Continental Resources Annual Report 2014

Plain-text annual report

Our Growth Story Our Growth Story Clearwater SeafoodS InCorporated 2014 annual report About Clearwater Clearwater is one of North America’s largest vertically integrated seafood companies and the largest holder of shellfish licenses and quotas in Canada. It is recognized globally for its superior quality, food safety, diversity of species and reliable worldwide delivery of premium wild, eco-certified seafood, including scallops, lobster, clams, coldwater shrimp, crab and groundfish. Since its founding in 1976, Clearwater has invested in science, people and technological innovation as well as resource ownership and management to sustain and grow its seafood resource. This commitment has allowed it to remain a leader in the global seafood market and in sustainable seafood excellence. In 2014 Clearwater sold 81 million pounds of premium, wild, eco-labelled seafood, including scallops, lobster, clams, coldwater shrimp, crab and groundfish to over 30 different countries. Clearwater head office Bedford, NS, Canada Clearwater sales offices Shanghai, China Beijing, China Guangzhou, China Tokyo, Japan Windsor, United Kingdom Leesburg, VA, USA Toronto, ON, Canada Clearwater divisions Fleet operations – Lunenburg, NS Grand Bank Seafoods – Grand Bank, NL Highland Fisheries – Glace Bay, NS Louisville – Louisville, Kentucky Pierce Fisheries – Lockeport, NS St. Anthony Seafood – St. Anthony, NL Ushuaia, Argentina Clearwater harvesting operations Argentina East coast of Canada Clearwater Overview Leading Global Provider of Wild-Caught Shellfish Clearwater is North America’s largest vertically integrated harvester, processor and distributor of premium shellfish. Clearwater is recognized for its consistent quality, wide diversity, and reliable delivery of premium, wild, eco-labelled seafood, including scallops, lobster, clams, coldwater shrimp, crab and groundfish, with more than 81 million pounds sold in 2014. Powerful Industry Fundamentals Global demand for premium wild-caught seafood among aging boomers and a rising middle class in the Asia- Pacific region is outpacing resource supply. This in combination with conservatively managing wild seafood fisheries to protect the long-term health of the industry is creating new opportunities from the rising demand for high-quality sustainable seafood. Clearwater’s Vertical Integration Creates Barriers to Entry and Sustainable Competitive Advantage Clearwater is the largest holder of shellfish quotas and licenses within Canada and maintains the widest selection of MSC-certified species of any shellfish harvester worldwide. These quotas are a key barrier to entry as regulatory authorities strictly control access and rarely grant new licenses. In addition, the financial resources required to acquire and, harvest fishing quotas create barriers to entry. Clearwater has a number of other competitive advantages such as state-of-the-art factory vessels and advanced onshore processing, storage and distribution capabilities. In addition, Clearwater maintains a global, direct sales force that is capable of interacting with and selling directly to diverse markets worldwide. Our channel mix in food service, retail and other food industries ensures a diverse community of customers and, in addition, we have a diverse customer mix with no single customer representing more than 6% of total sales. Proven and Experienced Leadership Team Clearwater continues to build upon our world-class leadership with best-in-class programs for quality control and food safety, operations and new product development. In addition over the past few years Clearwater has added a number of key personnel to complement its existing team to continue to support strong financial and operational growth. More than 81 million pounds of premium shellfish sold Sold to more than 30 different countries in 2014 Seven MSC- Certified Species Clearwater holds the widest selection of MSC-certified species of any shellfish harvester worldwide Clearwater Seafoods Incorporated 2014 Annual Report 1 Highlights in 2014 Record Sales and Adjusted EBITDA Strong Financial Position Record sales of $445 million and adjusted EBITDA of $87 million, Improved free cash flow by 18% to $31 million driven by improvements in growth of 14% and 10%, respectively adjusted EBITDA and working capital Growth in sales 14% Growth in adjusted EBITDA 10% Growth in Innovation Completed a record investment of $83 million in our vessels and other assets in 2014 $83 million $31 million Growth for Investors Increased the annual dividend by 60% to $0.16 per share, payable in quarterly installments of $0.04 per share 60% increase Capital Expansion and Innovation Began conversion of a third vessel for the clam business to expand access to supply by up to 60%; harvesting to begin in late 2015 with full operations in 2016 2 Clearwater Seafoods Incorporated 2014 Annual Report Progress on Strategic Operating Plan The Company is on track to achieve its five year plan of $100 million in adjusted EBITDA at the end of the five years ending in 2016 or earlier Diversified Products Improvements in Productivity Successfully began launch of a new clam species in Japan, China and North America and Efficiencies Launched a converted scallop vessel with harvesting to begin early in the first quarter of 2015 in Argentina. The vessel will modernize our operation, improving productivity and quality Recognition Received 2014 Rabobank Innovation Award for dedication to innovation Best New Products Scallops & Sauce was named best new Deli, Egg, Meat & Seafood Product of the Year at the 21st Canadian Grand Prix New Product Awards Clearwater Seafoods Incorporated 2014 Annual Report 3 5 Years of Growth SALES (in millions) ADJUSTED EBITDA1 (in millions) 445 87 79 72 389 350 61 51 333 316 2010 2011 2012 2013 2014 2010 2011 2012 2013 2014 Over the past five years, Clearwater’s annual sales and adjusted EBITDA has grown at cumulative average growth rates of 9% and 15%, respectively, primarily as a result of stronger sales price and volumes. 450 In 2014 Clearwater reported record sales of $445 million and adjusted EBITDA of $87 million versus 2013 comparative figures of $389 million and $79 million. 400 350 300 250 '2010 '2011 The growth of 14% in sales and 10% in adjusted EBITDA1 was driven by strong market demand that provided higher sales prices for the majority of species, as well as strengthening foreign exchange rates which had a $20.7 million positive impact on sales and adjusted EBITDA. 100 Free cash flow1 improved by $5 million to $31 million due to higher adjusted EBITDA and a positive contribution from working capital partially offset by 80 higher capital expenditures from scheduled refits and vessel conversions (net of designated borrowings), and payments to minority interest partners. 60 Over the past five years, Clearwater’s annual sales and adjusted EBITDA 40 have grown at cumulative average growth rates of 9% and 15%, respectively, primarily as a result of stronger sales prices and volumes. 20 Sales prices increased for the majority of species and in particular for sea '2012 and bay scallops and shrimp. Growth in volumes for sea scallops, clams '2014 '2013 '2011 '2014 '2010 '2013 '2012 0 and shrimp have also contributed to the growth, while foreign exchange rates have had a $2 million net negative impact on sales and adjusted EBITDA over the same five year period. 1 Refer to discussion on non-IFRS measures, definitions and reconciliations 4 Clearwater Seafoods Incorporated 2014 Annual Report '2010 316 '2011 333 '2012 350 '2013 389 '2014 445 '2010 51 '2011 61 '2012 72 '2013 79 '2014 87 FREE CASH FLOWS1 (in millions) LEVERAGE1 RETURN ON ASSETS1 31 26 17 3.9 3.8 2.9 2.7 2.6 13.4% 13.7% 12.1% 11.4% 10.8% 4 (2) 2010 2011 2012 2013 2014 2010 2011 2012 2013 2014 2010 2011 2012 2013 2014 Free cash flow has grown concurrently with the increase in adjusted EBITDA Both leverage and return on assets have also improved over the last five years. Clearwater continues to have a long-term leverage target of 3.0x or lower of net debt to adjusted EBITDA and a target of over 12% for return on assets. “ Clearwater continued to make remarkable progress in 2014 achieving its fifth consecutive year of revenue growth and increased profits. Since 2009, we’ve increased sales revenue by over $138 million and adjusted EBITDA by over $48 million. Over the same period, with a disciplined and rigorous approach to capital allocation, we’ve invested over $150 million in our fleet, plants, information systems and people.” Ian Smith, Chief Executive Officer As a result of these operational improvements to sales due to seasonality, but over time Clearwater intends and adjusted EBITDA, free cash flow has increased 4.0 from a use in cash of $2 million in 2010 to positive 3.5 to manage to this ratio (refer to non-IFRS measures, 15 definitions and reconciliations for changes in the 12 free cash flow of $31 million in 2014, even with record 3.0 leverage calculation for 2014 and the 2013 capital expenditures of $83 million ($20 million net of 2.5 comparative period). 9 designated borrowings) in the current year. 2.0 Both leverage1 and return on assets1 have also 1.5 improved over the last five years. Clearwater continues 1.0 to have a long-term leverage target of 3.0x or lower 0.5 The improvement to earnings, cash flows, leverage and return on assets over the past five years provides 6 Clearwater with the capability to deliver and improve results through innovation and through opportunities to 3 of net debt to adjusted EBITDA. Periodically, the ratio 0.0 '2010 '2011 '2012 increase access to supply. '2013 '2010 '2014 0 '2011 '2012 '2013 '2014 may be higher due to planned investments, or lower '2010 '2014 '2013 '2011 '2012 '2010 -2416 '2011 3855 '2012 17347 '2013 26122 '2014 30857 '2010 3.9 '2011 3.8 '2012 2.9 '2013 2.7 '2014 2.6 Clearwater Seafoods Incorporated 2014 Annual Report '2010 11.4 '2011 10.8 '2012 12.1 '2013 13.3 5 '2014 13.7 35000 30000 25000 20000 15000 10000 5000 0 -5000 In 2015 Clearwater will continue to realize on its investments in technology and innovation. The first of planned vessel innovations for 2015 will be the addition of a recently converted scallop vessel in Argentina, which will modernize operations and improve efficiency and quality. The replacement vessel will begin harvesting in the first quarter of 2015 setting a new standard for the Argentine operations moving forward. In addition, Clearwater will add a third vessel to our clam fleet in the second half of 2015 and expand our clam harvest capacity by up to 60% with harvesting to begin late in 2015 with full operations in 2016. Other initiatives will include increasing available supply of lobster and other procured species and the implementation of a new enterprise resource planning system (“ERP”) which is expected to be implemented in late 2015. Clearwater will take advantage of the strengthening US economy and expanding global demand in 2015. The possibility of gains from lower input costs such as oil and a more positive foreign exchange environment will provide Clearwater with the ability to manage costs, improve gross margins and create growth. Finally, Clearwater is well positioned to benefit from the addition of new and future trade agreements such as the CETA trade initiative between Canada and the European Union and other agreements such as the agreement recently completed with the Republic “ We begin 2015 with the expectation that the five-year strategic goals that we set out to accomplish at the beginning of 2012 are now within our reach. 2015 will also be the year in which we lay of Korea. the foundation for our next five-year strategic plan.” Ian Smith, Chief Executive Officer 6 Clearwater Seafoods Incorporated 2014 Annual Report “ Over the span of our 20-year relationship, Ebisho has grown into the company it is today due in part to Clearwater’s consistent and thorough approach to product quality, food safety and customer satisfaction. It is no exaggeration to say that the popularity of Canadian Lobster in Japan today can be attributed to Clearwater’s commitment to the market and their forward-looking approach.” – Takashi Usami, President and Chief Executive Officer, EBISHO Corp “ Clearwater isn’t just a supplier to The Keg – they’re a partner. Be it through their support of The Keg Foundation or their ability to help us flawlessly execute our wildly popular and successful annual lobster promotion. Time and time again, we’re able to rely on Clearwater’s expertise and their high-quality and sustainably sourced products.” – Craig Davies, Director of Corporate Services, The Keg Steakhouse + Bar “ At Wannebo, we couldn’t be more proud of our decade-long partnership in Scandinavia with Clearwater. Their consistently outstanding product quality, commitment to food safety and strong sustainability credentials have enabled us to build the Clearwater brand into the preferred brand by Chefs across Scandinavia. 2014 was a record year for Clearwater sales at Wannebo and we look forward to continued growth in the years to come.” – Edvard Tanche-Bergh, Managing Director, Wannebo International AS Clearwater Seafoods Incorporated 2014 Annual Report 7 Letter from the Chairman of Clearwater Seafoods Incorporated Achieved record sales and adjusted EBITDA To our shareholders, I am happy to report yet another outstanding year for Clearwater Seafoods Incorporated. The Board is very pleased with the record sales of $445 million and adjusted EBITDA of $87 million achieved in 2014. These equate to strong growth of 14% in sales and 10% in adjusted EBITDA. At the same time the company did not lose focus on the importance of cash flows and shareholder returns and delivered 18% growth in free cash flows and increased the dividend by 60% in 2014. We believe this strong performance positions the company in the top quartile versus our seafood industry peers for the fourth year in a row. As Chairman, I am also very pleased with the work of your Directors over the past year and how focused they were on the goal of creating sustainable long-term value for our shareholders. The following will give you a fuller appreciation of some of the areas our four Board Committees have worked on in 2014: Governance Chaired by Jim Dickson with members Larry Hood, Tom Traves and Stan Spavold. This committee was very active in 2014 and began the year early by conducting a survey of Board members so as to promote best practices in Board effectiveness. After that, it identified external and internal education opportunities for the Board, reviewed and reported on TSX rules on majority voting, reviewed the adequacy of director competencies and compensation, reviewed the mandates of the various Board committees, formalized the process by which the satisfaction of the mandates is evidenced, reviewed new rules regarding Disclosure of Corporate Governance Practices and finally it reviewed and updated the company’s share ownership policy. All in 8 Clearwater Seafoods Incorporated 2014 Annual Report all, a very busy year in which the committee focused Human Resources Development and on implementing the best practice governance policies Compensation that it put in place in 2013. Finance Chaired by Stan Spavold with members John Risley, Jim Dickson and Brendan Paddick. This committee had another busy year and spent a lot of its time reviewing the status of some significant investments, including a new clam vessel, a new information system and several other potential investments in plants and vessels as well as working with management in reviewing numerous external development opportunities. In addition, the committee members received and reviewed reports on foreign exchange management, interest rate management, liquidity targets, rating agencies, debriefs of the returns on capital projects Chaired by Harold Giles with members Tom Traves, Mickey MacDonald and Brendan Paddick. This committee spent a lot of time over the past year working with the CEO on proposed changes to the executive leadership team to ensure the company’s growth and efficiency initiatives are adequately resourced, including the addition of a newly created position – President Global Supply Chain. The committee also continued to work to ensure there are well developed talent management and development plans for key positions. Finally, they have worked to ensure that our compensation practices are aligned with shareholder interests by linking annual and long-term incentive plans to the creation of shareholder value. as well as regular updates on debt and equity market It is through this focused approach that Clearwater’s conditions. It also worked with management to management group with the support and direction from develop free cash flow targets, review and set dividend very active Board members are able to excel in creating levels, review the cost of capital of the organization and sustainable long-term value for our shareholders. finally early in 2014 it reviewed and recommended an equity offering. The work of this committee continues to be invaluable in ensuring Clearwater has a sound capital structure that helps to position the company for further growth. Audit Looking forward, global demand for seafood is outpacing supply, creating favourable market dynamics for vertically integrated producers such as Clearwater which have strong resource access. Clearwater, as a vertically integrated seafood company, is well positioned to take advantage of this opportunity Chaired by Larry Hood with members Tom Traves, because of its licenses, premium product quality, Stan Spavold and Jim Dickson. In 2014 the committee’s diversity of species, global sales footprint, and year- focus continued to be on investing time to understand round harvest and delivery capability. and ensure the key risks and opportunities are clearly communicated to investors in disclosure documents. During the past year they used a self assessment tool, reviewed their mandate and reviewed the quality of the work of the external auditors so as to promote best practices. They also took the initiative in organizing Board education sessions that included business In closing, we remain focused on our commitment and on our mission to build the world’s most extraordinary, wild seafood company, and we are pleased to offer our shareholders the opportunity to participate in this exciting sector of the food industry and in Clearwater’s passionate pursuit of excellence. reviews, securities laws, certification and certain Yours truly, technical accounting issues. Finally, they received and reviewed regular reports on key estimates and areas of judgment and finance resources. In summary, the committee did a great job to ensure that our investors get a full and balanced view of the financial results, risks, opportunities and future prospects of the C o lIn M aC do n a l d Chairman business in each and every disclosure document. Clearwater Seafoods Incorporated Clearwater Seafoods Incorporated 2014 Annual Report 9 Letter from the Chief Executive Officer of Clearwater Seafoods Incorporated What an extraordinary year! I am very pleased to report that Clearwater continued to make remarkable progress in 2014 achieving its fifth consecutive year of revenue growth and increased profits. To our shareholders, Since 2009, we’ve increased sales revenue by over $138 million and adjusted EBITDA by over $48 million. Over the same period, with a disciplined and rigorous approach to capital allocation, we’ve invested over $150 million in our fleet, plants, information systems and people, increasing our return on assets from 7.5% to 13.7%. We begin 2015 with the expectation that the five-year strategic plan goals we set out to accomplish at the beginning of 2012 are now within our reach – one full year ahead of our original timetable! 2015 will also be the year in which we lay the foundation for our next five-year strategic plan (2016–2020) which will continue to focus on executing with excellence against our six core strategies: Expand Access to Supply In 2015, we will welcome a third vessel to our clam fleet and expand our harvest capacity up to an incredible 60%. We will also continue to actively invest in access to supply, including acquisitions and joint ventures, as well as harvesting and royalty contracts. Target Profitable & Growing Markets, Channels & Customers We continue to benefit from strong and increasing global demand for sustainably harvested, safe, traceable and premium wild seafood. In 2015, we will continue to advance our go-to-market approach in both traditional and new markets. This two-pronged approach takes advantage of our “on trend” health, sustainability, traceability, quality and food safety credentials in developed markets as well as the rapid urbanization, rising incomes and increased seafood consumption of emerging markets to literally “supercharge” our growth. 10 Clearwater Seafoods Incorporated 2014 Annual Report Increase Margins by Improving Price Realization and Cost Management In 2015, we will fully implement our first “ocean-to-shelf” global supply chain. We have ambitious expectations to drive top and bottom line growth, capturing savings in global supply chain efficiencies and improved productivity. Pursue and Preserve the Long-term Sustainability of Resources on Land and Sea As a leading global supplier of wild-harvested seafood – sustainability remains at the core of our business and our mission. Investing in the long-term health and responsible harvesting of the oceans and their bounty – is every harvester’s responsibility and the only proven way to ensure access to a reliable, stable and long-term supply of seafood. Sustainability is not just good business; like innovation, it’s in our DNA. That’s why Clearwater has been recognized by the Marine Stewardship Council (MSC) and WWF as a leader in sustainable harvesting for wild fisheries and also how Clearwater can offer the widest selection of sustainably certified species of any seafood harvester worldwide. Build Organizational Capability, Capacity & Engagement This level of performance can only be achieved by a talented and engaged global workforce at sea and on land, employing well-communicated strategies and plans with measurable objectives. It also requires an enduring commitment to invest in our people. In closing, there are two special groups I wish to thank. Our customers around the world who share our commitment to quality and sustainability and without whose loyalty and support we could never hope to succeed. Finally, our Clearwater employees, for their hard work, dedication and focus. They are truly our greatest asset, the reason why we are all excited about the future of our company and why we believe that the best is yet to come! Sincerely, I a n d. SM It h Chief Executive Officer Clearwater Seafoods Incorporated 2015 priorities • Expand access to supply • Implement our first ocean-to- shelf global supply chain organization and enterprise resource planning system • Continue to invest in technology and innovation on land and at sea to drive sustainable profitable growth • Continue to build our global workforce Clearwater Seafoods Incorporated 2014 Annual Report 11 Growth Report: Progress on Our Strategic Operating Plan Innovation has been the cornerstone of our strategic operating plan and will provide us the opportunity to achieve $100 million in adjusted EBITDA by 2015. As we begin 2015, the five year strategic goals that we set out to accomplish at the beginning of 2012 are now within our reach. 2015 will also be the year in which we lay the foundation for our next five-year strategic plan which will continue to focus on executing with excellence against our core strategies including expanding access to supply, targeting growing and profitable markets, channels and customers, increasing margins by improving price and cost management, pursing and preserving the long-term sustainability of resources on land and at sea, and building organizational capability and capacity. Species Innovation The introduction of a clam species that has improved catch rates and created new opportunities, primarily in the Asian market. The introduction of our new clam vessel in the second half of 2015 will provide a significant opportunity to increase harvest and sales volumes by up to 60%. New Product Development Continued growth of our value-added products achieved through expanded distribution to new geographies, like Australia, and through innovative new products, like Shrimp & Sauce, utilizing Clearwater’s unique enrobing technology. 12 Clearwater Seafoods Incorporated 2014 Annual Report Modernizing Our Fleet Our newest vessel, the Capesante, began sailing the seas in 2015. This vessel will modernize our operation and set a new standard for our Argentine scallop business moving forward. Operational Efficiencies For the 2014 season, Clearwater implemented a state-of-the-art cooking system for cooked and peeled shrimp that circulates a steam and air mixture through the product at controlled temperatures. The new process was successful in increasing yield and improving quality while reducing energy consumption. Food Safety Our Grand Bank facility was the third Clearwater plant to receive the industry-leading British Retail Consortium (BRC) certification – obtaining an A grade in the process. GRADE A Growing Globally: China Clearwater continues to see strong growth and success in China as their emergent middle class continues to fuel discretionary spending and demand for foreign brands. Clearwater Seafoods Incorporated 2014 Annual Report 13 Growth Report: Progress on Our Strategic Operating Plan Looking forward, in order to achieve our 2015 goals and set the course for the next five year strategic plan, we will embrace more change as we continue to innovate what we do and how we do it. As a result, 2015 will be another year of unprecedented investment in our people and innovation. Procurement In 2015 Clearwater plans to continue to expand procurement including inshore lobster, crab and shrimp. Launching Scallop Selects Ready for the global market in 2015 is an exciting launch of formed scallops that serve as a platform to deliver taste and value to consumers as well as an incremental supply to customers seeking high-quality substitutes for regular sea scallops. Investing in Science Clearwater continues to be one of a few harvesters committed to maintaining a survey vessel for scientific purposes. In early 2015 we will renew this commitment with the conversion of a newly purchased vessel featuring a state-of-the-art survey platform. 14 Clearwater Seafoods Incorporated 2014 Annual Report Commitment to Sustainable Harvest and to MSC In 2015 Clearwater will continue to research and develop new processes for the lobster fishery that are more environmentally sustainable as we continue to be conscious of our commitment to our MSC certification. Culinary Achievements Our industry-leading culinary team offered value to our foodservice partners globally through customer visits and custom ideation sessions in 2014. We also increased our trade show presence in Asia, Europe and North America helping to build awareness and develop relationships with customers around the world. Channels & Consumers We’re readying expansion of more of our top-selling North American products to customers in Europe and continuing to partner with North American customers to create attractive private label offerings. Growing Globally: Japan Clearwater celebrated significant growth in the Japanese market with increased clam and lobster sales. Growth in both the Kaiten sushi and foodservice catering sectors, coupled with decades long relationships with key Japanese customers, contributed to Clearwater’s success in this market. Clearwater Seafoods Incorporated 2014 Annual Report 15 Management’s Discussion and Analysis Table of contents Management discussion and analysis Selected annual information Mission, value proposition and strategies Capability to deliver results Key performance indicators Explanation of 2014 results Capital structure Liquidity Explanation of fourth quarter 2014 results Outlook Risks and uncertainties Critical accounting policies Related party transactions Commitments Summary of quarterly results Deﬁ nitions and reconciliations Clearwater Seafoods Incorporated – 2014 ﬁ nancial statements Quarterly and share information Selected annual information Corporate information 17 17 18 20 20 28 30 35 42 43 45 47 48 49 50 57 95 96 inside back cover This Management’s Discussion and Analysis (“MD&A”) was prepared effective February 25, 2015. The Audit Committee and the Board of Directors of Clearwater Seafoods Incorporated (“Clearwater”) have reviewed and approved the contents of this MD&A, the ﬁ nancial statements and the 2014 fourth quarter news release. All ﬁ gures within the MD&A are in thousands of Canadian dollars unless otherwise stated. This MD&A should be read in conjunction with the 2014 annual ﬁ nancial statements and the 2014 Annual Information Form, which are available on Sedar at www.sedar.com as well as Clearwater’s website, www.clearwater.ca. C O M M E N TA RY R E G A R D I N G F O R WA R D - L O O K I N G S TAT E M E N T S This Report may contain forward-looking statements. Such statements involve known and unknown risks, uncertainties, and other factors outside management’s control including, but not limited to, total allowable catch levels, selling prices, weather, exchange rates, fuel and other input costs that could cause actual results to differ materially from those expressed in the forward- looking statements. Clearwater does not undertake any obligation to publicly revise these forward-looking statements to reﬂ ect subsequent events or circumstances other than as required under applicable securities laws. N O N - I F R S M E A S U R E S This MD&A makes reference to several non-IFRS measures to supplement the analysis of Clearwater’s results. These measures are provided to enhance the reader’s understanding of our current ﬁ nancial performance. They are included to provide investors and management with an alternative method for assessing our operating results in a manner that is focused on the performance of our ongoing operations and to provide a consistent basis for comparison between periods. These non-IFRS measures are not recognized measures under IFRS, and therefore they are unlikely to be comparable to similar measures presented by other companies. Management believes that in addition to sales, net earnings and cash provided by operating activities, these non-IFRS measures are useful terms from which to determine Clearwater’s ability to generate cash for investment in working capital, capital expenditures, debt service, income tax and dividends. These non-IFRS measures include gross margin, adjusted EBITDA, free cash ﬂ ows, leverage, adjusted earnings and return on assets. Refer to non-IFRS measures, deﬁ nitions and reconciliations for further information. 16 Clearwater Seafoods Incorporated 2014 Annual Report S E L E C T E D A N N U A L I N F O R M AT I O N (In 000’s except per share amounts) For the year ended December 31 Sales Gross margin Net earnings Basic and diluted earnings per share Adjusted EBITDA1 Total assets Long-term debt $ 2014 444,742 102,834 9,797 (0.05) $ 2013 388,659 87,368 15,298 0.12 $ 2012 350,302 72,525 22,704 0.29 87,368 79,103 72,243 464,397 273,041 410,796 257,325 410,789 253,791 C L E A R WAT E R ’ S M I S S I O N , VA L U E P R O P O S I T I O N A N D S T R AT E G I E S Mission Clearwater’s mission is to build the world’s most extraordinary, wild seafood company, dedicated to sustainable seafood excellence. We deﬁ ne: • “extraordinary” as sustainable, proﬁ table growth in revenue, margins, adjusted EBITDA, free cash ﬂ ows and the creation of long term shareholder value; • “wild seafood” as premium wild shellﬁ sh. Including our core species – (scallops, lobster, clams and coldwater shrimp); and • “sustainable seafood excellence” as delivering best-in-class, quality, food safety, traceability and certiﬁ ed sustainability. We believe that the fulﬁ llment of this mission will result in extraordinary value creation for shareholders, customers, employees and for the communities in which we work and live. Over the last three years, Clearwater has made signiﬁ cant progress in all aspects of its mission. Revenues have increased 27% since 2012 despite a challenging global economy. Gross margins have increased more than 2.4 percentage points from 20.7% in 2012 to 23.1% in 2014. Adjusted EBITDA1 has grown at a 20.9% cumulative average growth rate over the last three years. With this improved performance Clearwater has been able to improve its capital structure, increase shareholder value and reduce leverage1 to 2.6x adjusted EBITDA at December 31, 2014 versus 2.9x at December 31, 2012. Value proposition At Clearwater, we have a passion for wild seafood and strive to deliver a highly differentiated and competitively advantaged value proposition to a global customer base. Key elements of Clearwater’s unique value proposition are: • Great tasting, nutritious, highest quality, frozen-at-sea, premium shellﬁ sh. • Expertise in premium shellﬁ sh science, harvesting, processing and logistics technology to ensure quality and safety from “ocean to plate”. • Marine Stewardship Council (“MSC”) certiﬁ cation for sustainability of species to ensure both the traceability and long-term health of our wild resource. • Competitively advantaged global customer service with local market understanding and insight. • Scale in license and quota ownership guaranteeing exclusive and stable supply to service even the largest global retail and food service customers. 1 Refer to discussion on non-IFRS measures, deﬁ nitions and reconciliations Clearwater Seafoods Incorporated 2014 Annual Report 17 Management’s Discussion and Analysis Strategies Clearwater’s six core strategies are designed to strengthen a competitive and differentiated value proposition. They are: 1. Expand access to supply of core species through procurement, acquisitions, partnerships, joint ventures, and yield- improving harvesting and processing technology. At Clearwater, we strive to sell everything we catch at a premium. Being a sustainable harvester in a world of rapidly growing global demand and limited supply of wild seafood means that we must act responsibly, with agility and creativity to increase supply. 2. Target proﬁ table and growing markets, channels and customers on the basis of size, proﬁ tability, demand for sustainable seafood and Clearwater’s ability to win. The increase in global demand for premium shellﬁ sh and per capita consumption can be explained by general population growth, the shift to healthier eating choices among aging boomers and by rising income and purchasing power of middle class consumers in emerging economies – especially in Asia. Clearwater’s worldwide distribution presence combined with local sales and marketing teams creates a competitive advantage and positions Clearwater for growth in both mature and emerging markets. Clearwater has sales ofﬁ ces in all major geographies including the United States, Canada, Europe, as well as four representative ofﬁ ces in China. 3. Innovate and position products to deliver superior customer satisfaction and value. The value of Clearwater’s premium seafood is primarily differentiated on the dimensions of taste, nutrition, quality, safety and sustainability. Clearwater is also well known in the industry for pioneering innovative harvesting technologies and processing practices that further enhance this positioning. Going forward, Clearwater will continue to lever these strengths and its vertical integration to win in existing segments while capturing a growing share of the seafood value chain through the introduction of value-added new products in core species. 4. Increase margins by improving price realization and cost management, exercising price inﬂ uence to maximize revenue and proﬁ t while managing supply. In addition Clearwater will continue to invest in research and development, introducing state-of-the-art harvesting, processing, storage and delivery systems that minimize per pound cost, reduce waste, increase yield and improve quality and reliability of supply. 5. Pursue and preserve the long term sustainability of resources on land and sea. Our ﬁ shing licences and quotas are the cornerstone of Clearwater’s business. From the beginning, Clearwater has invested in licences and quota in rights based ﬁ sheries to guarantee access to supply, as well as to create a defensible position in the market place. Clearwater’s licences and quotas provide not only the security of supply, but also the scale needed to invest in leading edge science and innovative harvesting, processing and marketing efforts. Our strategy of investing in secure access to the resource depends on ensuring sustainable harvesting through responsible resource management. Clearwater works in partnership with the Department of Fisheries and Oceans (“DFO”) to lead research and development of sustainable harvesting practices, ensuring the long term health of the resource and value for the licenses and total allowable catch (“TAC”). 6. Build organizational capability, capacity and engagement. To ensure the fulﬁ llment of its mission, value proposition and strategies, Clearwater will continue to attract, develop, recognize, reward and retain the best global talent. C A PA B I L I T Y T O D E L I V E R R E S U LT S Clearwater’s revenues and earnings are dependent primarily on its ability to harvest, purchase, and market shellﬁ sh. Supply is dependent to a large extent on the annual total allowable catch (“TAC”) for each species. The annual TAC is related to the health of the stock of the particular species as determined by the relevant government ﬁ shery management organizations. All stocks are managed sustainably providing assurance of the long term availability of the resource, however annual ﬂ uctuations in supply of a natural resource are normal. Short term impacts of such ﬂ uctuations can normally be offset within Clearwater’s species portfolio and/or by making adjustments within each business unit. The primary shellﬁ sh stocks that Clearwater harvests are Canadian sea and Argentine scallops, clams, lobster and coldwater shrimp, which are harvested in offshore ﬁ sheries that have a limited number of participants. Clearwater harvests sea and Argentine scallops and clams with its own vessels. Clearwater obtains its lobster and coldwater shrimp through harvesting with its own vessels and through purchases from independent ﬁ shermen. 18 Clearwater Seafoods Incorporated 2014 Annual Report • The sea scallop resource typically ﬂ uctuates within a stable range. Clearwater anticipates TACs within the normal range in upcoming years. Clearwater lands virtually all its sea scallop quota each year and may from time to time harvest quotas for other industry participants or purchase raw material supply from other industry participants. • The Arctic surf clam resource is stable. Clearwater has quota allocations on both Banquereau Bank and the Grand Banks. Total annual landings are currently based upon the harvesting capacity of our two vessels. Clearwater’s new vessel will enter the ﬂ eet in 2015 and will increase clam landing volumes. • The Argentine scallop resource has stabilized after a period of growth and expansion of the ﬁ shery. Volumes in 2015 are expected to be down slightly from recent years. Argentina is the ﬁ rst scallop ﬁ shery in the world to have earned the rigorous Marine Stewardship Council (MSC) independent certiﬁ cation. Clearwater lands virtually all its scallop quota each year. • Coldwater shrimp – The Northern shrimp TAC has declined from historic highs over the last ﬁ ve years and is expected to continue to decline at a similar rate over the next ﬁ ve years. Clearwater holds access to quotas directly through licences and through long term harvesting agreements. Clearwater procures shrimp from the inshore for its cooked and peeled business and supplements this with raw material from its offshore vessels. • The offshore lobster resource is healthy with a consistent offshore TAC and the inshore resource continues to support abundant catches. Clearwater harvests virtually all its lobster quota each year. During 2014, Clearwater purchased approximately 80% of its lobster from inshore lobster ﬁ shermen. Clearwater maintains the largest, most modern ﬂ eet of factory freezer vessels in Canada together with vessels that are used to harvest Clearwater’s offshore lobster and to complete research and development. (In 000’s) For the year ended December 31 Vessels Plants and other Return on investments capital Maintenance capital Maintenance capital Repairs and maintenance Depreciation/ amortization Maintenance spending as a % of depreciation $ $ $ $ $ $ $ 2014 72,700 10,609 83,309 60,417 22,892 $ $ $ 2013 17,025 6,788 23,813 6,346 17,467 83,309 $ 23,813 22,892 14,149 $ 17,467 13,144 37,041 $ 30,611 23,753 155.9% $ 24,167 126.7% $ $ $ $ $ $ $ 2012 Total 11,780 4,792 $ 101,505 22,189 16,572 $ 123,694 2,772 13,800 $ 69,535 54,159 16,572 $ 123,694 13,800 12,837 26,637 22,475 118.5% $ $ $ 54,159 40,130 94,289 70,395 133.9% In 2014 Clearwater had a record investment in capital expenditures of $83.3 million. Capital expenditures included $36.4 million related to the construction of the new clam harvesting vessel which will have a total cost of approximately $60 million and is expected to be operating late in 2015. This investment in a new clam harvesting vessel will drive growth in Clearwater’s clam business by expanding access to clam supply by approximately 60% when the customer distribution chain is fully in place by 2017. In 2014 Clearwater invested $16.7 million to complete the conversion of an Argentine scallop vessel which will begin harvesting early in the ﬁ rst quarter of 2015. Additional investments in 2014 included $7.3 million for an enterprise resource planning system (“ERP”) which is expected to be completed late 2015, $18.2 million on reﬁ ts including $12.5 million for a life extending reﬁ t of a shrimp vessel and $4.7 million on other planned maintenance. In 2013, Clearwater completed reﬁ ts on its vessels of approximately $9.3 million. Additional vessel conversion costs included $2.7 million on a new clam vessel and $5.0 million related to a scallop vessel. In 2012, Clearwater completed reﬁ ts on its vessels of $11.8 million. Capital expenditures for the year also included $2.0 million related to new vessel based processing technologies. Clearwater Seafoods Incorporated 2014 Annual Report 19 Management’s Discussion and Analysis In addition to the annual amounts capitalized above, Clearwater historically has spent and expensed on average about $13.4 million a year over the past three years on the maintenance of its ﬂ eet and processing plants. This reﬂ ects Clearwater’s commitment to ensuring that the assets are kept in top condition, enabling it to harvest and process its allowable catch efﬁ ciently and providing sufﬁ cient capacity. Clearwater’s largest ﬂ eet investments are in its eight factory vessels. These vessels are used in the harvesting of Canadian scallops, Argentine scallops, shrimp and clams. Of the eight factory vessels: • Two are used to harvest shrimp and are on average 21 years old. These vessels have a capacity to harvest 14,000 to 18,000 metric tons of our 22,000 metric ton quota and our entire 1,900 metric ton turbot quota in a ready for market form. One of the vessels was built in 1985 and in 2014 Clearwater invested $12.5 million in a late-life reﬁ t, thereby extending its useful life. • Four are used to harvest sea and bay scallops with the sea scallop vessels being on average 17 years old and the bay scallop vessels being on average 19 years old. In 2012, Clearwater completed the conversion to automated processing factories on its sea scallop vessels using proprietary technology and as result of the related improvement in harvesting and processing capabilities, had two idle sea scallop vessels. In 2014, one of the idle vessels was converted from harvesting sea scallops to harvesting bay scallops and will begin operations in early 2015. • Two of Clearwater’s vessels are used to harvest clams and are on average 21 years old. Both of these vessels are harvesting at capacity. In 2013, Clearwater began the construction of a new clam harvesting vessel which will increase access to available supply in 2015. In 2015 Clearwater expects to make signiﬁ cant growth investments of approximately $56 million in capital assets, of which $19 million relates to the construction of the third clam vessel, $6 million for the purchase and conversion of a research vessel. $13 million related to maintenance capital investments and $18 million to improve operational efﬁ ciencies in our plants and information systems. E X P L A N AT I O N O F 2 0 1 4 A N N U A L E A R N I N G S Overview The following statements reﬂ ect the results of Clearwater for the years ended December 31, 2014 and 2013: In 000’s of Canadian dollars Year ended December 31 Sales Cost of goods sold Gross margin Administrative and selling Finance costs Foreign exchange loss on forward contracts Other income Research and development Earnings before income taxes Income tax expense (recovery) Earnings Earnings attributable to: Non-controlling interest Shareholders of Clearwater 20 Clearwater Seafoods Incorporated 2014 Annual Report 2014 2013 $ 444,742 341,908 $ 388,659 301,291 102,834 23.1% 48,252 37,829 4,047 (5,031) 1,991 87,088 15,746 5,949 87,368 22.5% 39,005 33,935 8,812 (3,240) 1,659 80,171 7,197 (8,101) $ $ $ 9,797 $ 15,298 12,702 (2,905) $ 8,965 6,333 9,797 $ 15,298 2014 annual earnings Clearwater reported strong sales for 2014 of $444.7 million and adjusted EBITDA1 of $87.4 million, versus 2013 comparative ﬁ gures of $388.7 million and $79.1 million, respectively. The 14.4% and 10.4% growth in sales and adjusted EBITDA, respectively was driven by strong market demand that provided higher sales prices for the majority of species as well as strengthening foreign exchange rates for the US dollar and the Euro against the Canadian dollar. These higher foreign exchange rates had a $20.7 million positive impact on sales and gross margin in 2014. In addition higher catch rates for clams and a higher total allowable catch (“TAC”) for sea scallops increased supply which also contributed to the increase in gross margin. This increase was partially offset by higher per pound harvesting and procurement costs as well as higher administrative and selling costs. Harvesting and procurement costs were higher due to an increase in harvest costs for scallops and shrimp and higher purchase prices for procured scallops, inshore shrimp, lobster and snow crab. Administrative and selling costs, increased $9.2 million as a result of an increase in non-cash adjustments of $3.1 million related to share-based incentive compensation and $1.4 million for a write down on goodwill related to non-core species. In addition, higher reorganizational costs associated with a senior executive as well as increases in salaries and beneﬁ ts increased administrative costs. Free cash ﬂ ow1 improved by $4.7 million to $30.9 million in 2014 due to higher adjusted EBITDA and a $8.9 million improvement in working capital, partially offset by higher capital expenditures from scheduled reﬁ ts and vessel conversions (net of designated ﬁ nancing), and the timing of payments to minority interest partners. Earnings for 2014 were $5.5 million lower than 2013 primarily as a result of an increase in deferred income tax expense and non- cash unrealized foreign exchange losses from the translation of the US dollar denominated debt as the US dollar strengthened against the Canadian dollar. These non-operational losses were partially offset by reductions in debt arrangement costs. 2014 2013 Change $ 9,797 $ 15,298 $ (5,501) In 000’s of Canadian dollars Year ended December 31 Earnings (loss) Changes due to operational items: Higher gross margin Higher administrative and selling Lower interest expense Higher realized foreign exchange losses Changes due to non-operational items: Lower debt arrangement costs Higher unrealized foreign exchange losses on debt and working capital Higher deferred income tax expense Fair value adjustments on convertible debentures and embedded derivative All other 15,466 (9,247) 1,594 (3,663) 4,150 9,216 (5,795) (13,277) (481) (10,337) 686 $ (5,501) 1 Refer to discussion on non-IFRS measures, deﬁ nitions and reconciliations Clearwater Seafoods Incorporated 2014 Annual Report 21 Management’s Discussion and Analysis Sales by region (In 000’s of Canadian dollars) Year ended December 31 Europe United States Canada North America China Japan Other Asia Asia Other Europe 2014 2013 Change % $ 149,616 $ 131,771 $ 17,845 84,943 61,668 76,945 55,838 146,611 132,783 73,308 57,496 15,494 66,212 41,639 14,438 146,298 122,289 2,217 1,816 7,998 5,830 13,828 7,096 15,857 1,056 24,009 401 $ 444,742 $ 388,659 $ 56,083 13.5% 10.4% 10.4% 10.4% 10.7% 38.1% 7.3% 19.6% 22.1% 14.4% Europe is Clearwater’s largest scallop market and it is an important market for coldwater shrimp and lobster products. European sales increased $17.8 million to $149.6 million for 2014 as compared to 2013, primarily as a result of strong market demand that increased sales volumes and prices for sea scallops as a higher total allowable catch increased available supply for sea scallops. Strengthening foreign exchange rates1 against the Canadian dollar and higher sales prices for shrimp also contributed to the increase in sales. This was partially offset by lower available supply of shrimp and Argentine scallops as available supply of shrimp was sold in higher yielding markets and we experienced lower catch rates for Argentine scallops. Sales, which were primarily transacted in the Euro1, GBP, the US dollar and DKK during 2014 were positively impacted by $8.9 million due to higher foreign exchange rates. The Euro improved 5.6% relative to the Canadian dollar from 1.383 in 2013 to 1.460 in 2014 and the UK pound improved 11.6% relative to the Canadian dollar from 1.627 in 2013 to 1.815 in 2014. United States The United States is an important market for scallops, coldwater shrimp, lobster and clams. It is our most diverse market, where a wide variety of products are sold. Sales in the United States increased $8.0 million, or 10.4% to $84.9 million primarily as a result of stronger foreign exchange rates1 and an increase in sales volumes and price for sea scallops. Stronger market demand, which was partially impacted by a lower supply of scallops harvested by US based companies, resulted in increased sales prices. This was partially offset by lower sales volumes for snow crab due to a shift in sales to higher yielding markets and lower catch rates for Argentine scallops that reduced available supply for 2014. Sales were also positively impacted by $5.4 million in 2014 due to stronger foreign exchange rates as average rates for the US dollar strengthened against the Canadian dollar. Average foreign exchange rates for the US dollar increased by 6.8% to 1.103 in 2014. Canada Canada is a large market for lobster, scallops and coldwater shrimp. Sales in Canada increased $5.8 million, or 10.4% primarily as a result of higher sales volumes for snow crab, lobster and clams. Strong market demand for snow crab and lobster increased sales prices and changes in product mix for clams also contributed to the increase in sales. Strong catch rates in 2014 increased available supply for clams. Sales were partially offset by a reduction in sales volumes for sea scallops as available supply was sold to higher yielding markets. 1 Refer to discussion on risks and uncertainties 22 Clearwater Seafoods Incorporated 2014 Annual Report China China is an important market for clams, coldwater shrimp, lobster, turbot and scallops. Sales to customers in China increased $7.1 million or 10.7%, to $73.3 million due to higher foreign exchange rates and strong market demand that increased both sales volumes and price for clams. Higher catch rates for clams, an increase in total allowable catch for sea scallops and an increase in sales price for lobster and sea scallops also contributed to the increase in sales for the year. Sales volumes for shrimp declined for the year partially offsetting the increase in sales as a result of timing in landings as one vessel was on reﬁ t in the second and third quarter of 2014. Chinese sales are almost exclusively transacted in US dollars. The US dollar strengthened against the Canadian dollar in 2014 contributing to the increase in sales by $4.6 million as average foreign exchange rates1 for the US dollar strengthened against the Canadian dollar by 6.8% to 1.103 in 2014. Japan Japan is an important market for clams, lobster, coldwater shrimp and turbot. Sales to customers in Japan increased $15.9 million or 38.1%, to $57.5 million in 2014 primarily as a result of strong market demand that increased sales volumes for shrimp, clams, turbot and lobster. Higher available supply from an increase in catch rates for clams and an increase in sales prices for shrimp contributed to the increase in sales for the year. Changes in sales mix for clams and lobster partially offset the increase in sales. Sales by species1 (In 000’s of Canadian dollars) Year ended December 31 Scallops Coldwater shrimp Lobster Clams Crab Ground ﬁ sh and other $ 2014 163,705 93,742 78,186 72,774 20,985 15,350 $ 2013 147,637 81,592 66,452 60,780 18,271 13,927 $ Change 16,068 12,150 11,734 11,994 2,714 1,423 $ 444,742 $ 388,659 $ 56,083 % 10.9 14.9 17.7 19.7 14.9 10.2 14.4 Sales increased $56.1 million, or 14.4%, for 2014 as a result of higher exchange rates and strong market demand that increased sales prices for the majority of species and in particular for sea scallops and shrimp. Higher total allowable catch for scallops and catch rates for clams also contributed to the increase in sales. The increase in sales was partially offset by lower catch rates for Argentine scallops and lower landings for shrimp as one vessel was on reﬁ t. Cost of goods sold (In 000’s of Canadian dollars) Year ended December 31 Harvesting and procurement Manufacturing Depreciation Transportation Administration 1 Refer to discussion on risks and uncertainties $ 2014 245,724 36,690 24,139 22,720 12,635 $ 2013 207,057 35,275 23,733 22,826 12,400 $ Change 38,667 1,415 406 (106) 235 $ 341,908 $ 301,291 $ 40,617 % 18.7 4.0 1.7 (0.5) 1.9 13.5 Clearwater Seafoods Incorporated 2014 Annual Report 23 Management’s Discussion and Analysis Cost of goods sold increased $40.6 million or 13.5% to $341.9 million primarily as a result of an increase in harvesting and procurement costs. Harvesting and procurement include all costs incurred in the operation of the vessels including labour, fuel, repairs and maintenance, ﬁ shing gear supplies, other costs and fees plus procured raw material costs for lobster, shrimp, scallops and crab. Excluding the increase in costs from higher sales volumes, harvesting and procurement costs were higher due to higher harvesting costs per pound for scallops and shrimp and higher procurement costs for lobster, sea scallops, shrimp and snow crab. This was partially offset by changes in sales mix weighted towards products with lower harvesting costs such as clams. Fuel costs for our vessels declined $0.3 million in 2014 to $25.1 million as a result of a reduction in litres consumed by the clam and shrimp vessels. Scheduled reﬁ ts reduced our ﬁ shing effort for shrimp and improved catch rates for clams reduced the number of seadays in 2014. The decline in fuel volume was partially offset by an increase in average price per litre of fuel of $0.04 to an average of $0.88 per litre in 2014. Clearwater’s vessels used approximately 28.4 million litres of fuel in 2014. Based on 2014 fuel consumption, a one-cent per litre change in the price of fuel would impact harvesting costs by approximately $0.2 million. Clearwater uses Marine Diesel in its harvesting operations, the price of which does not correlate closely to publically available measures such the price of a barrel of oil. This is due to a number of factors including but not limited to the nature of the fuel used, the geographic locations in which Clearwater purchases fuel and the currency in which Clearwater purchases fuel. Manufacturing includes labour costs related to the production and selling of goods, plant utilities and supplies. Labour costs increased as a result of rising wages, salaries and beneﬁ ts and increased production of certain species. Depreciation costs increased in 2014 as a result of large investments made to our ﬂ eet. Transportation costs include freight, customs and duties related to the transfer of goods to market. Administrative overheads include salaries and beneﬁ ts, professional and consulting fees and management fees attributable to the harvesting and production of goods. Refer to administrative and selling section for further information. Gross margin Gross margin as a percentage of sales improved from 22.5% in 2013 to 23.1% for 2014, due to higher sales prices and favourable exchange1 rates. Strong demand provided higher sales prices for the majority of species and strengthening foreign exchange1 rates for the US dollar and the Euro against the Canadian dollar impacted positively on margins. Higher catch rates for clams and higher total allowable catch for sea scallops, increased available supply which also contributed to the increase in gross margin. Higher harvesting costs per pound for scallops and shrimp and higher shore prices per pound for shrimp, sea scallops, lobster and snow crab partially offset the increase in margins. In addition lower catch rates for Argentine scallops and a reduction in landings for shrimp partially offset the improvement in gross margin. The net impact on sales from foreign exchange volatility was an increase in sales of $20.7 million. Year ended December 31 Currency US dollars Euros Japanese Yen Danish Kroner UK pounds Canadian dollar and other 2014 Average rate realized 1.103 1.460 0.010 0.196 1.815 % sales 46.5% 20.5% 9.8% 3.7% 4.4% 15.1% 100.0% % sales 49.1% 21.5% 8.0% 3.5% 3.1% 14.8% 100.0% 2013 Average rate realized 1.033 1.383 0.011 0.182 1.627 Change in rate 6.8% 5.6% -9.1% 7.7% 11.6% 0.0% 0.0% 1 Refer to discussion on risks and uncertainties 24 Clearwater Seafoods Incorporated 2014 Annual Report Administrative and selling In 000’s of Canadian dollars Year ended December 31 Salaries and beneﬁ ts Share-based incentive compensation Employee compensation Consulting and professional fees Reorganizational costs Other Selling costs Travel Occupancy Allocation to cost of goods sold $ $ 2014 30,141 8,948 39,089 6,790 3,818 3,825 3,105 2,384 1,416 (12,175) $ 2013 28,708 5,861 34,569 5,549 74 4,368 2,893 2,274 1,385 (12,107) ` Change 1,433 3,087 4,520 1,241 3,744 (543) 212 110 31 (68) $ 48,252 $ 39,005 $ 9,247 % 5.0 52.7 13.1 22.4 5,059.5 (12.4) 7.3 4.8 2.2 0.6 23.7 Administrative and selling increased $9.2 million, or 23.7%, to $48.3 million for 2014 primarily as a result of increases in share- based incentive compensation and reorganizational costs. Salaries and beneﬁ ts increased $1.4 million primarily as a result of an increase in senior management staff as well as general inﬂ ation increases to salaries. Share-based incentive compensation is primarily driven by changes in Clearwater’s share price, performance against Clearwater’s peer group and the number of outstanding share based awards outstanding. Compensation expense increased $ 3.1 million primarily as a result of an increase in Clearwater’s share price during 2014 and to a lesser extent an increase in the number of share based compensation awards granted. Consulting and professional fees include operations management, legal, audit and accounting, insurance and other specialized consulting services. Costs vary year over year based upon business requirements. The increase of $1.2 million primarily relates to consulting fees for an Enterprise resource planning system conversion that is to be completed in late 2015. Reorganizational costs include non-routine administrative expenses, gains and losses on write-down of assets, all of which will vary from year to year. The largest portion of the expenditures in 2014 relate to severance and a write down on goodwill related to a non-core species. Other includes a variety of administrative expenses such as communication, other service fees and depreciation, all of which will vary from year to year. Selling costs include advertising, marketing, trade shows, samples, product development and bad debt expenses. The allocation to cost of goods sold reﬂ ects costs that are attributable to the production of goods and are allocated on a proportionate basis based on production volumes. Finance costs In 000’s of Canadian dollars Year ended December 31 Interest and bank charges Amortization of deferred ﬁ nancing charges and accretion Interest Fair value adjustment on convertible debentures and embedded derivative Foreign exchange on debt and working capital Debt settlement and reﬁ nancing fees $ 2014 14,938 778 15,716 (1,229) 23,242 100 $ 2013 16,317 993 17,310 (1,710) 9,019 9,316 $ 37,829 $ 33,935 Clearwater Seafoods Incorporated 2014 Annual Report 25 Management’s Discussion and Analysis Finance costs increased by $3.9 million due to higher non-cash losses on foreign exchange, offset partially by lower debt settlement and reﬁ nancing fees and lower interest costs. Interest declined $1.6 million in 2014 due to lower average interest rates on Clearwater’s debt facilities. The fair value adjustment on the convertible debentures and embedded derivatives on the Term Loan B represents the change in the estimated fair values of these instruments. The convertible debentures were paid out in July 2013 and replaced with Term Loan B debt. Foreign exchange on ﬁ nancing and work ing capital In 000’s of Canadian dollars Year ended December 31 Realized loss (gain) Working capital and other Unrealized loss (gain) Foreign exchange on long term debt and working capital Mark-to-market on interest swaps and caps 2014 2013 $ 1,172 $ 3,586 1,172 3,586 19,481 2,589 22,070 5,427 6 5,433 $ 23,242 $ 9,019 Foreign exchange losses1 on ﬁ nancing and working capital increased by $14.2 million to $23.2 million in 2014. The increase was a result of higher unrealized foreign exchange losses on the translation of the $196.8 million US dollar denominated debt as foreign exchange rates strengthened 9.0% against the Canadian dollar compared to 2013. Mark-to-market losses on interest swaps and caps increased in 2014 as a result of non-cash mark to market losses on $100 million US dollar denominated interest rate swaps/caps that were entered into during the year. These arrangements are marked-to-market through proﬁ t and loss. Losses on forward contracts In 000’s of Canadian dollars Year ended December 31 Losses (Gains) on forward contract derivatives Realized loss Changes in unrealized (gain) loss 2014 2013 $ $ 8,829 (4,782) $ 2,752 6,060 4,047 $ 8,812 Losses1 on forward contracts declined $4.8 million to $4.0 million in 2014 due to higher unrealized foreign exchange gains offset partially by higher realized losses. The increase in unrealized gains on forward contracts of $10.8 million to a gain of $4.8 million in 2014 relates primarily to forward contacts with the largest driver in 2014 being Euro contracts for which the contract rate was greater than the spot rate. This was partially offset by unrealized foreign exchange losses of $3.9 million on US dollar. This increase in unrealized gains was offset by a $6.1 million increase in the realized loss on the settlement of forward contracts. This loss was a result of spot rates that were higher than contracted rates for the US dollar and Euro contracts that were closed out in 2014. The losses were more than offset by the positive impact of higher exchange rates on sales and margins. 1 Refer to discussion on risks and uncertainties 26 Clearwater Seafoods Incorporated 2014 Annual Report Clearwater’s hedging program is designed to enable Clearwater to remove uncertainty regarding exchange rates on sales receipts by locking in up to 75% of annual net foreign exchange exposure. Clearwater does this by entering into a series of foreign exchange contracts that mature throughout the ﬁ scal year and that provide for a ﬁ xed exchange rate on a portion of sales receipts. In a rising exchange rate environment such as the one we are currently in where spot rates are higher than contract rates, Clearwater realizes higher exchange rates on sales but it is required to remit the excess of the spot rate received on sales receipts over the contract rate to the counterparty on the portion of sales that it has hedged. Should the current environment of a stronger US dollar and Euro versus the Canadian dollar persist it would have a positive impact on 2015 sales but the hedging program would offset a portion of those gains and reduce the positive impact on adjusted EBITDA. However, looking forward to 2015, Clearwater would realize the beneﬁ t of such higher rates as hedging contracts that it is entering into now are at rates closer to current spot rates. Debt settlement and reﬁ nancing fees represent fees incurred for the settlement or reﬁ nancing of long term debt and will vary year to year depending on reﬁ nancing activities. Debt settlement and reﬁ nancing fees in 2013 included a $5.1 million non-cash charge related to a write-off of previously deferred ﬁ nancing charges as well as $4.2 million in reﬁ nancing fees incurred in 2013. Clearwater does not have any material near term maturing debt facilities and believes the current facilities are sufﬁ cient to execute its strategic plan. Other income In 000’s of Canadian dollars Year ended December 31 Share of earnings of equity-accounted investee Royalties, interest and other fees Other fees $ 2014 (2,987) (844) (1,200) $ 2013 (2,082) 92 (1,250) $ (5,031) $ (3,240) The share of earnings from an equity accounted investee increased $0.9 million in 2014. This equity investee is involved in the Canadian scallop business and its’ earnings increased as a result of an increase in market demand and price for scallops in 2014. Royalties, interest and other fees includes income related to quota rental, commissions, processing fees and other miscellaneous income and expense that vary based upon the operations of the business. Research and development Research and development relates to new technology and research into ocean habitats and ﬁ shing grounds. Research and development can vary year to year depending on the scope, timing and volume of research completed. Clearwater’s business plans expect an increase in investment in research and development. Income taxes Income taxes primarily relate to taxable subsidiaries in Argentina, the United States, the United Kingdom and Canada. Deferred tax assets have been recognized based on management’s estimate that it is more likely than not that Clearwater will earn sufﬁ cient taxable proﬁ t to utilize these losses. During 2013 substantial tax assets that had been previously unrecorded were recognized as an asset. In 2014 an expense was recorded to reﬂ ect the usage of a portion of that asset. Clearwater Seafoods Incorporated 2014 Annual Report 27 Management’s Discussion and Analysis Earnings attributable to non-controlling interest Non-controlling interest relates to minority share of earnings from Clearwater’s majority investments in subsidiaries in Argentina, Nova Scotia and Newfoundland and Labrador. The increase in earnings attributable to non-controlling interest of $3.7 million for 2014 relates primarily to strong market demand that increased sales prices for turbot and shrimp. It is important to note that the earnings attributable to non-controlling interest relates to Clearwater’s interest in a partnership and as such taxes are included in earnings attributable to shareholders, whereas the earnings attributable to non-controlling interest are not tax effected. For those readers that would like to understand the breakdown of adjusted EBITDA attributable to non-controlling interest and shareholders please refer to the reconciliation of adjusted EBITDA within the non-IFRS measures, deﬁ nitions and reconciliations section of the MD&A. Earnings attributable to shareholders Earnings attributable to shareholders of Clearwater declined $9.2 million from income of $6.3 million in 2013 to a loss of $2.9 million in 2014 primarily as a result of an increase in non-cash adjustments related to deferred income tax expense and unrealized foreign exchange expense. In 2013 Clearwater recorded an additional deferred tax asset of approximately $15.8 million related to the beneﬁ t of unrecognized tax losses. In 2014 Clearwater utilized a portion of the deferred tax asset. Adjusted earnings attributable to shareholders To assist readers in estimating our earnings we have included a calculation of adjusted earnings. Management believes that in addition to earnings and cash provided by operating activities, adjusted earnings is a useful supplemental measure from which to determine Clearwater’s earnings from operations and ability to generate cash available for debt service, working capital, capital expenditures, income taxes and dividends. For those readers that would like to understand the calculation of adjusted earnings please refer to the reconciliation of adjusted earnings within the non-IFRS measures, deﬁ nitions and reconciliations section of the MD&A. In 2014, adjusted earnings attributable to Clearwater’s shareholders increased $6.9 million, or 44% to $22.6 million primarily as a result of improvements in gross margin of $15.5 million and lower interest expense of $1.6 million. The improvements in adjusted earnings were partially offset by an increase in selling and administrative expenses and realized foreign exchange losses on working capital and foreign exchange contracts. In 2014, adjusted earnings per share increased to $0.41 per share from $0.31 per share in 2013. This increase was due to an improvement in adjusted earnings that was partially offset by an increase in the number of outstanding shares due to a share issue completed early in 2014. Capital structure Clearwater’s capital structure includes a combination of equity and various types of debt facilities. Clearwater’s objective when managing its capital structure is to obtain the lowest cost of capital available, while maintaining ﬂ exibility and reducing exchange risk by borrowing when appropriate in currencies other than the Canadian dollar. Clearwater uses leverage, in particular revolving and term debt to lower its cost of capital. The amount of debt available to Clearwater is a function of adjusted EBITDA less net earnings attributable to minority interest. Adjusted EBITDA can be impacted by known and unknown risks, uncertainties, and other factors outside Clearwater’s control including, but not limited to, total allowable catch levels, selling prices, weather, exchange rates, fuel and other input costs. Clearwater maintains ﬂ exibility in its capital structure by regularly reviewing forecasts and multi-year business plans and making any required changes to its debt and equity facilities on a proactive basis. These changes can include early repayment of debt, issuing or repurchasing shares, issuing new debt or equity, utilizing surplus cash, extending the term of existing debt facilities and, selling surplus assets to repay debt. 28 Clearwater Seafoods Incorporated 2014 Annual Report Clearwater’s capital structure was as follows as at December 31, 2014 and 2013: In 000’s of Canadian dollars As at December 31 Equity Common shares Retained earnings Cumulative translation account Non-controlling interest Long term debt Senior debt, non-amortizing Term loan, due in 2015 Term loan, due in 2091 Senior debt, amortization Term Loan A, due 2018 Delayed Draw term Loan A, due 2018 (net of deferred ﬁ nancing charges of $0.6 million) Term Loan B, due 2019 (including the embedded derivative) Marine mortgage, due in 2017 Multi-currency revolving facility Other loans Total long term debt Total capital 2014 2013 $ 97,267 11,084 (5,326) 103,025 24,962 $ 64,780 19,762 (5,470) 79,072 24,669 127,987 103,741 11,595 3,500 15,095 28,950 (608) 228,211 1,030 21 342 10,642 3,500 14,142 29,700 (608) 211,901 1,785 — 405 257,946 243,183 273,041 257,325 $ 401,028 $ 361,066 There are 54,978,098 shares outstanding as of December 31, 2014 (December 31, 2013 – 50,948,698 ). On February 4, 2014, Clearwater completed the issuance of 4,029,400 common shares. The shares were issued at a price of $8.50 per share, for gross proceeds to Clearwater of approximately $34 million. Long term debt consists of non-amortizing and amortizing senior debt: The revolving loan allows Clearwater to borrow a maximum of CDN $75.0 million (denominated in either Canadian or the US dollar equivalent) and it matures in June 2018. The balance was $nil at December 31, 2014 (December 31, 2013 – $nil). The CDN balances bear interest at the banker’s acceptance rate plus 3.25%. The USD balances bear interest at the US Libor rate plus 3.25%. The loan has a provision that, subject to certain conditions, allows Clearwater to expand the facility by a maximum of CDN $25.0 million. The availability on this loan is reduced by the amount outstanding on a US $10 million non-amortizing term loan and as such the availability as at December 31, 2014 was $63.4 million (December 31, 2013 – $64.4 million). The term loan A has principal outstanding as at December 31, 2014 of CDN $29.0 million (December 31, 2013 – CDN $29.7 million). The loan is repayable in quarterly instalments of $0.2 million to June 2015, $0.4 million from September 2015 to June 2017, and $0.8 million from September 2017 to March 2018 with the balance due at maturity in June 2018. It bears interest at the applicable banker’s acceptance rate plus 3.25%. As at December 31, 2014 this resulted in an effective rate of approximately 4.51%. Clearwater Seafoods Incorporated 2014 Annual Report 29 Management’s Discussion and Analysis Clearwater has entered into interest rate swap arrangements whereby: • CDN $12 million of this loan is effectively subject to a ﬁ xed interest rate of 5.38% until December 31, 2015 after which it is subject to an interest rate that is the lessor of the ﬂ oating rate of interest on the loan or a maximum ﬁ xed rate of interest of 6.25%. • CDN $12 million of this loan is subject to a rate cap to December 31, 2015 of 4.5% and then after which the rate is ﬁ xed at 5.85% to June 2018. Clearwater accounts for all interest rate swap arrangements and the related change in market value through proﬁ t and loss. The delayed draw term loan A has a principal outstanding as at December 31, 2014 of CDN $nil (December 31, 2013 – $nil) and can be drawn upon any time up to June 30, 2015. The balance is shown net of deferred ﬁ nancing charges of CDN $0.6 million. The loan is repayable in quarterly instalments of 1.25% of the principal amount drawn under the facility with repayment to begin in the ﬁ rst quarter after the facility is fully drawn or closed out. The facility matures in June 2018 and bears interest payable monthly at the banker’s acceptance rate plus 3.25%. The term loan B has principal outstanding as at December 31, 2014 of USD $196.8 million (December 31, 2013 – USD $199.0 million). The loan is repayable in quarterly instalments of USD $0.5 million with the balance due at maturity in June 2019. It bears interest payable monthly at US Libor plus 3.5% with a Libor interest rate ﬂ oor of 1.25%. As of December 31, 2014 this resulted in an effective rate of 4.75%. The loan has a provision that, subject to certain conditions allows Clearwater to expand the facility by a maximum of USD $100.0 million (or the equivalent amount in Canadian dollars). The Libor interest rate ﬂ oor of 1.25% is accounted for separately as an embedded derivative and is recorded at the estimated fair market value. The change in fair market value of the embedded derivative is recorded through proﬁ t or loss. Clearwater has entered into swap arrangements whereby USD $50 million of the debt is capped to December 31, 2015 at an interest rate of 4.75% and then the rate is ﬁ xed at 6.15% to June 2019 and a further USD $50 million is capped to June 2016 at an interest rate of 4.75% and then the rate is ﬁ xed it at 6.49% to June 2019. Clearwater accounts for these swap arrangements and the change in market value through proﬁ t and loss. During the third quarter of 2013 Clearwater’s Argentine subsidiary borrowed USD $10.0 million to fund conversion of a vessel for use in the Argentine scallop ﬁ shery. In 2014 this loan was renewed and as a result it bears interest at 7% per year with interest payable monthly and the principal is due at maturity in June 25, 2015. On April 29, 2014, Clearwater entered into a multi-currency revolving facility agreement that allows Clearwater to borrow a maximum of DKK 53.0 million which can be denominated in either DKK, Canadian and US dollar equivalents. The principal availability reduces by the equivalent of DKK 10.6 million on June 30, 2015 and each anniversary thereafter until the loan is fully reduced. As at December 31, 2014 the balance of the revolving facility is DKK 0.1 million (Canadian equivalent is $0.02 million). The facility bears interest in the same currency as the currency in which the principal balance is denominated. The interest is payable on the last day of each ﬁ scal quarter at the N-bor rate applicable to the currency of the facility plus 1.875%. The revolver, term loan A, delayed draw and term loan B are secured by a ﬁ rst charge on cash and cash equivalents, accounts receivable, inventory, marine vessels, licenses and quotas, and Clearwater’s investments in certain subsidiaries. Clearwater’s debt facilities have covenants that are subject to certain ﬁ nancial and non-ﬁ nancial covenants. Clearwater is in compliance with all covenants associated with its debt facilities. Some public entities provide information on debt to equity ratios. We do not believe that this ratio would provide useful information about Clearwater and its capital structure because a signiﬁ cant amount of assets (harvesting licenses and quotas in particular) are recorded at historical cost rather than at fair value. Instead, we believe that leverage measured in relation to adjusted EBITDA is a better measure to evaluate our capital structure and we have provided that information in the liquidity section. Liquidity Clearwater has a number of treasury management policies and goals to promote strong liquidity and continued access to capital to fund its growth. These include policies and strategies with respect to liquidity, leverage, foreign exchange management, free cash ﬂ ows and dividends. 30 Clearwater Seafoods Incorporated 2014 Annual Report Management continuously evaluates its capital structure in light of these policies and strategies: • Liquidity – As of December 31, 2014 Clearwater had $47.6 million in cash, and a $75 million revolving loan, of which $63.4 million was available. The cash balance, together with available credit on the revolving loan, is used to manage seasonal working capital demands, capital expenditures, and other commitments. In addition, Clearwater can draw up to $39 million on its’ delayed draw term loan A. Clearwater’s operations experience a predictable seasonal pattern in which sales, margins and adjusted EBITDA are higher in the second half of the year whereas investments in capital expenditures and working capital are lower, resulting in higher free cash ﬂ ows and lower leverage in the second half of the year. This typically results in lower free cash ﬂ ow, higher debt balances and higher leverage in the ﬁ rst half of the year. Clearwater is satisﬁ ed that it has ample liquidity to execute its business plan. • Leverage1 – Clearwater has a long-term leverage target of 3.0x or lower of net debt to adjusted EBITDA. Periodically, the ratio may be higher due to planned investments, or lower due to seasonality but over time Clearwater intends to manage to this ratio. As of December 31, 2014 leverage improved to 2.6x adjusted EBITDA from 2.7x as of December 31, 2013 due to higher cash ﬂ ows from operations partially offset by substantial capital expenditures completed in the ﬁ rst three quarters of the year. In 000’s of Canadian dollars As at December 31 Adjusted EBITDA1 Debt (net of deferred ﬁ nancing charges of $0.6 million (December 31, 2013 – $0.6 million)) Less cash Net debt Leverage 2014 2013 2012 $ 87,368 $ 79,103 $ 72,243 273,041 (47,598) 257,325 (46,793) 253,791 (41,504) $ 225,443 $ 210,532 $ 212,287 2.6 2.7 2.9 Leverage is not a recognized measure under IFRS, and therefore is unlikely to be comparable to similar measures presented by other companies. Management believes leverage to be a useful term when discussing liquidity and does monitor and manage leverage. In addition, as leverage is a measure frequently analyzed for public companies, Clearwater has calculated the amount in order to assist readers in this review. Leverage should not be construed as a measure of liquidity or as a measure of cash ﬂ ows. We have provided leverage calculations in the past to assist readers in comparing our leverage levels to our peers. Given that our leverage levels are in-line or below our peers we do not feel this measure is as critical to disclose. However, we understand that readers may wish to have leverage measures to assist them in their assessment of our liquidity. As a result, we will include a revised leverage measure going forward that is more appropriate for this purpose – one that is based on Clearwater’s share of adjusted EBITDA, debt and cash balances. The revised calculation excludes the minority share of our cash and adjusted EBITDA and is calculated as follows: In 000’s of Canadian dollars As at December 31 Adjusted EBITDA1 Debt (net of deferred ﬁ nancing charges of $0.6 million (December 31, 2013 – $0.6 million))2 Less cash3 Net debt Leverage 2014 2013 $ 71,073 $ 65,082 272,554 (40,712) 256,498 (38,510) $ 231,842 $ 217,988 3.3 3.3 2 Debt was reduced by the share attributable to non-controlling shareholders for which Clearwater does not provide a guarantee. This included $0.5 million in 2014 and $0.8 million in 2013. 3 Cash was reduced by the share attributable to non-controlling shareholders of $6.9 million in 2014 and $8.3 million in 2013. 1 Refer to discussion on non-IFRS measures, deﬁ nitions and reconciliations Clearwater Seafoods Incorporated 2014 Annual Report 31 Management’s Discussion and Analysis • Foreign Exchange Management – Clearwater’s plan to mitigate foreign exchange risk is as follows: (1) Diversify sales geographically, which reduces the impact of any country-speciﬁ c economic risks on its business. (2) Execute on pricing strategies so as to offset the impact of exchange rates (3) Limit the amount of long-term sales contracts – Clearwater has very few long-term sales contracts with any customers. Contracts are typically less than 6 months. (4) Use conservative exchange estimates in business plans – Clearwater regularly reviews economist estimates of future exchange rates and uses conservative estimates when preparing its’ business plans. (5) Foreign exchange hedging program – Clearwater has a targeted foreign exchange program. This program focuses on using forward contracts to lock in exchange rates up to 18 months for sales currencies (the US dollar, Euro, Yen and Sterling) thereby lowering the potential volatility in cash ﬂ ows from changes in exchange rates. As of February 25, 2015 Clearwater had forward exchange contracts to be settled in 2015 of: • US dollar $103.6 million at an average rate of 1.10; • 3.2 billion Yen at an average rate of .010; and • 47.6 million Euro at an average rate of 1.46. The 2015 US dollar forwards include US dollars $35.6 million of participating forwards which provide that to the extent spot rates are higher than the contracted rates of approximately 1.10, the contract rate will be adjusted by approximately 50.0% of the excess. The purpose of these contracts is to give certainty to Clearwater on the exchange rates that it expects to receive on a portion of our foreign currency sales. The foreign exchange contracts effectively adjust the cash proceeds received on sales receipts to the rates that Clearwater planned for and contracted for as part of this annual planning cycle and its foreign exchange management program. When spot exchanges rates are above contract rates at the date of maturity of the contracts Clearwater realizes a loss and conversely, when spot exchange rates are lower, it realizes a gain. At the same time, given that Clearwater only hedges to 75% of its net exposures and that higher or lower spot exchange rates are reﬂ ected in sales, any losses or gains on contracts are more than offset by the impact on sales. Free cash ﬂ ows1 – Clearwater has a goal to generate strong cash ﬂ ows from operations in order to fund, scheduled loan payments and capital expenditures and in turn to use this free cash ﬂ ow to invest in growth investments. Clearwater’s goal is to grow free cash ﬂ ows such that it can fund growth, maintain leverage of around 3x adjusted EBITDA and pay a sustainable dividend to its shareholders. 1 Refer to discussion on non-IFRS measures, deﬁ nitions and reconciliations 32 Clearwater Seafoods Incorporated 2014 Annual Report 13 weeks ended December 31 Year ended December 31 2014 2013 2014 2013 2012 $ 25,861 $ 22,347 $ 87,368 $ 79,103 $ 72,243 (4,288) (375) (789) (3,657) (270) 514 (14,938) (2,585) (5,295) (16,317) (1,812) (863) (20,346) (1,693) (12,448) Adjusted EBITDA1 Less: Cash Interest Cash taxes Other income and expense items Operating cash ﬂ ow before changes in working capital 20,409 18,934 64,550 60,111 37,756 Changes in working capital from operating activities 27,571 Cash ﬂ ows from operating activities 47,980 Other sources (uses) of cash: Purchase of property, plant, equipment, quota and other assets Proceeds on disposal of ﬁ xed assets Designated borrowingsA Scheduled payments on long-term debt Dividends received from joint venture Distribution to non-controlling interests (12,802) — 11,017 (6,205) — (2,780) 29,816 48,750 3,476 68,026 (5,448) 54,663 8,184 45,940 (11,182) — 6,231 (1,366) — (3,707) (83,309) 5 63,431 (8,360) 1,490 (10,427) (23,813) 978 7,700 (3,233) 1,240 (11,414) (16,572) — 2,056 (6,327) 1,740 (9,491) Free cash ﬂ ow1 $ 37,210 $ 38,726 $ 30,856 $ 26,121 $ 17,346 Add/(less): Other debt borrowings (repayments) of debt, use of cashB Issuance of equity Other investing activities Other ﬁ nancing activities (11,054) — (482) (1,649) (7,505) — (386) — (60,398) 32,487 1,805 (4,397) (20,759) — (717) — 13,584 — 1,358 — Change in cash ﬂ ows for the period $ 24,025 $ 30,835 $ 353 $ 4,645 $ 32,288 A Designated borrowings relate to capital projects for which there is long-term ﬁ nancing and therefore they will not be ﬁ nanced with operating cash ﬂ ows. For 2014, this includes a conversion of a vessel for Argentina, the addition of a third clam vessel and a late life reﬁ t on a shrimp vessel. For the purpose of free cash ﬂ ow calculations the amount invested (up to the total amount of the related ﬁ nancing) during the period on these projects is backed out of the calculation of free cash ﬂ ows irrespective of the timing of the related borrowing. B Other debt borrowings (repayments) of debt, use of cash for year to date 2014 includes $63.4 million of cash invested in designated capital projects. Cash ﬂ ow generated by Clearwater’s operations along with cash on deposit and available credit on the revolving loan are used to fund current operations, seasonal working capital demands, capital expenditures, and other commitments. Free cash ﬂ ow for 2014 improved $4.7 million to $ $30.9 million due to the higher adjusted EBITDA and a positive contribution from working capital offset by higher capital expenditures (net of designated borrowings) from scheduled reﬁ ts and vessel conversions, and the timing of payments to minority interest partners. Certain large investments in longer term assets, for example vessel conversion/acquisitions, are funded with long term capital such as amortizing term loans. As a result Clearwater adds back the funding on those capital expenditures in the determination of free cash ﬂ ows and deducts the related debt payments. 1 Refer to discussion on non-IFRS measures, deﬁ nitions and reconciliations Clearwater Seafoods Incorporated 2014 Annual Report 33 Management’s Discussion and Analysis Changes in working capital In 000’s of Canadian dollars Decrease in inventory (Decrease) increase in accounts payable Decrease (increase) in account s receivable (Increase) decrease in prepaids 13 weeks ended December 31 Year ended December 31 $ 2014 13,016 (5,414) 21,933 (1,964) $ 2013 18,056 (3,550) 16,376 (1,066) $ 2014 6,237 2,557 (4,605) (713) $ 2013 2,745 (8,342) (470) 619 $ 27,571 $ 29,816 $ 3,476 $ (5,448) Working capital in 2014 improved $8.9 million from a use in working capital of $5.4 million in 2013 to proceeds of $3.5 million in 2014. The improvement in cash was primarily a result of an increase in sales volumes for sea scallops and timing of payments of accounts payable. Timing of accounts receivable collections partially offset the improvement. In 2014 Clearwater had a record investment in capital expenditures of $83.3 million. Capital expenditures included $36.4 million related to the construction of the new clam harvesting vessel that is to have a total cost of approximately $60 million and is expected to be operating late in 2015. In 2014 Clearwater invested $16.7 million to complete the conversion of an Argentine scallop vessel which will begin harvesting early in the ﬁ rst quarter of 2015. Additional investments in 2014 included $7.3 million for an enterprise resource planning system (“ERP”) which is expected to be completed late 2015, $18.2 million on reﬁ ts including $12.5 million for a life extending reﬁ t for a shrimp vessel and $4.7 million on other planned maintenance. Clearwater is focused on managing its free cash ﬂ ows through: • Managing working capital – Clearwater manages its investment in trade receivables through a combination of tight collection terms and when appropriate, discounting. Clearwater limits its investment in inventories through tight review of supply and production plans versus sales forecasts, and through continuous improvements in the integration of its ﬂ eet and sales plans. • Capital spending – Clearwater grades investments in property, plant, equipment and licences as either return on investment (“ROI”) or maintenance capital and tracks each project. Signiﬁ cant expenditures that are expected to have a return in excess of the cost of capital are classiﬁ ed as ROI, and all reﬁ ts and expenditures that are expected to return less than the average cost of capital are classiﬁ ed as maintenance. On average, Clearwater expects to invest $15-20 million a year in maintaining its ﬁ xed assets with a further $10–15 million of repairs and maintenance expensed and included in the cost of goods sold. In June 2013 the Company announced the planned investment in a third vessel for its clam business. Clearwater plans to invest up to $60 million (including interest) on the project. Management expects to complete conversion work and enter the new vessel into service in late 2015. This investment in a new clam harvesting vessel will drive growth in Clearwater’s clam business by expanding access to clam supply by approximately 60% when the customer distribution chain is fully in place by 2017. In 2015 Clearwater expects signiﬁ cant growth investments of approximately $56 million in capital assets, of which $19 million relates to the construction of the third clam vessel, $6 million for the purchase and conversion of a research vessel. $13 million related to maintenance capital investments and $18 million to improve operational efﬁ ciencies in our plants and information systems. • Dividends – On November 1, 2013 Clearwater announced the initiation of an annual dividend of $0.10 per share, payable in quarterly instalments of $0.025 per share and on December 13, 2013 it made the ﬁ rst quarterly dividend payment. On February 25, 2014 the Board of Directors announced a 33% increase in the dividend and declared a quarterly dividend of CAD$0.04 per share, payable on March 24, 2015 to shareholders of record as of March 10, 2015. 34 Clearwater Seafoods Incorporated 2014 Annual Report In making the determination of dividend levels Clearwater’s Board gives consideration to a number of key principles including: • the expected future earnings; • the amount of free cash ﬂ ows that should be retained to reinvest in the business; • the assurance that all obligations can be met with respect to existing loan agreements; and • the desire to provide room for the dividend to increase in the future as the business continues to grow and expand. The Board reviews dividends quarterly with a view to revisiting the appropriate dividend amount on an annual basis. The increase in February 2015 reﬂ ects the extraordinary results achieved in 2014. Going forward the Board will review the policy on a regular basis to ensure the dividend level remains consistent with Clearwater’s long term dividend policy. These dividends are eligible dividends as deﬁ ned for the purposes of the Income Tax Act (Canada) and applicable provincial legislation and, therefore, qualify for the favourable tax treatment applicable to such dividends. As a result of its continued focus on increasing gross margin and managing its investments in working capital and capital assets, Clearwater believes that it has sufﬁ cient liquidity and ﬁ nancial resources to execute on its strategy and business plan. E X P L A N AT I O N O F F O U R T H Q U A R T E R 2 0 1 4 R E S U LT S Overview The following statements reﬂ ect the results of Clearwater for the 13 weeks ended December 31, 2014 and 2013: In 000’s of Canadian dollars 13 weeks ended December 31 Sales Cost of goods sold Gross margin Administrative and selling Finance costs Foreign exchange loss on forward contracts Other income Research and development Earnings before income taxes Income tax expense (Loss) earnings (Loss) earnings attributable to: Non-controlling interest Shareholders of Clearwater 2014 2013 $ 119,498 89,647 $ 111,012 85,384 29,851 25.0% 13,004 14,149 2,174 (1,622) 615 28,320 1,531 1,401 25,628 23.1% 13,295 8,298 4,380 (1,664) 630 24,939 689 987 $ $ $ 130 $ (298) 4,117 (3,987) $ 2,804 (3,102) 130 $ (298) Clearwater Seafoods Incorporated 2014 Annual Report 35 Management’s Discussion and Analysis Fourth quarter 2014 results Clearwater reported sales of $119.5 million and adjusted EBITDA1 of $25.9 million for the fourth quarter of 2014 versus 2013 comparative ﬁ gures of $111.0 million and $22.3 million, reﬂ ecting growth of 7.6% in sales and 15.7% in adjusted EBITDA. For the fourth quarter of 2014, gross margin improved by $4.2 million. Gross margin as a percentage of sales improved from 23.1% in the fourth quarter of 2013 to 25.0% for the same period of 2014, due to higher sales prices and favourable exchange rates. The growth in sales and adjusted EBITDA was driven by strong market demand that increased sales prices for the majority of species as well as a $2.9 million positive foreign exchange impact as the US dollar strengthened against the Canadian dollar in the fourth quarter of 2014. Free cash ﬂ ow1 was $37.2 million for the fourth quarter of 2014 versus $38.7 million for the same period of 2013, a decline of $1.5 million, due primarily to the timing of scheduled debt repayments in 2014. 2014 2013 Change $ 130 $ (298) $ 428 In 000’s of Canadian dollars 13 weeks ended December 31 (Loss) earnings Higher gross margin Higher administrative and selling Higher interest expense Higher realized foreign exchange losses $ 4,223 291 (639) (2,778) 1,097 330 (310) (558) (538) (131) 428 % 0.6 11.9 33.3 23.7 10.8 (4.5) (32.6) 7.6 Explanation of changes in earnings related to non-operational items: Higher unrealized foreign exchange losses on debt and working capital Higher deferred income tax expense Fair value adjustments on convertible debentures and embedded derivative All other Sales by region (In 000’s of Canadian dollars) 13 weeks ended December 31 Europe China Japan Other Asia Asia United States Canada North America Other 2014 2013 Change $ 45,217 44,951 $ 266 21,202 15,712 5,100 42,014 19,247 12,595 31,842 425 18,952 11,788 4,123 34,863 17,373 13,194 30,567 631 2,250 3,924 977 7,151 1,874 (599) 1,275 (206) $ 119,498 $ 111,012 $ 8,486 1 Refer to discussion on non-IFRS measures, deﬁ nitions and reconciliations 36 Clearwater Seafoods Incorporated 2014 Annual Report Europe Europe is Clearwater’s largest scallop market and an important market for coldwater shrimp and lobster products. European sales remained consistent for the fourth quarter of 2014 in comparison to the same period of 2013. Increases in sales prices for Argentine scallops and shrimp were offset by a decrease in catch rates for Argentine scallops that reduced available supply in the fourth quarter of 2014. China China is an important market for clams, coldwater shrimp, lobster, turbot and scallops. Sales in China increased $2.3 million to $21.2 million in 2014 as a result of an increase in sales price, sales volumes for clams and a $1.6 million positive impact from foreign exchange rates as the US dollar strengthened against the Canadian dollar. This was partially offset by lower available supply for shrimp due to timing of landings. Japan Japan is an important market for clams, lobster, coldwater shrimp and turbot. Sales to customers in Japan increased $3.9 million to $15.7 million primarily as a result of an increase in sales volumes for clams from higher catch rates. Increases in sales volumes for lobster from an increase in procurement directed to this market also contributed to the increase in sales. This was partially offset by lower available supply for shrimp due to timing of landings. In addition changes in sales mix for clams and lobster to products with lower average sales prices partially offset the increase in sales. Average foreign exchange rates for the Yen for the fourth quarter of 2014 were 0.010 which were consistent in the same period in 2013. United States The United States is an important market for scallops, coldwater shrimp, lobster and clams. It is our most diverse market, where a wide variety of products are sold. Sales in the United States increased $1.9 million, or 10.8%, to $19.2 million in the fourth quarter of 2014 primarily as a result of an increase in sales volumes for sea scallops and higher foreign exchange rates for the US dollar. Increases in sales prices for clams, sea scallops and lobster contributed to the increase in sales. Reductions in available supply for inshore shrimp partially offset the increase in sales. Sales were positively impacted by $1.5 million in the fourth quarter of 2014 as a result of foreign exchange rates as average rates for the US dollar strengthened against the Canadian dollar. Average foreign exchange rates for the US dollar increased by 8.4% to 1.138 in the fourth quarter of 2014. Canada Canada is a large market for lobster, scallops and coldwater shrimp. Sales within Canada decreased $0.6 million, or 4.5%, primarily as a result of reductions in available supply for scallops, as product was sold to other higher yielding markets. Lower catch rates for Argentine scallops also contributed to the decrease in sales. Strong market demand increased sales volumes for clams and sales prices for scallops, clams and lobster partially offsetting the decline in sales. 1 Refer to discussion on risks and uncertainties Clearwater Seafoods Incorporated 2014 Annual Report 37 Management’s Discussion and Analysis Sales by species1 In 000’s of Canadian dollars 13 weeks ended December 31 Scallops Coldwater shrimp Clams Lobster Ground ﬁ sh and other Crab $ 2014 41,285 31,448 26,156 20,169 440 — $ 2013 45,998 27,653 18,805 18,102 436 18 $ Change (4,713) 3,795 7,351 2,067 4 (18) $ 119,498 $ 111,012 $ 8,486 % (10.2) 13.7 39.1 11.4 0.9 (100.0) 7.6 Sales increased $8.5 million, or 7.6%, for the fourth quarter of 2014 as a result of strong market demand that increased sales prices for of the majority of species, in particular scallops, clams and shrimp. An increase in sales volumes for clams from higher catch rates also contributed to the increase in sales. This was partially offset by lower volumes of Argentine scallops due to lower catch rates and changes in sales mix for clams to products with lower average sales prices. Cost of goods sold In 000’s of Canadian dollars 13 weeks ended December 31 Harvesting and procurement Manufacturing Transportation Depreciation Administration $ 2014 64,822 9,118 5,598 6,483 3,626 $ 2013 60,419 8,267 5,548 7,161 3,989 $ Change 4,403 851 50 (678) (363) $ 89,647 $ 85,384 $ 4,263 % 7.3 10.3 0.9 (9.5) (9.1) 5.0 Cost of goods sold increased $4.3 million or 5.0% to $89.6 million primarily as a result of an increase in harvesting and procurements costs. Harvesting and procurement include all costs incurred in the operation of the vessels including labour, fuel, repairs and maintenance, ﬁ shing gear supplies, other costs and fees plus procured raw material costs for lobster, shrimp, scallops and crab. Excluding the increase in costs due to higher sales volumes, higher harvesting costs per pound for scallops and higher shore prices per pound for lobster and cooked and peeled shrimp increased the harvesting and procurement costs for the fourth quarter of 2014. This was partially offset by lower harvesting costs for clams as a result of higher catch rates and changes in sales mix for products with lower costs. Fuel costs for our vessels remained consistent for the fourth quarter of 2014. Average fuel prices for the fourth quarter of 2014 were $0.87 per litre. Clearwater’s vessels used approximately 28.4 million litres of fuel in 2014. Based on 2014 fuel consumption, a one-cent per litre change in the price of fuel would impact harvesting costs by approximately $0.2 million. Please note that Clearwater uses Marine Diesel in its harvesting operations, the price of which does not correlate closely to publically available measures such the price of a barrel of oil. This is due to a number of factors including but not limited to the nature of the fuel used, the geographic locations in which Clearwater purchases fuel and the currency in which Clearwater purchases fuel. Administrative overheads include salaries and beneﬁ ts, professional and consulting fees and management fees attributable to the harvesting and production of goods. Refer to administrative and selling section for further information. 1 Refer to discussion on risks and uncertainties 38 Clearwater Seafoods Incorporated 2014 Annual Report Gross margin Gross margin as a percentage of sales improved from 23.1% in the fourth quarter of 2013 to 25.0% for the same period of 2014, primarily as a result of strong demand that provided higher sales prices for the majority of species and higher catch rates for clams also impacted margins positively. Gross margin was also positively impacted by higher average foreign exchange primarily due to the strengthening of the US dollar against the Canadian dollar. The net impact on sales from all foreign exchange volatility was an increase in sales and gross margins of $2.9 million. 13 weeks ended December 31 2014 Average rate realized 1.138 1.419 0.010 0.191 1.799 % sales 39.1% 22.0% 9.9% 4.5% 5.3% 19.2% 100.0% % sales 44.0% 25.8% 8.3% 2.8% 3.3% 15.8% 100.0% 2013 Average rate realized 1.050 1.443 0.010 0.192 1.710 Currency US dollars Euros Japanese Yen Danish Kroner UK pounds Canadian dollar and other Administrative and selling In 000’s of Canadian dollars 13 weeks ended December 31 Salaries and beneﬁ ts Share-based incentive compensation $ 2014 8,026 2,928 $ 2013 8,151 2,913 $ Employee compensation 10,954 11,064 Consulting and professional fees Other Selling costs Travel Reorganization costs Occupancy Allocation to cost of goods sold 2,089 1,041 764 719 133 409 (3,105) 1,526 1,619 1,111 665 0 363 (3,053) $ 13,004 $ 13,295 $ Change (125) 15 (110) 563 (578) (347) 54 133 46 (52) (291) Administrative and selling remained consistent with the fourth quarter of 2013. Share-based incentive compensation is primarily driven by changes in Clearwater’s share price, performance against Clearwater’s peer group and the number of share based grants outstanding. Although there were more grants outstanding in 2014, this was offset by a lower change in the share price in the fourth quarter of 2014 as compared to the fourth quarter of 2013. Consulting and professional fees include operations management, legal, audit and accounting, insurance and other specialized consulting services. Costs vary period to period based upon business requirements. Other includes a variety of administrative expenses such as communication, service fees, depreciation, gains or losses, all of which will vary from year to year. The largest portion of the expenditures in 2014 relates to a write down on goodwill related to non-core species. Selling costs include advertising, marketing, trade shows, samples, product development and bad debt expenses. The allocation to cost of goods sold reﬂ ects costs that are attributable to the production of goods and are allocated on a proportionate basis based on production volumes. Clearwater Seafoods Incorporated 2014 Annual Report 39 Change in rate 8.4% -1.7% 0.0% -0.5% 5.2% % (1.5) 0.5 (1.0) 36.9 (35.7) (31.2) 8.1 0.0 12.7 1.7 (2.2) Management’s Discussion and Analysis Finance costs In 000’s of Canadian dollars 13 weeks ended December 31 Interest and bank charges Amortization of deferred ﬁ nancing charges and accretion Interest Fair value adjustment on convertible debentures and embedded derivative Foreign exchange on debt and working capital $ $ 2014 4,288 203 4,491 (451) 10,109 2013 3,657 195 3,852 (1,009) 5,455 $ 14,149 $ 8,298 Interest increased during the fourth quarter of 2014 due to higher average balances outstanding, in part due to higher exchange rates on U.S. denominated debt. The fair value adjustment on the convertible debentures and embedded derivatives represents the change in the estimated fair values of these instruments. Foreign exchange1 on long term debt and working capital In 000’s of Canadian dollars 13 weeks ended December 31 Realized loss (gain) Working capital and other Unrealized loss (gain) Foreign exchange on long term debt and working capital Mark-to-market on interest swaps and caps 2014 2013 $ (134) $ (2,449) (134) (2,449) 8,894 1,349 10,243 7,898 6 7,904 $ 10,109 $ 5,455 Foreign exchange losses1 increased by $4.7 million from a loss of $5.5 million in the fourth quarter of 2013 to a loss of $10.1 million for the same period in 2014. The increase was primarily a result of non-cash unrealized gains on the translation of the $196.8 million US dollar denominated debt as the US dollar strengthened against the Canadian dollar during the fourth quarter of 2014 and an increase in non-cash mark to market losses on $100 million US dollar of interest rate swaps/caps that were entered into during the year. These arrangements are marked-to-market through proﬁ t and loss. Losses1 on forward contracts In 000’s of Canadian dollars 13 weeks ended December 31 Losses (gains) on forward contract derivatives Realized loss Unrealized (gain) 2014 2013 $ $ 1,894 280 $ 1,431 2,949 2,174 $ 4,380 Losses on forward contracts1 declined $2.2 million to $2.2 million primarily as a result of a reduction in unrealized losses on forward exchange contracts outstanding at the end of the quarter. Clearwater’s hedging program is designed to enable Clearwater to remove uncertainty regarding exchange rates on sales receipts by locking in up to 75% of annual net foreign exchange exposure. Clearwater does this by entering into a series of foreign exchange contracts that mature throughout the ﬁ scal year and that provide for a ﬁ xed exchange rate on a portion of sales 1 Refer to discussion on risks and uncertainties 40 Clearwater Seafoods Incorporated 2014 Annual Report receipts. In a rising exchange rate environment such as the one we are currently in where spot rates are higher than contract rates, Clearwater realizes higher exchange rates on sales but it is required to remit the excess of the spot rate received on sales receipts over the contract rate to the counterparty on the portion of sales that it has hedged. Should the current environment of a stronger US dollar and Euro versus the Canadian dollar persist it would have a positive impact on 2015 sales but the hedging program would offset a portion of those gains and reduce the positive impact on adjusted EBITDA. However, looking forward to 2015, Clearwater would realize the beneﬁ t of such higher rates as hedging contracts that it is entering now are at rates closer to current spot rates. Other income In 000’s of Canadian dollars 13 weeks ended December 31 Share of earnings of equity-accounted investee Royalties, interest and other fees Other fees $ 2014 (615) (166) (841) $ 2013 (528) (226) (910) $ (1,622) $ (1,664) Royalties, interest and other fees includes income related to quota rental, commissions, processing fees and other miscellaneous income and expense that vary based upon the operations of the business. Research and development Research and development relates to new technology and research into ocean habitats and ﬁ shing grounds. Research and development can vary year to year depending on the scope, timing and volume of research completed. Clearwater’s business plans expect an increase in investment in research and development. Income taxes Income taxes primarily relate to taxable subsidiaries. In the fourth quarter of 2014 Clearwater’s utilized $0.8 million of its deferred tax asset by utilizing loss carryforwards to reduce income that would have otherwise been subject to tax. Earnings attributable to non-controlling interest Non-controlling interest relates to minority share of earnings from Clearwater’s majority investments in subsidiaries in Argentina, Nova Scotia and Newfoundland and Labrador. The increase in earnings attributable to non-controlling interest of $1.3 million for the fourth quarter of 2014 relates primarily to strong market demand that increased sales prices for turbot and shrimp. It is important to note that the earnings attributable to non-controlling interest relates to Clearwater’s interest in a partnership and as such taxes are included in earnings attributable to shareholders, whereas the earnings attributable to non-controlling interest are not tax effected. For those investors that would like to understand the breakdown of adjusted EBITDA attributable to non-controlling interest and shareholders please refer to the reconciliation of adjusted EBITDA within the non-IFRS measures, deﬁ nitions and reconciliations section of the MD&A. Earnings attributable to shareholders Earnings attributable to shareholders of Clearwater declined $0.9 million to a loss of $4.0 million for the fourth quarter of 2014 primarily as a result of an increase in non-cash losses from the translation of the US dollar denominated debt as the US dollar strengthened against the Canadian dollar and higher deferred tax expense. Adjusted earnings attributable to shareholders To assist readers in estimating our earnings we have included a calculation of adjusted earnings. Management believes that in addition to earnings and cash provided by operating activities, adjusted earnings is a useful supplemental measure from which to determine Clearwater’s earnings from operations and ability to generate cash available for debt service, working capital, capital expenditures, income taxes and dividends. Clearwater Seafoods Incorporated 2014 Annual Report 41 Management’s Discussion and Analysis For those readers that would like to understand the calculation of adjusted earnings please refer to the reconciliation of adjusted earnings within the non-IFRS measures, deﬁ nitions and reconciliations section of the MD&A. In 2014 adjusted earnings attributable to shareholders increased $0.1 million, to $9.6 million primarily as a result of improvements in gross margin of $4.2 million. The improvements in adjusted earnings were partially offset by an increase realized foreign exchange losses on working capital and foreign exchange contracts. In 2014 adjusted earnings per share decreased from $0.19 per share in the fourth quarter of 2013 to $0.17 per share in the same period of 2014. The decrease in earnings per share was a result of an increase in the number of outstanding share due to a share issue completed early in 2014, partially offset by an improvement in adjusted earnings. O U T L O O K Global demand for seafood is outpacing supply, creating favorable market dynamics for vertically integrated producers such as Clearwater which have strong resource access. Demand has been driven by growing worldwide population, shifting consumer tastes towards healthier diets, and rising purchasing power of middle class consumers in emerging economies. The supply of wild seafood is limited and is expected to continue to lag behind the growing global demand. This supply-demand imbalance has created a marketplace in which purchasers of seafood are increasingly willing to pay a premium to suppliers that can provide consistent quality and food safety, wide diversity and reliable delivery of premium, wild, sustainably harvested seafood. Clearwater, like other vertically integrated seafood companies, is well positioned to take advantage of this opportunity because of its licenses, premium product quality, diversity of species, global sales footprint, and year-round harvest and delivery capability. We begin 2015 with the expectation that the ﬁ ve-year strategic plan goals we set out to accomplish at the beginning of 2012 are now within our reach – 1 full year ahead of our original timetable! 2015 will also be the year in which we lay the foundation for our next ﬁ ve year strategic plan (2016–2020) which will continue to focus on executing with excellence against our six core strategies. Our six core strategies are: • Expanding Access to Supply – In 2015, we will welcome a third vessel to our clam ﬂ eet and expand our harvest capacity by an incredible 60%. We will also continue to actively invest in access to supply including; acquisitions, joint ventures, as well as harvesting and royalty contracts. • Target Proﬁ table and Growing Markets, Channels and Customers – We continue to beneﬁ t from strong and increasing global demand for sustainably harvested, safe, traceable and premium wild seafood. In 2015, we will continue to advance our go-to-market approach in both traditional and new markets. This two—pronged approach takes advantage of our “on trend” health, sustainability, traceability, quality credentials in developed markets as well as the rapid urbanization, rising incomes and increased seafood consumption of emerging markets to literally “supercharge” our growth. • Increase Margins by Improving Price Realization and Cost Management – In 2015 we will fully implement our ﬁ rst “ocean to shelf” global supply chain. We have ambitious expectations to drive top and bottom line growth, capturing savings in global supply chain efﬁ ciencies and improved productivity. • Pursue and Preserve the Long Term Sustainability of Resources on Land and Sea – As a leading global supplier of wild- harvested seafood – sustainability remains at the core of our business and our mission. Investing in the long-term health and the responsible harvesting of the oceans and there bounty is every harvester’s responsibility and the only proven way to ensure access to a reliable, stable and long-term supply of seafood. Sustainability is not just good business, like innovation it’s in our DNA. That’s why Clearwater has been recognized by the Marine Stewardship council (MSC) and WWF as a leader in sustainable harvesting for wild ﬁ sheries and how Clearwater can offer the widest selection of sustainably-certiﬁ ed species of any seafood harvester worldwide. • Build Organizational Capability, Capacity and Engagement – This level of performance can only be achieved by a talented and engaged global workforce at sea and on land, employing well communicated strategies and plans with measurable objectives. It also requires an enduring commitment to invest in our people. Looking forward, we will no longer disclose future targets for sales growth, free cash ﬂ ow growth, return on assets and leverage as we believe the track record we have achieved on these measures over the past four years provides a reasonable base for users of our ﬁ nancial reports to form educated estimates of possible future performance. 42 Clearwater Seafoods Incorporated 2014 Annual Report R I S K S A N D U N C E R TA I N T I E S The performance of Clearwater’s business is susceptible to a number of risks which affect income, liquidity and cash ﬂ ow, including risks related to resource supply, food processing and product liability, suppliers, customers, competition and foreign exchange exposure and lawsuits in the normal course of business. For further disclosure of additional risk factors please refer to the Annual Information Form, which is available on Sedar at www.sedar.com as well as Clearwater’s website at www.clearwater.ca. Foreign exchange risk Our ﬁ nancial results are subject to volatility as a result of foreign exchange rate ﬂ uctuations. The majority of Clearwater’s sales are to locations outside Canada and are transacted in currencies other than the Canadian dollar whereas the majority of our expenses are in Canadian dollars. As a result, ﬂ uctuations in the foreign exchange rates of these currencies can have a material impact on our ﬁ nancial condition and operating results. In addition Clearwater has a subsidiary which operates in the offshore scallop ﬁ shery in Argentina which exposes Clearwater to changes in the value of the Argentine Peso. Risks associated with foreign exchange are partially mitigated by the following strategies: (1) Diversify sales internationally which reduces the impact of any country-speciﬁ c economic risks. (2) Execute on pricing strategies so as to offset the impact of exchange rates. (3) Limit the amount of long-term sales contracts – Clearwater has very few long-term sales contracts with any customers. Contracts are typically less than 6 months and are based on list prices that provide a margin for exchange rate ﬂ uctuations. (4) Plan conservatively – Clearwater regularly reviews economist estimates of future exchange rates and uses conservative estimates when preparing its’ business plans, and (5) Foreign exchange hedging program – that focuses on using forward contracts to enable Clearwater to lock in exchange rates up to 18 months for key sales currencies (the US dollar, Euro, Yen and Sterling) thereby lowering the potential volatility in cash ﬂ ows through derivative contracts. In 2014 approximately 46.5% of Clearwater’s sales were denominated in US dollars. Based on 2014 sales and excluding the impact of its’ hedging program, • a change of 0.01 in the U.S. dollar rate converted to Canadian dollars would result in a $1.9 million change in sales and gross proﬁ t. • a change of 0.01 in the Euro rate as converted to Canadian dollars would result in a $0.6 million change in sales and gross proﬁ t. • A change of 0.001 in the Yen rate as converted to Canadian dollars would result in a change of $4.2 million in sales and gross proﬁ t. As of February 25, 2015 Clearwater had forward exchange contracts to be settled in 2015 of: • US dollar $103.6 million at an average rate of 1.10; • 3.2 billion Yen at an average rate of .010; and • 47.6 million Euro at an average rate of 1.46. The 2015 US dollar forwards include US dollars $35.6 million of participating forwards which provide that to the extent spot rates are higher than the contracted rates of approximately 1.10, the contract rate will be adjusted by approximately to 50.0% of the excess. The purpose of these contracts is to give certainty to Clearwater on the exchange rates that it expects to receive on a portion of our foreign currency sales. The foreign exchange contracts effectively adjust the cash proceeds received on sales receipts to the rates that Clearwater planned for and contracted for as part of this annual planning cycle and its foreign exchange management program. When spot exchange rates are above contract rates at the date of maturity of the contracts Clearwater realizes a loss and conversely, when spot exchange rates are lower it realizes a gain. At the same time, given that Clearwater only hedges to 75% of its net exposures and that higher or lower spot exchange rates are reﬂ ected in sales, any losses or gains on contracts are more than offset by the impact on sales. Clearwater Seafoods Incorporated 2014 Annual Report 43 Management’s Discussion and Analysis Political risk Our Argentine and other international operations are subject to economic and political risks, which could materially and adversely affect our business. Our Argentine and other foreign operations and investments are subject to numerous risks, including ﬂ uctuations in foreign currency, exchange rates and controls, expropriation of our assets, nationalization, renegotiation, forced divestiture, modiﬁ cation or nulliﬁ cation of our contracts and changes in Argentine or other foreign laws or other regulatory policies of foreign governments and having to submit to the jurisdiction of a foreign court or arbitration panel or having to enforce the judgment of a foreign court or arbitration panel against a sovereign nation within its own territory. For a period of time during 2012 Clearwater was unable to repatriate dividends from Argentina. However, Clearwater received approvals and paid approximately $12.0 million Canadian in 2013. Clearwater did not request for dividends to be paid in 2014 as it was in the process of converting a vessel for use in its’ Argentine operations. There can be no assurances that Clearwater will continue to be able to repatriate dividends from Argentina in the future. To compensate for the potential restriction on dividend payouts Clearwater put in place domestic loan ﬁ nancing in Argentina related to the purchase of a replacement vessel. The replacement of this vessel will necessitate that some funds be used for the related domestic loan payments, thus alleviating the need for any material dividend payments for the short term. Our operations in Argentina and elsewhere may be negatively affected by both foreign exchange and expropriation losses as well as the increased cost and risks of doing business in developing markets. We mitigate this risk through maintaining a policy of repatriating our share of the earnings from Argentina through dividends and we do not maintain any material ﬁ nancial assets that are surplus to our needs to operate the business outside of Canada. We do not carry ﬁ nancial assets in Pesos to mitigate exchange risk. In addition we have structured our operations in Argentina with an Argentine partner who owns 20% of the Argentine business and who is resident in Argentina and is actively managing the business. No assurance can be given that our operations will not be adversely impacted as a result of existing or future legislation. Contingent liability Clearwater has received a claim regarding alleged rights to certain intellectual property in the amount of $6 million. Clearwater has agreed to arbitration; however, Clearwater does not believe there to be a material liability relating to the dispute. In addition, from time to time Clearwater is subject to claims and lawsuits arising in the ordinary course of operations. In the opinion of management, the ultimate resolution of such pending legal proceedings will not have a material effect on Clearwater’s consolidated ﬁ nancial position. Resource supply risk A material change in the population and biomass of scallop, lobster, clam, or coldwater shrimp stocks in the ﬁ sheries in which we operate would materially and adversely affect our business. Clearwater’s business is dependent on our allocated quotas of the annual Total Allowable Catch (TAC) for the species of seafood we harvest. The annual TAC is generally related to the health of the stock of the particular species as measured by a scientiﬁ c survey of the resource. The population and biomass of shellﬁ sh stocks are subject to natural ﬂ uctuations some of which are beyond our control and which may be exacerbated by factors such as water temperatures, food availability, the presence of predators, disease, disruption in the food chain, reproductive problems or other biological issues. We are unable to fully predict the timing and extent of ﬂ uctuations in the population and biomass of the shellﬁ sh stocks we harvest and process, and we therefore may not be able to engage in effective measures to alleviate the adverse effects of these ﬂ uctuations. In addition, the population models utilized by scientists evaluating the ﬁ sheries in which we operate are constantly evolving. Certain changes in the population models could negatively impact future biomass estimates. Any material reduction in the population and biomass or TAC of the stocks from which we source seafood would materially and adversely affect our business. Any material increase in the population and biomass or TAC could dramatically reduce the market price of any of our products. 44 Clearwater Seafoods Incorporated 2014 Annual Report The source of all Clearwater’s supply of products comes from ﬁ sheries in Canada and Argentina. The governments of Canada and Argentina set the annual TAC for each species by reviewing scientiﬁ c studies of the resource and then consulting with key stakeholders including us and our competitors to determine acceptable catch levels. The potentially differing interests of our competitors may result in conﬂ icting positions on issues around resource management, including the establishment of TACs and other management measures potentially limiting our ability to grow, to fully capitalize on our investments in harvesting capacity, or to achieve targeted yields from the resource, which may adversely affect our ﬁ nancial condition and results of operations. Resource supply risk is managed through adherence with government policies and regulations related to ﬁ shing in Canada and Argentina and Clearwater’s investment in science and technology, which enables Clearwater to understand the species that it harvests. Clearwater has invested in projects with the scientiﬁ c community, such as ocean ﬂ oor mapping and the resource assessment surveys to ensure access to the best available science information. Resource management plans, developed by DFO, are developed through an open and transparent process with strong input from industry participants. Clearwater engages in these processes to promote best in class, robust, and sustainable management of the resource. The Marine Stewardship Council certiﬁ cation of all of our core species demonstrates that the resources that Clearwater harvests meet the leading global standard for sustainable ﬁ sheries management practice. Clearwater further mitigates the risk associated with resource supply and competition through the diversiﬁ cation across species. Other risks Clearwater is implementing a new enterprise resource planning system (“ERP”) to support improved decision making capabilities. We recognize that the integrity and reliability of information in all its forms are critical. Inaccurate, incomplete or unavailable information could lead to incorrect ﬁ nancial reporting, and poor decision making. The implementation of the ERP and all major information technology projects are managed by a change management and governance process. Clearwater has an ERP team staffed with knowledgeable internal and external resources that is responsible for implementing the various key initiatives. For further disclosure of additional risk factors please refer to the Annual Information Form. C R I T I C A L A C C O U N T I N G P O L I C I E S Clearwater’s critical accounting policies are those that are important to the portrayal of Clearwater’s ﬁ nancial position and operations and may require management to make judgments based on underlying estimates and assumptions about future events and their effects. These estimates can include but are not limited to estimates regarding inventory valuation, accounts receivable valuation allowances, estimates of expected useful lives of vessels and plant facilities, and estimates of future cash ﬂ ows for impairment tests. Underlying estimates and assumptions are based on historical experience and other factors that are believed by management to be reasonable under the circumstances. These estimates and assumptions are subject to change as new events occur, as more experience is acquired, as additional information is obtained, and as the operating environment changes. Clearwater has considered recent market conditions including changes to its cost of capital in making these estimates. Refer to the notes to the annual ﬁ nancial statements for a complete listing of critical accounting policies and estimates used in the preparation of the consolidated ﬁ nancial statements. Financial reporting controls and procedures Clearwater has established and maintains disclosure controls and procedures over ﬁ nancial reporting, as deﬁ ned under the rules adopted by the Canadian Securities Regulators in instrument 52-109. The Chief Executive Ofﬁ cer (“CEO”) and Chief Financial Ofﬁ cer (“CFO”) have evaluated the design and effectiveness of Clearwater’s disclosure controls and procedures as of December 31, 2014 and have concluded that such procedures are adequate and effective to provide reasonable assurance that material information relating to Clearwater and its consolidated subsidiaries would be made known to them by others within those entities to allow for accurate and complete disclosures in annual ﬁ lings. The Management of Clearwater, with the participation of the CEO and the CFO (collectively “Management”), is responsible for establishing and maintaining adequate internal controls over ﬁ nancial reporting. Clearwater’s internal controls over ﬁ nancial reporting are designed to provide reasonable assurance regarding the reliability of ﬁ nancial reporting and preparation of ﬁ nancial statements in accordance with International Financial Reporting Standards (“IFRS”). Clearwater Seafoods Incorporated 2014 Annual Report 45 Management’s Discussion and Analysis Management evaluated the design and effectiveness of Clearwater’s internal controls over ﬁ nancial reporting as at December 31, 2014. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in its report “Internal Control – Integrated Framework (2013)”. This evaluation included reviewing controls in key risk areas, assessing the design of these controls, testing these controls to determine their effectiveness, reviewing the results and then developing an overall conclusion. Based on management’s evaluation, the CEO and the CFO have concluded that, as at December 31, 2014, Clearwater’s internal controls over ﬁ nancial reporting are effective in providing reasonable assurance regarding the reliability of ﬁ nancial reporting and the preparation of ﬁ nancial statements in accordance with IFRS. There have been no signiﬁ cant changes in Clearwater’s internal controls over ﬁ nancial reporting or other factors that occurred during the period from September 28, 2014 to December 31, 2014, that have materially affected, or are reasonably likely to materially affect the Company’s internal controls over ﬁ nancial reporting. Adoption of new and revised standards The following IFRS standards have been recently issued by the IASB: Offsetting Financial Assets and Financial Liabilities – Amendments to IAS 32, Recoverable Amount Disclosures for Non-Financial Assets – Amendments to IAS 36 and IFRIC 21 – Levies. Clearwater has adopted the following new and revised standards, along with any consequential amendments, effective January 1, 2014. These changes were made in accordance with the applicable transitional provisions. Amendments to IAS 32 – Offsetting Financial Assets and Financial Liabilities. These amendments clarify the meaning of ‘currently has a legally enforceable right to set-off’ and the criteria for non-simultaneous settlement to qualify for offsetting. These amendments had no impact on Clearwater. Amendments to IAS 36 – Recoverable Amount Disclosures for Non-Financial Assets. These amendments remove the unintended consequences of IFRS 13 Fair Value Measurement on the disclosures required under IAS 36 Impairment of Assets. In addition, these amendments require disclosure of the recoverable amounts for the assets or cash-generating units (CGUs) for which an impairment loss has been recognized or reversed during the period. These amendments have resulted in additional disclosures relating to an impairment loss recognized during the year ended December 31, 2014. Refer to Note 10 in the condensed consolidated interim ﬁ nancial statements for additional disclosure. IFRIC 21 – Levies. This Interpretation addresses the accounting for a liability to pay a levy if that liability is within the scope of IAS 37 – Provisions, Contingent Liabilities and Contingent Assets. It also addresses the accounting for a liability to pay a levy whose timing and amount is certain. There was no impact on Clearwater. New accounting standards and interpretations The IASB and International Financial Reporting Interpretations Committee (“IFRIC”) have issued the following standards that have not been applied in preparing these consolidated ﬁ nancial statements as their effective dates fall within annual periods beginning subsequent to the current reporting period. Annual Improvements to IFRS (2010–2012) and (2011–2013) cycles On December 12, 2013 the IASB issued narrow-scope amendments to a total of nine standards as part of its annual improvements process. The IASB uses the annual improvements process to make non-urgent but necessary amendments to IFRS. The Company intends to adopt these amendments in its ﬁ nancial statements for the annual period beginning on January 1, 2015. The extent of the impact of adoption of the amendments has not yet been determined. Business combination accounting for interests in a joint operation (Amendments to IFRS 11) The amendments require business combination accounting to be applied to acquisitions of interests in a joint operation that constitute a business. The Company intends to adopt the amendments to IFRS 11 in its ﬁ nancial statements for the annual period beginning on January 1, 2016. The extent of the impact of adoption of the amendments has not yet been determined. 46 Clearwater Seafoods Incorporated 2014 Annual Report IFRS 15 – Revenue from Contracts with Customers The standard contains a single model that applies to contracts with customers and two approaches to recognising revenue: at a point in time or over time. The model features a contract-based ﬁ ve-step analysis of transactions to determine whether, how much and when revenue is recognized. New estimates and judgmental thresholds have been introduced, which may affect the amount and/or timing of revenue recognized. The Company intends to adopt IFRS 15 in its ﬁ nancial statements for the annual period beginning on January 1, 2017. The extent of the impact of adoption of the standard has not yet been determined. IFRS 9 Financial Instruments IFRS 9 (2014) introduces new requirements for the classiﬁ cation and measurement of ﬁ nancial assets. Under IFRS 9 (2014), ﬁ nancial assets are classiﬁ ed and measured based on the business model in which they are held and the characteristics of their contractual cash ﬂ ows. The standard introduces additional changes relating to ﬁ nancial liabilities. It also amends the impairment model by introducing a new ‘expected credit loss’ model for calculating impairment. IFRS 9 (2014) also includes a new general hedge accounting standard which aligns hedge accounting more closely with risk management. This new standard does not fundamentally change the types of hedging relationships or the requirement to measure and recognize ineffectiveness, however it will provide more hedging strategies that are used for risk management to qualify for hedge accounting and introduce more judgment to assess the effectiveness of a hedging relationship. Special transitional requirements have been set for the application of the new general hedging model. The Company intends to adopt IFRS 9 (2014) in its ﬁ nancial statements for the annual period beginning on January 1, 2018. The extent of the impact of adoption of the standard has not yet been determined. Transfer of assets between an investor and its associate or joint venture The amendments address an acknowledged inconsistency between the requirements in IFRS 10 and those in IAS 28 (2011), in dealing with the sale or contribution of assets between an investor and its associate or joint venture. The Company intends to adopt these amendments in its ﬁ nancial statements for the annual period beginning on January 1, 2016. The extent of the impact of adoption of the amendments has not yet been determined. Annual Improvements to IFRS (2012 –2014) cycle On September 25, 2014 the IASB issued narrow-scope amendments to a total of four standards as part of its annual improvements process. The Company intends to adopt these amendments in its ﬁ nancial statements for the annual period beginning on January 1, 2016. The extent of the impact of adoption of the amendments has not yet been determined. Disclosure Initiative On December 18, 2014 the IASB issued amendments to IAS 1 Presentation of Financial Statements as part of its major initiative to improve presentation and disclosure in ﬁ nancial reports. These amendments will not require any signiﬁ cant change to current practice, but should facilitate improved ﬁ nancial statement disclosures. The Company intends to adopt these amendments in its ﬁ nancial statements for the annual period beginning on January 1, 2016. The extent of the impact of adoption of the amendments has not yet been determined. Related party transactions Clearwater often transacts in the normal course of business with other related parties. The details are as follows for the year ended December 31, 2014 and 2013: Transactions with other related parties Clearwater rents ofﬁ ce space to Clearwater Fine Foods Incorporated (“CFFI”) (the controlling shareholder of Clearwater) and provides computer network support services to CFFI. Clearwater charges CFFI management and other fees for ﬁ nance and administration services provided to CFFI by certain Clearwater staff. These fees apportion the salaries and beneﬁ t costs of the individuals providing the services based on estimated time spent. Clearwater Seafoods Incorporated 2014 Annual Report 47 Management’s Discussion and Analysis Clearwater had the following transactions and balances with CFFI, for the period ended December 31, 2014 and December 31, 2013: Opening balance due from CFFI Management and other fees charged to CFFI Rent and IT service fees charged to CFFI Interest on intercompany account Payments from CFFI Other charges to (from) CFFI $ Year ended December December $ 2014 1,524 — 184 56 (1,783) 50 2013 1,596 122 184 78 (466) 10 $ 31 $ 1,524 The amount due from CFFI is unsecured and due on demand. As such the account has been classiﬁ ed as a current asset included in prepaids and other. The balance bears interest at a rate of 5%. In addition, Clearwater expensed approximately $0.04 million for vehicle leases for the year ended December 31, 2014 (December 31, 2013 – $0.07 million) and approximately $0.13 million for other services for the year ended December 31, 2014 (December 31, 2013 – $0.11 million) by companies related to its parent. The transactions are recorded at the exchange amount and the balance due to these companies was $nil million as at December 31, 2014 (December 31, 2013 – $0.01 million). Clearwater recorded sales, sales commissions and storage fees to a non-controlling interest holder in a consolidated partnership. These sales, sales commissions and storage fees are at negotiated prices and are settled on normal trade terms. Sales for the year ended December 31, 2014 are $6.7 million (December 31, 2013 – $1.2 million). Sales commissions for the year ended December 31, 2014 are $2.4 million (December 31, 2013 – $2.0 million). Storage fees for the year ended December 31, 2014 are $1.4 million (December 31, 2013 – $1.7 million). At December 31, 2014 Clearwater had a balance of $1.0 million (December 31, 2013 – $5.0 million), included in long term receivables, for interest bearing loans made to a non-controlling interest shareholder in a subsidiary. In the ﬁ rst quarter of 2014, Clearwater changed its presentation of advances to a non-controlling interest shareholder in a subsidiary. Advances as at December 31, 2014 of $4.4 million (December 31, 2013 – $3.8 million) were rec lassiﬁ ed from long term receivables to non- controlling interest. These advances are now recorded as distributions to and repayments from a non-controlling shareholder in a subsidiary. During the year ended December 31, 2014, Clearwater incurred $0.02 million, in legal fees paid to a law ﬁ rm in which a Director of Clearwater is a partner (year ended December 31, 2013 – $0.03 million). Commitments In the normal course of business, Clearwater is obligated to make future payments, including contractual obligations for non- derivative and derivative ﬁ nancial instruments, operating leases and other commitments. The table includes undiscounted cash ﬂ ows of ﬁ nancial liabilities, operating lease and other commitments, interest and principal cash ﬂ ows based on the earliest date on which Clearwater is required to pay. Since December 31, 2014, there have been no material changes to amounts presented or expectations in the commitment schedule included in the 2014 annual MD&A. 48 Clearwater Seafoods Incorporated 2014 Annual Report December 31, 2014 Interest – long-term debt Principal repayments – long-term debt Total long-term debt Trade and other payables Operating leases and other Derivative ﬁ nancial instruments – asset1 Derivative ﬁ nancial instruments – liability Carrying Amount Total Contractual Cash Flow 2015 2016 2017 2018 2019 >2020 75,465 13,097 12,585 12,449 11,776 5,758 19,800 274,562 22,847 4,165 3,972 26,619 212,780 4,179 273,041 52,308 — 350,027 52,308 37,053 35,944 52,308 27,247 16,750 — 2,292 16,421 — 2,221 38,395 218,538 — 1,726 — 1,876 23,979 — 1,691 (5,312) (5,312) (5,312) 8,691 8,691 8,691 — — — — — — — — — — $ 328,728 $ 442,767 $ 118,878 $ 19,042 $ 18,642 $ 40,271 $ 220,264 $ 25,670 S U M M A RY O F Q U A R T E R LY R E S U LT S The following table provides historical data for the nine most recently completed quarters. In 000’s of Canadian dollars Fiscal 2014 Sales Earnings (loss) Earnings (loss) per share (“EPS”) Diluted earnings (loss) per share1 Fiscal 2013 Sales Earnings (loss) Earnings (loss) per share (“EPS”) Diluted earnings (loss) per share1 Fiscal 2012 Sales Earnings (loss) Earnings (loss) per share (“EPS”) Diluted earnings (loss) per share1 First Quarter Second Quarter Third Quarter Fourth Quarter $ $ $ 77,771 (12,144) (0.27) (0.27) 68,297 (1,762) (0.06) (0.06) 70,878 (2,927) (0.09) (0.09) $ $ $ 113,403 18,850 0.30 0.30 95,368 (9,866) (0.24) (0.24) 84,926 (2,505) (0.08) (0.08) $ $ $ 134,069 2,959 (0.02) (0.02) 113,982 27,224 0.48 0.47 101,553 17,618 0.30 0.27 $ $ $ 119,498 130 (0.07) (0.07) 111,012 (298) (0.06) (0.06) 92,945 10,518 0.17 0.15 1 Diluted earnings (loss) per share are anti-dilutive for all periods prior to 2014 except for September 28, 2013, September 29, 2012, and December 31, 2012. In the third quarter of 2013, the outstanding convertible debentures were redeemed. For a more detailed analysis of each quarter’s results, please refer to our quarterly reports and our annual reports. In general, sales increased with each successive quarter with the highest revenues in the third quarter of each year. Earnings for the second quarter of 2013 include $3.3 million in future tax recovery and $9.2 million in debt settlement fees and write-downs of deferred ﬁ nancing charges related to the June 2013 reﬁ nancing. Earnings for the fourth quarter of 2012 included an $8 million future tax recovery. Clearwater Seafoods Incorporated 2014 Annual Report 49 Management’s Discussion and Analysis N O N - I F R S M E A S U R E S , D E F I N I T I O N S A N D R E C O N C I L I AT I O N S Gross margin Gross margin consists of sales less cost of goods sold which includes harvesting, distribution, direct manufacturing costs, manufacturing overhead, certain administration expenses and depreciation related to manufacturing operations. Adjusted earnings before interest, tax, depreciation and amortization (“adjusted EBITDA”) Adjusted earnings before interest, tax, depreciation and amortization (“adjusted EBITDA”) is not a recognized measure under IFRS, and therefore is unlikely to be comparable to similar measures presented by other companies. Management believes that in addition to net earnings and cash provided by operating activities, adjusted EBITDA is a useful supplemental measure from which to determine Clearwater’s ability to generate cash available for debt service, working capital, capital expenditures, income taxes and dividends. In addition, as adjusted EBITDA is a measure frequently analyzed for public companies, Clearwater has calculated adjusted EBITDA in order to assist readers in this review. Adjusted EBITDA should not be construed as an alternative to net earnings determined in accordance with IFRS as a measure of liquidity, or as a measure of cash ﬂ ows. Adjusted EBITDA is deﬁ ned as EBITDA excluding items such as severance charges, gains or losses on property, plant and equipment, gains or losses on quota sales, reﬁ nancing and reorganization costs. In addition recurring accounting gains and losses on foreign exchange (other than realized gains and losses on forward exchange contracts), have been excluded from the calculation of adjusted EBITDA. Unrealized gains and losses on forward exchange contracts relate to economic hedging on future operational transactions and by adjusting for them, the results more closely reﬂ ect the economic effect of the hedging relationships in the period to which they relate. In addition adjustments to stock based compensation have been excluded from adjusted EBITDA as they do not relate to the general operations of the business. Reconciliation of earnings to adjusted EBITDA for the 13 weeks ended, the years ended December 31, 2014 and 2013 is as follows: Earnings (loss) Add (deduct): Income taxes Taxes and depreciation for equity investment Depreciation and amortization Interest on long-term debt and bank charges Earnings before interest, taxes, depreciation and amortization Add (deduct) other items: Unrealized foreign exchange and derivative loss (income) Fair market value on long term debt Realized foreign exchange loss (gain) on working capital Restructuring and reﬁ nancing costs Stock based compensation Loss (gain) on disposal of assets and quota 13 weeks ended December 31 Year ended December 31 2014 2013 2014 2013 2012 $ 130 $ (298) $ 9,797 $ 15,298 $ 22,704 1,401 280 6,563 987 5,949 (8,101) (5,019) 237 7,261 1,265 24,544 951 24,171 — 22,976 4,491 3,852 15,716 17,310 21,506 $ 12,865 $ 12,039 $ 57,271 $ 49,629 $ 62,167 10,523 (451) (134) 130 2,928 10,853 (1,009) (2,449) — 2,913 17,288 (1,229) 1,172 1,981 8,948 11,493 (1,710) 3,586 10,642 5,861 (3,476) 2,898 1,359 6,964 2,331 — — 1,937 (398) — Adjusted EBITDA $ 25,861 $ 22,347 $ 87,368 $ 79,103 $ 72,243 Adjusted EBITDA attributed to: Non-controlling interests Shareholders of Clearwater $ 4,763 21,098 $ 3,847 18,500 $ 16,295 71,073 $ 14,021 65,082 12,848 59,395 $ 25,861 $ 22,347 $ 87,368 $ 79,103 $ 72,243 50 Clearwater Seafoods Incorporated 2014 Annual Report Adjusted earnings attributable to shareholders To assist readers in estimating our earnings we have included a calculation of adjusted earnings. Management believes that in addition to earnings and cash provided by operating activities, adjusted earnings is a useful supplemental measure from which to determine Clearwater’s earnings from operations and ability to generate cash available for debt service, working capital, capital expenditures, income taxes and dividends. Reconciliation of earnings to adjusted earnings for the 13 weeks ended, the years ended December 31, 2014 and 2013 is as follows: Reconciliation of earnings to adjusted earnings Earnings (loss) Deferred tax assets booked related to prior years Restructuring and reﬁ nancing costs Stock based compensation Unrealized foreign exchange Fair value on long term debt 13 weeks ended December 31 Year ended December 31 2014 2013 2014 2013 $ 130 — 130 2,928 10,523 (451) 13,130 $ $ (298) — — 2,913 10,853 (1,009) 12,757 9,797 (2,575) 1,981 8,948 17,288 (1,229) 24,413 $ 15,298 (15,800) 10,642 5,861 11,493 (1,710) 10,486 Adjusted earnings $ 13,260 $ 12,459 $ 34,210 $ 25,784 Adjusted earnings attributable to: Non-controlling interests Shareholders 3,646 9,614 2,965 9,494 11,639 22,571 10,086 15,698 $ 13,260 $ 12,459 $ 34,210 $ 25,784 Adjusted earnings per share: Weighted average of shares outstanding Earnings per share for shareholders 54,978 0.17 50,949 0.19 54,787 0.41 50,949 0.31 Reconciliation of adjusted earnings to adjusted EBITDA Adjusted earnings $ 13,260 $ 12,459 $ 34,210 $ 25,784 Add (subtract) Cash and deferred taxes Depreciation and amortization Interest on long term debt and bank charges Taxes and depreciation on equity investment Realized foreign exchange on working capital Gain on disposal of assets 1,401 6,563 4,491 280 (134) — 12,601 987 7,261 3,852 237 (2,449) — 9,888 8,524 24,544 15,716 1,265 1,172 1,937 53,158 7,699 24,171 17,310 951 3,586 (398) 53,319 Adjusted EBITDA1 $ 25,861 $ 22,347 $ 87,368 $ 79,103 1 Refer to discussion on non-IFRS measures, deﬁ nitions and reconciliations Clearwater Seafoods Incorporated 2014 Annual Report 51 Management’s Discussion and Analysis Leverage Leverage is not a recognized measure under IFRS, and therefore is unlikely to be comparable to similar measures presented by other companies. Management believes leverage to be a useful term when discussing liquidity and does monitor and manage leverage. In addition, as leverage is a measure frequently analyzed for public companies, Clearwater has calculated the amount in order to assist readers in this review. Leverage should not be construed as a measure of liquidity or as a measure of cash ﬂ ows. Current leverage calculations are calculated by dividing the current and preceding annual adjusted EBITDA by the total debt on the balance sheet adjusted for cash reserves. Reconciliation of adjusted EBITDA to debt (net of deferred ﬁ nancing charges) for the years ended December 31, 2014 and 2013 is as follows: In 000’s of Canadian dollars As at December 31 Adjusted EBITDA1 Debt (net of deferred ﬁ nancing charges of $0.6 million (December 31, 2013 – $0.6 million)) Less cash Net debt Leverage 2014 2013 2012 $ 87,368 $ 79,103 $ 72,243 273,041 (47,598) 257,325 (46,793) 253,791 (41,504) $ 225,443 $ 210,532 $ 212,287 2.6 2.7 2.9 We have provided leverage calculations in the past to assist readers in comparing our leverage levels to our peers. Given that our leverage levels are in-line or below our peers we do not feel this measure is as critical to disclose. However, we understand that readers may wish to have leverage measures to assist them in their assessment of our liquidity. As a result, we will include a revised leverage measure going forward that is more appropriate for this purpose – one that is based on Clearwater’s share of adjusted EBITDA, debt and cash balances. The revised calculation excludes the minority share of our cash and adjusted EBITDA and is calculated as follows for the years ended December 31, 2014 and 2013: In 000’s of Canadian dollars As at December 31 Adjusted EBITDA1 Debt (net of deferred ﬁ nancing charges of $0.6 million (December 31, 2013 – $0.6 million))2 Less cash3 Net debt Leverage 2014 2013 $ 71,073 $ 65,082 272,554 (40,712) 256,498 (38,510) $ 231,842 $ 217,988 3.3 3.3 2 Debt was reduced by the share attributable to non-controlling shareholders for which Clearwater does not provide a guarantee. This included $0.5 million in 2014 and $0.8 million in 2013. 3 Cash was reduced by the share attributable to non-controlling shareholders of $6.9 million in 2014 and $8.3 million in 2013. 1 Refer to discussion on non-IFRS measures, deﬁ nitions and reconciliations 52 Clearwater Seafoods Incorporated 2014 Annual Report Free cash ﬂ ows Free cash ﬂ ow is not a recognized measure under IFRS, and therefore is unlikely to be comparable to similar measures presented by other companies. Management believes that in addition to net earnings and cash provided by operating activities, free cash ﬂ ow is a useful supplemental measure from which to determine Clearwater’s ability to generate cash available for debt service, working capital, capital expenditures and distributions. Free cash ﬂ ow should not be construed as an alternative to net earnings determined in accordance with IFRS, as a measure of liquidity, or as a measure of cash ﬂ ows. Free cash ﬂ ow is deﬁ ned as cash ﬂ ows from operating activities, less planned capital expenditures (net of any borrowings of debt designated to fund such expenditures), scheduled payments on long term debt and distributions to non-controlling interests. Items excluded from the free cash ﬂ ow include discretionary items such as debt reﬁ nancing and repayments changes in the revolving loan and discretionary ﬁ nancing and investing activities. Reconciliation for the 13 weeks and year ended December 31, 2014 and 2013 is as follows: 13 weeks ended December 31 Year ended December 31 2014 2013 2014 2013 2012 $ 25,861 $ 22,347 $ 87,368 $ 79,103 $ 72,243 (4,288) (375) (789) (3,657) (270) 514 (14,938) (2,585) (5,295) (16,317) (1,812) (863) (20,346) (1,693) (12,448) Adjusted EBITDA1 Less: Cash Interest Cash taxes Other income and expense items Operating cash ﬂ ow before changes in working capital 20,409 18,934 64,550 60,111 37,756 Changes in working capital from operating activities 27,571 Cash ﬂ ows from operating activities 47,980 Other sources (uses) of cash: Purchase of property, plant, equipment, quota and other assets Proceeds on disposal of ﬁ xed assets Designated borrowingsA Scheduled payments on long-term debt Dividends received from joint venture Distribution to non-controlling interests (12,802) — 11,017 (6,205) — (2,780) 29,816 48,750 3,476 68,026 (5,448) 54,663 8,184 45,940 (11,182) — 6,231 (1,366) — (3,707) (83,309) 5 63,431 (8,360) 1,490 (10,427) (23,813) 978 7,700 (3,233) 1,240 (11,414) (16,572) — 2,056 (6,327) 1,740 (9,491) Free cash ﬂ ow1 $ 37,210 $ 38,726 $ 30,856 $ 26,121 $ 17,346 Add/(less): Other debt borrowings (repayments) of debt, use of cashB Issuance of equity Other investing activities Other ﬁ nancing activities (11,054) — (482) (1,649) (7,505) — (386) — (60,398) 32,487 1,805 (4,397) (20,759) — (717) — 13,584 — 1,358 — Change in cash ﬂ ows for the period $ 24,025 $ 30,835 $ 353 $ 4,645 $ 32,288 A Designated borrowings relate to capital projects for which there is long-term ﬁ nancing and therefore they will not be ﬁ nanced with operating cash ﬂ ows. For 2014, this includes a conversion of a vessel for Argentina, the addition of a third clam vessel and a late life reﬁ t on a shrimp vessel. For the purpose of free cash ﬂ ow calculations the amount invested (up to the total amount of the related ﬁ nancing) during the period on these projects is backed out of the calculation of free cash ﬂ ows irrespective of the timing of the related borrowing. B Other debt borrowings (repayments) of debt, use of cash for year to date 2014 includes $63.4 million of cash invested in designated capital projects. 1 Refer to discussion on non-IFRS measures, deﬁ nitions and reconciliations Clearwater Seafoods Incorporated 2014 Annual Report 53 Management’s Discussion and Analysis Return on Assets Return on assets is not a recognized measure under IFRS, and therefore is unlikely to be comparable to similar measures presented by other companies. Management believes that return on assets measures the efﬁ ciency of the use of total assets to generate income. Return on assets should not be construed as an alternative to net earnings determined in accordance with IFRS. Return on assets is deﬁ ned as the ratio of adjusted earnings before interest and taxes (“EBIT”) to average total assets including all working capital assets. The calculation of adjusted earnings before interest and taxes to total assets for the rolling twelve months ended December 31, 2014 and December 31, 2013 is as follows: In 000’s of Canadian dollars As at December 31 Adjusted EBITDA1 Depreciation and amortization Adjusted earnings before interest and taxes Total Assets $ 2014 87,368 23,753 63,615 $ 2013 79,103 24,167 54,936 $ 2012 72,243 22,475 49,768 $ 464,397 $ 410,796 $ 410,789 13.7% 13.4% 12.1% 1 Refer to discussion on non-IFRS measures, deﬁ nitions and reconciliations 54 Clearwater Seafoods Incorporated 2014 Annual Report KPMG LLP Chartered Accountants Suite 1500 Purdy’s Wharf Tower 1 1959 Upper Water Street Halifax, NS B3J 3N2 Canada Telephone (902) 492-6000 (902) 492-1307 Fax www.kpmg.ca Internet INDEPENDENT AUDITORS’ REPORT To the Shareholders of Clearwater Seafoods Incorporated We have audited the accompanying consolidated financial statements of Clearwater Seafoods Incorporated, which comprise the consolidated statements of financial position as at December 31, 2014 and December 31, 2013, the consolidated statements of earnings, other comprehensive income, shareholders’ equity and cash flows for the years then ended, and notes, comprising 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. Auditors’ Responsibility Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with Canadian generally accepted auditing standards. Those standards require that we comply with ethical requirements and plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free from material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the consolidated financial statements. The procedures selected depend on our 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, we consider internal control relevant to the entity’s preparation and fair presentation of the consolidated financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal control. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of accounting estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that the audit evidence we have obtained in our audits is sufficient and appropriate to provide a basis for our audit opinion. Opinion the consolidated financial statements present In our opinion, the consolidated financial position of Clearwater Seafoods Incorporated as at December 31, 2014 and December 31, 2013, and its consolidated financial performance and its consolidated cash flows for the years then ended in accordance with International Financial Reporting Standards. in all material respects, fairly, Chartered Accountants February 25, 2015 Halifax, Canada KPMG LLP is a Canadian limited liability partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. KPMG Canada provides services to KPMG LLP. Clearwater Seafoods Incorporated 2014 Annual Report 55 Clearwater Seafoods Incorporated Management’s Statement of Responsibility for Financial Reporting The consolidated ﬁ nancial statements and all related ﬁ nancial information contained in the annual report, including Management’s Discussion and Analysis, are the responsibility of the Management of Clearwater Seafoods Incorporated. They have been prepared in accordance with generally accepted accounting principles, using management’s best estimates and judgments, where appropriate. Management is responsible for the reliability and integrity of the consolidated ﬁ nancial statements, the notes to the consolidated ﬁ nancial statements, and other ﬁ nancial information contained in the annual report. In the preparation of these statements, estimates are sometimes necessary because a precise determination of certain assets and liabilities is dependent on future events. Management believes such estimates have been based on careful judgments and have been properly reﬂ ected in the accompanying consolidated ﬁ nancial statements. Management is also responsible for maintaining a system of internal control designed to provide reasonable assurance that assets are safeguarded and that accounting systems provide timely, accurate and reliable ﬁ nancial information. The Board of Directors of Clearwater Seafoods Incorporated is responsible for ensuring that management fulﬁ lls its responsibilities for ﬁ nancial reporting and internal control. The Board is assisted in exercising its responsibilities through the Audit Committee of the Board, which is composed of non-management directors. The Committee meets periodically with management and the auditors to satisfy itself that management’s responsibilities are properly discharged, to review the consolidated ﬁ nancial statements and to recommend approval of the consolidated ﬁ nancial statements to the Board. KPMG LLP, the independent auditors appointed by the Board, have audited Clearwater Seafoods Incorporated’s consolidated ﬁ nancial statements in accordance with generally accepted auditing standards and their report follows. The independent auditors have full and unrestricted access to the Audit Committee to discuss their audit and their related ﬁ ndings as to the integrity of the ﬁ nancial reporting process. February 25, 2015 I A N S M I T H R O B E R T W I G H T Chief Executive Ofﬁ cer Vice-President, Finance and Chief Financial Ofﬁ cer 56 Clearwater Seafoods Incorporated 2014 Annual Report Clearwater Seafoods Incorporated Consolidated Statements of Financial Position (In thousands of Canadian dollars) As at December 31 A S S E T S Current assets Cash Trade and other receivables (Note 5) Inventories (Note 6) Prepaids and other (Note 7) Derivative ﬁ nancial instruments (Note 12) Non-current assets Long-term receivables (Note 8) Other assets Property, plant and equipment (Note 9) Licenses and ﬁ shing rights (Note 10) Investment in equity investee (Note 21) Deferred tax assets (Note 17(c)) Goodwill (Note 10) T O T A L A S S E T S L I A B I L I T I E S Current liabilities Trade and other payables Income tax payable (Note 17) Current portion of long-term debt (Note 11) Derivative ﬁ nancial instruments (Note 12) Non-current liabilities Long-term debt (Note 11) Deferred tax liabilities (Note 17(c)) S H A R E H O L D E R S ’ E Q U I T Y Share capital (Note 13) Retained earnings Cumulative translation account Non-controlling interest (Note 20) T O T A L S H A R E H O L D E R S ’ E Q U I T Y A N D L I A B I L I T I E S See the accompanying notes to the consolidated ﬁ nancial statements Subsequent event (Note 13) Approved by the Board: J O H N R I S L E Y C O L I N M A C D O N A L D Director Chairman 2014 2013 $ 47,598 49,812 40,056 5,508 5,312 $ 46,793 43,702 46,987 6,291 1,466 148,286 145,239 3,872 288 186,017 98,742 6,198 15,356 5,638 316,111 6,656 296 126,451 101,467 4,701 18,943 7,043 265,557 $ 464,397 $ 410,796 $ $ 52,308 1,367 22,847 8,691 85,213 250,194 1,003 $ 40,760 648 14,297 6,869 62,574 243,028 1,453 251,197 244,481 97,267 11,084 (5,326) 103,025 24,962 $ 64,780 19,762 (5,470) 79,072 24,669 127,987 464,397 $ 103,741 410,796 $ Clearwater Seafoods Incorporated 2014 Annual Report 57 Clearwater Seafoods Incorporated Consolidated Statements of Earnings (In thousands of Canadian dollars) Year ended December 31 Sales Cost of goods sold Administrative and selling costs Net ﬁ nance costs (Note 14) Losses on forward contracts (Note 12 (e)) Other income (Note 15) Research and development Earnings before income taxes Income tax expense (recovery) (Note 17) Earnings for the year Earnings (loss) attributable to: Non-controlling interest Shareholders of Clearwater Basic and diluted (loss) earnings per share (Note 16) See the accompanying notes to the consolidated ﬁ nancial statements 2014 2013 $ 444,742 341,908 $ 388,659 301,291 102,834 48,252 37,829 4,047 (5,031) 1,991 87,088 15,746 5,949 87,368 39,005 33,935 8,812 (3,240) 1,659 80,171 7,197 (8,101) $ $ $ $ 9,797 $ 15,298 12,702 (2,905) 9,797 (0.05) $ $ $ 8,965 6,333 15,298 0.12 58 Clearwater Seafoods Incorporated 2014 Annual Report Clearwater Seafoods Incorporated Consolidated Statements of Other Comprehensive Income (In thousands of Canadian dollars) Year ended December 31 Earnings Other comprehensive income (loss) – Items that may be reclassiﬁ ed subsequently to income (loss): Foreign currency translation differences of foreign operations Total comprehensive income (loss) Total comprehensive income (loss) attributable to: Non-controlling interest Shareholders of Clearwater See the accompanying notes to the consolidated ﬁ nancial statements 2014 2013 $ 9,797 $ 15,298 (1,188) (1,604) 8,609 $ 13,694 11,370 (2,761) $ 8,965 4,729 8,609 $ 13,694 $ $ $ Clearwater Seafoods Incorporated 2014 Annual Report 59 Clearwater Seafoods Incorporated Consolidated Statements of Shareholders’ Equity (In thousands of Canadian dollars) Common shares Retained earnings Cumulative translation account Non- controlling interest Total Balance at January 1, 2013 $ 64,867 $ 14,616 $ (3,866) $ 27,495 $ 103,112 Total comprehensive income (loss) for the year Transactions recorded directly in equity Distributions to non-controlling interest Dividends declared on common shares Redemption of 2014 convertible debentures (Note 13) Total transactions with owners — — — (87) (87) 6,333 (1,604) 8,965 13,694 — (1,274) 87 (1,187) — — — — (11,791) — (11,791) (1,274) — — (11,791) (13,065) Balance at December 31, 2013 $ 64,780 $ 19,762 $ (5,470) $ 24,669 $ 103,741 Total comprehensive (loss) income for the year — (2,905) 144 11,370 8,609 Transactions recorded directly in equity Issuance of common shares Distributions to non-controlling interest Dividends declared on common shares Total transactions with owners 32,487 — — 32,487 — — (5,773) (5,773) — — — — — (11,077) — (11,077) 32,487 (11,077) (5,773) 15,637 Balance at December 31, 2014 $ 97,267 $ 11,084 $ (5,326) $ 24,962 $ 127,987 See the accompanying notes to the consolidated ﬁ nancial statements 60 Clearwater Seafoods Incorporated 2014 Annual Report Clearwater Seafoods Incorporated Consolidated Statements of Cash Flows (In thousands of Canadian dollars) Year ended December 31 Operating Earnings for the year Adjustments for: Depreciation and amortization Net ﬁ nance costs and unrealized derivative and losses Income tax expense (recovery) Share-based compensation Impairment of property, plant and equipment and goodwill (Note 9 & 10) Loss (gain) on disposal of property, plant, and equipment Earnings in equity investee (Note 21) Foreign exchange and other Change in operating working capital (Note 25) Interest paid Income tax paid Financing Repayment of long-term debt Net proceeds from long-term debt Net proceeds from common share issue Net repayments of revolving credit facility Distributions paid to non-controlling interest Advances to non-controlling interests Dividends paid on common shares Government assistance received (Note 9) Investing Purchase of property, plant and equipment, and other Proceeds on disposal of property, plant and equipment Dividends received from equity investee Purchase of other assets Net receipts in long term receivables Effect of foreign exchange rate changes on cash I N C R E A S E I N C A S H C A S H , B E G I N N I N G O F P E R I O D C A S H , E N D O F P E R I O D See the accompanying notes to the consolidated ﬁ nancial statements 2014 2013 $ 9,797 $ 15,298 23,753 31,744 5,949 8,948 1,934 76 (2,987) 2,250 81,464 3,604 (15,067) (1,975) 24,167 36,409 (8,101) 5,861 — (747) (2,082) 6,239 77,044 (1,297) (20,464) (621) $ 68,026 $ 54,662 (14,848) 11,207 32,487 (31) (10,427) (1,104) (5,773) — (260,320) 245,288 — — (11,414) (957) (1,274) 15 $ 11,511 $ (28,662) (83,309) 5 1,490 (65) 2,695 (79,184) 452 805 46,793 (23,813) 978 1,240 (83) 323 (21,355) 644 5,289 41,504 $ $ $ $ $ 47,598 $ 46,793 Clearwater Seafoods Incorporated 2014 Annual Report 61 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) 1 . D E S C R I P T I O N O F T H E B U S I N E S S Clearwater Seafoods Incorporated (“Clearwater”) was incorporated on July 7, 2011 and is domiciled at 757 Bedford Highway, Bedford, Nova Scotia, Canada. Clearwater’s sole investment is the ownership of 100% of the partnership units of Clearwater Seafoods Limited Partnership (“CSLP”), which holds the underlying investments in subsidiaries and joint ventures. The consolidated ﬁ nancial statements of Clearwater as at and for the years ended December 31, 2014 and 2013 comprise the company, its subsidiaries and a joint venture. Clearwater’s business includes the ownership and operation of assets and property in connection with the harvesting, processing, distribution and marketing of seafood. 2 . B A S I S O F P R E PA R AT I O N (a) Statement of compliance These consolidated ﬁ nancial statements have been prepared in accordance with International Financial Reporting Standards (“IFRSs”) as issued by the International Accounting Standards Board. The ﬁ nancial statements were authorized for issue by Clearwater’s Board of Directors on February 25, 2015. (b) Basis of measurement The consolidated ﬁ nancial statements have been prepared on the historical cost basis except for the following material items measured at fair value through proﬁ t or loss: • Derivative ﬁ nancial instruments • Embedded derivative liability within long-term debt • Liabilities for cash settled share-based compensation arrangements The fair value measurements have been described in the notes. (c) Functional and presentation currency These consolidated ﬁ nancial statements are presented in Canadian dollars, which is Clearwater’s functional currency. All tabular ﬁ nancial information presented in Canadian dollars has been rounded to the nearest thousand except as otherwise noted. (d) Critical judgments and estimates in applying accounting policies The preparation of ﬁ nancial statements requires management to make estimates, judgments and assumptions that materially affect the amounts reported in the consolidated ﬁ nancial statements and accompanying notes. Management bases assumptions, estimates and judgments on historical experience, current trends and events, and all available information that management believes is relevant at the time it prepares the ﬁ nancial statements. Actual results could ultimately differ materially from these estimates. The following are the most important accounting policies subject to such judgment and sources of key estimation uncertainty that Clearwater believes could have the most signiﬁ cant impact on the reported results and ﬁ nancial position: The information in this note is grouped by accounting policy to include: • Key sources of estimation uncertainty • Judgments management made in the process of applying Clearwater’s accounting policies i. Income taxes Key sources of estimation uncertainty Accounting for income taxes is based upon evaluation of income tax rules in all jurisdictions where Clearwater performs activities. In determining the provision for current and deferred income taxes, Clearwater makes assumptions about temporary and permanent differences between accounting and taxable income, and substantively enacted income tax rates. Changes in tax law and the level and geographical mix of earnings will impact the effective tax rate. With respect to deferred taxes, 62 Clearwater Seafoods Incorporated 2014 Annual Report Clearwater makes assumptions about when deferred tax assets are likely to reverse, the extent to which it is probable that temporary differences will reverse and whether or not there will be sufﬁ cient taxable proﬁ ts available to offset the tax assets when they do reverse. Clearwater recognizes deferred tax assets only to the extent that it considers it probable that those assets will be recoverable. Judgments made in relation to accounting policies applied Clearwater makes judgments about whether to recognize the beneﬁ t of deferred tax assets. In making this judgment Clearwater continually evaluates all positive and negative evidence. Clearwater’s evaluation includes the magnitude and duration of any past losses, current proﬁ tability and whether it is sustainable, and earnings forecasts. For further discussion on deferred income taxes refer to Note 17. ii. Goodwill, licenses and ﬁ shing rights Key sources of estimation uncertainty Clearwater conducts impairment testing on its goodwill and intangible assets annually in the third quarter and whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Clearwater determines the fair value of each cash-generating unit to which goodwill and intangible assets are allocated using the value in use method, which estimates fair value using a discounted ﬁ ve-year forecasted cash ﬂ ow estimate with a terminal value. The determination of the recoverable amount involves estimates and assumptions for future sales, product margins, market conditions, allowable catch rates, and appropriate discount rates. Judgments made in relation to accounting policies applied In performing its impairment testing, Clearwater makes judgments in determining its cash generating units, and the allocation of working capital assets and liabilities and corporate assets to these cash generating units. For further discussion on goodwill and intangible assets, refer to Note 10. iii. Share-based compensation Key sources of estimation uncertainty Clearwater determines compensation expense for share-based compensation using market-based valuation techniques. Clearwater determines the fair value of the market-based and performance-based non-vested share awards at the date of grant using black-scholes and Monte Carlo simulation valuation models. Certain performance-based share awards require Clearwater to make estimates of the likelihood of achieving company and corporate peer group performance goals. Clearwater makes assumptions in applying valuation techniques including estimating the future volatility of the stock price, expected dividend yield, future employee turnover rates and future employee shared based plan option exercise behaviours and corporate performance. Such assumptions are inherently uncertain. Changes in these assumptions affect the fair value estimates. For further discussion on share-based compensation, refer to Note 23. iv. Derivative ﬁ nancial instruments Key sources of estimation uncertainty Clearwater records the fair value of certain ﬁ nancial liabilities using valuation models where the fair value cannot be determined in active markets. The inputs used in the fair value models contain inherent uncertainties, estimates and use of judgment. Fair value is taken from observable markets where possible and estimated as necessary. Assumptions underlying the valuations require estimation of costs and prices over time, discount rates, inﬂ ation rates, defaults and other relevant variables such as foreign exchange volatility. For further discussion on derivative ﬁ nancial instruments, refer to Note 12. Clearwater Seafoods Incorporated 2014 Annual Report 63 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) 3 . S I G N I F I C A N T A C C O U N T I N G P O L I C I E S The principal accounting policies set out below have been applied consistently to all periods presented in these consolidated ﬁ nancial statements. (a) Basis of consolidation i) Business combinations Clearwater measures goodwill as the excess of the fair value of the consideration transferred, the amount of any non-controlling interest in the acquiree, less the net recognized amount (generally fair value) of the identiﬁ able assets acquired and liabilities assumed, all measured as of the acquisition date. When the excess is negative, a bargain purchase gain is recognized immediately in proﬁ t or loss. Clearwater elects on a transaction-by-transaction basis whether to measure non-controlling interest at its fair value, or at its proportionate share of the recognized amount of the identiﬁ able net assets, at the acquisition date. Transaction costs, other than those associated with the issue of debt or equity securities, that Clearwater incurs in connection with a business combination are expensed as incurred. ii) Subsidiaries Subsidiaries are entities controlled by Clearwater. The ﬁ nancial statements of subsidiaries are included in the consolidated ﬁ nancial statements from the date that control commences until the date that control ceases. iii) Joint venture A joint venture is a joint arrangement whereby the parties that have joint control of the arrangement have rights to the net assets of the joint arrangement. Joint control is the contractually agreed sharing of control of an arrangement, which exists only when decisions about the relevant activities require unanimous consent of the parties sharing control. The results and assets and liabilities of the joint venture are incorporated into these consolidated ﬁ nancial statements using the equity method of accounting. Under the equity method a joint venture is initially recognized in the consolidated statement of ﬁ nancial position at cost and adjusted thereafter to recognize Clearwater’s share of the proﬁ t or loss and other comprehensive income of the joint venture. iv) Transactions eliminated on consolidation Intercompany balances and transactions, and any unrealized income and expenses arising from intercompany transactions, are eliminated in preparing the consolidated ﬁ nancial statements. Unrealized losses are eliminated in the same way as unrealized gains, but only to the extent that there is no evidence of impairment. (b) Inventories Inventories consist primarily of ﬁ nished goods and are stated at the lower of cost and net realizable value. Cost includes the cost of materials plus direct labour applied to the product and the applicable share of manufacturing overheads, administration and depreciation, determined on a ﬁ rst-in, ﬁ rst-out basis. Net realizable value is the estimated selling price in the ordinary course of business, less the estimated costs of completion and selling expenses. (c) Property, plant and equipment Property, plant and equipment is measured at cost, less government assistance received, accumulated depreciation and accumulated impairment losses. Cost includes expenditures that are directly attributable to the acquisition of the asset. The cost of self-constructed assets includes the cost of materials and direct labour, any other costs directly attributable to bringing the assets to a working condition for their intended use and location, and borrowing costs. Additions are depreciated commencing in the month that they are available for use. Vessel reﬁ ts are capitalized when incurred and amortized over the period between scheduled reﬁ ts. Construction in progress assets are capitalized during the construction period and depreciation commences when the asset is available for use. Depreciation is provided on a straight line basis to depreciate the cost of each of the components of an item of property, plant and equipment over its estimated useful life. When parts of an item of property, plant and equipment have different useful lives, 64 Clearwater Seafoods Incorporated 2014 Annual Report they are accounted for as separate items (major components) of property, plant and equipment. Estimated useful lives are the following: Asset Component Buildings and wharves Plant and equipment Vessels Vessels equipment Rate 10 to 40 years 3 to 20 years 15 to 30 years 1 to 7 years The cost of replacing a part of an item of property, plant and equipment is recognized in the carrying amount of the item if it is probable that the future economic beneﬁ ts embodied within the part will ﬂ ow to Clearwater and its cost can be measured reliably. The carrying amount of the replaced part is derecognized. The costs of the day-to-day servicing of property, plant and equipment are recognized in proﬁ t or loss as incurred. Gains and losses on disposal of an item of property, plant and equipment are determined as the difference between the proceeds from disposal and the carrying amount of property, plant and equipment, and are recognized net within administrative and selling in proﬁ t or loss. Depreciation methods, useful lives and residual values are reviewed at each ﬁ nancial year end and adjusted prospectively if appropriate. (d) Intangible assets i) Goodwill Goodwill is the residual amount that results when the purchase of a business exceeds the sum of the amounts allocated to the net assets acquired based on their fair values. Goodwill is allocated to Clearwater’s cash generating units that are expected to beneﬁ t from the acquisition synergies. Goodwill is measured at cost less impairment losses. ii) Licenses and ﬁ shing rights Licenses represent intangible assets acquired directly or in a business combination that meet the speciﬁ ed criteria for recognition apart from goodwill and are recorded at their fair value at the date of acquisition and are subsequently carried at cost. Licenses that have indeﬁ nite lives are not amortized and are tested for impairment annually or more frequently if events or changes in circumstances indicate that the asset may be impaired. Fishing rights arise from contractual rights to ﬁ sh quotas; they have deﬁ nite lives and are amortized over the term of the related operating agreement. (e) Revenue recognition Clearwater sells seafood in a fresh or frozen state to customers. These sales are evidenced by purchase orders or invoices, which set out the terms of the sale, including pricing and shipping terms. Revenue is recognized when persuasive evidence exists that the signiﬁ cant risks and rewards of ownership have been transferred to the customer, recovery of the consideration is probable, the associated costs and possible return of the goods can be estimated reliably, there is no continuing managerial involvement with the goods, and the amount of revenue can be measured reliably. Revenue is measured at the fair value of the consideration received or receivable, net of allowance for returns and discounts. (f) Government assistance Government assistance received by Clearwater relates to items of property, plant and equipment. Government assistance is deducted from the carrying amount of the related asset and amortized over the same estimated useful life of the particular asset to which it relates. Clearwater does not have any government assistance that could potentially be required to be repaid, nor are there any forgivable loans. Clearwater Seafoods Incorporated 2014 Annual Report 65 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) (g) Financial instruments Clearwater has the following non-derivative and derivative ﬁ nancial assets and liabilities that are classiﬁ ed into the following categories: Financial instrument Category Measurement method Cash Fair value through proﬁ t or loss Fair value Trade and other receivables Long-term receivables Trade and other payables Long-term debt Loans and receivables Loans and receivables Non-derivative ﬁ nancial liabilities Non-derivative ﬁ nancial liabilities Initial: Fair Value Subsequent: Amortized cost through proﬁ t or loss Derivative ﬁ nancial instruments Derivative ﬁ nancial instruments Fair value Loans and receivables Loans and receivables are non-derivative ﬁ nancial assets with ﬁ xed or determinable payments that are not quoted in an active market. Loans and receivables are initially recognized at their fair values, plus any attributable transaction costs, and are subsequently measured at amortized cost using the effective interest rate method, with gains and losses recognized in proﬁ t or loss in the period in which they arise. Non-derivative liabilities Non-derivative liabilities are debt securities and subordinated liabilities that are initially measured at fair value, plus attributable transaction costs, and are subsequently measured at amortized cost, with gains and losses recognized in proﬁ t or loss in the period in which they arise. Derivative ﬁ nancial instruments Clearwater enters into a variety of derivative ﬁ nancial instruments to manage its exposure to foreign exchange and interest rate risks, including foreign exchange forward contracts, interest rate swaps, caps, and ﬂ oors. Embedded derivatives are contained in non-derivative host contracts and are treated as separate derivatives when they meet the deﬁ nition of a derivative, and their risks and characteristics are not closely related to those of the host contracts. Derivative ﬁ nancial instruments and embedded derivatives are recorded at fair value with mark-to-market adjustments recorded in proﬁ t or loss. (h) Impairment i) Financial assets Financial assets are assessed at each reporting date to determine whether there is objective evidence of impairment. A ﬁ nancial asset is impaired if objective evidence indicates that a loss event occurred after the initial recognition of the asset, and that the loss event had a negative effect on the estimated future cash ﬂ ows of that asset that can be estimated reliably. Objective evidence that ﬁ nancial assets are impaired can include default or delinquency by a debtor, restructuring of an amount due to Clearwater on terms that Clearwater would not consider otherwise or indications that a debtor will enter bankruptcy. Clearwater considers evidence of impairment for receivables on a speciﬁ c customer basis. An impairment loss in respect of a ﬁ nancial asset measured at amortized cost is calculated as the difference between its carrying amount and the present value of the estimated future cash ﬂ ows discounted at the asset’s original effective interest rate. Losses are recognized in proﬁ t or loss and reﬂ ected in an allowance account against receivables. When a subsequent event causes the amount of impairment loss to decrease, the decrease in impairment loss is reversed through proﬁ t or loss. ii) Non-ﬁ nancial assets Clearwater reviews non-ﬁ nancial assets at each reporting date to determine whether there is any indication of impairment. If any such indication exists, then the asset’s recoverable amount is estimated. In addition, for goodwill and intangible assets that have indeﬁ nite useful lives an annual impairment test is performed. 66 Clearwater Seafoods Incorporated 2014 Annual Report The recoverable amount of an asset or cash-generating unit is the greater of its value in use and its fair value less costs of disposal. In assessing value in use, the estimated future cash ﬂ ows are discounted to their present value using a pre-tax discount rate that reﬂ ects current market assessments of the time value of money and the risks speciﬁ c to the asset. For the purpose of impairment testing, assets that cannot be tested individually are grouped together into the smallest group of assets that generate cash inﬂ ows from continuing use that are largely independent of the cash inﬂ ows of other assets or groups of assets (the “cash-generating unit” or “CGU”). Goodwill and the intangible assets acquired in a business combination are allocated to the CGU, or the group of CGUs, that are expected to beneﬁ t from the synergies of the combination. This allocation is subject to an operating segment ceiling test and reﬂ ects the lowest level at which that asset is monitored for internal reporting purposes. An impairment loss is recognized if the carrying amount of an asset or its CGU exceeds its estimated recoverable amount. Impairment losses are recognized in proﬁ t or loss. Impairment losses recognized in respect of CGUs are allocated ﬁ rst to reduce the carrying amount of any goodwill allocated to the CGUs, and then to reduce the carrying amounts of the other assets in the unit on a pro rata basis. An impairment loss in respect of goodwill is not reversed. In respect of other assets, impairment losses recognized in prior periods are assessed at each reporting date for any indications that the loss has decreased or no longer exists. An impairment loss is reversed if there has been a change in the estimates and assumptions used to determine the recoverable amount. An impairment loss is reversed only to the extent that the asset’s carrying amount does not exceed the carrying amount that would have been determined, net of depreciation or amortization, if no impairment loss had been recognized. (i) Translation of foreign currency i) Foreign currency transactions Transactions in foreign currencies are translated to an entity’s functional currency at the exchange rate at the date of the transactions. Monetary assets and liabilities denominated in foreign currencies at the reporting date are retranslated to the entity’s functional currency at the exchange rate at that date. Non-monetary items that are measured in terms of historical cost in a foreign currency are translated using the exchange rate at the date of the transaction. ii) Foreign operations The assets and liabilities of foreign operations with a functional currency different from Clearwater’s presentation currency, including goodwill, other intangible assets and fair value adjustments arising on acquisition, are translated into Canadian dollars at exchange rates at the reporting date. Foreign currency differences resulting from this translation are recognized in other comprehensive income in the cumulative translation account. The income and expenses of foreign operations are translated to Canadian dollars at average exchange rates. When a foreign operation is disposed of, all relevant amounts in the cumulative translation account are transferred to proﬁ t or loss as part of the proﬁ t or loss on disposal. On the partial disposal of a subsidiary that does not result in loss of control the relevant proportion of such cumulative translation account is reattributed to non-controlling interest and not recognized in proﬁ t or loss. (j) Income taxes Income tax expense is comprised of current and deferred income tax. Current tax and deferred income tax are recognized in proﬁ t or loss except to the extent that they relate to a business combination, or items recognized directly in equity or in other comprehensive income. Current tax is the expected tax payable on the taxable income or loss for the period, using tax rates enacted or substantively enacted at the reporting date, and any adjustments to tax payable in respect of previous years. Taxable earnings differs from earnings as reported in the consolidated income statement because of items of income or expense that are taxable or deductible in years other than the current reporting period or items that are never taxable or deductible. Deferred tax is recognized in respect of temporary differences between the carrying amounts of assets and liabilities for ﬁ nancial reporting purposes and the amounts used for taxation purposes. Deferred tax is not recognized for the following temporary differences: differences relating to investments in subsidiaries and joint venture to the extent that it is probable that they will not reverse in the foreseeable future. In addition, deferred tax is not recognized for taxable temporary differences arising on the initial Clearwater Seafoods Incorporated 2014 Annual Report 67 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) recognition of goodwill. Deferred tax is measured at the tax rates that are expected to be applied to temporary differences when they reverse, based on the laws that have been enacted or substantively enacted by the reporting date. Deferred tax assets and liabilities are offset if there is a legally enforceable right to offset current tax liabilities and assets, and they relate to income taxes levied by the same tax authority on the same taxable entity, or on different tax entities, but they intend to settle current tax liabilities and assets on a net basis or their tax assets and liabilities will be realized simultaneously. A deferred tax asset is recognized for unused tax losses, and deductible temporary differences, to the extent that it is probable that future taxable proﬁ ts will be available against which it 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 beneﬁ t will be realized. (k) Borrowing costs Clearwater capitalizes borrowing costs attributable to the acquisition, or construction of its qualifying assets, which are assets that necessarily take a substantial period of time to ready for their intended use, as they are being constructed. Other borrowing costs are recognized as an expense in the period in which they are incurred. (l) Finance costs Finance costs comprise interest expense on borrowings, changes in the fair value of ﬁ nancial assets and liabilities measured at fair value through proﬁ t or loss, gains and losses recognized on derivative ﬁ nancial assets and liabilities, gains and losses on ﬁ nancial instruments that are recognized in proﬁ t or loss, foreign exchange gains and losses, and reﬁ nancing and settlement fees. Borrowing costs determined to be period costs, or the amortization of such costs are recorded through proﬁ t or loss. Foreign currency gains and losses are reported on a net basis. (m) Share-based compensation Clearwater has share-based compensation plans, which are described below. Share appreciation rights (“SARs”) The share appreciation rights plan is a phantom share plan that provides the holder a cash payment equal to the fair market value of Clearwater’s shares, less the grant price. SARs vest over a three-year period and have no expiry. Deferred share units (“DSU”) There are two deferred share unit plans that provide the holder a cash payment equal to the fair market value of Clearwater’s shares on the date of settlement. The retention DSU plan awards vest once the holder reaches the age of 65 with continued employment by Clearwater, or death. The director DSU plan allows non-employee directors to receive, in the form of deferred share units, all or a percentage of director’s fees, which would be otherwise payable in cash. Each director DSU vests at the grant date. Performance share units (“PSU”) The performance share unit plan provides the holder with the opportunity to receive a cash payment based upon the relative performance of Clearwater shares to its pre-deﬁ ned peer group. Performance is based on the total return to shareholders over the deﬁ ned period. Vested units will be settled in cash at the end of the performance period. All plans are cash settled and are recorded as liabilities at fair market value at each reporting period with changes in fair value recorded to proﬁ t and loss. The fair value of the awards under the SAR and DSU plans is calculated using a Black-Scholes valuation model and under the PSU plan is calculated using a Monte Carlo simulation model. Compensation expense is recognized based on the fair value of the awards that are expected to vest and remain outstanding at the end of the reporting period. Clearwater estimates the expected forfeiture rate for each plan and adjusts for actual forfeitures in the period. The share-based compensation liability is included in trade and other payables in the consolidated statement of ﬁ nancial position and the related compensation expense in administrative expense in the statement of earnings. 68 Clearwater Seafoods Incorporated 2014 Annual Report (n) Earnings per share Basic earnings per share is calculated by dividing earnings for the year attributable to the shareholders of Clearwater by the weighted average number of common shares outstanding during the year. Diluted earnings per share is calculated by dividing earnings for the year attributable to the shareholders of Clearwater by the weighted average number of common shares outstanding and the voting rights attributable to the convertible debentures outstanding during the year. The calculation of the potential dilutive common shares assumes the exercise of all convertible debentures outstanding. There were no dilutive instruments during the year ended December 31, 2014. (o) Application of new and revised International Financial Reporting Standards (IFRS) Clearwater has adopted the following new and revised standards, along with any consequential amendments, effective January 1, 2014. These changes were made in accordance with the applicable transitional provisions. Offsetting ﬁ nancial assets and ﬁ nancial liabilities – amendments to IAS 32 These amendments clarify the meaning of “currently has a legally enforceable right to set-off” and the criteria for non-simultaneous settlement mechanisms of clearing houses to qualify for offsetting. These amendments had no impact on Clearwater. Recoverable amount disclosures for non-ﬁ nancial assets – amendments to IAS 36 These amendments remove the unintended consequences of IFRS 13 Fair Value Measurement on the disclosures required under IAS 36 Impairment of Assets. In addition, these amendments require disclosure of the recoverable amounts of the assets or cash- generating units (CGUs) for which an impairment loss has been recognized or reversed during the period. These amendments resulted in additional disclosures relating to an impairment loss recognized during the year ended December 31, 2014. Refer to Note 10 for additional disclosure. IFRIC 21 – Levies The interpretation clariﬁ es that an entity recogni ses a liability for a levy when the activity that triggers payments, as identiﬁ ed by the relevant legislation, occurs. The interpretation had no impact on Clearwater. (p) New accounting standards and interpretations The IASB and International Financial Reporting Interpretations Committee (“IFRIC”) have issued the following standards that have not been applied in preparing these consolidated ﬁ nancial statements as their effective dates fall within annual periods beginning subsequent to the current reporting period. Annual improvements to IFRS (2010–2012) and (2011–2013) cycles On December 12, 2013 the IASB issued narrow-scope amendments to a total of nine standards as part of its annual improvements process. The IASB uses the annual improvements process to make non-urgent but necessary amendments to IFRS. The Company intends to adopt these amendments in its ﬁ nancial statements for the annual period beginning on January 1, 2015. The extent of the impact of adoption of the amendments has not yet been determined. Business combination accounting for interests in a joint operation (amendments to IFRS 11) The amendments require business combination accounting to be applied to acquisitions of interests in a joint operation that constitute a business. The Company intends to adopt the amendments to IFRS 11 in its ﬁ nancial statements for the annual period beginning on January 1, 2016. The extent of the impact of adoption of the amendments has not yet been determined. IFRS 15 – Revenue from contracts with customers The standard contains a single model that applies to contracts with customers and two approaches to recogni sing revenue: at a point in time or over time. The model features a contract-based ﬁ ve-step analysis of transactions to determine whether, how much and when revenue is recognized. New estimates and judgmental thresholds have been introduced, which may affect the amount and/or timing of revenue recognized. The Company intends to adopt IFRS 15 in its ﬁ nancial statements for the annual period beginning on January 1, 2017. The extent of the impact of adoption of the standard has not yet been determined. Clearwater Seafoods Incorporated 2014 Annual Report 69 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) IFRS 9 Financial Instruments IFRS 9 (2014) introduces new requirements for the classiﬁ cation and measurement of ﬁ nancial assets. Under IFRS 9 (2014), ﬁ nancial assets are classiﬁ ed and measured based on the business model in which they are held and the characteristics of their contractual cash ﬂ ows. The standard introduces additional changes relating to ﬁ nancial liabilities. It also amends the impairment model by introducing a new ‘expected credit loss’ model for calculating impairment. IFRS 9 (2014) also includes a new general hedge accounting standard which aligns hedge accounting more closely with risk management. This new standard does not fundamentally change the types of hedging relationships or the requirement to measure and recognize ineffectiveness, however it will provide more hedging strategies that are used for risk management to qualify for hedge accounting and introduce more judgment to assess the effectiveness of a hedging relationship. Special transitional requirements have been set for the application of the new general hedging model. The Company intends to adopt IFRS 9 (2014) in its ﬁ nancial statements for the annual period beginning on January 1, 2018. The extent of the impact of adoption of the standard has not yet been determined. Transfer of assets between an investor and its associate or joint venture The amendments address an acknowledged inconsistency between the requirements in IFRS 10 and those in IAS 28 (2011), in dealing with the sale or contribution of assets between an investor and its associate or joint venture. The Company intends to adopt these amendments in its ﬁ nancial statements for the annual period beginning on January 1, 2016. The extent of the impact of adoption of the amendments has not yet been determined. Annual improvements to IFRS (2012–2014) cycle On September 25, 2014 the IASB issued narrow-scope amendments to a total of four standards as part of its annual improvements process. The Company intends to adopt these amendments in its ﬁ nancial statements for the annual period beginning on January 1, 2016. The extent of the impact of adoption of the amendments has not yet been determined. Disclosure initiative On December 18, 2014 the IASB issued amendments to IAS 1 Presentation of Financial Statements as part of its major initiative to improve presentation and disclosure in ﬁ nancial reports. These amendments will not require any signiﬁ cant change to current practice, but should facilitate improved ﬁ nancial statement disclosures. The Company intends to adopt these amendments in its ﬁ nancial statements for the annual period beginning on January 1, 2016. The extent of the impact of adoption of the amendments has not yet been determined. 4 . E M P L O Y E E C O M P E N S AT I O N Employee compensation is classiﬁ ed in the consolidated statement of earnings based on the related nature of the service performed. The following table reconciles Clearwater’s compensation expense items to where the amounts are presented on the consolidated statement of earnings: Year ended December 31 Salaries and beneﬁ ts Share-based compensation Cost of goods sold Administrative and selling $ $ $ 2014 101,628 8,948 $ 2013 96,610 5,861 110,576 $ 102,471 74,428 36,148 $ 70,798 31,673 $ 110,576 $ 102,471 70 Clearwater Seafoods Incorporated 2014 Annual Report 5 . T R A D E A N D O T H E R R E C E I VA B L E S As at December 31 Trade receivables Other receivables $ 2014 42,142 7,670 $ 2013 37,187 6,515 $ 49,812 $ 43,702 Included in other receivables is $5.0 million (December 31, 2013 – $4.3 million) of input tax credits receivable and $2.7 million (December 31, 2013 – $2.2 million) of other receivables. 6 . I N V E N T O R I E S As at December 31 Goods for resale Supplies and other $ 2014 30,010 10,046 $ 2013 36,550 10,437 $ 40,056 $ 46,987 In 2014 inventory costs of $323.7 million (2013 – $281.6 million) were recognized in cost of goods sold. Clearwater incurred $3.2 million (2013 – $1.7 million) in inventory write-downs included in cost of goods sold. Refer to Note 11 for assets pledged as security for long term debt. 7 . P R E PA I D S A N D O T H E R As at December 31 Prepaids Due from related parties (Note 19) 8 . L O N G - T E R M R E C E I VA B L E S As at December 31 Notes receivable from non-controlling interest holder in subsidiary Advances to ﬁ shermen 2014 5,479 29 $ 2013 4,767 1,524 5,508 $ 6,291 2014 1,012 2,860 $ 2013 5,002 1,654 3,872 $ 6,656 $ $ $ $ Notes receivable from non-controlling interest consists of funds that are advanced to a shareholder in an incorporated subsidiary. The notes bear interest at rates ranging from 0%–12% (2013 – 0%–12%), and they are unsecured and have no set terms of repayment. Advances to ﬁ shermen bear interest at prime plus 5%–7.5% (2013 – prime plus 2%–3%), and they are due on demand, and are secured by an assignment of catch, a marine mortgage on the related vessels, equipment and licenses. They are presented as non-current as the entire balances are not expected to be repaid in the current year and it is not Clearwater’s intention to demand payment unless the terms of the advance agreements are not met. Clearwater Seafoods Incorporated 2014 Annual Report 71 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) 9 . P R O P E R T Y, P L A N T A N D E Q U I P M E N T Building and wharves Land Equipment Construction Vessels in progress Total PPE Deferred gov’t assistance Total Cost Balance at January 1, 2014 Additions Disposals Reclassiﬁ cations and other adjustments Impairments Effect of movements in exchange rates Balance at December 31, 2014 $ 2,783 $ 60 (43) 66,022 $ 77,070 $ 191,076 $ 21,855 $ 358,806 $ 678 (11,787) 83,310 (19,175) 82,381 — 24 (5,869) 167 (1,476) (8,962) $ 349,844 — 83,310 (19,175) — — — 2,532 — (945) — 47,960 (590) (53,020) — (3,473) (590) — — (3,473) (590) (5) (3) (26) (1,856) (74) (1,964) — (1,964) $ 2,795 $ 62,706 $ 74,790 $ 225,481 $ 51,142 $ 416,914 $ (8,962) $ 407,952 1,006 $ $ Depreciation and impairment losses Balance at January 1, 2014 Depreciation for the year Disposals Reclassiﬁ cations and other adjustments Impairments Effect of movements in exchange rates 11 (43) — — — 50,578 $ 67,792 $ 111,298 $ 1,852 (1,476) 18,668 (11,708) 1,766 (5,869) — $ 230,674 $ — — 22,297 (19,096) (7,281) $ 223,393 21,910 (19,096) (387) — (502) — (2,971) — — (61) — — (3,473) (61) — — (3,473) (61) (4) (20) (714) — (738) — (738) Balance at December 31, 2014 Carrying amounts At January 1, 2014 At December 31, 2014 $ $ $ 974 $ 45,969 $ 65,177 $ 117,483 $ — $ 229,603 $ (7,668) $ 221,935 1,777 $ 1,821 $ 15,444 $ 16,737 $ 9,278 $ 79,778 $ 21,855 $ 128,132 $ 9,613 $ 107,998 $ 51,142 $ 187,311 $ (1,681) $ 126,451 (1,294) $ 186,017 72 Clearwater Seafoods Incorporated 2014 Annual Report Building and wharves Land Equipment Construction Vessels in progress Total PPE Deferred gov’t assistance Total Cost Balance at January 1, 2013 Additions Disposals Reclassiﬁ cations and replacements assets Effect of movements in exchange rates Balance at December 31, 2013 $ 2,790 $ — — 65,696 $ 77,303 $ 204,131 $ 22 (24) 211 (3,016) 2,837 (6,940) 5,831 $ 355,751 $ 20,743 (35) 23,813 (10,015) (9,667) $ 346,084 (15) 23,798 (10,015) — — (7) 351 2,686 (7,201) (4,254) (8,418) 720 (7,698) (23) (114) (1,751) (430) (2,325) — (2,325) $ 2,783 $ 66,022 $ 77,070 $ 191,076 $ 21,855 $ 358,806 $ (8,962) $ 349,844 $ Depreciation and impairment losses Balance at January 1, 2013 Depreciation for the year Disposals Reclassiﬁ cations and other adjustments Effect of movements in exchange rates 995 $ 11 — — — 49,020 $ 1,592 (24) 68,769 $ 108,008 $ 2,143 (3,015) 18,819 (6,854) — $ 226,792 $ — — 22,565 (9,893) (7,288) $ 219,504 22,173 (9,893) (392) — — — (7,544) — (7,544) 399 (7,145) (10) (105) (1,131) — (1,246) — (1,246) Balance at December 31, 2013 Carrying amounts At January 1, 2013 At December 31, 2013 $ $ $ 1,006 $ 50,578 $ 67,792 $ 111,298 $ — $ 230,674 $ (7,281) $ 223,393 1,795 $ 1,777 $ 16,676 $ 15,444 $ 5,831 $ 128,959 $ 8,534 $ 96,123 $ 9,278 $ 79,778 $ 21,855 $ 128,132 $ (2,379) $ 126,580 (1,681) $ 126,451 Total depreciation and amortization expense related to property, plant and equipment and deﬁ nite-life intangible assets for 2014 was $23.8 million (2013 – $24.2 million). In 2014, $23.3 million (2013 – $23.7 million) of depreciation and amortization expense for assets used in the harvesting and production of goods was classiﬁ ed as cost of goods sold and $0.4 million (2013 – $0.4 million) was recorded in administrative and selling costs for assets used in administrative activities. Refer to Note 11 for assets pledged as security for long-term debt. Clearwater Seafoods Incorporated 2014 Annual Report 73 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) 1 0 . L I C E N S E S , F I S H I N G R I G H T S A N D G O O D W I L L Cost Balance at January 1, 2013 Foreign currency exchange translation Balance at December 31, 2013 Foreign currency exchange translation Impairment of non-core species Goodwill Indeﬁ nite life licenses Fishing rights $ 7,043 $ — 7,043 — (1,405) 84,025 (1,299) 82,726 (922) — $ 24,094 $ — 24,094 — — Total 115,162 (1,299) 113,863 (922) (1,405) Balance at December 31, 2014 $ 5,638 $ 81,804 $ 24,094 $ 111,536 Accumulated amortization Balance at January 1, 2013 Amortization expense Balance at December 31, 2013 Amortization expense Balance at December 31, 2014 Carrying amounts As at December 31, 2013 As at December 31, 2014 $ $ $ $ $ — — — — $ $ — — — — 3,551 1,802 5,353 1,803 3,551 1,802 5,353 1,803 — $ — $ 7,156 $ 7,156 7,043 5,638 $ $ 82,726 81,804 $ $ 18,741 16,938 $ $ 108,510 104,380 Clearwater maintains ﬁ shing licenses and rights to ensure continued access to the underlying resource. Except for ﬁ shing rights, licenses have an indeﬁ nite life as they have nominal annual renewal fees, which are expensed as incurred, and the underlying stocks of the species are healthy. The licenses and goodwill are tested for impairment annually and when circumstances indicate the carrying value may be impaired. As at December 31 2014 2013 Scallops Goodwill – $ nil (December 31, 2013 $ nil) Indeﬁ nite life licenses – $55.7 million (December 31, 2013 $56.6 million) All other CGU’s individually Goodwill – $5.6 million (December 31, 2013 $7.0 million) Indeﬁ nite life licenses – $26.1 million (December 31, 2013 $26.1 million) $ 55,719 $ 56,599 31,723 33,170 $ 87,442 $ 89,769 Indeﬁ nite life licenses and goodwill Annual impairment testing for indeﬁ nite life assets and goodwill was performed using a value in use approach as of September 27, 2014. The recoverable amounts for all cash generating unit (“CGU”) except for cooked and peeled shrimp were determined to be higher than their carrying amounts and therefore no impairments were recorded relating to these CGUs during 2014 and 2013. During the year ended December 31, 2014, Clearwater recorded a $1.4 million impairment loss to goodwill associated with a processing facility within the cooked and peeled shrimp CGU (a non-core species) and the Canadian reportable segment, that was the result of estimated other than temporary reductions in margins for the cooked and peeled shrimp business. The recoverable amount of the cooked and peeled shrimp CGU was $12.7 million which was determined through the value in use approach with a pre-tax discount rate of 13.2%. Impairment losses are recognized within administrative and selling costs in the condensed consolidated interim statements of earnings. The value in use approach was determined by discounting the projected future cash ﬂ ows generated from the continuing earnings from operations for the applicable CGU. Unless otherwise indicated in notes i – iii, the assumptions used in the value in use approach for 2014 were determined similarly to those used in 2013. 74 Clearwater Seafoods Incorporated 2014 Annual Report The discounted cash ﬂ ows used in determining the recoverable amounts for the Scallops and other CGU’s were based on the following key assumptions: i) Cash ﬂ ows from operations were projected for a period of ﬁ ve years based on a combination of past experience, actual operating results and 2015 forecasted earnings. Terminal values and forecasts for future periods were extrapolated using inﬂ ation rates of 1% (2013: 1%). For some CGU’s, this inﬂ ation rate is well below the actual current inﬂ ation for the country. Gross margins for all future periods were estimated using a combination of forecasted and historical margins. ii) Pre-tax discount rates ranging from 13%–18% (2013: 13%–18%) were applied in determining the recoverable amount of the CGU’s. The discount rates were estimated based upon weighted average cost of capital, and associated risk for the CGU. iii) Cash ﬂ ow adjustments for capital expenditures were based upon the management approved capital expenditure forecast, and terminal year capital expenditures were based on required reﬁ ts over the period of the ﬁ shing license. The key assumptions represent management’s assessment of future trends in the industry and are based on both internal and external sources. Deﬁ nite life ﬁ shing rights Amortization relates to ﬁ shing rights. Amortization is allocated to the cost of inventory and is recognized in cost of goods sold as inventory is sold. In 2014 there have been no additions or disposals. Refer to Note 11 for assets pledged as security for long term debt. 1 1 . L O N G - T E R M D E B T As at December 31 Term loans (a) Term loan A, due June 2018 Delayed draw term loan A, due June 2018 Term loan B, due June 2019 Term loan B, embedded derivative Term loan, due June 2015 (b) Multi-currency revolving facility (c) Marine mortgage, due in 2017 (d) Term loan, due in 2091 (e) Other loans Less: current portion 2014 2013 $ 28,950 (608) 224,366 3,845 $ 29,700 (608) 207,197 4,704 11,595 10,642 21 1,030 3,500 342 — 1,785 3,500 405 273,041 (22,847) 257,325 (14,297) $ 250,194 $ 243,028 (a) Term loans consist of a CDN $30.0 million Term Loan A facility, a CDN $45.0 million Delayed Draw Term Loan A facility, and a USD $200.0 million Term Loan B facility. Term Loan A – The principal outstanding as at December 31, 2014 was CDN $29.0 million (December 31, 2013 – $29.7 million). The loan is repayable in quarterly installments of $0.2 million to June 2015, $0.4 million from September 2015 to June 2017 and $0.8 million from September 2017 to March 2018 with the balance due at maturity in June 2018. It bears interest at the applicable banker’s acceptance rate plus 3.25%. As at December 31, 2014 this resulted in an effective rate of 4.51%. Delayed Draw Term Loan A – The principal outstanding as at December 31, 2014 was $ nil (December 31, 2013 – $ nil) and can be drawn upon any time up to June 30, 2015. The balance is shown net of deferred ﬁ nancing charges of CDN $0.6 million. The facility is repayable in quarterly installments of 1.25% of the principal amount drawn under the facility with repayment to begin in the ﬁ rst quarter after the ﬁ nal draw on the facility. The facility matures in June 2018 and bears interest payable monthly at the banker’s acceptance rate plus 3.25%. Clearwater Seafoods Incorporated 2014 Annual Report 75 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) Term Loan B – The principal outstanding as at December 31, 2014 was USD $196.8 million (December 31, 2013 – $199.0 million). The loan is repayable in quarterly installments of USD $0.5 million with the balance due at maturity in June 2019 and bears interest payable monthly at the US Libor plus 3.50% with a LIBOR interest rate ﬂ oor of 1.25%. As of December 31, 2014 this resulted in an effective rate of 4.75%. The facility has a provision that, subject to certain conditions allows Clearwater to expand the facility by a maximum of USD $100.0 million (or the equivalent amount in Canadian dollars). The embedded derivative represents the fair market value of the Libor interest rate ﬂ oor of 1.25%. The change in fair market value of the embedded derivative is recorded through proﬁ t or loss as a component of net ﬁ nance costs. In addition, Clearwater has a CDN $75.0 million revolving facility that matures in June 2018. The facility can be denominated in Canadian and US dollars. As at December 31, 2014 the balances in Canadian dollars were $ nil (December 31, 2013 – $ nil) and in US dollars, $ nil (December 31, 2013 – $ nil). The Canadian dollar balances bear interest at the banker’s acceptance rate plus 3.25%. The US dollar balances bear interest at the US Libor rate plus 3.25%. As of December 31, 2014 this results in effective rates of 4.51% for Canadian dollar balances and 3.51% for US dollar balances. The facility has a provision that, subject to certain conditions, allows Clearwater to expand the facility by a maximum of CDN $25.0 million. The availability of this facility is reduced by the term loan outstanding in note (b); as such, the balance available as at December 31, 2014 was $63.4 million. The revolver, term loan A, delayed draw and term loan B are secured by a ﬁ rst charge on cash and cash equivalents, accounts receivable, inventory, marine vessels, licenses and quotas, and Clearwater’s investments in certain subsidiaries. Clearwater’s debt facilities are subject to certain ﬁ nancial non-ﬁ nancial covenants. Clearwater is in compliance with all covenants associated with its debt facilities. In addition to the minimum principal payments for Term Loan A and B, the loan agreement requires that between 0% and 50% of excess cash ﬂ ow (deﬁ ned in the loan agreement as EBITDA, excluding non controlling interest in EBITDA and the most signiﬁ cant non-cash and non-recurring items less certain scheduled principal payments, certain capital expenditures and certain cash taxes) be repaid starting for the year ended December 31, 2014 based on the previous ﬁ scal year’s results upon approval of the annual ﬁ nancial statements. Payments are allocated amongst the term loans on a pro rata basis. Refer to Note 12(b) for detail on interest rate caps and swaps that hedge interest rate risk on the term loans. (b) Term Loan – The principal outstanding as at December 31, 2014 was USD $10.0 million (December 31, 2013 – $10.0 million). The loan is held through a Clearwater subsidiary. The loan is non amortizing, repayable at maturity in June 2015 and bears interest payable monthly at 7.0%. The loan is secured by a marine vessel. Clearwater provides a guarantee on the term loan. (c) On April 29, 2014, Clearwater entered into a multi-currency revolving facility agreement that allows Clearwater to borrow a maximum of DKK 53.0 million, which can be denominated in either DKK or Canadian and US dollar equivalents. The principal availability reduces by the equivalent of DKK 10.6 million per year on June 30, 2015 and each anniversary thereafter until the loan is fully repaid. As at December 31, 2014 the balance of the revolving facility is DKK 0.1 million (Canadian equivalent $0.02 million). The facility bears interest in the same currency as the currency in which the principal balance is denominated. The interest is payable on the last day of each ﬁ scal quarter at the N-bor rate applicable to the currency of the facility plus 1.875%. The N-bor rate is a variable interest rate as designated by the lender. (d) Marine mortgage – The mortgage is payable in the principal amount of: As at December 31 YEN DKK 2014 69,457 1,870 2013 99,224 3,957 The mortgage bears interest at UNIBOR plus 1.0% payable semi-annually. UNIBOR is a variable interest rate component ﬁ xed on the basis of the average long-term borrowing interest rate of credit unions – members of the Lithuanian Central Credit Union. Principal payments are required annually as follows: YEN DKK 2015 29,767 1,870 2016 29,767 — 2017 9,923 — 2018 — — The loan matures in 2017 and is secured by a ﬁ rst mortgage over the related vessel. 76 Clearwater Seafoods Incorporated 2014 Annual Report (e) Term Loan – due in 2091. In connection with this loan, Clearwater makes a royalty payment of $0.3 million per annum in lieu of interest. This equates to an effective interest rate of approximately 8.0%. 1 2 . F I N A N C I A L I N S T R U M E N T S The Company periodically enters into derivatives as part of an active economic hedging program to manage ﬁ nancial risks. The Company has elected not to use hedge accounting for these instruments and consequently changes in fair value are recorded in earnings as they occur: Summary of derivative ﬁ nancial instrument positions: As at December 31 Derivative ﬁ nancial assets Forward foreign exchange contracts Interest rate cap contracts Derivative ﬁ nancial liabilities Forward foreign exchange contracts Interest rate swap contracts 2014 2013 $ 4,678 634 $ 1,297 169 $ 5,312 $ 1,466 (5,469) (3,222) (6,694) (175) $ (8,691) $ (6,869) (a) Clearwater has forward contracts maturing each month until December 2015. At December 31, 2014 Clearwater had outstanding forward contracts as follows: Currency Sell: Euro Yen Sell: USD Foreign currency Notional amount (in 000’s) Average contract exchange rate Weighted average months to maturity 48,500 3,155,000 1.463 0.01 103,600 1.100 8 8 8 At December 31, 2013, Clearwater had outstanding forward contracts as follows: Currency Sell: Yen Sell: USD Euro Foreign currency Notional amount (in 000’s) Average contract exchange rate Weighted average months to maturity 2,670,000 0.011 113,000 52,000 1.046 1.372 7 7 7 Fair value asset (liability) $ $ 2,892 1,786 4,678 (5,469) $ (5,469) Fair value asset (liability) $ $ 1,297 (1,598) (5,096) $ (6,694) Certain USD and Euro forward contracts contain provisions that subject to the spot rate being greater than the contract rate, the contract rate is adjusted by 50% (December 31, 2013 – 50%) of the excess of the spot rate over the contract rate at maturity. The notional amount of the forward contracts subject to these provisions in USD at December 31, 2014 was $35.6 million (December 31, 2013 – $39.5 million) and in Euro at December 31, 2014 was $nil million (December 31, 2013 – $2.0 million). Clearwater Seafoods Incorporated 2014 Annual Report 77 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) (b) At December 31, 2014 Clearwater had interest rate cap and swap contracts outstanding as follows: Effective date Expiry Contracted capped date interest rate Notional amount (in 000’s) Fair value asset Currency Term Loan A – Interest rate cap Term Loan A – Interest rate cap Term Loan B – Interest rate cap Term Loan B – Interest rate cap December 2015 March 2014 March 2014 September 2014 June 2018 December 2015 December 2015 June 2016 6.25% 4.50% 4.75% 4.75% CAD CAD USD USD 12,000 $ 12,000 50,000 50,000 6 18 16 594 Effective date Expiry Contracted ﬁ xed date interest rate Notional amount (in 000’s) Fair value (liability) Currency $ 634 Term Loan A – Interest rate swap Term Loan A – Interest rate swap Term Loan B – Interest rate swap Term Loan B – Interest rate swap December 2013 December 2015 December 2015 June 2016 December 2015 June 2018 June 2019 June 2019 5.38% 5.85% 6.15% 6.49% CAD CAD USD USD 12,000 $ 12,000 50,000 50,000 (95) (253) (1,231) (1,643) $ (3,222) (c) At December 31, 2013 Clearwater had an interest rate cap and swap contract outstanding as follows: Effective date Expiry Contracted capped date interest rate Notional amount (in 000’s) Fair value asset Currency Term Loan A – Interest rate cap December 2015 June 2018 6.25% CAD 12,000 $ 169 Term Loan A - Interest rate swap December 2013 December 2015 5.38% CAD 12,000 $ (175) Effective date Expiry Contracted ﬁ xed date interest rate Notional amount (in 000’s) Fair value (liability) Currency (d) Foreign exchange on debt and working capital per Note 14 Year ended December 31 Realized (gain) loss Working capital and other Unrealized loss (gain) Foreign exchange on debt and other assets Mark-to-market on interest rate swaps and caps (e) Losses on forward contracts Year ended December 31 Losses (gains) on forward contract derivatives Realized loss Unrealized (gain) loss 78 Clearwater Seafoods Incorporated 2014 Annual Report 2014 2013 $ 1,172 $ 3,586 1,172 3,586 19,481 2,589 22,070 5,427 6 5,433 $ 23,242 $ 9,019 2014 2013 $ $ 8,829 (4,782) 4,047 $ $ 2,752 6,060 8,812 (f) Credit risk: Credit risk refers to the risk of losses due to failure of Clearwater’s customers or other counterparties to meet their contractual obligations. Clearwater is exposed to credit risk in the event of non-performance by counter parties to its derivative ﬁ nancial instruments but does not anticipate non-performance of any of the counter parties as Clearwater only deals with highly rated ﬁ nancial institutions. Clearwater has signiﬁ cant accounts receivable from customers operating in Canada, United States, Europe and Asia. Signiﬁ cant portions of Clearwater’s customers from a sales dollar perspective have been transacting with Clearwater in excess of ﬁ ve years and bad debt losses have been minimal. Clearwater has a policy of utilizing a combination of credit reporting agencies, credit insurance, letters of credit and secured forms of payment to mitigate customer speciﬁ c credit risk and country speciﬁ c credit risk. As a result Clearwater does not have any signiﬁ cant concentration of credit risk. As at December 31, 2014, Clearwater’s trade accounts receivable aging based on the invoice due date was as follows: 98.9% 0–30 days, 0.1% 31–60 days, and 1.0% over 60 days. As at December 31, 2013, Clearwater’s trade accounts receivable aging based on the invoice due date was as follows: 98.5% 0–30 days, 0.5% 31–60 days, and 1% over 60 days. The carrying amount of accounts receivable is reduced by an allowance for doubtful accounts of $ 0.3 million (2013 – $0.4 million). Clearwater reviews accounts past due on a regular basis and provides an allowance on a speciﬁ c account basis. Accounts are only written off completely when it becomes virtually certain that collection will not occur. Changes in the allowance for doubtful accounts are summarized in the table below: As at December 31 Balance at January 1 Allowance recognized Amounts recovered Amounts written off as uncollectible Foreign exchange Balance at December 31 2014 $ 393 $ 549 (487) (117) (60) 2013 459 814 (808) (105) 33 $ 278 $ 393 (g) Foreign currency exchange rate risk Foreign currency exchange rate risk refers to the risk that the value of ﬁ nancial instruments or cash ﬂ ows associated with the instruments will ﬂ uctuate due to changes in foreign exchange rates. Approximately 80% of Clearwater’s sales are in currencies other than Canadian dollars, whereas the majority of expenses are in Canadian dollars. As a result ﬂ uctuations in foreign exchange rates may have a material impact on Clearwater’s ﬁ nancial results. Risks associated with foreign exchange are partially mitigated by the fact that Clearwater (i) diversiﬁ es sales internationally which reduces the impact of any country-speciﬁ c economic risks; (ii) executes on pricing strategies so as to offset the impact of exchange rates; (iii) limits the amount of long term sales contracts; (iv) regularly reviews economist estimates of future exchange rates; and (v) has implemented a foreign exchange program that focuses on using forward contracts to lock in exchange rates for up to 18 months. The carrying amounts of Clearwater’s foreign currency denominated monetary assets and monetary liabilities (excluding derivative ﬁ nancial instruments) as at December 31, 2014 and December 31, 2013 were as follows (as converted to Canadian dollars): As at December 31 Cash Trade receivables Other receivables Long-term receivables Trade and other payables Long-term debt $ 2014 13,031 34,685 3,481 5,356 (6,759) (241,440) $ 2013 22,993 30,667 3,341 8,704 (6,377) (224,328) Net exposure to consolidated statements of ﬁ nancial position $ (191,646) $ (165,000) Clearwater Seafoods Incorporated 2014 Annual Report 79 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) The components of this net exposure by currency are as follows (in foreign currency ‘000’s) at December 31, 2014: December 31, 2014 GBP USD Yen Euros RMB NOK DKK Argentine Peso Cash Trade receivables Other receivables Long term receivables Trade and other payables Long-term debt Net exposure to consolidated statements of ﬁ nancial position 101 1,463 22 — (227) — 8,602 32 12,243 333,748 — — — (69,457) 159 2,151 (534) (207,252) 313 9,284 897 — (1,227) — 681 — — — 608 — — — — — — — 12,068 7,737 103 178 3 14,685 — 21,102 (27,030) — (2,352) (1,989) 1,359 (184,631) 264,323 9,267 1,289 — 15,467 9,038 The components of this net exposure by currency are as follows (in foreign currency ‘000’s) at December 31, 2013: December 31, 2013 GBP USD Yen Euros RMB NOK DKK Argentine Peso Cash Trade receivables Other receivables Long term receivables Trade and other payables Long-term debt Net exposure to consolidated statements of ﬁ nancial position 628 560 (5) — (245) — 10,727 12,451 159 5,482 (913) (209,157) 15 177,338 — — — (99,224) 2,247 9,027 897 — (891) — 495 — — — 1 — — — — — (64) — 35,810 6,719 180 308 9 11,405 — 17,589 (18,411) — (3,294) (3,957) 938 (181,251) 78,129 11,280 496 (64) 35,287 11,071 The following table details Clearwater’s sensitivity to a 10% change in the exchange rates against the Canadian dollar. The sensitivity analysis includes outstanding foreign currency denominated monetary items and adjusts their translation at the period end for a 10% change in foreign currency exchange rates. The change below is calculated based on the net exposure to the consolidated statements of ﬁ nancial position. GBP USD Yen Euros RMB NOK DKK Argentine Peso (h) Interest rate risk 2014 245 (21,415) 257 1,309 24 — 293 123 2013 165 (19,285) 79 1,658 9 (1) 696 181 Interest rate risk refers to the risk that the value of a ﬁ nancial instrument or cash ﬂ ow associated with the instrument will ﬂ uctuate due to changes in market interest rates. Clearwater’s interest rate risk arises from long-term borrowings issued at ﬁ xed rates that create fair value interest rate risk and from variable rate borrowings that create cash ﬂ ow interest rate risk. Clearwater’s debt is carried at amortized cost with the exception of the embedded interest rate ﬂ oor in Term Loan B. The interest rate ﬂ oor is a derivative instrument and is recorded at fair value through proﬁ t or loss. Clearwater manages its interest rate risk exposure by using a mix of ﬁ xed and variable rate debt. At December 31, 2014, excluding the interest rate swap, approximately 5.5% (2013 – 5.5%) of Clearwater’s debt of $273.0 million (2013 – $257.3 million) was ﬁ xed rate debt with a weighted average interest rate of 4.8% (2013 – 4.8%). A 1% change in interest rates for variable rate borrowings would result in a $2.8 million increase (or decrease) in interest expense. 80 Clearwater Seafoods Incorporated 2014 Annual Report Clearwater enters into interest rate swap, cap and ﬂ oor arrangements to hedge interest rate risk on its variable rate debt. As at December 31, 2014, Clearwater has entered into interest rate swap arrangements on its CDN $30 million Term Loan A facility and its USD $500 million Term loan B facility whereby: • CDN $12 million of Term Loan A is effectively subject to a ﬁ xed interest rate of 5.38% until December 31, 2015 after which it is subject to an interest rate that is the lessor of the ﬂ oating rate of interest on the loan or a maximum ﬁ xed rate of interest of 6.25%. • CDN $12 million of Term Loan A is subject to a rate cap to December 31, 2015 of 4.5% and then after which the rate is ﬁ xed at 5.85% to June 2018. • USD $50 million of the debt is capped to December 31, 2015 at an interest rate of 4.75% and then the rate is ﬁ xed at 6.15% to June 2019. • USD $50 million of the debt is capped to June 30, 2016 at an interest rate of 4.75% and then the rate is ﬁ xed at 6.49% to June 2019. The fair value of interest rate swap and interest rate cap at the end of the reporting period is determined by discounting the future cash ﬂ ows using the yield curves at the end of the reporting period. For the year ended December 31, 2014, this resulted in a $2.6 million unrealized loss. Clearwater accounts for these swap arrangements and the change in market value through proﬁ t and loss. (i) Liquidity risk Liquidity risk is the risk that Clearwater will encounter difﬁ culty in meeting obligations associated with ﬁ nancial liabilities. Clearwater manages liquidity risk by monitoring forecasted and actual cash ﬂ ows, minimizing reliance on any single source of credit, maintaining sufﬁ cient undrawn committed credit facilities and matching the maturity proﬁ les of ﬁ nancial assets and ﬁ nancial liabilities. The following are the contractual maturities of non-derivative ﬁ nancial liabilities, derivative ﬁ nancial instruments, operating lease and other commitments. The table includes undiscounted cash ﬂ ows of ﬁ nancial liabilities, operating lease and other commitments, interest and principal cash ﬂ ows based on the earliest date on which Clearwater is required to pay. December 31, 2014 Interest – long-term debt Principal repayments – long-term debt Total long-term debt Trade and other payables Operating leases and other Derivative ﬁ nancial instruments – asset1 Derivative ﬁ nancial instruments – liability Carrying Amount Total Contractual Cash Flow 2015 2016 2017 2018 2019 >2020 75,465 13,097 12,585 12,449 11,776 5,758 19,800 274,562 22,847 4,165 3,972 26,619 212,780 4,179 273,041 52,308 — 350,027 52,308 37,053 35,944 52,308 27,247 16,750 — 2,292 16,421 — 2,221 38,395 218,538 — 1,726 — 1,876 23,979 — 1,691 (5,312) (5,312) (5,312) 8,691 8,691 8,691 — — — — — — — — — — $ 328,728 $ 442,767 $ 118,878 $ 19,042 $ 18,642 $ 40,271 $ 220,264 $ 25,670 Included in the above commitments for operating leases and other are amounts that Clearwater is committed directly and indirectly through its partnerships for various licenses and lease agreements, ofﬁ ce, machinery and vehicle leases, and vessel and equipment commitments. These commitments require approximate minimum annual payments in each of the next ﬁ ve years as shown above. Also included in commitments for operating leases and other are amounts to be paid to a company controlled by a director of Clearwater over a period of years ending in 2016 for vehicle and ofﬁ ce leases, which aggregate approximately $0.1 million (2013 – $0.02 million). 1 Operating leases and other includes capital commitments of 22.9 million. Clearwater Seafoods Incorporated 2014 Annual Report 81 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) (j) Fair value of ﬁ nancial instruments The following tables set out Clearwater’s classiﬁ cation and carrying amount, together with fair value, for each type of non-derivative and derivative ﬁ nancial asset and liability: December 31, 2014 Assets: Cash Trade and other receivables Long-term receivables Forward foreign exchange contracts Interest rate caps Liabilities: Trade and other payables1 Long-term debt Forward foreign exchange contracts Embedded derivative Interest rate swaps December 31, 201 3 Assets: Cash Trade and other receivables Long-term receivables Forward foreign exchange contracts Interest rate caps Liabilities: Trade and other payables1 Long-term debt Forward foreign exchange contracts Embedded derivative Interest rate swaps Fair Value Amortized cost Total Through proﬁ t or loss Derivatives Loans and receivables Non- derivative ﬁ nancial liabilities Carrying amount Fair value $ 47,598 $ — — — — — $ — — 4,678 634 — $ 49,812 3,872 — — — $ — — — — 47,598 $ 49,812 3,872 4,678 634 47,598 49,812 3,872 4,678 634 $ 47,598 $ 5,312 $ 53,684 $ — $ 106,594 $ 106,594 $ — $ — — — — — $ — (5,469) (3,845) (3,222) — $ (36,366) $ — (269,196) — — — — — — (36,366) $ (36,366) (269,196) (269,058) (5,469) (3,845) (3,222) (5,469) (3,845) (3,222) $ — $ (12,536) $ — $ (305,562) $ (318,098) $ (317,960) Fair Value Amortized cost Total Through proﬁ t or loss Derivatives Loans and receivables Non- derivative ﬁ nancial liabilities Carrying amount Fair value $ 46,793 $ — — — — — $ — — 1,297 169 — $ 43,702 6,656 — — — $ 46,793 $ — — — — 43,702 6,656 1,297 169 46,793 43,702 6,656 1,297 169 $ 46,793 $ 1,466 $ 50,358 $ — $ 98,617 $ 98,617 $ — $ — — — — — $ — (6,694) (4,704) (175) — $ (33,766) $ — (252,621) — — — — — — (33,766) $ (252,621) (6,694) (4,704) (175) ( 33,766) (252,621) (6,694) (4,704) (175) $ — $ (11,573) $ — $ (286,387) $ (297,960) $ (297,960) 1 Trade and other payables excludes the liability for share based compensation of $15.9 million at December 31, 2014 (December 31, 2013 – $7.0 million). k) Fair value hierarchy: Assets and liabilities carried at fair value must be classiﬁ ed using a three-level hierarchy that reﬂ ects the signiﬁ cance of the inputs used in making the fair value measurements. The levels are deﬁ ned as follows: • Level 1: Fair value measurements derived from quoted prices (unadjusted) in active markets for identical assets or liabilities • Level 2: Fair value measurements derived from 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) 82 Clearwater Seafoods Incorporated 2014 Annual Report • Level 3: Fair value measurements derived from valuation techniques that include inputs for the asset or liability that are not based on observable market data (unobservable inputs) The table below sets out fair value measurements of ﬁ nancial instruments carried at fair value through proﬁ t and loss using the fair value hierarchy: Level 1 Level 2 Level 3 December 31, 2014 Recurring measurements Financial Assets: Cash Forward foreign exchange contracts Interest rate caps Financial Liabilities: Forward foreign exchange contracts Embedded derivative Interest rate swaps December 31, 2013 Recurring measurements Financial Assets: Cash Forward foreign exchange contracts Interest rate caps Financial Liabilities: Forward foreign exchange contracts Embedded derivative Interest rate swaps $ $ 47,598 — — $ — 4,678 634 $ 47,598 $ 5,312 $ $ — — — $ (5,469) (3,845) (3,222) — $ (12,536) $ Level 1 Level 2 Level 3 $ $ $ $ 46,793 — — $ — 1,297 169 $ 46,793 $ 1,466 $ $ $ $ — — — (6,694) (4,704) (175) $ — $ (11,573) $ — — — — — — — — — — — — — — — — Clearwater used the following techniques to value ﬁ nancial instruments categorized in Level 2: • Forward foreign exchange contracts are measured using present value techniques. Future cash ﬂ ows are estimated based on forward exchange rates (from observable exchange rates at the end of the reporting period) and contract forward rates, discounted at a rate that reﬂ ects the credit risk of Clearwater and the various counterparties and the risk free yield curves of the respective currencies. • The embedded derivative, interest rate swaps and caps are measured using present value techniques that utilize a variety of inputs that are a combination of quoted prices and market-corroborated inputs. The fair value estimates are not necessarily indicative of the amounts that Clearwater will receive or pay at the settlement of the contracts. There were no transfers between levels during the years ended December 31, 2014 and December 31, 2013. Clearwater Seafoods Incorporated 2014 Annual Report 83 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) For cash, trade and other receivables, and trade and other payables, the carrying value approximates their fair value due to the short-term maturity of these instruments. The fair value of the long term receivables is not materially different from their carrying value. Fair value of ﬁ nancial instruments carried at amortized cost: Except as detailed below Clearwater considers that the carrying amounts of ﬁ nancial assets and ﬁ nancial liabilities recognized in the consolidated ﬁ nancial statements materially approximate their fair values: The estimated fair value of Clearwater’s long term debt for which carrying value did not approximate fair value at December 31, 2014 was $16.3 million (December 31, 2013 – $16.3 million) and the carrying value was $16.5 million (December 31, 2013 – $16.3 million). The fair value of long-term debt has been classiﬁ ed as level 2 in the fair value hierarchy and was estimated based on discounted cash ﬂ ows using current rates for similar ﬁ nancial instruments subject to similar risks and maturities. 1 3 . S H A R E C A P I TA L Authorized: Clearwater is authorized to issue an unlimited number of common shares. Share capital movement: As at December 31, 2014 December 31, 2013 # $ # $ Share capital: Balance at January 1 Issuance of common shares Redemption of 2013 and 2014 convertible debentures 50,948,698 4,029,400 — 64,780 32,487 — 50,948,698 — — Balance at December 31 54,978,098 97,267 50,948,698 64,867 — (87) 64,780 On February 4, 2014 Clearwater completed the issuance of 4,029,400 common shares at $8.50 per common share for gross proceeds of $34.2 million. Transaction costs associated with the equity issue were $1.8 million and deducted from the recorded amount for the common shares. The conversion option on the 2013 and 2014 convertible debentures remained unexercised on redemption in July 2013 and the balance of $0.09 million was transferred from share capital to retained earnings. During the year ended 2014, dividends of $5.8 million were declared and paid as follows: Payment Date March 24, 2014 May 28, 2014 September 2, 2014 December 15, 2014 # of shares Outstanding 54,978,098 54,978,098 54,978,098 54,978,098 Dividends per share 0.025 0.025 0.025 0.030 $ $ $ $ On February 25, 2015, Clearwater declared a quarterly dividend of $0.04 per share, payment to be made on March 24, 2015 to shareholders of record on March 10, 2015. During the year ended 2013 a dividend of $0.025 cents per share (total dividend $1.3 million) was declared and paid. 84 Clearwater Seafoods Incorporated 2014 Annual Report 1 4 . N E T F I N A N C E C O S T S Year ended December 31 Interest expense on ﬁ nancial liabilities Amortization of deferred ﬁ nancing charges and accretion Fair value adjustment on convertible debentures and embedded derivative Foreign exchange on debt and other assets (gain) loss (Note 12 (d)) Debt settlement and reﬁ nancing fees 1 5 . O T H E R I N C O M E Year ended December 31 Royalties, interest, and other fees Share of earnings of equity-accounted investee Other fees Other income 1 6 . E A R N I N G S P E R S H A R E $ 2014 14,938 778 15,716 (1,229) 23,242 100 $ 2013 16,317 993 17,310 (1,710) 9,019 9,316 $ 37,829 $ 33,935 $ 2014 (844) (2,987) (1,200) $ 2013 92 (2,082) (1,250) $ (5,031) $ (3,240) The earnings and weighted average number of shares used in the calculation of basic and diluted earnings per share is as follows: (in thousands except per share data): Basic and diluted Earnings (loss) for the period Weighted average number of shares outstanding Earnings (loss) per share 2014 2013 (2,905) $ 54,786,510 (0.05) $ 6,333 $ 50,948,698 0.12 $ The interest on the convertible debentures (redeemed in July 2013) resulted in an anti-dilutive loss per share for December 31, 2013. As a result, for the period ended December 31, 2013, 7,523,559 potential ordinary shares were not included in the calculation of the weighted average number of ordinary shares for the purpose of diluted loss per share. The convertible debentures were redeemed in July 2013 and had no impact on 2014 results. Clearwater Seafoods Incorporated 2014 Annual Report 85 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) 1 7 . I N C O M E TA X E S (a) Reconciliation of income tax expense The effective rate on Clearwater’s earnings before income taxes differs from the expected amount that would arise using the combined Canadian federal and provincial statutory income tax rates. A reconciliation of the difference is as follows: Year ended December 31 Earnings before income taxes Combined tax rates Income tax provision at statutory rates Add (deduct): Income of partnerships taxed in the hands of partners Permanent differences Beneﬁ t of capital loss not recognized Recognition of previously unrecorded deferred tax assets Income of foreign subsidiary not subject to tax Other Actual provision (b) Income tax expense The components of the income tax expense (recovery) for the year are as follows: Year ended December 31 Current Deferred recovery (c) Deferred tax assets and liabilities Deferred tax assets and liabilities are attributable to the following: Deferred tax asset: Non-capital loss carry-forwards Long-term debt Reserve for unpaid share-based compensation Unrealized foreign exchange Inventory Other Licenses Property, plant and equipment Other Classiﬁ ed in the consolidated statement of ﬁ nancial position as: Deferred tax asset – non-current Deferred tax liability – non-current 86 Clearwater Seafoods Incorporated 2014 Annual Report $ $ $ 2014 15,745 30.5% $ 2013 7,197 30.5% 4,802 $ 2,195 $ (3,064) 3,047 2,807 — (1,257) (386) (2,811) 2,819 — (9,938) (9) (357) $ 5,949 $ (8,101) 2014 2,585 3,364 $ 2013 1,812 (9,913) 5,949 $ (8,101) $ $ December 31 2014 December 31 2013 $ 13,898 2,460 4,356 1,031 — — (3,199) (4,152) (41) $ 14,740 3,150 1,785 1,648 625 294 (1,519) (3,233) — $ 14,353 $ 17,490 15,356 (1,003) 18,943 (1,453) $ 14,353 $ 17,490 The net change in deferred income taxes reﬂ ected in deferred income tax expense of $3.1 million (2013 – $9.9 million) plus the foreign exchange effect of deferred taxes of foreign subsidiaries totaling $0.2 million (2013 – $0.3 million), the effect of which was recorded through foreign exchange. These deferred tax assets are recognized based on Clearwater’s estimate that it is more likely than not it will earn sufﬁ cient taxable proﬁ ts to utilize these losses before they expire. Unrecognized deferred tax assets Clearwater has the following investment tax credits and loss carryforwards for which no deferred tax asset is recognized in the statements of ﬁ nancial position. Non-capital losses Investment tax credits Capital losses Unrecognized deferred tax liabilities Clearwater Seafoods Inc Subsidiary corporations $ 14,429 $ 6,684 5,022 12,229 274 380 Total Expiry $ $ $ 21,113 2014–2033 5,296 2023–2034 12,609 No Expiry Deferred tax is not recognized on the unremitted earnings of subsidiaries and other investments as the Company is in a position to control the reversal of the temporary difference and it is probable that such differences will not reverse in the foreseeable future. The unrecognized temporary difference at December 31, 2014 for the Company’s subsidiaries was $87.3 million (December 31, 2013 – $72.2 million). 1 8 . S E G M E N T E D I N F O R M AT I O N Clearwater has one reportable segment which includes its integrated operations for harvesting, processing and distribution of seafood products. (a) Sales by species Year ended December 31 Scallops Coldwater shrimp Lobster Clams Crab Ground ﬁ sh and other $ 2014 163,705 93,742 78,186 72,774 20,985 15,350 $ 2013 147,637 81,592 66,452 60,780 18,271 13,927 $ 444,742 $ 388,659 Clearwater Seafoods Incorporated 2014 Annual Report 87 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) (b) Sales by geographic region of the customer Year ended December 31 France Russia UK Scandinavia Other Europe United States Canada North America Japan China Other Asia Other (c) Non-current assets by geographic region As at December 31 Property, plant and equipment, licences, ﬁ shing rights and goodwill Canada Argentina Other $ 2014 54,418 8,976 19,639 30,442 36,141 $ 2013 51,830 15,777 12,272 21,919 29,973 149,616 131,771 84,943 61,668 76,945 55,838 146,611 132,783 57,496 73,308 15,494 41,639 66,212 14,438 146,298 122,289 2,217 1,816 $ 444,742 $ 388,659 2014 2013 $ 255,398 34,807 192 $ 212,625 22,115 221 $ 290,397 $ 234,961 1 9 . R E L AT E D PA R T Y T R A N S A C T I O N S (a) Subsidiaries, partnerships, and joint venture Clearwater’s consolidated ﬁ nancial statements include the accounts of the Corporation and its material subsidiaries, partnerships and joint venture, as follows: Entity Ownership % Accounts Clearwater Seafoods Limited Partnership Clearwater Ocean Prawns Venture St. Anthony Seafoods Limited Partnership Adams and Knickle Limited Clearwater Seafoods Holdings Incorporated Clearwater Fine Foods Europe Limited Clearwater Fine Foods USA Incorporated Glaciar Pesquera S.A. 100% 53.66% 75% 50% 100% 100% 100% 80% Consolidated Consolidated Consolidated Equity method Consolidated Consolidated Consolidated Consolidated 88 Clearwater Seafoods Incorporated 2014 Annual Report (b) Key management personnel Clearwater has deﬁ ned key management personnel as senior executive ofﬁ cers, as well as the Board of Directors, as they have the collective authority and responsibility for planning, directing and controlling the activities of the Corporation. The following table outlines the total compensation expense for key management personnel for the years ended December 31, 2014 and 2013. Year ended December 31 Wages and salaries Share-based compensation Bonuses Other beneﬁ ts $ $ 2014 3,408 8,740 1,539 1,829 2013 3,792 5,861 1,290 606 $ 15,516 $ 11,549 c) Transactions with other related parties Clearwater rents ofﬁ ce space to Clearwater Fine Foods Incorporated (“CFFI”) (the controlling shareholder of Clearwater) and provides computer network support services to CFFI. Clearwater charges CFFI management and other fees for ﬁ nance and administration services provided to CFFI by certain Clearwater staff. These fees apportion the salaries and beneﬁ t costs of the individuals providing the services based on estimated time spent. Clearwater had the following transactions and balances with CFFI: Opening balance due from CFFI Management and other fees charged to CFFI Rent and IT service fees charged to CFFI Interest on intercompany account Payments from CFFI Other charges to (from) CFFI December 31, 2014 December 31, 2013 $ $ 1,524 — 184 56 (1,783) 50 1,596 122 184 78 (466) 10 $ 31 $ 1,524 The amount due from CFFI is unsecured and due on demand. As such the account has been classiﬁ ed as a current asset included in prepaids and other. The balance bears interest at a rate of 5%. In addition, Clearwater expensed approximately $0.04 million for vehicle leases for the year ended December 31, 2014 (December 31, 2013 – $0.07 million) and approximately $0.13 million for other services for the year ended December 31, 2014 (December 31, 2013 – $0.11 million) by companies related to its parent. The transactions are recorded at the exchange amount and the balance due to these companies was $nil million as at December 31, 2014 (December 31, 2013 – $0.01 million). Clearwater recorded sales, sales commissions and storage fees to a non-controlling interest holder in a consolidated partnership. These sales, sales commissions and storage fees are at negotiated prices and are settled on normal trade terms. Sales for the year ended December 31, 2014 are $6.7 million (December 31, 2013 – $1.2 million). Sales commissions for the year ended December 31, 2014 are $2.4 million (December 31, 2013 – $2.0 million). Storage fees for the year ended December 31, 2014 are $1.4 million (December 31, 2013 – $1.7 million). At December 31, 2014 Clearwater had a balance of $1.0 million (December 31, 2013 – $5.0 million), included in long term receivables, for interest bearing loans made to a non-controlling interest shareholder in a subsidiary. In the ﬁ rst quarter of 2014, Clearwater changed its presentation of advances to a non-controlling interest shareholder in a subsidiary. Advances as at December 31, 2014 of $4.4 million (December 31, 2013 – $3.8 million) were reclassiﬁ ed from long term receivables to non- controlling interest. These advances are now recorded as distributions to and repayments from a non-controlling shareholder in a subsidiary. During the year ended December 31, 2014, Clearwater incurred $0.02 million, in legal fees paid to a law ﬁ rm in which a Director of Clearwater is a partner (year ended December 31, 2013 – $0.03 million). Clearwater Seafoods Incorporated 2014 Annual Report 89 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) 2 0 . N O N - C O N T R O L L I N G I N T E R E S T Summarized ﬁ nancial information in respect of Clearwater’s subsidiaries that have non controlling interests (“NCI”) is set out below. (a) Summarized statements of ﬁ nancial position Coldwater shrimp 2014 2013 46.34% 46.34% $ 28,881 (10,684) 18,197 39,312 (386) 38,926 $ 30,872 (8,194) 22,678 36,475 (1,072) 35,403 57,123 58,081 $ 25,737 $ 24,630 $ 2014 20.0% 5,428 (28,753) (23,325) 33,345 — 33,345 Scallops $ 2013 20.0% 5,629 (27,112) (21,483) 23,972 (186) 23,786 10,020 2,303 $ 1,019 $ (78) Year ended December 31 NCI Percentage Current assets Current liabilities Non-current assets Non-current liabilities Net assets Accumulated non-controlling interests Year ended December 31 NCI Percentage Current assets Current liabilities Non-current assets Non-current liabilities Net assets Accumulated non-controlling interests 90 Clearwater Seafoods Incorporated 2014 Annual Report (b) Summarized statements of earnings Year ended December 31 Sales Earnings Total comprehensive income Earnings allocated to non-controlling interest Dividends paid to non-controlling interest Year ended December 31 Sales Earnings Other comprehensive income Total comprehensive income Earnings allocated to non-controlling interest Dividends paid to non-controlling interest (c) Summarized statements of cash ﬂ ows Year ended December 31 Cash ﬂ ow from operating activities Cash ﬂ ow used in ﬁ nancing activities Cash ﬂ ow used in investing activities Net (decrease) increase in cash Year ended December 31 Cash ﬂ ow from operating activities Cash ﬂ ow from (used in) ﬁ nancing activities Cash ﬂ ow used in investing activities Net (decrease) increase in cash 2 1 . I N V E S T M E N T I N E Q U I T Y I N V E S T E E $ $ $ $ Coldwater shrimp 2014 89,792 21,558 21,558 11,533 10,427 2014 38,407 5,272 505 5,777 1,097 — $ Scallops $ 2013 77,866 19,998 19,998 8,438 11,349 2013 30,916 1,138 634 1,772 569 66 Coldwater shrimp 2014 32,387 (23,331) (12,482) (3,426) $ 2013 27,403 (25,342) (13) 2,048 Scallops $ 2013 3,534 10,339 (13,863) 10 2014 8,626 — (8,641) (15) The following table summarizes the ﬁ nancial information of Clearwater’s joint venture accounted for using the equity method: Year ended December 31 Carrying amount of interest in joint venture Share of: Earnings for the year Dividends from joint venture Commissions paid to joint venture 2014 2013 $ 6,198 $ 4,701 2,987 1,490 9,524 2,082 1,240 6,905 Clearwater Seafoods Incorporated 2014 Annual Report 91 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) 2 2 . C A P I TA L M A N A G E M E N T Clearwater’s objectives when managing capital are as follows: • Ensure liquidity • Minimize cost of capital • Support business functions and corporate strategy Clearwater’s capital structure includes a combination of equity and various types of debt facilities. Clearwater’s objective when managing its capital structure is to obtain the lowest cost of capital available, while maintaining ﬂ exibility and reducing exchange risk by borrowing when appropriate in currencies other than the Canadian dollar. Clearwater uses leverage, in particular revolving and term debt to lower its cost of capital. The amount of debt available to Clearwater is a function of earnings that can be impacted by known and unknown risks, uncertainties, and other factors outside Clearwater’s control including, but not limited to, total allowable catch levels, selling prices, weather, exchange rates, fuel and other input costs. Clearwater maintains ﬂ exibility in its capital structure by regularly reviewing forecasts and multi-year business plans and making any required changes to its debt and equity facilities on a proactive basis. These changes can include early repayment of debt, issuing or repurchasing shares, issuing new debt or equity, utilizing surplus cash, extending the term of existing debt facilities, selling assets to repay debt and if required, limiting debt paid. 2 3 . S H A R E - B A S E D C O M P E N S AT I O N Clearwater’s share-based compensation plans are disclosed in Note 3 (m). The number of share-based awards outstanding and vested as of December 31, 2014 and 2013 were as follows: As at December 31, 2014 SARs PSU – Tranche 1 PSU – Tranche 2 PSU – Tranche 3 DSU Total As at December 31, 2013 SARs PSU – Tranche 1 PSU – Tranche 2 DSU Total $ $ Grant price 0.80 1.00 N/A N/A N/A N/A Grant price 0.80 1.00 N/A N/A N/A In thousands Number outstanding 83 67 424 219 208 398 1,399 In thousands Number outstanding 83 67 424 214 443 1,231 Number vested 83 67 424 — — 220 794 Number vested 83 67 — — 167 317 Grant Date May 2010 May 2010 May 2012 March 2013 March 2014 June 2012 – December 2014 Grant Date May 2010 May 2010 May 2012 March 2013 June 2012 – December 2013 92 Clearwater Seafoods Incorporated 2014 Annual Report The following reconciles the share based awards outstanding for the year ended December 31, 2014: PSU – Tranche 1 PSU – Tranche 2 PSU – Tranche 3 DSU SARS Total In thousands of awards Outstanding at January 1, 2014 Granted Granted from dividends Forfeited Exercised Outstanding at December 31, 2014 Vested at January 1, 2014 Vested Vested at December 31, 2014 424 424 37 5 (42) — 424 — 424 214 18 3 (16) — 219 — — — — 206 2 — — 208 — — — 443 51 5 (101) — 398 167 53 220 The following reconciles the share based awards outstanding for the year ended December 31, 2013: In thousands Outstanding at January 1, 2013 Granted Granted from dividends Exercised Outstanding at December 31, 2013 Vested at January 1, 2013 Vested Exercised Vested at December 31, 2013 PSU – Tranche 1 PSU – Tranche 2 423 — 1 — — 213 1 — 424 214 — — — — — — — — DSU 401 41 1 — 443 126 41 — 167 150 — — — — 150 150 — 150 SARS 705 — — (555) 150 555 150 (555) 150 1,231 312 15 (159) — 1,399 317 477 794 Total 1,529 254 3 (555) 1,231 681 191 (555) 317 For the year ended December 31, 2014, there were nil share based awards exercised during the year. The following share based awards were exercised during the year ended December 31, 2013: As at December 31, 2013 SARs Total $ Grant price 0.01 0.80 1.00 Number exercised in thousands 255 167 133 555 Exercise date Share price at exercise date March 2013 March 2013 March 2013 $5.00 $5.00 $5.00 The total cash payment for share based awards exercised during the year were $nil (December 31, 2013 – $ 2.5 million). There is no limit to the number of awards that can be issued as awards are expected to be cash settled. When cash dividends are paid to shareholders of Clearwater, dividend equivalent PSUs and DSUs are granted to the Participants which are equal to the greatest number of whole share units having a market value, as of the payment date of the dividend, equal to the product of the cash dividend paid per share multiplied by the number of PSUs and DSUs subject to the Grant. The additional PSUs and DSUs granted are subject to the same terms and conditions as the corresponding PSU or DSU Grant. Clearwater Seafoods Incorporated 2014 Annual Report 93 Clearwater Seafoods Incorporated Notes to the Consolidated Financial Statements (Tabular amounts are in thousands of Canadian dollars) Fair value of share based plans The SARS issued and outstanding are fully vested and are expected to be cash settled on the exercise date; therefore, the fair value of the SARS is based on the intrinsic value. The PSU Tranche 1 are fully vested as of December 31, 2014 with a liability of $7.6 million. This is expected to be cash settled in the ﬁ rst quarter of 2015. Measurement inputs for the remaining plans include the fair value of the company’s shares, exercise price of the instrument, expected volatility (based on weighted average historic volatility adjusted for changes expected due to publicly available information), weighted average expected remaining life of the instruments (based on historical experience and general option holder behaviour), expected dividends, and the risk-free interest rate (based on government bonds), as follows: Number of awards PSU Tranche 2 2014 PSU Tranche 3 Weighted average fair value per award Weighted average risk-free interest rate Weighted average expected volatility Expected life of awards (years) $ 17.11 1.19% – 3.69% 17.81% – 44.88% 1 $ 17.47 0.75% – 3.69% 17.8% – 44.88 % 2 Number of awards PSU Tranche 1 2013 PSU Tranche 2 Weighted average fair value per award Weighted average risk-free interest rate Weighted average expected volatility Expected life of awards (years) $ 12.09 1.49% – 3.38% 22.65% – 64.39% 1 $ 11.41 1.39% – 3.82% 21.62% – 58.90% 2 DSU $ 11.86 1.01% – 1.35% 52.33% – 52.89% 4.5 – 5.25 DSU $ 8.22 1.13% – 2.12% 58.60% – 77.22% 5.5 –12.3 Share-based compensation expense included in the income statement for the year ended December 31, 2014 is $8.9 million (December 31, 2013 – $5.9 million). The liability for share based compensation is $15.9 million at December 31, 2014 (December 31, 2013 – $7.0 million). The vested portion of the liability for share based compensation is $11.8 million at December 31, 2014 (December 31, 2013 – $2.5 million). 2 4 . C O N T I N G E N T L I A B I L I T I E S Clearwater has received a claim regarding alleged rights to certain intellectual property in the amount of $6 million. Clearwater has agreed to arbitration; however, Clearwater does not believe there to be a material liability relating to the dispute. In addition, from time to time Clearwater is subject to claims and lawsuits arising in the ordinary course of operations. In the opinion of management, the ultimate resolution of such pending legal proceedings will not have a material effect on Clearwater’s consolidated ﬁ nancial position. 2 5 . A D D I T I O N A L C A S H F L O W I N F O R M AT I O N Changes in operating working capital (excludes change in accrued interest) Decrease in inventory Increase (decrease) in accounts payable (Increase) in accounts receivable Increase) decrease in prepaids December 31. 2014 December 31. 2013 $ $ 6,237 2,685 (4,605) (713) 2,745 (4,191) (470) 619 $ 3,604 $ (1,297) 94 Clearwater Seafoods Incorporated 2014 Annual Report Clearwater Seafoods Incorporated Quarterly and share information ($000’s except per share amounts) 2014 2013 Q4 Q3 Q2 Q1 Q4 Q3 Q2 Q1 Sales Net (loss) earnings Per share data Basic net (loss) earnings Diluted net (loss) earnings 119,498 130 134,069 2,959 113,403 18,850 77,771 (12,144) 111,012 (298) 113,982 27,224 95,368 (9,866) 68,297 (1,762) (0.07) (0.07) (0.02) (0.02) 0.30 0.30 (0.27) (0.27) (0.06) (0.06) 0.48 0.4 7 (0.24) (0.24) (0.06) (0.06) Clearwater Seafoods Incorporated Trading information symbol CLR 2014 2013 Q4 Q3 Q2 Q1 Q4 Q3 Q2 Q1 Trading price range of shares (board lots) High Low Close Trading volumes (000’s) Total Average daily Shares outstanding at end of quarter 12.23 9.30 11.86 10.80 7.75 10.56 8.70 6.90 8.69 9.21 7.27 7.55 8.50 5.37 8.22 5.82 4.86 5.68 4.98 4.10 4.92 5.30 4.00 4.85 5,907 91 3,793 67 2,974 47 3,370 55 2,635 41 2,416 39 1,930 30 6,709 110 54,978,098 54,978,098 54,978,098 54,978,098 50,948,698 50,948,698 50,948,698 50,948,698 Clearwater Seafoods Incorporated 2014 Annual Report 95 Selected Annual Information Sales Costs of goods sold Gross margin 2014 2013 2012 2011 2010 (Audited) (Audited) (Audited) (Audited)* (Audited) $ 444,742 341,908 $ 388,659 301,291 $ 350,302 277,777 $ 332,785 263,220 $ 291,116 234,854 Administrative and selling Net ﬁ nance costs (Gains) losses on forward contracts Other income Research and development Gain on settlement of Glitnir transaction Gain on change of control of joint venture 102,834 48,252 37,829 4,047 (5,031) 1,991 87,368 39,005 33,935 8,812 (3,240) 1,659 72,525 32,536 29,041 (4,654) (3,399) 1,759 69,565 33,345 36,313 2,291 (5,893) 707 (12,445) (11,571) 56,262 28,557 41,225 1,257 (2,477) 1,623 Earnings before income taxes Income taxes expense (recovery) 15,746 5,949 7,197 (8,101) 17,242 26,818 (13,923) (5,462) 3,863 3,564 Earnings before non-controlling interest 9,797 15,298 22,704 22,955 (17,487) Non-controlling interest 12,702 8,965 7,695 6,619 1,704 Earnings attributable to shareholders $ (2,905) $ 6,333 $ 15,009 $ 16,336 $ (19,191) m o c . r i m b . w w w o s s e d a r I s l l i M n a y r B r i m b y b d e n g i s e D 96 Clearwater Seafoods Incorporated 2014 Annual Report Corporate Information Head ofﬁ ce of Clearwater Seafoods Incorporated 757 Bedford Highway Bedford, Nova Scotia B4A 3Z7 902-443-0550 Directors of Clearwater Seafoods Incorporated Executive of Clearwater Seafoods Incorporated Colin E. MacDonald Chairman of the Board John C. Risley President, Clearwater Fine Foods Inc. Harold Giles Chair of Human Resource Development and Compensation (‘HRDCC”) Committee Independent Consultant Larry Hood, Chair of Audit Committee Director, Former Partner, KPMG Thomas D. Traves President Emeritus, Dalhousie University Mickey MacDonald President, Micco Companies Brendan Paddick Chief Executive Ofﬁ cer, Columbus International Inc. Stan Spavold Chair of Finance Committee Executive Vice President, Clearwater Fine Foods Inc. Jim Dickson Chair of Governance Committee Partner, Stewart McKelvey Ian Smith Chief Executive Ofﬁ cer Robert D. Wight Vice-President, Finance and Chief Financial Ofﬁ cer Ronald van der Giesen President, Global Supply Chain Michael D. Pittman Vice-President, Fleet Greg Morency President and Chief Commercial Ofﬁ cer David Rathbun Vice-President, Chief Talent Ofﬁ cer Christine Penney Vice-President, Sustainability & Public Affairs Paul Broderick Vice-President of International Sales David Kavanagh Vice-President and General Counsel John Burwash Vice-President, Chief Information Ofﬁ cer Investor relations Tyrone D. Cotie, CA Treasurer (902) 457-8181 tcotie@clearwater.ca Auditors KPMG LLP Halifax, Nova Scotia Shares listed Toronto Stock Exchange SHARE Symbol: CLR Transfer agent Computershare Investor Services Inc. Why Invest in Clearwater? • North America’s largest vertically integrated harvester, processor and distributor of premium, wild, eco-labelled shellfish with more than 81 million pounds sold in 2014 • Global demand for premium wild-caught seafood among aging boomers and a rising middle class in the Asia-Pacific region is outpacing resource supply. This in combination with conservatively managing wild seafood fisheries to protect the long-term health of the industry is creating new opportunities from the rising demand for high-quality sustainable seafood. • Largest holder of shellfish quotas and licenses within Canada and maintains the widest selection of MSC-certified species of any shellfish harvester worldwide • Diverse channel and customer mix in foodservice, retail and other food industries with no single customer representing more than 6% of total sales • Five consecutive years of sales and adjusted EBITDA growth

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