SkyWest Energy Corp. Condensed Interim Consolidated Financial Statements. For the three months ended March 31, 2011 (unaudited)

Transcription

1 Condensed Interim Consolidated Financial Statements For the three months ended March 31, 2011

2 Condensed Consolidated Balance Sheets Assets March 31, December 31, January 1, Notes Current assets Cash and cash equivalents 4 $ 1,742,777 $ 9,932,306 $ 873,113 Accounts receivable 5,324,001 7,428,037 2,529 Income tax receivable 339, ,874 Deposits and prepaid expenses 235, ,489 17,187 Investments 5 385, ,760 Total current assets 8,027,556 18,544, ,829 Exploration and evaluation assets 6 9,791,516 9,977, ,815 Property, plant and equipment 7 97,625,408 82,248,055 3,331 Total assets $ 115,444,480 $ 110,770,304 $ 1,272,975 Liabilities Current liabilities Bank debt 8 11,947,791 2,797,222 Accounts payable and accrued liabilities 11,620,992 17,011,308 17,458 Payable to vendor for land 187,500 Flow through share premium 179,533 Total current liabilities 23,568,783 19,988, ,958 Decommissioning liabilities 9 6,095,185 5,953,898 Deferred tax liabilities 10,615,508 10,051,946 Total liabilities 40,279,476 35,993, ,958 Shareholders' Equity Share capital 10 79,083,325 78,992,957 1,103,248 Contributed surplus 3,052,765 2,615,064 Deficit (6,971,086) (6,831,624) (35,231) Total shareholders' equity 75,165,004 74,776,397 1,068,017 Total liabilities and shareholders' equity $ 115,444,480 $ 110,770,304 $ 1,272,975 Commitments 16 Subsequent Events 19 See accompanying notes to the condensed interim consolidated financial statements. Approved on behalf of the Board: (signed) Dennis Feuchuk Director (signed) Don Garner Director 2

3 Condensed Consolidated Statements of Income (Loss) and Comprehensive Income (Loss) Three months ended Notes March 31, 2011 March 31, 2010 Revenue Oil and natural gas revenue $ 6,982,936 $ 9,274 Royalties (718,233) (2,008) 6,264,703 7,266 Unrealized gain (loss) on investment (16,782) 6,247,921 7,266 Expenses Exploration and evaluation expenditures 174,699 Production and operating expenses 1,771,205 11,276 Transportation expenses 295,449 Depletion and depreciation 2,327,653 4,112 General and administrative expenses 941,724 67,512 Stock based compensation 437,701 5,948,431 82, ,490 (75,634) Finance income 12 14,639 Finance expense 12 (69,562) Net finance income (expenses) (54,923) Income (loss) before income taxes 244,567 (75,634) Income tax expense Deferred income tax expense 384,029 Income (loss) and comprehensive income (loss) for the period $ (139,462) $ (75,634) Earnings per share 13 Basic $ (0.00) $(0.01) Diluted $ (0.00) $(0.01) See accompanying notes to the condensed interim consolidated financial statements. 3

4 Condensed Consolidated Statements of Changes in Shareholders' Equity Notes Common Shares Share Capital Contributed Surplus Deficit Total equity Balance at January 1, ,541,665 $ 1,103,248 $ $ (35,231) $ 1,068,017 Issued for oil and gas interests 10b 1,921, , ,500 Net income (loss) for the period (75,634) (75,634) Balance at March 31, ,462,819 1,410,748 (110,865) 1,299,883 Balance at January 1, ,971,715 78,992,957 2,615,064 (6,831,624) 74,776,397 Stock based compensation related to stock options 11c 437, ,701 Shares issued on warrant exercise 10b 451,833 90,368 90,368 Net income (loss) for the period (139,462) (139,462) Balance at March 31, ,423,548 $ 79,083,325 $ 3,052,765 $ (6,971,086) $ 75,165,004 See accompanying notes to the condensed interim consolidated financial statements. 4

5 Condensed Consolidated Statements of Cash Flows Notes Three months ended March 31, March 31, Cash flows from (used in) operating activities Loss for the period $ (139,462) $ (75,634) Adjustments for: Amortization of other liabilities (28,000) Depletion and depreciation 2,327,653 4,112 Stock based compensation 437,701 Unrealized (gain) loss on investment 16,782 Accretion of decommissioning liabilities 52,040 Exploration and evaluation expenditures 174,699 Deferred income tax expense 384,029 Changes in non cash working capital 14 (936,518) 579,342 Net cash from (used in) operating activities 2,288, ,820 Cash flows used in investing activities Additions to exploration and evaluation assets (158,519) (638,815) Property, plant and equipment expenditures (17,445,672) (2,643) Changes in non cash working capital 14 (2,115,199) Net cash used in investing activities (19,719,390) (641,458) Cash flows from financing activities Proceeds from bank debt, net 9,150,569 Proceeds from issuance of share capital 90,368 Changes in non cash working capital 14 Net cash from financing activities 9,240,937 Change in cash and cash equivalents (8,189,529) (133,638) Cash and cash equivalents, beginning of period 9,932, ,113 Cash and cash equivalents, end of period $ 1,742,777 $ 739,475 See accompanying notes to the condensed interim consolidated financial statements. 5

6 1. General business description SkyWest Energy Corp. ( SkyWest or the Corporation ) is engaged in the acquisition of, exploration for, development of and production of oil and natural gas. SkyWest Energy Corp. is a publicly traded company on the TSX Venture Exchange under the symbol SKW.V, incorporated and domiciled in Canada. The Corporation s operations are in Alberta and Saskatchewan. The address of business of the Corporation is Suite #480, th Avenue SW, Calgary, Alberta, Canada, T2P 3A8. These condensed interim consolidated financial statements were approved and authorized for issuance by the Board of Directors on June 24, Basis of preparation (a) Statement of compliance In conjunction with the Corporation s annual audited consolidated financial statements to be issued under International Financial Reporting Standards ( IFRS ) for the year ended December 31, 2011, these condensed interim consolidated financial statements present SkyWest s initial financial results of operations and financial position as at and for the three months ended March 31, 2011, including 2010 comparative periods. As a result, they have been prepared in accordance with IFRS 1 First Time Adoption of International Financial Reporting Standards and with International Accounting Standard ( IAS ) 34, Interim Financial Reporting. These condensed interim consolidated financial statements do not include all the necessary annual disclosures in accordance with IFRS. Previously, the Corporation prepared its interim and annual consolidated financial statements in accordance with Canadian generally accepted accounting principles ( Canadian GAAP ). The preparation of these condensed interim consolidated financial statements resulted in selected changes to SkyWest s accounting policies as compared to those disclosed in the Corporation s annual audited consolidated financial statements for the year ended December 31, 2010 issued under Canadian GAAP. A summary of significant changes to SkyWest s accounting policies is disclosed in note 20 along with reconciliations presenting the impact of the transition to IFRS for the comparative periods as at January 1, 2010, as at and for the three months ended March 31, 2010, and as at and for the year ended December 31, A summary of SkyWest s significant accounting policies under IFRS is presented in note 3. These policies have been retrospectively and consistently applied, except where specific exemptions permitted an alternative treatment upon transition to IFRS in accordance with IFRS 1 as disclosed in note 20. The condensed interim consolidated financial statements should be read in conjunction with SkyWest s Canadian GAAP annual audited consolidated financial statements for the year ended December 31, (b) Basis of measurement The consolidated financial statements have been prepared on the historical cost basis, except for investments which are measured at fair value. The methods used to measure fair values are discussed further in note 17. 6

7 (c) Functional and presentation currency These consolidated financial statements are presented in Canadian dollars, which is the Corporation s functional currency. (d) Use of estimates and judgments The preparation of financial statements in conformity with IFRS requires management to make judgments, estimates and assumptions that affect the application of accounting policies and the reported amounts of assets, liabilities, income and expenses. Actual results may differ from these estimates. Estimates and judgments are continually evaluated and are based on historical experience and other factors, including expectations of future events that are believed to be reasonable under the circumstances. Accounting estimates will, by definition, seldom equal the actual results. Revisions to accounting estimates are recognized in the period in which the estimates are revised and in any future years affected. The following discussion sets forth management s most critical estimates and assumptions in determining the value of assets, liabilities and equity: Depletion and valuation of property, plant and equipment The amounts recorded for depletion and depreciation of property, plant and equipment and the valuation of property, plant and equipment are based on estimates. These estimates include proved and probable reserves, production rates, future oil and natural gas prices, future development costs, remaining lives and periods of future benefits of the related assets and other relevant assumptions. Petroleum and natural gas properties, exploration and evaluation assets and other corporate assets are aggregated into cash generating units ( CGUs ) based on their ability to generate largely independent cash flows and are used for impairment testing. The determination of the Corporation s CGUs is subject to management s judgement. The Corporation s reserve estimates are evaluated annually pursuant to the parameters and guidelines stipulated under National Instrument Standards of Disclosure for Oil and Gas Activities. Valuation of exploration and evaluation assets The value of exploration and evaluation assets are dependent upon the discovery of economically recoverable reserves which, in turn, is dependent on future oil and natural gas prices, future capital expenditures and environmental and regulatory restrictions. The decision to transfer exploration and evaluation assets to property, plant and equipment is based on management s determination of an area s technical feasibility and commercial viability based on proved and/or probable reserves. Decommissioning liabilities The value of decommissioning liabilities depends on estimates of current risk free interest rates, future restoration and reclamation expenditures and the timing of those expenditures. 7

8 Valuation of accounts receivable The valuation of accounts receivable is based on management's best estimate of the provision for doubtful accounts. Income taxes The amounts recorded for deferred income taxes are based on estimates as to the timing of the reversal of temporary differences and tax rates currently substantively enacted. They are also based on estimates of the probability of the Corporation utilizing certain tax pools and assets which, in turn, is dependent on estimates of proved and probable reserves, production rates, future petroleum and natural gas prices and changes in legislation, tax rates and interpretations by taxation authorities. The availability of tax pools is subject to audit and interpretation by taxation authorities. Stock based compensation The amounts recorded relating to the fair value of stock options and warrants issued are based on estimates of the future volatility of the Corporation s share price, estimated market price of the Corporation's shares at grant date, forfeiture rates, expected lives of the options and warrants, expected dividends and other relevant assumptions. Business combinations The values assigned to the common shares issued in the corporate acquisitions completed in 2010 and the allocation of the purchase price to the net assets in the acquisitions are based on numerous estimates that affect the valuation of certain assets and liabilities acquired including discount rates, estimates of proved and probable reserves, estimates of fair values of exploration and evaluation assets, future oil and natural gas prices and other factors. 3. Significant accounting policies (a) Principles of consolidation The consolidated financial statements include the accounts of the Corporation and its subsidiaries. Intercompany balances and transactions are eliminated on consolidation. As of January 1, 2011 Stratosphere Energy Corp., Base Resources Inc. and Base Acquisitions Inc. were amalgamated into SkyWest Energy Corp. As of March 31st, 2011 Cedar Energy Partnership was dissolved and Alberta Ltd. was amalgamated into SkyWest. 8

9 (b) Business combinations Business combinations are accounted for using the acquisition method. The acquired identifiable net assets are measured at their fair value at the date of acquisition. Any excess of the purchase price over the fair value of the net assets acquired is recognized as goodwill. Following initial recognition, goodwill is recognized at cost less any accumulated impairment losses. Any deficiency of the purchase price below the fair value of the net assets acquired is recorded as a gain in net earnings. Associated transaction costs are expensed when incurred. (c) Jointly controlled operations and jointly controlled assets Many of the Corporation s oil and natural gas activities involve jointly controlled assets and are conducted under joint operating agreements whereby two or more parties jointly control the assets. The condensed interim consolidated financial statements include the Corporation s share of these jointly controlled assets, the proportionate share of relevant revenue and related costs. (d) Cash and cash equivalents Cash and cash equivalents consist of amounts on deposit with banks, term deposits and other similar short term highly liquid investments with maturities of 90 days or less at the date of issue. Bank overdrafts that are repayable on demand and form an integral part of the Corporation s cash management are included as a component of cash and cash equivalents. (e) Exploration and evaluation expenditures and property, plant and equipment (i) Exploration and evaluation assets Pre licence expenditures incurred before the Corporation has obtained legal rights to explore an area are expensed. Exploration and evaluation costs include the costs of acquiring licences, exploratory drilling, geological and geophysical activities, acquisition of mineral and surface rights and technical studies. Exploration and evaluation costs are capitalized as exploration and evaluation assets and accumulated in cost centers by exploration area, pending determination of technical feasibility and commercial viability of extracting oil and natural gas reserves. Exploration and evaluation assets are measured at cost and are not depleted or depreciated. Exploration and evaluation assets, net of any impairment loss, are transferred to property, plant and equipment when proved and/or probable reserves are determined to exist. Exploration and evaluation assets are assessed for impairment when facts and circumstances suggest that the carrying amount exceeds the recoverable amount. Exploration and evaluation assets are also assessed for impairment upon their reclassification to property, plant and equipment. The impairment of exploration and evaluation assets, costs of undeveloped lands that expire and any eventual reversal thereof, is recognized in the statement of income. Exchanges or swaps that involve only exploration and evaluation assets are accounted for at cost. Any gains or losses from the divestiture of exploration and evaluation assets are recognized in net earnings. 9

10 (ii) Property, plant and equipment All costs directly associated with the development and production of oil and natural gas interests are capitalized on an area by area basis as oil and natural gas interests and are measured at cost less accumulated depletion and depreciation and accumulated impairment losses. These costs include expenditures for areas where technical feasibility and commercial viability has been determined. These costs include property acquisitions with proved and/or probable reserves, development drilling, completion, gathering and infrastructure, decommissioning liabilities and transfers of exploration and evaluation assets. The costs of the day to day servicing of property, plant and equipment are recognized in income as incurred. Exchanges or swaps of property, plant and equipment are measured at fair value unless i) the transaction lacks commercial substance or ii) neither the fair value of the asset received nor the asset given up can be reliably estimated. When fair value is not used, the cost of the acquired asset is measured at the carrying amount of the asset given up. The gain or loss on derecognition of the asset given up is recognized in net income. Gains and losses on disposal of an item of property, plant and equipment, including oil and natural gas interest, are determined by comparing the proceeds from disposal with the carrying amount of property, plant and equipment and recognized in net income. (iii) Depletion and depreciation Oil and natural gas interests included in property, plant and equipment are depleted using the unit of production method by reference to the ratio of production in the period to the related proved and probable reserves, taking into account estimated future development costs necessary to bring those reserves into production. These estimates are reviewed by independent reserve engineers at least annually. Production and reserves of natural gas are converted to equivalent barrels of crude oil on the basis of six thousand cubic feet of gas to one barrel of oil. Changes in estimates used in prior periods, such as proved and probable reserves, that affect the unit of production calculations do not give rise to prior period adjustments and are dealt with on a prospective basis. Processing facilities and well equipment are depleted using the unit of production method, along with the related reserves, when the assets are designed to have a life similar to the reserves of the related wells with little to no residual value. Where facilities and equipment, including major components, have differing useful lives, they are depreciated separately on a straight line basis over the estimated useful life of the facilities and equipment and other related components. Other assets, referred to as corporate assets, are depreciated on a declining balance basis at rates approximating their estimated useful lives of 20%. 10

11 (f) Impairment of non financial assets The carrying amounts of the Corporation s non financial assets, other than exploration and evaluation assets, are reviewed for indicators of impairment at each reporting date. If indicators of impairment exist, the recoverable amount of the asset is estimated. Exploration and evaluation assets are assessed for impairment when they are reclassified to property, plant and equipment and if facts and circumstances suggest that the carrying amount exceeds the recoverable amount. For the purposes of assessing impairment, exploration and evaluation assets and property, plant and equipment are grouped into CGUs, defined as the lowest levels for which there are separately identifiable independent cash inflows. Exploration and evaluation assets are tested with the producing CGU for which the activity can be attributed or separately, where a producing CGU does not exist for the exploration and evaluation activity. The recoverable amount of a CGU is the greater of its fair value less costs to sell and its value in use. Fair value is determined to be the amount for which the asset could be sold in an arm s length transaction between knowledgeable and willing parties. Fair value less costs to sell may be determined using discounted future net cash flows of proved and probable reserves using forecast prices and costs and including future development costs. These cash flows are discounted at an appropriate discount rate which would be applied by a market participant. Value in use is determined by estimating the present value of the future net cash flows to be derived from the continued use of the CGU in its present form. These cash flows are discounted at a rate based on the time value of money and risks specific to the CGU. An impairment loss is recognized if the carrying amount of an asset, or its CGU, exceeds its recoverable amount. Impairment losses are recognized in net earnings. Impairment losses recognized in prior years are assessed at each reporting date for any indications that the loss has decreased or no longer exists. An impairment loss is reversed only to the extent that the asset s carrying amount does not exceed the carrying amount that would have been determined, net of depletion and depreciation or amortization, if no impairment loss had been recognized. (g) Provisions and contingent liabilities Provisions are recognized by the Corporation when it has a legal or constructive obligation as a result of past events, it is probable that an outflow of economic resources will be required to settle the obligation and a reliable estimate can be made of the amount of that obligation. Provisions are stated at the present value of the expenditure expected to settle the obligation by discounting the expected future cash flows at a pre tax rate that reflects current market assessments of the time value of money and the risks specific to the liability. The obligation is not recorded and is disclosed as a contingent liability if it is not probable that an outflow will be required, if the amount cannot be estimated reliably or if the existence of the outflow can only be confirmed by the occurrence of a future event. Provisions are not recognized for future operating losses. 11

12 (i) Decommissioning liabilities Decommissioning liabilities are recognized for decommissioning and restoration obligations associated with the Corporation s exploration and evaluation assets and property, plant and equipment. The best estimate of the expenditure required to settle the present obligation at the balance sheet date is recorded on a discounted basis using the pre tax risk free interest rate at the balance sheet date. The future cash flow estimates are adjusted to reflect the risks specific to the liability. The value of the obligation is added to the carrying amount of the associated exploration and evaluation or property, plant and equipment asset and is depleted or amortized over the useful life of the asset. The provision is accreted over time through charges to Finance Expenses with actual expenditures charged against the accumulated obligation. Changes in the future cash flow estimates resulting from revisions to the estimated timing or amount of undiscounted cash flows or the discount rate are recognized as changes in the decommissioning liability and related asset. Actual decommissioning expenditures are charged against the provision as the costs are incurred. Any differences between the recorded provision and the actual costs incurred are recorded as a gain or loss in earnings. (h) Flow through shares From time to time, the Corporation finances a portion of its exploration and development activities through the issuance of flow through shares. Under the terms of the flow through share agreements, the tax attributes of the related expenditures are renounced to subscribers. The stated capital recorded on flow through share issuances is equal to the estimated fair value of the common shares, exclusive of the flow through component, on the date of issue. The difference between the gross proceeds received and the stated capital recorded is a liability ( flow through share premium ) until qualifying expenditures are incurred. When the expenditures are incurred, the flow through share premium is drawn down and the resulting deferred tax liability is recorded through income tax expense, less the reversal of the flow through share premium previously reported. (i) Income taxes Income tax expense is comprised of current and deferred tax. Income tax expense is recognized in the statement of income, except to the extent that it relates to items recognized directly in equity or other comprehensive income. Current tax is the expected tax payable on the taxable income for the year and any adjustment to tax payable in respect of previous years. Deferred tax is recognized using the balance sheet method, providing for temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for taxation purposes. Deferred tax liabilities are generally recognized for all taxable temporary differences. Deferred tax assets are generally recognized for all deductible temporary differences, to the extent that it is probable that taxable profits will be available against which those deductible temporary differences can be utilized. 12

13 Deferred tax is not recognized on the initial recognition of assets or liabilities in a transaction that is not a business combination. In addition, deferred tax is not recognized for taxable temporary differences arising on the initial recognition of goodwill. Deferred tax is measured at the tax rates that are expected to be applied to temporary differences when they reverse, based on the laws that have been enacted or substantively enacted by the reporting date. Deferred tax assets and liabilities are offset if there is a legally enforceable right to offset, and they relate to income taxes levied by the same taxation authority on the same taxable entity They can also be offset on different tax entities if they are intended to be settleed on a net basis or they will be realized simultaneously. (j) Stock based compensation The Corporation has a Stock Option Plan as described in note 11. Stock options and warrants granted to directors, officers, employees and consultants of the Corporation are accounted for using the fair value method under which compensation expense is recorded based on the estimated fair value of the options and warrants at the grant date using the Black Scholes option pricing model and other pricing models. Each tranche in an award is considered a separate award with its own vesting period. Compensation cost is expensed over the vesting period with a corresponding increase in contributed surplus. When stock options or warrants are exercised, the cash proceeds, along with the amount previously recorded as contributed surplus, are recorded as share capital. A forfeiture rate is estimated on the grant date and is adjusted to reflect the actual number of options that vest. (k) Earnings per share Basic earnings per share is calculated by dividing net and comprehensive income or loss by the weighted average number of common shares outstanding during the period. Diluted earnings per share is calculated by adjusting the net income attributable to common shareholders and the weighted average number of common shares outstanding for the effects of dilutive instruments. The Corporation computes the dilutive impact of common shares assuming the proceeds received from the exercise of in the money share options and warrants are used to purchase common shares at the average market prices for the period. (l) Revenue Revenue from the production of oil and natural gas is recognized when title passes from the Corporation to the customer. Revenue represents the Corporation's share and is recorded net of royalty obligations to governments and other mineral interest owners. Transportation costs are reported as a separate expense and are not netted against revenue. (m) Finance income and expenses Finance income, consisting of interest income, is recognized as it accrues in the statement of income, using the effective interest method. Finance expense is comprised of interest expense on borrowings, accretion of the discount on decommissioning liabilities and impairment losses recognized on financial assets. 13

14 Borrowing costs incurred for the acquisition or construction of qualifying assets are capitalized during the period of time that is required to complete and prepare the assets for their intended use or sale. A qualifying asset is one that takes a substantial period of time to get ready for use or sale. Where funds are borrowed specifically to finance a project, the amount capitalized represents the actual borrowing costs incurred. Where the funds used to finance a project form part of general borrowings, the amount capitalized is calculated using a weighted average of rates applicable to relevant general borrowings of the Corporation during the period. All other borrowing costs are recognized in the statement of income in the period in which they are incurred, using the effective interest method. (n) Financial instruments (i) Classification and measurement Financial instruments are measured at fair value on initial recognition of the instrument. Measurement in subsequent periods depends on whether the financial instrument has been classified as fair value through profit or loss, loans and receivables, available for sale, held to maturity, or financial liabilities measured at amortized cost as defined by IAS 39, Financial Instruments: Recognition and Measurement. Financial assets and financial liabilities classified as fair value through profit or loss are either classified as held for trading or designated at fair value through profit or loss and are measured at fair value, with changes in fair value recognized in the income statement. Transaction costs are expensed when incurred. The Corporation has designated cash and cash equivalents and investments as held for trading. Financial assets and financial liabilities classified as loans and receivables, held to maturity, or financial liabilities measured at amortized cost are measured at amortized cost using the effective interest method of amortization. Loans and receivables are non derivative financial assets with fixed or determinable payments that are not quoted in an active market. Held to maturity financial assets are non derivative investments that an entity has the positive intention and ability to hold to maturity. Financial liabilities measured at amortized cost are those financial liabilities that are not designated as fair value through profit or loss and that are not derivatives. The Corporation has designated accounts receivable as loans and receivables and bank debt and accounts payable and accrued liabilities as financial liabilities measured at amortized cost. The Corporation has no assets that have been designated as held to maturity. Financial assets classified as available for sale are measured at fair value, with changes in fair value recognized in other comprehensive income. Available for sale financial assets are non derivatives that are either designated in this category or not classified in any of the other categories. The Corporation has no financial assets in this category. 14

15 The significance of inputs used in making fair value measurements are examined and classified according to a fair value hierarchy. Fair values of assets and liabilities included in Level 1 are determined by reference to quoted prices in active markets for identical assets and liabilities. Assets and liabilities in Level 2 include valuations using inputs other than quoted prices for which all significant outputs are observable, either directly or indirectly, and are based on valuation models and techniques where the inputs are derived from quoted indices. Level 3 valuations are based on inputs that are unobservable and significant to the overall fair value measurement. (ii) Derivative financial instruments The Corporation may enter into certain financial derivative contracts in order to manage exposure to market risks from fluctuations in commodity prices. The Corporation's policy is not to utilize derivative financial instruments for speculative purposes. All financial derivative contracts are classified as fair value through profit or loss. Embedded derivatives are separated from the host contract and accounted for separately if the economic characteristics and risks of the host contract and the embedded derivative are not closely related, a separate instrument with the same terms as the embedded derivative would meet the definition of a derivative and the combined instrument is not measured at fair value through the statement of income. Changes in the fair value of separable embedded derivatives are recognized immediately in the income statement. The Corporation has not identified any embedded derivatives. (iii) Equity instruments Common shares are classified as equity. Incremental costs directly attributable to the issue of common shares, stock options and warrants are recognized as a deduction from equity, net of any tax effects. (iv) Impairment The Corporation assesses at each balance sheet date, whether there is objective evidence that financial assets, other than those designated as fair value through profit or loss are impaired. When impairment has occurred, the cumulative loss is recognized in the statement of income. For financial assets carried at amortized cost, the amount of the impairment loss recognized is the difference between the asset s carrying amount and the present value of estimated future cash flows, discounted at the financial asset s original effective interest rate. When an available for sale financial asset is considered to be impaired, cumulative gains or losses previously recognized in other comprehensive income are reclassified to the statement of income in the period. Impairment losses may be reversed in subsequent periods. (o) Investments Investments in which the Corporation does not exercise control or significant influence are initially recorded at cost and are classified as held for trading and accordingly carried at fair value. Fair value is determined by multiplying the period end trading price of the investments by the number of common shares held at period end. 15

16 (p) Recent accounting pronouncements Future Accounting Changes The following pronouncements from the IASB will become effective for financial reporting periods beginning on, or after, January 1, 2013 and have not yet been adopted by the Corporation. All of these new or revised standards permit early adoption with transitional arrangements, depending upon the date of initial application: IFRS 9 Financial Instruments addresses the classification and measurement of financial assets. IFRS 10 Consolidated Financial Statements builds on existing principles and standards and identifies the concept of control as the determining factor in whether an entity should be included within the consolidated financial statements of the parent company. IFRS 11 Joint Arrangements establishes the principles for financial reporting by entities when they have an interest in arrangements that are jointly controlled. IFRS 12 Disclosure of Interest in Other Entities provides the disclosure requirements for interests held in other entities, including joint arrangements, associates, special purpose entities and other off balance sheet entities. IFRS 13 Fair Value Measurement defines fair value, requires disclosure about fair value measurements and provides a framework for measuring fair value when it is required or permitted within the IFRS standards. IAS 27 Separate Financial Statements revises the existing standard which addresses the presentation of parent company financial statements that are not consolidated financial statements. IAS 28 Investments in Associate and Joint Ventures revises the existing standard and prescribes the accounting for investments and sets out the requirements for the application of the equity method when accounting for investments in associates and joint ventures. The Corporation has not completed its evaluation of the effect of adopting these standards on its financial statements. 4. Cash and cash equivalents Cash and cash equivalents is comprised of: March 31, 2011 December 31, 2010 January 1, 2010 Bank balances in non interest bearing accounts $ 1,742,777 $ 1,800,332 $ 873,113 Bank balances in interest bearing accounts 8,131,974 $ 1,742,777 $ 9,932,306 $ 873,113 16

17 5. Investments March 31, 2011 December 31, 2010 Number of Shares Balance ($) Balance ($) Investment in Base Oil & Gas Ltd. 1,678, , ,760 Base Oil & Gas Ltd. ( BOG ) is a publicly traded junior oil and natural gas company that trades on the TSX Venture Exchange. SkyWest and BOG are related as they share a common director. 6. Exploration and evaluation assets Cost: Balance January 1, 2010 $ 376,815 Additions 4,285,171 Acquisition of exploration and evaluation assets 8,753,462 Transfers to property, plant and equipment (note 7) (2,564,271) Lease expiries expensed (873,394) Balance, December 31, ,977,783 Additions 158,519 Transfers to property, plant and equipment (note 7) (170,087) Lease expiries expensed (174,699) Balance, March 31, 2011 $ 9,791,516 Exploration and evaluation assets consist of the Corporation s exploration projects that are pending the determination of proved and/or probable reserves. Additions represent the Corporation s share of costs incurred on exploration and evaluation assets during the period. 7. Property, plant and equipment Oil and natural gas interests Corporate assets Total Cost Balance, January 1, 2010 $ $ 5,938 $ 5,938 Additions 27,903,217 30,942 27,934,159 Corporate acquisitions (note 20) 54,997,139 54,997,139 Dispositions (129,755) (129,755) Transfers from exploration and evaluation assets 2,564,271 2,564,271 Change in decommissioning liabilities 225, ,679 Balance, December 31, 2010 $ 85,560,551 $ 36,880 $ 85,597,431 Additions 17,435,526 10,146 17,445,672 17

18 Transfers from exploration and evaluation assets 170, ,087 (note 6) Change in decommissioning liabilities 89,247 89,247 Balance, March 31, 2011 $ 103,255,411 $ 47,026 $ 103,302,437 Accumulated depletion and depreciation and impairment losses: Balance, January 1, 2010 $ $ (2,607) $ (2,607) Depletion and depreciation for the period (1,821,000) (5,462) (1,826,462) Impairment for the period (1,520,307) (1,520,307) Balance, December 31, 2010 $ (3,341,307) $ (8,069) $ (3,349,376) Depletion and depreciation for the period $ (2,312,000) $ (15,653) $ (2,327,653) Balance, March 31, 2011 $ (5,653,307) $ (23,722) $ (5,677,029) Oil and natural gas interests Corporate assets Total Net book value: At January 1, 2010 $ $ 3,331 $ 3,331 At December 31, 2010 $ 82,219,244 $ 28,811 $ 82,248,055 At March 31, 2011 $ 97,602,104 $ 23,304 $ 97,625,408 (a) (b) The calculation of 2011 depletion and depreciation expense included an estimated $97,415,000 (2010 $nil) in the depletable base for future development costs associated with proved and probable undeveloped reserves. During 2010, SkyWest recognized a $1,520,307 impairment relating to non core assets of the Corporation. An impairment charge was taken at December 31, 2010 and was recorded as additional depletion and depreciation expense in the fourth quarter of The impairment was based on the difference between the period end book value of the assets and the recoverable amount. The recoverable amount was determined using fair value less costs to sell based on discounted cash flows of proved plus probable reserves using forecast prices and a discount rate of 10%. No impairment was recorded for the period ended March 31, Bank debt The Corporation has available a $16,500,000 revolving operating demand loan ( Facility A ). Facility A bears interest at the bank s prime rate plus 0.5% per annum and shall only be used for general corporate purposes. The Corporation also has available a $6,000,000 non revolving acquisition/development demand loan ( Facility B ). Effective June 14 th, 2011, the Corporaiton increased its $16,500,000 revolving operating demand loan and $6,000,000 non revolving acquisition development line to $21,000,000 and $9,000,000 respectively. Refer to note 19 for changes to the credit facility subsequent to March 31, Facility B bears interest at the bank s prime rate plus 0.75% per annum and shall only be used for acquisitions of producing oil and natural gas reserves 18

19 and/or development of existing proved non producing/undeveloped oil and natural gas reserves. Under Facility B, repayment of principal and interest will commence the month following the drawdown. Facility B also includes a drawdown fee of between 0.375% and 0.50%. Facility A and Facility B are secured by a general assignment of book debts and a $25,000,000 debenture with a floating charge over all assets of the Corporation with an undertaking to provide fixed charges on the Corporation s petroleum and natural gas properties at the request of the bank. At March 31, 2011, the Corporation had drawn $11,947,791 on Facility A. The interest rate at March 31, 2011 was prime plus 0.5% per annum for an effective interest rate of 3.5%. The Corporation is subject to certain reporting and financial covenants that require: 1. the Corporation to maintain a working capital ratio of at least 1:1, but for the purposes of the covenant, bank debt and the fair value of any commodity contracts are excluded and the unused portion of the credit facility may be added to current assets; and 2. the Corporation to not hedge greater than 50% of its petroleum and natural gas production. As at March 31, 2011, the Corporation was in compliance with all reporting requirements and the working capital ratio was 1.08: Decommissioning liabilities The Corporation s decommissioning liabilities result from its ownership interest in oil and natural gas assets, including well sites and gathering systems. The total decommissioning liability is estimated based on the Corporation s net ownership interest in all wells and facilities, estimated costs to reclaim and abandon these wells and facilities and the estimated timing of the costs to be incurred in future years. The total estimated, undiscounted risked cash flows required to settle the liabilities, before considering salvage, is approximately $11,682,000 at March 31, 2011 (December 31, 2010 $11,043,000 ), which has been discounted using a risk free rate between 1% and 4% at March 31, 2011 (December 31, 2010 between 1% and 4%). These obligations are to be settled based on the economic lives of the underlying assets, which currently extend up to 36 years into the future and will be funded from general corporate resources at the time of abandonment. The majority of the costs will be incurred between 2019 and The following table summarizes changes in the decommissioning liabilities for the three months ended March 31, 2011 and the year ended December 31, 2010: March 31, 2011 December 31, 2010 Decommissioning liabilities, beginning of period $ 5,953,898 $ Liabilities incurred 89, ,994 Liabilities acquired in property acquisition (note 20) 698,932 Liabilities assumed on acquisition of EMM (note 20) 1,595,558 Liabilities assumed on acquisition of Stratosphere (note 42,700 20) Liabilities assumed on acquisition of Base (note 20) 3,346,000 Liabilities settled on disposition (32,888) Accretion 52,040 42,602 19

20 Decommissioning liabilities, end of period $ 6,095,185 $5,953, Share capital (a) Authorized Unlimited number of common shares with voting rights. Unlimited number of preferred shares, issuable in series. (b) Issued The following table summarizes the changes in common shares outstanding: Number of Stated Amount Common Shares Outstanding, January 1, ,541,665 $1,103,248 Common shares issued for oil and natural gas interests 1,921, ,500 Common shares issued on corporate acquisitions (note 20) 36,983,718 17,274,254 Common shares issued for cash, net of share issue costs of $4,553,850 and related tax effect of $1,145, ,955,178 51,216,355 Flow through common shares issued 18,520,000 8,889,600 Common shares issued on exercise of warrants 50,000 10,000 Outstanding, January 1, ,971,715 78,992,957 Common shares issued on exercise of warrants 451,833 90,368 Outstanding, March 31, ,423,548 $79,083, Stock based compensation (a) Stock option plan Under the Corporation's stock option plan, the Corporation may grant options to its directors, officers, employees and consultants. The aggregate number of common shares to be issued upon the exercise of all options granted under the plan shall not exceed 10% of the issued and outstanding common shares at the time of the option grant. The maximum number of common shares optioned to any one optionee during a twelve month period shall not exceed 5% (2% for consultants) of the outstanding common shares of the Corporation at the time of grant. Options granted under the plan have a five year term and have vesting periods as determined by the Corporation's directors at the date of grant. The exercise price of each option equals the market price of the Corporation s share of the date of grant. The following options have been awarded under the stock option plan: Number Weighted Average Exercise Price Outstanding, January 1, 2010 $ Granted 8,140,681 $

21 Forfeited Outstanding, December 31, ,140,681 $0.68 Granted 120,000 $0.68 Forfeited Outstanding at March 31, ,260,681 $0.68 Exercisable at March 31, 2011 The options vest one third each on each of the twelve month, eighteen month and twenty four month anniversaries from the grant date. The following table summarizes the expiry terms and exercise prices of the Corporation's outstanding stock options as at March 31, 2011: Outstanding Options Weighted Average Remaining Contractual life (years) Number of Stock Options Exercisable 8,140, , ,260,681 (b) Warrants Series I 21 Number Weighted Average Exercise Price Outstanding, January 1, ,770,828 $0.20 Granted Exercised (50,000) $0.20 Outstanding, December 31, ,720,828 $0.20 Granted Exercised (451,833) $0.20 Outstanding, March 31, ,268,995 $0.20 Exercisable at March 31, ,268,995 $0.20 Series II, III and IV Number Weighted Average Exercise Price Outstanding, January 1, 2010 Granted, April 29, ,250,000 $0.35 Granted, June 22, ,000,000 $0.35

22 Granted, August 17, ,000 $0.48 Outstanding, Dec 31, 2010 and March 31, ,500,000 $0.35 Exercisable, March 31, ,333,333 $0.35 All of the Series II, III and IV warrants have a term of five years, are exercisable into one common share and 1/3 become exercisable if the 20 day weighted average trading price of SkyWest common shares is equal to or greater than $0.55 at any time before the expiry date; a further 1/3 will be exercisable if the 20 day weighted average trading price of SkyWest common shares is equal to or greater than $0.75 at any time before the expiry date; and the final 1/3 will be exercisable if the 20 day weighted average trading price of SkyWest common shares is equal to or greater than $0.95 at any time before the expiry date. These warrants have a weighted average life remaining to expiry of 4.1 years. During the three month period ended December 31, 2010, the 20 day weighted average trading price of SkyWest common shares was equal to or greater than $0.55. Therefore 1/3 of the warrants became exercisable. During the three month period ended March 31, 2011, the 20 day weighted average trading price of SkyWest common shares was equal to or greater than $0.75. Therefore, an additional 1/3 of the warrants became exercisable. (c) Stock based compensation expense Compensation costs of $437,701 for the three months ended March 31, 2011 (2010 $ nil) have been expensed and have resulted in a corresponding increase in contributed surplus. The fair value of stock options granted during the three months ended March 31, 2011 were estimated on the date of grant using the Black Scholes option pricing model with the following assumptions: March 31, 2011 Risk free interest rate 2.46% Expected volatility 48% Expected life 5 years Expected dividend yield N/A Estimated forfeiture rate 0% Fair value per option/warrant $ 0.30 A forfeiture rate of 0% was used when recording stock based compensation as it is expected that all officers, directors, employees and consultants will continue with Corporation over the vesting period. This estimate is adjusted each period to the actual forfeiture rate. 12. Finance income and expense Finance income Three months ended March 31,

23 13. Earnings per share Interest income on cash and cash equivalents $ 14,639 $ 14,639 Finance expenses Accretion of decommissioning liabilities (52,040) Interest expense on bank debt (17,522) (69,562) Net finance income (expense) recognized in the statement of income $ (54,923) $ The following table summarizes the common shares used in calculating basic and diluted earnings per share: Three months ended March 31, Weighted Average Common Shares Outstanding Basic 202,252,280 9,462,819 Diluted 202,252,280 9,462,819 All warrants and options have been excluded from the calculation of diluted earnings per share as they would be anti dilutive. 14. Supplemental cash flows information Changes in non cash working capital is comprised of: Three months ended March 31, Source/(use) of cash: Accounts receivable $ 2,104,036 $ (401,055) Income tax receivable 125,558 Prepaid expenses and deposits 81,005 (37,000) Accounts payable and accrued liabilities (5,362,316) 1,017,397 $ (3,051,717) $ 579,342 Related to operating activities $ (936,518) $ 579,342 Related to investing activities (2,115,199) Related to financing activities Changes in non cash working capital $ (3,051,717) $ 579,342 Interest Paid $17,522 $ 23

24 15. Related party transactions For the three month period ended March 31, 2011, the Corporation had the following related party transaction: (a) The Corporation is involved in several joint ventures with BOG, a corporation with which the Corporation shares a common director. At March 31, 2011, accounts receivable included $579,422 (December 31, 2010 $1,953,400) related to amounts owing to the Corporation for its share of capital expenditures. These amounts are billed and recorded at rates consistent with those charged to third parties. 16. Commitments The Corporation has a rental commitment, exclusive of operating costs, related to leased office premises, as follows: Total Operating lease office building $ 340,510 $ 290,119 $ 630,629 At December 31, 2010, the Corporation was committed to spend approximately $1,615,800 of qualifying expenditures related to flow through shares issued in During the period ended March 31, 2011, the Corporation fulfilled its remaining obligation of $1,615,800. No further amounts are remaining to be spent. 17. Financial risk management (a) Risk management overview The Corporation s activities expose it to a variety of financial risks that arise as a result of its exploration, development, production and financing activities including credit risk, liquidity risk and market risk. This note presents information about the Corporation s exposure to each of the above risks, the Corporation s objectives, policies and processes for measuring and managing risk, and the Corporation s management of capital. Further quantitative disclosures are included throughout these condensed interim consolidated financial statements. The Corporation employs risk management strategies and polices to ensure that any exposure to risk are in compliance with the Corporation s business objectives and risk tolerance levels. While the Board of Directors has the overall responsibility for the Corporation s risk management framework, the Corporation s management has the responsibility to administer and monitor these risks. (b) Credit risk Credit risk is the risk of financial loss to the Corporation if a customer or counterparty to a financial instrument fails to meet its contractual obligations. Substantially all of the Corporation s accounts receivable are due from purchasers of the Corporation s oil and natural gas production, joint venture partners and government agencies and are subject to normal industry credit risk. Significant changes in industry conditions and risks that negatively impact partners' ability to generate cash flow will increase the risk of not collecting receivables. SkyWest transacts with a number of oil and natural gas marketing companies who typically remit amounts to the Corporation by the 25th day of the 24