**Exhibti 99.2**

 

**MANAGEMENT’S DISCUSSION ANDANALYSIS**

For the year ended December 31,2008

 

This management’sdiscussion and analysis (“MD&A”) of financial conditions and results ofoperations should be read in conjunction with the audited consolidated financialstatements and accompanying notes of Penn West Energy Trust (“Penn West”, “theTrust”, “We” or “Our”) for the years ended December 31, 2008 and 2007. Thedate of this MD&A is March 26, 2009.

 

For additionalinformation, including the Trust’s audited consolidated financial statementsand Annual Information Form, please go to the Trust’s website atwww.pennwest.com, in Canada at www.sedar.com or in the United States atwww.sec.gov.

 

All dollar amounts contained in this MD&A are expressed in millionsof Canadian dollars unless noted otherwise.

 

Please refer to our disclaimer on forward-looking statements at the endof this MD&A. The calculations of barrels of oil equivalent (“boe”) arebased on a conversion ratio of six thousand cubic feet of natural gas to onebarrel of crude oil. This could be misleading if used in isolation as it isbased on an energy equivalency conversion method primarily applicable at theburner tip and does not represent a value equivalency at the wellhead. Theaggregate of the exploration and development costs incurred in the most recentfinancial year and the change during that year in estimated future developmentcosts generally will not reflect total finding and development costs related toreserves additions for that year.

 

Measures including funds flow, funds flow per unit-basic, funds flowper unit-diluted, netback, recycle ratio, payout ratio and trailing funds flowincluded in this MD&A are not defined in generally accepted accountingprinciples (“GAAP”) and do not have a standardized meaning prescribed by GAAP;accordingly, they may not be comparable to similar measures provided by otherissuers. Penn West utilizes funds flow and netbacks to assess financialperformance, to allocate its capital among alternative projects and to assessits capacity to fund distributions and future capital programs. We use recycle ratio as one of our indicatorsto ensure our capital programs are adding reserves at an economic cost. Reconciliationsof funds flow to its nearest measure prescribed by GAAP are provided below.

 

Reported results of operations, funds flow and net income include theacquisitions of Canetic Resources Trust (“Canetic”) from the closing date of January 11,2008, Vault Energy Trust (“Vault”) from the closing date of January 10,2008 and Endev Energy Inc. (“Endev”) from the closing date of July 22,2008.

 

**Calculation of Funds Flow**

 
| ** **                                                  | ** ** | **Three months ended**

**December 31** | ** ** | **Year ended**

**December 31** | ** ** |
|-------------------------------------------------------------|------------|--------------------------------------------------------|------------|-------------------------------------------|------------|
| **(millions, except per unit amounts)** | ** ** | **2008**                                               | ** ** | **2007**                                  | ** ** | **2008** | ** ** | **2007** | ** ** |
| Cash flow from  operating activities                        | ** ** | **$**                                                  | **602**    | ** **                                | $          | 312 | ** ** | **$** | **2,256** | ** ** | $ | 1,242 |   |
| Increase  (decrease) in non-cash working capital            | ** ** | **(144**                                               | **)**      | 21                                        | ** ** | **196** | ** ** | 38 |   |
| Asset retirement  expenditures                              | ** ** | **32**                                                 | ** ** | 16                                        | ** ** | **85** | ** ** | 52 |   |
| Funds flow                                                  | ** ** | **$**                                                  | **490**    | ** **                                | $          | 349 | ** ** | **$** | **2,537** | ** ** | $ | 1,332 |   |
| Basic per unit                                              | ** ** | **$**                                                  | **1.27**   | ** **                                | $          | 1.44 | ** ** | **$** | **6.75** | ** ** | $ | 5.56 |   |
| Diluted per unit                                            | ** ** | **$**                                                  | **1.26**   | ** **                                | $          | 1.43 | ** ** | **$** | **6.66** | ** ** | $ | 5.51 |   |

 

1

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**Annual Financial Summary**

 
| ** **                                                  | ** ** | **Year ended December 31** | ** ** |
|-------------------------------------------------------------|------------|-------------------------------------------|------------|
| **(millions, except per unit amounts)** | ** ** | **2008**                                  | ** ** | **2007** | ** ** | **2006** | ** ** |
| Gross revenues (1)                                          | ** ** | **$**                                     | **4,651**  |   | $ | 2,462 |   | $ | 2,101 |   |
| Funds flow                                                  | ** ** | **2,537**                                 |       | 1,332 |   | 1,177 |   |
| Basic per unit                                              | ** ** | **6.75**                                  |       | 5.56 |   | 5.86 |   |
| Diluted per unit                                            | ** ** | **6.66**                                  |       | 5.51 |   | 5.78 |   |
| Net income                                                  | ** ** | **1,221**                                 |       | 175 |   | 666 |   |
| Basic per unit                                              | ** ** | **3.25**                                  |       | 0.73 |   | 3.32 |   |
| Diluted per unit                                            | ** ** | **3.22**                                  |       | 0.73 |   | 3.27 |   |
| Total  expenditures, net (2)                                | ** ** | **1,045**                                 |       | 1,140 |   | 578 |   |
| Long-term debt  at year-end                                 | ** ** | **3,854**                                 |       | 1,943 |   | 1,285 |   |
| Convertible  debentures                                     | ** ** | **296**                                   |       | — |   | — |   |
| Distributions  paid (3)                                     | ** ** | **1,500**                                 |       | 976 |   | 782 |   |
| Total assets                                                | ** ** | **$**                                     | **15,412** |   | $ | 8,433 |   | $ | 8,070 |   |

 

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(1)  Gross revenues include realized gains and losses on commodity contracts.

(2)  Excludes business combinations and includes net proceeds of propertyacquisitions/ dispositions.

(3)  Includes distributions paid and reinvested in trust units under thedistribution reinvestment plan.

 

**Quarterly Financial Summary**

(millions, except per unit and production amounts)

 
| **Three months ended** | ** ** | **Dec 31**

**2008** | ** ** | **Sep 30**

**2008** | ** ** | **June 30**

**2008** | ** ** | **Mar 31**

**2008** | ** ** | **Dec 31**

**2007** | ** ** | **Sep 30**

**2007** | ** ** | **June 30  2007** | ** ** | **Mar 31  2007** | ** ** |
|----------------------------------|------------|---------------------------|------------|---------------------------|------------|----------------------------|------------|---------------------------|------------|---------------------------|------------|---------------------------|------------|------------------------|------------|-----------------------|------------|
| Gross revenues  (1)              | ** ** | **$**                     | **968**    |                      | $          | 1,235                      |       | $                         | 1,312      |                      | $          | 1,136                     |       | $                      | 644        |                  | $          | 628 |   | $ | 608 |   | $ | 582 |   |
| Funds flow                       | ** ** | **490**                   |       | 662                       |       | 753                        |       | 632                       |       | 349                       |       | 346                       |       | 326                    |       | 311                   |       |
| Basic per unit                   | ** ** | **1.27**                  |       | 1.73                      |       | 2.00                       |       | 1.76                      |       | 1.44                      |       | 1.44                      |       | 1.37                   |       | 1.31                  |       |
| Diluted per unit                 | ** ** | **1.26**                  |       | 1.71                      |       | 1.98                       |       | 1.75                      |       | 1.43                      |       | 1.43                      |       | 1.35                   |       | 1.30                  |       |
| Net income  (loss)               | ** ** | **404**                   |       | 1,062                     |       | (323                       | )          | 78                        |       | 127                       |       | 138                       |       | (186                   | )          | 96                    |       |
| Basic per unit                   | ** ** | **1.05**                  |       | 2.78                      |       | (0.86                      | )          | 0.22                      |       | 0.53                      |       | 0.57                      |       | (0.77                  | )          | 0.41                  |       |
| Diluted per unit                 | ** ** | **1.04**                  |       | 2.73                      |       | (0.86                      | )          | 0.22                      |       | 0.52                      |       | 0.57                      |       | (0.77                  | )          | 0.40                  |       |
| Distributions  declared          | ** ** | **393**                   |       | 391                       |       | 384                        |       | 382                       |       | 246                       |       | 245                       |       | 243                    |       | 242                   |       |
| Per unit                         | ** ** | **$**                     | **1.02**   |                      | $          | 1.02                       |       | $                         | 1.02       |                      | $          | 1.02                      |       | $                      | 1.02       |                  | $          | 1.02 |   | $ | 1.02 |   | $ | 1.02 |   |
| Production                       |       |                      |       |                      |       |                       |       |                      |       |                      |       |                      |       |                   |       |                  |       |
| Liquids (bbls/d)  (2)            | ** ** | **105,644**               |       | 106,898                   |       | 109,417                    |       | 109,016                   |       | 73,332                    |       | 72,783                    |       | 70,923                 |       | 71,716                |       |
| Natural gas  (mmcf/d)            | ** ** | **476**                   |       | 500                       |       | 487                        |       | 500                       |       | 328                       |       | 315                       |       | 334                    |       | 340                   |       |
| Total (boe/d)                    | ** ** | **184,908**               |       | 190,177                   |       | 190,515                    |       | 192,291                   |       | 128,024                   |       | 125,345                   |       | 126,599                |       | 128,447               |       |

 

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(1)  Gross revenues include realized gains and losses on commodity contracts.

(2)  Includes crude oil and natural gas liquids.

 

**Financial Markets**

 

Financial market volatility and credit market uncertainty began in thefall of 2007 and continues into 2009. Initially, the issues in the financialmarkets had little impact on Penn West as commodity prices continued to risethrough the second quarter of 2008. Eventually, the combination of widespreaddeleveraging and high prices for all commodities led to a significant slowdownin essentially all of the world’s economies. In July 2008, energy pricesreached their highs and began to fall sharply; however, the fall was partiallyoffset by a decline in the Canadian dollar relative to the U.S. dollar. Thismarket turmoil led to a loss of confidence, unprecedented response fromgovernments to bolster the financial system, and significant price declines inmany of the world’s equity markets.

 

2

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During 2008, Penn West took several steps to strengthen its debtcapital structure through the following transactions:

 

·                  The placement of3-year, $4.0 billion credit facilities maturing in 2011. At December 31,2008 we had approximately $1.4 billion of unutilized capacity under thesefacilities. We subsequently applied the proceeds of our equity issue and assetdispositions to further increase our credit capacity.

·                  Thediversification of our debt portfolio through the further addition of senior,unsecured long-term private notes which now total $1.3 billion.

·                  Theimplementation of facilities with the TSX and NYSE to quickly raise capital asrequired or desired by way of “at-the-market” distributions of units.

 

Penn West continued its risk management program throughout 2008 andinto 2009 which aims to mitigate commodity price volatility and minimize creditand foreign exchange exposure. Risk management activities included:

 

·                  Hedgedapproximately 31 percent of our 2009 crude oil production between WTI prices ofUS$80.00 per barrel and US$110.21 per barrel and approximately 20 percent ofour 2009 natural gas production between AECO weighted average prices of $7.88per GJ and $11.27 per GJ.

·                  Entered intoforeign exchange contracts to swap US$720 million of U.S. dollar revenue for2009 to Canadian dollars at an average rate of one U.S. dollar equals 1.25Canadian dollars to fix the approximate floor value of our U.S. dollar denominatedWTI collars in Canadian dollars. Subsequent to year-end, entered into anadditional US$143 million of foreign exchange contracts to fix the remainder ofthe 2009 floor proceeds at an average rate of one U.S. dollar equals 1.22Canadian dollars.

·                  Entered intoseveral additional interest rate swaps to fix the interest rate on floatingrate debt at 2.80 percent on $500 million for two years and 2.31 percent on$800 million for three years to offset anticipated future increases in bankborrowing costs.

·                  Re-priced andextended the term of $650 million of existing interest rate swaps at a newaverage rate of 2.65 percent until January 2014.

·                  Monetized aportion of our crude oil financial contracts resulting in cash proceeds ofapproximately $123 million which were used to repay a portion of our creditfacility.

·                  Closelymonitored the risk of counterparty defaults.

 

In 2009, Penn West has taken additional actions in response to marketconditions. We reduced our 2009 capital program and distribution level as aresult of the current outlook for oil and natural gas prices, economic growthexpectations and the state of the financial markets. Compared to 2008, our 2009capital program was reduced significantly to between $600 million and $825million, and will further be reduced by $40 million, the amount of debtexpected to be assumed from the proposed acquisition of Reece EnergyExploration Corp. (“Reece”). Spending in the first six months of 2009 isexpected to be less than half of the annual planned range as we anticipate areduction in service costs throughout the year creating a more favourabledrilling environment in the latter part of 2009. The distribution level wasreduced to $0.23 per unit effective with the January 2009 distributionpaid in February 2009 and on March 26, 2009 a further reduction to $0.15per unit was announced effective with the April 2009 distribution paid in May2009. Assuming 2009 average prices of WTI NYMEX (“WTI”) US$45.00 per barrel,$5.50 per GJ natural gas at AECO and a Canadian to U.S. dollars exchange rateof 1.25, we believe that we can fund our capital program and distributions withinternally generated funds flow and the forecast proceeds of our distributionreinvestment program. We believe these actions are prudent in the currentenvironment as the future condition of the credit and commodity markets can notbe predicted with certainty at this time.

 

In February 2009, Penn West completed a bought-deal financingarrangement and issued 17,731,000 trust units for total proceeds ofapproximately $250 million ($238 million net). Penn West completed the sale ofthe previously announced group of properties producing approximately 3,600 boeper day for total proceeds of approximately $150 million during February 2009.Additionally, in February 2009, Penn West entered into an agreement forthe sale of gross overriding royalties for total proceeds of approximately $40million and total production of approximately 700 boe per day. This transactionclosed in March 2009. Proceeds from these transactions will be used toreduce bank debt.

 

3

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Penn West is committed to modifying our business strategies as requiredto ensure our financial position remains strong. Increasing financialflexibility will increase our ability to act on future strategic opportunitieswhich we believe will be available to us in 2009 and beyond.

 

**Commodity Markets**

 

Business Environment

 

The generally healthy global economic environment until the thirdquarter of 2008 resulted in increased demand for energy which outpaced thegrowth in supply. This was most evident in developing economies such as Asiaand the Middle East. This strong demand resulted in steady upward pressure oncommodity prices with oil peaking this past July at a historical high ofover US$145.00 per barrel for the prompt month NYMEX WTI contract. These recordcommodity prices contributed in part to the economic slowdown which followedand caused most analysts to subsequently reduce their demand growth forecastsfor energy products. North American demand for crude oil and refined productsis believed to be in excess of 1.0 mmbbls per day lower than last year and someforecasters are expecting global oil demand to contract by another 1.0 mmbblsper day during 2009. In response to the resultant decline in energy prices,capital spending plans were significantly reduced by the oil industry,particularly plans related to mineable oil sands and upgrading projects. Webelieve this prompt response by industry will potentially bring oil supply anddemand back into balance, and perhaps sooner than generally expected.

 

Crude Oil

 

WTI averaged US$99.66 per barrel in 2008 compared to US$72.34 perbarrel in 2007. Crude prices started 2008 just below US$100.00 per barrel andthen increased dramatically over the first six months. The credit crisis wasnot yet believed to affect the broader economy and the market was concernedthat supply might not meet expected demand growth. After prices peaked in July,concerns regarding demand growth emerged along with the financial crisiscausing prices to decline quickly, to below US$35.00 per barrel momentarily in December andsubsequent to year-end. OPEC pledged two production cuts in the fourth quarterof 2008 in an effort to offset the decline in demand for oil. It is currentlyunknown whether OPEC’s pledged production cuts will be sufficient to balancesupply and demand, however, further OPEC cuts are promised by certain membersof the cartel if supply and demand imbalances continue. Penn West believes thatwhen economic conditions improve, the supply and demand for oil will re-balancein the mid term due in part to re-emerging demand and secondly due to thesupply issues. We believe that incremental future supply will be limited due tocontinuing depletion of existing fields and the cancellation or deferral ofmany large oil projects in response to current energy prices.

 

WTI crude oil prices averaged US$58.76 per barrel in the fourth quarterof 2008, down from US$118.13 per barrel in the third quarter of 2008 andUS$90.63 per barrel for the fourth quarter of 2007. Penn West’s fourth quarter2008 crude oil price was also impacted by the high volatility in the Canadianto U.S. dollar exchange rate and the widening of differentials to reflect theoil quality and transportation costs associated with certain Canadian crudeoils. Due to large inventories of gasoline in the U.S., Penn West’s fourthquarter oil price was also impacted by abnormally high discounts on light sweetcrude oil (compared to WTI), which makes up the largest portion of our crudeoil production portfolio. Penn West’s average crude oil and liquids price forthe fourth quarter, before the impact of risk management, was $49.94 perbarrel.

 

Natural Gas

 

Natural gas prices strengthened moderately in 2008 with the AECOMonthly Index averaging $7.71 per GJ versus $6.26 per GJ in 2007. In the firstsix months of 2008, the trend of natural gas prices was similar to crude oilprices primarily due to reduced imports of liquefied natural gas (“LNG”) intothe U.S., increased demand for natural gas in power generation and cold winterweather at the beginning of 2008. Due to the economic slowdown, the demand fornatural gas has softened similar to oil with price declines since July. The industryresponded to the downturn in natural gas prices by reducing natural gasdrilling activity in North America, which, coupled with high initial declinerates for natural gas (particularly unconventional natural gas), is expected toreduce future supply.

 

Extremely high levels of drilling for unconventional gas over the pastseveral years have resulted in high inventory levels across North America at atime when the demand for natural gas is expected to decline. This combinationof events resulted in downward pressure on natural gas prices. The AECO MonthlyIndex in the fourth quarter of 2008 averaged $6.43 per GJ down from $8.78 perGJ in the third quarter, but higher than the fourth quarter of 2007 whichaveraged $5.69 per GJ. Penn West’s corporate average gas price for the fourthquarter before the impact of risk management was $7.03 per mcf.

 

4

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**The New Alberta Royalty Framework**

 

On October 25, 2007, the Government of Alberta (the “Government”)released its new royalty framework (the “NRF”) which became effective on January 1,2009. The NRF maintainsor continues certain programs that are important to Penn West, including theoil sands administrative status of the lands related to our Peace River HeavyOil project, Enhanced Oil Recovery (“EOR”) and Innovative Technology incentiveprograms important to the economics of our CO2 and otherEOR projects and the continuance of the Otherwise Flared Solution Gas WaiverProgram supporting our environmental and asset optimization objectives.

 

Penn West, as the largest energy trust in North America by production,has a diversity of play types principally across the Western Canada SedimentaryBasin. Approximately 55 percent of our production is from Alberta Crown leasesand our historical asset strategies have favoured mature light oil assets whichgenerally remain economic under the NRF. In November 2008, the Governmentannounced further royalty program changes. From November 19, 2008 untilthe end of 2013, the Government provided transitional royalty rates on naturalgas or conventional oil wells drilled at depths between 1,000 and 3,500 metres.Producers have the one-time option of selecting the transitional royalty ratesor the rates under the NRF and wells that adopt the transitional royalty ratesare required to move to the NRF beginning on January 1, 2014. In thecurrent commodity price environment, Penn West currently expects a 0.5 percentto 1.0 percent reduction to its corporate average royalty rate in 2009 as aresult of these programs.

 

**Enactment of the Tax on Income Trusts**

 

On June 12, 2007, federal legislation was enacted implementing a new tax (the “SIFT Tax”) on certainpublicly traded income trusts and limited partnerships, referred to as “SpecifiedInvestment Flow-Through” (“SIFT”) entities.

 

For SIFTs in existence on October 31,2006 (including Penn West), the SIFT Tax will become effective in 2011.If certain  rules relatedto “undue expansion” are not adhered to (“the normal growthguidelines”), the SIFT Taxwill apply prior to 2011. Under the guidance provided by the Departmentof Finance, with the close of Vault and Canetic, we estimate that we canincrease our equity by approximately $14 billion anytime between now and 2011without prematurely triggering the SIFT Tax.

 

Under the SIFT Tax, distributions of certain types of income will notbe deductible for income tax purposes by SIFTs in 2011 and thereafter and anyresultant trust level taxable income will be taxed at a rate that will beapproximately equal to corporate income tax rates. The SIFT Tax rate iscurrently 29.5 percent in 2011 and 28.0 percent thereafter.

 

On June 9, 2008, further changes to the SIFT Tax rules (the “ProvincialSIFT Tax”) were announced. These changes provide that the provincial componentof the SIFT Tax is to be based on provincial corporate income tax rates wherethe SIFT has permanent establishments, rather than using a 13 percent flat rateas originally legislated. On July 14, 2008 the Department of Financereleased draft regulations which prescribe the detailed provincial allocationformula to be applied in respect of the Provincial SIFT Tax. As theseregulations were not yet considered to be substantively enacted for accountingpurposes at December 31, 2008, the 13 percent flat rate remainedapplicable for financial statement purposes. Subsequent to year-end, on March 12,2009, the Government of Canada enacted this legislation. Under the new rules,Penn West currently has its only permanent establishment in the Province of Alberta.Accordingly, we expect the Provincial SIFT Tax applicable to Penn West will bereduced from 13 percent to 10 percent resulting in a combined SIFT Tax rate in2011 of 26.5 percent and in 2012 of 25.0 percent. As a result of thisenactment, Penn West estimates it will record a future tax recovery ofapproximately $65 million in the first quarter of 2009.

 

The Legislative Proposals released by the Department of Finance on July 14,2008 (the “Tax Proposals”) also included draft legislation relating to theconversion of SIFT entities into corporations (the “SIFT Conversion Rules”). OnNovember 28, 2008, the Minister of Finance introduced legislation into theHouse of Commons which included the SIFT Conversion Rules and on December 4,2008 released Explanatory notes to accompany these changes. The effect of theSIFT Conversion Rules is to enable a conversion of a SIFT entity into acorporation without undue tax consequences for the SIFT entity or its investorsand to facilitate such conversion with minimal filing requirements. Theopportunity for a SIFT entity to apply these relieving provisions will only beavailable until the end of 2012. As of December 31, 2008, this legislationhad not been enacted. The Explanatory notes also contained provisions to modifythe Department of Finance’s previously announced normal growth guidelines toeliminate the staging of the safe harbour limits for each of 2009 and 2010.This means the cumulative unused safe harbour limit, based on marketcapitalization on October 31, 2006, is available to be used in a singleyear anytime from December 4, 2008 to the end of 2010.

 

 

5

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Penn West currently has a significant tax poolbase, estimated at $6.0 billion on December 31, 2008. Based on currentcommodity prices, Penn West forecasts it could use these pools to shelter itstaxable income for a period after the effective date of the SIFT Tax.Distributions sheltered by tax pools are not immediately taxable to the Trustor to unitholders. These distributions represent a return of capitalwhich results in an adjustment to a unitholder’s adjusted cost base of trustunits. To the extent tax pools are insufficient to shelter distributions after2010, the SIFT Tax would be payable and those distributions would be consideredtaxable dividends to unitholders taxed at a lower rate than currentdistributions of income as these distributions will generally be eligible forthe dividend tax credit. As a result, the SIFT Tax should not adversely affectCanadian investors who hold Penn West units in a taxable account.

 

Our Board of Directors and management are continuously monitoring theimpact of taxes on our business strategies. Penn West has a series of prospectswhich could be developed in the future in various stages. These opportunitiesinclude light oil, heavy oil, oil sands and natural gas conventional, enhancedrecovery and resource plays. Current business plans are to evaluate theproduction, reserves potential and economics of developing this suite ofprospects over the next two to four years under various price scenarios. Theoutcome of these evaluations will determine Penn West’s most appropriate futurebusiness model, however, there are no current plans to convert out of the trustmodel until at least 2011.

 

The SIFT Tax and the future business model determined to be appropriatefor Penn West will affect the tax position of both Penn West and itsunitholders including:

 

·                  If Penn Westremains in the trust model after 2011, thedistribution yield net of taxes to taxable Canadian investors will remainapproximately the same; however, the after-tax distribution yield totax-deferred Canadian investors (RRSPs, RRIFs, pension plans, etc.) and toforeign investors will be reduced;

·                  A portion ofPenn West’s funds flow after 2011 could be required for the payment of the SIFTTax or corporate income tax (after its tax pools are consumed) as applicable,and would not be generally available for distribution or reinvestment;

·                  Penn West couldconvert to a corporate structure to facilitate investing a higher proportion ofits funds flow in exploration and development projects and to capture thetax-free provisions available to convert out of the trust structure. Under theSIFT Conversion Rules there will be no adverse tax consequences due to aconversion to a corporation provided the conversion is completed prior to 2013.Such a conversion is dependent on the extent of Penn West’s success indeveloping various plays over the next two to four years. The business model inthis case would be a hybrid model where moderate growth is targeted along withproviding investors an income stream in the form of dividends. While such adividend stream would be at a lower payout ratio than the current trustdistributions, the tax paid on the dividends would be lower for certaininvestors;

·                  Penn West maydetermine that it is more economic to remain in the trust structure for aperiod of time after 2010, strive to shelter its taxable income using tax poolsand pay all or a portion of its distributions on a return of capital basiswhich attracts no current tax. Such distributions would likely be at a lowerpayout ratio than prior to the SIFT Tax. Distributions subject to the SIFT taxwould be taxed as dividends and would be subject to a lower tax rate to certaininvestors than current distributions.

 

The Trust continues to review corporate structures and alternativeswhich might serve to reduce the impact of the SIFT Tax on Penn West and itsunitholders. The release of the November 28, 2008 rules on SIFTconversions to corporations clarifies certain taxation aspects of thisanalysis. While there can be no assurance that the negative effect of the SIFTTax can be minimized or eliminated, Penn West and its tax advisors continue towork diligently on these issues.

 

6

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**Canetic Acquisition**

 

On January 11, 2008, Penn West closed its acquisition of CaneticResources Trust (“Canetic”) for a total acquisition cost of approximately $3.6billion, funded through the issuance of approximately 124.3 million trustunits, calculated based on the volume weighted average trading price of theunits around the date of the announcement, discounted by five percent toreflect normal equity issuance costs. The acquisition by Penn West wasaccounted for using the purchase method. The allocation of the considerationpaid to the fair value of the identifiable assets and liabilities was asfollows:

 
| **Purchase price**                     | ** ** | **(millions)** | ** ** |
|---------------------------------------------|------------|----------------|------------|
| 124.3 million  Penn West trust units issued |       | $              | 3,573      |   |
| Transaction  costs                          |       | 22             |       |
|                                        |       | $              | 3,595      |   |

 
| **Allocation of purchase price** | ** ** | ** ** | ** ** |
|-------------------------------------------------|------------|------------|------------|
| Property, plant  and equipment                  |       | $          | 4,979      |   |
| Goodwill                                        |       | 1,348      |       |
| Working capital  deficiency                     |       | (274       | )          |
| Bank debt                                       |       | (1,443     | )          |
| Convertible  debentures                         |       | (261       | )          |
| Risk management  liability                      |       | (65        | )          |
| Future income  taxes                            |       | (511       | )          |
| Asset retirement  obligations                   |       | (178       | )          |
|                                            |       | $          | 3,595      |   |

 

**Vault Acquisition**

 

On January 10, 2008, Penn West closed its acquisition of VaultEnergy Trust (“Vault”) for a total acquisition cost of approximately $164million funded through the issuance of approximately 5.6 million trust units.The trust unit value was calculated based on the volume weighted averagetrading price of the units around the date of the announcement, discounted byfive percent to reflect normal equity issuance costs. The acquisition by PennWest was accounted for using the purchase method. The allocation of theconsideration paid to the fair value of the identifiable assets and liabilitieswas as follows:

 
| **Purchase price**                   | ** ** | **(millions)** | ** ** |
|-------------------------------------------|------------|----------------|------------|
| 5.6 million Penn  West trust units issued |       | $              | 158        |   |
| Transaction  costs                        |       | 6              |       |
|                                      |       | $              | 164        |   |

 
| **Allocation of purchase price** | ** ** | ** ** | ** ** |
|-------------------------------------------------|------------|------------|------------|
| Property, plant  and equipment                  |       | $          | 346        |   |
| Goodwill                                        |       | 20         |       |
| Working capital                                 |       | 2          |       |
| Future income  taxes                            |       | 47         |       |
| Bank debt                                       |       | (114       | )          |
| Convertible  debentures                         |       | (99        | )          |
| Risk management  liability                      |       | (2         | )          |
| Asset retirement  obligations                   |       | (36        | )          |
|                                            |       | $          | 164        |   |

 

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**Endev Acquisition**

 

On July 22, 2008,the acquisition of Endev Energy Inc. (“Endev”)was successfully completed. Penn West issued approximately 3.6 million trustunits for total consideration of $115 million and assumed approximately $45million of debt and working capital. The acquisition was accomplished through aPlan of Arrangement wherein Endev shareholders received 0.041 of a Penn Westtrust unit for each Endev share.

 

**Reece Acquisition**

 

Subsequent to year-end,on March 10, 2009, Penn West entered into an arrangement agreement withReece whereby Penn West intends to purchase all of the outstanding shares ofReece. The acquisition will be completed through a plan of arrangement wherebyeach share of Reece will be exchanged for 0.125 of a Penn West trust unit. Thetotal acquisition cost is expected to be approximately $92 million, whichincludes approximately $40 million related to debt. As a result, Penn Westanticipates reducing its 2009 development capital program by the debt assumedin the transaction. Additionally, the transaction is expected to add currentproduction of approximately 2,100 barrels of oil equivalent per day in areasthat complement Penn West’s existing operations.

 

**Unitholder ValueMeasures**

 
| ** **                                                   | ** ** | **Year ended December 31** | ** ** |
|--------------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                   | ** ** | **2008**                                  | ** ** | **2007** | ** ** | **2006** | ** ** |
| Funds flow per  unit                                         | ** ** | **$**                                     | **6.75**   |   | $ | 5.56 |   | $ | 5.86 |   |
| Distributions  per unit                                      | ** ** | **$**                                     | **4.08**   |   | $ | 4.08 |   | $ | 4.05 |   |
| Ratio of  year-end total long-term debt to annual funds flow | ** ** | **1.5**                                   |       | 1.5 |   | 1.1 |   |

 

Penn West maintained adistribution of $0.34 per unit per month throughout 2008 and had continued thatlevel since the rate was increased in February 2006. In 2009, thedistribution level was decreased to $0.23 per unit per month effective with theJanuary 2009 distribution paid in February and on March 26, 2009 a furtherreduction to $0.15 per unit was announced effective with the April 2009distribution paid in May 2009, as a result of 2009 planned capital expendituresand 2009 forecasted commodity prices.

 

The total debt totrailing funds flow ratio remained at 1.5 in 2008 as a result of strong fundsflow due to high commodity prices for the first nine months of the year.

 

**PerformanceIndicators**

 
| ** **                                                             | ** ** | **Year ended December 31** | ** ** |
|------------------------------------------------------------------------|------------|----------------------------|------------|
| ** **                                                             | ** ** | **2008**                   | ** ** | **2007** | ** ** | **2006** | ** ** |
| Recycle ratio  (1)                                                     | ** ** | **1.9**                    | ** ** | 1.1 |   | 0.7 |   |
| Finding and  development costs per boe – proved plus probable (2) | ** ** | **$**                      | **24.57**  | ** ** | $ | 28.81 |   | $ | 61.22 |   |
| Finding and  development costs per boe – proved (3)               | ** ** | **$**                      | **31.94**  | ** ** | $ | 31.83 |   | $ | 57.11 |   |
| Return on  capital (4)                                                 | ** ** | **15**                     | **%**      | 4 | % | 16 | % |
| Return on equity  (5)                                                  | ** ** | **19**                     | **%**      | 4 | % | 18 | % |
| Total assets  (millions)                                               | ** ** | **$**                      | **15,412** | ** ** | $ | 8,433 |   | $ | 8,070 |   |

 

----

(1)          Recycle ratio is calculated as the overall netback(excluding risk management impacts) per boe for the period divided by findingand development costs per boe.

(2)          Finding and development costs calculated on a provedplus probable basis and include the change in future development capital. Theaverage finding and development costs for the last three years were $30.15 perboe.

(3)          Finding and development costs calculated on a provedbasis and include the change in future development capital. The average findingand development costs for the last three years were $35.39 per boe.

(4)          Net income before financing charges divided byaverage unitholders’ equity and average total debt.

(5)          Net income divided by average unitholders’ equity.

 

The management and Boardof Penn West evaluate the performance of the Trust based on three maincategories; base operations, recycle ratio (netback divided by finding anddevelopment costs) and financial, business and strategic considerations.

 

8

----

 

Base operations includesour overall execution including production and operations, health, safety,environmental and regulatory. Financial and business strategy includes theexecution and quality of our asset and corporate acquisitions, portfoliomanagement of our asset base, the quality of initiating and executing financialtransactions, balance sheet stewardship, and that our strategic decisions anddirection are accretive to our overall goal of creating unitholder value. Wedefine unitholder value as the relative return on investment to ourunitholders.

 

In 2008, Penn West’s capital program, excludingcorporate acquisitions, added a total of 58 million boe of proved plus probablereserves. Including all capital expenditures (except corporate acquisitions),our proved plus probable finding and development cost was $18.94 per boe beforethe change in future development costs (“FDC”) and $24.57 per boe after thechange in FDC. Excluding risk management impacts, Penn West’s recycle ratio was2.4 times before the change in FDC and 1.9 times after the change in FDC, whichmeets our targets. Various initiatives are under way to further improve ourfinding and development cost performance. Finding and development (“F&D”)costs are calculated in accordance with NI 51-101, including FDC, on both aProved and Proved plus Probable basis. We also disclose for comparativepurposes, F&D costs excluding FDC.

 

Penn West’s annualproduction levels were generally in line with guidance provided in our thirdquarter 2008 MD&A, however, we were disappointed with our productionperformance compared to earlier guidance. As a result, the Trust recentlyre-organized certain parts of its business, including the executive level, andcertain business processes have been modified to address these issues.

 

Subsequent to theintegrations of the Canetic, Vault and Endev acquisitions in 2008, Penn Westinitiated a portfolio approach to analyzing its asset base which currentlyincludes most play types and active areas of the Western Canada SedimentaryBasin as well as a multi-million-acre land base. Areas of future focus undervarious commodity price and industry service cost scenarios have beendeveloped. At the same time, areas for divestiture were also identified to freeup capital for the focus areas. We actively marketed assets for sale throughthe fall of 2008 and realized proceeds from the sale of a portion of theseassets of approximately $150 million. Additionally, in February 2009, PennWest entered into an agreement for the sale of gross overriding royalties fortotal proceeds of approximately $40 million which closed in March 2009.

 

During 2008, variousinitiatives were successfully executed to protect Penn West from the creditcrisis and to further diversify its debt capital structure as discussed earlierin this MD&A.

 

In 2008, we continued ourstrong focus on Health and Safety demonstrated through our injury rate declinefor employees and contractors of 15 percent and eight percent, respectively,compared to 2007. In addition, we maintained a regulatory compliance record of83 percent in Alberta which was eight percent higher than the industry average,we maintained our Certificate of Recognition based on our external health andsafety management system audit and continued our Platinum level of Performancein the CAPP Stewardship program. In the year, we were recognized for ourleadership in environmental performance and named as one of fifteen companiesto the TSX Carbon Disclosure Leadership Index. Penn West continues to be in theforefront of Carbon Capture and Storage and currently has three commercial andtwo pilot CO2-EORprojects.

 

**RESULTS OF OPERATIONS**

 

**Production**

 
| ** **                  | ** ** | **Three months ended December 31** | ** ** | **Year ended December 31** | ** ** |
|-----------------------------|------------|--------------------------------------------------------|------------|-------------------------------------------|------------|
| **Daily production**   | ** ** | **2008**                                               | ** ** | **2007**                                  | ** ** | **% change** | ** ** | **2008** | ** ** | **2007** | ** ** | **% change** | ** ** |
| Light oil and  NGL (bbls/d) | ** ** | **79,115**                                             |       | 51,070                                    |       | 55 | ** ** | **80,370** |   | 50,175 |   | 60 |   |
| Heavy oil  (bbls/d)         | ** ** | **26,529**                                             |       | 22,262                                    |       | 19 | ** ** | **27,366** |   | 22,019 |   | 24 |   |
| Natural gas  (mmcf/d)       | ** ** | **476**                                                |       | 328                                       |       | 45 | ** ** | **490** |   | 329 |   | 49 |   |
| Total production  (boe/d)   | ** ** | **184,908**                                            |       | 128,024                                   |       | 44 | ** ** | **189,462** |   | 127,098 |   | 49 |   |

 

Production in the fourthquarter of 2008 declined from the 190,177 boe per day produced in the thirdquarter of 2008 primarily due to cold weather that occurred late in the year.Production in 2008 exceeded 2007 primarily due to the additional productionfrom the Canetic and Vault acquisitions.

 

9

----

 

We strive to maintain anapproximately balanced portfolio of liquids and natural gas production providedit is economic to do so. We believe an approximate balance helps to reduceexposure to price volatility that can affect a single commodity. In the fourthquarter of 2008, crude oil and NGL production averaged 105,644 barrels per day(57 percent of production) and natural gas production averaged 476 mmcf per day(43 percent of production).

 

We drilled 52 net wellswith a success rate of 94 percent in the fourth quarter of 2008 compared to 43net wells at a success rate of 99 percent in the same period of 2007.

 

**Average Sales Prices**

 
| ** **                                 | ** ** | **Three months ended**

**December 31** | ** ** | **Year ended**

**December 31** | ** ** |
|--------------------------------------------|------------|--------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                 | ** ** | **2008**                                               | ** ** | **2007**                                  | ** ** | **%**

**change** | ** ** | **2008** | ** ** | **2007** | ** ** | **%**

**change** | ** ** |
|                                       |       |                                                   |       |                                      |       |   |   |   |   |   |   |   |   |
| Light oil and  liquids (per bbl)           | ** ** | **$**                                                  | **53.72**  | ** **                                | $          | 76.99 |   | (30 | ) | **$** | **91.30** | ** ** | $ | 68.75 |   | 33 |   |
| Risk management  gain (loss) (per bbl) (1) | ** ** | **5.09**                                               | ** ** | (3.87                                     | )          | 100 |   | **(11.89** | **)** | (0.97 | ) | (100 | ) |
| Light oil and  liquids net (per bbl)       | ** ** | **58.81**                                              | ** ** | 73.12                                     |       | (20 | ) | **79.41** | ** ** | 67.78 |   | 17 |   |
|                                       |       |                                                   | ** ** |                                      |       |   |   |   | ** ** |   |   |   |   |
| Heavy oil (per  bbl)                       | ** ** | **38.67**                                              | ** ** | 48.69                                     |       | (21 | ) | **74.55** | ** ** | 45.26 |   | 65 |   |
|                                       |       |                                                   | ** ** |                                      |       |   |   |   | ** ** |   |   |   |   |
| Natural gas (per  mcf)                     | ** ** | **7.03**                                               | ** ** | 6.34                                      |       | 11 |   | **8.43** | ** ** | 6.85 |   | 23 |   |
| Risk management  gain (loss) (per mcf) (1) | ** ** | **0.37**                                               | ** ** | 0.20                                      |       | 85 |   | **(0.39** | **)** | 0.17 |   | (100 | ) |
| Natural gas net  (per mcf)                 | ** ** | **7.40**                                               | ** ** | 6.54                                      |       | 13 |   | **8.04** | ** ** | 7.02 |   | 15 |   |
|                                       |       |                                                   | ** ** |                                      |       |   |   |   | ** ** |   |   |   |   |
| Weighted average  (per boe)                | ** ** | **46.79**                                              | ** ** | 55.44                                     |       | (16 | ) | **71.65** | ** ** | 52.73 |   | 36 |   |
| Risk management  gain (loss) (per boe) (1) | ** ** | **3.12**                                               | ** ** | (1.02                                     | )          | 100 |   | **(6.05** | **)** | 0.06 |   | (100 | ) |
| Weighted average  net (per boe)            | ** ** | **$**                                                  | **49.91**  | ** **                                | $          | 54.42 |   | (8 | ) | **$** | **65.60** | ** ** | $ | 52.79 |   | 24 |   |

 

----

(1)          Realized component of risk management activitiesrelated to oil and natural gas prices, excluding the monetization of crude oilcontracts completed in October 2008.

 

10

----

 

**Netbacks**

 
| ** **                       | ** ** | **Three months ended December 31** | ** ** | **Year ended December 31** | ** ** |
|----------------------------------|------------|--------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                       | ** ** | **2008**                                               | ** ** | **2007**                                  | ** ** | **%**

**change** | ** ** | **2008** | ** ** | **2007** | ** ** | **%**

**change** | ** ** |
| **Light  oil and NGL (1)**       |       |                                                   | ** ** |                                      |       |   |   |   | ** ** |   |   |   |   |
| Production  (bbls/day)           | ** ** | **79,115**                                             | ** ** | 51,070                                    |       | 55 | ** ** | **80,370** | ** ** | 50,175 |   | 60 |   |
| Operating  netback ($/bbl):      |       |                                                   | ** ** |                                      |       |   |   |   | ** ** |   |   |   |   |
| Sales price                      | ** ** | **$**                                                  | **53.72**  | ** **                                | $          | 76.99 |   | (30 | ) | **$** | **91.30** | ** ** | $ | 68.75 |   | 33 |   |
| Risk management  (loss) gain (2) | ** ** | **5.09**                                               | ** ** | (3.87                                     | )          | 100 |   | **(11.89** | **)** | (0.97 | ) | (100 | ) |
| Royalties                        | ** ** | **(9.24**                                              | **)**      | (13.24                                    | )          | (30 | ) | **(15.46** | **)** | (11.94 | ) | 29 |   |
| Operating costs                  | ** ** | **(18.16**                                             | **)**      | (15.55                                    | )          | 17 |   | **(16.94** | **)** | (15.29 | ) | 11 |   |
| Netback                          | ** ** | **$**                                                  | **31.41**  | ** **                                | $          | 44.33 |   | (29 | ) | **$** | **47.01** | ** ** | $ | 40.55 |   | 16 |   |
| **Heavy  oil**                   |       |                                                   | ** ** |                                      |       |   |   |   | ** ** |   |   |   |   |
| Production  (bbls/day)           | ** ** | **26,529**                                             | ** ** | 22,262                                    |       | 19 |   | **27,366** | ** ** | 22,019 |   | 24 |   |
| Operating  netback ($/bbl):      |       |                                                   | ** ** |                                      |       |   |   |   | ** ** |   |   |   |   |
| Sales price                      | ** ** | **$**                                                  | **38.67**  | ** **                                | $          | 48.69 |   | (21 | ) | **$** | **74.55** | ** ** | $ | 45.26 |   | 65 |   |
| Royalties                        | ** ** | **(5.80**                                              | **)**      | (7.18                                     | )          | (19 | ) | **(11.09** | **)** | (6.79 | ) | 63 |   |
| Operating costs                  | ** ** | **(14.04**                                             | **)**      | (12.32                                    | )          | 14 |   | **(13.37** | **)** | (12.18 | ) | 10 |   |
| Transportation                   | ** ** | **(0.05**                                              | **)**      | (0.06                                     | )          | (17 | ) | **(0.06** | **)** | (0.07 | ) | (14 | ) |
| Netback                          | ** ** | **$**                                                  | **18.78**  | ** **                                | $          | 29.13 |   | (36 | ) | **$** | **50.03** | ** ** | $ | 26.22 |   | 91 |   |
| **Total liquids**                |       |                                                   | ** ** |                                      |       |   |   |   | ** ** |   |   |   |   |
| Production  (bbls/day)           | ** ** | **105,644**                                            | ** ** | 73,332                                    |       | 44 |   | **107,736** | ** ** | 72,194 |   | 49 |   |
| Operating  netback ($/bbl):      |       |                                                   | ** ** |                                      |       |   |   |   | ** ** |   |   |   |   |
| Sales price                      | ** ** | **$**                                                  | **49.94**  | ** **                                | $          | 68.40 |   | (27 | ) | **$** | **87.04** | ** ** | $ | 61.59 |   | 41 |   |
| Risk management  (loss) gain (2) | ** ** | **3.81**                                               | ** ** | (2.69                                     | )          | 100 |   | **(8.87** | **)** | (0.67 | ) | 100 |   |
| Royalties                        | ** ** | **(8.37**                                              | **)**      | (11.40                                    | )          | (27 | ) | **(14.35** | **)** | (10.37 | ) | 38 |   |
| Operating costs                  | ** ** | **(17.12**                                             | **)**      | (14.57                                    | )          | 18 |   | **(16.03** | **)** | (14.34 | ) | 12 |   |
| Transportation                   | ** ** | **(0.01**                                              | **)**      | (0.02                                     | )          | (50 | ) | **(0.01** | **)** | (0.02 | ) | (50 | ) |
| Netback                          | ** ** | **$**                                                  | **28.25**  | ** **                                | $          | 39.72 |   | (29 | ) | **$** | **47.78** | ** ** | $ | 36.19 |   | 32 |   |
| **Natural  gas (3)**             |       |                                                   | ** ** |                                      |       |   |   |   | ** ** |   |   |   |   |
| Production  (mmcf/day)           | ** ** | **476**                                                | ** ** | 328                                       |       | 45 |   | **490** | ** ** | 329 |   | 49 |   |
| Operating  netback ($/mcf):      |       |                                                   | ** ** |                                      |       |   |   |   | ** ** |   |   |   |   |
| Sales price                      | ** ** | **$**                                                  | **7.03**   | ** **                                | $          | 6.34 |   | 11 |   | **$** | **8.43** | ** ** | $ | 6.85 |   | 23 |   |
| Risk management  (loss) gain (2) | ** ** | **0.37**                                               | ** ** | 0.20                                      |       | 85 |   | **(0.39** | **)** | 0.17 |   | (100 | ) |
| Royalties                        | ** ** | **(1.60**                                              | **)**      | (1.34                                     | )          | 19 |   | **(1.84** | **)** | (1.48 | ) | 24 |   |
| Operating costs                  | ** ** | **(1.34**                                              | **)**      | (1.17                                     | )          | 15 |   | **(1.23** | **)** | (1.12 | ) | 10 |   |
| Transportation                   | ** ** | **(0.19**                                              | **)**      | (0.21                                     | )          | (10 | ) | **(0.19** | **)** | (0.20 | ) | (5 | ) |
| Netback                          | ** ** | **$**                                                  | **4.27**   | ** **                                | $          | 3.82 |   | 12 |   | **$** | **4.78** | ** ** | $ | 4.22 |   | 13 |   |
| **Combined  totals**             |       |                                                   | ** ** |                                      |       |   |   |   | ** ** |   |   |   |   |
| Production  (boe/day)            | ** ** | **184,908**                                            | ** ** | 128,024                                   |       | 44 |   | **189,462** | ** ** | 127,098 |   | 49 |   |
| Operating  netback ($/boe):      |       |                                                   | ** ** |                                      |       |   |   |   | ** ** |   |   |   |   |
| Sales price                      | ** ** | **$**                                                  | **46.79**  | ** **                                | $          | 55.44 |   | (16 | ) | **$** | **71.65** | ** ** | $ | 52.73 |   | 36 |   |
| Risk management  (loss) gain (2) | ** ** | **3.12**                                               | ** ** | (1.02                                     | )          | 100 |   | **(6.05** | **)** | 0.06 |   | (100 | ) |
| Royalties                        | ** ** | **(8.89**                                              | **)**      | (9.97                                     | )          | (11 | ) | **(12.95** | **)** | (9.72 | ) | 33 |   |
| Operating costs                  | ** ** | **(13.22**                                             | **)**      | (11.35                                    | )          | 16 |   | **(12.31** | **)** | (11.04 | ) | 12 |   |
| Transportation                   | ** ** | **(0.49**                                              | **)**      | (0.56                                     | )          | (13 | ) | **(0.49** | **)** | (0.52 | ) | (6 | ) |
| Netback                          | ** ** | **$**                                                  | **27.31**  | ** **                                | $          | 32.54 |   | (16 | ) | **$** | **39.85** | ** ** | $ | 31.51 |   | 26 |   |

 

----

(1)          Light oil and NGL revenuesfor the year ended December 31, 2008 includes $23 million in sulphur andother revenue and the $18 million provision against the SemGroup receivable isnot included in the netback calculation. The $123 million received in October 2008from the monetization of a portion of the crude oil collars is excluded fromthe netback calculations.

(2)          Gross revenues includerealized gains and losses on commodity contracts.

(3)          Gas revenue includes a $5million adjustment relating to the final business interruption insurancesettlement in 2008 pertaining to the Wildboy fire.

 

11

----

 

**Production Revenues**

 

Revenues from the sale ofoil, NGL and natural gas consisted of the following:

 
| ** **             | ** ** | **Year ended December 31** | ** ** |
|------------------------|------------|-------------------------------------------|------------|
| **(millions)**         | ** ** | **2008**                                  | ** ** | **2007** | ** ** | **2006** | ** ** |
| Light oil and  NGL (1) | ** ** | **$**                                     | **2,465**  |   | $ | 1,241 |   | $ | 923 |   |
| Heavy Oil              | ** ** | **747**                                   |       | 364 |   | 327 |   |
| Natural Gas (2)        | ** ** | **1,439**                                 |       | 857 |   | 851 |   |
| Gross revenues  (3)    | ** ** | **$**                                     | **4,651**  |   | $ | 2,462 |   | $ | 2,101 |   |

 

----

(1)          Light oil and NGL revenuesfor the year ended December 31, 2008 includes $123 million relating to themonetization of a portion of the crude oil collars, $23 million in sulphur andother revenue and the $18 million provision against the SemGroup receivable isnot included in the netback calculation.

(2)          Gas revenue includes a $5million adjustment relating to the final business interruption insurancesettlement in 2008 pertaining to the Wildboy fire.

(3)   Gross revenues include realized gains andlosses on commodity contracts.

 

The increase in revenuefor 2008 over the comparative periods was the result of higher productionvolumes from the Canetic and Vault acquisitions and higher commodity pricescompared to 2007. Light oil and liquid prices were 33 percent higher; naturalgas prices were 23 percent higher and heavy oil prices were 65 percent higherthan 2007.

 

Fourth quarter revenuesdeclined compared to prior quarters in 2008 as a result of the significantweakening of energy prices. The decline was partially offset by gains on ourcommodity contracts and a weakening of the Canadian dollar relative to the U.S.dollar.

 

**Reconciliation of increases inProduction Revenues**

 
| **(millions)**                                                             | ** ** | ** ** | ** ** |
|----------------------------------------------------------------------------|------------|------------|------------|
| Gross revenues –  January 1 – December 31, 2007        |       | $          | 2,462      |   |
| Increase in  light oil and NGL production                                  |       | 752        |       |
| Increase in  light oil and NGL prices (including realized risk management) |       | 471        |       |
| Increase in  heavy oil production                                          |       | 90         |       |
| Increase in  heavy oil prices                                              |       | 294        |       |
| Increase in  natural gas production                                        |       | 416        |       |
| Increase in  natural gas prices (including realized risk management)       |       | 166        |       |
| Gross revenues –  January 1 – December 31, 2008        |       | $          | 4,651      |   |

 

**Royalties**

 
| ** **                | ** ** | **Year ended December 31** | ** ** |
|---------------------------|------------|-------------------------------------------|------------|
| ** **                | ** ** | **2008**                                  | ** ** | **2007** | ** ** | **2006** | ** ** |
| Royalties  (millions)     | ** ** | **$**                                     | **898**    |   | $ | 451 |   | $ | 388 |   |
| Average royalty  rate (1) | ** ** | **18**                                    | **%**      | 18 | % | 18 | % |
| Per boe                   | ** ** | **$**                                     | **12.95**  |   | $ | 9.72 |   | $ | 9.46 |   |

 

----

(1)          Excludes effectsof risk management activities.

 

Royalties have increasedyear over year as a result of higher revenues from increased commodity pricesand increased production volumes.

 

The average royalty ratein the fourth quarter of 2008 increased slightly in comparison to the fourthquarter of 2007 as a result of stable natural gas prices and significantlylower oil prices. Natural gas royalty rates are generally higher than oil,leading to a proportionately higher overall royalty rate.

 

12

----

 

**Expenses**

 
| ** **               | ** ** | **Year ended December 31** | ** ** |
|--------------------------|------------|-------------------------------------------|------------|
| **(millions)**           | ** ** | **2008**                                  | ** ** | **2007** | ** ** | **2006** | ** ** |
| Operating                | ** ** | **$**                                     | **854**    |   | $ | 512 |   | $ | 426 |   |
| Transportation           | ** ** | **34**                                    |       | 24 |   | 24 |   |
| Financing                | ** ** | **204**                                   |       | 93 |   | 49 |   |
| Unit-based  compensation | ** ** | **$**                                     | **45**     |   | $ | 21 |   | $ | 11 |   |

** **
| ** **               | ** ** | **Year ended December 31** | ** ** |
|--------------------------|------------|-------------------------------------------|------------|
| **(per boe)**       | ** ** | **2008**                                  | ** ** | **2007** | ** ** | **2006** | ** ** |
| Operating                | ** ** | **$**                                     | **12.31**  |   | $ | 11.04 |   | $ | 10.39 |   |
| Transportation           | ** ** | **0.49**                                  |       | 0.52 |   | 0.60 |   |
| Financing                | ** ** | **2.94**                                  |       | 2.00 |   | 1.20 |   |
| Unit-based  compensation | ** ** | **$**                                     | **0.65**   |   | $ | 0.44 |   | $ | 0.27 |   |

 

Operating

 

Penn West continues toconcentrate on optimization and cost reduction strategies. Throughout 2008,upward pressure was placed on operating costs as a result of the high industryactivity levels driven by the high commodity price environment experiencedduring the first nine months of the year. We experienced higher trucking,electricity and industry service costs in 2008. We expect operating costs toflatten in 2009 in response to both our initiatives and reduced industryactivity resulting from lower energy prices.

 

A realized gain of $6million (2007 - $11 million) on electricity contracts has been included inoperating costs.

 

Financing

 

Penn West Petroleum Ltd.(“the Company”) has unsecured, revolving, syndicated bank facilities with anaggregate borrowing limit of $4.0 billion. The facilities consist of tworevolving tranches; tranche one of the facility is $3.25 billion and extendibleand tranche two is $750 million and non-extendible. The credit facilitycontains provisions for stamping fees on bankers’ acceptances and LIBOR loansand standby fees on unutilized credit lines that vary depending on certainconsolidated financial ratios.

 

On July 31, 2008,the Company issued £57 million of senior unsecured notes (the “UK Notes”)through a private placement in the United Kingdom maturing in 2018 and bearinginterest at 7.78 percent. In conjunction with the issue of these notes, theCompany entered into contracts to fix the principal and interest payments atapproximately $114 million bearing interest in Canadian dollars at 6.95percent. The Company used the proceeds to repay advances on its syndicated bankfacility.

 

On May 29, 2008, theCompany issued senior unsecured notes (the “2008 Notes”) with an aggregateprincipal amount of US$480 million plus CAD$30 million through a privateplacement. The 2008 Notes have terms of eight to 12 years and bear interest atfixed rates between 6.12 percent and 6.40 percent with an average rate ofapproximately 6.25 percent. The Company used the proceeds of the issue to repayadvances on its syndicated bank facility.

 

On May 31, 2007, theCompany issued US$475 million of senior private notes (the “2007 Notes”). Theinterest rates on the 2007 Notes are fixed at 5.68 percent to 6.05 percent forterms of eight years to 15 years with an average interest rate of 5.80 percent.During September 2007, the Company entered into foreign exchange contractsto fix the repayment (in Canadian dollars) on US$250 million at an exchangerate of approximately one Canadian dollar equals one U.S. dollar.

 

In June 2008, theCompany completed all requirements to enable the sale of trust units by way of “at-the-marketdistributions” on both the TSX and the NYSE. Penn West may issue and sell up to20,000,000 trust units from time to time at its discretion during a period ofup to 25 months. The trust units will be distributed at the current marketprice at the time of sale. The net proceeds from the sale of trust units underthe facility, if any, will be used to repay debt or fund future growthopportunities. At December 31, 2008, no units had been issued under thefacility.

 

13

----

 

On February 5, 2009,Penn West closed the issuance of 17,731,000 trust units on a bought-deal basiswith a syndicate of underwriters at $14.10 per trust unit. The total grossproceeds raised of approximately $250 million ($238 million net) were used torepay a portion of our bank facility.

 

At December 31,2008, the Company had the following interest rate swaps outstanding:

 
| **Trade Date** | ** ** | **Termination Date** | ** ** | **Term**       | ** ** | **Nominal Amount**

**(millions)** | ** ** | **Fixed Rate**

**(percent)** | ** ** |
|---------------------|------------|---------------------------|------------|----------------|------------|-----------------------------------------|------------|------------------------------------|------------|
| November 2007  |       | November 2010        |       | 3 – years |       | $                                       | 100        |                               | 4.26       |   |
| June 2008      |       | June 2010            |       | 2 – years |       | $                                       | 100        |                               | 3.68       |   |
| June 2008      |       | June 2011            |       | 3 – years |       | $                                       | 100        |                               | 3.82       |   |
| August 2008    |       | August 2010          |       | 2 – years |       | $                                       | 150        |                               | 3.10       |   |
| August 2008    |       | August 2011          |       | 3 – years |       | $                                       | 200        |                               | 3.30       |   |
| November 2008  |       | November 2010        |       | 2 – years |       | $                                       | 250        |                               | 2.27       |   |
| December 2008  |       | December 2011        |       | 3 – years |       | $                                       | 500        |                               | 1.61       |   |

 

The interest rates on thebalance of the Company’s bank debt are subject to fluctuations in theshort-term money market rates as bank debt is generally held in short-term,floating interest rate debt instruments. As at December 31, 2008, 28percent (2007 — 65 percent) of our long-term debt instruments were exposed tochanges in short-term interest rates and 72 percent (2007 — 35 percent) of ourlong-term debt instruments contained fixed interest rates (including theeffects of interest rate swaps).

 

Financing costs includinginterest expense on the syndicated credit facility, the senior unsecured notesand convertible debentures were $53 million for the fourth quarter of 2008(2007 - $27 million) and $204 million for the year ended December 31, 2008(2007 - $93 million). The increases were due to the rise in the average loanbalance from the assumption of approximately $1.6 billion of bank debt and $360million of convertible debentures on the Canetic and Vault acquisitions, andthe higher interest rates on the 2008 Notes and the UK Notes. The senior notescontain higher fixed interest rates than the Company was subject to under itssyndicated bank facilities using short-term money market instruments. Penn Westbelieves the long-term nature and the fixed interest rates inherent in thesenior notes are favorable for a portion of its debt capital structure.

 

Unit-Based Compensation

 

Unit-based compensationexpense related to Penn West’s Trust Unit Rights Incentive Plan is based on thefair value of trust unit rights issued, determined using the Binomial Latticeoption-pricing model. The fair value of rights issued is amortized over theremaining vesting periods on a straight-line basis. Penn West recordedunit-based compensation expense of $45 million for the year ended December 31,2008, of which $11 million was charged to operating expense and $34 million wascharged to general and administrative expense (2007 - $21 million, $6 millionand $15 million respectively).The charge increased in 2008 compared to 2007 dueto the trust unit rights granted to employees retained from the Canetic andVault acquisitions in January 2008.

 

**General and AdministrativeExpenses (“G&A”)**

 
| ** **       | ** ** | **Year ended December 31** | ** ** |
|------------------|------------|-------------------------------------------|------------|
| ** **       | ** ** | **2008**                                  | ** ** | **2007** | ** ** | **2006** | ** ** |
| Gross (millions) | ** ** | **$**                                     | **195**    |   | $ | 83 |   | $ | 62 |   |
| Per boe          | ** ** | **2.81**                                  |       | 1.80 |   | 1.51 |   |
| Net (millions)   | ** ** | **124**                                   |       | 50 |   | 36 |   |
| Per boe          | ** ** | **$**                                     | **1.80**   |   | $ | 1.10 |   | $ | 0.88 |   |

 

Increases in 2008 areprimarily related to additional staffing levels and activities as a result ofthe Canetic and Vault acquisitions completed in January. Historically, Canetichad a higher administrative cost per boe in comparison to Penn West, which hascontributed to the increase in 2008.

 

14

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During the fourth quarterof 2008, to streamline administrative functions, Penn West implemented plans torestructure its internal operations. As a result of this reorganization, acharge of $6 million was included in G&A for the fourth quarter of 2008 relatedto the severance of certain administrative and operating staff.

 

**Depletion, Depreciation andAccretion (“DD&A”)**

 
| ** **                                                 | ** ** | **Year ended December 31** | ** ** |
|------------------------------------------------------------|------------|-------------------------------------------|------------|
| **(millions, except per boe amounts)** | ** ** | **2008**                                  | ** ** | **2007** | ** ** | **2006** | ** ** |
| Depletion  of oil and natural gas assets                   | ** ** | **$**                                     | **1,556**  |   | $ | 868 |   | $ | 635 |   |
| Accretion  of asset retirement obligation                  | ** ** | **38**                                    |       | 29 |   | 20 |   |
| Total  DD&A                                            | ** ** | **$**                                     | **1,594**  |   | $ | 897 |   | $ | 655 |   |
| DD&A  expense per boe                                  | ** ** | **$**                                     | **22.98**  |   | $ | 19.33 |   | $ | 15.96 |   |

 

Penn West accounts forits corporate acquisitions using the purchase method, where the purchase priceis allocated to the fair value of net identifiable assets acquired. The Caneticand Vault (2006 — Petrofund) purchase price allocations to oil and natural gasassets, at fair value, increased our consolidated depletion base per boe.

 

**Taxes**

 
| ** **                             | ** ** | **Year ended December 31** | ** ** |
|----------------------------------------|------------|-------------------------------------------|------------|
| **(millions)**                         | ** ** | **2008**                                  | ** ** | **2007** | ** ** | **2006** | ** ** |
| Future  income tax expense (reduction) | ** ** | **$**                                     | **135**    |   | $ | 75 |   | $ | (106 | ) |
|                                        |            |                                           |            |  |  |  |  |  |  |  |

 

The future income taxexpense for the year ended December 31, 2008 includes a charge ofapproximately $198 million related to unrealized risk management gains. Thefuture income tax expense for the year ended December 31, 2007 included a$326 million charge due to substantive enactment of the SIFT tax legislationduring that period.

 

Under our currentstructure, the operating entities make interest and royalty payments to theTrust, which transfers taxable income to the Trust to eliminate income subjectto corporate income taxes in the operating entities. The Trust in turneliminates its taxable income by paying distributions to unitholders. Under theSIFT legislation, such amounts transferred to the Trust could be taxable to theTrust beginning in 2011 as distributions will no longer be deductible by theTrust for income tax purposes. At that time, Penn West could claim its taxpools to reduce income at the Trust level and pay all or a portion of itsdistributions on a return of capital basis. Such distributions would not beimmediately taxable to investors: they would generally reduce the adjusted costbase of units held by investors; however, such distributions would likely be ata lower payout ratio.

 

The SIFT Tax legislationis not currently expected to directly affect our funds flow levels anddistribution policies until 2011 at the earliest.

 

The estimate of futureincome taxes is based on the current tax status of the Trust. Future eventsthat could materially affect future income taxes, such as acquisitions anddispositions and modifications to the distribution policy, are not reflectedunder Canadian GAAP until the events occur and the related legal requirementshave been fulfilled. As a result, future changes to the tax legislation couldlead to a material change in the recorded amount of future income taxes.

 

**TaxPools**

 
| ** **                                     | ** ** | **As at December 31** | ** ** |
|------------------------------------------------|------------|--------------------------------------|------------|
| **(millions)**                                 | ** ** | **2008**                             | ** ** | **2007** | ** ** | **2006** | ** ** |
| Undepreciated  capital cost (UCC)              | ** ** | **$**                                | **1,152**  |   | $ | 826 |   | $ | 788 |   |
| Canadian  oil and gas property expense (COGPE) | ** ** | **2,294**                            |       | 1,309 |   | 1,091 |   |
| Canadian  development expense (CDE)            | ** ** | **1,061**                            |       | 414 |   | 429 |   |
| Non-capital  losses                            | ** ** | **1,465**                            |       | 697 |   | 106 |   |
| Total  tax pools                               | ** ** | **$**                                | **5,972**  |   | $ | 3,246 |   | $ | 2,414 |   |

 

The increase in the 2008 tax poolsreflects current year corporate acquisitions in addition to drilling anddevelopment activities. The tax pool figures are net of income deferred inoperating partnerships.

 

15

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**Foreign Exchange**

 

The Trust recorded anunrealized foreign exchange loss of $139 million for the fourth quarter of 2008(2007 - $1 million gain) and $203 million for the year ended December 31,2008 (2007 - $38 million gain) to translate the U.S. and UK notes to Canadiandollars at the exchange rates in effect on the balance sheet date. No realizedgains or losses will be recorded on these contracts until settlement.

 

**Funds Flow and Net Income**

 
| ** **                      | ** ** | **Three months ended December 31** | ** ** | **Year ended December 31** | ** ** |
|---------------------------------|------------|--------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                      | ** ** | **2008**                                               | ** ** | **2007**                                  | ** ** | **% change** | ** ** | **2008** | ** ** | **2007** | ** ** | **% change** | ** ** |
| Funds flow  (1) (millions) | ** ** | **$**                                                  | **490**    |                                      | $          | 349 |   | 40 |   | **$** | **2,537** |   | $ | 1,332 |   | 90 |   |
| Basic per unit                  | ** ** | **1.27**                                               |       | 1.44                                      |       | (12 | ) | **6.75** |   | 5.56 |   | 21 |   |
| Diluted per unit                | ** ** | **1.26**                                               |       | 1.43                                      |       | (12 | ) | **6.66** |   | 5.51 |   | 21 |   |
|                            |       |                                                   |       |                                      |       |   |   |   |   |   |   |   |   |
| Net income  (millions)          | ** ** | **404**                                                |       | 127                                       |       | 218 |   | **1,221** |   | 175 |   | 598 |   |
| Basic per unit                  | ** ** | **1.05**                                               |       | 0.53                                      |       | 98 |   | **3.25** |   | 0.73 |   | 345 |   |
| Diluted per unit                | ** ** | **$**                                                  | **1.04**   |                                      | $          | 0.52 |   | 100 |   | **$** | **3.22** |   | $ | 0.73 |   | 341 |   |

 

----

(1) Funds flow is a non-GAAP measure. See “Calculation of FundsFlow”.

 

Funds flow realized in2008 increased to record levels due to increased product prices and higherproduction volumes partially offset by higher operating and financing costs.

 

The significant increasein net income in 2008 compared to 2007 was due to stronger commodity prices,increased production and the SIFT tax charge in the second quarter of 2007.This was partially offset by higher depletion, operating and financing costs.

 

Net income in the fourthquarter of 2008 increased from the comparative 2007 period primarily due torealized and unrealized risk management gains.

 
| ** **                               | ** ** | **Year ended December 31** | ** ** |
|------------------------------------------|------------|-------------------------------------------|------------|
| ** **                               | ** ** | **2008**                                  | ** ** | **2007** | ** ** | **2006** | ** ** |
| ** **                               | ** ** | **per boe**                          | ** ** | **%** | ** ** | **per boe** | ** ** | **%** | ** ** | **per boe** | ** ** | **%** | ** ** |
| Oil and natural  gas revenues (1)        | ** ** | **$**                                     | **67.06**  | ** ** | **100** | ** ** | $ | 53.08 |   | 100 |   | $ | 51.22 |   | 100 |   |
| Net royalties                            | ** ** | **(12.95**                                | **)**      | **(19** | **)** | (9.72 | ) | (18 | ) | (9.46 | ) | (19 | ) |
| Operating  expenses (2)                  | ** ** | **(12.31**                                | **)**      | **(18** | **)** | (11.04 | ) | (21 | ) | (10.39 | ) | (20 | ) |
| Transportation                           | ** ** | **(0.49**                                 | **)**      | **(1** | **)** | (0.52 | ) | (1 | ) | (0.60 | ) | (1 | ) |
| Net operating  income                    | ** ** | **41.31**                                 | ** ** | **62** | ** ** | 31.80 |   | 60 |   | 30.77 |   | 60 |   |
| General and  administrative expenses     | ** ** | **(1.80**                                 | **)**      | **(3** | **)** | (1.10 | ) | (2 | ) | (0.88 | ) | (2 | ) |
| Financing                                | ** ** | **(2.94**                                 | **)**      | **(4** | **)** | (2.00 | ) | (4 | ) | (1.20 | ) | (2 | ) |
| Funds flow                               | ** ** | **36.57**                                 | ** ** | **55** | ** ** | 28.70 |   | 54 |   | 28.69 |   | 56 |   |
| Unrealized  foreign exchange gain (loss) | ** ** | **(2.92**                                 | **)**      | **(5** | **)** | 0.82 |   | 1 |   | — |   | — |   |
| Unit-based  compensation                 | ** ** | **(0.65**                                 | **)**      | **(1** | **)** | (0.44 | ) | (1 | ) | (0.27 | ) | — |   |
| Risk management  activities (3)          | ** ** | **9.53**                                  | ** ** | **14** | ** ** | (4.35 | ) | (8 | ) | 1.18 |   | 2 |   |
| Depletion,  depreciation and accretion   | ** ** | **(22.98**                                | **)**      | **(34** | **)** | (19.33 | ) | (36 | ) | (15.96 | ) | (31 | ) |
| Future income  taxes                     | ** ** | **(1.95**                                 | **)**      | **(3** | **)** | (1.63 | ) | (3 | ) | 2.59 |   | 5 |   |
| Net income                               | ** ** | **$**                                     | **17.60**  | ** ** | **26** | ** ** | $ | 3.77 |   | 7 |   | $ | 16.23 |   | 32 |   |

 

----

(1) Gross revenues include realized gains and losses on commoditycontracts.  (2) Operating expenses include realized gains on electricity swaps.

(3) Risk management activities relate to the unrealized gain andlosses on derivative instruments.

 

16

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**Goodwill**

 
| ** **                  | ** ** | **Year ended December 31** | ** ** |
|-----------------------------|------------|-------------------------------------------|------------|
| **(millions)**              | ** ** | **2008**                                  | ** ** | **2007** | ** ** |
| Balance,  beginning of year | ** ** | **$**                                     | **652**    |   | $ | 652 |   |
| Canetic  acquisition        | ** ** | **1,348**                                 |       | — |   |
| Vault  acquisition          | ** ** | **20**                                    |       | — |   |
| Balance, end of  year       | ** ** | **$**                                     | **2,020**  |   | $ | 652 |   |

 

The goodwill impairmenttest consists of two parts. Under part 1, if the fair value of the reportingentity is less than its book value, part 2 of the test must be performed. As at December 31, 2008, due to thewidespread decline in equity markets, Penn West proceeded to part 2 of the testwhere a reporting entity is required to calculate a purchase equation on itsassets and liabilities at fair value on the balance sheet date. Under part 2,an equity control premium of 20 percent was used and the fair value ofproperty, plant and equipment was estimated using forward strip commodityprices at year-end escalated at two percent per year subsequent to the end ofavailable market data and a discount rate of 15 percent. Penn West determinedthere was no goodwill impairment at December 31, 2008; however,further declines in the equity markets since year-end increase the potential ofan impairment charge in the future.

 

Aone percent change in the assumed control premium and a one percent changein the assumed discount rate applied to estimated cash flows change the fairvalue of Penn West by approximately $55 million and $350 million, respectively.

 

**Capital Expenditures**

 
| ** **                                 | ** ** | **Three months ended**

**December 31** | ** ** | **Year ended**

**December 31** | ** ** |
|--------------------------------------------|------------|--------------------------------------------------------|------------|-------------------------------------------|------------|
| **(millions)**                             | ** ** | **2008**                                               | ** ** | **2007**                                  | ** ** | **2008** | ** ** | **2007** | ** ** |
| Property  acquisitions (dispositions), net | ** ** | **$**                                                  | **(56**    | **)**                                     | $          | 20 | ** ** | **$** | **(50** | **)** | $ | 422 |   |
| Land acquisition  and retention            | ** ** | **10**                                                 | ** ** | —                                    | ** ** | **128** | ** ** | 30 |   |
| Drilling and  completions                  | ** ** | **174**                                                | ** ** | 96                                        | ** ** | **509** | ** ** | 367 |   |
| Facilities and  well equipping             | ** ** | **150**                                                | ** ** | 73                                        | ** ** | **398** | ** ** | 254 |   |
| Geological and  geophysical                | ** ** | **2**                                                  | ** ** | —                                    | ** ** | **13** | ** ** | 10 |   |
| CO2 pilot costs                       | ** ** | **2**                                                  | ** ** | 10                                        | ** ** | **29** | ** ** | 20 |   |
| Corporate                                  | ** ** | **6**                                                  | ** ** | 11                                        | ** ** | **18** | ** ** | 16 |   |
| Capital  expenditures                      | ** ** | **288**                                                | ** ** | 210                                       | ** ** | **1,045** | ** ** | 1,119 |   |
|                                       |       |                                                   | ** ** |                                      |       |   | ** ** |   |   |
| Canetic  acquisition                       | ** ** | **—**                                             | ** ** | —                                    | ** ** | **4,979** | ** ** | — |   |
| Vault  acquisition                         | ** ** | **—**                                             | ** ** | —                                    | ** ** | **346** | ** ** | — |   |
| Endev  acquisition                         | ** ** | **—**                                             | ** ** | —                                    | ** ** | **200** | ** ** | — |   |
| Other  acquisitions                        | ** ** | **—**                                             | ** ** | —                                    | ** ** | **—** | ** ** | 21 |   |
| Business  combinations                     | ** ** | **—**                                             | ** ** | —                                    | ** ** | **5,525** | ** ** | 21 |   |
|                                       |       |                                                   | ** ** |                                      |       |   | ** ** |   |   |
| Total  expenditures                        | ** ** | **$**                                                  | **288**    | ** **                                | $          | 210 | ** ** | **$** | **6,570** | ** ** | $ | 1,140 |   |

 

We drilled 52 net wellsin the fourth quarter of 2008, resulting in 34 net oil wells, 11 net naturalgas wells and 4 stratigraphic wells, with a success rate of 94 percent. Duringthe quarter, our drilling activities were concentrated in our Light and Heavyoil areas.

 

During 2008, we drilled atotal of 288 net wells, resulting in 136 net oil wells, 103 net natural gaswells and 38 stratigraphic wells, with a success rate of 96 percent. Theexpenditures on land acquisition and retention reflect activity to increase ouracreage in areas conducive to our resource play strategies.

 

For the year ended December 31,2008, $11 million (2007 – $5 million) was capitalized for future income taxesto reflect acquisitions with a tax basis differing from the purchase price and$25 million (2007 - $97 million) was capitalized for additions to assetretirement obligations to reflect the additional retirement obligations fromboth capital programs and net property acquisitions.

 

17

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CO2 pilot costs represent capital expendituresrelated to the Pembina and South Swan Hills CO2 pilot projects, including the cost ofinjectants, for which no incremental reserves have been booked.

 

**Business Risks**

 

The disclosures underthis heading, in conjunction with Note 13 to the audited consolidated financialstatements, are incorporated into and are an integral part of, the auditedconsolidated financial statements.

 

We are exposed to normalmarket risks inherent in the oil and natural gas business, including commodityprice risk, credit risk, interest rate risk, foreign currency risk andenvironmental and climate change risk. From time to time, we attempt tomitigate our exposure to these risks by using financial instruments and byother means.

 

Commodity Price Risk

 

Commodity pricefluctuations are among the Trust’s most significant exposures. Crude oil pricesare influenced by worldwide factors such as OPEC actions, supply and demandfundamentals, and political events. Oil prices, North American natural gassupply and demand fundamentals including weather, storage levels and LNGimports, influence natural gas prices. In accordance with policies approved byour Board of Directors, we may, from time to time, manage these risks throughthe use of swaps, collars or other financial instruments up to a maximum of 50percent of forecast sales volumes, net of royalties, for the balance of anycurrent year plus one additional year forward and up to a maximum of 25 percentfor one additional year thereafter.

 

For a summary ofoutstanding oil and natural gas contracts, please refer to “FinancialInstruments” later in this MD&A and to Note 13 to our audited consolidatedfinancial statements.

 

Foreign Currency RateRisk

 

Prices received for crudeoil are referenced to or denominated directly in U.S. dollars, thus realizedoil prices are impacted by U.S. to Canadian dollar exchange rates. When weconsider it appropriate, we may use financial instruments to fix or collarfuture exchange rates in addition to the use of U.S. dollar denominatedborrowings and related interest expense.

 

In September 2007,we entered into foreign exchange contracts to fix the foreign exchange rate onthe future repayment of US$250 million of U.S. dollar denominated private notesat an exchange rate of approximately one Canadian dollar equals one U.S.dollar. In July 2008, the Company entered into contracts to swap theprincipal amount of the UK Notes at a rate of $2.0075 per British pound or to aCanadian dollar equivalent amount of approximately $114 million, bearinginterest in Canadian dollars at 6.95 percent. At December 31, 2008, we hadU.S. dollar denominated debt with a face value of US$705 million outstanding onwhich the repayment of the principal amount in Canadian dollars is not fixed.

 

In the fourth quarter of2008, Penn West entered foreign exchange contracts to swap US$720 million ofU.S. dollar revenue for 2009 to Canadian dollars at an average rate of one U.S.dollar equals 1.25 Canadian dollars to fix the floor price of our U.S. dollardenominated oil collars at approximately $100 Canadian per barrel. Subsequentto year-end, Penn West entered into an additional US$143 million of foreignexchange contracts to fix the remainder of the 2009 floor proceeds at anaverage rate of one U.S. dollar equals 1.22 Canadian dollars.

 

Credit Risk

 

Credit risk is the riskof loss if purchasers or counterparties do not fulfill their contractualobligations. Our receivables are principally with customers in the oil andnatural gas industry and are subject to normal industry credit risk. For oiland natural gas sales and financial derivatives, Penn West follows acounterparty risk procedure whereby each is reviewed on a regular basis andassigned a credit limit and is requested to provide security if deemednecessary. Penn West normally transacts with counterparties who are members ofour banking syndicate or who have investment grade ratings. Due to theincreasing uncertainty in current financial markets, Penn West monitors creditevents related to all counterparties and reassesses credit exposures on aregular basis. As necessary, Penn West records provisions for credit relatedrisks.

 

18

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As at December 31,2008, the maximum exposure to credit risk was $834 million (December 31,2007 - $277 million) being the carrying value of the accounts receivable andrisk management assets. Management continuously monitors credit risk and creditpolicies to ensure exposures to customers are limited.

 

On July 22, 2008,one of Penn West’s minor oil marketing counterparties, SemGroup LP (“SemGroup”)entered creditor protection. Penn West sold oil to subsidiary companies ofSemGroup in both Canada (SemCanada Crude Company) and the U.S. (SemCrude LP).Deliveries in Canada subsequent to July 22, 2008 and in the U.S.subsequent to August 1, 2008 are on a prepaid basis. In accordance withour credit policies, Penn West had requested and received a $20 millionparental guarantee from SemGroup. After reviewing the facts and sequence ofevents in this case, Penn West management has concluded that these events couldnot have been detected earlier by a standard credit risk program. During thethird quarter of 2008, Penn West recorded an $18 million provision to write-offits entire receivable from SemGroup.

 

Interest Rate Risk

 

We currently maintain aportion of our debt capital in floating-rate bank facilities which results inexposure to fluctuations in short-term interest rates which have, for a numberof years, been lower than longer-term rates. From time to time, we may increasethe certainty of our future interest rates by entering fixed interest rate debtinstruments or by using financial instruments to swap floating interest ratesfor fixed rates or to collar interest rates. For further details on thesefinancial instruments, please refer to the Financing section of this MD&A.

 

The 2007 Notes, totallingUS$475 million, bear fixed interest rates at an average rate of approximately5.80 percent with an average term of 10.1 years subsequent to May 31,2007. The 2008 Notes, which total US$480 million plus CAD$30 million, bearfixed interest rates at an average of approximately 6.25 percent with anaverage term of 9.6 years subsequent to May 29, 2008. The UK Notes,totalling £57 million, have a fixed interest rate of approximately 7.78 percentfor a term of 10 years. The Company entered into contracts to fix the principaland interest of the UK Notes at approximately $114 million bearing interest inCanadian dollars at 6.95 percent.

 

Liquidity Risk

 

Liquidity risk is the risk that Penn West is unable tomeet its financial liabilities as they come due. Management utilizes along-term financial and capital forecasting program that includes continuousreview of debt forecasts to ensure credit facilities are sufficient relative toforecast debt levels, distribution and capital program levels are appropriate,and that financial covenants will be met. Management also regularly reviewscapital markets to identify opportunities to optimize the debt capitalstructure on a cost effective basis. In the short term, liquidity is managedthrough daily cash management activities, short-term financing strategies andthe use of collars and other financial instruments to increase thepredictability of minimum levels of cash flow from operating activities.Additional information on specific instruments is discussed below in the “Liquidityand Capital Resources” section and in Note 6 to the audited consolidatedfinancial statements.

 

The following table outlines estimated futurecontractual obligations for non-derivative financial liabilities as at December 31,2008:

 
| **(millions)**          | ** ** | **2009**   | ** ** | **2010** | ** ** | **2011** | ** ** | **2012** | ** ** | **2013** | ** ** | **Thereafter** | ** ** |
|-------------------------|------------|------------|------------|----------|------------|----------|------------|----------|------------|----------|------------|----------------|------------|
| Bank debt               | ** ** | **$**      | **—** |     | $          | —   |       | $        | 2,561      |     | $          | —         |       | $ | — |   | $ | — |   |
| Senior unsecured  notes | ** ** | **—** |       | —   |       | —   |       | —   |       | —   |       | 1,293          |       |
| Convertible  debentures | ** ** | **7**      |       | 34       |       | 255      |       | —   |       | —   |       | —         |       |
| Accounts payable        | ** ** | **630**    |       | —   |       | —   |       | —   |       | —   |       | —         |       |
| Distributions  payable  | ** ** | **132**    |       | —   |       | —   |       | —   |       | —   |       | —         |       |
| Total                   | ** ** | **$**      | **769**    |     | $          | 34       |       | $        | 2,816      |     | $          | —         |       | $ | — |   | $ | 1,293 |   |

 

19

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Environmental and Climate Change Risk

 

The oil and gas industry has a number of environmentalrisks and hazards and is subject to regulation by all levels of government.Environmental legislation includes, but is not limited to, operationalcontrols, final site restoration requirements and increasing restrictions onemissions of various substances produced in association with oil and naturalgas operations. Compliance with such legislation could require additionalexpenditures and a failure to comply may result in fines and penalties whichcould, in the aggregate, become material.

 

Penn West is dedicated to reducing the environmentalimpact from our operations through our environmental program which includesresource conservation, stakeholder communication, CO2 sequestration and siteabandonment/reclamation. We fully understand our responsibilities of reducingthe environmental impact from our operations and are committed to protectingthe areas in which we operate.

 

**Liquidity and Capital Resources**

 

Capitalization

 
| ** **                               | ** ** | **As at December 31** | ** ** |
|------------------------------------------|------------|--------------------------------------|------------|
| ** **                               | ** ** | **2008**                             | ** ** | **2007** | ** ** | **2006** | ** ** |
| **(millions)**                           | ** ** | ** **                           | ** ** | **%** |   |   |   | **%** |   |   |   | **%** |   |
| Trust units  issued, at market           | ** ** | **$**                                | **5,245**  | ** ** | **56** |   | $ | 6,270 |   | 74 |   | $ | 8,435 |   | 86 |   |
| Long-term debt                           | ** ** | **3,854**                            | ** ** | **41** |   | 1,943 |   | 23 |   | 1,285 |   | 13 |   |
| Convertible  debentures – long term | ** ** | **289**                              | ** ** | **3** |   | — |   | — |   | — |   | — |   |
| Working capital  (surplus) deficiency    | ** ** | **(39**                              | **)**      | **—** |   | 221 |   | 3 |   | 86 |   | 1 |   |
| Total enterprise  value                  | ** ** | **$**                                | **9,349**  | ** ** | **100** |   | $ | 8,434 |   | 100 |   | $ | 9,806 |   | 100 |   |

 

During 2008, we paidtotal distributions, including those funded by the distribution reinvestmentplan, of $1,500 million compared to distributions of $976 million for thecomparable period in 2007. This increase was primarily due to approximately124.3 million, 5.6 million and 3.6 million additional trust units issued toacquire Canetic and Vault in January 2008 as well as Endev in July 2008,respectively.

 

Long-term debt excludingconvertible debentures at December 31, 2008 was $3,854 million, comparedto $1,943 million at December 31, 2007. The increase was mainly due todebt of $1,443 million assumed in the Canetic acquisition and $114 millionassumed in the Vault acquisition.

 

The working capitaldeficiency has declined from December 31, 2007 primarily due to thereduction in the current portion of the risk management liability.

 

The Company hasunsecured, revolving, syndicated bank facilities totalling $4.0 billion with$2.6 billion drawn at year-end 2008 and senior unsecured notes of $1.3 billion.For further details on these debt instruments, please refer to the Financingsection of this MD&A.

 

Over the past year, ourBoard and management team have closely monitored the credit issues occurring inthe U.S. and other financial markets. As a result, Penn West has taken a numberof actions to minimize these credit impacts, which include the new syndicatedbank facility, long-term private notes, an “at-the-market distribution”facility and the issuance of equity. Additionally, we have an active riskmanagement program to limit our exposure to credit risk and maintain closerelationships with our bank syndicate members to monitor credit marketdevelopments. These actions aim to increase the likelihood of maintaining ourcapital and distribution programs and continuing our business strategies.

 

20

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On December 31,2008, the Company was in compliance with all of the financial covenants whichinclude the following:

 
| ** **                                                           | ** ** | **Limit**             | ** ** | **December 31, 2008** | ** ** |
|----------------------------------------------------------------------|------------|-----------------------|------------|---------------------------------|------------|
| Senior debt to  pro forma EBITDA (1) (5)                        |       | Less than 3:1         |       | 1.4                             |       |
| Total debt  (6) to pro forma EBITDA (1) (5)                |       | Less than 4:1         |       | 1.4                             |       |
| Senior debt to  capitalization (1)                                   |       | Less than 50 percent  |       | 31                              | %          |
| Total debt  (6) to capitalization (3) (4)                  |       | Less than 55 percent  |       | 31                              | %          |
| Total debt  (7) to capitalization (2)                           |       | Less than 55 percent  |       | 33                              | %          |
| Total debt  (6) to pro forma EBITDA (3) (4) (5)       |       | Less than 400 percent |       | 141                             | %          |
| Priority debt to  consolidated tangible assets (2) (3) (4) |       | Less than 15 percent  |       | —                          |       |

 

----

(1)          Covenant pursuant to the syndicated bank facility.

(2)          Covenant pursuant to the 2007 Notes.

(3)          Covenant pursuant to the 2008 Notes.

(4)          Covenant pursuant to the UK Notes.

(5)          Pro forma EBITDA includes Penn West, Canetic, Vault,Endev and Titan Exploration Ltd. (“Titan”, the acquisition of which wascompleted 100 percent by Canetic on January 10, 2008) and certain propertytransactions closing in the pro forma period.

(6)          Total debt as defined in the2008 Notes, UK Notes and the syndicated bank facility agreements, which includeconvertible debentures that do not meet the requirement for equityclassification in these agreements.

(7)          Total debt as defined in the2007 Note agreement, which includes convertible debentures that do not meet therequirements for equity classification in this agreement.

 

The 2008 Notes and the UKNotes contain change of control provisions requiring that if a change incontrol occurs, the Company may be required to offer to prepay the 2008 Notesand the UK Notes at par, which the holders of the 2008 Notes and the UK Noteshave the right to refuse.

 

Under the terms of itscurrent trust indenture, the Trust is required to make distributions tounitholders in amounts at least equal to its taxable income. Distributions maybe monthly or special and in cash or in trust units at the discretion of ourBoard of Directors. To the extent that additional cash distributions are paidand capital programs are not adjusted, debt levels may increase. In the eventthat a special distribution in the form of trust units is declared, the termsof the current trust indenture require that the outstanding units beconsolidated immediately subsequent to the distribution. The number ofoutstanding trust units would remain at the number outstanding immediatelyprior to the unit distribution, plus those sold to fund the payment ofwithholding taxes, and an amount equal to the distribution would be allocatedto the unitholders as a taxable distribution. Penn West has never declared sucha distribution and, at the current time, forecasts that such a specialdistribution will not be required for 2009.

 

Due to the extent of ourenvironmental programs, we believe no benefit would arise from the initiationof a reclamation fund. We believe our program will be sufficient to meet orexceed existing environmental regulations and best industry practices. In theevent of significant changes to the environmental regulations or the cost ofenvironmental activities, a higher portion of funds flow would be required tofund our environmental expenditures.

 

**Convertible Debentures**

 

Penn West assumed thefollowing convertible debentures through the Canetic acquisition, which closedon January 11, 2008 and the Vault acquisition, which closed on January 10,2008. During the fourth quarter of 2008, PWT.DB.C debentures with a face valueof $32 million (2007 - $nil) were redeemed by debenture holders and settled incash.

 

21

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During 2008, changes to convertible debentures were as follows:

 
| **(millions)** | ** ** | **Balance,  Dec. 31,  2007** | ** ** | **Acquired** | ** ** | **Converted** | ** ** | **Redeemed** | ** ** | **Matured** | ** ** | **Balance,  Dec. 31,  2008** | ** ** |
|----------------|------------|-----------------------------------|------------|--------------|------------|---------------|------------|--------------|------------|-------------|------------|-----------------------------------|------------|
| 9.4% PWT.DB.A  |       | $                                 | —     |         | $          | 6             |       | $            | (1         | )           | $          | —                            |       | $ | (5 | **)** | **$** | **—** | ** ** |
| 8.0% PWT.DB.B  |       | —                            |       | 8            |       | (1            | )          | —       |       | —      | ** ** | **7**                             | ** ** |
| 8.0% PWT.DB.C  |       | —                            |       | 49           |       | (1            | )          | (32          | )          | —      | ** ** | **16**                            | ** ** |
| 6.5% PWT.DB.D  |       | —                            |       | 18           |       | —        |       | —       |       | —      | ** ** | **18**                            | ** ** |
| 7.2% PWT.DB.E  |       | —                            |       | 50           |       | —        |       | (24          | )          | —      | ** ** | **26**                            | ** ** |
| 6.5% PWT.DB.F  |       | —                            |       | 229          |       | —        |       | —       |       | —      | ** ** | **229**                           | ** ** |
| Total          |       | $                                 | —     |         | $          | 360           |       | $            | (3         | )           | $          | (56                               | )          | $ | (5 | **)** | **$** | **296** | ** ** |

 

At December 31,2008, the balance of our convertible debentures outstanding was as follows:

 
| **Description of security** | ** ** | **Outstanding  (millions)** | ** ** | **Maturity  date**  | ** **          | **Conversion  price  (per unit)** | ** ** | **Redemption prices  (per $ 1,000 face value)** | ** **                                                                                 |
|---------------------------------------|------------|-----------------------------|------------|---------------------|---------------------|----------------------------------------|------------|--------------------------------------------------------------------------|--------------------------------------------------------------------------------------------|
| PWT.DB.B  8.0% Convertible extendible |       | $                           | 7          |                | Aug. 31,  2009 |                                   | $          | 30.21                                                                    |                                                                                       | $1,025 Aug. 31, 2008 to maturity |   |
| PWT.DB.C  8.0% Convertible (1)        |       | 16                          |       | Jun. 30,  2010 |                | $                                      | 82.14      |                                                                     | $1,050 Jun. 30, 2008 – Jun. 29, 2009  $1,025 Jun. 30, 2009 to maturity |   |
| PWT.DB.D  6.5% Convertible extendible |       | 18                          |       | Jul. 31,  2010 |                | $                                      | 36.82      |                                                                     | $1,050 Jul. 31, 2008 – Jul. 30, 2009  $1,025 Jul. 31, 2009 to maturity |   |
| PWT.DB.E  7.2% Convertible            |       | 26                          |       | May 31,  2011  |                | $                                      | 75.00      |                                                                     | $1,050 May 31, 2009 – May 30, 2010 $1,025  May 31, 2010 to maturity    |   |
| PWT.DB.F  6.5% Convertible extendible |       | 229                         |       | Dec. 31,  2011 |                | $                                      | 51.55      |                                                                     | $1,050 Dec. 31, 2009 – Dec. 30, 2010  $1,025 Dec. 31, 2010 to maturity |   |
| **Total**                             | ** ** | **$**                       | **296**    | ** **          | ** **          | ** **                             | ** ** | ** **                                                               | ** **                                                                                 | ** ** |
|                                       |            |                             |            |                     |                     |                                        |            |                                                                          |                                                                                            |  |  |  |

 

----

(1)   Series redeemable at the debentureholder’s option.

 

**Standardized Distributable Cash**

 
| ** **                                                                           | ** ** | **Three months ended  December 31** | ** ** | **Year ended  December 31** | ** ** |
|--------------------------------------------------------------------------------------|------------|----------------------------------------------------|------------|---------------------------------------|------------|
| **(millions, except per unit amounts and ratios)**     | ** ** | **2008**                                           | ** ** | **2007**                              | ** ** | **2008** | ** ** | **2007** | ** ** |
| Cash flow from  operating activities                                                 | ** ** | **$**                                              | **602**    |                                  | $          | 312 | ** ** | **$** | **2,256** | ** ** | $ | 1,242 | ** ** |
| Productive  capacity maintenance (1)                                                 | ** ** | **(344**                                           | **)**      | (190                                  | )          | **(1,095** | **)** | (697 | ) |
| Standardized  distributable cash                                                     | ** ** | **258**                                            | ** ** | 122                                   |       | **1,161** | ** ** | 545 |   |
| Proceeds from  the issue of trust units (2)                                          | ** ** | **53**                                             | ** ** | 49                                    |       | **246** | ** ** | 163 |   |
| Debt and working  capital changes                                                    | ** ** | **82**                                             | ** ** | 76                                    |       | **143** | ** ** | 269 |   |
| Cash  distributions declared                                                         | ** ** | **$**                                              | **393**    | ** **                            | $          | 247 |   | **$** | **1,550** | ** ** | $ | 977 |   |
| Accumulated cash  distributions, beginning                                           | ** ** | **3,267**                                          | ** ** | 1,863                                 |       | **2,110** | ** ** | 1,133 |   |
| Accumulated cash  distributions, ending                                              | ** ** | **$**                                              | **3,660**  | ** **                            | $          | 2,110 |   | **$** | **3,660** | ** ** | $ | 2,110 |   |
|                                                                                 |       |                                               | ** ** |                                  |       |   | ** ** |   |   |
| Standardized  distributable cash per unit, basic                                     | ** ** | **0.67**                                           | ** ** | 0.50                                  |       | **3.09** | ** ** | 2.27 |   |
| Standardized  distributable cash per unit, diluted                                   | ** ** | **0.66**                                           | ** ** | 0.50                                  |       | **3.03** | ** ** | 2.25 |   |
| Standardized  distributable cash payout ratio (3)                                    | ** ** | **1.52**                                           | ** ** | 2.05                                  |       | **1.34** | ** ** | 1.80 |   |
|                                                                                 |       |                                               | ** ** |                                  |       |   | ** ** |   |   |
| Distributions  declared per unit                                                     | ** ** | **$**                                              | **1.02**   | ** **                            | $          | 1.02 |   | **$** | **4.08** | ** ** | $ | 4.08 |   |
| Net income as a  percentage of cash distributions declared                           | ** ** | **103**                                            | **%**      | 51                                    | %          | **79** | **%** | 18 | % |
| Cash flows from  operating activities as a percentage of cash distributions declared | ** ** | **153**                                            | **%**      | 126                                   | %          | **146** | **%** | 127 | % |

 

----

(1)     Pleaserefer to our discussion of productive capacity maintenance below.

(2)               Consists ofproceeds from the Distribution Reinvestment and Optional Purchase Plan, theTrust Unit Rights Incentive Plan and the Trust Unit Savings Plan.

(3)     Representscash distributions declared divided by standardized distributable cash.

 

22

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We strive to fund both distributions and maintenance capital programsprimarily from funds flow. We initially budget our capital programs atapproximately 50-60 percent of annual forecast funds flow. We believe thatproceeds from the Distribution Reinvestment and Optional Purchase Plan shouldbe used to fund capital expenditures of a longer-term nature. Over the mediumterm, additional borrowings and equity issues may be required from time to timeto fund a portion of our distributions, decrease or reallocate our leverage ormaintain or increase our productive capacity. On a longer-term basis,adjustments to the level of distributions and/or capital expenditures tomaintain or increase our productive capacity may be required based on forecastlevels of funds flow, capital efficiency and debt levels. In January 2009,as a result of current market conditions and the low commodity priceenvironment, we reduced our 2009 capital program and distribution level andclosed the issuance of equity in February 2009.

 

Productive capacity maintenance is the amount of capital funds requiredin a period for an enterprise to maintain future cash flow from operatingactivities at a constant level. As commodity prices can be volatile andshort-term variations in production levels are often experienced in ourindustry, we define our productive capacity as production on a barrel of oilequivalent basis. A quantifiable measure for these short-term variations is notobjectively determinable or verifiable due to various factors including theinability to distinguish natural production declines from the effect ofproduction additions resulting from capital and optimization programs, and theeffect of temporary production interruptions. As a result, the adjustment forproductive capacity maintenance in our calculation of standardizeddistributable cash is our capital expenditures during the period excluding thecost of any asset acquisitions or proceeds of any asset dispositions. Webelieve that our current capital programs, based on 50-60 percent of forecastannual funds flow and our current view of our assets and opportunities,including particularly our resource play assets, oil sands project, ourproposed enhanced oil recovery projects, and our outlook for commodity prices andindustry conditions, should be sufficient to maintain our productive capacityin the medium term. We set our hurdle rates for evaluating potentialdevelopment and optimization projects according to these parameters. Due to therisks inherent in the oil and natural gas industry, particularly ourexploration and development activities and variations in commodity prices,there can be no assurance that capital programs, whether limited to the excessof funds flow over distributions or not, will be sufficient to maintain orincrease our production levels or cash flow from operating activities. PennWest historically incurred a larger proportion of its development expendituresin the first quarter of each calendar year to exploit winter-only accessproperties. As we strive to maintain sufficient credit facilities andappropriate levels of debt, this seasonality is not currently expected toinfluence our distribution policies.

 

Our calculation of standardized distributable cash has no adjustmentfor long-term unfunded contractual obligations. We believe our only significantlong-term unfunded contractual obligation at this time is for asset retirementobligations. Cash flow from operating activities, used in our standardizeddistributable cash calculation, includes a deduction for abandonmentexpenditures incurred during each period. We believe that our currentenvironmental programs will be sufficient to fund our asset retirementobligations over the life of our reserves. Our Board of Directors sets ourdistribution policies based on forecast funds flow and debt levels.Distributions in excess of net income may include an economic return of capitalto unitholders.

 

We currently have no financing restrictions caused by our debtcovenants. We regularly monitor our current and forecast debt levels to ensuredebt covenants are not exceeded.

 
| **(millions, except ratios)**                         | ** ** | **To December 31, 2008** | ** ** |
|-----------------------------------------------------------------|------------|-----------------------------------------|------------|
| Cumulative  standardized distributable cash from operations (1) |       | $                                       | 2,724      |   |
| Issue of trust  units                                           |       | 536                                     |       |
| Debt and working  capital changes                               |       | 400                                     |       |
| Cumulative cash  distributions declared (1)                     |       | $                                       | 3,660      |   |
|                                                            |       |                                    |       |
| Standardized  distributable cash payout ratio (2)               |       | 1.34                                    |       |

 

----

(1)     Subsequentto the trust conversion on May 31, 2005.

(2)     Representscumulative cash distributions declared divided by cumulative standardizeddistributable cash.

 

23

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**Financial Instruments**

 

Penn West had thefollowing financial instruments outstanding as at December 31, 2008. Fairvalues are determined using external counterparty information, which iscompared to observable market data.

 
| ** **                                | ** ** | **Notional  volume** | ** ** | **Remaining  term**  | ** ** | **Pricing**             | ** ** | **Market value** | ** ** |
|-------------------------------------------|------------|----------------------|------------|----------------------|------------|-------------------------|------------|-----------------------|------------|
| ** **                                | ** ** | ** **           | ** ** | ** **           | ** ** | ** **              | ** ** | ** **            | ** ** |
| **Crude  oil**                            |       |                 |       |                 |       |                    |       |                  |       |
| WTI Swaps                                 |       | 500 bbls/d           |       | Jan/09 – Dec/09 |       | US$72.68/bbl            |       | $                     | 3          |   |
| WTI Collars                               |       | 30,000 bbls/d        |       | Jan/09 – Dec/09 |       | US$80.00 to $110.21/bbl |       | 369                   |       |
|                                      |       |                 |       |                 |       |                    |       |                  |       |
| **Natural  gas**                          |       |                 |       |                 |       |                    |       |                  |       |
| AECO Collars                              |       | 170,000 GJ/d         |       | Jan/09 – Mar/09 |       | $7.38 to $9.76/GJ       |       | 22                    |       |
| AECO Collars                              |       | 100,000 GJ/d         |       | Apr/09 – Oct/09 |       | $8.25 to $12.37/GJ      |       | 50                    |       |
|                                      |       |                 |       |                 |       |                    |       |                  |       |
| **Electricity  swaps**                    |       |                 |       |                 |       |                    |       |                  |       |
| Alberta Power  Pool Swaps                 |       | 50 MW                |       | Jan/09 – Dec/10 |       | $77.82/MWh              |       | 2                     |       |
|                                      |       |                 |       |                 |       |                    |       |                  |       |
| **Interest  rate swaps**                  |       |                 |       |                 |       |                    |       |                  |       |
|                                      |       | $100                 |       | Jan/09 – Nov/10 |       | 4.26                    | %          | (6                    | )          |
|                                      |       | $100                 |       | Jan/09 – Jun/10 |       | 3.68                    | %          | (4                    | )          |
|                                      |       | $100                 |       | Jan/09 – Jun/11 |       | 3.82                    | %          | (7                    | )          |
|                                      |       | $150                 |       | Jan/09 – Aug/10 |       | 3.10                    | %          | (5                    | )          |
|                                      |       | $200                 |       | Jan/09 – Aug/11 |       | 3.30                    | %          | (11                   | )          |
|                                      |       | $250                 |       | Jan/09 – Nov/10 |       | 2.27                    | %          | (5                    | )          |
|                                      |       | $500                 |       | Jan/09 – Dec/11 |       | 1.61                    | %          | (5                    | )          |
|                                      |       |                 |       |                 |       |                    |       |                  |       |
| **Foreign  exchange forwards**            |       |                 |       |                 |       |                    |       |                  |       |
|  1-year  term                        |       | US$720               |       | Jan/09 – Dec/09 |       | 1.24875 CAD/USD         |       | 23                    |       |
|  8-year  term                        |       | US$80                |       | 2015                 |       | 1.01027 CAD/USD         |       | 12                    |       |
| 10-year term                              |       | US$80                |       | 2017                 |       | 1.00016 CAD/USD         |       | 12                    |       |
| 12-year term                              |       | US$70                |       | 2019                 |       | 0.99124 CAD/USD         |       | 11                    |       |
| 15-year term                              |       | US$20                |       | 2022                 |       | 0.98740 CAD/USD         |       | 3                     |       |
|                                      |       |                 |       |                 |       |                    |       |                  |       |
| **Cross  currency / interest rate swaps** |       |                 |       |                 |       |                    |       |                  |       |
| 10-year term                              |       | £57             |       | 2018                 |       | 2.0075 CAD/GBP          |       | (22                   | )          |
|                                      |       |                 |       |                 |       | 6.95                    | %          |                  |       |
| **Total**                                 |       |                 |       |                 |       |                    |       | $                     | 442        |   |

 

In October 2008, Penn West received approximately $123 million incash as a result of monetizing a portion of crude oil financial contracts. Thisincluded lowering the floor on its 2009 WTI collars from US$85.00 per barrel toUS$80.00 per barrel as well as monetizing all 2010 WTI collars. The proceedswere used to repay advances on our syndicated credit facility.

 

Subsequent to year-end, in March 2009, Penn West restructured itsnatural gas collars by reducing the floor price on its April 2009 to October 2009natural gas collars and entered into new collars for the latter part of 2009and throughout 2010. In addition, Penn West entered into WTI costless collarsof 15,000 barrels per day for 2010. The new financial instruments are asfollows:

 
| ** **       | ** ** | **Notional volume** | ** ** | **Remaining term** | ** ** | **Pricing**            | ** ** |
|------------------|------------|--------------------------|------------|-------------------------|------------|------------------------|------------|
| **Natural  Gas** |       |                     |       |                    |       |                   |       |
| AECO Collars     |       | 100,000 GJ/d             |       | Apr/09 – Oct/09    |       | $6.50 to $12.37/GJ     |       |
| AECO Collars     |       | 63,000 GJ/d              |       | Nov/09 – Oct/10    |       | $6.50 to $9.50/GJ      |       |
| **Crude  Oil**   |       |                     |       |                    |       |                   |       |
| WTI Collars      |       | 15,000 bbls/d            |       | Jan/10 – Dec/10    |       | US$51.93 to $68.30/bbl |       |

 

24

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Please refer to Penn West’s website at www.pennwest.com for details ofall financial instruments currently outstanding.

 

**Outlook**

 

This outlook section is included to provideunitholders with information as to our expectations as at March 26, 2009for production and net capital expenditures for 2009 and readers are cautionedthat the information may not be appropriate for any other purpose. Thisinformation constitutes forward-looking information. Readers should note theassumptions, risks and disclaimers under “Forward-Looking Statements”.

 

We forecast our 2009 capital expenditures atapproximately $600 million to $825 million, and based on the current commodityprice outlook, particularly for natural gas, we currently expect to be near thelower end of our guidance range. Development capital spending will be reducedby $40 million, the amount of debt we expect to assume on the proposed Reeceacquisition announced on March 10, 2009. The reduction of our plannedcapital program in 2009 compared to 2008 reflects the current volatility infinancial and commodity markets. In the first half of 2009, we anticipatespending between $250 million and $325 million based on current commodity pricelevels and industry costs. Our spending is limited in the first half as weexpect industry service and other costs to decline and become more consistentwith the current commodity price environment as we move through 2009. The 2009capital program will be focused on low cost production recovery and additionsthrough optimization and will continue the advancement of certain of ourenhanced oil recovery projects and resource plays. Based on this level ofcapital expenditures, we forecast average production in the first half of 2009to be approximately 180,000 boe per day prior to the effect of propertydispositions.

 

Our prior forecast, released on February 18,2009 with our fourth quarter 2008 results and filed on SEDAR at www.sedar.com,was based on 2009 capital expenditures (excluding corporate acquisitions)between $600 million and $825 million. Our guidance has been updated as aresult of the debt anticipated to be assumed in the Reece acquisition.

 

**Sensitivity Analysis**

 

Estimated sensitivities to selected key assumptions on reportedfinancial results for the next 12 months, including risk management impacts,are based on forecasted results as discussed in our Outlook.

 
| ** **                    | ** ** | ** **     | ** ** | **Impact on funds flow** | ** ** |
|-------------------------------|------------|----------------|------------|-----------------------------------------|------------|
| **Change of:**           | ** ** | **Change**     | ** ** | **$ millions**                     | ** ** | **$/unit** | ** ** |
| Price per barrel  of liquids  |       | $              | 1.00       |                                    | 19         |   | 0.05 |   |
| Liquids  production           |       | 1,000 bbls/day |       | 9                                       |       | 0.02 |   |
| Price per mcf of  natural gas |       | $              | 0.10       |                                    | 9          |   | 0.02 |   |
| Natural gas  production       |       | 10 mmcf/day    |       | 12                                      |       | 0.03 |   |
| Effective  interest rate      |       | 1              | %          | 9                                       |       | 0.02 |   |
| Exchange rate  ($US per $CAD) |       | $              | 0.01       |                                    | 31         |   | 0.08 |   |

 

Based on December 31, 2008 pricing, a $1.00 change in the priceper barrel of liquids would change the pre-tax unrealized risk management gainby $12 million and a $0.10 change in the price per mcf of natural gas wouldchange the pre-tax unrealized risk management gain by $3 million.

 

25

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**Contractual Obligations and Commitments**

 

We are committed to certain payments over the next five calendar yearsas follows:

 
| **(millions)**            | ** ** | **2009** | ** ** | **2010** | ** ** | **2011**   | ** ** | **2012**   | ** ** | **2013**   | ** ** | **Thereafter** | ** ** |
|---------------------------|------------|----------|------------|----------|------------|------------|------------|------------|------------|------------|------------|----------------|------------|
| Long-term debt            | ** ** | **$**    | **—** |     | $          | —     |       | $          | 2,561      |       | $          | —         |       | $ | — |   | $ | 1,293 |   |
| Transportation            | ** ** | **24**   |       | 13       |       | 7          |       | 1          |       | **—** |       | **—**     |       |
| Transportation  ($US)     | ** ** | **4**    |       | 4        |       | 4          |       | 4          |       | 4          |       | 7              |       |
| Power  infrastructure     | ** ** | **19**   |       | 7        |       | 7          |       | 7          |       | 7          |       | 4              |       |
| Drilling rigs             | ** ** | **12**   |       | 5        |       | **—** |       | **—** |       | **—** |       | **—**     |       |
| Purchase  obligations (1) | ** ** | **13**   |       | 13       |       | 13         |       | 13         |       | 13         |       | 29             |       |
| Interest  obligations     | ** ** | **156**  |       | 155      |       | 97         |       | 80         |       | 80         |       | 311            |       |
| Office lease (2)          | ** ** | **$**    | **28**     |     | $          | 56         |       | $          | 71         |       | $          | 68             |       | $ | 67 |   | $ | 616 |   |

 

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(1)               These amountsrepresent estimated commitments of $73 million for CO2 purchases and $21 million for processing feesrelated to interests in the Weyburn Unit.

(2)     Futureoffice lease commitments will be reduced by sublease recoveries totalling $387million.

 

Our syndicated credit facility expires on January 11, 2011. If we arenot successful in renewing or replacing the facility, we could be required torepay all amounts then outstanding on the facility or enter term bank loans. Inaddition, we have US$475 million of fixed-term notes expiring between 2015 and2022, US$480 million and CAD$30 million of fixed-term notes expiring between2016 and 2020 and £57 million (swapped to approximately CAD$114 million) offixed-term notes expiring in 2018. As we strive to maintain our leverage ratiosat relatively modest levels, we believe we will be successful in renewing orreplacing our credit facility on acceptable terms.

 

Convertible debentures with an aggregate principal amount of $296million (2007 - $nil) outstanding on December 31, 2008, and a significantportion of the interest payable on convertible debentures may, at the option ofthe Trust, be settled by the issuance of trust units. As at March 26,2009, convertible debentures with an aggregate principal amount of $290 millionwere outstanding. For a schedule of convertible debenture maturities, pleaserefer to the “Liquidity and Capital Resources” section of this MD&A andNote 7 to the audited consolidated financial statements.

 

**Equity Instruments**

 
| Trust units  issued:                               |   |        |   |
|----------------------------------------------------|--------|-------------|--------|
| As at December 31,  2008                      |   | 386,504,586 |   |
| Issuance of trust units                            |   | 17,731,000  |   |
| Issued pursuant to  distribution reinvestment plan |   | 3,056,359   |   |
| Issued to employee  retirement savings plan        |   | 723,608     |   |
| Issued on redemption of  convertible debentures    |   | 217,151     |   |
| Issued on exercise of  trust unit rights           |   | 16,600      |   |
| As at March 26,  2009                         |   | 408,249,304 |   |
|                                               |   |        |   |
| Trust unit  rights outstanding:                    |   |        |   |
| As at December 31,  2008                      |   | 25,818,380  |   |
| Granted                                            |   | 1,186,010   |   |
| Exercised                                          |   | (16,600     | )      |
| Forfeited                                          |   | (1,096,665  | )      |
| As at March 26,  2009                         |   | 25,891,125  |   |

 

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**Disclosure Controls and Procedures**

 

As of December 31, 2008, an internal evaluation was carried outunder the supervision of our Chief Executive Officer (the “CEO”) and ExecutiveVice President and Chief Financial Officer (the “CFO”) of the effectiveness ofthe Trust’s disclosure controls and procedures as defined in Rule 13a-15under the US Securities Exchange Act of 1934 and as defined in Canada byNational Instrument 52-109, Certification of Disclosure in Issuers’ Annual andInterim Filings. Based on that evaluation, the CEO and the CFO concluded thatas of December 31, 2008 the disclosure controls and procedures wereeffective to provide reasonable assurance that the information required to bedisclosed in the reports that the Trust files or submits under the Exchange Actor under Canadian Securities legislation is recorded, processed, summarized andreported, within the time periods specified in the rules and formstherein. Disclosure controls and procedures include, without limitation,controls and procedures designed to ensure that the information required to bedisclosed by the Trust in the reports that it files or submits under theExchange Act or under Canadian Securities Legislation is accumulated andcommunicated to the Trust’s management, including the senior executive andfinancial officers, as appropriate to allow timely decisions regarding the requireddisclosure.

 

**Internal Control over Financial Reporting**

 

We have a team of qualified and experienced staff who continue tomaintain our compliance with the applicable regulations regarding internalcontrol over financial reporting (“ICOFR”). As we are listed in both Canada andthe United States, the recent changes in Canada to remove the requirement forauditor attestation and have CEO/CFO certification of the effective operationof internal control over financial reporting for 2008 has not affected us. Webecame a registrant under the U.S. Securities Exchange Act of 1934 and listedour trust units on the New York Stock Exchange in June 2006. As of December 31,2008, an internal evaluation was carried out under the supervision of our CEOand CFO of the effectiveness of our ICOFR as defined in Rule 13a-15 underthe US Securities Exchange Act of 1934 and as defined in Canada by NationalInstrument 52-109, Certification of Disclosure in Issuers’ Annual and InterimFilings.  The assessment was based on the frameworkin Internal Control — Integrated Framework issued by the Committee ofSponsoring Organizations of the Treadway Commission. Based on thatevaluation, the CEO and the CFO concluded that as of December 31, 2008 ourICOFR was effective.  We have certified ourICOFR and obtained auditor attestation of the operating effectiveness of ourinternal control over financial reporting in conjunction with our 2008 and 2007year-end audited financial statements. All significant financial reportingprocesses have been documented, assessed, and tested. No changes in our ICOFRwere made during the quarter ended December 31, 2008 that have materiallyaffected, or are reasonably likely to materially affect, our ICOFR.

 

**Accounting Changes and Pronouncements**

 

Effective January 1, 2008, the Trust adopted the new Canadianaccounting standards “Capital Disclosures”, “Financial Instruments –Disclosures” and “Financial Instruments – Presentation”. The adoption of thesestandards had no material impact on the Trust’s net income or cash flows fromoperating activities.

 

Capital Disclosures

 

This section outlines disclosures relating to the management of anentity’s capital and additional qualitative and quantitative information on theobjectives, policies and processes over capital.

 

Financial Instruments - Disclosures / Presentation

 

These sections outline more comprehensive disclosures with regard torisks related to financial instruments, the significance of financialinstruments on an entity’s financial position and performance, and theclassification of financial instruments.

 

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Future Accounting Pronouncements

 

In December 2008,the CICA issued new accounting standards for “Business Combinations”, “Non-Controllinginterests” and “Consolidated Financial Statements”. The “Business Combinations”standard outlines new guidance which states that the purchase price is to bebased on trading data at the closing date of the acquisition and not theannouncement date of the acquisition as under previous guidance. In addition,most acquisition costs are to be expensed as incurred. These standards becomeeffective on January 1, 2011 and early adoption is permitted. Thesestandards will require the Trust to change its accounting policies for any newbusiness combinations subsequent to January 1, 2011.

 

In February 2008,the CICA issued a new accounting standard for “Goodwill and Intangible Assets”.This standard outlines guidelines for the recognition, measurement,presentation and disclosure of goodwill and intangible assets subsequent totheir initial recognition. This new standard becomes effective January 1,2009. The implementation of this section is expected to have no impact on theTrust’s financial statements.

 

In January 2006, the Canadian Accounting Standards Board (the “AcSB”)announced its decision to replace Canadian GAAP with International FinancialReporting Standards (“IFRS”) for all Canadian Publicly Accountable Enterprises(“PAEs”), including Penn West. On February 13, 2008, the AcSBconfirmed January 1, 2011 as the changeover date for PAEs to commencereporting under IFRS. Although IFRS is principles-based and uses aconceptual framework similar to Canadian GAAP, there are significantdifferences and choices in accounting policies, as well as increased disclosurerequirements under IFRS.

 

We are currently assessing the impact of the conversion from CanadianGAAP to IFRS on our results of operations, financial position and disclosures.A project team and steering committee have been set up to manage thistransition and to ensure successful implementation within the requiredtimeframe. Employees involved in the project have attended a number of trainingcourses and education sessions. Additionally, an external advisor has been engagedto assist with the implementation.

 

Communication is ongoing with many areas of the organization andregular updates are provided to senior management and the Audit committee.Based on work completed to date, the accounting differences that will lead tothe largest changes include property, plant and equipment and businesscombinations. We will provide disclosures of the key elements of our plan andprogress on the project as the information becomes available during thetransition period.

 

**Related-Party Transactions**

 

During 2008, Penn West paid $5 million (2007 – $1 million) of legalfees to a law firm of which a partner is also a director of Penn West.

 

**Off-Balance-Sheet Financing**

 

We have off-balance-sheet financing arrangements consisting of operatingleases. The operating lease payments are summarized in the ContractualObligations and Commitments section.

 

**Critical Accounting Estimates**

 

Our significant accounting policies aredetailed in Note 2 to the audited consolidated financial statements. In thedetermination of financial results, we must make certain significant accountingestimates as follows:

 

Full Cost Accounting

 

We use the full cost method of accounting foroil and natural gas properties. All costs of exploring for and developing oiland natural gas reserves are capitalized and depleted against associated oiland natural gas production using the unit-of-production method based on theestimated proved reserves with forecast commodity pricing.

 

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All of our reserves were evaluated or auditedby GLJ Petroleum Consultants Ltd. (“GLJ”) and Sproule Associates Limited (“SAL”),both independent engineering firms. Our reserves are determined in compliancewith National Instrument 51-101. The evaluation of oil and natural gas reservesis, by its nature, based on complex extrapolations and models as well as othersignificant engineering, capital, pricing and cost assumptions. Reserveestimates are a key component in the calculation of depletion and are a keycomponent of value in the ceiling test. To the extent that the ceiling amount,based in part on our reserves, is less than the carrying amount of property,plant and equipment, a “ceiling test” write-down against income must be made.We determined there was no ceiling test write-down required at December 31,2008, for Canadian GAAP.

 

Asset Retirement Obligations

 

The discounted expected future cost ofstatutory, contractual or legal obligations to retire long-lived assets isrecorded as an asset retirement liability with a corresponding increase to thecarrying amount of the related asset. The recorded liability increases overtime to its future liability amount through accretion charges to income,included in DD&A. Revisions to the estimated amount or timing of theobligations are reflected as increases or decreases to the recorded assetretirement obligation. Actual asset retirement expenditures are charged to theliability to the extent of the then-recorded liability. Amounts capitalized tothe related assets are amortized to income consistent with the depletion ordepreciation of the underlying asset. Note 8 to the audited consolidatedfinancial statements details the impact of these accounting recommendations.

 

Financial Instruments

 

Financial instruments, included in the balance sheets consist ofaccounts receivable, fair values of derivative financial instruments, currentliabilities (excluding future income tax liability), convertible debentures andlong-term debt. Except for the senior notes and the convertible debentures, thefair values of these financial instruments approximate their carrying amountsdue to the short-term maturity of the instruments, the mark to market valuesrecorded for the financial instruments and the market rate of interestapplicable to the bank debt. The estimated fair value of the senior notes andthe convertible debentures is disclosed in Notes 6 and 7 to the auditedconsolidated financial statements.

 

Substantially all of our accounts receivableare with customers in the oil and natural gas industry and are subject tonormal industry credit risk. We may, from time to time, use various types offinancial instruments to reduce our exposure to fluctuating oil and natural gasprices, electricity costs, exchange rates and interest rates. The use of thesefinancial instruments exposes us to credit risks associated with the possiblenon-performance of counterparties to the derivative contracts. We limit thisrisk by executing counterparty risk procedures which include transacting onlywith financial institutions with high credit ratings and obtaining security incertain circumstances.

 

Our revenues fromthe sale of crude oil, natural gas liquids and natural gas are directlyimpacted by changes to the underlying commodity prices. To ensure that fundsflows are sufficient to fund planned capital programs and distributions,collars or other financial instruments may be utilized from time to time.Collars ensure that commodity prices realized will fall into a contracted rangefor a contracted sales volume. Forward power contracts fix a portion of futureelectricity costs at levels determined to be economic by management.

 

Goodwill

 

Goodwill must be recorded on a business combination when the totalpurchase consideration exceeds the fair value of the net identifiable assetsand liabilities of the acquired entity. The goodwill balance is not amortized;however, it must be assessed for impairment at least annually. The goodwillimpairment test consists of two parts. Under part 1, if the fair value of thereporting entity is less than its book value, part 2 of the test must beperformed. As at December 31,2008, due to the widespread decline in equity markets, Penn West proceeded topart 2 of the test where a reporting entity is required to calculate a purchaseequation on its assets and liabilities at fair value on the balance sheet date.Under part 2, an equity control premium of 20 percent was used and the fairvalue of property, plant and equipment was estimated using forward strip commodityprices at year-end escalated at two percent per year subsequent to the end ofavailable market data and a discount rate of 15 percent. Penn West determinedthere was no goodwill impairment at December 31, 2008; however,further declines in the equity markets since year-end increase the potential ofan impairment charge in the future.

 

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A one percent change in theassumed control premium and a one percent change in the assumed discountrate applied to estimated cash flows change the fair value of Penn West byapproximately $55 million and $350 million, respectively.

 

Future Income Tax

 

Future income taxes are recorded based on the asset and liabilitymethod of accounting whereby temporary differences are calculated assumingfinancial assets and liabilities will be settled at their carrying amount.Future income taxes are computed on temporary differences using substantivelyenacted income tax rates expected to apply when future income tax assets andliabilities are realized or settled.

 

**Forward-Looking Statements**

 

In the interest of providing Penn West’s unitholders and potentialinvestors with information regarding Penn West, including management’sassessment of Penn West’s future plans and operations, certain statementscontained in this document constitute forward-looking statements or information(collectively “forward-looking statements”) within the meaning of the “safeharbour” provisions of applicable securities legislation. Forward-lookingstatements are typically identified by words such as “anticipate”, “continue”, “estimate”,“expect”, “forecast”, “may”, “will”, “project”, “could”, “plan”, “intend”, “should”,“believe”, “outlook”, “potential”, “target” and similar words suggesting futureevents or future performance. In addition, statements relating to “reserves” or“resources” are deemed to be forward-looking statements as they involve theimplied assessment, based on certain estimates and assumptions, that thereserves and resources described exist in the quantities predicted or estimatedand can be profitably produced in the future.

 

In particular, this document contains forward-looking statementspertaining to, without limitation, the following: the nature and effectivenessof our risk management strategies; our ability to mitigate the potentialadverse consequences to our financial position, business strategy and capitaland distribution programs that could result from the ongoing turmoil in thecredit and financial markets; our 2009 capital expenditure levels, the timingof making said expenditures, and the key elements of our 2009 capitalexpenditure program; our expectation that services costs will decrease in thelatter half of 2009; funding sources for distributions and distribution levels andwhether a special distribution will be made in 2009; our ability to fund ourcapital program and distributions with internally generated funds flow andproceeds from our distribution reinvestment program; our ability (financial andotherwise) to capitalize on opportunities that arise; our expectationsregarding North American and global supply and demand factors for crude oil andnatural gas in 2009 and beyond; the impact that the new Alberta royaltyframework may have on us, including on our business strategies and plans; thepotential impact on our business, business strategies and plans, businessmodel, future growth prospects, distribution policies and unitholders of theSIFT tax and the different actions that we might take in response to the SIFTtax and the potential impact those actions could have on us and ourunitholders, including without limitation, our potential ability to shield ourtaxable income from income tax using our tax pools for a period of timefollowing the implementation of the SIFT tax and the impact this would have onour distributions and unitholders; matters relating to the proposed acquisitionof Reece, including the acquisition metrics, the anticipated benefits of theacquisition and the anticipated impact of the acquisition on our 2009 capitalprogram; our ability to improve our finding and development costperformance;  our intention and abilityto maintain a balanced portfolio of liquids and natural gas production and thebenefits we may derive therefrom; our intent and ability to improve our capitalefficiency and implement operating and general and administrative costefficiencies; our environmental regulation compliance costs and strategies, thesufficiency of our environmental program and our ability to fund our asset retirementobligations; our beliefs and outlook for the maintenance of our productivecapacity on a medium term and long term basis and the potential impacts ofthose beliefs and outlooks on our future distribution policies; the disclosurecontained under the heading “Outlook”, which sets forth management’sexpectations as to our capital expenditures for 2009 and the timing for makingsaid expenditures and the intended focus of such expenditures, our expectationthat service costs will decrease as 2009 progresses, and our forecast averageproduction in the first half of 2009; the disclosure contained under theheading “Sensitivity Analysis” relating to the estimated sensitivity of our keyassumptions regarding reported financial results relating to funds flow andpre-tax unrealized risk management gains for the next 12 months to changes incertain operational and financial metrics; our belief that we will besuccessful in renewing or replacing our credit facilities on acceptable termswhen they mature; and our expectations regarding the impact that new andpending accounting changes may have on us.

 

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With respect to forward-looking statements contained in this document,we have made assumptions regarding, among other things: future oil and naturalgas prices and differentials between light, medium and heavy oil prices; futurecapital expenditure levels; future oil and natural gas production levels;future exchange rates and interest rates; the amount of future cash distributionsthat we intend to pay; our ability to obtain equipment in a timely manner tocarry out development activities; our ability to market our oil and natural gassuccessfully to current and new customers; the impact of increasingcompetition; our ability to obtain financing on acceptable terms; and ourability to add production and reserves through our development and exploitationactivities. In addition, many of the forward-looking statements contained inthis document are located proximate to assumptions that are specific to thoseforward-looking statements, and such assumptions should be taken into accountwhen reading such forward-looking statements: see in particular the assumptionsidentified under the headings “Financial Markets”, “Enactment of the Tax onIncome Trusts”, “Standardized Distributable Cash”, “Outlook” and “SensitivityAnalysis”.

 

Although Penn West believes that the expectations reflected in theforward-looking statements contained in this document, and the assumptions onwhich such forward-looking statements are made, are reasonable, there can be noassurance that such expectations will prove to be correct. Readers arecautioned not to place undue reliance on forward-looking statements included inthis document, as there can be no assurance that the plans, intentions orexpectations upon which the forward-looking statements are based will occur. Bytheir nature, forward-looking statements involve numerous assumptions, knownand unknown risks and uncertainties that contribute to the possibility that thepredictions, forecasts, projections and other forward-looking statements willnot occur, which may cause Penn West’s actual performance and financial resultsin future periods to differ materially from any estimates or projections offuture performance or results expressed or implied by such forward-lookingstatements. These risks and uncertainties include, among other things: theimpact of weather conditions on seasonal demand and ability to execute capitalprograms; risks inherent in oil and natural gas operations; uncertaintiesassociated with estimating reserves and resources; competition for, among otherthings, capital, acquisitions of reserves, resources, undeveloped lands andskilled personnel; incorrect assessments of the value of acquisitions;geological, technical, drilling and processing problems; general economicconditions in Canada, the U.S. and globally; industry conditions, includingfluctuations in the price of oil and natural gas; royalties payable in respectof our oil and natural gas production and changes thereto; changes ingovernment regulation of the oil and natural gas industry, includingenvironmental regulation; fluctuations in foreign exchange or interest rates;unanticipated operating events that can reduce production or cause productionto be shut-in or delayed; failure to obtain industry partner and otherthird-party consents and approvals when required; stock market volatility andmarket valuations; OPEC’s ability to control production and balance global supplyand demand of crude oil at desired price levels; political uncertainty,including the risks of hostilities, in the petroleum producing regions of theworld; the need to obtain required approvals from regulatory authorities fromtime to time; failure to realize the anticipated benefits of acquisitions,including the completed and proposed acquisitions discussed herein; changes intax laws that affect us and our securityholders; changes in the Alberta royaltyframework; uncertainty of obtaining required approvals for acquisitions andmergers; and the other factors described under “Business Risks” in thisdocument and in Penn West’s public filings (including our Annual InformationForm) available in Canada at www.sedar.com and in the United States at www.sec.gov.Readers are cautioned that this list of risk factors should not be construed asexhaustive.

 

The forward-looking statements contained in this document speak only asof the date of this document. Except as expressly required by applicablesecurities laws, Penn West does not undertake any obligation to publicly updateor revise any forward-looking statements, whether as a result of newinformation, future events or otherwise. The forward-looking statementscontained in this document are expressly qualified by this cautionarystatement.

 

**Additional Information**

 

Additional information relating to Penn West including Penn West’sAnnual Information Form is available on SEDAR at www.sedar.com.

 

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