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MORGUARD REAL ESTATE INVESTMENT TRUST FOURTH QUARTER RESULTS 2015 Q4 2015 MANAGEMENT’S DISCUSSION AND ANALYSIS AND CONSOLIDATED FINANCIAL STATEMENTS MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 PART I BASIS OF PRESENTATION Financial data included in this Management’s Discussion and Analysis (“MD&A”) for the year ended December 31, 2015, includes material information up to February 17, 2016. Except as outlined below, financial data provided has been prepared in accordance with International Financial Reporting Standards (“IFRS”) IAS 34, "Interim Financial Reporting", as issued by the International Accounting Standards Board (“IASB”). In this MD&A, the discussion of the operating results of Morguard Real Estate Investment Trust (“the Trust”) is based on financial information developed using proportionate consolidation for all the Trust’s joint arrangements, including those joint ventures accounted for using the equity method, as required by IFRS 11. Management believes that presenting the operating and financial results of the Trust’s joint arrangements using proportionate consolidation provides more useful information to both current and prospective investors to assist them with their understanding of the Trust’s financial performance. From time to time, the Trust will undertake to actively dispose of certain assets. In these circumstances management has determined that the performance of ongoing operations is of greatest importance to its stakeholders. As a result, in this MD&A, the discussion of the Trust’s property performance for the purpose of some measures is focused on income producing properties ("IPP"), which exclude properties held for sale. The following discussion and analysis is intended to provide readers with an assessment of the performance of the Trust over the three months, as well as its financial position and future prospects. This discussion should be read in conjunction with the audited consolidated financial statements and accompanying notes for the year ended December 31, 2015. Historical results, including trends that might appear, should not be taken as indicative of future operations or results. All dollar references, unless otherwise stated, are in thousands of Canadian dollars, except per unit amounts. PART XI provides reconciliations between selected financial information from the Trust’s consolidated financial statements and the financial information used in this MD&A. FORWARD-LOOKING DISCLAIMER Certain information in this MD&A may constitute forward-looking statements that involve a number of risks and uncertainties, including statements regarding the outlook for the Trust’s business results of operations. Forward-looking statements use the words “believe,” “expect,” “anticipate,” “may,” “should,” “intend,” “estimate” and other similar terms, which do not relate to historical matters. Such forward-looking statements involve known and unknown risks and uncertainties and other factors that may cause the actual results to differ materially from those indicated. Such factors include, but are not limited to, general economic conditions, the availability of new competitive supply of commercial real estate that may become available either through construction or sublease, the Trust’s ability to maintain occupancy and to lease or re-lease space on a timely basis at current or anticipated rates, tenant bankruptcies, financial difficulties and defaults, changes in interest rates, changes in operating costs, the Trust’s ability to obtain adequate insurance coverage at a reasonable cost and the availability of financing. The Trust believes that the expectations reflected in forward-looking statements are based on reasonable assumptions; however, the Trust can give no assurance that actual results will be consistent with these forward-looking statements. Except as required by applicable law, the Trust disclaims any intention or obligation to update or revise any forward-looking statements whether as a result of new information, future events or otherwise. Readers should be cautioned not to place undue reliance on the forward-looking statements. MORGUARD.COM 2 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 FINANCIAL MEASURES The Trust uses supplemental measures such as net operating income (“NOI”), funds from operations (“FFO”) and adjusted funds from operations (“AFFO”) to manage its financial performance. These measures are not defined by IFRS and therefore should not be construed as substitutes for net income or cash flows from operating activities calculated in accordance with IFRS. Furthermore, the Trust’s method of calculating these supplemental measures may differ from other issuers’ methods and, accordingly, may not be comparable to measures reported by other issuers. SUMMARY OF SELECTED ANNUAL INFORMATION The selected annual information highlights certain key metrics for the Trust over the most recently completed five years. These measures from time to time may reflect fluctuations caused by the underlying impact of seasonal or non-recurring items, including acquisitions, divestitures, developments, leasing and maintenance expenditures, along with any associated financing requirements. These items along with the ongoing financing activities for the existing portfolio can dramatically affect the results. 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. ADDITIONAL INFORMATION Additional information relating to the Trust, including the audited consolidated financial statements, Annual Information Form (“AIF”), Material Change Reports and all other continuous disclosure documents required by securities regulators, are filed on the System for Electronic Document Analysis and Retrieval ("SEDAR") and can be accessed electronically at www.sedar.com. REVIEW AND APPROVAL BY THE BOARD OF TRUSTEES The Board of Trustees (“Trustees”), upon the recommendation of its Audit Committee, approved the contents of this MD&A on February 17, 2016. MORGUARD.COM 3 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 SUMMARY OF SELECTED ANNUAL INFORMATION TABLE 1 2015 2014 2013 2012 2011 $290,982 $298,461 $279,651 $244,876 $235,460 Net operating income 165,930 169,739 161,336 136,964 133,628 Income before fair value (losses)/gains on real estate properties, loss/(gain) on sale of real estate properties and net income/(loss) from equity-accounted investments 103,153 102,700 97,080 82,103 78,254 Fair value (losses)/gains on real estate properties (78,977) 11,239 77,912 In thousands of dollars, except per unit amounts Revenue from real estate properties (Loss)/gain on sale of real estate properties Net income/(loss) from equity-accounted investments 107,641 142,683 — (37) 2,058 — — 2,441 (20) 5,602 3,660 2,136 Net income for the year 26,617 113,882 212,381 228,446 158,302 Funds from operations 106,385 106,516 100,763 85,982 78,355 79,524 79,272 65,342 43,681 56,511 Basic $0.43 $1.83 $3.35 $3.82 $2.77 Diluted $0.43 $1.72 $3.01 $3.81 $2.62 $1.72 $1.71 $1.59 $1.44 $1.37 $1.67 $1.67 $1.55 $1.44 $1.33 Basic $1.28 $1.28 $1.03 $0.73 $0.99 Diluted 1 $1.28 $1.27 $1.03 $0.73 $0.99 Cash distributions per unit $0.96 $0.96 $0.96 $0.95 $0.90 Adjusted funds from operations Amount presented on a per unit basis Net income for the year Funds from operations Basic Diluted 1 Adjusted funds from operations Payout ratio – Adjusted funds from operations - basic 2 75.0 % 75.0 % 93.2 % 130.1 % 90.9 % Weighted average number of units (in thousands) Basic 61,779 62,168 63,456 59,778 57,079 Diluted 1 67,876 68,265 69,554 60,811 63,657 Total assets $2,920,155 $3,016,496 $2,942,799 $2,663,321 $2,093,401 Total liabilities $1,364,015 $1,409,415 $1,390,061 $1,232,538 $920,488 Total equity $1,556,140 $1,607,081 $1,552,738 $1,430,783 $1,172,913 Retail 4,710 4,775 4,771 4,299 4,296 Office 3,517 3,526 3,466 3,466 2,819 534 534 534 534 534 8,761 8,835 8,771 8,299 7,649 Balance sheets Gross leasable area as at December 31 (in thousands) 3 Industrial Total Occupancy as at the year-end date (%) 4 Retail 97 % 96 % 98 % 97 % 97 % Office 97 % 96 % 95 % 95 % 93 % Industrial 97 % 97 % 87 % 95 % 97 % Total 97 % 96 % 96 % 96 % 96 % 1. Includes the dilutive impact of convertible debentures. 2. Cash distributions per unit as a percentage of adjusted funds from operations. 3. Gross leasable area for income producing properties only. 4. Excludes properties held for sale, and components of properties not available for occupancy due to redevelopment or remerchandising. MORGUARD.COM 4 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 PART II BUSINESS OVERVIEW AND STRATEGY The Trust’s primary business goal is to accumulate a Canadian portfolio of high-quality real estate assets and then deliver the benefits of such real estate ownership to unitholders. The primary benefit is a reliable and, over time, increasing cash distribution. The Trust manages distributions to ensure sufficient cash is retained to meet fixed obligations while ensuring a stable cash flow to unitholders. The Trust is an unincorporated “closed-end” trust, governed by the laws of the Province of Ontario, created and constituted pursuant to an amended and restated Declaration of Trust dated May 5, 2015 (“Declaration of Trust”). The Trust was formed on June 18, 1997, and began operations on October 14, 1997. The Trust units are publicly traded and listed on the Toronto Stock Exchange (“TSX”) under the symbol MRT.UN. Morguard Corporation (“Morguard”) is the parent company of the trust, owning 50.41% of the outstanding units as at December 31, 2015. Morguard is a real estate company that owns a diversified portfolio of multi-unit residential, retail, hotel, office and industrial properties in both Canada and the United States. The Trust’s asset management team is focused on continually improving the returns from the assets currently owned and making quality acquisitions that are accretive in the long term. As part of its strategy to continually improve the quality of its property portfolio, the Trust undertakes the disposition of properties in cases where both the cash flows and values have been maximized, where the properties no longer fit the Trust’s portfolio or where market trends indicate that superior investment return opportunities are available elsewhere. The Trust’s management team is incentivized to maintain occupancy levels and rents that outperform local markets. The Trust has established standards for maintaining the quality of its portfolio and operating its properties at cost levels that are competitive in their respective markets. These efforts are enhanced through a sustainability program that tracks utility usage and savings over time. These savings are returned to our tenants through reduced operating costs, increasing the Trust’s reputation as a responsible landlord. The Trust’s management team is supported by contracted property management. The choice to contract for property management provides the Trust with a day-to-day operating platform that is both “best-in-class” and cost-effective. Property management services are delivered through a management agreement with Morguard Investments Limited (“MIL”). MIL is a full-service real estate advisory company wholly owned by Morguard. MIL also provides advisory and management services to institutional and other investors not related to Morguard or the Trust. The Trust’s agreement with MIL provides property management services at predetermined rates based on a percentage of revenue. This provides predictability to a key component of operating costs. In addition, MIL provides the Trust with leasing services across the full portfolio. With MIL locations across the country, the Trust benefits from local market knowledge and local broker relationships. An annual review of this agreement, combined with MIL’s institutional client base, ensures that rates for services reflect current market conditions. The Trust’s long-term debt strategy involves the use of conventional property-specific secured mortgages or bonds, unsecured convertible debentures and secured floating-rate bank financing. The Trust currently targets a capital structure with an overall indebtedness ratio of not more than 50% of gross assets. Through its Declaration of Trust, the Trust has the ability to increase its overall indebtedness ratio to 60%. FOURTH QUARTER OVERVIEW The Trust’s fully diluted FFO for the three months ended December 31, 2015 of $0.45 is up $0.01 from the same period ended 2014. The Trust's fully diluted FFO for the year ended December 31, 2015 of $1.67 is unchanged from the same year ended 2014. During the quarter the Trust benefited from reduced interest expense of $0.5 million and reduced general and administrative expense of the same amount. These reductions were sufficient to offset a decrease in net operating income of $0.4 million and a decrease in other income of $0.1 million. MORGUARD.COM 5 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 Lower interest expense is largely the result of properties sold during the year and regular amortizations on outstanding mortgages. The reduction in general and administrative expense derives from additional compensation costs in 2014 compared to the same three months ended 2015. The Trust’s net operating income continued to be challenged by the exit of Target Canada Corporation ("Target") from Canada ($0.8 million) and the bankruptcy of Everest College ($0.2 million). During the quarter the Trust made a strategic decision to redevelop the former Target space at Cambridge Centre, The Centre @ Circle & 8th, Brandon Shoppers Mall and Prairie Mall, as well as the former Everest College space at St. Laurent Centre. The Trust now classifies these spaces as under development. After adjusting net operating income for the space under development as well as other one-time non-recurring items, net operating income for the three months ended December 31, 2015 was $43.3 million which is up $0.7 million from the same period ended 2014. Increases in the Trust’s same asset net operating income ($1.2 million) and properties under development ($0.1 million) were offset by decreases to net operating income due to dispositions ($0.6 million). The favourable result in same asset net operating income was largely due to improved performance within the enclosed regional centres as a result of operating efficiencies. The recognition of these efficiencies in the fourth quarter allowed the Trust to accelerate the recovery of capital expenditures made in previous quarters. Occupancy levels improved during the quarter (excluding the area under development) with the Trust completing over 278,000 square feet of leasing. The Trust’s ability to close the year ended December 31, 2015 with fully diluted FFO equal to the same period ended December 31, 2014 demonstrates its strength. The challenges provided by Target and Everest College were overcome through a determined effort to improve operating efficiencies which have allowed for the accelerated recovery of capital expenditures and improvements in same asset net operating income. A strategic disposition program brought in additional funds ($29.6 million), which the Trust used to repurchase just over 1.3 million units ($20.0 million) and complete the revitalization project at St. Laurent Centre. As at December 31, 2015 the Trust had $26.3 million of cash available to: repurchase additional units, reinvest in the development projects or reduce debt levels. MORGUARD.COM 6 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 PORTFOLIO OVERVIEW The risk and reliability characteristics of real estate asset classes are different, and delivering on the primary business goal requires a mix of assets that balance risk and rewards. As at December 31, 2015, the Trust owned a diversified income producing property portfolio of 49 retail, office and industrial properties consisting of approximately 8.8 million square feet of gross leasable area (“GLA”) located in the provinces of British Columbia, Alberta, Saskatchewan, Manitoba, Ontario and Quebec. Retail: The retail portfolio includes two broad categories of income producing properties: enclosed full-scale, regional shopping centres that are dominant in their respective markets; and neighbourhood and community shopping centres that are primarily anchored by food retailers, discount department stores and banking institutions. Investing across these two broad categories of retail assets allows the Trust to spread its tenant base, reducing its exposure to a single category retailer. Office: The office portfolio is focused on well-located, high-quality properties in major Canadian urban centres. The portfolio is balanced between single-tenant properties under long-term lease to government and large national tenants that work to secure the Trust’s cash flow, and multi-tenant properties with well-distributed lease expiries that allow the Trust to benefit from increased rental rates on lease renewal. Industrial: The Trust has an interest in five industrial properties located in Ontario and Quebec. PORTFOLIO COMPOSITION BY ASSET TYPE AND LOCATION TABLE 2 AT THE TRUST'S OWNERSHIP SHARE Retail Number of Properties British Columbia 2 Alberta Saskatchewan Manitoba Ontario Location Office GLA (000's) Number of Properties 533 3 5 818 1 490 3 658 9 2,211 Industrial Total GLA (000's) Number of Properties GLA (000's) Number of Properties 600 — GLA (000's) — 5 1,133 10 1,319 — — — — 15 2,137 — — 1 490 — — — — 3 658 9 1,023 4 291 22 3,525 Quebec — — 2 575 1 243 3 818 Income producing properties 20 4,710 24 3,517 5 534 49 8,761 Properties under development Total real estate properties MORGUARD.COM 1 67 — — — — 1 67 21 4,777 24 3,517 5 534 50 8,828 7 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 PART III PROPERTY PERFORMANCE NET OPERATING INCOME NOI is used as a key indicator of performance as it represents a measure over which management has control. NOI is an additional GAAP ("Generally Accepted Accounting Principles") measure and is defined by the Trust as revenue from real estate properties less property operating expenses, property taxes and property management fees. For the year ended December 31, 2015, the Trust’s retail properties accounted for more than 50% of NOI from income producing properties (52%), with the office portfolio accounting for 46%. The Trust’s industrial portfolio accounts for only 2% of the Trust’s NOI from income producing properties. NET OPERATING INCOME BY ASSET TYPE AND LOCATION TABLE 3 AT THE TRUST'S OWNERSHIP SHARE Retail Office Number of Properties NOI (000's) British Columbia 2 Alberta 5 Saskatchewan Manitoba Industrial Total Number of Properties NOI (000's) Number of Properties NOI (000's) $9,682 3 $12,589 — 13,656 10 39,792 — 1 7,699 — — 3 10,687 — — Ontario 9 45,617 9 Quebec — — 2 Income producing properties 20 87,341 24 1 846 — Location Properties under development Number of Properties NOI (000's) $— 5 $22,271 — 15 53,448 — — 1 7,699 — — 3 10,687 17,998 4 1,630 22 65,245 8,309 1 1,393 3 9,702 78,688 5 3,023 49 169,052 — — 1 839 (7) Properties held for sale — — — 136 — 292 — 428 Total real estate properties 21 $88,187 24 $78,824 5 $3,308 50 $170,319 A complete reconciliation of NOI discussed in this MD&A to NOI per the consolidated financial statements is provided in Part XI (Table 60). MORGUARD.COM 8 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 COMPARATIVE NET OPERATING INCOME ANALYSIS TABLE 4 AT THE TRUST'S OWNERSHIP SHARE Three Months Ended December 31 Revenue from real estate properties 2015 2014 Variance $1,226 Year Ended December 31 % 2015 2014 Variance % 1.7% $74,824 $73,598 $287,221 $285,363 $1,858 0.7% Property operating expenses 17,003 17,461 (458) (2.6)% 63,941 63,538 403 0.6% Property taxes 12,669 12,240 429 3.5 % 50,338 49,161 1,177 2,457 2,405 52 2.2 % 9,361 10,174 $42,695 $41,492 $1,203 $163,581 $162,490 Property management fees Net operating income – same assets 2.9% (813) $1,091 2.4% (8.0%) 0.7% The components of net operating income – same assets are displayed in the table above. For comparability, the NOI is focused on same assets. Assets acquired, disposed of and developed over the comparable periods are removed, along with the impact of step rents, lease cancellation fees and other one-time events. In the fourth quarter, the Trust made a strategic decision to redevelop the former Target space at Cambridge Centre, The Centre @ Circle & 8th, Brandon Shoppers Mall and Prairie Mall, as well as the former Everest College space at St. Laurent Centre. The Trust now classifies these spaces as under development. As a result, net operating income – same assets excludes net operating income associated with the former Target and Everest College space. Property management fees are the direct result of the Trust’s management agreement with MIL. The property management agreement permits property management fees to be charged, at variable rates, on revenue from real estate properties based on asset type. Fees average 3.25% of revenue from real estate properties. With few exceptions, these fees are recoverable from tenants. COMPARATIVE NET OPERATING INCOME BY ASSET TYPE FOR INCOME PRODUCING PROPERTIES TABLE 5 AT THE TRUST'S OWNERSHIP SHARE Three Months Ended December 31 Year Ended December 31 2015 2014 Variance % 2015 2014 Retail $22,959 $21,867 $1,092 5.0% $85,059 $85,181 ($122) Office 19,053 18,916 137 0.7% 75,488 74,623 865 1.2% 683 709 (26) (3.7%) 3,034 2,686 348 13.0% $42,695 $41,492 $163,581 $162,490 $1,091 0.7% Industrial Net operating income – same assets $1,203 2.9% Variance % (0.1%) COMPARATIVE NET OPERATING INCOME BY ASSET TYPE FOR RETAIL PROPERTIES TABLE 6 AT THE TRUST'S OWNERSHIP SHARE Three Months Ended December 31 Enclosed regional centres Community strip centres Net operating income – same assets Year Ended December 31 2015 2014 Variance % 2015 2014 $18,108 $16,953 $1,155 6.8% $65,414 $66,134 4,851 4,914 $22,959 $21,867 (63) $1,092 Variance ($720) % (1.1%) (1.3%) 19,645 19,047 598 3.1% 5.0% $85,059 $85,181 ($122) (0.1%) The Trust's retail portfolio is diversified through the investment in enclosed regional centres and community strip centres. ENCLOSED REGIONAL CENTRES OVERVIEW At December 31, 2015, the Trust’s enclosed regional centres portfolio totalled 3.5 million square feet of GLA, which comprises a 100% interest in six regional centres totalling 3.4 million square feet and a 50% interest in one additional centre totalling 0.1 million square feet. MORGUARD.COM 9 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 The space tied to the former Target (approximately 380,000 square feet) and Everest College (approximately 32,000 square feet) units will remain available for lease during the redevelopment; however, the space ("development space") will not be available for occupancy until after the redevelopment concludes. As a result, the Trust excludes this area (412,000 square feet) to track lease activity and current vacancy. ENCLOSED REGIONAL CENTRES – NET OPERATING INCOME TABLE 7 Three Months Ended December 31 Revenue from real estate properties 2015 2014 Variance $1,500 Year Ended December 31 % 2015 2014 Variance 5.0% % $31,457 $29,957 $115,455 $115,409 $46 —% Property operating expenses 7,111 7,178 (67) (0.9%) 26,137 25,168 969 3.9% Property taxes 5,227 4,817 410 8.5% 20,158 19,455 703 3.6% Property management fees 1,011 1,009 2 0.2% 3,746 4,652 (906) (19.5%) $18,108 $16,953 $1,155 6.8% $65,414 $66,134 ($720) (1.1%) Net operating income – same assets The Trust’s enclosed regional centres net operating income – same assets for the three months ended December 31, 2015, was $18.1 million versus $17.0 million for the same period in 2014. This represents an increase of 6.8%. This increase was largely the result of improved operating efficiencies at Parkland Mall, Brandon Shoppers Mall, and Cambridge Centre. The Trust’s enclosed regional centres net operating income – same assets for the year ended December 31, 2015, was $65.4 million versus $66.1 million for the same period in 2014. This represents a decrease of 1.1%. This decrease was largely due to higher vacancy costs of $1.0 million at St. Laurent Centre, offset by reduced non-recoverable costs of $0.3 million during the year. ENCLOSED REGIONAL CENTRES – LEASE PROFILE TABLE 8 SF Weighted Average Contract Rent % of Portfolio 2016 580,734 18.9% $18.71 2017 206,039 6.7% 37.70 2018 241,219 7.8% 30.35 2019 94,789 3.1% 39.91 Thereafter 1,863,171 60.5% 21.36 Current vacancy 91,659 3.0% — 3,077,611 100.0% $23.25 Total Weighted average remaining lease term (years) 4.55 The Trust has the opportunity to increase rental rates on lease maturity where the current contract rent is less than the going market rate. The table to the left provides a summary of the lease maturities net of committed renewals, for the next four years and thereafter, along with the associated contract rents at maturity. Current vacancy excludes 412,000 square feet associated with the units under redevelopment. Lower weighted average contract rent displayed in 2016 and “thereafter” is the result of anchor tenant maturities. The following table provides a quarterly summary of the 2016 expiries net of committed renewals, along with the associated contract rents, for the Trust’s enclosed regional centres. ENCLOSED REGIONAL CENTRES – 2016 EXPIRIES (NET OF RENEWALS) TABLE 9 Total Gross leasable area Average net rent per SF MORGUARD.COM Q1 Q2 Q3 Q4 2016 327,570 50,758 103,532 98,874 580,734 $17.13 $26.09 $16.16 $21.31 $18.71 10 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 ENCLOSED REGIONAL CENTRES – 2015 LEASE ACTIVITY TABLE 10 Opening vacancy (SF) Q4 2015 YTD 2015 523,933 136,770 Opening occupancy 85% The table to the left provides a summary of the leasing activity for the three months and the year ended December 31, 2015. 96% EXPIRING LEASES: Square feet Average net rent per SF 142,651 489,706 $19.59 $22.08 5,953 431,592 $48.62 $10.13 135,067 386,232 $17.98 $21.52 For the three months ended December 31, 2015, the Trust realized an average decrease of $1.61 per square foot on renewals, while maintaining a 95.1% retention rate for existing tenants. EARLY TERMINATIONS: Square feet Average net rent per SF For the year ended December 31, 2015, the Trust realized an average decrease of $0.56 per square foot on renewals, while maintaining a 79.5% retention rate for existing tenants. In addition, the Trust realized an average uplift of $6.44 per square foot on new leasing. RENEWALS: Square feet Average net rent per SF Retention rate 95.1% 79.5% During the quarter, the enclosed regional centres portfolio was adjusted to exclude 412,000 square feet of GLA relating to former Target (380,000) and Everest College (32,000) units not available for lease due to redevelopment or remerchandising programs under way. NEW LEASING: Square feet 33,477 167,843 Average net rent per SF $34.49 $28.52 (412,334) (412,334) 91,659 91,659 OTHER ADJUSTMENTS: Square feet Ending vacancy (SF) Ending occupancy 97% At December 31, 2015, occupancy was 97%, (excluding the development space) versus the opening occupancy position of 96%. 97% ENCLOSED REGIONAL CENTRES – GLA OCCUPIED, PREVIOUS EIGHT QUARTERS TRENDING TABLE 11 2014 In thousands of SF Enclosed regional centres GLA % GLA occupied 2015 Q1 Q2 Q3 Q4 Q1 Q2 3,488 3,491 3,488 3,485 3,485 3,488 97% 97% 96% 96% 95% 85% Q3 3,489 85% Q4 3,078 97% The enclosed regional centres square footage and quarterly occupancy for the past eight quarters are outlined in Table 11. Occupancy levels, which have historically remained high with little volatility, were adjusted in the second quarter to fully reflect four of the Trust’s regional shopping centres affected by either disclaimed or acquired Target leases. During the quarter, the enclosed regional centres portfolio was adjusted to exclude development space (412,000 square feet of GLA). As at December 31, 2015, this adjustment increased occupancy from 86% to 97%. MORGUARD.COM 11 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 COMMUNITY STRIP CENTRES OVERVIEW At December 31, 2015, the Trust's community strip centres portfolio totalled 1.2 million square feet of GLA comprising a 100% interest in 12 such properties totalling 1.1 million square feet, as well as a 50% interest in one additional property totalling 0.1 million square feet. COMMUNITY STRIP CENTRES – NET OPERATING INCOME TABLE 12 Three Months Ended December 31 2015 2014 Variance Year Ended December 31 % 2015 2014 Variance $765 % $8,014 $7,694 $320 4.2% $31,093 $30,328 Property operating expenses 1,483 1,252 231 18.5% 4,799 4,884 (85) (1.7%) Property taxes 1,366 1,235 131 10.6% 5,443 5,238 205 3.9% 314 293 21 7.2% 1,206 1,159 47 4.1% $4,851 $4,914 ($63) (1.3%) $19,645 $19,047 $598 3.1% Revenue from real estate properties Property management fees Net operating income – same assets 2.5% The Trust’s community strip centres net operating income – same assets remained stable at $4.9 million for the three months ended December 31, 2015, and for the same period in 2014. The Trust’s community strip centres net operating income – same assets for the year ended December 31, 2015, was $19.6 million versus $19.0 million for the same period in 2014. This represents an increase of 3.1%. This increase was mainly due to higher basic rents on 2015 renewals, which amounted to $0.4 million, and decreased vacancy costs of $0.2 million during the early part of the year. COMMUNITY STRIP CENTRES – LEASE PROFILE TABLE 13 SF Weighted Average Contract Rent % of Portfolio 2016 145,472 11.9% $17.43 2017 182,705 15.0% 19.29 2018 115,738 9.5% 21.91 2019 84,952 7.0% 21.89 Thereafter 664,514 54.4% 15.54 Current vacancy 26,471 2.2% — 1,219,852 100.0% $17.42 Total Weighted average remaining lease term (years) The Trust has the opportunity to increase rental rates on lease maturity where the current contract rent is less than the going market rate. The table to the left provides a summary of the lease maturities net of committed renewals for the next four years and thereafter, along with the associated contract rents at maturity. Lower weighted average contract rent displayed in 2016 and thereafter is the result of anchor tenant maturities. 4.87 The following table provides a quarterly summary of the 2016 expiries net of committed renewals, along with the associated contract rents, for the Trust’s community strip centres. COMMUNITY STRIP CENTRES – 2016 EXPIRIES (NET OF RENEWALS) TABLE 14 Total Gross leasable area Average net rent per SF MORGUARD.COM Q1 Q2 Q3 Q4 2016 101,761 5,212 9,977 28,522 145,472 $15.18 $23.61 $26.27 $21.22 $17.43 12 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 COMMUNITY STRIP CENTRES – 2015 LEASE ACTIVITY TABLE 15 Q4 2015 Opening vacancy (SF) YTD 2015 26,873 Opening occupancy The table to the left provides a summary of the leasing activity for the three months and the year ended December 31, 2015. 36,997 98% 97% EXPIRING LEASES: Square feet 13,144 66,315 Average net rent per SF $20.27 $21.42 1,375 7,008 $24.00 $23.96 Square feet 13,688 67,454 Average net rent per SF $22.47 $23.90 For the three months ended December 31, 2015, the Trust realized an average uplift of $2.20 per square foot on renewals, while maintaining a 104.1% retention rate for existing tenants. During the period an existing tenant expanded within the centre. EARLY TERMINATIONS: Square feet Average net rent per SF For the year ended December 31, 2015, the Trust realized an average uplift of $2.48 per square foot on renewals, while maintaining a 90.5% retention rate for existing tenants. In addition, the Trust realized an average uplift of $0.77 per square foot on new leasing. RENEWALS: Retention rate 104.1% 90.5% Ending occupancy improved by 1% over the same period in 2014, closing at 98%. NEW LEASING: Square feet Average net rent per SF Ending vacancy (SF) 1,233 16,395 $35.50 $22.19 26,471 26,471 Ending occupancy 98% 98% COMMUNITY STRIP CENTRES – GLA OCCUPIED, PREVIOUS EIGHT QUARTERS TRENDING TABLE 16 2014 In thousands of SF Community strip centres GLA % GLA occupied 2015 Q1 Q2 Q3 Q4 Q1 Q2 1,290 1,290 1,290 1,290 1,290 1,287 97% 97% 97% 97% 98% 97% Q3 1,287 97% Q4 1,219 98% The community strip centres square footage and quarterly occupancy for the past eight quarters are outlined in Table 16. Occupancy levels throughout the period remained high, with little volatility. The differential between the highest and lowest level of portfolio occupancy over this two-year period is only 100 basis points (98% being the highest and 97% being the lowest). MORGUARD.COM 13 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 COMPARATIVE NET OPERATING INCOME BY ASSET TYPE FOR OFFICE PROPERTIES TABLE 17 AT THE TRUST'S OWNERSHIP SHARE Three Months Ended December 31 Single/dual tenant buildings Multi-tenant buildings Net operating income – same assets 2015 2014 Variance $13,963 $14,206 ($243) 5,090 4,710 380 $19,053 $18,916 $137 Year Ended December 31 % 2015 2014 Variance % (1.7%) $56,439 $56,279 $160 0.3% 8.1% 19,049 18,344 705 3.8% 0.7% $75,488 $74,623 $865 1.2% The Trust's office portfolio is diversified through investment in single/dual tenant buildings and multi-tenant buildings. SINGLE/DUAL TENANT BUILDINGS OVERVIEW At December 31, 2015, the Trust’s single/dual tenant buildings portfolio totalled 2.4 million square feet of GLA, which comprises a 100% interest in nine properties totalling 1.5 million square feet and a 50% interest in four properties totalling 0.9 million square feet. SINGLE/DUAL TENANT BUILDINGS – NET OPERATING INCOME TABLE 18 Three Months Ended December 31 2015 2014 2015 2014 $24,131 $25,382 ($1,251) (4.9%) $97,754 $98,288 ($534) (0.5%) Property operating expenses 5,314 6,005 (691) (11.5%) 21,110 21,874 (764) (3.5%) Property taxes 4,095 4,393 (298) (6.8%) 17,233 17,128 105 0.6% (35) (1.2%) Revenue from real estate properties Property management fees Net operating income – same assets Variance Year Ended December 31 % 759 778 (19) (2.4%) 2,972 3,007 $13,963 $14,206 ($243) (1.7%) $56,439 $56,279 Variance $160 % 0.3% Single/dual tenant buildings net operating income – same assets decreased by 1.7% to $14.0 million for the three months ended December 31, 2015, from $14.2 million for the same period in 2014. Single/dual tenant buildings net operating income – same assets increased by 0.3% to $56.4 million for the year ended December 31, 2015, from $56.3 million for the same period in 2014. SINGLE/DUAL TENANT BUILDINGS – LEASE PROFILE TABLE 19 SF % of Portfolio Weighted Average Contract Rent 2016 159,980 6.7% $25.36 2017 92,054 3.8% $35.78 2018 42,322 1.8% $38.13 2019 70,273 2.9% $31.96 Thereafter 2,012,471 83.9% $23.12 Current vacancy 20,994 0.9% — Total 2,398,094 100.0% $24.29 Weighted average remaining lease term (years) MORGUARD.COM The Trust has the opportunity to increase rental rates on lease maturity where the current contract rent is less than the going market rate. The table to the left provides a summary of the lease maturities net of committed renewals over the next four years and thereafter, along with the associated contract rents at maturity. 8.06 14 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 The following table provides a quarterly summary of the 2016 expiries net of committed renewals, along with the associated contract rents, for the Trust’s single/dual tenant buildings. SINGLE/DUAL TENANT BUILDINGS – 2016 EXPIRIES (NET OF RENEWALS) TABLE 20 Total Q1 Q2 Q3 Q4 2016 Gross leasable area 45,527 Average net rent per SF $16.04 44,513 4,274 65,666 159,980 $40.13 $30.23 $21.50 $25.36 SINGLE/DUAL TENANT BUILDINGS – 2015 LEASE ACTIVITY TABLE 21 Q4 2015 Opening vacancy (SF) Opening occupancy 31,080 99% YTD 2015 23,323 99% EXPIRING LEASES: Square feet Average net rent per SF 2,011 8,604 $21.50 $18.74 — 9,782 $— $30.00 EARLY TERMINATIONS: Square feet Average net rent per SF RENEWALS: Square feet Average net rent per SF Retention rate 423 7,414 $21.50 $25.96 27.3% 56.1% NEW LEASING: Square feet 11,674 13,301 Average net rent per SF $18.50 $20.24 20,994 20,994 Ending vacancy (SF) Ending occupancy MORGUARD.COM 99% The table to the left provides a summary of the leasing activity for the three months and the year ended December 31, 2015. For the three months ended December 31, 2015, there was no change in average rental rates on renewals, while maintaining a 27.3% retention rate for existing tenants. In addition, the Trust realized an average decrease of $3.00 per square foot on new leasing. For the year ended December 31, 2015, the Trust realized an average uplift of $7.22 per square foot on renewals, while maintaining a 56.1% retention rate for existing tenants. In addition, the Trust realized an average uplift of $1.50 per square foot on new leasing. Ending occupancy remained stable at 99%. 99% 15 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 SINGLE/DUAL TENANT BUILDINGS – GLA OCCUPIED, PREVIOUS EIGHT QUARTERS TRENDING TABLE 22 2014 In thousands of SF Single/dual tenant buildings GLA % GLA occupied 2015 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2,372 2,372 2,409 2,407 2,406 2,398 2,398 2,398 99% 99% 99% 99% 99% 99% 99% 99% The single/dual tenant buildings square footage and quarterly occupancy for the past eight quarters are outlined in Table 22. Occupancy levels throughout the period remained high and unchanged at 99%. MULTI-TENANT BUILDINGS OVERVIEW At December 31, 2015, the Trust’s multi-tenant buildings portfolio totalled 1.1 million square feet of GLA, which comprises a 100% interest in seven properties totalling 0.7 million square feet, a 50% interest in three properties totalling 0.3 million square feet and a 20% interest in one property totalling 0.1 million square feet. MULTI-TENANT BUILDINGS – NET OPERATING INCOME TABLE 23 Three Months Ended December 31 2015 2014 Variance $567 Year Ended December 31 % 2015 2014 Variance % $9,973 $9,406 6.0% $37,919 $36,625 $1,294 3.5% Property operating expenses 2,811 2,855 (44) (1.5%) 11,072 10,729 343 3.2% Property taxes 1,729 1,539 190 12.3% 6,497 6,316 181 2.9% 343 302 41 13.6% 1,301 1,236 65 5.3% $5,090 $4,710 $380 8.1% $19,049 $18,344 $705 3.8% Revenue from real estate properties Property management fees Net operating income – same assets Multi-tenant buildings net operating income – same assets increased by 8.1% to $5.1 million for the three months ended December 31, 2015, from $4.7 million for the same period in 2014. This increase in NOI is mainly due to improved operating efficiencies at 77 Bloor Street that allowed for the earlier recovery of capital costs. Multi-tenant buildings net operating income – same assets increased by 3.8% to $19.0 million for the year ended December 31, 2015, from $18.3 million for the same period in 2014. This increase in NOI is mainly due to modest increases in basic rent of $0.6 million coupled with a decrease in non-recoverable operating costs of $0.2 million. MORGUARD.COM 16 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 MULTI-TENANT BUILDINGS – LEASE PROFILE TABLE 24 SF Weighted Average Contract Rent % of Portfolio 2016 124,227 11.1% $18.00 2017 194,463 17.4% $17.10 2018 154,601 13.8% $17.68 2019 102,120 9.1% $17.95 Thereafter 451,528 40.3% $20.64 Current vacancy 92,412 8.3% — Total 1,119,351 100.0% $18.94 Weighted average remaining lease term (years) The Trust has the opportunity to increase rental rates on lease maturity where the current contract rent is less than the going market rate. The table to the left provides a summary of the lease maturities net of committed renewals over the next four years and thereafter, along with the associated contract rents at maturity. 4.51 The following table provides a quarterly summary of the 2016 expiries net of committed renewals, along with the associated contract rents, for the Trust’s multi-tenant buildings. MULTI-TENANT BUILDINGS – 2016 EXPIRIES (NET OF RENEWALS) TABLE 25 Total Q1 Q2 Q3 Q4 2016 Gross leasable area 28,055 24,388 45,955 25,829 124,227 Average net rent per SF $23.04 $17.40 $15.31 $17.90 $18.00 MORGUARD.COM 17 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 MULTI-TENANT BUILDINGS – 2015 LEASE ACTIVITY TABLE 26 Q4 2015 Opening vacancy (SF) YTD 2015 99,829 Opening occupancy The table to the left provides a summary of the leasing activity for the three months and the year ended December 31, 2015. 106,892 91% 92% EXPIRING LEASES: Square feet 28,948 275,630 Average net rent per SF $20.96 $18.77 6,393 17,540 $13.16 $22.22 Square feet 24,732 233,429 Average net rent per SF $18.54 $17.96 For the three months ended December 31, 2015, the Trust realized an average decrease of $2.42 per square foot on renewals, while maintaining an 80.1% retention rate for existing tenants. In addition, the Trust realized an average uplift of $0.33 per square foot on new leasing. EARLY TERMINATIONS: Square feet Average net rent per SF For the year ended December 31, 2015, the Trust realized an average decrease of $0.81 per square foot on renewals, while maintaining an 83.7% retention rate for existing tenants. In addition, the Trust realized an average uplift of $0.47 per square foot on new leasing. RENEWALS: Retention rate 80.1% 83.7% NEW LEASING: Square feet 18,026 74,221 Average net rent per SF $21.29 $19.24 92,412 92,412 Ending vacancy (SF) Ending occupancy 92% Ending occupancy remained stable at 92%. 92% MULTI-TENANT BUILDINGS – GLA OCCUPIED, PREVIOUS EIGHT QUARTERS TRENDING TABLE 27 2014 In thousands of SF Multi-tenant buildings GLA % GLA occupied 2015 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 1,099 1,110 1,111 1,119 1,119 1,118 1,118 1,119 89% 90% 90% 90% 91% 90% 91% 92% The multi-tenant buildings square footage and quarterly occupancy for the past eight quarters are outlined in Table 27. Occupancy levels throughout the period remained high with little volatility. The differential between the highest and lowest level of portfolio occupancy over this two-year period is only 300 basis points (92% being the highest and 89% being the lowest). MORGUARD.COM 18 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 INDUSTRIAL OVERVIEW The Trust’s industrial portfolio includes 100% interests in four industrial properties comprising 0.3 million square feet and a 50% interest in one industrial property comprising 0.2 million square feet. INDUSTRIAL – NET OPERATING INCOME TABLE 28 Three Months Ended December 31 Revenue from real estate properties 2015 2014 Variance Year Ended December 31 % 2015 2014 Variance $287 % $1,249 $1,159 $90 7.8% $5,000 $4,713 Property operating expenses 284 171 113 66.1% 823 883 (60) Property taxes 252 256 (4) (1.6%) 1,007 1,024 (17) (1.7%) 30 23 7 30.4% 136 120 16 13.3% $683 $709 $3,034 $2,686 $348 13.0% Property management fees Net operating income – same assets ($26) (3.7%) 6.1% (6.8%) Industrial net operating income – same assets remained stable at $0.7 million for the three months ended December 31, 2015, and for the same period in 2014. Industrial net operating income – same assets increased by 13% to $3.0 million for the year ended December 31, 2015, from $2.7 million for the same period in 2014. This increase was mainly due to decreased vacancy costs of $0.2 million during the year. On September 30, 2015, the Trust revised its view on 2041-2141 McCowan as a long-term hold. As a result, the property was reclassified to same assets as a part of the Trust's industrial portfolio. INDUSTRIAL – LEASE PROFILE TABLE 29 SF Weighted Average Contract Rent % of Portfolio 2016 46,144 8.6% $5.98 2017 73,438 13.7% 7.58 2018 61,775 11.6% 6.27 2019 7,472 1.4% 6.39 Thereafter 330,102 61.8% 5.68 Current vacancy 15,271 2.9% — Total 534,202 100.0% $6.06 Weighted average remaining lease term (years) The table to the left provides a summary of the lease maturities net of committed renewals, over the next four years and thereafter, along with the associated contract rents at maturity. Lower weighted average contract rent displayed in thereafter is mainly the result of a long-term lease at one of the Quebec industrial properties due to expire in 2022. The lease was originally entered into in 2002. 5.04 The following table provides a quarterly summary of the 2016 expiries net of committed renewals, along with the associated contract rents, for the Trust’s industrial portfolio. INDUSTRIAL – 2016 EXPIRIES (NET OF RENEWALS) TABLE 30 Total Q1 Q2 Q3 Q4 2016 Gross leasable area 7,525 29,928 3,725 4,966 46,144 Average net rent per SF $8.43 $4.41 $9.03 $9.40 $5.98 MORGUARD.COM 19 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 INDUSTRIAL – 2015 LEASE ACTIVITY TABLE 31 Q4 2015 Opening vacancy (SF) YTD 2015 15,016 Opening occupancy 1,900 97% 99% EXPIRING LEASES: Square feet Average net rent per SF 39,908 48,482 $4.60 $5.37 — — 35,205 43,779 $4.39 $5.39 EARLY TERMINATIONS: Square feet RENEWALS: Square feet Average net rent per SF Retention rate 88.2% 90.3% The table to the left provides a summary of the leasing activity for the three months and the year ended December 31, 2015. For the three months ended December 31, 2015, the Trust realized an average decrease of $0.21 per square foot on renewals, while maintaining an 88.2% retention rate for existing tenants. In addition, the Trust realized an average uplift of $3.99 per square foot on new leasing. For the year ended December 31, 2015, the Trust realized an average uplift of $0.02 per square foot on renewals, while maintaining a 90.3% retention rate for existing tenants. In addition, the Trust realized an average uplift of $3.22 per square foot on new leasing. NEW LEASING: Square feet 4,448 4,448 Average net rent per SF $8.59 $8.59 — 13,116 15,271 15,271 OTHER ADJUSTMENTS: Square feet Ending vacancy (SF) Ending occupancy 97% On September 30, 2015, as part of the reclassification of 2041-2141 McCowan to same assets, the 13,116 vacant square feet for this property were reclassified to the Trust's industrial portfolio to form part of ending vacancy. Ending occupancy remained stable at 97%. 97% INDUSTRIAL – GLA OCCUPIED, PREVIOUS EIGHT QUARTERS TRENDING TABLE 32 2014 In thousands of SF 2015 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Industrial GLA 534 534 534 534 534 534 534 534 % GLA occupied 87% 91% 93% 97% 97% 97% 97% 97% The industrial square footage and quarterly occupancy for the past eight quarters are outlined in Table 32. The differential between the highest and lowest level of portfolio occupancy over this two-year period was 1,000 basis points (97% being the highest and 87% being the lowest). On September 30, 2015, as part of the reclassification of 2041-2141 McCowan to same assets, the historical GLA and occupancy for this property were reclassified to the Trust's industrial portfolio for the past eight quarters. MORGUARD.COM 20 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 PART IV TRUST PERFORMANCE FUNDS FROM OPERATIONS The Trust presents FFO in accordance with the Real Property Association of Canada (“REALpac”) white paper on funds from operations for IFRS issued April 2014. In accordance with such white paper, the Trust defines FFO as net income adjusted for fair value changes on real estate properties and gains/(losses) on the sale of real estate properties. FFO is a non-GAAP measure that is widely accepted as a supplemental measure of financial performance for real estate entities; however, it does not represent amounts available for capital programs, debt service obligations, commitments or uncertainties. FFO should not be interpreted as an indicator of cash generated from operating activities and is not indicative of cash available to fund operating expenditures, or for the payment of cash distributions. FFO is simply one measure of operating performance. FUNDS FROM OPERATIONS TABLE 33 Three Months Ended December 31 In thousands of dollars, except per unit amounts Net income for the year Year Ended December 31 2015 2014 2015 2014 $4,697 $23,487 $26,617 $113,882 23,985 4,645 79,768 Add/(deduct) items not affecting cash: Fair value losses/(gains) on real estate properties1 Loss on sale of real estate properties Basic funds from operations (7,403) — 22 — 37 28,682 28,154 106,385 106,516 1,833 1,834 7,274 7,275 $30,515 $29,988 $113,659 $113,791 Basic $0.47 $0.45 $1.72 $1.71 Diluted2 $0.45 $0.44 $1.67 $1.67 Basic 61,212 62,161 61,779 62,168 Diluted2 67,309 68,258 67,876 68,265 Interest expense on convertible debentures Diluted funds from operations FUNDS FROM OPERATIONS PER UNIT WEIGHTED AVERAGE UNITS OUTSTANDING (IN THOUSANDS) 1. 2. Includes fair value gains on real estate properties included in net income/(loss) from equity-accounted investments. Includes the dilutive impact of convertible debentures. FFO was $0.47 per unit ($0.45 per unit - diluted) for the three months ended December 31, 2015, compared to $0.45 per unit ($0.44 per unit - diluted) for the same period in 2014. FFO was $1.72 per unit ($1.67 per unit - diluted) for the year ended December 31, 2015, compared to $1.71 per unit ($1.67 per unit - diluted) for the same period in 2014. This represents an increase of 1% or $0.01 per unit ($0.00 per unit - diluted). MORGUARD.COM 21 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 FFO derives from net income. The key components of net income are presented in the table below: NET INCOME TABLE 34 Three Months Ended December 31 Net operating income from total real estate properties Interest expense General and administrative Other income Income before fair value (losses)/gains, loss on sale of real estate properties, and other expenses and fair value changes from equityaccounted investments Fair value (losses)/gains on real estate properties Loss on sale of real estate properties Year Ended December 31 2015 2014 2015 2014 $44,597 $44,943 $170,319 $174,885 14,667 15,172 58,981 62,000 1,066 1,523 4,367 5,414 (113) 28,977 (23,178) — Other expenses and fair value changes from equity-accounted investments (1,102) Net income for the year $4,697 (207) 28,455 (894) (22) (4,052) $23,487 (571) (375) 107,542 107,846 (78,977) 11,239 — (1,948) $26,617 (37) (5,166) $113,882 NET OPERATING INCOME The analysis of property performance in Part III was focused on same asset NOI, which is reconciled to NOI per the consolidated financial statements in Part XI (Table 60). Same asset NOI for the three months ended December 31, 2015, was $42.7 million, an increase of $1.2 million from the same period in 2014. Net operating income from all properties was $44.6 million for the three months ended December 31, 2015, versus $44.9 million for the same period in 2014, a decrease of $0.3 million. The remaining unfavourable change during the three months is $1.5 million, including the Trust’s disposition programs. The Trust’s disposition of Cedar Pointe Business Park in July 2014, 5591-5631 Finch in April 2015 and 20-24 Lesmill in May 2015 resulted in a $0.6 million reduction in NOI. Outside of the disposition programs, during the three months ended December 31, 2015, there was a reduction in one-time lease cancellation fees of $0.7 million versus the same period in 2014. The Trust was also negatively impacted by a one-time adjustment of $0.5 million due to vacant target units. This was offset by $0.2 million from amortized step rents. Same asset NOI for the year ended December 31, 2015, was $163.6 million, an increase of $1.1 million from the same period in 2014. Net operating income from all properties was $170.3 million for the year ended December 31, 2015 versus $174.9 million for the same period in 2014. The remaining unfavourable change during the year of $5.7 million is mainly the result of the Trust’s disposition and acquisition programs. The Trust’s disposition of Cedar Pointe Business Park in July 2014, 350 Sparks/361 Queen in February 2015, 5591-5631 Finch in April 2015 and 20-24 Lesmill in May 2015 resulted in a $3.2 million reduction in NOI. This was offset by a positive impact of $0.8 million from the Trust’s acquisition of 301 Laurier Avenue in June 2014 and Citadel West in July 2014. Outside of the disposition and acquisition programs, during the year ended December 31, 2015, the Trust was negatively affected by a one-time adjustment of $2.9 million mainly due to vacant Target units ($1.9 million) and Everest College ($0.5 million) units and by $0.4 million from amortized step rents. INTEREST EXPENSE Interest expense totalled $14.7 million for the three months ended December 31, 2015, compared to $15.2 million for the same period in 2014. This decrease for the three months ended December 31, 2015, was mainly the result of the Trust's disposition program, which eliminated $0.2 million of interest. Another factor reducing interest expense during the period include scheduled mortgage amortizations of $0.5 million. During the period, the Trust's refinancing program replaced $2.2 million of interest expense on matured debt with $1.3 million of interest expense on the same level of financing. Increased financing added $0.9 million of interest expense. Interest expense totalled $59.0 million for the year ended December 31, 2015, compared to $62.0 million for the same period in 2014. This decrease for the year ended December 31, 2015, was mainly the result of the Trust's disposition program, which eliminated $1.6 million of interest. Other factors reducing interest expense during the period include interest capitalized to development projects of $0.4 million and scheduled mortgage amortizations of $1.5 million. During the period, the Trust's refinancing program replaced $7.3 million of interest expense on matured debt with $4.7 million of interest expense on the same level of financing. Increased financing added $2.9 million of interest expense. MORGUARD.COM 22 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 The following table outlines, by quarter, the Trust’s weighted average rates on mortgages payable in 2015 and 2014. The rates are calculated excluding mortgages tied to real estate properties held for sale. WEIGHTED AVERAGE RATES – MORTGAGES PAYABLE TABLE 35 2015 2014 March 31 4.2% 4.4% June 30 4.2% 4.2% September 30 4.1% 4.2% December 31 4.1% 4.2% The Trust has reduced the weighted average interest rate by more than 30 basis points from the start of 2014. GENERAL AND ADMINISTRATIVE EXPENSES General and administrative expenses for the three months ended December 31, 2015, were $1.1 million, a decrease of $0.5 million from the same period in 2014. This favourable decrease is mainly due to higher compensation expenses incurred in 2014. General and administrative expenses for the year ended December 31, 2015, were $4.4 million, a decrease of $1.0 million from the same period in 2014. This favourable decrease is mainly due to higher stock appreciation rights and other compensation expenses incurred in 2014. ADJUSTED FUNDS FROM OPERATIONS AFFO is a non-GAAP measure that is widely accepted as an alternative measure of cash generated from operations. AFFO per unit is calculated by adjusting FFO for accretion of convertible debentures, straight-line rent and productive capacity maintenance expenditures (“PCME”). PCME are expenditures on leasing, replacement or major repair of component parts of properties that are required to preserve the existing earning capacity of the Trust’s real estate portfolio. The Trust categorizes these expenditures as leasing commissions, tenant allowances and recoverable and non-recoverable capital expenditures. Leasing Commissions and Tenant Allowances: The Trust requires ongoing capital spending on leasing commissions and tenant allowances pertaining to new and renewed tenant leases. These costs depend on many factors, including, but not limited to, tenant maturity profile, vacancies, asset type, prevailing market conditions and unforeseen tenant bankruptcies. Recoverable and Non-Recoverable Capital Expenditures: The Trust continually invests in major repair and replacement of component parts of the properties, such as roof, parking lot, elevators and HVAC, to physically maintain them. These costs depend on many factors including, but not limited to, age and location of the property. Most of these capital expenditure items are recovered from tenants, over time, as property operating costs. Commencing in 2014, the Trust uses normalized PCME to calculate AFFO. These normalized expenditures are based on expected average expenditures for the current property portfolio over a three-year horizon, with consideration to historical and forecasted spending patterns. Actual PCME in any given year (Table 37) may exceed the normalized estimation. There is no standard industry-defined measure of AFFO. As such, the Trust’s method of calculating AFFO may differ from other issuers’ methods and, accordingly, may not be comparable to such amounts reported by other issuers. MORGUARD.COM 23 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 ADJUSTED FUNDS FROM OPERATIONS TABLE 36 Three Months Ended December 31 Funds from operations Year Ended December 31 2015 2014 2015 2014 $28,682 $28,154 $106,385 $106,516 Add/(deduct) Accretion of convertible debentures Amortized stepped rents 83 79 (865) (669) (2,177) (2,543) 316 299 Productive capacity maintenance expenditures (normalized) (6,250) (6,250) (25,000) (25,000) Adjusted funds from operations – basic 21,650 21,314 79,524 79,272 Interest expense on convertible debentures 1,833 1,834 7,274 7,275 $23,483 $23,148 $86,798 $86,547 Adjusted funds from operations – diluted The following table provides a breakdown of actual PCME for the three months and year ended December 31, 2015, and for the same period in 2014. ACTUAL PRODUCTIVE CAPACITY MAINTENANCE EXPENDITURES TABLE 37 Three Months Ended December 31 Year Ended December 31 2015 2014 2015 2014 $635 $1,321 $3,570 $3,900 Tenant allowances 819 1,822 10,355 7,632 Total leasing costs 1,454 3,143 13,925 11,532 Capital expenditures recoverable from tenants 2,319 6,478 8,915 12,835 47 453 337 792 Total capital expenditures 2,366 6,931 9,252 13,627 Total productive capacity maintenance expenditures 3,820 10,074 23,177 25,159 Discretionary capital expenditures 1,839 2,223 8,066 4,688 $5,659 $12,297 $31,243 $29,847 Leasing commissions Capital expenditures non-recoverable from tenants Total leasing costs and capital expenditures Discretionary Capital Expenditures In addition to PCME the Trust invests in discretionary capital projects on the development of new space, redevelopment or retrofit of existing properties, and other capital expenditures to create additional long-term value for the Trust’s real estate portfolio. These discretionary capital expenditures are not expected to occur on a consistent basis. These expenditures are included in the above table, along with the recoverable and non-recoverable capital expenditures. The increase in discretionary capital expenditures during the three months and year ended December 31, 2015, mainly relates to electrical and water main replacements, as part of the overall revitalization program to refresh and modernize the St. Laurent Centre. DISTRIBUTIONS TO UNITHOLDERS The Trust’s primary business goal is to accumulate a Canadian portfolio of high-quality real estate assets and then deliver the benefits of such real estate ownership to unitholders. The primary benefit is a reliable and, over time, increasing cash distribution. The Trust expects to distribute to its unitholders in each year an amount not less than the Trust’s taxable income for the year, as calculated in accordance with the Canadian Income Tax Act (“the Act”). The Trust’s monthly distribution to unitholders in 2015 was $0.08 per unit, representing $0.96 per unit on an annualized basis. In determining the annual level of distributions to unitholders, the Trust looks at forward-looking cash flow information, including forecasts and budgets, and the future prospects of the Trust. The Trust does not consider periodic cash flow fluctuations resulting from items such as the timing of property operating costs, property tax instalments or semi-annual debenture interest payments, in determining the level of distributions to unitholders in any particular quarter. Additionally, in establishing the level of cash distributions to the unitholders, the Trust considers the impact of, among other items, the MORGUARD.COM 24 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 future growth in IPP, the impact of future acquisitions and capital expenditures, and leasing costs. As a result, the Trust compares distributions to AFFO to ensure sufficient funds are retained for reinvestment. DISTRIBUTIONS TO UNITHOLDERS TABLE 38 Three Months Ended December 31 2015 Year Ended December 31 2014 2015 2014 Adjusted funds from operations per unit - basic $0.35 $0.35 $1.28 $1.28 Adjusted funds from operations per unit - diluted $0.35 $0.34 $1.28 $1.27 Cash distributions per unit $0.24 $0.24 $0.96 $0.96 Distributions paid as a percentage of AFFO per unit - basic 68.6% 68.6% 75.0% 75.0% The following table provides a reconciliation of AFFO to cash provided by operating activities in the consolidated financial statements: TABLE 39 Three Months Ended December 31 Cash provided by operating activities Changes in working capital Non-cash amortizations Net Income from equity-accounted investments before fair value adjustments Distributions from equity-accounted investments Deferred leasing cost additions Tenant incentive additions Productive capacity maintenance expenditures (normalized) Year Ended December 31 2015 2014 2015 2014 $29,718 $31,969 $97,957 $104,617 (2,403) (5,023) 2,056 (2,790) (657) (764) (2,003) (2,859) 816 798 3,232 (239) (762) 3,816 (702) (2,518) 635 1,320 3,586 3,892 30 26 398 114 (6,250) (25,000) (25,000) Adjusted funds from operations $21,650 $21,314 (6,250) $79,524 $79,272 Adjusted funds from operations $21,650 $21,314 $79,524 $79,272 Cash distributions 14,231 14,693 58,452 58,891 Excess adjusted funds from operations after cash distributions $7,419 $6,621 $21,072 $20,381 The following table provides a summary of distributions relative to cash flow from operating activities in the consolidated financial statements: TABLE 40 Three Months Ended December 31 Cash provided by operating activities Cash distributions Excess of cash from operating activities over cash distributions MORGUARD.COM Year Ended December 31 2015 2014 2015 2014 $29,718 $31,969 $97,957 $104,617 14,231 14,693 58,452 58,891 $15,487 $17,276 $39,505 $45,726 25 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 PART V REAL ESTATE OVERVIEW The carrying value of the Trust’s real estate properties decreased to $2.9 billion as at December 31, 2015 (2014 – $3.0 billion). This decrease is mainly resulting from the dispositions of 350 Sparks/361 Queen, 5591-5631 Finch and 20-24 Lesmill, as well as fair value losses during the year. Income producing properties were affected by additions from the Trust’s capital investment programs (including PCME and completed development), which were offset by fair value losses. REAL ESTATE PROPERTIES TABLE 41 As at December 31 Income producing properties Properties under development Land held for development Total real estate properties (excluding properties held for sale) Properties held for sale Total real estate properties 2015 2014 $2,878,074 $2,884,824 2,524 16,511 28,750 27,650 2,909,348 2,928,985 — 63,190 $2,909,348 $2,992,175 A complete reconciliation of real estate properties discussed in this MD&A to real estate properties per the consolidated financial statements is provided in Part XI (Table 62). PROPERTIES UNDER DEVELOPMENT The Trust’s development program consists of projects identified by management to create additional long-term value for the Trust’s real estate portfolio and align with the long-term strategic objectives. These may include development projects to expand leasable area, redevelopment of an existing area and retrofit opportunities. The following table details the Trust’s active (in progress) development projects. DEVELOPMENT PROJECTS IN PROGRESS TABLE 42 Total Project Cost Cost Incurred to Date Total Properties Transferred Under to IPP Development Estimated Cost to Complete Location Asset Type Parkland Mall, Red Deer, AB Retail $ 15,000 $ Penn West Plaza, Calgary, AB Office 6,100 54 St. Laurent Centre, Ottawa, ON Retail 25,156 25,156 (25,156) — Revitalization project to refresh and — September 2015 modernize the centre – project complete Heritage Place, Ottawa, ON Office 1,972 1,972 (1,972) — Reconfiguration of new space for — September 2015 Winners – project complete 48,228 28,128 (27,128) 1,000 — 1,524 Development – in progress Other Properties under development Various $ 48,228 $ 946 $ 29,652 $ — $ — — (27,128) $ 946 $ 54 1,524 2,524 $ 14,054 6,046 Completion Date Anchor tenant remerchandising for August 2016 Goodlife Fitness Centres Addition of Plus 15 connection to the city's December 2016 enclosed pedestrian skywalk system 20,100 — Pre-development costs 20,100 The revitalization project to refresh and modernize St. Laurent Centre is now complete. The timing of these renovations puts the Trust in a better position to attract new tenants. The reconfiguration of the new Winners location at Heritage Place was also completed during the year, with the official store opening in mid-September. MORGUARD.COM 26 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 Other includes the former Target and Everest College units that are now under redevelopment. To date, no costs have been incurred specifically for these projects. ACQUISITION PROGRAM The table below details acquisitions completed in 2014. There have been no acquisitions in 2015. TABLE 43 In thousands of dollars, square feet Transaction date Asset class Location Trust ownership share GLA Purchase price Capitalization rate Associated debt Interest rate on associated debt Occupancy Key tenants 2014 2014 Citadel West 301 Laurier Avenue July 25 June 4 Office Office Calgary, AB Ottawa, ON 50.0% 50.0% 39,000 17,500 $19,000 $4,037 5.7% The acquisition of Citadel West provides the Trust with 100% ownership. This property has provided consistent results since the Trust first purchased 50% of the asset in 2011. 301 Laurier Avenue was a strategic purchase required to complete the Trust’s presence at the downtown intersection of Slater, Laurier, Bank and Kent, providing the flexibility to maximize long-term value opportunities. 7.0% $7,581 None 3.3% NA 100.0% 100.0% CH2M Hill Unifor DISPOSITION PROGRAM The table below details dispositions completed during the year ended December 31, 2015, and for the year ended December 31, 2014. TABLE 44 In thousands of dollars, square feet Transaction date Asset class Location 2015 2015 20-24 Lesmill 5591-5631 Finch May 15 April 1 2015 2014 350 Sparks/361 Queen Cedar Pointe Business Park February 17 July 2 Industrial Industrial Office/Hotel Office Toronto, ON Toronto, ON Ottawa, ON Barrie, ON Trust ownership share 100.0% GLA 27,577 210,123 86,372 350,797 Sale price (000's) $6,350 $10,000 $37,692 $41,900 Capitalization rate Associated debt Interest rate on associated debt Occupancy Key tenants 6.0% None n/a 100.0% City of Toronto 100.0% 8.0% $6,125 50.0% n/a $17,835 100.0% 6.0% $13,747 5.14% 3.28% 5.1% 92.2% 85.4% 87.0% Humbervale Machinery/ CTI Industries CIRA Municipal Services On March 2, 2015, the Trust entered into an agreement to sell 5591-5631 Finch. On April 1, 2015, the Trust completed the sale of this property for a total price of $10.0 million, less selling costs. On December 10, 2014, the Trust entered into an agreement to sell 20-24 Lesmill. On May 15, 2015, the Trust completed the sale of this property for a total price of $6.4 million, less selling costs. MORGUARD.COM 27 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 Funds from these two dispositions, along with proceeds from the 2014 disposition, remain available to the Trust to complete approved projects. On February 17, 2015, the Trust completed the sale of 350 Sparks and 361 Queen to Morguard for a total price of $37.7 million, which included an assumption of the existing mortgage debt of $17.8 million, less selling costs. At the time of sale, 361 Queen was vacant and not generating income. As a result, establishing an appropriate capitalization rate was deemed indeterminable, and therefore this has been classified as not applicable. The sale of Cedar Pointe Business Park removes the Trust from its exposure to ongoing leasing challenges at the property. The proceeds from the sale were used to complete the large revitalization program at the St. Laurent Centre (see Table 42). FAIR VALUE (LOSSES)/GAINS ON REAL ESTATE PROPERTIES RECOGNIZED IN NET INCOME For the three months ended December 31, 2015, the Trust recorded fair value losses on real estate properties of $24.0 million, versus $4.6 million of fair value losses on real estate properties for the same period in 2014. For the year ended December 31, 2015, the Trust recorded fair value losses on real estate properties of $79.8 million, versus $7.4 million of fair value gains on real estate properties for the same period in 2014. The declines in fair values during the year fully reflect four of the Trust’s regional shopping centres affected by either disclaimed or acquired Target leases. The Trust was also affected by the current economic downturn in the Alberta office market. Fair value adjustments are determined on a quarterly basis based on the movement of various parameters, including changes in projected cash flows as a result of leasing, timing and changes in discount rates, and terminal capitalization rates. Fair value (losses)/gains on real estate properties consist of the following: TABLE 45 Three Months Ended December 31 2015 Income producing properties Properties under development Land held for development Total fair value (losses)/gains on real estate properties ($24,760) Year Ended December 31 2014 ($4,907) 42 (150) 733 412 ($23,985) ($4,645) 2015 ($80,502) 1 733 ($79,768) 2014 $11,138 (4,005) 270 $7,403 A complete reconciliation of fair value (losses)/gains on real estate properties discussed in this MD&A to fair value (losses)/ gains on real estate properties per the consolidated financial statements is provided in Part XI (Table 63). MORGUARD.COM 28 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 PART VI LIQUIDITY AND CAPITAL RESOURCES Cash flow generated from operating the real estate properties represents the primary source of liquidity to service debt, and to fund planned maintenance expenditures, leasing costs and distributions to unitholders. Cash flow from operations is dependent upon occupancy levels of properties owned, rental rates achieved, collection of rents, efficiencies in operations, the costs involved to lease or renew rental space and planned maintenance expenditures, as well as other factors. CASH FLOWS The following table details the changes in cash and cash equivalents for the following periods: TABLE 46 Three Months Ended December 31 Year Ended December 31 2015 2014 2015 2014 Cash provided by operating activities $30,296 $31,801 $98,774 $105,010 Cash used in financing activities (43,956) (23,898) (107,131) (60,044) Cash provided by/(used in) investing activities 27,280 (16,816) 23,792 (45,997) Net increase/(decrease) in cash 13,620 (8,913) 15,435 (1,031) Cash and cash equivalents, beginning of year 14,536 21,634 12,721 13,752 $28,156 $12,721 $28,156 $12,721 Cash and cash equivalents, end of year A complete reconciliation of cash flows discussed in this MD&A to cash flows per the consolidated financial statements is provided in Part XI (Table 65). DEBT STRATEGY The Trust’s long-term debt strategy involves the use of three forms of debt: conventional property-specific secured mortgages or bonds, unsecured convertible debentures and secured floating-rate bank financing. The Trust is limited by its Declaration of Trust to an overall indebtedness ratio of 60% of the gross book value of the Trust’s total assets determined in accordance with IFRS. The debt limitations are in relation to the assets of the Trust in aggregate. There are no individual property debt limitations or constraints imposed by the Declaration of Trust. The Trust’s current operating strategy involves maintaining debt levels up to 50% of the gross book value of total assets. Accordingly, the Trust does not generally repay maturing debt from cash flow, but rather with proceeds from refinancing such debt or financing unencumbered properties, and raising new equity or recycling equity through property dispositions to finance investment activities. The Trust has a revolving loan agreement with Morguard that provides for borrowings or advances of up to $50.0 million. This loan agreement is meant to provide short-term financing and investing options. The promissory notes are interestbearing at the lender’s borrowing rate and are due on demand subject to available funds. During the three months ended December 31, 2015, a gross amount of $6.0 million was advanced to Morguard, and $39.0 million was repaid. During the year ended December 31, 2015, a gross amount of $36.0 million was advanced to Morguard, and $66.0 million was repaid. As at December 31, 2015, the total amount receivable from Morguard was $nil (2014 – $30.0 million). For the three months ended December 31, 2015, the Trust earned interest income in the amount of $110 (2014 – $185). For the year ended December 31, 2015, the Trust earned interest income in the amount of $568 (2014 – $353). As at December 31, 2015, the interest rate on the loan receivable from Morguard was 2.19% (2014 – 2.44%). MORGUARD.COM 29 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 DEBT STRUCTURE TABLE 47 As at December 31 Conventional secured mortgages payable Unsecured convertible debentures payable Secured floating rate bank financing 2015 % 2014 % $1,201,556 89.1% $1,212,561 88.9% 147,698 10.9% 146,541 10.7% — —% 4,927 0.4% $1,349,254 100.0% $1,364,029 100.0% To manage long-term interest rate risk, while providing flexibility in the execution of investment transactions, management has historically utilized floating rate debt at less than 5% of the Trust’s total debt. 2012 CONVERTIBLE DEBENTURES PAYABLE On October 31, 2012, the Trust issued a $150.0 million principal amount of 4.85% convertible unsecured subordinated debentures (“2012 Debentures”), maturing on October 31, 2017 (the “Maturity Date”). Interest is payable semi-annually, not in advance, on April 30 and October 31 of each year. The 2012 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 2012 Debentures at the date of original issue. The portion of issue costs attributable to the liability of $4,182 has been capitalized and amortized over the term to maturity, while the remaining amount of $46 has been charged to equity. CONVERTIBLE DEBENTURES PAYABLE TABLE 48 Principal October 21, 2012 Issue costs Convertible debentures payable Issued Liability Equity $150,000 $148,428 $1,572 (4,228) $145,772 (4,182) $144,246 (46) $1,526 Conversion Rights: 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 40.6504 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. 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 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. 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 on Redemption or Maturity: The Trust may satisfy the obligation to repay the principal amount 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. MORGUARD.COM 30 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 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. MORTGAGES PAYABLE TABLE 49 As at December 31 Mortgages payable before financing costs 2015 2014 $1,205,101 $1,216,585 Premium on acquired debt 1 (3,546) Deferred financing costs $1,201,556 Mortgages payable 11 (4,035) $1,212,561 A complete reconciliation of mortgages payable discussed in this MD&A to mortgages payable per the consolidated financial statements is provided in Part XI (Table 64). DEBT MATURITY PROFILE Management attempts to stagger the maturities of the Trust’s fixed-rate debt with the general objective of achieving even annual maturities over a 10-year time horizon. The intention of this strategy is to reduce the Trust’s exposure to interest rate fluctuations in any one period. The following tables outline the aggregate principal repayment for mortgages payable and convertible debentures, as at December 31, 2015, together with the weighted average contractual rate on debt maturing in the years indicated. Also highlighted are the Trust’s primary sources of lending, by year of maturities, and the Trust’s up-financing opportunity in relation to the fair value of encumbered properties relative to their respective maturing debt. AGGREGATE MATURITIES TABLE 50 Year Mortgage Maturity Payments Scheduled Principal Repayments Weighted Total Mortgages Average Interest Payable Rate 2016 $55,786 $35,373 $91,159 4.10% $— —% $91,159 4.10% 2017 50,289 35,075 85,364 4.52% 149,985 4.85% 235,349 4.76% 2018 55,464 33,146 88,610 4.45% — —% 88,610 4.45% 2019 162,122 27,755 189,877 3.63% — —% 189,877 3.63% Debentures Payable Weighted Average Interest Rate Weighted Total Debt Average Interest Maturities Rate 2020 139,019 26,427 165,446 4.46% — —% 165,446 4.46% Thereafter 534,989 49,656 584,645 4.12% — —% 584,645 4.12% Total $997,669 $207,432 $1,205,101 4.13% $149,985 4.85% $1,355,086 4.21% With weighted average interest rates of 4.10% on mortgages maturing in 2016, the Trust has an opportunity in 2016 to lower the overall interest rate on approximately $56 million of maturing debt. The weighted average interest rate at December 31, 2015, was 4.13%. At December 31, 2015, the Trust’s weighted average term to maturity for mortgages payable is 5.3 years. MORGUARD.COM 31 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 PRINCIPAL MATURITIES BY TYPE OF LENDER, BY YEAR OF MATURITY TABLE 51 Year Banks Insurance Industry Pension Funds Unsecured Debentures Total 2016 $1,489 $40,234 2017 — 12,944 $14,063 $— $55,786 37,345 149,985 2018 — 200,274 55,464 — — 2019 129,640 55,464 32,482 — — 162,122 139,019 2020 28,440 49,412 61,167 — Thereafter 293,192 201,982 39,815 — 534,989 $452,761 $392,518 $152,390 $149,985 $1,147,654 The Trust maintains strategic relationships with banks, insurance companies and pension funds to reduce its exposure to any one lending group. The 2012 Debentures maturing in 2017 have certain redemption rights commencing November 2016 (see Table 48). FAIR VALUE OF ENCUMBERED PROPERTIES RELATIVE TO MATURING DEBT TABLE 52 Year Mortgage Maturity Payments Scheduled Principal Repayments Total Fair Value of Encumbered Assets 2016 $55,786 $1,117 $56,903 $182,200 31% 2017 50,289 2,911 53,200 116,175 46% 2018 55,464 9,026 64,490 234,000 28% 2019 162,122 17,628 179,750 397,760 45% 2020 139,019 24,884 163,903 396,900 41% Thereafter 534,989 151,866 686,855 1,361,190 50% $997,669 $207,432 $1,205,101 $2,688,225 45% Leverage Given current real estate values, the Trust has an opportunity during 2016 to increase financing as debt matures and still maintain the targeted loan to value ratio of 50%. MORGUARD.COM 32 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 DEBT AND LEVERAGE METRICS TABLE 53 For the year ended December 31 2015 2014 Interest coverage ratio (i) 2.76 2.65 Debt service coverage ratio (ii) Debt ratio (iii) 1.73 1.72 45.7% 45.7% Weighted average rates on mortgages 4.1% 4.2% Average term to maturity on mortgages (years) 5.32 5.95 Distributions as a percentage of adjusted funds from operations 75.0% 75.0% Unencumbered assets to unsecured debt 79.6% 60.6% Unencumbered assets $119,400 $90,900 Unsecured debt $149,985 $149,985 (i) Interest coverage defined as: Net income before taxes, amortization and fair value changes for the period, divided by total interest expense at the Trust's share (including interest that has been capitalized). (ii) Debt service coverage defined as: Net income before taxes, amortization and fair value changes for the period, divided by total interest expense at the Trust's share (including interest that has been capitalized), and scheduled mortgage principal repayments. (iii) Debt ratio defined as: Total gross book value, divided by total indebtedness. Improvements were shown in certain of the Trust’s key ratios and leverage metrics for the year ended December 31, 2015, in comparison to the results for the year ended December 31, 2014. Both interest coverage and debt ratios showed modest improvements during the year. This is primarily the continuing effects of the completed 2014 refinancing program. The weighted average rate on mortgages reduced slightly to 4.1% during the year, with $56.2 million of refinancing on $28.5 million of maturing debt at significantly lower rates. CREDIT FACILITIES As at December 31, 2015, the Trust has secured floating rate bank financing availability totalling $70 million, which renews annually and is secured by fixed charges on specific properties owned by the Trust. The bank credit agreements include certain restrictive covenants and undertakings by the Trust. As at December 31, 2015, the Trust was in compliance with all covenants and undertakings. The Trust has a revolving unsecured loan agreement with Morguard that provides for borrowings or advances of up to $50 million. CREDIT FACILITIES TABLE 54 As at December 31 Bank credit facilities and operating lines Revolving loan agreement with Morguard Amounts drawn against credit facilities 2015 2014 $70,000 $70,000 50,000 50,000 120,000 120,000 (286) $119,714 MORGUARD.COM (5,217) $114,783 33 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 PART VII RISKS AND UNCERTAINTIES All real estate investments are subject to a degree of risk and uncertainty. Income producing property is affected by various factors, including general economic conditions and local market circumstances. Local business conditions such as oversupply of space or a reduction in demand particularly affect income property investments. Management attempts to manage these risks through geographic and asset class diversification. At December 31, 2015, the Trust held 49 properties in three assets classes (retail, office and industrial) and located in six provinces. The Trust is exposed to other risks as outlined below. INTEREST RATE AND FINANCING RISK The Trust is exposed to financial risks that arise from its indebtedness, including fluctuations in interest rates. Interest rate risk is managed by financing debt at fixed rates with maturities scheduled over a number of years. At December 31, 2015, 100.0% of the Trust’s debt was at fixed rates. As outlined under “Part VI – Liquidity and Capital Resources,” the Trust has an ongoing requirement to access debt markets to refinance maturing debt as it comes due. There is a risk that lenders will not refinance such maturing debt on terms and conditions acceptable to the Trust, or any terms at all. The Declaration of Trust permits the Trust to incur indebtedness, provided that after giving effect to incurring or assuming any indebtedness the amount of all indebtedness of the Trust is not more than 60% of the gross book value of the Trust’s total assets. The following table provides the Trust’s debt ratios compared to the borrowing limits established in the Declaration of Trust: DEBT RATIOS TABLE 55 As at December 31 Fixed-rate debt to gross book value of total assets Borrowing Limits —% 2015 2014 45.7% 45.5% Floating-rate debt to gross book value of total assets 15.0% —% 0.2% Total indebtedness to gross book value of total assets 60.0% 45.7% 45.7% CREDIT RISK Credit risk arises from the possibility that tenants may be unable to fulfill their lease commitments. Management mitigates this risk by ensuring that the Trust’s tenant mix is diversified and by limiting the Trust’s exposure to any one tenant. MORGUARD.COM 34 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 TOP TEN TENANTS TABLE 56 Annualized Rental Revenue Tenant # of Locations Net Leasable Area (000's) % of Total NLA Weighted Average Remaining Lease Term 1 Federal and provincial government 12.7% 12 945 10.7% 6.4 2 Penn West Petroleum Ltd. 11.7% 1 619 7.0% 9.1 3 Canadian chartered banks - Tier 1 4.5% 22 301 3.4% 5.5 4 Bombardier Inc. 2.9% 1 278 3.2% 15.3 5 Canadian Tire Corporation Ltd. 1.9% 8 283 3.2% 4.4 6 Amec Foster Wheeler 1.9% 1 145 1.6% 5.0 7 Loblaw Companies Ltd. 1.3% 8 117 1.3% 5.3 8 CH2M Hill Canada Ltd. 1.2% 2 87 1.0% 11.7 9 Sobeys Inc. 1.1% 4 194 2.2% 2.6 10 HBC 1.1% 3 324 3.7% 5.1 40.3% 62 3,293 37.3% 7.1 LEASE ROLLOVER RISK Lease rollover risk arises from the possibility that the Trust may experience difficulty renewing leases as they expire or in releasing space vacated by tenants upon lease expiry. Management attempts to stagger the lease expiry profile so that the Trust is not faced with disproportionate amounts of space expiring in any one year. Management further mitigates this risk by maintaining a diversified portfolio mix by both asset type and geography. LEASE PROFILE TABLE 57 Retail Sq. Ft. Sq. Ft. Industrial % of Portfolio Weighted Average Contract Rent Sq. Ft. % of Portfolio Weighted Average Contract Rent 2016 726,206 16.9% $18.43 284,207 8.1% $22.15 46,144 8.6% $5.98 2017 388,744 9.0% 28.39 286,517 8.1% 23.10 73,438 13.7% 7.58 2018 356,957 8.3% 27.58 196,923 5.6% 22.07 61,775 11.6% 6.27 2019 179,741 4.2% 31.39 172,393 4.9% 23.66 7,472 1.4% 6.39 Thereafter 2,527,685 58.9% 19.83 2,463,999 70.1% 22.66 330,102 61.8% 5.68 Current vacancy Total % of Portfolio Office Weighted Average Contract Rent 118,130 2.7% — 113,406 3.2% — 15,271 2.9% — 4,297,463 100.0% $21.54 3,517,445 100.0% $22.67 534,202 100.0% $6.06 2016 EXPIRIES BY LOCATION (NET OF RENEWALS): TABLE 58 Retail British Columbia Alberta Saskatchewan Office Sq. Ft. Weighted Average Contract Rent — Industrial Sq. Ft. Weighted Average Contract Rent Sq. Ft. Weighted Average Contract Rent Total $— 5,014 $32.49 — $— 5,014 205,385 17.14 87,140 29.61 — — 292,525 63,268 20.10 — — — — 63,268 Manitoba 108,309 17.56 — — — — 108,309 Ontario 349,244 19.27 176,240 18.89 46,144 5.98 571,628 Quebec — — 15,813 14.05 — — 15,813 726,206 $18.43 284,207 $22.15 46,144 $5.98 1,056,557 Total MORGUARD.COM 35 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 ENVIRONMENTAL RISK The Trust is subject to various federal, provincial and municipal laws relating to the environment. The Trust’s ongoing environmental management program includes regular review of tenant business uses and inspections of properties to ensure compliance, as well as appropriate testing by qualified environmental consultants when required. A Phase I environmental site assessment is performed on properties considered for acquisition. The Trust mitigates the cost of remediation by carrying environmental insurance where available. UNITHOLDER LIABILITY The Declaration of Trust provides that no unitholder or annuitant under a plan of which a unitholder acts as trustee or carrier will be held to have any personal liability as such and that no recourse may be had to the private property of any unitholder or annuitant for satisfaction of any obligation or claim arising out of or in connection with any contract or obligation of the Trust. Only assets of the Trust are intended to be liable and subject to levy or execution. The following provinces have legislation relating to unitholder liability protection: British Columbia, Alberta, Saskatchewan, Manitoba, Ontario and Quebec. Certain of these statutes have not yet been judicially considered, and it is possible that reliance on such statute by a unitholder could be successfully challenged on jurisdictional or other grounds. The Trustees will cause the operations of the Trust to be conducted, with the advice of counsel, in a manner and in such jurisdictions so as to avoid, as far as practicable, any material risk of liability to the unitholders for claims against the Trust. The Trustees will also cause the Trust to carry insurance, to the extent to which they determine to be possible and reasonable, for the benefit of unitholders and annuitants in such amounts as they consider adequate to cover non-contractual or non-excluded liability. GENERAL UNINSURED LOSSES The Trust has in place blanket comprehensive general liability, fire, flood, extended coverage and rental loss insurance with policy specifications, limits and deductibles customarily carried for similar properties. There are, however, certain types of risks (generally of a catastrophic nature such as from wars or environmental contamination) that are either uninsurable or not insurable on an economically viable basis. The Trust also carries insurance for earthquake risks, where appropriate, subject to certain policy limits, deductibles and self-insurance arrangements, and will continue to carry such insurance if it is economical to do so. Should an insured or underinsured loss occur, the Trust could lose its investment in, and anticipated profits and cash flows from, one or more of its properties. AVAILABILITY OF CASH FLOW From time to time, because of items such as debt repayments and discretionary capital expenditures incurred to enhance the real estate portfolio, adjusted funds from operations may be less than the actual cash required by the Trust. In these situations, The Trust may use part of its debt capacity or reduce distributions in order to meet its obligations. UNITS OUTSTANDING Under the Declaration of Trust, the Trust is authorized to issue an unlimited number of units. Each unit represents an equal interest in the Trust together with all outstanding units. All units have equal voting rights at meetings held by the Trust. As at February 17, 2016, the Trust had 60,895,912 units outstanding (62,167,654 – December 31, 2014). There have been no units repurchased for cancellation during 2016 as a part of the Trust's participation in the normal course issuer bid. UNITHOLDER TAXATION The Trust is taxed as a “mutual fund trust” for income tax purposes. Under Part I of the Act, a Trust is not subject to income taxes to the extent that the income for tax purposes in a given year does not exceed the amount distributed to unitholders and deducted by the Trust for tax purposes. The Trustees intend to distribute or designate all taxable income directly earned by the Trust to unitholders of the Trust and to deduct such distributions and designations for income tax purposes. Accordingly, in prior years the Trust has not been required to record a provision for income taxes. During the year, the Trust realized capital gains as a result of the disposal of one office/hotel property and two industrial properties, 50% of which are included in computing income for tax purposes. MORGUARD.COM 36 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 Distributions are broken down into four categories: taxable capital gains, non-taxable capital gains, return of capital and other income. Distributions by category for the last two years are as follows: DISTRIBUTIONS BY CATEGORY TABLE 59 2015 2014 Capital gains – taxable 2.1% 5.4% Capital gains – non-taxable 2.1% 5.4% Return of capital 27.3% 26.2% Other income – taxable 68.5% 63.0% 100.0% 100.0% Legislation relating to the federal income taxation of a “specified investment flow-through” (“SIFT”) trust or partnership was enacted in 2007. Under the SIFT rules, certain distributions attributable to a SIFT will not be deductible in computing the SIFT’s taxable income, and the SIFT will be subject to tax on such distributions at a rate that is substantially equivalent to the general tax rate applicable to Canadian corporations. Distributions paid by a SIFT as returns of capital will not be subject to this tax. The SIFT tax regime did not apply to the Trust prior to 2011 due to transitional relief available to certain SIFTs that were publicly listed before November 1, 2006. The SIFT tax does not apply to a trust that meets prescribed conditions relating to the nature of its income and investments (“the REIT exception”). The Trust has reviewed its status under the legislation and has determined that it is not subject to this tax as it met the REIT exception at December 31, 2015, and throughout the year. Accordingly, no net additional current income tax expense or future income tax assets or liabilities have been recorded in the December 31, 2015, consolidated financial statements. The REIT exception is applied annually. As such, it will not be possible to determine if the Trust will satisfy the conditions of the REIT exception for 2016 or any subsequent year until the end of the particular year. MORGUARD.COM 37 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 PART VIII CRITICAL ACCOUNTING POLICIES AND ESTIMATES The Trust’s critical accounting policies are those that management believes are the most important in portraying the Trust’s financial condition and results and that require the most subjective judgment and estimates on the part of management. REAL ESTATE PROPERTIES Real estate properties include retail, office and industrial properties held to earn rental income (income producing properties) and properties or land that are being constructed or developed for future use as income producing properties. Real estate properties are recorded at fair value, determined based on available market evidence, at the balance sheet date. The Trust determined the fair value of each real estate property based upon, among other things, rental income from current leases and assumptions about rental income from future leases reflecting market conditions at the applicable balance sheet date, less future cash outflow pertaining to the respective leases. The real estate properties are appraised using a number of approaches that typically include a discounted cash flow analysis, direct capitalization method and a direct comparison approach. The discounted cash flow analysis is primarily based on 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 cash flows. In applying the accounting policies to the real estate properties, judgment is required 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. REVENUE RECOGNITION The computation of cost reimbursements from tenants for realty taxes, insurance and common area maintenance charges is complex and involves a number of judgments, 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. 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. FAIR VALUE OF FINANCIAL INSTRUMENTS Management reports on a quarterly basis the fair value of financial instruments. The fair value of financial instruments approximates amounts at which these instruments could be exchanged between knowledgeable and willing parties. The estimated fair value may differ in amount from that which could be realized on an immediate settlement of the instruments. Management estimates the fair value of mortgages payable by discounting the cash flows of these financial obligations using December 31, 2015, market rates for debts of similar terms. The fair value of the convertible debentures payable is based on their market trading price (TSX: MRT.DB.A). MORGUARD.COM 38 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 PART IX CONTROLS AND PROCEDURES CONCERNING FINANCIAL INFORMATION The financial certification process project team has documented and assessed the design and effectiveness of the internal controls in order to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with IFRS. This undertaking has enabled the Chief Executive Officer and Chief Financial Officer to attest that the design and effectiveness of the internal controls with regard to financial information are effective using the Committee of Sponsoring Organizations of the Treadway Commission ("COSO") Internal Control - Integrated Framework (2013). In order to ensure that the consolidated financial statements and MD&A present fairly, in all material aspects, the financial position of the Trust and the results of its operations, management is responsible for establishing and maintaining disclosure controls and procedures, as well as internal control over financial reporting. The Trust's management has evaluated the effectiveness of the Trust's disclosure controls and procedures and, based on such evaluation, has concluded that their design and operation are adequate and effective as of the year ended December 31, 2015. The Trust's management has also evaluated the effectiveness of the internal controls over financial reporting and has concluded that the design and operation are effective as of the year ended December 31, 2015. An information disclosure policy constitutes the framework for the information disclosure process with regard to the annual and interim filings, as well as to the other reports filed or submitted under securities legislation. This policy aims in particular at identifying material information and validating the related reporting. Morguard’s Disclosure Committee is responsible for ensuring compliance with this policy for both Morguard and the Trust. Morguard’s and the Trust’s senior management act as the Disclosure Committee, ensuring compliance with this policy and reviewing main documents to be filed with regulatory authorities to ensure that all significant information regarding operations is communicated in a timely manner. MORGUARD.COM 39 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 PART X OUTLOOK The Canadian property market exhibited continued progression throughout 2015, against a backdrop of rising risk. In most segments of the market, owners of commercial income producing property generated income growth and stability. The exception to this rule was in metros both north and south of the 49th Parallel where performance was tied directly to the energy sector. The relative ease with which investors were able to access low-cost debt and equity capital fueled the flow of capital into the North American commercial property sector. The resulting demand depth ensured property values largely held at the peak for the cycle in Canada. Pension funds, private capital, and foreign groups were all active purchasers of assets in the past year, as publicly-traded entities were often challenged to raise funds at the retail level. The progression witnessed in the Canadian investment markets occurred during a period of capital market volatility, socio-political unrest, and increased economic uncertainty in both the developed and developing countries of the world. This resulted in an environment of increased property market risk. However despite this backdrop in 2015, the overall Canadian commercial property market performance was mostly positive. Looking to 2016, a similar performance to that of 2015 is anticipated for the Canadian commercial real estate markets. Economic output will continue to increase, with the US outperforming. In Canada, the continued oil sector malaise should reduce growth rates in certain regions. However, the broader economic picture is expected to be one of moderate expansion. In Canada, property values should stabilize for ‘core’ assets, with slight reductions for riskier properties. Aggressive bidding on properties made available for acquisition will likely persist, although the number of bids should fall short of the cycle peak. Oil prices are expected to continue to disappoint, which will impact the economic and real estate outlook across the continent. The hope is that a more stable outlook unfolds in the global commodities market as 2016 progresses, signaling a new growth trend. If not, the Canadian property market will perform in 2016 much as it did in 2015, against a backdrop of similar levels of risk. In 2016, the environment for acquisitions will continue to be extremely competitive. The Trust remains disciplined in exploring new investment opportunities. Management will continue to seek acquisition opportunities, focusing on properties that are accretive in the long-term. In addition to acquisitions, the Trust also expects growth to come organically from within the existing portfolio and from intensification opportunities. Target’s exit from the Canadian market place provides the Trust with the opportunity to remerchandise four of its enclosed regional centres. The Trust’s strength stems from conservative financial leverage, a moderate payout ratio and diversification. MORGUARD.COM 40 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 PART XI RECONCILIATIONS TO THE ISSUED FINANCIAL STATEMENTS Part XI provides the reader with reconciliations of the key performance measures used in this MD&A to the Trust’s consolidated financial statements. RECONCILIATION OF NET INCOME PER THE FINANCIAL STATEMENTS TABLE 60 Three Months Ended December 31 Year Ended December 31 2015 2014 Variance 2015 2014 Variance Retail $22,959 $21,867 $1,092 $85,059 $85,181 ($122) Office 19,053 18,916 137 75,488 74,623 865 Net operating income Industrial 683 709 42,695 41,492 Real estate properties acquisitions 347 Real estate properties held for development 285 Net operating income – same assets Real estate properties held for sale 3,034 2,686 348 1,203 (26) 163,581 162,490 1,091 331 16 1,377 620 757 173 112 839 705 134 (627) 9 636 428 3,610 (3,182) 43,336 42,632 704 166,225 167,425 (1,200) Step rents 858 656 202 2,131 2,591 (460) Lease cancellation fees 168 871 (703) 945 998 (53) One-time adjustment 235 784 (549) 1,018 3,871 (2,853) 44,597 44,943 (346) 170,319 174,885 (4,566) Net operating income before other adjustments OTHER ADJUSTMENTS Net operating income from total real estate properties Equity-accounted investments Net operating income per the financial statements (1,111) $43,486 (1,099) (12) $43,844 ($358) (4,389) $165,930 (5,146) $169,739 757 ($3,809) RECONCILIATION OF NET INCOME FROM EQUITY-ACCOUNTED INVESTMENTS TABLE 61 Three Months Ended December 31 Net operating income Year Ended December 31 2015 2014 Variance 2015 2014 Variance $1,111 $1,099 $12 $4,389 $5,146 ($757) Other expenses (295) (301) 6 (1,157) (1,330) 173 Fair value losses on real estate properties (807) (3,751) 2,944 (791) (3,836) 3,045 (1,102) (4,052) 2,950 (1,948) (5,166) 3,218 ($2,953) $2,962 $2,441 ($20) $2,461 Net income/(loss) from equity-accounted investments MORGUARD.COM $9 41 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 RECONCILIATION OF REAL ESTATE PROPERTIES TABLE 62 As at December 31, 2015 Income producing properties Properties under development Land held for development Total real estate properties As at December 31, 2014 Income producing properties Properties under development Land held for development Total real estate properties Per Financial Statements Equity-Accounted Investments All Properties $2,816,124 $61,950 $2,878,074 2,524 — 2,524 28,750 — 28,750 $2,847,398 $61,950 $2,909,348 Per Financial Statements Equity-Accounted Investments All Properties $2,822,074 $62,750 $2,884,824 16,511 — 16,511 27,650 — 27,650 $2,866,235 $62,750 $2,928,985 Equity-Accounted Investments All Properties RECONCILIATION OF FAIR VALUE (LOSSES)/GAINS ON REAL ESTATE PROPERTIES TABLE 63 For the three months ended December 31, 2015 Income producing properties Per Financial Statements ($24,017) ($807) Land held for development 733 — Properties held for sale 106 — Total fair value losses on real estate properties For the three months ended December 31, 2014 Income producing properties Properties under development Land held for development Total fair value losses on real estate properties For the year ended December 31, 2015 Income producing properties Land held for development Properties held for sale Total fair value losses on real estate properties For the year ended December 31, 2014 Income producing properties Properties under development Land held for development Total fair value gains/(losses) on real estate properties MORGUARD.COM ($23,178) Per Financial Statements ($1,156) ($807) Equity-Accounted Investments ($3,751) (150) — 412 — ($894) Per Financial Statements ($79,513) ($3,751) Equity-Accounted Investments ($791) ($24,824) 733 106 ($23,985) All Properties ($4,907) (150) 412 ($4,645) All Properties ($80,304) 733 — 733 (197) — (197) ($78,977) Per Financial Statements $14,974 (4,005) 270 $11,239 ($791) Equity-Accounted Investments ($3,836) — — ($3,836) ($79,768) All Properties $11,138 (4,005) 270 $7,403 42 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 RECONCILIATION OF MORTGAGES PAYABLE TABLE 64 As at December 31, 2015 Mortgages payable before financing costs Premium on acquired debt Deferred financing costs Mortgages payable As at December 31, 2014 Mortgages payable before financing costs Premium on acquired debt Deferred financing costs Mortgages payable MORGUARD.COM Per Financial Statements Equity-Accounted Investments All Properties $1,175,880 $29,221 $1,205,101 1 — (3,546) — 1 (3,546) $1,172,335 $29,221 $1,201,556 Per Financial Statements Equity-Accounted Investments All Properties $1,186,480 $30,105 $1,216,585 11 — 11 (4,035) $1,182,456 — $30,105 (4,035) $1,212,561 43 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 RECONCILIATION OF CASH FLOWS TABLE 65 Per Financial Statements Equity-Accounted Investments All Properties Cash provided by operating activities $29,718 $578 $30,296 Cash used in financing activities (43,731) (225) (43,956) Cash provided by investing activities 26,598 682 27,280 Net increase in cash 12,585 1,035 13,620 Cash and cash equivalents, beginning of year 13,697 839 14,536 $26,282 $1,874 $28,156 Per Financial Statements Equity-Accounted Investments All Properties For the three months ended December 31, 2015 Cash and cash equivalents, end of year For the three months ended December 31, 2014 Cash provided by/(used in) operating activities $31,887 ($86) $31,801 Cash used in financing activities (23,682) (216) (23,898) Cash (used in)/provided by investing activities (16,835) 19 (16,816) (8,630) (283) (8,913) Net decrease in cash Cash and cash equivalents, beginning of year Cash and cash equivalents, end of year For the year ended December 31, 2015 Cash provided by operating activities Cash used in financing activities 21,242 392 21,634 $12,612 $109 $12,721 Per Financial Statements Equity-Accounted Investments All Properties $97,957 $817 $98,774 (884) (107,131) (106,247) Cash provided by investing activities 21,960 1,832 23,792 Net increase in cash 13,670 1,765 15,435 Cash and cash equivalents, beginning of year 12,612 109 12,721 $26,282 $1,874 $28,156 Per Financial Statements Equity-Accounted Investments All Properties $104,617 $393 $105,010 Cash and cash equivalents, end of year For the year ended December 31, 2014 Cash provided by operating activities Cash used in financing activities (59,062) Cash (used in)/provided by investing activities (46,020) Net decrease in cash Cash and cash equivalents, beginning of year Cash and cash equivalents, end of year MORGUARD.COM (982) (60,044) 23 (45,997) (566) (1,031) 13,077 675 13,752 $12,612 $109 $12,721 (465) 44 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 PART XII SUMMARY OF QUARTERLY RESULTS TABLE 66 The following table provides a summary of quarterly operating results for the last eight quarters. Revenue from real estate properties Property operating expenses Property management fees December 31, September 30, June 30, March 31, 2015 2015 2015 2015 $76,838 $72,193 $71,851 $74,730 29,736 28,709 28,602 29,483 2,496 2,332 2,337 2,362 Net operating income 44,606 41,152 40,912 42,885 Interest expense 14,948 14,756 14,810 15,068 1,080 1,014 1,128 1,159 General and administrative Other income Income before fair value (losses)/gains on real estate properties, and net (loss)/income from real estate properties held for sale Fair value (losses)/gains on real estate properties Net (loss)/income from real estate properties held for sale Net income/(loss) for the period (113) 28,691 (23,880) (114) (116) 25,498 635 (19) (167) (175) 25,141 26,833 (45,229) (11,047) (129) 237 $4,697 $26,114 ($20,217) $16,023 December 31, September 30, June 30, March 31, 2014 2014 2014 2014 $77,215 $72,966 $73,233 $73,255 30,578 28,445 27,993 29,164 2,446 2,333 2,334 2,361 Net operating income 44,191 42,188 42,906 41,730 Interest expense 15,159 15,265 15,200 15,274 1,530 1,230 1,443 1,225 — — Revenue from real estate properties Property operating expenses Property management fees General and administrative Other income (207) (168) Income before fair value (losses)/gains on real estate properties, loss on sale of real estate properties and net income/(loss) from real estate properties held for sale 27,709 25,861 26,263 25,231 Fair value (losses)/gains on real estate properties (6,043) (5,038) 4,163 10,079 Loss on sale of real estate properties Net income/(loss) from real estate properties held for sale Net income for the period MORGUARD.COM (22) 1,843 $23,487 (15) — — (837) 3,725 963 $34,151 $36,273 $19,971 45 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 PART XIII FUTURE ACCOUNTING POLICY CHANGES 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 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 other comprehensive income 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. MORGUARD.COM 46 MORGUARD REAL ESTATE INVESTMENT TRUST MANAGEMENT’S DISCUSSION AND ANALYSIS | DECEMBER 31, 2015 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. MORGUARD.COM 47 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 INDEPENDENT AUDITORS' REPORT TO THE UNITHOLDERS OF MORGUARD REAL ESTATE INVESTMENT TRUST 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 48 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 BALANCE SHEETS In thousands of Canadian dollars As at December 31 Notes 2015 2014 5 6 $2,847,398 32,509 2,879,907 $2,866,235 30,770 2,897,005 12(b),(e) 13,011 955 26,282 40,248 — $2,920,155 42,635 1,054 12,612 56,301 63,190 $3,016,496 $1,082,799 147,698 3,517 1,234,014 $1,111,360 146,541 4,111 1,262,012 89,536 40,465 — 130,001 — 71,096 41,650 4,927 117,673 29,730 1,364,015 1,556,140 $2,920,155 1,409,415 1,607,081 $3,016,496 ASSETS Non-current assets Real estate properties Equity-accounted investments Current assets Amounts receivable Prepaid expenses and other assets Cash and cash equivalents Real estate properties held for sale Total assets 20 LIABILITIES AND UNITHOLDERS’ EQUITY Non-current liabilities Mortgages payable Convertible debentures payable Other liabilities 8 9 Current liabilities Mortgages payable Accounts payable and accrued liabilities Bank indebtedness 8 12(a) 10 Mortgages payable on real estate properties held for sale 20 Total liabilities Unitholders' equity 14 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 MORGUARD.COM Paul Cobb, Trustee 49 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 STATEMENT OF INCOME AND COMPREHENSIVE INCOME In thousands of Canadian dollars, except per unit amounts For the year ended December 31 Revenue from real estate properties Property operating expenses Property management fees Net operating income Interest expense General and administrative Other income Income before fair value (losses)/gains, loss on sale of real estate properties and net income/(loss) from equity-accounted investments Fair value (losses)/gains on real estate properties Loss on sale of real estate properties Net income/(loss) from equity-accounted investments Net income for the year Notes 2015 2014 13(a) 12(a) $290,982 115,646 9,406 165,930 $298,461 119,139 9,583 169,739 11 13(b) 5 6 58,981 4,367 (571) 62,000 5,414 (375) 103,153 102,700 (78,977) — 2,441 26,617 11,239 (37) (20) 113,882 OTHER COMPREHENSIVE INCOME Items to be reclassified to profit or loss in subsequent periods: Amortization – cash flow hedges Comprehensive income NET INCOME PER UNIT Basic Diluted (1) 935 $27,552 1,010 $114,892 $0.43 $0.43 $1.83 $1.72 14(d) (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 50 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 STATEMENT OF UNITHOLDERS' EQUITY In thousands of Canadian dollars, except number of units Balance, at January 1, 2014 Repurchase of units Debentures converted Number of Units Issue of Units 62,221,836 $625,824 (100,000) 609 (1,006) Equity Accumulated Component Other Retained of Convertible Contributed Comprehensive Earnings Debentures Surplus Loss $927,184 (667) 15 — ($2,134) Total Unitholders’ Equity $1,526 $338 $1,552,738 — — — — — — 15 (1,673) Net income for the year — — 113,882 — — — 113,882 Distributions to unitholders — — (58,891) — — — (58,891) (791) 45,209 791 — — — — Amortization – cash flow hedges — — — — — 1,010 1,010 Balance, at December 31, 2014 62,167,654 625,624 980,717 1,526 338 Repurchase of units (1,328,022) (13,368) Issue of units – DRIP Net income for the year Distributions to unitholders Issue of units – DRIP Amortization – cash flow hedges Balance, at December 31, 2015 (1,124) 1,607,081 (6,673) — — — (20,041) — 26,617 — — — 26,617 — — (58,452) — — — (58,452) 52,022 788 (788) — — — 935 — — — — — — 60,891,654 $613,044 $941,421 $1,526 $338 ($189) — 935 $1,556,140 See accompanying notes to the consolidated financial statements. MORGUARD.COM 51 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 STATEMENT OF CASH FLOW In thousands of Canadian dollars For the year ended December 31 Notes 2015 2014 $26,617 $113,882 OPERATING ACTIVITIES Net income for the year Items not affecting operating cash Distributions from equity-accounted investments Deferred leasing cost additions Tenant incentive additions Net change in non-cash operating assets and liabilities Cash provided by operating activities 15(a) 6 15(b) 76,678 702 (3,586) (398) (2,056) 97,957 (10,567) 2,518 (3,892) (114) 2,790 104,617 56,155 269,177 (36,925) (6,125) (35,644) (10) (278) (4,927) — — (58,452) (20,041) (106,247) (219,157) (13,747) (33,677) (131) (890) (73) 60,000 (60,000) (58,891) (1,673) (59,062) (36,000) 66,000 (42,327) (1,474) 35,761 21,960 (30,000) — (40,671) (16,354) 41,005 (46,020) 13,670 12,612 $26,282 (465) 13,077 $12,612 FINANCING ACTIVITIES Proceeds from new mortgages Repayment of principal Repayments on maturity Repayment due to early extinguishment of mortgage Principal instalment repayments Amortization of fair value adjustments Financing cost on new mortgages Decrease in bank indebtedness Issue of loan payable Repayment of loan payable Distributions to unitholders Units repurchased for cancellation Cash used in financing activities 10 12(b) 12(b) INVESTING ACTIVITIES Acquisition of loan receivable Settlement of loan receivable Capital expenditures on real estate properties Acquisition of real estate properties Net proceeds from sale of real estate properties Cash provided by/(used in) investing activities Net change in cash and cash equivalents during the year Cash and cash equivalents, beginning of year Cash and cash equivalents, end of year 12(b) 12(b) 15(b) See accompanying notes to the consolidated financial statements. MORGUARD.COM 52 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 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, 1997. 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, 2015. 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, 2016. 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 53 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 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 straightMORGUARD.COM 54 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 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 55 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 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 56 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 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 57 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 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 31 Income producing properties Properties under development Land held for development MORGUARD.COM 2015 2014 $2,816,124 2,524 28,750 $2,822,074 16,511 27,650 $2,847,398 $2,866,235 58 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 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 Balance as at December 31, 2014 Additions: Acquisitions and investments Capital expenditures/capitalized costs Tenant improvements, tenant incentives and commissions Reclassifications Reclassification from properties held for sale Fair value (losses)/gains Other changes Balance as at December 31, 2015 As at December 31, 2014 Balance as at December 31, 2013 Additions: Acquisitions and investments Capital expenditures/capitalized costs Tenant improvements, tenant incentives and commissions Reclassifications Reclassification to properties held for sale Reclassification from equity-accounted investments Disposition Fair value gains/(losses) Other changes Balance as at December 31, 2014 Income Producing Properties Properties Under Development Land Held for Development Total Real Estate Properties $2,822,074 $16,511 $27,650 $2,866,235 1,474 17,210 13,925 28,735 9,450 (79,513) 2,769 $2,816,124 — 14,748 — (28,735) — — — $2,524 — 367 — — — 733 — $28,750 1,474 32,325 13,925 — 9,450 (78,780) 2,769 $2,847,398 Income Producing Properties Properties Under Development Land Held for Development Total Real Estate Properties $2,831,269 $20,839 $17,250 $2,869,358 23,935 15,228 11,512 (6,520) (48,540) 19,000 (41,042) 14,974 2,258 $2,822,074 — 17,937 — (3,610) (14,650) — — (4,005) — $16,511 — — — 10,130 — — — 270 — $27,650 23,935 33,165 11,512 — (63,190) 19,000 (41,042) 11,239 2,258 $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 59 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 The table below provides further details of the average discount rate and terminal cap rate by business segments: December 31, 2015 Maximum Minimum December 31, 2014 Weighted Average Maximum Minimum Weighted Average RETAIL Discount rate Terminal cap rate Stabilized occupancy 8.3% 7.8% 100.0% 6.0% 5.3% 90.0% 6.8% 6.0% —% 8.5% 7.8% 100.0% 6.0% 5.3% 90.0% 6.8% 6.0% —% 8.0% 7.5% 100.0% 6.0% 5.0% 94.3% 6.7% 5.9% —% 7.8% 7.5% 100.0% 6.0% 5.3% 94.3% 6.8% 6.0% —% 7.5% 7.0% 100.0% 7.0% 6.5% 95.0% 7.2% 6.8% —% 7.5% 7.3% 100.0% 7.0% 6.5% 95.0% 7.4% 6.9% —% OFFICE Discount rate Terminal cap rate Stabilized occupancy INDUSTRIAL Discount rate Terminal cap rate Stabilized occupancy 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 (2014 – 5.0% to 7.5%), resulting in an overall weighted average capitalization rate of 5.8% (2014 – 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: Net Date Property Property Name Sold Type 20-24 Lesmill, ON May 15, 2015 Industrial 5591-5631 Finch, ON April 1, 2015 Industrial 350 Sparks/361 Queen, ON February 17, 2015 Office/Hotel Cedar Pointe Business Park, ON July 2, 2014 Industrial MORGUARD.COM Sale Mortgage Operating GLA Price Payable Income 27,577 $6,350 $— $127 210,123 $10,000 $6,125 $177 86,372 $37,692 $17,835 $150 350,797 $41,900 $13,747 $1,218 60 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 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 Transaction costs Total purchase price $4,037 128 $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 Purchase price – assumed working capital Other costs Total purchase price $11,549 7,451 77 $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 31 Balance, beginning of year Equity income/(loss) Distributions to partners Contributions from partners Reclassification adjustments on purchase: Real estate properties Mortgages payable Other working capital Balance, end of year MORGUARD.COM 2015 2014 $30,770 $44,857 2,441 (2,360) 1,658 — — — $32,509 (20) (2,518) — (19,000) 7,581 (130) $30,770 61 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 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 31 2015 2014 Real estate properties Current assets Total assets $61,950 1,392 $63,342 $62,750 294 $63,044 Non-current liabilities Current liabilities Total liabilities $28,306 2,527 $30,833 $29,225 3,049 $32,274 For the year ended December 31 2015 2014 Revenue from real estate properties Property operating expenses Net operating income $6,561 2,172 4,389 $7,759 2,613 5,146 Other expenses Fair value losses on real estate properties Net income/(loss) for the year (1,157) (791) $2,441 (1,330) (3,836) ($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% (2014 – 7.0%), a terminal cap rate of 6.3% (2014 – 6.3%) and a stabilized cap rate of 7.0% (2014 – 6.8%). 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 505 Third Street Scotia Place Calgary, AB Edmonton, AB Grande Prairie, AB Ottawa, ON Ottawa, ON Toronto, ON Woodbridge, ON Salaberry-de-Valleyfield, QC St. Laurent, QC Office Office Retail Office Office Office Retail Industrial Office 50% 20% 50% 50% 50% 50% 50% 50% 50% 50% 20% 50% 50% 50% 50% 50% 50% 50% Ottawa, ON Ottawa, ON Office Hotel — — 50% 50% Prairie Mall Heritage Place Standard Life Centre 77 Bloor Woodbridge Square 825 Des Erables Place Innovation 2015 2014 Dispositions (see Notes 5 and 20) 350 Sparks 361 Queen MORGUARD.COM 62 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 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 31 Assets Assets – properties held for sale Liabilities Liabilities – properties held for sale For the year ended December 31 Revenue Expenses Income before fair value adjustments Fair value losses on real estate properties Net income for the year 2015 2014 $490,910 — 198,149 — $483,792 38,531 199,192 18,803 2015 2014 $55,270 34,223 21,047 (3,749) $17,298 $57,151 35,924 21,227 (10,434) $10,793 NOTE 8 MORTGAGES PAYABLE Mortgages payable consist of the following: As at December 31 2015 2014 Mortgages payable before deferred financing costs Premium on acquired debt Deferred financing costs Mortgages payable $1,175,880 1 (3,546) $1,172,335 $1,186,480 11 (4,035) $1,182,456 Mortgages payable – non-current Mortgages payable – current Mortgages payable $1,082,799 89,536 $1,172,335 $1,111,360 71,096 $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: 2016 2017 2018 2019 2020 Thereafter Principal Instalment Repayments Balances Maturing $34,454 34,121 32,155 26,724 25,627 49,656 $202,737 $55,786 50,289 55,464 162,122 114,493 534,989 $973,143 Weighted Average Contractual Rate on Total Balance Maturing $90,240 84,410 87,619 188,846 140,120 584,645 $1,175,880 4.1% 4.5% 4.4% 3.6% 4.6% 4.1% 4.1% Substantially all of the Trust’s rental properties and related rental revenues have been pledged as collateral for the mortgages payable. MORGUARD.COM 63 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 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, 2013. 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 Transaction date – October 31, 2012 Issue costs $150,000 (4,228) $145,772 Liability Equity $148,428 (4,182) $144,246 $1,572 (46) $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 40.6504 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 (2014 – 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 31 2015 Convertible debentures payable – liability Convertible debentures payable – accretion Debentures converted Convertible debentures payable before issue costs Issue costs Convertible debentures payable $148,428 946 (15) 149,359 (1,661) $147,698 2014 $148,428 630 (15) 149,043 (2,502) $146,541 Interest and principal payments on the 2012 Debentures are as follows: 2016 2017 Interest Principal Total $7,274 7,274 $14,548 $— 149,985 $149,985 $7,274 157,259 $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 64 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 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 31 Interest on mortgages payable Amortization – deferred financing costs – mortgages Amortization – premium on acquired debt Interest on mortgages payable Interest on convertible debentures payable Accretion on convertible debentures payable, net Amortization – deferred financing costs – convertible debentures Interest on convertible debentures payable Interest on bank indebtedness Amortization – cash flow hedges Interest on loan payable and other Capitalized interest Interest on loans payable and other MORGUARD.COM 2015 $49,262 811 (10) 50,063 2014 $51,178 767 (131) 51,814 7,274 316 841 8,431 7,275 299 797 8,371 32 134 935 155 (635) 455 $58,981 1,010 878 (207) 1,681 $62,000 65 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 NOTE 12 RELATED PARTY TRANSACTIONS With the exception of Note 20, all related party transactions are summarized as follows: (a) Agreement With Morguard Investments Limited Under the property management agreement, the Trust pays MIL fees for property management services, capital expenditure administration, information system support activities and risk management administration. Property management fees average approximately 3.3% of gross revenue from the income producing properties owned by the Trust. The management agreement is renewed annually to ensure fees paid reflect fair value for the services provided. Under a leasing services arrangement, the Trust may, at its option, use MIL for leasing services. Leasing fees range from 2% to 6% of the total minimum rent of new leases. Fees for the renewal of a lease are half of the fees for a new lease. Leasing services include lease documentation. The Trust has employed the services of MIL for the acquisition of properties on a case-by-case basis. Fees are generally based on the acquisition price of the properties and are capitalized in the case of an asset acquisition. MIL is a tenant at three of the Trust’s properties. The Trust has employed the services of MIL for the appraisal of its real estate properties as required for IFRS reporting purposes. Fees are generally based on the size and complexity of each property and are expensed as part of the Trust’s professional and compliance fees. During the year, the Trust incurred/(earned) the following: For the year ended December 31 Property management fees Acquisition fees Disposition fees Appraisal/valuation fees Information services Leasing fees Project administration fees Project management fees Risk management fees Internal audit fees Off-site administrative charges Rental revenue 2015 $9,522 — 97 370 220 2,880 1,087 491 282 110 1,761 (230) $16,590 2014 $9,713 85 240 388 220 3,274 1,060 596 283 149 1,837 (338) $17,507 The following amounts relating to MIL are included in the consolidated balance sheets: December 31, December 31, As at December 31 2015 2014 Accounts payable and accrued liabilities, net $898 $1,149 (b) Revolving Loan With Morguard The Trust has a revolving loan agreement with Morguard that provides for borrowings or advances of up to $50,000. The promissory notes are interest-bearing at the lender’s borrowing rate and are due on demand subject to available funds. On December 10, 2013, the revolving loan agreement was temporarily amended for a period of 60 days for either party to borrow up to $90,000 at the same interest rate terms. The temporary amendment expired on February 10, 2014. Loan Payable to Morguard During the year ended December 31, 2015, there were no advances or repayments, and as at December 31, 2015 and 2014, there was no loan payable owing to Morguard. During the year ended December 31, 2015, the Trust did not incur interest expense on loans payable to Morguard (2014 – $764). MORGUARD.COM 66 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 Loan Receivable From Morguard During the year ended December 31, 2015, a gross amount of $36,000 was advanced to Morguard, and $66,000 was repaid. As at December 31, 2015, the total amount receivable from Morguard was $nil (2014 – $30,000). For the year ended December 31, 2015, interest income amounted to $568 (2014 – $353), at an interest rate of 2.19% (2014 – 2.44%). (c) Sublease With Morguard (Excluding MIL) The Trust subleases office space from Morguard. For the year ended December 31, 2015, the Trust incurred rent expense in the amount of $195 (2014 – $181). (d) Stock-Based Compensation With Morguard Morguard has granted certain officers of the Trust SARs, which entitle such 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 fair values of these SARs are charged to the Trust by Morguard and are recorded as compensation expense by the Trust over their respective vesting periods. On March 20, 2008, 30,000 SARs were granted at an exercise price of $30.74. As at December 31, 2015, no further SARs have been granted. As at December 31, 2015 and 2014, there were no SARs payable outstanding. For the year ended December 31, 2015, the compensation expense amounted to $nil (2014 – $397). (e) Amounts Receivable From and Accounts Payable to Morguard (Excluding MIL) Other than the revolving loan, the following additional amounts relating to Morguard are included in the consolidated balance sheets: As at December 31 2015 2014 Amounts receivable Accounts payable and accrued liabilities $271 $4 $— $8 (f) Rental Revenue From Morguard (Excluding MIL) Morguard is a tenant in one of the Trust’s properties. For the year ended December 31, 2015, the Trust earned rental revenue in the amount of $109 (2014 – $104). NOTE 13 EXPENSES (a) Property Operating Expenses Property operating expenses consist of the following: For the year ended December 31 Property taxes Repairs and maintenance Utilities Other operating expenses 2015 2014 $53,157 28,078 15,354 19,057 $115,646 $52,813 28,700 17,027 20,599 $119,139 2015 2014 $268 1,518 2,581 $4,367 $289 1,716 3,409 $5,414 (b) General and Administrative General and administrative expenses consist of the following: For the year ended December 31 Trustees’ fees and expenses Professional and compliance fees Other administrative expenses MORGUARD.COM 67 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 NOTE 14 UNITHOLDERS' EQUITY (a) Units Outstanding The Trust is authorized to issue an unlimited number of units. The following table summarizes the changes in units for the period from January 1, 2014, to December 31, 2015: As at December 31 Balance, beginning of year Distribution Reinvestment Plan Debentures converted Repurchase of units Balance, end of year 2015 62,167,654 52,022 — (1,328,022) 60,891,654 2014 62,221,836 45,209 609 (100,000) 62,167,654 Total distributions recorded, accrued and paid during the year ended December 31, 2015, amounted to $58,452 (2014 – $58,891). On January 15, 2016, the Trust declared a distribution in the amount of $0.08 per unit for the month of January 2016. This distribution was paid to unitholders on February 16, 2016, prior to the date the consolidated financial statements were authorized for issue by the Board of Trustees of the Trust. On February 16, 2016, the Trust declared a distribution of $0.08 per unit payable on March 15, 2016. (b) Normal Course Issuer Bids On January 22, 2015, the Trust announced that the TSX had accepted notice filed by the Trust of its intention to make a normal course issuer bid. The notice provided that during the 12-month period commencing January 28, 2015, and ending January 27, 2016, the Trust may purchase for cancellation on the TSX up to 3,247,282 units in total, being approximately 10% of the public float of outstanding units. Additionally, the Trust may purchase for cancellation up to $9,999 principal amount of the 2012 Debentures due on the maturity date, 10% of the public float of outstanding 2012 Debentures. The price that the Trust would pay for any such units or debentures would be the market price at the time of acquisition. During the year ended December 31, 2015, the Trust purchased for cancellation 1,328,022 units (2014 –100,000 units) for cash consideration of $20,041 (2014 – $1,673). The excess of the purchase price of the units over the average carrying value was $6,673 (2014 – $667). (c) Distribution Reinvestment Plan Under the Trust’s Distribution Reinvestment Plan (the “DRIP”), unitholders can elect to reinvest cash distributions into additional units at a weighted average trading price of the units on the TSX for the 20 trading days immediately preceding the applicable date of distribution. During the year ended December 31, 2015, the Trust issued 52,022 units under the DRIP (2014 – 45,209 units). (d) Net Income Per Unit The following table sets forth the computation of basic and diluted net income per unit: For the year ended December 31 2015 2014 $26,617 $26,617 $113,882 $122,253 61,779 61,779 62,168 71,093 Net income per unit – basic $0.43 $1.83 Net income per unit – diluted $0.43 $1.72 Net income – basic Net income – diluted Weighted average number of units outstanding – basic Weighted average number of units outstanding – diluted To calculate net income for the calculation of diluted income per unit, interest, accretion and the amortization of financing costs on convertible debentures outstanding that were expensed during the year are added back to net income. 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. The weighted average number of units outstanding for the MORGUARD.COM 68 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 calculation of diluted income per unit is calculated as if all convertible debentures outstanding as at December 31, 2014, had been converted into units of the Trust at the beginning of the period. NOTE 15 CONSOLIDATED STATEMENT OF CASH FLOWS (a) Items Not Affecting Operating Cash For the year ended December 31 2015 2014 Fair value losses/(gains) on real estate properties, excluding properties held for sale Fair value losses on real estate properties held for sale Net income/(loss) from equity-accounted investments Loss on sale of real estate properties Amortized stepped rent Amortized free rent Amortization – cash flow hedges Amortization – deferred financing costs – mortgages $78,780 197 (2,441) — (2,104) (1,025) 935 811 ($11,239) — 20 37 (2,440) (126) 1,010 767 Amortization – tenant incentive Amortization – deferred financing costs – convertible debentures Accretion of convertible debentures 368 841 316 $76,678 308 797 299 ($10,567) (b) Net Change in Non-Cash Operating Assets and Liabilities For the year ended December 31 Amounts receivable Prepaid expenses and other assets Accounts payable, accrued and other liabilities Other supplemental cash flow information consists of the following: Interest paid Issue of units – DRIP Issue of units – conversion of debentures Mortgage payable transferred on sale of real estate properties 2015 2014 ($376) 99 (1,779) ($2,056) $2,024 31 735 $2,790 $56,913 $788 $— $17,835 $59,006 $791 $15 $— NOTE 16 INCOME TAXES The Trust has reviewed its status under the legislation and has determined that it is not subject to income tax as it met the REIT exception throughout 2015. Accordingly, no current income tax expense or future income tax assets or liabilities have been recorded in these consolidated financial statements. NOTE 17 COMMITMENTS AND CONTINGENCIES (a) Commitments The Trust has entered into various agreements relating to capital expenditures for its properties. These expenditures include development of new space, redevelopment or retrofit of existing space, and other capital expenditures. Should all conditions be met, as at December 31, 2015, committed capital expenditures in the next 12 months are estimated at $29,900. The Trust has various other contractual obligations in the normal course of operations. These contracts can be generally cancelled with 30 days' notice. MORGUARD.COM 69 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 The Trust is committed to making the following annual payments under a ground lease to the year 2065 for the land upon which one of the properties is situated: March 1, 2011, to February 28, 2021 Subsequent to February 28, 2021 $714 Fair market value of land in February 2021 multiplied by 8.5% per annum Effective November 17, 2013, the Trust entered into an operating sublease agreement with Morguard, expiring on November 15, 2023. Annual rent agreement amounts to approximately $193. In addition to the above-mentioned contractual obligations, the Trust has entered into equipment operating leases with terms ranging to 2020. The remaining payments for the leases are as follows: 2016 2017 2018 2019 2020 $115 42 23 22 9 (b) Contingencies The Trust is contingently liable with respect to litigation, claims and environmental matters that arise from time to time, including those that could result in mandatory damages or other relief, which could result in significant expenditures. While the outcome of these matters cannot be predicted with certainty, in the opinion of management, any liability that may arise from such contingencies would not have a material adverse effect on the financial position or results of operations of the Trust. Any expected settlement of claims in excess of amounts recorded will be charged to operations as and when such determination is made. NOTE 18 MANAGEMENT OF CAPITAL The Trust defines capital that it manages as the aggregate of its unitholders’ equity and interest-bearing debt less cash and cash equivalents and interest-bearing receivables. The Trust’s objective when managing capital is to ensure that the Trust will continue as a going concern so that it can sustain daily operations and provide adequate returns to its unitholders. The Trust is subject to risks associated with debt financing, including the possibility that existing mortgages may not be refinanced or may not be refinanced on as favourable terms or with interest rates as favourable as those of the existing debt. The Trust mitigates these risks by its continued efforts to stagger the maturity profile of its long-term debt, to enhance the value of its real estate properties and to maintain high occupancy levels. The Trust manages its capital structure and makes adjustments to it in light of changes in economic conditions and the risk characteristics of the underlying assets. The total managed capital for the Trust is summarized below: As at December 31 Total mortgages payable (including held for sale) Convertible debentures payable Bank indebtedness Cash and cash equivalents Loan receivable Unitholders’ equity Note 12(b) 2015 $1,172,335 147,698 — (26,282) — 1,556,140 $2,849,891 2014 $1,212,186 146,541 4,927 (12,612) (30,000) 1,607,081 $2,928,123 The Trust’s Declaration of Trust permits the Trust to incur indebtedness, provided that after giving effect to incurring or assuming any indebtedness (as defined in the Declaration of Trust), the amount of all indebtedness of the Trust is not more than 60% of the gross book value of the Trust’s total assets as defined in the Declaration of Trust. The Declaration of Trust MORGUARD.COM 70 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 also permits the Trust to incur floating-rate debt, provided that the total amount of all floating-rate debt of the Trust is not more than 15% of the gross book value of the Trust’s total assets. The Trust’s debt ratios compared to its borrowing limits established in the Declaration of Trust are outlined in the table below: As at December 31 Fixed-rate debt to gross book value of total assets Floating-rate debt to gross book value of total assets Borrowing Limits —% 15% 60% 2015 2014 45.2% —% 45.2% 45.0% 0.2% 45.2% As at December 31, 2015, the Trust met all externally imposed ratios and minimum equity requirements. Mortgages Payable All mortgages payable in place for the Trust are secured against the real property assets and, as a result, have been relieved from having restrictive financial covenant requirements. Convertible Debentures Payable The Trust’s unsecured subordinated convertible debentures payable have no restrictive covenants. Bank Indebtedness The Trust’s loan agreements permit the Trust to incur indebtedness. The loan agreements are fixed amounts that renew annually and are secured by fixed charges on specific properties owned by the Trust. NOTE 19 FINANCIAL INSTRUMENTS AND RISK MANAGEMENT The Trust’s financial assets and liabilities comprise cash and cash equivalents, amounts receivable, accounts payable and accrued liabilities, bank indebtedness, mortgages payable and convertible debentures payable. Fair values of financial assets and liabilities and discussion of risks associated with financial assets and liabilities are presented as follows. Fair Value of Financial Assets and Liabilities The fair values of cash and cash equivalents, amounts receivable, accounts payable and accrued liabilities, bank indebtedness and loan payable approximate their carrying values due to the short-term maturities of these instruments. (a) Mortgages Payable Mortgages payable are carried at amortized cost using the effective interest rate method of amortization. The estimated fair values of long-term borrowings are based on market information, where available, or by discounting future payments of interest and principal at estimated interest rates expected to be available to the Trust at period-end. The fair value of the mortgages payable has been determined by discounting the cash flows of these financial obligations using December 31, 2015, market rates for debts of similar terms (Level 2). Based on these assumptions, the fair value as at December 31, 2015, of the mortgages payable has been estimated at $1,246,560 (2014 – $1,241,108), compared with the carrying value before deferred financing costs and premium on acquired debt of $1,175,880 (2014 – $1,186,480). The fair value of the mortgages payable varies from the carrying value due to fluctuations in interest rates since their issue. (b) Convertible Debentures Payable The fair value of the convertible debentures payable is based on their market trading price (TSX: MRT.DB.A) (Level 1). The fair value as at December 31, 2015, of the convertible debentures payable has been estimated at $152,235 (2014 – $154,500), compared with the carrying value before deferred financing costs of $149,359 (2014 – $149,043). MORGUARD.COM 71 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 (c) Fair Value Hierarchy of Real Estate Properties The fair value hierarchy of income producing properties, properties under development and land held for development measured at fair value in the consolidated balance sheets is as follows: December 31, 2015 As at December 31, 2014 Level 1 Level 2 Level 3 Level 1 Level 2 Level 3 $— $— $— $— $— $— $2,816,124 $2,524 $28,750 $— $— $— $— $— $— $2,822,074 $16,511 $27,650 ASSETS: Income producing properties Properties under development Land held for development Risks Associated With Financial Assets and Liabilities The Trust is exposed to financial risks arising from its financial assets and liabilities. The financial risks include interest rate risk, credit risk and liquidity risk. The Trust’s overall risk management program focuses on establishing policies to identify and analyze the risks faced by the Trust, to set appropriate risk limits and controls, and to monitor risks and adherence to limits. Risk management policies and systems are reviewed regularly to reflect changes in market conditions and the Trust’s activities. The Trust aims to develop a disciplined control environment in which all employees understand their roles and obligations. Market Risk Market risk, the risk that the fair value or future cash flows of financial assets or liabilities will fluctuate due to movements in market prices, comprises the following: (i) Interest Rate Risk The Trust is subject to the risks associated with debt financing, including the risk that mortgages and credit facilities will not be able to be refinanced on terms as favourable as those of the existing indebtedness. Interest on the Trust's bank indebtedness is subject to floating interest rates. The Trust mitigates these risks by its continued efforts to enhance the value of its real estate properties, to maintain high occupancy levels to meet its debt obligations and to foster excellent relations with its lenders. For the year ended December 31, 2015, the average increase or decrease in net income for each 1% change in interest rates paid on floating debt amounts to $nil. The Trusts objective in managing interest rate risk is to minimize the volatility of the Trust's earnings. As at December 31, 2015, interest rate risk has been minimized because all long-term debt is financed at fixed interest rates with maturities scheduled over a number of years. (ii) Credit Risk Credit risk arises from the possibility that tenants and/or debtors may experience financial difficulty and be unable or unwilling to fulfill their lease commitments. The Trust mitigates the risk of loss by investing in well-located properties in urban markets that attract quality tenants, by ensuring that its tenant mix is diversified and by limiting its exposure to any one tenant. A tenant's success over the term of its lease and its ability to fulfill its obligations are subject to many factors. There can be no assurance that a tenant will be able to fulfill all of its existing commitments and leases up to the expiry date. The Trust's commercial leases typically have a lease term between five and 10 years, and may include clauses to enable periodic upward revision of the rental rates, and contractual extensions at the option of the lessee. Future minimum annual rental receipts on non-cancellable tenant operating leases are as follows: For the year ended December 31 Not later than one year Later than 1 year and not later than 5 years Later than 5 years 2015 2014 $155,298 493,959 354,582 $1,003,839 $161,903 498,862 402,139 $1,062,904 The objective in managing credit risk is to mitigate exposure through the use of approved policies governing the Trust's MORGUARD.COM 72 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 credit practices that limit transactions according to counterparties' credit quality. The carrying value of amounts receivable is reduced through the use of an allowance account, and the amount of the loss is recognized in the consolidated statement of income within property operating expenses. When a receivable balance is considered uncollectible, it is written off against the allowance for doubtful accounts. Subsequent recoveries of amounts previously written off are credited against operating expenses in the consolidated statement of income. The following table sets forth details of amounts receivable and related allowance for doubtful accounts: As at December 31 2015 2014 AMOUNTS RECEIVABLE: Trade receivables Less: Allowance for doubtful accounts Trade receivables, net Loans receivable Total amounts receivable, net $13,784 (773) $13,011 — $13,011 $13,377 (742) $12,635 30,000 $42,635 (iii) Liquidity Risk Liquidity risk is the risk that the Trust will encounter difficulties in meeting its financial obligations. The Trust will be subject to the risks associated with debt financing, including the risk that mortgages, convertible debentures and credit facilities will not be able to be refinanced. The Trust's objectives in minimizing liquidity risk are to maintain appropriate levels of leverage of its real estate assets and to stagger its debt maturity profile. As at December 31, 2015, the Trust was holding cash and cash equivalents in the amount of $26,282 (2014 – $12,612). The Trust also had undrawn lines of credit available in the amount of $69,714 (2014 – $64,783). NOTE 20 REAL ESTATE PROPERTIES 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. As at December 31, 2014, the Trust's properties held for sale comprised a 50% interest in a mixed-use office and hotel complex, 350 Sparks and 361 Queen, located in downtown Ottawa, and three industrial properties, 5591-5631 Finch, 2041-2141 McCowan and 20-24 Lesmill, all located in Toronto. On November 4, 2014, the Trust, upon the recommendation of a special committee comprising independent trustees, executed an agreement to sell its 50% interest in 350 Sparks and 361 Queen, to Morguard, the existing 50% co-owner of these properties. On February 17, 2015, the Trust completed the sale to Morguard, for a total price of $37,692. The transaction included an assumption of the existing mortgage debt of $17,835. On December 10, 2014, the Trust entered into an agreement to sell 20-24 Lesmill. On May 15, 2015, the Trust completed the sale of this property for a total price of $6,350, less selling costs. On March 2, 2015, the Trust entered into an agreement to sell 5591-5631 Finch. On April 1, 2015, the Trust completed the sale of this property for a total price of $10,000, less selling costs. On September 30, 2015, the Trust revised its view on 2041-2141 McCowan to a long-term hold. As a result, the property no longer met the criteria established in IFRS 5 for separate classification as real estate properties held for sale and, accordingly, was reclassified to the Trust's core income producing property portfolio. MORGUARD.COM 73 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 NOTE 21 SEGMENTED INFORMATION IFRS 8, "Operating Segments", requires operating segments to be determined based on internal reports that are regularly reviewed by the chief operating decision-makers for the purpose of allocating resources to the segment and assessing its performance. The Trust has applied judgment by aggregating its operating segments according to the nature of the property operations. Such judgment considers the nature of operations, types of customers and an expectation that operating segments within a reportable segment have similar long-term economic characteristics. As at December 31, 2015, the Trust has the following three reportable segments: retail, office and industrial. Business Segments The following presents financial information for these segments: For the year ended December 31, 2015 Retail Office Industrial Total Revenue from real estate properties Property operating expenses Property management fees Net operating income $151,803 58,534 $133,463 54,866 4,162 74,435 $5,716 2,246 162 3,308 $290,982 115,646 9,406 165,930 Net income from equity-accounted investments Interest expense – direct Fair value losses/(gains) on real estate properties Segment profit Interest expense – indirect General and administrative Other income Net income for the year Real estate properties Additions to real estate properties Mortgages payable MORGUARD.COM 5,082 88,187 — 27,821 30,943 29,423 (2,441) 21,321 48,305 7,250 — 1,221 (271) 2,358 (2,441) 50,363 78,977 39,031 4,496 2,278 — $22,649 3,953 2,003 — $1,294 169 86 (571) $2,674 8,618 4,367 (571) $26,617 $1,614,789 $1,185,284 $47,325 $2,847,398 $31,793 $15,487 $444 $47,724 $643,778 $512,798 $15,759 $1,172,335 74 MORGUARD REAL ESTATE INVESTMENT TRUST CONSOLIDATED FINANCIAL STATEMENTS | DECEMBER 31, 2015 For the year ended December 31, 2014 Revenue from real estate properties Property operating expenses Property management fees Net operating income Net loss from equity-accounted investments Interest expense – direct Fair value (gains)/losses on real estate properties Segment profit/(loss) Interest expense – indirect General and administrative Other income Loss on sale of real estate properties Net income/(loss) for the year Real estate properties Additions to real estate properties Mortgages payable Retail Office Industrial Total $155,481 58,792 5,130 91,559 $135,764 56,939 4,253 74,572 $7,216 3,408 200 3,608 $298,461 119,139 9,583 169,739 — 28,979 20 22,353 6,860 45,339 — 1,289 2,611 (292) 20 52,621 (11,239) 128,337 — — $75,584 4,266 2,463 — 37 $38,573 227 131 (375) — ($275) 9,379 5,414 (375) 37 $113,882 $1,613,592 $1,215,718 $36,925 $2,866,235 $30,941 $35,714 $1,957 $68,612 $672,246 $499,430 $10,780 $1,182,456 (20,710) 83,290 4,886 2,820 NOTE 22 SUBSEQUENT EVENTS On January 21, 2016, the Trust announced that the TSX had accepted notice filed by the Trust of its intention to make a normal course issuer bid. The notice provided that during the 12-month period commencing January 28, 2016, and ending January 27, 2017, the Trust may purchase for cancellation on the TSX up to 3,044,583 units in total, being approximately 5% of the outstanding units. Additionally, the Trust may purchase for cancellation up to $9,999 principal amount of the 2012 Debentures due on the maturity date, 10% of the public float of outstanding 2012 Debentures. The price that the Trust would pay for any such units or debentures would be the market price at the time of acquisition. MORGUARD.COM 75