**Exhibit 99.3**

** **

**Management’s Report**

** **

Theconsolidated financial statements of Penn West Energy Trust were prepared bymanagement in accordance with accounting principles generally accepted inCanada. In preparing the consolidated financial statements, management has madeestimates because a precise determination of certain assets and liabilities isdependent on future events. The financial and operating information presentedin this report is consistent with that shown in the consolidated financialstatements.

 

Managementmaintains a system of internal controls to provide reasonable assurance thatall assets are safeguarded and to facilitate the preparation of relevant,reliable and timely financial records for the preparation of statements.

 

Theconsolidated financial statements have been examined by the external auditorsand approved by the Board of Directors. The Board of Directors’ financialstatement related responsibilities are fulfilled through the Audit Committee.The Audit Committee is composed entirely of independent directors. The AuditCommittee recommends appointment of the external auditors to the Board ofDirectors, ensures their independence, and approves their fees. The AuditCommittee meets regularly with management and the external auditors to discussreporting and control issues and to ensure each party is properly dischargingits responsibilities. The auditors have full and unrestricted access to theAudit Committee to discuss their audit and their related findings as to theintegrity of the financial reporting process.

 

 
| [signed] “William E. Andrew” |       | [signed] “Murray R. Nunns” |       | [signed] “Todd H. Takeyasu” |
|----------------------------------------|------------|--------------------------------------|------------|---------------------------------------|
|                                   |       |                                 |       |                                  |
| **William E. Andrew**                  | ** ** | **Murray R. Nunns**                  | ** ** | **Todd H. Takeyasu**                  |
| Chief Executive Officer                |       | President and COO                    |       | Executive Vice President and CFO      |

 

March6, 2008

 

1

----

 

**REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM**

 

Tothe Board of Directors of Penn West Petroleum Ltd., the administrator of PennWest Energy Trust and the Unitholders of Penn West Energy Trust

 

Wehave audited Penn West Energy Trust’s (“the Trust”)’s internal control overfinancial reporting as of December 31, 2007, based on the criteriaestablished in Internal Control—Integrated Framework issued by the Committee ofSponsoring Organizations of the Treadway Commission (COSO). The Trust’smanagement is responsible for maintaining effective internal control overfinancial reporting and for its assessment of the effectiveness of internalcontrol over financial reporting, included in the accompanying management’sreport. Our responsibility is to express an opinion on the Trust’s internalcontrol over financial reporting based on our audit.

 

Weconducted our audit in accordance with the standards of the Public CompanyAccounting Oversight Board (United States). Those standards require that weplan and perform the audit to obtain reasonable assurance about whethereffective internal control over financial reporting was maintained in allmaterial respects. Our audit included obtaining an understanding of internalcontrol over financial reporting, assessing the risk that a material weaknessexists, and testing and evaluating the design and operating effectiveness ofinternal control based on the assessed risk. Our audit also included performingsuch other procedures as we considered necessary in the circumstances. Webelieve that our audit provides a reasonable basis for our opinion.

 

Anentity’s internal control over financial reporting is a process designed toprovide reasonable assurance regarding the reliability of financial reportingand the preparation of financial statements for external purposes in accordancewith generally accepted accounting principles. An entity’s internal controlover financial reporting includes those policies and procedures that (1) pertainto the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactionsand dispositions of the assets of the entity; (2) provide reasonable assurance that transactions are recorded asnecessary to permit preparation of financial statements in accordance withgenerally accepted accounting principles, and that receipts and expenditures ofthe entity are being made only inaccordance with authorizations of management and directors of the entity; and (3) providereasonable assurance regardingprevention or timely detection of unauthorized acquisition, use, or dispositionof the entity’s assets that could have a material effect on the financialstatements.

 

Becauseof its inherent limitations, internal control over financial reporting may notprevent or detect misstatements. Also, projections of any evaluation ofeffectiveness to future periods are subject to the risk that controls maybecome inadequate because of changes in conditions, or that the degree ofcompliance with the policies or procedures may deteriorate.

 

Inour opinion, the Trust maintained, in all material respects, effective internalcontrol over financial reporting as of December 31, 2007, based on thecriteria established in Internal Control—Integrated Framework issued by theCommittee of Sponsoring Organizations of the Treadway Commission (COSO).

 

Wealso have conducted our audits on the consolidated financial statements inaccordance with Canadian generally accepted auditing standards. With respect tothe year ended December 31, 2007, we also have conducted our audit inaccordance with the standards of the Public Company Accounting Oversight Board(United States). Our report dated March 6, 2008 expressed an unqualifiedopinion on those consolidated financial statements.

 

 

[signed]“KPMG LLP”

 

**Chartered Accountants**

Calgary,Canada

 

March 6, 2008

 

2

----

 

**Auditors’ Report to theunitholders**

 

Tothe Unitholders of Penn West Energy Trust

 

Wehave audited the consolidated balance sheets of Penn West Energy Trust (“theTrust”) as at December 31, 2007 and 2006 and the consolidated statementsof income and retained earnings and cash flows for the years then ended. Thesefinancial statements are the responsibility of the Trust’s management. Ourresponsibility is to express an opinion on these financial statements based onour audits.

 

Weconducted our audits in accordance with Canadian generally accepted auditingstandards. With respect to the consolidated financial statements for the yearended December 31, 2007, we also conducted our audit in accordance withthe standards of the Public Company Accounting Oversight Board (United States).Those standards require that we plan and perform an audit to obtain reasonableassurance whether the financial statements are free of material misstatement.An audit includes examining, on a test basis, evidence supporting the amountsand disclosures in the financial statements. An audit also includes assessingthe accounting principles used and significant estimates made by management, aswell as evaluating the overall financial statement presentation.

 

Inour opinion, these consolidated financial statements present fairly, in allmaterial respects, the financial position of the Trust as at December 31,2007 and 2006 and the results of its operations and its cash flows for theyears then ended in accordance with Canadian generally accepted accountingprinciples.

 

Wealso have audited, in accordance with the standards of the Public CompanyAccounting Oversight Board (United States), the Trust’s internal control overfinancial reporting as of December 31, 2007, based on the criteriaestablished in Internal Control—Integrated Framework issued by the Committee ofSponsoring Organizations of the Treadway Commission (COSO), and our reportdated March 6, 2008 expressed an unqualified opinion on the effectivenessof the Trust’s internal control over financial reporting.

 

 

[signed]“KPMG LLP”

 

**Chartered Accountants**

Calgary,Canada

 

March6, 2008

 

3

----

** **

**Consolidated Balance Sheets**

 
| ** **                                                                                               | ** ** | **As at December 31** | ** **  |
|----------------------------------------------------------------------------------------------------------|------------|--------------------------------------|-------------|
| **(CAD millions)**                                                                                  | ** ** | **2007**                             | ** **  | **2006** | ** ** |
| ASSETS                                                                                                   |       |                                 |        |   |   |
| Current                                                                                                  |       |                                 |        |   |   |
| Accounts  receivable                                                                                     | ** ** | **$**                                | **277.5**   |   | $ | 268.7 |   |
| Risk management  (note 11)                                                                               | ** ** | **—**                           |        | 54.0 |   |
| Future income  taxes (note 7)                                                                            | ** ** | **44.3**                             |        | — |   |
| Other                                                                                                    | ** ** | **45.7**                             |        | 56.0 |   |
| ** **                                                                                               |       | **367.5**                            |        | 378.7 |   |
| Property, plant  and equipment (note 3)                                                                  | ** ** | **7,413.5**                          |        | 7,039.0 |   |
| Goodwill (note  4)                                                                                       | ** ** | **652.0**                            |        | 652.0 |   |
| ** **                                                                                               |       | **8,065.5**                          |        | 7,691.0 |   |
| ** **                                                                                               |       | **$**                                | **8,433.0** |   | $ | 8,069.7 |   |
| ** **                                                                                               |       | ** **                           |        |   |   |
| LIABILITIES AND  UNITHOLDERS’ EQUITY                                                                |       |                                 |        |   |   |
| Current                                                                                                  |       |                                 |        |   |   |
| Accounts payable  and accrued liabilities                                                                | ** ** | **$**                                | **359.3**   |   | $ | 384.1 |   |
| Distributions  payable                                                                                   | ** ** | **82.5**                             |        | 80.6 |   |
| Risk management  (note 11)                                                                               | ** ** | **147.6**                            |        | — |   |
| ** **                                                                                               |       | **589.4**                            |        | 464.7 |   |
| Long-term debt  (note 5)                                                                                 | ** ** | **1,943.2**                          |        | 1,285.0 |   |
| Asset retirement  obligations (note 6)                                                                   | ** ** | **413.5**                            |        | 339.1 |   |
| Future income  taxes (note 7)                                                                            | ** ** | **917.4**                            |        | 792.6 |   |
| ** **                                                                                               |       | **3,863.5**                          |        | 2,881.4 |   |
| **Unitholders’  equity**                                                                            |       |                                 |        |   |   |
| Unitholders’  capital (note 8)  (Units outstanding 2007 –242,663,164; 2006 – 237,126,219) |       | **3,877.1**                          |        | 3,712.4 |   |
| Contributed  surplus (note 8)                                                                            | ** ** | **35.3**                             |        | 16.4 |   |
| Retained  earnings                                                                                       | ** ** | **657.1**                            |        | 1,459.5 |   |
| ** **                                                                                               |       | **4,569.5**                          |        | 5,188.3 |   |
| ** **                                                                                               |       | **$**                                | **8,433.0** |   | $ | 8,069.7 |   |

Subsequentevents (notes 5 and 18)

Contractualobligations and commitments (note 13)

 

Seeaccompanying notes to the audited consolidated financial statements.

 

Approvedon behalf of Penn West Energy Trust, by Penn West Petroleum Ltd. asAdministrator:

 

 
| [signed] “John A. Brussa” |               | [signed] “James C. Smith” |
|-------------------------------------|--------------------|-------------------------------------|
|                                |               |
| **John A. Brussa**                  | **James C. Smith** |
| Chairman                            | Director           |

 

4

----

 

**CONSOLIDATED STATEMENTS OF INCOME AND RETAINED EARNINGS**

 
| ** **                                                           | ** ** | **Years ended December 31** | ** **  |
|----------------------------------------------------------------------|------------|--------------------------------------------|-------------|
| **(CAD millions, except per unit amounts)** | ** ** | **2007**                                   | ** **  | **2006** | ** ** |
| **Revenues******                                                     | ** ** | ** **                                 |        |   |   |
| Oil and natural gas                                                  |       | **$**                                      | **2,458.8** |   | $ | 2,033.7 |   |
| Royalties                                                            |       | **(450.8**                                 | **)**       | (388.0 | ) |
|                                                                 |       | **2,008.0**                                | ** **  | 1,645.7 |   |
| Risk management  gain (loss) (note 11)                               |       |                                       | ** **  |   |   |
| Realized                                                             | ** ** | **3.0**                                    | ** **  | 67.2 |   |
| Unrealized                                                           | ** ** | **(182.0**                                 | **)**       | 42.8 |   |
| ** **                                                           |       | **1,829.0**                                | ** **  | 1,755.7 |   |
| **Expenses**                                                         |       |                                       | ** **  |   |   |
| Operating (note  9)                                                  | ** ** | **517.7**                                  | ** **  | 429.1 |   |
| Transportation                                                       | ** ** | **24.1**                                   | ** **  | 24.5 |   |
| General and  administrative (note 9)                                 | ** ** | **65.8**                                   | ** **  | 44.5 |   |
| Financing (note  5)                                                  | ** ** | **92.4**                                   | ** **  | 49.3 |   |
| Depletion,  depreciation and accretion                               | ** ** | **896.7**                                  | ** **  | 654.7 |   |
| Risk management  (gain) loss (note 11)                               | ** ** | **19.6**                                   | ** **  | (5.8 | ) |
| Unrealized  foreign exchange gain                                    | ** ** | **(38.2**                                  | **)**       | — |   |
| ** **                                                           |       | **1,578.1**                                | ** **  | 1,196.3 |   |
| **Income  before taxes**                                             | ** ** | **250.9**                                  | ** **  | 559.4 |   |
| ** **                                                           | ** ** | ** **                                 | ** **  |   |   |
| **Taxes******                                                        | ** ** | ** **                                 | ** **  |   |   |
| Future income tax expense (reduction) (note 7)                       | ** ** | **75.4**                                   | ** **  | (106.2 | ) |
|                                                                 | ** ** | ** **                                 | ** **  |   |   |
| **Net  income**                                                      | ** ** | **175.5**                                  | ** **  | 665.6 |   |
| ** **                                                           | ** ** | ** **                                 | ** **  |   |   |
| **Retained  earnings, beginning of year**                            | ** ** | **1,459.5**                                | ** **  | 1,605.7 |   |
| Distributions  declared                                              | ** ** | **(977.9**                                 | **)**       | (811.8 | ) |
| **Retained  earnings, end of year**                                  | ** ** | **$**                                      | **657.1**   | ** ** | $ | 1,459.5 |   |
| ** **                                                           | ** ** | ** **                                 | ** **  |   |   |
| **Net  income per unit**                                             |       |                                       | ** **  |   |   |
| Basic                                                                | ** ** | **$**                                      | **0.73**    | ** ** | $ | 3.32 |   |
| Diluted                                                              | ** ** | **$**                                      | **0.73**    | ** ** | $ | 3.27 |   |
| **Weighted  average units outstanding**(millions)                    |       |                                       | ** **  |   |   |
| Basic                                                                | ** ** | **239.4**                                  | ** **  | 200.8 |   |
| Diluted                                                              | ** ** | **241.5**                                  | ** **  | 203.5 |   |

 

See accompanying notes tothe audited consolidated financial statements.

 

5

----

 

**CONSOLIDATED STATEMENTS OF CASH FLOWS**

** **
| ** **                                                       | ** ** | **Years ended December 31** | ** ** |
|------------------------------------------------------------------|------------|--------------------------------------------|------------|
| **(CAD millions)**                                          | ** ** | **2007**                                   | ** ** | **2006** | ** ** |
| **Operating  activities**                                        |       |                                       | ** ** |   |   |
| Net income                                                       | ** ** | **$**                                      | **175.5**  | ** ** | $ | 665.6 |   |
| Depletion,  depreciation and accretion                           | ** ** | **896.7**                                  | ** ** | 654.7 |   |
| Future income  tax expense (reduction) (note 7)                  | ** ** | **75.4**                                   | ** ** | (106.2 | ) |
| Unit-based  compensation (note 9)                                | ** ** | **20.5**                                   | ** ** | 11.3 |   |
| Risk management  (gain) loss (note 11)                           | ** ** | **201.6**                                  | ** ** | (48.6 | ) |
| Unrealized  foreign exchange gain                                | ** ** | **(38.2**                                  | **)**      | — |   |
| Asset retirement  expenditures                                   | ** ** | **(51.5**                                  | **)**      | (26.9 | ) |
| Change in  non-cash working capital (note 14)                    | ** ** | **(38.2**                                  | **)**      | (43.6 | ) |
| ** **                                                       |       | **1,241.8**                                | ** ** | 1,106.3 |   |
| **Investing  activities**                                        |       |                                       | ** ** |   |   |
| Acquisition of  property, plant and equipment                    | ** ** | **(576.1**                                 | **)**      | (18.2 | ) |
| Disposition of  property, plant and equipment                    | ** ** | **133.2**                                  | ** ** | 12.6 |   |
| Additions to  property, plant and equipment                      | ** ** | **(697.3**                                 | **)**      | (572.3 | ) |
| Petrofund  acquisition costs (note 17)                           | ** ** | **—**                                 | ** ** | (25.0 | ) |
| Change in  non-cash working capital (note 14)                    | ** ** | **14.9**                                   | ** ** | 11.7 |   |
| ** **                                                       |       | **(1,125.3**                               | **)**      | (591.2 | ) |
| **Financing activities**                                         |       |                                       | ** ** |   |   |
| Proceeds from  issuance of notes (note 5)                        | ** ** | **509.1**                                  | ** ** | — |   |
| Increase in bank  loan                                           | ** ** | **187.3**                                  | ** ** | 132.6 |   |
| Issue of equity                                                  | ** ** | **32.0**                                   | ** ** | 22.5 |   |
| Distributions  paid                                              | ** ** | **(844.9**                                 | **)**      | (685.7 | ) |
| Settlement of  future income tax liabilities on trust conversion | ** ** | **—**                                 | ** ** | 15.5 |   |
| ** **                                                       |       | **(116.5**                                 | **)**      | (515.1 | ) |
| **Change  in cash**                                              | ** ** | **—**                                 | ** ** | — |   |
| **Cash,  beginning of year**                                     | ** ** | **—**                                 | ** ** | — |   |
| **Cash,  end of year**                                           | ** ** | **$**                                      | **—** | ** ** | $ | — |   |
| ** **                                                       | ** ** | ** **                                 | ** ** |   |   |
| Interest paid                                                    | ** ** | **$**                                      | **94.5**   | ** ** | $ | 44.4 |   |
| Income taxes  paid (recovered)                                   | ** ** | **$**                                      | **(2.4**   | **)** | $ | 8.6 |   |

 

See accompanying notes tothe audited consolidated financial statements.

 

6

----

 

**Notes tothe Consolidated Financial Statements**

(Alltabular amounts are in millions except numbers of units, per unit amounts,percentages and various figures in Note 11)

 

**1.     Structureof Penn West**

 

Penn West Energy Trust (“Penn West” or the “Trust”)is an open-ended, unincorporated investment trust governed by the laws of theProvince of Alberta. The purpose of Penn West is to indirectly explore for,develop and hold interests in petroleum and natural gas properties throughinvestments in securities of subsidiaries and royalty interests in oil andnatural gas properties. Penn West owns 100 percent of the common shares orpartnership interests, directly or indirectly, of the entities that carry onthe oil and natural gas business of Penn West. The activities of these entitiesare financed through interest-bearing notes from Penn West and third-party debtas described in the notes to the audited consolidated financial statements.

 

Pursuant to the terms of net profit interestagreements (the “NPIs”), Penn West is entitled to payments from certainsubsidiary entities equal to essentially all of the proceeds of the sale of oiland natural gas production less certain specified deductions. Under the termsof the NPIs, the deductions are in part discretionary, include the requirementto fund capital expenditures and asset acquisitions, and are subject to certainadjustments for asset dispositions.

 

Under the terms of its trust indenture, Penn West isrequired to make distributions to unitholders in amounts at least equal to itstaxable income consisting of interest on notes, the NPIs, and any inter-corporatedistributions and dividends received, less certain expenses and deductions.

 

On June 2, 2005, the trust units commencedtrading on the TSX under the symbol “PWT.UN”. On June 22, 2006, the trustunits commenced trading on the NYSE under the symbol “PWE”.

 

**2.     Significantaccounting policies**

 

The consolidated financialstatements have been prepared in accordance with Canadian generally acceptedaccounting principles (“GAAP”).

 

**a) Principles ofconsolidation**

 

The consolidated financialstatements include the accounts of Penn West and all its wholly ownedsubsidiaries and partnerships.

 

**b) Other current assets**

 

Other current assets include deposits, prepaymentsand inventory. Inventories are valued at the lower of cost and net realizablevalue.

 

**c) Property, plant andequipment**

 

i) Capitalized costs

 

The full cost method of accounting for oil andnatural gas operations is followed, whereby all costs of acquiring, exploringfor and developing oil and natural gas reserves are capitalized. These costsinclude lease acquisition, geological and geophysical, exploration anddevelopment and related equipment costs. Proceeds from the disposition of oiland natural gas properties are accounted for as a reduction of capitalizedcosts, with no gain or loss recognized unless such disposition results in asignificant change in the depletion and depreciation rate.

 

7

----

 

ii) Depletion and depreciation

 

Depletion and depreciation of resource properties iscalculated using the unit-of-production method based on production volumesbefore royalties in relation to total proved reserves as estimated byindependent petroleum engineers. Natural gas volumes are converted toequivalent oil volumes based upon the relative energy content of six thousandcubic feet of natural gas to one barrel of oil. In determining its depletionbase, the Trust includes estimated future costs to be incurred in developingproved reserves and excludes estimated equipment salvage values and the lowerof cost and market of unevaluated properties. Significant natural gasprocessing facilities, net of estimated salvage values, are depreciated usingthe declining balance method over the estimated useful lives of the facilities.

 

iii) Ceiling test

 

The recoverability of accumulated costs in a costcentre is assessed based on undiscounted future cash flows from provedreserves, using forecast prices, and the cost of unproved properties. Ifaccumulated costs are assessed to be not fully recoverable, the cost centre iswritten down to its fair value estimated as the present value of expectedfuture cash flows, using forecast prices, from proved and probable reserves andthe cost of unproved properties. Expected future cash flows are discounted atthe Trust’s estimated risk free rate.

 

iv) Asset retirement obligations

 

The fair value of legal obligations for propertyabandonment and site restoration is recognized as a liability on the balancesheet as incurred with a corresponding increase to the carrying amount of therelated asset. The recorded liability increases over time to its future amountthrough accretion charges included in depletion, depreciation and accretion.Revisions to the estimated amount or timing of the obligations are reflected asincreases or decreases to the recorded liability. Asset retirementexpenditures, up to the recorded liability at the time, are charged to theliability. Amounts capitalized to the related assets are amortized to incomeconsistent with the depletion or depreciation of the underlying asset.

 

The estimates in ii) and iii) and iv) are based onvolumes and reserves calculated based on forecast sales prices, costs andregulations expected at the end of the fiscal year.

 

**d) Joint operations**

 

Some of the Trust’s exploration and developmentactivities are conducted jointly with others. The accounts reflect only theTrust’s proportionate interest in such activities.

 

**e) Financial instruments**

 

The Trust has policies andprocedures in place with respect to the required documentation and approvalsfor the use of derivative financial instruments and their use is limited tomitigating market price risk associated with expected cash flows.

 

Financial instruments aremeasured at fair value on the balance sheet upon initial recognition of theinstrument. Measurement in subsequent years depends on whether the financialinstrument has been classified in one of the following categories: held-for-trading,available-for-sale, held-to-maturity, loans and receivables, or other financialliabilities.

 

Subsequent measurement and changes in fair value willdepend on initial classification, as follows: held-for-trading financial assets are measured at fair valueand changes in fair value are recognized in net income; available-for-sale financial instruments are measured at fairvalue with changes in fair value recorded in Other Comprehensive Income (“OCI”)until the instrument or a portion thereof is derecognized or impaired at whichtime the amounts would be recorded in net income.

 

8

----

 

As the Trust elected to discontinue hedge accountingin 2005, the adoption of these standards did not change the Trust’s accountingfor financial instruments. Cash and cash equivalents are designated as held-for-tradingand are measured at carrying value, which approximates fair value due to theshort-term nature of these instruments. Accounts receivable and accruedrevenues are designated as loans and receivables. Accounts payable and accruedliabilities and long-term debt are designated as other financial liabilities.All risk management assets and liabilities are derivative financial instrumentsclassified as held-for-trading.

 

**f) Enhanced oil recovery**

 

The value of proprietary injectants is not recognizedas revenue until reproduced and sold to third parties. The cost of injectantspurchased from third parties for miscible flood projects is included inproperty, plant and equipment. These injectant costs are amortized as depletionand depreciation over the period of expected future economic benefit on astraight-line basis. Costs associated with the production of proprietaryinjectants are expensed.

 

**g) Foreign currencytranslation**

 

Monetary items, such as receivables and long-termdebt, are translated to Canadian dollars at the rate of exchange in effect atthe balance sheet date. Non-monetary items, such as property, plant andequipment, are translated to Canadian dollars at the rate of exchange in effectwhen the transaction occurred. Revenues and expenses denominated in foreigncurrencies are translated at the average exchange rate in effect during theperiod. Foreign exchange gains or losses on translation are included in income.

 

**h) Unit-based compensation**

 

The Trust has a trust unit rights incentive plan, asoutlined in note 9. Compensation expense for the plan is based on the fairvalue of rights issued, amortized over the remaining vesting periods on astraight-line basis. A Binomial Lattice option-pricing model is used todetermine the fair value of rights granted. Costs in respect of the employeetrust unit savings plan are expensed as incurred.

 

**i) Revenue recognition**

 

Revenues from the sale of crude oil, natural gasliquids and natural gas are recognized when title passes from Penn WestPetroleum Ltd. (“the Company”) to the purchaser.

 

**j) Income taxes**

 

Penn West uses the asset and liability method ofaccounting for future income taxes. Temporary differences are calculatedassuming that the financial assets and liabilities will be settled at theircarrying amount. Future income taxes are computed on temporary differencesusing enacted or substantively enacted income tax rates that are expected toapply when future income tax assets and liabilities are realized or settled.Penn West is taxable on income in excess of distributions to unitholders.

 

**k) Goodwill**

 

Goodwill is recorded on a business combination whenthe total purchase consideration exceeds the fair value of the net identifiableassets and liabilities of the acquired entity. Goodwill is not amortized andthe balance is assessed for impairment on an annual basis, at December 31,or more frequently if circumstances arise that indicates impairment may haveoccurred. If impairment exists, the impairment amount is charged to earningsand is considered to be non-deductible for tax purposes.

 

9

----

 

The impairment test consists of two steps. First, thefair value of the Trust is compared to the carrying amount, including goodwill,to identify a potential impairment. If the fair value is greater than thecarrying amount, goodwill is considered not to be impaired and the second stepis not necessary. When the carrying amount exceeds the fair value, the secondstep requires the implied fair value of the goodwill to be compared to itscarrying amount. The implied fair value of goodwill is computed by assigningfair values to the identifiable assets and liabilities of the Trust as if ithad been acquired in a business combination. If the carrying amount of goodwillexceeds its implied fair value, an impairment loss equal to the excess isrecognized in the period.

 

**l) Measurement uncertainty**

 

The preparation of financialstatements in conformity with generally accepted accounting principles requiresmanagement to make estimates and assumptions that affect the reported amountsof assets and liabilities and disclosure of any contingent assets andliabilities at the date of the financial statements and the reported amounts ofrevenues and expenses for the period. Actual results may differ materially fromthose estimates.

 

Significant estimates areincluded in the determination of the provisions for depletion and depreciationof petroleum and natural gas assets and the asset retirement obligationsliability and the accretion thereof. Depletion and the ceiling test are basedon estimates of reserves, which by their nature include estimates of futureproduction rates, oil and gas prices and costs, as well as other assumptions.These and other estimates are subject to measurement uncertainty and the effecton the financial statements of changes in such estimates could be material.

 

**m) Transportation expense**

 

Transportation relates tocosts paid by the Trust for the shipping of natural gas, crude oil and NGL fromthe wellhead to the point of title transfer. These costs are recognized whenthe transportation is provided.

 

**n) Per unit calculations**

 

Penn West follows thetreasury stock method to compute the dilutive impact of unit rights. Thetreasury stock method assumes that the proceeds received from the pro formaexercise of in-the-money trust unit rights are used to purchase trust units ataverage market prices.

 

**o) Embedded derivatives**

 

An embedded derivative is acomponent of a contract that affects the terms in relation to another factor,for example rent costs that fluctuate with oil prices. These “hybrid” contractsare considered to consist of a “host” contract plus an embedded derivative. Theembedded derivative is separated from the host contract and accounted for as aderivative only if certain conditions are met. These include:

 

•      theeconomic characteristics and risks of the embedded derivative are not closelyrelated to the economic characteristics and risks of the host contract;

 

•      ifthe embedded derivative separated meets the definition of a derivative; and

 

•      thehybrid contract is not measured at fair value or classified as held fortrading.

 

TheTrust currently has no material embedded derivatives.

 

**p) Comprehensive income**

** **

Comprehensive income isdefined as the change in equity from transactions and other events from non-ownersources. It consists of net income and OCI. OCI refers to items recognized incomprehensive income that are excluded from net income calculated in accordancewith generally accepted accounting principles. The Trust currently has no itemsrequiring separate disclosure as OCI on a statement of Comprehensive Income.

 

10

----

 

**q) Transaction costs**

 

Transaction costs are capitalized when related toacquisitions and divestiture activities and expensed into net income asincurred during financing transactions.

 

**Future accounting changes**

 

Three new Canadian accounting standards have beenrecently issued: “Financial Instruments – Disclosure”, “Capital Disclosures”and “Goodwill and Intangible Assets”.

 

The Financial Instruments – Disclosure sectionoutlines standards of disclosures and presentation for financial instruments,effective January 1, 2008. This requires additional disclosure by theTrust and will be implemented in the first quarter of 2008.

 

The Capital Disclosure section becomes effective on January 1,2008 and specifies disclosures relating to capital, including a qualitativediscussion on an entity’s objectives, polices and processes for managingcapital and summary quantitative data regarding what is managed as capital.This section requires additional disclosure by the Trust and will beimplemented in the first quarter of 2008.

 

The Goodwill and Intangible Assets sectionestablishes standards for the recognition, measurement, presentation anddisclosure of goodwill and intangible assets subsequent to its initialrecognition. The new section becomes effective on January 1, 2009. TheTrust is currently assessing the impact of this new section.

 

**3.     Property,plant and equipment**

** **
| ** **                                                                       | ** ** | **December 31** | ** **   |
|----------------------------------------------------------------------------------|------------|----------------------|--------------|
| ** **                                                                       | ** ** | **2007**             | ** **   | **2006** | ** ** |
| Oil and natural  gas properties, including   production and processing equipment | ** ** | **$**                | **10,925.1** | ** ** | $ | 9,683.2 |   |
| Accumulated  depletion and depreciation                                          | ** ** | ** **           | **(3,511.6** | **)** |   | (2,644.2 | ) |
| Net book value                                                                   | ** ** | **$**                | **7,413.5**  |   | $ | 7,039.0 |   |

 

Other than Penn West’s net share of capital overheadrecoveries, no general and administrative expenses are capitalized. In 2007,additions to property, plant and equipment included a $96.6 million (2006 –$55.9 million) increaserelated to additions to asset retirement obligations; and a $5.1 million (2006 –$1.7 million) addition for futureincome taxes recorded on property acquisitions. The lower of cost and market ofunevaluated property excluded from the depletion base as at December 31,2007 was $303 million (December 31, 2006 – $303 million). The depletionand depreciation calculation includes future capital costs to develop provedreserves of $729 million (2006 – $718 million).

 

An impairment test was performed on the costscapitalized to oil and natural gas properties at December 31, 2007 and2006. The estimated undiscounted future net cash flows from proved reserves,using forecast prices, exceeded the carrying amount of the oil and natural gasproperty interests less the cost of unproved properties.

 

The following table outlines benchmark prices used inthe impairment test:

 
| ** **                         | ** ** | **WTI ($US/ bbl)** | ** ** | **AECO ($CAD/mcf)** | ** ** | **Exchange rate   ($US equals $1 CAD)** | ** ** |
|------------------------------------|------------|------------------------------|------------|--------------------------|------------|------------------------------------------------------------------|------------|
| 2008                               |       | $                            | 90.81      |                     | $          | 6.63                                                             |       | 1.00 |   |
| 2009                               |       | 87.00                        |       | 7.38                     |       | 1.00                                                             |       |
| 2010                               |       | 84.33                        |       | 7.65                     |       | 1.00                                                             |       |
| 2011                               |       | 82.39                        |       | 7.65                     |       | 1.00                                                             |       |
| 2012 – 2018                   |       | $                            | 84.54      |                     | $          | 8.06                                                             |       | 1.00 |   |
| Thereafter  (inflation percentage) |       | 2.0                          |       | 2.0                      |       | —                                                           |       |

 

11

----

 

**4.     Goodwill**

 

In 2006, Penn West recorded$652 million in goodwill in conjunction with the Petrofund Energy Trust (“Petrofund”)acquisition. The goodwill impairment test is completed annually on December 31or more frequently if circumstances arise that indicate an impairment may haveoccurred. At December 31, 2007 and 2006 an impairment test was performedand it was determined that there was no impairment to the goodwill balance.

 

**5.     Long-term debt**

 
| ** **                                         | ** ** | **December 31** | ** **  |
|----------------------------------------------------|------------|----------------------|-------------|
| ** **                                         | ** ** | **2007**             | ** **  | **2006** | ** ** |
| Bankers’  acceptances and prime rate loans    | ** ** | **$**                | **1,472.3** |   | $ | 1,285.0 |   |
| U.S. Senior  unsecured notes                       |       |                 |        |   |   |
| 5.68%, US$160  million, maturing May 31, 2015 | ** ** | **158.6**            |        | — |   |
| 5.80%, US$155  million, maturing May 31, 2017 | ** ** | **153.7**            |        | — |   |
| 5.90%, US$140  million, maturing May 31, 2019 | ** ** | **138.8**            |        | — |   |
| 6.05%, US$20  million, maturing May 31, 2022  | ** ** | **19.8**             |        | — |   |
| Total long-term  debt                              | ** ** | **$**                | **1,943.2** |   | $ | 1,285.0 |   |

 

As at December 31, 2007, the Company had anunsecured, extendible, three-year revolving syndicated credit facility with anaggregate borrowing limit of $2.1 billion, with an expiry date of August 25,2010. In January 2008, the Company amended its unsecured, revolvingsyndicated credit facility to an aggregate borrowing limit of $4.0 billionexpiring on January 11, 2011, to enable the cancellation of the creditfacilities of Canetic Resources Trust (“Canetic”) and Vault Energy Trust (“Vault”). The facility is madeup of two revolving tranches; tranche one of the facility is $3.25 billion and extendible and tranche two is $750 millionand non-extendible. The credit facility contains financial covenants consistingof debt to earnings before interest, taxes and depletion, depreciation andamortization (“EBITDA”) and debt to capitalization ratios. During 2007, theweighted average effective interest rate under the credit facility was fivepercent.

 

Financing costs include interest expense on long-termdebt of $90.1 million for the year ended December 31, 2007 (2006 – $47.7million).

 

Letters of credit totalling $0.3 million wereoutstanding on December 31, 2007 (December 31, 2006 – $0.4 million)that reduced the amount otherwise available to be drawn on the syndicatedfacility.

 

The US$475 million of senior unsecured notes aresubject to the financial covenant that consolidated debt to consolidatedcapitalization shall not exceed 55 percent except in the event of a materialacquisition where it is not to exceed 60 percent. The estimated fair value ofthe principal and interest obligations under the notes, calculated usingestimated market rates on December 31, 2007 was $457.8 million.

 

In January 2008, we entered into 10-year U.S.Treasury forward contracts on a notional principal amount of $250 million at anaverage fixed treasury rate of 3.6778 percent until June 30, 2008.

** **

**6.****             ****Asset retirement obligations**

 

Total asset retirement obligations are based upon thepresent value of Penn West’s net share of estimated future costs to abandon andreclaim all wells and facilities. The estimates were made by management usingexternal consultants assuming current technology and enacted legislation.

 

12

----

 

The total inflated and undiscounted amount to settlePenn West’s asset retirement obligations at December 31, 2007 was $2.6billion (December 31, 2006 – $2.2 billion). The asset retirementobligation was determined by applying an inflation factor of 2.0 percent (2006 –2.0 percent) and the inflated amount was discounted using a credit-adjustedrate of 7.0 percent (2006 – 7.0 percent) over the expected useful life of theunderlying assets, currently extending up to 50 years into the future with anaverage life of 23 years. The well reclamation cost assumptions were revisedupwards in 2007 to reflect the overall increases in costs experienced. Futurecash flows from operating activities are expected to fund the obligations.

 

Changesto asset retirement obligations were as follows:

 
| ** **                                       |       | **2007**   |      | **2006** |   |
|--------------------------------------------------|------------|------------|-----------|----------|--------|
| Balance,  beginning of year                      | ** ** | **$**      | **339.1** |     | $      | 192.4 |   |
| Liabilities  incurred during the year            | ** ** | **35.7**   |      | 30.2     |   |
| Petrofund  liabilities assumed on acquisition    | ** ** | **—** |      | 98.0     |   |
| Increase in  liability due to change in estimate | ** ** | **60.9**   |      | 25.7     |   |
| Liabilities  settled during the year             | ** ** | **(51.5**  | **)**     | (26.9    | )      |
| Accretion  charges                               | ** ** | **29.3**   |      | 19.7     |   |
| Balance, end of  year                            | ** ** | **$**      | **413.5** |     | $      | 339.1 |   |

 

**7.     Income taxes**

 

In 2007, the Government of Canada enacted new taxlegislation on publicly traded income trusts. Under the new rules, effectivefor the 2011 tax year, distributions of certain types of income will no longerbe deductible for income tax purposes by certain specified investment flow-through(“SIFT”) entities, including Penn West, and any resultant taxable income at thetrust level will be taxed at an approximation of the corporate tax rate. At thetime of the enacted legislation, the SIFT tax rate was 31.5 percent, which ledto an additional $325.5 million future income tax liability and future incometax expense recorded in the second quarter of 2007. In accordance with GAAP,prior to the enactment, the temporary differences in the Trust were notreflected in future income taxes. In the fourth quarter of 2007 the Governmentof Canada enacted tax rate reductions which included a lower SIFT tax rate of29.5 percent in 2011 and 28.0 percent in 2012 and subsequent years and a totalreduction to future corporate income tax rates of 3.5 percent. As a result of theabove legislation, a $106.4 million future income tax reduction was recordedduring the fourth quarter of 2007. The Trust’s temporary differences relateprimarily to the net book value of oil and natural gas properties in excess oftax pools assumed on the Petrofund acquisition closing June 30, 2006.

 

On February 26, 2008, the Government of Canada,in its Federal Budget, announced changes to the SIFT tax rules. The provincialcomponent of the SIFT tax will be based on the provincial rates where the SIFT hasa permanent establishment rather than using a 13 percent flat rate. For PennWest, the SIFT tax rate applicable in 2012 is expected to fall from 28 percentto 25 percent. As the tax rate change has not been substantively enacted, nofuture income tax rate benefit has been recorded in the financial statements.

 

As at December 31, future income tax assets(liabilities) arose from temporary differences as follows:

 
| ** **                                   | ** ** | **2007**   | ** **   | **2006** | ** ** |
|----------------------------------------------|------------|------------|--------------|----------|------------|
| Property, plant and equipment | ** ** | **$**      | **(1,027.1** | **)**    | $          | (876.4 | ) |
| Risk management                              | ** ** | **44.3**   | ** **   | (17.6    | )          |
| Asset retirement  obligations                | ** ** | **109.7**  | ** **   | 101.4    |       |
| Net future  income tax liability             | ** ** | **$**      | **(873.1**   | **)**    | $          | (792.6 | ) |
|                                         | ** ** | ** ** | ** **   |     |       |
| Future income  tax asset                     | ** ** | **44.3**   | ** **   | —   |       |
| Future income  tax liability                 | ** ** | **$**      | **(917.4**   | **)**    | $          | (792.6 | ) |

 

13

----

 

The Trust currently maintains an income tax statusthat permits it to deduct distributions to unitholders in addition to otheritems.

 

The provision for (reduction of) income taxesreflects an effective tax rate that differs from the combined federal andprovincial statutory tax rate as follows:
| ** **                             | ** ** | **Year ended December 31** | ** ** |
|----------------------------------------|------------|-------------------------------------------|------------|
| ** **                             |       | **2007**                                  | ** ** | **2006** | ** ** |
| Income before  taxes                   | ** ** | **$**                                     | **250.9**  | ** ** | $ | 559.4 |   |
| Combined  statutory tax rate           | ** ** | **32.8**                                  | **%**      | 35.2 | % |
| Computed income  tax provision         | ** ** | **$**                                     | **82.2**   | ** ** | $ | 197.0 |   |
| Increase  (decrease) resulting from:   |       |                                      | ** ** |   |   |
| Net Income  attributable to the trust  | ** ** | **(203.9**                                | **)**      | (197.4 | ) |
| Tax rate  reductions                   | ** ** | **(128.8**                                | **)**      | (108.1 | ) |
| Effect of SIFT  tax                    | ** ** | **325.5**                                 | ** ** | **—** |   |
| Unit-based  compensation               | ** ** | **5.5**                                   | ** ** | 3.4 |   |
| Unrealized  foreign exchange           | ** ** | **(5.1**                                  | **)**      | **—** |   |
| Non-deductible  Crown payments, net    | ** ** | **—**                                | ** ** | 36.1 |   |
| Resource  allowance                    | ** ** | **—**                                | ** ** | (38.4 | ) |
| Other                                  | ** ** | **—**                                | ** ** | 1.2 |   |
| Future income  tax expense (reduction) | ** ** | **$**                                     | **75.4**   | ** ** | $ | (106.2 | ) |

 

**8.     Unitholders’ equity**

 

**a) Authorized**

 

i) An unlimited number of Voting Trust Units, whichare redeemable at the option of the unitholder.

 

ii) An unlimited number of Special Voting Units,which enable the Trust to provide voting rights to holders of any exchangeableshares that may be issued by any direct or indirect subsidiaries of the Trust.Except for the right to vote, the Special Voting Units do not confer anyrights.

 

Trust units are redeemable at any time at the optionof the unitholder. The redemption price is equal to the least of 95 percent ofthe closing market price on the date the units were tendered for redemption, 95percent of the volume weighted average market price for the 10 days immediatelyafter the date the units were tendered for redemption, or 95 percent of theclosing market price on the date of redemption. Total redemptions are limitedto $250,000 in any calendar month, subject to waiver at the discretion of theadministrator. If the limitation is not waived, the amount payable in excess ofthe $250,000 will be settled by the distribution of redemption notes to theredeeming unitholders by the Trust.

 

Penn West has a Distribution Reinvestment andOptional Trust Unit Purchase Plan (the “DRIP”) that provides eligibleunitholders the opportunity to reinvest monthly cash distributions intoadditional units at a potential discount. Units are issued from treasury at 95percent of the 10-day volume-weighted average market price when available. Whenunits are not available from treasury they are acquired in the open market atprevailing market prices.

 

Unitholders who participate in the DRIP may alsopurchase additional units, subject to a monthly maximum of $5,000 and a minimumof $500. Optional cash purchase units are acquired, without a discount, in theopen market at prevailing market prices or issued from treasury at the 10-dayvolume-weighted average market price.

 

14

----

 

**b) Issued**

 
| **Voting Trust Units**                       | ** ** | **Units**   | ** ** | **Amount** | ** ** |
|----------------------------------------------|------------|-------------|------------|------------|------------|
| Balance,  December 31, 2005             |       | 163,290,013 |       | $          | 561.0      |   |
| Issued on  exercise of trust unit rights (1) |       | 407,750     |       | 10.6       |       |
| Issued to  employee trust unit savings plan  |       | 295,449     |       | 12.3       |       |
| Issued to  distribution reinvestment plan    |       | 2,459,870   |       | 96.1       |       |
| Issued on  Petrofund acquisition             |       | 70,673,137  |       | 3,032.4    |       |
| Balance,  December 31, 2006             |       | 237,126,219 |       | 3,712.4    |       |
|                                         |       |        |       |       |       |
| Issued on  exercise of trust unit rights (1) |       | 665,155     |       | 16.1       |       |
| Issued to  employee trust unit savings plan  |       | 532,840     |       | 17.5       |       |
| Issued to  distribution reinvestment plan    |       | 4,338,950   |       | 131.1      |       |
| Balance,  December 31, 2007             |       | 242,663,164 |       | $          | 3,877.1    |   |

 

----

(1)  Theexercise of trust unit rights is reflected as a reduction of contributedsurplus and an increase to unitholders’ capital.

** **

**Specialvoting units**

 

No Special VotingUnits were issued. 

 

**c) Contributed surplus**

 
| ** **                       |       | **2007** |     | **2006** |   |
|----------------------------------|------------|----------|----------|----------|--------|
| Balance,  beginning of year      | ** ** | **$**    | **16.4** |     | $      | 5.5 |   |
| Unit-based  compensation expense | ** ** | **20.5** |     | 11.3     |   |
| Benefit on  rights exercised (1) | ** ** | **(1.6** | **)**    | (0.4     | )      |
| Balance, end of  year            | ** ** | **$**    | **35.3** |     | $      | 16.4 |   |

 

----

(1)  The exercise of trust unit rights isreflected as a reduction of contributed surplus and an increase to unitholders’capital.

 

**9.     Unit-basedcompensation**

 

**Trust unit rights incentive plan**

 

Penn West has a unit rights incentive plan thatallows Penn West to issue rights to acquire trust units to directors, officers,employees and other service providers. Under the terms of the plan, the numberof trust units reserved for issuance shall not exceed 10 percent of theaggregate number of issued and outstanding trust units of Penn West. Unitrights are granted at prices administered to be equal to the volume-weightedaverage trading price of the trust units on the Toronto Stock Exchange for thefive trading days immediately prior to the date of grant. If certain conditionsare met, the exercise price per unit may be reduced by deducting from the grantprice the aggregate of all distributions, on a per unit basis, paid by PennWest after the grant date. Rights granted under the plan prior to November 13,2006 vest over a five-year period and expire six years after the date of thegrant. Rights granted subsequent to this date generally vest over a three-yearperiod and expire four years after the date of the grant.

 

15

----

 
| **Trust Unit Rights**                     | ** ** | **Number   Outstanding** | ** ** | **Weighted   Average   Exercise Price** | ** ** | **Weighted   Average   Grant Date   Fair Value** | ** ** |
|-----------------------------------------------------|------------|-------------------------------|------------|--------------------------------------------------------|------------|---------------------------------------------------------------------------|------------|
| Outstanding,  December 31, 2005                |       | 9,447,625                     |       | $                                                      | 28.45      |                                                                      | $          | 2.92 |   |
| Granted                                             |       | 3,257,622                     |       | 39.77                                                  |       | 8.10                                                                      |       |
| Exercised                                           |       | (407,750                      | )          | 24.65                                                  |       | 2.15                                                                      |       |
| Forfeited                                           |       | (1,012,625                    | )          | 33.38                                                  |       | 5.58                                                                      |       |
| Balance before  reduction of exercise price         |       | 11,284,872                    |       | 30.89                                                  |       | 4.21                                                                      |       |
| Reduction of  exercise price for distributions paid |       | —                        |       | (3.13                                                  | )          | —                                                                    |       |
| Outstanding, December 31,  2006                | ** ** | **11,284,872**                | ** ** | **$**                                                  | **27.76**  | ** **                                                                | **$**      | **4.21** | ** ** |
| Granted                                             | ** ** | **5,189,346**                 | ** ** | **33.24**                                              | ** ** | **6.38**                                                                  | ** ** |
| Exercised                                           | ** ** | **(665,155**                  | **)**      | **21.91**                                              | ** ** | **2.69**                                                                  | ** ** |
| Forfeited                                           | ** ** | **(1,322,979**                | **)**      | **29.88**                                              | ** ** | **5.73**                                                                  | ** ** |
| Balance before  reduction of exercise price         | ** ** | **14,486,084**                | ** ** | **29.80**                                              | ** ** | **4.91**                                                                  | ** ** |
| Reduction of  exercise price for distributions paid | ** ** | **—**                    | ** ** | **(4.11**                                              | **)**      | **—**                                                                | ** ** |
| Outstanding,  December 31, 2007                | ** ** | **14,486,084**                | ** ** | **$**                                                  | **25.69**  | ** **                                                                | **$**      | **4.91** | ** ** |

 

At December 31, 2007, exercisable trust unitstotaled 2,742,359 (2006 – 1,125,300) for a weighted average exercise price of$22.53 (2006 – $23.16) and a weighted average grant date fair value of $3.75(2006 – $2.37).

 
| ** **                               | ** **          | **Unit  Rights Outstanding**  | ** ** | **Unit  Rights Exercisable**                                        | ** ** |
|------------------------------------------|---------------------|-------------------------------|------------|---------------------------------------------------------------------|------------|
| **Range of Grant Prices** | ** **          | **Number   Outstanding** | ** ** | **Weighted   Average   Exercise Price**** (1)** | ** ** | **Weighted   Remaining   Contractual   Life (years) ****(2)** | ** ** | **Number   Exercisable** | ** ** | **Weighted   Average   Exercise Price ****(1)** | ** ** |
| $                                        | 26.00 – $30.99 |                          | 6,061,745  |                                                                | $          | 19.65 |   | 3.6 |   | 1,765,576 |   | $ | 18.59 |   |
| $                                        | 31.00 – $35.99 |                          | 6,401,700  |                                                                | 28.55      |   | 3.6 |   | 565,633 |   | 26.04 |   |
| $                                        | 36.00 – $40.99 |                          | 1,461,989  |                                                                | 33.80      |   | 3.8 |   | 292,300 |   | 33.60 |   |
| $                                        | 41.00 – $45.99 |                          | 560,650    |                                                                | 37.13      |   | 4.7 |   | 118,850 |   | 37.16 |   |
| ** **                               | ** **          | **14,486,084**                | ** ** | **$**                                                               | **25.69**  | ** ** | **3.7** | ** ** | **2,742,359** | ** ** | **$** | **22.53** | ** ** |

 

----

(1)   Exerciseprices are adjusted for distributions if certain conditions are met.

 

(2)   Rightsgranted under the plan prior to November 13, 2006 expire after 6 years,rights granted after this date expire after 4 years.

 

Penn West recorded unit-based compensation expense of$20.5 million for the year ended December 31, 2007, of which $5.5 millionwas charged to operating expense and $15.0 million was charged to general andadministrative expense (2006 – $11.3 million, $2.8 million and $8.5 millionrespectively). Unit-based compensation expense is based on the fair value ofrights issued and is amortized over the remaining vesting periods on a straight-linebasis.

 

16

----

 

The Binomial Lattice option-pricing model was used todetermine the fair value of trust unit rights granted with the followingweighted average assumptions:

 
| ** **                                                  | ** ** | **Year ended December 31** | ** ** |
|-------------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                  | ** ** | **2007**                                  | ** ** | **2006**** (2)** | ** ** |
| Average fair  value of trust unit rights granted (per unit) | ** ** | **$**                                     | **6.38**   |   | $ | 8.10 |   |
| Expected life of  trust unit rights (years)                 | ** ** | **3.0**                                   | ** ** | 4.5 |   |
| Expected  volatility (average)                              | ** ** | **24.9**                                  | **%**      | 23.8 | % |
| Risk-free rate  of return (average)                         | ** ** | **4.2**                                   | **%**      | 4.1 | % |
| Distribution  yield (1)                                     | ** ** | **13.1**                                  | **%**      | 9.9 | % |
|                                                             |            |                                           |            |  |  |  |  |

 

----

(1)   Representsdistributions declared as a percentage of the market price of trust units anddoes not account for any portion of distributions that represent a return ofcapital.

 

(2)   Rightsgranted prior to November 13, 2006 vest over a five-year period. Rightsgranted subsequent to November 13, 2006 vest over a three-year period.

 

The expected volatility of the trust unit rights wasbased on the historical unit price volatility of the Trust and the volatilityof certain competitors. The expected life of the trust unit rights was based onexpected exercise patterns and the forfeiture rate was based on historicalemployee forfeiture patterns.

 

**Trust unit savings plan**

 

Penn West has an employee trust unit savings plan forthe benefit of all employees. Under the savings plan, employees may elect tocontribute up to 10 percent of their salary and Penn West matches thesecontributions at a rate of $1.50 for each $1.00. Both the employee’s and PennWest’s contribution are used to acquire Penn West trust units. These trustunits may be issued from treasury at the five-day volume weighted average month-endtrading price on the Toronto Stock Exchange or purchased in the open market atprevailing market prices. During 2007, 532,840 treasury units (2006 – 295,449)were contributed to the plan at an average of $32.86 per unit (2006 – $41.71)and a total cost of $17.5 million (2006 – $12.3 million). No trust units havebeen purchased in the open market since the trust conversion.

 

**10.  Distributionspayable to unitholders**

 

Under the terms of its trust indenture, Penn West isrequired to make distributions to unitholders in amounts at least equal to itstaxable income consisting of interest on notes, the NPIs, and any inter-corporatedistributions and dividends received, less certain expenses. Distributions maybe monthly or special and in cash or in trust units at the discretion of theBoard of Directors. Distributions payable to unitholders is the amount declaredand payable by the Trust.

 
| **Accumulated Cash Distributions**                | ** ** | **2007**  | ** **  | **2006** | ** ** |
|-------------------------------------------------------------|------------|-----------|-------------|----------|------------|
| Balance,  beginning of year                                 | ** ** | **$**     | **1,133.3** |     | $          | 321.5 |   |
| Distributions  declared                                     | ** ** | **977.9** |        | 811.8    |       |
| Balance, end of  year                                       | ** ** | **$**     | **2,111.2** |     | $          | 1,133.3 |   |
| Distributions  per unit (1)                                 | ** ** | **$**     | **4.08**    |     | $          | 4.05 |   |
| Accumulated cash  distributions per unit, beginning of year | ** ** | **6.02**  |        | 1.97     |       |
| Accumulated cash  distributions per unit, end of year       | ** ** | **$**     | **10.10**   |     | $          | 6.02 |   |

 

----

(1)  Distributions per unit are the sum of the perunit amounts declared monthly to unitholders.

 

17

----

 

**11. Risk management**

 

Financial instruments included in the balance sheetsconsist of accounts receivable, fair values of derivative financialinstruments, current liabilities and long-term debt. The fair values of thesefinancial instruments approximate their carrying amounts, except for the U.S.Senior notes described in Note 5, due to the short-term maturity of theinstruments, the mark to market values recorded for the financial instrumentsand the market rate of interest applied to the long-term debt.

 

Nearly all of the accounts receivable are withcustomers in the oil and natural gas industry and are subject to normalindustry credit risk. Penn West, from time to time, uses various types offinancial instruments to reduce its exposure to fluctuating oil and natural gasprices, electricity costs, exchange rates and interest rates. The use of theseinstruments exposes Penn West to credit risks associated with the possible non-performanceof counterparties to derivative instruments. Penn West limits this risk bytransacting only with financial institutions with high credit ratings and byobtaining security in certain circumstances.

 

Penn West’s revenue from the sale of crude oil,natural gas liquids and natural gas is directly impacted by changes to theunderlying commodity prices. To ensure that funds flows are sufficient to fundplanned capital programs and distributions, collars or other financialinstruments may be utilized. Collars ensure that commodity prices realized willfall into a contracted range for a contracted sales volume. Forward powercontracts fix a portion of future electricity costs at levels determined to beeconomic by management.

 

Variations in interest rates directly impact interestcosts. From time to time, Penn West may increase the certainty of futureinterest rates using financial instruments to swap floating interest rates forfixed rates or by transactions in fixed rate instruments.

 

Crude oil sales are referenced to or denominated inU.S. dollars. Crude oil prices realized in Canadian dollars are accordinglyimpacted directly by Canadian to U.S. exchange rates. Penn West currently has aportion of long-term debt held in U.S. dollars which is also affected byforeign exchange fluctuations. From time to time, Penn West may use financialinstruments to fix future exchange rates.

 

Changes in the fair value of all outstandingfinancial commodity, power, interest rate and foreign exchange contracts arereflected on the balance sheet with a corresponding unrealized gain or loss inincome.

 

The following table reconciles the changes in thefair value of financial instruments outstanding on December 31, 2007:

 
| **Risk Management**                          | ** ** | **2007**   | ** ** | 2006       | ** ** |
|---------------------------------------------------|------------|------------|------------|------------|------------|
| Balance,  beginning of year                       | ** ** | **$**      | **54.0**   | ** ** | $          | 8.5 |   |
| Unrealized gain  (loss) on financial instruments: |       |       | ** ** |       |       |
| Commodity  collars                                | ** ** | **(182.0** | **)**      | 51.3       |       |
| Electricity  swaps                                | ** ** | **(18.3**  | **)**      | (5.6       | )          |
| Interest rate  swaps                              | ** ** | **0.5**    | ** ** | (0.2       | )          |
| Foreign exchange  forwards                        | ** ** | **(1.8**   | **)**      | —     |       |
| Fair value, end  of year                          | ** ** | **$**      | **(147.6** | **)**      | $          | 54.0 |   |

 

18

----

 

Penn West had the following financial instrumentsoutstanding as at December 31, 2007:

 
| ** **                     | ** **    | **Notional Volume** | ** **           | **Remaining Term** | ** **                  | **Pricing** | ** ** | **Market Value** | ** ** |
|--------------------------------|---------------|--------------------------|----------------------|-------------------------|-----------------------------|-------------|------------|-----------------------|------------|
| **Crude  oil collars**         | ** **    |                     |                 |                    |                        |        |       |                  |
| WTI Collars                    | 10,000 bbls/d |                     | Jan/08 – Jun/08 |                    | US$ 60.00 to 94.55/bbl |        | $          | (9.2                  | )          |
| WTI Collars                    | 20,000 bbls/d |                     | Jan/08 – Dec/08 |                    | US$ 67.50 to 79.18/bbl |        | (109.8     | )                     |
| WTI Collars                    | 10,000 bbls/d |                     | Jul/08 – Dec/08 |                    | US$ 67.00 to 79.23/bbl |        | (24.9      | )                     |
| **Natural  gas collars**       | ** **    |                     |                 |                    |                        |        |       |                  |
| AECO Collars                   | 9,200 mcf/d   |                     | Jan/08 – Mar/08 |                    | $8.18 to $12.15/mcf         |        | 1.1        |                  |
| AECO Collars                   | 46,000 mcf/d  |                     | Jan/08 – Oct/08 |                    | $6.64 to $7.79/mcf          |        | (0.7       | )                     |
| AECO Collars                   | 46,000 mcf/d  |                     | Apr/08 – Oct/08 |                    | $6.60 to $7.19/mcf          |        | (2.0       | )                     |
| **Electricity  swaps**         | ** **    |                     |                 |                    |                        |        |       |                  |
| Alberta Power  Pool Swaps      | 32 MW         |                     | 2008                 |                    | $75.02/MWh                  |        | —     |                  |
| Alberta Power  Pool Swaps      | 30 MW         |                     | 2009                 |                    | $76.23/MWh                  |        | 0.1        |                  |
| Alberta Power  Pool Swaps      | 30 MW         |                     | 2010                 |                    | $76.23/MWh                  |        | (0.7       | )                     |
| **Interest  rate swaps**       | ** **    |                     |                 |                    |                        |        |       |                  |
| ** **                     | $100.0        |                     | Jan/08 – Mar/08 |                    | 4.356                       | %           | 0.3        |                  |
|                           | $100.0        |                     | Jan/08 – Nov/10 |                    | 4.264                       | %           | —     |                  |
| **Foreign  exchange forwards** | ** **    |                     |                 |                    |                        |        |       |                  |
| 8-year term                    | US$80.0       |                     | 2015                 |                    | 1.00934 CAD/USD             |        | (0.6       | )                     |
| 10-year term                   | US$80.0       |                     | 2017                 |                    | 1.00165 CAD/USD             |        | (0.6       | )                     |
| 12-year term                   | US$70.0       |                     | 2019                 |                    | 0.99125 CAD/USD             |        | (0.2       | )                     |
| 15-year term                   | US$20.0       |                     | 2022                 |                    | 0.98740 CAD/USD             |        | (0.4       | )                     |
| Total                          |          |                     |                 |                    |                        |        | $          | (147.6                | )          |

 

A realized gain of $11.0 million (2006 – $17.3million) on the electricity contracts has been included in operating costs.

 

Realized gains and losses on the interest rate swapsare charged to interest expense. During the year, the fixed rate and thefloating rate were approximately equal, resulting in no reportable gain or lossbeing charged to interest rate expense in relation to the interest rate swaps.

 

**12.  Perunit amounts**

 

The number of incremental units included in dilutedearnings per unit is computed using the average volume-weighted market price oftrust units for each interim period. In addition, contracts that could besettled in cash or trust units are assumed settled in trust units if unitsettlement is more dilutive.

 

The weighted average number of trust units used tocalculate per unit amounts was:

 
| ** **     | ** ** | **Year ended December 31** | ** ** |
|----------------|------------|-------------------------------------------|------------|
| ** **     |       | **2007**                                  | ** ** | **2006** |   |
| Basic          | ** ** | **239,374,970**                           |       | 200,758,870 |   |
| Diluted impact | ** ** | **2,134,221**                             |       | 2,750,624 |   |
| Diluted        | ** ** | **241,509,191**                           |       | 203,509,494 |   |

** **

For the year ended December 31, 2007, 7.0million trust unit rights (2006 – 1.7 million) were excluded in calculating theweighted average number of diluted trust units outstanding, as they wereconsidered anti-dilutive.

 

19

----

 

**13.****      ****Contractual obligations andcommitments**

** **

Thefollowing is a summary of the contractual obligations due in the next fiveyears and thereafter:

 
| ** **                | ** ** | **2008** | ** ** | **2009** | ** ** | **2010** | ** ** | **2011** | ** ** | **2012** | ** ** | **Thereafter** | ** ** |
|---------------------------|------------|----------|------------|----------|------------|----------|------------|----------|------------|----------|------------|----------------|------------|
| Long-term debt            |       | $        | —     |     | $          | —   |       | $        | 1,485.4    |     | $          | —         |       | $ | — |   | $ | 457.8 |   |
| Transportation            |       | 13.9     |       | 5.8      |       | 2.2      |       | 0.1      |       | —   |       | —         |       |
| Transportation  ($US)     |       | 2.3      |       | 2.3      |       | 2.3      |       | 2.3      |       | 2.3      |       | 6.4            |       |
| Power  infrastructure     |       | 6.2      |       | 4.2      |       | 4.2      |       | 4.2      |       | 4.2      |       | 7.6            |       |
| Drilling rigs             |       | 7.7      |       | 2.4      |       | 1.2      |       | —   |       | —   |       | —         |       |
| Purchase  obligations (1) |       | 13.3     |       | 13.3     |       | 13.3     |       | 13.3     |       | 13.2     |       | 41.1           |       |
| Office lease              |       | $        | 19.4       |     | $          | 19.6     |       | $        | 17.3       |     | $          | 16.5           |       | $ | 16.2 |   | $ | 104.3 |   |

 

----

(1)  These amountsrepresent estimated commitments of $84.4 million for CO2 purchases and $23.1 million for processing fees related to interests inthe Weyburn Unit.

 

The $4.0 billion syndicated credit facility expireson January 11, 2011. If we were not successful in renewing or replacingthe facility, we could be required to repay all amounts then outstanding on thefacility or enter term bank loans. We believe the facility will be renewedprior to that time.

 

**14.**** ****Changes in non-cash working capital**

** **
| ** **                                | ** ** | **Year ended December 31** | ** ** |
|-------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                | ** ** | **2007**                                  | ** ** | **2006** | ** ** |
| Accounts  receivable                      | ** ** | **$**                                     | **(8.8**   | **)** | $ | (54.3 | ) |
| Other current  assets                     | ** ** | **10.3**                                  | ** ** | (27.0 | ) |
| Accounts payable  and accrued liabilities | ** ** | **(24.8**                                 | **)**      | 68.2 |   |
| Petrofund  acquisition                    | ** ** | **—**                                | ** ** | (18.8 | ) |
| ** **                                |       | **(23.3**                                 | **)**      | (31.9 | ) |
|                                      | ** ** | ** **                                | ** ** |   |   |
| Operating  activities                     | ** ** | **(38.2**                                 | **)**      | (43.6 | ) |
| Investing  activities                     | ** ** | **14.9**                                  | ** ** | 11.7 |   |
| Financing  activities                     | ** ** | **—**                                | ** ** | — |   |
| ** **                                |       | **$**                                     | **(23.3**  | **)** | $ | (31.9 | ) |

 

20

----

 

**15.  Working capital components**

 
| ** **                                              | ** ** | **2007**  | ** ** | **2006**   | ** ** |
|---------------------------------------------------------|------------|-----------|------------|------------|------------|
| Components of  accounts receivable                      |       |      | ** ** |       |       |
| Trade                                                   | ** ** | **$**     | **54.2**   | ** ** | $          | 31.0 |   |
| Accruals                                                | ** ** | **221.6** | ** ** | 234.9      |       |
| Other                                                   | ** ** | **1.7**   | ** ** | 2.8        |       |
| ** **                                              |       | **$**     | **277.5**  | ** ** | $          | 268.7 |   |
| Components of  other assets                             |       |      | ** ** |       |       |
| Prepaid expenses                                        | ** ** | **$**     | **23.4**   | ** ** | $          | 23.4 |   |
| Inventory                                               | ** ** | **22.3**  | ** ** | 32.6       |       |
| ** **                                              |       | **$**     | **45.7**   | ** ** | $          | 56.0 |   |
| Components of  accounts payable and accrued liabilities |       |      | ** ** |       |       |
| Accounts payable                                        | ** ** | **$**     | **98.7**   | ** ** | $          | 89.4 |   |
| Royalty payable                                         | ** ** | **68.1**  | ** ** | 71.4       |       |
| Capital accrual                                         | ** ** | **113.4** | ** ** | 115.0      |       |
| Operating  accrual                                      | ** ** | **52.8**  | ** ** | 92.0       |       |
| Other                                                   | ** ** | **26.3**  | ** ** | 16.3       |       |
| ** **                                              |       | **$**     | **359.3**  | ** ** | $          | 384.1 |   |

 

**16.****      ****Related-party transactions**

 

During 2007, Penn West paid $1.3 million (2006 – $4.1million) of legal fees in the normal course of business to a law firm of whicha partner is also a director of Penn West.

 

**17.****      ****Petrofund acquisition**

 

Penn West purchased Petrofund effective June 30,2006. Penn West accounted for the acquisition of Petrofund using the purchasemethod of accounting. The consolidated financial statements of Penn Westinclude the results of operations and cash flows of Petrofund from July 1,2006 forward. The allocation of the consideration paid to the fair value of theidentifiable assets and liabilities was as follows:

 
| **Purchase Price**                        | ** ** | ** ** | ** ** |
|------------------------------------------------|------------|------------|------------|
| 70.7 million  Penn West trust units issued (1) |       | $          | 3,032.4    |   |
| Transaction costs                              |       | 25.0       |       |
|                                           |       | $          | 3,057.4    |   |

 
| **Allocation  of the Purchase Price** | ** ** | ** ** | ** ** |
|---------------------------------------|------------|------------|------------|
| Property, plant  and equipment        |       | $          | 3,323.3    |   |
| Working capital  (deficiency)         |       | (10.0      | )          |
| Bank loan                             |       | (610.4     | )          |
| Future income  taxes                  |       | (199.5     | )          |
| Asset retirement  obligations         |       | (98.0      | )          |
| Goodwill                              |       | 652.0      |       |
|                                  |       | $          | 3,057.4    |   |

** **

----

(1) Units issued at $42.91 per unit based onvolume-weighted average for the five-day period, Including two days before andtwo days after the announcement of the transaction.

 

21

----

 

**18.****      ****Subsequent events**

 

**Canetic acquisition**

 

On January 11, 2008, Penn West closed itsacquisition of Canetic for a total acquisition cost of approximately $3.6billion, funded through the issuance of 124.3 million trust units, calculatedbased on the volume weighted average trading price of the units around the dateof the announcement, discounted by five percent. Bank debt and estimatedworking capital deficiency of $1.6 billion, including transaction costs, andconvertible debentures with a fair value of $260.0 million was also assumed.

 

**Vault acquisition**

 

On January 10, 2008, Penn West closed itsacquisition of Vault for a total acquisition cost of approximately $158.7million funded through the issuance of 5.6 million trust units and cash paidfor the warrants. The trust unit value was calculated based on the volumeweighted average trading price of the units around the date of theannouncement, discounted by five percent. Also assumed was bank debt plusestimated working capital deficiency of $126.4 million, including transactioncosts, and convertible debentures with a fair value of $100.9 million.Subsequent to the close of the Vault acquisition, Penn West made its compulsoryoffer to redeem the Vault convertible debentures for cash at 101 percent of theprinciple amounts. On March 5, 2008, Penn West retired $23.8 million ofthe principle amount of the debentures for $24.5 million including the premiumand accrued interest.

 

22

----