2016 ANNUAL REPORT
Equipment Finance Company
Serving U.S. and Canada
TSX: CHW
Executive Office:
Chesswood Group Limited
156 Duncan Mill Road, Suite 15
Toronto, Ontario, Canada M3B 3N2
Tel. 416.386.3099 • Fax. 416.386.3085
email:investorrelations@chesswoodgroup.com
www.chesswoodgroup.com
119924 Chesswod 2016 AR Cover.indd 1
2017-03-06 1:48 PM
Through two wholly-owned subsidiaries in the U.S. and Canada, Chesswood Group Limited is North America’s only publicly-
traded commercial equipment finance company focused on small and medium-sized businesses. Our Colorado-based Pawnee
Leasing Corporation, founded in 1982, finances a highly diversified portfolio of commercial equipment leases and loans through
established relationships with over 600 independent brokers in the lower 48 states. In Canada, our subsidiary Blue Chip Leasing
Corporation has been originating and servicing commercial equipment leases and loans since 1996, and today operates through a
nationwide network of more than 50 independent brokers.
Based in Toronto, Canada, Chesswood’s shares trade on the TSX under the symbol CHW (convertible debentures: CHW.DB).
Learn more at www.chesswoodgroup.com, www.PawneeLeasing.com and www.BlueChipLeasing.com.
CONTENTS
PRESIDENT'S MESSAGE
MANAGEMENT'S DISCUSSION AND ANALYSIS
CONSOLIDATED FINANCIAL STATEMENTS
DIRECTORS, OFFICERS AND OTHER INFORMATION
3
4
40
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This Annual Report is intended to provide shareholders and other interested persons with selected information concerning Chesswood Group
Limited (“Chesswood”). For further information, shareholders and other interested persons should consult the Chesswood’s other disclosure
documents, such as its Annual Information Form and quarterly reports. Copies of Chesswood’s continuous disclosure documents can be obtained
at www.chesswoodgroup.com, from www.sedar.com, or from Investor Relations at the addresses shown at the end of this report. Readers should
also review the notes further in this report, in the section entitled Management's Discussion and Analysis, concerning the use of Non-GAAP
Measures and Forward-Looking Statements, which apply to the entirety of this Annual Report.
All figures mentioned in this report are in Canadian dollars, unless otherwise noted.
CHESSWOOD IS ABOUT PEOPLE AND RESULTS
QUALITY RELATIONSHIPS
We build relationships with reputable broker firms and invest in educating them on our products and processes.
The 104 employees at Chesswood’s operating
companies serve a network of almost
650 originating brokers across North America.
QUALITY ASSETS
Our disciplined credit standards are reflected in our approval of less than half of the financing requests we receive.
Our $547 million portfolio is diversified
across 26,100 leases and loans for over
70 types of equipment in 85 industries.
Submitted Applications
$1.4 billion
Approved Applications
$615.5 million
Funded
$254.3 million
PROVEN PERFORMANCE
We’re focused on delivering shareholder value through consistent, long-term yield.
s
n
o
s
i
l
n
l
i
o
M
$
M
$
i
l
l
i
$35.0
$35.0
$30.0
$30.0
$25.0
$25.0
$20.0
$20.0
$15.0
$15.0
$10.0
$10.0
$5.0
$5.0
$0.0
$0.0
18.0%
18.0%
16.0%
16.0%
14.0%
14.0%
12.0%
12.0%
10.0%
10.0%
8.0%
8.0%
6.0%
6.0%
4.0%
4.0%
2.0%
2.0%
0.0%
0.0%
2010
2010
2011
2011
2012
2012
2013
2013
2014
2014
2015
2015
2016
2016
Net Income
Net Income
Dividends Declared
Dividends Declared
Adjusted EBITDA
Adjusted EBITDA
Return on Equity
Return on Equity
Linear (Dividends Declared)
Linear (Dividends Declared)
Chesswood’s earnings and dividends have risen for six consecutive years.
Our teams in the US and Canada are service providers and risk managers.
It takes quality people to underwrite and maintain quality assets.
“Chesswood is fortunate to have outstanding staff in both countries, that
are the strength of our business. We are grateful for the commitment and
diligence they show, every day!”
- Barry Shafran, President and Chief Executive Officer
FOR THE YEAR ENDED DECEMBER 31, 2016
TO OUR SHAREHOLDERS
2016 marked a new beginning for Chesswood. We completed
our transition into a pure commercial equipment finance
company, achieved our sixth consecutive year of record
earnings, and started a multi-year investment in our
technology and infrastructure to underpin future growth.
Our streamlined focus follows our implementing a number
of strategic decisions in the last two years:
• our September 2016 move to cease originating new loans
at subsidiary Windset Capital, a U.S. provider of working
capital loans, reflecting our view that participants in this
segment are significantly underpricing risk;
• the sale of EcoHome, a provider of financing solutions
for home improvements, which we purchased in March
2015 and sold in February 2016 for $35 million, resulting
in a pre-tax gain of $10.2 million; and
• our 2015 divestitures of our automobile dealership Acura
Sherway in Toronto and Case Funding, our U.S. legal
finance business.
As a result of our exit from these non-core businesses,
Chesswood now exclusively funds equipment leases and
loans to small and mid-sized business, where our operating
subsidiaries have long and proven track records of success.
Through Pawnee Leasing in the U.S. and Blue Chip Leasing
in Canada, we are proud to occupy a unique competitive
position in our niche, with an unmatched value proposition
to our network of brokers. Ours is a human relationship-based
approach to originating quality assets and providing
exceptional customer service.
• Unlike most
fully-automated
competitors with
underwriting, we give our broker customers the reliability
of fast and consistent credit decisions, made possible by
a proprietary credit matrix and personal review of most
applications by an analyst.
• We select our assets and price for risk at the individual
credit and overall portfolio level.
• Equally important, we invest in choosing and working
with reputable brokers. We educate them on our products
and processes and make our analysts available for
guidance on a per-application basis.
• Our time and efficiency advantages are capped by one of
the shortest funding windows in the industry.
In 2016, we further enhanced our customer proposition by
financing all credit classes on both sides of the border. Over
the last two years, by expanding Pawnee’s traditional non-
prime business to include A-rated credits, and Blue Chip’s
traditionally A-rated portfolio to include more non-prime
borrowers, we have solidified our position as the only
commercial equipment funder that offers originators the
3
convenience of one-stop shopping for all credit classes in
both countries. This broader emphasis significantly improves
our prospects for growth, especially in the U.S. where the
prime segment represents the bulk of the market.
The proof of our emergence as a first-choice funder is evident
in record originations and our achievement of a new
milestone in 2016: our aggregate commercial equipment
portfolio exceeded $500 million for the first time and we
enjoyed 42% growth in originations over the last year. While
loss provisions have grown, due to the normalization of credit
markets for non-prime products in the U.S., following the
tight money conditions of the post-2008 period, our assets
are well-diversified across more than 85 industries, 70
equipment types, and over 26,100 leases and loans North
America-wide.
Our portfolios are built to remain robust and deliver reliable
returns throughout economic cycles. With Pawnee’s origins
dating back to 1982 and Blue Chip’s to 1996, our operating
subsidiaries together have more than half a century of
experience in lending to small businesses in good times and
bad.
While higher loss provisions in our non-prime portfolios
negatively impacted operating earnings in 2016, our risk-
adjusted annualized yields in this credit class have also
increased, providing margin to absorb charge-offs and
increased reserves. Our prime portfolio continued to perform
admirably, and consolidated earnings and cash flow remained
strong, allowing us to continue to reward shareholders with
substantial yield and dividends. Our returns were even more
impressive in 2016 due to the addition of a special dividend
of $0.50 per share paid in March from the gain on the sale of
EcoHome as well as an increase in our regular monthly
dividend late in 2016.
Going forward, the economic mood appears cautious but still
positive, as reflected in U.S. economic growth of 1.9 percent
in 2016 and steady small business borrowing and investing
rates. However, industry data shows rising delinquency rates,
leading to expectations that default rates will rise from the
all-time lows of recent years across all credit classes, while
at the same time remaining typical of expansionary business
cycles. In both Canada and the U.S., our teams are seasoned
and can be counted on to pursue a prudent and relationship-
driven approach to growth, through the careful selection of
originators, assets, and overall portfolio composition.
To support continued growth, we embarked on a multi-year
program in 2016 to invest in the technology and human
resources required to further enhance service levels,
FOR THE YEAR ENDED DECEMBER 31, 2016
streamline our risk management processes and develop
increasingly advanced analytics for leading-edge portfolio
management. These early-stage initiatives increased our
year-over-year costs in 2016, but we are confident the
resultant enhancements in our digital capabilities will have a
meaningful impact on our business, and the competitive
positioning of our brand.
Also in support of growth, we increased our credit facility
from U.S.$150 million to U.S.$170 million in 2016, primarily
for the self-funded portfolio of Pawnee, as Blue Chip’s
portfolio is largely funded through private securitization and
bulk lease financing facilities. This facility has an accordion
that can expand to U.S.$250 million.
In 2017, our focus is on differentiating our operating
subsidiaries through great service, additional targeted
investments in our brand and digital capabilities, and the
continued expansion of resources in our U.S. business, as we
build out our capacity to effectively serve our customers and
the record volumes they are providing. Our ultimate goal, as
always, is to generate a safe and consistent yield by
selectively growing assets in a manner that is in keeping with
our risk profile, backed by industry-leading risk management
practices, to generate accretive value for our shareholders.
Barry Shafran
President & CEO
MANAGEMENT'S DISCUSSION AND ANALYSIS
This management’s discussion and analysis (this "MD&A")
is provided to enable readers to assess the financial condition
and results of operations of Chesswood Group Limited
(“Chesswood” or the "Company”) as at and for the fiscal year
ended December 31, 2016, compared with prior years. The
MD&A should be read in conjunction with the Company’s
2016 audited consolidated
financial statements and
supporting notes. Unless otherwise indicated, all financial
information in this MD&A has been prepared in accordance
with Generally Accepted Accounting Principles ("GAAP")
and International Financial Reporting Standards ("IFRS")
and all amounts are expressed in Canadian dollars. This
MD&A is dated March 2, 2017.
Additional information relating to the Company, including
its Annual Information Form, is available:
•
•
•
•
on SEDAR at www.sedar.com,
at the www.chesswoodgroup.com website,
email to investorrelations@chesswoodgroup.com,
or
via phone at 416-386-3099.
MD&A Table of Contents
Company Overview
Pawnee
Blue Chip
Discontinued Operations
Non-GAAP Measures
Selected Financial information
Adjusted EBITDA
Results of Operations for the Quarter
Results of Operations for the Year
Statement of Financial Position
Liquidity and Capital Resources
Outlook
Critical Accounting Policies and Estimates
Future Accounting Standards
Risk Factors
Related Party Transactions
Controls & Procedures
Market for Securities
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FOR THE YEAR ENDED DECEMBER 31, 2016
CAUTION REGARDING FORWARD-LOOKING STATEMENTS
In this document and in other documents filed with Canadian
regulatory authorities or in other communications, the Company
may from time to time make written or oral forward-looking
statements within the meaning of applicable securities legislation.
Forward-looking statements include, but are not limited to,
statements regarding the Company’s business plan and financial
objectives. The forward-looking statements contained in this
document are used to assist readers in obtaining a better
understanding of the Company's financial position and the results
of operations as at and for the periods ended on the dates presented
and may not be appropriate for other purposes.
Forward-looking statements typically use the conditional, as well
as words such as prospect, believe, estimate, forecast, project,
expect, anticipate, plan, may, should, could and would, or the
negative of these terms, variations thereof or similar terminology.
By their very nature, forward-looking statements are based on
assumptions and involve inherent risks and uncertainties, both
general and specific in nature. The Company operates in a dynamic
environment that involves various risks and uncertainties, many of
which are beyond its control and which could have an effect on the
Company’s business, revenues, operating results, cash flow and
financial condition. It is therefore possible that the forecasts,
projections and other forward-looking statements will not be
achieved or will prove to be inaccurate. Although the Company
believes the expectations reflected in these forward-looking
statements are reasonable, it can give no assurance that these
expectations will prove to be correct.
COMPANY OVERVIEW
The Company cautions readers against placing undue reliance on
forward-looking statements when making decisions, as actual
results could differ considerably from the opinions, plans,
objectives, expectations, forecasts, estimates and
intentions
expressed in such forward-looking statements due to various
material factors. Among others, these factors include: continued
access to financing, continuing access to products that allow the
Company to hedge exposure to changes in interest rates; risks of
increasing default rates on leases, loans and advances; the adequacy
of the Company’s provisions for credit losses; increasing
competition; increased governmental regulation of the rates and
methods we use in financing and collecting on our equipment leases
or loans, and on our working capital loans; dependence on key
personnel; disruption of business models due to the emergence of
new technologies; fluctuations in the Canadian dollar and U.S.
dollar exchange rates; and general economic and business
conditions. The Company further cautions that the foregoing list of
factors is not exhaustive. For more information on the risks,
uncertainties and assumptions that would cause the Company’s
actual results to differ from current expectations, please also refer
to “Risk Factors” in this Annual Report, as well as to other public
filings available at www.sedar.com. The Company does not
undertake to update any forward-looking statements, whether oral
or written, made by itself or on its behalf, except to the extent
required by securities regulations.
Chesswood is North America’s only public company focused exclusively on commercial equipment finance for small and medium-
sized businesses. As at December 31, 2016, its primary operations consisted of two wholly-owned subsidiaries:
•
Pawnee Leasing Corporation ("Pawnee"), which finances micro and small-ticket commercial equipment for small and
medium-sized businesses in the lower 48 U.S. states; and
• Blue Chip Leasing Corporation ("Blue Chip"), which provides commercial equipment financing to small and medium-
sized businesses across Canada.
5
FOR THE YEAR ENDED DECEMBER 31, 2016
PAWNEE
Overview
The Company’s U.S. operations are conducted by Pawnee,
which accounted for 70.8% of consolidated revenue and
79.8% of consolidated income from continuing operations
before corporate overhead in the fiscal year ended December
31, 2016. Established in Fort Collins, Colorado in 1982,
Pawnee has traditionally specialized in providing leases and
loans of up to U.S.$75,000 to small businesses in the start-
up and “B” (the “non-prime”) segment of the U.S. equipment
finance market. Beginning in 2015, it expanded its portfolio
to include A-rated leases and loans (the “prime” market)
originating transactions up to $200,000, and may in the future
finance equipment costing up to U.S.$500,000 in this
segment.
Pawnee defines “start-up” businesses as those with less than
two years of operating history. Start-up businesses do not fall
into traditional credit categories because of their lack of
business credit history. “B” credit businesses are those with
two or more years of operating history that have some unique
aspect to their overall credit profile such that they are not
afforded an A-rated credit score, and/or that the business
owner(s) do not have an A-rated personal credit history.
These two non-prime market niches are not usually
considered by conventional financing sources and generally
have a higher risk profile. To manage the incremental risk
associated with financing businesses in these niches,
Pawnee’s management has built a stringent operating model
that has historically enabled Pawnee to achieve higher
margins than many typical finance companies.
Key Aspects of Business Model
Management believes Pawnee’s track-record of success is
attributable to several key aspects of its business model
including:
1. high-level credit parameters designed to mitigate risk;
2. a relationship-driven approach to origination through a
well-established and trained network of reputable
broker firms;
3. portfolio diversification across geographies, industries,
equipment classes, origination source, vendors,
equipment cost, and credit classes; and
4. risk management resources that include credit analyst
reviews of most applications, a proprietary credit
matrix to guide consistent analysis and decision-
making, and effectively price for risk; and a dedicated
and efficient servicing and collection effort.
These four aspects are discussed in greater detail below.
1. Asset quality at Pawnee begins with high-level
parameters that define a conservative approach to doing
business and mitigating risk. Generally:
•
•
that
Pawnee
is
finances only equipment
fundamental to the core operations of the lessee/
borrower’s business, reflecting management’s view
that payments on “business essential” equipment are
among the least susceptible to default except in the
case of business failure;
It operates only in select market segments,
excluding certain industries such as agriculture and
hazardous materials;
• A personal guarantee of at least the major
shareholder(s)/owner(s) and generally all owners
are obtained for non-prime credits, with acceptable
personal credit scores a prerequisite for credit
approval;
• Business owners are interviewed by Pawnee for
verification purposes prior to the commencement of
the lease or loan, with site inspections conducted for
financings as low as U.S.$15,000 or more (U.S.
$100,000 for A-rated credits); and
• All scheduled payments for non-prime financings
are paid by direct debit from the lessee’s/borrower's
account, allowing Pawnee’s collection team to take
immediate action on delinquencies.
2. Pawnee originates finance receivables through a network
of over 600 independent broker firms across the U.S., with
a relationship-approach and service capabilities that have
distinguished it as a first-choice funder.
Risk management begins with the selection and training of
broker firms and their staff. Broker principals must have an
acceptable personal credit profile, industry references, and
preferably a minimum one-year track record in the equipment
finance industry. Pawnee’s Business Development managers
train new and existing brokers and their staff, and develop a
knowledge base on Pawnee’s underwriting policies and
procedures. The training process is instrumental in reducing
broker and Pawnee time spent reviewing applicants unable
to meet Pawnee’s
credit qualifications. Business
Development managers also monitor broker efficiencies in
6
FOR THE YEAR ENDED DECEMBER 31, 2016
credit application
applications submitted, approved and ultimately funded.
reviews and closings,
including
Pawnee is service-driven in order to encourage the continual
volume of quality originations necessary for ongoing
portfolio replenishment and growth. The firm has become a
funder of choice as a result of unique capabilities that improve
efficiency and save time for its broker customers, such as
consistent credit decisions; rapid response time, and one-stop
shopping for all credit-classes.
3. Pawnee’s portfolio of leases and loans is well diversified
across geography, brokers, equipment types, industries
and credit classes.
As of December 31, 2016, Pawnee's portfolio of 14,259
leases and loans, representing U.S.$296.8 million in gross
finance receivables (including residual receivable), was
diversified across:
•
over 70 equipment categories, with the five largest
- restaurant, auto repair, titled trucks and trailers,
beauty salon and furniture - accounting for 47.3%
of the total number of active leases and loans;
•
•
•
•
over 85 industry segments, with no industry
representing more than 16.4% of the number of
active financings;
no lessee/borrower accounting for more than 0.01%
of the total;
48 U.S. states, with no state representing more than
8.8% of the number of total active leases and loans,
(with the exception of California and Texas which
represented 12.3% and 12.7%, respectively); and
the largest originator accounting for 8.4% of gross
lease and loan receivables, and the ten largest
accounting for 40.5%.
Portfolio diversification is maintained, and rebalanced as
necessary, through management’s regular review of lease and
loan application, approval and origination volumes, for
trends that may indicate changes in the economic or
competitive landscape and that may necessitate adjustments
in Pawnee’s approach to doing business in its market
segments. Significant changes in these and other metrics may
result in a detailed review of specific brokers, industry or
equipment type, equipment cost, and/or geographic areas.
Pawnee Portfolio Statistics (in U.S.$ thousands except # of leases/loans and %’s)
Number of leases and loans
outstanding (#)
Mar 31
2015
June 30
2015
Sep 30
2015
Dec 31
2015
Mar 31
2016
June 30
2016
Sep 30
2016
Dec 31
2016
10,303
10,707
11,140
11,440
11,881
12,636
13,479
14,259
Gross lease and loan receivable (“GLR”) (1)
$176,400
$184,800
$192,863
$200,505
$209,007
$228,984
$255,791
$280,929
Residual receivable
Net investment in leases and loans
receivable, before allowance (4)
Security deposits (nominal value)(4)
Allowance for doubtful accounts
Over 31 days delinquency
(% of GLR) (2)
$15,727
$15,614
$15,414
$15,235
$15,112
$15,393
$15,659
$15,906
$141,226
$147,554
$153,205
$159,210
$165,885
$181,681
$203,189
$213,360
$10,704
$10,684
$10,603
$10,460
$10,480
$10,519
$10,575
$10,812
$4,646
$4,172
$5,134
$5,265
$4,958
$4,662
$6,044
$7,240
2.73%
2.33%
2.90%
2.91%
2.69%
2.19%
2.59%
2.74%
Net charge-offs for the three-months ended (3)
Provision for credit losses for the three-
months ended
$1,981
$1,683
$2,069
$2,520
$2,809
$2,357
$2,373
$3,478
$2,027
$1,244
$2,965
$2,706
$2,685
$2,112
$3,804
$4,740
Notes:
(1) Excludes residual receivable.
(2) Over 31-days delinquency includes non-accrual gross lease and loan receivables.
(3) Excludes the “charge-offs” of interest revenue on finance leases and loans on non-accrual leases recognized under IFRS.
(4) Excludes adjustment for discounting security deposits and increasing unearned income for interest savings on security deposits.
7
FOR THE YEAR ENDED DECEMBER 31, 2016
Lease and Loan Application, Approval and Origination Volume (in U.S.$ thousands)
4. Risk management resources include a credit analyst’s
personal review of most applications, a proprietary credit
to guide consistent decision-making and
matrix
effectively price for risk, efficient servicing and collection
processes, and other risk management tools.
Pawnee’s credit process is not the automated scoring
procedure typical of high volume equipment finance
companies. Its success in selecting credit-worthy businesses
is based on a model that engages both human expertise and
the latest technology to meet clearly defined standards for
asset quality. A credit analyst personally reviews most
applications and completes a proprietary matrix designed to
ensure all analysts are consistent in their credit reviews and
to provide guidance in reaching prudent credit decisions.
Leases and loans assigned to Pawnee are subject to the same
criteria used in its own originations.
Additionally, analysts are available to directly assist brokers
submitting applications and personally communicate credit
decisions, including information on how to improve the
likelihood of approval, such as obtaining a business owner’s
personal credit information and/or guarantee.
Given the importance of limiting defaults to the greatest
extent possible, Pawnee emphasizes the employment and
retention of experienced personnel, and clearly delineated
collection and portfolio servicing processes.
•
Pawnee had 73 full-time equivalent employees at
2016 fiscal year-end, of which more than a third
were engaged in the collection and servicing
processes. Collection and servicing activities are
structured to systematically and quickly resolve
delinquent leases and loans whenever possible,
mitigate losses, and collect post-default recovery
dollars.
• Owing to Pawnee’s requirement that most lease and
loan payments be made by direct debit, it can
immediately recognize a delinquent account when
8
FOR THE YEAR ENDED DECEMBER 31, 2016
a direct debit payment is not received on the required
due date.
Generally, when a payment falls 31 days past due,
or earlier if investigation reveals an underlying issue
at the borrower/lessee level, the account is referred
the appropriate negotiation, repossession/
to
remarketing, bankruptcy or legal specialist on
Pawnee’s Advanced Collection Team. Through a
combination of collecting payments,
issuing
forbearances, repossessing and selling financed
equipment, initiating lawsuits and negotiating
settlements, Pawnee regularly remediates a high
percentage of overdue accounts.
After 154 days of delinquency, or earlier if Pawnee
deems the account uncollectible, the debt is written
off. However, collection efforts continue when
prospects for recovery through a personal guarantor
or other remedy warrant. Otherwise, the account is
normally assigned to an independent collection
agency for further collection efforts, where the
primary sources of recovery include payments on
restructured accounts, settlements with guarantors,
equipment sales, litigation, and bankruptcy court
distributions.
Risk management tools and processes are continually
monitored and improved to address changes in Pawnee’s
performance and in the equipment finance industry, and
periodically assessed by outside professionals with statistical
expertise.
types and
Pawnee’s static pool loss analysis measures finance
receivable loss performance by identifying a finite pool of
transactions and segmenting it into quarterly or annual
vintages according to origination date. Brokers, geographic
areas, equipment
industries, among other
characteristics identified as under-performing are examined
for a systematic or other identifiable cause on which
corrective action can be taken. For example, if management
identifies unusually high losses on financings for a particular
type of equipment, it may raise the minimum credit matrix
score required or stop new originations for that equipment
type.
Following the 2008 economic crisis, Pawnee's application flow and loss levels benefited from unusually tight credit market
conditions, as many competitors retreated due to lack of funding, a return to their core markets, and/or poor earnings performance.
In addition, Pawnee entered the B credit market in late 2008, a higher quality market segment that it previously did not service.
This market is considerably larger than Pawnee's historical market segment. As a result, from late 2008 to mid-2013, Pawnee
began funding businesses with higher credit scores than it had traditionally funded because they could not obtain financing
elsewhere, which lowered Pawnee’s loss rates. With the gradual normalization of credit markets, loss rates in Pawnee's highest
yielding market segment are returning to typical levels.
9
FOR THE YEAR ENDED DECEMBER 31, 2016
Funding
Unlike many other leasing, equipment finance, consumer,
sub-prime mortgage and finance companies, Pawnee’s
revenues are derived directly from its leases and loans, which
it retains for the full-term of the financing. Revenues are not
derived from, or dependent upon, the sale of its portfolio of
leases and loans. While portfolio securitization is possible
in the future if favorable terms are obtained, Pawnee’s leases
and loans are presently funded through Chesswood’s
revolving corporate credit facility. The credit facility was
BLUE CHIP
Overview
Chesswood’s Canadian operations are conducted by Blue
Chip, a specialist in micro and small-ticket equipment finance
for small and medium-sized businesses since 1996. Blue
Chip accounted for 15.9% of consolidated revenue and 15.4%
of consolidated income from continuing operations before
corporate overhead in fiscal 2016.
Acquired by Chesswood in March of 2015, Blue Chip had
31 full-time equivalent employees at December 31, 2016.
Located in Toronto, Blue Chip originates receivables across
Canada which are sourced from a nationwide network of
more than 50 independent broker partners and through direct,
in-house origination efforts via equipment vendors. It derives
substantially all of its revenues from financing leases and
loans and related service charges.
Historically, Blue Chip targeted the A-rated or “prime”
segment of the credit market for small and medium-sized
businesses. Beginning in 2013 and especially following its
2015 amalgamation with Northstar Leasing Corporation
(acquired by Chesswood in January 2014), which had
focused on non-prime lending in Canada since 1983, Blue
Chip expanded its product line to offer a single source of
commercial equipment financing across all credit classes.
In this MD&A, references to Blue Chip in respect of the
period prior to June 1, 2015, mean Blue Chip prior to its
amalgamation with Northstar, and references to Blue Chip in
respect of the period after June 1, 2015 mean the corporation
which resulted from the amalgamation of Blue Chip and
Northstar.
increased on November 30, 2016 to allow borrowings of up
to U.S.$170.0 million (2015: U.S.$150.0 million) subject to,
among other things, threshold levels of eligible finance
receivables, and renewed to December 8, 2019 (previously
December 8, 2017). Subject to certain conditions, the facility
can be further increased to U.S.$250.0 million (2015: U.S.
$200.0 million).
Key Aspects of Business Model
Management believes Blue Chip's track record of success is
attributable to several key aspects of its business model,
including those described below.
Blue Chip has successfully grown originations and
earnings by filling a market void created by the tendency
of Canadian bank competitors to have slower small ticket
processes and a preference to finance larger-ticket
equipment, and by Blue Chip’s nimbleness in addressing
customer needs as an efficient and consistent one-stop
shop.
• The micro-ticket segment is a high-volume, low-
touch business. Blue Chip has invested in industry-
leading software to streamline the application
process, speed credit decisions and automate the
preparation of secure documents to meet market
demand for rapid funding and customer service
excellence.
• Blue Chip also has the expertise in financial analysis
and detailed documentation
the
underwriting requirements of the small-ticket
segment.
to meet
• Like Pawnee, its value proposition to originators is
relationship and service based, with fast and
predictable credit decision-making and
the
convenience of one-stop shopping for commercial
equipment financing needs across all credit classes.
10
FOR THE YEAR ENDED DECEMBER 31, 2016
Blue Chip’s portfolio risk
its
diversification across geography, origination, industry,
equipment type, equipment cost and credit class.
is mitigated by
Blue Chip’s performance has been enhanced by its
success in negotiating a competitive cost of funds.
• The majority of Blue Chip’s leases and loans are
financed by securitization and bulk lease financing
facilities, whereby the Company sells or assigns the
future payment stream of a tranche of leases/loans,
on a discounted basis, to a third-party such as a life
insurance company or bank. A small percentage of
the proceeds is held back in a loss reserve pool or
supported by Blue Chip through a letter of guarantee
in favour of the funder.
• Blue Chip’s multiple funding partners have rigorous
monitoring and audit processes, including thorough
initial portfolio reviews; site visits; file audits to
validate credit decisions, documentation accuracy
and security perfection; and monthly compliance
certificates attesting to the correctness of portfolio
and financial statistics.
• Blue Chip also uses Chesswood's revolving credit
facility to provide some operational and warehouse
funding.
• Blue Chip recognizes its revenue over the full-term
of its finance receivables and not through "gain-on-
sale" accounting.
As at December 31, 2016, Blue Chip's gross finance
receivables portfolio of $148.3 million (2015: $127.5
million) consisting of 11,883 leases and loans (2015: 10,231)
was well diversified:
• Ontario
finance
represented 49.2% of net
receivables, while Alberta represented 19.9% and
30.9% were from the other provinces;
the five largest equipment categories by volume -
industrial, computers, photographic, construction
and trailers - accounted for only 49% of net finance
receivables;
of its network of more than 50 originators, the largest
originator by dollar volume during 2016 accounted
for 23% originations; and
the four largest brokers by dollars financed
accounted for approximately 67.5% of originations
during 2016.
•
•
•
Effective risk management has made Blue Chip a solid
performer in its markets throughout business cycles.
•
In line with Pawnee, Blue Chip has an intense focus
on thorough credit analysis, consistent decision-
making, risk-based pricing, careful broker selection
and education, a strong collection effort, and
management’s continual evaluation of portfolio
performance against key performance indicators.
• Assets are secured, with typical terms of three to five
years and similar amortization periods.
Blue Chip Portfolio Statistics (in $ thousands except # of leases/loans and %)
Number of leases and loans
outstanding (#)
June 30
2015
Sep 30
2015
Dec 31
2015
Mar 31
2016
June 30
2016
Sep 30
2016
Dec 31
2016
9,504
9,852
10,231
10,479
11,142
11,551
11,883
Gross lease and loan receivable (“GLR”)
$119,560
$123,250
$127,505
$129,851
$139,692
$144,984
$148,250
Net investment in leases and loans receivable
("NIL"), before allowance
$104,122
$107,745
$111,720
$114,185
$123,022
$127,841
$130,965
Allowance for doubtful accounts
$1,252
$1,272
$844
$888
$1,076
$1,363
$1,342
Over 31 days delinquency
(% of NIL)
0.84%
0.32%
0.66%
0.39%
0.67%
0.87%
0.72%
11
FOR THE YEAR ENDED DECEMBER 31, 2016
DISCONTINUED OPERATIONS AND WINDSET
WINDSET
For accounting purposes, Windset Capital Corporation
("Windset") is not considered a discontinued operation and
its results continue to be grouped with Pawnee in the segment
reporting note to the consolidated financial statements (see
Note 28 - Segment Information).
launched Windset
in September 2013,
Chesswood
headquartered in Riverton, Utah, to provide working capital
loans of up to U.S.$125,000 to tenured small businesses in
the United States, leveraging Pawnee's broker channel and
back-office support to originate and service loans under a
managed services agreement between the two companies.
In 2016, Windset’s originations were reduced by the effect
of new regulations in California that require brokers to have
a state lenders’ license, and Windset’s relatively cautious
underwriting practices in a market where many competitors
were demonstrating higher appetites for risk. In September,
Windset ceased accepting loan applications, but continues to
service its existing portfolio for the full-term of the loans.
in gross
At December 31, 2016, Windset had 404 loans outstanding
with approximately U.S.$8.9 million
loan
receivables outstanding (December 31, 2015 - 1,023 loans -
U.S.$35.8 million). The terms of the loans range from three
months to 18 months, but typically average nine to ten
months, with approximately 55% scheduled to liquidate by
March 31, 2017, 87% by June 30, 2017, and 97% by
September 30, 2017. Payments are processed automatically
and usually deducted every business day from the borrower's
bank account.
DISCONTINUED OPERATIONS
The Company’s 2016 financial results include the results of
following operations, which were sold and/or
the
discontinued in keeping with the Company’s strategic
decision to focus on the commercial equipment finance
market:
• EcoHome Financial Inc. ("EcoHome"), a consumer
financing company, which was sold in February of
2016; and
• Case Funding Inc. ("Case Funding"), a specialty
provider of loans and funding solutions to attorneys and
law firms, that sold its assets in 2015, except for a small
portfolio of receivables.
Chesswood’s 2015 financial results include the results of
Acura Sherway, a Toronto automobile dealership sold on
November 15, 2015 for approximately $20.4 million
resulting in a pre-tax gain of $6.1 million.
The above operations all meet the criteria of a discontinued
operation and, accordingly, the comparative figures on the
Company’s financial statements have been reclassified as if
the operations had been discontinued from the start of the
comparative year. See Note 4 - Discontinued Operations.
EcoHome
Chesswood purchased EcoHome, a provider of consumer
financing solutions for a variety of products primarily in the
home improvement space, in March 2015 (concurrent with
Chesswood's acquisition of Blue Chip). On February 18,
2016, it sold EcoHome to Dealnet Capital Corp. ("Dealnet")
for approximately $35.0 million, realizing a pre-tax gain of
$10.2 million. The $35 million purchase price included $29
million in cash and 6,039,689 common shares of Dealnet
valued at $3.5 million at the time of the sale and a $2.5 million
note maturing in February 2018 that is convertible (at
Chesswood's option) into common shares of Dealnet at a
conversion price of $0.64 per share.
It was determined at December 31, 2015, that EcoHome met
the criteria of a discontinued operation and, accordingly, the
comparative figures on the consolidated statements of
income and cash flows and the comparatives figures in the
quarterly charts in this MD&A have been discontinued since
it was acquired at March 17, 2015.
Case Funding
On February 3, 2015, Case Funding sold its operations and
most of its attorney loan portfolio. Case Funding, as an entity,
is still owned by Chesswood and continues to hold a legacy
portfolio of legal finance receivables that is gradually
winding down.
NON-GAAP MEASURES
This MD&A makes reference to certain non-GAAP measures
as supplementary information and to assist in assessing the
Company’s financial performance. Management believes
EBITDA and Adjusted EBITDA, as defined below, are useful
measures in evaluating the performance of the Company.
EBITDA and Adjusted EBITDA are not earnings measures
recognized by GAAP and do not have standardized meanings
prescribed by GAAP. Therefore, EBITDA and Adjusted
EBITDA may not be comparable to similarly titled measures
presented by other issuers. Readers are cautioned that
12
FOR THE YEAR ENDED DECEMBER 31, 2016
EBITDA and Adjusted EBITDA should not be construed as
an alternative to net income determined in accordance with
GAAP as indicators of performance or to cash flows from
operating, investing and financing activities as measures of
liquidity and cash flows.
“EBITDA” is defined as net income adjusted to exclude
interest, income taxes, depreciation and amortization.
“Adjusted EBITDA” is EBITDA further adjusted for
(i) interest on debt facilities, (ii) non-cash gain (loss) on
interest rate swaps, investments and convertible debentures,
(iii) non-cash unrealized gain (loss) on foreign exchange,
(iv) non-cash share-based compensation expense, (v)
acquisition costs, (vi) contingent consideration accretion or
reduction, (vii) any unusual and material one-time expenses
and (ix) actual interest attributable to the period in respect of
the convertible debentures.
"Free Cash Flow" or "FCF" is defined as the Adjusted
EBITDA less maintenance capital expenditures and tax
expense.
SELECTED FINANCIAL INFORMATION
"FCF L4PQ" is defined as FCF for the most recently
completed four financial quarters in which the Company has
publicly filed its consolidated financial statements (including
its annual consolidated financial statements in respect of a
fourth quarter). Prior to March 17, 2015, the FCF of Blue
Chip and EcoHome for the corresponding quarters were
added in the calculation of FCF L4PQ.
"Maximum Permitted Dividends"
is defined under
Chesswood's credit facility as the maximum cash dividends
and purchases under its normal course issuer bid that the
Company is permitted to pay in respect of a month, being
1/12 of 90% of the FCF L4PQ. The Maximum Permitted
Dividends allowed under Chesswood's credit facility has
been further increased to allow for additional amounts up to
a total of $3.4 million until November 2017, in relation to the
gain realized on the sale of the Acura Sherway dealership in
2015.
"Operating income" is defined as "income before undernoted
items" as presented on the consolidated statement of income.
($ thousands, except per share figures)
For the years ended December 31,
Revenue (1)
Finance margin
Income from continuing operations
Net income
Basic earnings per share - continuing operations (3)
Diluted earnings per share - continuing operations (3)
Basic earnings per share (3)
Diluted earnings per share (3)
Total assets
Long-term financial liabilities
Adjusted EBITDA (2)
Dividends declared (4)(5)
Dividends declared per share (4)(5)
$
$
$
$
$
$
$
$
2014
49,816
34,239
8,426
11,539
$0.72
$0.68
$0.98
$0.93
255,439
158,859
22,975
9,186
$0.78
$
$
$
$
$
$
$
$
2015
76,577 $
49,885 $
12,363 $
19,804 $
$0.74
$0.72
$1.19
$1.16
565,510 $
316,375 $
32,429 $
13,062 $
$0.78
2016
91,583
55,940
17,317
24,278
$0.97
$0.95
$1.36
$1.33
527,937
354,800
31,031
22,963
$1.29
(1) It was determined that Sherway, Case Funding, and EcoHome meet the criteria of discontinued operations. The comparative figures have been reclassified as
if their respective operations had been discontinued from the start of the comparative periods. See Note 4 - Discontinued Operations.
(2) Adjusted EBITDA and Operating Income are non-GAAP measures. See “Non-GAAP Measures” above for the definitions.
(3) Based on weighted average shares outstanding during the period for income attributable to common shareholders.
(4) Includes dividends on Exchangeable Securities (non-controlling interest, as described below under "Statement of Financial Position").
(5) In Q1 2016, the Company declared a special dividend of $0.50 per share related to the sale of EcoHome, for an aggregate special dividend amount paid of $8.9
million on March 15, 2016.
13
FOR THE YEAR ENDED DECEMBER 31, 2016
As at and for the quarter-ended
($ thousands, except per share figures)
Revenue (1)
Finance margin before expenses(1)
Income before tax and other items
(operating income (1)(2))
Income before tax (1)
Provision for taxes (1)
Income from continuing operations (1)
Income from discontinued operations (1)
2015
2016
Q1
Q2
Q3
Q4
Q1 (5)(6)
Q2
Q3
Q4
$
15,412 $
18,644 $ 20,749 $ 21,772 $
22,892 $
21,825 $ 23,195 $ 23,671
10,452
13,670
12,264
13,499
14,289
14,979
13,698
12,974
6,027
5,088
2,551
2,537
961
8,399
7,709
3,672
4,037
1,077
6,811
4,911
2,754
2,157
983
7,547
6,436
2,804
3,632
4,420
8,095
5,616
2,650
2,966
7,141
9,016
7,179
3,233
3,946
39
7,220
7,594
2,375
5,219
5,979
7,731
2,545
5,186
(136)
(83)
Net income
$
3,498 $
5,114 $
3,140 $
8,052 $
10,107 $
3,985 $
5,083 $
5,103
Basic earnings per share - continuing
operations
(1)(3)
$0.19
$0.23
$0.11
$0.21
$0.17
$0.22
$0.29
$0.29
Diluted earnings per share - continuing
operations (1)(3)
$0.19
$0.22
$0.11
$0.20
$0.16
$0.22
$0.28
$0.29
Basic earnings per share (3)
Diluted earnings per share (3)
Total assets
Long-term liabilities
Other Data
Adjusted EBITDA (2)
Dividends declared (4)
Dividends declared - special (4)(5)
Dividends declared per share (4)(5)
$0.27
$0.26
$0.29
$0.28
$0.17
$0.16
$0.46
$0.46
$0.57
$0.56
$0.22
$0.22
$0.29
$0.27
$0.28
$0.28
$ 477,179 $ 509,025 $ 540,697 $ 565,510 $ 453,553 $ 473,750 $ 500,202 $ 527,937
$ 316,678 $ 346,922 $ 370,565 $ 316,375 $ 291,437 $ 309,350 $ 330,468 $ 354,800
$
$
6,872 $
9,990 $
8,172 $
7,395 $
8,700 $
9,066 $
7,168 $
6,097
2,693 $
3,451 $
3,458 $
3,460 $
3,461 $
3,470 $
3,479 $
3,678
$0.195
$0.195
$0.195
$0.195
$0.695
$0.195
$0.195
$0.205
$
8,875
(1) It was determined that Sherway, Case Funding, and EcoHome meet the criteria of discontinued operations. The comparative figures have been reclassified as
if their respective operations had been discontinued from the start of the comparative periods. See Note 4 - Discontinued Operations.
(2) Adjusted EBITDA and Operating Income are non-GAAP measures. See “Non-GAAP Measures” above for the definitions.
(3) Based on weighted average shares outstanding during the period for income attributable to common shareholders.
(4) Includes dividends on Exchangeable Securities (non-controlling interest, as described below under "Statement of Financial Position").
(5) In Q1 2016, the Company declared a special dividend of $0.50 per share related to the sale of EcoHome, for an aggregate special dividend amount paid of $8.9
million on March 15, 2016.
(6) The Q1 unaudited condensed consolidated interim financial statements, accompanying notes and MD&A filed on May 12, 2016 were refiled and amended on
August 11, 2016. The effect of the restatement was a $2.1 million reduction in the net gain on the sale of EcoHome, which was included in income from discontinued
operations and a corresponding increase in taxes payable included in accounts payable and other liabilities. The restatement did not affect income from continuing
operations. The restatement had no effect on Adjusted EBITDA.
14
FOR THE YEAR ENDED DECEMBER 31, 2016
ADJUSTED EBITDA, FREE CASH FLOW, MAXIMUM PERMITTED DIVIDENDS (1)
For the quarter-ended
($ thousands)
Net income
Interest expense - continuing
Interest expense - discontinued
Provision for taxes - continuing
Provision for taxes - discontinued
Amortization - continuing
Amortization - discontinued
EBITDA (1)
Q1
Q2
Q3
Q4
Q1 (4)(6)
Q2
Q3
Q4
$
3,498 $
5,114 $
3,140 $
8,052 $
10,107 $
3,985 $
5,083 $
5,103
2015
2016
1,308
130
2,551
504
127
95
2,008
706
3,672
131
424
232
2,187
718
2,754
47
221
139
2,260
734
2,804
(462)
661
377
2,335
462
2,650
43
398
—
2,209
2,522
—
—
3,233
2,375
—
402
—
—
419
—
2,758
—
2,545
—
430
—
8,213
12,287
9,206
14,426
15,995
9,829
10,399
10,836
Interest expense
(1,438)
(2,714)
(2,905)
(2,994)
(2,797)
(2,209)
(2,522)
(2,758)
Share-based compensation expense
Financing costs - convertible debenture
382
152
408
(98)
462
276
407
272
509
100
266
750
326
300
271
510
Interest expense on convertible debenture
(321)
(324)
(328)
(328)
(324)
(324)
(328)
(328)
Contingent consideration accretion
(reduction), acquisition costs & gain on
sale of assets
Unrealized loss (gain) on investments
Foreign exchange unrealized loss (gain)
Unrealized loss (gain) – interest rate swaps
Adjusted EBITDA (1)
(13)
468
173
(4,143)
(6,538)
—
(103)
—
—
(37)
—
6,872
9,990
—
(12)
1,300
8,172
—
209
(454)
7,395
(29)
510
(278)
1,523
8,700
(55)
41
31
19
663
9,066
—
41
(885)
(363)
(241)
(444)
(181)
389
(1,757)
7,168
6,097
(27)
(30)
Maintenance capital expenditures
(26)
(137)
(90)
Provision for taxes
Free Cash Flow ("FCF") (1)
Free Cash Flow of Acquired Companies
FCF L4PQ divided by 4 (1)
Maximum Permitted Dividends (1)(3)(5)
Dividends declared (2)
Dividends declared - special (2)(4)
$
$
$
$
$
(3,055)
(3,803)
(2,801)
(2,342)
(2,693)
(3,233)
(2,375)
(2,545)
3,791 $
6,050 $
5,281 $
5,024 $
5,952 $
5,833 $
4,766 $
3,522
1,025
n/a
n/a
n/a
n/a
n/a
n/a
n/a
3,721 $
4,624 $
4,761 $
5,050 $
5,211 $
5,482 $
5,540 $
5,454
2,976 $
3,699 $
3,809 $
4,040 $
4,690 $
4,933 $
4,986 $
4,909
2,693 $
3,451 $
3,458 $
3,460 $
3,461 $
3,470 $
3,479 $
3,678
$
8,875
(1) Adjusted EBITDA, EBITDA, Free Cash Flow, FCF L4PQ (Free Cash Flow for the last four published quarters) and Maximum Permitted Dividends
are non-GAAP measures. See “Non-GAAP Measures” above for the definitions.
(2) Includes dividends on Exchangeable Securities (non-controlling interest as described below under "Statement of Financial Position").
(3) Based on 90% of FCF L4PQ. On January 25, 2016, the rate was changed from 80% to 90%.
(4) In Q1 2016, the Company declared a special dividend of $0.50 per share related to the sale of EcoHome, for an aggregate special dividend amount
paid of $8.9 million on March 15, 2016.
(5) The Maximum Permitted Dividends allowed under Chesswood's credit facility has been further increased to allow for additional amounts up to a
total of $3.4 million until November 2017, in relation to the gain realized on the sale of the Acura Sherway dealership in 2015.
(6) The Q1 unaudited condensed consolidated interim financial statements, accompanying notes and MD&A filed on May 12, 2016 were refiled and
amended on August 11, 2016. The effect of the restatement was a $2.1 million reduction in the net gain on the sale of EcoHome, which was included
in income from discontinued operations and a corresponding increase in taxes payable included in accounts payable and other liabilities. The restatement
did not affect income from continuing operations. The restatement had no effect on Adjusted EBITDA or Free Cash Flow.
15
FOR THE YEAR ENDED DECEMBER 31, 2016
RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED DECEMBER 31, 2016 AND 2015
U.S. dollar results for the three months ended December 31,
2016, were converted at an exchange rate of approximately
1.3341, which was the average exchange rate for the three
month period (three months ended December 31, 2015 -
1.3354).
For the three months ended December 31, 2016, the
Company reported consolidated net income of $5.1 million,
a decrease of $2.9 million compared to the same period in
2015, due primarily to the $4.6 million net gain on the sale
of the Acura Sherway dealership in the fourth quarter of 2015.
Operating income ("income before undernoted items") was
down over the prior year by $1.6 million, offset by increases
in income from a $2.9 million increase in non-cash fair value
adjustments and a $259,000 decrease in tax expense.
($ thousands)
Equipment
Financing -
U.S.
Three months ended December 31, 2016
Equipment
Financing -
Canada
Discontinued
Operations
Corporate
overhead
- Canada
Interest revenue on leases and loans
$
17,116
$
$
— $
Ancillary finance and other fee income
Interest expense
Provision for credit losses
Finance margin
Personnel expenses
Share-based compensation expense
Other expenses
Amortization - property and equipment
Income before undernoted items
Amortization - intangible assets,
contingent consideration accretion/
reduction (non-cash)
Fair value adjustments - convertible
debentures and investments
Unrealized loss on interest rate swaps
Unrealized loss on foreign exchange
Income before taxes
Tax expense
Income from continuing operations
Income from discontinued operations
Net income
Net cash used in operating activities
Net cash from investing activities
Net cash from financing activities
Property and equipment expenditures
$
$
$
$
$
2,509
(1,834)
(7,490)
10,301
2,701
60
2,206
87
5,247
—
—
—
—
5,247
1,148
4,099
—
4,099
$
2,698
1,245
(924)
(449)
2,570
556
20
418
4
1,572
(339)
—
—
—
1,233
408
825
—
825
$
(8,267) $
(77) $
— $
77
$
(1,452) $
— $
$
3,054
— $
16
Total
19,814
3,857
(2,758)
(7,939)
12,974
3,588
271
3,045
91
5,979
713
(329)
1,757
(389)
7,731
2,545
5,186
(83)
5,103
(10,472)
3,455
12,882
103
—
—
103
331
191
421
—
(840)
1,052
(329)
1,757
(389)
1,251
989
262
—
262
$
(727) $
$
3,532
$
9,828
— $
77
(83)
(83) $
(26) $
— $
— $
— $
FOR THE YEAR ENDED DECEMBER 31, 2016
($ thousands)
Equipment
Financing -
U.S.
Three months ended December 31, 2015
Equipment
Financing -
Canada
Discontinued
Operations
Corporate
overhead
- Canada
Interest revenue on leases and loans
$
16,403
$
Ancillary finance and other fee income
Interest expense
Provision for credit losses
Finance margin
Personnel expenses
Share-based compensation expense
Other expenses
Amortization - property and equipment
Income before undernoted items
Acquisition related items
Amortization - intangible assets,
contingent consideration accretion/
reduction (non-cash)
Fair value adjustments - convertible
debentures
Unrealized gain on interest rate swaps
Unrealized loss on foreign exchange
Income before taxes
Tax expense
Income from continuing operations
Income from discontinued operations
Net income
Net cash used in operating activities
Net cash used in investing activities
Net cash from financing activities
Property and equipment expenditures
$
$
$
$
$
2,028
(1,379)
(6,090)
10,962
1,915
62
1,676
61
7,248
—
—
—
—
—
7,248
2,031
5,217
—
5,217
$
2,488
853
(881)
77
2,537
626
23
552
3
1,333
—
(597)
—
—
736
357
379
—
379
$
(8,596) $
(12) $
— $
(1,247) $
(3) $
(3,674) $
$
— $
—
—
—
—
248
282
504
—
(1,034)
52
Total
18,891
2,881
(2,260)
(6,013)
13,499
2,789
367
2,732
64
7,547
52
(539)
(1,136)
(272)
454
(209)
(1,548)
416
(1,964)
—
(1,964) $
(1,276) $
$
12,138
(886) $
(272)
454
(209)
6,436
2,804
3,632
4,420
8,052
(16,867)
12,064
6,084
4,420
4,420
$
(5,748) $
(59) $
$
10,644
12
$
3
$
— $
— $
15
For the three months ended December 31, 2016, the
Company reported consolidated operating income (“income
before undernoted items”) from continuing operations of
$5.98 million compared to $7.55 million in the same period
in 2015, a decrease of $1.57 million, or 21%, which was
primarily due to:
• Operating income from Pawnee and Windset decreased
by $2.0 million in the three month period compared to
the same period in the prior year. The decrease in
operating income is predominantly from a $739,000
increase in finance income due to a larger average
portfolio outstanding offset by a $1.4 million increase in
the provision for credit losses, which reflects a U.S.
$363,900 increase in actual net charge-offs in the period
compared to the same period in the prior year, and a non-
cash U.S.$641,600 increase in the allowance for
doubtful accounts. Please see the Pawnee Loss
Provisions, Charge-offs, Delinquencies graph and
discussion in the Pawnee overview section of this
MD&A. Personnel and other expenses increased by
$1.3 million as Pawnee and Windset's combined
employee headcount increased by 8 employees during
the three months ended December 31, 2016 to bring the
total to 73 (up from 61 employees in the fourth quarter
of 2015).
• Blue Chip generated operating income of $1.6 million
in the three month period compared to $1.3 million in
the same period in the prior year, an increase of $239,000.
17
FOR THE YEAR ENDED DECEMBER 31, 2016
The provision for credit losses increased by $526,000 in
the three month period compared to the prior year.
• Corporate overhead before foreign exchange and other
items decreased by $194,000 compared to the same
period in the prior year predominantly from the interest
income on loans to Dealnet, as part of the EcoHome sale;
decreases
fees and share-based
compensation expense.
in professional
The amortization of intangible assets at Blue Chip totaled
$339,000 for the three months ended December 31, 2016
compared to $597,000 in the same period in the prior year.
The reduction of the contingent consideration payable
translated to income of $1.1 million in the three months ended
December 31, 2016 compared to accretion of $539,000 in the
same period in the prior year. The decrease in intangible asset
amortization expense, reduction of contingent consideration
and acquisition related costs resulted in an increase in net
income of $1.8 million year-over-year.
For the three months ended December 31, 2016, our
investment in the common shares of Dealnet increased in
market value by $181,000.
The non-cash unrealized mark-to-market adjustment on the
Company's convertible debentures for the three months
ended December 31, 2016 totaled $510,000 compared to
$272,000 in the same period in the prior year, translating to
a decrease in net income of $238,000 year-over-year.
The non-cash unrealized mark-to-market adjustment on the
interest rate swaps for the three months ended December 31,
2016 totaled a gain of $1.8 million compared to a gain of
$454,000 in the same period in the prior year, translating to
an increase in net income of $1.3 million year-over-year.
The provision for taxes for continuing operations for the three
months ended December 31, 2016 totaled $2.5 million
compared to $2.8 million in the same period of the prior year.
The $2.5 million provision for taxes for the three months
ended December 31, 2016 is comprised of $4.75 million in
current tax recovery, future tax expense of $7.36 million
(which reflects the re-allocation from current tax payable to
deferred taxes payable) and $94,400 in withholding tax
adjustment on inter-company dividends. The effective tax
rate differs from the Canadian statutory tax rate due to
permanent differences between accounting and taxable
income and higher foreign jurisdictional tax rates. Permanent
differences primarily include share-based compensation
expense, contingent consideration accretion or reduction and
non-deductible acquisition costs.
The Company recorded a loss $83,000 from discontinued
operations for the three months ended December 31, 2016
compared to income of $4.4 million recorded in the same
quarter in the prior year. The 2015 income from discontinued
operations includes the gain on sale of Sherway, full quarterly
results for EcoHome, and 46 days of operations for Sherway,
while in 2016 the quarterly results exclude Sherway and
EcoHome's operating results as Sherway's operations and
EcoHome were sold in November 2015 and February 2016,
respectively. The loss from discontinued operations in 2016
includes income from the wind-down of Case Funding's
remaining legal finance receivables.
RESULTS OF OPERATIONS FOR THE YEAR
ENDED DECEMBER 31, 2016 AND 2015
U.S. dollar results for the year ended December 31, 2016,
were converted at an exchange rate of 1.3248, which was the
average exchange rate for 2016 (2015 - 1.2787).
See Note 28 - Segment Information in the notes to the
Company’s consolidated
for a
breakdown of operating results and other information by
industry segment and geographic location.
financial statements
The Company reported consolidated net income of $24.3
million in fiscal 2016 compared to $19.8 million in 2015.
The $4.5 million increase in net income reflects a $1.5 million
increase in operating income (“income before undernoted
items”) from continuing operations and a $2.5 million
increase in income from other items, offset by a $480,000
decrease in income from discontinued operations.
Consolidated operating income (“income before undernoted
items”) from continuing operations of $30.3 million,
compared to $28.8 million in the prior year, was an increase
of $1.5 million or 5.3%, as a result of:
• A $142,000 decrease in operating income from Pawnee
and Windset compared to the prior year. Finance
income (before provision for credit losses) rose $9.6
million due to growth in the finance receivables
portfolio and an increase in the foreign exchange rate.
This was partially offset by a $5.7 million increase in
provisions for credit losses predominantly from a U.S.
$4.4 million increase in actual net charge-offs. Please
see
the Pawnee Loss Provisions, Charge-offs,
Delinquencies graph and discussion above in the
Pawnee overview section of this MD&A. Personnel and
other expenses increased by $4.0 million reflecting
support for the growth in finance receivables and for
the strategic initiatives to improve future efficiency,
enhance the Company's technology and its competitive
18
FOR THE YEAR ENDED DECEMBER 31, 2016
capabilities.
Pawnee and Windset's combined
employee headcount increased by 12 employees during
the year ended December 31, 2016 to bring the total to
73.
• Blue Chip generated annual operating income of $5.04
million compared to $3.78 million last year. The
increase of $1.26 million reflects the fact that 2016
results include Blue Chip's earnings for the entire fiscal
year, compared to less than ten months in fiscal 2015
as Blue Chip was acquired on March 17, 2015.
• Corporate overhead before other items decreased by
$413,000 year-over-year, mainly from the interest
income on loan receivable from Dealnet and EcoHome
as part of the EcoHome sale proceeds.
The reduction of the contingent consideration payable
translated to income of $678,000 in the year ended
December 31, 2016 compared to an expense of $518,900 in
the prior year. The acquisition related items for the year
ended December 31, 2015 also includes $949,000 in costs
associated with the acquisition of Blue Chip and EcoHome.
The amortization of the intangible assets at Blue Chip totaled
$1.3 million for the year ended December 31, 2016 compared
to $1.2 million in the prior year, resulting in a decrease in net
income of $157,000 year-over-year. 2015 results only
include amortization for the period from March 17, 2015
(date of acquisition) to December 31, 2015.
At December 31, 2016, the Company's investment in Dealnet
common shares had decreased in market value by $3,000
since the value attributed to them on February 18, 2016 as
part of the proceeds on the sale of EcoHome.
The non-cash unrealized mark-to-market adjustment on the
Company's convertible debentures was $1.7 million
compared to $602,000 in the prior year, translating to a
decrease in net income of $1.1 million year-over-year.
The non-cash unrealized mark-to-market adjustment on the
interest rate swaps for the year ended December 31, 2016
totaled a gain of $15,000 compared to a loss $846,000 in the
prior year translating to an increase in net income of $861,000
year-over-year.
The provision for taxes for the year ended December 31, 2016
totaled $10.8 million compared to $11.8 million in the prior
year. The $10.8 million provision for taxes for the year ended
December 31, 2016 is comprised of $9.4 million in current
tax expense, future tax expense of $1.2 million and $201,900
in withholding tax on inter-company dividends. The effective
tax rate differs from the Canadian statutory tax rate due to
19
higher foreign jurisdictional tax rates and permanent
differences between accounting and taxable income, which
include share-based compensation expense,
primarily
contingent consideration accretion or reduction and non-
deductible acquisition costs.
Income from discontinued operations in 2016 totaled $7.0
million compared to $7.4 million recorded in 2015. The
income from discontinued operations for 2016 includes the
$6.7 million net gain on the sale of EcoHome compared to
the $5.5 million net gain on the sale of Acura Sherway and
the assets of Case Funding in 2015. The 2015 income from
discontinued operations includes 11.5 months of operating
results for Sherway, while in 2016 the results exclude
Sherway's operating results as Acura Sherway was sold in
2015. Income from discontinued operations in 2016 include
operating results of EcoHome for the period of January 1,
2016 to February 18, 2016, the date of disposal; while 2015
results include operating results from March 17, 2015 (date
of acquisition) to December 31, 2015.
STATEMENT OF FINANCIAL POSITION
total consolidated assets of
The
the Company at
December 31, 2016 were $527.9 million. This is a decrease
of $37.6 million from December 31, 2015. The U.S. dollar
exchange rate on December 31, 2016 was 1.3427 compared
to 1.384 at December 31, 2015. The disposal of EcoHome
accounted for $97.2 million of the decrease in assets and the
change in the foreign exchange rate represents a decrease of
$9.1 million. These factors were partially offset by a $65.5
million increase in finance receivables.
Cash totaled $11.4 million at December 31, 2016 compared
to $15.2 million at December 31, 2015, a decrease of
approximately $3.8 million. Please see the Liquidity and
Capital Resources Overview section of this MD&A for a
discussion on cash movements during 2016 and 2015.
Assets held for sale consist of Case Funding's legal finance
receivables for funds advanced to plaintiffs, attorneys, and
for the purchase of medical liens relating to plaintiff cases.
At December 31, 2016 there were 298 advances and loans
outstanding totaling $5.9 million (December 31, 2015 - 406
advances and loans totaling $10.6 million). The advances and
loans are due when the underlying cases are settled. Interest
income is recognized for accounting purposes by estimating
the collection date and thus total funds to be collected, from
which income can be determined on an effective interest rate
basis. The number of days the receivable is outstanding does
not necessarily indicate the likelihood of impairment. It is
normal for receivables in this industry to be outstanding
anywhere from 6 months to 48 months. Under IFRS, an
FOR THE YEAR ENDED DECEMBER 31, 2016
allowance for the collectability of the legal finance
receivables can only be set up if there is objective evidence
that the impairment has already occurred - potential losses
expected as a result of future events, no matter how likely
based on past historical evidence or known uncertainties with
this type of receivable, are not allowed to be recognized. The
collectability of loans and/or advances made by Case Funding
depends on litigation outcomes in the form of judgments and/
or settlements. Once an advance/loan is made, the timing of
the collection cycle is out of Case Funding's control.
Therefore, the timing of actual collections will be irregular.
Prepaid expenses and other assets totaled $14.5 million at
December 31, 2016, an increase of $4.2 million from
December 31, 2015. The total of other assets of $10.7 million
related to the sale of EcoHome was partially offset by a $5.1
million reduction in taxes receivable due to the refund of
Pawnee's tax installments.
Finance receivables consist of the following:
In relation to the sale of EcoHome, $1.75 million of the
proceeds were also held back as escrow and are expected to
be released by August 18, 2017. The net present value of the
escrowed funds at $1.7 million is included in other assets.
Also included in other assets at December 31, 2016 is the
non-cash consideration received as part of the sale of
EcoHome to Dealnet Capital Corp. ("Dealnet") in February
2016. Along with $29.0 million in cash proceeds, the
Company received a $2.5 million convertible note and
6,039,689 Dealnet common shares. The fair value of the
common shares represents the trading price at each reporting
date, the value at December 31, 2016 totaled $3.5 million.
Other assets also includes a loan receivable from EcoHome
representing the inter-company warehouse funding for leases
and loans that had not yet been securitized with EcoHome
funders prior to the sale of EcoHome. The value at
December 31, 2016 totaled $3.0 million. See Note 7 -
Prepaids and other assets for further details.
U.S. equipment leases and loans - Pawnee
Canadian equipment leases - Blue Chip
Working capital loans - Windset
December 31,
2016
($ thousands)
December 31,
2015
$
$
290,681
130,778
9,589
431,048
$
$
212,146
112,476
40,937
365,559
Finance receivables increased by $65.5 million, or 17.9%,
since December 31, 2015. The decrease in the foreign
exchange rate led to a $7.6 million decrease in finance
receivables since December 31, 2015. In U.S. dollars,
Pawnee's finance receivables increased by U.S.$63.2 million.
At the same time, Windset's net investment in working capital
loans decreased by U.S.$22.4 million due to Windset's
September 2016 announcement that it would not be accepting
new loan applications, which was decided by management
because of the combined impact of new regulations in
California requiring brokers to have a state lenders’ license
and Windset's more conservative underwriting practices
relative to competitors with a greater appetite for risk. Blue
Chip's finance receivables increased by $18.3 million year-
over-year as a result of expanded product lines and enhanced
relationships with its brokers.
past historical evidence, are not allowed to be recognized.
Pawnee charges off leases and loans when they become 154
days contractually past due, unless information indicates that
an earlier charge-off is warranted. Windset charges off loans
when they become 60 days contractually past due. A high
percentage of charge-offs are recognized before the subject
leases/loans reach 154 days (Windset - 60 days) contractually
past due. As only a small percentage of the total lease and
loan receivable portfolio have monthly payments that are past
due at any one reporting date, the portion of the receivables
that shows observable objective evidence of impairment at
any one reporting date is quite small, despite historical
experience that indicates that future charge-offs with respect
to the current lease and loan receivable will typically exceed
the level of observable impairment in a matter of months.
Blue Chip charges off leases and loans on an individual basis.
The $431.0 million in net investment in leases and loans is
net of $12.3 million in allowance for doubtful accounts
(compared to $10.6 million in allowance for doubtful
accounts at December 31, 2015). Under IFRS, an allowance
can only be set up if there is objective evidence that an
impairment has already occurred. Potential losses expected
as a result of future events, no matter how likely based on
Intangible assets totaled $21.9 million at December 31, 2016.
Of the $1.5 million decrease in intangible assets from 2015,
$1.3 million reflects amortization and $125,000 relates to the
decrease in the foreign exchange rate. The significant
intangible assets of broker relationships and trade names do
not require any outlay of cash to be maintained, as the creation
of lease and loan receivables does not require an outlay of
20
FOR THE YEAR ENDED DECEMBER 31, 2016
cash, other than commissions, which are separately expensed
over the term of the lease and loan receivable.
the current market value).
Goodwill totaled $40.8 million at December 31, 2016
compared to $41.3 million at December 31, 2015. The
$444,000 decrease in goodwill relates to the decrease in the
foreign exchange rate. Goodwill is typically tested annually
for impairment unless certain circumstances arise that would
require an assessment prior to an annual review. The
Company's annual goodwill impairment assessment did not
indicate any impairment as at December 31, 2016 and
December 31, 2015.
Accounts payable and other liabilities totaled $15.24 million
at December 31, 2016 compared to $18.77 million at
December 31, 2015, a decrease of $3.53 million. See Note
12 - Accounts Payable and Other Liabilities for more detail
on the balances that comprise accounts payable and other
liabilities. Income taxes payable at December 31, 2016
includes $3.5 million in taxes relating to the sale of EcoHome
in 2016 and taxes payable at December 31, 2015 included
income taxes of $1.5 million relating to the sale of Acura
Sherway in November 2015. The contingent consideration
of $538,000 represents management's estimate of additional
consideration payable which is contingent upon the future
performance targets of Blue Chip. In February 2016, as a
result of the sale of EcoHome, the Company paid the amounts
relating to the first and second year contingent consideration
payable, totaling $6.0 million. The estimate of the fair value
of contingent consideration requires very subjective
assumptions to be made of various potential operating result
scenarios and discount rates. The Company will continue to
periodically review expected operating results and an
updated assessment of various probability weighted
projected scenarios. If circumstances change, such future
revisions may materially change the estimate of the fair value
of contingent consideration and could therefore materially
affect the Company’s future financial results.
On December 16, 2013, the Company issued a total of $20.0
million principal amount of convertible debentures. The
debentures mature on December 31, 2018, and bear interest
at a rate of 6.5% per annum, payable semi-annually. The
outstanding principal under the debentures may, at the option
of the holders, be converted into the Company's common
shares at a conversion price of $20.19 per share at any time
(the original conversion price of $21.25 was adjusted as a
result of the declaration of a $0.50 per share special dividend
in 2016). Upon a holder’s election to convert its debentures,
in lieu of delivering shares, the Company may elect to pay
the holder cash. The Company also has the right to satisfy
its payment obligations under the debentures (subject to
obtaining any required regulatory approvals) by issuing
common shares (based on a deemed issue price of 95% of
The Company has the following options to redeem the
convertible debentures before their maturity:
•
Prior to December 31, 2017, the Company has the option
to redeem the debentures (at a redemption price equal to
the principal amount plus accrued and unpaid interest)
provided the current market price, as defined for
purposes of the debentures, is at least 125% of the
conversion price of $20.19.
Subsequent to December 31, 2017 and prior to December
31, 2018, the Company has the option to redeem the
debentures at a redemption price equal to the principal
amount plus accrued and unpaid interest.
•
The convertible debentures have several embedded
derivative features which were determined to not meet the
criteria for treatment as equity components and would
otherwise be required to be recognized as separate financial
instruments, measured at fair value through profit or loss. The
Company has elected under IAS 39.11A to designate the entire
convertible debentures (and all the embedded derivatives) as
a combined financial liability at fair value through profit or
loss. The fair value of the convertible debentures is based
on their trading price on the Toronto Stock Exchange as at
the end of each reporting period. As a result, there may be
increased volatility in the reported net income.
Borrowings totaled $293.1 million at December 31, 2016
compared to $255.2 million at December 31, 2015, an
increase of $37.9 million. The $37.9 million increase in
borrowings is supporting the $65.5 million growth in our net
finance receivables and are offset by $10.0 million in
proceeds from EcoHome being applied to debt and $4.8
million decrease due to the decrease in the foreign exchange
rate.
Chesswood was utilizing U.S.$144.3 million of its credit
facility at December 31, 2016 compared to U.S.$125.0
million at December 31, 2015. The corporate credit facility
allows Chesswood to internally manage the allocation of
capital to its various financial services businesses in Canada
and the United States. The credit facility supports growth in
finance receivables, provides for Chesswood’s working
capital needs and for general corporate purposes. The
facility, available in U.S. or Canadian dollars, also improves
the Company's financial flexibility by centralizing treasury
management and making the provision of capital to
individual businesses more efficient.
On November 30, 2016, the Company announced that it had
expanded and renewed its corporate revolving credit facility.
Chesswood’s credit facility allows borrowings of up to U.S.
$170.0 million (2015 - U.S.$150.0 million) subject to, among
21
FOR THE YEAR ENDED DECEMBER 31, 2016
other things, certain percentages of eligible gross finance
receivables. The facility can be expanded, subject to certain
conditions, to U.S.$250.0 million (2015 - U.S.$200.0
million) and matures on December 8, 2019 (2015 - December
8, 2017).
The Company's borrowings under the credit facility are
subject to, among other things, adhering to certain
percentages of eligible gross lease/loan receivables. The
credit facility is secured by substantially all of the Company’s
assets, contains covenants including the maintaining of
leverage and interest coverage ratios. Chesswood was in full
compliance with all its bank covenants at December 31, 2016
and December 31, 2015 (and throughout the periods).
Blue Chip has entered into master purchase and servicing
agreements and bulk lease financing facilities with various
financial institutions and life insurance companies (referred
to collectively as the “Funders”). The funding facilities are
advanced to Blue Chip on a tranche-by-tranche basis, with
each tranche collateralized by a specific group of underlying
finance receivables and any related security provided
thereunder. Interest rates are fixed at the time of each advance
and are based on Government of Canada Bond yields with
maturities comparable to the term of the underlying leases
plus a premium. Blue Chip maintains either certain cash
reserves as credit enhancements or provides letters of
guarantee in return for release of cash reserves. Blue Chip
continues to service these finance receivables on behalf of
the Funders. As at December 31, 2016, Blue Chip had access
to at least $104.0 million of committed bulk financing lines
of funding from both financial and insurance companies, in
addition to access to Chesswood's revolving facility. At least
$70.0 million of the funding availability is based on annual
limits while the additional $80.0 million is based on rolling
balances. Blue Chip must meet certain financial covenants
to support these securitization and bulk lease financing
facilities. As at December 31, 2016 and December 31, 2015
(and throughout the periods), Blue Chip was in compliance
with all covenants.
The $13.6 million (December 31, 2015 - $13.9 million) in
customer security deposits relates to security deposits
predominantly held by Pawnee. Pawnee’s non-prime
contracts requires that the lessee/borrower provide two
payments as security deposit (not advance payments), which
are held for the full term of the lease and then returned or
applied to the purchase option of the equipment at the lessee’s
request, unless the lessee has previously defaulted (in which
case the deposit is applied against the lease receivable).
Historically, a very high percentage of lessees’ deposits are
either applied to the purchase option of the leased equipment
at the end of the lease term or used to offset charge-offs.
22
The Company entered into interest rate swap agreements in
the third quarter of 2015 that provide for payment of an annual
fixed rate, in exchange for a LIBOR-based floating rate
amount. The interest rate swaps are intended to offset a
portion of the variable interest rate risk on the credit facility.
The cost to terminate the interest rate swaps would have been
$850,000 at December 31, 2016 (December 31, 2015 -
$892,000).
Future taxes payable at December 31, 2016 totaled $27.0
million compared to $26.5 million at December 31, 2015.
The $491,000 increase reflects a $1.4 million increase in
future tax expense, offset by a $898,000 decrease due to the
change in the foreign exchange rate. Tax at Pawnee, Windset
and Blue Chip is provided for using the asset and liability
method of accounting. This method recognizes future tax
assets and liabilities that arise from differences between the
accounting basis of the subsidiary’s assets and liabilities and
their corresponding tax basis.
At December 31, 2016, there were 16,513,867 common
shares outstanding (excluding the shares issuable in exchange
for the Exchangeable Securities, as defined below) with a
book value of $104.6 million. Including the Exchangeable
Securities, Chesswood would have had 17,992,404 common
shares outstanding.
In August 2016, the Company's Board of Directors approved
the repurchase for cancellation of up to 1,078,096 of the
Company’s outstanding common shares for the period
commencing August 25, 2016 and ending on August 24,
2017. From August 25, 2016 to December 31, 2016, 6,000
common shares were repurchased under this normal course
issuer bid at an average cost of $10.9877. The excess of the
purchase price over the average stated value of common
shares purchased for cancellation is charged to retained
earnings.
Additionally, the Company has entered into an automatic
share purchase plan with a broker for the purpose of
permitting us to repurchase our common shares under the
normal course issuer bid at such times when we would not
be permitted to trade in our own shares during internal
blackout periods, including during regularly scheduled
quarterly blackout periods. Such purchases will be
determined by the broker in its sole discretion based on
parameters the Company has established.
In August 2015, the Company's Board of Directors approved
the repurchase for cancellation of up to 1,078,741 of the
Company’s outstanding common shares for the period
commencing August 25, 2015 and ended on August 24, 2016.
During August 2016, 28,356 common shares were
FOR THE YEAR ENDED DECEMBER 31, 2016
repurchased under this normal course issuer bid at an average
cost of $10.5710.
Non-controlling interest consists of 1,274,601 Class B
common shares and 203,936 Class C common shares (the
"Exchangeable Securities") of Chesswood US Acquisitionco
Ltd. (“U.S. Acquisitionco”), which were issued as partial
consideration for the acquisition of Pawnee and are fully
exchangeable at any time for the Company's common shares,
on a one-for-one basis, through a series of steps. Attached to
the Exchangeable Securities are Special Voting Shares of the
Company which provide the holders of the Exchangeable
Securities voting equivalency to holders of common shares.
Under IFRS, the Exchangeable Securities must be shown as
non-controlling interest because they are equity in a
subsidiary not attributable, directly or indirectly, to the parent
(even though they have no voting powers in the subsidiary,
have voting powers only in the parent company, and are fully
exchangeable into the equity of the parent for no additional
consideration and receive the same dividends as the common
shares of the parent company). When the non-controlling
interest was moved from Other liabilities back to the
shareholders’ equity section on January 1, 2011 (the date
Chesswood Income Fund was converted into the Company),
per IFRS, the value attributed to the non-controlling interest
was just the fair value of the equivalent common shares
(closing value of the units of Chesswood Income Fund on the
Toronto Stock Exchange on December 31, 2010) as the
Exchangeable Securities are fully exchangeable into the
Company's common shares. Their portion of the cumulative
income and dividends from May 2006 to January 1, 2011 was
not allocated to non-controlling interest; however, their
portion of income and dividends has since been allocated to
non-controlling interest.
the
represent
accumulated
Reserves
share-based
compensation expensed over the vesting term for options and
restricted share units unexercised at December 31, 2016.
There were 1,837,989 options and 70,000 restricted share
units outstanding at December 31, 2016. Please see Note 23
- Compensation Plan for more details.
Accumulated other comprehensive income is the cumulative
translation difference between the exchange rate on
January 1, 2010, the IFRS adoption date, and the exchange
rate on December 31, 2016 of self-sustaining foreign
operations net assets.
23
LIQUIDITY AND CAPITAL RESOURCES
OVERVIEW
The primary sources of cash for the Company and its
subsidiaries have been cash flows from operating activities,
and borrowings under its, and its various subsidiaries' credit
and securitization and bulk lease financing facilities. The
primary uses of cash for the Company and its subsidiaries are
to fund business operations, equipment leases and loans,
working capital loans, long-term debt principal repayments
and dividends.
At December 31, 2016, the Company's continuing operations
had approximately $34.6 million in additional borrowings
available under the corporate credit facility before the
accordion feature and at least $92.5 million under Blue Chip's
securitization and bulk lease financing facilities to fund
business operations.
The Chesswood credit facility includes an "accordion"
feature which allows for an increase in the maximum
permitted borrowings of up to an additional U.S.$80.0
million provided that certain conditions are met.
Financing facilities of its operating subsidiaries are used to
provide funding for the respective subsidiary’s operations
(i.e. to provide financing for the purchase of assets which are
to be the subject of leases/loans or to support working capital).
The financing facilities are not intended to directly fund
dividends by the Company.
Pawnee expects to spend approximately $300,000, in the first
half of 2017, on expansion of their office space and equipment
due to growth in their staff count.
The Chesswood credit facility is used to provide funding for
operations (i.e. to provide financing for the purchase of assets
that are to be the subject of leases and loans and support
working capital). Under the facility, the maximum cash
dividends and purchases under its normal course issuer bid,
the Company can pay in respect of a month is 1/12 of 90%
of Free Cash Flow (see Dividend Policy below) for the most
recently completed four financial quarters
in which
Chesswood has publicly filed its consolidated financial
statements (including its annual consolidated financial
statements in respect of a fourth quarter), including the Free
Cash Flow of Blue Chip and EcoHome for the corresponding
period for periods prior to March 17, 2015. Free Cash Flow
is defined as the consolidated adjusted EBITDA less
maintenance capital expenditures and tax expense.
FOR THE YEAR ENDED DECEMBER 31, 2016
Cash Sources and Uses
The statement of cash flows, which is compiled using the
indirect method, shows cash flows from operating, investing,
and financing activities, and the Company’s cash at the
beginning and end of the period. Cash flows in foreign
currencies have been translated at the average rate for the
period. Cash flow from operating activities comprises net
income (loss) adjusted for non-cash items, changes in
working capital and operational net assets. IFRS deems
changes in finance receivables as operating assets for
financial companies. Receipts and payments with respect to
tax are included in cash from operating activities. Interest
revenue and interest expenses are included in operating
activities and not investing or financing activities. Cash flow
from investing activities comprises payments relating to the
acquisition of companies, net of cash proceeds from the sale
of discontinued operations, and property and equipment.
Cash flow from financing activities comprises changes in
borrowings, payment of dividends, proceeds from stock
issues, exercise of stock options, and the purchase and sale
of treasury stock.
For the three months ended December 31, 2016
In the three months ended December 31, 2016, there was an
increase in cash of $6.0 million compared to an increase in
cash of $1.9 million in the same period in the prior year as a
result of reasons discussed below.
The Company’s continuing operations utilized $10.4 million
of cash during the three months ended December 31, 2016
compared to $11.1 million in the same period in the prior
year, a decrease in the utilization of cash of $673,000 mainly
due to lower net tax payments.
The net cash utilized to fund the growth in finance receivables
(funds advanced, origination costs, security deposits, less
principal payments) totaled $30.5 million in the three months
ended December 31, 2016 compared to $25.3 million in the
same period in the prior year, an increase in cash utilization
of $5.2 million. The Company funds the growth in finance
receivables from excess opening cash, cash from operations
and $16.7 million in borrowings in the three months ended
December 31, 2016 (2015 - $864,000 in borrowing
repayments).
In the three months ended December 31, 2016, the Company's
subsidiaries made net tax payments of $708,000 compared
to $4.8 million in the three months ended December 31, 2015
leading to an decrease of cash needs of $4.1 million year-
over-year.
24
If the net cash utilized to fund the growth in finance
receivables and net tax payments (discussed above) is
excluded from cash from operating activities, the Company
generated $20.8 million in cash from net income, as adjusted
by non-cash items and other working capital changes
compared to $19.0 million in the prior year, an increase of
$1.8 million.
Capital expenditures totaled $77,000 (2015 - $15,000) during
the three months ended December 31, 2016.
The Company paid dividends to the holders of its common
shares and Exchangeable Securities in the amount of $3.6
million during the three months ended December 31, 2016
compared to $3.5 million in the prior year; an increase of
$119,000 due to a higher number of shares outstanding and
an increase in the dividend per share. The Company received
$1.2 million (2015 - $0) from the exercise of options by
employees during the three months ended December 31,
2016.
For the year ended December 31, 2016
In the year ended December 31, 2016, there was a decrease
in cash of $4.5 million compared to an increase in cash of
$5.7 million in the prior year as a result of reasons discussed
below.
The Company’s continuing operations utilized $44.2 million
of cash during the year ended December 31, 2016 compared
to utilizing $49.7 million in the prior year, a decrease in the
utilization of cash of $5.5 million.
The net cash utilized to fund the growth in finance receivables
(funds advanced, origination costs, security deposits, less
principal payments) totaled $123.6 million in the year ended
December 31, 2016 compared to $101.0 million in the prior
year, an increase of $22.6 million. The Company funds the
growth in finance receivables from excess opening cash, cash
from operations and $42.9 million in borrowings in the year
ended December 31, 2016 (2015 - $50.3 million in
borrowings).
In the year ended December 31, 2016, the Company's
subsidiaries (predominantly Pawnee) made tax payments of
$5.4 million compared to $18.4 million in the year ended
December 31, 2015, leading to a reduction of cash needs of
$13.1 million year-over-year.
FOR THE YEAR ENDED DECEMBER 31, 2016
If the cash utilized to fund the growth in finance receivables
and net tax payments (discussed above) is excluded from cash
from operating activities, the Company generated $84.7
million in cash from net income, non-cash items and other
working capital changes compared to $69.6 million in the
prior year, an increase in cash generated from operations of
$15.1 million.
From the $29.0 million in net proceeds from the sale of
EcoHome, $6.0 million was used to pay contingent
consideration as provided in the Blue Chip and EcoHome
acquisition agreement, $8.9 million for a special dividend,
and approximately $10.0 million was applied to Chesswood's
credit facility during the first quarter of 2016.
Capital expenditures totaled $844,000 (2015 - $254,000)
during the year ended December 31, 2016. The majority of
the capital expenditures relate to the one-time expenditures
for furniture and equipment for the new premises of Pawnee,
which they moved into in June 2016.
The Company paid dividends to the holders of its common
shares and Exchangeable Securities in the amount of $22.9
million during the year ended December 31, 2016 compared
to $12.7 million in the prior year, an increase of $10.2 million,
due to the $8.9 million special dividend, an increase in the
monthly dividend per share paid in December 2016 and a
higher number of shares outstanding. The Company received
$2.0 million (2015 - $399,000) from the exercise of options
by employees during the year ended December 31, 2016.
Chesswood expects that current operations and planned
capital expenditures for the foreseeable future of its
subsidiaries will be financed using funds generated from
operations, existing cash, and funds available under existing
and/or new credit and financing facilities. Chesswood may
require additional funds to finance future acquisitions and
support significant internal growth initiatives such as future
acquisitions and originations relating to finance receivable
portfolio growth. It will seek such additional funds, if
necessary, through public or private equity, debt financings
or securitizations from time to time, as market conditions
permit.
Financial Covenants, Restrictions and Events of Default
The Company and Blue Chip are subject to bank and/or
funder covenants relative to leverage and/or working capital.
The Company’s ability to access funding at competitive rates
through various economic cycles enables it to maintain the
liquidity necessary to manage its businesses, and its ability
to continue to access funding is an important condition to its
future success.
The Company’s secured borrowing agreement and Blue
Chip's securitization and bulk lease financing facility
agreements have financial covenants and other restrictions
to obtain continued funding and avoid default.
Advances on the Chesswood revolving facility may be drawn
at any time, subject to compliance with borrowing base
calculations and compliance with the covenants set out
therein. As of December 31, 2016, U.S.$144.3 million was
outstanding under the U.S.$170.0 million facility and the
Company had capacity to draw up to U.S.$25.7 million and
remain within the borrowing base under the facility. The
Company had U.S.$4.3 million of letters of credit outstanding
under the Chesswood credit facility. The Company used
some of the proceeds from the sale of EcoHome to pay down
the Chesswood credit facility.
25
FOR THE YEAR ENDED DECEMBER 31, 2016
The following are the contractual payments and maturities of financial liabilities and other commitments as at December 31, 2016
(including interest):
($ thousands)
2017
2018
2019
2020
2021
2022 and
beyond
Total
Accounts payable and other
liabilities
Borrowings (a)
Customer security deposits (b)
Convertible debentures
Interest rate swaps
Other financial commitments (c)
$
14,705 $
538 $
— $
— $
— $
— $
15,243
52,144
4,072
1,300
—
72,221
791
39,768
3,808
21,300
—
214,974
3,467
—
—
65,414
218,441
294
299
9,976
2,056
—
383
12,415
219
1,496
1,406
—
467
3,369
223
—
15
—
—
15
323
318,358
14,824
22,600
850
371,875
2,149
Total commitments
$
73,012 $
65,708 $
218,740 $
12,634 $
3,592 $
338 $
374,024
a. The Company’s financing credit facility is a line-of-credit; as such the balance can fluctuate. The credit facility matures in
December 2019. The amount above includes fixed interest payments on securitization and bulk lease financing facilities and
estimated interest payments on the corporate credit facility, assuming the interest rate, debt balance and foreign exchange rate
at December 31, 2016 remains the same until December 2019.
b. The Company’s experience has shown the actual contractual payment streams will vary depending on a number of variables
including: prepayment rates, charge-offs and modifications. Accordingly, the scheduled contractual payments of customer
security deposits shown in the table above are not to be regarded as a forecast of future cash payments.
c. The Company and its subsidiaries are committed to future minimum rental payments under existing leases for premises,
excluding occupancy costs and property tax, expiring in 2017 and 2023, which represent the bulk of other financial
commitments.
The Company has no material “off-balance sheet” financing obligations, except for long-term premises lease agreements and U.S.
$4.3 million in letters of guarantee. Other commitments are disclosed in Note 19 - Contingent liabilities and other financial
commitments of the 2016 annual consolidated financial statements.
Dividends to Shareholders
The Company declared monthly cash dividends of: $0.065
per common share from January 2016 to October 2016, $0.07
per common share for November and December 2016, and a
special dividend on February 18, 2016 of $0.50 per share,
totaling $8.9 million, that was paid on March 15, 2016 to
shareholders of record on February 29, 2016.
Dividend Policy
The Company’s policy is to pay monthly dividends to
shareholders of record on the last business day of each month
by the 15th of the following month (or the next business day
thereafter if the 15th is not a business day).
Under the Chesswood credit facility, the maximum monthly
cash dividend and repurchases under its normal course issuer
bid is 1/12 of 90% of Free Cash Flow for the most recently
completed four financial quarters in which Chesswood has
publicly filed its consolidated financial statements. The
maximum cash dividend was increased from 1/12 of 80%
FCF on January 25, 2016, and was further increased to allow
26
for additional amounts up to a total of $3.4 million until
November 2017, in relation to the gain realized on the sale
of Acura Sherway.
In addition, the Company can also declare a special dividend
and/or make repurchases under its normal course issuer bid
to an aggregate maximum of $17.7 million related to the
EcoHome sale, of which $0.50 per share, totaling $8.9 million
was paid on March 15, 2016.
The amount of any dividends payable by Chesswood is at the
discretion of its Board of Directors, is evaluated on an
ongoing basis, and may be revised subject to business
circumstances and expected capital requirements depending
on, among other things, Chesswood’s earnings, financial
requirements for its operating entities, growth opportunities,
the satisfaction of applicable solvency tests for the
declaration and payment of dividends and other conditions
existing from time to time.
FOR THE YEAR ENDED DECEMBER 31, 2016
OUTLOOK
We expect 2017 to be a year in which we see the U.S. prime
portfolio grow to become a meaningful part of our business.
This growth will go hand in hand with our investment in
expanding our technology, some of which shows up in our
income statement despite its nature as an investment in our
future. In 2016 our earnings reflected approximately U.S.
$400,000 of costs associated with these efforts - the benefits
of which are future oriented. We expect those efforts in 2017
to add another approximately U.S.$600,000 of costs, and that
we will start to see tangible benefits late in the year, or in
early 2018.
We also view 2017 in our U.S. business in similar fashion to
2016 - a continuation of the build out of significant operating
resources, commensurate with the large increases in new
business volumes that we continue to experience and expect.
Our personnel and administrative expenses will continue to
grow during the year and fall to more traditional levels,
relative to our revenues and portfolio size, in 2018. With our
commitment to service at the core of what we do, we are
building our business accordingly. This is a transition that
takes several years.
We believe that we will also see growth in our non-prime
portfolio in the U.S. It is our view that performance in this
segment of the portfolio has returned to a more expected level
following years of tighter capital availability for small
business. We are closely watching the metrics in this segment
of our portfolio given the trend of rising charge-offs over the
last two years. Notwithstanding this pattern, we continue to
earn very strong risk-adjusted returns in this segment.
We are not unique in our view that the U.S. economy,
especially for small and medium-sized business, is difficult
to predict given 2016’s unique political process and results.
We believe that this is likely to be positive for business given
the new administration’s pro-business views, but it is very
difficult to discern how they will ultimately impact the
economy. Industry data suggests that we will see a
continuation of delinquency that is elevated from where it
has been over the last few years, while at the same time
remaining typical of expansionary business cycles.
We expect our Canadian business to continue its pattern of
growth in both prime and non-prime originations.
CRITICAL ACCOUNTING POLICIES AND
ESTIMATES
Understanding the Company’s accounting policies is
essential to understanding the results of the Company’s
27
operations and financial condition. The preparation of these
consolidated financial statements requires us to make
estimates and judgments that affect reported amounts of
assets and liabilities, revenues and expenses, and related
disclosure of contingent assets and liabilities at the date of
our consolidated financial statements. We base our estimates
on historical experience and on various other assumptions
that are believed to be reasonable under the circumstances,
the results of which form the basis for making judgments
about the carrying values of assets and liabilities that are not
readily apparent from other sources.
Net Investment in Leases
The leases entered into are considered to be finance leases in
nature, based on an evaluation of all the terms and conditions
and the determination that substantially all the risks and
rewards of legal ownership of the asset has been transferred
to the lessee. Interest revenue on finance leases is recognized
under the effective interest method. The effective interest
method of income recognition applies a constant rate of
interest equal to the internal rate of return on the lease.
Allowance for Doubtful Accounts
The carrying value of net investment in leases and loans is
net of allowance for doubtful accounts. Quantifying the
impairment is based on the estimates of the carrying value
that will ultimately not be collected where there is objective
evidence of impairment.
The finance receivables are each composed of a large number
of homogenous leases and loans, with relatively small
balances made to inherently risky borrowers. Pawnee
charges-off leases and loans when they become 154 days
contractually past due, unless information indicates that an
earlier charge-off is warranted. A high percentage of charge-
offs are made before the subject leases and loans reach 154
days contractually past due.
Pawnee’s allowance for doubtful accounts on Chesswood’s
consolidated financial statements is comprised of the net
investment in leases and loans value that is over 30 days
delinquent, plus any leases or loans identified as impaired
less than 30 days delinquent and approximately 19% of the
1-30 day delinquent leases (those considered most likely to
fall into the over 30 days delinquent category by the next
month). A similar approach is taken for Windset and Blue
Chip.
Under IFRS, an allowance can only be set up if there is
objective evidence that the impairment has already occurred;
potential losses expected as a result of future events, no matter
how likely based on past historical evidence, are not allowed
to be recognized. As only a small percentage of the total lease
FOR THE YEAR ENDED DECEMBER 31, 2016
and loan receivable portfolio have monthly payments that are
past due at any one reporting date, the portion of the lease
and loan receivables that shows observable objective
evidence of impairment at any one reporting date is quite
small, despite long-term historical experience that indicates
that future charge-offs with respect to the current lease and
loan receivable will typically exceed the level of observable
impairment, in a matter of months.
Projections of probable net credit losses are inherently
uncertain, and as a result we cannot predict with certainty the
amount of such losses. Changes in economic conditions, the
risk characteristics and composition of the portfolio,
bankruptcy laws, and other factors could impact the actual
and projected net credit losses and the related allowance for
doubtful accounts.
Legal Finance Receivables
Attorney loans and medical lien financing are deemed to be
a financial asset as they are a contractual right to receive cash
from another entity and are considered to be loans and
receivables for accounting purposes, based on an evaluation
of all the terms and conditions of the contracts. The contracts
are deemed to have fixed or determinable payments, in that
the payments are due when the underlying cases are settled
however the date as to which that will happen is not known
and is estimated. Loans and receivables are accounted for at
amortized cost using the effective interest method; however
the effective interest rate is calculated using estimated cash
flows based on an estimated settlement dated.
Plaintiff advances are deemed to be a financial asset as they
are a contractual right to receive cash from another entity and
are considered to be available-for-sale financial assets for
accounting purposes, based on an evaluation of all the terms
and conditions of the contracts. The terms of the plaintiff
advances are on a non-recourse basis, and payment depends
on the success and potential claim size. Thus, the terms may
limit the expected cash flows and other than for credit
deterioration, they are deemed not to be loans and receivables.
Available-for-sale financial assets are valued at fair value,
the accretion or reduction in value is recognized based on the
effective interest method and recognized into finance income.
Under IFRS, an allowance for the collectability of the legal
finance receivables can only be set up if there is objective
evidence that the impairment has already occurred; potential
losses expected as a result of future events, no matter how
likely based on past historical evidence or known
uncertainties with this type of receivable, are not allowed to
be recognized. The collectability of loans and/or advances
made by Case Funding depends on litigation outcomes in the
form of judgments and/or settlements. Once an advance/loan
28
is made, the timing of the collection cycle is out of Case
Funding's control. Therefore, the timing of actual collections
will be irregular.
Impairment of Goodwill
restructuring activities and
Goodwill is evaluated for impairment on an annual basis, or
more frequently if certain events or circumstances exist. The
Company’s impairment test of goodwill is based on the value-
in-use which is estimated using a discounted cash flow model.
The cash flows are derived from budgets for the next five
future
years, excluding
investments. Impairment testing is applied on an individual
asset basis unless an asset does not generate cash inflows that
are largely independent of the cash inflows generated by other
assets or groups of assets. None of the Company’s non-
financial assets generate independent cash inflows and
therefore all non-financial assets are allocated to cash
generating units (“CGU”) for purposes of assessing
impairment.
CGUs are defined as the smallest identifiable group of assets
that generate cash inflows that are largely independent of the
cash inflows from other assets or groups of assets.
Impairment losses are recognized when the carrying amount
of a CGU exceeds the recoverable amount, which is the
greater of the CGU’s fair value less cost to sell and its value
in use. Value-in-use is the present value of the estimated
future cash flows from the CGU discounted using a pre-tax
rate that reflects current market rates and the risks inherent
in the business of each CGU. If the recoverable amount of
the CGU is less than its carrying amount, the CGU is
considered impaired and is written down to its recoverable
amount. The impairment loss is allocated to reduce the
carrying amount of the assets of the CGU, first to reduce the
carrying amount of the CGU’s goodwill and then to the other
assets of the CGU allocated pro-rata on the basis of the
carrying amount of each asset. Other than the cash flow
estimates, the value-in-use is most sensitive to the discount
rate used and the growth rate applied beyond the five year
estimate. Changes in these estimates and assumptions could
have a significant impact on the value-in-use and/or goodwill
impairment.
Contingent Consideration
The estimate of the fair value of contingent consideration
requires very subjective assumptions to be made of various
potential operating result scenarios and discount rates. The
Company will continue to periodically review expected
operating results and an updated assessment of various
probability weighted projected scenarios. If circumstances
change, such future revisions may materially change the
estimate of the fair value of contingent consideration and
FOR THE YEAR ENDED DECEMBER 31, 2016
therefore could materially affect the Company’s future
financial results.
on interest rate swaps. The fair value of interest rate swaps
is based upon the estimated net present value of cash flows.
Convertible Debentures
Taxes
The convertible debentures have several embedded
derivative features which were determined to not meet the
criteria for treatment as equity components and would
otherwise be required as separate financial instruments,
measured at fair value through the profit or loss. The
Company has elected under IAS 39.11A to designate the
entire convertible debentures (and all the embedded
derivatives) as a combined financial liability at fair value
through profit or loss. As the convertible debentures will be
fair valued based on the trading price on the Toronto Stock
Exchange every reporting period, there may be increased
volatility in our reported net income. As result of the election
to value the convertible debentures at fair value, the expenses
related to the issuance of the convertible debenture were
expensed when incurred.
Share-based Payments
The Black-Scholes model is used to fair value options issued
by the Company. The model requires the use of subjective
assumptions including the expected share price volatility. In
addition, the options issued have characteristics different
from those of traded options so the Black-Scholes option-
pricing model may not provide a reliable single measure of
the fair value of options issued. Changes in the subjective
assumptions can have a material effect on the fair value
estimate.
Interest Rate Swaps
Financial instruments accounting requires recognition of the
fair value of all derivative instruments on the statement of
financial position as either assets or liabilities. Changes in a
derivative’s fair value are recognized currently in earnings
unless specific hedge accounting criteria are met. Gains and
losses on derivative hedging instruments must be recorded
in either other comprehensive income or current earnings,
depending on the nature and designation of the instrument.
intends
Interest rate swaps are not considered trading instruments as
them until maturity.
to hold
the Company
Nonetheless, interest rate swaps do not qualify as a hedge for
accounting purposes, and are therefore recorded as separate
derivative financial instruments. Accordingly, the estimated
fair value of interest rate swaps is recorded as an asset or a
liability on the accompanying consolidated statement of
financial position. Payments made and received pursuant to
the terms of the interest rate swaps are recorded as an
adjustment to interest expense, and adjustments to the fair
value of the interest rate swaps are recorded as gain or loss
29
Pawnee and Blue Chip use the asset and liability method to
account for taxes. Under the asset and liability method,
deferred tax assets and liabilities are recognized for the future
tax consequences attributable to differences between the
financial statement carrying amounts of existing assets and
liabilities and their respective tax basis. Deferred tax assets
and liabilities are measured using enacted tax rates expected
to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled.
The effect on deferred tax assets and liabilities of a change
in tax rates is recognized in income in the period that includes
the enactment date. The measurement of deferred tax assets
is reduced, if necessary, by a valuation allowance for future
tax benefits for which realization is not considered more
likely than not. Pawnee and Blue-Chip account for their lease
arrangements as operating leases for federal tax reporting
purposes. This results in temporary differences between
financial and tax reporting for which deferred taxes have been
provided.
Significant management judgment is required in determining
the provision for taxes, deferred tax assets and liabilities and
any necessary valuation allowance recorded against net
deferred tax assets. The process involves summarizing
temporary differences resulting from the different treatment
of items, for example, leases for tax and accounting purposes.
These differences result in deferred tax assets and liabilities,
which are included within the consolidated statement of
financial position. Management must then assess the
likelihood that deferred tax assets will be recovered from
future taxable income or tax carry-back availability and, to
the extent management believes recovery is not probable, a
valuation allowance must be established. To the extent that
we establish a valuation allowance in a period, an expense
must be recorded within the tax provision in the statement of
income. The Company’s estimate of its future taxes will
vary based on actual results of the factors described above,
and such variations may be material.
FUTURE ACCOUNTING STANDARDS
A listing of the recent accounting pronouncements not yet
adopted by the Company is included in Note 2 - Accounting
Standards Issued But Not Yet Effective to the consolidated
financial statements for the year ended December 31, 2016.
FOR THE YEAR ENDED DECEMBER 31, 2016
RISK FACTORS
An investment in common shares entails certain risk factors
that should be considered carefully.
Chesswood operates in a dynamic environment that involves
various risks and uncertainties, many of which are beyond
our control and which could have an effect on our business,
revenues, operating results, cash flow and financial
condition. Readers should carefully review the risk factors
in the Company’s annual information form filed with various
Canadian securities regulatory authorities through SEDAR
(the System for Electronic Document Analysis and Retrieval)
at www.sedar.com, a summary of which are set out below.
Dependence on Key Personnel
Our operating companies depend to a large extent upon the
abilities and continued efforts of their key operating
personnel and senior management teams.
Relationships with Brokers and Other Origination
Sources
Pawnee and Blue Chip have formed relationships with
hundreds of origination sources, comprised primarily of
equipment finance brokerage firms. They rely on these
relationships to generate applications and originations. The
failure to maintain effective relationships with their brokers
and other origination sources or decisions by them to refer
transactions to, or to sign contracts with, other financing
sources could impede their ability to generate transactions.
Risk of Future Legal Proceedings
Our operating companies are threatened from time to time
with, or are named as defendants in, or may become subject
to, various legal proceedings, fines or penalties in the ordinary
course of conducting
their respective businesses. A
significant judgment or the imposition of a significant fine
or penalty on an operating company (or on a company
engaged in a similar business, to the extent the operating
company operates in a similar manner) could have a material
adverse impact on our business, financial condition and
results of operations, and on the amount of cash available for
dividends to our shareholders.
Interest Rate Fluctuations
The Company and our operating companies are exposed to
fluctuations in interest rates under their borrowings. Increases
in interest rates (to the extent not mitigated by interest
hedging arrangements) may have a material adverse impact
on our businesses, financial condition and results of
operations, and on the amount of cash available for dividends
to our shareholders.
The leases and loans are written at fixed interest rates and
terms. Generally, the Company finances the activities of its
operating companies with both fixed rate and floating rate
funds. To the extent the operating companies finance fixed
rate leases and loans with floating rate funds, they are exposed
to fluctuations in interest rates such that an increase in interest
rates could narrow or eliminate the margin between the yield
on a lease and loan and the effective interest rate paid by the
borrower.
At the customer level, non-prime segments of the micro and
small-ticket equipment finance market have historically and
typically been, and continue to be, more sensitive to monthly
lease/loan payment amounts than to be effective rates of
interest charged.
Portfolio Delinquencies; Inability to Underwrite Lease
and Loan Applications
Pawnee’s receivables consist primarily of lease and loan
receivables originated under programs designed to serve
small and medium-sized, often owner-operated businesses
that have limited access to traditional financing. There is a
high degree of risk associated with equipment financing for
such parties. A portion of Pawnee’s portfolio are start-up
businesses that have not established business credit or a more
established business that has experienced some business or
personal credit difficulty at some time in its history. As a
result, such leases or loans entail a relatively higher risk and
may be expected to experience higher levels of delinquencies
and
the
levels. Pawnee cannot guarantee
delinquency and loss levels of its receivables will correspond
to the historical levels Pawnee has experienced on its
portfolio and there is a risk that delinquencies and losses
could increase significantly.
loss
that
Analogous risks are faced by Windset and Blue Chip in their
businesses.
In addition, since defaulted leases and loans and certain
delinquent leases and loans cannot be used as collateral under
our variable rate financing facilities, higher than anticipated
lease defaults and delinquencies could adversely affect our
liquidity by reducing the amount of funding available to us
under our financing arrangements. Furthermore, increased
rates of delinquencies or loss levels could result in adverse
changes to the terms of future financing arrangements,
including increased interest rates payable to lenders and the
30
FOR THE YEAR ENDED DECEMBER 31, 2016
imposition of more burdensome covenants and increased
credit enhancement requirements.
Deterioration in Economic or Business Conditions;
Impact of Significant Events and Circumstances
The results of the Company's subsidiaries results may be
negatively impacted by various economic factors and
business conditions, including the level of economic activity
in the markets in which they operate. To the extent that
economic activity or business conditions deteriorate,
delinquencies and credit losses may increase. Delinquencies
and credit losses generally increase during economic
slowdowns or recessions such as that experienced in the
United States from 2008-2013. As our operating companies
extend credit primarily to small businesses, many of their
customers may be particularly susceptible to economic
slowdowns or recessions, and may be unable to make
scheduled lease or loan payments during these periods.
Unfavourable economic conditions may also make it more
difficult for our operating companies to maintain new
origination volumes and the credit quality of new leases and
loans at levels previously attained. Unfavourable economic
conditions could also increase funding costs or operating cost
structures, limit access to credit facilities, securitizations and
other capital markets or result in a decision by lenders not to
extend further credit.
In addition, the leasing and working capital loan industries
generally may be affected by changes in accounting treatment
for leases and loans, and negative publicity with respect to,
among other things, fraud or deceptive practices by certain
participants in the industry. Greater governmental scrutiny is
also a risk, especially as to the tax treatment of certain
transaction structures or other aspects of these transactions
that, if changed, could result in additional tax, fee or other
revenue to that governmental authority. Any of these factors
may make leasing less attractive or diminish the profitability
of the existing financing alternatives offered by our operating
companies.
In addition to being impacted by factors or conditions in the
United States or Canada, political, economic or other
significant events or circumstances outside of North America
(whether political unrest which impacts upon the prices of
oil and other commodities or otherwise) can ultimately
significantly
impact upon North American economic
conditions which, in turn, could result in the adverse
implications described in the first paragraph under this
heading. Similarly, natural disasters in any part of the world
may directly (through impact on supplies of goods or
equipment
impact
Chesswood's operations or results.
to our businesses) or
indirectly
Losses from Leases and Loans
Losses from leases and loans in excess of our operating
companies' expectations would have a material adverse
impact on our businesses, financial condition and results of
operations, and on the amount of cash available for dividends
to our shareholders.
Changes in economic conditions, the risk characteristics and
composition of the portfolio, bankruptcy laws, and other
factors could impact our operating companies’ actual and
projected net credit losses and the related allowance for credit
losses. Should there be a significant change in the above noted
factors, then our operating companies may have to set aside
additional reserves which could have a material adverse
impact on their respective business, financial condition and
results of operations and on the amount of cash available for
dividends to our shareholders.
Determining the appropriate level of the allowance is an
inherently uncertain process and therefore the determination
of this allowance may prove to be inadequate to cover losses
in connection with a portfolio of leases and loans. Factors
that could lead to the inadequacy of an allowance for credit
losses may include the inability to appropriately underwrite
credit risk of new originations, effectively manage
collections, or anticipate adverse changes in the economy or
discrete events adversely affecting specific customers,
industries or geographic areas.
Adverse Events or Legal Determinations in Areas with
High Geographic Concentrations of Leases or Loans
If judicial or other governmental rulings or actions or
interpretations of laws adverse to the equipment finance
business and\or the working capital loan business in general
or to business practices engaged in by our operating
companies, or adverse economic conditions or the occurrence
of other significant events such as natural disasters and
terrorist attacks, were to occur in a geographic region with a
high concentration of leases/loans or equipment financed
from our operating companies, there could be a material
adverse impact on our business, financial condition and
results of operations, and the amount of cash available for
dividends to our shareholders.
“Characterization” Risks
If an applicable court or regulatory authority were to make
an adverse finding, or take an adverse action on the basis that
one of Pawnee’s form of lease is not a true lease for
commercial law, tax law, or other legal purposes, adverse
consequences could result with respect to leases entered into
in such form including the loss of preferred creditor status
(which would impact upon Pawnee’s rights to recover on its
31
FOR THE YEAR ENDED DECEMBER 31, 2016
claim), limitations on finance charges and other fees that can
be enforced, and additional federal, state and other (income
or sales) taxes payable by Pawnee.
Case Funding’s non-recourse advances may be re-
characterized in certain jurisdictions as loans, or determined
to be improper fee-splitting, which would adversely affect
the collectability of the advances.
Defenses to Enforcement of a Significant Number of
Leases and Loans
Certain defenses and recovery impediments are more
common in micro and small-ticket equipment finance
transactions than with respect to equipment finance providers
in other segments of the equipment finance industry.
Management believes that certain of these risks are
sufficiently addressed in the existing documentation and
related business practices of our operating companies.
However, there are other risks that they have not addressed
for various reasons, including that certain of these risks are
not susceptible to being addressed either at all or without
incurring cost inefficiencies or taking other measures deemed
unacceptable by management based on a risk-reward
assessment. Our operating companies have never
experienced any material occurrence of these risks nor have
these risks historically had a material adverse impact on them.
However, there is no assurance that these risks will not have
a material adverse impact on their business, financial
condition and results of operations in the future.
Origination, Funding and Administration of
Transactions
Our operating companies' origination,
funding and
transaction administration practices could result in certain
vulnerabilities in their enforcement rights. For example,
certain leases and loans are assignments of transactions
already documented by brokers. Acquiring leases/loans by
this “indirect” process subjects our operating companies to
various risks, including risks that might arise by reason of
the broker’s insolvency, administrative inadequacies or
fraudulent practices, as well as any third party claims against
the broker or its rights with respect to the assigned lease or
loan. Any of these broker related risks can impair our
operating companies’ rights with respect to recovering the
rents and/or property under leases and loans. Pawnee has not
been involved in any claims or litigation in relation to such
risks and Pawnee does not conduct lien searches in the name
of, require lien releases from, or file financing statements
against the lease broker.
If the lessee/borrower or broker is the party to whom the
vendor of the equipment has agreed to sell the property at the
time of its delivery, then under applicable commercial law,
32
the lessee/borrower or broker, as applicable, may be deemed
to have acquired title to the property prior to our operating
companies having funded the transaction. It has not been their
practice to ensure that the title to the leased property has not
already passed or to obtain assurances that it is acquiring good
title to that property free of liens and other third party claims.
The manner in which our operating companies purchase the
equipment is typical in this market segment, especially with
respect to similarly situated equipment financing providers.
They have not yet faced any meaningful challenge or adverse
consequence from this practice, but there can be no assurance
that such a challenge or consequence will not occur in the
future.
In most circumstances where the equipment is less than U.S.
$15,000 (or U.S.$10,000 if for a home business) for Pawnee’s
core product and U.S.$35,000 for the “B+” product, Pawnee’s
practice of requiring only a verbal confirmation that the
property has been delivered and irrevocably accepted under
the subject lease or loan, and/or inspecting the property to
confirm the same, could make Pawnee vulnerable to certain
defenses. By way of example, Pawnee’s deemed failure to
deliver conforming property under the lease or loan
documents could be a defense to a lessee/borrower’s
“unconditional” obligation to pay the rents and certain other
amounts. Pawnee has not suffered any material losses relating
to these practices, however, there can be no assurance that it
would not in the future.
Analogous risks are faced by Blue Chip.
Changes in Governmental Regulations, Licensing and
Other Laws and Industry Codes of Practice
Finance companies are subject to laws and regulations
relating to extending financing generally and are also
members of industry associations which have adopted,
among other things, codes of business practice. Laws,
regulations and codes of business practice may be adopted
with respect to existing leases and loans or the leasing,
marketing, selling, pricing, financing and collections
processes which might increase the costs of compliance, or
require them to alter their respective business, strategy or
operations, in a fashion that could hamper the ability to
conduct business in the future.
Licensing Requirements
If an applicable court or regulatory authority were to make
an adverse finding or otherwise take adverse action with
respect to our operating companies based on their failure to
have a finance lender’s or other license or registration
required in the applicable jurisdiction, our operating
companies would have to change business practices and
could be subject to financial or other penalties. Further,
FOR THE YEAR ENDED DECEMBER 31, 2016
certain jurisdictions may enact or change administrative
practices in respect of licensing requirements for our
operating companies or their referring brokers. For example,
California has recently announced changes so as to require
that referring brokers have a lenders' license, which may
impact upon referrals from certain brokers for funding to
California residents.
Fees, Rates and Charges
Some of our operating companies’ documents require
payment of late payment fees, late charge interest, and other
charges either relating to the non-payment under, or
enforcement, of their leases and loans. It could be determined
that these fees and/or the interest rates charged exceed
applicable statutory or other legal limits. If the charges are
deemed to be punitive and not compensatory, or to have other
attributes that are inconsistent with, or in violation of,
applicable laws, they could be difficult to enforce. A number
of charges payable with respect to equipment finance
transactions in the micro and small-ticket equipment finance
market have been the subject of litigation by customers
against financing parties over the past few years. Although
our subsidiaries are not currently the subject of any such
litigation, there can be no assurance that a lessee/borrower
or a group of lessees/borrowers will not attempt to bring a
lawsuit against our subsidiaries in relation to fees and
charges, which our subsidiaries may or may not be successful
in defending.
Our operating companies believe that their fee programs are
designed and administered so as to comply with legal
requirements and are within the range of industry practices
in their market segments. Nevertheless, certain attributes of
these fees or charges, and their practices, including that their
leases and loans typically provide for several different fees
and charges resulting in a substantial amount of fee income
and the possibility that the fees and charges may exceed actual
costs involved or may otherwise be deemed excessive, could
attract litigation, including class actions, that would be costly
even if our subsidiaries were to prevail and as to which no
assurance can be given of their successful defense. In addition
to the risk of litigation, fee income is important to our
subsidiaries and the failure of our subsidiaries to continue to
collect most of these fees could have a material adverse
impact on our business, financial condition and results of
operations, and on the amount of cash available for dividends
to our shareholders.
Possible Acquisitions
The growth strategy for the Company includes seeking out
acquisitions in the financial services industries. Acquisitions,
if they occur, may increase the size of the operations as well
33
as increase the amount of indebtedness that may have to be
serviced by Chesswood and its subsidiaries. There is no
assurance that such acquisitions can be made on satisfactory
terms, or at all. The successful integration and management
of acquired businesses involve numerous risks that could
adversely affect the growth and profitability of Chesswood
and its subsidiaries. There is no assurance that such
acquisitions will be successfully integrated.
Insurance
To ensure that the lessor or funder of the leased or financed
property suffering a loss receives the related insurance
proceeds, the lease or loan also requires that the lessor or
funder be named as a loss payee under the requisite casualty
coverage. However, each lessee/borrower is ultimately relied
upon to obtain and maintain the required coverage for
financed equipment but there is no certainty that they will
obtain the requisite coverage either conforming to the
requirements of the lease or loan, or at all. Additionally, there
are often policy provisions including exclusions, deductibles
and other conditions that by their terms, or by reason of a
breach, could limit, delay or deny coverage. There can be no
assurance that any insurance will protect our operating
companies interests in the equipment, and the failure by the
lessee/borrower to obtain insurance or the failure by the
operating companies to receive the proceeds from such
insurance policies could have a material adverse impact on
our business, financial condition and results of operations,
and on the amount of cash available for dividends to our
shareholders.
Lessor Liability
the
There is a risk that a lessor, such as Pawnee or Blue Chip,
could be deemed liable for harm to persons or property in
connection with, among other things, the ownership or
the conduct or
leased property, or
leasing of
responsibilities of the parties to the lease relating to that
property. The liability may be contractual (such as warranties
regarding the equipment), statutory (such as federal, state or
provincial environmental liability) or pursuant to various
legal theories (such as negligence). There have been cases in
which a lessor has been held responsible for damage caused
by leased property without a showing of negligence or wrong-
doing on the lessor’s part. Even if a lessor ultimately succeeds
in defending itself or settling any related litigation, the related
costs and any settlement amount could be significant.
Liability for Misuse of Leased Equipment
There is no practical manner to ensure that leased equipment
or a leased vehicle will be used, maintained or caused to
comply with applicable law. Pawnee and Blue Chip require
its lessees to deliver evidence of compliance with same as a
FOR THE YEAR ENDED DECEMBER 31, 2016
condition to funding but have no assurance that a lessee will
take the appropriate actions during the lease term to address
any use, maintenance or compliance issues which may arise.
A lessee’s conduct (or lack thereof) could subject Pawnee or
Blue Chip, as applicable, to liability to third parties.
Estimates Relating to Value of Leases
Based on the particular terms of a lease, equipment finance
companies estimate the residual value of the financed
equipment, which is recorded as an asset on its statement of
financial position. At the end of the lease term, equipment
finance companies seek to realize the recorded residual for
the equipment by selling the equipment to the lessee or in the
secondary market or through renewal of the lease by the
lessee. The ultimate realization of the recorded residual
values depends on numerous factors, including: accurate
initial estimate of the residual value; the general market
conditions and interest rate environment at the time of
expiration of the lease; the cost of comparable new
equipment; the obsolescence of the leased equipment; any
unusual or excessive wear and tear on or damage to the
equipment; and the effect of any additional or amended
government regulations.
If Pawnee or Blue Chip (in connection with those leases
where the lessee is not obligated to either purchase the
equipment or guarantee the residual value of the equipment
at the end of the term of the lease) is unable to accurately
estimate or realize the residual values of the leased equipment
subject to their leases, the amount of recorded assets on its
statement of financial position will have been overstated.
Competition from Alternative Sources of Financing
The business of micro and small-ticket equipment finance in
the United States is highly fragmented and competitive.
Pawnee focuses some its business on the segment of the micro
and small-ticket equipment finance market involving start-
up businesses that have not established business credit or
established businesses that have experienced some credit
difficulty in their history that do not meet the credit standards
of more traditional financing sources. Pawnee’s main
competition comes from leasing companies, home equity
loans, and credit cards.
As Pawnee expands its suite of products to target potential
lessees with higher credit scores or if the creditworthiness of
its potential customers increases for various external reasons,
it expects to face competition from more traditional financing
sources as well, including: national, regional and local
finance companies; captive finance and equipment finance
companies affiliated with major equipment manufacturers;
and financial services companies, such as commercial banks,
thrifts and credit unions.
34
Many of the firms and institutions providing financing
alternatives are substantially larger than Pawnee and have
considerably greater financial, technical and marketing
resources. Some of them may have a lower cost of funds and
access to funding sources that are unavailable to Pawnee. A
lower cost of funds could enable a competitor to offer leases
and loans with pricing lower than that of Pawnee, potentially
forcing Pawnee to decrease its prices or lose origination
volume. In addition, some financing sources may have higher
risk tolerances or different risk assessments, which could
allow them to establish more origination sources and
customer relationships to increase their market share.
Further, because there are fewer barriers to entry with respect
to the micro and small-ticket equipment finance market, new
competitors could enter this market at any time, especially if
an improvement in the economy leads to a greater ability of
small and medium-sized businesses to establish improved
levels of creditworthiness.
Similarly, competition from a variety of other funding sources
may result in a decrease in demand for Blue Chip's financing
products.
Fraud by Lessees, Borrowers, Vendors or Brokers
While our operating companies make every effort to verify
the accuracy of information provided to them when making
a decision whether to underwrite a lease or loan and have
implemented systems and controls to protect against fraud,
in a small number of cases in the past our operating companies
have been a victim of fraud by lessees/borrowers, vendors
and brokers. In cases of fraud, it is difficult and often unlikely
that our operating companies will be able to collect amounts
owing under a lease or loan or repossess the related
equipment. Increased rates of fraud could have a material
adverse impact on our business, financial condition and
results of operations, and on the amount of cash available for
dividends to our shareholders.
Protection of Intellectual Property
Chesswood's operating subsidiaries continually develop and
improve their brand recognition and proprietary systems and
processes, which is an important factor in maintaining a
competitive market position. No assurance can be given that
competitors will not independently develop substantially
similar branding, systems or process. Despite the efforts of
our operating subsidiaries to protect their proprietary rights,
unauthorized parties may attempt to obtain and use
information the subsidiaries regard as proprietary. Preventing
unauthorized use of such proprietary rights may be difficult,
FOR THE YEAR ENDED DECEMBER 31, 2016
time-consuming and costly, and without any assurance of
success.
Uncertainty of Outcome of Cases
The returns on loans and/or advances made by Case Funding,
and thus the returns for Chesswood, depend on litigation
outcomes in the form of judgments or settlements. Litigation
of individual cases entails a large degree of uncertainty. It is
also possible that a claimant may die or abandon his or her
case, that the lawyer may abandon the plaintiff’s case, or that
the defendant, the law firm, or the defendant’s insurance
carrier may declare bankruptcy. Case Funding is also reliant
on the capabilities of the attorneys handling the cases in which
it provides funding to effectively litigate claims with due skill
and care. Although Case Funding sought to weigh such
uncertainties in the due diligence conducted before making
its funding decisions, and intended to reduce risk by funding
in a broad array of cases, there can be no assurance that the
outcome of any given litigated claim or basket of claims can
be predicted, whether or not the probabilities were correctly
assessed by Case Funding.
Uncertainty in the Timing of Litigation Settlements and
Awards
The nature of litigation recoveries, including the timing and
amounts recovered, are outside the control of Case Funding.
Individual claims may be resolved over drastically varying
times: for example, as short as one month, or longer than three
years. Case Funding will be required to wait for an
indeterminate period of time after an advance/loan is made
to fully collect money from judgment recoveries.
Case Funding May Have Difficulty Collecting on its
Investments
If plaintiffs or law firms to which Case Funding has advanced
or loaned funds do not pay Case Funding pursuant to the terms
of the advances/loans made, Case Funding may be required
to pursue costly legal actions to collect. It is also possible that
a plaintiff’s attorney or a law firm may attempt to renegotiate
the ultimate amount owed to Case Funding or that there is
not enough proceeds from the case to repay Case Funding in
full. In these situations, Case Funding may have to accept a
smaller return than anticipated in order to accommodate and
maintain business relationships or avoid litigation. In either
event, the inability of Case Funding to collect or the necessity
of legal action to collect, could harm or reduce the potential
cash flow.
Failure of Computer and Data Processing Systems
Our operating companies are dependent upon the successful
and uninterrupted functioning of their computer and data
processing systems. The failure of these systems could
35
interrupt operations or materially impact upon the ability of
our operating companies to originate and service their lease
and loan portfolio and broker networks. If sustained or
repeated, a system failure could negatively affect these
operations. Our operating companies maintain confidential
information regarding lessees and borrowers in their
computer systems. This infrastructure may be subject to
physical break-ins, computer viruses, programming errors,
attacks by third parties or similar disruptive problems. A
security breach of computer systems could disrupt
operations, damage reputation and result in liability.
Security Risks
Despite implementation of network security measures, the
infrastructure of our subsidiaries' websites and our
management network is potentially vulnerable to computer
break-ins and similar disruptive problems.
Risks Related to our Structure and Exchange Rate
Fluctuations
The dividends expected to be paid to our shareholders will
be denominated in Canadian dollars. However, a significant
percentage of our revenues are expected to be derived from
the revenues of our U.S. operations, which are received in
U.S. dollars. Changes in the value of the U.S. dollar could
have a negative impact on our Canadian dollar results, and
in turn, on the amount in Canadian dollars available for
dividends to our shareholders.
Unpredictability and Volatility of Share Price
A publicly-traded company will not necessarily trade at
values determined by reference to the underlying value of its
business. The prices at which our common shares will trade
cannot be predicted. The market price of the common shares
could be subject to significant fluctuations in response to
variations in quarterly operating results and other factors. The
annual yield on the common shares as compared to the annual
yield on other financial instruments may also influence the
price of common shares in the public trading markets. In
addition, the securities markets have experienced significant
price and volume fluctuations from time to time in recent
years that often have been unrelated or disproportionate to
the operating performance of particular issuers. These broad
fluctuations may adversely affect the market price of the
common shares.
Leverage, Restrictive Covenants
The Company and Blue Chip have third party debt service
obligations under their respective credit and securitization
and bulk lease financing facilities. The degree to which our
important
subsidiaries
consequences to our shareholders, including: (i) the ability
could have
leveraged
are
FOR THE YEAR ENDED DECEMBER 31, 2016
to obtain additional financing for working capital in the future
may be limited; (ii) a portion of the cash flow from the assets
of such subsidiaries may be dedicated to the payment of the
principal of and interest on their respective indebtedness,
thereby reducing funds available for distribution to the
Company; and (iii) certain of the respective borrowings of
such subsidiaries will be at variable rates of interest, which
will expose them to the risk of increased interest rates. The
ability of such subsidiaries to make scheduled payments of
the principal of or interest on, or to refinance, their
indebtedness will depend on their future cash flow, which is
subject to their respective assets, prevailing economic
conditions, prevailing interest rate levels, and financial,
competitive, business and other factors, many of which are
beyond their control.
Restrictions on Potential Growth
The payout by our operating companies of a significant
portion of their earnings available for distribution will make
additional capital and operating expenditures dependent
upon increased cash flow or additional financing in the future.
Lack of those funds could limit the future growth of our
operating companies and their cash flow.
Canadian Income Tax Matters
The income of the Company's operating companies must be
computed in accordance with applicable Canadian, U.S, or
foreign tax laws, and the Company is subject to Canadian tax
laws, all of which may be changed in a manner that could
adversely affect the amount of distributable cash.
United States Income Tax Matters
There can be no assurance that U.S. federal income tax laws
and administrative policies will not develop or be changed
in a manner that adversely affects our shareholders.
RELATED PARTY TRANSACTIONS
See Note 26 - Related Party Transactions to the consolidated
financial statements for the disclosure of key management
compensation.
CONTROLS AND PROCEDURES
Disclosure Controls and Procedures
The Chief Executive Officer and the Director of Finance (the
“Certifying Officers”), along with other members of
management, have designed, or caused to be designed under
their supervision, Disclosure Controls and Procedures
(“DC&P”) to provide reasonable assurance that (i) material
36
information relating to the Company is made known to them
by others, particularly during the period in which the annual
filings are being prepared; and (ii) information required to be
disclosed by the Company in its annual filings, interim filings
or other reports filed or submitted by it under securities
legislation is recorded, processed, summarized and reported
within the time periods specified in securities legislation.
Internal Control over Financial Reporting
The Certifying Officers, along with other members of
management, have also designed, or caused to be designed
under their supervision, Internal Control over Financial
Reporting (“ICFR”)
to provide reasonable assurance
regarding the reliability of financial reporting and the
preparation of financial statements for external purposes
prepared in accordance with IFRS. The Certifying Officers
have used the Internal Control - Integrated Framework ("1992
COSO Framework") issued by the Committee of Sponsoring
Organizations of the Treadway Commission (“COSO”) to
design the Company’s ICFR.
Evaluation of Design Effectiveness of Controls
The Certifying Officers have evaluated, or caused to be
evaluated under their supervision, the design effectiveness of
the Company’s DC&P and ICFR as at December 31, 2016
and have concluded that the Company’s DC&P and ICFR are
not effective due to the existence of Material Weaknesses as
described below. The control weaknesses listed below also
reflect a further weakness which related to the restatement of
the unaudited condensed interim consolidated financial
statements for the three months ended March 31, 2016. A
Material Weakness is defined as a deficiency, or a
combination of deficiencies, such that there is a reasonable
possibility that a material misstatement of the Company’s
annual or interim consolidated financial statements will not
be prevented or detected on a timely basis.
The following provides a description of Material Weaknesses
identified by the Certifying Officers and the risk mitigation
procedures that have been implemented in relation to such
weaknesses:
1) Segregation of Duties
Given the Company’s size, it has limited resources within the
finance department at head office to adequately segregate
duties and to permit or necessitate the comprehensive
documentation of all policies and procedures that form the
basis of an effective design of ICFR. The Company is reliant
on the knowledge of a limited number of employees and on
the performance of mitigating procedures during its financial
close process to ensure the consolidated financial statements
are presented fairly in all material respects. Management
FOR THE YEAR ENDED DECEMBER 31, 2016
believes the staffing level of Pawnee's finance department is
appropriate in the context of the scope of Pawnee’s
operations, and that the individuals comprising the members
of the Company’s management and Pawnee’s management
responsible for financial reporting are considered to have
appropriate proficiency and experience to effectively
perform their respective duties. However, the nature and size
of the Company’s operations are such that the duties are
performed by a small number of persons with limited
segregation of duties. In order to mitigate the risk of material
misstatement in the consolidated financial statements, the
Company has implemented additional review and monitoring
controls at head office on a monthly basis, and at Pawnee on
a quarterly basis. The Company has also engaged the services
of external resources to perform independent reviews of the
Company's financial close, consolidation and reporting
processes and schedules to create further segregation of
duties.
2) Information Technology Controls
Due to the relatively small size of the Company, the Company
has not been able to maintain effective controls over certain
key end user computing applications, such as spreadsheets,
used in the Company’s financial reporting process and
appropriate security controls to manage access to key
information. Controls pertaining to access profiles and
password protocols require revision to mitigate the risk of
inappropriate access to systems and applications. In addition,
improvements to exception reporting are required to ensure
any unauthorized modification of the data or formulas within
spreadsheets is identified and reported. It should be noted that
the foregoing weaknesses relate to the Company and its
systems. Pawnee’s systems are believed to be more
commensurate with the scope of its operations.
Given the above noted weaknesses, the Company has
performed additional analyses and other post-closing
procedures to ensure the consolidated financial statements
are prepared accurately and completely and the disclosed data
is in accordance with GAAP. Furthermore, through the use
of external resources to conduct independent reviews,
establishment of a sub–certification process and creation of
a Disclosure Committee, management has taken further steps
to ensure the integrity of the Company's disclosure
documents.
and prepares journal entries without any independent review.
Management feels the existing signing authorities and current
review of bank balances is sufficient to mitigate the risk.
Furthermore, management has engaged the service of
external resources to perform a complete review of the journal
entries on a quarterly basis thus reducing the risk of error and
fraud in the Company's financial close process at the
Corporate Office.
4) Accounting for the Sale of EcoHome
While finalizing the second quarter report in 2016, the
Company identified an understatement of taxes payable
related to the sale of EcoHome in the first quarter of 2016.
The effect of the restatement was a $2.1 million reduction in
the net gain on sale of EcoHome, which was included in
income from discontinued operations, and accounts payable
and other liabilities was increased by $2.1 million. The
restatement did not affect
income from continuing
operations.
During the first quarter of 2016, there was an unusually high
volume of activity within the Company's Corporate Finance
department due to the February 18, 2016 sale of EcoHome
and other year-end activities. This heightened activity level
diminished the Company's capabilities in the timely
completion of all control procedures related to the sale of
EcoHome during this period. Management also did not avail
itself of a timely comprehensive review by external advisers
and accounting and tax experts in analyzing the accounting
and tax implications of the sale of EcoHome. As a result, the
understatement of taxes payable related to the sale of
EcoHome was not detected on a timely basis. Accordingly,
management has concluded
timely
comprehensive review by external advisers for the EcoHome
transaction constituted a Material Weakness
the
application of proper controls around complex and non-
recurring transactions. The impact of this, which was limited
to non-recurring discontinued operations, provides for the
reasonable possibility that a material misstatement in the
annual or interim financial statements of the Company would
not be prevented or detected by the Company’s ICFR or its
DC&P in similar situations. The Company is undertaking a
review of the structure and capacity of its internal resources
as well as the timely utilization of external expertise in
accounting for unusual and complex transactions and plans
to remediate this deficiency in the future.
lack of a
that
in
3) Anti-Fraud Controls
Changes in ICFR
As a result of the lack of segregation of duties at the Company
level as described above, anti-fraud controls are limited.
While management found no evidence of fraudulent activity,
the Director of Finance has access to both accounting records
and corporate assets, principally the operating bank account,
37
During the three months ended December 31, 2016, there has
been no change in the Company’s ICFR that has materially
affected, or is reasonably likely to materially affect, the
Company’s ICFR.
FOR THE YEAR ENDED DECEMBER 31, 2016
With the oversight of the Audit and Governance Committee,
the Certifying Officers have commenced a comprehensive
Internal Control Program to address the remediation of
Material Weaknesses reported above. The Program is
managed by external advisers and among other items includes
the design and
implementation of specific policies,
procedures and controls to address the control weaknesses
discussed above and assist management in transitioning the
Company's internal control environment to the updated 2013
COSO Internal Control Framework.
Limitations of an Internal Control System
The Certifying Officers believe that any DC&P or ICFR, no
matter how well conceived and operated, can provide only
reasonable, not absolute, assurance that the objectives of the
control system are met. Further, the design of a control system
must reflect the fact that there are resource constraints, and
the benefits of controls must be considered relative to their
costs.
Because of the inherent limitations in all control systems,
they cannot provide absolute assurance that all control issues,
MARKET FOR SECURITIES
including instances of fraud, if any, within the Company have
been prevented or detected. These inherent limitations
items: (i) that management’s
include, amongst other
assumptions and judgments could ultimately prove to be
incorrect under varying conditions and circumstances;
(ii) breakdowns could occur because of undetected errors;
and (iii) controls may be circumvented by the unauthorized
acts of individuals, by collusion of two or more people, or by
management override. The design of any system of controls
is also based in part upon certain assumptions about the
likelihood of future events, and there can be no assurance that
any design will succeed in achieving its stated goals under
all potential (future) conditions.
Accordingly, because of the inherent limitations in a cost
effective control system, misstatements due to error or fraud
may occur and not be detected. Also, projections of any
evaluation of effectiveness to future periods are subject to the
risk that controls may become inadequate because of changes
in conditions, or that the degree of compliance with the
policies or procedures may deteriorate.
The Company's convertible debentures due December 31, 2018 are traded on the Toronto Stock Exchange under the symbol
CHW.DB. The following table summarizes the high and low sales prices of the debentures and the average daily trading volume
for each month in the year ended December 31, 2016.
Convertible debentures - 2016
January
February
March
April
May
June
July
August
September
October
November
December
38
High
$101.00
$99.89
$100.01
$100.49
$102.48
$102.10
$102.00
$102.01
$103.50
$102.01
$105.00
$101.31
Low
$97.50
$95.49
$96.50
$98.01
$99.40
$100.50
$100.00
$100.61
$101.00
$102.00
$101.00
$101.00
$105.00
$95.49
Average Daily
Volume
9,725
13,750
19,364
48,024
27,000
6,386
14,650
15,682
10,857
3,050
9,682
900
12,624
FOR THE YEAR ENDED DECEMBER 31, 2016
The common shares are traded on the Toronto Stock Exchange under the symbol CHW. The following table summarizes the high
and low sales prices of the common shares and the average daily trading volume for each month in the year ended December 31,
2016.
Common shares - 2016
January
February
March
April
May
June
July
August
September
October
November
December
High
$10.30
$10.89
$10.69
$10.98
$10.76
$10.76
$10.70
$11.80
$12.71
$12.58
$12.50
$12.05
$12.71
Low
$8.80
$9.27
$9.52
$10.11
$9.91
$9.60
$9.80
$9.96
$10.97
$11.02
$10.90
$11.20
$8.80
Average Daily
Volume
9,601
12,867
11,411
30,114
18,714
15,978
17,128
40,043
19,683
15,144
29,424
13,829
17,740
39
MANAGEMENT’S RESPONSIBILITY FOR FINANCIAL REPORTING
The accompanying consolidated financial statements of Chesswood Group Limited and all of the information in this Annual Report are the
responsibility of Management and have been approved by the Board of Directors.
The consolidated financial statements have been prepared by Management in accordance with International Financial Reporting Standards
("IFRS"). These statements include some amounts that are based on best estimates and judgment. Management has determined such amounts
on a reasonable basis in order to ensure that the consolidated financial statements are presented fairly, in all material respects. Financial information
used elsewhere in the Annual Report is consistent with that in the consolidated financial statements. The MD&A also includes information
regarding the impact of current transactions and events, sources of liquidity and capital resources, operating trends, risks and uncertainties. Actual
results in the future may differ materially from our present assessment of this information because future events and circumstances may not
occur as expected.
The Board of Directors is responsible for ensuring that Management fulfills its responsibilities for financial reporting and is ultimately responsible
for approving the consolidated financial statements. The Board carries out this responsibility principally through its Audit and Governance
Committee.
The Chief Executive Officer and the Director of Finance (the “Certifying Officers”), along with other members of management, have designed,
or caused to be designed under their supervision, Disclosure Controls and Procedures (“DC&P”) to provide reasonable assurance that (i) material
information relating to the the Company is made known to them by others, particularly during the period in which the annual filings are being
prepared; and (ii) information required to be disclosed by the Company in its annual filings, interim filings or other reports filed or submitted
by it under securities legislation is recorded, processed, summarized and reported within the time periods specified in securities legislation.
The Certifying Officers, along with other members of management, have also designed, or caused to be designed under their supervision, Internal
Control over Financial Reporting (“ICFR”) to provide reasonable assurance regarding the reliability of financial reporting and the preparation
of financial statements for external purposes prepared in accordance with IFRS. The Certifying Officers have used the Internal Control - Integrated
Framework (“1992 COSO Framework”) issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) to
design the Company’s ICFR.
As more fully detailed in the accompanying MD&A, the Certifying Officers have evaluated, or caused to be evaluated under their supervision,
the design effectiveness of the Company’s DC&P and ICFR as at December 31, 2016 and have concluded that the Company’s DC&P and ICFR
are not effective due to the existence of Material Weaknesses. Given the relatively small size of the Company’s finance department personnel
at head office, the evaluation concluded that (i) there were limited resources to adequately segregate duties and to permit or necessitate the
comprehensive documentation of all policies and procedures that form the basis of an effective design of ICFR at head office; (ii) the Company
(at its head office) had not maintained effective controls over certain key end-user computing applications, such as spreadsheets, and appropriate
security controls to manage access to key information, systems and applications, and that improvement to exception reports were required; (iii)
as a result of the lack of segregation of duties as referred to above, the anti-fraud controls are limited; and (iv) there was a lack of timely and
comprehensive review of complex and non–recurring transactions by external advisors resulting in the restatement of the Company's consolidated
financial statements for the first quarter of 2016.
In order to mitigate the risk of material misstatement in the Company’s consolidated financial statements, the Company (i) has established
additional review and monitoring controls at head office on a monthly basis; and (ii) performs additional analysis and other post-closing procedures.
No material exceptions were noted based on the year-end procedures and no evidence of fraudulent activity was found. The Company has also
established procedures for the timely utilization of external expertise in accounting for unusual and complex transaction.
The Audit and Governance Committee is appointed by the Board and is comprised of independent Directors. The committee meets periodically
with Management and the independent external auditors, to discuss disclosure controls and internal controls over the financial reporting process,
auditing matters and financial reporting issues to satisfy itself that each party is properly discharging its responsibilities. The Audit and Governance
Committee reviews the Company’s annual consolidated financial statements, the external auditors’ report and other information in the Annual
Report. The committee reports its findings to the Board for consideration by the Board when it approves the consolidated financial statements
for issuance to the shareholders.
The consolidated financial statements have been audited by BDO Canada LLP, the independent external auditors, in accordance with Canadian
generally accepted auditing standards on behalf of the Shareholders. The Independent Auditor's Report outlines the nature of their examination
and their opinion on the consolidated financial statements. BDO Canada LLP has full and unrestricted access to the Audit and Governance
Committee to discuss their audit and related findings as to the integrity of the financial reporting.
Barry Shafran
President & CEO
March 2, 2017
40
Independent Auditor’s Report
To the Shareholders of
Chesswood Group Limited
We have audited the accompanying consolidated financial statements of Chesswood Group Limited, which comprise the
consolidated statements of financial position as at December 31, 2016 and December 31, 2015, and the consolidated statements
of income, comprehensive income, changes in equity and cash flows for the years ended December 31, 2016 and December 31,
2015, and a summary of significant accounting policies and other explanatory information.
Management's Responsibility for the Consolidated Financial Statements
Management is responsible for the preparation and fair presentation of these consolidated financial statements in accordance
with International Financial Reporting Standards and for such internal control as management determines is necessary to enable
the preparation of consolidated financial statements that are free from material misstatement, whether due to fraud or error.
Auditor’s Responsibility
Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our
audits in accordance with Canadian generally accepted auditing standards. Those standards require that we comply with ethical
requirements and plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements
are free from material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the consolidated financial
statements. The procedures selected depend on the auditor's judgment, including the assessment of the risks of material
misstatement of the consolidated financial statements, whether due to fraud or error. In making those risk assessments, the auditor
considers internal control relevant to the entity's preparation and fair presentation of the consolidated financial statements in
order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on
the effectiveness of the entity's internal control. An audit also includes evaluating the appropriateness of accounting policies used
and the reasonableness of accounting estimates made by management, as well as evaluating the overall presentation of the
consolidated financial statements.
We believe that the audit evidence we have obtained in our audits is sufficient and appropriate to provide a basis for our audit
opinion.
Opinion
In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of Chesswood
Group Limited as at December 31, 2016 and December 31, 2015, and its financial performance and its cash flows for the years
ended December 31, 2016 and December 31, 2015 in accordance with International Financial Reporting Standards.
Chartered Professional Accountants, Licensed Public Accountants
March 2, 2017
Toronto, Ontario
41
CHESSWOOD GROUP LIMITED
CONSOLIDATED STATEMENTS OF FINANCIAL POSITION
(in thousands of dollars)
December 31,
December 31,
Note
2016
2015
11,443
5,903
14,468
431,048
962
1,434
21,873
40,806
527,937
15,243
—
20,260
293,081
13,603
850
27,006
370,043
104,596
13,049
4,780
18,196
17,273
157,894
527,937
$
$
$
$
15,229
107,840
10,261
365,559
1,141
895
23,335
41,250
565,510
18,772
73,808
19,900
255,173
13,895
892
26,515
408,955
101,726
13,194
4,434
20,987
16,214
156,555
565,510
ASSETS
Cash
Assets held for sale
Prepaid expenses and other assets
Finance receivables
Deferred tax assets
Property and equipment
Intangible assets
Goodwill
TOTAL ASSETS
LIABILITIES
Accounts payable and other liabilities
Liabilities held for sale
Convertible debentures
Borrowings
Customer security deposits
Interest rate swaps
Deferred tax liabilities
SHAREHOLDERS' EQUITY
Common shares
Non-controlling interest
Share-based compensation reserve
Accumulated other comprehensive income
Retained earnings
$
$
$
4
7
8
17
9
10
11
12
4
13
14
15
16
17
21
22
23
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY
$
Approved by the Board of Directors
Fred Steiner, Chairman
Clare R Copeland
Please see notes to the consolidated financial statements.
42
CHESSWOOD GROUP LIMITED
CONSOLIDATED STATEMENTS OF INCOME
FOR THE YEARS ENDED DECEMBER 31, 2016 AND 2015
(in thousands of dollars, except per share amounts)
Note
2016
2015
Finance revenue
Interest revenue on finance leases and loans
Ancillary finance and other fee income
Finance expenses
Interest expense - borrowings
Provision for credit losses
Finance margin
Expenses
Personnel expenses
Other expenses
Amortization - property and equipment
Income before undernoted items
Acquisition related items
Amortization - intangible assets
Unrealized gain on investments held
Financing costs - convertible debentures
Unrealized gain (loss) on interest rate swaps
Unrealized gain (loss) on foreign exchange
Income before taxes
Tax expense
Income from continuing operations
Income from discontinued operations
Net income
Attributable to:
Common shareholders
Non-controlling interest
Basic earnings per share
Diluted earnings per share
$
77,465
$
14,118
91,583
9,824
25,819
35,643
55,940
13,931
11,387
312
25,630
30,310
678
(1,337)
3
(1,660)
15
111
28,120
(10,803)
17,317
6,961
$
$
$
$
$
24,278
$
22,265
2,013
1.36
1.33
$
$
$
$
8
3
10
7
13
16
17
4
25
25
66,649
9,928
76,577
7,763
18,929
26,692
49,885
11,671
9,177
253
21,101
28,784
(1,955)
(1,180)
—
(602)
(846)
(57)
24,144
(11,781)
12,363
7,441
19,804
18,038
1,766
1.19
1.16
Please see notes to the consolidated financial statements.
43
CHESSWOOD GROUP LIMITED
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
FOR THE YEARS ENDED DECEMBER 31, 2016 AND 2015
(in thousands of dollars)
Net income
Other comprehensive income:
Unrealized gain (loss) on translation of foreign operations
Comprehensive income
Attributable to:
Common shareholders
Non-controlling interest
2016
2015
24,278
$
19,804
(3,042)
21,236
$
19,474
1,762
$
$
16,352
36,156
32,932
3,224
$
$
$
$
Please see notes to the consolidated financial statements.
44
CHESSWOOD GROUP LIMITED
CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2016 AND 2015
(in thousands of dollars)
Note
Common
shares
Common
shares
(# '000s)
Non-
controlling
interest
Share-based
compensation
reserve
Accumulated
other
comprehensive
income
Retained
earnings
2016 Total
Shareholders' equity -
December 31, 2015
Shares issued
Net income
Dividends declared
Share-based compensation
Exercise of restricted share units
Exercise of options
Repurchase of common shares
under issuer bid
21
24
23
23
23
21
Unrealized loss on translation of foreign
operations
Shareholders' equity -
December 31, 2016
16,264 $ 101,726 $
13,194 $
4,434 $
20,987 $ 16,214 $ 156,555
10
—
—
—
38
236
(34)
—
100
—
—
—
466
2,520
(216)
—
2,013
(1,907)
—
—
—
—
—
(251)
—
—
—
1,372
(466)
(560)
—
—
—
—
—
22,265
— (21,056)
—
—
—
—
—
—
—
100
24,278
(22,963)
1,372
—
1,960
(150)
(366)
(2,791)
—
(3,042)
16,514 $ 104,596 $
13,049 $
4,780 $
18,196 $ 17,273 $ 157,894
Note
Common
shares
Common
shares
Non-controlling
interest
(# '000s)
Share-based
compensation
reserve
Accumulated
other
comprehensive
income
Retained
earnings
2015 Total
Shareholders' equity -
December 31, 2014
Shares issued
Net income
Dividends declared
Share-based compensation
Exercise of restricted share units
Exercise of options
21
24
23
23
23
Unrealized gain on translation of foreign
operations
Shareholders' equity -
December 31, 2015
10,420 $
49,039 $
11,124 $
3,504 $
6,092 $ 10,085 $
5,734
51,559
—
—
38
72
—
—
—
535
593
—
—
1,766
(1,153)
—
—
—
—
—
—
1,659
(535)
(194)
1,457
—
14,895
—
—
—
18,038
— (11,909)
—
—
—
—
—
—
—
79,844
51,559
19,804
(13,062)
1,659
—
399
16,352
16,264 $ 101,726 $
13,194 $
4,434 $
20,987 $ 16,214 $ 156,555
Please see notes to the consolidated financial statements.
45
CHESSWOOD GROUP LIMITED
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2016 AND 2015
(in thousands of dollars)
Note
2016
2015
OPERATING ACTIVITIES
Income from continuing operations
Costs associated with investing activities included in net income
$
$
17,317
—
17,317
Non-cash items included in net income
Amortization
Provision for credit losses
Amortization of origination costs
Tax expense
Other non-cash items
Cash from operating activities before change in net operating assets
Funds advanced on origination of finance receivables
Origination costs paid on finance receivables
Principal collections of finance receivables
Change in other net operating assets
Cash used in operating activities before undernoted
Interest paid on convertible debentures
Income taxes paid - net
Cash used in operating activities - continuing operations
Cash used in operating activities - discontinued operations
Cash used in operating activities
INVESTING ACTIVITIES
Acquisition, net of cash acquired
Proceeds from sale of discontinued operations, net of costs
Purchase of property and equipment
Cash from (used in) investing activities - continuing operations
Cash used in investing activities - discontinued operations
Cash from (used in) investing activities
FINANCING ACTIVITIES
Borrowings, net
Payment of financing costs
Proceeds from issue of shares, net of costs
Proceeds from exercise of options
Repurchase of common shares under issuer bid
Cash dividends paid
Cash from financing activities - continuing operations
Cash from (used in) financing activities - discontinued operations
Cash from financing activities
Unrealized foreign exchange gain (loss) on cash
Net increase (decrease) in cash
Cash, beginning of the year
Cash, end of the year
Cash held by discontinued operations
Cash held by continuing operations
27
27
13
4
3
4
9
4
27
21
23
21
24
4
4
$
1,649
31,981
19,400
10,803
2,689
66,522
83,839
(294,253)
(28,601)
199,162
2,305
(37,548)
(1,300)
(5,372)
(44,220)
(2,600)
(46,820)
(6,000)
30,964
(844)
24,120
—
24,120
42,910
(1,411)
—
1,960
(366)
(22,857)
20,236
(1,703)
18,533
(310)
(4,477)
15,920
11,443
—
11,443
$
Please see notes to the consolidated financial statements.
46
12,363
1,013
13,376
1,433
23,505
16,718
11,781
4,769
58,206
71,582
(239,191)
(25,539)
164,549
(1,416)
(30,015)
(1,300)
(18,433)
(49,748)
(7,214)
(56,962)
(41,349)
18,133
(254)
(23,470)
(73)
(23,543)
50,271
(818)
33,807
399
—
(12,682)
70,977
13,762
84,739
1,466
5,700
10,220
15,920
691
15,229
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
TABLE OF NOTES
1 NATURE OF BUSINESS AND BASIS OF PREPARATION
2 ACCOUNTING STANDARDS ISSUED BUT NOT YET EFFECTIVE
3 BUSINESS ACQUISITIONS
4 DISCONTINUED OPERATIONS
5 FINANCIAL INSTRUMENTS
6 FINANCIAL RISK MANAGEMENT
7 PREPAID EXPENSES AND OTHER ASSETS
8 FINANCE RECEIVABLES
9 PROPERTY AND EQUIPMENT
10 INTANGIBLE ASSETS
11 GOODWILL
12 ACCOUNTS PAYABLE AND OTHER LIABILITIES
13 CONVERTIBLE DEBENTURES
14 BORROWINGS
15 CUSTOMER SECURITY DEPOSITS
16 INTEREST RATE SWAPS
17 TAXES
18 MINIMUM PAYMENTS
19 CONTINGENT LIABILITIES AND OTHER FINANCIAL COMMITMENTS
20 CAPITAL MANAGEMENT
21 COMMON SHARES
22 EXCHANGEABLE SECURITIES
23 COMPENSATION PLANS
24 DIVIDENDS
25 EARNINGS PER SHARE
26 RELATED PARTY TRANSACTIONS
27 CASH FLOW SUPPLEMENTARY DISCLOSURE
28 SEGMENT INFORMATION
47
48
50
50
52
58
62
64
65
68
70
71
73
74
74
75
75
76
79
79
79
80
81
81
84
86
87
88
89
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
1. NATURE OF BUSINESS AND BASIS OF PREPARATION
Chesswood Group Limited (the “Company”) is incorporated under the laws of the Province of Ontario. The Company’s head office
is located at 156 Duncan Mill Road, Unit 15, Toronto, Ontario, M3B 3N2, and its shares trade on the Toronto Stock Exchange
under the symbol CHW.
The Company holds a 100% interest in Chesswood Holdings Ltd. and substantially all of the limited partnership units of Sherway
LP (“Sherway”). Chesswood Holdings Ltd. owns 100% of the shares of the operating companies: Blue Chip Leasing Corporation
("Blue Chip"), Lease-Win Limited, Case Funding Inc. ("Case Funding"), as well as 100% of the shares of Chesswood U.S.
Acquisition Co Ltd. (“U.S. Acquisitionco”), a corporation which owns 100% of the shares of the operating company Pawnee
Leasing Corporation (“Pawnee”), incorporated in Colorado, United States, and Windset Capital Corporation ("Windset"),
incorporated in Delaware, United States. At December 31, 2016, Chesswood Holding LP ("Holdings LP") was dissolved and the
Company now holds Chesswood Holdings Ltd. directly.
Through its interests in its subsidiaries, the Company operates in the following businesses:
•
Pawnee - micro and small-ticket equipment financing to small and medium-sized businesses in the lower 48 states of the
United States.
• Windset - provided working capital loans to small businesses in 33 states of the United States.
• Blue Chip - commercial equipment financing to small and medium businesses in Canada.
Discontinued operations results include:
• EcoHome Financial Inc. ("EcoHome") - consumer financing solutions to the heating ventilating and air conditioning
("HVAC") and home improvement markets which was sold in February 2016.
Sherway - selling, servicing and leasing Acura automobiles in the Province of Ontario which was sold in November 2015.
•
• Case Funding - holds a portfolio of legal finance receivables in the United States.
The consolidated financial statements, including comparatives:
•
•
•
•
have been prepared in accordance with International Financial Reporting Standards ("IFRS"), as issued by the International
Accounting Standards Board (“IASB”). The term IFRS also includes all International Accounting Standards (“IAS”) and
all interpretations of the International Financial Reporting Interpretations Committee (“IFRIC”).
have been prepared on the going concern and historical cost bases, except for derivative financial instruments and hybrid
financial liabilities designated as at fair value through net income or loss, which have been measured at fair value.
include the financial statements of the Company and its subsidiaries as noted above. Subsidiaries are consolidated using
the purchase method from the date of acquisition, being the date on which the Company obtains control, and continue to
be consolidated as long as control is held. The financial statements of all subsidiaries are prepared for the same reporting
period as the Company, using uniform accounting policies in accordance with IFRS 10, Consolidated Financial Statements.
All intra-group balances and items of income and expense resulting from intra-group transactions are eliminated in full.
Transaction costs in connection with business combinations are expensed as incurred.
have been presented in Canadian dollars and are presented in thousands of Canadian dollars except per share amounts
and as otherwise noted.
In order to improve clarity, certain items have been combined on the statements of financial position with detail provided separately
in the Notes and certain of the comparative figures have been reclassified to conform to the presentation adopted in the current
year's consolidated financial statements.
The Company’s consolidated financial statements were authorized for issue on March 2, 2017 by the Board of Directors.
The notes to the consolidated financial statements include information which is required to understand the consolidated financial
statements and is material and relevant to the operations, consolidated financial position and performance of the Company.
Significant and other accounting policies that summarize the measurement basis used and are relevant to an understanding of the
consolidated financial statements are provided throughout the notes to the consolidated financial statements.
Foreign currency transactions
The financial statements of consolidated entities which are prepared in a foreign currency are translated using the functional
currency concept of IAS 21, The Effects of Changes in Foreign Exchange Rates. The functional currency of a subsidiary is
determined on the basis of the primary economic environment in which it operates and typically corresponds to the local currency.
48
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
The functional currency of the Company, Holding LP, Chesswood Holdings Ltd., Blue Chip, EcoHome, Sherway, and Lease-Win
Limited is the Canadian dollar. The functional currency of U.S. Acquisitionco, Pawnee, Windset and Case Funding is the United
States dollar.
Income and expenses of subsidiaries with a different functional currency than the Company’s presentation currency are translated
in the Company’s consolidated financial statements at the average U.S. dollar exchange rate for the reporting period [for the year
ended December 31, 2016 - 1.3248; 2015 - 1.2787], and assets and liabilities are translated at the closing rate [as at December 31,
2016 - 1.3427; 2015 - 1.384]. Exchange differences arising from the translation are recognized in other comprehensive income.
Foreign currency payables and receivables in the statement of financial position are recorded at the transaction date at cost. Exchange
gains and losses arising from conversion of monetary assets and liabilities at exchange rates at the end of the reporting period are
recognized as income or expense.
Statement of cash flows
The statement of cash flows, which is compiled using the indirect method, shows cash flows from operating, investing and financing
activities, and the Company’s cash at the beginning and end of the year. Cash flows in foreign currencies have been translated at
the average rate for the period. Exchange rate differences affecting cash items are presented separately in the statement of cash
flows.
Cash flow from operating activities comprises net income adjusted for non-cash items, changes in working capital and operational
net assets. Receipts and payments with respect to tax are included in cash from operating activities. The Company considers
vehicle financing as a short-term operational liability and the change is shown in cash flows from operating activities.
Cash flow from investing activities comprises payments relating to business acquisitions and property and equipment.
Cash flow from financing activities comprises payment of dividends, net proceeds from borrowings, proceeds from convertible
debentures and stock issues, and the purchase and sale of treasury stock.
Exercise of judgment and use of accounting estimates and assumptions
The preparation of the Company’s consolidated financial statements in accordance with IFRS requires management to apply a
significant degree of judgment in applying the Company’s financial accounting policies and to make certain assumptions and
estimates that have a material effect on the reported amounts of assets, liabilities, revenue and expenses.
The assumptions and estimates are based on premises that reflect the facts that are known at any given time. Future economic
factors are inherently difficult to predict and are beyond management’s control. If the actual development differs from the
assumptions and estimates, the premises used and, if necessary, the carrying amounts for the assets and liabilities in question are
adjusted accordingly. The exercise of judgment is based on management’s experience and also on past history. As a result, actual
amounts could differ from these estimates.
The fair value of interest rate derivatives, certain assets acquired and consideration paid in business acquisitions, contingent
consideration, and available for sale financial assets are estimated using valuation techniques based on assumptions of, for example,
estimated future cash flows, future interest rate movements, the probability of success of legal claims and the timing of collections.
The estimated fair values are sensitive to changes in these assumptions.
There were no significant changes in estimates made in the interim periods that have been adjusted in the final quarter.
Information about critical judgments in applying accounting policies that have the most significant effect on the amounts recognized
in the consolidated financial statements are presented in the following Notes: Legal finance receivables - Note 4(d) and Net
investment in leases - Note 8, and Taxes - Note 17.
Information about assumptions and estimation uncertainties that have a significant risk of resulting in a material adjustment within
the next financial year are presented in the following Notes: Contingent Consideration - Note 3, Impairment of financial asset
receivables - Note 8, Impairment of Intangibles and Goodwill - Note 10 and Note 11, and Taxes - Note 17.
49
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
2. ACCOUNTING STANDARDS ISSUED BUT NOT YET EFFECTIVE
IFRS 9 Financial Instruments
The IASB issued the final complete standard during 2014. The Company plans to adopt the standard for the year ending December
31, 2018.
IFRS 9 uses a single principles-based approach to determine the classification and measurement of financial assets (either fair
value or amortized cost) based on the entity’s business model and the nature of the contractual cash flows derived from the asset.
The new standard introduces an expected loss impairment model for all financial instruments except those measured at fair value
through profit and loss. Application of the model will depend on what stage a financial asset is at. A 12-month expected credit loss
is recognized through a loss allowance on initial recognition of a financial asset. If credit risk subsequently increases significantly
above the risk assessed at recognition, a loss is recognized for the lifetime expected loss. Finally, if a financial asset is considered
credit impaired, then interest revenue is based on the net carrying amount of the asset instead of its gross carrying amount.
The standard requires an entity choosing to measure a liability at fair value to present the portion of the change in its fair value
due to changes in the entity’s own credit risk in the other comprehensive income or loss section of the entity’s statement of
comprehensive income, rather than within profit or loss. IFRS 9 includes revised guidance related to de-recognition of financial
instruments.
The Company believes that adoption of a model that includes a 12-month expected credit loss recognized on initial recognition
of a finance receivable will result in an increase in the allowance for doubtful accounts and an increase in the provision for credit
losses at each reporting period. The exact amount of the impact will depend on loss rates closer to adoption.
IFRS 15 Revenue from Contracts with Customers
The standard establishes principles for recognizing revenues based on a five-step model which is to be applied to all contracts with
customers. Revenue arising from lease contracts accounted for under IAS 17 is outside of the scope of the new standard. The
Company plans to adopt the new standard for the year ending December 31, 2018. Management is currently assessing the impact
that adoption will have on the ancillary finance and other fee revenue.
IFRS 16 Leases
IFRS 16 replaces IAS 17 and is effective for periods beginning on or after 1 January 2019. IFRS 16’s approach to lessor accounting
is substantially unchanged from its predecessor, IAS 17. The standard provides a single lessee accounting model, requiring lessees
to recognize assets and liabilities for all leases unless the lease term is 12 months or less or the underlying asset has a low value.
The Company plans to adopt the standard for the year ending December 31, 2019.
The Company does not expect any significant or substantive changes to the Company's finance receivables. The Company will
be required to recognize new assets and liabilities for its operating leases of its office premises at the Pawnee and Blue Chip
locations. In addition, the nature of expenses related to those leases will now change from straight-line operating lease expense
to a depreciation charge for right-of-use assets and interest expense on the lease liabilities. The expected amount for the new asset
and liabilities would be the net present value amount of the commitments shown in Note 18 - Minimum Payments.
3. BUSINESS ACQUISITION
Blue Chip Leasing Corporation and EcoHome Financial Inc.
On March 17, 2015 (the "Acquisition Date"), the Company acquired (the "Acquisition") all of the issued and outstanding shares
in, and certain shareholder loans, of Blue Chip and EcoHome (the "Acquired Companies"). Each of the Acquired Companies is
incorporated in Ontario. Blue Chip is a tenured, prime, small and mid-ticket equipment finance company serving brokers and
vendors from coast-to-coast in Canada. EcoHome provides financing solutions to the HVAC and home improvement markets.
The Acquisition enabled the Company to expand the geographical coverage of its North American small ticket platform.
50
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
The purchase price to acquire Blue Chip and EcoHome (and shareholder loans) was $61.1 million, with the possibility of additional
consideration totaling $26.0 million if performance targets are exceeded for the three years following the Acquisition ("Contingent
Consideration"). The purchase price for the Acquisition was satisfied through a combination of $44.6 million of cash and the
issuance of 1,806,384 Company common shares to the vendor. The vendor's shares are subject to an escrow agreement that provides
for, amongst other things, a staged release of these shares from escrow over a three year period. For valuation purposes, the
discount on these restricted shares was calculated based on the theoretical price of a put option on the shares with an expiry date
equal to the trading restriction period. A value of approximately $9.14 per common share was calculated.
The Acquisition was recorded using the acquisition method of accounting. Under this method, the identifiable assets acquired and
the liabilities assumed were measured and recognized at their Acquisition Date fair values. Any excess of the Acquisition Date
fair value of the consideration over the net of the Acquisition Date fair values of the identifiable assets acquired and the liabilities
assumed was recognized as goodwill (Note 11 - Goodwill). Acquisition costs associated with a business combination are expensed
in the period incurred. The results of operations have been consolidated from the Acquisition Date.
In conjunction with the Acquisition, 175,000 equity options were issued to certain senior management of the Acquired Companies,
as described in Note 23 - Compensation Plans.
Included in the consolidated statement of income are revenue of $10.1 million and net income of $2.1 million related to the Acquired
Companies for the period March 18, 2015 to December 31, 2015 (excluding EcoHome results which were reclassified to
discontinued operations). Transaction costs of $897,000 and accretion of the Contingent Consideration of $1.1 million were
expensed during the period and are included in Acquisition related items. An additional $30,000 of transaction costs were expensed
during the year ended December 31, 2014.
Goodwill recorded in connection with the Acquisition is primarily attributable to the economic value associated with the workforce
of the acquired business, the expected profitability of the acquired business, the expected synergies and other intangible assets that
do not qualify for separate recognition. None of the goodwill is expected to be deductible for tax purposes.
Contingent Consideration - Additional Purchase Price
As a result of the sale of EcoHome (see Note 4 - Discontinued operations) in February 2016, the $6.0 million contingent consideration
associated with the Acquired Companies' normalized net income before taxes ("NIBT") for 2015 and 2016 became payable within
10 days of the sale of EcoHome. It was determined that the reclassification of EcoHome to discontinued operations and the fact
that the 2016 amount was quantifiable crystalized the recognition of the 2016 Contingent Consideration at December 31, 2015.
As a result of the sale of EcoHome, the vendor and Chesswood modified the amount of NIBT and the maximum amount of
Contingent Consideration to be paid with respect to the twelve months ending December 31, 2017. The Company is required to
pay to the vendor an amount equal to the aggregate amount determined in accordance with the following formula, up to a maximum
of $12.0 million (the previous maximum was $20.0 million): (NIBT for the twelve months ending December 31, 2017 less $6.8
million) x 10 x 0.25.
Chesswood may satisfy up to 50% of any Contingent Consideration payable with respect to the twelve months ending December
31, 2017 through the issuance of Company common shares, at a deemed issue price per share equal to the ten day volume weighted
average trading price of the Company common shares preceding the issue date, if certain conditions are met.
Significant estimates
At the Acquisition Date, management estimated the amount that is potentially payable at $6.2 million. The estimate of fair value
of Contingent Consideration requires subjective assumptions to be made of various potential operating scenarios and discount
rates. The accretion or reduction in Contingent Consideration payable flows through profit and loss and is included in Acquisition
related items. The Company reviews the valuation each quarter and updates the assessment of various probability weighted
projected NIBT scenarios. If circumstances change, such future revisions may materially change the estimate of the fair value of
Contingent Consideration and therefore materially affect the Company’s future financial results.
The Company engaged an independent valuation firm to assist in determining the fair values of the assets acquired, liabilities and
provision assumed, and related deferred income tax impacts and the fair value of the Contingent Consideration payable. The
allocation of the purchase price was completed during the final quarter of 2015. The material adjustments arising included: the
51
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
separate recognition of the broker network and trade name intangible assets, with a reduction in the carrying amount of goodwill,
and the adjustment of the fair value of the vendor-take-back shares subject to escrow. The resulting purchase price allocation to
the fair value of assets acquired and liabilities assumed was as follows:
As at March 17, 2015
Cash
Net investment in leases and loans
Prepaid expenses and other assets
Trade names
Billing systems
Broker relationships
Non-competition agreements
Goodwill
Total assets
Accounts payable and other liabilities
Borrowings
Deferred tax liabilities
Total liabilities
Net assets acquired
Consideration
Cash
Common shares
Contingent consideration
Blue Chip
EcoHome
($ thousands)
Total
$
2,614 $
1,490 $
83,537
54,585
564
288
—
14,811
1,309
22,176
125,299
1,736
73,145
6,789
81,670
498
262
1,723
10,311
690
14,129
83,688
2,056
55,686
2,341
60,083
4,104
138,122
1,062
550
1,723
25,122
1,999
36,305
208,987
3,792
128,831
9,130
141,753
$
43,629 $
23,605 $
67,234
$
$
44,556
16,518
6,160
67,234
4. DISCONTINUED OPERATIONS
In the fourth quarter of 2015, the Company made a strategic decision to focus on the growth and development of the Company's
specialty finance companies, in particular, commercial equipment finance. This led to the decisions to sell the assets of Sherway
in November 2015, the sale of EcoHome in February 2016 and the potential sale of the remainder of Case Funding including the
remaining legal finance receivables. It was determined that these disposals met the criteria of discontinued operations at December
31, 2016 and 2015. The comparative figures on the consolidated statements of income and cash flows have been reclassified as
if the operations had been discontinued from the start of the comparative year.
(a) Assets and liabilities that are classified as held-for-sale are as follows:
Held-for-sale
($ thousands)
Finance receivables
Assets held for sale
Accounts payable and other liabilities
Liabilities held for sale
$
$
$
$
52
Sherway
(c)
Case Funding
(d)
EcoHome
(e)
December 31,
2016
— $
— $
— $
— $
5,903 $
5,903 $
— $
— $
— $
— $
— $
— $
5,903
5,903
—
—
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
Held-for-sale
($ thousands)
Cash
Accounts receivable
Prepaid expenses and other assets
Finance receivables
Intangible assets
Goodwill
Assets held for sale
Accounts payable and other liabilities
Borrowings
Deferred taxes liabilities
Liabilities held for sale
Sherway
(c)
Case Funding
(d)
EcoHome
(e)
December 31,
2015
$
$
$
$
— $
7
5
—
—
—
12 $
37 $
—
—
37 $
— $
—
—
10,590
—
—
10,590 $
3,247 $
—
—
3,247 $
691 $
—
669
69,412
12,337
14,129
97,238 $
1,898 $
66,065
2,561
70,524 $
691
7
674
80,002
12,337
14,129
107,840
5,182
66,065
2,561
73,808
No impairment loss was recognized on reclassification as held-for-sale at December 31, 2016 and 2015, as the fair value less costs
to sell was higher than the carrying amount.
Categories and measurement hierarchy
All financial instruments are categorized in accordance with IAS 39, Financial Instruments: Recognition and Measurement and
those that are measured at fair value or for which fair value is disclosed are categorized into one of three hierarchy levels for
disclosure purposes. The categories and hierarchies are described in Note 5 - Financial Instruments.
The fair values of financial instruments are classified using the IFRS 7, Financial Instruments: Disclosures measurement hierarchy
as follows:
($ thousands)
ASSETS HELD FOR SALE
Attorney loans and medical liens (i)
Plaintiff advances (Note 4(d))
($ thousands)
ASSETS HELD FOR SALE
Cash (iii)
Accounts receivables (iii)
Loan receivables (i)
Attorney loans and medical liens (i)
Plaintiff advances (Note 4(d))
LIABILITIES HELD FOR SALE
Accounts payable (iii)
Borrowings (ii)
Category
Level 1
Level 2
Level 3
Carrying Value
December 31, 2016
$
$
L&R
AFS
Category
L&R
L&R
L&R
L&R
AFS
L&B
L&B
— $
—
136 $
—
— $
5,767
136
5,767
Level 1
Level 2
Level 3
Carrying Value
December 31, 2015
691 $
7
—
—
—
—
—
— $
—
23,947
3,559
—
(5,182)
(66,065)
— $
—
—
—
7,031
—
—
691
7
23,947
3,559
7,031
(5,182)
(66,065)
(i) There is no organized market for the finance receivables. Therefore the carrying value is the amortized cost using the effective interest rate method. The
contractual interest rates approximate current market rates.
(ii) The stated value of the borrowings approximates fair values, as the interest rates attached to these instruments are representative of current market rates, for
loans with similar terms, conditions and maturities.
(iii) Carrying amounts are expected to be reasonable approximations of fair value for cash and for financial instruments with short maturities, including accounts
receivable and accounts payable.
53
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
(b) Results from discontinued operations
($ thousands, except per share amounts)
Sherway
Case Funding
EcoHome
Total
For the year ended December 31, 2016
1,708
85
(481)
(367)
945
181
148
275
341
6,663
7,004
(43)
6,961
0.39
0.38
(2,600)
—
(1,703)
Interest revenue on leases and loans
Ancillary finance and other fee income
Interest expense
Provision for credit losses
Finance margin
Personnel expenses
Share-based compensation expense
Other expenses
Income before undernoted items
Gain on sale, net of costs and taxes
Income before taxes
Tax expense
(c)
(d)
(e)
$
— $
759 $
949
$
—
—
—
—
—
—
—
—
—
—
—
—
—
(359)
400
—
—
124
276
—
276
—
85
(481)
(8)
545
181
148
151
65
6,663
6,728
(43)
Income from discontinued operation
$
— $
276 $
6,685
$
$
$
Basic earnings per share from discontinued operations
Diluted earnings per share from discontinued operations
Cash flow from discontinued operations
Net cash from (used in) operating activities
Net cash used in investing activities
Net cash from (used in) financing activities
$
$
$
— $
— $
— $
1,494 $
(4,094) $
— $
— $
— $
(1,703) $
54
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
($ thousands, except per share amounts)
Sherway
Case Funding
EcoHome
Total
For the year ended December 31, 2015
(c)
(d)
(e)
$
— $
1,816 $
5,062
$
Interest revenue on leases and loans
Ancillary finance and other fee income
Interest expense
Provision for credit losses
Finance margin
Revenue - automotive operations
Cost of sales – automotive operations
Gross margin before expenses
Personnel expenses
Share-based compensation expense
Other expenses
Amortization - property and equipment
Income before undernoted items
Gain on sale, net of costs and taxes
Amortization - intangible assets
Income before taxes
Tax expense
—
—
—
—
48,557
(42,275)
6,282
2,694
29
1,815
191
1,553
4,629
—
6,182
—
12
—
(1,383)
445
—
—
445
180
76
471
3
386
(2,119)
(25)
3,304
—
—
3,304
1,005
90
636
—
(285)
1,573
840
—
555
—
—
(649)
924
(220)
704
$
$
$
6,878
398
(2,119)
(1,408)
3,749
48,557
(42,275)
10,031
3,879
195
2,922
194
2,841
5,469
(649)
7,661
(220)
7,441
0.45
0.44
(7,214)
(73)
13,762
Income from discontinued operation
$
6,182 $
555 $
Basic earnings per share from discontinued operations
Diluted earnings per share from discontinued operations
Cash flow from discontinued operations
Net cash from (used in) operating activities
Net cash used in investing activities
Net cash from (used in) financing activities
Property and equipment expenditures
c) Acura Sherway
$
$
$
$
2,834 $
(29) $
(617) $
2,756 $
(12,804) $
(44) $
— $
— $
14,379
$
29 $
— $
— $
29
On November 15, 2015, the Company sold the assets and operations of Sherway for an aggregate purchase price of approximately
$20.4 million, resulting in a net gain of approximately $4.6 million. The 2015 results presented above reflect the period from
January 1, 2015 to November 15, 2015. In conjunction with the transfer of Sherway's employees to the new owner, the stock
options held by the employees immediately vested and thus the remaining $11,600 in unrecognized share-based compensation
was expensed on November 15, 2015.
The Company’s revenue from the sale of automobiles was recognized when the following conditions were met: the risks and
rewards of ownership of the vehicle were transferred to the customer, the sales price was agreed or determinable and the receipt
of payment was probable. Revenues were stated net of discounts, if any. All other parts and service revenue was recorded when
goods were delivered or services were completed and the receipt of payment could be assumed.
55
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
d) Case Funding
On February 3, 2015, Case Funding sold certain assets and operations to a private equity firm (the "Purchaser") for proceeds of
$6.2 million. The gain on sale, net of costs, totaled $840,000 and resulted in the utilization of tax losses which were not previously
recognized as a deferred tax asset of Case Funding.
In conjunction with the transfer of Case Funding’s employees to the Purchaser, the stock options held by the employees immediately
vested and thus the remaining $76,400 in unrecognized stock option costs was expensed on February 3, 2015.
Case Funding retained approximately $9.4 million in finance receivables with a current balance of $5.9 million and pays a servicing
fee of 5% of collections to administer the remaining portfolio of attorney loans, plaintiff advances and medical liens.
In December 2015, the Company made a strategic decision to dispose of the retained legal finance receivables. An active search
is still underway for a buyer. During 2016, certain external events delayed the search for a buyer. At December 31, 2015, a $1.3
million reduction in the fair value of the retained legal finance receivables was included as a reduction to interest revenue on leases
and loans in discontinued operations to reflect the fair value adjustment of the receivables.
Legal finance receivables in the held-for-sale assets consist of:
Attorney loans and medical liens
Plaintiff advances
Legal finance receivables
Current portion
Legal finance receivables – long-term portion
December 31,
2016
December 31,
2015
($ thousands)
136
$
5,767
5,903
1,955
3,948
$
3,559
7,031
10,590
6,455
4,135
$
$
At Case Funding, management reviews each attorney loan and medical lien receivable on an individual basis for collectability and
for reserve requirements, if any. At December 31, 2016, it was determined an allowance of $162,000 (December 31, 2015 -
$486,000) was required.
Significant judgments
Attorney loans are collateralized loans to contingency fee-based law firms based on a combination of an assessment of the likelihood
of a successful outcome for a pool of cases put forward by the law firm, and the creditworthiness of the borrowers. Plaintiff
advances are structured as a purchase of an interest in the proceeds of a legal claim and are made (or declined) based on the
probability of success and potential claim size, not the plaintiff’s credit. Advances are on a non-recourse basis where Case Funding
forfeits its entire advance and any related fees if the plaintiff is not successful in the claim. Such advances are not characterized
as loans because there is no promise to repay in the event the plaintiff does not succeed in his/her claim. Medical lien financing
refers, generally, to the purchase of existing medical debt obligations of patients involved in existing litigation that is the result of
an injury or multiple injuries.
Attorney loans and medical lien financing are deemed to be a financial asset as they are a contractual right to receive cash from
another entity and are considered to be loans and receivables for accounting purposes, based on an evaluation of all the terms and
conditions of the contracts. The contracts are deemed to have fixed or determinable payments, in that the payments are due when
the underlying cases are settled, the date of which cannot be known and is therefore estimated. Loans and receivables are accounted
for at amortized cost using the effective interest method; however, the effective interest rate is calculated using estimated cash
flows based on an estimated settlement date.
Plaintiff advances are deemed to be a financial asset as they are a contractual right to receive cash from another entity and are
considered to be available-for-sale financial assets for accounting purposes, based on an evaluation of all the terms and conditions
of the contracts. The plaintiff advances are on a non-recourse basis, and repayment depends on the success and potential size of
claims. Thus, the terms may limit the expected cash flows and, other than for credit deterioration, they were deemed not to be
56
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
loans and receivables. Available-for-sale financial assets are valued at fair value, the accretion in value is recognized based on the
effective interest method and recognized in finance income.
Reconciliation of Level 3 Financial Instruments - The following table sets forth a summary of changes in the carrying value of
plaintiff advances:
For the years ended
December 31,
2016
2015
($ thousands)
Balance, beginning of year
$
7,031
$
Originations
Fair value accretion (i)
Losses and provision for losses
Collections
Foreign exchange impact (ii)
Balance, end of year
—
752
(359)
(1,433)
(224)
$
5,767
$
7,776
136
1,679
(979)
(2,874)
1,293
7,031
(i) Management considered that the change in fair value for plaintiff advances, which are carried at fair value, related to the
amortization of interest or successful settlement of advances during the period. The fair value accretion on plaintiff advances
is included in interest revenue on finance leases and loans in the consolidated statement of income.
(ii) Difference between period-end foreign exchange rate and average exchange rate; the amount is included in other comprehensive
income.
Significant Estimates
Fair value measurements are based on level 3 inputs of the three-level hierarchy system which indicates inputs for the assets that
are not based on observable market data (unobservable inputs). Plaintiff advances are initially recorded at their fair value, equivalent
to the funds advanced. Subsequent measurement of plaintiff advances is at fair value utilizing a fair value model developed by
the Company.
The principal assumptions used in the fair value model are as follows:
• Estimated duration of each plaintiff advance;
• Best estimate of anticipated outcome;
• Monthly fee per advance contract on nominal value of each plaintiff advance; and
• Market interest rate at which estimated cash flows are discounted.
Successful and unsuccessful judgments of claims in which the Company has a plaintiff advance;
The fair value of plaintiff advances is reviewed quarterly on an individual case basis. Events that may trigger changes to the fair
value of each plaintiff advance include the following:
•
• Outstanding appeals against both successful and unsuccessful judgments;
• Receipt of funds to settle plaintiff advances;
• A case is dismissed with prejudice (meaning, it can never be re-filed anywhere);
• Change in monthly fee assessed on plaintiff advances;
• Market interest rate at which estimated cash flows are discounted.
Inherent to the underwriting process is the approval for funding of cases that have a high probability of success, to be achieved
either in pre-trial settlement or as a result of a judgment by a court. The fair value estimate is inherently subjective being based
largely on an estimate of the duration of plaintiff advance and its potential settlement. In the Company’s opinion there is no useful
alternative valuation that would better quantify the market risk inherent in the portfolio and there are no other inputs or variables
to which the value of the plaintiff advances are correlated.
A 10% change in the estimated duration of plaintiff advances, while all other variables remain constant, would have no significant
impact on the Company’s net income and net assets.
57
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
e) EcoHome Financial Inc.
On February 18, 2016, the Company sold EcoHome for approximately $35.0 million, of which $29.0 million was paid in cash.
Chesswood also received 6,039,689 common shares of Dealnet Capital Corp. ("Dealnet") with a value of $3.5 million and a $2.5
million convertible note which will mature in two years, bears interest at 6% per annum and is convertible (at the Company's
option), in whole or in part at any time, into common shares of Dealnet at a conversion price of $0.64 per share. Of the proceeds,
$1.75 million is held in escrow and will be released on August 18, 2017.
The net gain, after $1.3 million in costs and $3.5 million in taxes, is approximately $6.7 million and is included in income from
discontinued operations for the year ended December 31, 2016. In conjunction with the sale of EcoHome, the stock options held
by the employees immediately vested and thus the remaining $137,600 in unrecognized share-based compensation was expensed
on February 18, 2016.
No impairment loss was recognized on reclassification as held-for-sale at December 31, 2015 because the fair value less costs to
sell exceeded the carrying amount.
5. FINANCIAL INSTRUMENTS
Financial assets and financial liabilities are recognized when the Company becomes a party to the contractual provisions of the
instrument. Financial assets and financial liabilities are recognized initially at fair value plus transaction costs, except for financial
assets and financial liabilities carried at fair value through net income, which are measured initially at fair value.
Financial assets are derecognized when the contractual rights to the cash flows from the asset expire or when the asset and
substantially all related risks and rewards are transferred. A financial liability is derecognized when it is extinguished, discharged,
cancelled or expires.
Financial assets
The subsequent measurement of financial assets depends on the following classifications:
Loans and receivables
Loans and receivables are non-derivative financial assets with fixed or determinable payments that are not quoted in an active
market. The Company’s cash, escrow cash, accounts receivable, net investment in leases, loan receivables, attorney loans and
medical liens, convertible debenture receivable are classified as loans and receivables. Cash is comprised of cash and highly liquid
investments with original maturities of three months or less. Broker commissions related to the origination of financing leases
are deferred and recorded as an adjustment to the yield of the net investment in financing leases. Such financial assets are carried
at amortized cost using the effective interest rate method. Gains and losses are recognized in the statement of income when the
loans or receivables are derecognized or impaired.
Financial assets at fair value through net income or loss
Financial assets at fair value through net income or loss include financial assets that are either classified as held for trading or that
meet certain conditions and are designated at fair value through net income or loss upon initial recognition. All derivative financial
instruments are included in this category, except for those that are designated and effective hedge instruments. Upon initial
recognition, attributable transaction costs are recognized in net income or loss as incurred.
Assets in this category are subsequently measured at fair value with gains or losses recognized in net income or loss. The fair
values of derivative financial instruments are based on changes in observable prices in active markets or by a valuation technique
where no market exists.
The Company's investment in Dealnet common shares are classified in this category.
58
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
Held to maturity investments
Held to maturity investments are non-derivative financial assets with fixed or determinable payments and fixed maturity other
than loans and receivables. Financial instruments are classified as held to maturity investments if the Company has the intention
and ability to hold them to maturity.
Subsequent to initial recognition, held to maturity investments are measured at amortized cost using the effective interest method.
If there is objective evidence that the investment is impaired, determined, for example, by reference to external credit ratings, the
financial asset is measured at the present value of estimated future cash flows. Any changes to the carrying value of the investment,
including impairment losses, are recognized in net income or loss.
The Company had no financial instruments in this category at December 31, 2016 and 2015.
Available for sale financial assets
Available for sale financial assets are non-derivative financial assets that are either designated as available for sale or do not qualify
for inclusion in any other category.
Available for sale financial assets, for which fair value cannot be estimated reliably, are measured at cost and any impairment
losses are recognized in net income or loss. All other available for sale financial assets are measured at fair value. Gains and losses
are recognized in other comprehensive income and presented in the available for sale reserve within equity, except for the accretion
in value based on the effective interest method, impairment losses and foreign exchange differences on monetary assets, which
are recognized in net income or loss. Upon initial recognition, attributable transaction costs are recognized in net income or loss
as incurred. When the asset is disposed of or is determined to be impaired the cumulative gain or loss recognized in other
comprehensive income is reclassified from equity to net income or loss and presented as a reclassification adjustment within other
comprehensive income.
The Company’s plaintiff advances are designated as available for sale financial assets for accounting purposes.
Financial liabilities
The categories of financial liabilities and their subsequent measurement are as follows:
Financial liabilities at fair value through net income or loss
Financial liabilities at fair value through net income or loss include financial liabilities that are either classified as held for trading
or in defined circumstances, are designated at fair value through net income or loss upon initial recognition. When certain conditions
are satisfied, IAS 39, Financial Instruments: Measurement and Recognition, requires embedded derivatives to be separately
recognized and measured at fair value; changes in fair value in periods subsequent to initial recognition are recognized in net
income. In order to avoid the measurement inconsistencies that would result from separate accounting for multiple embedded
derivatives, IAS 39 allows an entity to designate the entire hybrid contract as at fair value through net income. All contingent
consideration payable is also included in this category. Derivative financial instruments that are designated as effective hedge
instruments are excluded from this category.
The Company’s interest rate swap contracts are classified as held for trading for accounting purposes. The convertible debentures
and contingent consideration are designated as at fair value through net income. The Company has not designated any financial
instruments as hedges for accounting purposes.
Liabilities in this category are measured at fair value with gains or losses recognized in net income. The fair values of derivative
financial instruments are based on changes in observable prices in active markets or by a valuation technique where no market
exists. Transaction costs attributable to the issuance of financial liabilities at fair value through net income or loss are recognized
in net income as incurred.
Loans and borrowings
Interest bearing loans and borrowings not otherwise categorized as financial liabilities at fair value through net income or loss are
subsequently measured at amortized cost using the effective interest rate method. Gains and losses are recognized in net income
or loss when the liabilities are derecognized. Transaction costs incurred in connection with the issuance of loans and borrowings
59
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
are capitalized and recorded as a reduction of the carrying amount of the related financial liabilities and amortized using the
effective interest method.
The Company’s financial liabilities designated as loans and borrowings include vehicle financing, borrowings, accounts payable
and other liabilities and customer security deposits.
(a) Change to fair value and measurement hierarchy
The categories to which the financial instruments are allocated under IAS 39, Financial Instruments: Recognition and Measurement
are:
AFS
L&R
L&B
Available for sale
Loans and receivables
Loans and borrowings
HFT
FVTP
Held for trading
Fair value through profit or loss
All financial instruments measured at fair value and for which fair value is disclosed are categorized into one of three hierarchy
levels for disclosure purposes. Each level is based on the transparency of the inputs used to measure the fair values of assets and
liabilities:
(i)
(ii)
(iii)
Level 1 Inputs - quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting
entity has the ability to access at the measurement date;
Level 2 Inputs - inputs other than quoted prices included within Level 1 that are observable for the asset or
liability, either directly (i.e., as prices) or indirectly (i.e., derived from prices); and
Level 3 Inputs - techniques which use inputs which have a significant effect on the recorded fair value for the
asset or liability that are not based on observable market data (unobservable inputs).
The fair values of financial instruments are classified using the IFRS 13, Fair Value Measurement hierarchy as follows:
Category
Level 1
Level 2
Level 3
Carrying Value
December 31, 2016
$ 11,443 $
— $
— $
7,198
3,503
—
—
(20,260)
—
108,744
—
(14,705)
—
(293,081)
(13,603)
—
(850)
—
(538)
—
—
—
($ thousands)
11,443
7,198
3,503
108,744
(14,705)
(538)
(293,081)
(13,603)
(20,260)
(850)
ASSETS
Cash (iii)
Prepaid expenses and other assets
Prepaid expenses and other assets
Loan receivables (i)
LIABILITIES
Accounts payable (iii)
Contingent consideration
Borrowings (ii)
Customer security deposits
Convertible debentures (iv)
Interest rate swaps (v)
L&R
L&R
FVTP
L&R
L&B
FVTP
L&B
L&B
FVTP
HFT
60
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
ASSETS
Cash (iii)
Loan receivables (i)
LIABILITIES
Accounts payable (iii)
Contingent consideration
Borrowings (ii)
Customer security deposits
Convertible debentures (iv)
Interest rate swaps (v)
Category
Level 1
Level 2
Level 3
December 31, 2015
Carrying Value
($ thousands)
L&R
L&R
L&B
FVTP
L&B
L&B
FVTP
HFT
$ 15,229 $
— $
—
91,892
— $
—
15,229
91,892
—
—
—
—
(19,900)
—
(11,557)
—
(255,173)
(13,895)
—
(892)
—
(7,215)
—
—
—
—
(11,557)
(7,215)
(255,173)
(13,895)
(19,900)
(892)
(i) There is no organized market for the finance receivables. Therefore the carrying value is the amortized cost using the effective
interest rate method. The contractual interest rates approximate current market rates.
(ii) The stated value of the borrowings approximates fair values, as the interest rates attached to these instruments are representative
of current market rates, for loans with similar terms, conditions and maturities.
(iii) Carrying amounts are expected to be reasonable approximations of fair value for cash and for financial instruments with short
maturities, including accounts receivable and accounts payable.
(iv) The convertible debentures have several embedded derivative features which were determined to not meet the criteria for
treatment as equity components and would otherwise be required to be recognized as separate financial instruments, measured
at fair value through profit or loss. The Company has elected under IAS 39.11A to designate the entire convertible debentures
(and all the embedded derivatives) as a combined financial liability at fair value through profit or loss. The fair value of the
convertible debentures is based on their trading price on the Toronto Stock Exchange every reporting period; as a result, there
may be increased volatility in the reported net income. The $1.4 million of costs related to the issuance of the convertible
debenture were expensed when incurred in 2013; thus no transaction costs are capitalized in the fair value of the convertible
debentures.
(v) The Company determines the fair value of its interest rate swap under the income valuation technique using a discounted cash
flow model. Significant inputs to the valuation model include the contracted notional amount, LIBOR rate yield curves and
the applicable credit-adjusted risk-free rate yield curve. The Company's interest rate derivative is included in the Level 2 fair
value hierarchy because all of the significant inputs are directly or indirectly observable. For the rates on the interest rate
swaps, see Note 16 - Interest Rate Swaps.
Transfers between levels are considered to occur on the date that the fair valuation methodology changes. There were no transfers
between levels during the current or prior year.
61
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
(b) Gains and losses on financial instruments
The following table shows the net gains and losses arising for each IAS 39, Financial Instruments: Recognition and Measurement,
category of financial instrument.
Loans and receivables:
Provision for credit losses
Designated as at fair value through net income or loss:
Convertible debentures
Contingent consideration
Fair value through net income or loss:
Investment in Dealnet common shares
Interest rate swaps
Net loss
For the year ended
December 31,
2016
2015
($ thousands)
$
(25,819) $
(18,929)
(1,660)
678
3
15
(26,783) $
$
(602)
(1,055)
—
(846)
(21,432)
6. FINANCIAL RISK MANAGEMENT
In the normal course of business, the Company manages risks that arise as a result of its use of financial instruments. These risks
include credit, liquidity and market risk. Market risks can include interest rate risk, foreign currency risk and other price risk.
There have been no changes in the Company’s objectives, policies or processes for managing or for measuring any of the risks to
which it is exposed since the previous year end.
i) Credit risk
Credit risk stems primarily from the potential inability of a customer or counterparty to a financial instrument to meet its contractual
obligations. The Company’s maximum exposure to credit risk is represented by the carrying amounts of cash, accounts receivable
and finance receivables.
The Company’s excess cash is held in accounts with a couple of major Canadian chartered banks and a few U.S. banks with the
majority at J.P. Morgan Chase in the United States. Management has estimated credit risk with respect to such balances to be
nominal and monitors changes in the status of these financial institutions to mitigate potential credit risk.
Pawnee, Blue Chip and Windset's investment in finance receivables are originated with smaller, often owner-operated businesses
that have limited access to traditional financing. A portion of Pawnee's lessees and borrowers are either a start-up business that
has not established business credit or a more tenured business that has experienced some business credit difficulty at some time
in its history. As a result, such leases and loans entail higher credit risk (reflected in higher than expected levels of delinquencies
and loss) relative to the commercial equipment finance market as a whole. The typical Blue Chip borrower is a tenured small
business with a strong credit profile. The typical Windset borrower is a tenured small business - usually with at least ten years
time-in-business that needs working capital for a variety of purposes that can include general expansion, funding of accounts
receivable or inventory, a new location, etc.
Pawnee's credit risk is mitigated by: funding only “business essential” commercial equipment, where the value of the equipment
is less than U.S.$200,000, typically obtaining at least the personal guarantee of the majority owners of the lessee/borrower for
each lease or loan, and by diversification on a number of levels, including: geographical across the United States, type of equipment
funded, equipment cost, the industries in which Pawnee’s lessees\borrowers operate and through the number of lessees\borrowers,
none of which is individually significant. Furthermore, Pawnee’s credit risk is mitigated by the fact that the standard lease\loan
62
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
contract most often requires that the lessee\borrower provide two months payments as a security deposit, which, in the case of
default, is applied against the lease\loan receivable; otherwise the deposit is held for the full term of the lease\loan and is then
returned or applied to the purchase option of the equipment at the lessee’s option.
Pawnee and Blue Chip are entitled to repossess leased equipment if the lessees default on their lease contracts in order to minimize
any credit losses. When an asset previously accepted as collateral is acquired, it undergoes a process of repossession and disposal
in accordance with the legal provisions of the relevant market. See Note 8 - Finance Receivables, for a further discussion on the
repossession of collateral.
The finance receivables consist of a large number of homogenous leases and loans, with relatively small balances, and as such,
the evaluation of the allowance for credit losses is performed collectively for the lease and loan receivable portfolio. More detailed
information regarding this methodology and on finance receivables that are considered to be impaired is provided in Note 8 -
Finance Receivables.
Windset’s credit risk is mitigated by, amongst other things: the tenured nature of the borrower which typically averages at least
10 years time-in-business, an analysis of the borrowers’ cash flows which limits the amount of the loan, the rapid repayment
received by Windset through daily payments received on each business day, the personal guarantee of the principal business owner
and the short term of the loan.
Blue Chip, in a similar segment of the Canadian equipment finance market as Pawnee’s market segment in the U.S., mitigates
credit risk in similar fashion to Pawnee including the small average size of each lease, diversification in multiple asset categories
and industries, very low lessee concentration and personal guarantees of the business principals on certain leases.
ii) Liquidity risk
Liquidity risk is the risk that the Company will encounter difficulty in meeting obligations associated with financial liabilities that
are settled by delivering cash or another financial asset.
The Company’s objective is to maintain low cash balances, investing any free cash in finance receivables as needed and using any
excess to pay down debt on the primary financing facilities. At December 31, 2016, the Company's continuing operations has at
least $127.0 million (2015 - $83.7 million) in additional borrowings available under various credit facilities to fund business
operations, excluding the accordion feature on the corporate facility.
The Company’s operations and growth are financed through a combination of the cash flows from operations and from borrowings
under existing credit facilities. Prudent liquidity risk management requires managing and monitoring liquidity on the basis of a
rolling cash flow forecast and ensuring adequate committed credit facilities are in place, to the extent possible, to meet funding
needs.
The Company has a corporate credit facility that allows borrowings of up to U.S. $170.0 million, and an accordion feature of up
to U.S. $250 million, subject to certain percentages of eligible gross lease receivables, of which U.S.$144.3 million was utilized
at December 31, 2016 (2015 - U.S.$125.0 million). See Note 14 - Borrowings. At this time, management believes that the syndicate
of financial institutions that provides Chesswood’s credit facility is financially viable and will continue to provide this facility,
however there are no guarantees.
Under the corporate credit facility, the maximum cash dividends that the Company can pay in respect of a month is 1/12 of 90%
of free cash flow for the most recently completed four financial quarters in which the Company has publicly filed its consolidated
financial statements less cost of any repurchases under normal course issuer bid.
The maturity structure for undiscounted contractual cash flows is presented in Note 18 - Minimum payments.
63
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
iii) Market risk
Market risk is the risk that the fair value or future cash flows of a financial instrument will fluctuate due to changes in market
prices. Market price risks faced by the Company relate to the trading price of convertible debentures, interest rates and foreign
currency.
a) Trading price of convertible debentures
The convertible debentures are measured at fair value at each reporting date with changes in fair value recognized in net income
or loss. Fair value is based on the trading price of the debentures on the Toronto Stock Exchange. Therefore changes in trading
price have a direct impact on net assets and net income or loss. The Company does not hedge this fair value price exposure.
b) Interest rate risk
The finance receivables are written at fixed effective interest rates. To the extent the Company finances its fixed rate finance
receivables with floating rate funds, there is exposure to fluctuations in interest rates such that an increase in interest rates could
narrow the margin between the yield on a lease/loan and the interest rate paid by the Company to finance working capital. The
Company elects to lock in the majority of its credit facility at the LIBOR interest rate.
The following table presents a sensitivity analysis for a reasonable fluctuation in interest rates and the effect on the Company for
the year-ended December 31, 2016 and 2015:
For the years ended
December 31, 2016
December 31, 2015
+100 bps
-100 bps
+100 bps
-100 bps
($ thousands)
Increase (decrease) in interest expense
Increase (decrease) in net income and equity
$
$
1,130 $
(695) $
(1,130)
695
$
$
863 $
(561) $
(863)
561
iv) Foreign currency risk
The Company is exposed to fluctuations in the U.S. dollar exchange rate because significant operating cash inflows are generated
in the U.S. while dividends are paid to shareholders in Canadian dollars. For the year-ended December 31, 2016 dividends paid
totaled $14.0 million (excluding the special dividend which was supported by Canadian dollar cash flow) (2015 - $12.7 million).
The following table presents a sensitivity analysis for a hypothetical fluctuation in U.S. dollar exchange rates and the effect on the
Company for the years ended December 31, 2016 and 2015:
U.S. Denominated Balances
Year-end exchange rate
U.S. denominated net assets in U.S.$ held in Canada
Effect of a 10% increase or decrease in the Canadian/U.S.
dollar on U.S. denominated net assets
$
$
December 31,
2016
December 31,
2015
($ thousands)
1.3427
1,376
185
$
$
1.3840
1,709
237
7. PREPAID EXPENSES AND OTHER ASSETS
(a) Loan receivable - The original loan receivable of $8.0 million had a maturity date of April 28, 2016, bore interest at 4.0% per
annum and represented the inter-company warehouse funding to EcoHome of leases and loans that had not yet been securitized
with EcoHome funders prior to the sale of EcoHome. The secured note was restated to extend the maturity date to September 30,
2017, with interest at 5.5% per annum. The loan receivable is carried at amortized cost and the amount outstanding as at December
31 2016 was $3.0 million.
64
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
(b) Common shares - as partial consideration for the sale of EcoHome (Note 4(e)), Chesswood received 6,039,689 common shares
of Dealnet. The Dealnet shares are measured at fair value through profit or loss. The fair value represents the trading price at
each reporting date. Dealnet shares trade on the TSX Venture Exchange under the stock symbol "DLS".
(c) Escrow funds - $1.75 million of the proceeds from the sale of EcoHome (Note 4(e)) were held back as escrow and are expected
to be released by August 18, 2017. The escrow funds are carried at amortized cost.
(d) Convertible note - as partial consideration for the sale of EcoHome (Note 4(e)), Chesswood received a $2.5 million convertible
note of Dealnet, bearing interest at 6% per annum, which matures in February 2018 and is convertible into common shares of
Dealnet (at the Company's option) at a conversion price of $0.64 per share.
Prepaid expenses and other assets comprise:
Property tax receivable
Tax receivable
Sales tax receivable
Other prepaid expenses and current assets
Loan receivable - EcoHome
Common shares - Dealnet
Escrow funds - Dealnet
Convertible note - Dealnet
Prepaid expenses and other assets
Current portion
Long-term portion
December 31,
2016
December 31,
2015
$
($ thousands)
629
$
a
b
c
d
2,377
45
716
3,000
3,503
1,698
2,500
14,468
11,968
$
2,500
$
741
8,358
648
514
—
—
—
—
10,261
10,261
—
8. FINANCE RECEIVABLES
Description and accounting policy
The net investment in finance receivables arises from the Company’s equipment financing operations. For the Company's lease
receivables, the Company uses standard lease contracts which are non-cancelable finance leases and provide for monthly lease
payments for periods of one to six years. Leases are accounted for as finance leases because substantially all of the risks and
rewards incidental to legal ownership of the property are transferred to the lessee. The total present value of minimum lease
payments to be received over the lease term is recognized at the commencement of the lease. The difference between this total
value, net of incremental execution costs, such as broker commission, and the cost of the leased asset is deferred income and is
recognized as a reduction of the lease receivable, with the net result shown as net investment in leases. The deferred income is
then recognized over the life of the lease using the effective interest method, which provides a constant rate of return on the net
investment throughout the lease term.
For the Company's loan receivables, interest is recognized using the effective interest rate method over the term of the loan. Initial
loan acquisition costs are capitalized and amortized using the effective interest rate method over the term of the loan.
Significant judgments
The leases entered into by the Company are considered to be finance leases in nature, based on an evaluation of all the terms and
conditions and the determination that the Company has transferred substantially all risks and rewards of legal ownership of the
asset to the lessee.
65
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
Finance receivables comprise:
Net investment in leases
Loan receivables
December 31,
2016
December 31,
2015
$
$
($ thousands)
322,304
108,744
431,048
$
$
273,667
91,892
365,559
The Company finances its finance lease and loan receivables by pledging such receivables as security for amounts borrowed from
lenders under bulk lease facilities and the general corporate credit facility. The Company retains ownership and servicing
responsibilities of the pledged lease and loan receivables; however, the lenders have the right to enforce their security interest in
the pledged lease and loan receivables if the Company defaults under these facilities.
(a) Net investment in finance receivables includes the following:
December 31,
2016
December 31,
2015
Total minimum payments
Residual values of leased equipment
Unearned income, net of initial direct costs of acquisition
Net investment in finance receivables before allowance for
doubtful accounts
Allowance for doubtful accounts (b)
Reserve receivable on securitized financial contracts
Net investment in finance receivables
Current portion
($ thousands)
$
537,383
$
21,527
558,910
(116,784)
442,126
(12,253)
429,873
1,175
431,048
163,329
Net investment in finance receivables - long-term portion
$
267,719
$
454,531
21,249
475,780
(101,198)
374,582
(10,647)
363,935
1,624
365,559
170,429
195,130
(b) Allowance for doubtful accounts
Description and accounting policy
The Company assesses at each reporting date whether there is any objective evidence that a financial asset or a group of financial
assets is impaired. A financial asset or group of financial assets is deemed to be impaired if, and only if, there is objective evidence
of impairment as a result of one or more events that has occurred after the initial recognition of the asset (an incurred “loss event”)
and the event has a negative impact on the present value of estimated cash flows of the financial asset and the loss can be reliably
estimated. Potential losses expected as a result of future events, no matter how likely based on past historical evidence, are not
allowed to be recognized.
The carrying amount of the financial asset is reduced through the use of an allowance for doubtful accounts and the amount of
loss is recognized as a provision for credit losses. Individually significant loans and receivables are considered for impairment
when they are past due or when other objective evidence is received that a specific counterparty will default. Loans and receivables
that are not considered to be individually impaired are reviewed for impairment on a group basis, determined by reference to the
shared delinquency characteristics.
Lease and loan receivables at Pawnee, Windset and Blue Chip are composed of a large number of homogenous leases and loans,
with relatively small balances. Thus, the evaluation of the allowance for credit losses is performed collectively for the lease and
loan receivable portfolios.
66
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
Significant estimates
Quantifying the impairment of finance receivables is based on: for receivables that are in default, estimates of the carrying value
that will ultimately not be collected and, for finance receivables that are in default, the application of current delinquency rates at
each reporting date. Quantifying the impairment utilizes several assumptions and estimation uncertainties about the amount and
timing of cash that is expected to be collected.
The activity in the allowance for doubtful accounts is as follows:
For the year ended
December 31,
2016
2015
Balance, beginning of year
Provision for credit losses
Impact of change in foreign exchange rates
Allowance of acquired companies
Charge-offs
Recoveries
($ thousands)
$
10,647
$
25,819
(272)
—
(30,102)
6,161
Balance, end of year
$
12,253
$
6,558
18,929
1,392
942
(21,765)
4,591
10,647
(c) Minimum scheduled collections of minimum finance receivable payments receivable at December 31, 2016 are presented in
the following table. The Company’s experience has shown that the actual contractual payment streams will vary depending on a
number of variables including: prepayment rates, charge-offs and modifications. Accordingly, the following minimum scheduled
collections are not to be regarded as a forecast of future cash collections.
Minimum
payments
Present value
2017
2018
2019
2020
2021
2022 and thereafter
Total minimum lease payments
$
($ thousands)
$
219,412
$
154,955
97,841
48,411
16,321
443
537,383
$
160,996
120,616
81,055
42,437
15,101
394
420,599
(d) Finance Receivables Past Due
The following aging represents the total carrying amount of the lease and loan receivables and not just the payments that are past
due. The balances presented exclude the $13.6 million (December 31, 2015 - $13.9 million) of security deposits received from
lessees/borrowers and the collateral held (including potential proceeds from repossessed equipment, and potential recoveries from
personal guarantees) that would offset any charge-offs. An estimate of fair value for the collateral and personal guarantees cannot
reasonably be determined.
67
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
($ thousands)
Equipment lease receivables
Loan receivables
Impaired
Past due but not impaired
As of December 31, 2016
Current 1-30 days
315,995 $
107,185
423,180 $ 10,579 $
7,692 $
2,887
$
$
546
992
9,587 $
$
31 - 60
days
2,367 $
866
3,233 $
2,524
61 - 90
days
1,008 $
262
1,270 $
1,089
Over 90
days
3,214 $
650
3,864 $
3,671
709 $
181 $
193 $
Total
330,276
111,850
442,126
8,822
10,670
($ thousands)
Equipment lease receivables
Loan receivables
Impaired
Past due but not impaired
$
$
Current 1-30 days
267,891 $
90,794
358,685 $
229
5,921 $
2,712
8,633 $
2,050
6,583 $
$
As of December 31, 2015
31 - 60
days
2,136 $
1,165
3,301 $
2,472
61 - 90
days
1,087 $
133
1,220 $
1,052
Over 90
days
2,404 $
339
2,743 $
2,608
829 $
168 $
135 $
Total
279,439
95,143
374,582
8,411
7,715
(e) Collateral
Pawnee and Blue Chip are entitled to repossess financed equipment if the borrower defaults on their lease or loan contract. When
a lease or loan is charged-off, the related equipment no longer has a carrying value on the financial statements. Any amounts
recovered from the sale of equipment after a charge-off, are credited to the allowance for doubtful accounts when received. In the
year-ended December 31, 2016, the proceeds from the disposal of repossessed equipment that was charged-off totaled $1.9 million
(2015 - $1.0 million). Repossessed equipment is held at various warehouses by the company's contracted to repossess and sell the
equipment.
9. PROPERTY AND EQUIPMENT
Description and accounting policy
Property and equipment are measured at acquisition or purchase cost less scheduled depreciation based on the useful economic
lives of the assets. No components (those parts of individual property and equipment assets having different economic lives than
the remainder of the asset) have been identified. Scheduled depreciation is based on the following annual rates, which are reassessed
annually:
Leasehold improvements
Service equipment and vehicles
Furniture and equipment
Computer hardware
straight-line over the remaining lease term
20% or 30% declining balance
20% to 30% declining balance
20% to 30% declining balance
68
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
Cost:
Leasehold
improvements
Service
equipment
and vehicles
Furniture
and
equipment
($ thousands)
Computer
hardware
Total
December 31, 2014
$
2,563
$
Additions
Additions - discontinued
operations (Note 4)
Disposals (Note 4)
Translation
December 31, 2015
Additions
Disposals
Translation
December 31, 2016
—
—
(2,563)
—
— $
—
—
—
— $
$
$
$
210
—
23
(233)
—
— $
—
—
—
— $
665
42
—
(168)
8
547
581
(218)
(7)
903
$
1,363
$
212
50
(399)
(9)
1,217
263
(11)
43
1,512
$
$
$
$
4,801
254
73
(3,363)
(1)
1,764
844
(229)
36
2,415
The change in the carrying amount of property and equipment during 2016 relates to the one-time expenditures and disposals for
furniture and equipment for the new premises of Pawnee, which they moved into in June 2016.
Accumulated amortization:
Leasehold
improvements
Service
equipment
and vehicles
Furniture
and
equipment
($ thousands)
Computer
hardware
Total
December 31, 2014
$
675
$
165
$
444
$
471
$
1,755
Amortization - continuing
operations
Amortization - discontinued
operations (Note 4)
Disposals (Note 4)
Translation
December 31, 2015
Amortization - continuing
operations
Disposals
Translation
December 31, 2016
$
$
—
164
(839)
—
—
8
(173)
—
70
7
183
15
253
194
(144)
(177)
(1,333)
6
(6)
— $
— $
383
$
486
$
—
—
—
— $
—
—
—
— $
87
(153)
30
347
—
869
312
(164)
(36)
981
Total
3,046
895
1,434
225
(11)
(66)
634
Computer
hardware
892
731
878
$
$
$
$
$
$
$
$
Carrying amount:
December 31, 2014
December 31, 2015
December 31, 2016
Leasehold
improvements
Service
equipment
and vehicles
Furniture
and
equipment
($ thousands)
$
$
$
1,888
$
— $
— $
45
$
— $
— $
221
164
556
69
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
10. INTANGIBLE ASSETS
Description and accounting policy
Purchased intangible assets are recognized as assets in accordance with IAS 38, Intangible Assets, where it is probable that the
use of the asset will generate future economic benefits and where the cost of the asset can be determined reliably. Intangible assets
acquired are initially recognized at cost of purchase and are subsequently carried at cost less accumulated amortization and, if
applicable, accumulated impairment losses.
The useful lives of intangible assets are assessed as either finite or indefinite. Management has determined that trade names and
the billing systems have indefinite lives. The broker relationships are considered to have a finite life and are amortized on a
scheduled straight-line basis over their estimated useful life of seven to fifteen years. The non-compete agreements are amortized
on a scheduled straight-line basis over their five year life.
The amortization period and method of amortization for intangible assets with finite lives are reassessed annually. Changes in the
useful life or in the pattern of economic benefits derived are accounted for by changing the amortization period or method, as
appropriate, and are treated as changes in accounting estimates. Intangible assets with indefinite useful lives are not amortized but
are tested for impairment annually at the cash generating unit level and are reviewed annually to determine whether the indefinite
life continues to be applicable. Any change from indefinite life to finite life would be accounted for prospectively.
A previously recognized impairment loss for non-financial assets is reversed if there has been a change in the assumptions used
to determine recoverable amount since the previous impairment loss was recognized. The carrying amount after the reversal cannot
exceed the carrying amount that would have been determined, net of depreciation, had no impairment loss been recognized for
the asset in prior years.
Significant estimates
The impairment testing utilizes a lot of assumptions and estimation uncertainties that have a significant risk of resulting in a material
adjustment within the next financial year as a result of the value-in-use being derived from an estimated discounted cash flow
model. The cash flows are derived from budgets for the next five years, excluding restructuring activities and future investments.
Other than the cash flow estimates, the value-in-use is most sensitive to the discount rate used and the growth rate applied beyond
the five year estimate.
Indefinite useful life
Finite useful life
Trade names
Billing
Systems
Framework
agreement
Broker
relationships
Non-
Compete
Total
Cost:
($ thousands)
December 31, 2014
$
6,821
$
— $
889
$
4,538
$
— $
12,248
Acquisitions (Note 3)
Disposal (Note 4(c) & (d))
Reclassified to held-for-sale
(Note 4(e))
Translation
December 31, 2015
Additions
Translation
December 31, 2016
$
$
550
(429)
(262)
1,209
7,889
—
(224)
7,665
$
$
1,723
—
(1,723)
—
— $
—
—
— $
—
(889)
25,213
—
—
—
— $
—
—
— $
(10,311)
—
19,440
99
—
19,539
$
$
1,999
—
(690)
—
1,309
—
—
1,309
$
$
29,485
(1,318)
(12,986)
1,209
28,638
99
(224)
28,513
70
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
Accumulated amortization:
December 31, 2014
Amortization - continuing
operations
Impairment
Amortization - discontinued
operation (Note 4)
Reclassified - held-for-sale
(Note 4(e))
December 31, 2015
Amortization - continuing
operations
December 31, 2016
Trade names
Billing
Systems
Framework
agreement
Broker
relationships
Non-
Compete
Total
$
— $
— $
— $
4,123
$
— $
4,123
($ thousands)
—
127
—
—
127
—
127
$
$
$
$
—
—
—
—
— $
—
— $
—
—
—
—
— $
—
— $
847
—
540
206
—
109
(540)
4,970
1,075
6,045
$
$
(109)
206
262
468
$
$
1,053
127
649
(649)
5,303
1,337
6,640
Carrying amount:
December 31, 2014
December 31, 2015
December 31, 2016
Trade
names
Framework
agreement
Broker
relationships
($ thousands)
Non-
Compete
Total
$
$
$
6,821
7,762
7,538
$
$
$
889
$
— $
— $
415
14,470
13,494
$
$
$
— $
1,103
841
$
$
8,125
23,335
21,873
Trade names were recognized in the acquisitions of Pawnee and Blue Chip and can be renewed annually, at nominal cost and for
an indefinite period. There is no legal limit to the life of these trade names. The businesses to which these intangible assets relate
have established names in the market and, given the stability in the demand for their products and services, management expects
to be able to derive economic benefit from these intangible assets for an indefinite period of time and has therefore determined
them to be of indefinite life.
The following table shows the carrying amount of indefinite-life intangible assets by CGU as at:
Pawnee
Blue Chip
Total indefinite-life intangible assets
11. GOODWILL
December 31,
2016
December 31,
2015
$
$
($ thousands)
7,251
288
7,539
$
$
7,474
288
7,762
Description and accounting policy
Goodwill is initially measured at cost which represents the excess of the fair value of consideration paid for a business acquisition
over the Company’s share of the net fair value of the identifiable assets, liabilities and contingent liabilities acquired. After initial
recognition, goodwill is measured at cost less any accumulated impairment losses.
Impairment testing is applied on an individual asset basis unless an asset does not generate cash inflows that are largely independent
of the cash inflows generated by other assets or groups of assets. None of the Company’s non-financial assets generate independent
cash inflows and therefore all non-financial assets are allocated to cash generating units (“CGU”) for purposes of assessing
impairment. CGUs are defined as the smallest identifiable group of assets that generate cash inflows that are largely independent
of the cash inflows from other assets or groups of assets.
71
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
Impairment losses are recognized when the carrying amount of a CGU exceeds the recoverable amount, which is the greater of
the CGU’s fair value less cost to sell and its value-in-use. Value-in-use is the present value of the estimated future cash flows from
the CGU discounted using a pre-tax rate that reflects current market rates and the risks inherent in the business of each CGU. If
the recoverable amount of the CGU is less than its carrying amount, the CGU is considered impaired and is written down to its
recoverable amount. The impairment loss is allocated to reduce the carrying amount of the assets of the CGU, first to reduce the
carrying amount of the CGU’s goodwill and then to the other assets of the CGU allocated pro-rata on the basis of the carrying
amount of each asset. Impairment losses of continuing operations are recognized in the statement of income.
CGUs to which goodwill and intangible assets with indefinite lives have been allocated are tested for impairment annually as at
December 31, and all CGUs are tested for impairment more frequently when there is an indication that the CGU may be impaired.
Significant judgments
The impairment testing utilizes a lot of assumptions and estimation uncertainties that have a significant risk of resulting in a material
adjustment within the next financial year as a result of the value-in-use being derived from an estimated discounted cash flow
model. The cash flows are derived from budgets for the next five years, excluding restructuring activities and future investments.
Other than the cash flow estimates, the value-in-use is most sensitive to the discount rate used and the growth rate applied beyond
the five year estimate.
The goodwill allocated to each CGU and movements in goodwill consist of the following:
Pawnee
Case
Funding
Sherway
Blue
Chip
EcoHome
Total
Cost:
December 31, 2014
Translation
Acquisition (Note 3)
Disposal (Note 4)
Reclassified - held-for-sale (Note 4)
December 31, 2015
Translation
December 31, 2016
Accumulated impairment:
December 31, 2014
Disposal (Note 4)
Translation
December 31, 2015
Translation
December 31, 2016
Carrying amount:
December 31, 2014
December 31, 2015
December 31, 2016
$
$
$
$
$
$
($ thousands)
$ 42,077
$
757
$
3,923
$
4,189
$
— $
8,121
—
—
—
—
(757)
—
—
(3,923)
—
—
22,176
14,129
—
—
—
$ 50,198
(1,498)
$ 48,700
$
$
Pawnee
—
— $
—
— $
Case
Funding
—
—
— $ 26,365
—
—
— $ 26,365
$
$
(14,129)
— $
—
— $
Sherway
Blue Chip
Total
($ thousands)
29,600
$
— $
—
—
— $
$
1,403
(1,403)
—
— $
— $
—
—
— $
—
5,713
35,313
(1,054)
34,259
$
$
— $
— $
— $
50,946
8,121
36,305
(4,680)
(14,129)
76,563
(1,498)
75,065
31,003
(1,403)
5,713
35,313
(1,054)
34,259
Pawnee
Case
Funding
Sherway
Blue Chip
Total
($ thousands)
12,477
14,885
14,441
$
$
$
757
$
2,520
$
4,189
— $
— $
— $ 26,365
— $ 26,365
$
$
$
19,943
41,250
40,806
72
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
The Company completed its annual goodwill impairment test as at December 31, 2016 and 2015 and determined that no impairment
had occurred. Goodwill is considered impaired to the extent that its carrying amount exceeds its recoverable amount. The
recoverable amounts of the Company’s CGUs were determined based on their value-in-use (“VIU”). The calculation of VIU
incorporated five years of cash flow estimates plus a terminal value and was based on the following key variables:
i) The five years of cash flow estimates were based on achieving key operating metrics and drivers based on management
estimates, past history and the current economic outlook, and were approved by Chesswood management. The VIU for Pawnee
and Blue Chip is most sensitive to assumptions of lease origination volumes and net charge-offs.
ii) Terminal value incorporated into the VIU calculations was estimated by applying the growth rates in the following chart to
cash flow estimates for the fifth year. The growth rates reflect the historical average core inflation rate which does not exceed
the long term average growth rate for the industry.
Terminal value growth rates:
December 31, 2015
December 31, 2016
Pawnee
Blue Chip
3.0%
3.0%
3.0%
3.0%
iii) The following pre-tax discount rates were applied in determining the recoverable amount of the CGUs. The discount rates
were based on the weighted average cost of capital, adjusted for a liquidity and a risk premium.
Pre-tax discount rates:
December 31, 2015
December 31, 2016
Pawnee
Blue Chip
30.82%
30.82%
22.77%
23.27%
Significant estimates
The Company believes that any reasonably possible change in the key assumptions on which its CGU’s recoverable amounts are
based would not cause the CGU’s carrying amounts to exceed their recoverable amounts. If the future were to adversely differ
from management’s best estimate of key assumptions, including associated cash flows, the Company could potentially experience
future material impairment charges in respect of its goodwill and intangible assets with indefinite lives.
12. ACCOUNTS PAYABLE AND OTHER LIABILITIES
Accounts payable and other liabilities comprise:
Dividend payable
Accounts payable
Sales tax payable
Customer deposits and prepayments
Unfunded finance receivables
Taxes payable
Payroll related payables and accruals
Accrued expenses and other liabilities
Contingent consideration (Note 3 - Business Acquisition)
$
December 31,
2016
($ thousands)
December 31,
2015
$
1,259
1,099
1,020
695
3,636
4,600
1,026
1,370
538
1,153
927
672
899
2,634
2,744
783
1,745
7,215
$
15,243
$
18,772
73
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
13. CONVERTIBLE DEBENTURES
The debentures (symbol TSX: CHW.DB) mature on December 31, 2018, and bear interest at a rate of 6.5% per annum, payable
semi-annually. The outstanding principal under the debentures may, at the option of the holders, be converted into common shares
of the Company at a conversion price of $20.19 per share at any time (reduced from $21.25 as a result of the special dividend
declared in February 2016).
The Company has the following options to redeem the convertible debentures prior to maturity:
• After December 31, 2016 and prior to December 31, 2017, the Company has the option to redeem the debentures, provided
the current market price for the purposes of the debentures is at least 125% of the conversion price of $20.19 (reduced from
$21.25 as result of special dividend declared in February 2016).
• Subsequent to December 31, 2017 and prior to December 31, 2018, the Company has the option to redeem the debentures,
provided the redemption price is at a price equal to the principal amount including accrued and unpaid interest.
After the Company exercises its redemption right but prior to the date specified for redemption, each holder has the ability to
convert their convertible debentures to common shares. Upon a holder’s election to convert debentures, the Company may elect
to pay the holder cash in lieu of delivering shares. The Company also has the right to satisfy its payment obligations under the
debentures (subsequent to obtaining any required regulatory approvals) by issuing common shares (based on a deemed issue price
of 95% of the current market value).
The convertible debentures balance is composed of:
Principal amount recognized on issuance
Fair value adjustment
Balance, end of year
Fair value adjustment for the year
Interest paid during the year
Financing costs - convertible debentures
December 31,
2016
($ thousands)
December 31,
2015
20,000
260
20,260
$
$
20,000
(100)
19,900
For the years ended
December 31,
2016
2015
($ thousands)
(360) $
(1,300)
(1,660) $
698
(1,300)
(602)
$
$
$
$
14. BORROWINGS
Borrowings are comprised of:
December 31,
2016
December 31,
2015
Chesswood credit facility
Deferred financing costs
(a) $
Securitization and bulk lease financing facilities
(b)
($ thousands)
$
187,978
(2,015)
185,963
107,118
$
293,081
$
164,250
(1,524)
162,726
92,447
255,173
74
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
(a) Chesswood’s credit facility allows borrowings of up to U.S.$170.0 million (2015 - U.S.$150.0 million) subject to, among
other things, certain percentages of eligible gross finance receivables. The facility can be extended, subject to certain conditions,
to U.S.$250.0 million (2015 - U.S.$200.0 million). This credit facility is secured by substantially all of Chesswood’s assets, contains
covenants including maintaining leverage and interest coverage ratios, and matures on December 8, 2019. At December 31, 2016,
the Company was utilizing U.S.$144.3 million (2015 - U.S.$125.0 million) of its credit facility and had approximately U.S.$25.7
million in additional borrowings available under the corporate credit facility before the accordion feature. At December 31, 2016
and December 31, 2015, and throughout the periods presented, Chesswood was in compliance with all covenants. Based on average
debt levels, the effective interest rate paid during year ended December 31, 2016 was 3.89% (year-ended December 31, 2015 -
3.79%).
(b) Blue Chip has entered into master purchase and servicing agreements with various financial institutions and life insurance
companies (referred to collectively as the “Funders”). The funding facilities advance to Blue Chip on a tranche-by-tranche basis,
with each tranche collateralized by a specific group of underlying finance receivables and any related security provided thereunder.
The facilities have limited recourse to other assets in the event that lessees\borrowers fail to make payments when due. Blue Chip
either maintains certain cash reserves as credit enhancements or provides letters of guarantee in return for release of the cash
reserves. Blue Chip continues to service these finance receivables on behalf of the Funders. As at December 31, 2016, Blue Chip
had $107.1 million (2015 - $92.4 million) in securitization and bulk lease financing facilities debt outstanding, was utilizing $57.5
million (2015 - $43.5 million) of their available financing and had access to at least $92.5 million (2015 - $49.2 million) of financing
available for use from the Funders.
Blue Chip has access to the following committed lines of funding:
$40.0 million annual limit from one life insurance company;
$80.0 million rolling limit from one financial institution; and
Approved funding from one financial institution with no annual or rolling limit.
Interest rates are fixed at the time of each advance and are based on Government of Canada Bond yields with maturities comparable
to the term of the underlying leases plus a premium. Based on average debt levels, the effective interest rate paid during the year
ended December 31, 2016 was 3.00% (for the period ended December 31, 2015 - 3.38%). As at December 31, 2016, Blue Chip
has provided $5.7 million in outstanding letters of guarantee through Chesswood's credit facility. Blue Chip must meet certain
financial covenants to support these securitization and bulk lease financing facilities. As at December 31, 2016 and 2015, and
throughout the periods presented, Blue Chip was in compliance with all covenants.
15. CUSTOMER SECURITY DEPOSITS
Customer security deposits are held for the full term of the lease and then returned or applied to the purchase option of the equipment
at the lessee’s request, unless the lessee has previously defaulted in which case the deposit is applied against the lease receivable
at that time. Past experience suggests that a very high percentage of the customer deposits are applied to the purchase option of
the leased equipment at the end of the lease term, or as an offset against outstanding lease receivables.
Security deposits that will be utilized within one year
Security deposits that will be utilized in future years
16. INTEREST RATE SWAPS
December 31,
2016
December 31,
2015
$
$
($ thousands)
4,072
9,531
13,603
$
$
4,464
9,431
13,895
The Company enters into interest rate swap agreements that provide for payment of an annual fixed rate, in exchange for a LIBOR
based floating rate amount. The interest rate swaps are intended to offset a portion of the variable interest rate risk on the credit
facility (see Note 14 - Borrowings).
The interest rate swaps are not considered trading instruments as the Company intends to hold them until maturity. The interest
rate swaps do not qualify as a hedge for accounting purposes, and are therefore recorded as separate derivative financial instruments.
75
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
Accordingly, the estimated fair value of the interest rate swaps are recorded as a liability on the accompanying consolidated
statement of financial position. Payments made and received pursuant to the terms of the interest rate swaps are recorded as an
adjustment to interest expense. Adjustments to the fair value of the interest rate swaps are recorded as fair value adjustments on
the statement of income. The fair value of interest rate swaps is based upon the estimated net present value of cash flows.
The fair value, or the cost to terminate the interest rate swaps would have been $850,000 at December 31, 2016 (December 31,
2015 - $892,000).
The following swap agreements were outstanding at December 31, 2016:
Effective Date
August 15, 2016
August 15, 2016
Notional Amount
U.S.$
$20 million
$20 million
Annual Fixed Rate
Maturity Date
1.985%
2.120%
August 13, 2020
August 13, 2021
17. TAXES
Description and accounting policy
Taxes are accounted for using the asset and liability method. Under the asset and liability method, deferred tax assets and liabilities
are recognized for the deferred tax consequences attributable to differences between the consolidated financial statement carrying
amounts of existing assets and liabilities and their respective tax basis.
Deferred tax assets and liabilities are measured using enacted or substantively enacted tax rates applicable to taxable income in
the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and
liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.
Taxable temporary differences arising on the initial recognition of goodwill and temporary differences arising from investments
in subsidiaries that are not expected to reverse in the foreseeable future are not recognized.
Recognition of deferred tax assets for unused tax losses, tax credits and deductible temporary differences is restricted to those
instances where it is probable that future taxable profit will be available against which the deferred tax asset can be utilized.
Deferred tax assets are reviewed at each reporting date and are reduced to the extent that it is no longer probable that the related
tax benefit will be realized.
Tax expense reflects the mix of taxing jurisdictions in which pre-tax income and losses were recognized. However, because the
geographical mix of pre-tax income and losses in interim periods may not be reflective of full year results, this may distort the
Company’s interim period effective tax rate.
(a) Tax expense consists of the following:
Current tax expense
Deferred tax expense (recovery)
Tax expense
For the years ended
December 31,
2016
December 31,
2015
$
$
($ thousands)
9,580
1,223
10,803
$
$
14,713
(2,932)
11,781
(b) The table below shows the reconciliation between tax expense reported in the Statement of Income and the tax expense that
would have resulted from applying the combined Canadian Federal and Ontario tax rate of 26.5% (2015 - 26.5%) to income before
income taxes.
76
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
For the years ended
December 31,
2016
December 31,
2015
($ thousands)
Income from continuing operations before taxes
$
28,120
$
24,144
Canadian tax rate
Theoretical tax expense
Tax cost of non-deductible items
Withholding tax on inter-company dividends
Higher effective tax rates in foreign jurisdictions
Income in discontinued operations that offset expenses in continued
operations
Other
Tax expense
26.5%
7,452
154
202
2,696
—
299
$
10,803
$
26.5%
6,398
1,208
545
3,221
489
(80)
11,781
(c) Deferred tax balances within the consolidated statements of financial position were comprised of the following:
Deferred tax assets (c)
Deferred taxes liabilities (d)
Net deferred taxes liabilities
Reconciliation of net deferred tax liabilities:
($ thousands)
Balance, beginning of year
Deferred tax (expense) recovery in the statements of income (a)
Acquisition (Note 3)
Reallocated to held-for-sale
Netted against common shares
Translation
Net change in net deferred tax liabilities during the year
Balance, end of year
December 31,
2016
December 31,
2015
($ thousands)
962
(27,006)
(26,044)
$
$
1,141
(26,515)
(25,374)
For the years ended
December 31,
2016
(25,374)
(1,223)
—
—
—
553
(670)
(26,044)
$
$
2015
(19,172)
2,932
(9,130)
2,341
1,163
(3,508)
(6,202)
(25,374)
$
$
$
$
(d) The tax effects of the temporary differences giving rise to the Company’s deferred tax assets are as follows:
Deferred tax assets:
Financing costs
Intangible assets
Tax losses carried forward
77
December 31,
2016
December 31,
2015
$
$
($ thousands)
827
—
135
962
$
$
1,089
48
4
1,141
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
Deferred tax assets are recognized to the extent that realization of the related tax benefit through future taxable profits is probable.
At December 31, 2016, Case Funding had U.S.$957,000 (2015 - U.S.$1.2 million) in tax losses carried forward and taxable timing
differences of U.S.$957,000 (2015 - $1.2 million).
The Company has determined that it is probable that all other deferred tax assets will be realized through a combination of future
reversals of temporary differences and taxable income.
(e) The tax effects of the significant components of temporary differences giving rise to the Company’s net deferred tax liabilities
are as follows:
Deferred tax assets:
Leased assets
Allowance for doubtful accounts
Tax losses carried forward
Accrued liabilities
Deferred tax liabilities:
Finance receivables
Difference in goodwill and intangible asset base
Deferred taxes liabilities, net
Deferred taxes liabilities to be realized in the next 12 months
December 31,
2016
December 31,
2015
($ thousands)
80,470
$
4,438
15
475
85,398
108,946
3,458
112,404
27,006
12,763
$
$
$
$
$
63,346
4,023
353
265
67,987
90,398
4,104
94,502
26,515
5,152
$
$
$
$
$
$
The Company has determined that it is probable that all recognized deferred tax assets will be realized through a combination of
future reversals of temporary differences and taxable income.
The Company has not recognized deferred tax liabilities in respect of unremitted earnings in foreign subsidiaries, totaling $1.6
million (2015 - $1.9 million), as it is not considered probable that this temporary difference will reverse in the foreseeable future.
Significant estimates and judgments
Determining the value of deferred tax assets recognized requires an estimate of the value of tax benefits that will eventually be
realized by the Company which utilizes a lot of assumptions and estimation uncertainties that have a significant risk of resulting
in a material adjustment within the next financial year.
U.S. federal tax legislation enacted in 2004 addresses perceived U.S. tax concerns over “corporate inversion” transactions. A
“corporate inversion” generally occurs when a non-U.S. entity acquires “substantially all” of the equity interests in, or the assets
of, a U.S. corporation or partnership, if, after the acquisition, former equity holders of the U.S. corporation or partnership own a
specified level (referred to as the “percentage identity”) of equity in the non-U.S. entity, excluding equity interests acquired in the
acquiring entity in public offerings associated with the acquisition. Adverse U.S. tax consequences are only triggered if:
(i) Pawnee sells or licenses any of its assets as part of its acquisition by the Company, or licenses any assets to a related
non-U.S. entity during the subsequent 10 years; or
(ii) If it does sell or license any such assets, it does not offset its U.S. tax arising from such sales or licenses with loss
carry-forwards, foreign tax credits or certain tax amounts with similar attributes.
Management has concluded that either or both of these conditions will not be triggered.
78
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
18. MINIMUM PAYMENTS
The following are the contractual payments and maturities of financial liabilities and other commitments (including interest):
($ thousands)
2017
2018
2019
2020
2021
2022 +
Total
Accounts payable and other liabilities
$ 14,705
$
538
$
— $
— $
— $ — $
15,243
Borrowings
Customer security deposits
Convertible debentures
Interest rate swaps
(i)
(ii)
52,144
39,768
214,974
4,072
1,300
—
3,808
21,300
—
3,467
—
—
9,976
2,056
—
383
72,221
65,414
218,441
12,415
Other financial commitments
(iii)
791
294
299
219
1,496
1,406
—
467
3,369
223
Total commitments
$ 73,012
$ 65,708
$ 218,740
$ 12,634
$ 3,592
$
—
15
—
—
15
323
338
318,358
14,824
22,600
850
371,875
2,149
$ 374,024
i. Borrowings are described in Note 14, and include Chesswood’s credit facility, which is a line-of-credit and, as such, the
balance can fluctuate. The amount above includes fixed interest payments on securitization and bulk lease financing facilities
and estimated interest payments on the corporate credit facility, assuming the interest rate, debt balance and foreign exchange
rate at December 31, 2016 remains the same until December 8, 2019.
ii. The Company’s experience has shown the actual contractual payment streams will vary depending on a number of variables
including: prepayment rates, charge-offs and modifications. Accordingly, the scheduled contractual payments of customer
security deposits shown in the table above are not to be regarded as a forecast of future cash payments.
iii. The Company and its subsidiaries are committed to future minimum rental payments under existing leases for premises,
excluding occupancy costs and property tax, expiring in 2017 and 2023, which represent the bulk of other financial
commitments.
The Company has no material “off-balance sheet” financing obligations, except for long-term premises lease agreements and U.S.
$4.3 million in letters of guarantee. For contingent liabilities and other commitments, refer to Note 19 - Contingent Liabilities and
Other Financial Commitments.
19. CONTINGENT LIABILITIES AND OTHER FINANCIAL COMMITMENTS
Contingent liabilities
The Company is subject to various claims and legal actions in the normal course of its business, from various customers, suppliers
and others. The individual value of each claim and the total value of all claims as at December 31, 2016 and 2015 were not material
or a possible outflow is considered remote, additional disclosure is not required.
Other financial commitments
The Company has entered into retention agreements with certain employees whereby such employees shall be entitled to certain
retention severance amounts upon the occurrence of events identified in each respective agreement.
20. CAPITAL MANAGEMENT
The Company’s capital consists of shareholders’ equity, which at December 31, 2016 amounted to $157.9 million (December 31,
2015 - $156.6 million) and convertible debentures. The Company’s objectives when managing capital are to safeguard the
Company’s ability to continue as a going concern in the long-term and to provide adequate returns for shareholders.
The Company manages the capital structure and makes adjustments in light of changes in economic conditions and the risk profile
of the underlying assets. The Company uses various measures including the amount of dividends paid to shareholders.
Chesswood's three-year revolving senior secured U.S.$170 million credit facility supports growth in finance receivables, provides
for Chesswood’s working capital needs and for general corporate purposes. The facility, available in U.S. or Canadian dollars,
also improves the Company's financial flexibility by centralizing treasury management and making the provision of capital to
individual businesses more efficient.
79
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
Financing facilities of operating subsidiaries are used to provide funding for the respective subsidiary’s operations (i.e. to provide
financing for the purchase of assets which are to be the subject of leases\loans or to support working capital). The financing
facilities are not intended to directly fund dividends by the Company.
21. COMMON SHARES
(a)
(b)
(c)
Balance, December 31, 2014
Public offering, net of costs
Private placement
Business acquisition
Exercise of restricted share units (Note 23(b))
Exercise of options (Note 23(a))
Balance, December 31, 2015
Exercise of restricted share units (Note 23(b))
Exercise of options (Note 23(a))
Other
Repurchase of common shares under issuer bid
(d)
Common shares
(# '000s)
Amount
($ thousands)
$
10,420
3,303
615
1,816
38
72
49,039
29,051
5,925
16,583
535
593
16,264
$
101,726
38
236
10
(34)
466
2,520
100
(216)
Balance, December 31, 2016
16,514
$
104,596
(a) On March 12, 2015, the Company completed the public offering of 3,302,600 subscription receipts (“Subscription Receipts”)
at a price of $9.75 per Subscription Receipt (the “Public Offering”). The Public Offering was oversubscribed, and 430,800 of the
Subscription Receipts were issued as a result of the exercise in full of the over-allotment option granted to the underwriters of the
Public Offering. Costs of $3.2 million (net of $1.2 million tax impact) were deducted from the $32.2 million of proceeds raised.
(b) Chesswood concurrently completed a non-brokered private placement of 615,384 Subscription Receipts at the same offering
price as under the Public Offering to certain directors, officers and other insiders. Each Subscription Receipt entitled the holder
thereof to receive, for no additional consideration, one common share in the capital of Chesswood upon the completion of the
acquisition of Blue Chip and EcoHome.
At the close of business on March 17, 2015, the Company completed its acquisition of Blue Chip and EcoHome (Note 3). On
March 18, 2015, the Subscription Receipts were exchanged for Common Shares.
(c) As partial consideration for the acquisition of Blue Chip and EcoHome, 1,806,384 Common Shares were issued. The vendor's
shares are subject to an escrow agreement that provides for, amongst other things, a staged release of these shares, from escrow,
over a three year period. For valuation purposes, the discount on these restricted shares was calculated based on the theoretical
price of a put option on the shares with an expiry date equal to the trading restriction period. A value of approximately $9.14 per
Common Share was calculated.
(d) Normal course issuer bids
In August 2016, the Board of Directors approved the repurchase and cancellation of up to 1,078,096 of the Company’s outstanding
Common Shares for the period commencing August 25, 2016 and ending on August 24, 2017. From August 25, 2016 to December
31, 2016, 6,000 Common Shares were repurchased under this normal course issuer bid at an average cost of $10.9877. The excess
of the purchase price over the average stated value of Common Shares purchased for cancellation is charged to retained earnings.
Additionally, the Company has entered into an automatic share purchase plan with a broker for the purpose of permitting the
Company to purchase its Common Shares under the normal course issuer bid at such times when the Company would not be
80
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
permitted to trade in its own shares during internal blackout periods, including during regularly scheduled quarterly blackout
periods. Such purchases will be determined by the broker in its sole discretion based on parameters the Company has established.
In August 2015, the Board of Directors approved the repurchase and cancellation of up to 1,078,741 of the Company’s outstanding
Common Shares for the period commencing August 25, 2015 and ending on August 24, 2016. During August 2016, 28,356
Common Shares were repurchased under this normal course issuer bid at an average cost of $10.5710.
22. EXCHANGEABLE SECURITIES
As partial consideration for the acquisition of Pawnee in May 2006, 1,274,601 Class B shares and 203,936 Class C shares of U.S.
Acquisitionco were issued (“Exchangeable Securities”). The Exchangeable Securities are non-voting shares of U.S. Acquisitionco
and are fully exchangeable for Common Shares of the Company, on a one-for-one basis, for no additional consideration, through
a series of steps and entitle the holders to receive the same dividends as the Common Shares. Attached to the Exchangeable
Securities are Special Voting Units of the Company which provide the holders of the Exchangeable Securities voting equivalency
to Company Shareholders. The Exchangeable Securities are reflected as non-controlling interest. Under IFRS 10, Consolidated
Financial Statements, the Exchangeable Securities must be shown as non-controlling interest because they are equity in a subsidiary
not attributable, directly or indirectly, to the parent even though they have no voting powers in the subsidiary. There are no
restrictions to the Company’s ability to access or use assets and settle liabilities of U.S. Acquisitionco as a result of the non-
controlling interest. The non-controlling interest share of the Company’s consolidated net assets and net income is presented on
the consolidated financial statements.
23. COMPENSATION PLANS
From time to time, the Company compensates certain members of management in the form of share-based compensation. The cost
of equity-settled transactions with employees is recognized, together with a corresponding increase in equity, over the period
during which the performance and or service conditions are fulfilled and ending on the vesting date at which point the employees
become fully entitled to the award. The cumulative expense also takes into account the number of equity instruments that the
Company expects will ultimately vest.
The fair-value of option grants are calculated using the Black-Scholes option pricing model and recognized as compensation
expense over the vesting period of those grants and a corresponding adjustment is made to Reserves in Shareholders’ Equity. Any
consideration received on exercise of options together with amounts previously credited to Reserves for these options is credited
to Common Shares.
The fair-value of Restricted Share Units (“RSUs”) granted is calculated based on the market price of the Common Shares on the
day of the grant. RSUs granted are considered to be in respect of future services and are recognized as compensation expense over
the vesting period with a corresponding adjustment credited to Reserves in Shareholders’ Equity. On exercise of the RSUs the
amounts previously credited to Reserves is credited to Common Shares. Where the terms of an equity-settled award are modified,
the minimum expense recognized is the expense determined as if the terms had not been modified. Additional expense is recognized
for any modification which increases the total fair value of the share-based compensation arrangement, or is otherwise beneficial
to the employee at the date of the modification.
When an equity-settled award is cancelled, it is treated as if it had vested on the date of cancellation and any expense not yet
recognized is recognized immediately.
The dilutive effect of outstanding options is reflected as additional equity in the computation of diluted earnings per share.
(a) Share options
During the year ended December 31, 2016, personnel expenses and the share-based compensation reserve included $751,800 (2015
- $1.1 million) relating to option expense. An additional $148,000 in share-based compensation expense is included in income
from discontinued operations during the year ended December 31, 2016.
81
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
As of December 31, 2016, unrecognized non-cash compensation expense related to the outstanding options was $605,200 (2015
- $1.1 million), which is expected to be recognized over the remaining vesting period.
A summary of the number of options outstanding is as follows:
Balance, beginning of year
Granted
Exercised
Forfeited
Balance, end of year
For the year ended
December 31,
2016
1,853,917
395,000
(235,928)
(175,000)
1,837,989
2015
1,325,156
615,000
(71,989)
(14,250)
1,853,917
During the year ended December 31, 2016, 235,928 options were exercised (2015 - 71,989) for total cash consideration of $2.0
million (2015 - $398,800). On exercise, the fair value of options that had been expensed to date during the vesting period of
$560,400 (2015 - $193,600) was transferred from reserve to Common Share capital (Common Share capital was also increased
by the cash consideration received upon exercise). For the options exercised in year ended December 31, 2016, the weighted
average share price at the date of exercise was $10.83 (2015 - $12.33).
At December 31, 2016, the weighted average exercise price is $9.82 (2015 - $9.76) and the weighted average remaining contractual
life for all options outstanding is 6.9 years (2015 - 7.06 years). The 1,112,239 options exercisable at December 31, 2016 have a
weighted average exercise price of $8.80 (2015 - 1,097,417 options at $7.89).
An analysis of the options outstanding at December 31, 2016 is as follows:
Grant date
April 13, 2010
April 25, 2011
June 10, 2011
December 6, 2011
June 25, 2012
December 6, 2012
April 29, 2014
April 16, 2015
April 29, 2015
August 15, 2016
Number of options
outstanding
Vested
Expiry date
Exercise
price
80,000
206,500
50,000
180,000
186,489
125,000
265,000
200,000
150,000
395,000
80,000
206,500
50,000
180,000
186,489
125,000
179,250
60,000
45,000
—
April 13, 2020
April 24, 2021
June 9, 2021
December 6, 2021
June 24, 2022
December 6, 2022
April 29, 2024
April 16, 2025
April 29, 2025
August 15, 2026
$
$
$
$
$
$
$
$
$
$
4.49
7.79
7.73
6.14
7.45
8.86
14.12
12.53
12.24
10.17
1,837,989
1,112,239
The option exercise price is equal to the 10-day volume weighted average price of the Shares at the date prior to the day such
Options were granted. The options vest 30% at the end of the first year, another 35% at the end of the second year, and the remaining
35% at the end of the third year. The options expire on the 10th anniversary of the grant date.
The value of the options granted during the period was determined using the Black-Scholes option pricing model with the following
assumptions:
82
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
Number of options granted
Weighted average share price at date
Expected volatility
Expected life (years)
Expected dividend yield
August 15,
2016
395,000
$10.17
30% - 32%
5 - 7
7.41%
Risk-free interest rates
Weighted average fair value of
options granted
0.62% - 0.86%
$1.09
April 29, 2015
April 16, 2015 March 17, 2015
Number of options granted
Weighted average share price at date
150,000
$12.24
290,000
$12.53
175,000
$11.00
Expected volatility
Expected life (years)
Expected dividend yield
Risk-free interest rates
Weighted average fair value of
options granted
31% - 57%
31% - 57%
31% - 58%
5 - 7
6.42%
5 - 7
6.46%
5 - 7
6.95%
0.59% - 0.95%
0.59% - 0.95%
0.53% - 0.95%
$2.40
$2.31
$2.22
The risk free rate was based on the Government of Canada benchmark bond yield on the date of grant for a term equal to the
expected life of the options. Expected volatility was determined by calculating the historical volatility of the Company’s share
price over a period equal to the expected life of the options. The expected life was based on the contractual life of the awards and
adjusted, based on management’s best estimate and historical redemption rates.
The Black-Scholes Option Pricing Model was developed for use in estimating the fair value of traded options, which have no
black-out or vesting restrictions and are fully transferable. In addition, the Black-Scholes Option Pricing Model requires the use
of subjective assumptions, including the expected stock price volatility. As a result of the Company’s Stock Option Plan having
characteristics different from those of traded options, and because changes in the subjective assumptions can have a material effect
on the fair value estimates, the Black-Scholes Option Pricing does not necessarily provide a single measure of the fair value of
options granted.
(b) Restricted share units
A summary of the restricted share units ("RSUs") outstanding is as follows:
For the year ended
December 31,
2016
2015
66,000
42,000
(38,000)
70,000
60,000
44,000
(38,000)
66,000
Balance, beginning of year
Granted
Exercised
Balance, end of year
83
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
During the year ended December 31, 2016, personnel expenses and share-based compensation reserve included $471,900 (2015
- $566,300) relating to RSUs. As of December 31, 2016, unrecognized non-cash compensation expense related to non-vested
RSUs was $169,700 (2015 - $214,500).
During the year ended December 31, 2016, an aggregate of 42,000 (2015 - 44,000) RSUs were granted to directors and expire in
ten years. The grantees of such RSUs are not entitled to the dividends paid before the RSUs are exercised. Such RSUs typically
vest one year from the date of issue and are to be settled by the issue of Common Shares. RSUs granted are in respect of future
services and are expensed over the vesting period. Compensation cost is measured based on the market price of the Common
Shares on the date of the grant of the RSUs, which was $10.17 (2015 - $12.27).
During the year ended December 31, 2016 and 2015, 38,000 RSU's were exercised, upon exercise, the fair value of RSU's that
had been expensed during the vesting period of $466,300 (2015 - $534,700) was transferred from reserve to Common Share capital.
For the RSUs exercised in year ended December 31, 2016, the weighted average share price at the date of exercise was $10.48
(2015 - $12.30).
The weighted average remaining contractual life for all RSUs outstanding is 8.4 years (2015 - 8.6 years).
An analysis of the RSUs outstanding at December 31, 2016 is as follows:
Grant date
April 25, 2011
June 25, 2012
May 22, 2013
May 23, 2014
May 25, 2015
August 15, 2016
Number of RSUs
outstanding
Vested
Expiry date
Value on grant
date
4,000
6,000
6,000
6,000
6,000
42,000
70,000
4,000
6,000
6,000
6,000
6,000
—
28,000
April 24, 2021
June 24, 2022
May 21, 2023
May 23, 2015
May 21, 2025
August 15, 2026
$
$
$
$
$
$
7.79
7.45
11.65
14.07
12.27
10.17
24. DIVIDENDS
Under the Chesswood credit facility (see Note 14 - Borrowings), the maximum cash dividends (or cost of any repurchases under
normal course issuer bids) that the Company can pay in respect of a month is 1/12 of 90% (prior to January 25, 2016 - 1/12 of
80%) of free cash flow for the most recently completed four financial quarters in which Chesswood has publicly filed its condensed
consolidated interim financial statements (including its annual financial statements in respect of a fourth quarter), including the
free cash flow of acquired companies for the corresponding period for periods prior to acquisition dates.
In conjunction with the sale of EcoHome (Note 4(e)), the Company declared a special dividend of $0.50 per share on February
18, 2016 for shareholders of record on February 29, 2016 and was paid on March 15, 2016, totaling $8.9 million.
The maximum permitted cash dividend allowed under Chesswood's credit facility has been increased up to $3.4 million until
November 2017 in relation to the gain realized on the sale of Sherway.
The following dividends were paid to Common Shareholders and Exchangeable Securities holders (included as non-controlling
interest) during year ended December 31, 2016:
84
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
Record date
Payment date
Cash dividend
per share ($)
Total dividend
amount
($ thousands)
December 31, 2015
January 29, 2016
February 29, 2016 - special
February 29, 2016
March 31, 2016
April 29, 2016
May 31, 2016
June 30, 2016
July 29, 2016
August 31, 2016
September 30, 2016
October 31, 2016
November 30, 2016
January 15, 2016
February 16, 2016
March 15, 2016
March 15, 2016
April 15, 2016
May 16, 2016
June 15, 2016
July 15, 2016
August 15, 2016
September 15, 2016
October 17, 2016
November 15, 2016
December 15, 2016
$
$
$
$
$
$
$
$
$
$
$
$
$
$
0.065
0.065
0.500
0.065
0.065
0.065
0.065
0.065
0.065
0.065
0.065
0.065
0.070
1,153
1,154
8,874
1,154
1,154
1,154
1,158
1,158
1,158
1,161
1,161
1,161
1,257
$
22,857
The following dividend was declared but not paid to Common Shareholders and Exchangeable Securities holders during the year-
ended December 31, 2016 and are included in accounts payable and other liabilities:
Record date
Payment date
Cash dividend
per share ($)
Total dividend
amount
($ thousands)
December 30, 2016
January 16, 2017
$
0.07
$
1,259
The following dividends were declared before the financial statements were authorized for issue but not recognized during the
year-ended December 31, 2016:
Record date
Payment date
Cash dividend
per share ($)
Total dividend
amount
($ thousands)
January 31, 2017
February 28, 2017
February 15, 2017
March 15, 2017
$
$
0.07
0.07
$
$
1,259
1,259
2,518
The following dividends were paid to Common Shareholders and Exchangeable Securities holders (included as non-controlling
interest) during year ended December 31, 2015:
85
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
Record date
Payment date
Cash dividend
per share ($)
Total dividend
amount
($ thousands)
December 31, 2014
January 30, 2015
February 27, 2015
March 31, 2015
April 30, 2015
May 29, 2015
June 30, 2015
July 31, 2015
August 31, 2015
September 30, 2015
October 30, 2015
November 30, 2015
January 15, 2015
February 17, 2015
March 16, 2015
April 15, 2015
May 15, 2015
June 15, 2015
July 15, 2015
August 17, 2015
September 15, 2015
October 15, 2015
November 16, 2015
December 15, 2015
$
$
$
$
$
$
$
$
$
$
$
$
$
0.065
0.065
0.065
0.065
0.065
0.065
0.065
0.065
0.065
0.065
0.065
0.065
773
773
774
1,146
1,147
1,152
1,152
1,153
1,153
1,153
1,153
1,153
$
12,682
The following dividend was declared but not paid to Common Shareholders and Exchangeable Securities holders during the year-
ended December 31, 2015 and are included in accounts payable and other liabilities:
Record date
Payment date
Cash dividend
per share ($)
Total dividend
amount
($ thousands)
December 31, 2015
January 15, 2016
$
0.065
$
1,153
The following dividends were declared before the financial statements were authorized for issue but not recognized during the
year-ended December 31, 2015:
Record date
Payment date
Cash dividend
per share ($)
Total dividend
amount
($ thousands)
January 29, 2016
February 29, 2016
February 29, 2016
February 15, 2016
March 15, 2016
March 15, 2016
$
$
$
0.065
0.500
0.065
$
$
1,153
8,875
1,153
11,181
25. EARNINGS PER SHARE
Basic earnings per share is calculated by dividing net income for the year attributed to common shareholders by the weighted
average number of common shares outstanding during the year. Diluted earnings per share is calculated using the same method
as for basic earnings per share and adjusted for the weighted average number of common shares outstanding during the year to
reflect the dilutive impact, if any, of any options, RSUs, or other commitments and instruments assuming they were exercised for
that number of common shares calculated by applying the treasury stock method. The treasury stock method assumes that all
proceeds received by the Company when options are exercised will be used to purchase common shares at the average market
price during the reporting period.
86
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
Basic earnings per share is computed by dividing net income for the period by the weighted average number of common shares
outstanding during the year.
Weighted average number of common shares outstanding
Dilutive effect of options
Dilutive effect of restricted share units
For the year ended
December 31,
2016
2015
16,345,328
15,102,043
357,950
60,339
356,639
63,616
Weighted average common shares outstanding for diluted earnings per share
16,763,617
15,522,298
Options and convertible debentures excluded from calculation of diluted shares for
the year due to their anti-dilutive effect
1,556,176
1,666,176
26. RELATED PARTY TRANSACTIONS
a) The Company has no parent or other ultimate controlling party.
b) The Company’s key management consists of the President & Chief Executive Officer, Chief Financial Officer and the Board
of Directors. Key management compensation is as follows:
Salaries, fees and other short-term employee benefits
Share-based compensation
Compensation expense of key management
For the year ended
December 31,
2016
2015
($ thousands)
1,144
929
2,073
$
$
1,314
1,084
2,398
$
$
c) In February 2016, $6 million (2015 - nil) was paid to a related party entity as contingent consideration payable in respect of the
acquisition of Blue Chip and EcoHome in 2015 (see Note 3 - Business Acquisition). The entity is deemed a related party because
a Director is a shareholder of that entity and the entity owns more than 10% of the outstanding common shares of the Company.
The director was also an officer of Chesswood and Blue Chip at the time of the payment.
d) The Company paid fees to a related party for consulting services subsequent to his resignation as an officer of Chesswood and
Blue Chip. The individual is deemed a related party because he is a Director and owns more than 10% of the outstanding common
shares of the Company. The expense incurred during the year ended December 31, 2016 was $150,000 (2015 - nil) and is included
in other expenses in the consolidated statement of income. The consulting arrangement was completed during 2016 and no further
fees are expected.
e) See Note 21 - Common Shares relating to private placement in March 2015.
87
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
27. CASH FLOW SUPPLEMENTARY DISCLOSURE
Other non-cash items included in net income
Share-based compensation expense
Amortization of deferred financing costs
Financing costs - convertible debentures
Unrealized gain on investments
Escrow receivable accretion
Contingent consideration accretion (reduction)
Unrealized (gain) loss on interest rate swaps
Unrealized (gain) loss on foreign exchange
Change in other net operating assets
Prepaid expenses and other assets
Accounts payable and other liabilities
Customer security deposits
Borrowings – continuing operations
Chesswood credit facilities - proceeds
Chesswood credit facilities - payments
Proceeds from securitization and bulk lease financing facilities
Payments under securitization & bulk lease financing facilities
Non-cash transactions
Common shares issued for business acquisition
Common shares issued on exercise of restricted shares
For the year ended
December 31,
2016
2015
($ thousands)
$
1,224
$
1,463
740
1,660
(3)
(128)
(678)
(15)
(111)
2,689
$
654
$
1,545
106
2,305
$
746
602
—
—
1,055
846
57
4,769
(80)
(562)
(774)
(1,416)
$
176,121
(147,882)
66,298
(51,627)
137,770
(102,061)
47,454
(32,892)
42,910
$
50,271
— $
466
$
16,583
535
$
$
$
$
$
$
$
88
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
28. SEGMENT INFORMATION
Selected information by segment and geographically is as follows:
($ thousands)
Year ended December 31, 2016
Equipment
Financing -
U.S.
Equipment
Financing -
Canada
Discontinued
Operations
(Note 4)
Corporate
Overhead
- Canada
Interest revenue on leases and loans
$
67,033
$
10,432
$
— $
Ancillary finance and other fee income
Interest expense
Provision for credit losses
Finance margin
Personnel expenses
Share-based compensation expense
Other expenses
Amortization - property and equipment
Income before undernoted items
Amortization - intangible assets, contingent
consideration accretion/reduction (non-cash)
Fair value adjustments - convertible debentures and
investments
Unrealized gain on interest rate swaps
Unrealized gain on foreign exchange
Income before taxes
Tax expense
Income from continuing operations
Income from discontinued operations
Net income
Net cash used in operating activities
Net cash from investing activities
Net cash from financing activities
Total assets
Total liabilities
Finance receivables
Goodwill and intangible assets
Property and equipment expenditures
$
$
$
$
$
$
$
$
$
9,440
(6,178)
(24,063)
46,232
8,719
206
8,169
293
28,845
—
—
—
—
28,845
8,498
20,347
—
20,347
4,259
(3,646)
(1,756)
9,289
2,611
67
1,553
19
5,039
(1,337)
—
—
—
3,702
1,032
2,670
— $
$
2,670
$
(26,048) $
(844) $
(12,772) $
— $
— $
14,623
$
$
$
$
$
172,073
117,734
130,779
40,988
— $
330,549
39,655
300,269
21,691
844
$
$
$
$
$
(1,657)
(1,657)
419
—
—
419
1,377
951
1,665
—
(3,574)
678
15
111
(4,427)
1,273
(5,700)
—
(5,700) $
(5,400) $
$
24,964
5,613
$
$
$
Total
77,465
14,118
(9,824)
(25,819)
55,940
12,707
1,224
11,387
312
30,310
(659)
15
111
28,120
10,803
17,317
6,961
24,278
(46,820)
24,120
18,533
527,937
370,043
431,048
62,679
844
6,961
6,961
$
(2,600) $
— $
(1,703) $
5,903
$
19,412
— $
212,654
— $
— $
— $
— $
— $
— $
Segments are identified on the same basis that is used internally to manage and to report on performance, taking into account
materiality and the products and services of each segment and the organizational structure of the Company. The Company’s
operations consist of the following reportable segments: Equipment Financing - U.S. and Equipment Financing - Canada.
Chesswood’s U.S. Equipment Financing business is located in the United States and is involved in small-ticket equipment leasing
and lending to small and medium-sized businesses. For the purpose of this segment information note, at December 31, 2016 and
2015, Windset's information is aggregated with Chesswood's U.S. Equipment Financing segment as both Pawnee and Windset
offer lending solutions to small businesses in the United States and Windset continues to leverage off Pawnee's experience, processes,
broker channel and "back-office" support for collections and documentation. The Canadian Equipment Financing segment provides
commercial equipment financing to small businesses in Canada and includes Blue Chip.
89
Notes to the Consolidated Financial Statements
For the years ended December 31, 2016 and 2015
($ thousands)
Year ended December 31, 2015
Equipment
Financing -
U.S.
Equipment
Financing -
Canada
Discontinued
Operations
(Note 4)
Corporate
overhead
- Canada
Interest revenue on leases and loans
$
58,624
$
$
— $
Ancillary finance and other fee income
Interest expense
Provision for credit losses
Finance margin
Personnel expenses
Share-based compensation expense
Other expenses
Amortization - property and equipment
Income before undernoted items
Acquisition related items
Amortization - intangible assets, contingent
consideration accretion (non-cash)
Fair value adjustments - convertible
debentures
Unrealized loss on interest rate swaps
Unrealized loss on foreign exchange
Income before taxes
Tax expense
Income from continuing operations
Income from discontinued operations
Net income
Net cash used in operating activities
Net cash used in investing activities
Net cash from financing activities
Total assets
Total liabilities
Finance receivables
Goodwill and intangible assets
Property and equipment expenditures
8,025
2,780
(2,696)
(558)
7,551
2,148
66
1,531
22
3,784
—
(1,180)
—
7,148
(5,067)
(18,371)
42,334
6,828
243
6,060
216
28,987
—
—
—
—
—
28,987
9,420
19,567
—
19,567
$
—
2,604
801
1,803
—
1,803
$
(31,302) $
(201) $
— $
(13,304) $
$
2,561
$
14,562
7,441
7,441
$
(7,214) $
(73) $
$
13,762
$
$
107,840
73,808
290,580
38,372
253,083
22,359
201
$
$
$
$
$
155,558
101,893
112,476
42,226
53
$
$
$
$
$
$
$
$
$
$
$
$
$
$
Total
66,649
9,928
(7,763)
(18,929)
49,885
10,207
1,464
9,177
253
28,784
(897)
(2,238)
(602)
(846)
(57)
24,144
11,781
12,363
7,441
19,804
(56,962)
(23,543)
84,739
565,510
408,955
365,559
64,585
254
—
—
—
—
1,231
1,155
1,586
15
(3,987)
(897)
(1,058)
(602)
(846)
(57)
(7,447)
1,560
(9,007)
—
(9,007) $
(5,142) $
(25,830) $
$
56,415
11,532
194,882
$
$
— $
— $
— $
Segment information is prepared in conformity with the accounting policies adopted for the Company’s financial statements. The
role of the “chief operating decision maker” with respect to resource allocation and performance assessment is embodied in the
position of Chief Executive Officer. The performance of the segments is measured on the basis of net income or loss before tax.
Net assets, which are defined as total segment assets less total segment liabilities, are used as the basis of assessing the allocation
of resources. When compared with the last annual financial statements, there are no differences in the basis of segmentation or
in the basis of measuring segment results.
90
Chesswood Group Limited
DIRECTORS, OFFICERS AND OTHER INFORMATION
Directors
Executive Team
Frederick W. Steiner
Director, Chairman of Chesswood Group Limited
C.E.O., Imperial Coffee and Services Inc.
Barry Shafran
President & C.E.O.
Clare Copeland
Director, Chairman, Compensation Committee
Vice-Chair, Falls Management Company
Lisa Stevenson
Chief Financial Officer
Barry Shafran
Director
President & C.E.O., Chesswood Group Limited
Other Information
Auditors
BDO Canada LLP
David Obront
Director
President, Carpool Two Ltd.
Transfer Agent
TSX Trust Company
Robert Day
Director
Former Chairman, Pawnee Leasing Corporation
Corporate Counsel
McCarthy Tétrault LLP
Samuel Leeper
Director , Chairman, Audit and Governance Committee
Former C.E.O., Pawnee Leasing Corporation
Website
www.chesswoodgroup.com
Daniel Wittlin
Director
Former President & C.E.O. of Blue Chip Leasing
Toronto Stock Exchange Symbols
CHW
CHW.DB
2016 ANNUAL REPORT
Equipment Finance Company
Serving U.S. and Canada
TSX: CHW
Executive Office:
Chesswood Group Limited
156 Duncan Mill Road, Suite 15
Toronto, Ontario, Canada M3B 3N2
Tel. 416.386.3099 • Fax. 416.386.3085
email:investorrelations@chesswoodgroup.com
www.chesswoodgroup.com
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