Portland Private Income Fund Annual Report. December 31, 2014

Transcription

1 Portland Private Income Fund 2014 Annual Report December 31, 2014

2 Portland Private Income Fund 2014 Annual Report December 31, 2014 Commentary 1 PORTLAND PRIVATE INCOME FUND Management s Responsibilities for Financial Reporting 7 Independent Auditor s Report 8 FINANCIAL STATEMENTS Statements of Financial Position 9 Statements of Comprehensive Income 10 Statements of Changes in Net Assets Attributable to Holders of Redeemable Units 11 Statements of Cash Flows 12 Schedule of Investment Portfolio 13 Notes to Financial Statements 14 APPENDIX A 24 PORTLAND PRIVATE INCOME LP Management s Responsibilities for Financial Reporting 25 Independent Auditor s Report 26 FINANCIAL STATEMENTS Statements of Financial Position 27 Statements of Comprehensive Income 28 Statements of Changes in Net Assets Attributable to Holders of Redeemable Units 29 Statements of Cash Flows 30 Schedule of Investment Portfolio 31 Notes to Financial Statements 32

3 COMMENTARY PORTFOLIO MANAGEMENT TEAM Christopher Wain-Lowe, BA, MBA Executive Vice President and Portfolio Manager Dragos Berbecel, MBA, CFA Portfolio Manager Overview The investment objective of the Portland Private Income Fund (the Fund) is to preserve capital and provide income and above average long-term returns. The Fund ultimately intends to achieve its investment objective by investing all, or substantially all, of its net assets in the Portland Private Income LP (the Partnership). Although the Fund ultimately intends to invest all, or substantially all, of its net assets in the Partnership, Portland Investment Counsel Inc. (the Manager) currently determines and, from time to time, may determine that the investment objective of the Fund can be best achieved through direct investment in underlying securities and/or investment in other pooled investment vehicles. To the extent the Fund makes direct investments, it will apply the investment strategies of the Partnership. The investment objective of the Partnership is to preserve capital and provide income and above average long-term returns by investing primarily in a portfolio of private debt securities, either directly or indirectly through other funds, initially consisting of: private mortgages, administered by licensed mortgage administrators, currently MarshallZehr Group Inc. (Mortgage Administration #11955); private commercial debts, currently managed by Crown Capital Partners Inc., a portion of which may have participating features resulting in equity ownership of the issuer of the debt or the underlying asset if certain events occur; other debt securities, a portion of which may have participating features resulting in equity ownership of the issuer of the debt or the underlying asset if certain events occur; and investments in complementary income producing public securities, including real estate income trusts, royalty income trusts, preferred shares, dividend paying equity securities and debt securities including convertibles, corporate and sovereign debt. The following discussion covers the period from January 1 to December 31, Information related to mortgage investments is presented on a combined basis whether the mortgage investments are held by the Fund or the Partnership. Recent Developments and Outlook Current investments consist primarily of mortgages in the Greater Toronto Area (GTA), South-Western Ontario and Central Ontario including a variety of infill and intensification projects with what the Manager believes to be well-established developers located in areas of increased demand. The projects span term, pre-development, development and construction stages (see Table 1 and Chart 1). Chart 1. Portland Private Income Fund s mortgage portfolio breakdown by mortgage type as of December 31, 2014 Term, 18.3% Pre-Development, 5.7% Construction, 58.3% Pre-Construction/ Development, 17.7% As the Manager, we attended the Canadian Housing & Mortgage conference in June which was organized by Royal Bank of Canada, and included chartered banks, monoline lenders, private mortgage insurers and real estate developers. All presenters expressed confidence in the general robustness of the current real estate market but were more cautious regarding several regional markets. The backdrop to the conference was the news in April that Canada s financial regulator, the Office of the Superintendent of Financial Institutions (OFSFI) was looking to issue new guidelines that would compel mortgage insurers to conduct due diligence on the ability of higher risk borrowers to service their debts and also require them to tighten monitoring procedures; and the news in June that Canada Mortgage and Housing Corporation (CMHC) was to stop offering mortgage insurance to condo developers and stop insuring mortgages on second homes. The consensus view from the conference seemed to be that a gradual increase in rates, even coupled with the current and expected more restrictive CMHC and OSFI rules, should only result in a flattening or decelerating rise in home prices over the medium term, while home resales should be stationary, underpinned by mildly improving macro-economic conditions and continued robust household formation. Many participants viewed the CMHC and OSFI macro prudential changes as timely and appropriate, helping to bring more discipline to the market, improving the quality of the underwriting standards and increasing investor confidence. 1

4 COMMENTARY By year end, reports from CMHC showed the seasonally adjusted rate of housing starts rose to 195,620 units in November, from 183,659 in October. Conversely, a separate report from Statistics Canada showed the value of Canadian building permits edged up 0.7% in October to C$7.53 billion, lower than the previous month s gain as construction intentions for residential homes slipped. Housing starts have slowed from a cyclical peak of about 215,000 a year in 2012 and are now estimated to be running about in line with what is needed to satisfy demographic demand and some replacement. In fact in June, the Bank of Montreal Capital Markets Corp. (BMO) issued an interesting perspective on the housing market in which they highlighted that demographics are playing a supportive role. It is estimated that there are nearly 10 million Canadian baby boomers, aged 49 67, but they are exceeded by the younger generation aged While fertility rates among boomers were lower than for their parents, young immigrants more than make up the difference. This youthful group is now progressing through their first and second house buying years. BMO remind that the year old subset has been an important contributor to Canada s housing market cycles over the past 25 years, including a massive plunge that coincided with the deep bear market that started in 1989 population in that age group fell 20% in just 10 years. Looking ahead BMO believes that regionally, population growth in the group is expected to remain firm in Ontario and Western Canada, while Quebec and Atlantic Canada have already begun to fade, with such demographics therefore posing a challenge for Quebec and Atlantic Canada while remaining supportive in Ontario. A valid concern is that as the baby boomers move into their retirement they will be looking to downsize. Statistics Canada data does show at least some movement of the 65+ group out of single detached homes but this is more than offset by the increasing demands of the younger generation. Therefore, it seems the downsizing of the boomers out of their single detached homes should be absorbed by the younger generation (including immigrants) at least in the coming years. Also, when development constraints are taken into consideration, particularly around parts of the GTA, we believe the risk is that the supply of single detached homes will remain tight, so pressuring prices higher. Chart 2 below, highlights Canadian real home prices indexed to June This chart seeks to show that real home prices in Canada are on the high-side of their long-term trend, thanks to strong post-recession gains that have run above the rate of inflation. However, macro prudential efforts, mentioned above, to decelerate the trend, appear to be working in order to moderate price growth to a level more in line with underlying inflation. Chart 2. Canada New Housing Price Index January 15, 1981 to February 15, NEW HOUSING PRICE INDEX : Canada Trend line of NEW HOUSING PRICE INDEX : Canada Looking ahead, CMHC estimates housing starts in 2015 are expected to range from 172,800 to 204,000 units and that, more importantly for this Fund, housing starts in Ontario are expected to increase based on improving economic conditions. Ontario s export sector is expected to contribute more to provincial economic growth as the US economy recovers and the Canadian dollar and cost of energy weakens. This view is shared by the report published by PwC Emerging Trends in Real Estate : Canada and the United States We believe, therefore, that indicators of housing market trends continue to look healthy, including rental vacancy rents, level of rents, absorption of condo units, the sales-to-new-listings ratios, months of housing inventory and housing affordability. We remain mindful of the well publicized over-supply of residential real estate projects in certain areas of the market, particularly regarding condo units at various levels of completion across Toronto, and we are applying selectivity and a rigorous due diligence process that we believe ensures a high quality in each project, strength in management, tangible security, an achievable business plan and clear realization of the anticipated returns. The Fund has no exposure to the condo market in Toronto but has exposure in Ontario s retirement market and modestly in affordable housing which we believe is increasingly needed as urbanization increases a city s support network of service industry workers. As of December 31, 2014, the weighted average loan-to-value (LTV) of the mortgage portion of the portfolio was 66% and consisted primarily of first mortgages (see Table 1 and Chart 3). 2

5 COMMENTARY Chart 3. Portland Private Income Fund s mortgage portfolio breakdown by type of security as of December 31, 2014 Third Mortgage, 6.9% First Mortgage, 80.8% Second Mortgage, 12.3% MarshallZehr Group Inc., the Mortgage Administrator, continues to focus on dynamic high growth geographies/niches which have been underserved by traditional lenders, where it draws on its extensive business experience in the commercial finance and real estate. We remain confident that current investments, as well as a robust pipeline of investment opportunities, structured/arranged by the Mortgage Administrator and the Specialty Investment Manager, Crown Capital Partners, will allow the Fund to continue to provide its unitholders with similar levels of fully funded annual distribution, paid monthly. We anticipate that the portfolio will be making its first commercial loans investment with Crown Capital Partners in the first half of Financial Highlights The Fund s one year return as of December 31, 2014 was 9.0% for the Series F while Series A s one year return was 7.7%. The Fund declared quarterly distributions commencing with the quarter ending March, 2013 and moved to monthly fixed distributions since January, In January 2015, we announced that the Fund was to pay a special distribution in regards to its performance in 2014, in addition to its regular monthly distributions. This special distribution is paid to assist the Fund (on behalf of its unit holders) to avoid tax. Effective December 31, 2014: in addition to its regular fixed distribution of $ per month, the Series A units received a special distribution of $ ; and in addition to its regular fixed distribution of $0.375 per month, the Series F units received a special distribution of $ With prospects for interest rates to stay lower for longer, we believe the Fund will continue to outperform publicly traded fixed income instruments. For the 12 months period ended December 31, 2014 the FTSE TMX Canada Short Term Bond Index 1 achieved 3.1% total return while the ishares DEX Short Term Bond Index Fund returned 2.8% 2. Given the Fund s exposure to mostly short term loans (see Chart 4), we believe it retains the flexibility and capability to outperform publicly listed fixed income instruments when higher rates will, eventually, return. Chart 4. Portland Private Income Fund s mortgage portfolio breakdown by mortgage term as of December 31, 2014 Mortgage Term Months, 36.3% 12 Months or Less, 63.7% The weighted average net interest rate (net of specific provisions) of the mortgage portfolio at December 31, 2014 is 10.3% (see Table 1). 3

6 COMMENTARY Table 1. Portland Private Income Fund s mortgage portfolio as of December 31, 2014 Build Form Location Type Security Term Net Yield Loan to Value Senior Condominium Residential Subdivision Residential Subdivision Professional Condominium Residential Condominium Mixed Use Condominium Residential Subdivision Senior Condominium Senior/Healthcare Condominium Richmond Hill Pre-Construction/ Development 1st Mortgage 12 months 11.40% 85% Mississauga Construction 1st Mortgage 18 months 10.00% 70% King City Markham Pre-Construction/ Development Pre-Construction/ Development 1st Mortgage 24 months 10.00% 53% 1st Mortgage 12 months 12.00% 61% Stoney Creek Construction 2nd Mortgage 24 months 11.90% 74% Kitchener Construction 3rd Mortgage 36 months 12.75% 84% Kitchener Construction 2nd Mortgage 24 months 11.90% 58% North GTA Construction 1st Mortgage 24 months 10.20% 71% Peterborough Construction 1st Mortgage 19 months 10.50% 60% Apartment Building Peterborough Construction 1st Mortgage 18 months 10.20% 78% Residential Subdivision Senior/Healthcare Residence Guelph Pre-Development 1st Mortgage 12 months 10.20% 61% London Term 1st Mortgage 12 months 9.50% 60% Student Housing Barrie Construction 1st Mortgage 24 months 12.00% 81% Residential Subdivision Residential Condominium Mississauga Construction 2nd Mortgage 12 months 11.50% 74% Kitchener Term 1st Mortgage 12 months 9.78% 55% Commercial Plaza London Construction 1st Mortgage 13 months 10.20% 63% *Net of specific provisions Weighted Average 10.30%* 66% 4

7 COMMENTARY Net asset value per unit at December 31, 2014 was $50.89 for Series F and $49.94 for Series A. The Fund has managed to deliver a since inception 9.2% annualized return for Series F (7.8% for Series A), while exhibiting little variance in its monthly net asset value per unit (and even less now that distributions are paid monthly) compared to publicly listed short term debt instruments, such as the ishares DEX Short Term Bond Index Fund, as depicted in Chart 5. Chart 5. Historical net asset value per unit for the Fund s Series F (right hand) versus ishares DEX Short Term Bond Index Fund (XSB) (left hand) from January 31, 2013 to December 31, 2014 Credit risk Credit risk is the risk of suffering financial loss should any of the borrowers fail to fulfill their contractual obligations. Credit risk is managed by adhering to the investment and operating policies, as set out in the Fund s Offering Memorandum. This includes the following policies: the majority of mortgages are generally expected to be written for terms of 6 to 36 months and supported by commercial liability insurance and by personal or corporate guarantees; and mortgages are generally expected to be written for a principal amount at the time of commitment (together with the principal balance outstanding on prior mortgages if applicable), not exceeding 75% of the determined value of the underlying property securing the mortgage. Such risks are further mitigated by ensuring a comprehensive due diligence process is conducted on each mortgage prior to funding. This process generally includes, but is not limited to, reviewing legal documentation, independent appraisers valuations and credit checks and financial statement reviews on prospective borrowers. Impairment of financial assets At least monthly, we assess whether there is objective evidence that loans and receivables are impaired, having occurred after the initial recognition of the asset and prior to the month-end that have adversely impacted the estimated future cash flows of the asset. The criteria that we use to determine that there is objective evidence of an impairment loss include: significant financial difficulty of the borrowing entity; a breach of contract; and we, as lender, for economic or legal reasons relating to the borrower s financial difficulty, grant to the borrower a concession that the lender would not otherwise consider. Non-performing loans and the resolution of such loans are a normal, ongoing part of the business. In general, loan pricing takes into account the fact that a small percentage of loans will have a period of non-performance. While the Mortgage Administrator aims to collect all indebtedness on mortgage loans, there are instances where borrowers encounter circumstances when the collection and/ or timing of principal repayments and interest payments becomes unclear. For these non-performing loans, interest accrued into revenues is discounted, if such loans are partly performing, or eliminated, if such loans are not performing, thereby resulting in a lower return on the portfolio. Resolving non-performing loans to maximize value is not typically an expedient process and takes patience, experience and capital. In the second half of 2014, we recognized that one mortgage had objective evidence of financial difficulty and from the date of recognition classified this mortgage as a non-performing loan, with its mortgage interest accrued into revenue being discounted by way of creating a specific allowance. The Mortgage Administrator has been actively engaged in the recovery process, including the provision of additional finance by way of a Court Ordered debtor-in-possession facility, pursuant to the Companies Creditors Arrangement Act. The Mortgage Administrator continues to advise us to expect full recovery but until all objective evidence of impairment is removed the specific allowance on this mortgage remains a modest drag on the portfolio s return. 5

8 COMMENTARY Measurement of credit risk via Expected Loss At least annually we will estimate a collective allowance attributable to the portfolio based on probabilities of inherent losses that are as yet unidentified. The approach adopted is Expected Loss,a methodology which performs a quantitative calculation of the collective allowance to arrive at a probable quantitative value of the overall collective allowance. This methodology is similar to regulatory capital calculations already employed by banks and so represents the industry s regulatory standard. The principal objective of credit risk measurement is to produce the most accurate possible quantitative assessment of the credit risk to which the portfolio is exposed, from the level of individual borrowers up to the total portfolio. The key building blocks of this process are: Probability of default (PD) Loss Given Default (LGD); and Exposure at default (EAD). For example, the portfolio can assign an Expected Loss over the next 12 months to each borrower by multiplying these three factors. We calculate probability of default (PD) by assessing the credit quality of borrowers. For the sake of illustration, suppose a borrower has a 2% probability of defaulting over a 12-month period. The exposure at default (EAD) is our estimate of what the outstanding balance will be if the borrower does default. Suppose the current balance is C$100,000, our models might predict a rise to $110,000 by the time the borrower defaults. Should borrowers default, some part of the exposure is usually recovered. The part that is not recovered, together with the costs associated with the recovery process, comprise the loss given default (LGD), which is expressed as a percentage of EAD. Suppose the LGD in this case is estimated to be 10%, the Expected Loss for this borrower is then calculated as 2% x $110,000 x 10% which is $220 (i.e. 0.22% of the outstanding balance). To calculate probability of default, the portfolio assesses the credit quality of borrowers and utilizes publicly available risk default data to help determine both point in time and through-the-cycle estimations of PD. When assessing exposure at default the portfolio anticipates mortgages to be fully drawn and for the purposes of assessing the loss given default the portfolio makes adjustments to account for the increased losses experienced under downturn conditions. Based on this Expected Loss methodology we conducted an assessment at the beginning of the year from which we assigned a collective allowance/ collective loan loss provision attributable to the mortgage portfolio holdings at a rate of 0.25% of outstanding balances which we increased to 0.40% in July 2014, recognizing that such related losses have yet to be identified. This Expected Loss collective allowance is a deduction from the calculated net asset value and the distributions from the Fund are paid after deducting the specific and collective allowance. Portfolio Profile The current portfolio is 98.2% comprised of commercial mortgages (see Chart 5), diversified across project types, geography, project stage and term, as detailed in Table 1. As of December 31, 2014, 100% of the mortgage investments were in Ontario. Chart 5. Portland Private Income Fund s Portfolio Allocation as of December 31, Public Securities, 2.2% Private Mortgage Loans, 97.8% The portfolio also contains a modest position in Ares Capital Corporation, a leading US specialty finance company focused on lending to underserved middle market companies. It provides one stop financing via a combination of senior and subordinated loans. Its focus is on high free cash flow companies in defensive industries and is one of the largest regulated business development companies in the US. The Fund may from time to time borrow but such borrowings are subject to the restriction that they will not exceed 25% of the total assets of the Fund. Currently the Fund has only occasionally borrowed to manage day-to-day cash flow requirements which resulted in a borrowing with the Fund s custodian of $36,046 (see note 5) over the year-end and which was repaid on January 2, We remain confident that current investments, as well as a pipeline of investment opportunities, should allow the Fund to provide its Series A and Series F unitholders with an 8% and 9% (based on the initial net asset value per unit of $50.00) fully funded annual distribution, respectively. 6

9 MANAGEMENT S RESPONSIBILITIES FOR FINANCIAL REPORTING PORTLAND PRIVATE INCOME FUND Management s Responsibilities for Financial Reporting The accompanying financial statements have been prepared and approved by Portland Investment Counsel Inc., the manager and trustee (the Manager) of Portland Private Income Fund (the Fund). The Fund s Manager is responsible for the information and representations contained in these financial statements. The Board of Directors of the Manager is responsible for reviewing and approving the financial statements. The Manager maintains appropriate processes to ensure that relevant and reliable financial information is produced. The financial statements have been prepared in accordance with International Financial Reporting Standards and include certain amounts that are based on estimates and judgments. The significant accounting policies which management believes are appropriate for the Fund are described in Note 3 to these financial statements. Michael Lee-Chin Robert Almeida Michael Lee-Chin, Robert Almeida, Director Director March 16, 2015 March 16,

10 INDEPENDENT AUDITOR S REPORT PORTLAND PRIVATE INCOME FUND Independent Auditor s Report To the Unitholders of Portland Private Income Fund (the Fund) We have audited the accompanying financial statements of the Fund, which comprise the statements of financial position as at December 31, 2014 and 2013, the statements of comprehensive income, changes in net assets attributable to holders of redeemable units and cash flows for the year ended December 31, 2014 and the period from December 17, 2012 to December 31, 2013, and the related notes which comprise a summary of significant accounting policies and other explanatory information. Management s responsibility for the financial statements Management is responsible for the preparation and fair presentation of the financial statements in accordance with International Financial Reporting Standards, and for such internal control as management determines is necessary to enable the preparation of 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 the financial statements based on our audit. We conducted our audit in accordance with Canadian generally accepted auditing standards. Those standards require that we comply with ethical requirements and plan and perform an audit to obtain reasonable assurance about whether the financial statements are free from material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditor s judgment, including the assessment of the risks of material misstatement of the 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 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 financial statements. We believe that the audit evidence we have obtained in our audit is sufficient and appropriate to provide a basis for our audit opinion. Opinion In our opinion, the financial statements present fairly, in all material respects, the financial position of the Fund as at December 31, 2014 and 2013 and its financial performance and cash flows for the year ended December 31, 2014 and the period from December 17, 2012 to December 31, 2013, in accordance with International Financial Reporting Standards. Chartered Professional Accountants, Licensed Public Accountants Toronto, Ontario March 16,

11 FINANCIAL STATEMENTS PORTLAND PRIVATE INCOME FUND Statements of Financial Position as at December 31, * Assets Current Assets Cash and cash equivalents $ - $ 2,471 Subscriptions receivable 497,313 31,000 Interest receivable 266,617 32,981 Investments (Note 5) 8,758,354 1,906,549 Total Assets 9,522,284 1,973,001 Liabilities Current Liabilities Short term borrowing (Note 5) 36,046 - Accrued expenses 9,327 4,031 Distributions payable 27,530 - Total Liabilities 72,903 4,031 Net Assets Attributable to Holders of Redeemable Units $ 9,449,381 $ 1,968,970 Net Assets Attributable to Holders of Redeemable Units Per Series (Note 6) Series A 1,991, ,515 Series F 7,455,514 1,394,904 Series O 2, ,551 $ 9,449,381 $ 1,968,970 Number of Redeemable Units Outstanding Series A 39,889 9,179 Series F 146,493 27,252 Series O 41 2,232 Net Assets Attributable to Holders of Redeemable Units per Unit Series A Series F Series O *From December 17, 2012 (date of formation) to December 31, Approved on behalf of the Trustee, Portland Investment Counsel Inc. Michael Lee-Chin Director Robert Almeida Director The accompanying notes are an integral part of these financial statements. 9

12 FINANCIAL STATEMENTS PORTLAND PRIVATE INCOME FUND Statements of Comprehensive Income as at December 31, * Income Interest for distribution purposes $ 562,989 $ 40,434 Dividends 7, Net realized gain (loss) on investments ,975 Change in unrealized appreciation (depreciation) on investments 1, ,200 95,718 Foreign currency gain (loss) on cash and other net assets (1,561) - Expenses Mortgage administration fees 75,647 6,694 Collective and specific allowances (Note 3) 43,905 - Management fees (Note 8) 24,775 4,771 Service fees (Note 8) 10,842 2,160 Securityholder reporting costs 24,150 50,266 Audit fees 22,760 26,815 Custodian fees 858 5,097 Legal fees 11,003 - Independent review committee fees 4,976 6,243 Interest and borrowing expense Transaction costs Withholding tax expense 1, Organizational expenses (Note 8) 13, , ,068 Less: expenses absorbed by Manager (Note 8) (51,922) (84,870) Total operating expenses 181,893 17,198 Increase (Decrease) in Net Assets Attributable to Holders of Redeemable Units $ 388,746 $ 78,520 Increase (Decrease) in Net Assets Attributable to Holders of Redeemable Units per Series Series A 71,034 15,075 Series F 299,751 61,894 Series O 17,961 1,551 Increase (Decrease) in Net Assets Attributable to Holders of Redeemable Units per Series per Unit Series A Series F Series O * From December 17, 2012 (date of formation) to December 31, 2013 The accompanying notes are an integral part of these financial statements. 10

13 FINANCIAL STATEMENTS PORTLAND PRIVATE INCOME FUND Statements of Changes in Net Assets Attributable to Holders of Redeemable Units as at December 31, * Net Assets Attributable to Holders of Redeemable Units at Beginning of Period Series A $ 462,515 $ - Series F 1,394,904 - Series O 111,551-1,968,970 - Increase (Decrease) in Net Assets Attributable to Holders of Redeemable Units Series A 71,034 15,075 Series F 299,751 61,894 Series O 17,961 1, ,746 78,520 Distributions to Holders of Redeemable Units From net investment income Series A (83,271) (14,094) Series F (337,162) (50,574) Series O (18,470) (1,726) (438,903) (66,394) From net realized gains on investments Series A - (806) Series F - (2,374) Series O - (194) - (3,374) Net Increase (Decrease) from Distributions to Holders of Redeemable Units (438,903) (69,768) Redeemable Unit Transactions Proceeds from issuance of redeemable units Series A 1,487, ,440 Series F 5,915,965 1,333,010 Series O 331, ,000 7,734,908 1,890,450 Reinvestments of distributions to holders of redeemable units Series A 80,103 14,900 Series F 260,333 52,948 Series O 16,715 1, ,151 69,768 Redemption of redeemable units Series A (26,486) - Series F (78,277) - Series O (456,728) - (561,491) - Net Increase (Decrease) from Redeemable Unit Transactions 7,530,568 1,960,218 Net Assets Attributable to Holders of Redeemable Units at End of Period Series A 1,991, ,515 Series F 7,455,514 1,394,904 Series O 2, ,551 $ 9,449,381 $ 1,968,970 * From December 17, 2012 (date of formation) to December 31, 2013 The accompanying notes are an integral part of these financial statements. 11

14 FINANCIAL STATEMENTS PORTLAND PRIVATE INCOME FUND Statements of Cash Flows as at December 31, * Cash Flows from Operating Activities Increase / (decrease) in net assets attributable to holders of redeemable units $ 388,746 $ 78,520 Adjustments for: Foreign currency (gain) loss on cash and other net assets 1,561 - Collective and specific allowances 43,905 - Net realized gain (loss) on investments (509) (54,975) Change in unrealized appreciation (depreciation) on investments (1,013) (181) (Increase) decrease in interest receivable (233,636) (32,981) Increase (decrease) in distributions payable 27,530 - Increase (decrease) in accrued expenses 5,296 4,031 Purchase of investments (9,207,422) (3,407,641) Proceeds from sales of investments 2,313,234 1,556,248 Net Cash Generated (Used) by Operating Activities (6,662,308) (1,856,979) Cash Flows from Financing Activities Distributions to holders of redeemable units, net of reinvested distributions (81,752) - Proceeds from redeemable units issued 7,268,595 1,859,450 Amount paid on redemption of redeemable units (561,491) - Net Cash Generated (Used) by Financing Activities 6,625,352 1,859,450 Foreign currency gain (loss) on cash and other net assets (1,561) - Net increase (decrease) in cash and cash equivalents (38,517) 2,471 Cash and cash equivalents beginning of period 2,471 - Cash and Cash Equivalents/(Short Term Borrowing) - End of Period $ (36,046) $ 2,471 Cash and cash equivalents (short term borrowing) comprise: Cash at bank (36,046) 2,471 (36,046) 2,471 Interest received, net of withholding tax 329,353 7,453 Dividends received, net of witholding tax 6, Interest paid Distributions paid 81,752 - Income taxes paid - - * From December 17, 2012 (date of formation) to December 31, 2013 The accompanying notes are an integral part of these financial statements. 12

15 FINANCIAL STATEMENTS PORTLAND PRIVATE INCOME FUND Schedule of Investment Portfolio as at December 31, 2014 No. of Shares Description Cost Carrying Value EQUITIES United States 11,118 Ares Capital Corporation $ 201,818 $ 201,351 Transaction costs (148) - 201,670 $201,351 UNDERLYING INVESTMENT FUNDS Canada 27,276 Portland Private Income LP 1,475,903 1,477,415 MORTGAGES Private Mortgage Loans (Note 5) 7,109,091 7,079,588 TOTAL INVESTMENTS $ 8,786,664 $ 8,758,354 The accompanying notes are an integral part of these financial statements. 13

16 NOTES TO FINANCIAL STATEMENTS PORTLAND PRIVATE INCOME FUND 1. GENERAL INFORMATION Portland Private Income Fund (the Fund) is an open-ended mutual trust established by Portland Investment Counsel Inc. (the Trustee or Manager) as trustee under the laws of Ontario pursuant to a Master Declaration of Trust dated as of December 17, 2012 (the Declaration of Trust). The Fund commenced operations on January 7, The Trustee is a corporation formed under the laws of Ontario. The Trustee has ultimate responsibility for the business and undertaking of the Fund in accordance with the terms of the Declaration of Trust. The Trustee has engaged the Manager to manage the Fund on a day-to-day basis, including management of the Fund s portfolio and distribution of the units of the Fund. The registered office of the Fund is 1375 Kerns Road, Suite 100, Burlington, Ontario L7P 4V7. The investment objective of the Fund is to preserve capital and provide income and above average long-term returns. The Fund intends to achieve its investment objective by investing all, or substantially all, of its net assets in the Portland Private Income LP (the Partnership or Underlying Fund). Although the Fund intends to invest all, or substantially all, of its net assets in the Partnership, the Manager may from time to time determine that the investment objective of the Fund can be best achieved through direct investment in underlying securities and/or investment in other pooled investment vehicles. To the extent the Fund makes direct investments, it will apply the investment strategies of the Partnership. The investment objective of the Partnership is to preserve capital and provide income and above average long-term returns by investing primarily in a portfolio of private debt securities. During the period ending December 31, 2013, the Fund invested the majority of its net assets in units of the Partnership. On October 25, 2013, the Fund redeemed its units and received mortgage investments from the Partnership as consideration. Accordingly, interest on the related mortgages was earned in the Partnership for the period from commencement of the Fund until October 25, Thereafter, interest on the mortgage investments was earned in the Fund until November 28, 2014 when the Fund began investing in units of the Partnership again. The Manager intends to make all future investments in the Partnership. 2. BASIS OF PRESENTATION AND ADOPTION OF IFRS These financial statements have been prepared in compliance with International Financial Reporting Standards (IFRS) as published by the International Accounting Standards Board (IASB), including IFRS 1 First-time Adoption of International Financial Reporting Standards. The Fund adopted this basis of accounting in 2014 as required by Canadian securities legislation and the Canadian Accounting Standards Board. Previously, the Fund prepared its financial statements in accordance with Canadian Generally Accepted Accounting Principles as defined in Part V of the Chartered Professional Accountants of Canada Handbook (Canadian GAAP). The Fund has consistently applied the accounting policies used in the preparation of its opening IFRS statement of financial position at January 1, 2013 and throughout all periods presented, as if these policies had always been in effect. Note 12 discloses the impact of the transition to IFRS on the Fund s reported financial position, financial performance and cash flows, including the nature and effect of significant changes in accounting policies from those used in the Fund s financial statements for the year ended December 31, 2013 prepared under Canadian GAAP. These financial statements have been authorized for issue by the Board of Directors of the Trustee on March 16, SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Financial instruments (a) Classification The Fund recognizes financial instruments at fair value upon initial recognition, plus transaction costs in the case of financial instruments measured at amortized cost. The Fund s investments in equity instruments are designated at inception and are measured at fair value through profit and loss (FVTPL). The Fund s obligation for net assets attributable to holders of redeemable units is presented at the redemption amount. All other financial assets and liabilities, including mortgage investments are classified as loans and receivables or other financial liabilities and are measured at amortized cost which approximates fair value using the effective interest method. Under this method, financial assets and liabilities reflect the amount required to be received or paid, discounted, when appropriate, at the contract s effective interest rate. The Fund s accounting policies for measuring the fair value of its investments and derivatives are similar to those used in measuring its net asset value (NAV) for unitholder transactions; therefore it is expected that net assets attributable to holders of redeemable units will be the same in all material respects as the NAV per unit used in processing unitholder transactions. (b) Recognition, de-recognition and measurement Regular way purchases and sales of financial assets are recognized on their trade date - the date on which the Fund commits to purchase or sell the investment. Financial assets and liabilities at FVTPL are initially recognized at fair value. Transaction costs are expensed as incurred in the statements of comprehensive income. Financial assets are de-recognized when the rights to receive cash flows from the investments have expired or the Fund has transferred substantially all the risks and rewards of ownership. Upon disposal, the difference between the amount received and the average cost to acquire the financial asset is included within Net realized gain (loss) in the statements of comprehensive income. Subsequent to initial recognition, all financial assets and liabilities at FVTPL are measured at fair value. Gains and losses arising from change in fair value of the financial assets and liabilities at fair value through profit or loss category are presented in the statements of comprehensive income within change in unrealized appreciation (depreciation) on investments in the period in which they arise. 14

17 NOTES TO FINANCIAL STATEMENTS PORTLAND PRIVATE INCOME FUND Fair value measurement 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. The fair value of financial assets and liabilities traded in active markets (such as publicly traded derivatives and marketable securities) are based on quoted market prices at the close of trading on the reporting date. The Fund uses the last traded market price for both financial assets and financial liabilities where the last traded price falls within that day s bid-ask spread. In circumstances where the last traded price is not within the bid-ask spread, the Manager determines the point within the bid-ask spread that is most representative of fair value based on the specific facts and circumstances. If there has been no trade, the mid price (average bid and asking price) as of the close of the business on the reporting date is used to approximate fair value. The Fund s policy is to recognize transfers into and out of the fair value hierarchy levels as of the date of the event or change in circumstances giving rise to the transfer. Revenue recognition Interest for distribution purposes shown on the statements of comprehensive income represents the interest earned by the Fund on debt securities and distributions paid on Underlying Funds accounted for on an accrual basis. The Fund does not amortize premiums paid or discounts received on the purchase of fixed income securities other than zero coupon debt securities which are amortized on a straight line basis. Interest receivable is shown separately in the statements of financial position based on the debt instruments stated rates of interest. Dividends on equity investments and distributions on investments in other investment funds are recognized as income on the ex-dividend date. Impairment of financial assets at amortized cost and collective and specific allowances At each reporting date, the Fund assesses whether there is objective evidence that a financial asset at amortized cost is impaired. If such evidence exists, the Fund recognizes an impairment loss as the difference between the amortized cost of the financial asset and the present value of the estimated future cash flows, discounted using the instruments original effective interest rate. Impairment losses on financial assets 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. As at December 31, 2014, the Fund has not recognized any impairment. The Fund recognized a specific allowance against one of its mortgage investments because the borrower had not paid interest payments owing for the period from September 28, 2014 to November 28, 2014 (date upon which the mortgage was transferred to the Partnership). An amount of $14,402 was included in Collective and specific allowances on the statements of comprehensive income for the year ended December 31, Regarding the measurement of mortgage and loan investments, the manager intends to assess impairment using a combination of (i) specific allowances on impaired mortgages and loans that are individually significant and (ii) on a collective basis using an expected loss model. An expected loss model looks at the following elements and multiplies them together to arrive at the percentage of the carrying value to record as a collective allowance: Probability of Default (PD) Loss Given Default (LGD); and Exposure at Default (EAD). PD is determined by assessing the credit quality of borrowers and the use of publicly available risk default data for similar mortgage and loan investments. EAD is the estimate of what the outstanding balance will be if the borrower does default at the time of default. LGD is the un-recovered part of EAD if there is a default requiring recovery of collateral or payments under a guarantee. At least annually, the Manager will estimate a collective allowance attributable to the portfolio based on probabilities of inherent losses that are as yet unidentified. The Fund has recognized a collective allowance on its private mortgage loans. As at December 31, 2014, the Manager has reduced the value of its private mortgage loans plus accrued interest by 0.40%, representing a collective allowance for impairment. The change in collective allowance from December 31, 2013 to December 31, 2014 is reflected in the statements of comprehensive income. Foreign currency translation The Fund s subscriptions and redemptions are denominated in Canadian dollars, which is also its functional and presentation currency. Foreign currency transactions are translated into the functional currency using the exchange rates prevailing at the dates that transactions occur. Assets and liabilities denominated in a foreign currency are translated into the functional currency using the exchange rate prevailing at the reporting date. Foreign exchange gains and losses related to assets and liabilities at amortized cost are recognized in profit and loss and are presented as foreign currency gain (loss) on cash and other net assets on the statements of comprehensive income. Realized foreign exchange gains and losses related to investments are recognized when incurred and are presented in the statement of comprehensive income within net realized gain (loss) on investments. Unrealized exchange gains or losses on investments are included in change in unrealized appreciation (depreciation) on investments in the statements of comprehensive income. Foreign exchange gain (loss) on currencies and other net assets arise from sale of foreign currencies, currency gains or losses realized between trade and settlement dates on securities transactions, and the difference between the recorded amounts of dividend, interest and foreign withholding taxes and the Canadian dollar equivalent of the amounts actually received or paid. Cash and cash equivalents The Fund considers highly liquid investments with an original maturity of three months or less that are readily convertible to known amounts of cash and which are subject to an insignificant risk of changes in value to be cash equivalents. Cash is comprised of deposits with financial institutions. 15

18 NOTES TO FINANCIAL STATEMENTS PORTLAND PRIVATE INCOME FUND Cost of investments The cost of investments represents the average cost for each security excluding transaction costs. On the schedule of investment portfolio, transaction costs have been deducted in aggregate from the total cost of individual investments which include transaction costs. Short term borrowing Net overdraft positions on custodial cash accounts of the Fund are repayable on demand and have been presented as a liability in the line Short term borrowing on the statements of financial position. Redeemable Units The Fund issued three series of redeemable units, which are redeemable with 60 days notice at the holder s option and do not have identical rights. Such units are classified as financial liabilities. Redeemable units can be put back to the Fund at any dealing date for cash equal to a proportionate share of the Fund s NAV attributable to the unit series. Units are redeemable monthly. The redeemable units are carried at the redemption amount that is payable at the statement of financial position date if the holder exercises the right to put the unit back to the Fund. Redeemable units are issued and redeemed at the holder s option at prices based on the Fund s NAV per unit at the time of issue or redemption. The Fund s NAV per unit is calculated by dividing the net assets attributable to the holders of each series of redeemable units with the total number of outstanding redeemable units for each respective series. In accordance with the provisions of the Fund s regulations, investment positions are valued based on the last traded market price for the purpose of determining the NAV per unit for subscriptions and redemptions. Expenses Expenses of the Fund including management fees and other operating expenses are recorded on an accrual basis. Transaction costs associated with investment transactions, including brokerage commissions, have been expensed on the statements of comprehensive income for financial assets and liabilities at FVTPL. Interest expense associated with short term borrowing is recorded on an accrual basis. Organizational expenses In accordance with its offering documents, organizational expenses in the amount of $40,291, which include legal and registration fees associated with the formation of the Fund and applicable taxes, are recoverable by the Manager from the Fund. The Fund is required to re-pay the Manager over three years commencing in A decision was made by the Manager to waive the chargeable amounts for Organizational expenses for 2014 in the amount of $13,469 have been included in Organizational expense and a corresponding amount has been included in Expenses absorbed by the Manager on the statements of comprehensive income. Increase (decrease) in net assets attributable to holders of redeemable units per unit Increase (Decrease) in Net Assets Attributable to Holders of Redeemable Units per Unit in the statements of comprehensive income represents the Increase (Decrease) in Net Assets Attributable to Holders of Redeemable Units per Series, divided by the weighted average units outstanding of that Series during the reporting period. Distribution to Unitholders Distributions will be made to Unitholders only at such times and in such amounts as may be determined at the discretion of the Manager. All distributions by the Fund on Series A, Series F and Series O Units will be automatically reinvested in additional units of the same Series of the Fund held by the investor at the NAV per unit thereof, unless the investor notifies the Manager in writing that cash distributions are preferred. Allocation of income and expense, and realized and unrealized gains and losses Management fees and other costs directly attributable to a series are charged to that series. The Fund s shared operating expenses, income, and realized and unrealized gains and losses are generally allocated proportionately to each series based upon the relative NAV of each Series. Future accounting changes IFRS 9, Financial Instruments The final version of IFRS 9, Financial Instruments, was issued by the IASB in July 2014 and will replace IAS 39 Financial Instruments: Recognition and Measurement. IFRS 9 introduces a model for classification and measurement, a single, forward-looking expected loss impairment model and a substantially reformed approach to hedge accounting. The new single, principle based approach for determining the classification of financial assets is driven by cash flow characteristics and the business model in which an asset is held. The new model also results in a single impairment model being applied to all financial instruments, which will require more timely recognition of expected credit losses. It also includes changes in respect of own credit risk in measuring liabilities elected to be measured at fair value, so that gains caused by the deterioration of an entity s own credit risk on such liabilities are no longer recognized in profit or loss. IFRS 9 is effective for annual periods beginning on or after January 1, 2018, however it is available for early adoption. In addition, the own credit changes can be early applied in isolation without otherwise changing the accounting for financial instruments. The Fund is in the process of assessing the impact of IFRS 9 and has not yet determined when it will adopt the new standard. 16