Canadian Sub-Surface Energy Services Corp.
TSX : CSE

Canadian Sub-Surface Energy Services Corp.

March 27, 2007 08:30 ET

Canadian Sub-Surface Energy Services Announces Q4 and Year-End 2006 Financial Results

CALGARY, ALBERTA--(CCNMatthews - March 27, 2007) - Canadian Sub-Surface Energy Services Corp. (the "Company") (TSX:CSE) is pleased to announce its financial and operating results for the three and twelve-month periods ended December 31, 2006.



Financial Highlights

----------------------------------------------------------------------------
(in thousands of Three-month Three-month Year ended Year ended
dollars, except period ended period ended Dec 31, Dec 31,
per share amounts or Dec 31, 2006 Dec 31, 2005 2006 2005
as otherwise noted) (unaudited) (unaudited) (unaudited) (unaudited)
----------------------------------------------------------------------------
Revenue 19,611 16,269 73,352 49,429
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Gross Margin 6,603 4,868 24,728 14,864
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Cash Flow (1) 4,110 3,244 15,636 8,111
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Normalized EBITDA
(1) (2) 4,360 3,843 16,518 10,659
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Normalized EBITDA as a
% of revenue 22.2% 23.6% 22.5% 21.6%
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Net Earnings (loss) 1,616 (889) 6,966 1,279
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Net Earnings per share
- basic $0.08 N/A $0.45 N/A
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Average number of
Class A common shares
outstanding (in
thousands) 18,861 N/A 15,586 N/A
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Diluted number of
Class A common shares
- at Dec 31, 2006
(in thousands) (3) 20,873 N/A 20,873 N/A
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(1) Refer to the "Non-GAAP measures" section below for details.

(2) EBITDA means earnings before interest, taxes, depreciation and
amortization and excludes stock based compensation expense. Normalized
EBITDA means EBITDA adjusted for certain equipment lease expenses that
are included in operating expenses. Refer to the section below titled
"Reconciliation of EBITDA and Normalized EBITDA to Net Earnings".

(3) Based on 19.324 million outstanding Class A common shares plus 1.55
million stock options outstanding at December 31, 2006


Revenue and Normalized EBITDA during the fourth quarter of 2006 increased by 20.5% and 13.5% respectively as compared to the fourth quarter of 2005 reflecting a significantly larger equipment fleet. The Company's EBITDA percentage during the current quarter reflected an overall reduction in equipment utilization rates due to the slow-down in industry activity as well as start-up costs associated with the establishment of new stations in Whitecourt and High Level in northern Alberta. The industry slow-down primarily reflects a reduction in natural gas drilling and completions activity (mainly for shallow and intermediate natural gas) resulting from reduced natural gas prices during the summer and fall of 2006.

Despite the lower activity levels, the Company's wireline division (which accounts for approximately 2/3 of revenue) has been able to sustain reasonable utilization rates for its equipment due to its diversified service portfolio. In addition to services related to the completion of natural gas wells, this division also provides services related to oil wells, workovers of producing wells and abandonments. This diversification has helped offset some of the impact from the lower natural gas activity which has directly impacted utilization rates in the gas testing division.

The Company has also been able to cushion the impact of current industry conditions by focusing its 2006 expansion efforts in northern Alberta, where the basin is predominantly deeper natural gas and oil plays. Due to the long-life hydrocarbon reserves in these areas, drilling and completion projects are less affected by short-term commodity price weakness and therefore activity levels have not declined as much as in shallower areas of the basin.

The Company significantly expanded its equipment fleet during 2006 through internal growth as well as the acquisition of assets from 4 businesses purchased on May 31, 2006. Below is a summary of the growth in the Company's equipment fleet during 2006:



----------------------------------------------------------------------------
# of Wireline # of Swabbing # of Testing
Units Units packages
----------------------------------------------------------------------------
In operation at December
31, 2005 30(i) 4 32
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Asset acquisitions closed
on May 31, 2006 2(i) - 16(ii)
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Internal additions -
Jan. 1 - Dec. 31 , 2006 4 5 13
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Equipment retirements
Jan. 1 - Dec. 31, 2006 (1) (1) -
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Fleet size at December
31, 2006 35 8 61
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(i) At December 31, 2005, the available fleet of 30 wireline units included
11 units owned by three owner operators. On May 31, 2006, Canadian Sub-
Surface acquired all of the business assets of these owner operators.

(ii) On May 31, 2006, Canadian Sub-Surface acquired all of the business
assets of Colter Production Services, an Alberta based production
testing company.


Between January 1 and February 28, 2007 the Company further expanded its equipment fleet by adding an additional 5 wireline units bringing the current wireline fleet to 40 units.

The Company's total capital expenditures for 2006 amounted to $31.9 (net of $3.4 million of capitalized equipment leases and including assets from the 4 business acquisitions). This included the above equipment additions, refurbishment costs on older equipment, infrastructure costs and auxiliary equipment. On February 28, 2007 the Company announced a significantly reduced capital expenditure budget for 2007 of $14.6 million (which included $4.5 million of carryover capital expenditures from 2006) due to the current uncertainty in industry conditions. The 2007 capital expenditure program will be carefully monitored and adjusted based on industry activity.

Canadian Sub-Surface Energy Services Corp. provides cased-hole wireline, production testing and related services to oil and gas companies operating in the Western Canadian Sedimentary Basin.

Canadian Sub-Surface Energy Services Corp.

Management's Discussion and Analysis

The following Management's Discussion and Analysis ("MD&A") is for the consolidated financial statements of Canadian Sub-Surface Energy Services Corp. (the "Company", formerly Canada West Capital Inc. ("CWC")) as at and for the three and twelve-month periods ended December 31, 2006. These consolidated financial statements and the MD&A have been prepared taking into consideration information available as at March 21, 2007 and should be read in conjunction with the audited, consolidated financial statements of the Company for the year ended December 31, 2006.

Forward-looking statements

Certain statements in this MD&A, including (i) statements that may contain words such as "anticipate", "could", "expect", "seek", "may" "intend", "will", "believe", "should", "project", "forecast", "plan" and similar expressions, including the negatives thereof, (ii) statements that are based on current expectations and estimates about the markets in which the Company operates and (iii) statements of belief, intentions and expectations about developments, results and events that will or may occur in the future, constitute "forward-looking statements" and are based on certain assumptions and analysis made by the Company. Forward-looking statements in this MD&A include, but are not limited to, statements with respect to future capital expenditures, including the amount, nature and timing thereof; oil and natural gas prices and demand; other development trends within the oil and natural gas industry; business strategy; expansion and growth of the Corporation's business and operations and other such matters. Such forward-looking statements are subject to important risks and uncertainties, which are difficult to predict and that may affect the Company's operations, including but not limited to the impact of general economic conditions in Canada and the United States; industry conditions, including the adoption of new environmental, safety and other laws and regulations and changes in how they are interpreted and enforced; volatility of oil and natural gas prices; oil and natural gas product supply and demand and related demand for oilfield services; risks inherent in the Company's ability to generate sufficient cash flow from operations to meet its current and future obligations; increased competition; the lack of availability of qualified personnel or labor unrest; fluctuation in foreign exchange or interest rates; stock market volatility; opportunities available to or pursued by the Company and other factors, many of which are beyond the control of the Company. The Company's actual results, performance or achievements could differ materially from those expressed in, or implied by, these forward-looking statements and, accordingly, no assurance can be given that any of the events anticipated by the forward-looking statements will transpire or occur, or if any of them do transpire or occur, what benefits the Company will derive therefrom. Subject to applicable law, the Company disclaims any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

February 14, 2006 Transaction between CWC and the CanSub Group

On February 14, 2006, CWC acquired all of the shares of Canadian Sub-Surface Energy Services Inc., Canadian Sub-Surface Gas Testing Inc. and 1156853 Alberta Ltd. (collectively the "CanSub Group"). Subsequent to the acquisition, the former shareholders of the CanSub Group held the largest percentage of Class A common voting shares of the new consolidated entity and controlled the management of the Company and therefore the CanSub Group was deemed to be the acquirer for accounting purposes. Accordingly, the transaction was accounted for as a reverse takeover (using the purchase method) whereby the assets and liabilities of CWC were recorded at their fair market values at the February 14, 2006 transaction date. CWC changed its name to Canadian Sub-Surface Energy Services Corp. as part of the transaction.

Internal corporate reorganization effective May 31, 2006

Immediately after the February 14, 2006 transaction, the CanSub Group of companies became wholly-owned subsidiaries of the Company. The three entities comprising the CanSub Group were amalgamated on May 31, 2006 and the amalgamated entity was subsequently wound up into the Company on June 1, 2006.

Comparative Information

Since the CanSub Group has been deemed the acquirer for accounting purposes, the comparative financial statements for the year ended December 31, 2005 reflect the financial results of the CanSub Group. The audited financial statements for Canada West Capital Inc. for the year ended December 31, 2005 were posted on SEDAR.

Business Units and Segmentation

The Company's operations are conducted through its two main operating divisions: Wireline and Testing. The Wireline division is comprised primarily of wireline services (which include cased-hole electric line and slickline) and also includes swabbing and well optimization services. The Testing division includes primarily natural gas production testing services. Prior to June 1, 2006, a portion of the electric line and slickline services in the Wireline division were conducted through three private owner-operators, who owned their equipment and employed the crews who worked on the units. One of the advantages of utilizing the owner-operators is that they represented the Company in areas where the Company did not operate. There are no owner operators involved in the Testing division. The Company realized average margins of approximately 18% on the revenues generated by these owner-operator units. On May 31, 2006, the Company acquired all of the business assets of these owner operators.

Acquisitions of the Owner Operators and Colter Production Services on May 31, 2006

On May 31, 2006, the Company completed the acquisitions of the business assets of Colter Production Services Inc. ("Colter" - a private production testing Company), and three wireline owner-operators. The aggregate purchase price of the four acquisitions was $30.0 million consisting of cash of $16.8 million and $13,161 in Class A common shares (with a deemed value for accounting purposes of $7.16 per share). Commencing June 1, 2006 the revenues and earnings from Colter and the owner-operators are included in the Company's financial statements.

The aggregate purchase price was allocated to the estimated fair values of the net assets acquired as follows (in $000):



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Owner -
Colter operators Total
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Property and equipment $ 3,595 $ 5,754 $ 9,349
Intangible assets:
Customer relationships 2,717 1,057 3,774
Non-compete agreements 3,623 3,860 7,483
Future income tax liability (961) (2,465) (3,426)
Goodwill 4,709 8,067 12,776
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Net assets acquired $ 13,683 $ 16,273 $ 29,956


Results of Operations

Revenues

The break-down of consolidated revenue between the Wireline and Testing
divisions for the three and twelve-month periods is as follows:
----------------------------------------------------------------------------
Three months Three months
ended Dec 31 ended Dec 31 Year ended Year ended
2006 2005 Dec 31 2006 Dec 31 2005
$000s (unaudited) (unaudited) (unaudited) (unaudited)
----------------------------------------------------------------------------
Wireline 12,278 9,824 46,494 30,304
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Testing 7,333 6,445 26,858 19,125
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Consolidated 19,611 16,269 73,352 49,429
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Overall equipment utilization rates in both the Wireline and Testing divisions were lower during the fourth quarter of 2006 compared to the prior year fourth quarter primarily reflecting the industry slow-down in natural gas drilling and completions activity. In addition, utilization rates were also impacted by wet weather in early October. As a result of the mild winter in 2005 / 2006, natural gas storage levels have been above average historical levels prompting a significant reduction in natural gas commodity prices from the second quarter of 2006 throughout the remainder of the year. As a result of the lower prices, producers have scaled back natural gas drilling programs, particularly in the shallow and intermediate areas of the basin. The Company's Testing division has seen the biggest impact as a large portion of the work in that division is related to the completion of new natural gas wells. The impact on the Wireline division is much less as that division has exposure to oil related activities (which have not seen the same activity decline as natural gas) as well as activities associated with producing wells and well abandonments.

In the current quarter, Wireline divisional revenue amounted to $12.3 million. Of that amount, $10.6 million was related solely to the wireline fleet (electric line and slickline units), which averaged 35.0 units during the period. The remaining $1.7 million of revenue was attributed to swabbing services ($0.9 million from an average of 5.0 swabbing units in operation) and well optimization and other ($0.8 million). The wireline units completed approximately 1,637 jobs during the current quarter at an average per job revenue of $6,467.

In the fourth quarter of 2005, Wireline divisional revenue amounted to $9.8 million. Of that amount, $9.0 million was attributed solely to the wireline fleet (electric line and slickline) which averaged 29.0 units in operation during that period. Revenue from owner operator wireline units during the 2005 period was $2.9 million or 32% of overall wireline fleet revenue. During the prior year quarter, the wireline fleet completed approximately 1,684 jobs at an average per job revenue of $5,366. The increase in average revenue per wireline job recognized in the fourth quarter of 2006 of approximately 21% was attributed primarily to a greater proportion of work done in northern Alberta and British Columbia. The northern work involves deeper and typically more complex work resulting in higher billings. During 2006, the Company established new stations in Whitecourt and High Level, northern Alberta to capitalize on the strong activity levels in these areas.

For the 2006 year, the wireline fleet completed 6,950 jobs (at an average revenue per job of $5,847) as compared to a total of 6,171 jobs (at an average revenue per job of $4,583) completed during calendar 2005. The increase in the number of jobs is due primarily to the increased number of wireline units, which saw the operating fleet jump from an average of approximately 27.5 units in 2005 to approximately 33.0 units during 2006. The increased revenue per job reflects more northern work as noted above combined with pricing increases implemented during the fourth quarter of 2005.

Testing division revenue in the fourth quarter of 2006 of $7.3 million was generated from an average in-service fleet of 56.0 testing packages. The 2005 fourth quarter Testing revenue of $6.4 million was generated from an average in-service fleet of approximately 30.0 testing packages. Although the average fleet increased by 87% quarter over quarter, revenue increased only 14% reflecting the reduction in equipment utilization in this division.

Year over year, Testing revenue increased by $7.7 million or 40% due primarily to an increase in the average fleet from 26.0 packages in operation during 2005 to 44.0 packages in operation during 2006 (a 69% fleet increase). The lower utilization rates during 2006 offset some of the revenue gains that would have been expected with the larger fleet.



Gross Margins (refer to Non-GAAP measures below)

The break-down of gross margins between the Wireline and Testing divisions
is as follows:

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Three months Three months
ended Dec 31 ended Dec 31 Year ended Year ended
2006 2005 Dec 31 2006 Dec 31 2005
$000s (unaudited) (unaudited) (unaudited) (unaudited)
----------------------------------------------------------------------------
Gross Margins:
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Wireline 4,622 2,567 16,071 7,716
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Testing 1,981 2,301 8,657 7,148
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Consolidated 6,603 4,868 24,728 14,864
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Gross Margin %:
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Wireline 37.6% 26.1% 34.6% 25.5%
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Testing 27.0% 35.7% 32.2% 37.4%
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Consolidated 33.7% 29.9% 33.7% 30.1%
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Consolidated gross margins for the fourth quarter of 2006 were $6.6 million or 33.7% as compared to margins of $4.9 million or 29.9% in the prior year fourth quarter. The improvement in the Wireline division margin reflects the increased revenue per job and the improved margins on sales from units previously owned by the owner operators. These 2 factors also were responsible for the significant improvement in year over year margin percentage increases. The current quarter margins were impacted to a smaller extent by start-up costs associated with the establishment of new operating stations in Whitecourt and High Level in northern Alberta.

The decrease in Testing margins in the 2006 fourth quarter reflects the decline in equipment utilization. The Testing division has a high variable cost structure (as many of the employees are paid based on a day rate) which cushions the impact of having equipment not utilized. The year over year margin decline in Testing from 37.4% in 2005 to 32.2% in 2006 is also attributed to the lower equipment utilization rates which were felt particularly during the third and fourth quarters of the current year.

Selling, General and administrative expenses

The Company's selling, general and administrative expenses are recorded on a consolidated basis and not broken out for each division as the two divisions share the same management team as well as accounting, administration and sales staff.



----------------------------------------------------------------------------
Three months Three months
ended ended Year ended Year ended
Dec 31, 2006 Dec 31, 2005 Dec 31, 2006 Dec 31, 2005
$000s (unaudited) (unaudited) (unaudited) (unaudited)
----------------------------------------------------------------------------
Total Selling, general
and admin expenses 2,516 3,102 9,759 6,955
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Less: stock-based
compensation expense 273 1,868 1,477 1,868
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Net 2,243 1,234 8,282 5,087
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Selling, general and administrative expenses (net of stock-based compensation expense) was $2.2 million in the current year fourth quarter as compared to $1.2 million in the fourth quarter of 2005 reflecting the Company's significant growth. For the 2006 year, the net amount was $8.3 million (or 11.3% of revenue) as compared to a net amount of $5.1 million in the prior year (or 10.3% of revenue). The increase on a percentage basis is partly attributed to costs of operating as a public company combined with the increased staffing and infrastructure to accommodate the Company's growth over the prior year and anticipated future growth.

The stock-based compensation expense for the year ended December 31, 2006 relates to stock options that vested in the CanSub Group of companies just prior to the February 14, 2006 transaction date plus the expense associated with options granted to the employees of the newly formed consolidated entity from February 14th through to December 31. In 2005, the entire stock-based compensation expense was incurred during the fourth quarter and related to options granted in the CanSub Group. See discussion of options that were issued during the current quarter in the section below titled "Stock Options".



Depreciation and amortization expense

----------------------------------------------------------------------------
Three months Three months
ended ended Year ended Year ended
Dec 31, 2006 Dec 31, 2005 Dec 31, 2006 Dec 31, 2005
$000s (unaudited) (unaudited) (unaudited) (unaudited)
----------------------------------------------------------------------------
Depreciation 1,563 712 4,763 1,969
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Amortization 718 159 1,783 159
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Total 2,281 871 6,546 2,128
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Note: the financial statements reflect only the total depreciation and
amortization expense; the component amounts are not broken out.


Depreciation and amortization

Depreciation expense (which relates to depreciation taken on the Company's property and equipment) amounted to $4.8 million for the 2006 year. This was 2.4 times higher than the $2.0 million of depreciation expense recorded in the 2005 year and reflects the significant increase in property and equipment during 2006, where the average net book value (i.e. beginning of the year balance plus end of the year balance divided by 2) was 2.8 times higher than during 2005 (i.e. $28.0 million in 2006 compared to $9.9 million in 2005). The higher net book value balances were offset by a lower average depreciation rate used in 2006. As described in note 2 in the audited financial statements, the depreciation rates for several equipment categories were reduced in 2006. This change in accounting estimate was applied prospectively.

Amortization expense (which relates to amortization of the Company's intangible assets) amounted to $1.8 million for the 2006 year. The majority of this amount relates to amortization of the $11.3 million of intangible assets acquired as part of the 4 business acquisitions that closed on May 31, 2006.



Interest expense

----------------------------------------------------------------------------
Three months Three months
ended ended Year ended Year ended
Dec 31, 2006 Dec 31, 2005 Dec 31 2006 Dec 31 2005
$000s (unaudited) (unaudited) (unaudited) (unaudited)
----------------------------------------------------------------------------
Long-term interest 97 75 472 193
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Other interest 245 97 430 214
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Total interest 342 172 902 407
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Total interest expense

Total interest expense for the 2006 year of $902,000 was 2.2 times greater than the 2005 total interest expense of $407,000. The increase in 2006 reflected a net increase in total debt (comprised of bank indebtedness, callable debt, long-term debt and capital leases) which was 2.1 times higher at December 31, 2006 as compared to December 31, 2005. The current year interest expense was also impacted by an increase in the bank's prime lending rate.

Loss on settlement of Class B preferred share liability

Prior to November 13, 2006, all of the Class B shareholders, agreed to convert the 991,044 outstanding Class B shares into Class C non-voting commons shares on a one for one basis. As a result of shareholder approval obtained on November 13, 2006, the Company amended its articles on November 20, 2006 to convert the 991,044 issued and outstanding Class C non-voting common shares into Class A common shares on a one for one basis. The articles of amendment are available on SEDAR.

Based on the redemption price of the Class B preferred shares of $4.20, the liability amount that had been recorded on the Company's balance sheet in relation to these shares was $4.2 million. Given the trading price of the Company's Class A common shares on the conversion date of $4.25, and after taking account the costs related to the conversion, a loss of $167,000 was recorded.

Current income tax expense (recovery)

For the 2006 year, the Company recognized a current income tax recovery of $92,000 as compared to a current income tax expense of $1.3 million for the 2005 year. The current year recovery relates to an accrual adjustment of a previously recorded income tax refund receivable. The current tax expense in the prior year reflects cash taxes payable on taxable income generated by the CanSub Group of companies from January 1 to July 31, 2005. On July 31, 2005, the operating assets of the two operating companies in the Cansub Group (i.e. Canadian Sub-Surface Energy Services Inc. and Canadian Sub-Surface Gas Testing Inc.) were transferred to a partnership. From August 1, 2005 to December 31, 2005, the estimated tax expense on the taxable income generated by the partnership was classified as future tax expense as these amounts did not become payable until flowed up to the respective partners.

Future income tax expense (recovery)

The Company recognized a small future income tax recovery during the 2006 year of $34,000. The future income tax expense (recovery) is primarily impacted by draw-downs of the deferred credit (such draw-down in proportion to the utilization of future income tax assets) as well as net timing differences between amounts for income tax and accounting.

Net earnings

The Company recorded net earnings for the fourth quarter of 2006 of $1.6 million ($0.08 per share), which brings net earnings for the year ended December 31, 2006 to $7.0 million ($0.45 per share). During the fourth quarter of 2005, the Company recorded a net loss of $0.9 million and a net earnings figure for the 2005 year of $1.3 million. The per share amounts for the prior year periods are not comparable to the current year periods.

Retained earnings (deficit)

On November 13, 2006, the Company's shareholders approved the reduction of the accumulated deficit by $22.7 million which eliminated the Company's accumulated deficit balance and resulted in a retained earnings balance at December 31, 2006 of $7.0 million. This revised retained earnings figure reflects the cumulative earnings since January 1, 2006, and in the opinion of the Company's management, is more representative of the performance of the Company since the February 14, 2006 transaction. The $22.7 million reduction in accumulated deficit resulted in a corresponding reduction to the Company's Class A common share balance.

Income tax amounts

The Company had the following estimated income tax amounts available at December 31, 2006, to apply against future taxable income: non-capital losses of $11.5 million and unclaimed scientific research and development expenditures ("SRED") of $9.4 million. In addition, the Company had approximately $1.9 million in investment tax credits which may be claimed against taxes otherwise payable for federal purposes and expire between 2007 and 2012. These tax amounts are subject to review and assessment by the taxation authorities.

Share capital

During the fourth quarter of 2006, 991,044 Class A common shares were issued (on a one for one basis) to the previous holders of 991,044 Class B preferred shares. As a result of this transaction, all of the outstanding Class B preferred shares were eliminated which served to simplify the Company's capital structure. The Class A common shares issued in this transaction had a deemed value for accounting purposes of $4.25 per share, which was credited to share capital. After giving effect to this transaction, the Company exited year end 2006 with 19.3 million Class A common shares outstanding.

Stock options

During the current quarter, the Company issued 79,000 options and cancelled 87,500 options for a net decrease of 8,500 options. At December 31, 2006 the Company had 1.55 million options outstanding.

Liquidity and Capital Resources

Cash flow from operations (before changes in non-cash working capital) was $4.1 million for the fourth quarter of 2006 as compared to $3.2 million for the prior year fourth quarter primarily reflecting the quarter over quarter revenue increase of $3.3 million. For the 2006 year, the cash flow from operations amounted to $15.6 million as compared to $8.1 million for 2005, also due mainly to increased revenues (which increased year over year by $23.9 million).

As at December 31, 2006 the Company had working capital of $11.4 million and total long-term debt (i.e. long-term debt plus long-term portion of capital leases) of $19.8 million for a net debt position of $8.4 million. At December 31, 2006 the Company had drawn $17.5 million of its committed, revolving facility. Under terms of the facility, the total available credit is $44.0 million. The actual available amount at any one time is equal to 75% of marginable accounts receivable plus 50% of the net book value of property and equipment on the Company's balance sheet less the amount of obligations under capital lease. This resulted in an actual available amount from this facility of approximately $32.8 million at December 31, 2006.

The committed, revolving facility, which was put in place during October 2006, replaced the Company's previous operating loan facility. The new facility can be used to finance working capital requirements, acquire capital assets and for business acquisitions. Based on the related repayment terms of this new facility (such terms outlined in the notes to the audited December 31, 2006 financial statements) only $0.5 million of the $17.5 million of drawn amounts at December 31, 2006 were reflected as a current liability with the remainder reflected as long-term.

The Company believes that its strong balance sheet combined with available credit facilities and cash flow from operating activities will provide sufficient capital resources to fund its planned 2007 capital expenditure program and on-going operations.

Investing Activities

The Company's capital expenditures for property and equipment during the fourth quarter of 2006 amounted to $5.9 million and related primarily to budgeted fixed asset additions in the Wireline and Testing divisions. Internal capital expenditures for the year ended December 31, 2006 (which excludes the capitalization of equipment operating leases of $3.4 million) was approximately $22.6 million. A further $4.5 million of equipment that was slated to be received in 2006 has been delayed until 2007 due to manufacturing delays beyond the Company's control.

In addition to these internal additions, $9.3 million of equipment was purchased as part of the May 31, 2006 business acquisitions of Colter and the three owner operators.

The schedule below outlines the changes to the Company's equipment fleet during 2006:



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# of Wireline # of Swabbing # of Testing
Units Units packages
----------------------------------------------------------------------------
Operating fleet at
December 31, 2005 30(i) 4 32
----------------------------------------------------------------------------
May 31, 2006 business
acquisitions 2(i) - 16(ii)
----------------------------------------------------------------------------
Internal additions 4 5 13
----------------------------------------------------------------------------
Equipment retirements (1) (1) -
----------------------------------------------------------------------------
Operating fleet at
December 31, 2006 35 8 61
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(i) Canadian Sub-Surface has historically included the wireline units owned
by the owner operators as part of the Company's available fleet. At
December 31, 2005, the available fleet of 30 wireline units included
11 units owned by the owner operators.

(ii)On May 31, 2006, Canadian Sub-Surface acquired all of the business
assets of Colter Production Services, an Alberta based production
testing company.


As announced in February 2007, the Company's Board of Directors approved a capital expenditure program for calendar 2007 of $10.1 million, which together with the $4.5 million of approved capital expenditures carried over from 2006, will aggregate to a total capital program of approximately $14.6 million for 2007. The $10.1 million amount for 2007 is comprised of 5 wireline units, 3 swabbing units, costs to refurbish some of CanSub's older equipment, infrastructure for the Company's new facilities in northern Alberta and auxiliary equipment. A portion of the auxiliary equipment will be used to replace equipment currently being rented from third parties. The aggregate 2007 capital budget will be funded by cash flow and credit facilities available to the Company.

Given the current uncertainty in industry conditions and expected industry activity for 2007, CanSub management believes it is prudent to proceed with a conservative capital expenditure program at this time. Management will continue to monitor industry activity throughout 2007 and adjust the capital budget accordingly.

Financing Activities

During 2006, the Company completed two equity financings. The first financing, completed as part of the February 14, 2006 transaction, included the issue of 8.1 million shares at a price of $4.20 per share for gross proceeds of $34.0 million (net proceeds of $31.9 million). A significant portion of these proceeds (approximately $26.1 million) was used to finance the cash portion of the Company's acquisition of all of the shares of the CanSub Group. The second financing, completed on May 31, 2006, included the issue of 2.53 million shares at a price of $7.50 per share for gross proceeds of $19.0 million (net proceeds of $18.0 million). The majority of these proceeds were used to finance the $16.8 million cash portion of the Colter and owner operator acquisitions that also closed on May 31, 2006.

Related Party Transactions

The related party transactions during 2006 are outlined in the notes to the audited December 31, 2006 financial statements.



Quarterly Financial Summary

----------------------------------------------------------------------------
Three- Three- Three- Three-
(in thousands of month month month month
dollars, except period period period period
per share ended ended ended ended Year ended
amounts or March 31, June 30, Sept 30, Dec 31, Dec 31,
as otherwise 2006 2006 2006 2006 2006
noted) (unaudited) (unaudited) (unaudited) (unaudited) (unaudited)
----------------------------------------------------------------------------
Revenue 22,402 10,714 20,625 19,611 73,352
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Gross Margin 8,554 2,043 7,528 6,603 24,728
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Cash Flow (1) 6,553 (29) 5,002 4,110 15,636
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Normalized
EBITDA (1) (2) 6,755 175 5,228 4,360 16,518
----------------------------------------------------------------------------
Normalized EBITDA
as a % of revenue 30.1% 1.6% 25.3% 22.2% 22.5%
----------------------------------------------------------------------------
Net Earnings 2,352 806 2,192 1,616 6,966
----------------------------------------------------------------------------
Net Earnings per
share - basic $ 0.20 $ 0.05 $ 0.12 $ 0.08 $ 0.45
----------------------------------------------------------------------------


----------------------------------------------------------------------------
Three- Three- Three- Three-
(in thousands of month month month month
dollars, except period period period period
per share ended ended ended ended Year ended
amounts or March 31, June 30, Sept 30, Dec 31, Dec 31,
as otherwise 2005 2005 2005 2005 2005
noted) (unaudited) (unaudited) (unaudited) (unaudited) (unaudited)
----------------------------------------------------------------------------
Revenue 14,146 6,806 12,208 16,269 49,429
----------------------------------------------------------------------------
Gross Margin 5,098 751 4,147 4,868 14,864
----------------------------------------------------------------------------
Cash Flow (1) 2,645 (128) 2,350 3,244 8,111
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Normalized
EBITDA (1) (2) 4,089 160 2,567 3,843 10,659
----------------------------------------------------------------------------
Normalized EBITDA
as a % of revenue 28.9% 2.4% 22.6% 23.6% 21.6%
----------------------------------------------------------------------------
Net Earnings (loss) 1,581 (395) 982 (889) 1,279
----------------------------------------------------------------------------
Net Earnings per
share - basic N/A N/A N/A N/A N/A
----------------------------------------------------------------------------

(1) Refer to the "Non-GAAP measures" section below for details.

(2) EBITDA means earnings before interest, taxes, depreciation and
amortization and excludes stock based compensation expense. Normalized
EBITDA means EBITDA adjusted for certain equipment lease expenses that
are included in operating expenses. Refer to the section below titled
"Reconciliation of EBITDA and Normalized EBITDA to Net Earnings".


Subsequent Events

Subsequent to December 31, 2006, the Company's Board of Directors approved the re-pricing of 391,000 options held by employees of the Company (excluding directors, officers, senior management and other insiders). The exercise prices of these options, which ranged from $4.49 to $7.80, were all reduced to $4.20. As a result of this re-pricing, substantially all of the Company's outstanding options at March 21, 2007 have an exercise price of $4.20 which is equal to the price of the Company's shares issued as part of the February 14, 2006 go-public transaction.

Use of estimates and assumptions

The financial statements of the Company have been prepared by management in accordance with Canadian Generally Accepted Accounting Principals ("GAAP"). The timely preparation of these financial statements in conformity with Canadian GAAP requires that management make estimates and assumptions and use judgment regarding the reported amounts of assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the period. The most significant are estimates for depreciation and amortization, valuation of goodwill, valuation of intangible assets, stock based compensation and valuation of future income tax assets. The financial statements have, in management's opinion, been prepared within reasonable limits of materiality and within the framework of the Company's accounting policies.

New accounting pronouncements

Comprehensive income (Section 1530 of CICA Handbook)

This standard requires a separate financial statement that captures items included in other comprehensive income but excluded from income in accordance with Canadian GAAP. This standard is effective for the Company's 2007 reporting periods and is not expected to have a significant impact on the Company.

Financial Instruments (Sections 3855 and 3861 of CICA Handbook)

These new standards deal with the recording of financial instruments at fair value in the financial statements unless certain criteria are met allowing them to be recorded at cost or amortized cost. These standards will be effective for the Company's 2007 reporting periods and are not expected to have a significant impact.

International Financial Reporting Standards

Within the next five years, Canadian GAAP for public companies is expected to be replaced with International Financial Reporting Standards ("IFRS"). The Company will address the adoption of IFRS' when the transition requirements become clearly defined. The adoption of IFRS may have a material impact on the Company's financial statements.

Risks and Uncertainties

The Company's operations face a number of risks and uncertainties in the normal course of business that may be beyond its control, but which could have a material adverse effect on the financial affairs of the business, including its operating results.

Volatility of Industry Conditions including prices for oil and natural gas

The demand, pricing and terms for oilfield services largely depend upon the level of industry activity for Canadian natural gas and, to a lesser extent, oil exploration and development. Industry conditions are influenced by numerous factors over which the Company will have no control, including: the level of oil and gas prices; expectations about future oil and gas prices; the cost of exploring for, producing and delivering oil and gas; the expected rates of declining current production; the discovery rates of new oil and gas reserves; available pipeline and other oil and gas transportation capacity; worldwide weather conditions; global political, military, regulatory and economic conditions; and the ability of oil and gas companies to raise equity capital or debt financing.

The level of activity in the Canadian oil and gas exploration and production industry is volatile. No assurance can be given that expected trends in oil and gas production activities will continue or that demand for oilfield services will reflect the level of activity in the industry. Any prolonged substantial reduction in oil and natural gas prices would likely affect oil and gas production levels and therefore affect the demand for services to oil and gas customers. A material decline in oil or gas prices or Canadian industry activity could have a material adverse effect on the Company's business, financial condition, results of operations and cash flows. The business and activities of CanSub are directly affected by fluctuations in the levels of exploration, development and production activity carried on by its customers.

Seasonality and weather

In Canada, the level of activity in the oilfield services industry is influenced by seasonal weather patterns. Spring break-up during the second quarter leaves many secondary roads temporarily incapable of supporting the weight of heavy equipment, which results in severe restrictions in the level of oilfield services. Wet weather and the spring thaw may make the ground unstable. Consequently, municipalities and provincial transportation departments enforce road bans that restrict the movement of rigs and other heavy equipment, thereby reducing activity levels. The duration of this period will have a direct impact on the level of the Company's activities. Spring break-up occurs earlier in the year in south eastern Alberta than it does in northern Alberta and British Columbia. The timing and duration of spring break-up are dependant on weather patterns but it generally occurs in April and May. Certain oil and gas producing areas are located in areas that are inaccessible other than during winter months, because the ground surrounding the drillings sites in these areas consists of swampy terrain. Additionally, if an unseasonably warm winter prevents sufficient freezing, the Company may not be able to access well sites and its operating results and financial condition may therefore be adversely affected. The demand for oilfield services may also be affected by the severity of the Canadian winters. In addition, during excessively rainy periods, equipment moves may be delayed, thereby adversely affecting revenues. The volatility in the weather and temperature can therefore create unpredictability in activity and utilization rates, which can have a material adverse effect on the Company's business, financial condition, results of operations and cash flows. Seasonal factors and unexpected weather patterns may lead to declines in the activity levels of exploration and production companies and corresponding declines in the demand for the goods and services of the Company.

Alternatives to and Changing Demand for Petroleum Products

Fuel conservation measures, alternative fuel requirements, increasing consumer demand for alternatives to oil and gas, and technological advances in fuel economy and energy generation devices could reduce the demand for crude oil, other liquid hydrocarbons and natural gas. The Company cannot predict the impact of changing demand for oil and natural gas products, and any major changes may have a material adverse effect on the Company's business.

Sources, Pricing and Availability of Equipment and Equipment Parts

The Company sources its equipment and equipment parts from a variety of suppliers, most of whom are located in Canada and the United States. Should any of these suppliers be unable to provide the necessary equipment or parts or otherwise fail to deliver products in the quantities required, any resulting delays in the provision of services or in the time required to find new suppliers could have a material adverse effect on the Company's business.

Government Regulations

The Company's operations are subject to a variety of federal, provincial and local laws, regulations, and guidelines, including laws and regulations relating to health and safety, the conduct of operations, the protection of the environment, the operation of equipment used in its operations and the transportation of materials and equipment it provides for its customers. The Company continues to invest financial and managerial resources to ensure that it is in compliance with such regulations. Such laws and regulations are subject to change and accordingly it is difficult to predict the cost or impact of such laws and regulations on the Company's current and future operations.

Environmental Liability

The Company routinely deals with environmentally hazardous materials and has designed operating and safety programs to address compliance with current environmental standards. There can be no assurance that the Company's procedures will prevent environmental damage occurring from spills of materials handled by the Company or that such damage has not already occurred. The Company carries insurance for such incidents but there can be no assurance that all incidents will be covered by insurance. A partly or completely uninsured claim, if successful and of sufficient magnitude, could have a material adverse effect on the Company.

Operating Risks and Insurance

The Company's operations are subject to hazards inherent in the oil and gas industry, such as equipment defects, malfunction and failures, and natural disasters which result in fires, vehicle accidents, explosions and uncontrollable flows of natural gas or well fluids that can cause personal injury, loss of life, suspension of operations, damage to formations, damage to facilities, business interruption and damage to or destruction of property, equipment and the environment. These risks could expose the Company to substantial liability for personal injury, wrongful death, property damage, loss of oil and gas production, pollution, and other environmental damages. The frequency and severity of such incidents will affect operating costs, insurability and relationships with customers, employees and regulators.

To mitigate this risk, the Company continuously monitors activities for quality control and safety. However, there are no assurances that the Company's safety procedures will always prevent such damages. Although the Company maintains insurance coverage that it believes to be adequate and customary in the industry, there can be no assurance that such insurance will be adequate to cover the Company's liabilities. In addition, there can be no assurance that the Company will be able to maintain adequate insurance in the future at rates it considers reasonable and commercially justifiable. The occurrence of a significant uninsured claim, a claim in excess of the insurance coverage limits maintained by the Company or a claim at a time when it is not able to obtain liability insurance, could have a material adverse effect on the Company's ability to conduct normal business operations and on its financial condition, results of operations and cash flows.

Agreements and Contracts

The business operations of the Company depend on verbal, performance based agreements with its customer base that are cancellable at any time by either the Company or its customers. The key factors which will determine whether a client continues to use the Company's services are level of service quality and availability, reliability and performance of equipment used to perform its services, technical knowledge and experience, reputation for safety and competitive price. There can be no assurance that the Company's relationships with its customers will continue, and a significant reduction or total loss of the business from these customers, if not offset by sales to new or existing customers, could have a material adverse effect on the Company's business, financial condition, results of operations and cash flows.

Key Personnel

The successful operation of the Company's business will depend upon the abilities, expertise, judgment, discretion, integrity and good faith of its executive officers, general managers, employees and consultants. In addition, the ability of the Company to expand its services will depend upon the ability to attract qualified personnel as needed. The demand for skilled oilfield employees is high, and the supply is limited. The unexpected loss of the Company's key personnel, or the inability to retain or recruit skilled personnel could have a material adverse effect on its business, financial condition, results of operations and cash flows. To ensure the Company can attract and maintain its required employee base, competitive compensation programs and related industry training are in place.

Competition

The oilfield services business in which the Company operates is highly competitive. To be successful, the Company must provide services that meet the specific needs of its clients at competitive prices. The principal competitive factors in the markets in which the Company operates are: service quality and availability, reliability and performance of equipment used to perform its services, technical knowledge and experience and reputation for safety and competitive price. The Company's competitors range from large multinational corporations to smaller regional entities. There is no assurance that these larger competitors will not substantially increase the resources devoted to the development and marketing of services that compete with those of the Company. In addition, there is no assurance that new competitors will not enter the various markets in which the Company operates.

Reduced levels of activity in the oil and natural gas industry can intensify competition and result in lower prices and revenue to the Company. Variations in the exploration and development budgets of oil and natural gas companies which are directly affected by fluctuations in energy prices, the cyclical nature and competitiveness of the oil and natural gas industry and governmental regulation, can all have an impact on the Company's ability to generate revenue and earnings.

Credit Risk

A substantial portion of the Company's accounts receivable are from customers involved in the oil and gas industry, whose revenues may be impacted by fluctuations in commodity prices. Collection of these receivables could be influenced by economic factors affecting the oil and gas industry.

Evaluation of Disclosure Controls and Procedures

Management has designed disclosure controls and procedures to provide reasonable assurance that material information relating to the Company is made known to the Chief Executive Officer ("CEO") and Chief Financial Officer ("CFO") on a timely basis in order for the Company to comply with its disclosure and financial reporting obligations and in order to safeguard assets. The CEO and CFO have concluded that the Company's disclosure controls and procedures, as at December 31, 2006 are designed and operating effectively in providing reasonable assurance that material information is accumulated and made known to them on a timely basis.

Evaluation of Internal Controls over Financial Reporting

The Company's CEO and CFO are responsible for designing internal controls over financial reporting ("ICFR") or causing them to be designed under their supervision in order to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with GAAP.

The Company has assessed the design of its internal controls over financial reporting as at December 31, 2006. Based on this assessment, the Company's CEO and CFO have concluded that the Company's ICFR is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with GAAP.

As required, the Company records complex and non-routine transactions. These are sometimes extremely technical in nature and require an in-depth understanding of GAAP. To address this risk, the Company consults with third party advisors as needed in connection with the recording and reporting of complex and non-routine transactions. Management does not expect that the internal controls over financial reporting would prevent all errors and fraud. A control system, no matter how well conceived or operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met.

There was no change to the Company's internal controls over financial reporting that occurred during the most recent interim period that has materially affected, or is reasonably likely to materially affect, the Company's ICFR.

Outlook

Activity levels in the WCSB related to natural gas drilling and development have been negatively impacted by natural gas prices that have declined significantly since early 2006. The shallower, less economic natural gas plays have seen the most significant impact. Since a large portion of the Company's natural gas work is centered around intermediate and deeper gas reserve areas the decline in our equipment utilization has not been as severe as some of our peers. In addition, since the Company's diversified service portfolio includes oil related activities as well as activities related to producing wells and well abandonments, we have been able to sustain utilization rates at reasonable levels. The Company's management continues to closely monitor industry activity and will make adjustments to capital expenditures and other outlays depending on these activity levels.

Given the Company's strong balance sheet and diversification of services we are positioned to weather the current industry slow-down.



RECONCILIATION OF CASH FLOW, EBITDA AND NORMALIZED EBITDA TO NET EARNINGS

----------------------------------------------------------------------------
Three months Three months
ended Dec 31 ended Dec 31 Year ended Year ended
30 2006 2005 Dec 31 2006 Dec 31 2005
In $000's (unaudited) (unaudited) (unaudited) (unaudited)
----------------------------------------------------------------------------
Net earnings 1,636 (889) 6,986 1,279
----------------------------------------------------------------------------
Add back (deduct):
----------------------------------------------------------------------------
Depreciation and
amortization
expense 2,281 871 6,546 2,128
----------------------------------------------------------------------------
Future income tax
expense (recovery) (1) 639 (54) 1,189
----------------------------------------------------------------------------
Gain on disposal of
equipment (246) (2) (272) (127)
----------------------------------------------------------------------------
Stock-based
compensation expense 273 1,868 1,477 1,868
----------------------------------------------------------------------------
Loss on settlement of
Class B preferred share
liability 167 - 167 -
----------------------------------------------------------------------------
Non-Controlling
interest - 757 786 1,774
----------------------------------------------------------------------------
Cash Flow (1) 4,110 3,244 15,636 8,111
----------------------------------------------------------------------------
Add Back (Deduct):
----------------------------------------------------------------------------
Long-term and other
interest expense 342 172 902 407
----------------------------------------------------------------------------
Current tax expense
(recovery) (92) 218 (92) 1,259
----------------------------------------------------------------------------
EBITDA (1) 4,360 3,634 16,446 9,777
----------------------------------------------------------------------------
Normalization adjustments:
----------------------------------------------------------------------------
Equipment lease expenses
included in operating
expenses (2) - 209 72 882
----------------------------------------------------------------------------
Normalized EBITDA (1) 4,360 3,843 16,518 10,659
----------------------------------------------------------------------------

(1) Refer to "Non-GAAP Measures" section below.

(2) Certain of the Company's wireline units, swabbing units, testing
packages and related equipment were previously leased through operating
leases (with the related lease payments being expensed as a component of
operating expenses in the statement of operations). If the Company had
owned these assets, the related depreciation expense would have been an
add back in determining an EBITDA figure. In order to be comparable
between the current and prior year operating periods, the equipment
lease payments expensed in the prior periods are reflected as an add
back in the Company's Normalized EBITDA calculation.


NON-GAAP MEASURES

Cash Flow represents cash provided by operations excluding the impact of cash provided by (used in) non-cash working capital changes. The cash provided by operations figure is reflected in the Company's unaudited, interim statement of cash flows as well as the audited year end statement of cash flows. EBITDA represents earnings before interest, income taxes, depreciation and amortization and stock-based compensation expense and is a widely used financial indicator in the oilfield services sector. Normalized EBITDA represents EBITDA adjusted for certain equipment lease expenses that are recorded in operating expenses. Gross Margin represents revenue less operating expenses and is another financial indicator used in the oilfield services sector. Gross Margin will vary quarter over quarter in relation to the seasonality of the Company's business. Cash Flow, EBITDA and Normalized EBITDA are not measures determined in accordance with Canadian Generally Accepted Accounting Principles ("GAAP") and therefore these measures as presented may not be comparable to similarly titled measures of other companies.


Additional information

Further information regarding Canadian Sub-Surface Energy Services Corp. can be accessed on the Company's website at www.cansub.com or under the Company's public filings found at www.sedar.com.



CANADIAN SUB-SURFACE ENERGY SERVICES CORP.
Consolidated Balance Sheets
(in thousands of dollars)
----------------------------------------------------------------------------
December 31, December 31,
2006 2005
----------------------------------------------------------------------------
Assets
Current assets:
Accounts receivable $ 18,962 $ 14,085
Deposits and other 2,346 402
Income taxes receivable 141 -
Inventory 302 -
Current portion of loans receivable (note 5) - 126
---------------------------------------------------------------------------
21,751 14,613
Due from related parties (note 4) - 174
Loans receivable (note 5) - 37
Property and equipment (note 6) 43,338 12,715
Future income tax asset (note 12) 5,476 -
Intangible assets (note 7) 10,073 601
Goodwill 14,177 1,401
----------------------------------------------------------------------------
$ 94,815 $ 29,541
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Liabilities and Shareholders' Equity
Current liabilities:
Accounts payable and accrued liabilities $ 7,556 $ 6,574
Current portion of obligations under capital
leases (note 11) 2,278 1,346
Current portion of long-term debt (note 9) 487 99
Income taxes payable 7 1,258
Bank indebtedness - 4,924
Callable debt (note 8) - 1,832
Notes payable (note 10) - 1,266
Shareholders' loans (note 4) - 803
---------------------------------------------------------------------------
10,328 18,102
Obligations under capital leases (note 11) 2,833 2,657
Long-term debt (note 9) 17,027 107
Future income taxes (note 12) - 2,180
Deferred credit (notes 3 and 12) 6,723 -
----------------------------------------------------------------------------
36,911 23,046
Non-controlling interest - 2,520
Shareholders' equity:
Share capital (note 13) 47,593 500
Contributed surplus (note 13) 3,345 1,868
Retained earnings 6,966 1,607
---------------------------------------------------------------------------
57,904 3,975
Commitments (note 16)
Subsequent events (note 13)
----------------------------------------------------------------------------
$ 94,815 $ 29,541
----------------------------------------------------------------------------
----------------------------------------------------------------------------

See accompanying notes to consolidated financial statements.

On behalf of the Board:

Signed Signed
Director Director


Consolidated Statements of Earnings and Retained Earnings
(in thousands of dollars; except per share amounts)

Year ended December 31,
------------------------------
2006 2005
----------------------------------------------------------------------------
Revenue $ 73,352 $ 49,429

Expenses:
Operating 48,624 34,565
Selling, general and administrative 9,759 6,955
Depreciation and amortization 6,546 2,128
Interest on long-term debt 472 193
Other interest 430 214
Gain on disposal of equipment (272) (127)
---------------------------------------------------------------------------
65,559 43,928

----------------------------------------------------------------------------
Earnings before the undernoted 7,793 5,501

Loss on settlement of Class B preferred share
liability 167 -
----------------------------------------------------------------------------
Earnings before income taxes 7,626 5,501

Income taxes (recovery) (note 12):
Current (92) 1,259
Future (34) 1,189
---------------------------------------------------------------------------
(126) 2,448

----------------------------------------------------------------------------
Earnings before non-controlling interest 7,752 3,053

Non-controlling interest (786) (1,774)

----------------------------------------------------------------------------
Net earnings 6,966 1,279

Retained earnings, beginning of year 1,607 2,622

Purchase of non-controlling interest 3,306 -

Cash and Class B preferred shares paid to
CanSub Group shareholders (note 1) (27,566) -

Application of deficit against share capital 22,653 -

Equity of 1156853 Alberta Ltd. (note 17) - (2,294)

----------------------------------------------------------------------------
Retained earnings, end of year $ 6,966 $ 1,607
----------------------------------------------------------------------------
----------------------------------------------------------------------------

Earnings per common share (note 14)
Basic $ 0.45 $ 0.25
Diluted $ 0.44 $ 0.25
----------------------------------------------------------------------------
----------------------------------------------------------------------------

See accompanying notes to consolidated financial statements.


Consolidated Statements of Cash Flows
(in thousands of dollars)
Year ended December 31,
------------------------------
2006 2005
----------------------------------------------------------------------------

Cash provided by (used in):
Operations:
Net earnings $ 6,966 $ 1,279
Depreciation and amortization 6,546 2,128
Gain on disposal of equipment (272) (127)
Future income taxes (34) 1,189
Stock based compensation 1,477 1,868
Loss on settlement of Class B preferred
share liability 167 -
Non-controlling interest 786 1,774
---------------------------------------------------------------------------
15,636 8,111
Change in non-cash working capital related to
operating activities (note 15) (7,345) (1,328)
---------------------------------------------------------------------------
8,291 6,783
----------------------------------------------------------------------------

Financing:
Decrease in amounts due from related parties 174 584
Repayment of callable debt (1,832) (920)
Increase (decrease) in bank indebtedness (4,924) 558
Increase (decrease) in notes payable (1,266) 1,266
Increase in long-term debt 17,514 -
Repayment of long-term debt (206) (99)
Increase in shareholders' loans - 552
Repayment of shareholders' loans (803) (1,570)
Increase in obligations under capital lease 3,448 3,533
Repayment of obligations under capital lease (2,340) (676)
Decrease in loans receivable 163 244
Net proceeds on issuance of common shares 49,139 -
Proceeds from exercise of stock options 810 -
Cash portion of payment to CanSub Group
shareholders (note 1) (26,066) -
---------------------------------------------------------------------------
33,811 3,472
----------------------------------------------------------------------------

Investing:
Acquisition of businesses (16,795) -
Acquisition of property and equipment (26,017) (6,779)
Cash acquired on business combination
(note 3) 1,512 -
Disposal of equipment 109 202
Change in non-cash working capital related
to investing activities (note 15) (911) (1,384)
---------------------------------------------------------------------------
(42,102) (7,961)
----------------------------------------------------------------------------

Equity of 1156853 Alberta Ltd. (note 17) - (2,294)

----------------------------------------------------------------------------
Net change in cash - -

Cash, beginning of period - -

----------------------------------------------------------------------------
Cash, end of period $ - $ -
----------------------------------------------------------------------------
----------------------------------------------------------------------------

Supplementary cash flow (note 15)
See accompanying notes to consolidated financial statements.


CANADIAN SUB-SURFACE ENERGY SERVICES CORP.
Notes to the Consolidated Financial Statements
(in thousands of dollars)

Years ended December 31, 2006 and 2005


1. Basis of presentation and nature of operations:

These consolidated financial statements include the accounts of Canadian Sub-Surface Energy Services Corp. (the "Company" formerly Canada West Capital Inc. ("CWC"). On February 14, 2006, CWC acquired all of the outstanding shares of Canadian Sub-Surface Energy Services Inc., Canadian Sub-Surface Gas Testing Inc. and 1156853 Alberta Ltd. ("the CanSub Group"). After the acquisition, the former shareholders of the CanSub Group held the largest percentage of Class A common voting shares and controlled the Company's management and therefore the CanSub Group was deemed to be the acquirer for accounting purposes. Accordingly, the transaction has been accounted for as a reverse takeover (using the purchase method) whereby the assets and liabilities of CWC were recorded at their fair values at the February 14, 2006 transaction date. The share capital in the prior year and up to February 14, 2006 was that of the CanSub Group. Subsequent to the transaction date, the share capital was that of the Company.

CWC was incorporated on June 14, 1998 under the Business Corporations Act (Ontario). It was then continued under the Canada Business Corporations Act on January 13, 2004 and further continued under the Business Corporation's Act (Alberta) subsequent to the February 14, 2006 transaction. Just prior to the February 14, 2006 transaction, CWC was publicly traded.

The transaction between CWC and the CanSub Group can be summarized as follows:

- On December 30, 2005, CWC and the CanSub Group entered into an Arrangement Agreement which included the reorganization of CWC's share capital, a $34,000 financing and the acquisition of the CanSub Group.

- On February 14, 2006, CWC closed the $34,000 financing (net proceeds of $31,905 after deducting related commissions) through the issue of 8,095,237 Class A common shares at a price of $4.20 per share, and then completed the acquisition of the CanSub Group for a net purchase price (prior to adjustment) of $49,132. The initial purchase price consisted of the payment of $24,566 in cash and the remaining $24,566 in shares.

- The share component consisted of 5,491,905 Class A common shares and 357,143 Class B preferred shares (both share classes valued at $4.20 per share).

- The purchase price was subsequently increased by $1,500 to a total of $50,632 as a result of the purchase price adjustment clause contained in the Arrangement Agreement. The purchase price adjustment was paid in cash to the CanSub Group shareholders in the third quarter of 2006.

As part of the Arrangement Agreement, CWC changed its name to Canadian Sub-Surface Energy Services Corp. Shares of the Company commenced trading on the TSX on February 17, 2006.



Summary of purchase price paid for acquisition of CanSub Group
shares:

----------------------------------------------------------------------------

Initial cash consideration on February 14, 2006 $ 24,566
Purchase price adjustment 1,500
----------------------------------------------------------------------------
Total cash portion 26,066

Value of Class B preferred shares issued 1,500

----------------------------------------------------------------------------
Total consideration paid excluding Class A common shares 27,566

Value of Class A common shares issued 23,066

----------------------------------------------------------------------------
Total purchase price $ 50,632
----------------------------------------------------------------------------
----------------------------------------------------------------------------


Since the CanSub Group was the deemed acquirer in the transaction, the cash and Class B preferred share consideration used to purchase all of the outstanding shares of the CanSub Group was treated as a share buy-back, with the $27,566 applied to reduce retained earnings.

Effective May 31, 2006, the three entities comprising the CanSub Group were amalgamated and wound up into the Company.

The Company provides the following oilfield services in western Canada through its operating divisions: Wireline services (including cased-hole electric line and slickline), swabbing, well optimization and production testing.

2. Summary of significant accounting policies:

(a) Principles of consolidation:

For the period ended December 31, 2006, these consolidated financial statements include the accounts of the Company, its wholly-owned subsidiary and its wholly owned partnership. For the comparative period ended December 31, 2005, the consolidated financial statements include the accounts of Canadian Sub-Surface Energy Services Inc., it's wholly-owned subsidiary 789047 Alberta Ltd., it's 45.5% owned subsidiary Canadian Sub-Surface Gas Testing Inc., ("Gas Testing") and 1156853 Alberta Ltd. (a Company controlled by shareholders of Canadian Sub-Surface Energy Services Inc., ("115"). The remaining 53.5% of Gas Testing's shares were owned by 115 and individual shareholders of Canadian Sub-Surface Energy Services Inc. This 53.5% comprised the minority interest as recorded in the prior year and up to the February 14, 2006 transaction date.

All significant intercompany balances and transactions have been eliminated.

(b) Property and equipment:

Property and equipment are carried at cost. Effective January 1, 2006, the Company changed its accounting estimate related to its property and equipment depreciation rates. This change in accounting estimate has been applied prospectively and resulted in a $875 reduction of depreciation expense for the year ended December 31, 2006.

Depreciation has been calculated using the declining balance method over the estimated useful lives of the assets at the following annual rates:



----------------------------------------------------------------------------
Revised rate Previous rate
----------------------------------------------------------------------------

Trucks 25% 30%
Truck equipment 15% 15%
Field equipment 15% 20%
Furniture and office equipment 20% 10%
Computer hardware and software 30% 30%
----------------------------------------------------------------------------
----------------------------------------------------------------------------


(c) Inventory:

Inventory consisting of certain parts and operating supplies is carried at the lower of cost, determined on a first in first out basis, and net realizable value.

(d) Long-lived assets:

On a periodic basis, management assesses the carrying value of long-lived assets for indications of impairment. Indications of impairment include items such as an ongoing lack of profitability and significant changes in technology. When an indication of impairment is present, the Company tests for impairment by comparing the carrying value of the asset to its net recoverable amount. If the carrying amount is greater than the net recoverable amount, the asset is written down to its estimated fair value.

(e) Intangible assets:

The Company amortizes its intangible assets on a straight-line basis over their estimated useful lives as follows:



----------------------------------------------------------------------------
Term
----------------------------------------------------------------------------

Non-competition agreements 4 years
Customer relationships 10 years
Patent pending technology 3 years
----------------------------------------------------------------------------
----------------------------------------------------------------------------


(f) Goodwill:

Goodwill represents the portion of the purchase price paid on the acquisition of businesses in excess of the value assigned to identifiable net assets acquired. Goodwill is tested for impairment at least annually. The impairment test is carried out in two steps. In the first step, the carrying amount of the reporting segment is compared with its fair value. When the fair value of a reporting segment exceeds its carrying amount, goodwill of the reporting segment is considered not to be impaired and the second step of the impairment test is unnecessary. The second step is carried out when the carrying amount of a reporting segment exceeds its fair value, in which case the implied fair value of the reporting segment's goodwill is compared with its carrying amount to measure the amount of the impairment loss, if any. When the carrying amount of a reporting segment's goodwill exceeds the implied fair value of the goodwill, an impairment loss is recognized in an amount equal to the excess.

(g) Income taxes:

The Company follows the asset and liability method of accounting for future income taxes whereby temporary differences arising from the difference between the tax basis of an asset or liability and its carrying amount on the balance sheet are used to calculate future income tax liabilities or assets. Future income tax liabilities or assets are calculated using income tax rates currently enacted or substantively enacted in the period that the temporary differences are expected to reverse.

(h) Revenue recognition:

The Company's services are provided based upon orders and contracts with its customers that include fixed or determinable prices on the basis of the services rendered method, with agreed upon daily or hourly rates plus recovery of certain costs. Revenue is recognized when services are rendered and only when collectibility is reasonably assured.

(i) Stock based compensation:

The Company has a stock based compensation plan as described in note 13. Options are granted at the fair value of the Company's common shares as determined by the closing stock price on the grant date of the options. The Company accounts for stock options using the Black-Scholes option pricing model. Under this method, all stock options issued under the stock option plan generate an expense to the Company based on the expected future benefit to the holder as determined by the difference between the exercise price and the current share price of the share as impacted by the vesting period of the options, the potential price volatility, the length of the option period and other valuation factors. The expense is recognized over the vesting period of the options. When stock options are exercised, the proceeds together with the amount recorded in contributed surplus are recorded in share capital.

(j) Per share amounts

Basic earnings per common share is calculated by dividing the income available to common shareholders by the weighted average number of common shares outstanding during the period.

Diluted earnings per common share is based on the treasury stock method. Under this method, the weighted average number of common shares outstanding assumes that the proceeds to be received on the exercise of dilutive share options are used to repurchase common shares at the average market price during the period.

(k) Use of estimates:

The financial statements of the Company have been prepared by management in accordance with Canadian Generally Accepted Accounting Principles ("GAAP"). The timely preparation of these financial statements in conformity with Canadian GAAP requires that management make estimates and assumptions and use judgment regarding the reported amounts of assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the period. The most significant are the estimates for depreciation and amortization, valuation of goodwill, valuation of intangible assets, stock based compensation and valuation of income tax assets. Accordingly, actual results could differ from those estimates. The financial statements have, in management's opinion, been prepared within reasonable limits of materiality and within the framework of the Company's accounting policies.

3. Business acquisitions:

(a) Acquisition of Canada West Capital Inc. ("CWC"):

The transaction described in note 1 was accounted for by the purchase method with the CanSub Group being the deemed acquirer of CWC. The results of operations of CWC are included in the consolidated financial statements from February 14, 2006. Consideration of $1,569 issued to the CWC shareholders consisted of 373,689 Class A common shares (with a deemed value of $4.20 per share).



The fair values of the net assets acquired were as follows:

----------------------------------------------------------------------------

Cash $ 1,512
Accounts receivable 47
Future income tax asset related to non-capital losses and
unclaimed scientific research and development expenditures 12,768
Future income tax asset - transaction costs 185
Current liabilities (768)
Preferred share liability (2,219)
Deferred credit (9,956)

----------------------------------------------------------------------------
Net assets acquired $ 1,569
----------------------------------------------------------------------------
----------------------------------------------------------------------------


During 2006, the deferred credit was drawn down in proportion to the drawdown of the future income tax asset (note 12).

(b) Acquisition of the assets of Colter Production Services Inc. and three Owner operators:

On May 31, 2006, the Company completed the acquisitions of the business assets of Colter Production Services Inc. ("Colter" - a private production testing Company), and three Owner operators ("Owner operators" - all private wireline companies) (Southern Wireline Services Ltd., Sure Shot Perforators Ltd. and VCEE Wireline Services Ltd.). The aggregate purchase price of the four acquisitions was $29,956. Consideration consisted of $16,795 in cash and $13,161 in Class A common shares (with a deemed value for accounting purposes of $7.16 per share). Commencing June 1, 2006 the revenues and earnings from Colter and the Owner operators are included in the Company's financial statements.

Prior to the acquisition of the Owner-operators, the Company had a business relationship with these entities which called for them to work exclusively for the Company. As a result of these arrangements, the Company recorded 100% of the revenues generated by the Owner-operators equipment and reimbursed the Owner-operators an average of 82% of those revenues. Such reimbursement was recorded in the Company's cost of sales.

The aggregate purchase price was allocated to the estimated fair values of the net assets acquired as follows:



----------------------------------------------------------------------------
Owner -
Colter operators Total
----------------------------------------------------------------------------

Property and equipment $ 3,595 $ 5,754 $ 9,349
Intangible assets:
Customer relationships 2,717 1,057 3,774
Non-compete agreements 3,623 3,860 7,483
Future income tax liability (961) (2,465) (3,426)
Goodwill 4,709 8,067 12,776

----------------------------------------------------------------------------
Net assets acquired $ 13,683 $ 16,273 $ 29,956
----------------------------------------------------------------------------
----------------------------------------------------------------------------


4. Related party transactions:

Any amounts due from related parties are non-interest bearing, unsecured and have no specified terms of repayment. All transactions with related parties have occurred in the normal course of operations, are at arms-length terms and conditions and are measured at the exchange amount.

(a) For the year ended December 31, 2006:

i) Legal fees of $491 were charged by a professional services firm in which one of the Company's directors is a partner.

ii) On November 13, 2006, the Company's shareholder's approved the conversion of 991,044 Class B preferred shares to Class A common voting shares on a one-to-one basis. Directors and officers of the Company held 439,401 of the Class B preferred shares prior to conversion.

(b) For the year ended December 31, 2005, amounts due from related parties consisted of amounts due from companies controlled by significant shareholders of the CanSub Group. These amounts were fully repaid in 2006.

(c) For the year ended December 31, 2005, amounts due to shareholders consisted of amounts loaned to the Company by shareholders of the CanSub Group. These amount were fully repaid in 2006.

5. Loans receivable:

At December 31, 2005, loans receivable represented amounts due from several owner operators for equipment they were leasing from the Company. These loans were repayable in monthly installments of $15 and bore interest at rates between 5.9% and 7.9%. These amounts were fully repaid in 2006.



6. Property and equipment:

----------------------------------------------------------------------------
Accumulated Net book
December 31, 2006 Cost depreciation value
----------------------------------------------------------------------------

Trucks $ 8,022 $ 1,912 $ 6,110
Truck equipment 16,814 3,704 13,110
Field equipment 25,377 4,721 20,656
Furniture and office equipment 348 82 266
Computer hardware and software 1,289 402 887
Equipment under construction 2,309 - 2,309

----------------------------------------------------------------------------
$ 54,159 $ 10,821 $ 43,338
----------------------------------------------------------------------------
----------------------------------------------------------------------------


----------------------------------------------------------------------------
Accumulated Net book
December 31, 2005 Cost depreciation value
----------------------------------------------------------------------------

Trucks $ 2,898 $ 949 $ 1,949
Truck equipment 5,701 2,609 3,092
Field equipment 7,320 2,649 4,671
Furniture and office equipment 129 40 89
Computer hardware and software 540 188 352
Equipment under construction 2,562 - 2,562

----------------------------------------------------------------------------
$ 19,150 $ 6,435 $ 12,715
----------------------------------------------------------------------------
----------------------------------------------------------------------------


Included in property and equipment at December 31, 2006 are assets under capital leases with a total cost of $8,187 (December 31, 2005 - $4,839) and net book value of $6,247 (December 31, 2005 - $ 3,866).



7. Intangible assets:

----------------------------------------------------------------------------
Accumulated Net book
December 31, 2006 Cost amortization value
----------------------------------------------------------------------------

Customer relationships $ 3,774 $ 441 $ 3,333
Non-compete agreements 7,483 1,091 6,392
Patent pending technology 760 412 348

----------------------------------------------------------------------------
$ 12,017 $ 1,944 $ 10,073
----------------------------------------------------------------------------
----------------------------------------------------------------------------


----------------------------------------------------------------------------
Accumulated Net book
December 31, 2005 Cost amortization value
----------------------------------------------------------------------------

Patent pending technology $ 760 $ 159 $ 601
----------------------------------------------------------------------------
----------------------------------------------------------------------------


8. Callable debt:

The callable debt consisted of an equipment loan, acquisition loan, demand loan and other callable debt.

The equipment loan, acquisition loan and demand loan of $1,697 were all held by one major chartered bank and payable in aggregate monthly principal amounts of $68 plus interest at the bank prime rate plus 1.0% per annum.

The other callable debt of $135 was held by a Canadian Chartered bank and repayable in aggregate monthly payments of $15 (which includes principal and interest at the bank's prime rate plus 1.25%).

These loans were secured by a general security agreement covering all present and future property of the Company.

These loans were fully repaid during 2006.

9. Long-term debt:

At December 31, 2006 the Company had a committed, revolving credit facility in the amount of $44,000 with a major Canadian chartered bank that is secured by:

(a) a general security agreement covering all present and future property of the Company; and

(b) assignment of all risk insurance proceeds.

The Company is entitled to request a renewal of the revolving debt facility for a one-year term from October 26, 2007, the ("Revolving Term Date"), by providing notice in writing to the Bank at least 60 days prior to October 26, 2007. If the bank does not agree to this renewal, the balance outstanding on the revolving debt facility at the Revolving Term Date will be capped and repaid over 36 months by monthly interest plus principal payments, commencing one month from the Revolving Term Date.

Interest on the loan accrues at the bank's prime interest rate plus a variable rate that is based on certain financial performance ratios. At December 31, 2006, the Company's interest rate was the bank's prime rate plus 0.5% per annum.

At December 31, 2005, the Company's long term debt was with the Business Development Bank of Canada and repayable in monthly principal installments of $8 plus interest at the banks prime rate. This amount was repaid in 2006.



----------------------------------------------------------------------------
December 31, December 31,
2006 2005
----------------------------------------------------------------------------

Total $ 17,514 $ 206

Less: current portion 487 99

----------------------------------------------------------------------------
$ 17,027 $ 107
----------------------------------------------------------------------------
----------------------------------------------------------------------------

Required principal repayments for the long-term debt are as follows:

----------------------------------------------------------------------------

2007 $ 487
2008 5,838
2009 5,838
2010 5,351
----------------------------------------------------------------------------
----------------------------------------------------------------------------


10. Notes payable:

Notes payable were non-interest bearing, unsecured, had no specified terms
of repayment and consisted of the following:

----------------------------------------------------------------------------
December 31, December 31,
2006 2005
----------------------------------------------------------------------------

Note payable to shareholder $ - $ 271
Note payable - other - 995

----------------------------------------------------------------------------
$ - $ 1,266
----------------------------------------------------------------------------
----------------------------------------------------------------------------


Amounts outstanding at December 31, 2005 were repaid during 2006.

11. Obligations under capital leases:

----------------------------------------------------------------------------
December 31, December 31,
2006 2005
----------------------------------------------------------------------------

Total $ 5,111 $ 4,003

Less: current portion 2,278 1,346

----------------------------------------------------------------------------
$ 2,833 $ 2,657
----------------------------------------------------------------------------
----------------------------------------------------------------------------


The capital lease obligations bear interest at rates ranging between 5.9% and 6.7% and are repayable on a monthly basis in instalments of $185 which includes principal and interest. The obligations are secured by specific equipment. The estimated repayments required for the capital lease obligations subsequent to December 31, 2006 are as follows:



----------------------------------------------------------------------------

2007 $ 2,518
2008 2,264
2009 682
2010 11

----------------------------------------------------------------------------
Future lease payments 5,475

Imputed interest (364)

----------------------------------------------------------------------------
Capital lease obligation $ 5,111
----------------------------------------------------------------------------
----------------------------------------------------------------------------


At December 31, 2006, the Company had a leasing credit facility available from a major chartered Canadian bank with a total limit of $6,000 (reduced from $13,000 effective October 26, 2006). At December 31, 2006, there was $4,427 (including capital and operating leases) drawn on this line (December 31, 2005 - $6,332).

12. Income taxes:

Income tax expense is calculated using the combined federal and provincial statutory income tax rate. The reconciliation of income tax expense calculations and the provision reported in the financial statements is as follows:



----------------------------------------------------------------------------
Year ended December 31,
------------------------
2006 2005
----------------------------------------------------------------------------

Earnings before income taxes $ 7,626 $ 5,501
----------------------------------------------------------------------------
----------------------------------------------------------------------------

Combined federal and provincial income tax rate 32.76% 33.6%

Expected income tax provision 2,498 1,848

Benefit realized from small business deduction - (61)
Draw down of deferred credit (3,232) -
Non-deductible stock based compensation expense 484 628
Non-deductible expenses 117 32
Other (49) 1
Income tax rate change 154 -
Income tax recovery (98) -

----------------------------------------------------------------------------
Income tax expense $ (126) $ 2,448
----------------------------------------------------------------------------
----------------------------------------------------------------------------


The components of the net future income tax asset are as follows:

----------------------------------------------------------------------------
December 31, December 31,
2006 2005
----------------------------------------------------------------------------

Non capital losses and unclaimed scientific
research and development expenses $ 6,747 $ -
Investment tax credits ("ITC") 1,944 -
Liability arising from ITC income inclusion (617) -

----------------------------------------------------------------------------
Total assets $ 8,074 $ -
----------------------------------------------------------------------------
----------------------------------------------------------------------------

Property, equipment and capital leases $ 1,154 $ 812
Partnership income - 1,352
Transaction costs (1,141) 16
Intangible assets 2,453 -
Other 132 -

----------------------------------------------------------------------------
Total liabilities $ 2,598 $ 2,180
----------------------------------------------------------------------------
----------------------------------------------------------------------------

Future income tax asset (liability) $ 5,476 $ (2,180)
----------------------------------------------------------------------------
----------------------------------------------------------------------------


The Company has losses of $11,486 available to reduce future taxable income.
These losses expire as follows:

----------------------------------------------------------------------------

2008 $ 495
2009 3,220
2010 7,159
2011 272
2012 340

----------------------------------------------------------------------------
$ 11,486
----------------------------------------------------------------------------
----------------------------------------------------------------------------


In addition, research and development costs of $9,400 are available to reduce the Company's future taxable income and do not expire. Capital losses of $3,500 are available to reduce future capital gains and do not expire. Investment tax credits totaling $1,944 can be claimed against federal income taxes payable and expire between 2007 and 2012. The benefit of the capital losses of $3,500 has not been recognized as they are unlikely to be realized.

The above amounts are subject to review and assessment by taxation authorities.

13. Share capital:

On February 13, 2006 the Company amended its articles of incorporation to alter its authorized capital by designating the following: an unlimited number of Class A voting shares, an unlimited number of Class B non-voting preferred shares, an unlimited number of Class C non-voting common shares and an unlimited number of preferred shares issuable in series. The rights, privileges, restrictions and conditions are disclosed below for each class of shares.

(a) Common shares:

(i) Authorized:

Unlimited number of Class A voting common shares

Unlimited number of Class C non-voting common shares

(ii) Issued and outstanding:



----------------------------------------------------------------------------
Number of
Class A voting common shares Amount
----------------------------------------------------------------------------

Balance at December 31, 2004 1,961 $ -
Issue of shares as consideration for the
December 1, 2005 purchase of 789047 Alberta Ltd 30 500
----------------------------------------------------------------------------
Balance at December 31, 2005 1,991 500

Purchase and cancellation of CanSub Group shares (1,991) -
Issue of shares to CanSub Group shareholders 5,125,247 -
Exercise of CanSub Group options 366,658 810
Issue of shares pursuant to February 14, 2006
private placement 8,095,237 34,000
Share issue costs related to February 14, 2006
private placement - (2,095)
Increase in redemption price of CWC preferred
shares as part of the February 14, 2006 transaction - (443)
Issue of shares to former shareholders of CWC 373,689 1,569
Issue of shares pursuant to May 31, 2006 private
placement 2,533,333 19,000
Share issue costs related to May 31, 2006
private placement - (995)
Issue of shares as consideration for the
May 31, 2006 asset acquisitions 1,838,534 13,161
Other transaction costs associated with
private placements of shares - (771)
Income tax benefit of transaction costs and
commissions related to private placements - 1,298

Issue of shares as payment for settlement of
Class B preferred share liability (note 4) 991,044 4,212
Application of deficit against share capital - (22,653)
----------------------------------------------------------------------------
Balance at December 31, 2006 19,323,742 $ 47,593
----------------------------------------------------------------------------
----------------------------------------------------------------------------


(a) Common shares:

The 1991 shares outstanding at December 31, 2005 relate to shares outstanding of the CanSub Group prior to the February 14, 2006 transactions with CWC. Since the CanSub Group was the deemed acquirer in the transaction with CWC, the purchase and cancellation of the 1991 CanSub Group shares was recorded as a share buy-back for accounting purposes (see note 1).

On November 13, 2006, the Company's shareholders approved the application of $22,653 of deficit against Class A common share capital.

The Class C common shares are non-voting and have rights to receive a proportionate share (on parity with Class A shares) of the remaining assets of the corporation in the event of liquidation, dissolution, or winding up of the Company subject to the preferential rights of the Class B shares and preferred shares. Issued and outstanding at December 31, 2006 - nil (December 31, 2005 - nil).

(b) Preferred Shares:

(i) Authorized:

Unlimited number of preferred shares, issuable in one or more series with rights and privileges to be determined by the Board of Directors.

ii) Issued and outstanding at December 31, 2006 - nil (December 31, 2005 - nil).

(c) Stock options:

Options to purchase common shares may be granted by the Board of Directors to directors, officers, employees, and consultants of the Company. Options vest one third on each of the first, second and third anniversary dates of the grant date on a cumulative basis and have a maximum term of 5 years. When stock options are exercised, the proceeds, together with the amount of compensation expense previously recorded in the contributed surplus is added to capital stock.

The maximum number of shares reserved for issuance under the stock option plan or any other stock option or share purchase plan will not exceed 10% of the total number of the Company's outstanding common shares.

The Company calculates the fair value of its options using the Black-Scholes option pricing model. The following weighted average assumptions were used to determine the fair value of options on the date of grant:



----------------------------------------------------------------------------
Average risk free interest rate 4.10%
Maximum life 5 years
Vesting period 3 years
Expected dividend $nil per share
Expected share price volatility 50%
----------------------------------------------------------------------------
----------------------------------------------------------------------------


The average calculated fair value of options issued in 2006 was $2.17 per option using the Black-Scholes option pricing model. The fair value of options granted in 2005 (private company options) of $8.87 is based on the value as prescribed in the transaction with CWC on February 14, 2006 (see note 1). The stock based compensation expense of the Company for the years ending December 31, 2006 and 2005 was $1,477 and $1,868 respectively.



Following is a summary of the stock option transactions during 2006 and
2005:

----------------------------------------------------------------------------
December 31,
----------------------------------------------------------------------------
2006 2005
------------------------ -------------------------
Weighted Weighted
Number of average Number of average
Options exercise price Options exercise price
----------------------------------------------------------------------------

Class A common shares:

Outstanding at the
beginning of the year 366,658 $ 2.21 - $ -

Exercised as part of
the February 14, 2006
transaction with CWC (366,658) 2.21 - -
Granted 1,689,250 5.06 366,658 2.21
Exercised - - - -
Forfeited (140,500) 5.25 -

----------------------------------------------------------------------------
Outstanding at the end
of the year 1,548,750 5.05 366,658 2.21
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Exercisable at the end
of the year - - 366,658 2.21
----------------------------------------------------------------------------
----------------------------------------------------------------------------


The 366,658 stock options outstanding at December 31, 2005 were all from the CanSub Group of this amount, 265,764 were fully vested at December 31, 2005 with the remaining 100,894 vested just prior to the February 14, 2006 transaction.

There were no options exercisable at December 31, 2006 as the first tranche of options issued as part of the February 14, 2006 transaction did not vest until February 14, 2007.



The following table provides additional information about the stock options
outstanding at December 31, 2006:

----------------------------------------------------------------------------
Weighted
average Weighted
remaining average
Range of exercise prices Number life exercise
remaining life (years) outstanding (years) price
----------------------------------------------------------------------------
$ 4.20 1,113,750 4.13 4.20
$ 4.21 - $6.31 59,000 4.68 5.21
$ 6.32 - 7.80 376,000 4.44 7.54
----------------------------------------------------------------------------
----------------------------------------------------------------------------


On February 20, 2007, the Company's board of directors approved a re-pricing of stock options held by certain employees of the Company (excluding directors, officers and other insiders). The exercise price of 391,000 options (such exercise prices ranging from $4.49 to $7.80) was reduced to $4.20. Stock based compensation expense of $158 related to this re-pricing will be recognized over the remaining vesting period of the options.

(d) Class B non-voting preferred shares:

(i) Authorized:

Unlimited number of Class B non-voting preferred shares

(ii) Issued and outstanding:



----------------------------------------------------------------------------
Number of
` Shares Amount
----------------------------------------------------------------------------
Balance at December 31, 2005 - $ -
Shares issued to CanSub Group shareholders 357,143 1,500
Conversion of 4,437,307 preferred shares of CWC
to Class B shares on February 14, 2006 633,901 2,219
Increase in redemption price of CWC preferred
shares as part of the February 14, 2006
transaction - 443
Conversion of all outstanding Class B shares to
Class A common shares on a one for one basis on
November 13, 2006 (991,044) (4,162)
----------------------------------------------------------------------------
Balance at December 31, 2006 - $ -
----------------------------------------------------------------------------
----------------------------------------------------------------------------


The Class B preferred shares are non-voting, have a cumulative dividend of 2.5% per annum, are convertible at the option of the holder to Class C non-voting common shares and have priority as to payment of the redemption price ($4.20/share) and all declared but unpaid dividends on winding up, liquidation or dissolution of the Company. These shares have all the characteristics of debt and were classified as such on the balance sheet during the year. These shares arose out of the Arrangement Agreement between the CanSub Group and CWC that was effective on February 14, 2006 and were all converted to Class C non-voting common shares on a one for one basis on November 13, 2006. On that same date, shareholders approved an amendment to the Company's articles which called for the conversion of these Class C non-voting common shares into Class A voting common shares (all on a one to one basis). As a result of this conversion, a loss on settlement of Class B preferred share liability of $167 was recorded in the statement of earnings in 2006.




(e) Contributed surplus:

----------------------------------------------------------------------------
Contributed surplus at December 31, 2004 $ -
Stock based compensation expense during 2005 1,868
----------------------------------------------------------------------------
Contributed surplus at December 31, 2005 1,868
Stock based compensation expense during 2006 1,477
----------------------------------------------------------------------------
Contributed surplus at December 31, 2006 $ 3,345
----------------------------------------------------------------------------
----------------------------------------------------------------------------


14. Per share amounts:

The weighted average number of common shares for the year ended December 31, 2006 was 15,586,092 (December 31, 2005 - 5,125,247). The number of shares outstanding at December 31, 2005 included the effect of the transaction described in note 1.

Reconciliation of earnings per share and diluted earnings per share:



----------------------------------------------------------------------------
2006 2005
----------------------------------------------------------------------------
Net earnings available to common shareholders $ 6,966 $ 1,279
Weighted average number of common shares 15,586,092 5,125,247
Basic earnings per share $ 0.45 $ 0.25
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Net earnings available to common shareholders $ 6,966 $ 1,279
Weighted average number of common shares 15,586,092 5,125,247
Dilutive effect of stock options 98,806 14,500
Diluted weighted average number of common
shares 15,684,898 5,139,747
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Diluted earnings per share $ 0.44 $ 0.25
----------------------------------------------------------------------------
----------------------------------------------------------------------------

In the calculation of earnings per share, 416,000 options were excluded as
the impact would be anti-dilutive.

15. Supplementary cash flow information:

Changes in non-cash working capital:

----------------------------------------------------------------------------
Year ended
December 31,
--------------------------
2006 2005
----------------------------------------------------------------------------
Accounts receivable $ (4,832) $ (5,548)
Deposits and other (1,944) (157)
Accounts payable and accrued liabilities 214 2,298
Income taxes payable (recoverable) (1,392) 694
Inventory (302) -
----------------------------------------------------------------------------
$ (8,256) $ (2,713)
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Non-cash working capital change related to
operating activities $ (7,345) $ (1,328)
Non-cash working capital change related to
investing activities (911) (1,384)
----------------------------------------------------------------------------
$ (8,256) $ (2,712)
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Interest paid $ 902 $ 477
Income taxes paid $ 1,287 $ 498
----------------------------------------------------------------------------
----------------------------------------------------------------------------

16. Commitments:

(a) At December 31, 2006, the Company had the following annual commitments
under equipment operating lease agreements:

----------------------------------------------------------------------------
2007 $ 1,191
2008 589
2009 102
2010 11
----------------------------------------------------------------------------
----------------------------------------------------------------------------

(b) At December 31, 2006, the Company had the following annual commitments
under office and warehouse lease agreements:

----------------------------------------------------------------------------
2007 $ 1,475
2008 1,311
2009 1,177
2010 1,089
2011 1,064
----------------------------------------------------------------------------
----------------------------------------------------------------------------


(c) At December 31, 2006, the Company had commitments to purchase $823 of wireline, swabbing, production testing and related equipment. Delivery of these items is scheduled to occur in 2007.

17. Equity of 1156853 Alberta Ltd.

The adjustment for the equity of 1156853 Alberta Ltd. ("115") represents the investment by 115 in the shares of Canadian Sub-Surface Energy Services Inc. and Canadian Sub-Surface Gas Testing Inc.

18. Financial instruments:

(a) Fair value:

The carrying values of accounts receivable, deposits and other, income tax receivable, accounts payable and accrued liabilities, related party amounts, long-term debt and obligations under capital lease approximate their fair value due to the relatively short period to maturity of the instruments. All loans with variable interest rates are considered by management to approximate fair value.

(b) Credit risk:

A substantial portion of the accounts receivable are with customers who are dependent upon the oil and gas industry, and are subject to normal industry credit risks. The Company's policy is to employ established credit approval practices and to closely monitor accounts receivable to mitigate credit risk.

(c) Interest rate risk:

The Company is exposed to interest rate risk to the extent that long-term debt and obligations under capital leases have variable interest rates.

19. Comparative information:

Certain comparative figures have been reclassified to conform with the current period presentation.

20. Segmented information:

The Company's reportable operating segments, as determined by management, are strategic operating units that offer different products and services, and do not transact with one another. The Company has two reportable operating segments: Wireline and Gas Testing. These two segments operate in one geographic area, the Western Canadian Sedimentary Basin.

The Wireline segment provides primarily cased hole electric line and slick line services and also provides swabbing and well optimization to the oil gas industry.

The Gas Testing segment provides production testing and production evaluation services to the oil and gas industry.

The Corporate segment includes the combined selling, general and administrative costs related to the operating divisions.



----------------------------------------------------------------------------
Year ended
December 31, 2006
--------------------------------------------
Gas
Wireline Testing Corporate Total
----------------------------------------------------------------------------
Revenue $ 46,479 $ 26,858 $ 15 $ 73,352
Operating expenses 30,423 18,201 - 48,624
----------------------------------------------------------------------------
16,056 8,657 15 24,728

Selling, general and
administrative - - 9,759 9,759
Depreciation and
amortization 4,404 2,142 - 6,546
----------------------------------------------------------------------------
8,423

Goodwill 8,067 6,110 - 14,177
Property and equipment 28,954 14,384 - 43,338
Intangible assets 5,495 4,578 - 10,073
Capital expenditures
- property and equipment 20,928 11,775 - 32,703
Capital expenditures
- intangible assets 4,916 6,340 - 11,256
Total assets 57,207 32,029 5,579 94,815
----------------------------------------------------------------------------
----------------------------------------------------------------------------

----------------------------------------------------------------------------
Year ended
December 31, 2005
--------------------------------------------
Gas
Wireline Testing Corporate Total
----------------------------------------------------------------------------
Revenue $ 30,304 $ 19,125 $ - $ 49,429
Operating expenses 22,588 11,977 - 34,565
----------------------------------------------------------------------------
7,716 7,148 - 14,864

Selling, general and
administrative - - 6,955 6,955
Depreciation and
amortization 1,673 455 - 2,128
----------------------------------------------------------------------------
- 5,781

Goodwill - 1,401 - 1,401
Property and equipment 9,170 3,545 - 12,715
Intangible assets 601 - - 601
Capital expenditures
- property and equipment 5,076 1,703 - 6,779
Capital expenditures
- intangible assets 760 - - 760
Total assets 19,216 10,325 - 29,541
----------------------------------------------------------------------------
----------------------------------------------------------------------------


Certain statements in this press release including (i) statements that may contain words such as "anticipate", "could", "expect", "seek", "may" "intend", "will", "believe", "should", "project", "forecast", "plan" and similar expressions, including the negatives thereof, (ii) statements that are based on current expectations and estimates about the markets in which the Company operates and (iii) statements of belief, intentions and expectations about developments, results and events that will or may occur in the future, constitute "forward-looking statements" and are based on certain assumptions and analysis made by the Company. Forward-looking statements in this press release include, but are not limited to, statements with respect to future capital expenditures, including the amount, nature and timing thereof; oil and natural gas prices and demand; other development trends within the oil and natural gas industry; business strategy; expansion and growth of the Corporation's business and operations and other such matters. Such forward-looking statements are subject to important risks and uncertainties, which are difficult to predict and that may affect the Company's operations, including but not limited to the impact of general economic conditions in Canada and the United States; industry conditions, including the adoption of new environmental, safety and other laws and regulations and changes in how they are interpreted and enforced; volatility of oil and natural gas prices; oil and natural gas product supply and demand and related demand for oilfield services; risks inherent in the Company's ability to generate sufficient cash flow from operations to meet its current and future obligations; increased competition; the lack of availability of qualified personnel or labor unrest; fluctuation in foreign exchange or interest rates; stock market volatility; opportunities available to or pursued by the Company and other factors, many of which are beyond the control of the Company. The Company's actual results, performance or achievements could differ materially from those expressed in, or implied by, these forward-looking statements and, accordingly, no assurance can be given that any of the events anticipated by the forward-looking statements will transpire or occur, or if any of them do transpire or occur, what benefits the Company will derive therefrom. Subject to applicable law, the Company disclaims any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

Contact Information

  • Canadian Sub-Surface Energy Services Corp.
    Brad Gabel
    President & CEO
    (403) 262-3247
    Email: bgabel@cansub.com
    or
    Canadian Sub-Surface Energy Services Corp.
    Chris Martin
    Vice President, Finance & CFO
    (403) 262-3247
    Email: cmartin@cansub.com