The discussion and analysis of our financial condition and results of operations are based on, and should be read in conjunction with, our condensed financial statements and the related notes included elsewhere in this report and in our Annual Report on Form 10-K for the year ended December 31, 2008 filed with the SEC.

Overview

We fabricate, manufacture, rent and sell natural gas compressors and related equipment. Our primary focus is on the rental of natural gas compressors. Our rental contracts generally provide for initial terms of six to 24 months. After the initial term of our rental contracts, most of our customers have continued to rent our compressors on a month-to-month basis. Rental amounts are paid monthly in advance and include maintenance of the rented compressors. As of September 30, 2009, we had 1,239 natural gas compressors totaling 157,028 horsepower rented to 90 third parties compared to 1,418 natural gas compressors totaling 175,740 horsepower rented to 110 third parties at September 30, 2008.

We also fabricate natural gas compressors for sale to our customers, designing compressors to meet unique specifications dictated by well pressures, production characteristics and particular applications for which compression is sought. Fabrication of compressors involves the purchase by us of engines, compressors, coolers and other components, and then assembling these components on skids for delivery to customer locations. The major components of our compressors are acquired through periodic purchase orders placed with third-party suppliers on an "as needed" basis, which presently requires a two to three month lead time with delivery dates scheduled to coincide with our estimated production schedules. Although we do not have formal continuing supply contracts with any major supplier, we believe we have adequate alternative sources available. In the past, we have not experienced any sudden and dramatic increases in the prices of the major components for our compressors. However, the occurrence of such an event could have a material adverse effect on the results of our operations and financial condition, particularly if we were unable to increase our rental rates and sales prices proportionate to any such component price increases.

We also manufacture a proprietary line of compressor frames, cylinders and parts, known as our CiP (Cylinder-in-Plane) product line. We use finished CiP component products in the fabrication of compressor units for sale or rental by us or sell the finished component products to other compressor fabricators. We also design, fabricate, sell, install and service flare stacks and related ignition and control devices for onshore and offshore incineration of gas compounds such as hydrogen sulfide, carbon dioxide, natural gas and liquefied petroleum gases. To provide customer support for our compressor and flare sales businesses, we stock varying levels of replacement parts at our Midland, Texas facility and at field service locations. We also provide an exchange and rebuild program for screw compressors and maintain an inventory of new and used compressors to facilitate this business.

We provide service and maintenance to our customers under written maintenance contracts or on an as required basis in the absence of a service contract. Maintenance agreements typically have terms of nine months to one year and require payment of a monthly fee.

The oil and gas equipment rental and services industry is cyclical in nature. The most critical factor in assessing the outlook for the industry is the worldwide supply and demand for natural gas and the corresponding changes in commodity prices. As demand and prices increase, oil and gas producers increase their capital expenditures for drilling, development and production activities. Generally, the increased capital expenditures ultimately result in greater revenues and profits for services and equipment companies.

In general, we expect our overall business activity and revenues to track the level of activity in the natural gas industry, with changes in domestic natural gas production and consumption levels and prices more significantly affecting our business than changes in crude oil and condensate production and consumption levels and prices. We also believe that demand for compression services and products is driven by declining reservoir pressure in maturing natural gas producing fields and, more recently, by increased focus by producers on non-conventional natural gas production, such as coalbed methane, gas shales and tight gas, which typically requires more compression than production from conventional natural gas reservoirs.

Demand for our products and services was strong throughout previous years but began to decline in the first quarter of 2009 and will most likely continue to decline for the remainder of the year due to lower natural gas prices and decreased demand for natural gas. However, we believe the long-term trend in our markets is favorable.

For fiscal year 2009, our forecasted capital expenditures will be directly dependent upon our customers' compression requirements and are not anticipated to exceed our internally generated cash flows. Any required capital will be for additions to our compressor rental fleet and/or addition or replacement of service vehicles. We believe that cash flows from operations will be sufficient to satisfy our capital and liquidity requirements through 2009. We may require additional capital to fund any unanticipated expenditures, including any acquisitions of other businesses, although that capital may not be available to us when we need it or on acceptable terms.

                        NATURAL GAS SERVICES GROUP, INC.



Results of Operations

Three months ended September 30, 2008, compared to the three months ended
September 30, 2009.

The table below shows our revenues and percentage of total revenues of each of
our segments for the three months ended September 30, 2008 and September 30,
2009.

                                             Revenue
                                          (in thousands)
                                 Three months ended September 30,
                                     2008                   2009
  Sales                     $     13,239     53 %     $   5,285   32 %
  Rental                          11,414     46 %        10,840   66 %
  Service and Maintenance            293      1 %           255    2 %
  Total                     $     24,946              $  16,380

Total revenue decreased from $24.9 million to $16.3 million, or 34.3%, for the three months ended September 30, 2009, compared to the same period ended September 30, 2008. This was mainly the result of decreased rental revenue and decreased sales revenue. Sales revenue decreased 60.1%, rental revenue decreased 5.0%, and service and maintenance revenue decreased 13.0%.

Sales revenue decreased from $13.2 million to $5.3 million, or 60.1%, for the three months ended September 30, 2009, compared to the same period ended September 30, 2008. This decrease is the result of lower demand for our products due to industry declines in capital expenditures which resulted in fewer compressor units sold to third parties from our Tulsa and Michigan operations. Sales included: (1) compressor unit sales, (2) flare sales, (3) parts, and (4) compressor rebuilds.

Rental revenue decreased from $11.4 million to $10.8 million, or 5.0%, for the three months ended September 30, 2009, compared to the same period ended September 30, 2008. This decrease is the result of: (1) rental price concessions to our customer and (2) rental units being returned to us because of shut down in gas wells that are not economical to produce with today's natural gas prices environment. We expect when natural gas pricing increases we will again rent the available units. We ended the quarter with 1,772 compressor packages in its rental fleet, up from 1,662 units at September 30, 2008. The rental fleet had a utilization of 69.9% as of September 30, 2009 compared to 85.3% utilization as of September 30, 2008. This utilization decrease is mainly the result of compressor rental units that have been returned by our customers. The units being returned are from whole spectrum of our customer base. Additionally, the demand for smaller horsepower units has slowed due to the decline of natural gas commodity prices.

The overall operating margin percentage decreased to 25.7% for the three months ended September 30, 2009, from 29.9% for the same period ended September 30, 2008. The lower margin is mainly the result of the decline in total sales which caused SG&A and depreciation, or fixed costs, to become a larger percentage of our total cost increased from 24% to 37% of total revenue.

Selling, general, and administrative expense increased from $1.5 million to $1.6 million or 2.8% for the three months ended September 30, 2009 as compared to the same period ended September 30, 2008. This increase is mainly due to an increase in stock option expenses and additional sales salaries expenses.

Depreciation and amortization expense increased from $2.6 million to $2.9 million or 11.3% for the three months ended September 30, 2009, compared to the same period ended September 30, 2008. This increase was the result of new gas compressor rental units being added to the rental fleet from September 30, 2008 to September 30, 2009, thus increasing the depreciable base. We added 110 new compressors to our rental fleet during the twelve month period.

Other income, net of other expense, decreased $11,500 for the three months ended September 30, 2009, compared to the same period ended September 30, 2008. This decrease is mainly the result of a decrease in our cash balances in our short-term investments therefore we had less interest income.

Interest expense increased 76.2% for the three months ended September 30, 2009, compared to the same period ended September 30, 2008, mainly due to increased principal balance owed under our line of credit, offset by a decrease in our bank loan facility and a reduction in our interest rate on our term loan and bank line of credit. In August 2008 we borrowed $7.0 million on our line of credit and an additional $500,000 in August 2009.

Provision for income tax decreased from $2.6 million to $1.4 million, or 44.5%, and is the result of the decrease in taxable income.

Nine months ended September 30, 2008, compared to the nine months ended September 30, 2009.

The table below shows our revenues and percentage of total revenues of each of our segments for the nine months ended September 30, 2008 and September 30, 2009.

                                             Revenue
                                         (in thousands)
                                 Nine months ended September 30,
                                     2008                  2009
  Sales                     $     32,024     51 %     $ 16,813   32 %
  Rental                          30,519     48 %       35,597   67 %
  Service and Maintenance            814      1 %          752    1 %
  Total                     $     63,357              $ 53,162

Total revenue decreased from $63.4 million to $53.2 million, or 16.1%, for the nine months ended September 30, 2009, compared to the same period ended September 30, 2008. This was mainly the result of a 47.5% decrease in sales revenue and a 7.6% decrease in service and maintenance revenue offset by a 16.6% increase in rental revenue.

Sales revenue decreased from $32.0 million to $16.8 million, or 47.5%, for the nine months ended September 30, 2009, compared to the same period ended September 30, 2008. This decrease is the result of lower demand for our products due to an industry slowdown which resulted in fewer compressor units sold to third parties from our Tulsa and Michigan operations. Sales included: (1) compressor unit sales, (2) flare sales, (3) parts sales, (4) compressor rebuilds and (5) rental unit sales.

Rental revenue increased from $30.5 million to $35.6 million, or 16.6%, for the nine months ended September 30, 2009, compared to the same period ended September 30, 2008. This increase was the result of a revenue increase during the first six months but was offset by price concessions and returned rental during the third quarter. The company ended the period with only 1,239 compressors units rented compared to 1,418 units rented at September 30, 2008. The rental fleet has a utilization of 69.9% as of September 30, 2009.

The overall operating margin percentage decreased to 28.0% for the nine months ended September 30, 2009, from 28.5% for the same period ended September 30, 2008. The lower margin is mainly the result of the decline in total sales which caused SG&A and depreciation, which is mainly fixed costs, to become a larger percentage of our total cost going from 25% to 36%. The overall margin is also affected by the product mix between rental and sales.

Selling, general, and administrative expense increased from $4.4 million, to $4.8 million, or 10.0%, for the nine months ended September 30, 2009, as compared to the same period ended September 30, 2008. This increase is mainly due to an increase in stock option expenses, additional sales salaries expenses and increased commissions on rental equipment.

Depreciation and amortization expense increased from $7.1 million, to $8.8 million, or 23.9%, for the nine months ended September 30, 2009, compared to the same period ended September 30, 2008. This increase was the result of 110 new gas compressor rental units being added to the rental fleet from September 30, 2008 to September 30, 2009, thus increasing the depreciable base.

Other income net of other expense decreased $492,000 for the nine months ended September 30, 2009, compared to the same period ended September 30, 2008. This decrease is mainly the result of disposal of our short-term investments creating a decrease in interest income.

Interest expense decreased 10.8% for the nine months ended September 30, 2009, compared to the same period ended September 30, 2008, mainly due to the pay down of our term bank loan facility and lower interest rates.

Provision for income tax decreased from $6.3 million to $5.0 million, or 19.7%, and is the result of the decrease in taxable income.

Critical Accounting Policies and Practices

A discussion of our critical accounting policies is included in the Company's Form 10-K for the year ended December 31, 2008.

Recently Issued Accounting Pronouncements

In June 2009, Financial Accounting Standards Board (FASB) established, with the effect from July 1, 2009, the FASB Accounting Standards Codification (ASC) as the source of authoritative U.S. GAAP recognized by the FASB to be applied by nongovernmental entities. Rules and interpretive releases of the SEC under authority of federal securities laws are also sources of authoritative U.S. GAAP for SEC registrants. We adopted the Codification beginning July 1, 2009 and while it impacts the way we refer to accounting pronouncements in our disclosures; it had no affect on our financial position, results of operations or cash flows upon adoption.

On January 1, 2009, we adopted ASC 810, "Noncontrolling Interests in Consolidated Financial Statements-an amendment of ARB No. 51," (ASC 810). ASC 810 amends Accounting Research Bulletin No. 51, "Consolidated Financial Statements," to establish accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. This standard defines a noncontrolling interest, previously called a minority interest, as the portion of equity in a subsidiary not attributable, directly or indirectly, to a parent. ASC 810 requires, among other items, that a noncontrolling interest be included in the consolidated statement of financial position within equity separate from the parent's equity; consolidated net income to be reported at amounts inclusive of both the parent's and noncontrolling interest's shares and, separately, the amounts of consolidated net income attributable to the parent and noncontrolling interest all on the consolidated income statement; and if a subsidiary is deconsolidated, any retained noncontrolling equity investment in the former subsidiary be measured at fair value and a gain or loss be recognized in net income based on such fair value. The adoption of ASC 810 had no impact on our financial statements.

On January 1, 2009, we adopted ASC 805, Business Combinations, which replaces SFAS No. 141, Business Combinations, and requires an acquirer to recognize the assets acquired, the liabilities assumed, and any non-controlling interest in the acquiree at the acquisition date, measured at their fair values as of that date, with limited exceptions. ASC 805 also requires the acquirer in a business combination achieved in stages to recognize the identifiable assets and liabilities, as well as the noncontrolling interest in the acquiree, at the full amounts of their fair values. Additionally, ASC 805 requires acquisition related costs to be expensed in the period in which the costs were incurred and the services are received instead of including such costs as part of the acquisition price. ASC 805 makes various other amendments to authoritative literature intended to provide additional guidance or to confirm the guidance in that literature to that provided in ASC 805. The adoption of ASC 805 had no impact on our financial statements.

In April 2009, the FASB issued ASC 855, Subsequent Events. ASC 855 establishes general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or available to be issued. We adopted ASC 855 for the quarter ending June 30, 2009. The adoption of ASC 855 did not have a material impact on our consolidated financial statements.

In April 2009, the FASB issued SFAS No. 167, Amendments to FASB Interpretation No. 46(R) (SFAS 167). SFAS 167 requires a qualitative approach to identifying a controlling financial interest in a variable interest entity (VIE), and requires ongoing assessment of whether an entity is a VIE and whether an interest in a VIE makes the holder the primary beneficiary of the VIE. SFAS 167 is effective for annual reporting periods beginning after November 15, 2009. The adoption of SFAS No. 167 is not expected to have a material impact on our financial statements.

                        NATURAL GAS SERVICES GROUP, INC.



Liquidity and Capital Resources

Our working capital positions as of December 31, 2008 and September 30, 2009 are
set forth below:

                                        December 31,       September 30,
                                            2008               2009
                                       (in thousands)     (in thousands)

Current Assets:
  Cash and cash equivalents           $         1,149    $         17,732
  Short-term investments                        2,300                   -
  Trade accounts receivable, net               11,321               6,292
  Inventory, net                               31,931              26,650
  Prepaid income taxes                            244                 913
  Prepaid expenses and other                       87                 239
  Total current assets                         47,032              51,826

Current Liabilities:
  Current portion of long-term debt             3,378               3,378
   Line of credit                                   -               7,011
  Accounts payable                              8,410                 882
  Accrued liabilities                           3,987               2,144
  Current portion of tax liability                110                 577
  Deferred income                                  38                 311
  Total current liabilities                    15,923              14,303

Total working capital                 $        31,109    $         37,523

Historically, we have funded our operations through public and private offerings of our equity securities, subordinated debt, bank borrowings and cash flow from operations. Proceeds from financing were primarily used to pay debt and to fund the manufacture and fabrication of additional units for our rental fleet of natural gas compressors.

For the nine months ended September 30, 2009, we invested $7.8 million in equipment for our rental fleet, upgrades in emission control, and service vehicles. We financed this activity with cash flow from operations and cash on hand. In addition, we have repaid $2.5 million of our existing debt.

Cash flows

At September 30, 2009, we had cash and cash equivalents of $17.7 million compared to $1.1 million at December 31, 2008. This increase in cash was mainly the result of a decrease in capital expenditures for the first nine months of 2009 compared to the same period in 2008. This increase was the result of the conversion of $2.3 million of short-term investments into cash, and the reduction of our accounts receivable by approximately $5.0 million. We had working capital of $37.5 million at September 30, 2009 compared to $31.1 million at December 31, 2008. At September 30, 2009, our total debt was $14.0 million of which $10.4 million was classified as current compared to $16.6 million and $3.4 million, respectively at December 31, 2008. We had positive net cash flow from operating activities of $24.4 million during the first nine months of 2009 compared to $20.3 million for the first nine months of 2008. The cash flow from operations of $24.4 million was primarily the result of the net income of $9.3 million and the non cash items of depreciation and taxes of $13.8 million.

Accounts receivable decreased $5.0 million to $6.3 million September 30, 2009 compared to $11.3 million at December 31, 2008. This decrease largely reflects the timing of collections and a slowdown in compressor unit sales during the first nine months of 2009.

Inventory decreased $5.3 million to $26.6 million at September 30, 2009 compared to $31.9 million at December 31, 2008. This decrease is mainly the result of our decreased manufacturing and purchasing activity as backlogged orders are filled.

Long-term debt decreased $3.0 million to $14.0 million at September 30, 2009, compared to $17.0 million at December 2008. This decrease is mainly the result of the normal debt amortization. The current portion of long-term debt increased by $7 million due to our line of credit becoming due May 2010 and thereby being reclassified as current.

Recession strategy

For the remainder of 2009 and into first half of 2010 our plan, during the downturn in the economy, is to reduce our capital expenditures in line with the lower anticipated activity and to fabricate rental fleet equipment only in direct response to market requirements, to emphasize marketing our idle gas compressor units and reduce bank borrowing. Capital expenditures for the remainder of the year are not to exceed our internal cash generating capacity. We continue to operate our rental unit manufacturing facility on a scaled down basis to keep our core group of people employed. We added 110 units to rental during the first nine months of 2009 compared to 385 in the same period in 2008. We believe that cash flows from operations will be sufficient to satisfy our capital and liquidity requirements through 2009 and the first half of 2010. We may require additional capital to fund any unanticipated expenditures, including any acquisitions of other businesses. We currently have a $40 million dollar bank line of credit with an available balance of $33 million which includes the $7 million already drawn.

Senior Bank Borrowings

Revolving Line of Credit Facility. As of September 30, 2009, the amount available for revolving line of credit advances was $33.0 million. The amount we could borrow is determined by a borrowing base calculation and is based primarily upon our receivables, equipment and inventory. We had $7.0 million outstanding as of September 30, 2009 on this revolving line of credit facility, and the interest rate on that date was 4.00%. All outstanding principal and interest is due on May 1, 2010.

$16.9 Million Multiple Advance Term Loan Facility. As of September 30, 2009 this term loan facility had a principal balance of $7.0 million, and the interest rate on that date was 4.00%. All outstanding principal and interest is due on October 1, 2011.

As of September 30, 2009, we were in compliance with all covenants in our Loan Agreement. A default under our bank credit facility could trigger the acceleration of our bank debt so that it is immediately due and payable. Such default would have a material adverse effect on our liquidity, financial position and operations.

Other

As of September 30, 2009, we had a long-term liability of $275,000 to Midland Development Corporation. This amount is to be recognized as income contingent upon certain staffing requirements in the future. In addition, we entered into a purchase agreement with a vendor on July 30, 2008 pursuant to which we agreed to purchase up to $4.8 million of our paint and coating requirements exclusively from the vendor. In connection with the execution of the agreement, the vendor paid us a $300,000 fee which is considered to be a discount toward future purchases from the vendor. Based on our historical paint and coating requirements, we estimate meeting the $4.8 million purchase obligation within five years. The $300,000 payment we received is recorded as a long-term liability and will decrease as the purchase commitment is fulfilled. This long-term liability remaining as of September 30, 2009 was $285,000.

On June 16, 2009, at our annual meeting of shareholders, our shareholders approved a proposed amendment to our 1998 Stock Option Plan (the "Plan") to add an additional 200,000 shares of common stock to the Plan, thereby authorizing the issuance of up to 750,000 shares of common stock under the Plan.

Also on June 16, 2009, at our annual meeting of shareholders, our shareholders adopted the 2009 Restricted Stock/Unit Plan. A total of 300,000 shares of Company common stock are reserved for issuance under the restricted stock plan. We have not yet made any awards under this plan.

On August 14, 2009 we filed a universal shelf registration statement on Form S-3 with the Securities and Exchange Commission (SEC) to register up to $150,000,000 of securities, including debt securities, common stock, preferred stock, depository shares, rights to purchase common stock and warrants to purchase any of the foregoing securities. Upon the SEC declaring the statement effective, we may issue any of the registered securities from time to time in one or more offerings depending on market conditions and our financial needs.

                        NATURAL GAS SERVICES GROUP, INC.



Contractual Obligations and Commitments

We have contractual obligations and commitments that affect the results of
operations, financial condition and liquidity. The following table is a summary
of our significant cash contractual obligations:

. . .