PRT Forest Regeneration Income Fund Consolidated Financial Statements December 31, 2009 and 2008 (in thousands of dollars) 2009
Auditors Report To the Unitholders of PRT Forest Regeneration Income Fund We have audited the consolidated balance sheet of PRT Forest Regeneration Income Fund as at December 31, 2009 and the consolidated statements of operations, comprehensive income and cumulative earnings and cash flows for the year then ended. These financial statements are the responsibility of the Fund's management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with Canadian generally accepted auditing standards. Those standards require that we plan and perform an audit to obtain reasonable assurance whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. In our opinion, these consolidated financial statements present fairly, in all material respects, the financial position of the Fund as at December 31, 2009 and the results of its operations and its cash flows for the year then ended in accordance with Canadian generally accepted accounting principles. The consolidated financial statements as at and for the year ended December 31, 2008 were audited by another firm of chartered accountants, who expressed an opinion without reservation on those statements in their report, dated March 31, 2009. Chartered Accountants Victoria, Canada March 23, 2010
Consolidated Balance Sheets As at December 31, 2009 and 2008 (in thousands of dollars) Assets As at December 31, As at December 31, Current assets Cash $ - $ 192 Accounts receivable (note 20) 11,237 6,976 Inventories (note 4) 1,422 2,369 Prepaid expenses and deposits 224 199 Unbilled revenue 1,801 4,065 14,684 13,801 Investment (note 5) 333 265 Property, plant and equipment (note 6) 26,739 35,152 Property, plant and equipment held for sale (note 7) 775 420 Intangible assets (note 8) 364 631 Liabilities $ 42,895 $ 50,269 Current liabilities Operating line (note 9) $ 3,566 $ 6,055 Accounts payable and accrued liabilities 1,799 4,051 Distribution payable to unitholders (note 12) - 192 Current portion of long-term debt 1,698 262 7,063 10,560 Long-term debt (note 10) 3,456 5,482 Future income taxes (note 13) 103 326 10,622 16,368 Unitholders' Equity Capital contributions (note 11) 90,395 90,249 Cumulative earnings 13,982 15,811 Unit option grants 80 25 Cumulative distributions declared (72,184) (72,184) 32,273 33,901 $ 42,895 $ 50,269 Organization and continuing operations (note 1) Commitments (note 19) Subsequent events (note 23) Page 3
Consolidated Statements of Operations, Comprehensive Income and Cumulative Earnings For the years ended December 31, 2009 and 2008 (in thousands of dollars, except per unit amounts and number of units outstanding) Year ended December 31 Revenue $ 30,062 $ 38,789 Expenses Costs of production 19,693 24,891 Selling, general and administration 7,905 9,909 Gain on foreign exchange (91) (104) Earnings before the following 2,555 4,093 Interest 561 843 Amortization of property, plant and equipment 2,691 3,684 Amortization of intangibles 267 267 Equity in loss (earnings) of investee (88) 39 Gain on disposal of property, plant and equipment (note 16) (1,797) (21) Long-lived asset impairment charges (note 6) 2,558 4,112 Exit activity charges (note 14) 566 251 Goodwill impairment (note 15) - 19,175 Loss in excess of insurance claims to date (note 16) - 100 Loss before income taxes (2,203) (24,357) Recovery of income taxes (note 13) 374 1,166 Net loss and comprehensive loss (1,829) (23,191) Cumulative earnings - beginning of year 15,811 39,002 Cumulative earnings - end of year $ 13,982 $ 15,811 Basic and diluted loss per Trust Unit $ (0.19) $ (2.41) Weighted average number of Trust Units outstanding 9,671,961 9,603,116 Page 4
Consolidated Statements of Cash Flows For the years ended December 31, 2009 and 2008 (in thousands of dollars) Year ended December 31 Cash flows from operating activities Net loss $ (1,829) $ (23,191) Items not affecting cash Amortization of property, plant and equipment (excluding seedling containers) 2,691 3,684 Seedling container amortization included in costs of production 851 1,317 Amortization of intangibles 267 267 Recovery of future income taxes (222) (1,184) Gain on disposal of property, plant and equipment (note 16) (1,797) (21) Long-lived asset impairment charges 2,558 4,112 Equity in (earnings) loss of investee (88) 39 Unrealized loss (gain) on foreign exchange (248) 285 Unrealized loss (gain) on interest rate swaps (59) 122 Stock option grants (note 11) 55 25 Goodwill impairment - 19,175 2,179 4,630 Net change in non-cash working capital balances (note 17) 1,190 3,035 3,369 7,665 Cash flows from financing activities Distributions paid to unitholders (note 12) (192) (3,284) Repayment of long-term debt (266) (549) Decrease in operating line (2,489) (3,284) Issuance of Trust Units 146 - (2,801) (7,117) Cash flows from investing activities Repayment of loans by investee 20 - Purchase of property, plant and equipment (935) (1,054) Proceeds from sale of property, plant and equipment 155 26 (760) (1,028) Decrease in cash (192) (480) Cash - beginning of year 192 672 Cash - end of year $ - $ 192 Supplemental cash flow information (note 17) Page 5
Notes to Consolidated Financial Statements Years ended December 31, 2009 and 2008 (in thousands of dollars except per Unit amounts) 1. Organization and continuing operations PRT Forest Regeneration Income Fund (the Fund ) is an open-ended single purpose trust, created under the laws of British Columbia by a Declaration of Trust dated May 14, 1997. The Fund is the largest producer of container-grown forest seedlings in North America. The Fund provides seedling growing services from its nurseries in British Columbia, Alberta, Saskatchewan, Ontario and Oregon. These consolidated financial statements include the accounts of the Fund, its wholly owned subsidiary Pacific Regeneration Technologies Inc. ( PRT ) and PRT s wholly owned subsidiary companies. The market for forest seedlings and market outlook has continued to weaken as a result of the severe cyclical downturn in the forest industry. The forest industry is being impacted by the combined effects of a sharp falloff in US housing starts and low realized lumber prices; this has resulted in mill closures, reduced logging activity and cost reduction initiatives, which in turn reduces the demand for seedlings. Seedling order volumes declined by 27% in 2009 relative to 2008, and were approximately 46% below their peak level in 2006. As the North American housing market slowly recovers from the economic recession, management expects that the lag between increased housing starts and new seedling orders could see those orders decline by a further 6% or more in 2010. In consideration of this outlook, the Fund has maintained the suspension of monthly distributions which commenced in January 2009. 2. Significant accounting policies Basis of presentation These consolidated financial statements have been prepared in accordance with accounting principles generally accepted in Canada and are presented in Canadian dollars. Principles of consolidation These consolidated financial statements include the accounts of the Fund, its wholly owned subsidiary Pacific Regeneration Technologies Inc. ( PRT ) and PRT s wholly owned subsidiary companies. Inter-group transactions and balances are eliminated on consolidation. Revenue recognition Revenue from contracts is recognized as a percentage of the contract price, based on the percentage of total direct expenses incurred to total expected direct costs by order. Total revenue is recognized when seedling crops reach substantial completion, which is defined as meeting all contracted growth specifications. Any excess of revenues recorded using this percentage of completion method over amounts billed is recorded as unbilled revenue. Revenue from non-contracted goods and services is recognized when the goods are delivered or the service has been substantially rendered. Revenue from all sources is only recognized when collection is reasonably assured. Page 6
Inventories Inventories of supplies are recorded at the lower of cost and replacement cost (which approximates net realizable value), with cost being determined on a weighted average basis. Seedling inventories ( spec stock ) are valued at the lower of average cost or net realizable value. Effective January 1, 2008, the Fund adopted the new accounting standard for inventories (CICA 3031). Adoption of this standard had no impact on the Fund s financial statements. Future income taxes The Fund accounts for income taxes using the asset and liability method. Future income taxes are recognized for the future income tax consequences of differences between the carrying values of assets and liabilities and their respective income tax bases. Future income tax assets and liabilities are measured using substantively enacted income tax rates expected to apply to taxable income in the years in which the temporary differences are expected to be recovered or settled. The effect on future income tax assets and liabilities of a change in rates is included in income in the period that includes the enactment date. Future income tax assets are recorded in the financial statements if realization is considered more likely than not. Investments The Fund accounts for investments over which it exercises significant influence using the equity method. Under this method, the initial investment is recorded at cost and the Fund s pro rata share of the investments earnings or losses is included in results of operations. Property, plant and equipment and amortization Property, plant and equipment are carried at cost less accumulated amortization. Amortization is calculated using the straight-line method at rates that reflect the estimated useful lives of the assets as follows: Buildings Greenhouses Equipment Seedling Containers 10-40 years 15-25 years 3-15 years 5 years Amortization related to seedling containers is included in costs of production in the consolidated statements of operations and cumulative earnings. Intangibles and amortization Intangibles represent customer lists, leases and non-competition agreements recorded on acquisition of subsidiaries. Intangibles are being amortized over their estimated useful lives of 5 to 15 years. Impairment of long-lived assets Property, plant and equipment and intangible assets are reviewed for impairment whenever events or changes in circumstances suggest that the carrying amount of an asset may not be recoverable and may be in excess of its fair value. Impairment is assessed using a two step approach. Under the first step, affected assets are tested for recoverability by comparing the carrying amount of the assets to the undiscounted estimated future net cash flows expected from their use and disposal. If the carrying amount of the assets exceed the undiscounted cash flows, they are considered to be impaired. If the asset is considered impaired, a second step is then carried out whereby an impairment loss is measured and recorded as the amount by which the carrying amount of the assets exceed their fair Page 7
value. Fair value of the assets is estimated based on the discounted future expected cash flows from the assets. Foreign exchange Foreign currency transactions are translated into Canadian dollars at the exchange rates in effect at the transaction dates. Monetary account balances denominated in foreign currencies are translated into Canadian dollars at exchange rates in effect at the consolidated balance sheet dates. Non-monetary account balances denominated in foreign currencies are translated at their historical exchange rates. Exchange gains and losses arising from the translation or settlement of foreign currency denominated monetary items are included in the determination of net earnings. The accounts of the Fund s United States operations are considered to be integrated and are translated into Canadian dollars using the temporal method. Exchange gains and losses arising from the translation of the Fund s foreign operations are included in the determination of net earnings. Use of estimates The preparation of financial statements in conformity with Canadian generally accepted accounting principles requires estimates and assumptions that affect certain reported amounts and disclosures. Accordingly, actual amounts could differ from those estimates. The most significant estimates are related to the recoverability of accounts receivable, future income tax assets, asset impairment and useful lives for amortization. Financial instruments All financial instruments are required to be measured at fair value on initial recognition except for certain related party transactions. After initial recognition, financial instruments should be measured at their fair values, except for financial assets classified as held-to-maturity or loans and receivables and other financial liabilities, which are measured at cost or amortized cost using the effective interest method. Financial assets classified as available-for-sale that do not have a quoted market price in an active market are measured at cost. Amortization related to financial assets classified as held-to-maturity or loans and receivables and other financial liabilities and unrealized gains and losses related to financial assets and financial liabilities classified as held-for-trading are recorded in net earnings for the period in which it arises. If a financial asset is classified as available-for-sale, the cumulative unrealized gain or loss is recognized in Accumulated Other Comprehensive Income (AOCI) and recognized in earnings upon the sale or other-than-temporary impairment. The Company has adopted the following classification for financial assets and financial liabilities: Cash and cash equivalents are classified as held-for-trading. Changes in fair value for the period are recorded in net earnings. Accounts receivable are classified as loans and receivables. Accounts payable and accrued liabilities, distributions payable, operating line and long-term debt are classified as other financial liabilities. The Company has also elected to recognize financing charges on financial instruments as an expense in the statement of operations rather than deduct them from the face value of the instrument. The standards require all derivative financial instruments to be measured at fair value on the consolidated balance sheet, even when they are part of an effective hedging relationship. An Page 8
embedded derivative is a component of a hybrid instrument that also includes a non-derivative host contract, with the effect that some of the cash flows of the combined instrument vary in a way similar to a stand-alone derivative. If certain conditions are met, an embedded derivative is separated from the host contract (bifurcated) and accounted for as a derivative in the consolidated balance sheet, and measured at fair value. As at December 31, 2009, the Company does not have any material outstanding contracts or financial instruments with embedded derivatives that require bifurcation (2008 none). Hedges: PRT has not elected to use hedge accounting on its existing derivative financial instruments. Unit based compensation: The Fund has a unit-based compensation plan, which is described in note 11. The Fund accounts for all unit based payments to non-employees, and employee awards that are direct awards of units, call for settlement in cash or other assets, or are unit appreciation rights that call for settlement by the issuance of equity instruments using the fair value based method. Under the fair value based method, compensation cost attributable to awards to employees that are direct awards of unit appreciation rights that call for settlement by the issuance of equity instruments, is measured at fair value at the grant date and recognized over the vesting period. Compensation cost attributable to awards to employees that call for settlement in cash or other assets is measured at intrinsic value and recognized over the vesting period. Changes in intrinsic value between the grant date and the measurement date result in a change in the measure of compensation cost. For awards that vest at the end of the vesting period, compensation cost is recognized on a straight-line basis; for awards that vest on a graded basis, compensation cost is recognized on a pro-rata basis over the vesting period. 3. Adoption of new or future accounting changes Goodwill and intangible assets In February 2008, the CICA issued Handbook Section 3064, Goodwill and Intangible Assets which supersedes Section 3062, Goodwill and Other Intangible Assets and Section 3450, Research and Development Costs. These Sections establish standards for the recognition, measurement, and disclosure of goodwill and intangible assets clarifying the criteria for recognition of an asset. The provisions relating to the definition and initial recognition of intangible assets, including internally generated intangible assets, are equivalent to the corresponding provisions of International Financial Reporting Standards IAS 38, Intangible Assets. The Fund adopted the new requirements effective January 1, 2009 without any significant effect to these financial statements. International financial reporting standards ( IFRS ) In January 2006, the CICA ratified a strategic plan calling for the evolution and convergence of Canadian GAAP with IFRS, after a specified transition period, by publicly accountable enterprises in Canada. The CICA has more recently confirmed January 1, 2011 as the date IFRS will replace current Canadian standards and interpretations as GAAP for this category of reporting entity. As a result, the Page 9
Fund will be required to prepare its consolidated financial statements in accordance with IFRS for interim and annual financial statements relating to fiscal periods beginning on or after January 1, 2011, at the latest. The Fund is currently working through its implementation and conversion plan on the consolidated financial statements and disclosures of the Fund. 4. Inventories PRT follows CICA Handbook Section 3031, Inventories and carries the following balances of raw materials consisting mainly of growing materials and supplies including: peat, sand and vermiculite, packaging material, and fertilizers and pesticides. Work in progress and finished goods both consist of seedlings grown specifically for non-contract sales: December 31, December 31, Raw Materials (Consumables) $ 1,158 $ 1,482 Work In Progress (Seedlings) 100 183 Finished Goods (Seedlings) 164 704 $ 1,422 $ 2,369 PRT provided for finished goods inventory during the year for $414 related to crops started in 2008 that remained unsold at the 2009 summer planting season. 5. Investment In 2003 PRT acquired a 40% non-controlling interest in a privately held company for cash consideration of $742. The investment is accounted for by the equity method. The excess of the purchase price of the investment over the underlying book value at the date of acquisition, totalling $625, has been allocated to intangible assets, which are being amortized over their estimated useful lives on the basis of units sold. The investee is a supplier of software solutions for seedling supply management by forest companies and has a carrying value as follows: December 31, December 31, Opening carrying value $ 265 $ 305 Equity in income of investee 93 98 Amortization of intangible assets (5) (138) Repayment of shareholder loan (20) - Closing carrying value $ 333 $ 265 Page 10
As at December 31, 2009, the intangible asset related to the investee has been fully amortized (2008 unamortized portion - $5). 6. Property, plant and equipment (excludes property held for sale see note 7) 2009 Cost Accumulated Depreciation Net Land $ 3,264 $ - $ 3,264 Buildings 6,684 1,646 5,038 Greenhouses 22,485 10,588 11,897 Equipment 19,622 14,317 5,305 Seedling containers 8,141 6,906 1,235 $ 60,196 $ 33,457 $ 26,739 2008 Cost Accumulated Depreciation Net Land $ 3,012 $ - $ 3,012 Buildings 7,172 1,633 5,539 Greenhouses 29,739 11,202 18,537 Equipment 19,528 13,215 6,313 Seedling containers 9,515 7,764 1,751 $ 68,966 $ 33,814 $ 35,152 The following summarizes amortization charged to earnings: Seedling container amortization included in costs of production $ 851 $ 1,317 Other amortization 2,691 3,684 Total amortization $ 3,542 $ 5,001 In October 2008, the Fund announced that it will close its seedling nursery facility in Maple Ridge, BC. The closure took place in phases and operations ceased in the August of 2009. It is the Company s intention to relocate certain long-lived assets to other nursery locations in the first quarter of 2010 and dispose of other excess assets. The Company reviews long-lived assets for impairment when events or changes in circumstances indicate that the carrying value of those assets may not be recoverable. As such, in relation to assets to be disposed of in 2010, in 2009 the Company recorded an impairment charge of $2,558 (2008 - $4,112) on property, plant and equipment located at Maple Ridge. Page 11
Asset Impairment ($000's) Cost Accumulated Depreciation Net Book Value Impairment Realizable NBV Greenhouses $ 3,064 $ 788 $ 2,276 $ 1,920 $ 356 Open Compounds 685 262 423 408 15 Equipment 413 157 256 230 26 $ 4,162 $ 1,207 $ 2,955 $ 2,558 $ 397 In November of 2009 the Company announced the temporary closure of its Kirkland Lake, Ontario nursery and permanent closure of its Summerland, BC nursery facility. Property, plant and equipment at the Summerland will be utilized at other facilities within the PRT group of nurseries. In addition, given the current disruption and uncertainty in the global economy, and the decrease in the Fund s unit price over the last year, management also reviewed all of its other long-lived assets for potential impairment. Management performed asset recoverability tests on all finite life longlived assets using undiscounted cash flows based on internal projections for revenues and expenses covering the estimated remaining life of the assets. The Fund concluded that the undiscounted cash flows exceeded the carrying value of all intangible assets tested, and therefore, no impairment was recorded. 7. Property, plant and equipment held for sale PRT has removed from property held for sale assets located at is Nevada facility (2008 - $420) as the property does not meet the requirements under the CICA Handbook for a probability of sale within one year. The following summarizes the value of assets held for sale from the Maple Ridge site as of December 31, 2009 and the Nevada facility as of December 31, 2008: Net Book Value ($000's) Land $ - $ 251 Buildings 312 15 Growing facilities 431 71 Equipment 32 83 $ 775 $ 420 8. Intangible assets PRT s intangible assets include customer lists acquired with the Coldstream and Maple Ridge, BC nurseries and certain agreements that arose from contractual agreements including non-competition agreements and leases. PRT amortizes intangibles over the period of those contracts. No additions or disposals took place during 2009 or 2008. Page 12
2009 Cost Accumulated amortization Net Customer lists $ 970 $ 873 $ 97 Non-competition agreements 404 259 145 Lease 176 54 122 $ 1,550 $ 1,186 $ 364 2008 Cost Accumulated amortization Net Customer lists $ 970 $ 679 $ 291 Non-competition agreements 404 198 206 Lease 176 42 134 Amortization expense for the year was $267 (2008 - $267). 9. Operating line $ 1,550 $ 919 $ 631 PRT has a demand revolving operating facility of up to $13,000 to fund the Company s working capital and general corporate requirements, and to provide temporary financing capital expenditures prior to conversion of this financing to term debt. The amount of operating line available is dependent upon meeting certain margin requirements. As at December 31, 2009, $13,000 of the facility was available for use, and the company had drawn $3,566 (2008 - $6,055) of cash advances bearing interest at prime plus 1%. A first fixed and floating charge over PRT s assets is provided as security. 10. Long-term debt PRT has a term debt facility available in the amount of $4,000 (2008 - $15,000), or the equivalent in U.S. dollars, to fund earnings-enhancing capital expenditures and acquisitions. All loans are based on a ten year amortization period, repayable within five years of initial advance. Management typically refinances five year old debt for an additional five years to match the original ten-year amortization period. A wholly owned subsidiary of PRT has a term debt facility available in the amount of US$1,381 (2008 - US$1,596), which is amortized on a straight line basis over ten years. In August 2008, PRT negotiated amendments to its Canadian banking facilities to allow principal payments on Canadian long-term debt to be deferred for a period of two years. The maturities of the term debt covered under the deferral have also been extended under the amendments to the credit agreement. The term debt facilities are subject to the maintenance of certain financial covenants (see note 21). As at December 31, the following amounts have been drawn under the debt facilities: Page 13
Term loan #11, bearing interest at 6.37%, maturing on October 1, 2011, with quarterly payments $ - $ 375 Term loan #11a, bearing interest at prime plus 2%, maturing on October 1, 2011, with quarterly payments 375 - Term loan #9, bearing interest at bank prime plus 0.75%, maturing on October 1, 2011, with quarterly payments - 900 Term loan #9a, bearing interest at bank prime plus 2%, maturing on October 1, 2011, with quarterly payments 900 - Term loan #13, bearing interest at 6.05%, maturing October 1, 2012, with monthly payments 780 913 Term loan #13a, bearing interest at prime plus 2%, maturing October 1, 2012, with monthly payments 133 - Term loan #16, bearing interest at 6.07%, maturing October 1, 2013, with monthly payments 800 940 Term loan #16a, bearing interest at prime plus 2%, maturing October 1, 2013, with monthly payments 140 - Term loan #10 (USD), bearing interest at US Bank Rate plus 2%, maturing October 1, 2011, with blended monthly principal and interest payments based on a 10-year amortization period (US$549) 576 670 Term loan #2 (USA), bearing interest at 6.44%, maturing on April 29, 2010, with blended monthly principal and interest payments based on a 10-year period (US$1,381) 1,450 1,946 5,154 5,744 Less: Current portion 1,698 262 $ 3,456 $ 5,482 Interest paid on long-term debt $ 320 $ 355 Page 14
PRT is subject to interest rate risk on floating rate payments under its long-term debt as detailed in note 19. As at December 31, 2009, PRT had entered into two interest rate swap agreements for five years to fix the interest rates on its Canadian dollar term loans (internally numbered 13 expiring October 1, 2010, and 16 expiring October 3, 2011, in the table above). The rates noted in the previous table represent the fixed interest rates, including stamping fees, resulting from the swap agreements. In September 2009 swaps expired on loans 9 and 11 and PRT did not enter into new arrangements on these draws. In addition swap schedules required that principle under the arrangement be reduced at the original payment schedule. Principle amounts excluded from the swaps are noted within the schedule as loans 13a and 16a. A first fixed and floating charge over PRT s assets is provided as security for the facilities. The principal repayments required on the long-term debt are as follows: 2009 Year ending December 31 2010 $ 1,698 2011 1,910 2012 868 2013 678 Thereafter - $ 5,154 A portion of the long-term debt was repaid subsequent to year-end see note 23. 11. Capital contributions The Declaration of Trust provides that an unlimited number of Trust Units may be created and issued. Each Trust Unit represents an equal undivided beneficial interest in the assets of the Fund. All Trust Units of the Fund are of the same class with equal rights and privileges. Each Trust Unit is transferable and entitles the holder to participate equally in allocations and distributions, and to one vote at all meetings of Unitholders. Unitholders are not subject to future calls or assessments. Trust Units are redeemable at the holder s option at amounts related to market prices at the time, subject to a maximum of $75 in cash redemptions by the Fund in any particular month. The redemption limitation may be waived at the discretion of the Trustees of the Fund. Redemption in excess of the maximum, assuming no waiving of the limitation, shall be paid by way of a distribution in specie of a pro rata number of PRT common shares and unsecured variable interest rate subordinated notes (the Notes ). PRT has established an Employee Stock Ownership Plan ( ESOP ) whereby eligible directors and employees of PRT, or any subsidiary of PRT can purchase Units of the Fund through payroll deduction. Under the terms of the ESOP, eligible employees can contribute between 1% and 10% of their earnings to the plan, and PRT will contribute 15% of the employee contribution toward the purchase price of Units and pay all transaction fees on Unit purchases made under the plan. The plan allows for Units to be purchased through the market or by way of treasury issuances on the same terms. Page 15
Units outstanding as at December 31 are as follows: Capital Contributions - Beginning of period $ 90,249 $ 90,249 Units issued under ESOP program 146 - Capital Contributions - End of period $ 90,395 $ 90,249 Units outstanding - Beginning of period 9,603,116 9,603,116 Units issued under ESOP program 112,742 - Units outstanding - End of period 9,715,858 9,603,116 The Fund has a Unit option plan whereby the Trustees of the Fund may, from time to time, grant options to purchase Units to eligible officers, employees and consultants of the Fund or any subsidiary, and to directors of any subsidiary. The aggregate number of Units reserved under the plan is 560,572. The maximum term of any option is ten years. The exercise price of an option cannot be less than the average of the Unit price at the close of business on the five trading days preceding the grant date. During the quarter ended September 30, 2008 there were 248,600 Unit options granted to eligible officers and employees at an exercise price of $3.65 per unit. During the quarter ended December 31, 2008 there were 107,000 Unit options granted to directors of PRT at an exercise price of $1.26 per unit. No other Units have been previously issued under the Unit option plan, and no options were granted in 2009. The Fund has applied the fair value method of accounting for Unit option grants. The fair value of each option granted was estimated using the Black-Scholes option pricing model with the weighted average assumptions below: Weighted Average Assumptions December 31, 2008 Risk-free interest rate 3.1% Expected life (years) 6.0 Expected volatility 40.1% Dividend yield 8.0% Number of options granted 355,600 Fair value of each option granted $ 0.50 The fair value of the 107,000 Unit options granted in the quarter ended December 31, 2008 was estimated to be $28. The fair value of the 248,600 Unit options granted in the quarter ended September 30, 2008 was estimated to be $148. For both grants the compensation cost is being charged against earnings over the three-year vesting period of the underlying options. An expense of $55 has been recognized in net earnings for the year ended December 31, 2009 (2008 - $25), with a corresponding credit to capital contributions. Page 16
Summary of options outstanding Options Outstanding Options Exercisable Range of exercise prices Number outstanding at December 31, 2009 Weighted Average Remaining Contract Life (Years) Weighted Average Exercise Price Number exercisable at December 31, 2009 Weighted Average Exercise Price $1 - $2.50 67,000 4.97 $1.26 16,750 $1.26 $2.51 - $5.00 248,600 3.51 $3.65 62,150 $3.65 $1 - $5 315,600 4.24 $3.14 78,900 $3.14 As at and during the year ended December 31, 2009, 78,900 options vested, and 40,000 were forfeited and cancelled. Summary of option plan status December 31, December 31, Outstanding at beginning of year 355,600 - Granted - 355,600 Exercised - - Forfeited 40,000 - Outstanding at end of year 315,600 355,600 Options were issued subsequent to year-end see note 23. 12. Distributions to unitholders Subject to availability of distributable cash, the Fund s policy is to make a cash distribution each month equal to interest received from PRT by the Fund on the $72,900 of inter-group Notes plus interest charged on any other inter-group indebtedness less estimated Fund administration costs. In addition to the monthly distributions, an additional distribution (the Thirteenth Distribution ) may be made on or before March 31 of the following year based on the actual available cash for the year, less reserves, if any, as considered appropriate by the Board of Directors of PRT and the Trustees of the Fund. For 2009 the Fund entered into a forbearance agreement with the Company to waive interest on the inter-group Notes, and suspended distributions to Unitholders from current year operations, in order to preserve cash flow during the current industry downturn (distributions in 2008 were $2,804 or $0.292 per Unit). Distributions of $192 declared in 2008 were paid in January of 2009. The costs of issuing Trust Units are deductible for income tax purposes on a straight-line basis over a five-year period. The Fund incurred issue costs in 1997 of $3,003, in 2002 of $1,540 and in 2005 of $1,365. The Fund can designate these deductions as a non-taxable distribution of amounts to Unitholders. As at December 31, 2009, $541 (2008 - $541) of issue costs are available for future designation as non taxable distributions. 13. Income taxes The Fund is not taxable on any income that is distributed to Unitholders. PRT is taxable on its income at Canadian statutory tax rates. Page 17
a) The consolidated income tax recovery (provision) comprises the following: Current income taxes $ 152 $ (18) Future income taxes 222 1,184 $ 374 $ 1,166 b) The recovery of income taxes shown in the consolidated statements of operations and cumulative earnings differs from the amounts obtained by applying statutory tax rates to the earnings before income taxes for the following reasons: Income tax recovery computed at statutory rates $ 667 $ 6,431 Goodwill impairment - (5,062) Income tax benefit of Fund distributions - 582 Other (293) (784) Recovery of income taxes $ 374 $ 1,166 c) The net future income tax liability comprises the following differences between book value and tax value at current tax rates: Future income tax assets (liabilities) Property, plant and equipment $ (798) $ (1,707) Tax loss carry-forwards and other 1,417 1,381 Valuation allowances (721) - Future income tax liability - net $ (102) $ (326) d) Non-capital loss carry-forwards in subsidiary companies start to expire commencing in 2023. 14. Exit activity charges In October 2008, the Fund announced that it will close its seedling nursery facility in Maple Ridge, BC and cease operations in the latter part of 2009 in order to improve production costs. Production that would otherwise have been located at the Maple Ridge nursery site has been absorbed by the Company s other nursery sites. It is expected that the exit activities will be completed during 2010. The Fund also announced, in November 2009, the permanent closure of its seedling nursery facility in Summerland, BC and the temporary closure of its Kirkland Lake, ON facility. The Summerland facility will be consolidated with PRT s other three sites in the Okanagan region. Page 18
Anticipated exit expenditures related to the site closures are as follows: Exit Expenditures ($000's) Total anticipated Amounts incurred Amounts incurred expenditures current year to date Legal $ 48 $ - $ 48 Employee costs 399 95 278 Deactivation of facilities 645 196 209 Dismantling and relocation of long-lived assets 309 275 275 $ 1,401 $ 566 $ 810 The above table excludes costs associated with the disposal of capital assets from the Maple Ridge site (see note 6). Costs specific to exit activities are recognized when the activities take place and the costs are incurred, and are included in Statement of Earnings as exit activity charges. 15. Goodwill Under Canadian GAAP, goodwill is not amortized but is subject to an annual impairment test which management performs every August; this test is referenced to the Fund s fair value, as evidenced by its unit trading price and other indicators. After making a preliminary adjustment to the carrying value of goodwill at December 31, 2007 for an estimated impairment, management completed its evaluation of goodwill impairment as part of its annual impairment test for 2008. As a result of the further declines in the Fund s unit price, the carrying value of the Fund s net assets exceeded the Fund s market capitalization at August 2008. Management therefore performed the second step of the goodwill impairment test, which compares the implied fair value of the Fund s goodwill, determined as the excess of the market capitalization over the fair value assigned by management to the Fund s other assets and liabilities, to its carrying value. From this test, management determined that the fair value of the Fund s net assets and liabilities, excluding goodwill, exceeded the Fund s market capitalization. Therefore management concluded that the remaining value of goodwill had been impaired and recorded a goodwill impairment charge of $19,175 at August 31, 2008. This impairment is a non-cash charge and has no impact on cash available for distribution. During management s ongoing evaluation no impairment to the value of other identifiable intangible assets or property, plant and equipment has been identified, except as disclosed in note 6 to these financial statements. 16. Unusual item insurance claim settlement In late December 2008 the Company suffered damage to greenhouses at its two lower mainland nurseries as a result of unusually heavy snowfall. The loss is insured at replacement cost subject to an insurance deductible of $100 which was charged to earnings in 2008. The demolition and salvage operation was completed in 2009 and an agreement reached on a cash settlement in December 2009 on the crop and greenhouse losses. PRT recognized proceeds of the cash settlement agreement on greenhouse losses of $4,667 at December 31, 2009 of which $4,534 was receivable at that time. The proceeds of the cash settlement agreement also resulted in a gain on disposal of property, plant and equipment of $1,798 and a reduction in the balance of property, plant and equipment of $2,869. Page 19
17. Supplemental cash flow information Interest paid $ 561 $ 843 Income taxes paid 10 17 Changes in non-cash working capital (000's) Decrease in trade accounts receivable $ 273 $ 2,000 Decrease (increase) in inventory 947 (133) Decrease (increase) in prepaid expenses and deposits (25) 297 Decrease in unbilled revenue 2,264 94 Increase (decrease) in accounts payable and accrued liabilities (2,252) 607 Other working capital changes (17) 170 $ 1,190 $ 3,035 The change in accounts receivable excludes a non-trade receivable of $4,534 for insurance proceeds outstanding as of December 31, 2009. 18. Segmented information - geographic areas PRT has one operating segment the production of forest seedlings. The following tables provide geographic revenue and property, plant and equipment information: 2009 Property, plant and Revenue equipment Canada $ 25,730 $ 23,964 United States 4,332 3,550 $ 30,062 $ 27,514 2008 Property, plant and Revenue equipment Canada $ 32,202 $ 31,905 United States 6,587 3,247 $ 38,789 $ 35,152 19. Commitments PRT has commitments for facility operating leases and natural gas supply contracts. Future minimum payments are as follows: Page 20
Year ending December 31 2010 $ 890 2011 569 2012 123 2013 113 2014 62 Thereafter 391 $ 2,148 20. Financial instruments Fair value: The fair values of accounts receivable, operating line, accounts payable and accrued liabilities approximate their carrying values given the short-term maturity of these instruments. Management considers that the fair value of the long-term debt approximates its carrying amount because it is floating rate debt; where the effective interest rate is fixed through interest rate swaps, which, in turn, are marked to market, and risk is addressed through the renewal of the credit agreement annually. Credit risk: A substantial portion of PRT s accounts receivable is with customers in the forest industry and is subject to normal industry credit risks. Credit risk is managed by continuous evaluation by management of credit exposure on key accounts which includes current and future billings and contract values, and aged receivable balances in conjunction with specific client knowledge, past experience, and industry analysis. Allowance for doubtful accounts and past due receivables are reviewed by management at each balance sheet reporting date. PRT updates its estimate of allowance for doubtful accounts based on the specific evaluation of each customer s accounts receivable balance considering the account s historical collection trends and outlook. Accounts receivable are written-off once determined not to be collectible. Accounts receivable includes a non-trade receivable of $4,534 for insurance proceeds outstanding as of December 31, 2009 (see also note 16). Trade receivables have been netted against the allowance for bad debts against specific receivables of $85 (2008 - $74). Trade $ 6,666 $ 6,775 Non-Trade 4,571 201 $ 11,237 $ 6,976 Page 21
With regards to their respective terms, trade accounts receivable are aged as follows as at December 31: Current $ 6,580 $ 6,474 Past due less than 30 days - 147 Past due over 30 days 86 154 Trade accounts receivable $ 6,666 $ 6,775 PRT s trade accounts receivable are stated after deducting a provision of $85 (2008 - $74). The changes in the allowance for doubtful accounts were as follows: Balance, beginning of year $ 74 $ 82 Bad debt expense, net of recovery 11 15 Written-off - (23) Balance, end of year $ 85 $ 74 The carrying amount of financial assets recorded in the financial statements, net of allowances for doubtful accounts, represents the Fund s maximum exposure to credit risk. Interest rate risk: PRT is exposed to interest rate risk on a portion of its long-term debt. PRT mitigates this risk primarily through the use of interest rate swaps. PRT uses interest rate swap contracts to fix interest rates on its variable rate long-term debt. Payments and receipts under interest rate swaps are recognized as adjustments to interest expense in a manner that matches them to interest payments under floating rate financial liabilities. Swap terms are matched to the maturity of the underlying loan obligation. However, the Company could incur a gain or loss on the contract in the event the swap was cancelled before the scheduled maturity date. PRT periodically obtains mark-to-market valuations on its swap contracts. PRT opted to not renew swaps on debt where arrangements expired in the third quarter of 2009 while considering options to reduce the overall debt. At both December 31, 2009 and 2008 the fair value of the Company s outstanding interest rate swaps was lower than their carrying amount based on reference to current market interest rates, and the difference in 2009 of $59 has accordingly been charged to earnings in the period net of charges recognized in prior years. In 2008 the fair value of the swaps were higher than their carrying amount and the difference of $115 was credited to earnings in that year. Management estimates that a 1% change in interest rates would affect earnings per Trust Unit by $0.012 based on current levels of borrowing. Currency risk: PRT operates internationally and is exposed to risk from changes in foreign currency rates. PRT mitigates this risk principally through the use of foreign currency denominated debt, and local currency denominated growing contracts. PRT may use foreign currency forward sales contracts to manage currency exposure on net US dollar cash flows. The terms of such contracts are designed to match the receipt of US dollars under Page 22
seedling sales contracts. Outstanding foreign currency forward sales contracts are revalued on a mark-to-market basis at the end of each reporting period, and any resulting gains or losses are recorded in income during the period. At December 31, 2009 there were no foreign currency forward sales contracts outstanding. The consolidated balance sheets include significant foreign financial assets such as cash and accounts receivable, as well as significant foreign financial liabilities, such as accounts payable and accrued liabilities; in the reporting currency, Canadian dollars, these amounted to $662, $971, and $359 respectively, as of December 31, 2009 ($679, $396 and $270, respectively, as of December 31, 2008). As at December 31, 2009, US dollar cash, accounts receivable, and accounts payable and accrued liabilities balances amounted to US$646, US$377 and US$257 respectively. Management estimates that a CAD $0.01 increase in the CAD/USD exchange rate would decrease earnings per Trust Unit by $0.002 based on current levels of production and borrowing. Liquidity risk: PRT manages liquidity through a combination of operating cash flow, an operating line of credit, and a term debt facility; the latter is used to finance long-term capital or project expenditures only. From an operating point of view, the management of the Company s liquidity exposures is centralized by a daily cash concentration process which enables PRT to manage its liquidity requirements according to the actual need of the Company and each nursery. The Company s short- and mid-term liquidity takes into account the maturities of financial assets and liabilities and estimates of cash flows from the operating business. The Company maintains various levels of generally 10 year amortizing debt against a $5,500 total term debt facility. Detailed information on PRT s financial liabilities is provided in Notes 9, 10, 18 and 20 to the consolidated financial statements. Market risk: The business of PRT is highly dependent on the forest industry in Canada. While the Company is not materially dependent on any one customer, regional markets may be impacted by changes in global markets and government regulations and by more consolidated buying decisions by larger customers. PRT manages and reduces this risk through diversification of operations across a wider variety of customers, and Provincial and State jurisdictions. 21. Capital management The Fund s objectives when managing capital are: (i) to maintain a flexible capital structure which optimizes the cost of capital at acceptable risk; and (ii) to manage capital in a manner which considers the interests of equity (Unit) holders and obligations to debt holders. In the management of capital, the Fund includes Unitholders Equity, Long-term Debt (including any associated hedging assets or liabilities), short term bank indebtedness (Operating Line), cash and temporary investments in the definition of capital. The Fund manages the capital structure and makes adjustments to it in the light of changes in economic conditions and the risk characteristics of the underlying assets. In order to maintain or adjust the capital structure, the Fund may adjust the amount of distributions paid to unitholders, issue new units, issue new debt, retire existing debt, or issue new debt to replace existing debt with different characteristics. Page 23
PRT is subject to certain externally imposed capital requirements as related to both the Operating Line and Long-term Debt. These obligations require the Company to report to the lender on certain covenants including margin requirements monthly for the Operating Line, and the following key ratios reported quarterly for Long-term Debt: 1. Ratio of principal, interest, and other monies payable on loans and the notes issued under the Trust Deed to EBITDA less cash taxes and sustaining capital expenditures and adjusted by a notional Fund for Debt Service not to exceed 1:1; 2. Ratio of total debt (excluding the Notes issued under the Trust Deed) to EBITDA less cash taxes and sustaining capital expenditures not to exceed 3.5:1; 3. Working capital ratio not less than 1:1; 4. Tangible net worth not less than $25,000; and 5. Total Debt to Tangible Net Worth is not greater than 1:1. The Company is in compliance with all externally imposed capital requirements as at and for the year ended December 31, 2009. 22. Significant customers In 2009, one customer accounted for more than 10% of PRT s revenues (2008 one customer). 23. Subsequent events Subsequent to December 31, 2009 the following significant transactions or events occurred: 1. In February 2010 there were 120,000 Unit options granted to eligible officers and employees at an exercise price of $2.074 per unit. 2. In February 2010 PRT received the balance of the cash settlement agreed to with the insurers for the greenhouses lost at the Maple Ridge and Pitt Meadows BC sites (note 16). 3. PRT repaid all Canadian bank term debt in February 2010. This includes all term debt disclosed in note 10 to these financial statements with the exception of the subsidiary s US$ debt (Term loan #2). 4. Assets held for sale as of December 31, 2009 included $350 in greenhouses which were sold in March 2010. 24. Comparative figures Certain of the comparative figures have been reclassified to conform with the presentation adopted in the current period. Page 24