Wellco Energy Services Trust
TSX : WLL.UN

Wellco Energy Services Trust

May 07, 2007 09:50 ET

Wellco Announces First Quarter Results-May 7th, 2007

CALGARY, ALBERTA--(CCNMatthews - May 7, 2007) - Wellco Energy Services Trust (TSX:WLL.UN) is pleased to announce its financial results for the three months ended March 31, 2007, with comparisons to the comparable periods of 2006.

MANAGEMENT DISCUSSION AND ANALYSIS ("MD & A")



FINANCIAL HIGHLIGHTS
(Expressed in thousands of $, except per unit amounts)

For the 3 months ended March 31,
-----------------------------------
2007 2006 Change
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Revenue $ 35,492 $ 41,848 (15%)
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Gross Margin 14,294 18,472 (23%)
Gross Margin % 40% 44% (4%)
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G&A Expenses 4,907 4,011 22%
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Net earnings 6,207 9,022 (31%)
Per unit diluted 0.35 0.56 (38%)
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Funds from operations (1) 9,067 14,105 (36%)
Per unit diluted 0.51 0.87 (41%)
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EBITDA (1) 9,387 14,461 (35%)
Per unit diluted 0.52 0.89 (42%)
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Cash distributions declared 4,829 4,287 13%
Payout Ratio (1) 53% 30% (23%)
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Unitholders' equity 107,424 120,214 (11%)
Per unit diluted 6.00 7.43 (19%)
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Number of units outstanding
Basic 17,882,158 16,038,518 11%
Diluted 17,896,960 16,178,822 11%
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Total assets 173,406 165,262 5%
Long-term debt (incl. current portion) (38,938) (10,749) 262%
Net debt (1) (22,639) 13,998 (262%)
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(1) Refer to the "NON-GAAP Measures" section for further details.


This MD&A for the Trust, dated May 7, 2007, focuses on key statistics from the consolidated financial statements and pertains to known risks and uncertainties relating to the oilfield services industry. This discussion should not be considered all-inclusive, as it excludes changes that may occur in general economic, political and environmental conditions. This discussion and analysis of the financial condition and results of operations for the three months ended March 31, 2007, should be read in conjunction with the audited annual consolidated financial statements for the year ended December 31, 2006 and related notes and material contained in other parts of this report as well as the Trust's Annual Information Form ("AIF").

Additional information relating to Wellco, including Wellco's AIF, may be found on SEDAR at www.sedar.com, and is supplemental to, the consolidated financial statements and related notes contained in this report for the three months ended March 31, 2006. This MD&A was prepared effective May 7, 2007. The consolidated financial statements contained in this Interim Report have been prepared in accordance with Canadian Generally Accepted Accounting Principles ("GAAP") in Canadian dollars.

This MD&A may contain forward looking statements. All statements other than statements of historical fact contained herein are forward-looking statements, including without limitation, statements regarding the Trust's future financial position, business strategy, projected costs and plans and objectives of management for future operations. Many of these statements can be identified by looking for words such as "believe", "will", "intends", "projects", "anticipates", "estimates", "continues" or similar words or the negative thereof. The Trust cannot assure that the plan, intentions or expectations upon which its forward-looking statements are based will occur. The Trust's forward-looking statements are subject to risks, uncertainties and assumptions, including those discussed elsewhere in this MD&A. Although the Trust believes that the expectations represented in such forward-looking statements are reasonable, the Trust cannot assure that its expectations will prove to be correct. Some of the risks, among others noted in "Business Risks", which could affect the Trust's future results and could cause results to differ materially from those expressed in the Trust's forward-looking statements include, but are not limited to: risks inherent in the future prices of oil and natural gas and risks inherent in the prices for services and government fiscal regimes. Actual results may differ from those forecasted and such variations may be material.

PROFILE

Wellco Energy Services Trust provides a comprehensive array of integrated oilfield drilling and production services to organizations engaged in the exploration and production of oil and natural gas in Western Canada.

Wellco Energy Services Trust provides the following products and services:

- Accommodations (both camps and wellsite trailers)

- Full service catering

- Wastewater treatment rental

- Surface equipment rentals

- Production testing and frac blow-back tanks

- Service rigs

- Water and Wastewater treatment design and fabrication

Wellco is committed to supporting our clients' operating needs through an integrated suite of oilfield products and services. Our commitment to professional and timely service has given us the opportunity to build lasting, long-term working relationships with our clients.

FIRST QUARTER HIGHLIGHTS

- Placed a permanent sales and administrative person in Fort McMurray and continued to successfully expand our operations into this marketplace with our accommodations and catering, wastewater and surface rentals product lines.

- Expanded our Grande Prairie facility to accommodate our production testing division to enhance the potential growth opportunities of this product line, and to allow for the growth of our accommodations and catering division.

- Instituted a centralized invoicing team at our Calgary head office, with the goal of increasing customer satisfaction and streamlining invoicing procedures.

- Weaker industry activity levels continued in the Western Canada Sedimentary Basin (WCSB) resulting in a reduction in revenue and operating results for the Trust.

- Set record first quarter revenue levels for the accommodations and catering, wastewater and service rig segments.

- During March and early April, successfully negotiated an agreement to acquire Sanitherm Engineering Ltd (Sanitherm) (see subsequent event section of this MD&A for further details).

KEY PERFORMANCE DRIVERS

Wellco management believes the following key performance drivers are critical to the overall success of the Trust:

- The expectations of the Trust's customers, the exploration and development companies in the WCSB, as to future oil and natural gas prices and prospects in the WCSB.

- The prevailing competitive conditions in each of the product lines in which Wellco operates.

- Interest rates and the Trust's access to debt and equity, which affect the cost of capital and economic rate of return on the Trust's assets.

- Weather, which impacts both the ability to operate in the WCSB, as well as the overall demand for oil and natural gas.

- Non-industry forces such as government and securities regulators, which can create uncertainty and affect industry activity levels and profit margins.

- Access to, and retention of, qualified personnel.

KEY PERFORMANCE MEASURES

Wellco uses several key performance measures to assess its overall success.

Such measures include:

- Funds from operations per unit.

- Return on invested capital.

- Excellence, by exceeding our customers' expectations both in the quality of our products and the integrity and performance of our people.

- Expertise, by being a key player in each of our product lines to ensure that we maintain and grow our market position and add stability to the Trust's overall profitability.

- Continued dedication to provide a culture of safety and environmental stewardship.

- Low staff turnover and high work satisfaction by providing a respectful workplace.



OVERALL PERFORMANCE
($ thousands)

Three months ended
March 31
------------------------------------------
2003 2004 2005 2006 2007
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Revenues 6,849 17,838 24,807 41,848 35,492
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Three months ended
March 31
------------------------------------------
2003 2004 2005 2006 2007
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Declared Distributions 1,036 2,316 3,251 4,287 4,829
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Funds from operations 2,522 6,522 8,708 14,105 9,067
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There is no question that following two very successful years of setting and re-setting operating and financial performance records, the Trust's business has slowed down considerably in the latter part of 2006 and early 2007. Results for the first quarter ended March 31, 2007 fell below expectations and prior year amounts by most measures including revenue, funds from operations and net earnings. Revenue of $35.5 million and funds from operations of $9.1 million in the first quarter of 2007 represent decreases of 15% and 36% respectively as compared to the same period of 2006. Wellco's net earnings for the first quarter of 2007 were $6.2 million, or $0.35 per unit diluted, representing a decrease of 31% compared to $9.0 million, or $0.56 per unit diluted in the first quarter of 2006. These unfavourable variances are mainly a result of decreased market activity, slightly offset by increased equipment capacity from internal growth.

Consistent with trends established in the second half of 2006, demand for the majority of Wellco's services continued to be lower during the first quarter of 2007. A warm winter in North America, combined with continued high United States (US) natural gas drilling activity and minimal disruptions to the US offshore natural gas supply, impacted natural gas storage levels with an associated decline in spot prices. This reality impacted many of our customers' drilling activities, primarily in the shallow gas market, in the first quarter of this year and has also had bearing on the overall market outlook for 2007. As a result, the Trust experienced a reduction in various key financial metrics for the first quarter of 2007.

Wellco's pricing generally held for the quarter, but unlike 2006 we were unable to implement any pricing initiatives to help offset increased cost pressure due to the slow drilling activity seen in the marketplace. Equipment utilization across the majority of our product lines decreased for the first quarter as compared to the same time period of 2006.

Distributions declared to unitholders for the three month period ended March 31, 2007 were $4.8 million or $0.27 per unit, representing 53% of funds from operations for the period as compared to distributions of $4.3 million or $0.255 per unit, representing 30% of funds from operations for the same period of 2006. The period over period 23% increase in our cash payout ratio as a percentage of funds from operations reflects the decreased oil and gas drilling activity that affected the industry for the last three consecutive quarters. Also, in the first half of 2006 we made investments in the Trust's infrastructure and personnel, anticipating consistent activity levels, which did not occur.



INDUSTRY STATISTICS
For the 3 months ended March 31,
---------------------------------
2007 2006 Change
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Wells Drilled - Completion Basis 6,590 6,168 7%
Western Canada (1)
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Wells Rig Released (1) 5,984 7,611 (21%)
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Drilling Rig Utilization (1) 61% 91% (30%)
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(1) Source: Daily Oil Bulletin ("DOB") & Canadian Association of Oilwell
Drilling Contractors ("CAODC")


As illustrated in the above chart, the theme thus far in 2007 has been that well completions are up and rig releases are down as compared to 2006. Wells rig released (drilled) give a better indication of actual activity levels as reported completions are often time-delayed. For the first quarter of 2007, 5,984 wells were rig released across Canada, a 21% decline from the all-time high of 7,611 wells drilled for the first three months of 2006. This year's tally was the lowest since 2003. With this downturn in drilling, the two key provinces in which the Trust operates experienced some steep declines. Alberta and British Columbia saw the largest year-over-year declines in drilling with Alberta being off 24% in the first quarter and British Columbia down 45% versus a year earlier.

Not only is drilling activity a key factor in relation to the performance of the Trust, but so is drilling rig utilization. According to the CAODC, drilling rig utilization rates were down from 91% in the first quarter of 2006 to 61% for the same time period of 2007. The decline in utilization has resulted from curtailed shallow gas well drilling programs, combined with an overall increase in the industry's drilling rig fleet. On average for the first quarter of 2007, 526 rigs of an available 858 were drilling in Western Canada as compared to 702 rigs drilling of an available 774 for the same time period of 2006. In Alberta and British Columbia declines in drilling rig utilization year over year were approximately 30% and 21% respectively. We expect that the industry will see increased activity by the fourth quarter of this year.


ANALYSIS OF FINANCIAL RESULTS

Measuring Financial Success

Wellco management evaluates the Trust's success by measuring our corporate growth and profitability. We do not measure success based on what our financials looked like yesterday or what they will look like tomorrow, but by our long-term financial performance, which we believe is a shared vision by our valued unitholders.

We measure our financial success by tracking our performance against the following key measures:

- Revenue: revenue growth drives all of our other financial performance measures.

- Gross Margin: Gross margin represents revenue less direct costs, and is a key metric that we use to measure operational performance. It is our goal to maintain a consistent or increased margin for the Trust as compared to prior year levels.

- Funds from operations: Funds from operations (see Non-GAAP Measures section of this MD&A) provides an indication of our ability to grow our operations and to distribute income to our unitholders.

- Net Earnings: Net earnings represent our bottom line, and growing our net earnings per unit drives unitholder value. Growth or declines in revenue can contribute to an associated impact on gross margin, funds from operations and net earnings.

RESULTS OF OPERATIONS



Revenue

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Three months ended March 31,
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(in thousands of $) 2007 2006 $ Change % Change
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Drilling services revenue $ 26,174 $ 27,955 ($1,781) (6%)
Production services revenue 9,318 13,893 (4,575) (33%)
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Total revenue 35,492 41,848 (6,356) (15%)
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Wellco's total revenue for the first quarter of 2007 was $35.5 million, which represents a 15% decline versus the $41.8 million generated in the corresponding period of 2006.

Wellco's operations are reported in two segments. The drilling services segment includes accommodations and catering, wastewater treatment and surface equipment rentals. The production services segment includes our service rigs and production testing / blow back product lines. The following is a discussion of these two operating segments:

- For the first quarter of 2007, $26.2 million or 74% of the Trust's total revenue was derived from drilling services as compared to $28.0 million or 67% for the same period in 2006. The $1.8 million or 6% decrease in revenue over the same period of 2006 was mainly due to decreased revenue in our surface equipment product lines. This can mostly be attributed to the general market slow-down and many of the key projects we were servicing shut-down much earlier than in 2006. There has also been increased competitive activity in the surface equipment product lines. There was a large equipment build-up by our competitors in 2006, which has placed pressure on the marketplace. The excess inventory, accompanied with the market slowdown, resulted in a much more competitive environment as compared to the first quarter of 2006. The surface equipment decrease was offset by our accommodations and catering as well as our wastewater product lines. This was the result of our larger fleet in both of these product lines year over year due to our capital build program throughout 2006.

- The Production Services operating segment contributed $9.3 million in revenue or 26% of the Trust's total revenue for the first quarter of 2007, versus $13.9 million or 33% for the same period in 2006. The $4.6 million or 33% decrease over the first quarter of 2006 was driven by the poor performance of the production testing product line which was due to declines in industry activity, attributable to lower demand brought about primarily by the decline in natural gas prices. This was offset by our service rig product line due to having two additional rigs available to generate revenue as compared to the same time period in 2006.

A summary of the Trust's mix of revenues from our two operating segments is shown in the following table:



REVENUE SOURCE
Three months ended March 31,
----------------------------
2007 2006
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Drilling Services:
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Accommodations and Catering 45% 37%
Wastewater Treatment 17% 13%
Surface Equipment Rentals 12% 17%
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Total 74% 67%
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Production Services:
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Service rigs 13% 9%
Production testing / blow-back tanks 13% 24%
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Total 26% 33%
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Overall Total 100% 100%
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The breakdown of revenue from the drilling services and production services operating segments was 74% and 26% for the first quarter of 2007. Our initial expectations for the current year were for an allocation between drilling services and production services revenue to be 70% and 30% respectively. Given the recent and projected market activity, we now estimate the 2007 breakdown of revenue will be in the range of 75% drilling services and 25% production services.



Direct Costs and Gross Margin


Three months ended March 31,
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(in thousands of $) 2007 2006 $ Change % Change
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Direct costs $ 21,198 $ 23,376 $ 2,178 9%
As a percentage of revenue 60% 56% (4%)
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Gross margin 14,294 18,472 (4,178) (23%)
As a percentage of revenue 40% 44% (4%)
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Overall, operating expenses as a percentage of revenue increased from 56% in the first quarter of 2006 to 60% in the same time period of 2007. Unlike the first quarter of 2006 we were unable to implement pricing initiatives to help offset the inflationary impacts of our cost structure. Lower equipment utilization and resulting revenue declines combined with increased infrastructure and personnel costs were the main reason for our margin decline. Offsetting this was our ability, for the most part, to hold our price points in the marketplace as well as having a larger fleet to generate revenue. Various cost control measures have been initiated during March and April of this year, with the goal of increasing the Trust's gross margin back to 2006 levels.



General and Administrative Expenses (G&A)

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Three months ended March 31,
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(in thousands of $) 2007 2006 $ Change % Change
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G&A $ 4,907 $ 4,011 ($896) (22%)
As a percentage of revenue 14% 10% (4%)
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General and administrative expenses for the three month period ended March 31, 2007 were $4.9 million or 14% of revenue, as compared to $4.0 million or 10% of revenue in the comparable period of 2006. This $0.9 million increase in G&A expenses as compared to the first quarter of 2006 was mainly due to two areas. The first was costs associated with the cancellation of employee options in January 2007 of $0.4 million (2006 - $0.1 million) as we accounted for all the remaining unit compensation expenses that were related to these options. Secondly, costs in association with our new long-term incentive plan program generated expenses of $0.3 million (2006 - Nil). We expect that our G&A expenses will be back in line with 2006 levels in the remaining quarters of 2007.



Depreciation and Amortization

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Three months ended March 31,
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(in thousands of $) 2007 2006 $ Change % Change
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Depreciation and amortization $ 2,922 $ 2,201 ($721) (33%)
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For the three months ended March 31, 2007 depreciation expense was $2.8 million and amortization of intangible assets totalled $0.1 million, an overall increase of 33% compared to $2.1 million of depreciation and $0.1 million of amortization in the corresponding period of 2006. For the first quarter of 2007 and 2006, depreciation and amortization was 8% and 5% of revenue respectively. The overall increase in depreciation and amortization expenses are a direct result of the Trust's internal capital build program throughout 2006 as our property and equipment value on the balance sheet has increased by 32% for the first quarter year over year.



Interest - Long-Term and Other Debt

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Three months ended March 31,
----------------------------
(in thousands of $) 2007 2006 $ Change % Change
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Interest - long term debt and
other $ 679 $ 403 ($276) (68%)
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For the first quarter of 2007 interest expense on long-term and other debt was $679 thousand, as compared to $403 thousand in the corresponding period of 2006, representing an increase of $276 thousand or 68%. This was due to increased monthly balances of long-term debt in the first quarter of 2007 as compared to 2006. The increase of interest expense on long-term and other debt was also partially due to the Canadian prime bank rate change from 5.75% at March 31, 2006 to 6.0% at March 31, 2007. During the first quarter of 2006 a drawdown of our credit facility in the amount of $5.2 million occurred to fund the increase in accounts receivable balances that occur each year in the first quarter as well as to fund internal capital expenditures.



Loss on Disposal of Property and Equipment

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Three months ended March 31,
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(in thousands of $) 2007 2006 $ Change % Change
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Loss on disposal of property and
equipment $ 27 $ 41 $ 14 34%
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The loss on disposal of property and equipment for the three month period ending March 31, 2007 was $27 thousand compared to $41 thousand in the same time period of 2006. The first quarter 2007 loss is related to the disposal of two older non-utilized camps and one truck.



Income Taxes

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Three months ended March 31,
----------------------------
(in thousands of $) 2007 2006 $ Change % Change
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Future (reduction) ($448) $ 2,764 $ 3,212 116%
Current 0 30 30 100%
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Income tax expense (reduction) (448) 2,794 3,242 116%
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Income tax reduction for the first quarter of 2007 was ($448) thousand as compared to a $2.8 million expense in the corresponding period of 2006. The $3.2 million decrease is due to a decline in earnings quarter over quarter and recognition of enacted tax rate reductions by the Government of Canada which resulted in a $1.0 million future tax reduction in the first quarter of 2007. At the expected combined federal and provincial tax rate of 32.12%, net earnings before income taxes for the three month period ended March 31, 2007 of $5.7 million would have resulted in an income tax provision of $1.8 million compared to the actual recovery provision booked of ($448) thousand. The variance of $2.3 million in the provision from what would be expected was the result of a reduction to the provision of $1.4 million for income allocated to unitholders, a reduction of $1.0 million resulting from a decrease in enacted tax rates, and an increase of $0.1 million in the provision for non-deductible expenses and other items for income tax purposes.



Net Earnings

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Three months ended March 31,
----------------------------
(in thousands of $) 2007 2006 $ Change % Change
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Net earnings $ 6,207 $ 9,022 ($2,815) (31%)
Per unit - diluted 0.35 0.56 (0.21) (38%)
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Net earnings for the first quarter of 2007 were $6.2 million or $0.35 per unit, as compared to $9.0 million or $0.56 per unit in the corresponding period of 2006. The revenue and margin shortfall along with increases in G&A expenses for the first quarter of 2007 as compared to the same time period of 2006 are the main reasons for our year over year net earnings decline.



Distributions

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Three months ended March 31,
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(in thousands of $) 2007 2006 $ Change % Change
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Cash distributions declared $ 4,829 $ 4,287 $ 542 13%
Distributions per unit 0.270 0.255 0.015 6%
Payout ratio (1) 53% 30% (23%)
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(1) Refer to the "NON-GAAP Measures" section for further details.


Distributions declared to unitholders for the three month period ending March 31, 2007, were $4.8 million ($0.27/unit) or 53% of funds from operations compared to $4.3 million ($0.255/unit) or 30% of funds from operations for the same period of 2006. The increased payout ratio of 23% for the first quarter of 2007, compared to the same period of 2006 is a direct result of the overall decline in market activity and the associated impact on the Trust's overall funds from operations, combined with the Trust maintaining first quarter distribution levels to unitholders.

In order to fund the future growth opportunities available with Sanitherm (see subsequent event section of this MD&A for further details), and based on the current oil and gas industry activity levels, management determined that it would be beneficial to retain additional cash flow. Consequently, Wellco has reduced its distributions to unitholders by $0.02 per trust unit per month effective April 1, 2007. The monthly distribution will now be $0.07/unit ($0.84/unit annualized). We believe that with this reduction, our annualized payout ratio will be within our targeted range of 60 - 65% of funds from operations.

Pursuant to the trust indenture, distributions may be reduced, increased or suspended entirely depending on the operations of Wellco and the performance of its assets. The actual funds from operations available for distribution to holders of the trust units is a function of numerous factors including: the financial performance of the company; debt covenants and obligations; working capital requirements; maintenance and expansion capital requirements for the purchase of property and equipment; and the number of trust units outstanding.

For Canadian tax purposes, the non-taxable portion of distributions reduces a unitholders adjusted cost base of Trust units. Further corporate acquisitions and financing could serve to increase or decrease the non-taxable portion of distributions. The ultimate proportion of taxability of distributions will be determined each year based on the Trust's activities. The Trust recommends that unitholders consult their tax advisors regarding the tax implications of their investment in Trust units (see business risks section of this MD&A for further information).



Distributable Cash from Operations

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Three months ended March 31,
------------------------------
(in thousands of $) 2007 2006
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Funds flow provided by operating activities $ 2,623 $ 7,090
Add back:
Net change in non-cash working capital items (6,444) (7,015)
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Funds from operations before changes in
non-cash working capital items 9,067 14,105
Less:
Scheduled debt repayment (312) (481)
Maintenance capital expenditures net of proceeds (158) (38)
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Distributable cash from operations 8,597 13,586
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Less: Cash distributions declared 4,829 4,287
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Cash available for distribution and growth 3,768 9,299
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Distributable cash payout ratio (1) 56% 32%
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(1) Distributable cash payout ratio is calculated as distributions declared
for the period divided by distributable cash from operations.


For the quarter ended March 31, 2007 distributable cash from operations ("DCFO") was $8.6 million as compared to $13.6 million in the corresponding period of 2006. Distributable cash from operations did exceed distributions declared for the first quarter of 2007. The excess represents management's decision to retain a portion of DCFO to finance growth capital expenditures, debt repayment and to finance distributions in a slower second quarter each year. It is not management's intent to distribute 100% of distributable cash from operations. DCFO is not a recognized measure under GAAP. DCFO is a key performance measurement used by management and investors to evaluate the performance of the Trust.

Management of the Trust review the level and nature of distributions on an ongoing basis, giving consideration to current performance, historical and future trends in the business and expected sustainability of those trends as well as required long-term debt repayments, maintenance capital expenditures required to sustain performance and future growth capital opportunities.

The amount of cash available for distribution may vary from quarter to quarter and is dependent upon the seasonality of the Trust's operations and the timing of when capital expenditures are incurred. It is the Trust's policy to pay consistent distributions throughout the year despite the seasonality of Wellco's operations.

Maintenance capital expenditures are capital expenditures incurred during the period to maintain existing levels of service. This includes capital expenditures to replace property, building, and equipment disposed of and any costs incurred to enhance the operational life of existing property, building and equipment. As a result of the Trust's equipment being relatively new and the existence of a regular maintenance program for our equipment (such repairs and maintenance costs are expensed in operating expenses), expenditures for maintenance capital are currently minimal. Maintenance capital expenditures can fluctuate from period to period depending on requirements for upgrades or replacement of Wellco assets.



SUMMARY OF QUARTERLY RESULTS

(Expressed in thousands of $'s, except per unit amounts)
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Q1 Q4 Q3 Q2 Q1
2007 2006 2006 2006 2006
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Revenue $35,492 $26,217 $25,105 $17,490 $41,848
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Net earnings (loss) 6,207 (4,901)(1) 3,539 917 9,022
Per unit - basic 0.35 (0.27)(1) 0.20 0.05 0.56
Per unit - diluted 0.35 (0.27)(1) 0.20 0.05 0.56
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Funds from operations (2) 9,067 6,174 5,779 991 14,105
Per unit - basic 0.51 0.35 0.32 0.06 0.88
Per unit - diluted 0.51 0.34 0.32 0.05 0.87
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Distributions per unit 0.27 0.27 0.27 0.27 0.26
Payout ratio (2) 53% 78% 84% 477% 30%
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Q4 Q3 Q2
2005 2005 2005
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Revenue $30,257 $18,517 $10,795
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Net earnings (loss) 6,044 2,689 (192)
Per unit - basic 0.41 0.18 (0.01)
Per unit - diluted 0.41 0.18 (0.01)
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Funds from operations (2) 8,179 4,398 114
Per unit - basic 0.56 0.30 0.01
Per unit - diluted 0.55 0.30 0.01
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Distributions per unit 0.26 0.24 0.24
Payout ratio (2) 45% 79% 2932%
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(1) Includes impairment of goodwill charge of $8.6 million

(2) Refer to the "NON-GAAP Measures" section for further details.


Seasonality and Weather

The Trust's operations are carried out exclusively in Western Canada. The oilfield service industry in this area can be extremely cyclical as commodity price fluctuations can be compounded by seasonal trends. Accordingly, there could be a wide fluctuation in financial performance from quarter to quarter; year over year and quarterly results should not be annualized. The industry's ability to relocate heavy equipment in the traditional Canadian exploration and production areas is dependent on weather conditions. Seasonally, the first quarter is usually the most active and prosperous as winter ground conditions typically allow complete access to most well locations. In the second quarter, spring weather can soften ground conditions and can accordingly slow oilfield service activity. With the onset of spring bringing melting snow together with frost leaving the ground, this can render many secondary roadways incapable of supporting the weight of heavy equipment. Subject to dry weather, activity resumes and may gain momentum in the third and fourth quarters. During excessively rainy periods equipment moves may be delayed thereby adversely affecting operations. The timing of these periods, "spring break-up" and "winter freeze-up", have a direct bearing on the Trust's activity levels. Accordingly, the Trust's prime operating seasons are usually November through mid-March and July through late September.



LIQUIDITY

Operating Activities

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Three months ended March 31,
----------------------------
(in thousands of $) 2007 2006 $ Change % Change
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Funds flow provided by operating
activities $ 2,623 $ 7,090 ($4,467) (63%)
Add back:
Net change in non-cash working
capital items (6,444) (7,015) (571) 8%
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Funds from operations (1) 9,067 14,105 (5,038) (36%)
Per unit - diluted 0.51 0.87 (0.36) (41%)
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(1) Refer to the "NON-GAAP Measures" section for further details.


Net cash provided by operating activities was $2.6 million for the first quarter of 2007 compared to $7.1 million for the same time period of 2006. Funds from operations were $9.1 million ($0.51 per unit diluted) for the first quarter of 2007 as compared to $14.1 million ($0.87 per unit diluted) for the comparable period of 2006. The $4.5 million decrease in net cash provided by operating activities and the $5.0 million decrease in funds from operations year over year can be attributed to the decline in the Trust's revenue given the current softness of the marketplace in conjunction with increased infrastructure and personnel costs.

Net cash from operating activities is calculated by taking funds from operations and applying the impact of the net change in non-cash working capital items. Funds from operations represent net cash provided by operating activities before including the impact of the net change in non-cash working capital items. Funds from operations provided by operating activities are reliant on the generation of adequate earnings before non-cash items.

The Trust reinvests the remaining funds from operations provided by operating activities, after distribution payments to unitholders, into internal growth, acquisitions, and the repayment of long-term debt. Changes in industry activity may impact net cash provided by operating activities and funds from operations.

Financing Activities

Net cash generated by financing activities for the three months ended March 31, 2007 was $0.1 million as compared to $6.4 million for the comparable period of 2006. A summary of our financing activities for the three months ended March 31, 2007 include:

- Proceeds from operating line of credit and long-term debt of $5.2 million to fund our working capital requirements as well as our internal capital build program

- Payment of $4.8 million in trust distributions to our unitholders

- Repayment of long-term debt of $0.3 million

Investing Activities

Net cash utilized in investing activities for the first quarter of 2007 was $2.7 million as compared to $13.5 million for the comparable period of 2006. For the three months ended March 31, 2007, the investment activities were:

- Changes in non-cash working capital items in investing activities of $1.6 million

- $1.4 million expended on property and equipment additions

- Proceeds on disposal of property and equipment of $0.3 million

Working Capital

The Trust had working capital (defined as current assets less current liabilities) of $7.8 million at March 31, 2007, compared to $21.1 million at March 31, 2006 and $5.3 million at December 31, 2006. The Trust's current ratio (defined as current assets divided by current liabilities) remained relatively strong over the period at 1.3:1.0, as compared to 1.8:1.0 at March 31, 2006 and to 1.2:1.0 at December 31, 2006.

Credit Facility

The Trust has a credit facility in place with total availability of $60 million. At March 31, 2007, $45.0 million of the available $60 million was drawn and outstanding. The facility consists of an extendible revolving operating credit line of $20 million and an extendible revolving acquisition and capital expenditure facility of up to $40 million to finance corporate and internal growth. Various borrowing options are available under the facilities including prime rate based advances and banker's acceptance notes. The cost of borrowing under these facilities at the end of March 2007 was 6.0%, and at the end of March 2006 was 5.75% as the prime rate marginally increased year over year. All covenants of the banking facility were satisfied at March 31, 2007. The Trust does not anticipate any covenant issues restricting its future ability to pay distributions, or fund operating, investing or financing activities and believes that it has sufficient liquidity to operate its business and execute its strategic plan for the foreseeable future.

Management believes that, dependent on capital and market conditions, the Trust has the ability to raise additional capital through the public or private issuance of additional trust units, if required.

Please refer to the subsequent event section of this MD&A for information regarding our amended credit facility agreement.

Contractual Obligations

Wellco's contractual financial obligations are summarized as follows:



----------------------------------------------------------------------------
Payments Due by Year
CONTRACTUAL
OBLIGATIONS Total 2007 2008
----------------------------------------------------------------------------
Long-term debt (incl. current portion) $ 38,454 $ 8,230 $ 9,631
Operating leases 24,756 2,376 2,797
Obligations under capital lease 484 172 275
----------------------------------------------------------------------------
Total Contractual Obligations 63,694 10,778 12,703
----------------------------------------------------------------------------

----------------------------------------------------------------------------
CONTRACTUAL
OBLIGATIONS 2009 2010 2011 2011+
----------------------------------------------------------------------------
Long-term debt (incl. current portion) $ 9,509 $ 9,501 $ 1,583 $ 0
Operating leases 2,140 2,166 2,319 12,958
Obligations under capital lease 37 0 0 0
----------------------------------------------------------------------------
Total Contractual Obligations 11,686 11,667 3,902 12,958
----------------------------------------------------------------------------


The Trust intends to fund its long-term debt and obligations under capital lease through funds generated from operating activities.

CAPITAL RESOURCES

Capital Expenditures

For the three months ended March 31, 2007, $1.4 million was expended on additions to property and equipment which included $0.3 million on lands and buildings. The $0.3 million is related to costs incurred to date on our Grande Prairie facility expansion. In June or July 2007, we will complete a sale and leaseback of the Grande Prairie expansion for gross proceeds of approximately $2.5 million which will be equal to its carrying value.

The additions to property and equipment, including additions to lands and buildings under construction, consisted of:



----------------------------------------------------------------------------
CAPITAL EXPENDITURES Q1 2007 Remaining 2007 2007 Total Planned
(in thousands of $) Expenditures Expenditures Expenditures
----------------------------------------------------------------------------
Growth $ 733 $ 3,743 $ 4,476
Maintenance 158 1,595 1,753
Infrastructure 460 999 1,459
----------------------------------------------------------------------------
Total 1,351 6,337 7,688
----------------------------------------------------------------------------


----------------------------------------------------------------------------
CAPITAL EXPENDITURES Q1 2007 Remaining 2007 2007 Total Planned
(in thousands of $) Expenditures Expenditures Expenditures
----------------------------------------------------------------------------
Drilling Services:
----------------------------------------------------------------------------
Accommodations &
Catering $ 515 $ 2,113 $ 2,628
Wastewater Treatment 197 123 320
Surface Equipment
Rentals 25 0 25
----------------------------------------------------------------------------
Total - Drilling
Services 737 2,236 2,973
----------------------------------------------------------------------------
Production Services:
----------------------------------------------------------------------------
Service rigs 95 1,055 1,150
Production testing/
blow-back tanks 23 67 90
----------------------------------------------------------------------------
Total - Production
Services 118 1,122 1,240
----------------------------------------------------------------------------
Ancillary and
Infrastructure: 496 2,979 3,475
----------------------------------------------------------------------------
Total 1,351 6,337 7,688
----------------------------------------------------------------------------


Outstanding Trust Unit / Option Data

The following table summarizes Wellco's capitalization at December 31, 2006 and April 30, 2007:



----------------------------------------------------------------------------
Outstanding balance as at,
December 31, 2006 April 30, 2007
----------------------------------------------------------------------------
Trust units 17,882,158 17,882,158
Trust unit options 1,307,692 82,504
----------------------------------------------------------------------------


Between January 1, 2007 and April 30, 2007, a total of 1,225,188 trust unit options were surrendered and cancelled by directors, officers and employees.

On January 15, 2007 a new long-term incentive plan ("LTIP") was adopted, which includes awards of both restricted and performance plan units based on certain criteria. The number of plan units reserved for issuance under the plan will not exceed 5 percent of the total number of issued and outstanding trust units. The initial company grant in January 2007 was for 481,500 units or approximately 2.7% of the aggregate number of issued and outstanding trust units. The balance of plan units outstanding as of April 30, 2007 was 480,700 units. Granted units will vest as to 50% on the 18th month and 50% on the 36th month following the date of the grant. Vesting of performance units will be additionally based on attainment of certain performance criteria. Payout multipliers on the performance units range from 0.5, 1.0, 2.0 and are determined by corporate performance as established from time to time by the Board of Directors. Over the three year term the units will attract distributions and the Trust is currently required to settle its plan obligations in cash. The Trust will be seeking unitholder approval at our Annual and Special Meeting on Thursday, May 10, 2007 for the option to issue trust units in settlement of payment under the plan.

OFF-BALANCE SHEET ARRANGEMENTS

Wellco has not entered into any off-balance sheet arrangements (other than operating leases which are disclosed in the contractual obligation section of this MD&A) that have, or are reasonably likely to have, a current or future effect on the results of its operations or its financial condition.

TRANSACTIONS WITH RELATED PARTIES

There were no transactions with related parties during the three months ended March 31, 2007.

CRITICAL ACCOUNTING ESTIMATES

This MD&A of Wellco's financial condition, results of operations and funds from operations is based on its consolidated financial statements which are prepared in accordance with Canadian GAAP. The Trust's significant accounting policies are described in the Trust's 2006 annual report. In preparation of the Trust's financial statements management is required to make estimates and assumptions based on information available as of the date of the preparation of the consolidated financial statements that affect the reported amount of assets, liabilities, revenues, expenses and the disclosure of contingent assets and liabilities for the periods reported. These estimates and judgments are based on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Actual results could differ from these amounts.

The material accounting estimates in the financial statements as contained herein involve the valuation of property and equipment, unit-based compensation, goodwill and intangible assets, the determination of depreciation and amortization expense, collectibility of accounts receivable and the provision for income taxes.

The value of property and equipment, goodwill and intangible assets are subject to market conditions in the oil and gas industry. Depreciation is determined, taking into account the estimated useful lives of assets and their residual values. These estimates could change for a variety of reasons, including, but not limited to, abnormal wear and tear conditions and changes in technology and other economic factors that could result in obsolescence. Such changes could have a material effect on future depreciation expense. A schedule of these estimates is contained in the notes to the 2006 audited annual consolidated financial statements.

Unit-based compensation expense, associated with unit options at grant date, is subject to changes in risk-free interest rates, unit price volatility and distribution yield rates. This estimate may vary due to changes in actual unit price.

The Trust performs credit evaluations of its customers and grants credit based on past payment history, financial conditions and anticipated industry conditions. Customer payments are monitored regularly and an allowance for doubtful accounts provision is established based on specific situations. Given the cyclical nature of the oil and gas industry, these credit risks are subject to change.

The Trust has estimated its tax pools for the income tax provision. The actual tax pools that the Trust may be able to use could be materially different in the future. See note 10 in the notes to the 2006 audited annual consolidated financial statements for further information.

CHANGES IN ACCOUNTING POLICIES

Financial Instruments

On January 1, 2007, the Trust adopted the new Canadian accounting standards for Financial Instruments - Disclosure and Presentation, Financial Instruments - Recognition and Measurement, hedging and comprehensive income. Prior periods have not been restated.

The new standard of financial instruments prescribes when a financial asset or financial liability or non-financial derivatives is to be recognized on the balance sheet and at what amount, requiring fair value or cost-based measures under different circumstances. Financial instruments must be classified into one of the following five categories: held-for-trading, held-to-maturity, loans and receivables, available for sale financial assets or other financial liabilities. All financial instruments, including derivatives, are measured on the balance sheet at fair value except for loans and receivables, held-to-maturity investments and other financial liabilities which are measured at amortized cost. Subsequent measurement and changes in fair value will depend on initial classification, as follows: held-for-trading financial assets are measured at fair value and changes in fair value are recognized in net earnings; available-for-sale financial instruments are measured at fair value with changes in fair value recorded in other comprehensive income until the investment is derecognized or impaired at which time the amounts would be recorded in net earnings.

Under adoption of these new standards, we designated accounts receivable as loans and receivables, which are measured at amortized cost. Accounts payable and accrued liabilities, operating line of credit, distributions payable and long-term debt are classified as other financial liabilities, which are measured at amortized cost.

Effective January 1, 2007, and as provided for on transition, we selected a policy of immediately expensing transaction costs incurred related to financial liabilities. Previously transaction costs had been deferred and included on the balance sheet as deferred financing costs and amortized over the term of the related liability. Under the transitional provisions, the Trust retrospectively adopted this change in accounting policy without the restatement of prior period financial statements and incurred a charge to our deficit of $144 thousand (net of future tax of $59 thousand) related to the legal and financing fees on long-term debt.

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 financial instruments, if any. The Trust had no 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.

Additional disclosure requirements for financial instruments have been approved by the Canadian Institute of Chartered Accountants and will be a required disclosure beginning January 1, 2008.

Of Wellco's financial instruments, only its accounts receivable represents credit risk. Management views the credit risks with its customers as normal for the industry. Approximately 18% of the Trust's total sales for the first three months of 2007 were derived from one customer. This customer is considered a senior oil and gas producer and is among the largest in the industry. See note 11 in the notes to the March 31, 2007 interim consolidated financial statements for further information.

NON-GAAP MEASURES

The financial statements have been prepared in accordance with GAAP. Certain supplementary information and measures not recognized under GAAP are provided where management believes they assist the reader in understanding Wellco's results. These measures include:

1. Funds from operations - Funds from operations is defined as funds generated from operating activities before changes in non-cash working capital items. Funds from operations is not a recognized measure under GAAP. Management believes that funds from operations is a useful supplementary measure as it provides an indication of funds generated by operations before working capital adjustments. Investors should be cautioned, however, that funds from operations should not be construed as an alternative to cash provided by (used in) operating activities, determined in accordance with GAAP, as an indicator of the Trust's performance. The Consolidated Statement of Cash Flows in the interim consolidated financial statements at March 31, 2007 includes a reconciliation of funds from operations. Wellco's method of calculating funds from operations may differ from those of other companies, and accordingly, funds from operations may not be directly comparable to measures used by other companies.

The following is a reconciliation of cash flow provided by operating activities to funds from operations:



----------------------------------------------------------------------------
Three months ended March 31,
-----------------------------
(in thousands of $) 2007 2006
----------------------------------------------------------------------------
Funds flow provided by operating activities $2,623 $7,090
Add back:
Net change in non-cash working capital items (6,444) (7,015)
----------------------------------------------------------------------------
Funds from operations 9,067 14,105
----------------------------------------------------------------------------
Per unit - basic 0.51 0.88
Per unit - diluted 0.51 0.87
----------------------------------------------------------------------------


2. EBITDA - EBITDA is defined as earnings before interest, taxes, depreciation and amortization and (gain) or loss on sale of property and equipment. EBITDA is not a recognized measure under GAAP. Management believes, however, that EBITDA is a useful supplementary measure as it provides an indication of the operating results without regard to how these activities were financed or how the results were taxed. Investors should be cautioned, however, that EBITDA should not be construed as an alternative to net income determined in accordance with GAAP as an indicator of the Trust's performance. Wellco's method of calculating EBITDA may differ from those of other companies, and accordingly, EBITDA may not be directly comparable to measures used by other companies.

The following is a reconciliation of net earnings to EBITDA:



----------------------------------------------------------------------------
Three months ended March 31,
-----------------------------
(in thousands of $) 2007 2006
----------------------------------------------------------------------------
Net earnings $ 6,207 $ 9,022
Add:
Depreciation and amortization 2,922 2,201
Interest - long-term debt 534 318
Interest - other 145 85
Loss on disposal of property and equipment 27 41
----------------------------------------------------------------------------
9,835 11,667
Income taxes:
Future (reduction) (448) 2,764
Current - 30
----------------------------------------------------------------------------
EBITDA 9,387 14,461
----------------------------------------------------------------------------


3. Net Debt - Net debt is defined as working capital (current assets minus current liabilities) less long-term debt. Net debt is not a recognized measure under GAAP. Management believes this information to be useful as it illustrates the actual debt position of the Trust after working capital adjustments.



----------------------------------------------------------------------------
Three months ended March 31,
-----------------------------
(in thousands of $) 2007 2006
----------------------------------------------------------------------------
Current assets $33,940 $45,954
Less: Current liabilities 26,155 24,865
----------------------------------------------------------------------------
Working capital 7,785 21,089
Working capital ratio 1.3 1.8
----------------------------------------------------------------------------
Less: Long-term debt 30,424 7,091
----------------------------------------------------------------------------
Net debt (22,639) 13,998
----------------------------------------------------------------------------


4. Payout Ratio - Payout ratio is calculated as cash distributions declared divided by funds from operations. Payout ratio is not a recognized measure under GAAP. Management believes this ratio provides an indication of the amount of cash retained for future growth opportunities, debt repayment or incremental future distributions to unitholders. Wellco's method of calculating the payout ratio may differ from those of other companies, and accordingly, may not be directly comparable to measures used by other companies.



----------------------------------------------------------------------------
Three months ended March 31,
-----------------------------
(in thousands of $) 2007 2006
----------------------------------------------------------------------------
Cash distributions declared $ 4,829 $ 4,287
Funds from operations $ 9,067 $14,105
----------------------------------------------------------------------------
Payout ratio 53% 30%
----------------------------------------------------------------------------


BUSINESS RISKS

Certain activities of the Trust are affected by factors that are beyond its control or influence, some of which are summarized below. Additional risks and uncertainties that management may be unaware of, or that they determine to be immaterial may also become important factors which affect the Trust.

Oil and Gas Industry Conditions

The demand for Wellco's services is highly reliant on the levels of capital expenditures made by oil and gas companies on exploration, development and production activities. Exploration and production companies base their capital expenditures on several factors, including but not limited to hydrocarbon prices, production levels of their reserves, exploration and development prospects in various jurisdictions and access to capital. Oil and gas producers and explorers tend to examine long-term fundamentals affecting the foregoing factors before they adjust their capital expenditure plans. Risk factors associated with the Trust's operations relate to business factors and changes in government regulations. Should one or more of these risks materialize, actual results may vary materially from those currently anticipated. In recent years, commodity prices, and therefore, the level of drilling, production and exploration activity have been volatile. Any prolonged, substantial reduction in commodity prices will likely affect the activity levels of the exploration and production companies and the demand for the Trust's products or services. A significant prolonged decline in commodity prices would have a material adverse effect on the Trust's business, results of operations and financial condition.

Competitive Conditions

The various service lines in which the Trust operates are highly competitive. The Trust competes with several large national and multinational companies in the drilling and production equipment rentals and services business. Many of these companies have greater financial and other resources than the Trust. There can be no assurance that such competitors will not substantially increase the resources devoted to the development and marketing of products and services that compete with those of the Trust or that new competitors will not enter the various markets in which the Trust is active. In certain aspects of its business, the Trust also competes with a number of small and medium-sized organizations, which, like the Trust, have certain competitive advantages such as low overhead costs and specialized regional strengths.

Availability of Qualified Employees

The ability of the Trust to provide services is dependent upon attracting and retaining skilled personnel. The Trust attempts to overcome this by offering competitive compensation packages and training to enhance skills and career prospects with Wellco. The ability to secure the services of skilled personnel is constrained in times of strong industry demand.

Availability of Equipment or Parts and Relationships with Key Suppliers

The Trust's ability to expand its operations and provide reliable services is dependent upon timely delivery of new equipment and replacement parts from fabricators and suppliers. A lack of skilled labour to build equipment, combined with new competitors entering the oilfield service sector, is placing a strain on some fabricators which has substantially increased the order time on new equipment and increased uncertainty surrounding final delivery dates. Significant delays in the arrival of new equipment from expected dates may impact future growth and the financial performance of the Trust. The Trust attempts to mitigate this risk by maintaining strong business relationships with key fabricators and suppliers.

Tax Implications

On October 31, 2006 the Canadian Federal Department of Finance made an announcement relating to proposed changes to the taxation of income trusts. Included in this announcement was "a distribution tax on distributions from publicly traded income trusts and limited partnerships". The proposals would result in a two-tiered tax structure whereby distributions would be subject to a 31.5% tax at the Trust level commencing in 2011 and then unitholders would be subject to tax on the distribution as if it were a taxable dividend paid by a taxable Canadian corporation. This proposed change still needs to be approved by the Canadian government before becoming legislation. The proposed new tax measures will impair the flow-though nature of Wellco's current tax structure. The tax announcement had a significant impact on the Canadian equity markets with a significant devaluation of Trust unit prices. Despite the devaluation of Wellco's unit price following the taxation announcement, the Trust's core business remains unchanged. Wellco's management is currently assessing the proposed legislation and alternatives with respect to the future structure of the Trust.

Access to Additional Financing

The Trust has secured adequate financing facilities to meet its current growth requirements; however, it may find it necessary in the future to obtain additional debt or equity financing to support ongoing operations, to undertake capital expenditures or to complete business acquisitions. There can be no assurance that additional financing will be available to the Trust when needed or on terms acceptable to the Trust. Should the Trust not be able to access additional financing to facilitate the Trust's growth, this could have a material adverse impact on the Trust.

Alternatives to and Changing Demand for Petroleum Products

Fuel conservation measures, alternative fuel requirements, and technological advances in fuel economy and energy generation devices could reduce the demand for crude oil and other liquid hydrocarbons. We cannot predict the impact of changing demand for oil and gas products, and any major changes may have a material adverse effect on our business, financial condition and results of operations.

Environmental Legislation

In 2002, the Government of Canada ratified the Kyoto Protocol, which calls for Canada to reduce its greenhouse gas emissions to specified levels. Implementation of strategies for reducing greenhouse gases whether to meet the limits required by the Kyoto Protocol or as otherwise determined could have a material impact on the nature of oil and gas operations, including those of the Trust. The government of Canada has recently released a Climate Change Plan for Canada which suggests further legislation will set greenhouse gases emission reduction requirements for various industrial activities, including oil and gas exploration and production. Mandatory emissions reductions may result in increased operating costs and equipment expenditures for oil and gas producers and service providers. Management is unable to predict the impact of the Kyoto Protocol on Wellco and it is possible that it will adversely affect our business, financial condition and results of operations.

DISCLOSURE CONTROLS

The Chief Executive Officer ("CEO") and the Chief Financial Officer ("CFO") have evaluated the effectiveness of the Trust's disclosure controls and procedures, as at the end of the period covered by the interim filings, and have concluded that such disclosure controls and procedures were effective to provide reasonable assurance that material information related to the Trust or its subsidiaries is made known to them. It should be noted that while the Trust's CEO and CFO believe that the Trust's disclosure controls and procedures provide a reasonable level of assurance that they are effective, they do not expect that the disclosure controls and procedures will prevent all errors and fraud. A control system, no matter how well conceived or operated, can provide only reasonable, not absolute, assurance that the objective of the control system is met.

INTERNAL CONTROL OVER FINANCIAL REPORTING

Internal control over financial reporting is designed to provide reasonable assurance regarding the design and preparation of financial statements in accordance with Canadian GAAP and the reliability of financial reporting. During the quarter ended March 31, 2007 there have been no changes in the design of Wellco's internal controls over financial reporting that have materially affected, or are reasonably likely to materially affect, the Trust's internal controls over financial reporting. For further information on internal controls over financial reporting please refer to our 2006 annual report.

SUBSEQUENT EVENTS

Sanitherm Acquisition

On April 30, 2007 the Trust acquired all of the issued and outstanding shares of Sanitherm Engineering Ltd. ("Sanitherm"). The purchase price of the acquisition was $9.75 million, payable in cash, plus working capital adjustments and transaction costs. The acquisition was financed with the Trust's credit facilities. The Vendors have agreed to allocate 20% of the purchase price to open market purchases of Wellco Trust units over a four month period following the closing. These Trust units will be held in escrow by a third party and released to the Vendors in four increments of 25% over a two year period.

Sanitherm is a Vancouver, British Columbia based private company engaged in the design and assembly of both permanent and portable water and wastewater treatment systems. Sanitherm has been in business for approximately 60 years, providing design, assembly and installation of water and wastewater treatment plants around the world. The company recently completed a project for a major mining operation in Northern Ontario and its ongoing work includes a permanent wastewater facility for a large client in Fort McMurray as well as industrial and municipal clients in the United States. Sanitherm has been involved in over 350 installations in countries around the world including South Korea, Indonesia, Mongolia, Russia, Kazakhstan, Peru, the United Arab Emirates and Nigeria.

Sanitherm's cash flow before taxes for the 12 month period ending November 30, 2006 was approximately $2.2 million, 50% of which represented equipment purchased by Wellco. Sanitherm is expected to contribute $1.0 to $1.5 million in cash flow to the Trust in the first year, with the opportunity for significant growth thereafter as it expands beyond its current business.

Distribution Reduction

In order to fund the future growth opportunities available with Sanitherm, and based on the current oil and gas industry activity levels, management determined that it would be beneficial to retain additional cash flow. Wellco has reduced its distributions to unitholders by $0.02 per trust unit per month effective April 1, 2007. The monthly distribution will now be $0.07 per unit ($0.84 per unit annualized). We believe that with this reduction, our annualized payout ratio will be within our targeted range of 60 - 65% of funds from operations.

Amended Credit Facility

On May 2, 2007 the Trust executed a renewal and increase of our existing credit facility agreement from $60 million to $70 million with the National Bank of Canada and the Toronto Dominion Bank. Various borrowing options are available under the facility including prime rate based advances (based on certain covenants) and banker's acceptance notes. The facility requires no principal payments and is renewable annually, subject to mutual consent. If not renewed the facility is repayable over three years with a four year amortization period.

OUTLOOK

The first quarter of 2007 has set the stage for overall lower activity as compared to 2006. Adverse weather conditions in late March are expected to lengthen road ban periods. As a result, activity in the second quarter has been soft thus far. The reduced level of drilling rig activity has caused pricing pressure in the marketplace on some of our product lines.

The downturn in industry activity that we have observed over the past nine months has taken its toll on industry profitability and we expect 2007 to be a challenging year as compared to the record year the Trust had in 2006. With the onset of an earlier than expected spring break-up the downward cycle will continue to have unfavourable impacts as we move through the second quarter of 2007. We agree with industry analysts and their consensus estimates that more robust drilling activity levels in Canada are expected to occur starting in the latter stages of 2007 and early 2008. Consensus estimates are that drilling activity for fiscal 2007 will be down by 15 - 20% compared to 2006 due to the lingering effects of weak natural gas prices which can be associated with higher storage levels.

The Petroleum Services Association of Canada ("PSAC") recently released a new drilling forecast update which calls for an 18% decline in activity compared to 2006, a further dip from the 15% drop previously forecasted. This was driven largely by lower well counts in natural gas regions. In 2007, PSAC now expects 19,200 wells to be rig released across Canada, with gas activity declines more than offsetting the expected 15% increase on the crude oil side. The Daily Oil Bulletin records show close to 6,200 wells drilled over the first four months of 2007, down by over 23% from the same time period of 2006.

The Trust believes that long-term fundamentals require continued exploration and production in the WCSB to meet continued North American and world-wide demand for oil and gas. Despite the short-term weakness currently being experienced in our industry, we believe that the overall outlook for the oil and gas industry remains very positive for the longer term. The Trust remains in a long-term position of strength taking into consideration the $51 million we have just recently invested in growth capital in 2006, giving us a significant base of profitable assets to be deployed moving forward.

We recently announced that we have completed our acquisition of Sanitherm Engineering Ltd. of Vancouver. We are very excited about this addition as it ensures our access to, and reduces the cost of, additions to our fleet of wastewater units for the oilfield business; it provides us with the ability to access this business on a larger scale, especially into the Alberta oil sands, and it represents our entry point into the global water and wastewater treatment business.

We continue to strive for excellence in our services and ensure the safety of our valued employees and customers remains as always a high priority. We will continue to invest in personnel, new equipment, and employee training to ensure we are able to continue to meet our valued customer's expectations. These are the cornerstone of our organization, and our dedication to them will ensure our long-term success.

Wellco management is prepared to respond quickly to any prolonged or broader based slowdown in the industry. For 2007 we continue to focus on maximizing unitholder value by optimizing our prior capital investments in conjunction with various cost containment initiatives. Wellco is committed to meeting expected increased demand for our complementary group of product lines and is well positioned to deliver solid financial and operating performance moving forward into the latter part of 2007 and into 2008.

Kenneth M. Bagan, President & Chief Executive Officer

Corey Zahn, Vice President, Finance & Chief Financial Officer



WELLCO ENERGY SERVICES TRUST
Consolidated Balance Sheets

(Expressed in thousands of dollars)
(Unaudited)

----------------------------------------------------------------------------
----------------------------------------------------------------------------
March 31, December 31,
2007 2006
----------------------------------------------------------------------------

Assets

Current assets:
Accounts receivable $ 32,345 $ 25,338
Inventory 949 1,145
Prepaid expenses and deposits 646 714
---------------------------------------------------------------------------
33,940 27,197

Property and equipment (note 3) 120,268 122,081

Intangible assets (note 4) 1,505 1,617

Goodwill 17,693 17,693

Deferred financing costs (note 1(a)) - 203

----------------------------------------------------------------------------
$ 173,406 $ 168,791
----------------------------------------------------------------------------
----------------------------------------------------------------------------

Liabilities and Unitholders' Equity

Current liabilities:
Operating line of credit (note 5) $ 7,033 $ 3,803
Accounts payable and accrued liabilities 8,999 10,389
Distributions payable 1,609 1,609
Current portion of long-term debt (note 6) 8,514 6,047
---------------------------------------------------------------------------
26,155 21,848

Long-term debt (note 6) 30,424 31,203

Future income tax liability (note 7) 9,403 9,909

Unitholders' equity:
Trust units (note 8(a)) 119,533 119,533
Contributed surplus (note 8(b)) 775 416
Deficit (12,884) (14,118)
---------------------------------------------------------------------------
107,424 105,831

Commitments (note 9)
Subsequent events (note 12)

----------------------------------------------------------------------------
$ 173,406 $ 168,791
----------------------------------------------------------------------------
----------------------------------------------------------------------------

See accompanying notes to consolidated financial statements.

Approved on behalf of the Board of Directors of Wellco Energy Services Inc.,
Administrator of Wellco Energy Services Trust:

"Kenneth M. Bagan" Director "Martin Hall" Director
----------------------- ------------------------


WELLCO ENERGY SERVICES TRUST
Consolidated Statements of Earnings and Retained Earnings (deficit)

(Expressed in thousands of dollars, except per unit amounts)
(Unaudited)

----------------------------------------------------------------------------
----------------------------------------------------------------------------
Three months ended
March 31,
----------------------------
2007 2006
----------------------------------------------------------------------------
----------------------------------------------------------------------------

Revenue $ 35,492 $ 41,848

Direct costs 21,198 23,376
----------------------------------------------------------------------------
14,294 18,472

Expenses:
General and administrative 4,907 4,011
Depreciation and amortization 2,922 2,201
Interest - long term debt 534 318
Interest - other 145 85
Loss on disposal of property and equipment 27 41
---------------------------------------------------------------------------
8,535 6,656

----------------------------------------------------------------------------
Earnings before income taxes 5,759 11,816

Income taxes (note 7):
Future (reduction) (448) 2,764
Current - 30
---------------------------------------------------------------------------
(448) 2,794

----------------------------------------------------------------------------
Net earnings 6,207 9,022

Deficit, beginning of period (14,118) (4,023)

Change in accounting policy (note 1(a)) (144) -

Cash distributions declared (note 12(b)) (4,829) (4,287)

----------------------------------------------------------------------------
Retained earnings (deficit), end of period $ (12,884) $ 712
----------------------------------------------------------------------------
----------------------------------------------------------------------------

Earnings per unit:
Basic $ 0.35 $ 0.56
Diluted $ 0.35 $ 0.56
----------------------------------------------------------------------------
----------------------------------------------------------------------------

Weighted average number of units outstanding:
Basic 17,882,158 16,038,518
Diluted 17,896,960 16,178,822
----------------------------------------------------------------------------
----------------------------------------------------------------------------

See accompanying notes to consolidated financial statements.


WELLCO ENERGY SERVICES TRUST
Consolidated Statements of Cash Flows

(Expressed in thousands of dollars)
(Unaudited)

----------------------------------------------------------------------------
----------------------------------------------------------------------------
Three months ended
March 31,
----------------------------
2007 2006
----------------------------------------------------------------------------

Cash provided by (used in):

Operating:
Net earnings $ 6,207 $ 9,022
Items not affecting cash:
Depreciation 2,810 2,070
Future income taxes (reduction) (448) 2,764
Trust unit option compensation (note 8(b)) 359 77
Amortization 112 131
Loss on disposal of property and equipment 27 41
--------------------------------------------------------------------------
9,067 14,105
Net change in non-cash working capital items
(note 10) (6,444) (7,015)
---------------------------------------------------------------------------
2,623 7,090

Financing:
Distribution payments (4,829) (4,023)
Operating line of credit 3,230 1,847
Proceeds of long-term debt 2,000 8,500
Repayment of long-term debt (311) (30,731)
Issue of trust units, net of costs - 30,793
Increase in deferred financing costs - (14)
---------------------------------------------------------------------------
90 6,372
Investing:
Purchase of property and equipment (1,351) (10,025)
Proceeds on disposal of property and equipment 327 18
Change in non-cash working capital (note 10) (1,689) (3,455)
---------------------------------------------------------------------------
(2,713) (13,462)

----------------------------------------------------------------------------
Change in cash position - -

Cash, beginning of period - -

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

See accompanying notes to consolidated financial statements.


WELLCO ENERGY SERVICES TRUST
Notes to Consolidated Financial Statements

Three months ended March 31, 2007
(Amounts expressed in thousands of dollars, except per unit amounts)
(Unaudited)


1. Accounting policies:

Wellco Energy Services Trust (the "Trust") is an open-ended unincorporated investment trust governed by laws of the Province of Alberta and created pursuant to a Declaration of Trust dated May 28, 2002. The Trust is a diversified Canadian energy services trust operating in western Canada. The Trust has two operating segments which provide drilling and production services to oil and gas contractors and producers.

These interim unaudited consolidated financial statements of the Trust have been prepared by management in accordance with Canadian generally accepted accounting principles for interim financial statements and follow the same accounting policies and methods of computation as the consolidated financial statements for the fiscal year ended December 31, 2006, except for the change described in note 1(a). The disclosures provided below are incremental to those included in the annual consolidated financial statements such that these interim financial statements and the notes thereto should be read in conjunction with the Trust's audited financial statements for the year ended December 31, 2006 contained in the Trust's 2006 annual report.

(a) Financial instruments:

On January 1, 2007, the Trust adopted the new Canadian accounting standards for Financial Instruments - Disclosure and Presentation, Financial Instruments - Recognition and Measurement, hedging and comprehensive income. Prior periods have not been restated.

The new standard of financial instruments prescribes when a financial asset or financial liability or non-financial derivatives is to be recognized on the balance sheet and at what amount, requiring fair value or cost-based measures under different circumstances. Financial instruments must be classified into one of the following five categories: held-for-trading, held-to-maturity, loans and receivables, available for sale financial assets or other financial liabilities. All financial instruments, including derivatives, are measured on the balance sheet at fair value except for loans and receivables, held-to-maturity investments and other financial liabilities which are measured at amortized cost. Subsequent measurement and changes in fair value will depend on initial classification, as follows: held-for-trading financial assets are measured at fair value and changes in fair value are recognized in net earnings; available-for-sale financial instruments are measured at fair value with changes in fair value recorded in other comprehensive income until the investment is derecognized or impaired at which time the amounts would be recorded in net earnings.

Under adoption of these new standards, Wellco designated accounts receivable as loans and receivables, which are measured at amortized cost. Accounts payable and accrued liabilities, operating line of credit, distributions payable and long-term debt are classified as other financial liabilities, which are measured at amortized cost.

Effective January 1, 2007, and as provided for on transition, Wellco selected a policy of immediately expensing transaction costs incurred related to financial liabilities. Previously transaction costs had been deferred and included on the balance sheet as deferred financing costs and amortized over the term of the related liability. Under the transitional provisions, the Trust retrospectively adopted this change in accounting policy without the restatement of prior period financial statements and incurred a charge to our deficit of $144 (net of future tax of $59) related to the legal and financing fees on long-term debt.

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 financial instruments, if any. Wellco had no 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.

Additional disclosure requirements for financial instruments have been approved by the Canadian Institute of Chartered Accountants and will be a required disclosure beginning January 1, 2008.

2. Seasonality of operations:

The Trust's operations are carried out exclusively in western Canada. The industry's ability to relocate heavy equipment in the traditional Canadian exploration and production areas is dependent on weather conditions. With the onset of spring, melting snow together with frost leaving the ground, render many secondary roadways incapable of supporting the weight of heavy equipment until such time as they have thoroughly dried out. During excessively rainy periods, equipment moves may be delayed, thereby adversely affecting operations. In addition, the exploration areas of northern Canada are typically only accessible during winter months, when the surface is frozen hard enough to support heavy equipment. The timing of these periods, "spring breakup" and "winter freeze up", have a direct bearing upon the Trust's activity levels. Accordingly, the Trust's prime operating seasons are late November through mid March and July through late September.



3. Property and equipment:

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March 31, December 31,
2007 2006
Accumulated Net book Net book
Cost depreciation value value
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Service equipment $ 140,415 $ 26,501 $ 113,914 $ 115,982
Office and shop
equipment 4,646 1,613 3,033 3,054
Building and
leasehold
improvements 1,132 119 1,013 1,279
Land 2,308 - 2,308 1,766

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$ 148,501 $ 28,233 $ 120,268 $ 122,081
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Included in property and equipment at March 31, 2007 is certain equipment under capital lease with a cost of $1,102 and a net book value of $885. This equipment is classified as service equipment and is depreciated on the same basis as other service equipment.

The Trust has made various deposits on assets under construction totaling $313 which is included with service equipment and office and shop equipment above. These amounts are not depreciated until the equipment is received and put into use by the Trust. In addition, no depreciation has been accounted for building costs in the amount of $849 currently under construction.



4. Intangible assets:

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March 31, December 31,
2007 2006
Accumulated Net book Net book
Cost amortization value value
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Customer
relationships
and other $ 2,255 $ 750 $ 1,505 $ 1,617
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5. Operating line of credit:

The Trust has a $20,000 extendible revolving operating credit facility. Drawings bear interest at bank prime rate. The facility is secured by a general security agreement covering all of the assets of the Trust. The effective interest rate at March 31, 2007 was 6.0%. At March 31, 2007, $7,033 (December 31, 2006 - $3,803) was drawn on the facility.



6. Long-term debt:

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March 31, December 31,
2007 2006
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Extendible revolving acquisition facility of up
to $40,000 requiring no principal payments
during the term, secured by a general
assignment of book debts and a security
arrangement covering all assets of the Trust;
the effective interest rate at March 31, 2007
was 6.0%. The facility expires on May 30, 2007
renewable at the lenders option, for an
additional 364 day period. If not renewed, the
facility is repayable over a period of three
years with a four year amortization $ 38,000 $ 36,000

Term debt, repayable in monthly installments of
$51 plus interest at rates varying from 0% to
8.7%, maturing between April 2007 and December
2009 secured by the specific equipment 454 708

Obligations under capital leases, repayable in
monthly installments of $22 plus interest at
rates varying from 0% to 8.25%, maturing
between April 2007 and July 2009 secured by the
specific equipment 484 542
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38,938 37,250

Less: current portion 8,514 6,047

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$ 30,424 $ 31,203
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7. Income taxes:

The taxable income of the Trust is comprised of interest income related to notes receivable from a subsidiary less deductions for unit issue costs and general and administrative expenses.

The provision for income taxes differs from the amount computed by applying the combined Canadian federal and provincial statutory income tax rate for the following reasons:



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Three months ended
March 31,
----------------------------
2007 2006
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Earnings before income taxes $ 5,759 $ 11,816

Statutory income tax rate 32.12% 33.62%
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Expected income tax provision 1,849 3,973
Increase (decrease) resulting from:
Income allocated to unitholders (1,393) (1,256)
Reduction in tax rates (1,020) -
Non-deductible expenses 132 47
Other (16) 30
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Actual expense (reduction) $ (448) $ 2,794
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8. Trust units:

(a) Issued:

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Trust Units: Number Amount
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Balance, December 31, 2006 17,882,158 $ 119,533

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Balance, March 31, 2007 17,882,158 $ 119,533
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(b) Trust unit option plan:

In January 2003 the Trust established a unit option plan providing for the issuance of units to its officers, directors, employees and consultants. At March 31, 2007 a total of 1,788,216 options to purchase trust units are reserved to be granted. Of the amount reserved 82,504 are issued and outstanding. Under the plan, the exercise price of each option equals the market value of the Trust units on the date of the grant and each option's maximum term is five years. The exercise price may be adjusted downwards if trust distributions exceed certain levels. Options vest equally over a period of three years from the date of grant, and are subject to certain service requirements.



Changes in the number of options, with their weighted average exercise
prices are summarized below:

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Weighted
average
Number of exercise
options price
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Total options outstanding, beginning of period 1,307,692 $ 9.74
Cancellations (1,225,188) 10.02

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Outstanding, March 31, 2007 82,504 $ 5.35
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Exercisable at March 31, 2007 82,504 $ 5.35
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Options outstanding Options exercisable
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Number Weighted Number
Range of outstanding average Weighted exercisable Weighted
Exercise at remaining average at average
Prices March 31, contractual exercise March 31, exercise
Outstanding 2007 life (months) price 2007 price
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$5.00 - 6.35 82,504 15 $ 5.35 82,504 $ 5.35
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Trust unit option compensation expense is recognized using a modified Black-Scholes pricing model. This model takes into account various assumptions which include unit volatility and expected time until exercise. Expenses are incurred on a straight-line basis from date of grant of option until they have vested. A majority of the outstanding options were cancelled between January 1, 2007 and March 31, 2007. All compensation expense not previously recognized with respect to options cancelled was recognized immediately upon cancellation of the options resulting in compensation expense of $359 in the period. As at March 31, 2007 all remaining outstanding options have vested, and total trust unit option compensation expense has been recognized.



The following table reconciles the Trust's contributed surplus:

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2007
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Balance, beginning of year $ 416
Unit compensation expense 359

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Balance, March 31, 2007 $ 775
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(c) Deferred Unit Plan:

On January 15, 2007 the Trust established a long-term incentive plan and issued 481,500 deferred units to management, senior employees and directors of which 351,700 were restricted units and 129,800 were performance units. The number of units reserved for issuance under the plan shall not exceed 5 percent of the total number of issued and outstanding units. Granted units vest as to 50 percent on the 18th month and 50 percent on the 36th following the date of grant. Vesting of performance units is based on attainment of certain performance criteria. Over the three year term the units will accrue distributions and the trust is currently obligated to settle its plan obligations in cash. Payout multipliers on the performance units range from 0.5, 1.0 or 2.0 and are determined by corporate performance as established from time to time by the Board.

Compensation expense related to both the restricted units and the performance awards is based on the fair value of the award determined by the Trust's closing price at the end of the quarter (March 31, 2007 - $6.25). The fair value of the Performance Awards is calculated using a payout multiplier of 1.0. Both types of Unit awards accrue distributions as declared. Compensation expense is recognized on a straight-line basis throughout the term of the vesting period, with a corresponding increase to accrued liabilities. Compensation expense recognized during the period with regards to the deferred unit plan was $261 (2006 - Nil).



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Restricted Performance Total
Awards Awards Awards
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Initial grant January 15, 2007 351,700 129,800 481,500
Forfeited (400) (400) (800)

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Balance, March 31, 2007 351,300 129,400 480,700
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Restricted Performance Total
Vesting Date Awards Awards Awards
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July 1, 2008 175,650 64,700 240,350
January 1, 2010 175,650 64,700 240,350

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Total 351,300 129,400 480,700
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9. Commitments:

The Trust rents premises and equipment under multiple lease contracts with varying expiration dates. The minimum lease payments over the next five fiscal years are as follows:



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2007 $ 2,376
2008 2,797
2009 2,140
2010 2,166
2011 2,319
Thereafter 12,958

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$ 24,756
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10. Supplemental cash flow information:

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Three months ended
March 31,
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2007 2006
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Interest paid $ 636 $ 408
Interest received 5 5
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Income taxes paid $ - $ 17
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Changes in non-cash working capital components:
Accounts receivable $ (7,007) $ (9,026)
Inventory 196 90
Prepaid expenses and deposits 68 205
Accounts payable and accrued liabilities 299 1,702
Income taxes payable - 14
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(6,444) (7,015)

Changes in non-cash working capital items in
investing activities (1,689) (3,455)

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Change in non-cash working capital items in
operating activities $ (8,133) $ (10,470)
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11. Segmented information:

The Trust operates in two industry segments which are in one geographic segment. Drilling services includes accommodations and catering, wastewater treatment systems and surface equipment rentals. Production services include service rigs, production testing and the rental of frac blow back tanks.

The Drilling services operating segment includes services and rentals which assist oil and gas companies and contractors in drilling the oil and gas wells. The Production services operating segment includes services and rentals which assist oil and gas companies produce from the successful drilling of the oil and gas wells.



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Drilling Production
Services Services Corporate Total
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Three months ended
March 31, 2007:
Revenue $ 26,174 $ 9,318 $ - $ 35,492
Depreciation and
amortization 2,179 495 248 2,922
Interest on
long-term debt - - 534 534
Net earnings
(loss) 7,777 2,000 (3,570) 6,207
Goodwill 12,695 4,998 - 17,693
Property and
equipment 86,346 32,024 1,898 120,268
Capital
expenditures 1,083 125 143 1,351
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Three months ended
March 31, 2006:
Revenue $ 27,955 $ 13,893 $ - $ 41,848
Depreciation and
amortization 1,570 404 227 2,201
Interest on
long-term debt - - 318 318
Net earnings
(loss) 8,833 3,581 (3,392) 9,022
Goodwill 12,695 13,598 - 26,293
Property and
equipment 61,068 28,458 1,282 90,808
Capital
expenditures 6,256 3,594 175 10,025
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Approximately 17.8% (2006 - 22.9% based on two customers) of the Trust's total sales for the period were derived from one customer. This accounts for 24.7% (2006 - 28.8% based on two customers) of the revenue in the Drilling services segment and Nil (2006 - 12.1% - based on two customers) of the Production services segment revenue.

12. Subsequent events:

(a) Sanitherm acquisition:

On April 30, 2007, the Trust closed the acquisition of all of the issued and outstanding shares of Sanitherm Engineering Ltd. ("Sanitherm"). Sanitherm is a Vancouver, British Columbia based private company engaged in the design and assembly of both permanent and portable water and wastewater treatment systems. The purchase price of the acquisition is $9.75 million, payable in cash, plus working capital adjustments and transaction costs. The vendors have agreed to allocate 20% of the purchase price to open market purchases of Wellco Trust Units over a four month period following the closing. These Trust Units will be held in escrow by a third party and released to the Vendors in four increments of 25% over a two year period. The acquisition was financed with the Trust's credit facilities.

(b) Distribution reduction:

The Trust reduced its distributions to unitholders by $0.02 per trust unit per month ($0.84/unit annualized) effective April 1, 2007, which will result in an April distribution of $0.07 per unit.

(c) Amended credit facility:

On May 2, 2007 the Trust executed a renewal and increase of our existing credit facility agreement from $60 million to $70 million with the National Bank of Canada and the Toronto Dominion Bank. Various borrowing options are available under the facility including prime rate based advances (based on certain covenants) and banker's acceptances notes. The facility requires no principal payments and is renewable annually, subject to mutual consent. If not renewed the facility is repayable over three years with a four year amortization period.

13. Comparative figures:

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

Contact Information

  • Wellco Energy Services Trust
    Kenneth M. Bagan
    President & Chief Executive Officer
    (403) 232-6334
    (403) 232-6338 (FAX)
    or
    Wellco Energy Services Trust
    Corey Zahn
    Vice President, Finance & Chief Financial Officer
    (403) 232-6334
    (403) 232-6338 (FAX)
    Email: info@wellcoenergy.com
    Website: www.wellcoenergy.com