Masters Energy Inc.
TSX : MSY

Masters Energy Inc.

April 26, 2007 18:15 ET

Masters Energy Inc. Reports First Quarter 2007 Interim Results

CALGARY, ALBERTA--(CCNMatthews - April 26, 2007) - Masters Energy Inc. (TSX:MSY) ("Masters" or the "Company") is pleased to report financial and operating results for the three months period ended March 31, 2007.



Three Months Ended
March 31,
HIGHLIGHTS 2007 2006
----------------------------------------------------------------------------
(Unaudited)
Financial ($ thousands, except per share amounts)
Gross revenue 6,108 5,788

Funds generated by operations 2,643 2,542
Per share - basic 0.17 0.18
- diluted 0.17 0.17

Net earnings (loss) (94) 217
Per share - basic (0.01) 0.02
- diluted (0.01) 0.01

Capital expenditures 3,634 8,355

Working capital deficiency 1,990 7,477

Long-term debt 19,550 17,442

Operations
Production
Crude oil (bbls/d) 734 813
NGL (bbls/d) 8 9
Natural gas (mcf/d) 4,216 3,888
Total production (boe/d at 6:1) 1,445 1,470

Average sales price
Crude oil ($/bbl) 47.78 39.82
NGL ($/bbl) 55.43 56.87
Natural gas ($/mcf) 7.28 7.41


Presidents Message to the Shareholders

During the first quarter of 2007 Masters invested $3.6 million of capital with a relatively high allocation of funds to drilling and equipment. Drilling activity was focused on natural gas prospects in the North Peace River Arch area. In addition, Master successfully recompleted several wells in the Little Bow area. Although production volumes were similar to the fourth quarter of 2006, several projects were completed at the end of March and the first week of April which increased production to the current level of approximately 1,800 boe per day (50% natural gas).

The incremental production during April is a result of the tie-in of three wells in the North Peace River Arch area and the recompletion of three wells at our Little Bow core property.

Commencing in the second quarter of 2007 Masters plans to drill several high impact exploration plays outside of our core areas and continue to drill in the North Peace River Arch core area. The Company intends to continue to build our prospect inventory by acquiring additional lands, shooting more seismic and creating joint ventures with other industry participants.

Commodity prices have been strong and are expected to remain robust. During the first quarter of 2007 the price per barrel for Edmonton light crude averaged $67.61 compared to $69.24 per barrel for the similar period in 2006. During the first quarter of 2007 the price differentials for Canadian medium gravity crude averaged $17.88 per barrel compared to the 2006 first quarter pricing differential, which averaged $29.08 per barrel. The majority of Masters' crude production is medium gravity so the narrowing differential has significantly improved the price received. The natural gas price received at the wellhead remained relatively the same at $7.28 per mcf in the first quarter of 2007 compared to $7.41 per mcf in the first quarter of 2006.

The bank line of $22 million was established in April 2006 and is currently under review. Since the last loan review total proved reserves have increased 15 percent and current daily production has increased approximately 25 percent.

Annual and Special Meeting

The Company's Annual Meeting of shareholders is scheduled for 2:00 PM (Calgary Time) on Wednesday May 9, 2007 at The Calgary Telus Convention Centre - Exhibition Hall B1, 120, 9th Avenue SE Calgary, Alberta.

Outlook

The strategy for 2007 is to continue to exploit our large undeveloped land base, build value within our core producing areas, expand our prospect inventory and pursue several high impact exploration plays in regions outside of our core areas. We expect opportunities for acquisitions will be available throughout the year and we have a strong desire to grow through an acquisition. Masters will continue to pursue acquisitions that fit strategically and have the potential to add shareholder value.

The current business environment for the oil and gas sector remains attractive. Commodity prices are relatively strong, interest rates remain low and demand for energy remains high. During the month of March 2007, Masters received an average crude price of $51.39 per barrel and a natural gas price of $7.24 per mcf which resulted in a total cash flow of approximately $1.1 million for the month. Current production is 20 percent higher than March and therefore we expect an incremental increase in cash flow going forward. Demand for oilfield services and supplies and delays with respect to implementing field work are coming off the peak of late 2005 and early 2006 and are returning to historical levels of activity and timing.

We continue to be very optimistic about the future. We believe that the business fundamentals in our sector are conducive to attracting investment capital and that our existing asset base contains unrecognized value that will be realized through drilling and exploiting existing properties. We look forward to sharing our progress with you throughout the year.


On behalf of the Board of Directors,

Geoff C. Merritt, President and Chief Executive Officer

April 26, 2007

MANAGEMENT'S DISCUSSION AND ANALYSIS

ADVISORIES

Management's discussion and analysis ("MD&A") of Masters Energy Inc. ("Masters or the Company"), provided as of April 26, 2007, should be read in conjunction with the unaudited financial statements presented for the three months ended March 31, 2007 and 2006 and the audited financial statements and related notes for the years ended December 31, 2006 and 2005.

Basis of Presentation - The financial data presented below has been prepared in accordance with Canadian generally accepted accounting principles ("GAAP"). The reporting and the measurement currency is the Canadian dollar.

Non-GAAP Measurements - The MD&A contains the terms 'funds generated by operations' and 'funds generated by operations per share', which should not be considered an alternative to, or more meaningful than net earnings or cash flow from operating activities as determined in accordance with GAAP as an indicator of the Company's performance. Masters' determination of funds generated by operations and funds generated by operations per share may not be comparable to that reported by other companies. Management uses funds generated by operations to analyze operating performance and leverage and considers funds generated by operations to be a key measure as it demonstrates the Company's ability to generate cash necessary to fund future capital investments and to repay debt. The reconciliation between net earnings and funds generated by operations can be found in the statements of cash flows in the financial statements. Masters presents funds generated by operations per share, which is prohibited under GAAP. Per share amounts are calculated using weighted average shares outstanding consistent with the calculation of earnings per share.

Masters uses certain industry benchmarks such as operating netback to analyze financial and operating performance. Operating netback is the net result of resource revenues less royalties and operating expenses. This benchmark as presented does not have any standardized meaning prescribed by GAAP and therefore may not be comparable with the calculation of similar measures for other entities.

Presentation of BOE - Masters bases calculations of barrels of oil equivalent ("boe") on a conversion rate of six thousand cubic feet ("mcf") of natural gas to one barrel ("bbl") of crude oil. The boe unit may be misleading, particularly if used in isolation. A boe conversion ratio of six mcf equals one bbl is based on an energy equivalency conversion method primarily applicable at the burner tip and does not represent a value equivalency at the wellhead.

Forward-Looking Information - This MD&A contains forward looking or outlook information with regard to Masters within the meaning of applicable securities laws. Forward-looking statements may include estimates, plans, expectation, forecasts, guidance or other statements that are not statements of fact. Masters believes the expectations reflected in such forward-looking statements are reasonable. However, no assurance can be given that such expectations will prove to be correct. These statements are subject to certain risks and uncertainties and may be based on assumptions that could cause actual results to differ materially from those anticipated or implied in the forward-looking statements. These risks include but are not limited to: crude oil and natural gas price volatility, exchange rate and interest rate fluctuations, availability of services and supplies, market competition, uncertainties in the estimates of reserves, the timing of development expenditures, production levels and the timing of achieving such levels, Masters' ability to replace and expand oil and natural gas reserves, the sources and adequacy of funding for capital investments, the Company's future growth prospects and current and expected financial requirements, the cost of future reclamation and site restoration, the Masters' ability to enter into or renew leases and to secure adequate product transportation, changes in environmental and other regulations and general economic conditions. These statements speak only as of the date of this MD&A and Masters does not undertake an obligation to update our forward-looking statements except as required by law.



PRODUCTION

Three Months Ended
March 31,
2007 2006
--------------------
Total Production
Crude oil (bbl) 66,086 73,213
Natural gas liquids ("NGL") (bbl) 738 777
Natural gas (mcf) 379,481 349,890
Total (boe) 130,071 132,305
Daily Production
Crude oil (bbl/d) 734 813
NGL (bbl/d) 8 9
Natural gas (mcf/d) 4,216 3,888
Total (boe/d) 1,445 1,470


Production volume for the first quarter ended March 31, 2007 averaged 1,445 boe/d, a decrease of 2 percent in comparison with the first quarter of 2006. Oil and NGL production for the first quarter of 2007 decreased 10 percent to 742 bbl/d from 822 bbl/d in the same period in 2006 as a result of natural declines in crude oil production. Natural gas production for the first quarter ended March 31, 2007 increased eight percent to 4.2 mmcf per day from 3.9 mmcf per day for the three months ended March 31, 2006. Production increased during 2007 as a result of successful wells being drilled and tied-in since the first quarter of 2006.



PRICES

Three Months Ended
March 31,
2007 2006
--------------------

Crude oil ($/bbl) 47.78 39.82
--------------------
--------------------
NGL ($/bbl) 55.43 56.87
--------------------
--------------------
Natural gas ($/mcf) 7.28 7.41
--------------------
--------------------


West Texas Intermediate ("WTI") is the benchmark for North American oil prices and is the crude type against which NYMEX futures contracts are priced. Canadian crude oil prices are based on refiners' postings at hubs such as Edmonton and Hardisty, Alberta. The basis for Canadian postings is the WTI price at Cushing, Oklahoma minus a transportation differential, adjusted for the US/Canadian currency exchange rate and for relative quality and regional market conditions.

During the first quarter of 2007 North America saw some weakness in the price levels for WTI crude oil primarily due to concerns over supply. As a result, the average price for a barrel of WTI crude during the period decreased over $5.24(US) to $58.09(US) from the first quarter of 2006. The Canadian dollar strengthened relative to the US dollar during the course of the year. The average currency exchange rate for $1.00 Canadian decreased from $0.866(US) in the first three months of 2006 to $0.853(US) in the similar period of 2007. As a result, this raised the effective price received for delivery of crude expressed in Canadian dollars. The narrowing quality price differential postings on medium type crudes experienced a significant positive effect during 2007. The average differential between Edmonton light sweet crude postings and Hardisty Bow River medium crude in the first quarter of 2007 decreased to approximately $17.88 per bbl (2006 - $29.08 per bbl).

The Company's crude oil field price for the first quarter of 2007 increased 20 percent to $47.78 per bbl from the average price received in the first quarter of 2006 primarily due to the improvement in the quality price differential.

US natural gas prices are typically referenced off NYMEX at Henry Hub, Louisiana while Canadian prices are referenced at Nova Inventory Transfer ("NIT") or the AECO Hub. Most of Masters' natural gas is sold to the spot market according to the AECO reference price.

During the early portion of 2006, North America experienced some of the warmest weather on record causing the demand for natural gas to be down from historic winter levels. This resulted in record levels for natural gas supply in storage in the United States and Canada at the end of the withdrawal season. Storage levels at the end of the first quarter of 2006 were approximately 60 percent above the five-year averages. As a result of this large storage overhang, 2006 natural gas prices were weaker than the previous year.

During the 2006 - 2007 winter, North America experienced normal weather conditions causing the demand for natural gas to return to historic winter levels. Storage levels at the end of the first quarter 2007 were within the five-year averages.

The average natural gas price received during the first quarter of 2007 was $7.28 per mcf, a decrease of two percent from the price received in the same period of 2006.

Masters' management complies with a Risk Management Policy approved by the board of directors. The objective of Masters' risk management activities is to reduce exposure to decreases in commodity prices that would materially impact funds generated by operating activities and, ultimately, reduce capital spending which generates Masters' growth. Any transactions entered would involve credit worthy purchasers and would be for less than one year. To ensure Masters has sufficient physical volumes available to meet the obligations of such transactions, Masters limits the volumes contracted to no more than 50 percent of forecasted production after royalties.

For 2007 Masters has entered into a fixed natural gas hedge as follows which was outstanding at March 31, 2007;


Daily
Notional
Product Index Term Volume Price Received
----------------------------------------------------------------------------
Gas Fixed AECO-C Apr. 1/07 - Oct. 31/07 1,500 GJ $7.54 per GJ


Masters did not enter into any fixed or hedged type gas sales contracts
during the three month period ending March 31, 2006.


REVENUES

Three Months Ended
March 31,
($ thousands, except as indicated) 2007 2006
----------------------------------------------------------------------------
Crude oil revenue 3,158 2,915
NGL revenue 41 44
Natural gas revenue 2,763 2,593
--------------------
Total petroleum and natural gas revenue 5,962 5,552
Royalty revenue 146 236
--------------------
Total resource revenue 6,108 5,788
--------------------
--------------------
Total petroleum and natural gas revenue per boe ($) 45.83 41.97
--------------------
--------------------
Total resource revenue per boe ($) 46.96 43.75
--------------------
--------------------


Petroleum and natural gas revenues for the first quarter of 2007 increased seven percent to $6.0 million from the similar period in 2006 as commodity prices remained strong and natural gas production volumes continued to increase.

Royalty and other income decreased by 38 percent to $0.1 million as a result of disposing non-core royalty interests during the latter portion of 2006.



ROYALTIES

Three Months Ended
March 31,
($ thousands, except as indicated) 2007 2006
----------------------------------------------------------------------------
Crown 1,213 1,164
ARTC - (125)
--------------------
Crown, net of ARTC 1,213 1,039
Freehold and gross overriding 142 168
--------------------
Net royalties 1,355 1,207
--------------------
--------------------
Per boe ($) 10.42 9.12
--------------------
--------------------
Average royalty rate - net (%)(1) 22.7 21.7
--------------------
--------------------

(1) A percentage of total petroleum and natural gas revenue


For the three months ended March 31, 2007, royalties, net of Alberta royalty tax credit, totaled $1.4 million for an average royalty rate relative to oil and gas revenues of 22.7 percent. The increase in the net average royalty rate is due to the termination of the Alberta royalty tax credit at the 2006 year-end. On a boe basis, royalties for the period were $10.42 per boe. For the similar period in 2006 the net royalty rate averaged 21.7 percent of oil and gas revenues or $9.12 per boe.



UNREALIZED LOSS ON COMMODITY CONTRACT

For 2007 Masters has entered into a fixed natural gas hedge as follows;

Daily
Notional
Product Index Term Volume Price Received
----------------------------------------------------------------------------
Gas Fixed AECO-C Apr. 1/07 - Oct. 31/07 1,500 GJ $7.54 per GJ


An unrealized loss of $0.3 million (nil - March 31, 2006) on the commodity
contract represents the fair value of the contract at March 31, 2007 as the
future average price is greater than the contracted price.


OPERATING EXPENSES


Three Months Ended
March 31,
($ thousands, except as indicated) 2007 2006
----------------------------------------------------------------------------
Total operating expenses 1,364 1,225
--------------------
--------------------
Per boe ($) 10.49 9.26
--------------------
--------------------


Operating expenses for the three months ended March 31, 2007 was $1.4 million, an increase of 11 percent compared to $1.2 million during the same period in 2006 primarily as a result of higher processing fees on natural gas production. On a boe basis, the 2007 first quarter operating expenses increased 13 percent to an average cost of $10.49 per boe produced from $9.26 per boe in the same period in 2006 as a result of higher processing fees for the increased natural gas production.

Operating expenses per boe for the balance of 2007 are anticipated to remain consistent with the year to date results.




Three Months Ended
March 31,
($ per boe) 2007 2006
----------------------------------------------------------------------------
Oil and gas revenues 45.83 41.97
Royalty and other revenue 1.13 1.78
--------------------
46.96 43.75
Royalties, net of ARTC (10.42) (9.12)
Operating expenses (10.49) (9.26)
--------------------
Operating netback 26.05 25.37
--------------------
--------------------

Operating income netback per boe for the first quarter of 2007 was
consistent with the similar period in 2006.


GENERAL and ADMINISTRATIVE


Three Months Ended
March 31,
($ thousands, except as indicated) 2007 2006
----------------------------------------------------------------------------
Gross general and administrative 589 920
Operating recoveries (16) (29)
Capitalized expenses (174) (303)
--------------------
General and administrative expense,
before stock-based compensation 399 588
Future stock-based compensation 102 56
Capitalized future stock-based compensation (54) -
--------------------
Total general and administrative expense 447 644
--------------------
--------------------
General and administrative expense,
before stock-based compensation, per boe ($) 3.07 4.44
--------------------
--------------------
Total general and administrative expense per boe ($) 3.44 4.87
--------------------
--------------------


During the first quarter of 2007, net general and administrative costs before stock-based compensation decreased over the first quarter 2006 as a result of the annual cost of performance-based compensation being paid in 2006. General and administrative expense per boe has decreased 31% in the first quarter of 2007 versus the first quarter of 2006.

Total general and administrative expenses for the remainder of 2007 are anticipated to be similar to 2006. Based on forecasted production and capital spending, 2007 staff levels are anticipated to be similar to 2006.



INTEREST EXPENSE


Three Months Ended
March 31,
($ thousands, except as indicated) 2007 2006
----------------------------------------------------------------------------
Total interest expense 285 204
--------------------
--------------------
Per boe ($) 2.19 1.54
--------------------
--------------------


Interest expense for the three months ended March 31, 2007 was $0.3 million, an increase of 40 percent compared to the same period in 2006 due to higher debt levels and borrowing rates. On a boe basis, the 2007 first quarter interest expenses increased 42 percent to an average cost of $2.19 per boe produced from $1.54 per boe in the same period in 2006.



DEPLETION, DEPRECIATION and ACCRETION


Three Months Ended
March 31,
($ thousands, except as indicated) 2007 2006
----------------------------------------------------------------------------
Depletion 2,421 2,381
Depreciation 2 2
Accretion on asset retirement obligations 31 30
--------------------
Total depletion, depreciation and accretion expense 2,454 2,413
--------------------
--------------------
Depletion, depreciation and accretion expense
per boe ($) 18.86 18.24
--------------------
--------------------


For the first quarter of 2007, depletion, depreciation and accretion expense increased three percent to $2.5 million from $2.4 million for the same period in 2006. The increase is due to increased capital spending on drilling and equipment. On a boe basis depletion, depreciation and accretion for the first quarter of March 2007 increased three percent to $18.86 from $18.24 in the same period in 2007.

At March 31, 2007, the ceiling test calculation indicated that the estimated undiscounted future cash flows from proven reserves exceeded the carrying values of producing petroleum and natural gas properties and therefore a ceiling test adjustment was not required.



INCOME TAXES


Three Months Ended
March 31,
($ thousands, except as indicated) 2007 2006
----------------------------------------------------------------------------
Future income tax reduction (44) (123)
Capital taxes - 1
--------------------
Total income taxes (44) (122)
--------------------
--------------------
Effective tax rate (%) - -
--------------------
--------------------


The future income tax reduction provision for the three months ended March 31, 2007 decreased to $0.04 million from a future tax reduction of $0.1 million in the same period in 2006. The decrease in 2007 future tax reduction was primarily due to lower earnings before income taxes.

As at March 31, 2007, the Company has approximately $48.9 million in tax pools to shelter taxable income in the future years.

NET EARNINGS and CASH FLOW FROM OPERATIONS

Net loss was $0.1 million for the three months ended March 31, 2007 compared to net earnings of $0.2 million during the same period in 2006. Net loss per basic share for the quarter was $0.01 compared to net earnings of $0.02 per basic share during the same quarter in 2006. Net loss per diluted share for the quarter was $0.01 compared to net earnings of $0.01 per share for the first quarter of 2006.

Funds generated by operations increased four percent to $2.6 million for the three months ended March 31, 2007 compared to $2.5 million during the same period in 2006. The increase is primarily due to commodity prices.

CAPITAL EXPENDITURES

During the first quarter of 2007 the Company spent approximately $3.6 million in exploration and development capital expenditures compared to $8.4 million spent in the same period of 2006. The Company drilled 4 wells (1.9 net), recompleted/re-entered 5 wells (5.0 net), tied-in five wells, added 8,600 net undeveloped acres and purchased of 65 kilometers of 2-D seismic during the period.




Three Months Ended
March 31,
($ thousands) 2007 2006
----------------------------------------------------------------------------
Land 644 805
Geological and geophysical 123 1,861
Drilling and completions 1,802 2,934
Equipping and facilities 1,065 2,755
--------------------
Total capital expenditures 3,634 8,355
--------------------
--------------------


Drilling/Recompletion Results

During the first quarter of 2007 the Company drilled and recompleted nine
wells resulting in three oil wells and one natural gas well for a success
rate of 44 percent.


Three Months Ended Three Months Ended
March 31, 2007 March 31, 2006
(wells) Gross Net Gross Net
----------------------------------------------------------------------------

Oil 3 3.0 - -
Natural Gas 1 - 6 2.1
Dry 5 3.9 4 1.9
-----------------------------------------
Total 9 6.9 10 4.0
-----------------------------------------
-----------------------------------------
Success rate (%) 44 43 60 53
-----------------------------------------
-----------------------------------------


CONTRACTUAL OBLIGATIONS

On April 18, 2006, the Company completed the issuance of 1,000,000 flow-through common shares for total proceeds of $6.1 million. The proceeds from the share issuance are to be spent on qualified exploration expenditures prior to December 31, 2007. As at March 31, 2007, approximately $0.3 million of exploration expenditure obligations remained outstanding.

LIQUIDITY and CAPITAL RESOURCES

The Company's total capitalization at March 31, 2007 was $73.8 million with the market value of common shares representing 61 percent of total capitalization. Net debt represented 29 percent and asset retirement obligations and future income taxes accounted for 10 percent.



Total Market Capitalization
($ thousands except as indicated) 2007 %
----------------------------------------------------------------------------
Common shares outstanding (thousands) 15,460
Share price, March 31, 2007 ($ per share) 2.89
--------------------
Total market capitalization 44,679 61
--------------------
Working capital deficiency 1,990
Bank debt 19,550
--------------------
Net debt 21,540 29
--------------------
Asset retirement obligation 3,497 5
Future income taxes 4,052 5
--------------------
Total capitalization 73,768 100
--------------------
--------------------
Net debt to total capitalization 30%
--------------------
--------------------


Masters has a bank revolving term facility of $22 million to fund future activities which was established April 2006. The facility is a borrowing base facility determined by Masters' latest reserves assessment, results of operations, current and forecasted commodity prices and the prevailing economic market. The facility is reviewed semi-annually in April and October and is currently under review. At March 31, 2007 the Company had borrowed approximately $19.5 million and had a working capital deficit of $2.0 million totaling $21.5 million of total net debt.

The Company's future investing activities, which consist primarily of capital expenditures on oil and gas activities, will be funded with working capital, cash flow from operations and bank debt.

During November 2006, Masters announced a normal course issuer bid which is in effect for one year. During the first quarter period ended March 31, 2007, the Company purchased 80,000 common shares for total consideration of $228,000. Since the commencement of the normal course issuer bid the Company has purchased 110,000 common shares for total consideration of $329,000.

As at March 31, 2007 the issued and outstanding common shares of the Company were 15,459,979, options outstanding were 1,451,000 and performance warrants outstanding of 885,000.

CHANGES IN ACCOUNTING POLICIES

Effective January 1, 2007, the Company adopted the following new CICA standards regarding financial instruments;

a. CICA handbook section 3855 "Financial Instruments - Recognition and Measurement",

b. CICA handbook section 3861 "Financial Instruments - Disclosure and Presentation",

c. CICA handbook section 1530 "Comprehensive Income", and

d. CICA handbook section 3865 "Hedges".

The standards require inclusion of all financial instruments other than held-to-maturity investments, loans and receivables, on a company's balance sheet at their fair value. Held-to-maturity investments, loans and receivables would be measured at their amortized cost. The standards create a new statement of comprehensive income, which is defined as a change in equity, that will include changes in fair value of certain derivative financial instruments. The Company elects to mark-to-market its derivative contracts under its risk management program. The accounting for hedging relationships for prior fiscal years is not retroactively changed. Therefore, management expects no restatement of prior periods is expected as a result of these new standards.

CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING

During the most recent interim period, there have been no changes in Masters' policies and procedures and other processes that comprise its internal controls over financial reporting, that have materially affected, or are reasonably likely to materially affect, Masters' control over financial reporting. For further discussion of internal controls over financial reporting refer to Masters' 2006 Annual Report.

SELECTED QUARTERLY INFORMATION

The financial data presented below has been prepared in accordance with Canadian generally accepted accounting principles. The reporting and measurement currency is the Canadian dollar.



2007 2006 2005
Operations Q1 Q4 Q3 Q2 Q1 Q4 Q3 Q2
----------------------------------------------------------------------------
Production
Oil (bbl/d) 734 749 791 781 813 707 688 715
NGL (bbl/d) 8 10 10 13 9 10 15 11
Natural gas
(mcf/d) 4,216 4,417 2,897 3,543 3,888 3,619 3,872 3,055
Total (boe/d) 1,445 1,495 1,284 1,384 1,470 1,320 1,349 1,236
Pricing
Oil ($/bbl) 47.78 42.31 58.03 59.65 39.82 42.50 56.92 41.64
NGL ($/bbl) 55.43 71.65 62.71 61.62 56.87 60.85 59.56 49.56
Natural gas ($/mcf) 7.28 7.07 5.61 5.91 7.41 11.29 9.09 7.34
Total ($/boe) 45.83 42.57 48.92 49.34 41.97 54.18 55.84 42.71
Financial
---------
($ thousands,
except as
indicated)
Total revenue 6,108 5,960 5,971 6,545 5,788 6,908 7,175 4,836
Funds generated
by operations 2,643 2,200 3,144 3,553 2,542 2,915 4,476 2,699
Net earnings (loss) (44) 26 815 800 217 630 1,781 643
Per share - basic (0.01) 0.00 0.05 0.05 0.02 0.04 0.12 0.04
Per share - diluted (0.01) 0.00 0.05 0.05 0.01 0.04 0.12 0.04
Capital spending
Exploration and
development 3,634 6,022 5,625 4,487 8,355 11,570 2,805 2,806
Acquisitions/
(dispositions) - - (6,200) - - 31 (339) 7,552
Total assets 69,586 70,275 65,176 66,533 64,228 60,016 51,142 48,130
Working capital
(deficiency) (1,990)(2,156)(1,904)(1,496) (7,477)(5,013) 1,381 323
Long-term debt 19,550 17,824 14,467 18,584 17,442 14,093 11,911 13,137
Shareholders'
equity 37,910 39,921 39,861 38,940 32,064 31,791 31,033 28,884
Common Shares
-------------
Weighted average
common shares
outstanding
(thousands)
- basic 15,506 15,559 15,570 15,356 14,523 14,491 14,462 14,364
- diluted 15,717 15,974 16,093 16,052 15,433 15,482 15,146 14,931
Trading Activity
Volume (thousands)
- total 2,337 865 773 804 1,757 2,351 2,467 3,096
- daily 37 14 12 13 27 38 39 48
Price ($ per share)
- high 3.40 4.08 4.28 5.39 6.75 6.95 4.70 3.80
- low 2.41 3.00 3.25 3.56 4.25 4.60 3.62 3.05
- closing 2.89 3.40 3.35 3.80 4.89 6.47 4.55 3.64


Factors that caused variations over the quarters -

- The Company completed four acquisitions since its initial financing in the fourth quarter of 2003 which have impacted production growth:

-- The acquisition of the Little Bow property in Southern Alberta on December 22, 2003 added approximately 450 boe per day consisting of approximately 90 percent crude oil production. Proved and probable reserves acquired were approximately 1.4 million boe with an estimated reserve life index of 8.6 years.

-- The acquisition of Terraquest Energy Corporation on February 26, 2004 added production of approximately 400 boe per day consisting of approximately 60 percent natural gas. Proved and probable reserves acquired were approximately 1.1 million boe with an estimated reserve life index of 7.9 years based on the production at the time of acquisition.

-- The two acquisitions of producing properties in the Peace River Arch area of Northwest Alberta on June 3, 2005 and September 12, 2005 added approximately 160 boe per day consisting primarily of natural gas production. Proved and probable reserves acquired were approximately 0.5 million boe with an estimated reserve life index of 7.0 years.

- Production growth, other than the acquisitions is a result of Masters' exploration and development activities. Timing of production is subject to timing of drilling and facility construction.

- Growth in revenue and funds generated by operations is the combination of increased production and strong commodity prices. Oil prices for medium grade quality crude experienced a large drop in the latter portion of the fourth quarter 2004 due to wider than historical quality differentials. This impacted the prices received by Masters since that time as a majority of the crude production is of medium quality. During the first quarter of 2007 the price quality differentials for medium gravity crudes were returning to historical levels.

- The net earnings are impacted by depletion, depreciation, accretion and future income taxes. The Company estimates its reserves every quarter based on its acquisition and drilling activities. The annual reserves are determined by independent reservoir evaluators, the results of which can affect fourth quarter reserve additions. Enacted changes to the federal and provincial income tax rates for the oil and gas industry impact future income taxes.

- The development of future drilling prospects and seasonal field conditions influence capital spending. Funds generated by operations, bank debt and the issuance of common shares primarily funded capital spending.



Masters Energy Inc.
Balance Sheets
(unaudited)

----------------------------------------------------------------------------
($ thousands)

As at As at
March 31, December 31,
2007 2006
------------- -------------
Assets

Current assets
Accounts receivable $ 2,253 $ 4,283
Prepaid expenses and deposits 334 281
------------- -------------

2,587 4,564

Property and equipment (note 2) 66,999 65,711
------------- -------------

$ 69,586 $ 70,275
------------- -------------
------------- -------------

Liabilities

Current liabilities
Accounts payable and accrued liabilities $ 4,577 $ 6,720

Long-term bank debt (note 3) 19,550 17,824

Asset retirement obligations (note 4) 3,497 3,527

Future income taxes (note 8) 4,052 2,283
------------- -------------

31,676 30,354
------------- -------------

Shareholders' Equity

Share capital (note 5) 31,344 33,314
Contributed surplus (note 6) 873 820
Retained earnings 5,693 5,787
------------- -------------

37,910 39,921
------------- -------------

$ 69,586 $ 70,275
------------- -------------
------------- -------------

See accompanying notes to the financial statements.


Masters Energy Inc.
Statements of Earnings (Loss), Comprehensive Income (Loss) and Retained
Earnings
(unaudited)
----------------------------------------------------------------------------
($ thousands except share and per share amounts)


Three months ended March 31,
-----------------------------
2007 2006
------------- -------------
Revenue
Petroleum and natural gas revenue $ 5,962 $ 5,552
Royalty and other revenue 146 236
------------- -------------
6,108 5,788
Royalties, net of Alberta Royalty Tax Credit (1,355) (1,207)
------------- -------------
4,753 4,581
Unrealized loss on commodity contract (note 9) (341) -
------------- -------------

4,412 4,581
------------- -------------

Expenses
Operating 1,364 1,225
General and administrative 447 644
Interest 285 204
Depletion, depreciation and accretion 2,454 2,413
------------- -------------

4,550 4,486
------------- -------------

Earnings (loss) before taxes (138) 95

Taxes (note 8)

Capital tax expense - 1

Future tax reduction (44) (123)
------------- -------------

(44) (122)
------------- -------------

Net earnings (loss) and comprehensive income (loss) (94) 217

Retained earnings, beginning of period 5,787 3,929
------------- -------------

Retained earnings, end of period $ 5,693 $ 4,146
------------- -------------
------------- -------------

Earnings (loss) per share (note 7)

Basic $ (0.01) $ 0.02
------------- -------------
------------- -------------

Diluted $ (0.01) $ 0.01
------------- -------------
------------- -------------

Weighted average number of shares outstanding (note 7)

Basic 15,506,285 14,523,313
------------- -------------
------------- -------------

Diluted 15,717,416 15,432,534
------------- -------------
------------- -------------

See accompanying notes to the financial statements.


Masters Energy Inc.
Statements of Cash Flows
(unaudited)
----------------------------------------------------------------------------
($ thousands)

Cash provided by (used for):

Three months ended March 31,
-----------------------------
2007 2006
------------- -------------
Operating activities
Net earnings (loss) $ (94) $ 217
Add (deduct) non-cash items

Depletion, depreciation and accretion 2,454 2,413
Future income tax reduction (44) (123)
Unrealized loss on commodity contract 341 -
Stock-based compensation expense 48 56
Settlement of asset retirement costs (note 4) (62) (21)
------------- -------------

2,643 2,542

Changes in non-cash working capital (2,281) (1,532)
------------- -------------

362 1,010
------------- -------------

Financing activities
Long-term bank debt 1,726 3,349
Purchase of shares for cancellation (note 5) (228) -
------------- -------------

1,498 3,349
------------- -------------

Investing activities

Property and equipment (3,634) (8,355)
Changes in non-cash working capital 1,774 3,996
------------- -------------

(1,860) (4,359)
------------- -------------

Change in cash and cash equivalents - -

Cash and cash equivalents, beginning of period - -
------------- -------------

Cash and cash equivalents, end of period $ - $ -
------------- -------------
------------- -------------

Supplemental cash flow information
----------------------------------

Interest paid $ 285 $ 204

See accompanying notes to the financial statements.


Masters Energy Inc.
Notes to the Financial Statements
----------------------------------------------------------------------------
(Unaudited)


1. Accounting Policies

The Masters Energy Inc. ("Masters" or "the Company") is engaged in the exploration, development and production of petroleum and natural gas in Western Canada. The financial statements are stated in Canadian dollars and have been prepared in accordance with Canadian generally accepted accounting principles.

The disclosures provided below are incremental to those included with the annual financial statements. These interim financial statements should be read in conjunction with the financial statements and notes disclosed in the Company's annual report for the year ended December 31, 2006. The interim financial statements of Masters have been prepared following the same accounting policies and methods of computation as the financial statements of the Company for the year ended December 31, 2006, except for the following changes in accounting policies:

(a) Financial instruments

On January 1, 2007 Masters adopted the new accounting standards regarding the recognition, measurement, disclosure and presentation of financial instruments. The financial instruments must be classified into one of these five categories: held-for-trading, held-to-maturity, loans and receivables, available-for-sale financial assets or other financial liabilities. The new standard requires all financial instruments within its scope, including all derivatives, to be recognized on the balance sheet initially at fair market value. Subsequent measurement of all financial assets and liabilities except those held-for-trading and available for sale are measured at amortized cost determined using the effective interest rate method. Held-for-trading financial assets are measured at fair value with changes in fair value recognized in earnings. Available-for-sale financial assets are measured at fair value with changes in fair value recognized in comprehensive income until the investment is derecognized or impaired at which time the amounts would be recorded in net earnings. In conjunction with the adoption of these new standards, the Company elected not to use hedge accounting for its natural gas derivative contract under its risk management program. The fair value of the commodity contract is recognized at each reporting period with the change in fair value being classified as an unrealized gain or loss on the statement of earnings. The impact in fair value is disclosed in note 9.

On adoption of the new standards, the Company elected to recognize, as separate assets and liabilities, only for those embedded derivatives in hybrid instruments issued, acquired or substantially modified after January 1, 2003. The Company did not identify any material embedded derivatives, which required separate recognition and measurement.

The new standards require a new statement of comprehensive income, which is comprised of net earnings and other comprehensive income which may report the changes in fair value in, derivatives designated as cash flow hedges and available-for-sale investments and foreign currency translation. The Company had no "other comprehensive income or loss" transactions during the three months ended March 31, 2007 and no opening or closing balances for the accumulated other comprehensive income or loss.



2. Property and equipment

($ thousands) Accumulated
Depletion and Net Book
As at March 31, 2007 Cost Depreciation Value
-------------------- ---------- --------------- ----------

Petroleum and natural gas
properties and well equipment $ 89,467 $ 22,501 $ 66,966
Office equipment 73 40 33
---------- --------------- ----------

$ 89,540 $ 22,541 $ 66,999
---------- --------------- ----------
---------- --------------- ----------

As at December 31, 2006
-----------------------

Petroleum and natural gas
properties and well equipment $ 85,756 $ 20,080 $ 65,676
Office equipment 73 38 35
---------- --------------- ----------

$ 85,829 $ 20,118 $ 65,711
---------- --------------- ----------
---------- --------------- ----------


The value of undeveloped lands excluded from costs subject to depletion was $8.1 million at March 31, 2007 ($7.6 million - December 31, 2006).

During the three months ended March 31, 2007, $0.2 million ($0.3 million - March 31, 2006) of general and administrative costs were capitalized.

3. Long-term bank debt

The Company has access to a revolving term credit facility with a Canadian chartered bank to a maximum of $22.0 million. The credit facility may be drawn with advances or bankers' acceptances or repaid. Direct advances bear interest at the bank's prime lending rate and the bankers' acceptances bear interest at the applicable bankers' acceptance rate plus a stamping fee.

The Company has available a $2.5(US) million demand swap facility, to assist in financing the contingent exposure of settlement for financial commodity swaps. The facility bears interest at a US base rate per annum on amounts drawn.

The revolving term credit facility is available for a period of 364 days until April 30, 2007. Up to 60 days prior to April 30, 2007 the Company may request an extension of the revolving facility for a period of another 364 days, subject to the bank's approval. If the Company does not request the extension or the bank does not agree to the extension, the credit facility principal borrowed will be repaid in full with a single payment 366 days subsequent to April 30, 2007. The nature of the lending facility is such that it is recognized as a long-term liability.

As of March 31, 2007, $19.5 million ($17.8 million - December 31, 2006) has been drawn against the revolving credit facility.

Security pledged for the facilities consists of a general assignment of book debts, a $40.0 million demand debenture, secured by a first floating charge over all the assets of the Company. The Company is not in breach of any covenants under its credit facility.



4. Asset retirement obligation

The following table summarizes changes in the asset retirement obligation
for the periods ended as indicated:

Three Months Year Ended
Ended March December 31,
($ thousands) 31, 2007 2006
----------------------------------------------------------------------------

Asset retirement obligation, beginning of period $ 3,527 $ 3,316
Adjustments - (122)
Liabilities incurred 1 301
Asset retirement expenditures (62) (98)
Accretion expense 31 130
------------- -------------
Asset retirement obligation, end of period $ 3,497 $ 3,527
------------- -------------
------------- -------------


The total estimated, undiscounted cash flows required to settle the obligations, before considering salvage, is $4.9 million as at March 31, 2007 ($4.9 million - December 31, 2006) which has been discounted using a weighted average credit-adjusted risk-free interest rate of 6.0 percent. The Company expects these obligations to be settled in approximately 1 to 14 years.

5. Share Capital

(a) Authorized

Unlimited number of voting common shares without nominal or par value.

Unlimited number of preferred shares issuable in series, with rights and privileges to be determined at the time of issuance by the Board of Directors.



(b) Issued

($ thousands, except number of shares) Number Amount
----------------------------------------------------------------------------

Balance, December 31, 2006 15,539,979 $33,314
Future tax on flow-through share issue - (1,791)
Shares repurchased and cancelled (80,000) (179)
------------- -------------
Balance, March 31, 2007 15,459,979 $ 31,344
------------- -------------
------------- -------------


(c) Flow-through share issue

On April 18, 2006 the Company issued, through a private placement, 1,000,000 common shares on a "flow-through" basis at a price of $6.10 per share for net proceeds (after share issue costs of $446,000) of $5,654,000. The Company is obligated to incur $6.1 million of qualifying expenditures prior to December 31, 2007. At March 31, 2007, the remaining obligation was approximately $0.3 million. The Company filed the renouncement documents with the tax authorities in 2007 resulting in the $1.8 million reduction of share capital for the future income tax effect.

(d) Shares repurchased and cancelled

In November 2006, the Company received regulatory approval under the Canadian securities laws to purchase and cancel up to 1,300,000 common shares under a normal course issuer bid. The issuer bid will terminate on November 6, 2007. During the first quarter period ended March 31, 2007, the Company purchased 80,000 common shares for total consideration of $228,000. Of the amount paid, $179,000 was charged to share capital and $49,000 was charged to contributed surplus. Since the commencement of the normal course issuer bid the Company has purchased 110,000 common shares for total consideration of $329,000.



6. Contributed Surplus

The following table reconciles the Company's contributed surplus for the
periods ended as indicated.

Three Months Year Ended
Ended March December 31,
($ thousands) 31, 2007 2006
----------------------------------------------------------------------------
Balance, beginning of period $ 820 $ 393
Stock-based compensation expense 48 322
Capitalized stock-based compensation 54 211
Exercise of options and performance warrants - (19)
Settlement of performance warrants - (52)
Reacquisition and cancellation of common shares (49) (35)
------------- -------------
Balance, end of period $ 873 $ 820
------------- -------------
------------- -------------


7. Per share amounts

Per share amounts have been calculated using the basic weighted average number of common shares outstanding of 15,506,285 during the three months period ended March 31, 2007 (14,523,313 - three months ended March 31, 2006). For the three month period ended March 31, 2007, a total of 211,131 (909,221 - 2006) were added to the total to take into account the dilutive effect of the options and warrants for the period.



8. Future income taxes

(a) The provision for income tax expense differs from that which would be
expected from applying the combined effective Canadian federal and
provincial income tax rate of 32.12% (35.62% - 2006) to income before
income taxes. The difference results from the following:

Three Months Ended
March 31,
($ thousands) 2007 2006
----------------------------------------------------------------------------
Expected income tax expense $ (44) $ 34

Increase (decrease) resulting from:
Non-deductible crown payments - 136
Resource allowance - (98)
Impact in effective tax rate applied (17) -
Stock based compensation expense 15 20
Other 2 (167)
Increase in ACRI - (48)
------------- -------------
Total future tax reduction $ (44) $ (123)
------------- -------------
------------- -------------

(b) The components of the future income tax liability are as follows:

March 31, December 31,
($ thousands) 2007 2006
----------------------------------------------------------------------------
Carrying value of property and equipment
In excess of available tax deductions $ 5,452 $ 3,718
Asset retirement obligation (1,027) (1,036)
Share issuance costs (201) (227)
Attributed Canadian Royalty Income (172) (172)
------------- -------------
$ 4,052 $ 2,283
------------- -------------
------------- -------------


9. Derivative instruments

The Company has a price risk management program whereby the commodity price associated with a portion of its future production can be fixed. The Company is able to sell forward a portion of its future production through a combination of fixed price sale contracts with customers and commodity swap agreements with financial counterparties. The forward and future contracts are subject to market risk from fluctuating commodity prices and exchange rates; however, gains or losses on the contracts are offset by changes in the value of the Company's production and recognized in income in the same period and category as the hedged item.



The Company uses derivative instruments to reduce its exposure to
fluctuations in commodity prices. The following table summarizes the
derivative contract in place at March 31, 2007:

Daily Unrealized
Notional Price Loss
Product Index Term Volume Received ($ thousands)
----------------------------------------------------------------------------
Gas Fixed AECO-C Apr. 1/07 1,500 GJ $7.54 per GJ 341
-Oct. 31/07


Masters Energy Inc. is an Alberta based corporation engaged in the business of acquiring or exploring for and developing oil and natural gas reserves in western Canada. Masters' common shares are listed on the Toronto Stock Exchange under the trading symbol "MSY".

ADVISORY

Certain information regarding the Company, including management's assessment of future plans and operations, may constitute forward-looking statements under applicable securities law and necessarily involve risks associated with oil and gas exploration, production, marketing and transportation such as loss of market, volatility of prices, currency fluctuations, impression of reserve estimates, environmental risks, competition from other producers and ability to access sufficient capital from internal and external sources: as a consequence, actual results may differ materially from those anticipated. The Company assumes no obligation to update the forward-looking statements or to update the reasons why actual results could differ from those contemplated by the forward-looking statements.

The Toronto Stock Exchange has neither approved nor disapproved of the information contained herein.

Contact Information

  • Masters Energy Inc.
    Geoff Merritt
    President and CEO
    (403) 290-1785
    or
    Masters Energy Inc.
    Randall Boyd
    Chief Financial Officer
    (403) 290-1785
    Website: www.mastersenergy.com