High Arctic Announces 2006 Results



    Net Income Grows to $17.1 million in 2006 from $0.6 million in 2005

    RED DEER, AB, March 22 /CNW/ - High Arctic Energy Services Trust (TSX:
HWO.UN) (the "Trust") today announces its financial results for year ended
December 31, 2006.

    
    Highlights:
    -   Revenue for 2006 increased 50% from the previous year to
        $123.8 million
    -   EBITDA for 2006 increased 28% to $34.9 million from $27.3 million in
        2005
    -   Net income for 2006 was $17.1 million compared to $0.6 million in
        2005
    -   Total distributions of $25.0 million were declared during the year
        from distributable cash of $30.2 million, for a payout ratio of 82.8%
    -   Equipment utilization rate in 2006 was 58% compared to 67% for 2005
        but above industry averages for each year
    -   Average revenue per well of $45 thousand, a 50% increase compared to
        $30 thousand per well for 2005
    -   Capital expenditures for rigs and equipment were $123.7 million
        during 2006 before changes in related working capital
    -   Subsequent to year end, the Trust announced that its Board of
        Directors had formed a special committee, comprised solely of
        independent directors, to consider the benefits of a reorganization
        of the Trust. It is expected that the proposed reorganization will
        include a conversion to a corporation; a restructuring of the Trust's
        long-term debt; and an issuance of equity from treasury. The Trust
        also announced that it was immediately suspending distributions
    

    "High Arctic's strong performance during its first full year as a public
company was overshadowed somewhat by the federal government's proposal to
change the tax policy regarding income trusts," said Jed Wood, Chairman and
Chief Executive Officer of High Arctic. "Our results demonstrate that the
strategic investments we have made in equipment, combined with our technical
capabilities, have positioned High Arctic for growth in both domestic and
international markets."
    "The special committee of our board and its independent advisors have
been working to provide a recommendation on reorganizing the Trust, which is
expected to include conversion to a corporation. We are also seeking permanent
capital to stabilize our balance sheet and pursue further international growth
opportunities. In the past months, we have been mobilizing people and
equipment around the world to service significant new contracts and contract
extensions."

    Revenues

    Total revenue for the year ended December 31, 2006 was $123.8 million, an
increase of 50% from $82.7 million total revenue for the year ended
December 31, 2005. In the fourth quarter of 2006, revenue was $37.6 million,
an increase of 18% from $32.0 million in the same period in 2005.
    Domestic revenues for the year ended December 31, 2006 increased by
$40.6 million or 63% to $104.8 million, compared to revenues of $64.2 million
for the year ended December 31, 2005. Commodity prices fluctuated in the year
and created uncertainty which dampened demand for the Trust's services. The
increase in revenue can be attributed to the addition of the 250K
Underbalanced Workover Rigs and RAPAD drilling rigs to the Trust's equipment
fleet in 2006. In addition, the Trust's bundling of its services, thereby
increasing services offered to customers involved in underbalanced well
construction, resulted in increased opportunities and utilization for the
Trust's current fleet.
    International revenue increased by approximately 3% to $19.0 million for
the year ended December 31, 2006, compared to $18.5 million for the year ended
December 31, 2005. The modest increase in international revenue was primarily
attributable to the later than expected commencement of contracts. New
contracts and contract extensions were recently announced in Thailand, Papua
New Guinea, Armenia, Oman and Saudi Arabia.
    Average revenue per well for the year ended December 31, 2006, was
$45,000 per well, a 50% increase compared to $30,000 per well for the year
ended December 31, 2005. The Trust continued its success in increasing its
revenue and revenue per well through application of the service bundling
concept and Integrated Project Management.
    Equipment utilization rate in 2006 was 58% compared to 67% for 2005. The
reduction was due to reduced industry activity. However, the Trust's
utilization rates compare favourably with industry averages provided by the
Canadian Association of Oilfield Drilling Contractors of 55% for 2006 and 59%
for 2005 respectively.

    Outlook

    To a substantial degree, the success of the Trust's domestic business
depends on the level of spending by exploration and production companies for
exploration, development and production activities. The oil and gas industry
has been subject to volatility in recent years due to significant changes in
the demand for, supply of, and pricing of natural gas and oil. Relative to
recent years, higher oil prices are expected to continue in 2007 and
management expects activity on oil production and completion services to be
steady.
    Industry activity in Canada in 2006 was negatively impacted by ongoing
concerns over natural gas commodity prices, in particular as it pertains to
shallow gas and coal bed methane exploration and development. Natural gas
inventory levels in North America continue at high levels resulting in
weakened near term natural gas prices. This development has caused exploration
and production companies to review the economic viability of natural gas and
coal bed methane exploration and development programs. This has reduced
drilling activities in these areas since the third quarter of 2006 and is
expected to continue until at least mid-2007. Activity levels in this market
have a direct impact on earnings of the Trust based upon the nature of the
equipment and services that it provides.
    The Trust currently expects to focus its 2007 growth efforts primarily on
international opportunities and within the growth limits proposed by the
recent announcements and proposed legislation announced by the Minister of
Finance for Canada in late 2006, if enacted into law. International industry
activity levels are expected to remain steady in 2007. The demand for oil and
natural gas remains high and the maturing of many reserve basins in the Middle
East is expected to result in further reserve optimization activities.
Management believes that this circumstance fits well with the Trust's product
service lines. An increase in new drilling activity is also expected, with
substantial funds expected to be spent by exploration and production companies
over the next five years. This will include development of new regions in
Africa, former Soviet Republics, Australia, Papua New Guinea, and Southeast
Asia as well as expansion of existing areas and new areas in the Middle East.
In September 2006 and February 2007, the Trust announced new contracts in
Thailand, Papua New Guinea and Oman and an extension of a contract with Saudi
Arabia's national oil company.
    "These new contracts make us optimistic about continuing our growth
through 2007," said Mr. Wood.
    The review by the Special Committee of the Board and the Trust's external
financial advisors in respect of assessing strategic alternatives is ongoing
and is expected to conclude by the end of March 2007. Should this timeline be
achieved and it be determined that, in addition to a restructuring of the debt
of the Trust, a conversion to a corporation should occur, then the Trust
anticipates placing this matter before Unitholders for approval prior to June
2007.

    Distributions

    On February 26, 2007, the Trust announced an immediate suspension of 
monthly distributions. As well, the Trust's distribution reinvestment plan
(DRIP) was previously suspended for distributions declared on or after
December 21, 2006.

    Non-GAAP Measures

    EBITDA (being earnings before the deduction of depreciation,
amortization, interest expense or income taxes), Adjusted EBITDA (being EBITDA
adjusted for pre-initial public offering management restructuring payments,
bonuses and/or retirement compensation arrangements or "RCA" payments) and
Adjusted EBITDA per Unit, "Oilfield Services Operating Margin", "Distributable
Cash", "Payout Ratio", "market capitalization", and "maintenance capital
expenditures" are non-GAAP financial measures, but management believes they
are useful in measuring the Trust's performance. Readers are cautioned that
these measures should not be construed as alternatives to net earnings or loss
or other comparable measures determined in accordance with GAAP as an
indicator of the Trust's performance or as a measure of the Trust's liquidity
and cash flow. The Trust's method of calculating non-GAAP measures may differ
from the methods used by other issuers and accordingly, the Trust's non-GAAP
measures may not be comparable to similarly titled measures used by other
issuers.

    Forward-Looking Statements

    This press release may contain forward-looking statements relating to
expected future events and financial and operating results of the Trust that
involve risks and uncertainties. Actual results may differ materially from
management expectations as projected in such forward-looking statements for a
variety of reasons, including market and general economic conditions and the
risks and uncertainties detailed in the Trust's management discussion and
analysis for the year ended December 31, 2006 and annual information form for
the year ended December 31, 2005, both of which can be found at www.sedar.com.
Due to the potential impact of these factors, the Trust disclaims any
intention or obligation to update or revise any forward-looking statements,
whether as a result of new information, future events or otherwise, unless
required by applicable law.

    About High Arctic

    The Trust, through its subsidiaries, is a global oilfield drilling and
production business, providing specialized underbalanced drilling and
production services to the Canadian and International oil and gas industry.
High Arctic's new underbalanced drilling technology and equipment is
recognized for its ability to improve oil and gas production capabilities and
is expected to develop greater acceptance in international markets. Based in
Red Deer, High Arctic has domestic operations in Alberta, British Columbia and
the Northwest Territories. International operations are currently active in
the Middle East, Southeast Asia, and former Soviet Republics.


    
    High Arctic Energy Services Trust
    Consolidated Balance Sheets
    As at December 31, 2006 and 2005
    -------------------------------------------------------------------------

    (in millions of dollars)
                                                            2006        2005
                                                               $           $
    Assets

    Current assets
    Cash and cash equivalents                                3.1         1.2
    Accounts receivable                                     38.4        31.8
    Inventory                                                2.3         1.2
    Prepaid expenses                                         0.8         0.5
    Due from related parties (note 9)                          -         0.9
                                                      -----------------------

                                                            44.6        35.6

    Investment (note 3)                                      3.0         3.0

    Property and equipment (note 4)                        123.9        51.1

    Rigs and equipment under construction (note 5)          61.9        27.1
                                                      -----------------------

                                                           233.4       116.8
                                                      -----------------------
                                                      -----------------------

    Liabilities

    Current liabilities
    Current portion of credit facility (note 6)             10.9        14.9
    Accounts payable and accrued liabilities                35.1        18.2
    Distributions payable (note 9)                           3.3         1.9
    Due to related parties (note 9)                          0.4           -
                                                      -----------------------

                                                            49.7        35.0

    Credit facility (note 6)                               107.7           -
                                                      -----------------------

                                                           157.4        35.0

    Non-controlling interest (note 7)                          -        52.4

    Unitholders' Equity
    Unitholders' capital (note 7)                           89.2        35.2
    Contributed surplus (note 8)                             0.7         0.2
    Retained earnings (deficit)                             15.6        (1.5)
    Accumulated distributions                              (29.5)       (4.5)
                                                      -----------------------

                                                            76.0        29.4
                                                      -----------------------

                                                           233.4       116.8
                                                      -----------------------
                                                      -----------------------

    Commitments and contingencies (note 10)

    See accompanying notes.



    High Arctic Energy Services Trust
    Consolidated Statements of Earnings and Retained Earnings (Deficit)
    For the years ended December 31, 2006 and 2005
    -------------------------------------------------------------------------

    (in millions of dollars, except per unit amounts)
                                                            2006        2005
                                                               $           $

    Revenue                                                123.8        82.7
                                                      -----------------------

    Expenses
    Oilfield services                                       72.3        45.8
    General and administration                              16.7         9.5
    Amortization                                            16.1        10.3
    Foreign exchange (gain) loss                            (0.1)        0.1
                                                      -----------------------

                                                           105.0        65.7
                                                      -----------------------

    Operating earings                                       18.8        17.0

    Interest (note 5)                                        0.9         0.9
    Pre-initial public offering management
     restructuring and bonus payments (note 14)                -        13.7
                                                      -----------------------

    Net earnings before income taxes                        17.9         2.4

    Income taxes                                             0.8         0.7
                                                      -----------------------

    Net earnings before non-controlling interest            17.1         1.7

    Non-controlling interest (note 7)                          -         1.1
                                                      -----------------------

    Net earnings                                            17.1         0.6

    Deficit - Beginning of year                             (1.5)       (2.1)
                                                      -----------------------

    Retained earnings (deficit) - End of year               15.6        (1.5)
                                                      -----------------------
                                                      -----------------------

    Earnings per unit - basic and diluted                   0.67        0.07
                                                      -----------------------
                                                      -----------------------

    See accompanying notes.



    High Arctic Energy Services Trust
    Consolidated Statements of Cash Flows
    For the years ended December 31, 2006 and 2005
    -------------------------------------------------------------------------

    (in millions of dollars)
                                                            2006        2005
                                                               $           $
    Cash provided by (used in)

    Operating activities
    Net earnings                                            17.1         0.6
    Add non-cash items
      Amortization                                          16.1        10.3
      Non-controlling interest                                 -         1.1
      Unit-based compensation                                0.5         0.2
                                                      -----------------------

                                                            33.7        12.2
    Change in non-cash working capital balances              5.4       (15.2)
                                                      -----------------------

                                                            39.1        (3.0)
                                                      -----------------------

    Investing activities
    Property and equipment, and rigs and equipment
     under construction                                   (123.7)      (52.2)
    Investment                                                 -        (3.0)
    Acquisition (note 13)                                      -        (3.6)
    Change in non-cash working capital balance               3.5         4.9
                                                      -----------------------

                                                          (120.2)      (53.9)

    Financing activities
    Advances from (to) related parties                       1.3        (1.1)
    Advances to a shareholder                                  -        (6.8)
    Proceeds from credit facility                          107.7        12.5
    Repayment of credit facility                               -       (32.5)
    Issuance of units, net of costs                            -        87.2
    Unitholder distributions                               (23.4)       (9.9)
    Change in non-cash working capital balances              1.4         1.9
    Change in current portion of credit facility           (4.0)         6.8
                                                      -----------------------

                                                           83.0         58.1
                                                      -----------------------

    Net increase in cash and cash equivalents               1.9          1.2

    Cash and cash equivalents - Beginning of year           1.2            -
                                                      -----------------------

    Cash and cash equivalents - End of year                 3.1          1.2
                                                      -----------------------
                                                      -----------------------

    Supplemental information
    Cash paid for:
    Interest                                                3.2          0.9
    Taxes                                                   0.8          0.7

    Non-cash items
    Units issued for acquisition (note 13)                    -          4.7
    Units issued for DRIP Plan (note 7)                     1.6            -

    See accompanying notes.



    High Arctic Energy Services Trust
    Notes to Consolidated Financial Statements
    December 31, 2006 and 2005
    -------------------------------------------------------------------------
    (tabular amounts in millions of dollars, except per unit amounts)

    1   Basis of presentation and structure of the Trust

        The Trust is an open-end unincorporated investment trust governed by
        the laws of the Province of Alberta and created pursuant to the
        Declaration of Trust dated June 10, 2005. The Trust was created to
        invest indirectly in the former business of High Arctic Energy
        Services Inc. ("HAES"), through an acquisition of a minority
        participating interest in High Arctic Energy Services Limited
        Partnership ("High Arctic"). High Arctic commenced operations on
        July 21, 2005 by acquiring all the business assets and interest of
        HAES and High Arctic Energy Corp. and is continuing with the same
        operations. Comparative figures represent the assets, liabilities,
        equity, and operations of these entities.

        The Trust's principal focus is to engage in the global oilfield
        services business by providing underbalanced drilling and production
        services, equipment, design and development and technical support and
        training to the Canadian and international oil and gas industry.

        The consolidated financial statements of the Trust give effect to the
        acquisition by the Trust of an indirect participating interest in
        High Arctic, which acquired the operating assets at the carrying
        value of HAES. The Trust has effective control of High Arctic and is
        considered a continuation of HAES and High Arctic Energy Corp. The
        indirect participating interest has been accounted for as a reverse
        takeover that does not constitute a business combination.

        The Trust's business is considered to have some seasonality with peak
        levels in the first and fourth quarters.

        These financial statements are stated in Canadian dollars and have
        been prepared in accordance with Canadian generally accepted
        accounting principles.

    2   Summary of significant accounting policies

        Measurement uncertainty

        The preparation of financial statements in conformity with Canadian
        generally accepted accounting principles requires management to make
        estimates and assumptions that affect the reported amount of assets
        and liabilities, disclosure of contingent assets and liabilities at
        the date of the financial statements and the reported amounts of
        revenues and expenses during the period. Such estimates include the
        amortization of property and equipment, recoverability of accounts
        receivable, valuation of unit-based compensation, accruals for
        contingencies and potential impairment of property and equipment.
        Actual results could differ from these estimates.

        Principles of consolidation

        These financial statements represent the accounts of the Trust and
        its subsidiary partnership, High Arctic, and include the latter's
        wholly-owned subsidiaries - High Arctic Energy Services (Barbados)
        Inc. and High Arctic Energy Services LLC.

        Consolidation of variable interest entities

        The recommendations of Accounting Guideline AcG15 were adopted in the
        December 31, 2004 and May 31, 2004 audited consolidated financial
        statements, resulting in the consolidation of two companies (High
        Arctic Energy Corp. and Tri-Equity Group Insurance Ltd.). These
        companies were consolidated as if they were subsidiaries of High
        Arctic with a non-controlling interest being recorded. In the quarter
        ended September 30, 2005, all the assets of High Arctic Energy Corp.
        were acquired by High Arctic and the business of Tri-Equity Group
        Insurance Ltd. was incorporated into the Trust.

        Cash and cash equivalents

        Cash and cash equivalents are comprised of cash and short-term market
        investments that are highly liquid in nature and have a maturity date
        of three months or less.

        Inventory

        Inventory consists primarily of operating supplies and spare parts
        and is valued at the lower of average cost and replacement cost.

        Property and equipment

        Property and equipment are recorded at cost less accumulated
        amortization. Equipment is amortized using the declining balance
        method over their estimated useful lives at the following rates:

           Automotive                                                    30%
           Computer hardware                                             30%
           Computer software                                            100%
           Equipment - field                                        10 - 30%
           Equipment - hydraulic workover rigs                      10 - 30%
           Equipment - snubbing, air drilling and
            nitrogen                                                10 - 30%
           Equipment - office                                            20%
           Leasehold improvements                   Lease term or five years

        Management assesses the carrying amount of property and equipment for
        impairment when events indicate that the carrying amounts is not
        recoverable and an impairment loss is recognized when the carrying
        amount is not recoverable and exceeds fair value. No impairment loss
        has been recorded to date.

        The Trust has revised its estimate of useful life of property and
        equipment to more effectively allocate costs over the assets' useful
        lives. The adjusted amortization rates on a declining balance method
        range from 10% to 30%. This change has been adopted prospectively
        beginning July 1, 2006. The impact of this change in estimate
        resulted in lower depreciation expense of $ 2.6 million for the year
        ended December 31, 2006.

        Rigs and equipment under construction

        Design and construction costs related to drilling and surface
        recovery equipment under construction, including all costs for
        preparing the asset for its intended use and interest capitalized
        during the construction period, are recorded as rigs and equipment
        under construction and are not subject to amortization until the
        asset is placed into service.

        Investments

        Investments in other companies over which the Trust does not have
        significant influence are accounted for by the cost method.
        Investments are written down to their net realizable value should a
        decline in value occur that is other than temporary.

        Income taxes

        The Trust is a taxable entity under the Canadian Income Tax Act and
        is taxable only on earnings that are not distributed to Unitholders.
        The tax deductions received by the Trust for distributions to
        Unitholders represent an exemption from taxation equivalent to the
        Trust's earnings. As a trust, it is also exempt from future income
        taxes as it is contractually committed to annually distribute
        sufficient amounts to eliminate income taxes (see also note 16).

        The Trust's subsidiaries use the liability method of tax allocation
        in accounting for income taxes. Under this method, future tax assets
        and liabilities are determined for the income tax consequences
        attributable to differences between amounts recorded in the financial
        statements and their respective tax bases, using substantially
        enacted tax rates. The effect of any change in income tax rates on
        future tax assets and liabilities is recognized in earnings in the
        period that the change occurs.

        On December 21, 2006 the Minister of Finance for Canada released for
        comment draft legislation concerning the taxation of certain publicly
        traded trusts and partnerships (such as the Trust). The legislation
        reflects proposals originally announced by the Minister on
        October 31, 2006. Under the proposed legislation, certain
        distributions will not be deductible to publicly traded income trusts
        and partnerships with the exception of real estate investment trusts
        and, as a result, these entities will in effect be taxed as
        corporations on the amount of the non-deductible distributions. For
        entities in existence on October 31, 2006, the proposed rules, if
        passed into law, would not apply until 2011.

        Research and development

        Research and development expenditures are expensed as incurred unless
        recovery of costs associated with the development of new tools and
        systems can be reasonably assured given existing and anticipated
        future industry conditions, in which case the costs are deferred and
        amortized.

        Employee benefit plans

        The Trust provides a defined contribution pension plan for employees.
        Contributions by the Trust are expensed when accrued. The Trust has
        no other post-retirement benefit plans.

        Foreign currency translation

        Transactions denominated in foreign currencies are translated at the
        rate of exchange in effect on the date of the transaction.

        Monetary assets and liabilities of integrated foreign operations are
        translated using the rate of exchange in effect at the balance sheet
        date, whereas non-monetary assets and liabilities are translated at
        historical rates of exchange. Revenues and expenses are measured at
        average monthly exchange rates, except for amortization, which is
        determined using the historical exchange rate. Gains and losses
        resulting from translation are included in the statement of income
        (loss).

        Revenue recognition

        The Trust's services are generally sold through contracts that
        include fixed or determinable prices based upon daily, hourly or job
        rates. Contract terms do not include provisions for significant post-
        service delivery obligations. Revenue is recognized when services are
        rendered or over equipment rental periods, and when collectability is
        reasonably assured.

        Unit-based compensation plans

        The Trust has a Trust Unit Option Plan which is described in Note 8.
        The fair value of Unit purchase options is calculated at the date of
        the grant using the Black-Scholes option pricing model. The value is
        recorded as compensation expense over the grant's vesting period with
        an offsetting credit to contributed surplus. Upon exercise of the
        Unit purchase option, the associated amount is reclassified from
        contributed surplus to Unit capital. Consideration received from
        employees upon exercise of options is credited to Unitholders'
        capital.

        Per Unit amounts

        Basic per Unit amounts are calculated using the weighted average
        number of Trust Units outstanding during the year. Diluted per Unit
        amounts are calculated as if all Exchangeable Shares are converted to
        Units and the non-controlling interest eliminated as well as the
        proceeds on the exercise of options being used to purchase Units at
        the average market price during the period.

        Comparative figures

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

    3   Investment
                                                            2006        2005
                                                               $           $

        Investment - at cost                                 3.0         3.0
                                                      -----------------------

        On October 14, 2005, the Trust exercised its option to acquire
        10 per cent of the outstanding shares of Sense EDM AS ("Sense/EDM"),
        for total cash consideration of 16.5 million kroner, or approximately
        $3.0 million Canadian. The entity is based in Norway and is a
        designer and manufacturer of drilling and well-service equipment. The
        Trust currently uses Sense/EDM equipment in its operations, has an
        exclusive license for use of their patented drilling technology and
        acquired one rig from Sense/EDM in 2005 and four rigs in 2006.
        Additionally, the Trust has two rigs under construction at
        December 31, 2006 and had previously agreed to purchase further rigs
        from Sense/EDM for future delivery (see note 10).

    4   Property and equipment

                                                                        2006
                                          -----------------------------------
                                                     Accumulated
                                                          amorti-
                                                Cost      zation        Net
                                                   $           $           $

        Automotive                               0.7         0.6         0.1
        Computer hardware                        0.7         0.2         0.5
        Computer software                        0.4         0.3         0.1
        Equipment - field                       29.6         7.0        22.6
        Equipment - drilling rigs               16.2         0.6        15.6
        Equipment - hydraulic workover rigs     60.7        11.5        49.2
        Equipment - snubbing, air drilling
         and nitrogen                           52.1        19.4        32.7
        Equipment - office                       0.5         0.1         0.4
        Leasehold improvements                   3.2         0.5         2.7
                                          -----------------------------------

                                               164.1        40.2       123.9
                                          -----------------------------------
                                          -----------------------------------


                                                                        2005
                                          -----------------------------------
                                                     Accumulated
                                                          amorti-
                                                Cost      zation         Net
                                                   $           $           $

        Automotive                               6.5         4.6         1.9
        Computer hardware                        0.3         0.1         0.2
        Computer software                        0.2         0.2           -
        Equipment - field                       19.6         4.7        14.9
        Equipment - hydraulic workover rigs     20.7         5.4        15.3
        Equipment - snubbing, air drilling
         and nitrogen                           28.1         9.7        18.4
        Equipment - office                       0.2           -         0.2
        Leasehold improvements                   0.3         0.1         0.2
                                          -----------------------------------

                                                75.9        24.8        51.1
                                          -----------------------------------
                                          -----------------------------------

    5   Rigs and equipment under construction

                                                            2006        2005
                                                               $           $

        Equipment - hydraulic workover and drillings rigs
        Opening balance                                     16.5           -
        Construction costs and capitalized interest
         added in the year                                  44.0        24.7
        Units completed and transferred to property
         and equipment                                     (36.6)       (8.2)
                                                      -----------------------

                                                            23.9        16.5
                                                      -----------------------

        Equipment - snubbing, air drilling and nitrogen
        Opening balance                                     10.6           -
        Construction costs and capitalized interest
         added in the year                                  40.0        11.5
        Units completed and transferred to property
         and equipment                                     (12.6)       (0.9)
                                                      -----------------------

                                                            38.0        10.6
                                                      -----------------------

                                                            61.9        27.1
                                                      -----------------------
                                                      -----------------------

        The Trust has capitalized interest on the equipment loan relating to
        rigs and equipment under construction. This policy was adopted
        beginning April 1, 2006 and not on a retroactive basis, as the
        interest on the equipment loan was not material in prior periods. A
        total of $2.3 million was capitalized to rigs and equipment under
        construction during the period ended December 31, 2006.

    6   Credit facility

        The Trust has a credit facility with a syndicate of commercial
        lenders. This credit facility is composed of a $20-million operating
        line and a $100-million equipment based revolving loan. Amounts drawn
        bear interest at prime plus 0.5% to prime plus 1% depending on the
        level to which the facility is drawn. At December 31, 2006 and at the
        date of these financial statements the rate in effect was prime plus
        1%. The operating line may be drawn to a maximum of the lesser of
        $20 million and 75% of Canadian accounts receivable aged less than
        90 days. The equipment loan may be drawn to a maximum of the lesser
        of $100 million and 75% of the appraised orderly liquidation value of
        eligible equipment. The obligations under the credit facility are
        secured by debentures under which the Trust and its Canadian
        subsidiaries grant security over all of their respective assets.

        At December 31, 2006, a total of $118.6 million of the facility had
        been drawn (December 31, 2005 - $14.9 million).

        The credit facility has a one year revolving term, which may be
        extended for an additional 364 days at the discretion of the lenders
        on application by the Trust. If the revolving period is not extended
        then the outstanding principal will become repayable in scheduled
        repayments over the subsequent three years as follows: 2007 -
        $10.9 million; 2008 - $43.1 million; 2009 - $43.1 million and 2010 -
        $21.5 million.

        At December 31, 2006, the Trust had a consolidated leverage ratio
        (generally defined in its credit facility agreement as total debt
        divided by the 12-month trailing adjusted earnings before interest,
        depreciation, amortization and taxes) of approximately 3.4 to 1.0.
        This exceeds the consolidated leverage ratio covenant required by the
        terms of the credit facility of 3.0 to 1.0. On March 9, 2007 the
        Trust and its lenders executed an amendment agreement effective
        December 31, 2006, that amends the maximum permitted consolidated
        leverage ratio at December 31, 2006 and March 31, 2007 to 3.6 to 1.0
        and for each quarter ended thereafter to 2.75 to 1.00.

    7   Unitholders' capital

        Authorized

        Trust Units
        The Declaration of Trust provides that an unlimited number of Trust
        Units may be issued. Each Trust Unit represents an equal, undivided
        beneficial interest in any distribution from the Trust in the event
        of termination or wind-up. All Trust Units are of the same class with
        equal rights and privileges.

        LP Units
        High Arctic will be authorized to issue, in addition to the 0.001%
        managing general partner's interest held by the General Partner, an
        unlimited number of LP Class A Units and an unlimited number of LP
        Class B Units and, subject to certain restrictions, such other
        classes of partnership interests as the General Partner may decide
        from time to time. All of the LP Class A Units will be held by a
        Holding Trust and all of the LP Class B Units will be held by HAES.
        Each LP Unit will rank equally with each other unit of the same class
        or series and no partner is entitled to any privilege, priority or
        preference in relation to any other partner holding units of the same
        class or series.

        Initially, (i) the number of issued LP Class A Units equalled the
        number of issued Trust Units and (ii) the number of issued LP Class B
        Units equalled the number of issued Series A Exchangeable Shares. The
        terms and conditions of the Partnership Agreement adjust the numbers
        of LP Class A Units and LP Class B Units from time to time to
        maintain such equalities until such time as all of the LP Units are
        owned directly or indirectly by the Trust.

        Exchangeable Shares
        Two series of Exchangeable Shares have been issued by a subsidiary of
        the Trust. The holders of Exchangeable Shares of each series have the
        right to receive Trust Units at any time after a specified hold
        period in exchange for their Exchangeable Shares, on the basis of the
        exchange ratio in effect at the time of the exchange. The Shares have
        voting attributes (through the benefit of the Special Voting Right
        granted to the trustee pursuant to the Voting and Exchange Trust
        Agreement) equivalent to those of the Trust Units into which they are
        exchangeable from time to time.

                                                2006                    2005
                              ----------------------- -----------------------

                                   Units      Amount       Units      Amount
                                                   $                       $

        Trust and LP Class A
         Units
        Opening balance        9,769,706        35.2           -           -
        Issuance on the
         Initial Public
         Offering ("IPO")              -           -   8,000,000        80.0
        Issuance on over
         allotment IPO                 -           -     400,000         4.0
        Issuance on private
         placement                     -           -     996,572        10.0
        Issuance on the
         purchase of Alberta
         Mobile Air Ltd.               -           -     373,134         4.7
        Units issued during
         the year for DRIP
         Plan and options        164,699         1.6           -           -
        Unit issuance costs            -           -           -        (6.8)
        Non-controlling
         interest at initial
         public offering                                               (56.7)
        Options exercised          2,000           -           -           -
                              -----------------------------------------------

        Total Trust and LP
         Class A Units issued  9,936,405        36.8   9,769,706        35.2
                              -----------------------------------------------

        Exchangeable shares
         (non-controlling
         interest as at
         December 31, 2005)
        Opening balance       15,745,453        52.4           -           -
        Issuance on the
         IPO - Series A
         Exchangeable shares           -           -  11,460,571        41.6
        Issuance on the
         IPO - Series B
         Exchangeable shares           -           -   4,152,381        15.1
        Change in conversion
         ratio - Series B
         Exchangeable shares(1)  445,355           -     132,501           -
        Non-controlling
         interest in net
         earnings                      -           -           -         1.1
        Distributions                  -           -           -        (5.4)
                              -----------------------------------------------

                              16,190,808        52.4  15,745,453        52.4
                              -----------------------------------------------

                              26,127,213        89.2  25,515,159        87.6
                              -----------------------------------------------
                              -----------------------------------------------

        (1) The Series B Exchangeable shares do not receive cash
            distributions. The exchange ratio of these shares is adjusted
            each month, on the distribution date, by an amount equal to the
            cash distributions converted to Trust Units based on the previous
            five trading days' weighted average unit price.

        During the year, the Trust introduced a Distribution Reinvestment
        Program ("DRIP Plan"). The DRIP Plan allowed eligible unitholders of
        the Trust to direct that their cash distributions to be reinvested in
        additional Trust units on the applicable distribution payment date.
        During the year $1.6 million of new equity was raised under this
        plan. The DRIP Plan was suspended on December 21, 2006 for
        distributions declared on or after that date.

        At the Annual General Meeting of the Trust and the Partnership, the
        unitholders voted for the removal of the subordination clause
        attached to the LP Class B units. As a result, the attributes of the
        Exchangeable Shares and the presentation of these shares have
        changed. The Exchangeable Shares, totalling $52.4 million, have been
        transferred from non-controlling interest to equity at carrying
        values, resulting in the elimination of the non-controlling interest.

        Cash Distributions

        On each distribution record date, the Trust distributes, to limited
        partners of record holding LP Class A Units and LP Class B Units,
        their portions of distributable cash as set out in the partnership
        agreement (see also note 16).

        Per Unit Amounts

        The weighted average number of units outstanding for the year ended
        December 31, 2006 was 25,684,439 basic fully and diluted units (year
        ended December 31, 2005 - 25,324,061 basic and fully diluted units).

    8   Unit-based compensation plans

        The Trust has a Trust Unit Option Plan that provides incentive for
        directors, management and key employees that provides options to
        purchase Units.  A total of 2,589,000 Units (10% of all outstanding
        units) are available for grants under the plan.

        At December 31, 2006, a total of 1,619,000 Unit options are
        exercisable up to 2011, at amounts that range from $5.83 to
        $13.87 per Unit. These options have all been issued since July 21,
        2005, have a term of 5 years and allow the holder to exercise their
        options over a three-year vesting period with 40% exercisable on the
        first anniversary date, 30% on the second anniversary date and 30% on
        the third anniversary date. The exercisable options have an average
        remaining contractual life of 4.17 years and 854,250 may be exercised
        in 2007.


                                                           Units      Amount
                                                                           $

        Granted                                          991,000       10.36
        Forfeited                                        (50,500)      10.42
                                                      -----------------------

        Total at December 31, 2005                       940,500       10.35

        Granted                                        1,063,500       10.66
        Exercised                                         (2,000)      10.00
        Forfeited                                       (383,000)      11.33
                                                      -----------------------

        Total at December 31, 2006                     1,619,000       12.62
                                                      -----------------------
                                                      -----------------------

        The Trust recognized unit-based compensation expense and contributed
        surplus of $0.5 million for the year ended December 31, 2006 (2005 -
        $0.2 million) using the following assumptions in the Black-Scholes
        model: average risk-free interest rate of 4.2%; average expected life
        of 5 years; expected volatility of 40% and a weighted average
        estimate of distribution yield of 10.99%.

    9   Related party transactions

        In the normal course of business, during the year ended December 31,
        2006, the Trust paid premises rent of $1.1 million ($0.7 million
        during the year ended December 31, 2005) and equipment and vehicle
        leases payments of $0.9 million ($0.5 million during the year ended
        December 31, 2005), to companies controlled by the CEO. The Trust had
        amounts payable in connection with the transactions at December 31,
        2006 of $0.3 million (December 31, 2005 - $0.3 million).

        These transactions are measured at exchange values based on rates
        charged to arms length customers which, in the opinion of management,
        approximate fair value.

        Included in revenues and accounts receivable for the year ended
        December 31, 2006 are $nil and $nil million respectively (2005 -
        $13.6 million and $9.0 million) in relation to a contract that
        commenced in August 2005 and ended in July 2006 with a company in
        which the CEO has an ownership interest.

        Included in distributions payable is an amount of $2.2 million due to
        companies controlled by the CEO that elected to defer receipt of
        monthly distributions to which they were entitled for November and
        December 2006.

        Amounts due to or from the related parties are non-interest bearing,
        unsecured and repayable on demand.

    10  Commitments and contingencies

        Rigs Under Construction

        In July 2005, the Trust entered into a contract with Sense/EDM AS
        ("Sense/EDM"), a Norwegian rig manufacturer, to purchase sixteen
        drilling rigs with an option to cancel the order for all but five of
        the rigs, subject to certain conditions. During 2006, the Trust
        determined that it only wished to take delivery of and complete ten
        of the contracted-for rigs for an estimated cost of approximately
        $65.0 million, with deliveries forecast to take place in 2006 and
        2007. As a result, the Trust cancelled the order for the remaining
        six rigs.

        In 2006, the Trust took delivery of and completed four rigs for a
        total cost of $29.2 million. At December 31, 2006, rigs and equipment
        under construction includes $16.9 million for the remaining rigs,
        with an additional estimated cost of approximately $6.0 million to
        complete two of the rigs in 2007. In accordance with performance
        provisions in the contract and in light of late deliveries and other
        performance issues of Sense/EDM, the Trust commenced negotiations to
        suspend the order for the final four of six rigs under construction.

        On March 6, 2007, Sense/EDM asserted that the Trust was still
        required to take delivery of the final four rigs and that they are
        owed approximately $20 million, including interest, for costs
        pertaining to the acquisition and completion of these rigs and for
        the rigs delivered to date or under construction.

        At December 31, 2006, the Trust had recorded net amounts payable to
        Sense/EDM of approximately $3 million. After a review of the
        Sense/EDM assertions, the Trust recorded an additional provision as
        of that date of $5 million. The Trust believes that the total of
        $8 million now provided for in these financial statements represents
        the maximum amount it is exposed for under this contract as at
        December 31, 2006.

        The Trust has continued negotiations with Sense/EDM regarding the rig
        delivery schedule and the assertions referred to above. On March 21,
        2007 Sense/EDM notified the Trust that it will consider alternatives
        for resolution that would include a potential sale of the investment
        in Sense/EDM shares held by the Trust to parties affiliated with
        Sense/EDM at an amount that exceeds their net book value, a
        renegotiation of the delivery schedule for the four suspended rigs
        and a joint audit of all disputed costs, including interest.

        Income Taxes

        The Trust has been informed by a customer in Turkmenistan that there
        is a possible exposure to the Trust of US$1.9 million for taxes in
        that jurisdiction. Management believes that it has calculated and
        remitted all taxes properly due in Turkmenistan and the remaining tax
        exposure is without merit. Therefore, no amount has been accrued in
        these financial statements for this potential exposure.

        Lease Obligations

        The Trust has entered into long-term premises leases with a related
        party, described in note 9, that expire in 2009. The leases contain
        an option to renew for a further five years. Future minimum lease
        payments as at December 31, 2006 are:

                                                   $

              2007                               1.3
              2008                               1.2
              2009                               0.8
                                          -----------

                                                 3.3
                                          -----------
                                          -----------

    11  Financial instruments

        Fair value

        The carrying value of accounts receivable, accounts payable and
        accrued liabilities, distributions payable and amounts drawn under
        the credit facility approximate their fair value due to the
        relatively short period to maturity of the instruments or the
        interest rates attached to the instruments. The fair value of due to
        related parties is not practical to determine since there are no
        specified repayment terms.

        Credit risk

        The Trust is exposed to credit risk on the accounts receivable from
        its customers. To reduce its credit risk, the Trust has adopted
        credit policies which include the analysis of the financial position
        of its customers and the regular review of their credit limits. An
        allowance for doubtful accounts has been established based upon
        factors surrounding the credit risk of specific customers, historical
        trends and other information.

        During the year ended December 31, 2006, 39% of the Trust's sales
        (December 31, 2005 - 42%) were to two customers. At December 31,
        2006, 56% of the Trust's accounts receivable (December 31, 2005 -
        53%) were from these customers.

        Interest rate risk

        The Trust is exposed to interest rate price risk in respect of any
        long-term debt which bears a fixed rate of interest.

        Foreign exchange risk

        Foreign exchange risk is the risk that variations in exchange rates
        between the Canadian dollar and foreign currencies will affect the
        Trust's operating and financial results. The Trust earns a portion of
        revenue and pays a portion of expenses in foreign currencies and does
        not use derivative instruments to reduce its exposure to foreign
        exchange risk.

    12  Segmented information

        The Trust operates one business of providing oilfield services to
        customers. This business has the following geographic
        characteristics:
                                                            2006        2005
                                                               $           $

        Revenue
        Canada                                             104.8        64.2
        International
          Turkmenistan                                       5.8         6.0
          Ukraine                                            3.4         0.7
          United Arab Emirates                               2.8         5.9
          Oman                                               2.2           -
          Papua New Guinea                                   1.8         0.5
          Other                                              3.0         5.4
                                                      -----------------------

          Total International                               19.0        18.5
                                                      -----------------------

                                                           123.8        82.7
                                                      -----------------------
                                                      -----------------------


        Property and equipment and rigs and equipment
         under construction
        Canada                                             148.0        66.0
        United Arab Emirates                                32.8        12.2
                                                      -----------------------

                                                           180.8        78.2
                                                      -----------------------
                                                      -----------------------
    13  Acquisitions

        On September 1, 2005 the Trust, through High Arctic, acquired the
        property and equipment of Alberta Mobile Air Services (1998) Inc.
        ("AMA"). The aggregate purchase price was $8.3 million, composed of
        $3.6 million in cash and $4.7 million in Trust Units. The amount by
        which the purchase price exceeded the net book value of the assets
        acquired was allocated to property and equipment representing their
        estimated fair market value. AMA provides portable compression
        services to the drilling and pipeline industries, including
        underbalanced drilling with air-generated nitrogen from skid-mounted
        units and the purging and air drying of pipelines.

        On February 1, 2006, the Trust purchased the assets of Kamber Well
        Service Ltd. for $4.7 million. The purchase included two rigs and
        related support equipment, and has been accounted for as an addition
        to property and equipment. The Trust utilized cash and its credit
        facility to acquire the assets.

    14  Pre-initial public offering management restructuring and bonus
        payments

        Options

        In 2002, HAES granted an option to a Canadian employee to purchase
        10% of the issued shares of the company for $1.00 per common share.
        The option was subject to certain conditions specified in the
        agreement, including repayment of company debt on or before July 1,
        2007. Upon closing of the initial public offering, these options were
        cancelled and in return the employee received 830,476 Series A
        Exchangeable Shares from those held by the Chief Executive Officer of
        HAES.

        In 2004, HAES granted further options to two Dubai employees whereby
        each employee had an option to purchase 10% of the issued shares of
        the company for $1.00 per common share. The options were subject to
        certain conditions specified in the respective agreements, including
        repayment of company debt and that the employee must be an employee
        of HAES as at September 14, 2007. Pursuant to an agreement with these
        employees, immediately prior to the issuance of Units by the Trust an
        amount of approximately $10.0 million was paid to the Dubai employees
        for the cancellation of their respective stock options. This amount
        was expensed in these financial statements as a pre-initial public
        offering management restructuring payment. The employees reinvested
        the $10.0 million through a private placement for 996,572 trust
        units, concurrent with the closing of the initial public offering.

        Retirement compensation arrangement and bonuses

        During the year ended May 31, 2004, a retirement compensation
        arrangement ("RCA") was established. The RCA allowed funds to be
        contributed at a level determined by management to fund the
        retirement of the Chief Executive Officer. Additionally, prior to the
        creation of the Trust, amounts were paid to the Chief Executive
        Officer to optimize the tax expense of HAES.

        For the year ended December 31, 2006 $nil (December 31, 2005
        $3.7 million) was expensed for the RCA and bonuses.

    15  Supplementary information

        The net change in the following non-cash working capital items
        increases (decreases) cash flow as follows:

                                                            2006        2005
                                                               $           $

        Operations
        Accounts receivable                                (6.6)       (18.1)
        Inventory and prepaid expenses                     (1.4)        (0.7)
        Accounts payable and accrued liabilities           13.4          5.5

        Bonuses and RCA payable                               -         (1.9)
                                                      -----------------------
                                                            5.4        (15.2)
                                                      -----------------------
                                                      -----------------------
        Investing
        Accounts payable and accrued liabilities            3.5          4.9
                                                      -----------------------
                                                      -----------------------

        Financing
        Distributions                                       1.4          1.9
                                                      -----------------------
                                                      -----------------------

    16  Subsequent events

        On February 26, 2007, the Trust announced that its Board of Directors
        had formed a special committee, comprised solely of independent
        directors, to consider the benefits of a reorganization of the Trust.
        It is expected that the proposed reorganization will include a
        conversion to a corporation; a restructuring of the Trust's long-term
        debt; and an issuance of equity from treasury. The Trust also
        announced that it was suspending distributions.

        In March 2007, the Trust entered into an amendment agreement with its
        lender as discussed in note 6 and commenced negotiations of a new
        $10 million short-term debt facility with an existing lender. The new
        facility is anticipated to be due May 30, 2007 and bear interest
        payable monthly at an annualized rate of prime plus 4.75% on any
        amounts drawn. This rate will increase to prime plus 6.75% on
        April 1, 2007 and prime plus 8.75% on May 1, 2007. In addition, the
        Trust will issue the lender warrants to acquire 1% of the
        fully-diluted Trust units, exercisable for three years, at a price
        based on the 10 day weighted average trading price prior to closing
        of the facility.

        In March 2007, the Trust and a key equipment supplier continued
        negotiations to resolve disputed matters pertaining to an agreement
        to supply rigs (see note 10).



                      High Arctic Energy Services Trust
                     Management Discussion and Analysis
                         Year Ended December 31, 2006

    
    The following is Management's Discussion and Analysis ("MD&A") of the
financial condition and results of operations of High Arctic Energy Services
Trust (the "Trust") for the year ended December 31, 2006, as compared to the
year ended December 31, 2005, and for the fourth quarter of 2006, as compared
to the same period in 2005. It also contains opinions and information on the
Trust's future outlook based upon currently available information. It should
be read in conjunction with the audited consolidated financial statements and
accompanying notes for the year ended December 31, 2006.
    All amounts are reported in Canadian dollars unless otherwise stated. The
financial data presented has been prepared in accordance with Canadian
Generally Accepted Accounting Principles ("GAAP"). The MD&A is dated March 21,
2007.

    Formation of the Trust

    The Trust is an open-end unincorporated investment trust governed by the
laws of the Province of Alberta and created pursuant to the Declaration of
Trust dated June 10, 2005 (the "Declaration of Trust"). The Trust was created
to acquire, through an investment in High Arctic Energy Services Limited
Partnership ("High Arctic"), the previous businesses operated by High Arctic
Energy Services Inc. ("HAES"). The Trust's year end is December 31.
    The Trust's principal focus is to engage in the global oilfield services
business by providing underbalanced drilling and production services,
equipment, design and development and technical support and training to the
Canadian and International oil and gas industry. The Trust's business plan is
focused on providing high quality services to its customers by supplying
leading edge technology and knowledgeable, well-trained personnel that provide
solutions to both its customers and the industry.
    The consolidated financial statements of the Trust for the year ended
December 31, 2005 present the effective acquisition by the Trust on July 20,
2005 of the operating assets and liabilities at the previous carrying value of
HAES. The Trust is considered a continuation of the prior businesses.
Therefore, for the purpose of its financial statements, the Trust's interest
has been accounted for as a reverse takeover that does not constitute a
business combination. Comparative figures include the results of the prior
businesses to the date of acquisition.

    Forward-Looking Statements

    This MD&A contains forward-looking statements. When used in this
document, the words "may", "would", "could", "will", "intend", "plan",
"anticipate", "believe", "seek", "propose", "estimate", "expect", and similar
expressions are intended to identify forward-looking statements. Such
statements reflect the Trust's current views with respect to future events and
are subject to certain risks, uncertainties and assumptions. Many factors
could cause the Trust's actual results, performance or achievements to vary
from those described in this MD&A. Should one or more of these risks or
uncertainties materialize, or should assumptions underlying forward-looking
statements prove incorrect, actual results may vary materially from those
described in this MD&A as intended, planned, anticipated, believed, estimated
or expected.
    Specific forward-looking statements in this MD&A include, among others,
statements pertaining to the following:

    
    -   expectations regarding the Trust's ability to raise capital and
        restructure its long-term debt obligations;
    -   commodity prices and the impact that they have on industry activity;
    -   the amount of Distributable Cash (as defined herein) and the timing
        and amount of distributions, if any;
    -   estimated capital expenditure programs for fiscal 2007 and subsequent
        periods;
    -   projections of market prices and costs;
    -   factors upon which the Trust will decide whether or not to undertake
        a specific course of operational action or expansion;
    -   world-wide supply and demand for oilfield services;
    -   amounts to be retained by the Trust and its subsidiaries for capital
        expenditures;
    -   treatment under governmental regulatory regimes; and
    -   general economic conditions.

    With respect to forward-looking statements contained in this MD&A, the
Trust has made assumptions regarding, among other things:

    -   the Trust's ability to obtain equity and debt financing on
        satisfactory terms;
    -   the Trust's ability to market successfully to current and new
        customers;
    -   the Trust's ability to obtain equipment from suppliers;
    -   the Trust's ability to construct property and equipment according to
        anticipated schedules and budgets;
    -   the impact of competition; and
    -   the Trust's ability to attract and retain skilled employees.
    

    The Trust's actual results could differ materially from those anticipated
in these forward-looking statements as a result of the risk factors set forth
below, elsewhere in this MD&A and in its Annual Information Form for the year
ended December 31, 2006, including:

    
    -   liquidity risks, which may be exacerbated if the Trust is unable to
        renegotiate its debt obligations and complete new equity financings
        on terms acceptable to the Trust or at all;
    -   changes in legislation and the regulatory environment, including
        uncertainties with respect to implementing the Kyoto Protocol;
    -   income tax matters, including the October 31 Proposals (see "Income
        taxes"), restrictions on non-resident ownership and the unanticipated
        tax and other expenses and liabilities of HAES;
    -   the world-wide demand for oilfield services in connection with the
        underbalanced drilling, workover and completion of oil and gas wells;
    -   volatilities in global supply and demand and market prices for oil
        and natural gas and the effect of these volatilities on the demand
        for oilfield services generally;
    -   general economic conditions in Canada, the United States and the
        Middle East, including variations in exchange rates and interest
        rates;
    -   regional and international competition;
    -   risks inherent in foreign operations, including political and
        economic risk;
    -   liabilities and risks, including environmental liabilities and risks,
        global political stability and other risks, inherent in oil and gas
        operations;
    -   sourcing, pricing and availability of raw materials, component parts,
        equipment, suppliers, facilities, and skilled personnel;
    -   continuing success in developing and integrating technological
        advances and the ability to match advances of competitors;
    -   uncertainties in weather and temperature affecting the duration of
        the service periods and the activities that can be completed;
    -   credit risks associated with customers in the oil and gas industry,
        including the inability of a significant customer of the Trust to pay
        for goods and services that have been provided;
    -   the risks investors have through investing in a trust, including
        changes in taxation laws, trust unit status and investment
        eligibility, the nature of trust units and the ability to redeem them
        and Unitholder limited liability;
    -   the cancellation of industry-standard type contract arrangements used
        by the Trust including written contacts, that are cancelable by
        customers at any time, and verbal agreements; and
    -   the Trust's inability to successfully address potential material
        weaknesses in internal controls or other control deficiencies that
        would affect its ability to report its financial results on a timely
        and accurate basis and to comply with disclosure and other
        requirements.
    

    The forward-looking statements contained in this MD&A are expressly
qualified in their entirety by this cautionary statement. These statements
speak only as of the date of this MD&A. The Trust does not assume any
obligation, to update these forward-looking statements to reflect new
information, subsequent events or otherwise, except as required by law.

    Non-GAAP Terms

    EBITDA (being earnings before the deduction of depreciation,
amortization, interest expense or income taxes), Adjusted EBITDA (being EBITDA
adjusted for pre-initial public offering management restructuring payments,
bonuses and/or retirement compensation arrangements or "RCA" payments) and
Adjusted EBITDA per Unit, "Oilfield Services Operating Margin", "Distributable
Cash", "Payout Ratio", "market capitalization", and "maintenance capital
expenditures" are not recognized measures under GAAP. The term "Distributable
Cash" is used to refer to the amount of cash that is expected to be available
for distributions to holders ("Unitholders") of units ("Units") of the Trust,
and is an amount calculated in accordance with the terms of the Declaration of
Trust. Per Unit calculations are based upon issued and issuable Units.
Management believes that, in addition to net earnings, these items are useful
supplemental measures of the Trust's performance prior to consideration of how
operations are financed or how results are taxed. Investors are cautioned that
these measures should not be construed as an alternative to net earnings
determined in accordance with GAAP as an indicator of the Trust's performance.
The Trust's method of calculating these measures may differ from the methods
used by other issuers and, accordingly, they may not be comparable to
similarly titled measures used by other issuers.
    In addition, management considers Adjusted EBITDA to be a useful measure
to compare operating performance between periods as it adjusts EBITDA by
adding back specific items that were incurred outside of the normal course of
operations. These include the restructuring payments made in 2005 and the
bonuses and RCA's paid to or on behalf of the owner-manager of HAES, prior to
the closing of the initial public offering.
    For 2005, Adjusted EBITDA excludes payments made to management at the
closing of the initial public offering that were in respect of prior stock
options held by them when the business was operated as a corporation. The
amount was immediately reinvested by them in Trust units to replace the
options that were cancelled. These payments were a one-time expense under GAAP
that was due solely to the creation of the Trust investment vehicle as the
ongoing business entity.

    Capitalization

    An unlimited number of Units may be issued pursuant to the Declaration of
Trust. Each Unit is transferable and represents an equal, undivided beneficial
interest in any distributions from the Trust and in the net assets of the
Trust in the event of the termination or winding-up of the Trust. Each Unit
entitles the holder thereof to one vote at all meetings of Unitholders.
    As at December 31, 2006 there were 9,936,405 issued and outstanding Units
and an aggregate of 16,190,808 additional Units issuable upon the conversion
of 11,460,571 issued and outstanding Series A Exchangeable Shares of HAES
("Series A Exchangeable Shares"), 4,152,381 issued and outstanding Series B
Exchangeable Shares of HAES ("Series B Exchangeable Shares") and 577,386
issuable Series B Exchangeable Shares (based on a cumulative conversion ratio
of 1.15789 Units per Series B Exchangeable Share) of HAES.
    The holders of Series B Exchangeable Shares do not receive cash
distributions. In lieu of distributions, the number of Units that the holder
of such exchangeable shares will receive upon conversion increases each month
based on the distribution amount received by Unitholders divided by the market
price of the Units on the 15th day of that month.
    The Units trade on the Toronto Stock Exchange under the symbol HWO.UN.
The closing price of the Units on March 20, 2007 was $2.95 per Unit. Based
upon 26,127,213 issued and issuable Units, the Trust has an approximate market
capitalization of $77 million, being the number of issued and issuable Units
multiplied by closing price of the Units on the Toronto Stock Exchange on
March 20, 2007.
    The following table sets out the number of issued and issuable Units on a
fully-diluted basis:

    
                                                                      Amount
                                                           Units   ($million)
    Issued and Outstanding Units
    Issuance on the initial public offering            8,000,000        80.0
    Issuance on over allotment of initial
     public offering                                     400,000         4.0
    Issuance on private placement                        996,572        10.0
    Issuance on the purchase of Alberta Mobile Air       373,134         4.7
    Issuance for DRIP plan and Options                   166,699         1.6
    Unit issuance costs                                        -        (6.8)
    Allocated to Exchangeable Shares                           -       (56.7)
                                                      ----------- -----------
    Total Units - issued and outstanding               9,936,405        36.8
                                                      ----------- -----------
    Units Issuable upon Conversion of
     Exchangeable Shares
    Issuance on the initial public offering -
     Series A Exchangeable Shares                     11,460,571        41.6
    Issuance on the initial public offering -
     Series B Exchangeable Shares                      4,152,381        15.1
    Change in conversion ratio - Series B
     Exchangeable Shares                                 577,856           -
    Non-controlling interest in net earnings                   -         1.1
    Distributions                                              -        (5.4)
                                                      ----------- -----------
    Total Units - issuable upon conversion of
     Exchangeable Shares (Non-controlling
     interest as at December 31, 2005)                16,190,808        52.4
                                                      ----------- -----------
    Total                                             26,127,213        89.2
                                                      ----------- -----------
                                                      ----------- -----------
    

    Consolidated Financial Review Highlights

    The 2006 year was the first full fiscal year of the Trust. The year saw a
significant capital expenditure program that added to the Trust's revenue
generating capabilities. The year's highlights included:

    
    -   A 50% increase in revenue from $82.7 million in 2005 to
        $123.8 million in 2006 and a 28% increase in EBITDA from
        $27.3 million in 2005 to $34.9 million in 2006.
    -   A 137% increase in capital expenditures for rigs and equipment to
        $123.7 million from $52.2 million the previous year.
    -   Rig utilization rates of 58% for the year compared to 67% for 2005.
        These were above the Canadian Association of Oilfield Drilling
        Contractors ("CAODC") average rates of 55% and 59% for the years
        ended 2006 and 2005 respectively.
    -   Average revenue per well of $45 thousand, a 50% increase compared to
        $30 thousand per well for the year ended December 31, 2005.

    Selected Information
    --------------------

                                                      Year ended  Year ended
                                                        December    December
    $million except per unit amounts                    31, 2006    31, 2005

    Total revenue                                      $   123.8   $    82.7
    EBITDA                                                  34.9        27.3
    EBITDA per Unit                                    $    1.36   $    1.08
    Distributions                                           25.0         9.9
    Payout ratio                                           82.8%       43.4%
    Total assets                                           233.4       116.8
    Total long-term financial liabilities                  107.7           -
    Net earnings                                            17.1         0.6
    Net earnings per Unit - diluted                    $    0.67   $    0.07
    

    The following table provides a quantitative reconciliation of net
earnings to EBITDA. See "Non-GAAP Terms" herein for further information in
respect of Distributable Cash.

    
                                                      Year ended  Year ended
                                                        December    December
    $million                                            31, 2006    31, 2005

    Net earnings                                       $    17.1   $     0.6
    Add the following:
    Amortization                                            16.1        10.3
    Interest                                                 0.9         0.9
    Income taxes                                             0.8         0.7
    Non-controlling interest                                   -         1.1
                                                      -----------------------
    EBITDA                                             $    34.9   $    13.6
    Restructuring, bonus and RCA amounts                       -        13.7
                                                      -----------------------
                                                      -----------------------
    Adjusted EBITDA                                    $    34.9   $    27.3
                                                      -----------------------
                                                      -----------------------
    Adjusted EBITDA/Unit                                    1.36        1.08
                                                      -----------------------
                                                      -----------------------

    Operating Results for the Years Ended December 31, 2006 and 2005

    Operating Periods
    -----------------

    The Trust has effective control of High Arctic and High Arctic is
considered a continuation of HAES and High Arctic Energy Corp.

    Selected Information
    --------------------

    Revenue
                                                      Year ended  Year ended
                                                        December    December
    $million                                            31, 2006    31, 2005

    Revenue
    Oilfield Services
      Canada                                           $   104.8   $    64.2
      International                                         19.0        18.5
                                                      -----------------------

    Total revenue                                      $   123.8   $    82.7
                                                      -----------------------
                                                      -----------------------
    

    In Canada, natural gas prices and, to a lesser extent, oil prices are the
primary drivers of the Trust's activity levels, as the netbacks received by
its customers determine oilfield activity on their part. Reductions in prices,
particularly for natural gas, resulted in a significant decline in industry
activity in the Western Canadian Sedimentary Basin during the latter half of
2006. The AECO natural gas spot price and West Texas Intermediate ("WTI") oil
spot price as at December 31, 2006 were CDN $6.00 per gigajoule and US $61.05
per barrel respectively. AECO averaged approximately CDN $6.55 per gigajoule
for the year ended December 31, 2006 compared to CDN $8.31 per gigajoule for
2005. WTI averaged US $66.05 for the year ended December 31, 2006 compared to
US $ 56.57 per barrel for 2005.
    The Trust strives to increase its revenue and revenue per well through
application of the "bundling concept". Management believes this service
offering increases utilization of equipment, provides additional revenue per
job site and allows the Trust to combine multiple product lines to the same
customer. Management also believes it has also allowed the Trust to cross-sell
services that were previously provided by other suppliers or competitors.
    As an extension to the above concept, the Trust strives to increase its
revenue per well by providing customers with Integrated Project Management
("IPM") of equipment, personnel, management expertise and coordination of
third party services. Management believes that IPM provides the customer with
several advantages compared to regular well operators. These advantages are as
follows:

    
    -   A single point of contact for the customer, making coordination and
        monitoring of operations on a well site easier;
    -   Providing one service company responsible for all aspects of the
        operation, avoiding any confusion on responsibility and downtime
        costs;
    -   Cost and operational efficiencies as there is no duplication of
        supervisors and manpower with one service company; and
    -   Coordination of all services, including those required to be provided
        by third parties, to provide a full suite of services by one service
        provider.
    

    Domestic revenues increased by $40.6 million or 63% to $104.8 million for
the year ended December 31, 2006, compared to domestic revenues of
$64.2 million for the year ended December 31, 2005. Commodity prices
fluctuated in the year and created uncertainty which dampened demand for the
Trust's services. The increase in revenue can be attributed to the addition of
the 250K Underbalanced Workover Rigs and RAPAD drilling rigs to the Trust's
equipment fleet in 2006. In addition, the Trust's bundling of its services,
thereby increasing services offered to customers involved in underbalanced
well construction, resulted in increased opportunities and utilization for the
Trust's current fleet.
    Activity in Canada on certain product lines was negatively impacted by
ongoing concerns over natural gas commodity prices. Natural gas inventory
levels in North America continue to be at very high levels and have weakened
near term natural gas prices. This development has caused production companies
to review the economic viability of shallow natural gas and coal bed methane
exploration and development programs. This affected utilization rates on the
Trust's equipment service lines exposed to this area of the market (see
"Oilfield services expense").
    International revenue increased by approximately 3% to $19.0 million for
the year ended December 31, 2006, as compared to $18.5 million for the year
ended December 31, 2005. The modest increase in international revenue was
primarily attributable to the later than expected commencement of contracts.

    
    Oilfield services expense
                                                      Year ended  Year ended
                                                        December    December
    $million                                            31, 2006    31, 2005

    Equipment utilization                                    58%         67%
                                                      -----------------------
                                                      -----------------------
    Oilfield services expense                          $    72.3   $    45.8
                                                      -----------------------
                                                      -----------------------
    Oilfield services operating margin                 $    51.5   $    36.9
                                                      -----------------------
                                                      -----------------------
    Oilfield services operating margin %                   41.6%       44.6%
                                                      -----------------------
                                                      -----------------------
    

    Oilfield services expense includes both fixed and variable costs that in
total do not increase by the same proportion as revenue and activity level
increases. Oilfield services operating margin is a Non-GAAP term and is
determined by deducting oilfield services expense from revenue. Oilfield
services operating margin percentages are calculated by dividing oilfield
services operating margins by revenue. The Trust's oilfield services operating
margin percentage for the year ended December 31, 2006 compared to 2005
decreased from 44.6% to 41.6% as the Trust experienced increases in labour
costs to remain competitive with the market, as well as additional training
costs incurred for new employees. In addition, third party charges related to
IPM for the year of $21.1 million (2005 - $7.0 million) with a related cost of
$17.6 million (2005 - $5.8 million) contributed to the decrease in the
oilfield services operating margin percentage for the year from 46.7% overall
to 41.6%.
    Equipment utilization is determined by dividing the number of days a rig
operates by 365. Utilization is affected by competition, economic conditions
and the inability at certain times of the year to physically access locations
due to climate, the availability of labour and by repair and maintenance
activities. Utilization decreased in 2006 from the year 2005 due to reduced
industry activity.

    
    General and administration
                                                      Year ended  Year ended
                                                        December    December
    $million                                            31, 2006    31, 2005

    General and administration                         $    16.7   $     9.5
                                                      -----------------------
                                                      -----------------------
    

    General and administration costs increased by $7.2 million to
$16.7 million for the year ended December 31, 2006 compared to $9.5 million
for the year ended December 31, 2005. This increase was a result of an
increase in overall operations and infrastructure as well as additional costs
associated with operating as a publicly-traded income trust. As a percentage
of revenues, these expenses rose in 2006, increasing to 13.5% of revenue for
the year ended December 31, 2006, as compared to 11.5% of revenue for the year
ended December 31, 2005. For the first six months of 2006, the Trust continued
to add employees to management and administration to deal with the scale of
operations being experienced and in anticipation of continued increased demand
for services both in Canada and internationally. These additions contributed
to the increase in general and administration costs and, coupled with reduced
activity in the latter half of 2006, have resulted in the increase in
percentage of these costs relative to revenue.

    
    Amortization
                                                      Year ended  Year ended
                                                        December    December
    $million                                            31, 2006    31, 2005

    Amortization                                       $    16.1   $    10.3
                                                      -----------------------
                                                      -----------------------
    

    Amortization for the year ended December 31, 2006 was $16.1 million
compared to $10.3 million for the same period in 2005. The large increase is
due to the growth of the Trust's equipment fleet. The Trust expended
$118.7 million for new equipment during the year, being mainly RAPAD drilling
rigs and 250K Underbalanced Workover Rigs.

    
    Foreign exchange (gain) loss
                                                      Year ended  Year ended
                                                        December    December
    $million                                            31, 2006    31, 2005

    Foreign exchange (gain) loss                       $    (0.1)   $    0.1
                                                      -----------------------
                                                      -----------------------
    

    The Trust continues to have exposure to US$ revenues and expenses,
primarily through its operations in the Middle East, and to the Dirham used
locally in Dubai which is tied to the US$.

    
    Interest expense
                                                      Year ended  Year ended
                                                        December    December
    $million                                            31, 2006    31, 2005

    Interest expense                                   $     0.9   $     0.9
                                                      -----------------------
                                                      -----------------------
    

    Interest expense for the year ended December 31, 2006 was in respect of
the Trust's credit facility. In addition to the $0.9 million of interest
expensed, commencing July 1, 2006 the Trust capitalized $2.3 million of
interest related to the construction of equipment resulting in total interest
incurred of $3.2 million. The Trust currently pays interest on its credit
facility at prime plus 1%.

    
    Pre initial public offering management restructuring, bonus and RCA
    payments
                                                      Year ended  Year ended
                                                        December    December
    $million                                            31, 2006    31, 2005

    Pre initial public offering management
     restructuring, bonus and RCA payments             $       -   $    13.7
                                                      -----------------------
                                                      -----------------------
    

    Immediately prior to the closing of the initial public offering of the
Units in 2005, restructuring payments totaling $10.0 million were paid to
certain management employees. The payments were made as consideration for the
cancellation of share options held by these employees in the corporation that
previously operated the business. Simultaneous with the closing of the initial
public offering, these employees reinvested these amounts by acquiring Units
through a private placement. While an expense under GAAP, this transaction was
considered part of the initial capitalization of the Trust and thus is
excluded from an analysis of operating earnings of the Trust.

    
    Income taxes
                                                      Year ended  Year ended
                                                        December    December
    $million                                            31, 2006    31, 2005

    Income taxes                                       $     0.8   $     0.7
                                                      -----------------------
                                                      -----------------------
    

    The Trust is a mutual fund trust for Canadian income tax purposes and
income distributed to Unitholders effectively reduces the Trust's 2006 and
2005 income taxes to $nil.
    The income tax expense for 2006 pertains to withholding taxes incurred in
foreign jurisdictions and for 2005, withholding taxes and a modest amount for
taxes incurred by predecessor corporations.
    On October 31, 2006, the Minister of Finance for Canada ("Finance")
announced proposed changes to the taxation of certain publicly-traded trusts
and partnerships and their unitholders. These changes, assuming they are
enacted, would generally apply to trusts and partnerships that are resident in
Canada for purposes of the Tax Act (in the case of partnerships, pursuant to
new residency rules proposed for this purpose), that hold one or more
"non-portfolio properties", and the units of which are listed on a stock
exchange or other public market (a "specified investment flow-through trust"
or "SIFT trust", and a "specified investment flow-through partnership" or
"SIFT partnership"). In the case of a SIFT trust or SIFT partnership the units
of which were already publicly traded on October 31, 2006, the proposed
changes generally would not take effect until January 1, 2011, provided the
trust or partnership experiences only "normal growth" and no "undue expansion"
before then. On December 15, 2006 Finance issued guidelines with respect to
what would be considered "normal growth" for this purpose, and on December 21,
2006 Finance released draft legislative proposals to implement the changes
previously announced on October 31, 2006. The October 31, 2006 proposals,
December 15, 2006 guidelines and December 21, 2006 draft legislation are
hereinafter collectively referred to as the "October 31 Proposals".
    Pursuant to the October 31 Proposals, a SIFT trust (which would include
the Trust) would be subject to tax on its income from non-portfolio properties
and taxable capital gains from dispositions of non-portfolio properties at a
rate of 31.5% (comparable to the projected combined federal and provincial
corporate income tax rate in 2011), and distributions of such income to
unitholders would be treated as eligible dividends paid by a taxable Canadian
corporation.
    Under the December 15 guidelines, "normal growth" would include equity
growth within certain "safe harbour" limits, measured by reference to a
trust's market capitalization as of the end of trading on October 31, 2006
(the "benchmark"). Those safe harbour limits are the greater of $50 million
and 40% of a trust's benchmark for 2007 and the greater of $50 million and 20%
of the benchmark for each of 2008, 2009 and 2010, with any unused amount
rolling forward to the next year. The Trust's benchmark would be approximately
$34 million for 2007 and $17 million for each of 2008, 2009 and 2010. Equity
raised to replace debt that existed at October 31, 2006 would not count
against the safe harbour limit. Finance has also announced its intention to
allow SIFT trusts to convert to corporations on a tax-deferred basis (no
immediate tax impact) for unitholders, although no specific legislative
proposals in this regard have been released to date.

    
    Non-controlling interest
                                                      Year ended  Year ended
                                                        December    December
    $million                                            31, 2006    31, 2005

    Non-controlling interest                           $       -   $     1.1
                                                      -----------------------
                                                      -----------------------
    

    For 2006, the non-controlling interest ceased with the removal of the
subordination clause attached to the LP Class B units of High Arctic approved
by Unitholders at the Trust's Annual and Special Meeting held on May 11, 2006.
    For 2005, the non-controlling interest represented approximately 62% of
the Trust, including 58% owned directly or indirectly by the Chief Executive
Officer of the Trust ("CEO"), and represented by the Series A Exchangeable
Shares and the Series B Exchangeable Shares.

    Distributions

    The Trust's operations are carried out through High Arctic and, as such,
monthly distributions are made from High Arctic to the Trust and then to
Unitholders from the Trust. In 2006, the Trust's distribution policy was to
distribute $0.0875 per Unit per month, growing to $0.0975 per Unit per month,
as sufficient cash existed to do so. Distributions to Unitholders were
calculated and recorded when declared and made to Unitholders of record on the
last business day of a particular month.
    On February 26, 2007 the Trust announced it was immediately suspending
distributions and that it was considering strategic options available to it
and its need to preserve capital for operations and expansion (see "Liquidity
and Capital Resources" and "Outlook").

    
    Distributions declared since December 31, 2005 are as follows:

                                                             $ Per
        Period          Record date        Payment date       Unit  $ million
    --------------- ------------------- ------------------- ------- ---------
    January 2006    January 31, 2006    February 15, 2006    0.0875      1.9
    February 2006   February 28, 2006   March 15, 2006       0.0875      1.8
    March 2006      March 31, 2006      April 15, 2006       0.0875      1.9
    April 2006      April 30, 2006      May 15, 2006         0.0875      1.9
    May 2006        May 31, 2006        June 15, 2006        0.0975      2.1
    Special         May 31, 2006        September 15, 2006   0.0875      0.9
    June 2006       June 30, 2006       July 15, 2006        0.0975      2.0
    July 2006       July 31, 2006       August 15, 2006      0.0975      2.0
    August 2006     August 31, 2006     September 15, 2006   0.0975      2.0
    September 2006  September 30, 2006  October 15, 2006     0.0975      2.1
    October 2006    October 31, 2006    November 15, 2006    0.0975      2.1
    November 2006   November 30, 2006   December 15, 2006    0.0975      2.1
    December 2006   December 31, 2006   January 15, 2006     0.0975      2.2
                                                            -----------------
    Total 2006                                                          25.0
                                                            -----------------
                                                            -----------------
    

    Of the total distributions of $25.0 million, approximately $1.6 million
was reinvested by Unitholders under the terms of the Distribution Reinvestment
Program ("DRIP") introduced by the Trust in 2006. The DRIP was suspended on
December 21, 2006 for distributions declared on or after that date (see
"Financing Activities").

    
    Statement of Distributable Cash
    (Unaudited)
                                                            From inception -
    $million except per                        Year ended   July 21, 2005 to
     Unit amounts                       December 31, 2006  December 31, 2005
                                        ------------------ ------------------

    Cash provided by operating activities        $   39.1           $   16.8
    Change in non-cash working capital               (5.4)               6.3
                                        ------------------ ------------------
                                        ------------------ ------------------
                                                     33.7               23.1

    Interest capitalized to rigs and
     equipment under construction                    (2.3)                 -
    Maintenance capital expenditures(1)              (1.2)              (0.3)
                                        ------------------ ------------------
                                        ------------------ ------------------

    Distributable Cash(2)                        $   30.2           $   22.8
                                        ------------------ ------------------
                                        ------------------ ------------------

    Cash distributions                           $   25.0           $    9.9
                                        ------------------ ------------------
                                        ------------------ ------------------

    Payout ratio(3)                                 82.8%              43.4%
                                        ------------------ ------------------
                                        ------------------ ------------------

    (1) "Maintenance capital expenditures" is defined as the amount incurred
        during the period to conduct infrequent major overhauls of equipment
        or purchase sundry non-equipment related items. This amount
        fluctuates from period to period.
    (2) "Distributable cash" is used to refer to the amount of cash that is
        expected to be available for distributions to the Trust and is an
        amount calculated in accordance with the terms of the Declaration of
        Trust.
    (3) The Trust's Payout Ratio was 82.8% for 2006, its first full fiscal
        year. For 2005, the Trust paid out 58.1% of EBITDA earned after its
        inception, well below the maximum permitted payout ratio of 85%
        allowed by its Declaration of Trust.
    

    For 2006, the Trust has claimed discretionary tax deductions such that
distributions are estimated to be comprised of approximately 80% taxable
income and 20% return of capital.

    Trading Summary

    The average monthly trading price and volume for the Units during the
year ended December 31, 2006 was as follows:

    
         Month            Average Price/Unit      Average Daily Units Traded

    2006      January                  13.31                          27,875
             February                  13.44                          27,321
                March                  12.39                          26,822
                April                  13.62                          25,614
                  May                  13.85                          22,044
                 June                  13.10                          10,764
                 July                  13.20                           4,202
               August                  12.58                          10,656
            September                  10.54                          15,670
              October                   9.55                          31,649
             November                   6.61                          49,549
             December                   6.01                          59.939
    

    Liquidity and Capital Resources

    On February 26, 2007, the Trust announced that its Board of Directors had
formed a special committee, comprised solely of independent directors (the
"Special Committee"), to consider the benefits of a reorganization of the
Trust. It is expected that the proposed reorganization will include a
conversion to a corporation; a restructuring of the Trust's long-term debt;
and an issuance of equity from treasury. On that date, the Trust also
announced that it was in breach of a loan covenant and was negotiating an
amendment with its lenders, as discussed below, that it had immediately
suspended distributions and that it was negotiating with one of its lenders
for the provision of a short-term facility of $10 million.
    These actions were primarily due to the Trust's need to preserve capital
for operations and growth due to the change in the Trust's ability to access
new equity from the capital markets. This situation primarily resulted from
the proposed change in taxation policy described elsewhere in this document
and the consequent inability of the Trust to fund its 2006 and 2007 capital
expenditure program in whole, or in part, with equity.

    Credit Facility

    The Trust is negotiating a new $10 million short-term debt facility with
an existing lender. The new facility is anticipated to be due May 30, 2007 and
bear interest payable monthly at an annualized rate of prime plus 4.75% on any
amounts drawn. This rate will increase to prime plus 6.75% on April 1, 2007
and prime plus 8.75% on May 1, 2007. In addition, the Trust will issue the
lender warrants to acquire 1% of the fully-diluted Trust units, exercisable
for three years, at a price based on the 10 day weighted average trading price
prior to closing of the facility.
    On July 5, 2006 the Trust secured financing from a syndicate of
commercial lenders to replace its then existing credit facility. The new
credit facility is composed of an operating line of credit to a maximum of the
lesser of $20 million and 75% of Canadian accounts receivable aged less than
90 days. The credit facility also includes an equipment revolving loan to a
maximum of the lesser of $100 million and 75% of the appraised orderly
liquidation value of eligible equipment.
    The credit facility has a one year revolving term, which may be extended
for an additional 364 days at the discretion of the lenders on application by
the Trust. If the revolving period is not extended then the outstanding
principal will become repayable in scheduled repayments over the subsequent
three years.
    Both components bear interest at prime plus 0.5% to prime plus 1%
depending on the aggregate amount drawn on the facility. At December 31, 2006
and at the date of this Management Discussion and Analysis the rate in effect
was prime plus 1%. The amortization of the facility is interest only. If the
credit facility is not renewed on the anniversary date (364 days) the amount
drawn is subject to a three month interest-only period, followed by a
straight-line amortization period of thirty-three months. This facility was
used to repay existing indebtedness, meet day-to-day working capital
requirements and to finance the capital expenditure program.
    The obligations under the credit facility are secured by debentures under
which the Trust and its Canadian subsidiaries grant security over all of their
respective assets.
    The Trust expended $123.7 million in 2006 on the expansion of its
equipment fleet. This expansion was primarily funded from the above facility
and at year-end the Trust had drawn $118.6 million of the facility.
    At December 31, 2006, the Trust had a consolidated leverage ratio
(generally defined in its credit facility agreement as total debt divided by
the 12-month trailing adjusted earnings before interest, depreciation,
amortization and taxes) of approximately 3.4 to 1.0. This exceeds the
consolidated leverage ratio covenant required by the terms of the credit
facility of 3.0 to 1.0. On March 9, 2007 the Trust and its lenders executed an
amendment agreement effective December 31, 2006, that amends the maximum
permitted consolidated leverage ratio at December 31, 2006 and March 31, 2007
to 3.6 to 1.0 and for each quarter ended thereafter to 2.75 to 1.00.
    The Trust's cash flows were also impacted by a reduction in market
activity, as its customer base in Canada reduced drilling activities in
response to softness in the prices that they received for production of
natural gas. In particular, drilling activities pertaining to shallow gas and
coal bed methane opportunities were significantly affected and these are
activities particularly suited to the Trust's equipment base.
    The Trust's ability to restructure its debt obligations and complete new
equity financings, both on acceptable terms, will be critical to the Trust's
ability to maintain operations and fund future growth (see "Risk Management
and Uncertainties").

    Cash Provided by Operating Activities

    For the year ended December 31, 2006, cash provided by operating
activities was $33.7 million before reflecting working capital adjustments.
After consideration of working capital adjustments, cash provided by operating
activities was $39.1 million. For the year ended December 31, 2005, cash used
by operating activities was $3.0 million. The increase in cash provided by
operating activities reflects the increase in earnings of the Trust in 2006
and the resultant changes in related working capital amounts.

    Investing Activities

    For the year ended December 31, 2006, expenditures to acquire rigs,
equipment and other operational assets were $120.2 million compared to
$53.9 million in 2005 (both amounts after the change in accounts payable
related to constructing rigs and equipment). The majority of the Trust's
capital spending in 2006 was related to the continued expansion of its rig
fleet and the development and introduction of the new RAPAD drilling rig
design.

    Financing Activities

    In 2006, the Trust drew $107.7 million on its credit facility to fund the
acquisition and construction of rigs and equipment and for general working
capital purposes.
    Distributions declared during the year ended December 31, 2006 were
$25.0 million, including $3.3 million that was payable at the end of the year.
During the year, the Trust introduced the DRIP. The DRIP allowed eligible
Unitholders to direct that cash distributions be reinvested in additional
Units on the applicable distribution payment date. By adopting the DRIP, the
Trust reduced the amount of cash distributed to Unitholders each month, as
distributions otherwise payable to participants in the DRIP were reinvested in
the Trust in consideration for the issue of additional Units. During 2006,
$1.6 million was raised under the DRIP. On December 21, 2006 the DRIP was
suspended.

    Commitments and contingencies

    Rigs Under Construction

    In July 2005, the Trust entered into a contract with Sense/EDM AS
("Sense/EDM"), a Norwegian rig manufacturer, to purchase sixteen drilling rigs
with an option to cancel the order for all but five of the rigs, subject to
certain conditions. During 2006, the Trust determined that it only wished to
take delivery of and complete ten of the contracted-for rigs for an estimated
cost of approximately $65.0 million, with deliveries forecast to take place in
2006 and 2007. As a result, the Trust cancelled the order for the remaining
six rigs.
    In 2006, the Trust took delivery of and completed four rigs for a total
cost of $29.2 million. At December 31, 2006, rigs and equipment under
construction includes $16.9 million for the remaining rigs, with an additional
estimated cost of approximately $6.0 million to complete two of the rigs in
2007. In accordance with performance provisions in the contract and in light
of late deliveries and other performance issues of Sense/EDM, the Trust
commenced negotiations to suspend the order for the final four of six rigs
under construction.
    On March 6, 2007, Sense/EDM asserted that the Trust was still required to
take delivery of the final four rigs and that they are owed approximately
$20 million, including interest, for costs pertaining to the acquisition and
completion of these rigs and for the rigs delivered to date or under
construction.
    At December 31, 2006, the Trust had recorded net amounts payable to
Sense/EDM of approximately $3 million. After a review of the Sense/EDM
assertions, the Trust recorded an additional provision as of that date of
$5 million. The Trust believes that the total of $8 million now provided for
in these financial statements represents the maximum amount it is exposed for
under this contract as at December 31, 2006.
    The Trust has continued negotiations with Sense/EDM regarding the rig
delivery schedule and the assertions referred to above. On March 21, 2007
Sense/EDM notified the Trust that it will consider alternatives for resolution
that would include a potential sale of the investment in Sense/EDM shares held
by the Trust to parties affiliated with Sense/EDM at an amount that exceeds
their net book value, a renegotiation of the delivery schedule for the four
suspended rigs and a joint audit of all disputed costs, including interest.

    Income Taxes

    The Trust has been informed by a customer in Turkmenistan that there is a
possible exposure to the Trust of US$1.9 million for taxes in that
jurisdiction. Management believes that it has calculated and remitted all
taxes properly due in Turkmenistan and the remaining tax exposure is without
merit. Therefore, no amount has been accrued in these financial statements for
this potential exposure.

    Contractual obligations

    In addition to the commitments and contingencies noted above, in the
normal course of business, the Trust incurs contractual obligations, primarily
related to operating leases. The Trust's total contractual obligations for
leases as at December 31, 2006 are $1.3 million in 2007, $1.2 million in 2008,
and $0.8 million in 2009.
    The following tables set forth the Trust's contractual obligations as at
December 31, 2006 and 2005:

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

                                                                       Post-
    $million                   Total   2007    2008    2009    2010    2010
                              ------- ------- ------- ------- ------- -------
    Long-term debt
     obligations(1)           $118.6  $ 10.9  $ 43.1  $ 43.1  $ 21.5  $    -
    Operating lease and
     equipment purchase
     obligations(2)              9.3     7.3     1.2     0.8       -       -
                              ------- ------- ------- ------- ------- -------
    Total obligations         $127.9  $ 18.2  $ 44.3  $ 43.9  $ 21.5  $    -
                              ------- ------- ------- ------- ------- -------
                              ------- ------- ------- ------- ------- -------

    (1) There is no present requirement to repay principal on the Trust's
        credit facility. The amounts noted assume the credit facility is not
        renewed by lenders in 2007. The Trust is presently examining the
        restructuring of its debt obligations.
    (2) The table represents management's best estimate of costs required to
        honour the equipment purchase obligation, being $6.0 million in 2007
        (refer to note 10 of the consolidated financial statements for
        further details)



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

                                                                       Post-
    $million                   Total   2006    2007    2008    2009    2009
                              ------- ------- ------- ------- ------- -------
    Long-term debt
     obligations              $    -  $    -  $    -  $    -  $    -  $    -
    Operating lease and
     equipment purchase
     obligations                36.9    12.4    23.2     0.8     0.5       -
                              ------- ------- ------- ------- ------- -------
    Total obligations         $ 36.9  $ 12.4  $ 23.2  $  0.8  $  0.5  $    -
                              ------- ------- ------- ------- ------- -------
                              ------- ------- ------- ------- ------- -------



    Quarterly Financial Review

    Selected Quarterly Consolidated Financial Information
    -----------------------------------------------------
    (Three months ended)
    --------------------
    $million except per unit amounts

                                December   September     June 30,   March 31,
                                31, 2006    30, 2006        2006        2006
                             ----------- ----------- ----------- ------------

    Total Revenue             $     37.6  $     27.8  $     19.8  $     38.6
    EBITDA                           8.9         9.5         2.5        14.0
    Net earnings (loss)              4.2         5.9        (2.2)        9.2
    Net earnings (loss)
     per unit - basic and
     diluted                  $     0.17  $     0.23  $    (0.09) $     0.36


                                December   September     June 30,   March 31,
                                31, 2005    30, 2005        2005        2005
                              ------- ------- ------- ------- ------- -------

    Total Revenue             $     32.0  $     25.2  $      7.4  $     18.1
    EBITDA                          10.0         8.4         0.8         8.1
    Net earnings (loss)              3.5        (5.1)       (0.5)        2.7
    Net earnings (loss)
     per unit - basic and
     diluted                  $     0.19  $    (0.21) $    (0.02) $     0.11
    

    Fourth Quarter 2006 Review

    Net earnings for the quarter were $4.2 million compared to $3.5 million
in the same period in 2005. These results reflect the seasonal nature of the
Trust's Canadian operations and should not be taken as indicative or regular
quarterly performance. The Trust's international operations are not subject to
the same seasonality as its Canadian operations.
    In the fourth quarter of 2006 revenue increased by $5.6 million or 18% to
$37.6 million from the same period in 2005. This increase was primarily a
result of the Trust's new IPM contract in Canada. This contract commenced late
in the third quarter and was very active during the fourth quarter. As a
result of this contract, revenue increased on third party charges billed under
the contract. The Trust also introduced additional equipment in the quarter
including two 250 K Underbalanced Workover Rigs. Activity levels for the
fourth quarter were steady as domestic utilization held at 55% compared to 58%
for the year.
    EBITDA for the quarter ended December 31, 2006 amounted to $8.9 million
compared to $10.0 million in the same quarter of last year. The softness in
short-term natural gas prices and the general slowdown in the Canadian
industry activity also contributed to fewer working days in December and less
revenue per day to cover operating expenses.

    Risk Management and Uncertainties

    On February 26, 2007, the Trust announced that it was suspending
distributions and that it had commenced a review of strategic options
including conversion to a corporation, a restructuring of its debt obligations
and the issuance of new equity capital from treasury. The Trust also announced
that it expected to be in breach of one covenant under its credit facility at
December 31, 2006 and was working with its lenders to amend this covenant
(that occurred on March 9, 2007 with effect from December 31, 2006 - see note
6 to the consolidated financial statements). The Trust announced that it was
also working with an existing lender to provide new short-term financing of
$10 million.
    The Trust must continue to have access to equity and debt capital to
operate. Its present financial condition coupled with uncertain levels of near
term industry activity and the impact of the proposed changes to taxation of
income trusts exposes the Trust to the risk that necessary capital cannot be
acquired on a timely basis on terms acceptable to the Trust or at all.
    The continued success of the Trust is also dependent to a great extent on
the continued health of the oil and natural gas industry in Canada and
internationally. As a member of this industry, the Trust is exposed to various
risks, including:

    
    -   volatilities in global supply and demand and market prices for oil
        and natural gas and the effect of these volatilities on the demand
        for oilfield services generally;
    -   uncertainties in weather and temperature affecting the duration of
        the service periods and the activities that can be completed;
    -   changes in legislation and the regulatory environment, including
        uncertainties with respect to implementing the Kyoto Protocol;
    -   alternatives to and changing demands for petroleum products;
    -   the world-wide demand for oilfield services in connection with the
        underbalanced drilling, workover and completion of oil and gas wells;
    -   general economic conditions in Canada, the United States and the
        Middle East, including variations in exchange rates and interest
        rates;
    -   liabilities and risks, including environmental liabilities and risks,
        global political stability and other risks, inherent in oil and gas
        operations;
    -   credit risks associated with customers in the oil and gas industry,
        including the inability of a significant customer of the Trust to pay
        for goods and services that have been provided;
    -   risks inherent in foreign operations, including political and
        economic risk; and
    -   regional and international competition.

    These factors may impact upon the Trust's customer base which, in turn,
would impact the Trust's business prospects.

    The Trust is also subject to specific risks, such as:
    -   liquidity risks, which may be exacerbated if the Trust is unable to
        renegotiate its debt obligations and complete new equity financings
        on terms acceptable to the Trust or at all;
    -   income tax matters, including the October 31 Proposals (see "Income
        taxes"), restrictions on non-resident ownership and the unanticipated
        tax and other expenses and liabilities of HAES;
    -   operational risks involved in drilling and the ability to obtain
        satisfactory insurance;
    -   continuing success in developing and integrating technological
        advances and the ability to match advances of competitors;
    -   the cancellation of industry-standard type contract arrangements used
        by the Trust including written contacts, that are cancelable by
        customers at any time, and verbal agreements;
    -   sourcing, pricing and availability of raw materials, component parts,
        equipment, suppliers, facilities, and skilled personnel;
    -   the risks investors have through investing in a trust, including
        changes in taxation laws, trust unit status and investment
        eligibility, the nature of trust units and the ability to redeem them
        and Unitholder limited liability; and
    -   the Trust's inability to successfully address potential material
        weaknesses in internal controls or other control deficiencies that
        would affect its ability to report its financial results on a timely
        and accurate basis and to comply with disclosure and other
        requirements.
    

    Lastly, the Trust has specific risks that result from its unique
situation. Certain officers and directors are also officers and directors of
other oil and gas or oil and gas service companies and conflicts of interest
may exist. The CEO directly or indirectly has the ability to control the votes
to approximately 58% of the issued and outstanding Units and, as such, is in a
position to significantly influence the outcome of actions requiring
Unitholder approval.
    The Trust seeks to mitigate these risks through such means as employing
highly qualified professional staff; adhering to best practices for corporate
governance and disclosure; employing proactive environmental and safety
programs with a significant emphasis on continued training; a strong
independent Board of Directors; and operating in several markets.
    These risks are outlined in greater detail in the Trust's Annual
Information Form for the year ended December 31, 2006.

    Critical Accounting Estimates

    The Trust's significant accounting policies are described in Note 2 to
the annual consolidated financial statements dated December 31, 2006. The
preparation of consolidated financial statements requires that certain
estimates and judgments be made in regard to the reported amounts of revenue
and expense as well as the carrying value of assets and liabilities. These
estimates are based upon historical experience and the judgment of management.
    The principal critical accounting estimate in respect of the Trust
relates to amortization of property and equipment, including asset and
impairment write downs, if any. All amortization is carried out on the basis
of the estimated useful lives of the related assets. Equipment under
construction is not amortized until put into use. Included in property and
equipment is equipment acquired under capital leases. All equipment is
amortized based on the declining balance method with rates ranging from 10% to
30%. As discussed in Note 2 to the consolidated financial statements,
effective July 1, 2006 changes to these rates were implemented and are
expected to reflect amortization more in line with the property and equipments
expected useful life.
    Assessing the reasonableness of the estimated useful lives of properties
requires judgment and is based on currently available information, including
periodic amortization studies conducted by the Trust. Additionally, the Trust
canvasses its competitors to ensure it utilizes methodologies and rates
consistent with the remainder of the sector in which the Trust operates.
Changes in circumstances, such as technological advances, changes to the
Trust's business strategy, changes in the Trust's capital strategy, or changes
in regulations may result in the actual useful lives differing from the
Trust's estimates.
    A change in the remaining useful life of a group of assets, or their
expected residual value, will affect the amortization rate used to amortize
the group of assets, and thus affect amortization expense as reported in the
Trust's results of operations. These changes are reported prospectively when
they occur.
    Another important estimate made by the Trust, in particular due to its
international exposure, is the allowance for collection of doubtful accounts.
In addition to its day-to-day monitoring of its accounts receivable position,
the Trust has instituted detailed credit reviews prior to commencement of
contractual arrangements and the use of export insurance provided by Export
Development Canada where available.

    Related Party Transactions

    In the normal course of business, the Trust has entered into transactions
with certain companies controlled by the CEO. During the year ended
December 31, 2006 the Trust paid premises rent, equipment and vehicle leases
payments of $1.1 million to these entities as compared to $0.7 million for the
same period in 2005. The Trust had amounts payable in connection with the
above transactions of $0.3 million compared to $0.3 million for December 31,
2005. These transactions are evaluated annually by management and are
considered to approximate fair market value.
    Included in revenues and accounts receivable for the year ended
December 31, 2006 are $nil and $nil million respectively (2005 - $13.6 million
and $9.0 million) in relation to a contract that commenced in August 2005 and
ended in July 2006 with a company in which the CEO has an ownership interest.
    Included in distributions payable is an amount of $2.2 million due to
companies controlled by the CEO that elected to defer receipt of monthly
distributions to which they were entitled for November and December 2006.
    Amounts due to or from related parties are non-interest bearing,
unsecured and repayable on demand.

    Financial Instruments

    The Trust has not entered into any hedge transactions and does not have
any derivative type instruments outstanding.
    The Canadian Institute of Chartered Accountants has implemented new
standards 3855 and 3861 for fiscal years commencing on or after October 1,
2006. Section 3855 deals with the recognition and measurement of financial
instruments at fair market value whereby financial assets and liabilities are
accounted for at fair value when an entity becomes a party to the contractual
provisions of the financial instrument. Section 3861 applies to interim and
annual financial statements and revises the requirements for accounting policy
disclosures, and specifies new requirements for disclosures about fair value.
The Trust has not completed its evaluation of the new standards nor the impact
adoption of these pronouncements will have on the Trust's financial
statements.

    Off-Balance Sheet Arrangements/Variable Interest Entities

    The Trust has no off-balance sheet arrangements or variable interest
entities.

    Change in Accounting Policy

    The Trust has not changed any accounting policies since December 31,
2006.

    Disclosure Controls and Procedures

    Under the supervision and participation of management, including the CEO
and the Chief Financial Officer ("CFO"), the Trust evaluated the effectiveness
of the design and operation of disclosure controls and procedures (as defined
in Multilateral Instrument 52-109, Certification of Disclosure in Issuers'
Annual and Interim Filings) as of December 31, 2006.
    Based on that evaluation, the CEO and the CFO concluded that the
disclosure controls and procedures as at the end of the period covered by the
annual filings are effective in providing reasonable assurance that material
information relating to the Trust, including its consolidated subsidiaries,
and required to be disclosed in reports filed or submitted under applicable
securities law, is made known to them by others within these entities.

    Internal Control over Financial Reporting

    As at December 31, 2006, the CEO and CFO evaluated the design of the
Trust's internal control over financial reporting. Based on that evaluation,
the CEO and the CFO concluded that the design of internal control over
financial reporting was effective as at December 31, 2006 to provide
reasonable assurance regarding the reliability of financial reporting and the
preparation of financial statements for external purposes in accordance with
GAAP.
    Due to its rapid growth and international operational exposure, the Trust
continues to evaluate the effectiveness of its internal controls and related
disclosure controls and procedures. In 2006, the Trust determined that
specific weaknesses exist in its ability to manage contracts and, in
particular, the costs and completion timelines for contracts to procure
equipment. The Trust also recognizes that improvements in its overall
procurement practices, inventory management and accrual processes are
required. Weaknesses also exist in the Trust's financial risk management
practices, including the ability to forecast the timing of receipts and
expenditures and the consequent impact this has on the determination of the
need for and nature and timing of financing requirements.
    A third party consultant was engaged by the Trust to review and advise
management on improvements in certain of these areas. As a consequence, the
Trust has amended certain practices to improve its financial reporting. These
controls were designed and reviewed in the last quarter of the year and were
not in effect throughout the year. These controls will be tested and evaluated
throughout the 2007 fiscal year. Weaknesses in controls, if any, that such
testing may reveal would also be considered as weaknesses in the Trust's
disclosure controls and procedures as at December 31, 2006. The consultant's
work was not designed to address all of the areas of weakness noted above and
further work is required to do so.
    Notwithstanding the above, the CEO and CFO have satisfied themselves that
the control environment and reporting practices are such that reasonable
assurance exists that material information relating to the Trust and its
subsidiaries has been made known to them.

    Outlook

    To a substantial degree, the success of the Trust's domestic business
depends on the level of spending by exploration and production companies for
exploration, development and production activities. The oil and gas industry
has been subject to volatility in recent years due to significant changes in
the demand for, supply of, and pricing of natural gas and oil. Relative to
recent years, higher oil prices are expected to continue in 2007 and
management expects activity on oil production and completion services to be
steady.
    Industry activity in Canada in 2006 was negatively impacted by ongoing
concerns over natural gas commodity prices, in particular as it pertains to
shallow gas and coal bed methane exploration and development. Natural gas
inventory levels in North America continue at high levels resulting in
weakened near term natural gas prices. This development has caused exploration
and production companies to review the economic viability of natural gas and
coal bed methane exploration and development programs. This has reduced
drilling activities in these areas since the third quarter of 2006 and is
expected to continue until at least mid-2007. Activity levels in this market
have a direct impact on earnings of the Trust based upon the nature of the
equipment and services that it provides.
    The Trust currently expects to focus its 2007 growth efforts primarily on
international opportunities and within the growth limits proposed by the
October 31 Proposals, if enacted into law (see "Income taxes"). International
industry activity levels are expected to remain steady in 2007. The demand for
oil and natural gas remains high and the maturing of many reserve basins in
the Middle East is expected to result in further reserve optimization
activities. Management believes that this circumstance fits well with the
Trust's product service lines. An increase in new drilling activity is also
expected, with substantial funds expected to be spent by exploration and
production companies over the next five years. This will include development
of new regions in Africa, former Soviet Republics, Australia, Papua New
Guinea, and Southeast Asia as well as expansion of existing areas and new
areas in the Middle East. In September 2006 and February 2007, the Trust
announced new contracts in Thailand, Papua New Guinea and Oman and an
extension of a contract with Saudi Arabia's national oil company.
    The review by the Special Committee of the Board and the Trust's external
financial advisors in respect of assessing strategic alternatives is ongoing
and is expected to conclude by the end of March 2007. Should this timeline be
achieved and it be determined that, in addition to a restructuring of the debt
of the Trust, a conversion to a corporation should occur, then the Trust
anticipates placing this matter before Unitholders for approval prior to
June 2007 (see "Liquidity and Capital Resources").

    Additional Information

    Additional information on the Trust, including its Annual Information
Form for the year ended December 31, 2006 can be found on SEDAR at
www.sedar.com.


    %SEDAR: 00022316E




For further information:

For further information: Jed Wood, Chief Executive Officer, High Arctic
Energy Services Trust, Tel: (403) 309-5657, jed.wood@haes.ca

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