MORGUARD REAL ESTATE INVESTMENT TRUST

Transcription

1 MORGUARD REAL ESTATE INVESTMENT TRUST DECEMBER 31, 2015 CONSOLIDATED FINANCIAL STATEMENTS

2 INDEPENDENT AUDITORS' REPORT TO THE UNITHOLDERS OF We have audited the accompanying consolidated financial statements of Morguard Real Estate Investment Trust, which comprise the consolidated balance sheets as at December 31, 2015 and 2014, and the consolidated statement of income and comprehensive income, unitholders equity and cash flows for the years then ended and a summary of significant accounting policies and other explanatory information. MANAGEMENTS' RESPONSIBILITY FOR THE CONSOLIDATED FINANCIAL STATEMENTS Management is responsible for the preparation and fair presentation of these consolidated financial statements in accordance with International Financial Reporting Standards, and for such internal control as management determines is necessary to enable the preparation of consolidated financial statements that are free from material misstatement, whether due to fraud or error. AUDITOR'S RESPONSIBILITY Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with Canadian generally accepted auditing standards. Those standards require that we comply with ethical requirements and plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free from material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the consolidated financial statements. The procedures selected depend on the auditors judgment, including the assessment of the risks of material misstatement of the consolidated financial statements, whether due to fraud or error. In making those risk assessments, the auditors consider internal control relevant to the entity's preparation and fair presentation of the consolidated financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity's internal control. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of accounting estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that the audit evidence we have obtained in our audits is sufficient and appropriate to provide a basis for our audit opinion. OPINION In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of Morguard Real Estate Investment Trust as at December 31, 2015 and 2014, and its financial performance and its cash flows for the years then ended in accordance with International Financial Reporting Standards. Ernst & Young LLP Chartered Professional Accountants Licensed Public Accountants Toronto, Canada February 17, 2016 MORGUARD.COM 2

3 BALANCE SHEETS In thousands of Canadian dollars As at December 31 Notes ASSETS Non-current assets Real estate properties 5 $2,847,398 $2,866,235 Equity-accounted investments 6 32,509 30,770 2,879,907 2,897,005 Current assets Amounts receivable 12(b),(e) 13,011 42,635 Prepaid expenses and other assets 955 1,054 Cash and cash equivalents 26,282 12,612 40,248 56,301 Real estate properties held for sale 20 63,190 Total assets $2,920,155 $3,016,496 LIABILITIES AND UNITHOLDERS EQUITY Non-current liabilities Mortgages payable 8 $1,082,799 $1,111,360 Convertible debentures payable 9 147, ,541 Other liabilities 3,517 4,111 1,234,014 1,262,012 Current liabilities Mortgages payable 8 89,536 71,096 Accounts payable and accrued liabilities 12(a) 40,465 41,650 Bank indebtedness 10 4, , ,673 Mortgages payable on real estate properties held for sale 20 29,730 Total liabilities 1,364,015 1,409,415 Unitholders' equity 14 1,556,140 1,607,081 $2,920,155 $3,016,496 Commitments and contingencies 17 See accompanying notes to the consolidated financial statements. On behalf of the Trustees: David King, Chairman of the Board of Trustees Paul Cobb, Trustee MORGUARD.COM 3

4 STATEMENT OF INCOME AND COMPREHENSIVE INCOME In thousands of Canadian dollars, except per unit amounts For the year ended December 31 Notes Revenue from real estate properties $290,982 $298,461 Property operating expenses 13(a) 115, ,139 Property management fees 12(a) 9,406 9,583 Net operating income 165, ,739 Interest expense 11 58,981 62,000 General and administrative 13(b) 4,367 5,414 Other income (571) (375) Income before fair value (losses)/gains, loss on sale of real estate properties and net income/(loss) from equity-accounted investments 103, ,700 Fair value (losses)/gains on real estate properties 5 (78,977) 11,239 Loss on sale of real estate properties (37) Net income/(loss) from equity-accounted investments 6 2,441 (20) Net income for the year 26, ,882 OTHER COMPREHENSIVE INCOME Items to be reclassified to profit or loss in subsequent periods: Amortization cash flow hedges 935 1,010 Comprehensive income $27,552 $114,892 NET INCOME PER UNIT 14(d) Basic $0.43 $1.83 Diluted (1) $0.43 $1.72 (1) The calculation of diluted net income per unit excludes the impact of the convertible debentures for the year ended December 31, 2015, as their inclusion would be anti-dilutive. See accompanying notes to the consolidated financial statements. MORGUARD.COM 4

5 STATEMENT OF UNITHOLDERS' EQUITY In thousands of Canadian dollars, except number of units Number of Units Issue of Units Retained Earnings Equity Component of Convertible Debentures Contributed Surplus Accumulated Other Comprehensive Loss Total Unitholders Equity Balance, at January 1, ,221,836 $625,824 $927,184 $1,526 $338 ($2,134) $1,552,738 Repurchase of units (100,000) (1,006) (667) (1,673) Debentures converted Net income for the year 113, ,882 Distributions to unitholders (58,891) (58,891) Issue of units DRIP 45, (791) Amortization cash flow hedges 1,010 1,010 Balance, at December 31, ,167, , ,717 1, (1,124) 1,607,081 Repurchase of units (1,328,022) (13,368) (6,673) (20,041) Net income for the year 26,617 26,617 Distributions to unitholders (58,452) (58,452) Issue of units DRIP 52, (788) Amortization cash flow hedges Balance, at December 31, ,891,654 $613,044 $941,421 $1,526 $338 ($189) $1,556,140 See accompanying notes to the consolidated financial statements. MORGUARD.COM 5

6 STATEMENT OF CASH FLOW In thousands of Canadian dollars For the year ended December 31 Notes OPERATING ACTIVITIES Net income for the year $26,617 $113,882 Items not affecting operating cash 15(a) 76,678 (10,567) Distributions from equity-accounted investments ,518 Deferred leasing cost additions (3,586) (3,892) Tenant incentive additions (398) (114) Net change in non-cash operating assets and liabilities 15(b) (2,056) 2,790 Cash provided by operating activities 97, ,617 FINANCING ACTIVITIES Proceeds from new mortgages 56, ,177 Repayment of principal Repayments on maturity (36,925) (219,157) Repayment due to early extinguishment of mortgage (6,125) (13,747) Principal instalment repayments (35,644) (33,677) Amortization of fair value adjustments (10) (131) Financing cost on new mortgages (278) (890) Decrease in bank indebtedness 10 (4,927) (73) Issue of loan payable 12(b) 60,000 Repayment of loan payable 12(b) (60,000) Distributions to unitholders (58,452) (58,891) Units repurchased for cancellation (20,041) (1,673) Cash used in financing activities (106,247) (59,062) INVESTING ACTIVITIES Acquisition of loan receivable 12(b) (36,000) (30,000) Settlement of loan receivable 12(b) 66,000 Capital expenditures on real estate properties (42,327) (40,671) Acquisition of real estate properties (1,474) (16,354) Net proceeds from sale of real estate properties 15(b) 35,761 41,005 Cash provided by/(used in) investing activities 21,960 (46,020) Net change in cash and cash equivalents during the year 13,670 (465) Cash and cash equivalents, beginning of year 12,612 13,077 Cash and cash equivalents, end of year $26,282 $12,612 See accompanying notes to the consolidated financial statements. MORGUARD.COM 6

7 NOTES For the year ended December 31, 2015 In thousands of Canadian dollars, except units, per unit amounts and where otherwise noted NOTE 1 NATURE AND DESCRIPTION OF THE TRUST Morguard Real Estate Investment Trust ( the Trust ) is a closed-end real estate investment trust established on June 18, 1997, under the laws of the Province of Ontario. The Trust commenced active operations on October 14, The Trust owns a diverse portfolio of retail, office and industrial properties located in six Canadian provinces. The Trust s head office is located at 55 City Centre Drive, Suite 1000, Mississauga, Ontario, L5B 1M3. The Trust has a property management agreement with Morguard Investments Limited ( MIL ), a subsidiary of Morguard Corporation ( Morguard ). Morguard is the parent company of the Trust, owning 50.41% of the outstanding units, as at December 31, Morguard is a real estate company, which owns a diversified portfolio of multi-unit residential, retail, hotel, office and industrial properties. Morguard also provides advisory and management services to institutional and other investors. NOTE 2 STATEMENT OF COMPLIANCE AND SIGNIFICANT ACCOUNTING POLICIES The consolidated financial statements of the Trust have been prepared in accordance with International Financial Reporting Standards ( IFRS ) as issued by the International Accounting Standards Board. The consolidated financial statements were approved and authorized for issue by the Board of Trustees on February 17, Basis of Presentation The Trust's consolidated financial statements are prepared on a going-concern basis and have been presented in Canadian dollars rounded to the nearest thousand unless otherwise indicated. The consolidated financial statements are prepared on a historical cost basis, except for real estate properties and certain financial instruments that are measured at fair value. The accounting policies set out below have been applied consistently to all periods presented in these consolidated financial statements unless otherwise indicated. Basis of Consolidation The consolidated financial statements include the financial statements of the Trust, as well as the entities that are controlled by the Trust ("subsidiaries"). The Trust controls an entity when the Trust is exposed to, or has rights to, variable returns from its involvement with the entity and has the ability to affect those returns through its power over the entity. Subsidiaries are fully consolidated from the date of acquisition or the date on which the Trust obtains control and are deconsolidated from the date that control ceases. Inter-company transactions, balances, unrealized losses and unrealized gains on transactions between the Trust and its subsidiaries are eliminated. Real Estate Properties Income Producing Properties Income producing properties include retail, office and industrial properties held to earn rental income and for capital appreciation. Income producing properties, where not acquired in a business combination, are measured initially at cost including transaction costs. Transaction costs include transfer taxes and professional fees for legal and other services. Subsequent to initial recognition, income producing properties are recorded at fair value, determined based on available market evidence, at the consolidated balance sheet date. The changes in fair value during each reporting period are recorded in the consolidated statements of income and comprehensive income. In order to avoid double counting, the carrying value of income producing properties includes straight-line rent receivable, tenant improvements, tenant incentives and direct leasing costs since these amounts are incorporated in the appraised values of real estate properties. MORGUARD.COM 7

8 Tenant improvements include costs incurred to meet the Trust s lease obligations and are classified as either tenant improvements owned by the landlord or tenant incentives. When the obligation is determined to be an improvement that benefits the landlord and is owned by the landlord, the improvement is accounted for as a capital expenditure and included in the carrying amount of income producing properties on the consolidated balance sheets. Tenant incentives are inducements given to prospective tenants to move into the Trust's properties or to existing tenants to extend the lease term. Tenant incentive receivables are included in the carrying value of real estate properties and are deducted from rental revenue on a straight-line basis over the term of the tenant s lease. Properties Under Development The cost of properties under development includes all expenditures incurred in connection with the acquisition, including all direct development costs, realty taxes and other costs of the building to prepare it for its productive use, the applicable portion of general and administrative expenses and borrowing costs directly attributable to the development. Borrowing costs associated with direct expenditures on properties under development or redevelopment are capitalized. Borrowing costs are also capitalized on the purchase cost of a site or property acquired specifically for redevelopment in the short term if the activities necessary to prepare the asset for development or redevelopment are in progress. The amount of borrowing costs capitalized is determined by reference to interest incurred on debt specific to the development project. Borrowing costs are capitalized from the commencement of the development until the date of practical completion. The capitalization of borrowing costs is suspended if there are prolonged periods when development activity is interrupted. The Trust considers practical completion to have occurred when the property is capable of operating in the manner intended by management. Generally, this consideration occurs upon completion of construction and receipt of all necessary occupancy and other material permits. Where the Trust has pre-leased space as at, or prior to, the start of the development and the lease requires the Trust to construct tenant improvements that enhance the value of the property, practical completion is considered to occur on completion of such improvements. Properties under development are measured at fair value with changes in fair value being recognized in the consolidated statements of income and comprehensive income. Interests in Joint Arrangements The Trust views its interests in joint arrangements and those for which the Trust is entitled to only the net assets as joint ventures, which are accounted for using the equity method of accounting. Those joint arrangements in which the Trust is entitled to its share of the assets and liabilities are accounted for as joint operations, and the Trust recognizes its rights to and obligations for the assets, liabilities, revenue and expenses of the joint operation. Cash and Cash Equivalents Cash and cash equivalents include cash on hand, balances with banks and short-term deposits with remaining maturities at the time of acquisition of three months or less. Bank borrowings are considered to be financing activities. Provisions A provision is a liability of uncertain timing or amount. Provisions are recognized when the Trust has a present legal or constructive obligation as a result of past events, it is probable that an outflow of resources will be required to settle the obligation and the amount can be reliably estimated. Provisions are measured at the present value for the expenditures expected to be required to settle the obligation using a discount rate that reflects current market assessment of the time value of money and the risks specific to the obligation. Provisions are remeasured at each consolidated balance sheet date using the current discount rate. The increase in the provision due to passage of time is recognized as interest expense. Revenue Recognition The Trust has retained substantially all of the risks and benefits of ownership of its real estate properties and, therefore, accounts for leases with its tenants as operating leases. Revenue from properties includes rents from tenants under leases, percentage participation rents, property tax and operating cost recoveries, lease cancellation fees, leasing concessions, parking income and incidental income. Percentage participation rents are accrued based on sales estimates submitted by tenants if the tenant anticipates attaining the minimum sales level stipulated in the tenant lease. All other rental revenue is recognized in accordance with each lease. Revenue from real estate properties recorded in the consolidated statements of income and comprehensive income during free rent periods represents future cash receipts and is reflected in the consolidated balance sheets in the carrying value of real estate properties and recognized in the consolidated statements of income and comprehensive income on a straight- MORGUARD.COM 8

9 line basis over the initial term of the lease. The Trust accounts for stepped rents on a straight-line basis, which are reflected in the consolidated balance sheets in the carrying value of real estate properties and recognized in the consolidated statements of income and comprehensive income over the initial term of the lease. Rents recorded in advance of cash received are included in amounts receivable. Revenue from properties under development is recognized upon substantial completion of the development project and when the property is capable of operating in the manner intended by management, which generally occurs upon completion of construction and receipt of all necessary occupancy and other material permits. Assets Held for Sale Real estate properties held for sale are assets that the Trust intends to sell rather than hold on a long-term basis and meet the criteria established in IFRS 5 for separate classification. Non-current assets and groups of assets and liabilities, that comprise disposal groups, are categorized as assets held for sale where the asset or disposal group is available for immediate sale in its present condition and the sale is highly probable. Comprehensive Income Comprehensive income is defined as the change in equity from transactions and other events from non-owner sources. Other comprehensive income ("OCI") refers to items recognized in comprehensive income that are excluded from net income. Accordingly, the Trust prepares consolidated statements of comprehensive income and includes accumulated other comprehensive income as a component of unitholders equity within the consolidated balance sheets. Per Unit Calculation Basic net income per unit is calculated by dividing net income by the weighted average number of units outstanding for the year. The dilutive effect of the convertible debentures is determined by considering both the holders' option to convert these debentures into units and the issuer s option to redeem these debentures by issuing units. The diluted net income per unit calculation considers both of these options and discloses the more dilutive of the two options. Stock-Based Compensation Morguard has granted certain officers of the Trust stock appreciation rights ( SARs ), which entitle these officers to receive a cash payment equal to the excess of the market price of Morguard s common shares at the time of exercise over the exercise price of the right. The SARs granted generally vest over 10 years. The Trust accounts for the SARs plan using the fair value method. Under this method, compensation expense for the SARs plan is measured at fair value at the grant date using the Black-Scholes option pricing model and recognized over the vesting period. The liability is measured at each reporting period at fair value with changes in fair value recorded in the consolidated statements of income and comprehensive income. Financial Instruments Recognition and Measurement of Financial Instruments Financial assets must be classified into one of the following categories: held to maturity, loans and receivables, fair value through profit or loss ("FVTPL") or available-for-sale assets. Financial liabilities, including FVTPL, are classified as other financial liabilities. All financial instruments, including derivatives, are measured in the consolidated balance sheets at fair value except for held-to-maturity loans and receivables and other financial liabilities that are measured at amortized cost using the effective interest rate method. The Trust classifies its cash and cash equivalents and amounts receivable as loans and receivables, which are measured at amortized cost. Bank indebtedness, accounts payable and accrued liabilities and mortgages payable and convertible debentures are classified as other financial liabilities, which are measured at amortized cost. Derivatives and Embedded Derivatives All derivative instruments, including embedded derivatives, are recorded in the consolidated balance sheets at fair value unless exempted from derivative treatment as a normal purchase and sale. All changes in their fair value are recorded in income unless cash flow hedge accounting is used, in which case changes in fair value are recorded in OCI to the extent of hedge effectiveness. Financial guarantees are recorded at their inception date fair value and reversed as the Trust is relieved of its guarantee obligations. Hedges Derivative financial instruments are utilized to reduce interest rate risk on the Trust s debt. Interest rate swap agreements are used to manage the fixed and floating interest rate mix of the Trust s total debt portfolio and related overall cost of MORGUARD.COM 9

10 borrowing. Such instruments are designated, and are effective, as hedges of certain of the Trust s interest rate risk exposures. The interest rate swap agreements involve the periodic exchange of payments without the exchange of the notional principal amount upon which the payments are based. The net receipt or payment of interest will be recorded as an adjustment to interest expense in each period. Gains and losses on termination of interest rate swap agreements that were designated, and were effective, as hedges of certain interest rate risk exposures are included in accumulated other comprehensive income and are amortized in interest expense over the remaining term of the original contract life of the terminated swap agreement. Interest expense on the related debt obligation together with this amortization reflects the overall costs of such borrowing. Transaction Costs Direct and indirect financing costs that are attributable to the issue of financial liabilities are presented as a reduction from the carrying amount of the related debt and are amortized using the effective interest rate method over the terms of the related debt. These costs include interest, amortization of discounts or premiums relating to borrowings, fees and commissions paid to lenders, agents, brokers and advisers, and transfer taxes and duties that are incurred in connection with the arrangement of borrowings. Fair Value The fair value of a financial instrument is the consideration that could be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The fair value measurement is based on the presumption that the transaction to sell the asset or transfer the liability takes place either (i) in the principal market for the asset or liability or (ii) in the absence of a principal market, in the most advantageous market for the asset or liability. Fair value measurements recognized in the consolidated balance sheets are categorized using a fair value hierarchy that reflects the significance of inputs used in determining the fair values: Level 1: Quoted prices in active markets for identical assets or liabilities. Level 2: Quoted prices in active markets for similar assets or liabilities or valuation techniques where significant inputs are based on observable market data. Level 3: Valuation techniques for which any significant input is not based on observable market data. Each type of fair value is categorized based on the lowest-level input that is significant to the fair value measurement in its entirety. Critical Judgments in Applying Accounting Policies The following are the critical judgments that have been made in applying the Trust s accounting policies and that have the most significant effect on the amounts in the consolidated financial statements: Real Estate Properties The Trust s accounting policies relating to real estate properties are described above. In applying these policies, judgment has been applied in determining whether certain costs are additions to the carrying amount of the property, in distinguishing between tenant incentives and tenant improvements and, for properties under development, identifying the point at which practical completion of the property occurs and identifying the directly attributable borrowing costs to be included in the carrying value of the development property. Judgment is also applied in determining the extent and frequency of independent appraisals. The key assumptions are further described in Note 5. Leases The Trust makes judgments in determining whether certain leases, in particular those leases with long contractual terms where the lessee is the sole tenant in a property and long-term ground leases where the Trust is the lessee, are operating or finance leases. The Trust has determined that all of its tenant leases and long-term ground leases are operating leases. Critical Accounting Estimates and Assumptions The preparation of the consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as at the date of the consolidated financial statements and reported amounts of revenue and expenses during the reporting periods. In determining estimates of fair market value for its real estate assets, the assumptions underlying estimated values are limited MORGUARD.COM 10

11 by the availability of comparable data and the uncertainty of predictions concerning future events. Should the underlying assumptions change, actual results could differ from the estimated amounts. In addition, the computation of cost reimbursements from tenants for realty taxes, insurance and common area maintenance charges is complex and involves a number of estimates, including the interpretation of terms and other tenant lease provisions. Tenant leases are not consistent in dealing with such cost reimbursements, and variations in computations can exist. Adjustments are made throughout the year to these cost recovery revenues based upon the Trust s best estimate of the final amounts to be billed and collected. NOTE 3 ADOPTION OF ACCOUNTING STANDARDS IAS 40, Investment Property ( IAS 40 ) On January 1, 2015, the Trust adopted an amendment with respect to the description of ancillary services in IAS 40, which differentiates between investment property and owner-occupied property (i.e., property, plant and equipment). The amendment is applied prospectively and clarifies that IFRS 3, Business Combinations, and not the description of ancillary services in IAS 40, is used to determine if the transaction is the purchase of an asset or a business combination. This amendment did not result in a material impact to the consolidated financial statements. IFRS 8, Operating Segments ( IFRS 8 ) On January 1, 2015, the Trust adopted the amendments to IFRS 8. The amendments are applied retrospectively and clarify that: An entity must disclose the judgments made by management in applying the aggregation criteria in paragraph 12 of IFRS 8, including a brief description of operating segments that have been aggregated and the economic characteristics (e.g., sales and gross margins) used to assess whether the segments are similar. The reconciliation of segment assets to total assets is required to be disclosed only if the reconciliation is reported to the chief operating decision-maker, similar to the required disclosure for segment liabilities. These amendments did not result in a material impact to the consolidated financial statements. NOTE 4 FUTURE ACCOUNTING POLICY CHANGE Amendments to IFRS 11, Joint Arrangements ( IFRS 11 ): Accounting for Acquisitions of Interests The amendments to IFRS 11 require that a joint operator accounting for the acquisition of an interest in a joint operation, in which the activity of the joint operation constitutes a business, must apply the relevant IFRS 3 principles for business combinations accounting. The amendments also clarify that a previously held interest in a joint operation is not remeasured on the acquisition of an additional interest in the same joint operation while joint control is retained. In addition, a scope exclusion has been added to IFRS 11 to specify that the amendments do not apply when the parties sharing joint control, including the reporting entity, are under common control of the same ultimate controlling party. The amendments apply to both the acquisition of the initial interest in a joint operation and the acquisition of any additional interests in the same joint operation and are prospectively effective for annual periods beginning on or after January 1, 2016, with early adoption permitted. These amendments are not expected to have any impact on the Trust. Amendments to IAS 1, Presentation of Financial Statements ( IAS 1 ): Disclosure Initiative The amendments to IAS 1 clarify rather than significantly change existing IAS 1 requirements. The amendments clarify: The materiality requirements in IAS 1; That specific line items in the statement(s) of profit or loss and OCI and the statement of financial position may be disaggregated; That entities have flexibility as to the order in which they present the notes to financial statements; and That the share of OCI of associates and joint ventures accounted for using the equity method must be presented in aggregate as a single line item and classified between those items that will or will not be subsequently reclassified to profit or loss. Furthermore, the amendments clarify the requirements that apply when additional subtotals are presented in the statement of financial position and the statement(s) of profit or loss and OCI. These amendments are effective for annual periods MORGUARD.COM 11

12 beginning on or after January 1, 2016, with early adoption permitted. These amendments are not expected to have any impact on the Trust. IFRS 15, Revenue from Contracts with Customers ( IFRS 15 ) In May 2014, the IASB issued IFRS 15, a single comprehensive model to account for revenue arising from contracts with customers. The objective of IFRS 15 is to establish the principles that an entity shall apply to report useful information to users of financial statements about the nature, amount, timing and uncertainty of revenue and cash flows arising from a contract with a customer. The core principle of the standard is that an entity will recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects consideration to which the entity expects to be entitled in exchange for those goods and services. The standard has a mandatory effective date for annual periods beginning on or after January 1, 2018, with earlier application permitted. The Trust is currently assessing the impact of IFRS 15 on its consolidated financial statements. IFRS 9 (2014), Financial Instruments ( IFRS 9 ) The final version of IFRS 9 was issued by the IASB in July 2014 and will replace IAS 39, Financial Instruments: Recognition and Measurement ( IAS 39 ). IFRS 9 addresses the classification and measurement of all financial assets and liabilities within the scope of the current IAS 39 and a new expected loss impairment model that will require more timely recognition of expected credit losses and a substantially reformed model for hedge accounting. Included also are the requirements to measure debt-based financial assets at either amortized cost or fair value through profit or loss and to measure equity-based financial assets either as held for trading or as fair value through other comprehensive income ("FVTOCI"). No amounts are reclassified out of OCI if the FVTOCI option is elected. Additionally, embedded derivatives in financial assets would no longer be bifurcated and accounted for separately under IFRS 9. The standard has a mandatory effective date for annual periods beginning on or after January 1, 2018, with earlier application permitted. The Trust is currently assessing the impact of IFRS 9 on its consolidated financial statements. IFRS 16, Leases In January 2016, the IASB issued IFRS 16, "Leases". The new standard requires that for most leases, lessees must initially recognize a lease liability for the obligation to make lease payments and a corresponding right-of-use asset for the right to use the underlying asset for the lease term. Lessor accounting, however, remains largely unchanged, and the distinction between operating and finance leases is retained. This standard will be effective for annual periods beginning after January 1, 2019, with early adoption permitted so long as IFRS 15 has been adopted. The Trust is currently assessing the impact this new standard will have on its consolidated financial statements. NOTE 5 REAL ESTATE PROPERTIES Real estate properties consist of the following: As at December Income producing properties $2,816,124 $2,822,074 Properties under development 2,524 16,511 Land held for development 28,750 27,650 $2,847,398 $2,866,235 MORGUARD.COM 12

13 Reconciliations of the carrying amounts for real estate properties at the beginning and end of the current financial period are set out below: As at December 31, 2015 Income Producing Properties Properties Under Development Land Held for Development Total Real Estate Properties Balance as at December 31, 2014 $2,822,074 $16,511 $27,650 $2,866,235 Additions: Acquisitions and investments 1,474 1,474 Capital expenditures/capitalized costs 17,210 14, ,325 Tenant improvements, tenant incentives and commissions 13,925 13,925 Reclassifications 28,735 (28,735) Reclassification from properties held for sale 9,450 9,450 Fair value (losses)/gains (79,513) 733 (78,780) Other changes 2,769 2,769 Balance as at December 31, 2015 $2,816,124 $2,524 $28,750 $2,847,398 As at December 31, 2014 Income Producing Properties Properties Under Development Land Held for Development Total Real Estate Properties Balance as at December 31, 2013 $2,831,269 $20,839 $17,250 $2,869,358 Additions: Acquisitions and investments 23,935 23,935 Capital expenditures/capitalized costs 15,228 17,937 33,165 Tenant improvements, tenant incentives and commissions 11,512 11,512 Reclassifications (6,520) (3,610) 10,130 Reclassification to properties held for sale (48,540) (14,650) (63,190) Reclassification from equity-accounted investments 19,000 19,000 Disposition (41,042) (41,042) Fair value gains/(losses) 14,974 (4,005) ,239 Other changes 2,258 2,258 Balance as at December 31, 2014 $2,822,074 $16,511 $27,650 $2,866,235 Morguard Investments Limited (Note 12) provides appraisal services to the Trust. MIL s valuation team consists of Appraisal Institute of Canada ( AIC ) designated Accredited Appraiser Canadian Institute ( AACI ) members who are qualified to offer valuation and consulting services and expertise for all types of real property, all of whom are knowledgeable and have recent experience in the fair value techniques for investment properties. AACI designated members must adhere to AIC s Canadian Uniform Standards of Professional Appraisal Practice (CUSPAP) and undertake on-going professional development. Management reviews both the valuation processes and results at least once every quarter, in line with the Trust's quarterly reporting dates. Generally, the Trust s real estate properties are appraised using a number of approaches that typically include a discounted cash flow analysis, a direct capitalization approach and a direct comparison approach. The primary method of valuation used by the Trust is discounted cash flows. This approach involves determining the fair value of each income producing property based on, among other things, rental income from current leases and assumptions about rental income from future leases reflecting market conditions at the applicable consolidated balance sheet dates, less future cash outflows pertaining to the respective leases. Fair values are primarily determined by discounting the expected future cash flows, generally over a term of 10 years and including a terminal value based on the application of a capitalization rate to estimated year 11 net operating income. MORGUARD.COM 13

14 The table below provides further details of the average discount rate and terminal cap rate by business segments: Maximum December 31, 2015 December 31, 2014 Minimum Weighted Average Maximum Minimum Weighted Average RETAIL Discount rate 8.3% 6.0% 6.8% 8.5% 6.0% 6.8% Terminal cap rate 7.8% 5.3% 6.0% 7.8% 5.3% 6.0% Stabilized occupancy 100.0% 90.0% % 100.0% 90.0% % OFFICE Discount rate 8.0% 6.0% 6.7% 7.8% 6.0% 6.8% Terminal cap rate 7.5% 5.0% 5.9% 7.5% 5.3% 6.0% Stabilized occupancy 100.0% 94.3% % 100.0% 94.3% % INDUSTRIAL Discount rate 7.5% 7.0% 7.2% 7.5% 7.0% 7.4% Terminal cap rate 7.0% 6.5% 6.8% 7.3% 6.5% 6.9% Stabilized occupancy 100.0% 95.0% % 100.0% 95.0% % Using the direct capitalization income approach to corroborate the discounted cash flow method, the properties were valued using capitalization rates in the range of 5.0% to 7.5% applied to a stabilized net operating income ( % to 7.5%), resulting in an overall weighted average capitalization rate of 5.8% ( %). The total stabilized annual net operating income as at December 31, 2015, was $161,118 (2014 $165,736). Values are most sensitive to changes in discount rates, capitalization rates and timing or variability of cash flow. Excluded from the above analysis is a retail property located in British Columbia where the highest and best use is a redevelopment to mixed residential and commercial use. As at December 31, 2015, the value of the property is in the underlying land value with minimal holding income, and it has been valued using recent comparable land sales. Fair values are most sensitive to changes in discount rates, capitalization rates and stabilized or forecasted net operating income. Generally an increase in net operating income will result in an increase in the fair value of the income producing properties, and an increase in capitalization rates will result in a decrease in the fair value of the properties. The capitalization rate magnifies the effect of a change in net operating income, with a lower capitalization rate resulting in a greater impact to the fair value of the property than a higher capitalization rate. If the weighted average stabilized capitalization rate were to increase or decrease by 25 basis points, the value of the income producing properties as at December 31, 2015, would decrease by $114,789 or increase by $125,131, respectively. Dispositions The following table provides details of dispositions completed by the Trust during the reporting period: Date Property Sale Mortgage Operating Property Name Sold Type GLA Price Payable Income Lesmill, ON May 15, 2015 Industrial 27,577 $6,350 $ $ Finch, ON April 1, 2015 Industrial 210,123 $10,000 $6,125 $ Sparks/361 Queen, ON February 17, 2015 Office/Hotel 86,372 $37,692 $17,835 $150 Cedar Pointe Business Park, ON July 2, 2014 Industrial 350,797 $41,900 $13,747 $1,218 Net MORGUARD.COM 14

15 Acquisitions On June 4, 2014, the Trust and a major Canadian pension fund each acquired a 50% interest in a 35,000 square foot office building located in Ottawa, Ontario, for a total purchase price of $4,037 plus other acquisition costs of $128. The Trust accounted for the purchase as an asset acquisition. The allocation of the total cost for the Trust s 50% acquisition is as follows: Total acquisition costs: Purchase price cash $4,037 Transaction costs 128 Total purchase price $4,165 On July 25, 2014, the Trust acquired the remaining 50% interest in a limited partnership that owns and operates a 78,000 square foot Class A office complex located in Calgary, Alberta, for a total purchase price of $19,000 plus other costs of $77. The Trust accounted for the purchase as a business combination. The allocation of the total cost for the Trust s acquisition is as follows: Total acquisition costs: Purchase price cash $11,549 Purchase price assumed working capital 7,451 Other costs 77 Total purchase price $19,077 NOTE 6 EQUITY-ACCOUNTED INVESTMENTS On December 22, 2011, the Trust and a major Canadian pension fund each acquired a 50% interest in a limited partnership that owns and operates a 304,000 square foot Class A office complex located in downtown Edmonton, Alberta, in which the Trust has a total original net investment of $28,008. The Trust has joint control over the limited partnership and accounts for its investment using the equity method. On December 22, 2011, the Trust and a major Canadian pension fund each acquired a 50% interest in a limited partnership that owns and operates a 78,000 square foot Class A office complex located in Calgary, Alberta, in which the Trust had a total original net investment of $8,666. The Trust had joint control over the limited partnership and accounted for its investment using the equity method. The Trust acquired the remaining 50% interest in this limited partnership on July 25, 2014, and consolidates its 100% interest. As at December Balance, beginning of year $30,770 $44,857 Equity income/(loss) 2,441 (20) Distributions to partners (2,360) (2,518) Contributions from partners 1,658 Reclassification adjustments on purchase: Real estate properties (19,000) Mortgages payable 7,581 Other working capital (130) Balance, end of year $32,509 $30,770 MORGUARD.COM 15

16 The following details the Trust s share of the limited partnerships' aggregated assets, liabilities and results of operations accounted for under the equity method for the following periods: As at December Real estate properties $61,950 $62,750 Current assets 1, Total assets $63,342 $63,044 Non-current liabilities $28,306 $29,225 Current liabilities 2,527 3,049 Total liabilities $30,833 $32,274 For the year ended December Revenue from real estate properties $6,561 $7,759 Property operating expenses 2,172 2,613 Net operating income 4,389 5,146 Other expenses (1,157) (1,330) Fair value losses on real estate properties (791) (3,836) Net income/(loss) for the year $2,441 ($20) The real estate properties included above in the Trust's equity-accounted investments are appraised using a number of approaches that typically include a discounted cash flow analysis, a direct capitalization approach and a direct comparison approach. As at December 31, 2015, the property was valued using a discount rate of 7.0% ( %), a terminal cap rate of 6.3% ( %) and a stabilized cap rate of 7.0% ( %). The stabilized annual net operating income as at December 31, 2015, was $4,337 (2014 $4,236). NOTE 7 CO-OWNERSHIP INTERESTS The Trust is a co-owner in several properties, listed below, that are subject to joint control based on the Trust's decisionmaking authority with regards to the relevant activities of the properties. These co-ownerships have been classified as joint operations and, accordingly, the Trust recognizes its rights to and obligations for the assets, liabilities, revenue and expenses of these co-ownerships in the respective lines in the consolidated financial statements. Property Trust's Ownership Share Jointly-Controlled Operations Location Type Third Street Calgary, AB Office 50% 50% Scotia Place Edmonton, AB Office 20% 20% Prairie Mall Grande Prairie, AB Retail 50% 50% Heritage Place Ottawa, ON Office 50% 50% Standard Life Centre Ottawa, ON Office 50% 50% 77 Bloor Toronto, ON Office 50% 50% Woodbridge Square Woodbridge, ON Retail 50% 50% 825 Des Erables Salaberry-de-Valleyfield, QC Industrial 50% 50% Place Innovation St. Laurent, QC Office 50% 50% Dispositions (see Notes 5 and 20) 350 Sparks Ottawa, ON Office 50% 361 Queen Ottawa, ON Hotel 50% MORGUARD.COM 16

17 The following amounts, included in these consolidated financial statements, represent the Trust s proportionate share of the assets and liabilities of the nine co-ownerships as at December 31, 2015, and the 11 co-ownerships as at December 31, 2014, and the results of operations for the years ended December 31, 2015, and 2014: As at December Assets $490,910 $483,792 Assets properties held for sale 38,531 Liabilities 198, ,192 Liabilities properties held for sale 18,803 For the year ended December Revenue $55,270 $57,151 Expenses 34,223 35,924 Income before fair value adjustments 21,047 21,227 Fair value losses on real estate properties (3,749) (10,434) Net income for the year $17,298 $10,793 NOTE 8 MORTGAGES PAYABLE Mortgages payable consist of the following: As at December Mortgages payable before deferred financing costs $1,175,880 $1,186,480 Premium on acquired debt 1 11 Deferred financing costs (3,546) (4,035) Mortgages payable $1,172,335 $1,182,456 Mortgages payable non-current $1,082,799 $1,111,360 Mortgages payable current 89,536 71,096 Mortgages payable $1,172,335 $1,182,456 The aggregate principal repayments and balances maturing on the mortgages payable as at December 31, 2015, together with the weighted average contractual rate on debt maturing in the year indicated, are as follows: Principal Instalment Repayments Balances Maturing Total Weighted Average Contractual Rate on Balance Maturing 2016 $34,454 $55,786 $90, % ,121 50,289 84, % ,155 55,464 87, % , , , % , , , % Thereafter 49, , , % $202,737 $973,143 $1,175, % Substantially all of the Trust s rental properties and related rental revenues have been pledged as collateral for the mortgages payable. MORGUARD.COM 17

18 NOTE 9 CONVERTIBLE DEBENTURES PAYABLE 2012 Debentures On October 31, 2012, the Trust issued a $150,000 principal amount of 4.85% convertible unsecured subordinated Debentures ( 2012 Debentures ) maturing on October 31, 2017 (the Maturity Date ), of which a $50,000 principal amount was purchased by Morguard at the offering price. Interest is payable semi-annually, not in advance, on April 30 and October 31 of each year, commencing on April 30, The Trust s convertible debentures, with the exception of the value assigned to the holders conversion option, have been recorded as debt on the consolidated balance sheets. The following table summarizes the allocation of the principal amount and related issue costs of the debentures at the date of original issue. The portion of issue costs attributable to the liability of $4,182 has been capitalized and will be amortized over the term to maturity, while the remaining amount of $46 has been charged to equity. Principal Amount Issued Liability Equity Transaction date October 31, 2012 $150,000 $148,428 $1,572 Issue costs (4,228) (4,182) (46) $145,772 $144,246 $1,526 Each 2012 Debenture is convertible into freely tradable units of the Trust at the option of the holder, exercisable at any time prior to the close of business on the last business day preceding the maturity date at a conversion price of $24.60 (the Conversion Price ) per unit being a rate of approximately units per thousand principal amount of 2012 Debentures, subject to adjustment. As at December 31, 2015, $15 (2014 $15) of the 2012 Debentures had been converted into 609 ( ) units. The liability and equity component of these debentures has been included in unitholders equity under issue of units. As at December 31, 2015, the 2012 Debentures payable consist of the following: As at December Convertible debentures payable liability $148,428 $148,428 Convertible debentures payable accretion Debentures converted (15) (15) Convertible debentures payable before issue costs 149, ,043 Issue costs (1,661) (2,502) Convertible debentures payable $147,698 $146,541 Interest and principal payments on the 2012 Debentures are as follows: Interest Principal Total 2016 $7,274 $ $7, , , ,259 $14,548 $149,985 $164,533 Redemption Rights Each 2012 Debenture is redeemable any time from November 1, 2015, to the close of business on October 31, 2016, in whole or in part, on at least 30 days' prior notice at a redemption price equal to par plus accrued and unpaid interest, at the Trust s sole option provided that the weighted average trading price of the units on the Toronto Stock Exchange ("TSX") for the 20 consecutive trading days ending five trading days prior to the date on which the notice of redemption is given is not less than 125% of the conversion price. MORGUARD.COM 18

19 From November 1, 2016, to the close of business on October 31, 2017, the 2012 Debentures are redeemable, in whole or in part, at par plus accrued and unpaid interest, at the Trust s sole option. Repayment Options Payment Upon Redemption or Maturity The Trust may satisfy its obligation to repay the principal amounts of the 2012 Debentures, in whole or in part, by delivering units of the Trust. In the event that the Trust elects to satisfy its obligation to repay principal with units of the Trust, the number of units issued is obtained by dividing the principal amount of the 2012 Debentures by 95% of the weighted average trading price of the units on the TSX for the 20 consecutive trading days ending five trading days prior to the date fixed for redemption or the maturity date, as applicable. Interest Payment Election The Trust may elect, subject to applicable regulatory approval, to issue and deliver units of the Trust to the Debenture Trustee in order to raise funds to pay interest on the 2012 Debentures, in which event the holders of the 2012 Debentures will be entitled to receive a cash payment equal to the interest payable from the proceeds of the sale of such units. NOTE 10 BANK INDEBTEDNESS The Trust has credit facilities and operating lines of credit totalling $70,000 (2014 $70,000), that renew annually and are secured by fixed charges on specific properties owned by the Trust. As at December 31, 2015, the Trust had borrowed $nil (2014 $4,927) and issued letters of credit in the amount of $286 (2014 $290) related to these facilities. The bank credit agreements include certain restrictive covenants and undertakings by the Trust. As at December 31, 2015, and 2014, the Trust was in compliance with all covenants and undertakings. As the bank indebtedness is current and at prevailing market rates, the carrying value of the debt as at December 31, 2015, approximates fair value. NOTE 11 INTEREST EXPENSE The components of interest expense are as follows: For the year ended December Interest on mortgages payable $49,262 $51,178 Amortization deferred financing costs mortgages Amortization premium on acquired debt (10) (131) Interest on mortgages payable 50,063 51,814 Interest on convertible debentures payable 7,274 7,275 Accretion on convertible debentures payable, net Amortization deferred financing costs convertible debentures Interest on convertible debentures payable 8,431 8,371 Interest on bank indebtedness Amortization cash flow hedges 935 1,010 Interest on loan payable and other Capitalized interest (635) (207) Interest on loans payable and other 455 1,681 $58,981 $62,000 MORGUARD.COM 19