Caspian Energy Inc.
TSX : CEK
AIM : CEK

April 02, 2007 11:00 ET

Caspian Energy Inc. Announces Financial Results

TORONTO, ONTARIO--(CCNMatthews - April 2, 2007) -

NOT FOR DISTRIBUTION TO UNITED STATES NEWSWIRE SERVICES OR FOR DISSEMINATION IN THE UNITED STATES.

Caspian Energy Inc. (the "Company" or "CEK")(TSX:CEK)(AIM:CEK) announced today its financial results year ending December 31, 2006. Its audited financial statements for the period and related management's discussion and analysis have been filed with Canadian securities regulatory authorities and are available for viewing at www.sedar.com.

Oil revenues before transportation costs for the year ending December 31, 2006 were $4,196,238. Oil revenues before transportation costs for the eleven month period in 2005 were $2,658,987

For the year ending December 31, 2006, CEK's net loss was $6,437,812. For the eleven months ending December 31, 2005, CEK's net loss was $8,407,934. Large non-cash items equal to $2,384,901 (prior period - $4,038,697) relating to stock-based compensation charges and $194,061 (prior period -$3,263,221 pertaining to unrealized foreign exchange losses contributed to this loss. For the current fiscal period the loss included a of Kazakh future income taxes charge of $303,756 while in the prior fiscal period the Company reflected a recovery of $592,747.

CEK's operations provided $442,173 in cash for the year ending December 31, 2006. CEK's operations used $1,505,558 in cash during the eleven month period ending in 2005. Realized foreign exchange gains of $1,007,636 in the current period (prior period - loss of $1,025,305) are included in these figures.

For the year ended December 31, 2006 operating costs were $2,509,396 and transportation expenses were $205,704. For the period ended December 31, 2005 operating costs and transportation expenses were $1,415,595 and $11,106, respectively. Administrative expenses for the same periods were $3,274,410 and $2,727,613, respectively.

Capital expenditures were $52,154,798 for the year ending December 31, 2006. Capital expenditures were $27,867,530 for the eleven months ending December 31, 2005. Capital expenditures are composed of advances to Aral and the Company's share of the expenditure of funds by Aral.

CEK today filed on SEDAR financial statements and MD&A with respect to its December 31, 2006 fiscal year-end.

The Company is an oil exploration and development corporation operating in the Republic of Kazakhstan.

CAUTIONARY NOTE

Some of the statements and information contained in this news release may include certain estimates, assumptions and other forward-looking information. The actual performance, developments and/or results of the Company may differ materially from any or all of the forward-looking statements, which include current expectations, estimates and projections, in all or in part attributable to general economic conditions, and other risks, uncertainties and circumstances partly or totally outside the control of the Company, including oil prices, imprecision of reserve estimates, drilling risks, future production of gas and oil, rates of inflation, changes in future costs and expenses related to the activities involving the exploration, development, production and transportation of oil, hedging, financing availability and other risks related to financial activities, and environmental and geopolitical risks. Further information which may cause results to differ materially from those projected in the forward-looking statements is contained in the Company's filings with Canadian securities regulatory authorities. The Company disclaims any intention or obligation to update or revise forward-looking information, whether as a result of new information, future events or otherwise, except in accordance with applicable securities laws.

BUSINESS PROSPECTS AND OUTLOOK

The Company has been successful in establishing itself as an operating entity in the Republic of Kazakhstan ("ROK") and expects to continue with future growth through continued work there.

Prior to the end of the fourth quarter 2005, EZ#301 was drilled to a total depth of 4,846 metres and logged. The well was completed with the drilling rig before the rig was moved to the EZ#302 location. EZ#301 was matrix acidized and the two potentially productive hydrocarbon bearing zones were flow-tested. The lower zone (KT-2) was tested at 2,532 Bopd. The upper zone (KT-1) had difficulty maintaining an independent flow, so it was commingled with the lower zone and the well was tied-in to the Zhagabulak production facility. Subsequently, productions logs were ran and it was determined that the KT-1 was producing 100 Bopd. Well 301 was undergoing a government mandated pressure survey in November 2006, when a production logging tool and cable were lost in the hole. Fishing operations are ongoing to recover the tool and put the well back on production. No expected changes in the production rate prior to the pressure survey are expected.

The second exploration effort, EZ#302, was spud on December 25, 2005. Acidizing and testing of the well were performed following removal of the drilling rig. The well showed indications of hydrocarbons while drilling and logging; however, the stimulation efforts failed to cause the well to flow naturally. In well 302, a workover operation is planned to seal off lower perforations believed to be contributing water. This work will be done in second quarter 2007.

The third location, EZ#303 is about 5.2 km southwest of EZ#302. EZ#303 spud on May 28, 2006. The well was permitted to a depth of 5,700 metres. EZ#303 reached a total depth of 4,630 metres in a sidetrack wellbore after the initial wellbore reached a depth of 5,430 metres, but was lost due to a drill string parting, while pulling out of the hole for logging. Efforts are underway to test the sidetrack well in the KT-1 and KT-2. A total of 70 meters were perforated and acidized. The rig has been moved off location and the well will be tested. Results of the test are expected by early 2Q 2007.

The original producing well, EZ#213, drilled and completed during the Soviet period, was re-entered in November 2006 and perforations were added in the KT-1 reservoir. Due to casing problems, only one-half of the zones were acidized. Despite the limits on the acidization, a significant improvement of daily production over the pre-workover rates was achieved.

Modifications to our pilot processing plant in Zhagabulak were made to increase its through- put and to improve its reliability and safety. These modifications were completed in August 2006.

Further drilling in the remainder of the Zhagabulak area will be postponed until an evaluation of the results of the completion of well 303 and the workover in well 302 is completed. The Company is reviewing a development at East Zhagabulak. While East Zhagabulak is small, it provides an opportunity to enter into a development contract. Expansion of the area is planned as drilling in the surrounding Zhagabulak area unfolds.

Ongoing petrophysical analyses of all wells penetrating the below salt reservoirs is being completed and correlations of these wells will aid in the identification of future drilling locations in the North Block.

Identification and acquisition of well data within the extended territory is also be evaluated for inclusion into this process.

The Baktygaryn 3-D seismic program was completed in early November 2005. PGS-GIS, in Almaty, ROK was awarded the processing contract. Due to the presence of large salt bodies in the Baktygaryn Area, the 3-D data set was processed through PSDM (Pre-Stack Depth Migration) and interpretation of this data has been completed. PSTM (Pre-Stack Time Migration) analysis, for the above salt section has also been conducted. The acquisition of the 367 kilometre regional 2-D seismic survey covering the west and north areas of the North Block and tying into the Zhagabulak and Baktygaryn 3-D seismic surveys that was completed in March 2007 has also been processed and interpreted. The Baktygaryn 3-D program and the regional 2-D program were fully interpreted at the end of October 2006. The interpreted data from all new seismic data acquired and from the earlier reprocessed Soviet-era 2-D seismic is being combined to create a geological model and identify additional leads and prospects across the North Block territory. This work is expected to be completed in mid-summer 2007.

The Baktygaryn Area presents drilling targets in both the below salt Lower Permian and Carboniferous sections and the above salt Upper Permian and Mesozoic sections with depths ranging from approximately 400 to 2,300 metres and provides a second tier of exploration to the Company's drilling portfolio. Three locations are being permitted with target depths of 600 to 800 metres. These targets are recognized in the forms of channel sands, traps against the Kungurian salt ridges and underneath salt overhangs. This work is scheduled to start mid-2007. Potential seismic activity includes a third 3-D seismic shoot, planned for late fourth quarter 2007, pending the results of the ongoing 2-D seismic interpretation.



Consolidated Balance Sheet

December 31, December 31,
2006 2005
$ $

Assets

Current assets
Cash and cash equivalents 17,022,285 10,094,086
Accounts receivable 672,879 505,815
Prepaids and other deposits 2,713,994 1,060,463
Inventory (note 3) 177,055 135,454
---------------------------

20,586,213 11,795,818

Restricted cash (note 2) 194,412 136,884

Property, plant and equipment (note 4) 118,323,038 68,443,800
---------------------------

139,103,663 80,376,502
---------------------------
---------------------------

Liabilities

Current liabilities
Accounts payable and accrued liabilities 5,305,085 3,216,450
Loan payable (note 11) - 6,872,279
---------------------------

5,305,085 10,088,729

Asset retirement obligation (note 5) 156,255 88,900

Future income taxes (note 7) 358,848 51,629

Convertible debentures (note 6) 18,683,004 -
---------------------------

24,503,192 10,229,258
---------------------------

Shareholders' Equity

Share capital (note 8) 121,470,892 75,220,762

Warrants to purchase common shares (note 8) 946,508 667,738

Contributed surplus (note 10) 12,030,272 7,668,133

Deficit (19,847,201) (13,409,389)
---------------------------

114,600,471 70,147,244
---------------------------

139,103,663 80,376,502
---------------------------
---------------------------

See accompanying notes to consolidated financial statements.



Consolidated Statement of Loss and Deficit

Eleven
Year months
ended ended
December 31, December 31,
2006 2005
$ $

Revenue
Oil and gas revenue, net 4,196,238 2,658,987
Interest 1,216,890 1,010,872
Other 9,401 4,202
---------------------------

5,422,529 3,674,061
---------------------------

Expenses
General and administrative 3,274,410 2,727,613
Accretion of convertible debentures (note 6) 281,168 -
Interest (note 6) 1,532,103 -
Operating 2,509,396 1,415,595
Transportation 205,704 11,106
Stock-based compensation (note 9) 2,384,901 4,038,697
Foreign exchange (gain) loss (813,575) 4,288,526
Depletion, depreciation and accretion 2,265,810 193,205
Gain on disposal of mining interest (note 15) (83,332) -
---------------------------

11,556,585 12,674,742

Loss before income taxes (6,134,056) (9,000,681)

Future income taxes (recovery) 303,756 (592,747)
---------------------------

Net loss for the period (6,437,812) (8,407,934)

Deficit - Beginning of period (13,409,389) (5,001,455)
---------------------------

Deficit - End of period (19,847,201) (13,409,389)
---------------------------
---------------------------

Basic and diluted loss per share (note 8) (0.07) (0.10)
---------------------------
---------------------------

See accompanying notes to consolidated financial statements.



Consolidated Statement of Cash Flows

Year Eleven
ended months ended
December 31, December 31,
2006 2005
$ $

Cash provided by (used in)

Operating activities
Net loss for the period (6,437,812) (8,407,934)
Items not affecting cash
Stock-based compensation 2,384,901 4,038,697
Unrealized foreign exchange loss 194,061 3,263,221
Depletion, depreciation and accretion 2,265,810 193,205
Interest on convertible debentures 1,522,534 -
Accretion of convertible debentures 281,168 -
Future income taxes (recovery) 303,756 (592,747)
Gain on disposal of mining interest (83,332) -
Loss on disposal of fixed assets 11,087 -
----------------------------

442,173 (1,505,558)
Changes in non-cash working capital balances (167,064) (1,667,579)
----------------------------

275,109 (3,173,137)
----------------------------

Financing activities
Convertible debentures 18,240,640 -
Loan payable (6,872,279) (464,562)
Restricted cash (57,528) 89,370
Issuance of common shares and warrants 50,804,650 135,300
Share issue expenses (3,782,317) (290,816)
----------------------------

58,333,166 (530,708)
----------------------------

Investing activities
Acquisition of property, plant and equipment (52,154,798) (27,867,530)
Proceeds on disposal of mining interest 81,219 -
Changes in non-cash working capital balances 393,503 (1,401,009)
----------------------------

(51,680,076) (29,268,539)
----------------------------

Increase (decrease) in cash and cash
equivalents 6,928,199 (32,972,384)

Cash and cash equivalents - Beginning of
period(i) 10,094,086 43,066,470
----------------------------

Cash and cash equivalents - End of period(i) 17,022,285 10,094,086
----------------------------
----------------------------

Interest received 1,216,890 1,114,062

(i) Cash and cash equivalents consist of cash and short term investments
with a maturity date of less than three months.

See accompanying notes to consolidated financial statements.



Notes to Consolidated Financial Statements December 31, 2006

1. Nature of operations

Caspian Energy Inc. ("Caspian" or the "Company") is engaged in the exploration for and development and production of oil and gas in the Republic of Kazakhstan. Its primary operating activities are carried out through its wholly-owned subsidiary, Caspian Energy Ltd. ("Caspian Ltd.").

Caspian's principal assets are a 50% interest in Aral Petroleum Capital LLP ("Aral"), held by Caspian Ltd. Through its interest in Aral, Caspian has the right to explore and develop certain oil and gas properties in Kazakhstan, known as the North Block, a 3,458 square kilometre area located in the vicinity of the Kazakh pre-Caspian basin. The Company also has minor resource interests in Canada.

Aral's exploration and development rights to the North Block were granted pursuant to the terms of an exploration contract between the government of Kazakhstan and Aral (the "Exploration Contract"). The initial three-year term of the Exploration Contract has been extended for a two-year period (expiring in December 2007) and is subject to a further extension of two years thereafter, in accordance with the terms of the contract.

Under the terms of the Exploration Contract, Aral was obligated to spend at least US$20.8 million under a minimum work program in respect of the North Block during the initial three-year term of the contract. The expenditures include processing and reinterpretation of geological and geophysical data of prior years, two dimensional and three dimensional seismic shoots and surveys, drilling exploration wells, well reactivations and well surveys and testing. As of December 31, 2005, Aral's financial obligation under the minimum work program had been discharged.

Under terms of a shareholders' agreement dated June 25, 2004, among Caspian Ltd., Azden Management Limited ("Azden") and Aral, Caspian was committed to fund Aral's US$20.8 million obligation under the initial work program. This financial commitment was satisfied, in full, by the Company. In addition, Caspian Ltd. has undertaken, on a best efforts basis, to raise financing of US$84.0 million to fund Aral's operations pursuant to the Exploration Contract. At December 31, 2006 Caspian Ltd. had advanced US $81.9 million pursuant to this undertaking.

On November 30, 2005, Caspian announced a change in its fiscal year end date from January 31 to December 31 commencing with the year starting February 1, 2005. Accordingly, the comparative figures presented in these financial statements are for the eleven months ended December 31, 2005.

2. Significant accounting policies

The consolidated financial statements of Caspian are stated in Canadian dollars and have been prepared in accordance with Canadian generally accepted accounting principles.

The preparation of financial statements in conformity with Canadian generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the period. Actual results could differ from those estimates.

Cash and cash equivalents

Cash and cash equivalents are comprised of cash and short-term investments with an initial maturity date of three months or less.

Inventory

Inventory is recorded at the lower of cost calculated using the weighted average method, and net realizable value. Cost comprises direct materials and where applicable direct labour costs and those overheads which have been incurred in bringing the inventories to their present location and condition. Net realizable value represents the estimated selling price less all estimated costs of completion and costs to be incurred in marketing, selling and distribution.

Joint ventures

The Company's oil and gas exploration and development activities are conducted mainly in Kazakhstan through its 50% interest in Aral and, accordingly, these consolidated financial statements reflect only the Company's proportionate interest in such activities.

Property, plant and equipment

a) Capitalized costs

The Company follows the full cost method of accounting for oil and natural gas operations, whereby all costs related to the acquisition, exploration and development of petroleum and natural gas reserves are capitalized. Such costs include lease acquisition costs, geological and geophysical costs, carrying charges on non-producing properties, costs of drilling both productive and non-productive wells, the cost of petroleum and natural gas production equipment and overhead charges directly related to exploration and development activities. Proceeds from the sale of oil and gas properties are applied against capital costs, with no gain or loss recognized, unless such a sale would change the rate of depletion and depreciation by 20% or more, in which case, a gain or loss would be recorded.

b) Depletion, depreciation and amortization

The capitalized costs are depleted and depreciated using the unit-of-production method based on proven petroleum and natural gas reserves, as determined by independent consulting engineers. Oil and natural gas liquids reserves and production are converted into equivalent units of natural gas based on relative energy content on a ratio of six thousand cubic feet of gas to one barrel of oil. Significant development projects and expenditures on exploration properties are excluded from calculation of depletion prior to assessment of the existence of proved reserves.

Other property, machinery and equipment are recorded at historical cost. Depreciation is calculated on a straight-line basis at the following annual rates:



Buildings 8%
Machinery and equipment 8%
Vehicles 7%
Other fixed assets 10%


c) Ceiling test

The Company follows the Canadian accounting guideline on full cost accounting. In applying the full cost guideline, Caspian calculates its ceiling test for each cost centre by comparing the carrying value of oil and natural gas properties and production equipment to the sum of undiscounted cash flows expected to result from Caspian's proved reserves. If the carrying value is not fully recoverable, the amount of impairment is measured by comparing the carrying value of oil and gas properties and production and equipment to the estimated net present value of future cash flows from proved plus probable reserves using a risk-free interest rate and expected future prices. Any excess carrying value above the net present value of the future cash flows is recorded as a permanent impairment.

d) Unproved property

Costs of acquiring and evaluating unproven properties are initially excluded from costs subject to depletion, until it is determined whether or not proved reserves are attributable to the properties or, in the case of major development projects, commercial production has commenced, or impairment has occurred. Impairment occurs whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. When proven reserves are determined or the property is considered to be impaired, the cost of the property or the amount of the impairment is added to the costs subject to depletion for that country's cost centre.

e) Asset retirement obligation

Caspian records the fair value of asset retirement obligations ("ARO") as a liability in the period in which it incurs a legal obligation to restore an oil and gas property, typically when a well is drilled or other equipment is put in place. The associated asset retirement costs are capitalized as part of the carrying amount of the related asset and depleted using a unit-of-production method over the life of the proved reserves. Subsequent to initial measurement of the obligations, the obligations are adjusted at the end of each reporting period to reflect the passage of time and changes in estimated future cash flows underlying the obligation. Actual costs incurred on settlement of the ARO are charged against the ARO.

Income taxes

Income taxes are calculated using the liability method of tax accounting. Temporary differences arising from the difference between the tax basis of an asset or liability and its carrying value amount on the balance sheet are used to calculate future income tax assets and liabilities. Future income tax assets and liabilities are calculated using tax rates anticipated to apply in the periods that the temporary differences are expected to reverse.

Stock-based compensation

The Company grants options to purchase common shares to employees and directors under its stock option plan. Under this standard, future awards are accounted for using the fair value of accounting for stock-based compensation. Under the fair value method, an estimate of the value of the option is determined at the time of grant using a Black-Scholes option-pricing model. The fair value of the option is recognized as an expense and contributed surplus over the vesting period of the option. Proceeds received on exercise of stock options, along with amounts previously included in contributed surplus, are credited to share capital.

Revenue recognition

Revenue from the sale of oil and natural gas is recognized based on volumes delivered to customers at contractual delivery points and rates. The costs associated with the delivery, including operating and maintenance costs, transportation, and production-based royalty expenses will be recognized in the same period in which the related revenue is earned and recorded.

Measurement uncertainty

The amounts recorded for depletion and depreciation of property, plant and equipment, the provision for asset retirement obligations and the amounts used for ceiling test calculations are based on estimates of reserves and future costs. The Company's reserve estimates are reviewed annually by an independent engineering firm. The amounts disclosed relating to fair values of stock options issued are based on estimates of future volatility of the Company's share price, expected lives of options, and other relevant assumptions. By their nature, these estimates are subject to measurement uncertainty.

Earnings (loss) per share

Basic per share amounts are calculated using the weighted average number of shares outstanding during the period. Diluted per share amounts are calculated based on the treasury stock method whereby the weighted average number of shares is adjusted for the dilutive effect of options. The Company applies the treasury stock method for the calculation of diluted net income (loss) per share whereby the effect of the "in the money" instruments such as stock options and warrants affect the calculation. The treasury stock method assumes that the proceeds from the exercise are used to repurchase common shares of the Company at the weighted average market price during the year.

Financial instruments

Fair values

The fair values of accounts receivable, accounts payable and accrued liabilities, and loan payable approximate their carrying values due to their short-term maturity.

Credit risk

Substantially all of the Company's accounts receivable are due from companies in the oil and gas industry and are subject to the normal industry credit risks. The carrying value of accounts receivable reflects management's assessment of the associated credit risks.

Foreign currency

All operations are considered financially and operationally integrated. Results of operations are translated to Canadian dollars, using average rates for revenues and expenses, except depreciation which is translated at the rate of exchange applicable to the related assets. Monetary items denominated in foreign currency are translated to Canadian dollars at exchange rates in effect at the balance sheet date and non-monetary items are translated at rates of exchange in effect when the assets were acquired or obligations incurred. Foreign exchange gains and losses are recorded in the statement of loss.

Restricted cash

Under the terms of the Exploration Contract, Aral has accrued 1% of the capital costs of exploration (the "Liquidation Fund") in an amount of US $329,000 and US $235,600 as of December 31, 2006 and 2005, respectively (Caspian - Cdn. $194,412 and Cdn. $136,884, respectively) and deposited the cash in a restricted bank account. It is anticipated that the Liquidation Fund will be used to finance the restoration of the License Area upon expiration of the Exploration Contract, unless a production contract is awarded.

3. Inventory



December
December 31, 31,
2006 2005
$ $

Oil inventory 24,742 39,651
Fuel 3,522 5,081
Construction materials 4,342 2,126
Spare parts 3,425 1,165
Other materials 141,024 87,431
----------------------

177,055 135,454
----------------------
----------------------


4. Property, plant and equipment



December 31, December 31,
2006 2005
$ $

Petroleum and natural gas assets 118,334,595 67,527,060
Other assets 2,508,707 1,186,085
---------------------------

120,843,302 68,713,145
Accumulated depletion and depreciation (2,520,264) (269,345)
---------------------------

118,323,038 68,443,800
---------------------------
---------------------------


Excluded from the depletable base of oil and gas assets at December 31, 2006 are unproved properties of $65,707,839 (December 31, 2005 - $35,869,797).

Aral applied the ceiling test to its capitalized assets at December 31, 2006 and 2005 and determined that there was no impairment of such carrying costs.



WTI Crude
oil price
$US/bbl

2007 62.50
2008 61.20
2009 59.80
2010 58.40
2011 56.80



During the year ended December 31, 2006 and 2005, Aral capitalized $506,317 (December 31, 2005 -$387,660) of general and administrative expenses related directly to exploration and development activities.

5. Asset retirement obligation

The Company records the fair value of asset retirement obligations as a liability in the period in which it incurs the legal obligation.

The asset retirement obligation results from net ownership interests in petroleum and natural gas assets including well sites, gathering systems and processing facilities. The Company estimates the total undiscounted amount of cash flows required to settle its asset retirement obligations at December 31, 2006 is $167,542, which will be incurred between 2014 and 2019. A credit-adjusted risk-free rate of 12.9% was used to calculate the fair value of the asset retirement obligations, and an inflation factor of 8.4% .

A reconciliation of the asset retirement obligation is provided below:



December
December 31, 31,
2006 2005
$ $

Balance - December 31, 2005 88,900 70,540
Liabilities incurred 38,382 22,414
Accretion 4,760 14,251
Change in estimate 24,213 (18,305)
------------------------

Balance - December 31, 2006 156,255 88,900
------------------------
------------------------


Under the terms of the Exploration Contract (note 1), the Company is required to create a fund to finance actual future restoration costs, equal to 1% of the capital costs of exploration. At December 31, 2006 and 2005, $194,412 and $136,884, respectively have been placed in a restricted bank account related to the funding requirement.

6. Convertible debentures

On March 1, 2006, the Company received US $16 million and issued 10% per annum, convertible debentures in a like amount. The debentures mature on March 2, 2011 and are convertible at any time and from time to time into common shares of the Company at a conversion price of $2.45 per share. The Company may repay the principal amount of the debentures, in whole or in part, or require conversion into common shares of the Company if the volume-weighted average trading price of the common shares, for 40 consecutive trading days, is at least $4.08.



Fair value of
conversion Carrying
Face amount option Accretion Interest value
$ $ $ $ $

Debentures
issued 18,432,479 (1,483,805) - - 16,948,674
Accretion of
discount - - 281,168 - 281,168
Translation
adjustment (111,595) - - 42,223 (69,372)
Interest accrual - - - 1,522,534 1,522,534
-----------------------------------------------------------

Balance -
December 31,
2006 18,320,884 (1,483,805) 281,168 1,564,757 18,683,004
-----------------------------------------------------------
-----------------------------------------------------------


7. Income taxes

Future income taxes reflect the net tax effects of temporary differences between the carrying amount of assets and liabilities for financial reporting purposes and the amounts used for tax purposes. The Company has provided for certain taxes based upon statutory regulations of Kazakhstan. The Company is subject to permanent tax differences due to the fact that certain expenses are not deductible for income tax purposes under Kazakh laws.

The provision for taxes differs from that computed using the combined Canadian federal and provincial statutory rate as follows:



December December
31, 31,
2006 2005
$ $

Loss before income taxes (6,134,056) (9,000,681)
-----------------------
-----------------------

Expected recovery at statutory tax rate of 34.50%
(2005 - 37.62%) (2,116,249) (3,386,056)
Tax rate difference of foreign jurisdiction 291,699 588,555
Non-deductible stock-based compensation 822,791 1,519,358
Losses for which no benefit is being recognized 1,128,924 685,396
Non-deductible expenses 176,591 -
-----------------------
Future income taxes 303,756 (592,747)
-----------------------
-----------------------


The tax effects on major temporary differences that give rise to the future tax liability are as follows:



December December
31, 31,
2006 2005
$ $

Future tax asset
Tax losses available for carry forward 936,012 999,595
Other 8,562 15,040
Difference in the tax bases and carrying values
of property, plant and equipment 143,939 -
-----------------------

1,088,513 1,014,635
-----------------------

Future tax liability
Geological and geophysical expense (1,433,712) (1,053,288)
Other (13,649) (12,976)
-----------------------

Net future tax liability (1,447,361) (1,066,264)
-----------------------

(358,848) (51,629)
-----------------------
-----------------------


At December 31, 2005, the Company had Canadian non-capital losses available to be carried forward in the amount of $3.0 million, expiring in 2016. The benefit of these losses has not been recognized due to the uncertainty of realization.

8. Share capital

Authorized

Unlimited number of voting common shares, without stated par value

Issued



Number of Amount
shares $

Issued and outstanding as at January 31, 2005 84,122,163 75,376,278
Exercise of warrants (i) 205,000 135,300
Share issue costs (v) - (290,816)
------------------------

Issued and outstanding as at December 31, 2005 84,327,163 75,220,762

Exercise of warrants (ii) 357,100 888,505
Private placement (iii) 19,609,000 49,056,442
Exercise of options (iv) 50,000 87,500
Share issue costs (v) - (3,782,317)
------------------------

Issued and outstanding as at December 31, 2006 104,343,263 121,470,892
------------------------
------------------------


i) During the period, 205,000 warrants were exercised. The warrants had an exercise price of $0.66 per common share.

ii) During the period, 357,100 broker warrants were exercised. The warrants had an exercise price of $2.00 per common share.

iii) On April 5, 2006 a private placement of 19,609,000 common shares were issued at $2.55 per share.

iv) On April 10, 2006, 50,000 common shares at $1.75 per were issued pursuant to the Company's stock option plan.

Stock options

The Company has a stock option plan (the "Plan") under which it may grant options to directors, officers and employees for the purchase of up to 15% of the number of common shares from time to time. Options are granted at the discretion of the board of directors. The exercise price, vesting period and expiration period are also fixed at the time of grant at the discretion of the Board of Directors in accordance with terms of the Plan.

Changes to the Company's stock options are summarized as follows:



Weighted
average option
Number of price
options $

Balance - January 31, 2005 7,173,228 1.72
Granted 1,993,271 1.69
--------------------------

Balance - December 31, 2005 9,166,499 1.72
Granted 1,943,433 1.29
Exercised (50,000) 1.75
--------------------------

Balance - December 31, 2006 11,059,932 1.64

Exercisable - December 31, 2006 10,080,765 1.65
--------------------------
--------------------------


The following is a summary of stock options outstanding and exercisable as at December 31, 2006:



Options outstanding Options exercisable
-------------------------------- --------------------------------

Weighted
average Weighted
Range of remaining average
exercise Options contractual exercise Options
price outstanding life in years price exercisable

$0.75 2,079,090 3.1 $0.75 2,079,090
$1.25 1,043,433 4.8 $1.25 1,043,433
$1.34 900,000 4.9 $1.34 300,000
$1.61 843,271 3.7 $1.61 843,271
$1.75 1,100,000 3.7 $1.75 983,333
$2.00 1,050,000 3.3 $2.00 787,500
$2.15 4,044,138 3.1 $2.15 4,044,138
---------- ----- ----------
11,059,932 $1.64 10,080,765
---------- ----- ----------
---------- ----- ----------


Per share amounts

The weighted average number of common shares outstanding during the year ended December 31, 2006 of 99,146,605 (December 31, 2005 - 84,327,163 shares) was used to calculate loss per share amounts.

In computing diluted loss per share, no shares were added to the weighted average number of common shares outstanding during the period ended December 31, 2006 (December 31, 2005 - nil) as they are anti-dilutive. The fully-diluted number as at December 31, 2006 was 128,485,829 shares (December 31, 2005 - 94,861,662).

Warrants

588,270 broker warrants are outstanding at December 31, 2006 and all have vested. These warrants entitle the holder to purchase one common share at a price of $2.77 until April 5, 2008. 357,100 broker warrants were exercised during the year. 1,010,900 broker warrants entitling the holder to purchase one common share at the price of $2.00 expired during the year. The fair value of the outstanding warrants using the Black-Scholes method was $946,508 (December 31, 2005 - $667,738).

9. Stock-based compensation

Options granted to both employees and non-employees are accounted for using the fair value method. The fair value of common share options granted in the year ended December 31, 2006 was estimated to be $2,384,901 (period ended December 31, 2005 - $4,038,697) as at the grant date using a Black-Scholes option-pricing model and the following assumptions:



Risk free interest rate 3%
Expected life 5 year average
Expected volatility 83%
Expected dividend yield 0%


The estimated fair value of the options is amortized to expense and credited to contributed surplus over the option vesting period on a straight-line basis.

10. Contributed surplus



December
December 31, 31,
2006 2005
$ $

Balance - Beginning of period 7,668,133 3,629,436
Stock options issued to employees, officers and
directors 2,384,901 4,038,697
Fair value of debentures conversion option 1,483,805 -
Fair value of warrants expired 493,433 -
-----------------------

Balance - End of period 12,030,272 7,668,133
-----------------------
-----------------------


The term and vesting conditions of each option may be fixed by the board when the option is granted, but the term cannot exceed 5 years from the date upon which the option is granted.

The options granted to directors, officers and employees may be exercised over five years from the date of granting and expire from time to time to December 2011.

The debentures are convertible into common shares of the Company at a price of $2.45 per share and mature on March 31, 2011.

11. Loan payable

Aral was indebted to Azden, which holds the other 50% interest in Aral, in the amount of $6,636,582 (December 31, 2005 - $6,872,279). This liability was discharged during July 2006.

12. Commitments

In accordance with the shareholders' agreement in respect of Aral, Caspian was obligated to fund the initial work program of Aral pursuant to the Exploration Contract. The minimum work program was US $20.8 million and matured at the end of calendar 2005. As at December 31, 2005, this obligation was fully discharged. The work program extension to December 2007 includes drilling three wells to a combined total of 8,500 metres with a monetary obligation of US $20.6 million. No additional seismic is required. The Company's calendar 2006 minimum work program with the Republic of Kazakhstan has been approved for US $12.2 million and was discharged during 2006. US $8.4 million is the minimum commitment for calendar 2007.

13. Financial instruments

Caspian's financial instruments included in the consolidated balance sheet are comprised of cash and cash equivalents, accounts receivable, other deposits and, accounts payable. The fair values of these financial instruments approximate their carrying amounts due to the short-term nature of the instruments. A substantial portion of Caspian's accounts receivable are with customers in the oil and gas industry and are subject to normal industry credit risks.

A substantial portion of Caspian's activities are settled in foreign currencies and consequently, the Company is subject to fluctuations in currency translation rates.

The liability and equity components of the convertible debentures are presented separately in accordance with their substance. The liability component is accreted to the amount payable at maturity by way of a charge to earnings using the effective interest method.

14. Disposal of mining interest

On November 1, 2006, the Company executed a Letter of Intent to dispose of its interest in a mining property located in Noyon Township, Quebec, Canada for consideration of $150,000. This property was not consistent with the Company's business objective. The transaction was completed in December 2006 and resulted in a book gain of $83,332.

15. Segmented information

The Company's activities are conducted in two geographic segments: Canada and Kazakhstan. All activities relate to exploration for and development of petroleum and natural gas.



Canada Kazakhstan Total
$ $ $

Revenue
Oil and gas revenue, net 48,752 4,147,486 4,196,238
Interest 1,216,890 - 1,216,890
Other - 9,401 9,401
--------------------------------------

1,265,642 4,156,887 5,422,529

Expenses
General and administrative 2,678,357 596,053 3,274,410
Accretion of convertible debentures 281,168 - 281,168
Interest 1,532,103 - 1,532,103
Operating 17,470 2,491,926 2,509,396
Transportation 240 205,464 205,704
Stock-based compensation 2,384,901 - 2,384,901
Foreign exchange (gain) loss (1,344,230) 530,655 (813,575)
Depletion, depreciation and accretion 5,000 2,260,810 2,265,810
Gain on disposal of mining interests (83,332) - (83,332)
--------------------------------------

5,471,677 6,084,908 11,556,585

Loss before income taxes (4,206,035) (1,928,021) (6,134,056)

Future income taxes 3,959 299,797 303,756

Net loss for the year (4,209,994) (2,227,818) (6,437,812)

Assets
Current assets 17,015,875 3,570,338 20,586,213
Restricted cash - 194,412 194,412
Property, plant and equipment, net 34,173 118,288,865 118,323,038
--------------------------------------

17,050,048 122,053,615 139,103,663

Liabilities 19,166,817 5,336,375 24,503,192


16. Subsequent event

On February 21, 2007, non-executive directors and an officer of the Company were granted options to purchase 800,000 common shares of the Company at a price of $0.86 per share for a period of five years.

17. Comparative figures

Certain comparative figures have been reclassified to conform to the financial statement presentation adapted in the current year.

18. Reconciliation of International Financial Reporting Standards

Accounting practices under Canadian GAAP and International Financial Reporting Standards ("IFRS") are, as they affect these financial statements, substantially the same except for the following:

Property and equipment

Under Canadian GAAP, an impairment loss should be recognized when the carrying amount of a cost centre is not recoverable and exceeds its fair value. The carrying amount is not recoverable if the carrying amount exceeds the sum of the undiscounted cash flows expected to result from its use and eventual disposition. Unproved properties and major development projects are included in this recoverability test. A cost centre impairment loss should be measured as the amount by which the carrying amount of assets capitalized in a cost centre exceeds the sum of:

- the fair value of proved and probable reserves; and

- the costs (less any impairment) of unproved properties that have been subject to a separate test for impairment and contain no probable reserves

For costs beyond the exploration and evaluation stage, IFRS requires (i) an impairment to be recognized when the recoverable amount of an asset (cash generating unit) is less than the carrying amount; (ii) the impairment loss to be determined as the excess of the carrying amount above the recoverable amount (the higher of fair value less costs to sell and value in use, calculated as the present value of future cash flows from the asset), rather than the excess of the carrying amount above the undiscounted future cash flows of the asset; and (iii) the reversal of an impairment loss when the recoverable amount changes. A ceiling test based on cash generating units did not reveal the need for an impairment charge.

For exploration and evaluation costs, IFRS 6 has been adopted effective January 1, 2005. IFRS 6 allows for continued application of an entity's existing policy with respect to accounting for exploration and evaluation costs.

Impairment of long-lived assets

Under Canadian GAAP, a long-lived asset should be tested for recoverability whenever events or changes in circumstances indicate that its carrying amount may not be recoverable. An impairment loss should be recognized when the carrying amount of a long-lived asset is not recoverable and exceeds its fair value. Under IFRS, the carrying amounts of the Company's assets, other than oil and gas properties, inventories and deferred tax assets, are reviewed at each balance sheet date to determine whether there is any indication of impairment. If any such indication exists, the assets' recoverable amounts are estimated. An impairment loss is recognized when the carrying amount of an asset exceeds its recoverable amount. Impairment losses, if any, are recognized in the income statement. This difference in accounting policy has no impact on these financial statements.

Under Canadian GAAP, the carrying amount of a long-lived asset is not recoverable if the carrying amount exceeds the sum of the undiscounted cash flows expected to result from its use and eventual disposition. This assessment is based on the carrying amount of the asset at the date it is tested for recoverability, whether it is in use or under development. Under IFRS, the recoverable amount of the Company's assets other than oil and gas properties is the greater of their net selling price and value in use. In assessing value in use, the estimated future cash flows are discounted to their present value using a pre-tax discount rate that reflect current market assessments of the time value of money and the risks specific to the asset. For an asset that does not generate cash inflows largely independent of those from other assets, the recoverable amount is determined for the cash-generating unit to which the asset belongs. This difference in accounting policy has no impact on these financial statements.

In respect of impairment of assets other than oil and gas properties, under Canadian GAAP, an impairment loss is not reversed if the fair value subsequently increases. For IFRS, an impairment loss may be reversed if there has been a change in the estimates used to determine the recoverable value.

An impairment loss, on assets other than oil and gas properties, is only reversed to the extent that the asset's carrying amount does not exceed the carrying amount that would have been determined, net of depreciation or amortization, if no impairment loss had been recognized. This difference in accounting policy has no impact on these financial statements.

Asset retirement obligation

In re-measuring an asset retirement obligation for the passage of time, Canadian GAAP requires remeasurement based on the risk-free rate that existed when the liability was initially measured. IFRS requires the use of current market assessed interest rates in each estimate. This difference did not result in a material reconciling item.

Inventory

Under Canadian GAAP, the Company measures its supplies inventory at the lower of historical cost or net replacement cost. Under IFRS, the lower of cost or net realizable value principle would apply. This difference did not result in a material reconciling item.

Auditors' Report

To the Shareholders of Caspian Energy Inc.

We have audited the consolidated balance sheets of Caspian Energy Inc. as at December 31, 2006 and 2005, the consolidated statements of loss and deficit and cash flows for the twelve and eleven month periods then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with Canadian generally accepted auditing standards. Those standards require that we plan and perform an audit to obtain reasonable assurance whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation.

In our opinion, these consolidated financial statements present fairly, in all material respects, the financial position of the Company as at December 31, 2006 and 2005 and the results of its operations and its cash flows for the twelve and eleven month periods then ended in accordance with Canadian generally accepted accounting principles.

Chartered Accountants

Calgary, Alberta

March 29, 2007

Contact Information

  • Caspian Energy Inc.
    William Ramsay
    President and Chief Executive Officer
    + 44 (0) 7736 631 378
    or
    Bell Pottinger Corporate and Financial
    Geoff Callow/Algy Rowe
    00 44 (0) 20 7861 3232
    or
    Jefferies International Limited
    Toby Hayward/Oliver Griffiths
    00 44 (0) 20 7618 3500