MEGA Brands Inc. Consolidated Financial Statements December 31, 2012 and 2011 (in thousands of US dollars)

Transcription

1 MEGA Brands Inc. Consolidated Financial Statements December 31, 2012 and 2011 (in thousands of US dollars)

2 Report Independent Auditor s Report To the Shareholders of MEGA Brands Inc. We have audited the accompanying consolidated financial statements of MEGA Brands Inc. and its subsidiaries, which comprise the consolidated statements of financial position as at December 31, 2012 and December 31, 2011 and the consolidated statements of income, statements of comprehensive income, statements of changes in equity and statements of cash flows for the years then ended, and the related notes, which comprise a summary of significant accounting policies and other explanatory information. Management s 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 audit 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 auditor s 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 auditor considers 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 MEGA Brands Inc. and its subsidiaries as at December 31, 2012 and December 31, 2011 and its financial performance and its cash flows for the years then ended in accordance with International Financial Reporting Standards. ) Montreal, Quebec February 28, 2013 e 1) FCPA auditor, FCA, public accountancy permit No. A permit

3 MEGA Brands Inc. Consolidated Income Statements For the years ended December 31, 2012 and 2011 (in thousands of US dollars, except per share amounts) Note $ $ Net sales 420, ,827 Cost of sales 262, ,649 Gross profit 157, ,178 Marketing and advertising expenses 16,937 17,027 Research and development expenses 16,218 14,456 Other selling, distribution and administrative expenses 87,830 82,540 Contingent consideration on business acquisition Loss on foreign currency translation 576 1,421 Earnings from operations 35,875 24,740 Financial expenses 5 17,647 18,666 Loss on settlement of debt 15-2,984 17,647 21,650 Earnings before income taxes 18,228 3,090 Income taxes Current 7 1,642 (12,337) Deferred 7-7,097 1,642 (5,240) Net earnings 16,586 8,330 Earnings per share Basic Diluted The accompanying notes are an integral part of these consolidated financial statements. 3

4 MEGA Brands Inc. Consolidated Statements of Comprehensive Income For the years ended December 31, 2012 and 2011 (in thousands of US dollars, except per share amounts) Note $ $ Net earnings 16,586 8,330 Other comprehensive income (loss) Cumulative translation adjustment 1,099 (1,584) Other comprehensive income (loss) 1,099 (1,584) Comprehensive income 17,685 6,746 The accompanying notes are an integral part of these consolidated financial statements. 4

5 MEGA Brands Inc. Consolidated Statements of Financial Position As at December 31, 2012 and 2011 (in thousands of US dollars) December 31, December 31, Note $ $ Assets Current assets Cash and cash equivalents 8,018 6,745 Trade and other receivables 9 130, ,359 Inventories 11 45,779 69,560 Derivative financial instruments Prepaid expenses 9,370 13,760 Total current assets 193, ,328 Non-current assets Property, plant and equipment 12 39,817 32,172 Intangible assets 13 22,771 23,193 Goodwill 13 30,000 30,000 Derivative financial instruments Total assets 286, ,924 Liabilities Current liabilities Asset-based credit facility 15-37,279 Trade and other payables 14 62,638 71,762 Income taxes payable 7 5,631 5,832 Current portion of long-term debt 15 8,023 7,013 76, ,886 Non-current liabilities Long-term debt , ,275 Derivative financial instruments , ,275 Equity Share capital , ,007 Warrants 16 24,029 24,430 Contributed surplus 4,478 3,492 Deficit (357,736) (374,322) Accumulated other comprehensive loss (5,745) (6,844) Total equity 96,919 75,763 Total liabilities and equity 286, ,924 Commitments and contingencies (Note 21) The accompanying notes are an integral part of these consolidated financial statements. 5

6 MEGA Brands Inc. Consolidated Statements of Changes in Equity For the years ended December 31, 2012 and 2011 (in thousands of US dollars) Share capital Warrants Contributed surplus Deficit Accumulated other comprehensive loss Note $ $ $ $ $ $ Total equity Balance December 31, ,007 24,430 1,982 (382,652) (5,260) 67,507 Net earnings ,330-8,330 Other comprehensive loss (1,584) (1,584) Stock-based compensation - - 1, ,510 Balance December 31, ,007 24,430 3,492 (374,322) (6,844) 75,763 Net earnings ,586-16,586 Other comprehensive income ,099 1,099 Options exercised (148) 324 Warrants exercised 16 2,414 (401) ,013 Stock-based compensation - - 1, ,134 Balance December 31, ,893 24,029 4,478 (357,736) (5,745) 96,919 Accumulated other comprehensive loss is comprised solely of Cumulative translation adjustment. The accompanying notes are an integral part of these consolidated financial statements. 6

7 MEGA Brands Inc. Consolidated Statements of Cash Flows For the years ended December 31, 2012 and 2011 (in thousands of US dollars) Note $ $ Operating activities Net earnings 16,586 8,330 Adjustments for: Depreciation of property, plant and equipment 12 12,476 13,074 Amortization of intangible assets Loss on settlement of debt 15-1,236 Stock-based compensation 1,134 1,511 Financial expenses 5 17,647 18,666 Writeoff deferred financing costs 15-1,748 Income taxes 7 1,642 (5,240) Loss (gain) on foreign currency 2,316 (374) 52,223 39,373 Net change in non-cash w orking capital balances 14,406 (24,011) Income taxes paid (recovered) 7 (1,473) 1,312 Interest paid (13,158) (13,755) Cash flow s provided by operating activities 51,998 2,919 Financing activities Repayment of debentures 15 (7,411) (20,678) Change in asset-based credit facility 15 (37,279) 37,279 Government loan 15 6,591 5,065 Issuance of long-term debt 15 4, Repayment of long-term debt 15 (220) - Issuance of capital stock 16 2,337 - Cash flow s provided by (used in) financing activities (31,458) 21,698 Investing activities Acquisition of property, plant and equipment 12 (19,234) (23,248) Cash flow s used in investing activities (19,234) (23,248) Effect of changes in foreign exchange rates on cash and cash equivalents (33) 99 Increase in cash and cash equivalents 1,273 1,468 Cash and cash equivalents Beginning of year 6,745 5,277 Cash and cash equivalents End of year 8,018 6,745 The accompanying notes are an integral part of these consolidated financial statements. 7

8 1. General information MEGA Brands Inc. ( MEGA Brands or the Corporation ) is incorporated under the Canada Business Corporations Act and is listed on the Toronto Stock Exchange. The Corporation s registered and principal office is located at 4505 Hickmore, Montreal, Quebec, Canada H4T 1K4. The Corporation designs, manufactures and markets a broad line of toys, stationery and activity products. The Corporation sells and distributes its products under the MEGA BLOKS, MEGA PUZZLES, MEGA GAMES, ROSE ART and BOARD DUDES brands. 2. Summary of significant accounting policies Basis of preparation The Corporation prepares its financial statements in accordance with Canadian generally accepted accounting principles ( GAAP ) as set forth in Part 1 of the Handbook of the Canadian Institute of Chartered Accountants, which incorporates International Financial Accounting Standards ( IFRS ) as issued by the International Accounting Standards Board. These consolidated financial statements were approved by the Board of Directors on February 28, The preparation of financial statements in conformity with IFRS requires the use of certain critical accounting estimates. It also requires management to exercise its judgment in the process of choosing and applying the Corporation s accounting policies. The areas involving a higher degree of judgment or complexity, or areas where assumptions and estimates are significant to the consolidated financial statements are disclosed in note 3. Basis of measurement The consolidated financial statements have been prepared under the historical cost convention, except for the revaluation of certain financial assets and financial liabilities to fair value, including derivative instruments. The accompanying notes are an integral part of these consolidated financial statements. 8

9 2. Summary of significant accounting policies (cont d) Consolidation The consolidated financial statements include the accounts of the Corporation and its wholly-owned subsidiaries since their date of acquisition. Subsidiaries are all entities over which the Corporation has the power to govern the financial and operating policies generally accompanying a shareholding of more than one half of the voting rights. The existence and effect of potential voting rights that are currently exercisable or convertible are considered when assessing whether the Corporation controls another entity. Subsidiaries are fully consolidated from the date on which control is transferred to the Corporation and they are deconsolidated from the date that control ceases. The Corporation uses the acquisition method of accounting to account for business combinations. The consideration transferred for the acquisition of a subsidiary is the fair value of the assets transferred, the liabilities incurred and the equity interests issued by the Corporation. The consideration transferred includes the fair value of any asset or liability resulting from a contingent consideration arrangement. Acquisition-related costs are expensed as incurred. Identifiable assets acquired and liabilities and contingent liabilities assumed in a business combination are measured initially at their fair values at the acquisition date. All intercompany transactions, balances and unrealized gains and losses from intercompany transactions are eliminated on consolidation. Segments The Corporation manages its operations under two product segments, Toys and Stationery & Activities. The Toys segment is comprised of MEGA BLOKS construction toys, MEGA PUZZLES and MEGA GAMES. The Stationery & Activities segment is comprised of ROSE ART art materials and craft and activity sets, BOARD DUDES presentation boards and accessories, and writing instruments. These operating segments are reported in a manner consistent with the internal reporting provided to the chief decision-maker. The Corporation s Chief Executive Officer is the chief decision-maker, and is responsible for making strategic decisions, allocating resources and assessing the performance of the operating segments. The accompanying notes are an integral part of these consolidated financial statements. 9

10 2. Summary of significant accounting policies (cont d) Foreign currency translation a) Functional and presentation currency IAS 21, Effects of Changes in Foreign Currency Rates, requires entities to consider primary and secondary indicators when determining the functional currency. Primary indicators are closely linked to the primary economic environment in which the entity operates and are given more weight. Secondary indicators provide supporting evidence to determine an entity's functional currency. Once the functional currency of an entity is determined, it should be used consistently, unless significant changes in economic facts, events and conditions indicate that the functional currency has changed. The functional currency of MEGA Brands Inc. is the Canadian dollar; however, the consolidated financial statements are presented in US dollars which in the opinion of management remains the most appropriate presentation currency in view of its operations in the global marketplace, user needs and comparison with its major competitors. b) Transactions and balances Foreign currency transactions are translated into the functional currency using the exchange rates prevailing at the dates of the transactions or valuation where items are remeasured. Foreign exchange gains and losses resulting from the settlement of such transactions and from the translation at yearend exchange rates of monetary assets and liabilities denominated in foreign currencies are recognized in the consolidated statement of comprehensive income. Foreign exchange gains and losses are presented in the consolidated income statement within loss (gain) on foreign currency translation. c) Entities of the Corporation The results and financial position of all entities of the Corporation that have a functional currency different from the presentation currency are translated into the presentation currency as follows: (i) assets and liabilities are translated at the closing rate at the date of that statement of financial position; (ii) income and expenses are translated at average exchange rates (unless this average is not a reasonable approximation of the cumulative effect of the rates prevailing on the transaction dates, in which case income and expenses are translated at the rate on the dates of the transactions); and (iii) all resulting exchange differences are recognized in other comprehensive income. The accompanying notes are an integral part of these consolidated financial statements. 10

11 2. Summary of significant accounting policies (cont d) c) Entities of the Corporation (cont d) On consolidation, exchange differences arising from the translation of the net investment in foreign operations, and borrowings and other currency instruments designated as hedges of such investments, are recorded in other comprehensive income. When a foreign operation is partially disposed of or sold, exchange differences that were recorded in equity are recognized in the consolidated income statement as part of the gain or loss on sale. Goodwill and fair value adjustments arising on the acquisition of a foreign entity are treated as assets and liabilities of the foreign entity and translated at the closing rate. Equity is translated at the historical rate. Revenue recognition Revenues are recognized at the fair value of the consideration received or receivable, net of allowances used to promote products. Revenues from sales of products to clients whose terms of sale are collect and free on board (FOB) shipping point are recognized when the goods leave the Corporation s premises. For clients whose terms of sale are FOB destination, revenues are recognized when the goods are delivered to clients. In addition, all of the following conditions must be met to recognize revenues from product sales: The Corporation has transferred the significant risks and rewards of ownership of the goods to the buyer; The Corporation retains neither continuing managerial involvement to the degree usually associated with ownership nor effective control over the goods sold; The amount of the sale can be measured reliably; It is probable that the economic benefits associated with the transaction will flow to the Corporation; and The costs incurred or to be incurred in respect of the transaction can be measured reliably. Vendor allowance Cash considerations received from vendors are deemed a reduction of the prices of the vendors' products or services and are accounted for as a reduction of cost of sales and related inventory when recognized in the Corporation's consolidated income statements and financial position. Self-insurance The Corporation is primarily self-insured for MAGNETIX products manufactured before May 1, 2006 and against certain product-related incidents occurring on or after December 1, Required accruals for self-insurance liabilities are determined by management based on claims filed and an estimate of claims incurred but not yet reported. Research and development expenses Research expenses are charged to earnings net of related tax credits. Unless development expenditures meet criteria for deferral, they are charged to earnings, net of related tax credits. The accompanying notes are an integral part of these consolidated financial statements. 11

12 2. Summary of significant accounting policies (cont d) Financial expenses Financial expenses are comprised of interest expense on borrowings, amortization of transaction costs incurred in conjunction with debt transactions and accretion of interest on debentures. All borrowing costs are recognized in earnings on an accrual basis using the effective interest method. The Corporation s financial income is not significant. Financial instruments Financial assets and financial liabilities are recognized when the Corporation becomes a party to the contractual provisions of the instrument. Financial assets are derecognized when the rights to receive cash flows from the assets have expired or have been transferred and the Corporation has transferred substantially all risks and rewards of ownership. Financial assets and financial liabilities are offset and the net amount reported in the consolidated statement of financial position when there is a legally enforceable right to offset the recognized amounts and there is an intention to settle on a net basis, or realize the asset and settle the liability simultaneously. At initial recognition, the Corporation classifies its financial instruments in the following categories depending on the purpose for which the instruments were acquired: a) Financial instruments at fair value through profit or loss Financial assets at fair value through profit or loss are financial assets held for trading. A financial asset is classified in this category if acquired principally for the purpose of selling in the short term. Derivatives are also categorized as held for trading. Assets in this category are classified as current assets if expected to be settled within twelve months; otherwise, they are classified as non-current. Financial instruments in this category are recognized initially and subsequently at fair value. Transaction costs are expensed in the consolidated income statement. The Corporation uses derivatives in the form of forward exchange contracts to manage risks related to foreign currency. All derivatives have been classified as held for trading, are included in the consolidated statement of financial position within derivative financial instruments, and are classified as current or non-current based on the contractual terms specific to the instrument. Gains or losses arising from changes in the fair value are presented in the consolidated income statement within Loss (gain) on foreign currency translation in the year in which they arise. b) Loans and receivables Loans and receivables are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market. They are included in current assets, except for maturities greater than twelve months after the end of the reporting period. These are classified as non-current assets. The Corporation s loans and receivables comprise cash and cash equivalents and trade and other receivables in the consolidated statement of financial position. Loans and receivables are initially recognized at the amount expected to be received less, when material, a discount to reduce the loans and receivables to fair value. Subsequently, loans and receivables are measured at amortized cost using the effective interest method less a provision for impairment. The accompanying notes are an integral part of these consolidated financial statements. 12

13 2. Summary of significant accounting policies (cont d) Financial instruments (cont d) c) Financial liabilities at amortized cost Financial liabilities at amortized cost include asset-based credit facility, trade and other payables, accrued liabilities and long-term debt. Trade payables and accrued liabilities are initially recognized at the amount required to be paid less, when material, a discount to reduce the payables to fair value. Subsequently, trade payables and accrued liabilities are measured at amortized cost using the effective interest method. Long-term debt is recognized initially at fair value, net of any transaction costs incurred, and subsequently measured at amortized cost using the effective interest method. Financial liabilities are classified as current liabilities if payment is due within twelve months. Otherwise, they are presented as non-current liabilities. The following is a summary of the Corporation s categories of financial instruments: Financial instrument Category Measurement Cash and cash equivalents Loans and receivables Amortized cost Trade and other receivables Loans and receivables Amortized cost Trade and other payables Financial liabilities at amortized cost Amortized cost Derivative financial instrumentsat fair value through profit and loss Fair value Asset-based credit facility Financial liabilities at amortized cost Amortized cost Long-term debt Financial liabilities at amortized cost Amortized cost Impairment of financial assets At each reporting date, the Corporation assesses whether there is objective evidence that a financial asset is impaired. If such evidence exists, the Corporation recognizes an impairment loss for financial assets carried at amortized cost as follows: the loss is the difference between the amortized cost of the loan or receivable and the present value of the estimated future cash flows, discounted using the instrument s original effective interest rate. The carrying amount of the asset is reduced by this amount either directly or indirectly through the use of an allowance account. Impairment losses on financial assets carried at amortized cost are reversed in subsequent periods if the amount of the loss decreases and the decrease can be related objectively to an event occurring after the impairment was recognized. Share capital Common shares granted as compensation for goods and services are classified as equity. Incremental costs directly attributable to the issuance of new shares or warrants are shown in equity as a deduction, net of tax, from the proceeds. The accompanying notes are an integral part of these consolidated financial statements. 13

14 2. Summary of significant accounting policies (cont d) Common shares outstanding On June 10, 2010, the Corporation s shareholders approved a share consolidation on the basis of one post-consolidation common share for every 10 to 20 pre-consolidation shares prior to June 11, On June 10, 2011, the Corporation completed the consolidation on the basis of one post-consolidation common share for every 20 pre-consolidation shares. Consequently, the weighted average number of shares outstanding and related earnings per share information, the number of common shares and options, as well as the conversion ratio and price per common share associated with the Corporation s outstanding warrants, were adjusted retroactively to give effect to the consolidation. Share-based payments The Corporation has a stock-based compensation plan whereby it grants stock options to certain employees. Each tranche in an award is considered a separate award with its own grant date fair value and vesting period. The fair value of each tranche is measured at the date of grant using the Black- Scholes option pricing model. Compensation expense is recognized over the tranche s vesting period based on the number of awards expected to vest, by increasing contributed surplus. The number of awards expected to vest is reviewed at least annually, with any impact being recognized immediately. The Corporation has a share unit plan, which became effective February 24, 2005, which allows the Board of Directors to grant bonuses in the form of share units that are time- and performance-based, vesting primarily over a three-year period. The plan is non-dilutive and will be settled in shares purchased from the secondary market or in cash, at the option of the Corporation. The share units are accounted for as liabilities on a fair value basis by using the quoted market price of the common shares and are revalued at the end of each period with the (gain) loss included in other selling, distribution and administrative expenses in the consolidated income statement. The share units are expensed and credited to liabilities under cash-settled share-based payments over the vesting period. On March 29, 2007, the Corporation adopted a deferred share unit plan for its independent directors. The share units are accounted for as liabilities on a fair value basis by using the quoted market price of the common shares and are revalued at the end of each period with the (gain) loss included in other selling, distribution and administrative expenses in the consolidated income statement. The deferred share units are expensed and credited to liabilities under cash-settled share-based payments over the vesting period. Earnings per share Basic earnings per share ( EPS ) is calculated by dividing the net earnings for the period by the weighted average number of common shares outstanding during the period. Diluted EPS is calculated by adjusting the weighted average number of common shares outstanding for dilutive instruments. The number of shares included with respect to options is computed using the treasury stock method. The dilutive effect of warrants whose proceeds from exercise must be used to retire debentures is determined by assuming that the proceeds from exercise are applied to purchase the debt at its average market price rather than to purchase common shares under the treasury stock method. The treasury stock method is applied, however, to any excess of the proceeds received from the assumed exercise over the amount used for the assumed purchase of debt. Interest, net of tax, on any debt assumed to be purchased is added back as an adjustment to the numerator. The Corporation s potentially dilutive common shares comprise stock options granted to employees, and warrants. The accompanying notes are an integral part of these consolidated financial statements. 14

15 2. Summary of significant accounting policies (cont d) Cash and cash equivalents Cash and cash equivalents consist of cash and highly-liquid investments with original terms to maturity of 90 days or less, at the date of purchase. Trade receivables Trade receivables are amounts due from customers for merchandise sold in the ordinary course of business. If collection is expected in one year or less, they are classified as current assets. If not, they are presented as non-current assets. Trade receivables are recognized initially at fair value, and subsequently measured at amortized cost, less provision for impairment. Inventories Inventories are stated at the lower of cost and net realizable value. Cost is established based on the firstin, first-out method and, as appropriate, includes material, labour and manufacturing overhead costs. Net realizable value is the estimated selling price in the ordinary course of business, less applicable variable selling expenses. Property, plant and equipment Property, plant and equipment are stated at cost less accumulated depreciation and accumulated impairment losses. Cost includes expenditures that are directly attributable to the acquisition of the asset. Subsequent costs are included in the asset s carrying amount or recognized as a separate asset, as appropriate, only when it is probable that future economic benefits associated with the item will flow to the Corporation and the cost can be measured reliably. The carrying amount of a replaced asset is derecognized when replaced. Repairs and maintenance costs are charged to the consolidated income statement during the period in which they are incurred. The major categories of property, plant and equipment are depreciated on a straight-line basis as follows: Buildings Machinery and equipment Computer equipment Leasehold improvements 25 years 3 to 15 years 3 to 5 years over the lease terms Residual values, the method of amortization and useful lives of the assets are reviewed annually and adjusted if appropriate. Gains and losses on disposals are determined by comparing the proceeds with the carrying amount and are recognized within cost of sales or other selling, distribution and administrative expenses in the consolidated income statement. The accompanying notes are an integral part of these consolidated financial statements. 15

16 2. Summary of significant accounting policies (cont d) Government grants Government grants are recognized only when the Corporation has reasonable assurance that it meets the conditions and will receive the grants. Government grants related to assets, including interest free loans, are recognized in the consolidated statement of financial position as a deduction from the carrying amount of the related asset. They are then recognized in profit or loss over the useful life of the depreciable asset that the grants were used to acquire, as a deduction from the depreciation expense. Other government grants are recognized in profit or loss as a deduction from the related expenses. Intangible assets Intangible assets with a finite service life are accounted for at cost less accumulated amortization and impairments. They consist of customer relationships which are amortized over twenty years. Intangible assets with an indefinite service life, consisting of trade names, are accounted for at cost and are carried at cost less accumulated impairment losses. Goodwill Goodwill represents the excess of the purchase consideration of businesses over the fair value of the identifiable net assets acquired and is carried at cost less accumulated impairment losses. Goodwill is tested for impairment annually on December 31 or more frequently if changes in circumstances indicate a potential impairment. Impairment losses on goodwill are not reversed. Impairment of non-financial assets Assets that are subject to amortization are reviewed for impairment by management whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. An impairment loss is recognized for the amount by which the asset s carrying amount exceeds its recoverable amount. The recoverable amount is the higher of an asset s fair value less costs to sell and value in use. For the purposes of assessing impairment, assets are grouped at the lowest levels for which there are separately identifiable cash inflows (cash-generating units or CGUs ). Non-financial assets other than goodwill that suffered an impairment are reviewed for possible reversal of the impairment at each reporting date. Goodwill and trade names are not subject to amortization and are tested annually for impairment. Goodwill acquired through a business combination is allocated to CGUs or group of CGUs that are expected to benefit from the related business combination. A group of CGUs represents the lowest level within the entity at which the goodwill is monitored for internal management purposes, which is not higher than an operating segment. Leases Leases are classified as finance leases when the lease arrangement transfers substantially all the risks and rewards of ownership to the lessee. All other leases are classified as operating leases. Gains and losses on sale and operating leaseback transactions are recognized immediately in the income statement when it is clear that the transactions are established at fair value. If the sale price is below fair value, any loss is recognized immediately except that, if the loss is compensated for by future lease payments at below market price, it is deferred and amortized in proportion to the lease payments over the period for which the asset is expected to be used. If the sale price is above fair value, the gain is deferred and amortized over the period for which the asset is expected to be used. In the context of sale and finance leaseback transactions, any gain on the sale is deferred and amortized over the lease term. The accompanying notes are an integral part of these consolidated financial statements. 16

17 2. Summary of significant accounting policies (cont d) Current and deferred income tax The tax expense for the year comprises current and deferred tax. Tax is recognized in the consolidated income statement, except to the extent that it relates to items recognized in other comprehensive income or directly in equity. In this case, the tax is also recognized in other comprehensive income or directly in equity, respectively. The current income tax charge and any adjustment to tax payable/receivable in respect of previous years are calculated on the basis of the tax laws enacted or substantively enacted at the balance sheet date in the countries where the Corporation and its subsidiaries operate and generate taxable income. Management periodically evaluates positions taken in tax returns with respect to situations in which applicable tax regulation is subject to interpretation. It establishes provisions where appropriate on the basis of amounts expected to be paid to the tax authorities and prior year settlements. Deferred income tax is recognized using the liability method on temporary differences arising between the tax bases of assets and liabilities and their carrying amounts in the consolidated financial statements. However, deferred tax liabilities are not recognized if they arise from the initial recognition of goodwill; deferred income tax is not accounted for if it arises from initial recognition of an asset or liability in a transaction other than a business combination that at the time of the transaction affects neither accounting nor taxable profit or loss. Deferred income tax is determined using tax rates (and laws) that have been enacted or substantively enacted by the date of financial position and are expected to apply when the related deferred income tax asset is realized or the deferred income tax liability is settled. Deferred income tax assets are recognized only to the extent that it is probable that future taxable profit will be available against which the temporary differences can be utilized. Deferred income tax is provided on temporary differences arising on investments in subsidiaries, except for deferred income tax liability where the timing of the reversal of the temporary difference is controlled by the group and it is probable that the temporary difference will not reverse in the foreseeable future. Deferred income tax assets and liabilities are offset when there is a legally enforceable right to offset current tax assets against current tax liabilities and when the deferred income tax assets and liabilities relate to income taxes levied by the same taxation authority on either the same taxable entity or different taxable entities where there is an intention to settle the balances on a net basis. Taxes on income in interim periods are accrued using the tax rate that will be applicable to expected total annual profit and loss. Trade payables Trade payables are obligations to pay for goods or services that have been acquired in the ordinary course of business from suppliers. Accounts payable are classified as current liabilities if payment is due within one year or less. If not, they are presented as non-current liabilities. Trade payables are recognized initially at fair value and subsequently measured at amortized cost using the effective interest method. The accompanying notes are an integral part of these consolidated financial statements. 17

18 2. Summary of significant accounting policies (cont d) Provisions Provisions are recognized when: the group 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 has been reliably estimated. Provisions are not recognized for future operating losses. Provisions are measured at the present value of the expenditures expected to be required to settle the obligation using a pre-tax rate that reflects current market assessments of the time value of money and the risks specific to the obligation. The increase in the provision due to passage of time is recognized as interest expense. Accounting standards issued but not yet applied Unless otherwise noted, the following revised standards and amendments, which are relevant but have not yet been adopted by the Corporation, are effective for annual periods beginning on or after January 1, 2013 with earlier application permitted. The Corporation has not yet assessed the impact of these standards and amendments or determined whether it will early adopt them. (i) IFRS 9, Financial Instruments, was issued in November 2009 and addresses classification and measurement of financial assets. It replaces the multiple category and measurement models in IAS 39, Financial Instruments Recognition and Measurement for debt instruments with a new mixed measurement model having only two categories: amortized cost and fair value through profit or loss. IFRS 9 also replaces the models for measuring equity instruments. Such instruments are either recognized at fair value through profit or loss or at fair value through other comprehensive income. Where equity instruments are measured at fair value through other comprehensive income, dividends are recognized in profit or loss to the extent that they do not clearly represent a return of investment; however, other gains and losses (including impairments) associated with such instruments remain in accumulated comprehensive income indefinitely. Requirements for financial liabilities were added to IFRS 9 in October 2010 and they largely carried forward existing requirements in IAS 39 except that fair value changes due to credit risk for liabilities designated at fair value through profit and loss are generally recorded in other comprehensive income. IFRS 9 is applicable for annual periods beginning on or after January 1, (ii) IAS 1, Presentation of Financial Statements, has been amended to require entities to separate items presented in Other Comprehensive Income into two groups, based on whether or not items may be recycled in the future. Entities that choose to present Other Comprehensive Income items before tax will be required to show the amount of tax related to the two groups separately. The amendment is effective for annual periods beginning on or after July 1, (iii) IFRS 10, Consolidated Financial Statements, requires an entity to consolidate an investee when it has power over the investee, is exposed, or has rights, to variable returns from its involvement with the investee and has the ability to affect those returns through its power over the investee. Under existing IFRS, consolidation is required when an entity has the power to govern the financial and operating policies of an entity so as to obtain benefits from its activities. IFRS 10 replaces SIC-12, Consolidation Special Purpose Entities and parts of IAS 27, Consolidated and Separate Financial Statements. The amendment is effective for annual periods beginning on or after January 1, The accompanying notes are an integral part of these consolidated financial statements. 18

19 2. Summary of significant accounting policies (cont d) Accounting standards issued but not yet applied (cont d) (iv) IFRS 12, Disclosure of Interests in Other Entities, establishes disclosure requirements for interests in other entities, such as subsidiaries, joint arrangements, associates, and unconsolidated structured entities. The standard carries forward existing disclosures and also introduces significant additional disclosure that address the nature of, and risks associated with, an entity s interests in other entities. The amendment is effective for annual periods beginning on or after January 1, (v) IFRS 13, Fair Value Measurement, is a comprehensive standard for fair value measurement and disclosure for use across all IFRS standards. The new standard clarifies that fair value is the price that would be received to sell an asset, or paid to transfer a liability in an orderly transaction between market participants, at the measurement date. Under existing IFRS, guidance on measuring and disclosing fair value is dispersed among the specific standards requiring fair value measurements and does not always reflect a clear measurement basis or consistent disclosures. The amendment is effective for annual periods beginning on or after January 1, The accompanying notes are an integral part of these consolidated financial statements. 19

20 3. Critical accounting estimates and judgments The preparation of financial statements in conformity with IFRS requires management to make estimates and assumptions that affect the amounts reported in these financial statements and accompanying notes. These estimates and associated assumptions are based on historical experience, future operating plans and various other factors believed to be reasonable under the circumstances, and the results of such estimates form the basis of judgments about carrying values of assets and liabilities. These underlying assumptions are reviewed on an ongoing basis. Actual results could differ materially from those estimates. The areas involving a higher degree of judgment or complexity, or areas where assumptions and estimates are significant to the consolidated financial statements relate to the following: Estimates a) Sales allowances Sales allowances for customer promotions, discounts and returns are recorded as a reduction of revenue when the related revenue is recognized. Revenue from product sales is recognized upon passing of title to the customer, generally at the time of shipment. Revenue from product sales, less related sales allowances, is reflected as net sales in the consolidated income statements. The Corporation routinely commits to promotional sales allowance programs with customers. These allowances primarily relate to fixed programs, which the customer earns based on purchases of the Corporation s products during the year. Discounts and allowances are recorded as a reduction of related revenue at the time of sale. While many of the allowances are based on fixed amounts, certain of the allowances, such as the returns allowance, are based on market data, historical trends and information from customers, and are therefore subject to estimation. For its allowance programs that are not fixed, such as returns, the Corporation estimates these amounts using a combination of historical experience and current market conditions. These estimates are reviewed periodically against actual results and any adjustments are recorded at that time as an increase or decrease to net sales. During 2012, there have been no material adjustments to the Corporation s estimates made in prior years. b) Allowance for doubtful accounts The Corporation s allowance for doubtful accounts is based on management s assessment of the business environment, customers financial condition, historical collection experience, accounts receivable aging, customer disputes and the collectability of specific customer accounts. If there were a deterioration of a major customer s creditworthiness, or actual defaults were higher than the Corporation s historical experience, estimates of the recoverability of amounts due could be overstated, which could have an adverse impact on operating results. The allowance for doubtful accounts is also affected by the time at which uncollectible accounts receivable balances are actually written off. Major customers accounts are monitored on an ongoing basis; more in depth reviews are performed based on changes in customer s financial condition and/or the level of credit being extended. When a significant event occurs, such as a bankruptcy filing by a specific customer, and on a quarterly basis, the allowance is reviewed for adequacy and the balance or accrual rate is adjusted to reflect current risk prospects. The accompanying notes are an integral part of these consolidated financial statements. 20

21 3. Critical accounting estimates and judgments (cont d) c) Reserve for inventory obsolescence The Corporation values inventory at the lower of cost or net realizable value. Based upon a consideration of quantities on hand, actual and projected sales volume, anticipated product selling prices and product lines planned to be discontinued, slow-moving and obsolete inventory is written down to its net realizable value. Failure to accurately predict and respond to consumer demand could result in the Corporation under producing popular items or overproducing less popular items. Furthermore, significant changes in demand for the Corporation s products would impact management s estimates in establishing its inventory provision. Management estimates are monitored on a quarterly basis and a further adjustment to reduce inventory to its net realizable value is recorded, as an increase to cost of sales, when deemed necessary under the lower of cost or net realizable value. d) Impairment of non-financial assets Non-financial assets with finite lives are tested for impairment whenever events or changes in circumstances indicate that their carrying amounts may not be recoverable. In addition, non-financial assets that are not amortized are subject to an annual impairment assessment. Any impairment loss is recognized for the amount by which the asset s carrying amount exceeds its recoverable amount in earnings of continuing or discontinued operations, as appropriate. The Corporation evaluates impairment losses for potential reversals, other than goodwill impairment, when events or changes in circumstances warrant such consideration. See note 13 for further discussion on key assumptions used in the determination of recoverable amounts of non-financial assets. Judgement Income taxes The Corporation is subject to income taxes in numerous jurisdictions. Significant judgment is required in determining the worldwide provision for income taxes, including the probability of recovery of deferred tax assets. There are many transactions and calculations for which the ultimate tax determination is uncertain. The Corporation recognizes liabilities for anticipated tax audit issues based on estimates of whether additional taxes will be due. Where the final tax outcome of these matters is different from the amounts that were initially recorded, such differences will impact the current and deferred income tax assets and liabilities in the year in which such determination is made. The accompanying notes are an integral part of these consolidated financial statements. 21

22 4. Employee benefit expense $ $ Wages and salaries (including bonuses) 88,120 78,003 Stock-based compensation 1,134 1,511 Termination benefits ,741 80, Financial expenses $ $ Interest on secured debentures 14,789 15,894 Interest on asset-based credit facility 1,432 1,078 Amortization of deferred financing costs Others Financial expenses 17,647 18, Seasonal nature of business Historically, the Corporation has observed a higher level of activity and better results during the last two quarters of the year compared to the first two quarters. The accompanying notes are an integral part of these consolidated financial statements. 22

23 7. Income taxes a) Income tax expense $ $ Current tax Current year Prior year 1,146 (12,496) 1,642 (12,337) Deferred tax - 7,097 Income tax expense (recovery) 1,642 (5,240) The tax on the Corporation s profit before tax differs from the theoretical amount that would arise using the weighted average tax rate applicable to profits of the consolidated entities as follows: $ $ Earnings before income taxes 18,228 3,090 Canadian statutory tax rate 26.90% 28.05% Income tax expense at Canadian statutory tax rate 4, Benefits arising from financing structures (1,455) (2,119) Effects of foreign tax rate differences 246 1,603 Write-down of deferred tax asset 152 7,097 North America tax recovery attributes (4,341) (4,150) International operations recovery - (9,396) Others 2, Income tax expense (recovery) 1,642 (5,240) The applicable statutory tax rates are 26.9% in 2012 and 28.05% in The Corporation s applicable tax rate is the combined rate applicable in the jurisdictions in which the Corporation operates. The accompanying notes are an integral part of these consolidated financial statements. 23