delta-T Corporation
for such defect or delay, then W.M. Lyles Co. will not seek reimbursement
from PEI California. The aggregate reimbursement obligations of PEI
California under the Letter Agreement are not to exceed $8.1 million.

JONES CONTINUING GUARANTY - On November 3, 2005, William L. Jones, a
related party and the Chairman of the Board of Directors of the Company,
executed a Continuing Guaranty (the "Jones Guaranty") in favor of W.M.
Lyles Co.. Under the Jones Guaranty, Mr. Jones guarantees to W.M. Lyles
Co. the payment obligations of PEI California under the Letter Agreement.
Under the Jones Guaranty, W.M. Lyles Co. is to seek payment on a pro rata
basis from Mr. Jones and Neil M. Koehler (as described below), but in the
event that Mr. Koehler fails to make payment, then Mr. Jones is
responsible for any shortfall. However, the full extent of Mr. Jones'
liability under the Jones Guaranty, including for any shortfall for
non-payment by Mr. Koehler, is limited to $4.0 million plus any attorneys'
fees, costs and expenses.

F-43

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

KOEHLER CONTINUING GUARANTY - On November 3, 2005, Neil M. Koehler, a
related party and Chief Executive Officer and President and a member of
the Board of Directors of the Company, executed a Continuing Guaranty (the
"Koehler Guaranty") in favor of W.M. Lyles Co.. Under the Koehler
Guaranty, Mr. Koehler guarantees to W.M. Lyles Co. the payment obligations
of PEI California under the Letter Agreement. Under the Koehler Guaranty,
W.M. Lyles Co. is to seek payment on a pro rata basis from Messrs. Jones
(as described above) and Koehler, but in the event that Mr. Jones fails to
make payment, then Mr. Koehler is responsible for any shortfall. However,
the full extent of Mr. Koehler's liability under the Koehler Guaranty,
including for any shortfall for non-payment by Mr. Jones, is limited to
$4.0 million plus any attorneys' fees, costs and expenses.

12. RELATED PARTY TRANSACTIONS:

The Company entered into a consulting contract with a shareholder of the
Company for consulting services related to the development of the ethanol
plan at $6,000 per month. The Company paid a total of $21,000 and $72,000
for the years ended December 31, 2005 and December 31, 2004, respectively.

The Company entered into a consulting agreement for $3,000 per month with
a company owned by a member of ReEnergy, LLC for consulting services
related to environmental regulations and permitting. The Company paid a
total of $8,270 and $40,542 for the years ended December 31, 2005 and
2004.

VOTING AGREEMENT - On November 14, 2005, William L. Jones, Neil M.
Koehler, Ryan W. Turner, Kenneth J. Friedman and Frank P. Greinke, each of
whom is a director and/or executive officer of the Company (the
"Stockholders"), and the Company, entered into a Voting Agreement (the
"Voting Agreement") with Cascade Investment, L.L.C. ("Purchaser"). The
Stockholders collectively hold an aggregate of 9,162,704 shares of the
Company's common stock. The Voting Agreement provides that the
Stockholders may not transfer their shares of the Company's common stock,
and must keep their shares free of all liens, proxies, voting trusts or
agreements, until the Voting Agreement is terminated. The Voting Agreement
provides that the Stockholders will each vote or execute a written consent
in favor of the transactions contemplated by the Purchase Agreement
between the Company and Purchaser (the "Transactions"). In addition, under
the Voting Agreement, each Stockholder grants an irrevocable proxy to Neil
M. Koehler to act as such Stockholder's proxy and attorney-in-fact to vote
or execute a written consent in favor of the Transactions. The Voting
Agreement is effective until the earlier of the approval of the
Transactions by the Company's stockholders or the termination of the
Purchase Agreement in accordance with its terms. The Transactions were
approved by the stockholders on December 30, 2005. (See Note 13.)

RELATED CUSTOMER - On August 10, 2005, the Company entered into a 6-month
sales contract with Southern Counties Oil Co., a company owned by a
director and significant stockholder of the Company. The contract period
is from October 1, 2005 through March 31, 2006 for 5,544,000 gallons of
fuel grade ethanol to be delivered ratably at approximately 924,000
gallons per month at varying prices based on delivery destinations in
Arizona, Nevada and California. During the period from March 23, 2005
(Kinergy acquisition) to December 31, 2005, sales to Southern Counties Oil
Co. totaled $9,060,273 and accounts receivable from Southern Counties Oil
Co. at December 31, 2005 totaled $937,713.

F-44

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

RELATED VENDOR - The Company purchased 45,708 gallons of fuel grade
ethanol from Southern Counties Oil Co., a company owned by a director and
significant stockholder of the Company. During the period from March 23,
2005 (Kinergy acquisition) to December 31, 2005, purchases from Southern
Counties Oil Co. totaled $73,665 and accounts payable to Southern Counties
Oil Co. at December 31, 2005 totaled $0

13. SUBSEQUENT EVENTS:

RELATED CUSTOMER - On January 14, 2006, the Company entered into a 6-month
sales contract with Southern Counties Oil Co. The contract period is from
April 1, 2006 through September 30, 2006 for 2,100,000 gallons of fuel
grade ethanol to be delivered ratably at approximately 350,000 gallons per
month at varying prices based on delivery destinations in California.

RELATED PARTY NOTE RECEIVABLE - On January 19, 2006, a management employee
was advanced $91,699 at 5% interest, due and payable on or before July 19,
2006, for the withholding taxes due on the reportable gross taxable income
related to a warrant exercise of 25,000 shares.

AMENDMENT TO LDI TERM LOAN - On April 13, 2006, PEI Madera and LDI entered
into an Amended and Restated Loan Agreement whereby the Loan Agreement was
assigned by the Company to PEI Madera. The lien created by a deed of trust
on PEI Madera's grain facility is subject and subordinate to the lien
created by a deed of trust in favor of the lender under the construction
loan with Hudson United Capital and Comerica Bank described below. (See
Note 9.)

WARRANT EXERCISES - From January 1, 2006 through April 14, 2006, the
Company has issued 1,679,937 shares of common stock for the exercise of
warrants and has received proceeds of $5,602,691. Of these shares, 43,038
shares were issued pursuant to cashless exercises.

OPTION EXERCISES - From January 1, 2006 through April 14, 2006, the
Company has issued 47,500 shares of common stock for the exercise of
options and has received proceeds of $283,075. None of these shares were
issued pursuant to cashless exercises.

ADVISORY FEE - On April 14, 2004, the Company entered into an agreement
with CMCP and Chadbourn, a related entity to CMCP, in connection with
raising funding for an ethanol production facility. The Company terminated
the consulting agreement on November 1, 2005 and pursuant to the terms of
the Settlement Agreement; the Company paid Chadbourn $960,000 on April 13,
2006 in connection with the closing of the Company's offering of Series A
Cumulative Redeemable Convertible Preferred Stock.

PREFERRED STOCK FINANCING - On April 13, 2006, the Company issued to one
investor, Cascade Investment, L.L.C., ("Cascade"), 5,250,000 shares of the
Company's Series A Cumulative Redeemable Convertible Preferred Stock (the
"Series A Preferred Stock"), at a price of $16.00 per share, for an
aggregate purchase price of $84.0 million. Of the $84.0 million aggregate
purchase price, $4.0 million was paid to the Company at closing and $80.0
million was deposited into a restricted cash account and will be disbursed
in accordance with the Deposit Agreement described below. The Company is
entitled to use the initial $4.0 million of proceeds for general working
capital and must use the remaining $80.0 million for the construction or
acquisition of one or more ethanol production facilities in accordance
with the terms of the Deposit Agreement.

F-45

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

The Certificate of Designations, Powers, Preferences and Rights of the
Series A Cumulative Redeemable Convertible Preferred Stock (the
"Certificate of Designations"), provides for 7,000,000 shares of the
Company's preferred stock to be designated as Series A Cumulative
Redeemable Convertible Preferred Stock. The Series A Preferred Stock ranks
senior in liquidation and dividend preferences to the Company's common
stock. Holders of Series A Preferred Stock are entitled to quarterly
cumulative dividends payable in arrears in cash in an amount equal to 5%
of the purchase price per share of the Series A Preferred Stock; however,
such dividends may, at the Company's option, be paid in additional shares
of Series A Preferred Stock based on the value of the purchase price per
share of the Series A Preferred Stock. The holders of Series A Preferred
Stock have a liquidation preference over the holders of the Company's
common stock equivalent to the purchase price per share of the Series A
Preferred Stock plus any accrued and unpaid dividends on the Series A
Preferred Stock. A liquidation will be deemed to occur upon the happening
of customary events, including transfer of all or substantially all of the
Company's capital stock or assets or a merger, consolidation, share
exchange, reorganization or other transaction or series of related
transaction, unless holders of 66 2/3% of the Series A Preferred Stock
vote affirmatively in favor of or otherwise consent to such transaction.

The holders of the Series A Preferred Stock have conversion rights
initially equivalent to two shares of common stock for each share of
Series A Preferred Stock. The conversion ratio is subject to customary
antidilution adjustments. In addition, antidilution adjustments are to
occur in the event that the Company issues equity securities at a price
equivalent to less than $8.00 per share, including derivative securities
convertible into equity securities (on an as-converted or as-exercised
basis). Certain specified issuances will not result in antidilution
adjustments. The shares of Series A Preferred Stock are also subject to
forced conversion upon the occurrence of a transaction that would result
in an internal rate of return to the holders of the Series A Preferred
Stock of 25% or more. Accrued but unpaid dividends on the Series A
Preferred Stock are to be paid in cash upon any conversion of the Series A
Preferred Stock.

The holders of Series A Preferred Stock vote together as a single class
with the holders of the Company's common stock on all actions to be taken
by the Company's stockholders. Each share of Series A Preferred Stock
entitles the holder to the number of votes equal to the number of shares
of the Company's common stock into which each share of Series A Preferred
Stock is convertible. However, the number of votes for each share of
Series A Preferred Stock may not exceed the number of shares of common
stock into which each share of Series A Preferred Stock would be
convertible if the applicable conversion price were $8.99. In addition,
the holders of Series A Preferred Stock are afforded numerous customary
protective provisions with respect to certain actions that may only be
approved by holders of a majority of the shares of Series A Preferred
Stock. In addition, the holders of the Series A Preferred Stock are
afforded preemptive rights with respect to certain securities offered by
the Company and are entitled to certain redemption rights.

F-46

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

The Deposit Agreement between the Company and Comerica Bank provides for a
restricted cash account into which $80.0 million of the aggregate purchase
price for the Series A Preferred Stock has been deposited. The Company may
not withdraw funds from the restricted cash account except in accordance
with the terms of the Deposit Agreement. Under the Deposit Agreement, the
Company may, with certain prescribed limitations, requisition funds from
the restricted cash account for the payment of construction costs in
connection with the construction of ethanol production facilities.

In connection with the issuance of the Series A Preferred Stock, the
Company entered into a Registration Rights and Stockholders Agreement (the
"Rights Agreement") with Cascade. The Rights Agreement is to be effective
until the holders of the Series A Preferred Stock, and their affiliates,
as a group, own less than 10% of the Series A Preferred Stock issued under
the purchase agreement with Cascade, including common stock into which
such Series A Preferred Stock has been converted (the "Termination Date").
The Rights Agreement provides that holders of a majority of the Series A
Preferred Stock, including common stock into which the Series A Preferred
Stock has been converted, may demand and cause the Company, at any time
after April 13, 2007, to register on their behalf the shares of common
stock issued, issuable or that may be issuable upon conversion of the
Series A Preferred Stock (the "Registrable Securities"). Following such
demand, the Company is required to notify any other holders of the Series
A Preferred Stock or Registrable Securities of the Company's intent to
file a registration statement and, to the extent requested by such
holders, include them in the related registration statement. The Company
is required to keep such registration statement effective until such time
as all of the Registrable Securities are sold or until such holders may
avail themselves of Rule 144(k), which requires, among other things, a
minimum two-year holding period and requires that any holder availing
itself of Rule 144(k) not be an affiliate of the Company. The holders are
entitled to three demand registrations on Form S-1 and unlimited demand
registrations on Form S-3; however, the Company is not obligated to effect
more than two demand registrations on Form S-3 in any 12-month period.

In addition to the demand registration rights afforded the holders under
the Rights Agreement, the holders are entitled to "piggyback" registration
rights. These rights entitle the holders who so elect to be included in
registration statements to be filed by the Company with respect to other
registrations of equity securities. The holders are entitled to unlimited
"piggyback" registration rights.

The Rights Agreement provides for the initial appointment of two persons
designated by Cascade to the Company's Board of Directors, and the
appointment of one of such persons as the Chairman of the Compensation
Committee of the Board of Directors. Following the Termination Date,
Cascade is required to cause its director designees, and all other
designees, to resign from all applicable committees and boards of
directors, effective as of the Termination Date.

The Company is in the process of evaluating the proper accounting
treatment for the above factors and resulting impact on its consolidated
financial statements.

F-47

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

DEBT FINANCING - On April 13, 2006, PEI Madera entered into a Construction
and Term Loan Agreement (the "Construction Loan") with Comerica Bank
("Comerica") and Hudson United Capital ("Hudson") for a debt financing
(the "Debt Financing"), from Hudson and Comerica (collectively, the
"Lender"), in the aggregate amount of up to $34.0 million. The Debt
Financing will provide a portion of the total financing necessary for the
completion of the Company's ethanol production facility in Madera County,
California (the "Project"). The Project cost is not to exceed
approximately $65.1 million (the "Project Cost").

The Company has contributed assets to PEI Madera having a value of
approximately $13.9 million (the "Contributed Assets"). The Company is
responsible for arranging cash equity (the "Contributed Amount") in an
amount that, when combined with the Contributed Assets would be equal to
no less than the difference between the Debt Financing amount of $34.0
million and the total Project Cost. The Contributed Amount is expected to
be approximately $31.1 million and has been satisfied through the
application of $17.7 million of Cascade's investment in the Company's
Series A Preferred Stock.

The Debt Financing will initially be in the form the Construction Loan
that will mature on or before the Final Completion Date, after which the
Debt Financing will be converted to a term loan (the "Term Loan"), that
will mature on the seventh anniversary of the closing of the Term Loan. If
the conversion does not occur and PEI Madera elects to repay the
Construction Loan, then PEI Madera must pay a termination fee equal to
5.00% of the amount of the Construction Loan. The closing of the Term Loan
is expected to be the Final Completion Date. The Construction Loan
interest rate will float at a rate equal to the 30-day London Inter Bank
Offered Rate ("LIBOR"), plus 3.75%. PEI Madera will be required to pay the
Construction Loan interest monthly during the term of the Construction
Loan. The Term Loan interest rate will float at a rate equal to the 90-day
LIBOR plus 4.00%. PEI Madera will be required to purchase interest rate
protection in the form of a LIBOR rate cap of no more than 5.50% from a
provider on terms and conditions reasonably acceptable to Lender, and in
an amount covering no less than 70% of the principal outstanding on any
loan payment date commencing on the closing date through the fifth
anniversary of the Term Loan. Loan repayments on the Term Loan are to be
due quarterly in arrears for a total of 28 payments beginning on the
closing of the Term Loan and ending on its maturity date. The loan
amortization for the Project will be established on the closing of the
Term Loan based upon the operating cash projected to be available to PEI
Madera from the Project as determined by closing pro forma projections.
The Debt Financing will be the only indebtedness permitted on the Project.
The Debt Financing will be senior to all obligations of the Project and
PEI Madera other than direct Project operating expenses and expenses
incurred in the ordinary course of business. All direct and out-of-pocket
expenses of the Company or the Company's direct and indirect subsidiaries
will be reimbursed only after the repayment of the Debt Financing
obligations.

The Term Loan amount is to be the lesser of (i) $34.0 Million, (ii) 52.25%
of the total Project cost as of the Term Loan Conversion Date, and (iii)
an amount equal to the present value (discounted at an interest rate of
9.5% per annum) of 43.67% of the operating cash distributable to and
received by PEI Madera supported by the closing pro forma projections,
from the closing of Term Loan through the seventh anniversary of such
closing.

F-48

PACIFIC ETHANOL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004

The Debt Financing is secured by: (a) a perfected first priority security
interest in all of the assets of PEI Madera, including inventories and all
right title and interest in all tangible and intangible assets of the
Project; (b) a perfected first priority security interest in the Project's
grain facility, including all of PEI Madera's and the Company's and its
affiliates' right title and interest in all tangible and intangible assets
of the Project's grain facility; (c) a pledge of 100% of the ownership
interest in PEI Madera; (d) a pledge of the PEI Madera's ownership
interest in the Project; (e) an assignment of all revenues produced by the
Project and PEI Madera; (f) the pledge and assignment of the material
Project documents, to the extent assignable; (g) all contractual cash
flows associated with such agreements; and (h) any other collateral
security as Lender may reasonably request. In addition, the Construction
Loan is secured by a completion bond provided by W.M. Lyles Co.

F-49

SIGNATURES

In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, there unto
duly authorized.

PACIFIC ETHANOL, INC.

Dated: April 14, 2006 By: /s/ NEIL M. KOEHLER
--------------------------------------
Neil M. Koehler
President and Chief Executive Officer

In accordance with the Exchange Act, this report has been signed by the
following persons on behalf of the registrant and in the capacities and on the
dates indicated.

NAME TITLE DATE
----------------------------------- ---------------------------------------- ---------------

/s/ WILLIAM L. JONES Chairman of the Board and Director April 14, 2006
---------------------------------
William L. Jones

/s/ NEIL M. KOEHLER President, Chief Executive Officer and April 14, 2006
--------------------------------- Director (principal executive officer)
Neil M. Koehler

/s/ WILLIAM G. LANGLEY Chief Financial Officer (principal April 14, 2006
--------------------------------- accounting officer)
William G. Langley

/s/ FRANK P. GREINKE Director April 14, 2006
---------------------------------
Frank P. Greinke

Director April 14, 2006
---------------------------------
Douglas L. Kieta

/s/ JOHN L. PRINCE Director April 14, 2006
---------------------------------
John L. Prince

/s/ TERRY L. STONE Director April 14, 2006
---------------------------------
Terry L. Stone
Director April 14, 2006
---------------------------------
Robert P. Thomas

INDEX TO EXHIBITS FILED WITH THIS FORM 10-KSB

Exhibit
Number Description
------- -----------

3.2 Certificate of Designations, Powers, Preferences and Rights of the
Series A Cumulative Redeemable Convertible Preferred Stock

10.5 Form of Indemnification Agreement between the Registrant and each of
its Executive Officers and Directors

10.42 Deposit Agreement dated April 13, 2006 by and between Pacific
Ethanol, Inc. and Comerica Bank

10.43 Registration Rights and Stockholders Agreement dated as of April 13,
2006 by and between Pacific Ethanol, Inc. and Cascade Investment,
L.L.C.

10.44 Amendment No. 1 to Ethanol Purchase and Marketing Agreement dated
effective as of March 4, 2005 between Kinergy Marketing, LLC, Phoenix
Bio-Industries, LLC, Pacific Ethanol, Inc. and Western Milling, LLC

10.45 Construction and Term Loan Agreement dated April 10, 2006 by and
among Pacific Ethanol Madera LLC, Comerica Bank and Hudson United
Capital, a division of TD Banknorth, N.A.

10.46 Construction Loan Note dated April 13, 2006 by Pacific Ethanol Madera
LLC in favor of Comerica Bank

10.47 Construction Loan Note dated April 13, 2006 by Pacific Ethanol Madera
LLC in favor of Hudson United Capital, a division of TD Banknorth,
N.A.

10.48 Assignment and Security Agreement dated April 13, 2006 by and between
Pacific Ethanol Madera LLC and Hudson United Capital, a division of
TD Banknorth, N.A.

10.49 Member Interest Pledge Agreement dated April 13, 2006 by Pacific
Ethanol Madera LLC in favor of Hudson United Capital, a division of
TD Banknorth, N.A.

10.50 Intercreditor and Collateral Sharing Agreement dated April 13, 2006
by and among Hudson United Capital, a division of TD Banknorth, N.A.,
Lyles Diversified, Inc. and Pacific Ethanol Madera LLC

10.52 Amended and Restated Term Loan Agreement effective as of April 13,
2006 by and between Lyles Diversified, Inc. and Pacific Ethanol
Madera LLC

10.53 Letter Agreement dated as of April 13, 2006 by and among Pacific
Ethanol California, Inc., Lyles Diversified, Inc. and Pacific Ethanol
Madera LLC.

21.1 Subsidiaries of the Registrant

23.1 Consent of Independent Registered Public Accounting Firm

31.1 Certification of Principal Executive Officer Required by Rule
13a-14(a) of the Securities Exchange Act of 1934, as amended, as
Adopted Pursuant to Section 302 of the Sarbanes- Oxley Act of 2002

31.2 Certification of Principal Financial Officer Required by Rule
13a-14(a) of the Securities Exchange Act of 1934, as amended, as
Adopted Pursuant to Section 302 of the Sarbanes- Oxley Act of 2002

32 Certification of Chief Executive Officer and Chief Financial Officer
Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section
906 of the Sarbanes-Oxley Act of 2002