Results of Operations
Alliance Canada delivered its contracted 1,325 mmcf/d of firm service shipping capacity throughout 2006. Actual transportation deliveries, including utilized Authorized Overrun Service (AOS), averaged 1,592 mmcf/d (20.2% in excess of firm capacity) for the year ended December 31, 2006, consistent with average deliveries of 1,597 mmcf/d (20.6% in excess of firm capacity) in the prior year. Planned and unplanned outages were effectively managed along the system. An increase in usage of AOS does not impact earnings, however it does increase the competitiveness of Alliance Canada’s tolls.

Revenue primarily reflects the cost of service recovery, whereby a decrease in costs decreases revenue. For 2006, revenue decreased by $2.5 million from the prior year. This decrease is primarily due to a property tax rebate received following a 2006 court decision. In addition, lower financing costs, lower depreciation rates included in tolls and a lower equity return as a consequence of a depreciating investment base contributed to the decrease in revenue. These items are partially offset by higher operating and maintenance costs included in the cost of service recovery.

Operating and maintenance costs increased due to higher personnel related costs as well as higher utility costs from the Windfall Cooler projects, duty charges paid on spare gas generators brought into Canada and increased legal fees from the asset optimization initiatives.

Interest expense is lower due to repayments on long-term debt during 2006.

Earnings increased primarily due to the reduction in future tax rates resulting in future tax recoveries of $2.7 million. Future taxes in Alliance Canada result from temporary differences between the accounting values of the transportation contracts, included in intangible assets, and long-term debt, versus their tax bases. The recovery of notional taxes in tolls for the full year in 2006 and the elimination of large corporation tax to the extent not recovered through tolls in the prior year also increased earnings. These changes are partially offset by the reduction in the equity return as a result of a depreciating investment base and a reduction in the recovery of notional taxes due to tax rate changes substantively enacted during the second quarter.

Earnings reflect a return on equity applied to investment base accounts, as well as an allowance for income, large corporations and provincial capital taxes on regulated activities. The rate used to calculate the equity return is not expected to change; however, annual earnings will decline over time as the investment base is depreciated.

Strategy
Alliance Canada manages its operating assets and infrastructure with the objective of maximizing shipping capacity, excelling in operating performance and increasing the competitiveness of its tolls. Looking to the future, Alliance Canada is focused on pipeline optimization, expansion opportunities and other development initiatives.

Capital Expenditures
Capital expenditures in 2006, representing the Fund’s 50% interest, were $10.5 million (2005 – $8.9 million) including $7.6 million (2005 – $4.5 million) in maintenance capital expenditures, and $2.9 million (2005 – $4.4 million) in enhancement capital. Expenditures in 2006 were focused on compressor overhauls, pipeline and information system maintenance programs, as well as the enhancement of gas coolers at the Windfall compressor station aimed to improve system efficiency.

In 2007, Alliance Canada expects to spend approximately $17.7 million, representing the Fund’s 50% interest, on capital expenditures. Of this amount, $11.5 million will be spent on maintenance capital including scheduled maintenance of Alliance Canada’s compressor units, pipeline maintenance and information related systems. Enhancement capital of $6.2 million will be spent on a number of asset optimization projects, including the continuation of the Alameda cooler enhancement project. In addition, Alliance is proposing a B.C. expansion project, increasing receipt capacity for existing shippers with natural gas receipts originating in Northeastern British Columbia. The Fund’s share of the total estimated cost for the project is $17.5 million.

Business Risks
The risks identified below are specific to Alliance Canada. General risks that affect the Fund as a whole are described under Risk Factors.

Exposure to Shippers
Alliance Canada is highly dependent upon the shippers for revenues from contracted capacity on the Alliance Canada system. The failure of the shippers to perform their contractual obligations under the TSAs could have an adverse effect on the cash flows and financial condition of Alliance Canada and could impair the ability of Alliance Canada to meet its debt obligations and make distributions to its limited partners. A prolonged economic downturn in the energy industry, significant reductions in the supply of natural gas in the Western Canadian Sedimentary Basin, competition from alternative sources of natural gas supply and from other providers of natural gas transportation services, and the price of and demand for natural gas and natural gas transportation services in markets served by Alliance Canada, among other things, could impact the ability of some or all of the shippers to fulfill their obligations under the TSAs.

The TSAs obligate the shippers to pay reservation charges regardless of whether they transport natural gas on the Alliance System. The shipper’s obligations are subject to limited rights to receive reservation charge credits to the extent Alliance Canada is unable, for any reason related solely to the physical capability of the Alliance Canada pipeline, to transport volumes of natural gas up to the shipper’s contracted capacity. As a result, Alliance Canada’s profitability and its ability to make distributions to owners will generally depend on the shippers’ financial condition and ability to pay rather than upon the amount of natural gas transported. To reduce this risk, Alliance Canada has put certain controls in place to monitor the creditworthiness of each shipper.

The revenue generated by Alliance Canada is derived from tolls that are based on the TSAs. Approximately 98.5% of the firm service contract capacity is long term, which, unless renewed, will terminate at the end of the primary term in November 2015. Beyond such primary term, the decision by shippers to renew will depend on numerous factors, including the level of demand for natural gas in the geographic areas which can be served by pipelines and distribution facilities connected to the Alliance System, the ability and willingness of shippers to meet such demand, the competitiveness of Alliance Canada’s toll structure and upon general market conditions. If the shippers do not renew their TSAs, Alliance Canada may be forced to lower its tolls to retain or replace such shippers.

Alliance Canada is exposed to economic risk associated with the recovery of capital beyond the primary term of the TSAs. There is no guarantee that the shippers will extend their contracts beyond the primary term nor is there any assurance that Alliance Canada will be able to replace the shippers under terms to recover the then undepreciated capital cost. When the primary term of the TSAs expires in November 2015, Alliance Canada is expected to have recovered approximately 55% of the capital cost of the Alliance Canada pipeline through depreciation charges collected from shippers. In order to mitigate the risk of non-renewal, there are financial incentives for shippers to renew their contracts beyond the primary term.

Terms of the TSAs
Pursuant to the terms of the TSAs and in accordance with the negotiated toll principles accepted by the NEB, Alliance Canada is permitted to recover from the shippers costs incurred in the construction and operation of the Alliance System that are actually and reasonably incurred. There can be no certainty that all costs incurred by Alliance Canada will be recoverable through the transportation tolls. In addition, transportation tolls are set in advance, based on anticipated expenses, and adjusted periodically to reflect actual expenses. If actual expenses exceed the estimate in any period, there is no assurance that the shortfall can be recovered from shippers in subsequent periods.

Dependence on Interconnected Systems and Facilities
The Alliance System operates as an integrated pipeline. Therefore, any matters, which limit or restrict the ability of Alliance US to operate, will equally affect the ability of Alliance Canada to operate. Alliance Canada may have no control over matters, which may adversely affect Alliance US. In addition, the debt obligations of Alliance Canada and Alliance US are cross-collateralized. Therefore, in the event of a default of the debt obligations of either Alliance Canada or Alliance US, the assets of the non-defaulting entity may be used to satisfy the debts of the defaulting entity. The debt obligations of both Alliance Canada and Alliance US also contain default provisions related to the occurrence of certain bankruptcy, insolvency or other adverse events affecting Aux Sable Extraction LP, where those events would have a material adverse effect on Alliance.

There is a significant degree of dependency on Aux Sable Liquid Products LP (Aux Sable), a related party to Alliance Canada through common ownership interest, to satisfy its requirements to provide heat content management services to Alliance US. Should Aux Sable fail to provide heat content management services for any reason, Alliance Canada may experience operational issues, including an interruption or curtailment of transportation service on the Alliance System. It is not possible to predict the extent or duration of these operational problems or their precise financial or operational effect on Alliance Canada.

There is no assurance that the Aux Sable Extraction Facility will operate uninterrupted or will continue business operations indefinitely. Aux Sable’s business involves processing, refining and marketing natural gas liquids (NGLs) and its profitability will depend in part on the differential in the price of natural gas versus the price of various NGLs in its market area.

Competition
The Alliance System faces competition in pipeline transportation from both existing and proposed projects. Any new or upgraded pipelines could either allow shippers and competing pipelines to have greater access to natural gas markets or offer natural gas transportation services that are more desirable to shippers than those provided by Alliance Canada because of location, facilities or other factors. In addition, these pipelines could charge tolls or provide service to locations that result in greater net profit for shippers with the effect of forcing Alliance Canada to lower its transportation tolls upon the expiration of the primary term of the TSAs or otherwise, to avoid losing shippers, thereby reducing Alliance Canada’s cash flow from the TSAs.

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