##### 



AUDITORS REPORT To the Trustee of Paramount Energy Trust We have audited the consolidated balance sheets of Paramount Energy Trust
(PET) as at December 31, 2003 and 2002, the consolidated statements of
earnings and accumulated earnings and cash flows for the years then ended.
These financial statements are the responsibility of PETs Management. Our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits in accordance with Canadian generally accepted auditing
standards. Those standards require that we plan and perform an audit to obtain
reasonable assurance whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
Management, as well as evaluating the overall financial statement presentation.

In our opinion, these consolidated financial statements present fairly, in all
material respects, the financial position of PET as at December 31, 2003 and
2002 and the results of its operations and its cash flows for the years then
ended in accordance with Canadian generally accepted accounting principles. (KPMG LLP) Chartered Accountants Calgary, Canada February 26, 2004 MANAGEMENTS REPORT The accompanying consolidated financial statements of Paramount Energy Trust
and all the information in this Annual Report are the responsibility
of Management and have been approved by the Board of Directors of the
Administrator of the Trust. The consolidated financial statements have been prepared by Management in
accordance with Canadian generally accepted accounting principles. When
alternative accounting methods exist, Management has chosen those it deems most
appropriate in the circumstances. Financial statements are not precise since
they include certain amounts based on estimates and judgements. Management has
determined such amounts on a reasonable basis in order to ensure that the
consolidated financial statements are presented fairly, in all material
respects. The financial information contained elsewhere in this report has been
reviewed to ensure consistency with the consolidated financial statements. Management maintains systems of internal accounting and administrative controls
of high quality, consistent with reasonable cost, Such systems are designed to
provide reasonable assurance that the financial information is relevant,
reliable and accurate and that the Trusts assets are appropriately accounted
for and adequately safeguarded. The Audit and Reserves Committee of the Board of Directors of the Administrator
of the Trust consists of non-management directors. The Committee meets
quarterly with management as well as with the external auditors to discuss
internal controls over the financial reporting process, auditing matters and
financial reporting issues to satisfy itself that each party is properly
discharging its responsibility, and to review the Annual Report. The Committee
reports its findings to the Board for consideration when approving the
consolidated financial statements for issuance to the Unitholders. The
Committee also considers, for review by the Board and approval by the
Unitholders, the engagement or re-appointment of external auditors.
The consolidated financial statements have been audited by KPMG LLP, the
external auditor, in accordance with auditing standards generally
accepted in Canada on behalf of the Unitholders. KPMG LLP has full and free
access to the Audit and Reserves Committee and Management. -s- Susan L. Riddell Rose
    
    -s- Cameron R. SebastianSusan L. Riddell Rose
    
    Cameron R. SebastianPresident and Chief Operating Officer
    
    Vice President, Finance and Chief Financial Officer
 28




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##### 



CONSOLIDATED FINANCIAL STATEMENTS Consolidated Balance Sheets As at
    
    December 31, 2003
    
    December 31, 2002($ thousands)AssetsCurrent AssetsAccounts Receivable
    
    $
    19,029
    
    
    $
    16,012Property, Plant and Equipment (Notes 4 and 5)
    
    
    241,955
    
    
    
    261,336$
    260,984
    
    
    $
    277,348LiabilitiesCurrent LiabilitiesAccounts Payable and Accrued Liabilities
    
    $
    8,726
    
    
    $
    19,306Distributions Payable
    
    
    8,928
    
    
    
    Bank and Other Debt (Note 6)
    
    
    55,564
    
    
    
    2,12373,218
    
    
    
    21,429Asset Retirement Obligations (Notes 3, 5 and 9)
    
    
    21,701
    
    
    
    20,039Unitholders EquityUnitholders Capital (Note 7)
    
    
    260,018
    
    
    
    Equity Adjustments (Notes 1 and 5)
    
    
    (16,172
    )
    
    
    1,317Net Investment of Paramount Resources Ltd.
    
    
    
    
    
    
    234,563Accumulated Earnings Net of Distributions
    
    
    (77,781
    )
    
    
    166,065
    
    
    
    235,880$
    260,984
    
    
    $
    277,348
 See Accompanying Notes
Basis of Presentation: Notes 1 and 2
Gas over Bitumen Issue: Note 11
Subsequent Event: Note 5 Approved by the Board of Directors of Paramount Energy Operating Corp., as
Administrator of Paramount Energy Trust: -s- John W. Peltier
    
    -s- Donald J. NelsonJohn W. Peltier
    
    Donald J. NelsonDirector
    
    Director
 29




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##### 



Paramount Energy Trust Consolidated Statements of Earnings and Accumulated Earnings Year Ended December 31
    
    2003
    
    2002($ thousands except per Unit amounts)RevenueNatural Gas
    
    $
    201,239
    
    
    $
    123,739Royalties
    
    
    (38,209
    )
    
    
    (21,886
    )163,030
    
    
    
    101,853ExpensesOperating
    
    
    27,727
    
    
    
    30,265Dry Hole
    
    
    1,323
    
    
    
    246Geological and Geophysical
    
    
    128
    
    
    
    367Lease Rentals
    
    
    1,827
    
    
    
    1,825General and Administrative
    
    
    3,980
    
    
    
    3,987Gas over Bitumen Costs (Note 11)
    
    
    696
    
    
    
    Interest
    
    
    2,440
    
    
    
    50Income Taxes (Note 2[g])
    
    
    
    
    
    
    6,027Loss on Sale of Equipment
    
    
    
    
    
    
    134Writedown of Property, Plant and Equipment (Note 5)
    
    
    9,800
    
    
    
    Depletion, Depreciation and Accretion
    
    
    62,675
    
    
    
    51,546110,596
    
    
    
    94,447Net Earnings
    
    
    52,434
    
    
    
    7,406Accumulated Earnings Net of Distributions at Beginning of Year, as
Previously Reported
    
    
    238,203
    
    
    
    282,815Retroactive Effect of Change in Accounting Policy (Note 3)
    
    
    (3,640
    )
    
    
    (2,005
    )Accumulated Earnings Net of Distributions at Beginning of Year, as Restated
    
    
    234,563
    
    
    
    280,810Reduction in Net Investment on Restructuring (Notes 1 and 2)
    
    
    (241,576
    )
    
    
    Distributions Paid or Payable
    
    
    (123,202
    )
    
    
    (53,653
    )Accumulated Earnings Net of Distributions at End of Year
    
    $
    (77,781
    )
    
    $
    234,563Earnings
Per Trust Unit (Note 2[d])Basic
    
    $
    1.23
    
    
    $
    0.19Diluted
    
    $
    1.21
    
    
    $
    0.19Distributions Per Trust Unit
    
    $
    2.884
    
    
    $
    
 See Accompanying Notes 30




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##### 



CONSOLIDATED FINANCIAL STATEMENTS Consolidated Statements of Cash Flows Year Ended December 31
    
    2003
    
    2002($ thousands)Cash Provided By (Used For)Operating ActivitiesNet Earnings
    
    $
    52,434
    
    
    $
    7,406Items not Involving CashDepletion, Depreciation and Accretion
    
    
    62,675
    
    
    
    51,546Loss on Sale of Equipment
    
    
    
    
    
    
    134Writedown of Property, Plant and Equipment
    
    
    9,800
    
    
    
    Items not Associated with OperationsDry Hole
    
    
    1,323
    
    
    
    246Geological and Geophysical
    
    
    128
    
    
    
    367Funds Flow from Operations
    
    
    126,360
    
    
    
    59,699Change in Non-Cash Working Capital
    
    
    (13,941
    )
    
    
    5,860112,419
    
    
    
    65,559Financing ActivitiesIssue of Trust Units
    
    
    260,018
    
    
    
    Distributions to Unitholders
    
    
    (123,202
    )
    
    
    (53,653
    )Change in Bank and Other Debt
    
    
    53,441
    
    
    
    2,123Change in Non-Cash Working Capital
    
    
    8,928
    
    
    
    199,185
    
    
    
    (51,530
    )Funds Available for Investment
    
    
    311,604
    
    
    
    14,029Investing ActivitiesDry Hole
    
    
    (1,323
    )
    
    
    (246
    )Geological and Geophysical
    
    
    (128
    )
    
    
    (367
    )Acquisition of Properties, net
    
    
    (301,414
    )
    
    
    Corporate Assets
    
    
    (757
    )
    
    
    (2,828
    )Change in Non-Cash Working Capital
    
    
    345
    
    
    
    880Exploration and Development Expenditures
    
    
    (8,327
    )
    
    
    (11,468
    )Funds Invested
    
    $
    (311,604
    )
    
    $
    (14,029
    )
 See Accompanying Notes 31




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##### 



Paramount Energy Trust Paramount Energy Trust Notes to Consolidated Financial Statements (dollar amounts in $Cdn except as noted) 1. Paramount Energy Trust Paramount Energy Trust (PET or the Trust) is
an unincorporated Trust formed under the laws of
the Province of Alberta pursuant to a Trust
indenture dated June 28, 2002, as amended, and
whose Trustee is Computershare Trust Company of
Canada. The beneficiaries of PET are the holders
of the Trust Units of PET (the Unitholders). PET
was established for the purposes of issuing Trust
Units and acquiring and holding royalties and
other investments. The consolidated financial
statements of PET consist of 100 percent ownership
of Paramount Energy Operating Corp. (the
Administrator) and the 100 percent ownership of
the beneficial interests of Paramount Operating
Trust (POT). PET utilizes a calendar fiscal year
for financial reporting purposes. The Administrator was incorporated primarily to
act as Trustee of POT. As Trustee of POT, the
Administrator will hold legal title to the
properties and assets of POT on behalf of and for
the benefit of POT and will administer, manage and
operate the oil and gas business of POT. In
addition, the Administrator will provide certain
management and administrative services for PET and
its Trustee pursuant to a delegation of power and
authority to it under the PET Indenture. On July 1, 2002, PET entered into an agreement
with a subsidiary of PETs then-parent Paramount
Resources Ltd. (PRL) to acquire corporate
assets. As the transaction was between related
parties, the assets acquired were recognized at a
value equal to their net book value in the books
of the vendor. This resulted in an increase in
the carrying value of the assets of $1.3 million
and an equivalent increase in Unitholders Equity
(Note 5). The issuance of a receipt for a prospectus was
made by Canadian regulatory authorities on January
29, 2003 and by regulators in the United States on
February 3, 2003. Subsequent to the issuance of
these receipts, PET, POT, the Administrator and
PRL completed a series of transactions pursuant to
which PET, on a consolidated basis, acquired oil
and gas properties and related assets with an
estimated value of $301,000,000 from PRL. PET
raised equity of approximately $150,000,000 from
the exercise of Rights and obtained bank financing
of approximately $100,000,000, as follows: On February 3, 2003, PRL, effective July 1, 2002,
sold its interest in certain assets (the Initial
Assets) to POT for consideration consisting of a
promissory note in PRLs favor of $81,000,000.
Interest on the $81,000,000 purchase price
accrued at a rate of 6.5 percent per annum. At that time a secured guarantee was given by
both POT and PET in respect of $20,000,000 of
PRLs indebtedness to PRLs lenders. At the same
time PRL and POT executed the Take-Up Agreement
which required PRL to sell and POT to purchase
100 percent of PRLs interest in certain
additional assets (the Additional Assets). The
purchase price was $220,000,000. As related party
transactions, the purchase price of the acquired
assets was adjusted to reflect the vendors net
book value of the assets. This resulted in a
reduction in the carrying value of petroleum and
natural gas properties of $17.5 million. This
amount was recorded as a reduction in
Unitholders Equity (Note 5);  
    
    POT, effective July 1, 2002, granted to PET a
royalty of 99 percent of the net revenue less
permitted deductions with respect to debt
payments, capital expenditures and certain other
amounts from the Canadian resource properties
comprised in the Initial Assets and all
after-acquired Canadian resource properties of
POT including the Additional Assets described
below (the Royalty) in exchange for
consideration consisting of $64,152,000 to be
paid in accordance with an agreement between POT,
PET and PRL whereby PET issued and delivered to
PRL a first promissory note in the amount of
$30,000,000 and a second promissory note in the
amount of $34,152,000. The first promissory note
carried annual interest equal to the prime rate
of a major Canadian chartered bank from time to
time plus 1.875 percent. This payment reduced the
amount of indebtedness that POT owed to PRL to
approximately $16,848,000 which was represented
by a promissory note that carried annual interest
from the date of issue equal to the prime rate of
a major Canadian chartered bank from time to time
plus 1.875 percent. PET granted a security
interest to PRL in PETs assets as security for
its indebtedness under the first promissory note
and POT granted a guarantee to PRL for such
indebtedness and granted PRL a security interest
over its assets for the guarantee;
    
    PET issued 6,636,045 Trust Units to PRL in full repayment of the
indebtedness under the second promissory note;
    
    PET purchased from PRL the remaining
$16,848,000 indebtedness owed by POT to PRL in
exchange for the issuance and delivery to PRL of
an additional 3,273,721 Trust Units;
    
    PRL did, on February 3, 2003, by way of a
dividend, distribute all of the PET Trust Units
held by PRL, being 9,909,767 Trust Units, to the
holders of PRL common shares;
    
    PET issued to each of the holders of the Trust
Units distributed by PRL, three Rights to
subscribe for additional PET Trust Units. Each
Right entitled the holder to purchase one
additional PET Trust Unit at a subscription
price of $5.05 per Trust Unit. On March 11,
2003, 32




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##### 



CONSOLIDATED FINANCIAL STATEMENTS  PRL did, effective July 1, 2002, sell to POT 100
percent of PRLs interest in the Additional
Assets for an aggregate consideration of
$220,000,000. This was funded by the exercise
and payment of 100 percent of the Rights
granted, resulting in proceeds of $150,129,475
(before issue costs). These funds together with
bank financing of $100,000,000 were also used to
repay the $30,000,000 promissory note to PRL and
to complete the acquisition of the Additional
Assets.
    
    Effective March 19, 2003 POT acquired a 100 percent interest in the
Ells property in Northeast Alberta from PRL for $18.4 million.
    
    On May 30, 2003 PET closed an issue of 5,000,000 Trust Units at
$12.65 per Unit for net proceeds of $60.1 million. 2. Basis of Presentation and Accounting Policies The accompanying financial statements have been
prepared by Management of the Administrator (as
agent for the Trustee of PET) on behalf of PET in
accordance with Canadian generally accepted
accounting principles (Canadian GAAP). Prior to the asset acquisitions on February 3,
2003 and March 11, 2003 described in Note 1, the
consolidated financial statements include the
operations and results of the Northeast Alberta
properties of PRL which were acquired by the Trust
on those dates. The consolidated financial
statements have been prepared on a continuity of
interests basis which recognizes the Trust as the
successor entity to PRLs Northeast Alberta core
area of operations as the Trust acquired
substantially all of PRLs natural gas assets in
that region. Certain of PRLs properties in
Northeast Alberta were not acquired by the Trust
and the results of such properties have been
excluded from these consolidated financial
statements. While the amounts applicable to PRLs
Northeast Alberta properties for certain revenues,
royalties, expenses, assets and liabilities could
be derived directly from the accounting records of
PRL, it was necessary to allocate certain other
items between PRLs core areas. In the opinion of
Management, the consolidated balance sheet and
statements of earnings include all adjustments
necessary for the fair presentation of the
transactions in accordance with Canadian GAAP. a) Principles of ConsolidationThe consolidated financial statements
include the accounts of the Trust and its wholly-owned subsidiaries. b) Petroleum and Natural Gas OperationsPET
follows the successful efforts method of
accounting for petroleum and natural gas
operations. Under this method, PET capitalizes
only those costs that result directly in the
discovery of petroleum and natural gas reserves.
Exploration expenses including geological and
geophysical costs, lease rentals and exploratory
dry hole costs are charged to earnings as
incurred. Leasehold acquisition costs including costs of
drilling and equipping successful wells are
capitalized. The net cost of unproductive wells,
abandoned wells and surrendered leases are
charged to earnings in the year of abandonment or
surrender. Gains or losses are recognized on the
disposition of properties and equipment. Depletion and depreciation of petroleum and
natural gas properties including well development
expenditures, production equipment, gas plants
and gathering systems are provided on the
unit-of-production method based on estimated
proved recoverable reserves of each producing
property or project. Depreciation of other
equipment is provided on a declining balance
method at rates varying from 20 to 30 percent. The net amount at which petroleum and natural gas
costs on a property or project are carried is
subject to a cost recovery test annually or as
economic events dictate. An impairment loss is
recognized when the carrying amount of the asset
is less than the sum of the expected future cash
flows (undiscounted and without interest charges).
The amount of the impairment loss is calculated as
the difference between the carrying amount and the
fair value of the asset where fair value is
calculated as the present value of estimated
future cash flows. The carrying values of capital
assets, including the costs of acquiring proved
and probable reserves, are subject to uncertainty
associated with the quantity of oil and gas
reserves, future production rates, commodity
prices and other factors. Prior to January 1, 2003, the net amount at which
petroleum and natural gas costs on a property or
project were carried was subject to a different
cost recovery test. Any impairment loss was the
difference between the carrying value of the
asset and its recoverable amount (undiscounted).
This change has been adopted retroactively but
had no effect on these consolidated financial
statements. Many of the exploration, development and
production activities of the Trust are conducted
jointly with others. These financial statements
reflect only the Trusts proportionate interest
in such activities. The Trusts corporate assets are recorded at cost and are depreciated on
a straight line basis at rates ranging from 2.5 percent to 20 percent. c) Asset Retirement ObligationsThe Trust
recognizes the fair value of an Asset Retirement
Obligation (ARO) in the period in which it is
incurred or when a reasonable estimate of the
fair value can be made. The fair value of the
estimated ARO is recorded as a long-term
liability, with a corresponding increase in the
carrying amount of the property, plant and
equipment. The liability amount is increased each
reporting period due to the passage of time and
the amount of accretion is charged to earnings in
the period. Revisions to the estimated timing of 33




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##### 



Paramount Energy Trust cash flows or to the original estimated
undiscounted cost would also result in an increase
or decrease to the ARO. Actual costs incurred upon
settlement of the ARO are charged against the ARO
to the extent of the liability recorded. Any
difference between the actual costs incurred upon
settlement of the ARO and the recorded liability
is recognized as a gain or loss in the Trusts
earnings in the period in which the settlement
occurs. d) Per Trust Unit InformationPer Trust Unit
amounts for all periods prior to March 31, 2003
have been presented on a pro-forma basis as if the
Trust Units outstanding at March 31, 2003 were all
outstanding for each period shown (see Note 1).
Basic earnings per Unit were calculated using the
weighted average number of Trust Units outstanding
during the year: 2003  42,597,280, (2002 -
39,638,376). The Trust uses the treasury stock
method where only in the money dilutive
instruments impact the diluted calculations. In
computing diluted earnings per Unit 640,751 net
Units were added to the weighted average number of
Trust Units outstanding during the twelve-month
period ended December 31, 2003 (2002  nil net
Units) for the dilutive effect of Incentive
Rights. e) Foreign Currency TranslationMonetary assets
and liabilities denominated in a foreign currency
are translated at the rate of exchange in effect
at year end while non-monetary assets and
liabilities are translated at historical rates of
exchange. Revenues and expenses are translated at
monthly average rates of exchange. Translation
gains and losses are reflected in earnings in they
period in which they arise. f) Financial InstrumentsFinancial instruments are
utilized by PET to manage its exposure to
commodity price fluctuations, foreign currency and
interest rates. PETs policy is not to utilize
financial instruments for trading or speculative
purposes. PET formally documents relationships between
hedging instruments and hedged items, as well as
its risk Management objective and strategy for
undertaking various hedge transactions. This
process includes linking all derivatives to
specific assets and liabilities on the balance
sheet or to specific firm commitments or
forecasted transactions. PET also formally
assesses, both at the hedges inception and on an
ongoing basis, whether the derivatives that are
used in hedging transactions are highly effective
in offsetting changes in fair value or cash flows
of hedged items.
PET uses forward, futures and swap contracts to
manage its exposure to commodity price
fluctuations. The net receipts or payments arising
from these contracts are recognized in earnings as
a component natural gas revenue during the same
period as the corresponding hedged position. g) Income TaxesFor periods prior to 2003, income
tax expense has been recorded using the average
tax rate applicable to PRL. As PRLs Northeast
Alberta assets generated cash flow significantly
in excess of capital investment, there were
assumed to be no tax pools available to defer
these tax obligations. As a result, all taxes are
assumed to be cash tax obligations and to have
been paid during the year on an installment basis. The Trust, and its operating entity POT, are
taxable entities under the Income Tax Act (Canada)
and are taxable only on income that is not
distributed or distributable to the Unitholders.
As the Trust distributes all of its taxable income
to the Unitholders pursuant to its Trust Indenture
and meets the requirements of the Income Tax Act
(Canada) applicable to the Trust, no provision for
income taxes has been made in these consolidated
financial statements. The Administrator has no tax
balances. h) Unit Incentive PlanThe Trust has a Unit
Incentive Plan as described in Note 8. Effective
for fiscal years beginning on or after January 1,
2002, the Trust adopted the recommendations of the
CICA on accounting for stock-based compensation
which apply to new Incentive Rights granted on or
after January 1, 2002. The Trust has elected to
measure compensation cost to employees based on
the settlement method at the date of the grant and
recognize that cost over the vesting period. As
the exercise price of the Incentive Rights granted
approximates the market price of the Trust Units
at the time of the grant date, no compensation
cost has been provided in the statement of
earnings. The exercise price of the Incentive Rights granted
under the Trusts unit incentive plan may be
reduced in future periods in accordance with the
terms of the Unit Incentive Plan. The amount of
the reduction cannot be reasonably estimated as it
is dependent upon a number of factors including,
but not limited to, future prices received on the
sale of oil and natural gas, future production of
oil and natural gas, determination of amounts to
be withheld from future distributions to fund
capital expenditures and the purchase and sale of
property, plant and equipment. Therefore, it is
not possible to determine a fair value for the
Incentive Rights granted under the plan. Compensation costs for pro forma disclosure
purposes have been determined based on the excess
of the Trust Unit price over the exercise price of
the Incentive Rights at the date of the financial
statements. For the year ended December 31, 2003,
net earnings would be reduced by $2.4 million
($0.05 per Trust Unit, basic and diluted) for the
estimated compensation cost associated with the
Incentive Rights granted under the Rights Plan on
or after January 1, 2002. All Incentive Rights
were issued during 2003; as a result, the 2002 net
earnings were not affected by compensation costs. 34




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##### 



CONSOLIDATED FINANCIAL STATEMENTS i) Measurement UncertaintyThe preparation of
financial statements in conformity with Canadian
generally accepted accounting principles requires
Management to make estimates and assumptions that
affect the reported amounts of assets and
liabilities at the date of the financial
statements and the reported amounts of revenues
and expenses during the reporting period. The amounts recorded for depletion, depreciation
and accretion are based on estimates. The cost
recovery test calculation is based on estimates of
reserves, production rates, oil and natural gas
prices, future costs and other relevant
assumptions. By their nature, these estimates are
subject to measurement uncertainty and may impact
the consolidated financial statements of future
periods. 3. Change in Accounting Policy Asset Retirement Obligation In December 2003, the Trust adopted CICA Handbook
Section 3110 Asset Retirement Obligations. This
Change in accounting policy has been applied
retroactively with restatement of prior periods
presented for comparative purposes. Previously, the Trust recognized a provision for
future site reclamation and abandonment costs
calculated on the unit-of-production method over
the life of the natural gas properties based on
the total estimated proved reserves and an
estimated future liability. As a result of this change, net earnings for the
year ended December 31, 2003 decreased by $0.9
million (2002 - $1.6 million). The obligation
increased by $11.9 million (2002 - $12.9 million)
and property, plant and equipment, net of
accumulated depletion increased by $7.4 million
(2002 - $9.3 million). Opening 2003 accumulated
earnings decreased by $3.6 million (2002 - $2.0
million) to reflect the cumulative impact of
depletion expense, net of the cumulative site
restoration provision on the asset retirement
obligation recorded retroactively. 4. Business Combination On November 18, 2003, the Trust and Epact
Exploration Ltd. (Epact) jointly announced that
they had entered into an agreement pursuant to
which the Trust would make an offer to purchase
all of the issued and outstanding common shares
of Epact for cash consideration of $1.57 per
share or approximately $13.2 million, including
acquisition costs. This transaction has been
accounted for using the purchase method as of the
closing date of November 18, 2003. The following table summarizes the value of the assets acquired and
liabilities assumed at the date of acquisition: Working capital deficiency
    
    $
    (4,768
    )Property, plant and equipment
    
    
    18,453Asset retirement obligation
    
    
    (423
    )$
    13,262
 5. Property, Plant and Equipment December 31,
    
    December 31,2003
    
    2002Petroleum and Natural Gas Properties
    
    $
    587,388
    
    
    $
    517,562Corporate Assets
    
    
    3,585
    
    
    
    2,828Adjustment to Net Book Value (Note 1)
    
    
    (16,172
    )
    
    
    1,317574,801
    
    
    
    521,707Accumulated Depletion and Depreciation
    
    
    (332,846
    )
    
    
    (260,371
    )$
    241,955
    
    
    $
    261,336
 Included in the Trusts property, plant and equipment is $7.4 million
($9.3 million in 2002), net of accumulated
depletion relating to the adoption of asset
retirement obligations (Note 3). Property, Plant and equipment costs included $46.8 million (2002 -
$48.5) currently not subject to depletion. At December 31, 2003 the Trust recorded a write down to property,
plant and equipment in the amount of $9.8 million. On January 5, 2004 PET closed the acquisition of
producing natural gas properties in Northeast
Alberta for $30.3 million. This acquisition was
financed from existing credit facilities. 6. Bank and Other Debt PET has a revolving credit facility with a
syndicate of Canadian Chartered Banks. As at the
date of the audit report the revolving credit
facility had a borrowing base of $100 million. The
facility consists of a demand loan of $90 million
and a working capital facility of $10 million. In
addition to amounts outstanding under the
facility, PET has outstanding letters of credit in
the amount of $1.7 million. Collateral for the
credit facility is provided by a floating-charge
debenture covering all existing and after acquired
property of the Trust as well as unconditional
full liability guarantees from all subsidiaries in
respect of amounts borrowed under the facility. Advances under the facility are made in the form
of Bankers Acceptances (BA), prime rate loans or
letters of credit. In the case of BA advances,
interest is a function of the BA rate plus a
stamping fee based on the 35




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Paramount Energy Trust Trusts current ratio of debt to cash flow. In the case of prime rate loans,
interest is charged at the lenders prime rate. On February 4, 2003 PET issued a promissory note
in the amount of $34.2 million to PRL in relation
to the acquisition of certain assets in Northeast
Alberta. Subsequently this promissory note was
extinguished through the issue of Trust Units
(Note 7). On February 3, 2003 PET issued a promissory note
in the amount of $30.0 million to PRL in relation
to the acquisition of certain assets in Northeast
Alberta. Subsequently this promissory note was
extinguished through the utilization of bank
facilities. On July 1, 2002 PET issued a promissory note
pursuant to the acquisition of assets from a
subsidiary of PRL. This promissory note accrued
interest at a rate of prime plus 0.25 percent.
The promissory note was repaid in full on
February 3, 2003. All interest accrued on the
promissory note was paid at the time the
promissory note was extinguished. 7. Unitholders Capital a) Authorized Authorized capital consists of an unlimited
number of Trust Units and an unlimited number of
Special Voting Units. No Special Voting Units
have been issued to date. b) Issued and Outstanding The following is a summary of changes in Unitholders Capital during the
year ended December 31, 2003: Number OfTrust Units
    
    Units
    
    AmountBalance, December 31, 2002
    
    
    1
    
    
    $
    100Units Issued on Settlement of
Promissory Note (Notes 1 & 6)
    
    
    6,636,045
    
    
    
    34,152,000Units Issued on Settlement of
Promissory Note (Note 1)
    
    
    3,273,721
    
    
    
    16,848,000Units Cancelled after Declaration
of Dividend by PRL
    
    
    (173
    )
    
    
    (874
    )Units Issued Pursuant to Rights
Offering (Note 1)
    
    
    29,728,782
    
    
    
    150,130,349Units Issued Pursuant to Unit
Offering (Note 1)
    
    
    5,000,000
    
    
    
    63,250,000Trust Unit Issue Costs
    
    
    
    
    
    
    (4,361,575
    )Balance, December 31, 2003
    
    
    44,638,376
    
    
    $
    260,018,000
 Redemption Right Unitholders may redeem their Trust Units at any
time by delivering their Unit Certificates to the
Trustee, together with a properly completed notice
requesting redemption. The redemption amount per
Trust Unit will be
the lesser of 90 percent of the weighted average
trading price of the Trust Units on the principal
market on which they are traded for the 10 day
period after the Trust Units have been validly
tendered for redemption and the closing market
price of the Trust Units. The redemption amount
will be payable on the last day of the following
calendar month. The closing market price will be
the closing price of the Trust Units on the
principal market on which they are traded on the
date on which they were validly tendered for
redemption, or, if there was no trade of the Trust
Units on that date, the average of the last bid
and ask prices of the Trust Units on that date. 8. Unit Incentive Plan PET has adopted a Unit Incentive Plan which
permits the Administrators Board of Directors to
grant non-transferable rights to purchase Trust
Units (Incentive Rights) to its and affiliated
entities employees, officers, directors and other
service providers. The purpose of the Unit
Incentive Plan is to provide an effective
long-term incentive to eligible participants and
to reward them on the basis of PETs long-term
performance and distributions. The Administrators
Board of Directors will administer the Unit
Incentive Plan and determine participants, numbers
of Incentive Rights and terms of vesting. The
grant price of the Incentive Rights (the Grant
Price) shall equal the per Trust Unit closing
price on the trading date immediately preceding
the date of the grant, unless otherwise permitted.
The holder of the Incentive Rights may elect to
reduce the strike price of the Incentive Rights
(the Strike Price), such reduction determined by
deducting from the Grant Price the aggregate
amounts of all distributions on a per Trust Unit
basis that PET pays its Unitholders after the date
of grant which represent a return of more than 2.5
percent per quarter on PETs consolidated net
fixed assets on its balance sheet at each calendar
quarter end. The Strike Price will be adjusted on a quarterly basis and in no case may
it be reduced to less than $0.001 per Trust Unit.
PET has granted 1,108,000 Incentive Rights to
purchase PET Trust Units to directors, officers
and employees of the Administrator of which
928,000 were granted at $5.05 and 180,000 were
granted at $11.10 to $11.15 per Incentive Right. For purposes of Canadian generally accepted
accounting principles, PET will account for the
Incentive Rights granted to employees or directors
of PET and its subsidiaries by the settlement
method under which no amount will be recorded at
the time the Incentive Rights are granted.
Proceeds received on the exercise of the Rights
will be recorded to Unitholders Capital. The Incentive Rights will only be dilutive to the calculation of earnings
per Trust Unit if the exercise price is below the fair value of the Unit. 36




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##### 



CONSOLIDATED FINANCIAL STATEMENTS At December 31, 2003 a total of 3,963,838 Units
had been reserved under the Unit Incentive Plan.
As at December 31, 2003 no Incentive Rights
granted under the Unit Incentive Plan had vested. Incentive Rights
    
    2003Average
    
    Incentivegrant price
    
    RightsBalance, beginning of year
    
    
    
    
    
    
    Granted
    
    $
    6.04
    
    
    
    1,108,000Exercised
    
    
    
    
    
    
    Cancelled
    
    
    
    
    
    
    Balance, end of year
    
    $
    6.04
    
    
    
    1,108,000Incentive Rights Exercisable,
end of year
    
    
    
    
    
    
    
 The following summarizes information about
Incentive Rights outstanding at December 31, 2003
assuming the reduced Strike Price described
above: Number
    
    
    
    
    
    Weighted
    
    Number
    
    Weightedoutstanding
    
    Weighted
    
    average
    
    exercisable
    
    averageat
    
    average
    
    exercise
    
    at
    
    exerciseRange of
    
    December
    
    contractual
    
    price/
    
    December
    
    price/Exercise Prices
    
    31,2003
    
    life (years)
    
    Right
    
    31,2003
    
    Right$2.99
    
    
    928,000
    
    
    
    4
    
    
    $
    2.99
    
    
    
    
    
    
    
    $11.10-
$11.15
    
    
    180,000
    
    
    
    5
    
    
    $
    11.12
    
    
    
    
    
    
    
    
 9. Asset Retirement Obligations The total future asset retirement obligation was
estimated by Management based on the Trusts net
ownership interest in all wells and facilities,
estimated costs to reclaim and abandon the wells
and facilities and the estimated timing of the
costs to be incurred in future periods. The Trust
has estimated the net present value of its total
asset retirement obligations to be $21.7 million
as at December 31, 2003 based on total future
liability of $46 million. These payments are
expected to be made over the next 25 years with
the majority of costs incurred between 2010 and
2015. The Trust used a credit adjusted risk free
rate of 6.25% to calculate the present value of
the asset retirement obligation. The following table reconciles the Trusts asset retirement obligations: 2003
    
    2002Obligation, beginning of year
    
    $
    20,039
    
    
    $
    18,404Increase in Obligation during the Year
    
    
    423
    
    
    
    472Expenditures Incurred during the Year
    
    
    
    
    
    
    Accretion Expense
    
    
    1,239
    
    
    
    1,163Obligation, end of year
    
    $
    21,701
    
    
    $
    20,039
 10. Financial Instruments The Trusts financial instruments included in the
consolidated balance sheet consist of accounts
receivable, accounts payable and accrued
liabilities, distributions payable and bank and
other debt. The fair value of these items
approximated their carrying amount at December 31,
2003 and 2002 due to their short-term nature. Natural Gas Commodity Price Hedges At December 31, 2003, the Trust had entered into
financial forward sales
arrangements summarized as follows: Volumes at AECO(Gigajoules/day)(GJ/d)
    
    Price ($/GJ)
    
    Term45,000 GJ/d
    
    
    $6.30
    
    
    November 2003  March 200425,000 GJ/d
    
    
    $5.40
    
    
    April 2004  October 20047,500 GJ/d
    
    

    $5.00 to $7.10

    
    
    April 2004  December 2004
 Had these contracts been settled on December 31,
2003, using prices in effect at that time, the
mark-to-market loss would have totaled $4.0
million. 11. Gas over Bitumen Issue The Alberta Energy and Utilities Board (AEUB or
the Board) issued General Bulletin (GB)
2003-28 (the Bulletin) on July 22, 2003. The
AEUB continues to consider that gas production in
pressure communication with associated potentially
recoverable bitumen places future bitumen recovery
at an unacceptable risk. On January 26, 2004, the
AEUB Staff Submission Group (SSG) released their
recommendations for the shut-in of producing wells
with total average daily production of 135 MMcf/d
as of August 31, 2003. Approximately 95 MMcf/d was
shut-in by Industry on September 1, 2003 while a
shut-in date has not been announced for the
remaining 40 MMcf/d recommended for shut-in by the
SSG. A total of 24.1 MMcf/d of PET production was
recommended for shut-in by the SSG which includes
7.6 MMcf/d of the gas shut-in on September 1, 2003
and an additional 16.5 MMcf/d of PETs production
which was previously exempted from Shut-in Order
03-001. AEUB Interim Hearings with respect to this matter
are scheduled to begin on March 10, 2004. On
February 27, the Alberta Court of Appeal granted a
stay of the AEUB hearing process to the extent
that it applies to wells for which the productive
status was previously determined under AEUB
Decision 2003-23 following the Chard/Leismer
Hearing. This should exclude 0.7 MMcf/d of PET
production from the current proceedings. The
Alberta Court of Appeal declined to grant a stay
of the March interim hearings; however, PET and
others have been granted Leave to Appeal the
entire GB 2003-28 process subject to the AEUB 37




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##### 



Paramount Energy Trust not providing a fair and reasonable process. A date for the hearing of that
appeal has not been set. At December 31, 2003 PET recorded a writedown of
property, plant and equipment of $9.8 million
(Note 5). This amount arose in connection with the
increase in capital assets related to the adoption
of asset retirement obligations (Note 3),
revisions to PETs reserves and adjustments to
estimates of future cash flows related to the gas
over bitumen issue. No future compensation with
respect to the gas over bitumen issue for any
shut-in production beyond the current interim
financial assistance of $0.60 per Mcf on current
or future foregone production was included in the
determination of this writedown. To the extent
that circumstances including volumes of gas
shut-in or finalization of compensation
arrangements change, further adjustments to the
carrying amount of PETs property, plant and
equipment may be required. Such adjustments relate
to prescribed determinations under the successful
efforts method of accounting and should not be
taken to represent indications of the fair market
value of PETs assets or the possible impairment
of such value. Until the AEUB determines the final
productive status of the wells, PET cannot
accurately estimate the amount of production that
may remain shut-in, if any, and for what duration.
The amount and timing of possible compensation for
having to shut-in such production is also not
determinable at this time. To December 31, 2003,
PET had incurred $0.7 million in legal and other
costs with respect to the gas over bitumen issue.
PET will continue to pursue all avenues to defend
its gas production and Unitholder value. 38