Canada is poised to become a hotbed of M&A activity in 2007 thanks to the upcoming demise of tax breaks for trusts, but not the demise of the trusts, says Alan Tambosso, president of Calgary-based M&A and finance firm Sayer Energy Advisors.

"Continued uncertainty in the trust sector does not mean that the oil and natural gas royalty income trusts are necessarily out of the M&A game altogether," Tambosso says. "Lots of product means the availability of accretive acquisitions for the trusts, just as it does for other companies."

Many of them will combine in the coming year, however, he expects. "One obvious effect of the taxation issue will be a consolidation of the trusts, giving new life to the trust 'merger mania' that appeared to be under way early last spring," Tambosso says.

"The three trust mergers that occurred in 2006 were consolidations that were natural consequences to a general lack of available product. The focus on trust mergers in 2007 should be the acquisition of trusts that are strictly acquirers by trusts that have a history of developing and drilling prospects internally."

Acquisition-focused trusts will have to add an exploration and development focus to their strategy, he says. "Developing and executing an internal exploration and development strategy is not as simple as flipping a switch.

"Key people must be hired, land and seismic must be acquired, and a full-cycle exploration and development strategy must be instituted. Many trusts will simply sell out rather than attempt to make this key shift in strategy."

Canada has a viable M&A market without the acquisitive trusts, Tambosso adds. More than 75% of deals that were bigger than C$5 million in 2006 did not involve the trusts and accounted for about half of the C$30 billion in total M&A activity in 2006, he says.

"Vendors should acknowledge this market in 2007 by packaging assets in smaller sizes and with a more regional focus than recent divestiture packages that have been targeted to a trust audience," he says. "Asset packages that are smaller in size and more regionally focused are likely to attract attention from junior companies."

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