location location location First Capital Realty takes a highly disciplined approach to the development and redevelopment of our properties across Canada. We build value by creating and managing high quality properties with long-term appeal in neighbourhoods and communities that promise good and growing customer dedication well into the future. Knowledgeable, sophisticated retailers seek to position themselves in the best located, best managed and most visible and accessible locations. That’s the story of our growing portfolio. And that’s our value to investors. location location location f i r s t c a p i t a l r e a l t y i n c . a n n u a l r e p o r t 2 0 0 8 Essentially Urban. annual report 2008 85 Hanna Avenue, Suite 400, Toronto, Ontario m6k 3s3 t 416.504.4114 f 416.941.1655 www.fi rstcapitalrealty.ca Printed in Canada using VOC-free inks. Corporate Profi le First Capital Realty is Canada’s leading owner, developer and operator of supermarket and drug store-anchored neighbourhood and community shopping centres, located in growing metropolitan areas. The Company currently owns interests in 172 properties, including fi ve under development, totalling approximately 20.1 million square feet of gross leasable area and six land sites in the planning stage for future retail development. In addition, the Company owns 14.1 million shares (approximately 18.5%) of Equity One (NYSE:EQY), one of the largest shopping centre REITs in the southern United States. Including its investments in Equity One, the Company has interest in 328 properties totalling approximately 36.1 million square feet of gross leasable area. First Capital Realty has an enterprise value of over $4 billion. Contents Management’s Discussion & Analysis (MD&A) 17 Introduction 17 Business Overview and Strategy 22 Summary Consolidated Information and Highlights 24 Business and Operations Review 35 Results of Operations 44 Capital Structure and Liquidity 53 International Financial Reporting Standards (“IFRS”) 54 Quarterly Financial Information 55 Fourth Quarter 2008 Operations and Results 59 Events Subsequent to December 31, 2008 60 Outlook 61 Summary of Signifi cant Accounting Estimates and Policies 63 Summary of Changes to Signifi cant Accounting Policies 64 Controls and Procedures 65 Risks and Uncertainties Consolidated Financial Statements 76 Management’s Responsibility 77 Auditors’ Report 78 Consolidated Balance Sheets 79 Consolidated Statements of Earnings 80 Consolidated Statements of Comprehensive Income 81 Consolidated Statements of Shareholders’ Equity 83 Consolidated Statements of Cash Flows 84 Notes to the Consolidated Financial Statements 53910_AR Cover.indd 1 53910_AR Cover.indd 1 3/30/09 2:29:48 PM 3/30/09 2:29:48 PM location location location First Capital Realty takes a highly disciplined approach to the development and redevelopment of our properties across Canada. We build value by creating and managing high quality properties with long-term appeal in neighbourhoods and communities that promise good and growing customer dedication well into the future. Knowledgeable, sophisticated retailers seek to position themselves in the best located, best managed and most visible and accessible locations. That’s the story of our growing portfolio. And that’s our value to investors. location location location f i r s t c a p i t a l r e a l t y i n c . a n n u a l r e p o r t 2 0 0 8 Essentially Urban. annual report 2008 85 Hanna Avenue, Suite 400, Toronto, Ontario m6k 3s3 t 416.504.4114 f 416.941.1655 www.fi rstcapitalrealty.ca Printed in Canada using VOC-free inks. Corporate Profi le First Capital Realty is Canada’s leading owner, developer and operator of supermarket and drug store-anchored neighbourhood and community shopping centres, located in growing metropolitan areas. The Company currently owns interests in 172 properties, including fi ve under development, totalling approximately 20.1 million square feet of gross leasable area and six land sites in the planning stage for future retail development. In addition, the Company owns 14.1 million shares (approximately 18.5%) of Equity One (NYSE:EQY), one of the largest shopping centre REITs in the southern United States. Including its investments in Equity One, the Company has interest in 328 properties totalling approximately 36.1 million square feet of gross leasable area. First Capital Realty has an enterprise value of over $4 billion. Contents Management’s Discussion & Analysis (MD&A) 17 Introduction 17 Business Overview and Strategy 22 Summary Consolidated Information and Highlights 24 Business and Operations Review 35 Results of Operations 44 Capital Structure and Liquidity 53 International Financial Reporting Standards (“IFRS”) 54 Quarterly Financial Information 55 Fourth Quarter 2008 Operations and Results 59 Events Subsequent to December 31, 2008 60 Outlook 61 Summary of Signifi cant Accounting Estimates and Policies 63 Summary of Changes to Signifi cant Accounting Policies 64 Controls and Procedures 65 Risks and Uncertainties Consolidated Financial Statements 76 Management’s Responsibility 77 Auditors’ Report 78 Consolidated Balance Sheets 79 Consolidated Statements of Earnings 80 Consolidated Statements of Comprehensive Income 81 Consolidated Statements of Shareholders’ Equity 83 Consolidated Statements of Cash Flows 84 Notes to the Consolidated Financial Statements 53910_AR Cover.indd 1 53910_AR Cover.indd 1 3/30/09 2:29:48 PM 3/30/09 2:29:48 PM A growth strategy applied to a stable business Take Stock Revenues (in millions) Net Operating Income (in millions) Gross Leasable Area (millions of sq. ft.) 420 382 333 269 260 242 206 165 20.1 19.4 18.2 172 158 161 15.7 133 05 06 07 08 05 06 07 08 05 06 07 mar. 09 number of properties At First Capital Realty we have always taken a highly disciplined approach to growing our business. Our primary strategy is the creation of shareholder value over the long term by generating sustainable cash fl ow and capital appreciation from our shopping centre portfolio. We measure achievement of our strategy by absolute and accretive growth in FFO and AFFO per common share, while maintaining a strong balance sheet. Furthermore, we will look to provide continual moderate dividend increases to shareholders while maintaining a conservative payout ratio. We have a committed and entrepreneurial management team that is aligned with shareholders, and we continue to work hard on increasing the value of First Capital Realty. 13 Years of Dividend Increases (per share) $0.99 $0.93 $0.89 $0.85 $0.81 $0.77 $0.57 $1.23 $1.20 $1.26 $1.28 $1.17 $1.14 $1.09 Debt to Aggregate Assets (in billions) Funds from Operations* (in millions) 4.0 3.6 3.2 2.6 54.2 55.4 56.4 53.6 145 125 117 95 $1.48 $1.58 $1.60 $1.66 95 96 97 98 99 00 01 02 03 04 05 06 07 08 05 06 07 08 05 06 07 08 % debt per share* *As defi ned in the MD&A. 53910_AR Cover.indd 2 53910_AR Cover.indd 2 3/30/09 2:30:06 PM 3/30/09 2:30:06 PM A growth strategy applied to a stable business Take Stock Revenues (in millions) Net Operating Income (in millions) Gross Leasable Area (millions of sq. ft.) 420 382 333 269 260 242 206 165 20.1 19.4 18.2 172 158 161 15.7 133 05 06 07 08 05 06 07 08 05 06 07 mar. 09 number of properties At First Capital Realty we have always taken a highly disciplined approach to growing our business. Our primary strategy is the creation of shareholder value over the long term by generating sustainable cash fl ow and capital appreciation from our shopping centre portfolio. We measure achievement of our strategy by absolute and accretive growth in FFO and AFFO per common share, while maintaining a strong balance sheet. Furthermore, we will look to provide continual moderate dividend increases to shareholders while maintaining a conservative payout ratio. We have a committed and entrepreneurial management team that is aligned with shareholders, and we continue to work hard on increasing the value of First Capital Realty. 13 Years of Dividend Increases (per share) $0.99 $0.93 $0.89 $0.85 $0.81 $0.77 $0.57 $1.23 $1.20 $1.26 $1.28 $1.17 $1.14 $1.09 Debt to Aggregate Assets (in billions) Funds from Operations* (in millions) 4.0 3.6 3.2 2.6 54.2 55.4 56.4 53.6 145 125 117 95 $1.48 $1.58 $1.60 $1.66 95 96 97 98 99 00 01 02 03 04 05 06 07 08 05 06 07 08 05 06 07 08 % debt per share* *As defi ned in the MD&A. 53910_AR Cover.indd 2 53910_AR Cover.indd 2 3/30/09 2:30:06 PM 3/30/09 2:30:06 PM Opportunity is in store. Across Canada’s urban landscape First Capital Realty builds value on the simple reality that shopping centres are a part of our neighbourhoods. Convenient access to high quality shopping amenities adds to our quality of life. They create a positive impact on our lifestyles. We build shopping centres for Canada’s cities, anchored by the stores people rely on for their day-to-day routines. For their groceries. For their pharmaceutical needs. For the extras. For the essentials. We’re there. first capital realty annual report 2008 1 53910_FCR_Text.indd 1 53910_FCR_Text.indd 1 3/26/09 9:27:28 AM 3/26/09 9:27:28 AM Urban Plan . People shop where they live. 53910_FCR_Text.indd 2 53910_FCR_Text.indd 2 3/26/09 9:27:33 AM 3/26/09 9:27:33 AM Defi ning the urban landscape. A three-pronged approach. Acquisition Synergies Buying the right properties is the fi rst step in creating future growth. The cycle is simple: Choice locations provide for strong long-term returns, which increasingly positions the Company as a market infl uencer, which creates synergies for growing leasing and operations, which creates more opportunities for future acquisitions. Following this model, we have purchased or developed 135 properties since 2000, bringing our total to 172. It all starts with an ability to see the potential in a property. And that comes from understanding the relationship between what can be offered to whom, and on what scale. People need to shop. And they like to shop where they live. Proactive Management In a bricks and mortar business it would be easy to see things simply as they are. We see the value in looking beyond. Beyond current usage. Beyond current boundaries. Beyond current structures and standards. Because opportunity rarely takes root within existing constraints. Retailers will always need the fl exibility to respond to consumer needs, so we build the fl exibility to meet our tenant’s needs into our approach. We look for opportunities to expand into adjacent and nearby sites. We look for added potential in every corner of our properties. What might fi t better in the space that we have? What can we do to expand it? Who would make the best use of the buildings we offer and how can we make them more attractive to triple A tenants? These are the questions that drive us. And they lead us to a company-wide culture of innovation. Selective Development Armed with an effective and proven business model, the fi nal key to success is to always have the next play in mind. The urban landscape in Canada is always changing. And that means a changing retail landscape. It means value enhancements and property upgrades that provide customers with the best shopping experience. And it means knowing how to develop the right property in the right location. Because a good location is the starting point. When you have that (and we do, across Canada) it empowers you to draw the best tenants. And that’s a signifi cant advantage. 53910_FCR_Text.indd 3 53910_FCR_Text.indd 3 3/26/09 9:27:41 AM 3/26/09 9:27:41 AM first capital realty annual report 2008 3 Urban Legends. We’re judged by the company we keep. Our name alone may not draw people to our shopping centres. But it does draw our tenants. And they include some of the biggest names in the brandscape. Urban living means breadth of choice. It means brands at your fi ngertips. And people who live in urban communities expect access – easy access – to the brands they want. They look for certain names and are drawn to them. Because they know them and count on them. These are the marque brands and we’ve got them all. They anchor our centres across the country. At First Capital Realty we breathe location; it is a philosophy we live by. Because a great location will attract great brands. We choose our locations for their long-term growth potential, and our retail tenants come to us for the same reason. There are several considerations and stages that lead to the mix of stores that make up the retail offering at our centres across Canada. The fi rst is to question what the neighbourhood needs. Because not every community is the same. So while our centres are anchored by grocery or drug stores, the story doesn’t end there. Even within the anchor stores, scale is a signifi cant con- sideration. Not everyone wants a superstore in their backyard. But some do. Knowing the difference can be the dividing line between good and great community relations. As well, not every store in a shopping centre needs to be an internationally recognized brand. We have found that having the best local barber shop or pizza guy can be a draw. As is a well-placed bench. Or bike rack. And a bike rack next to a coffee shop that is across from a grocery store and a fi tness centre becomes the beginnings of a whole story. It’s about a balance between community access and retail relevance. 4 first capital realty annual report 2008 53910_FCR_Text.indd 4 53910_FCR_Text.indd 4 3/26/09 9:27:59 AM 3/26/09 9:27:59 AM Top 40 Tenants 1 Sobeys 2 Shoppers Drug Mart 3 Loblaws 4 Metro 5 Zellers/Home Outfi tters 6 Canadian Tire 7 TD Canada Trust 8 Canada Safeway 9 Royal Bank 10 Wal-Mart 11 Bank of Nova Scotia 12 CIBC 13 Staples 14 RONA 15 London Drugs 16 LCBO 17 Goodlife Fitness Club 18 Rexall 19 Cara Operations 20 Dollarama 21 Rogers 22 Winners Merchants Inc 23 Save on Foods 24 Bank of Montreal 25 Blockbuster 26 Reitmans 27 Tim Hortons 28 SAQ 29 Future Shop 30 Starbucks 31 YUM! Brands 32 Home Depot 33 Subway 34 Forzani Group 35 Toys “R” Us (Canada) Ltd. 36 Michael’s Art Store & Crafts 37 Pharmacie Jean Coutu 38 McDonald’s 39 The Source by Circuit City 40 Uniprix 53910_FCR_Text.indd 5 53910_FCR_Text.indd 5 3/26/09 9:28:04 AM 3/26/09 9:28:04 AM Urbanites. Minds over matters. When a company has a clear point of view, its people can more readily coordinate their efforts. We work well together because we share a single purpose and a simple approach. And the results show. The people at First Capital Realty share an interest in the future. Because the culture of the Company looks to the long term. We’re interested in accomplishing things today, but always with a mind for what will be good for the Company tomorrow, over the next decade and in the years beyond that. That may seem like a broad and unbelievable statement, but it fi ts with our overall business philosophy. Buildings have permanence. Building complexes are signifi cant features on the landscape of a community. For shopping centres to enjoy lasting success they must be built to last and have the fl exibil- ity to change and grow. We understand that. And that strategy permeates our working culture. Every member of our team contributes the benefi ts of his or her own skill set. That could mean astute negotiating instincts, an innate ability to spot potential in a property, administrative excellence, a creative mind for fi nanc- ing, an instinct for tenant relations. These are the individual qualities that defi ne fi t within the organization. But it’s a shared ability to see the big picture that holds us together. It leads to an investment strategy that stipulates high standards in the buildings we buy or build. It creates an overall pride in our portfolio. And it leads to the good feeling we get when we see our name on a sign. Looking to the future we almost never get to the point where we feel our work is done. There is always more. There is always better. And that’s where our team spirit comes from. Our purpose comes together when we work together to apply our strategy, individually, from every corner of the Company. And that’s what we do. Every day. 6 first capital realty annual report 2008 53910_FCR_Text.indd 6 53910_FCR_Text.indd 6 3/26/09 9:26:30 AM 3/26/09 9:26:30 AM Building or buying, our model for growth and success is reliable: match the mix of stores to the mix of people and we become a part of their daily routines. rutherford marketplace, toronto 53910_FCR_Text.indd 7 53910_FCR_Text.indd 7 3/26/09 9:26:35 AM 3/26/09 9:26:35 AM 53910_FCR_Text.indd 8 53910_FCR_Text.indd 8 3/26/09 9:26:43 AM 3/26/09 9:26:43 AM Urban Environment. Big steps towards a small footprint. Urban living presents a variety of choices. We’ve made some of our own. And we’re driven by a philosophy that recognizes the needs of the world around us. It would be accurate to say that First Capital Realty is driven by good intentions. Good corporate citizenship has always been a part of who we are. Because we believe that what’s good for the world can be good for business too. When you build with the future in mind, the future will treat you well. That’s our philosophy. That’s why in May 2006 we committed to building all new properties to LEED standards. We see sustainable design as the clear way to the future. Why? Because energy savings and responsible use of resources mean savings over time. Because more and more tenants and the municipalities in which we build are asking us about our environmental footprint. And because the people who live in the neighbourhoods we serve will see the difference and reward us with their ongoing patronage. Beyond LEED construction, First Capital has also committed to reporting on its corporate social responsibility initiatives through the internationally recognized Global Reporting Initiative. We feel that it is important to hold ourselves to a recognized standard for our efforts in sustainability and transparency. As well, because it is vital to ensure the culture of responsibility permeates the whole Company, we have created a Sustainability Council, headed by Dori Segal, our CEO, and including representation from across the Company’s management and operation teams. We invite you to read and consider our separate publication which outlines our actions to-date and our Corporate Social Responsibility plan. It more fully expresses our direction in what we consider an area of strategic importance. first capital realty annual report 2008 9 53910_FCR_Text.indd 9 53910_FCR_Text.indd 9 3/26/09 9:26:49 AM 3/26/09 9:26:49 AM Urban Over 80% of our revenue is generated by people’s need for simple necessities. Everywhere we do business, we strive to anticipate the needs of the neighbourhoods we serve. 53910_FCR_Text.indd 10 53910_FCR_Text.indd 10 3/26/09 9:26:50 AM 3/26/09 9:26:50 AM 71 Liquor Stores 106 Drugstores 131 Supermarkets Essentials 290 Fast-Food & Coffee Shops 244 Banks & Financial Institutions 53910_FCR_Text.indd 11 53910_FCR_Text.indd 11 3/26/09 11:21:38 AM 3/26/09 11:21:38 AM Strong Foundations. Message from the President To Our Shareholders 2008 was another growth year for First Capital Realty. Our revenues were up 8.8%, net operating income rose 7.1%, funds from operations and FFO per share increased 15.7% and 3.8% respectively, and our debt to aggregate assets at year end improved to 53.6% compared to 56.4% in 2007. Our stock price in 2008, on the other hand, was down 21%. Are we a better Company today than a year ago? We believe that the answer is yes. Are our tenants doing well? We believe that the answer is yes, as our tenant mix is the best of the best in shopping for everyday life needs. However, our business like many others, is going through a re-evaluation process as a result of the turmoil in the global credit and fi nancial markets. We are in a period where many governments around the world are engaging in helping many businesses and it is a reason for concern. But while our stock price did not avoid the storm, I believe it should perform well on a relative basis, and let me explain why. The job of the Senior Management team of this Company is to grow the business, its earnings, its dividends, and to create value for the shareholders (ourselves included). However, we also have another very important responsibility that sometimes seems less rewarding in the short term, which is to deal with the risk side of the equation and to prepare First Capital for “what if ” scenarios. For example: (cid:129) What if things don’t go our way? (cid:129) What if our cost of capital increases and its availability deteriorates? (cid:129) What if the economy gets worse and the competition for good tenants intensifi es? (cid:129) What if growth in the housing markets suddenly stops? (cid:129) What if property values stop rising and temporarily catch a downdraft? Well guess what? These questions are a fair description of the current environment and have been on my mind every day since I stepped into this position, and if you have read my letters to shareholders over the last few years, you will know that our strategies, and how they were executed, have addressed these exact concerns. In my 2005 Annual Report Letter to Shareholders I said: “We all must keep our eyes open and ears to the ground, day in and day out, in every market.” At First Capital Realty, we have a proactive and hands-on management style where our experienced property managers, leasing professionals, acquisition and development people, and our senior management team, are in touch (“with reality”) with our tenants, the municipalities in which we operate, and with what is going on in every market we are in. We look at our potential competition, and assess the risks as well as the opportunities in each and every one of our shopping centres. In my 2004 Annual Report Letter to Shareholders I said: “Our third principle is to maintain a solid fi nancial position, ensuring we have the resources and the fl exibility to capitalize on opportunities so we can prosper through all economic and real estate cycles.” Growing a business, and buying and developing shopping centres, is a thrilling experience, and as a well regarded company we could have probably done a lot more over the last few years given the availability of capital during these good times. But what you really have to watch is that you 12 first capital realty annual report 2008 53910_FCR_Text.indd 12 53910_FCR_Text.indd 12 3/26/09 11:21:58 AM 3/26/09 11:21:58 AM never, never, borrow the “last dollar” available to you, and you must take into consideration the volatility and uncertainty in fi nancial markets. At First Capital we always maintain a strong fi nancial position that includes an investment grade rating, conservative leverage, a large pool of unencumbered and defensive assets and well staggered debt maturities. Our fi nancial strategy always assumed that something could go wrong (something always does). As I said in my 2006 Annual Report Letter to Shareholders: “Unfortunately, I believe this highly favourable environment is now over.” In my 2003 Annual Report Letter to Shareholders I said: “First Capital invests in well-located shopping centres in growing urban markets that provide sustainable cash fl ow and long-term growth potential that will ultimately result in capital appreciation.” We have always been extremely disciplined in terms of what and where we acquire or develop. We are very picky and selective in what we would like to own, and each opportunity must meet our key criteria – an extremely well-located property in an urban trade area that enjoys positive long-term trends in demographics, and the potential to attract tenants who cater to shopping for everyday life. Today we own what we believe is the best shopping centre portfolio in Canada. It is well-positioned, well-located, and the $1 billion invested in our properties over the last six years has brought the portfolio up to the latest standards and the most current retail formats. Our green initiatives, whereby everything we build is environmentally friendly and LEED certifi ed, are important attributes sought by today’s leading retail companies. In my 2004 Annual Report Letter to Shareholders I said: “Retail properties must be well positioned, and we will buy or develop only when we can achieve a position of infl uence to attract the best tenants in that particular market.” Our properties are located in Canada’s seven largest urban centres, in densely populated neighbourhoods with high barriers to entry that benefi t from positive demographic trends for rent increases, yet are mature enough to have defensive attributes to deal with competition and the challenging economic times we face today. In my 2004 Annual Report Letter to Shareholders I said: “At First Capital Realty we have carefully and consistently, through acquisition and development, accumulated, mostly by one-off transactions, a quality portfolio that we believe will create long-term appreciation. To be perfectly clear, our prop- erties are our shareholders’ “private collection”. Our focus in real estate has always been to increase and maximize cash fl ow from our centres by acquiring well-located urban properties with lower rents than market (sometimes while paying a premium price), and by value-added redevel- opment activities, all in supply constraint markets. We also focussed our attention on operating metrics like same prop- erty NOI growth, leasing spreads and occupancies, as well as fi nancial metrics like debt coverage ratios and fi xed charges ratios. These numbers do not lie nor depend on the multiples, or capitalization rates, that the market assigns to real estate, but rather on objective free cash fl ow measures. My position as CEO of this Company is very fulfi lling and rewarding, and I am pleased to report that we have executed our strategies very well. While we won’t be asking our governments for help, this is a time when the Senior Management of this Company, myself included, will use every bit of talent, vision and hard work (including lack of sleep) to lead our Company out of this recession and to take advantage of our market position to capitalize on opportunities that will come our way so that at the end of it we will become a better and stronger Company. They say that whatever does not kill you will make you stronger; I do not underestimate this challenge, but I promise you that you will get the best of us, and then some. And as far as I am concerned, personally, “I am working on a dream” (Bruce Springsteen); building a dream company. In closing, to my fellow co-workers who work relentlessly to deliver a better future for all of us, I would like to express my appreciation. In addition, I would like to thank our tenants and service providers for their support, our investors for their continued trust, and also our Board of Directors, under the leadership of our Chairman, Chaim Katzman, for their counsel and guidance. Sincerely, Dori J. Segal President and Chief Executive Offi cer first capital realty annual report 2008 13 53910_FCR_Text.indd 13 53910_FCR_Text.indd 13 3/26/09 11:22:05 AM 3/26/09 11:22:05 AM Local. Everywhere. As Canada’s leading owner, developer and operator of quality supermarket and drug store-anchored shopping centres located in growing metropolitan areas in Ontario, Quebec, Alberta and British Columbia, we apply our local market knowledge and economies of scale to create and enhance value. AMR* by Geography First Capital Realty Today (cid:129) 172 properties with interests in 20.1 million square feet of GLA (cid:129) 144 of 172 properties are supermarket and/or drug store-anchored (cid:129) Top 40 tenants provide over 57% of annual rents and occupy over 61% of GLA (cid:129) Over 45% of all annual minimum rents are from tenants with investment grade ratings (cid:129) 8.3 years average remaining lease term (cid:129) Owns 352 acres of active and future development land – 115 acres currently under development, redevelopment or expansion – 128 acres of land provide expansion opportunities at or adjacent to 36 properties – 109 acres of land provide new development opportunities at 8 sites (cid:129) Greater Toronto Area (cid:129) Golden Horseshoe (cid:129) Ottawa/Gatineau (cid:129) Southwestern Ontario (cid:129) Greater Montreal Area (cid:129) Quebec City (cid:129) Calgary/Edmonton/Red Deer (cid:129) Greater Vancouver Area (cid:129) Other *Annual Minimum Rents. 28% 9% 6% 4% 18% 1% 20% 9% 5% 14 first capital realty annual report 2008 14 first capital realty annual report 2008 53910_FCR_Text.indd 14 53910_FCR_Text.indd 14 3/26/09 11:22:06 AM 3/26/09 11:22:06 AM 53910_FCR_Text.indd 15 53910_FCR_Text.indd 15 3/26/09 11:22:24 AM 3/26/09 11:22:24 AM FCR_MD&A_Financials.qxd:FCR_Financials 3/30/09 12:07 PM Page 16 MD&A MANAGEMENT’S DISCUSSION AND ANALYSIS 17 17 22 24 Introduction Business Overview and Strategy Summary Consolidated Information and Highlights Business and Operations Review International Financial Reporting Standards (“IFRS”) Results of Operations 35 44 Capital Structure and Liquidity 53 54 Quarterly Financial Information 55 Fourth Quarter 2008 Operations and Results Events Subsequent to December 31, 2008 59 60 Outlook 61 Summary of Significant Accounting Estimates and Policies Summary of Changes to Significant Accounting Policies 63 64 Controls and Procedures 65 Risks and Uncertainties 16 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 17 Management’s Discussion and Analysis of Financial Position and Results of Operations The financial data has been prepared in accordance with Canadian Generally Accepted Accounting Principles (“GAAP”) and all amounts are in Canadian dollars, unless otherwise noted. Certain statements contained in the “Business Overview and Strategy”, “Business and Operations Review”,“Capital Structure and Liquidity”, “Outlook”, “Summary of Significant Accounting Estimates and Policies”, and “Risks and Uncertainties” sections of this MD&A constitute forward-looking statements, and other statements concerning First Capital Realty’s objectives and strategies and management’s beliefs, plans, estimates and intentions. Forward-looking statements can generally be identified by the expressions “anticipate”, “believe”, “plan”, “estimate”, “expect”, “intend”, “outlook”, “objective”, “may”, “will”, “should”, “continue” and similar expressions. The forward-looking statements are not historical facts but reflect the Company’s current expectations regarding future results or events and are based on information currently available to Management. Certain material factors and assumptions were applied in providing these forward-looking statements. All forward-looking statements in this MD&A are qualified by these cautionary statements. Management believes that the expectations reflected in forward-looking statements are based upon reasonable assumptions; however, Management can give no assurance that actual results will be consistent with these forward-looking statements. These forward-looking statements are subject to a number of risks and uncertainties that could cause actual results or events to differ materially from current expectations, including the matters discussed under “Risks and Uncertainties”. Factors that could cause actual results or events to differ materially from those expressed, implied or projected by forward-looking statements in addition to those described in the “Risks and Uncertainties” section include, but are not limited to, general economic conditions, the availability of new competitive supply of retail properties which may become available either through construction or sublease, First Capital Realty’s ability to maintain occupancy and to lease or re-lease space at current or anticipated rents, tenant bankruptcies, the relative illiquidity of real property, unexpected costs or liabilities related to acquisitions, construction, environmental matters, legal matters, reliance on key personnel, financial difficulties and defaults, changes in interest rates and credit spreads, changes in the U.S.–Canadian foreign currency exchange rate, changes in operating costs, First Capital Realty’s ability to obtain insurance coverage at a reasonable cost and the availability of financing. The assumptions underlying the Company’s forward-looking statements contained in the “Outlook” section of this MD&A include that consumer demand will remain stable, demographic trends will continue and there will continue to be barriers to entry in the markets in which the Company operates. Readers, therefore, should not place undue reliance on any such forward-looking statements. Further, a forward-looking statement speaks only as of the date on which such statement is made. First Capital Realty undertakes no obligation to publicly update any such statement or to reflect new information or the occurrence of future events or circumstances except as required by securities laws. These forward-looking statements are made as of March 5, 2009. introduction This Management’s Discussion and Analysis (“MD&A”) of the financial condition and results of operations for First Capital Realty Inc. (“First Capital Realty” or the “Company”) should be read in conjunction with the Company’s audited Consolidated Financial Statements and Notes for the years ended December 31, 2008 and 2007. Additional information, including the Company’s current Annual Information Form, is available on SEDAR’s website at www.sedar.com and on the Company’s website at www.firstcapitalrealty.ca. Historical results and percentage relationships contained in its interim and annual consolidated financial statements and MD&A, including trends which might appear, should not be taken as indicative of its future operations. The information contained in this MD&A is based on information available to Management, and is dated, as of March 5, 2009. business overview and strategy First Capital Realty (TSX:FCR) is Canada’s leading owner, developer and operator of supermarket and drugstore-anchored neighbourhood and community shopping centres, located predominantly in growing metropolitan areas. As at December 31, 2008, the Company owned interests in 171 properties, including five under development, totalling approximately 20.0 million square feet first capital realty annual report 2008 17 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 18 Management’s Discussion and Analysis – continued of gross leasable area and six land sites in the planning stage for future retail development. The Company also invests in the United States through its holdings in Equity One, Inc. (NYSE:EQY) (“Equity One”). Equity One is a fully integrated real estate investment trust specializing in the acquisition, asset management, development and redevelopment of quality retail properties located in strategic metropolitan areas across the United States. These centres are anchored by leading supermarkets, pharmacies and retail store chains. The Company owns 14.1 million shares, approximately 18.5% of Equity One. Including its investment in Equity One, the Company has interests in 327 properties totalling approximately 36.0 million square feet of gross leasable area. First Capital Realty was incorporated in November 1993 and conducts its business directly and through subsidiaries. First Capital Realty’s primary strategy is the creation of value over the long term by generating sustainable cash flow and capital appreciation of its shopping centre portfolio. To achieve its strategic objectives Management continues to: (cid:129) undertake selective development and redevelopment activities including land use intensification; (cid:129) be focussed and disciplined in acquiring income-producing properties; and (cid:129) proactively manage its existing shopping centre portfolio. The Company targets specific urban markets with stable and/or growing populations despite, and because of, the high barriers to entry. The Company intends to continue to operate primarily in and around its target urban markets of the Greater Toronto area including the Golden Horseshoe area and London; Calgary; Edmonton; the Greater Vancouver area including Vancouver Island; the Greater Montreal area; the Ottawa and Gatineau region and Quebec City. Over 90% of the Company’s annual minimum rent is derived from these urban markets. Management believes that urban retail properties typically will generate sustainable returns on investment, and over time, capital appreciation. Management believes that concentration on urban markets and shopping centres that provide daily necessities also makes the Company’s portfolio less sensitive to economic cycles. The Company targets well-located properties in urban markets with strong demographics that Management expects will attract quality tenants with long lease terms. Specifically, Management looks to own and operate properties that are well-located within dense urban areas that provide consumers with daily necessities including both products and services. Over 80% of the Company’s revenues come from tenants providing these daily necessities which include supermarkets, drugstores, banks, liquor stores, national discount retailers, and quick service restaurants. In Management’s view, such tenants are somewhat less sensitive to economic cycles due to the high component of consumer non-discretionary spending for such products and services, making these tenants desirable for the Company’s type of properties. First Capital Realty actively acquires, develops, redevelops, expands and refurbishes its properties in its target markets across Canada to generate accretive growth. The Company has critical mass in its target markets which helps generate economies of scale and operating synergies. The Company believes that a quality location is the single most important factor in acquiring, developing, redeveloping, owning and operating a retail property over the long term. First Capital Realty assesses the quality of locations based on a number of factors in the trade area of a property, including demographic trends, potential for competitive retail space and existing and potential tenants in the market. Once the Company has acquired a property in a specific retail trade area it will look to acquire adjacent or nearby properties. These additional properties allow the Company to provide maximum flexibility to its tenant base to meet their changing formats and size requirements over the long term. Adjacent properties also allow the Company to essentially expand or integrate its existing property, providing a better retail offering for consumers. Management also believes that the Company’s shopping centres, along with its portfolio of adjacent sites, gives it unique intensification opportunities, including expanded retail opportunities and mixed use developments. The Company has proven development and redevelopment capabilities across the country to enable it to capitalize on these opportunities. The land use intensification trend in the Company’s target urban markets is driven by the costs of expanding infrastructure beyond existing urban boundaries, the desire by municipalities to increase the tax base, environmental considerations and the migration of people to vibrant urban centres. This provides the Company with an opportunity to use its existing platform to sustain and improve cashflows and realize capital appreciation over the long term through its ownership and development and redevelopment activities. 18 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 19 Income-Producing Portfolio The Company’s properties are summarized as follows: 2008 December 31 2007 Ontario Quebec Alberta British Columbia Other Provinces Total Number of Properties (1) 66 56 27 19 3 171 Gross Leasable Area (000’s sq. ft.) 8,897 5,278 4,077 1,642 156 20,050 Percent Occupied 97.9% 95.1% 94.1% 94.0% 90.3% 96.0% % of Annual Minimal Rent 47% 22% 21% 9% 1% 100% Number of Properties (1) 61 54 25 17 4 161 Gross Leasable Area (000’s sq. ft.) 8,613 5,215 3,779 1,593 182 19,382 Percent Occupied 96.8% 94.7% 93.1% 95.0% 89.2% 95.3% % of Annual Minimum Rent 46% 23% 20% 10% 1% 100% (1) Includes five properties under development in 2008 and six in 2007. Eighty three percent of these shopping centres are anchored by grocery stores and/or drug stores. The average size of the shopping centres is 117,000 square feet with sizes ranging from 20,000 to over 500,000 square feet. In Management’s view, one measure of the quality of a shopping centre is the ability of the centre to attract and retain quality tenants. The Company’s top ten tenants by percent of total annual minimum rent, and their respective credit ratings, portfolio presence and average remaining lease terms at December 31, 2008 are listed in the table below: Tenant Sobeys Shoppers Drug Mart Loblaws Metro Zellers/Home Outfitters Canadian Tire TD Canada Trust Canada Safeway Royal Bank Wal-Mart DBRS Credit Rating BBB (LOW) A (LOW) BBB BBB — A (LOW) AA BBB AA AA Number of Stores 45 56 26 30 19 22 35 9 29 4 275 Square Feet (in thousands) 1,553 744 1,412 1,128 1,717 799 181 409 159 473 8,575 Percent of Total Canadian Gross Leasable Area 7.7% 3.7% 7.0% 5.6% 8.6% 4.0% 0.9% 2.0% 0.8% 2.4% 42.7% Remaining Lease Term in Years 10.7 8.7 9.1 11.1 8.7 9.0 5.7 6.2 4.9 10.5 9.1 At December 31, 2008, the Company’s top 40 tenants, including the top ten above, represented 57.3% of the Company’s annualized minimum rents and 61.1% of the gross leasable area in the Company’s portfolio. More than 77% of those rents in the top 40 are from tenants who have investment grade credit ratings and who represent many of Canada’s leading supermarket operators, drug store chains, discount retailers, banks and other familiar shopping destinations. Furthermore, over 45% of the Company’s total annualized minimum rents are from tenants who have investment grade credit ratings. Development and Redevelopment The Company pursues selective development and redevelopment activities, either alone or with joint-venture partners, in order to actively participate in growth markets and to achieve a better return on its portfolio. Investments in development and redevelopment activities generally comprise approximately 6-8% of the Company’s total asset value at any given time. Redevelopment projects at existing properties are carefully managed to minimize tenant downtime. Generally, redevelopment of existing properties carries a lower risk profile relative to the returns due to the existing tenant base and the intensification opportunities. These properties continue to first capital realty annual report 2008 19 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 20 Management’s Discussion and Analysis – continued operate during the planning, zoning and leasing phases of the project. New“greenfield”shopping centres are developed after obtaining anchor tenant lease commitments. The Company will sometimes carry vacant space for a planned future expansion of tenants or reconfiguration of a property. To facilitate its development activities the Company will acquire greenfield land sites in addition to sites or properties adjacent to existing properties. The Company strategically manages its development activities to reduce development risks. Since May 2006, all new development projects are being built according to LEED (Leadership in Energy and Environmental Design) certification standards. The LEED rating system is the internationally accepted benchmark for the design, construction, and operation of high performance green buildings. Achieving LEED certification is the leading way for organizations to demonstrate that their building project is environmentally friendly. The certification promotes a whole building approach to sustainability by recognizing performance in five key areas of human and environmental health: sustainable site development, water savings, energy efficiency, materials selection and indoor environmental quality. As of December 31, 2008, the Company has 32 “Green” development projects underway, in the planning stage, or in the final stage of development. Acquisitions of Income-Producing Properties Management seeks to acquire well-located neighbourhood and community shopping centres in the Company’s target urban markets that it believes will provide an appropriate return on investment over the long term. The Company typically makes acquisitions of individual properties that enhance the quality of its portfolio by virtue of their location, demographics and tenant base or that also have redevelopment opportunities. Through acquisitions, the Company expands its presence in its target urban markets in Canada, to continue to generate greater economies of scale and leasing and operating synergies. The Company also looks to acquire adjacent or nearby properties in a retail trade area where it has established a presence. In addition to one-off property transactions, Management will look for strategic or portfolio acquisitions, in both existing markets and markets where the Company does not yet have a presence. Historically, such portfolio opportunities with properties of the same quality as the Company’s are rare. At the present time identifying and completing acquisitions in our target urban markets continues to be extremely difficult due to demographic trends. Management believes that redevelopment activity is the best way to grow the portfolio in supply constrained markets. Proactive Management The Company views proactive management of its existing portfolio and newly acquired properties as an important part of its strategy. Proactive management encompasses continued investment in properties to ensure they remain attractive to quality retail tenants and their customers over the long term. Specifically, Management strives to create and maintain the highest standards in lighting, parking, access and general appearance of its properties. The Company’s proactive management strategies have historically contributed to improvement in occupancy levels and growth in average lease rates throughout the portfolio. The Company is fully internalized and all important value creation activities including development management, leasing, leasing administration and legal, construction management and tenant co-ordination functions are directly managed and executed by experienced real estate professionals. Team members with these real estate capabilities are located in each of the Company’s offices in Toronto, Montreal, Calgary, Edmonton and Vancouver in order to effectively create value in the major urban markets where First Capital Realty operates. The Company has a joint venture with Brookfield LePage Johnson Controls Facility Management Services (“BLJC”) to provide basic property management services to its properties. The Company has operational control of all property management activities and owns a 60% economic interest in the joint venture. The Company expects to acquire 100% ownership in the joint venture effective in January 2010 based on the existing contractual agreement. There is no expected material change in operations or operating margins from the potential acquisition of the 40% interest the Company does not currently own. 20 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 21 Equity One The Company owns 14.1 million shares as of December 31, 2008 (2007 – 14.0 million shares) or approximately 18.5% (2007 – 19.1%) of Equity One, the assets of which are similar to those of the Company. Equity One is a fully integrated, real estate investment trust (“REIT”) in the United States specializing in the acquisition, asset management, development and redevelopment of quality retail properties located in strategic metropolitan areas across the United States. Equity One owns or has interests in 156 properties in the U.S. totalling approximately 16.0 million square feet consisting of 146 shopping centres, six non-retail properties and four parcels of land. Company Key Performance Measures There are many factors that contribute to the successful operation of First Capital Realty’s business including rental rates, renewal rates, occupancy rates, tenant quality, availability of properties and development sites that meet the Company’s acquisition criteria, financing rates, tenant inducements, maintenance and general capital expenditure requirements, development costs and the broader economic environment. The Company quantifies the collective results of all of these factors into key measures: funds from operations and adjusted funds from operations (“FFO” and “AFFO”) per diluted share and the overall leverage level. FFO and AFFO are non-GAAP measures of operating performance which are defined and reconciled to relevant GAAP measures in the “Results of Operations” section of this MD&A. Despite the global economic crisis and the resultant impact on the Canadian economy, the Company has continued to improve its key performance measures. FFO and AFFO The Company’s AFFO and FFO have shown consistent growth, resulting primarily from growth in net operating income. This has been achieved through: (cid:129) development and redevelopment coming on line; (cid:129) active portfolio management, which ultimately results in higher occupancy and rental rates; and (cid:129) focussed and disciplined acquisitions of well-located income-producing properties. The Company has also enhanced its operating platform in order to create the efficiencies required to grow the portfolio while keeping the growth in operating costs to a minimum. FFO per diluted common share AFFO per diluted common share 2008 1.66(1) 1.46 $ $ 2007 1.60 1.41 $ $ 2006 1.58 1.36 $ $ (1) Excludes non-cash impairment losses recorded by Equity One and dilution gain on the investment in Equity One. See Definition and Reconciliation of Funds from Operations. Leverage The key leverage ratios demonstrate that the Company has continued to maintain a conservative balance sheet despite the growth in the portfolio. Management believes that this will continue to provide the Company with financial flexibility which is critical in the current challenging debt and equity markets. Debt to aggregate assets Debt to market capitalization 2008 53.6% 52.5% 2007 56.4% 48.9% 2006 55.4% 43.7% 2008 Performance Management achieved the following results, in order to obtain improvements in the key performance measures: Same property net operating income (“NOI”) growth Same property NOI growth was 3.8% for the year. This primarily resulted from an increase in portfolio occupancy and increasing rental rates on new tenants and renewals. first capital realty annual report 2008 21 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 22 Management’s Discussion and Analysis – continued Development and redevelopment activities The Company delivered 835,300 square feet of newly developed and redeveloped space that was 97.5% occupied with an average rental rate of $19.70 per square foot in 2008. Increasing efficiency and productivity of operations Corporate expenses, excluding capital taxes and non-cash compensation, as a percentage of rental revenue declined from 4.6% in 2007 to 4.0% in 2008, reflecting Management’s continued efforts in streamlining operations and improving the Company’s operating platform. Improving the cost of capital The Company’s weighted average cost of secured financing and senior unsecured debenture financing decreased to 5.92% as at December 31, 2008 compared to 6.06% as at December 31, 2007. In addition, despite the state of the debt and equity markets in 2008, the Company completed $155 million of secured financing in 2008 and $225 million in common share issuances, ensuring continued strength in its balance sheet and liquidity position. Management believes that it has met its key corporate objectives in 2008. summary consolidated information and highlights As at December 31 (thousands of dollars) Operations Information Number of properties (1) Gross leasable area (square feet) Development land pipeline, including development underway (acreage) (2) Portfolio occupancy Rate per occupied square foot Gross leasable area coming on line for the year (square feet) Same property net operating income (“NOI”) – increase over prior year Same property NOI – excluding redevelopment and expansion – increase over prior year Financial Information Gross shopping centre investments (3) Land and shopping centres under development Real estate investments, net book value Total assets Total aggregate assets (6) Mortgages, loans and credit facilities (4) Senior unsecured debentures payable (4) Convertible debentures payable (4) Shareholders’ equity Capitalization and Leverage Shares outstanding Enterprise value (5) Debt to aggregate assets (6) Debt to market capitalization (6) 22 first capital realty annual report 2008 2008 2007 2006 171 20,050,000 161 19,382,000 158 18,166,000 $ 352 96.0% 15.10 835,300 3.8% 2.1% 3,381,132 $ 281,959 $ 3,599,331 $ $ 3,720,262 $ 4,032,247 1,573,530 $ 593,288 $ $ 218,247 $ 1,095,806 90,002,581 $ 4,110,879 53.6% 52.5% $ 394 95.3% 14.56 521,400 4.9% 3.4% $ 3,061,424 $ 284,077 $ 3,303,029 $ 3,409,409 $ 3,640,233 1,471,114 $ 595,376 $ 217,030 $ 951,331 $ 79,681,929 $ 4,218,074 56.4% 48.9% $ 269 95.7% 13.95 478,900 6.3% 3.7% $ 2,689,005 $ 178,347 $ 2,943,062 $ 3,060,879 $ 3,217,273 $ 1,388,650 399,813 $ 192,189 $ 911,593 $ 75,297,908 $ 4,080,426 55.4% 43.7% FCR_Page 23.qxd:2008_First Capital 3/26/09 10:22 AM Page 23 Year ended December 31 (thousands of dollars, except per share amounts) 2008 2007 2006 Revenues and Income Revenues Net operating income (7) Corporate expenses, excluding capital taxes and non-cash compensation As a percent of rental revenue As a percent of gross total assets Net income Basic and diluted earnings per share Equity One Equity income (Cdn$) Dividends from Equity One (Cdn$) Dividends from Equity One (US$) Average exchange on dividends (US$ to Cdn$) Dividends Total dividends Per common share Dividends reinvested by shareholders (8) Funds from Operations (“FFO”) FFO FFO per diluted share Weighted average diluted shares – FFO FFO excluding Equity One’s non-cash impairment loss and dilution gain on Equity One investment (9) FFO FFO per diluted share Adjusted Funds from Operations (“AFFO)” (9) AFFO AFFO per diluted share Weighted average diluted shares – AFFO $ $ $ $ $ $ $ $ $ $ $ 419,614 259,591 16,490 4.0% 0.4% 37,430 0.43 8,716 18,193 16,809 1.08 113,116 1.28 40,331 $ $ 140,478 1.61 87,260,224 $ $ $ $ 145,083 1.66 139,876 1.46 95,586,511 $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ 382,441 242,445 17,425 4.6% 0.5% 30,353 0.39 14,375 17,617 16,756 1.05 98,688 1.26 76,316 125,356 1.60 78,427,583 125,356 1.60 $ $ 121,633 1.41 86,304,978 $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ 332,897 205,626 14,780 4.5% 0.5% 45,959 0.62 32,696 33,265 29,430 1.13 90,942 1.23 68,323 117,186 1.58 74,321,824 117,186 1.58 117,549 1.36 78,272,322 (1) Includes properties currently under development. (2) Net of partners’ interests. (3) Gross shopping centre investments is comprised of the gross book value of shopping centres, deferred costs and intangible assets less intangible liabilities. (4) December 31, 2008 and December 31, 2007 figures are presented net of unamortized financing costs. (5) Enterprise value is a non-GAAP measure and is calculated as equity market capitalization plus the book value of mortgages and credit facilities, and the principal amount of debentures and convertible debentures outstanding. (6) Calculated in accordance with the unsecured debentures indenture definitions for the period. (7) Net operating income is a non-GAAP measure of operating performance. See definition of Net Operating Income. (8) $19.6 million of dividends payable at December 31, 2007 were reinvested in January 2008. (9) FFO and AFFO are measures of operating performance that are not defined by GAAP. See Definition and Reconciliation of Funds From Operations. first capital realty annual report 2008 23 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 24 Management’s Discussion and Analysis – continued Summary Consolidated Information and Highlights The highlights of the growth and financial position of the Company are: (cid:129) Gross shopping centre investments increased by 10.4% since December 31, 2007 primarily due to development coming on line. (cid:129) Investments in land and shopping centres under development as a percentage of aggregate assets decreased to 7.0% in 2008 from 7.8% in 2007 primarily due to completed development projects transferring to income-producing. (cid:129) Development acreage pipeline, including ongoing development, decreased by 10.7% to 352 acres primarily due to completed development projects transferring to income-producing. (cid:129) Net operating income increased by 7.1% over 2007 to $259.6 million due to growth in same property NOI and the impact of acquisitions and development coming on line. (cid:129) FFO excluding Equity One’s non-cash impairment losses and dilution gain increased by 15.7% over 2007 to $145.1 million, due primarily to NOI growth. (cid:129) AFFO increased by 15.0% over 2007 to $139.9 million, due primarily to NOI growth. (cid:129) The enterprise value of the Company decreased to $4.1 billion at December 31, 2008 from $4.2 billion at December 31, 2007 due to an increase in its capital, offset by a decrease in the share price from $24.02 at December 31, 2007 to $18.97 at December 31, 2008. (cid:129) The number of common shares outstanding increased by 13.0% to 90.0 million due to various common share issuances. business and operations review Investments in Real Estate A summary of the Company’s real estate investments is set out below. (millions of dollars) December 31, 2008 December 31, 2007 Shopping centres Deferred costs Intangible assets Intangible liabilities Land and shopping centres under development Real property investments Investment in Equity One, Inc. Loans, mortgages and other real estate assets Real estate investments Gross Book Value Accumulated Amortization Net Book Value Gross Book Value Accumulated Amortization Net Book Value $ $ 3,226 126 54 (25) 282 3,663 227 32 3,922 $ $ 258 49 24 (8) — 323 — — 323 $ 2,968 77 30 (17) 282 3,340 227 32 3,599 $ $ $ 2,917 114 53 (23) 284 3,345 192 12 3,549 $ $ 199 35 17 (5) — 246 — — 246 $ 2,718 79 36 (18) 284 3,099 192 12 3,303 $ 24 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 25 The Company’s total investments in its acquisition, development and portfolio improvement activities during the last two years is summarized as follows: (millions of dollars) Gross real property investments, January 1 Acquisition of income-producing properties Acquisition of additional interests in existing properties and land parcels Acquisition of additional space and land parcels adjacent to existing properties and properties held for development Acquisition of land for development Development activities and portfolio improvements Disposition of real estate Other Gross real property investments, December 31 Gross shopping centre investments Land and shopping centres under development Gross real property investments, December 31 2008 3,345 52 2 16 6 254 (9) (3) 3,663 3,381 282 3,663 $ $ $ $ 2007 2,867 190 11 62 56 171 (7) (5) 3,345 3,061 284 3,345 $ $ $ $ The Company’s operating activities are comprised of acquisitions of income-producing properties, acquisitions of additional space and land parcels at or adjacent to existing income-producing properties, acquisitions of land sites for future development, capital improvements and leasing at the Company’s properties. These operating activities for 2008 and 2007, along with the Company’s interest in Equity One, are discussed below. Income-Producing Properties As at December 31, 2008, the Company had interests in 171 income-producing properties which were 96.0% occupied with a total GLA of 20,050,000 square feet. This compares to 95.3% occupied and 19,382,000 square feet at December 31, 2007. The level of occupancy in the portfolio is discussed in more detail under the Leasing and Occupancy section of this MD&A. 2008 Acquisitions In 2008, the Company invested $52.2 million in the acquisition of four income-producing shopping centres, comprising 292,100 square feet. Of these properties, one was anchored by a supermarket and one was anchored by a drugstore. In addition, the supermarket-anchored centre also included a drugstore as an additional anchor. These acquisitions are in and around the Company’s target urban markets and demonstrate the Company’s continuing focus on these urban markets. The acquisitions, all of which were completed on an individual basis, are summarized in the table below. Property Name City Province Quarter Acquired Supermarket- Anchored Drug Store- Anchored Gross Leasable Area (square feet) Acquisition Cost (in millions) Derry Heights Plaza Deer Valley Shopping Centre 216 Elgin Street Gorge Shopping Centre Total Milton Calgary Ottawa Victoria ON AB ON BC Q1 Q3 Q3 Q4 — ✔ — — — ✔ — ✔ 49,000 196,000 12,100 35,000 292,100 $ $ 4.1 31.6 5.9 10.6 52.2 During the year, the Company also disposed of a 26,000 square foot retail property in Regina, Saskatchewan for cash proceeds of $3.6 million, resulting in a gain of $1.6 million. first capital realty annual report 2008 25 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 26 Management’s Discussion and Analysis – continued Additional Space and Adjacent Land Parcels In 2008, the Company acquired one land site adjacent to an existing property held for development and seven land parcels at or adjacent to existing properties adding 12.5 acres of commercial land. Total expenditures on these additional interests and land parcels amounted to $16.6 million. These acquisitions are set out in the table below. Property Name Milton Land (Derry Heights Plaza) 395, 425, 435 St. Charles (Marche du Vieux Longueuil) Kanata Terry Fox (Eagleson Place) Petro Canada (Hunt Club Place) South Fraser Gate Lane (South Fraser Gate) 437 Greber (Place Nelligan) 4411 Kingston Road (Morningside Crossing) Nanaimo Conference Centre Total City Milton Longueuil Ottawa Ottawa Abbotsford Gatineau Toronto Nanaimo Province Quarter Acquired Acreage Acquisition Cost (in millions) ON QC ON ON BC QC ON BC Q1 Q1 Q1 Q1 Q1 Q2 Q3 Q3 6.19 3.29 0.01 1.50 0.01 0.78 0.31 0.36 12.45 $ $ 4.2 4.7 0.1 0.7 0.1 1.1 1.7 4.0 16.6 The Company sold four excess land parcels totalling 18.9 acres for gross proceeds of $11.0 million resulting in a total gain of $3.9 million. In addition, in 2008 the Company acquired an additional 25% interest in an existing land parcel for future development for $1.6 million in two transactions. Land Sites for Development During 2008 the Company invested $5.7 million in the acquisition of two land sites, comprising 9.5 acres of commercial land for future development, as set out in the table below. Property Name City Province Bowmanville A&P 1475 Huron Church Total Bowmanville Windsor ON ON Quarter Acquired Q1 Q1 Acreage 1.72 7.80 9.52 Acquisition Cost (in millions) $ $ 2.7 3.0 5.7 Impact of 2008 Acquisitions on Continuing Operations On an overall basis, the level of acquisitions in 2008 was significantly lower when compared to the prior three years. This reflected Management’s cautious approach and the declining spreads between capitalization rates and the cost of capital experienced beginning in the latter half of 2007 and continuing throughout 2008. Management will continue to be selective and take a highly disciplined approach to increasing the size and quality of the Company’s property portfolio, seeking acquisitions that are both operationally and financially accretive over the long term. Management looks for benefits from economies of scale and operating synergies to continue to strengthen the Company’s competitive position in its target urban markets. As well, Management seeks to enhance the tenant and geographic diversification of the portfolio. The 2008 acquisitions are in line with the Company’s business strategy based on their locations, tenancies and redevelopment or expansion opportunities. 26 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 27 2008 Development Activities Development is completed selectively, based on opportunities in the markets where the Company operates. Development activities are comprised of greenfield development of new shopping centres, redevelopment and refurbishment of existing shopping centres and expansion of space at existing shopping centres. All development activities are strategically managed to reduce risks and properties are developed after obtaining anchor lease commitments. Development of 740,800 square feet was brought on line in 2008 with 719,600 square feet leased at an average rate of $19.49 per square foot. The Company also reopened 94,500 square feet of redeveloped space at an average rate of $21.26 per square foot. Property Name City Province Square Feet Major Tenants Development of new gross leasable area (2) Morningside Crossing (1) Toronto Westmount Shopping Centre Carrefour St. Hubert (1) Brantford Mall (1) Barrymore Building (1) Centre Commercial Beaconsfield (1) Marche Du Vieux Longueuil (1) McKenzie Towne Centre (1) Shoppes On Dundas (1) Grimsby Square Shopping Centre (1) Strandherd Crossing South Fraser Gate (1) Towerlane Mall (1) Carrefour St. David (1) Other space – various properties Edmonton Longueuil Brantford Toronto Beaconsfield Longueuil Calgary Oakville Grimsby Ottawa Abbotsford Airdrie Quebec Redevelopment of existing gross leasable area Langley Crossing Shopping Centre (1) Langley Fairmount Shopping Centre Steeple Hill West (1) Westmount Shopping Centre Airdrie Village Square (1) Other space – various properties Total Calgary Pickering Edmonton Airdrie ON AB QC ON ON QC QC AB ON ON ON BC AB QC BC AB ON AB AB 116,300 87,000 78,800 67,100 51,200 50,300 39,000 29,400 28,100 26,000 20,000 17,800 17,800 14,400 97,600 740,800 19,000 18,200 18,200 17,900 8,600 12,600 94,500 835,300 Shoppers Drug Mart, Food Basics, GoodLife Fitness, LCBO Home Depot Super C, SAQ, Remax, Purina Canada Cineplex, LCBO EMI Music Canada, West Elm Metro, Royal Bank Metro GoodLife Fitness Shoeless Joe’s Shoppers Drug Mart, Marks Work Wearhouse GoodLife Fitness Shoppers Drug Mart TD Bank McDonalds Shoppers Home Health Care, Long & McQuade Sobey’s Allstate, Shoppers Drug Mart Blockbuster, Smitty’s Restaurant, Alberta Cancer Board (1) Constructed in accordance with Leadership in Energy and Environmental Design (LEED) certificate guidelines. (2) Includes new space created in redevelopment properties and greenfield developments. first capital realty annual report 2008 27 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 28 Management’s Discussion and Analysis – continued The 2008 development of 835,300 square feet compares with 521,400 square feet developed in 2007. The developed space, including redevelopment was 97.5% occupied when transferred to income-producing shopping centres at an average rental rate of $19.70 per square foot. These successfully completed development projects illustrate the potential future value of investments in ongoing development initiatives that are not yet generating income, but are expected to contribute to the growth of the Company. The Company’s development sites and properties as at December 31, 2008 are summarized as follows: Number of Sites/Properties Developable Square Feet (1) Acreage (1) (in thousands) Net Book Value (in millions) Development properties under construction Redevelopment projects underway Expansion projects underway Properties held for development Land parcels adjacent to/part of existing properties Land parcels adjacent to/part of existing properties available for expansion Other development related costs Total (1) Net of partners’ interests. 5 7 3 8 25 11 — 59 51.9 54.4 7.9 108.8 103.1 25.6 — 351.7 303.8 305.9 90.4 1,012.5 991.2 244.5 — 2,948.3 $ $ 79.3 59.3 10.8 45.7 70.2 — 16.7 282.0 As at December 31, 2008, 700,100 square feet of gross leasable area was under development, redevelopment or expansion on 114.2 acres of land sites or parcels of land adjacent to existing properties. Costs to complete these developments are estimated to be approximately $114.8 million, the majority of which will be incurred in 2009 and the first quarter of 2010. In the management of its development and expansion program, the Company utilizes dedicated internal professional staff. Direct and incremental costs of development, including applicable salaries and other direct costs of internal staff, are capitalized to the cost of the property under development. At December 31, 2008, six land sites included in properties held for development and land parcels adjacent to/part of existing properties comprising our net interest of 81.3 acres and developable square feet totalling 706,500 square feet are in the planning stage of development. In addition, the Company is actively planning future redevelopment and/or expansion at 20 additional shopping centres. 2007 Acquisitions In 2007, First Capital Realty expanded its portfolio through various acquisitions as set out below. Income-Producing Properties In 2007, the Company acquired interests in six income-producing shopping centres comprising 937,000 square feet for $190.2 million. Of these properties, five were anchored by supermarkets. In addition, one of the supermarket-anchored centres also included a drug store as an additional anchor and three of the supermarkets contained a pharmacy. The acquisitions, all of which were completed on an individual basis, are summarized in the table below. 28 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 29 Property Name City Province Quarter Acquired Supermarket- Anchored Drug Store- Anchored Gross Leasable Area (square feet) Acquisition Cost (in millions) Westmount Shopping Centre Halton Hills Village Centre d’Achats VMR Laurelwood Shopping Centre Staples Gateway Longwood Station Total Edmonton AB Halton Hills ON QC Montreal ON Waterloo AB Edmonton BC Nanaimo Q1 Q1 Q1 Q2 Q2 Q4 ✔ ✔ ✔ ✔ — ✔ 5 ✔ ✔ — ✔ — ✔ 4 463,000 104,000 132,000 92,000 40,000 106,000 937,000 $ $ 71.3 32.6 17.7 29.6 9.4 29.6 190.2 During 2007, the Company also disposed of a 126,000 square foot retail property in Ontario for cash proceeds of $6.4 million, resulting in a gain of $0.3 million. Additional Space and Adjacent Land Parcels In 2007, the Company acquired additional space at ten existing shopping centres and five land parcels at or adjacent to existing properties adding 195,000 square feet of gross leasable area and 4.7 acres of commercial land. Total expenditures on these additional interests and land parcels amounted to $62.1 million. These acquisitions are set out in the tables below. Property Name City Province Additional space at existing shopping centres Glenbrook Plaza (Richmond Square) 560 Fairway (Fairway Plaza) Pemberton II (Pemberton Plaza) Beacon Hill Plaza (Burlingwood SC) 180 W. Esplanade (Time Marketplace) Pemberton III (Pemberton Plaza) 4545-51 Kingston Road (Morningside Crossing) 558 Queenston Road (Queenston Place) 66 Bridgeport Road (Bridgeport Plaza) Westmount Village (Westmount SC) Total Calgary Kitchener North Vancouver Burlington North Vancouver North Vancouver Toronto Hamilton Waterloo Edmonton AB ON BC ON BC BC ON ON ON AB Quarter Acquired Gross Leasable Area (square feet) Acquisition Cost (in millions) Q1 Q2 Q2 Q3 Q3 Q3 Q3 Q3 Q3 Q4 55,000 13,000 5,000 20,000 9,000 5,000 15,000 8,000 11,000 54,000 195,000 $ $ 13.1 3.5 3.0 4.9 4.6 2.1 5.5 1.4 1.9 12.7 52.7 first capital realty annual report 2008 29 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 30 Management’s Discussion and Analysis – continued Property Name City Province Quarter Acquired Acreage Acquisition Cost (in millions) Land parcels at or adjacent to existing properties 70 Livingston Avenue (Grimsby Square SC) Olde Oakville Lumber Yard (Olde Oakville Market Place) 9 Nicol Street Land (Port Place SC) 72 Livingston Avenue (Grimsby Square SC) 120 Lynn Williams (Shops at King Liberty) Total Grimsby Oakville Nanaimo Grimsby Toronto ON ON BC ON ON Q2 Q2 Q3 Q4 Q4 0.15 3.50 0.40 n/a 0.61 4.66 $ $ 0.3 4.5 2.6 0.4 1.6 9.4 Additional Interest in Existing Property In 2007, the Company acquired the remaining 50% interest in an income-producing shopping centre located in Whitby, Ontario for $11.2 million, including closing costs. Land Sites for Development During 2007 the Company invested $56.2 million in the acquisition of eight land sites, comprising 85.6 acres of commercial land for future development, as set out in the table below. Property Name City Province Quarter Acquired Acreage Acquisition Cost (in millions) Pergola Land Creditview & Mayfield (1) 54-70 Plains Road West 415 St. Charles Rutherford Market Place Hunt Club Place (2) Burnhamthorpe & Trafalgar (1) Dickson Trail Crossing (3) Total (1) Acquired prior to zoning process. (2) 33% interest. (3) 70% interest. Guelph Brampton Burlington Longueuil Vaughan Ottawa Oakville Airdrie ON ON ON QC ON ON ON AB Q1 Q1 Q3 Q3 Q3 Q3 Q3 Q3 27.8 10.8 1.3 0.1 16.0 12.6 12.5 4.5 85.6 $ $ 12.2 3.4 1.8 1.7 29.7 — 4.5 2.9 56.2 30 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 31 2007 Development Activities In 2007, the Company developed 521,400 square feet of retail space as detailed below. Property Name City Province Square Feet Major Tenants Development of new gross leasable area (2) Faubourg des Prairies (1) Clairfields Common King Liberty Shoppes on Dundas (1) Morningside Crossing (1) Carrefour Charlemagne (1) Cochrane City Centre Other space – various properties QC Montreal ON Guelph ON Toronto ON Oakville ON Toronto Charlemagne QC AB Cochrane Redevelopment of existing gross leasable area Galeries Normandie Promenades Levis Harbour Front Centre (1) Credit Valley Town Plaza Langley Crossing Shopping Centre (1) Eagleson Place Westmount Shopping Centre Maple Grove Village Westney Heights Plaza (1) Carrefour du Versant Olde Oakville Market Place Towerlane Mall (1) Other space – various properties Montreal Levis Vancouver Mississauga Langley Ottawa Edmonton Oakville Ajax Gatineau Oakville Airdrie QC QC BC ON BC ON AB ON ON QC ON AB Total 53,900 51,500 40,000 28,100 24,600 22,500 24,800 6,800 252,200 79,300 24,700 19,000 17,800 17,500 16,900 14,100 10,900 8,800 8,000 7,800 7,100 37,300 269,200 521,400 IGA, Familiprix Food Basics GoodLife Fitness, Starbucks TD Canada Trust, Shoppers Drug Mart TD Canada Trust, CIBC Rousseau Sport IGA Extra, Pharmaprix, Caisse Populaire McDonald’s, Metro Expansion Petsmart Pharma Plus Shoppers Drug Mart Shoppers Drug Mart Scotia Bank, Blockbuster Pharma Plus Shoppers Home Health Care IGA Royal Bank Staples (1) Constructed in accordance with Leadership in Energy and Environmental Design (LEED) certificate guidelines. (2) Includes new space created in redevelopment properties and greenfield development. Developed gross leasable area of 521,400 square feet was 97.4% occupied at December 31, 2007, at an average rate of $19.52 per square foot. At December 31, 2007, the Company had 394 acres of land sites and parcels available for development. first capital realty annual report 2008 31 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 32 Management’s Discussion and Analysis – continued The Company’s development sites and properties as at December 31, 2007 are summarized as follows: Development properties under construction Redevelopment projects underway Expansion projects underway Properties held for development Land parcels adjacent to/part of existing properties Land parcels adjacent to/part of existing properties available for expansion Other development related costs Total (1) Net of partners’ interests. Number of Sites/Properties Developable Square Feet (1) Acreage (1) (in thousands) Net Book Value (in millions) 6 11 5 18 22 13 — 75 31.3 79.2 8.6 167.4 78.5 28.6 — 393.6 363.8 867.8 126.6 1,681.2 569.1 275.8 — 3,884.3 $ $ 57.6 56.7 21.9 95.8 41.2 — 10.9 284.1 The Company invested a total of $170.9 million in 2007 in its active development projects and in certain improvements to its existing shopping centre portfolio. Expenditures on Land and Shopping Centres under Development and Shopping Centres (thousands of dollars) Expenditures on: Deferred leasing costs Revenue sustaining Revenue enhancing Other items and adjustments Shopping centres Revenue sustaining Revenue enhancing Property repositioning Other items and adjustments Land and shopping centres under development Total 2008 2007 $ $ 2,783 1,357 (107) 4,033 9,083 11,675 1,004 460 22,222 227,775 254,030 $ $ 1,927 1,605 (103) 3,429 7,365 13,410 2,306 637 23,718 143,744 170,891 Revenue sustaining capital expenditures are expenditures required for maintaining shopping centre infrastructure and revenues from current leases. Typically, these costs average over a longer term approximately $0.50 per square foot annually for the Company. In 2008, they totalled $0.60 per square foot and in 2007 they totalled $0.49 per square foot. During 2008, the Company increased its expenditures on roof and parking lot replacements at several of its centres which will reduce its annual maintenance expenditures at these centres going forward. Revenue enhancing and repositioning are those expenditures which increase the revenue generating ability of the Company’s shopping centres. Management considers the potential effects on occupancy and future rents per square foot, development activities, the time leasable space has been vacant and other factors when assessing whether an expenditure is revenue enhancing or sustaining. 32 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 33 The Company’s active development and property improvement initiatives improve the physical structures and appearance of its shopping centres. At December 31, 2008 the age of the Company’s portfolio was as follows: 5 Years or Newer 39.4% 6–10 Years 21.8% 11–15 Years 13.4% 16–20 Years 10.3% Over 20 Years 15.1% Leasing and Occupancy Changes in the Company’s gross leasable area, occupancy and rate per occupied square foot during the year are set out below: Year ended December 31, 2008 Opening balance, January 1, 2008 Tenant openings Tenant closures Closures for redevelopment Net new leasing Developments – coming on line Redevelopments – coming on line Demolitions Dispositions Reclassification and remeasurements Portfolio activity before acquisitions Acquisitions Closing balance, December 31, 2008 Renewals Renewals – expired Total Square Feet (thousands) 19,382 — — — — 741 — (328) (26) (11) 376 292 20,050 — — Net increase per square foot from renewals % Increase on renewal of expiring rents Occupied Square Feet Under Redevelopment Square Feet Vacant Square Feet (thousands) % (thousands) % (thousands) % Rate Per Occupied Square Foot 95.3% 97.2% 98.3% 96.0% 18,463 419 (395) (206) (182) 720 94 (93) (26) (4) 509 287 19,259 1,228 (1,228) 1.9% 1.4% 363 — — 206 206 — (63) (199) — (33) (89) — 274 — — 556 (419) 396 — (23) 21 (32) (37) — 27 (44) 5 517 — — 2.8% $ 2.6% $ $ $ 14.56 18.37 (16.71) (14.00) 19.49 21.26 (14.88) (10.64) — 15.15 11.62 15.10 16.38 (14.37) 2.01 14.0% In 2008, gross new leasing totalled 1,233,000 square feet including development and redevelopment space coming on line compared to 928,000 square feet in 2007. This gross new leasing will generate additional annual minimum rent of approximately $23.7 million as compared to $17.4 million in 2007. The Company achieved a 14.0% increase on 1,228,000 square feet of renewal leases over the expiring rates which compares to 2007 renewals signed at 13.0% greater than expiring rents on 1,081,000 square feet of space. With the impact of leasing during the year in the existing portfolio and development space, new acquisitions and increases from contractual rent steps, the average rate per occupied square foot increased to $15.10 at December 31, 2008. This compares to an average rate of $14.56 per square foot at December 31, 2007. Portfolio occupancy at December 31, 2008 of 96.0% compares to 95.3% at December 31, 2007. Closures for redevelopment totalled 207,000 square feet in 2008, providing potential for future income growth through leasing and redevelopment activities. first capital realty annual report 2008 33 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 34 Management’s Discussion and Analysis – continued Equity One, Inc. (“Equity One”) Equity One is a United States REIT traded on the New York Stock Exchange (“NYSE”) under the ticker symbol EQY. Equity One is a fully integrated real estate investment trust specializing in the acquisition, asset management, development and redevelopment of quality retail properties located in strategic metropolitan areas across the United States. These centres are anchored by leading supermarkets, pharmacies and retail store chains. Information on the Company’s ownership interest in Equity One is set out below: (thousands of dollars, except per share amounts) # of Shares Owned Equity One Basic Shares Outstanding % Basic Ownership as at year-end Investment in Equity One, Inc. (Cdn$) Funds from operations from Equity One, Inc. (Cdn$) Funds from operations from Equity One, Inc. (US$) Dividends from Equity One (Cdn$) Dividends from Equity One (US$) Average exchange on dividends (US$ to Cdn$) Equity One dividends per common share (Cdn$) Equity One dividends per common share (US$) 2008 2007 14,080,069 76,198,000 18.5% 227,259 20,005 18,919 18,193 16,809 1.08 1.28 1.20 $ $ $ $ $ $ $ 13,983,569 73,300,107 19.1% 191,536 20,807 19,258 17,617 16,756 1.05 1.29 1.20 $ $ $ $ $ $ $ Equity One Property Portfolio Equity One owns or has interest in 156 properties comprising approximately 16.0 million square feet consisting of 146 shopping centres, six non-retail properties, and four projects in development/redevelopment as at December 31, 2008. The investment in Equity One provides the Company with both geographic and property rental revenue diversification in growing urban markets in the United States. Fifty-five percent of the total square footage owned by Equity One is located in Florida, with the balance of the properties in nine other states. Additionally, all of Equity One’s top ten tenants are represented by U.S.-based corporations that are distinct from the Company’s top ten tenants. Information concerning Equity One is based on publicly available information and documents filed with the U.S. Securities and Exchange Commission. Analysis of Investment in Equity One First Capital Realty’s investment in Equity One originated from an exchange of the Company’s U.S. shopping centre business for shares in Equity One in September 2001, which at the time had a book value of US$120 million. Since that time, Equity One has grown significantly, and the Company’s investment has increased with additional investments in shares. Equity One has paid dividends for 43 consecutive quarters, providing the Company with a source of stable cash income. At December 31, 2008, US$126.5 million (2007 – $120.4 million) of the outstanding debt was secured by the shares held in Equity One. Loans, mortgages and other real estate assets (thousands of dollars) Investment in units of Allied Properties Real Estate Investment Trust Investments in other marketable securities Loans receivable 2008 19,808 2,980 9,692 32,480 $ $ 2007 — 2,130 9,459 11,589 $ $ 34 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 35 The investment in Allied Properties REIT at December 31, 2008 consisted of 1,591,000 units with a cost of $16.57 per unit. As at December 31, 2008, the market value of these units was $12.45 per unit resulting in an unrealized loss of $4.12 per unit or a total of $6.6 million which has been recorded in other comprehensive income, as the investment has been classified as available-for-sale under relevant accounting rules. Subsequent to year end, the Company made further investments in Allied Properties REIT which are discussed under Subsequent Events. Management has considered whether there is an “other-than-temporary” decline in the value of the Allied Properties REIT units, given the difference between current market value and cost. An “other-than-temporary” decline would result in the loss being reclassified to net income. Management has concluded that an “other-than-temporary” decline does not exist as of December 31, 2008 due to the fact that the decline in the unit price of Allied primarily took place in a two-and-a-half month period in 2008 and therefore, the decline is not, as of December 31, 2008, considered prolonged. The Company will periodically re-evaluate whether the decline is other-than-temporary and reclassify the loss if appropriate. From time to time the Company invests in the marketable securities of other entities. Loans receivable primarily consist of loans to co-owners on development properties, which bear a weighted average interest rate of 7.1% and are secured by the co-owners interest in the property. results of operations Funds from Operations and Adjusted Funds from Operations In Management’s view, funds from operations (“FFO”) and adjusted funds from operations (“AFFO”) are commonly accepted and meaningful indicators of financial performance in the real estate industry. First Capital Realty believes that financial analysts, investors and shareholders are better served when the clear presentation of comparable period operating results generated from FFO and AFFO disclosures supplement Canadian generally accepted accounting principles (“GAAP”) disclosure. These measures are the primary methods used in analyzing real estate organizations in Canada. The Company’s method of calculating FFO and AFFO may be different from methods used by other corporations or REITs (real estate investment trusts) and, accordingly, may not be comparable to such other corporations or REITs. FFO and AFFO are presented to assist investors in analyzing the Company’s performance. FFO and AFFO: (i) do not represent cash flow from operating activities as defined by GAAP, (ii) are not indicative of cash available to fund all liquidity requirements, including payment of dividends and capital for growth and (iii) are not to be considered as alternatives to GAAP net income for the purpose of evaluating operating performance. Funds from Operations – RealPac Recommendations First Capital Realty calculates FFO in accordance with the recommendations of the Real Property Association of Canada (“RealPac”). The definition is meant to standardize the calculation and disclosure of FFO across real estate entities in Canada, modelled on the definition adopted by the National Association of Real Estate Investment Trusts (“NAREIT”) in the United States. FFO as defined by RealPac differs in two respects from the definition adopted by NAREIT. Under the RealPac definition, future income taxes are excluded from FFO, whereas under the NAREIT definition, they are included. In addition, impairment losses on depreciable assets are excluded from the RealPac FFO definition, whereas the NAREIT definition includes them. As a result, when calculating FFO, the Company adjusts the FFO reported by Equity One to comply with the RealPac definition, when appropriate. FFO is considered a meaningful additional measure of operating performance, as it excludes amortization of real estate assets. Amortization expense assumes that the value of real estate assets diminishes predictably over time, which is clearly not a valid assumption. FFO also adjusts for certain items included in GAAP net income that may not be the most appropriate determinants of the long-term operating performance of the Company including gains and losses on depreciable real estate assets. first capital realty annual report 2008 35 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 36 Management’s Discussion and Analysis – continued Funds from Operations The Company’s GAAP net income is reconciled to funds from operations below: (thousands of dollars) Net income for the year Add (deduct): Amortization of shopping centres, deferred costs and intangible assets Gain on disposition of income-producing shopping centres Equity income from Equity One Funds from operations from Equity One Future income taxes FFO Add: the Company’s share of Equity One’s non-cash impairment loss Deduct: dilution gain on Equity One investment FFO excluding Equity One’s non-cash impairment loss and dilution gain on Equity One investment The components of FFO are: (thousands of dollars, except per share amounts) Net operating income Interest expense Interest and other income Corporate expenses Funds from operations from Equity One Amortization Current income taxes FFO Add: the Company’s share of Equity One’s non-cash impairment loss Deduct: dilution gain on Equity One investment FFO excluding Equity One’s non-cash impairment loss and dilution gain on Equity One investment FFO per diluted share Add: the Company’s share of Equity One’s non-cash impairment loss Deduct: dilution gain on Equity One investment FFO per diluted share excluding Equity One’s non-cash impairment loss and dilution gain on Equity One investment Weighted average diluted shares – FFO 2008 2007 $ 37,430 $ 30,353 84,629 (1,631) (8,716) 12,502 16,264 140,478 7,503 (2,898) 77,964 (323) (14,375) 20,807 10,930 125,356 — — $ 145,083 $ 125,356 $ $ $ 2008 259,591 (113,685) 7,791 (21,577) 12,502 (2,159) (1,985) 140,478 7,503 (2,898) 145,083 1.61 0.09 (0.04) $ $ $ 2007 242,445 (116,043) 5,227 (23,544) 20,807 (1,864) (1,672) 125,356 — — 125,356 1.60 — — $ 1.66 87,260,224 $ 1.60 78,427,583 The Company’s funds from operations totalled $140.5 million or $1.61 per diluted common share for the year ended December 31, 2008. Year-to-date Equity One contributed $12.5 million to the Company’s FFO. The FFO reported by Equity One for the year ended December 31, 2008 included non-cash impairment losses on its investment in DIM Vastgoed N.V. as well as on certain development assets. The Company’s share of these losses is $7.5 million or $0.09 per diluted common share for the year. FCR has also reported a one time dilution gain on its investment in Equity One of $2.9 million. 36 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 37 Gains on land sales amounted to $3.9 million for the year ended December 31, 2008 or $0.05 per diluted share. FFO excluding the Equity One impairment losses and dilution gain for the year ended December 31, 2008 totalled $145.1 million or $1.66 per diluted common share, and increased from $125.4 million or $1.60 per diluted common share in the same period in 2007. The increase in FFO excluding the impairment losses and dilution gain year-to-date was primarily due to an increase in NOI resulting from development projects coming on line, same property NOI growth, property acquisitions, decreased interest expense and gains on land sales. The increase in per share amounts was achieved despite the increase in the basic and weighted average number of diluted common shares outstanding compared to the same prior year period. Adjusted Funds from Operations (“AFFO”) Management views AFFO as an effective measure of cash generated from operations. AFFO for the year ended 2008 totalled $139.9 million or $1.46 per diluted common share compared to $121.6 million or $1.41 per diluted common share in the prior year. AFFO is calculated by adjusting FFO for straight-line and market rent adjustments, non-cash compensation expenses, interest payable in shares, non-cash gains or losses on debt, hedges and land sales and actual costs incurred for capital expenditures and leasing costs for maintaining shopping centre infrastructure and current lease revenues. The Company’s proportionate share of Equity One FFO is excluded and only the regular cash dividends received are included in AFFO. The weighted average diluted shares outstanding for AFFO is adjusted to assume conversion of the outstanding convertible debentures. (thousands of dollars, except per share amounts) 2008 2007 FFO excluding Equity One’s non-cash impairment loss and dilution gain $ 145,083 $ 125,356 Add/(deduct): Rental revenue recorded on a straight-line basis and market rent adjustments Non-cash compensation expense Interest expense payable in shares Change in cumulative unrealized loss (gain) on marketable securities Dividend income – return of capital portion Non-cash (gain) loss on extinguishment of debt Funds from operations from Equity One excluding non-cash impairment loss Dividends from Equity One (regular) Gain on termination of hedge Gain on interest rate swaps not designated as hedges Gain on disposition of land Revenue sustaining capital expenditures and leasing costs AFFO AFFO per diluted share Weighted average diluted shares for AFFO (1) (7,627) 3,899 14,031 1,638 623 (438) (20,005) 18,193 290 — (3,945) (11,866) 139,876 1.46 95,586,511 $ $ (8,875) 4,295 13,160 — 339 483 (20,807) 17,617 — (643) — (9,292) 121,633 $ $ 1.41 86,304,978 (1) Includes the weighted average outstanding shares that would result from the conversion of the convertible debentures. For the year ended December 31, 2008, AFFO rose 15.0% to $1.46 per diluted common share from $1.41 per diluted common share in the same period in 2007 primarily due to increased net operating income from its income properties. The Company revised its definition of AFFO to include amortization of issue costs, premiums and discounts for the year ended December 31, 2008. The comparative figures presented have been restated for this change. first capital realty annual report 2008 37 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 38 Management’s Discussion and Analysis – continued A reconciliation from cash provided by operating activities (a GAAP measure) to AFFO is presented below: (thousands of dollars) Cash provided by operating activities Realized (losses) gains on sale of marketable securities Dividend income – return of capital portion Deferred leasing costs Net change in non-cash operating items (1) Settlement of restricted share units Amortization of other assets Amortization of financing fees Interest paid in excess of coupon interest on assumed mortgages Debenture interest in excess of coupon Other non-cash interest expense Convertible debenture interest paid in common shares Convertible debenture interest payable in common shares Revenue sustaining capital expenditures and leasing costs AFFO (1) A realized gain on an interest rate swap of $290,000 is included in the AFFO calculation. 2008 145,958 (212) 623 4,033 2,978 1,275 (1,305) (854) 1,436 (864) (2,466) (12,891) 14,031 (11,866) 139,876 $ $ 2007 131,408 2,504 339 3,429 (6,543) 1,826 (1,051) (813) 1,890 (696) (2,480) (12,048) 13,160 (9,292) 121,633 $ $ Net Operating Income Net operating income (“NOI”) is defined as property rental revenue less property operating costs. In Management’s opinion, net operating income is useful in analyzing the operating performance of the Company’s shopping centre portfolio. Net operating income is not a measure defined by GAAP and there is no standard definition of net operating income. As a result, net operating income may not be comparable with similar measures presented by other entities. Net operating income is not to be construed as an alternative to net income or cash flow from operating activities determined in accordance with GAAP. Net operating income increased in 2008 by $17.1 million to $259.6 million. The drivers of the increase in NOI are as follows: % increase 2.1% 3.8% (thousands of dollars) Same property NOI excluding expansion and redevelopment Expansion and redevelopment space NOI Same property NOI with expansion and redevelopment Greenfield development 2008 Acquisitions 2007 Acquisitions Rental revenue recognized on a straight-line basis Market rent adjustments Dispositions and other NOI Property rental revenue Property operating costs NOI NOI Margin 38 first capital realty annual report 2008 2008 199,040 19,457 218,497 20,047 1,376 12,653 5,374 2,253 (609) 259,591 410,192 150,601 259,591 63.3% $ $ $ $ 2007 194,902 15,499 210,401 15,973 — 7,293 6,753 2,122 (97) 242,445 376,891 134,446 242,445 64.3% $ $ $ $ FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 39 For the year ended December 31, 2008, acquisitions completed in 2008 and 2007 contributed $14.0 million to NOI, while greenfield development activities contributed a further $20.0 million. Same property NOI increased by 3.8%, generating growth in NOI of $8.1 million during the year over 2007, due primarily to redevelopment and expansion space and to increases in lease rates and occupancy. Same property NOI for the year ended December 31, 2008, excluding expansion and redevelopment space increased by $4.1 million or 2.1% over the same prior year. In the normal course of operations, the Company receives payments from tenants as compensation for the termination of leases. In 2008, the Company received lease termination payments of $0.4 million or 0.1% of total property revenues as compared to $0.7 million, or 0.2% of total property revenues in 2007. Lease termination income has been less than 1% of total property revenues over the past five years. The lease termination payments are included in same property NOI. Percentage rents in 2008 were $2.4 million compared to $2.7 million in the prior year and have decreased primarily due to conversion of percentage rent tenants to net lease tenants. Percentage rent income is typically not a significant component of lease terms on supermarket and drugstore-anchored centres. The ratio of net operating income to gross rental revenues in 2008 of 63.3% reflects the inclusion of straight-line rents and market rent adjustments of $7.6 million. Excluding these items, the NOI margin is approximately 62.6%. Similarly, the 2007 ratio of net operating income to gross property revenues of 64.3% reflects the inclusion of straight-line rent and market rent adjustment amounts of $8.9 million in NOI. Excluding these items, the NOI margin was approximately 63.5% in 2007. The margins have declined in 2008 primarily due to higher than normal snow removal and utility costs in many of the Company’s eastern region properties. Equity Income from Equity One The Company received dividends from Equity One of US$16.8 million or US$1.20 per share, in the year ended December 31, 2008 compared to US$16.8 million or US$1.20 per share in the year ended December 31, 2007. The Canadian dollar equivalent of these dividends was $18.2 million and $17.6 million, in the comparative periods of 2008 and 2007, respectively. The Company’s share of Equity One’s net earnings, adjusted to Canadian GAAP, net of a provision for future tax on the undistributed earnings of Equity One, is recorded as equity income. For the year ended December 31, 2008, equity income from Equity One decreased to $8.7 million from $14.4 million in the prior year. The decrease in the equity income is primarily due to the Company’s share of impairment losses recorded by Equity One which was US$6.9 million (Cdn$7.5 million). This was partially offset by the gain on the sale by Equity One of seven properties and one out-parcel to a joint venture in a transaction valued at approximately US$176.8 million in the second quarter of 2008. The Company’s share of Equity One’s gain was US$3.5 million (Cdn$ $4.3 million). first capital realty annual report 2008 39 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 40 Management’s Discussion and Analysis – continued Interest and Other Income (thousands of dollars) Realized (losses) gains on sale of marketable securities Change in cumulative unrealized gains on marketable securities held-for-trading Interest, dividend and distribution income from marketable securities and cash investments Dilution gain on investment in Equity One, Inc. Gain (loss) on settlement of debt Gains on disposition of shopping centres Gains on disposition of land Realized gains on interest rate swaps not designated as hedges Unrealized gains on interest rate swaps not designated as hedges Interest income from development loans Other income (expense) Total interest and other income 2008 2007 $ (212) $ 2,504 (1,638) 1,474 2,898 438 1,631 3,945 — — 539 347 9,422 $ — 1,768 — (483) 323 — 161 643 658 (24) 5,550 $ Interest and other income in 2008 included a $2.9 million dilution gain on the Company’s investment in Equity One. The dilution gain on the Company’s investment in Equity One arose as a result of the issuance of common shares by Equity One in 2008. Equity One’s number of common shares outstanding increased from 73.3 million to 76.2 million during 2008 and the Company’s ownership interest declined from 19.1% to 18.5%. Interest Expense (thousands of dollars) Mortgages, loans and credit facilities Unsecured Secured by Canadian properties Secured by investment in Equity One and other investment Senior unsecured debentures and convertible debentures Amortization of deferred financing and deferred issue costs Interest capitalized to land and shopping centres under development Total interest expense Interest Expense on Mortgages and Credit Facilities – Canada (thousands of dollars) Interest expense Interest capitalized Amortization of financing costs, premiums and discounts Change in accrued interest Total Canadian mortgage and credit facilities interest paid 40 first capital realty annual report 2008 2008 2007 $ $ $ $ 7,578 71,080 7,765 86,423 45,519 2,466 (20,723) 113,685 2008 58,612 20,723 380 (416) 79,299 $ $ $ $ 4,040 71,981 10,387 86,408 42,756 2,480 (15,601) 116,043 2007 61,342 15,601 829 73 77,845 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 41 The increase of $1.5 million in interest paid on Canadian mortgages and credit facilities in 2008 over 2007 is the result of increased borrowing by the Company to fund acquisitions and development activities in Canada. The effect of the increase in gross debt was partially offset by a decrease in the weighted average interest rate on the Company’s Canadian fixed rate mortgages, from 6.32% at December 31, 2007 to 6.21% at December 31, 2008, as rates on new financings were lower than those on existing debt. The interest capitalized to properties under development in 2008 increased over 2007 as a result of increased development activity during the year. Interest Expense on U.S. Loans and Credit Facilities (thousands of dollars) Interest expense (US$) Less amortization of financing fees Interest expense excluding amortization of financing fees (US$) Average exchange rate Interest expense (Cdn$) Less amortization of financing fees Interest expense excluding amortization of financing fees (Cdn$) Change in accrued interest Total US$ loans and credit facilities interest paid (Cdn$) 2008 7,804 (152) 7,652 1.06 8,307 (163) 8,144 845 8,989 $ $ $ $ 2007 9,985 (169) 9,816 1.07 10,710 (184) 10,526 407 10,933 $ $ $ $ Measured in U.S. currency, the interest expense on the U.S. loans and credit facilities excluding amortization of financing fees decreased by 22% in 2008 from 2007 as a result of a lower average interest rate. The Company uses U.S. dollar-denominated debt to finance its U.S. dollar investments. Interest on Senior Unsecured Debentures (thousands of dollars) Interest expense on senior unsecured debentures Amortization of financing costs, premiums and discounts Change in accrued interest Cash interest paid 2008 32,736 (898) 57 31,895 $ $ The increase in interest expense from Senior Unsecured Debentures is due to the following debt issuances: Series E F Date of Issue January 31, 2007 April 5, 2007 Interest on Convertible Debentures (thousands of dollars) Interest expense on convertible debentures Amortization of financing costs, premiums and discounts Change in accrued interest Less interest paid in common shares of the Company Cash interest paid Par Value $100 million $100 million 2008 14,030 (1,213) 74 (12,891) — $ $ 2007 30,831 (801) (2,989) 27,041 Coupon Rate 5.36% 5.32% 2007 13,160 (1,130) 18 (12,048) — $ $ $ $ first capital realty annual report 2008 41 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 42 Management’s Discussion and Analysis – continued The increase in convertible debenture interest expense is due to the interest on the $50 million of par value 5.50% convertible unsecured subordinated debentures issued on June 29, 2007 partially offset by 2007 conversions of $17 million of the principal amount to common shares of the Company by holders. Corporate Expenses (thousands of dollars) Salaries, wages and benefits Non-cash compensation Other general and administrative costs Capital taxes, net of recoveries from tenants Abandoned transaction costs Amounts capitalized to properties under development and deferred leasing costs (thousands of dollars) Corporate expenses, excluding capital taxes and non-cash compensation As a percent of rental revenue As a percent of gross total assets $ $ $ 2008 16,970 3,899 7,254 1,188 1,133 (8,867) 21,577 2008 16,490 4.0% 0.4% $ $ $ 2007 15,996 4,295 7,119 1,824 3,365 (9,055) 23,544 2007 17,425 4.6% 0.5% Salaries, wages and benefits along with staffing levels have increased in response to portfolio growth and the general employment environment in the real estate industry and the markets where the Company operates. Non-cash compensation is recognized over the respective vesting periods for options, restricted share units and deferred share units. These items are considered part of the total compensation for directors, senior management, other team members and select service providers to the Company. Corporate expenses include $1.2 million of costs incurred in the second quarter of 2007 in respect of the Company’s unsuccessful takeover bid to acquire the outstanding shares of Sterling Centrecorp Inc. The Company incurred $1.1 million of property acquisition costs for acquisitions that were not determined to be feasible during the year ended December 31, 2008, which compares to $2.2 million in the same period in 2007. The Company manages all of its acquisitions, development and redevelopment and leasing activities internally. Certain internal costs directly related to development and initial leasing of the properties, including salaries and related costs, are capitalized in accordance with GAAP to land and shopping centres under development, as incurred. Certain costs associated with the Company’s internal leasing staff are capitalized to deferred leasing costs and amortized over the lives of the related leases. Amounts capitalized to real estate investments for properties undergoing development or redevelopment and leasing costs (including leasing for development projects) during the year ended December 31, 2008 totalled $8.9 million compared to $9.1 million in the prior year comparative period. Amounts capitalized are based on specific leasing activities and development projects underway. The decrease in capitalized costs in 2008 compared to 2007 is due to gross corporate expenses being lower in 2008. 42 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 43 Amortization Expense (thousands of dollars) Shopping centres Deferred costs Intangible assets Amortization of real estate assets Deferred financing fees Other assets Total amortization 2008 60,253 16,593 7,783 84,629 854 1,305 86,788 $ $ 2007 55,118 14,629 8,217 77,964 813 1,051 79,828 $ $ Amortization of real estate assets increased due to the amortization of newly acquired properties and development coming on line. Income Taxes (thousands of dollars) Current income taxes Future income taxes Income taxes 2008 1,985 16,264 18,249 $ $ 2007 1,672 10,930 12,602 $ $ The total income tax expense has increased compared to 2007 primarily due to an increase in net income before taxes. Net Income (thousands of dollars, except per share amounts) Net income Earnings per share (diluted) Weighted average common shares – diluted 2008 2007 37,430 $ 0.43 $ 87,260,224 $ $ 30,353 0.39 78,427,583 Net income for the year ended December 31, 2008 was $37.4 million or $0.43 per share (basic and diluted) compared to $30.4 million or $0.39 per share (basic and diluted) for the year ended December 31, 2007. The increase in net income is primarily due to an increase in NOI resulting from development projects coming on line, same property NOI growth, acquisitions, decreased interest, gains on the sale of land offset by increased amortization expense and decreased income from Equity One. In addition, there was an increase in the basic and weighted average diluted shares outstanding compared to the same prior year period. first capital realty annual report 2008 43 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 44 Management’s Discussion and Analysis – continued capital structure and liquidity Capital Employed (thousands of dollars) Equity capitalization (end of period) Common stock outstanding Diluted common stock (1) Mortgages, loans and credit facilities Senior unsecured debentures (principal amount) Convertible debentures (principal amount) Equity market capitalization Total capital employed Debt to aggregate assets (2) Debt to total market capitalization (2) Weighted average interest rate on fixed rate debt and senior unsecured debentures Weighted average maturity on mortgages, credit facilities and senior unsecured debentures (years) (1) Includes effect of all dilutive securities except convertible debentures. (2) Calculated in accordance with the unsecured debentures indenture definitions for the period. 2008 2007 90,002,581 90,549,743 $ 1,573,530 597,000 233,000 1,707,349 $ 4,110,879 53.6% 52.5% 5.92% 5.2 $ 79,681,929 80,468,397 1,471,114 600,000 233,000 1,913,960 $ 4,218,074 56.4% 48.9% 6.06% 4.8 The real estate business is capital-intensive by nature. The Company’s capital structure is key to financing growth and providing sustainable cash dividends to shareholders. In the real estate industry, financial leverage is used to enhance rates of return on invested capital. Management believes that First Capital Realty’s blend of debt, convertible debentures and equity in its capital base provides stability and reduces risks, while generating an acceptable return on investment, taking into account the long-term business strategy of the Company. In 2007, the Dominion Bond Rating Service Ltd. (“DBRS”) provided First Capital Realty with a credit rating upgrade to BBB with a stable trend from the previous rating of BBB (low) with a stable trend relating to the senior unsecured debentures. A credit rating in the BBB category is generally an indication of adequate credit quality as defined by DBRS. In 2006, Moody’s Investor Services, Inc. (“Moody’s”) provided First Capital Realty with a credit rating of Baa3, with a stable outlook relating to the senior unsecured debentures. As defined by Moody’s, a credit rating of Baa3 denotes that these debentures are subject to moderate credit risk and are of medium grade and, as such, may possess certain speculative characteristics. A rating outlook, expressed as positive, stable, negative or developing, provides the respective rating agencies’ opinion regarding the outlook for the rating in question over the medium term. DBRS and Moodys have provided updates in 2008 at these same investment grade ratings. The credit ratings assigned are not recommendations to purchase, hold or sell these debentures. There can be no assurance that any rating will remain in effect for any given period of time or that any rating will not be withdrawn or revised by either or both Moodys or DBRS at any time. Since the latter half of 2007 and throughout 2008, the unsecured credit markets have been severely constrained. Consequently, Management has shifted the Company’s financing strategy to focus on traditional sources of secured financing. The Company’s substantial pool of unencumbered assets and strong balance sheet have enabled the Company to access the secured financing markets. Within the mortgage financing market, conditions are challenging as well, with spreads widening significantly, and the conduit market effectively closing down. The Company completed $154.7 million of secured financing on eight properties in 2008 at a weighted average rate of 5.54% and a weighted average term of 7.46 years. The increased spreads were largely offset by decreases in the underlying Government of Canada bond reference yields to date. In addition, the Company raised $225 million through the issuance of common stock in 2008. 44 first capital realty annual report 2008 FCR_Page 45.qxd:2008_First Capital 3/26/09 10:23 AM Page 45 For the time being, the Company will continue to use its substantial pool of unencumbered assets to raise secured financing to fund its growth. Where it is deemed appropriate, the Company will use its equity as a source of financing and may strategically sell non-core assets to make better use of the capital. Consolidated Debt and Principal Amortization Maturity Profile (thousands of dollars) 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 $ Mortgages 91,700 141,718 91,880 135,935 179,099 218,555 180,087 42,843 7,260 88,679 33,645 Cdn Credit(1) Facilities Senior(2) Unsecured Debentures U.S. Loans and Credit Facilities Total % Due $ — 209,190 — — — — — — — — — $ — — 200,000 100,000 97,000 200,000 — — — — — $ 8,222 136,476 9,348 — — — — — — — — $ 99,922 487,384 301,228 235,935 276,099 418,555 180,087 42,843 7,260 88,679 33,645 4.6% 22.4% 13.9% 10.9% 12.7% 19.3% 8.3% 2.0% 0.3% 4.1% 1.5% Thereafter Add: unamortized deferred financing costs and premiums and discounts, net — $ 209,190 (1) Subsequent to year end, the Company refinanced the Canadian unsecured credit facility with a new secured facility expiring in 2012, which is further described under “Events Subsequent to December 31, 2008”. This refinancing, along with other financing initiatives completed or underway in 2009, address the majority of 2009 and 2010 debt maturities. — 100.0% (833) $ 1,210,568 (4,819) $ 2,166,818 (3,712) $ 593,288 (274) $ 153,772 (2) The covenants on the unsecured debentures include the requirement for unencumbered assets totalling 1.30 times the gross book value of the outstanding debentures. This pool of unencumbered assets provides the Company with financing flexibilities on maturity on retirement of the debentures. Mortgages, Loans and Credit Facilities As at December 31, 2008, mortgages, loans and credit facilities increased primarily due to financing of acquisitions of shopping centres and development activities during the year. (thousands of dollars) (1) Fixed rate mortgages Secured term loans Floating rate hedged (with interest rate swaps) Floating rate Secured revolving credit facilities Floating rate Unsecured revolving credit facilities Floating rate hedged (with interest rate swaps) Floating rate Canada $ 1,210,568 $ — — — 2008 U.S. — 60,764 62,558 30,450 50,000 134,586 $ 1,395,154 — 24,604 $ 178,376 50,000 159,190 $ 1,573,530 Total 2007 Total $ 1,210,568 $ 1,145,828 60,764 62,558 30,450 39,536 88,440 — — 197,310 $ 1,471,114 (1) Amounts are presented net of financing costs and premiums and discounts. first capital realty annual report 2008 45 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 46 Management’s Discussion and Analysis – continued The changes in the book value of the Company’s debt during the year ended December 31, 2008 are set out below: (thousands of dollars) Balance, December 31, 2007 Additional borrowings, net of issue costs Repayments Principal instalment payments Assumption of mortgages and vendor take-back mortgages Effects of US dollar exchange rate and other changes (1) Balance, December 31, 2008 Fixed Rate Mortgages Weighted Secured Term Weighted Average Loans and Interest Credit Rate Facilities Average Interest Rate Unsecured Revolving Credit Facilities Weighted Average Interest Rate Total $ 1,145,828 153,220 (63,936) (30,938) 6.32% $ 127,976 59,284 (55,321) (7,201) 6.33% $ 197,310 340,204 (333,016) — 6.05% $ 1,471,114 552,708 (452,273) (38,139) 6,874 — — 6,874 (480) $ 1,210,568 29,034 6.21% $ 153,772 4,692 5.31% $ 209,190 33,246 2.96% $ 1,573,530 (1) Includes amortization of issue costs, premiums and discounts. At December 31, 2008, 76.9% (2007 – 77.9%) of the outstanding mortgage, loan and credit facility liabilities bore interest at fixed interest rates. The fixed mortgage rates provide an effective matching for rental income from leases, which typically have fixed terms ranging from five to ten years, and incremental contractual rent steps during the term of the lease. In Canada, the Company had fixed rate mortgages outstanding, as at December 31, 2008, in the aggregate amount of $1.211 billion as compared to $1.146 billion at the end of 2007. The increase in the outstanding balance is the net result of $160 million in new financings primarily from financing assumed on acquisitions, top-up financing on existing properties with mortgages and four new mortgages offset by $95 million in principal amortization and repayments. The average remaining term of the mortgages outstanding has declined from 5.6 years at December 31, 2007 to 5.2 years at December 31, 2008. This decrease is due primarily to the passage of time somewhat offset by the average term of the new mortgages. Mortgage financing totalling $154.7 million was completed in 2008 with a weighted average rate of 5.54% and a weighted average term to maturity of 7.46 years. The Company’s unsecured revolving facility for $250 million was completed in March 2007 with a syndicate of six financial institutions. In October 2007 the Company completed an expansion of this facility to $350 million with a seventh bank joining the syndicate. The facility has a term to March 2010. The Company has the flexibility under its unsecured credit facility to draw funds based on bank prime rates, bankers’ acceptances, LIBOR based advances or U.S. prime for U.S. dollar-denominated borrowings or Euro dollars. The bankers’ acceptances plus 110 basis points generally provide the Company with the least costly means of borrowing under this credit facility. The credit facility is being used primarily to finance acquisition, development and redevelopment activities and for general corporate purposes. This credit facility was refinanced subsequent to December 31, 2008. See the “Events Subsequent to December 31, 2008” section. The U.S. dollar-denominated term loans and revolving credit facilities totalling Cdn$178.4 million are used to finance the Company’s investment in Equity One and other investments and to reduce the Company’s exposure to fluctuations in foreign currency exchange rates. The debt service requirements of these term loans and revolving credit facilities are funded by the cash flow generated by the dividends from Equity One. The outstanding U.S. loans and credit facilities decreased from US$148.5 million at December 31, 2007 to US$146.7 million at December 31, 2008. The Company is in discussions with the primary U.S. lender and fully expects to refinance and extend the term of this debt from the current maturity date of July 2009 (extendible at the Company’s option to June 2010). The Company also has a US$25 million revolving term credit facility with a U.S. financial institution. Draws under the facility bear interest at LIBOR plus 145 basis points. The revolving term facility matures in June 2010. 46 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 47 Mortgage Amortization Maturity Profile (thousands of dollars) 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Thereafter Total Scheduled Amortization $ 31,223 30,530 29,208 27,150 23,910 17,759 9,999 6,303 5,920 3,626 7,905 $ 193,533 Payments on Maturity $ 60,477 111,188 62,672 108,785 155,189 200,796 170,088 36,540 1,340 85,053 25,740 $ 1,017,868 Total $ 91,700 141,718 91,880 135,935 179,099 218,555 180,087 42,843 7,260 88,679 33,645 $ 1,211,401 Weighted Average Interest Rate Remaining Term 5.64% 6.26% 7.17% 6.96% 6.34% 6.33% 5.40% 5.44% 5.54% 6.20% 6.58% 6.21% 5.2 The Company’s strategy is to manage its long-term debt by staggering maturity dates in order to mitigate short-term volatility in the debt markets. At December 31, 2008, the Company had mortgages aggregating $91.7 million coming due in 2009. Maturing amounts are comprised of $60.5 million of mortgages at an average interest rate of 5.64% and $31.2 million of scheduled amortization of principal balances. Subsequent to December 31, 2008, $27.2 million of the mortgages were paid out on maturity. New mortgages totalling $64.0 million were also subsequently completed as outlined in the “Events Subsequent to December 31, 2008” section. $8.2 million of U.S. term loans principal amortization is also payable in 2009. The Company has interest rate swaps which it uses to reduce exposure to floating interest rates. The changes in fair value are recorded in other comprehensive income as the hedges are considered to be effective. The fair value of the interest rate swaps has decreased significantly during 2008 due to decreases in prevailing LIBOR and B.A. rates. These swaps are set out in the table below: Type B.A. – 30 day LIBOR – 3 month Weighted Average Fixed Rate Currency Notional Amount (thousands) Weighted Average Maturity (years) Fair Value Cdn$ (millions) 4.27% 4.54% Cdn US $ 50,000 $ 50,000 9.4 6.7 $ $ (8.7) (9.0) first capital realty annual report 2008 47 FCR_Page 48.qxd:2008_First Capital 3/26/09 10:24 AM Page 48 Management’s Discussion and Analysis – continued A breakdown of mortgage maturities by type of lender is set out below. 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Thereafter Total Payments Due On Maturity (thousands) $ 60,477 111,188 62,672 108,785 155,189 200,796 170,088 36,540 1,340 85,053 25,740 $ 1,017,868 Percent with Banks 8.2% 15.8% 8.8% 1.8% 3.7% — — — 100.0% — — 3.6% Percent with Conduits 42.0% 14.5% 67.1% 71.3% 45.3% 53.7% 46.6% 15.4% — — — 41.7% Percent with Insurance Co’s and Pension Funds 49.8% 69.7% 24.1% 26.9% 51.0% 46.3% 53.4% 84.6% —% 100.0% 100.0% 54.7% Senior Unsecured Debentures Senior Unsecured Debentures Maturity (thousands of dollars) Series A Series B Series C Series D Series E Series F Total 2011 2012 2013 2014 Coupon interest rate Effective interest rate Remaining term to maturity (years) Convertible Debentures (thousands of dollars) Interest Rate Coupon Effective 5.50% 6.45% 5.50% 6.39% 5.50% 6.61% 5.50% 6.46% $ — $ 100,000 — — — 5.25% 5.51% 100,000 — — 5.08% 5.29% $ 100,000 — — — 5.49% 5.67% $ — $ — 97,000 — 5.34% 5.51% — $ — — 100,000 5.36% 5.52% — $ 200,000 — $ 100,000 — $ 97,000 $ 200,000 5.31% 5.50% 100,000 5.32% 5.47% 3.5 2.2 2.9 4.3 5.1 5.8 4.0 2008 2007 Principal Liability Equity Principal Liability Equity $ 83,000 100,000 50,000 $ 233,000 $ 77,797 94,084 46,366 $ 218,247 $ $ 2,503 6,015 7,387 15,905 $ 83,000 100,000 50,000 $ 233,000 $ 77,369 93,593 46,068 $ 217,030 $ $ 2,503 6,015 7,387 15,905 48 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 49 On June 29, 2007, the Company issued, via private placement, an additional $50 million principal amount of 5.50% convertible unsecured subordinated debentures maturing on September 30, 2017 at a price of $107 per $100 principal amount for total proceeds of $53.5 million. Gazit Canada Inc., the Company’s largest shareholder, acquired $49 million of the principal amount of these debentures on the same terms as the other investors. These debentures are in addition to and part of the total $200 million of convertible debentures issued on December 19, 2005 and November 30, 2006. The 5.50% debentures are due September 30, 2017 and require interest payable semi-annually on March 31 and September 30. Holders of the 5.50% debentures have the right to convert them into common shares at a share price of $27.00 through to December 31, 2011 and $28.00 thereafter, to maturity. The Company can redeem the 5.50% debentures on or after December 31, 2009, but prior to January 1, 2012, provided the average trading price of the common shares for the 20 consecutive trading days ending five days prior to the redemption or maturity date is at 125% of the conversion price. The Company can redeem the 5.50% debentures after January 1, 2012, but prior to maturity, at a price equal to the principal plus accrued interest. The Company has the option of repaying the 5.50% debentures on redemption by way of the issuance of common shares at 97% of a weighted average trading price of the Company’s common stock. The Company also has the option of paying the semi-annual interest through the issue of common shares. It is the current intention of the Company to satisfy its obligations to pay principal and interest on its 5.50% convertible unsecured subordinated debentures by issuing common shares. In 2008, 600,661 common shares (2007 – 467,057) were issued to pay interest to holders of convertible debentures. Shareholders’ Equity Shareholders’ equity amounted to $1,096 million as at December 31, 2008, as compared to $951 million at the end of 2007. Shareholders’ equity as at December 31, 2008 included $15.9 million (2007 – $15.9 million) representing the equity component of convertible debentures. As at December 31, 2008, the Company had 90,002,581 (2007 – 79,681,929) issued and outstanding common shares with a stated capital of $1.5 billion (2007 – $1.2 billion). During fiscal 2008, a total of 10,320,652 common shares were issued as follows: 600,661 shares for interest payments on convertible debentures; 222,984 shares from the exercise of common share options and warrants; 71,959 shares from a private placement; 6,740,000 shares from public offerings and 2,685,048 common shares under the Company’s dividend reinvestment plan (“DRIP”). The Company adopted a “DRIP” in May 2005 enabling Shareholders who qualified to elect to participate in the DRIP, to reinvest in additional common shares at a discount of 2% of the weighted average trading price of the common shares on the TSX for the five consecutive trading days preceding the dividend payment date. Since its inception, the quarterly participation rate in the DRIP averaged 76%. On August 7, 2008, the Company announced that it was suspending the DRIP. Accordingly, any dividend payable to shareholders subsequent to that date, is not subject to the DRIP. The suspension is in effect unless and until further notice is given. The Company may consider from time to time reinstating the DRIP. Shareholders’ equity as at December 31, 2008 included accumulated other comprehensive losses of $33.8 million (2007 – $26.0 million), which primarily consisted of an unrealized currency translation adjustment in the amount of $12.8 million (2007 – $24.1 million) and the accumulated losses on cash flow hedges of interest rates of $12.2 million (2007 – $0.5 million). The accumulated unrealized currency translation adjustment represents the difference between the U.S. dollar exchange rate in effect at the date of the acquisition of the Company’s U.S. net assets, and the U.S. dollar exchange rate as at December 31, 2008 and 2007, respectively. The U.S. dollar exchange rate in effect at December 31, 2008 increased to US$1.00 = Cdn$1.22 from the exchange rate at December 31, 2007 of US$1.00 = Cdn$0.99. The impact of the increase in the foreign exchange rate on the net assets held in the United States resulted in a $11.3 million change in the unrealized currency translation adjustment. Shareholders’ equity as at December 31, 2008 included a deficit of $380.1 million (2007 – $304.4 million). The Company has historically paid dividends at levels consistent with general industry practice based on cash flow from operations as opposed to net income. first capital realty annual report 2008 49 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 50 Management’s Discussion and Analysis – continued Share Purchase Options As of December 31, 2008, the Company issued and had outstanding 2,958,631 share purchase options, with an average exercise price of $23.94. The options are exercisable by the holder at any time after vesting up to ten years from the date of grant. The options have been issued at various times pursuant to the Company’s stock option plan to the employees, officers and directors of the Company and certain third-party service providers. The options granted permit the holder to acquire shares at an exercise price equal to the market price of such shares at the date the option is granted. The purpose of granting options is to encourage the holder to acquire an ownership interest in the Company over a period of time which acts as a financial incentive for the holder to consider the long-term interests of the Company and its shareholders. If all options outstanding at December 31, 2008 were exercised, 2,958,631 shares would be issued and the Company would receive proceeds of approximately $71 million. This includes 2,635,431 options that were out of the money at December 31, 2008. Liquidity (thousands of dollars) Revolving credit facilities Approved Available Cash drawn Unencumbered assets available as defined by debt covenants Other unencumbered real estate assets including properties under development EBITDA EBITDA margin (1) EBITDA interest coverage (1) EBITDA interest coverage excluding capitalized interest on development (1) 2008 2007 350,000 $ $ 350,000 $ 209,000 $ 1,482,000 $ $ 236,000 259,821 60.7% 2.20 2.66 350,000 $ 300,000 $ 197,000 $ $ 1,185,000 $ $ 246,000 241,068 60.7% 2.07 2.39 (1) Calculated, on a trailing basis, in accordance with the unsecured debentures indenture definitions for the period, excluding non-cash compensation. Cash flow from operations is dependent on occupancy levels of properties, rental rates achieved, collections of rent and costs to maintain or lease space. The Company’s strategy is to maintain debt in the range of 45% to 60% to market capitalization. At December 31, 2008, this debt ratio was 52.5% based on the Company’s calculation. Maturing debt is generally repaid from proceeds refinancing such debt, primarily in the current credit markets by financing unencumbered properties and when available at an acceptable cost, issuing convertible debentures or senior unsecured debentures. Cash and cash equivalents were $7.3 million at December 31, 2008 (2007 – $10.5 million). At December 31, 2008 the Company had undrawn credit facilities totalling $141 million and had approved credit facilities totalling $350 million. The Company also had unencumbered assets with a gross book value of approximately $1.7 billion. Management believes that it has sufficient resources to meet its operational and investing requirements in the near and longer term. Subsequent to year end, the Company refinanced its $350 million unsecured credit facility expiring in 2010 with a $450 million secured revolving credit facility expiring in 2012, which is detailed under “Events Subsequent to December 31, 2008”. The Company historically used secured mortgages, term loans and revolving credit facilities, senior unsecured debentures, convertible debentures and equity issues to finance its growth. The actual level and type of future borrowings will be determined based on prevailing interest rates, various costs of debt and equity capital, capital market conditions and Management’s general view of the required leverage in the business. 50 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 51 Cash Flows (thousands of dollars) Cash provided by operating activities Cash used in investing activities Cash provided by financing activities Effect of currency rate movement (Decrease) increase in cash and cash equivalents 2008 2007 $ $ 145,958 (309,718) 160,238 334 (3,188) $ $ 131,408 (443,771) 316,979 (975) 3,641 Operating Activities The increase in cash provided by operating activities reflects the overall increase in cash flow generated by the growth in the income-producing shopping centre portfolio from acquisitions and development. Investing Activities The Company continued to make significant investments in its shopping centre portfolio. The overall level of investing activity in 2008 is lower than the prior year. Details of the Company’s investments in acquisitions and developments are provided under “Business and Operations Review”. Financing Activities The overall level of financing activity in 2008 is also lower than the prior year as a result of the lower level of acquisition activity in 2008. Contractual Obligations (thousands of dollars) Mortgages Scheduled amortization Payments on maturity Total mortgage obligations Canadian revolving credit facilities U.S. term loans U.S. revolving credit facilities Senior unsecured debentures Land leases Estimated costs to complete current development and redevelopment projects Total contractual obligations Total Less than 1 Year 1–3 Years 3–5 Years More than 5 Years Payments Due by Period $ 193,533 1,017,868 1,211,401 209,190 123,596 30,450 597,000 18,389 114,790 $ 2,304,816 $ 31,223 60,477 91,700 — 8,222 — — 801 86,694 187,417 $ $ 59,738 173,860 233,598 209,190 115,374 30,450 200,000 1,602 28,096 $ 818,310 $ 51,060 263,974 315,034 — — — 197,000 1,607 $ 51,512 519,557 571,069 — — — 200,000 14,379 — $ 513,641 — $ 785,448 first capital realty annual report 2008 51 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 52 Management’s Discussion and Analysis – continued In addition, the Company has $20.0 million of outstanding letters of credit that have been issued by financial institutions primarily to support certain of the Company’s obligations related to its development projects. The Company’s estimated costs to complete projects currently under development are $114.8 million. These contractual and potential obligations primarily consist of construction contracts and additional planned development expenditures and are expected to be funded from credit facilities as work is completed. The Company is liable for minimum land-lease payments of $0.8 million on certain of its properties in each year from 2009 to 2013 and $14.4 million thereafter. Total minimum land-lease payments are $18.4 million. The leases expire between 2022 and 2052. Contingencies The Company is involved in litigation and claims which arise from time to time in the normal course of business. In the opinion of Management, none of these, individually or in aggregate, would result in a liability that would have a significant adverse effect on the financial position of the Company. On October 16, 2006, First Capital Realty and First Capital (Royal Oak) Corporation (a wholly-owned nominee subsidiary of First Capital Realty) were named as defendants in a lawsuit commenced by Rencor Developments Inc. and Rencor Developments (Royal Oak) Inc. (collectively, “Rencor”). First Capital Realty and Rencor are joint-venture partners in the Royal Oak Shopping Centre located in Calgary, Alberta, in which First Capital Realty owns a 60% undivided interest and Rencor owns the remaining 40% undivided interest. The Statement of Claim seeks damages for alleged breaches by First Capital Realty of certain agreements relating to the ownership and operation of the Royal Oak Shopping Centre. First Capital Realty believes the lawsuit to be frivolous and without merit and intends to vigorously defend against the allegations made in the Statement of Claim. Accordingly, as of December 31, 2008, First Capital Realty has not recorded any loss provision with respect to this claim in its financial statements. Regardless of the merits of the claim by Rencor, one of the consequences of this lawsuit is that First Capital Realty will not, pending resolution of the lawsuit, be able to exercise its contractual option to acquire the 40% interest in the Royal Oak Shopping Centre that First Capital Realty does not currently own. This option is on financial terms that are favourable to First Capital Realty (a capitalization rate of 9.5%), and was expected to be exercised by First Capital Realty in January of 2007. The exercise by First Capital Realty of this contractual option in January 2007 was expected to contribute approximately $900,000 annually to First Capital Realty’s FFO in 2007 and each year thereafter. The Company is contingently liable, jointly and severally, for approximately $45.6 million (2007 – $46.7 million) to various lenders in connection with loans advanced to its joint-venture partners secured by the partners’ interest in the co-ownerships. Dividends The Company has maintained a policy of paying regular quarterly dividends to common shareholders since it commenced operations as a public company in 1994. Dividends are set taking into consideration the Company’s capital requirements, its alternative sources of capital and common industry cash distribution practices. In 2008, the Company paid regular dividends of $1.28 per common share (2007 – $1.26 per common share). The regular dividend payout ratio calculated as a percentage of Funds from Operations excluding Equity One’s non-cash impairment loss and dilution gain on Equity One investment per share was approximately 77% in 2008 compared to approximately 79% in 2007. The regular dividend payout ratio calculated as a percentage of Adjusted Funds from Operations was approximately 88% in 2008 compared to approximately 89% in 2007. The Company is currently paying a quarterly dividend of $0.32 per common share. Dividends declared totalled $112.6 million for the four quarters of 2008, of which $40.3 million were reinvested by shareholders pursuant to the DRIP, in common shares. 52 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 53 international financial reporting standards (“ifrs”) The Company’s major shareholder reports certain financial information under IFRS. The most significant difference between IFRS and Canadian generally accepted accounting principles (“Canadian GAAP”) for this purpose is that income-producing shopping centres (“Shopping Centres”) are presented at fair value under IFRS as opposed to cost less accumulated amortization under Canadian GAAP. In addition, the values of deferred costs, straight-line rents receivable and intangible assets and liabilities related to Shopping Centres are not presented separately under IFRS as their values are incorporated within the values of the Shopping Centres. Land and shopping centres under development (“Development Properties”) are presented at cost under both IFRS and Canadian GAAP. In addition, First Capital Realty’s future income tax liability increases as a result of the change in value of the Shopping Centres under IFRS. This information is set out in the table below: (millions of dollars) IFRS value of Shopping Centres and Development Properties Canadian GAAP value of Shopping Centres and Development Properties (1) Difference between IFRS value and Canadian GAAP value Increase in future income taxes as a result of the difference in value Difference in value, net of taxes 2008 3,918 3,366 552 (98) 454 $ $ 2007 4,012 3,121 891 (159) 732 $ $ (1) Includes the net book value of Shopping Centres, Development Properties, deferred costs, straight-line rents receivable and intangible assets and liabilities. At December 31, 2008 approximately 62% (December 31, 2007 – 97%) of the total fair value was determined through independent appraisals conducted by a nationally recognized appraisal firm. The Shopping Centres were appraised on an individual basis, with no portfolio effect considered. The remainder of the properties were appraised internally by Management. The appraisals were prepared to comply with the fair value model described in the IAS 40 – Investment Property and the International Valuation Standard. The determination of which properties are externally appraised and which are internally appraised by Management is based on a combination of factors, including: property size, the level of redevelopment and leasing activity, local market conditions as well as ensuring that there is a representative sample of properties from each market in which the Company operates. In addition, Management ensures that each property in the portfolio is externally appraised at least once every three years. The properties appraised by Management in 2008 consisted primarily of stable properties with high occupancy rates, as well as the smallest properties in the portfolio. In completing the internal appraisals, Management used capitalization rate information obtained from the appraisals completed by the external appraisers for comparable properties in the same markets. In addition, for the properties internally appraised, Management used the last external appraisal completed for the property (either at June 30, 2008 or September 30, 2008), and made updates based upon material leasing activity and material changes in local market conditions. The primary method of appraisal was the income approach, since purchasers typically focus on expected income. For each property, the appraisers conducted and placed reliance upon a) a direct capitalization method, which is the appraiser’s estimate of the relationship between value and stabilized income, normally in the first year and b) a discounted cash flow method, which is the appraiser’s estimate of the present value of future cash flows over a specified horizon, including the potential proceeds from a deemed disposition. The determination of these values required Management and the appraisers to make estimates and assumptions that affect the values presented, and actual values in a sales transaction may differ from the values shown above. Based on these valuation methods, the aggregate weighted average stabilized capitalization rates on the Shopping Centres as at December 31, 2008 and 2007 were 7.38% and 6.56%, respectively. first capital realty annual report 2008 53 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 54 Management’s Discussion and Analysis – continued quarterly financial information (thousands of dollars, except per share and other data) Property rental revenue Property operating costs Net operating income Equity income (loss) from Equity One Net income Basic earnings per share Diluted earnings per share Weighted average diluted shares outstanding – EPS Funds from operations Funds from operations/ share diluted Weighted average diluted shares outstanding – FFO Dividend Total assets Total mortgages, loans and credit facilities Shareholders’ equity Other Data Number of properties Gross leasable area Occupancy % 2008 2007 Q4 Q3 Q2 Q1 Q4 Q3 Q2 Q1 105,695 100,830 101,905 101,762 96,643 96,192 93,547 90,509 38,163 67,532 1,405 10,652 $ 0.12 $ 0.12 35,752 65,078 (1,506) 8,249 $ 0.09 $ 0.09 37,864 64,041 5,007 10,168 $ 0.12 $ 0.12 38,822 62,940 3,810 8,361 $ 0.10 $ 0.10 32,832 63,811 4,455 9,252 $ 0.12 $ 0.12 34,467 61,725 2,253 6,940 $ 0.09 $ 0.09 33,335 60,212 3,241 6,286 $ 0.08 $ 0.08 33,812 56,697 4,426 7,875 $ 0.10 $ 0.10 90,423,576 90,021,640 87,269,113 34,496 37,760(1) 38,519(1) 81,363,323 80,002,983 79,000,640 77,904,479 76,791,907 31,039 30,049 32,904 31,364 34,308 $ 0.42(1) $ 0.43(1) $ 0.40 $ 0.42 $ 0.41 $ 0.40 $ 0.39 $ 0.40 90,423,576 90,021,640 87,269,113 $ 0.32 3,501,548 $ 0.32 3,720,262 $ 0.32 3,612,347 81,363,323 80,002,983 79,000,640 77,904,479 76,791,907 $ 0.31 3,211,714 $ 0.32 3,409,409 $ 0.31 3,292,004 $ 0.32 3,486,660 $ 0.32 3,348,651 1,573,530 1,095,806 1,487,640 1,123,880 1,434,709 1,068,934 1,438,650 1,064,767 1,471,114 951,331 1,418,216 943,551 1,365,626 938,159 1,448,441 920,226 171 171 161 20,050,000 19,611,000 19,326,000 19,344,000 19,382,000 19,161,000 19,017,000 18,884,000 95.0% 95.0% 95.0% 95.3% 96.0% 95.8% 95.5% 95.5% 161(2) 164 168 163 163 (1) Q3 and Q4 exclude non-cash impairment losses recorded by Equity One and Q4 excludes a dilution gain on Equity One investment. (2) The Company combined certain properties for reporting purposes in the fourth quarter of 2007. The growth over the eight quarters in 2007 and 2008 in property rental revenue, property expenses and net operating income is primarily due to acquisitions and development coming on line. Refer to the MD&A and the Quarterly Financial Statements for discussion and analysis relating to the four quarters in 2007 and the first three quarters in 2008. A discussion of the fourth quarter of 2008 follows. 54 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 55 fourth quarter 2008 operations and results Acquisition and Development During the fourth quarter of 2008, the Company acquired one income-producing shopping centre comprising 35,000 square feet located in Victoria, BC. The acquisition amount of $10.6 million, including closing costs, was paid in cash. In the fourth quarter of 2008, 474,900 square feet of development and redevelopment space came on line in the following City Province Square Feet Major Tenants shopping centres: Property Name Development of new gross leasable area (2) Westmount Shopping Centre Carrefour St. Hubert (1) Brantford Mall (1) Centre Commercial Beaconsfield (1) Morningside Crossing (1) Marche du Vieux Longueuil (1) Barrymore Building (1) South Fraser Gate (1) Towerlane Mall (1) Carrefour St. David (1) Parkway Centre Other space – various projects Redevelopment of existing gross leasable area Other space – various projects Total Edmonton Longueuil Brantford Beaconsfield Toronto AB QC ON QC ON QC Longueuil ON Toronto BC Abbotsford AB Airdrie Quebec City QC Peterborough ON Home Depot SAQ, Super C Dollar Giant, Cineplex Metro Mark’s Work Wearhouse, LCBO, GoodLife Fitness Metro Knoll, West Elm Shoppers Drug Mart TD Bank McDonalds Addition Elle 87,000 63,800 50,000 42,800 41,700 39,000 30,800 17,800 15,700 14,400 12,200 47,700 462,900 12,000 474,900 (1) Constructed in accordance with Leadership in Energy and Environmental Design (LEED) certificate guidelines. (2) Includes new space created in redevelopment properties and greenfield developments. Development of 462,900 square feet was brought on line in the fourth quarter of 2008, with 460,700 square feet leased at an average rate of $19.56 per square foot. The Company also reopened 12,000 square feet of redeveloped space at an average rate of $22.11 per square foot. In addition to acquisitions of income-producing properties and development assets, the Company invested $87.0 million during the fourth quarter in its active development projects as well as in certain improvements to existing properties. Gross new leasing in the fourth quarter of 2008 totalled 593,000 square feet including development and redevelopment space coming on line. The Company achieved a 15.4% increase on 506,600 square feet of renewal leases over the expiring rates. Portfolio occupancy at December 31, 2008 increased to 96.0% from 95.8% at September 30, 2008. Properties acquired during the fourth quarter had an average lease rate per square foot of $20.18 and occupancy of 100%. The average rate per occupied square foot at December 31, 2008 increased to $15.10 from $14.84 at September 30, 2008. first capital realty annual report 2008 55 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 56 Management’s Discussion and Analysis – continued Funds from Operations The Company’s GAAP net income is reconciled to FFO below: (thousands of dollars) Net income for the period Add (deduct): Amortization of shopping centres, deferred costs and intangible assets Gain on disposition of income-producing shopping centre Equity income from Equity One FFO from Equity One Future income taxes FFO Add: the Company’s share of Equity One’s non-cash impairment loss Deduct: dilution gain on Equity One investment FFO excluding Equity One’s non-cash impairment loss and dilution gain on Equity One investment The components of FFO are: (thousands of dollars, except per share amounts) Net operating income Interest expense Interest and other income Corporate expenses Funds from operations from Equity One Amortization Current income taxes FFO Add: the Company’s share of Equity One’s non-cash impairment loss Deduct: dilution gain on Equity One investment FFO excluding Equity One’s non-cash impairment loss and dilution gain on Equity One investment FFO per diluted share Add: the Company’s share of Equity One’s non-cash impairment loss Deduct: dilution gain on Equity One investment FFO per diluted share excluding Equity One’s non-cash impairment loss and dilution gain on Equity One investment Weighted average diluted shares – FFO Three months ended December 31, 2008 December 31, 2007 $ 10,652 $ 9,252 21,245 (1,631) (1,405) 3,753 7,021 39,635 1,023 (2,898) 20,302 — (4,455) 4,116 3,689 32,904 — — $ 37,760 $ 32,904 Three months ended December 31, 2008 December 31, 2007 $ $ $ 67,532 (28,621) 2,797 (5,614) 3,753 (592) 380 39,635 1,023 (2,898) 37,760 0.44 0.01 (0.03) $ $ $ 63,811 (28,882) 469 (5,165) 4,116 (1,077) (368) 32,904 — — 32,904 0.41 — — $ 0.42 90,423,576 $ 0.41 80,002,983 56 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 57 The Company’s funds from operations for the three months ended December 31, 2008 totalled $39.6 million or $0.44 per diluted common share. This included $3.8 million representing the Company’s share of FFO from Equity One for the fourth quarter. The FFO reported by Equity One included a non-cash impairment loss on certain development assets. The Company’s share of this loss was $1.0 million or $0.01 per diluted common share for the quarter. In addition, the Company recorded a one time dilution gain on its investment in Equity One of $2.9 million. Excluding these items, FFO was $37.8 million or $0.42 per diluted common share, compared to $32.9 million or $0.41 per diluted common share in the same period in 2007. The increase in FFO excluding the impairment loss and dilution gain was primarily due to an increase in NOI resulting from development projects coming on line, and same property NOI growth, partially offset by increased corporate expenses. In addition, there was an increase in the diluted number of common shares outstanding compared to the same prior year period. Adjusted Funds from Operations (thousands of dollars, except per share amounts) Three months ended December 31, 2008 December 31, 2007 FFO excluding Equity One’s non-cash impairment loss and dilution gain $ 37,760 $ 32,904 Add/(deduct): Rental revenue recorded on a straight-line basis and market rent adjustments Non-cash compensation expense Interest expense payable in shares Change in cumulative unrealized losses (gains) on marketable securities Dividend income – return of capital portion Non-cash gain on extinguishment of debt Funds from operations from Equity One excluding non-cash impairment loss Dividends from Equity One (regular) Gain on termination of hedge Gain on disposition of land Revenue sustaining capital expenditures and leasing costs AFFO AFFO per diluted share Weighted average diluted shares for AFFO (1) (1,461) 928 3,540 850 409 (438) (4,776) 5,145 290 (3) (4,779) 37,465 $ $ 0.38 99,053,205 (2,091) 1,142 3,595 (273) 21 — (4,116) 4,159 — — (2,551) 32,790 0.37 88,807,137 $ (1) Includes the weighted average outstanding shares that would result from the conversion of the convertible debentures. For the three months ended December 31, 2008, AFFO rose 14.3% to $37.5 million from $32.8 million in the same period in 2007. first capital realty annual report 2008 57 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 58 Management’s Discussion and Analysis – continued A reconciliation from cash provided by operating activities (a GAAP measure) to AFFO is presented below: (thousands of dollars) Cash provided by operating activities Realized losses on sale of marketable securities Dividend income – return of capital portion Deferred leasing costs Net change in non-cash operating items (1) Settlement of restricted share units Amortization of other assets Amortization of financing fees Interest paid in excess of coupon interest on assumed mortgages Debenture interest in excess of coupon Other non-cash interest expense Convertible debenture interest payable in common shares Revenue sustaining capital expenditures and leasing costs AFFO (1) A realized gain on an interest rate swap of $290,000 is included in the AFFO calculation. Net Income (thousands of dollars, except per share amounts) REVENUE Property rental revenue Interest and other income EXPENSES Property operating costs Interest expense Amortization Corporate expenses Equity income from Equity One Income before income taxes Income taxes Current (recovery) Future Net income Earnings per common share Basic Diluted 58 first capital realty annual report 2008 Three months ended December 31, 2008 December 31, 2007 $ $ 59,864 (160) 409 1,021 (22,565) 1,275 (366) (226) 294 (225) (617) 3,540 (4,779) 37,465 $ $ 50,284 (238) 21 702 (20,062) 1,826 (264) (813) 507 (210) (7) 3,595 (2,551) 32,790 Three months ended December 31, 2008 December 31, 2007 $ 105,695 4,428 110,123 38,163 28,621 21,837 5,614 94,235 1,405 17,293 (380) 7,021 6,641 10,652 0.12 0.12 $ $ $ $ $ $ $ 96,643 469 97,112 32,832 28,882 21,379 5,165 88,258 4,455 13,309 368 3,689 4,057 9,252 0.12 0.12 FCR_Page 59.qxd:2008_First Capital 3/26/09 10:25 AM Page 59 Acquisitions during 2008, combined with the full impact of acquisitions in the prior year, contributed $3.3 million to NOI in the quarter, while development and redevelopment activities contributed a further $6.8 million. Same property NOI increased 3.7%, generating growth of $2.1 million in the three months ended December 31, 2008, over the fourth quarter of 2007, due primarily to redevelopment and expansion space and increases in lease rates and occupancy. Same property NOI in the fourth quarter of 2008, excluding expansion or redevelopment space, increased by $0.9 million or 1.7% over the same prior year period. Interest and other income increased due primarily to the $2.9 million dilution gain on the investment in Equity One. The decrease in the equity income in 2008 is primarily due to impairment losses recorded by Equity One in the fourth quarter as well as a decline in Equity One’s net operating income. events subsequent to december 31, 2008 Completion of Mortgages Since January 1, 2009 the Company has completed $64 million in mortgage financing on three properties and a top up of an existing mortgage. This financing carries a weighted average interest rate of 5.95% and has a weighted average term of 7.58 years. Completion of a three year, $75,000,000 Secured Revolving Credit Facility On January 29, 2009, the Company closed on a three year, $75 million secured revolving credit facility with the Bank of Nova Scotia. Investment in Allied Properties Real Estate Investment Trust On February 9, 2009 the Company announced it had agreed to acquire from institutional investors an aggregate of 1,766,800 units (“Units”) of Allied Properties REIT in exchange for common shares of First Capital Realty at a ratio of 0.81 First Capital Realty shares per Unit. The acquisitions closed February 17, 2009. Together with the Units owned by the Company that were acquired with cash, First Capital Realty owns 3,453,100 Units, representing approximately 11% of the issued and outstanding Units. The Units have been acquired for investment purposes; however, First Capital Realty has indicated to Allied that it would like to engage in discussions with Allied to explore business opportunities, which may or may not result in a business combination; at this time no such discussions are underway. First Capital Realty does not currently intend to initiate a formal take-over bid for Allied. First Capital Realty may, in the future, take such actions in respect of its holdings as it may deem appropriate in light of the circumstances then existing, including the purchase of additional securities of Allied through open market purchases or privately negotiated transactions, or the sale of all or a portion of its holdings in the open market or in privately negotiated transactions to one or more purchasers. Interest on Convertible Debentures On February 18, 2009, the Company announced that it will pay the interest due on March 31, 2009 to holders of both classes of its 5.50% convertible unsecured subordinated debentures, due September 30, 2017, by the issuance of common shares. The number of common shares to be issued per $1,000 principal amount of debentures will be calculated by dividing the dollar amount of interest payable by an amount equal to 97% of the volume-weighted average trading price of the common shares of First Capital Realty on the Toronto Stock Exchange, calculated for the 20 consecutive trading days ending on March 24, 2009. The interest payment due is approximately $6.4 million. It is the current intention of the Company to satisfy its obligations to pay principal and interest on its 5.50% debentures by the issuance of common shares. Since issuance, all interest payments have been made using shares. first capital realty annual report 2008 59 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 60 Management’s Discussion and Analysis – continued Completion of a three year, $450,000,000 Secured Revolving Credit Facility On March 5, 2009 the Company closed a three year, $450 million Secured Revolving Credit Facility with a syndicate of ten banks jointly led by RBC Capital Markets, TD Securities, and BMO Capital Markets. The syndicate consists of seven Canadian Banks and three Schedule III Chartered Banks. The new facility was used to replace the Company’s existing three year $350 million Senior Unsecured Revolving Credit Facility maturing March 2010. The facility’s initial funding was at an interest rate of 4.16%. Quarterly Dividend The Company announced that it will pay a first quarter dividend of $0.32 per common share on April 14, 2009 to shareholders of record on March 27, 2009. Current Outstanding Share Data As at March 5, 2009, 91,441,689 common shares were issued and outstanding. There were no material changes since December 31, 2008, other than as described above in the amount of options, warrants or convertible debentures outstanding. outlook The forward-looking statements are not historical facts but reflect the Company’s current expectations regarding future results or events and are based on information currently available to Management. Certain material factors and assumptions were applied in providing these forward-looking statements. See our forward-looking statement disclaimer on page 17 of this annual report. 2009 Outlook Over the past several years First Capital Realty has made significant progress in growing its business and generating accretive growth in funds from operations while enhancing the quality of its portfolio. The current environment remains extremely competitive; however, the competition seems to have shifted to the capital side of the Company’s business. Both debt and equity markets are challenging relative to pricing currently being asked by the vendors. The Company will continue to selectively acquire properties that are well-located and of high quality, where they add strategic value and/or operating synergies provided they will be accretive to FFO over the long term, and equity and debt capital can be priced and committed to maintain conservative leverage. Development and redevelopment activities continue to provide the Company with opportunities to grow within its existing portfolio of assets.Once completed, these activities typically generate higher returns on investment. With respect to acquisitions of both income-producing and development properties, the Company will continue to focus on maintaining the sustainability and growth potential of rental income to ensure that among other things, refinancing risk is minimized. This is particularly important in the current environment of increasing cost and scarcity of capital. Specifically, Management will focus on the following four areas to achieve its objectives in 2009: (cid:129) same property net operating income growth, taking into account maintaining high occupancy; (cid:129) development and redevelopment activities; (cid:129) increasing efficiency and productivity of operations; and (cid:129) careful capital allocation to decrease dependence on capital markets. Overall, Management is confident that the quality of the Company’s balance sheet, the defensive nature of its assets and operations will continue to serve it well in the current environment. 60 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 61 Guidance Readers should refer to the Company’s 2008 year end press release dated March 5, 2009 as filed on SEDAR at www.sedar.com for a discussion of the Company’s previously issued 2008 specific guidance as compared with actual results for 2008. The purpose of the Company’s guidance was to provide readers with Management’s view as to the expected financial performance of the Company, using factors that are commonly accepted and viewed as meaningful indicators of financial performance in the real estate industry. Given the current environment, the Company intends to issue 2009 specific guidance, at the earliest, in its first quarter earnings release. summary of significant accounting estimates and policies Summary of Critical Accounting Estimates First Capital Realty’s significant accounting policies are described in Note 1 to the Consolidated Financial Statements. Management believes the policies which are most subject to estimation and Management’s judgement are those outlined below. Fair Value Fair value is defined as the amount at which an item can be bought or sold between independent, knowledgeable parties under no compulsion to act, as opposed to a forced or liquidation sale. Quoted market prices in active markets are usually the best evidence of fair value when they are available. Market prices are usually available for marketable securities and other actively traded financial instruments owned by the Company. When quoted market prices are not available, estimates of fair value are based on the best information available, including comparable market data and other valuation techniques, including discounted cash flows and other models based on future cash flows. Where the valuation method chosen is based on future cash flows, the Company would be required to make estimates that incorporate assumptions of economic conditions, local market conditions, the potential uses of assets and other factors. As a result, the Company’s determination of fair value could vary under differing circumstances and result in different calculations. The most significant areas which are affected by fair value estimates in the Company’s financial statements are: (cid:129) allocations of purchase price on property acquisitions; (cid:129) estimates of fair value of assets when assessing potential impairments; (cid:129) valuation of financial instruments both for disclosure and measurement purposes; and (cid:129) valuation of stock options using the Binomial Method. Property Acquisitions For acquisitions subsequent to September 12, 2003, in accordance with the Canadian Institute of Chartered Accountants (“CICA”) Handbook Sections 1581 and 3062, Management is required to allocate the purchase price to land, building, tenant improvements, and intangibles such as the value of above-market and below-market leases, lease origination costs, tenant relationships and mortgages, if any. Management uses estimates and judgements as well as third-party appraisals to determine the following: (cid:129) The fair value of land as of the acquisition date. (cid:129) The value of the depreciated replacement cost of buildings as of the acquisition date based on prevailing construction costs for buildings of a similar class and age. (cid:129) The value of the above- and below-market leases based on the present value of the difference between the rents payable under the terms of the in-place leases and estimated market rents. (cid:129) The value of deferred leasing costs, including tenant improvements, at depreciated replacement cost based on estimates of prevailing construction costs, taking into account the condition of tenants’ premises and year of improvement. (cid:129) The value of lease origination costs based on estimates of the costs that would be required for the existing leases to be put in place under the same terms and conditions. These costs include leasing commissions, foregone rent and operating cost recoveries during an estimated lease-up period. first capital realty annual report 2008 61 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 62 Management’s Discussion and Analysis – continued (cid:129) The value of the tenant relationships, if any, based on the net costs avoided if the tenants were to renew their leases at the end of the existing term, and the probability that the tenants will renew. (cid:129) The fair value of debt assumed on acquisition by reference to prevailing market interest rates. Estimates of fair values and market rates used could vary and impact reported financial results. Impairment of Assets Under Canadian GAAP, Management is required to write down to fair value any long-lived asset that is determined to have been permanently impaired. First Capital Realty’s long-lived assets consist of investments in income-producing properties and mortgages receivable. The fair value of investments in income-producing properties is dependent upon anticipated future cash flows from operations over the anticipated holding period. The review of anticipated cash flows involves subjective assumptions of estimated occupancy, rental rates and a residual value. In addition to reviewing anticipated cash flows, Management assesses changes in business climates and other factors which may affect the ultimate value of the property. These assumptions are subjective and may not be ultimately achieved. The fair value of mortgages receivable depends upon the financial covenant of the issuer and the economic value of the underlying security. In the event these factors result in a carrying value that exceeds the sum of the undiscounted cash flows expected to result from the direct use and eventual disposition of the property, an impairment would be recognized. The estimates of future cash flows and the impact of other factors could vary, and result in a different calculation of the impairment. In assessing impairment of the income-producing shopping centres, Management makes use of the property appraisals completed by both external appraisers and internally for the purposes of International Financial Reporting Standards. Amortization of Income Properties Amortization is recorded on buildings using a straight-line basis over the expected useful economic life of the building, which is typically 40 years. A significant portion of the acquisition cost of each property is allocated to the building. The allocation of the acquisition cost to the building and the determination of the useful life are based upon Management’s estimates. In the event the allocation to the building is inappropriate or the estimated useful life of the building proves incorrect, the computation of amortization will not be appropriately reflected over future periods. Fair Value of Financial Instruments The Company is required to determine the fair value of its mortgage debt, senior unsecured debentures, loans, mortgages and marketable securities and its convertible debentures. In determining the fair value of the Company’s outstanding mortgages, Management uses internally developed models, which incorporate estimated market rates. In determining market rates, Management adds a credit spread to quoted rates on Canadian government bonds with similar maturity dates to the Company’s mortgages. The fair value of the senior unsecured debentures is based on closing bid spreads and current underlying Government of Canada bond yields. The fair value of the Company’s convertible debentures is based on current trading prices. Estimates of market rates and the credit spread applicable to a specific property could vary and result in a different disclosed fair value. Income Taxes The Company exercises judgement in estimating future income tax assets and liabilities. Income tax laws are potentially subject to different interpretations, and the income tax expense recorded by the Company reflects the Company’s interpretation of the relevant tax laws. The Company is also required to estimate the timing of reversals of temporary differences between accounting and taxable income in determining the appropriate rate to apply in calculating future income taxes. 62 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 63 summary of changes to significant accounting policies (a) Current accounting policy changes Effective January 1, 2008, the Company adopted three new accounting standards issued by the Canadian Institute of Chartered Accountants (“CICA”). They include Section 1535, Capital Disclosures; Section 3862, Financial Instruments – Disclosures; and Section 3863, Financial Instruments – Presentation. As the standards relate primarily to disclosure, there was no impact on the Company’s financial position or results of operations. (i) Capital Disclosures – CICA Section 1535 On December 1, 2006, the CICA issued Handbook Section 1535 Capital Disclosures. Section 1535 specifies additional disclosures required regarding the Company’s management of capital. (ii) Financial Instruments – Disclosures and Presentation – CICA Sections 3862 and 3863 On December 1, 2006, the CICA issued two new accounting standards: Handbook Section 3862 Financial Instruments – Disclosures, and Handbook Section 3863 Financial Instruments – Presentation. The new Sections 3862 and 3863 replace Handbook Section 3861 Financial Instruments – Disclosure and Presentation, enhancing disclosure requirements. (b) Future accounting policy changes (i) Goodwill and Intangible Assets – CICA Section 3064 On January 31, 2008, the CICA issued a new accounting standard: Handbook Section 3064 Goodwill and Intangible Assets which clarifies that costs can be capitalized only when they relate to an item that meets the definition of an asset. Section 3064 will replace Handbook Section 3062 Goodwill and Other Intangible Assets and Handbook Section 3450 Research and Development Costs. This new standard will be effective for the Company in the first quarter of 2009 and will be adopted on a retroactive basis with restatement of prior years. As a result of applying this standard, the Company will no longer defer recoverable costs and match the expense to the period over which the costs are recovered from the tenants. The standard requires that the expenditure is either capitalized or expensed in the period it is incurred, based upon the nature of the expenditure. The effect on the Company’s 2008 Financial Statements is as follows: Effect on the balance sheet as at December 31, 2008 (thousands of dollars) Shopping centres Other assets Shareholders’ Equity Effect on the statement of income for the year ended December 31, 2008 (thousands of dollars) Property operating costs Building amortization expense Net income Earnings per share (basic and diluted) (ii) Future adoption of IFRS in Canada Increase (decrease) 13,400 (11,500) 1,900 Increase (decrease) (600) 400 200 — $ $ $ $ $ $ $ The Canadian Accounting Standards Board has confirmed that IFRS will replace Canadian GAAP effective for fiscal periods beginning on or after January 1, 2011. The Canadian Securities Administrators have provided issuers with the option of early adopting IFRS for Canadian reporting purposes. The Company does not intend to early adopt IFRS at this time. first capital realty annual report 2008 63 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 64 Management’s Discussion and Analysis – continued The Company’s changeover plan includes the following elements: (cid:129) a comprehensive inventory of IFRS and Canadian GAAP differences that affect the Company; (cid:129) internal training requirements; (cid:129) an assessment of the system and technology requirements; (cid:129) changes and additions to internal controls over financial reporting; and (cid:129) resource requirements as well as impacts on the business groups and operations. The Company’s major shareholder, Gazit-Globe, currently reports under IFRS. As a result, the Company is leveraging its experience in preparing IFRS/Canadian GAAP reconciliations for Gazit Globe. During 2009, the Company expects to: (cid:129) complete its staff training requirements; (cid:129) complete the development of its property valuation strategy; (cid:129) complete the assessment of systems and technology requirements; (cid:129) evaluate the impact on its business activities; and (cid:129) continue to communicate the progress of its implementation to key stakeholders, including employees, shareholders, rating agencies, bondholders and analysts. The Company also continues to revisit its implementation plan, as the International Accounting Standards Board continues to issue new standards. The Company is still considering whether to adopt the fair value method of accounting for its investment properties as well as other accounting policy choices allowable on the initial adoption of IFRS. (iii) Business Combinations In January 2009, the CICA issued new accounting standards: Handbook Section 1582 – Business Combinations, Handbook Section 1602 – Non-controlling Interests and Handbook Section 1601 – Consolidated Financial Statements, which are based on the IASB’s International Financial Reporting Standard 3, “Business Combinations”. The new standards replace the existing guidance on business combinations and consolidated financial statements. The objective of the new standards is to harmonize Canadian accounting for business combinations with the international and U.S. accounting standards. The new standards are to be applied prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after January 1, 2011, with earlier application permitted. Assets and liabilities that arose from business combinations whose acquisition dates preceded the application of the new standards shall not be adjusted upon application of these new standards. The Non-controlling Interests standard should be applied retrospectively except for certain items. The Company is assessing whether it will apply the new accounting standards at the beginning of its 2011 fiscal year or elect to early adopt the new accounting standards at the beginning of its 2010 fiscal year in order to minimize the amount of restatement when the Company adopts International Financial Reporting Standards (“IFRS”). The impact of the new standards on the Company’s results of operations, financial position and disclosures will be assessed as part of the Company’s IFRS transition project. controls and procedures Disclosure Controls and Procedures First Capital Realty’s Management maintains appropriate information systems, procedures and controls to ensure that information used internally and disclosed externally is complete, accurate, reliable and timely. The disclosure controls and procedures are designed to provide reasonable assurance that information required to be disclosed in its various reports is recorded, processed, summarized and reported accurately. 64 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 65 The Chief Executive Officer, and the Chief Financial Officer of the Company have evaluated, or caused the evaluation of under their direct supervision, the effectiveness of the Company’s disclosure controls and procedures (as defined in National Instrument 52-109, Certification of Disclosure in Issuers’ Annual and Interim Filings) as at December 31, 2008, and have concluded that such disclosure controls and procedures were designed and operating effectively. Internal Controls Over Financial Reporting Management is responsible for establishing and maintaining adequate internal controls over financial reporting to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with Generally Accepted Accounting Principles. Management evaluated the design and effectiveness of its internal controls and procedures over financial reporting as defined under National Instrument 52-109 for the year ended December 31, 2008. This evaluation was performed by the Chief Executive Officer and the Chief Financial Officer of the Company with the assistance of other Company Management and staff to the extent deemed necessary. Based on this evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the internal controls and procedures over financial reporting were appropriately designed and operating effectively. The Company did not make any material changes to the design of internal controls over financial reporting during the year ended December 31, 2008 that have had, or are reasonably likely to have, a material effect on the Company’s internal controls over financial reporting. On an ongoing basis, the Company will continue to analyze its controls and procedures for potential areas of improvement. In spite of its evaluation, Management does recognize that any controls and procedures, no matter how well designed and operated, can only provide reasonable assurance and not absolute assurance of achieving the desired control objectives. In the unforeseen event that lapses in the disclosure or internal controls and procedures occur and/or mistakes happen, the Company intends to take whatever steps necessary to minimize the consequences thereof. risks and uncertainties First Capital Realty, as an owner of income-producing properties and development land, is exposed to numerous business risks in the normal course of its business that can impact both short- and long-term performance. Income-producing and development properties are affected by general economic conditions and local market conditions such as oversupply of similar properties or a reduction in tenant demand. It is the responsibility of Management, under the supervision of the Board of Directors, to identify and, to the extent possible, mitigate or minimize the impact of all such business risks. The major categories of risk the Company encounters in conducting its business and the manner in which it takes action to minimize the impact of these risks are outlined below. The Company’s current Annual Information Form provides a more detailed discussion of these and other risks and can be found on SEDAR at www.sedar.com and the Company’s website at www.firstcapitalrealty.ca. Operating Risk All real property investments are subject to a degree of risk. They are affected by various factors including changes in general economic conditions (such as the availability of long-term mortgage funds) and in local conditions (such as an oversupply of space or a reduction in demand for real estate in the area), the attractiveness of the properties to tenants, competition from other available space, the ability of the owner to provide adequate maintenance at an economic cost, and various other factors. In addition, fluctuations in interest rates may affect the Company. The Company’s portfolio has major concentrations in Ontario, Quebec, Alberta and British Columbia. As a result, economic and real estate conditions in these regions will significantly affect the Company’s revenues and the value of its properties. The value of real property and any improvements thereto may also depend on the credit and financial stability of the tenants. The Company’s income and funds available for distributions to shareholders would be adversely affected if a significant tenant or a number of smaller tenants were to become unable or unwilling to meet their obligations to the Company or if the Company was unable to lease a significant amount of available space in its properties on economically favourable lease terms. The Company is also subject to competition from other developers, managers and owners in seeking tenants. first capital realty annual report 2008 65 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 66 Management’s Discussion and Analysis – continued The following chart summarizes the top 40 tenants of the Company, which together represent approximately 57% of the Company’s annualized minimum rent from its Canadian portfolio as at December 31, 2008. Tenant Number of Stores Square Feet Percent of Total Canadian Gross Percent of Total Canadian Annualized Leasable Area Minimum Rent DBRS Organization Credit Rating S&P (1) Organization Credit Rating Moody’s Organization Credit Rating LCBO Bank Of Nova Scotia Top Forty Tenants 1 Sobeys 2 Shoppers Drug Mart 3 Loblaws 4 Metro 5 Zellers/Home Outfitters 6 Canadian Tire 7 TD Canada Trust 8 Canada Safeway 9 Royal Bank 10 Wal-Mart 11 12 CIBC 13 Staples 14 Rona 15 HY Louie Group (London Drugs) 16 17 Goodlife Fitness Club 18 Rexall 19 Cara Operations 20 Dollarama 21 Rogers 22 Winners Merchants Inc. 23 Save On Foods 24 Bank Of Montreal 25 Blockbuster 26 Reitmans 27 Tim Hortons 28 SAQ 29 Future Shop 30 Starbucks 31 Yum! Brands 32 Home Depot 33 Subway 34 Forzani Group 35 Toys “R” Us (Canada) Ltd. 36 Michael’s Arts & Crafts 37 Pharmacie Jean Coutu 38 McDonalds 39 The Source By Circuit City 40 Uniprix Total: Top 40 Tenants 45 56 26 30 19 22 35 9 29 4 21 23 10 2 8 14 8 15 26 20 28 5 4 19 21 32 34 18 5 30 27 2 48 7 3 4 7 17 24 6 763 1,553,000 744,000 1,412,000 1,128,000 1,717,000 799,000 181,000 409,000 159,000 473,000 115,000 113,000 232,000 257,000 210,000 122,000 180,000 124,000 100,000 181,000 100,000 177,000 178,000 85,000 104,000 161,000 96,000 77,000 140,000 48,000 57,000 219,000 58,000 88,000 113,000 87,000 97,000 48,000 53,000 58,000 12,253,000 7.7% 3.7% 7.0% 5.6% 8.6% 4.0% 0.9% 2.0% 0.8% 2.4% 0.6% 0.6% 1.2% 1.3% 1.0% 0.6% 0.9% 0.6% 0.5% 0.9% 0.5% 0.9% 0.9% 0.4% 0.5% 0.8% 0.5% 0.4% 0.7% 0.2% 0.3% 1.1% 0.3% 0.4% 0.6% 0.4% 0.5% 0.2% 0.3% 0.3% 61.1% BBB (LOW) A (LOW) BBB BBB A (LOW) AA BBB AA AA AA AA BBB AA BBB AA BBB A A (LOW) BB+ BBB+ BBB BBB BBB+ AA– BBB AA– AA AA– A+ BBB BBB– AA B+ BBB– A A+ B– BBB– B+ A+ BBB BBB+ BBB+ B B– A 7.1% 5.6% 5.5% 4.7% 3.8% 3.5% 1.9% 1.7% 1.4% 1.2% 1.1% 1.0% 1.0% 1.0% 1.0% 0.9% 0.9% 0.9% 0.8% 0.8% 0.8% 0.8% 0.7% 0.7% 0.7% 0.8% 0.7% 0.8% 0.6% 0.6% 0.6% 0.5% 0.5% 0.5% 0.4% 0.4% 0.4% 0.4% 0.3% 0.3% 57.3% Ba1 Aaa Baa2 Aaa Aa2 Aa1 Aa2 Baa1 Aa1 Aa2 A3 Aa1 Caa2 Baa3 Ba2 Aa2 Baa2 Baa1 Baa2 B3 B2 A3 (1) Standard and Poor’s. 66 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 67 Lease Maturities Upon the expiry of any lease, there can be no assurance that the lease will be renewed or the tenant replaced or, if renewed or replaced, that rental increases will occur. There can also be no assurance that a tenant will be able to fulfill its existing commitments under leases up to the expiry date. The failure to fulfill existing obligations under leases or to achieve renewals and/or rental increases may have an adverse effect on the financial condition of First Capital Realty. First Capital Realty’s lease maturities are spread on a property-by-property basis, which helps to generate a more stable cash flow and mitigate risks related to changing market conditions. Lease expirations in each of the next ten years range from 5.6% to 10.4% of the annualized minimum rent in the Company’s portfolio. The Company’s lease maturity profile at December 31, 2008 is as follows: Date (1) Number of Stores Occupied Square Feet Percent of Total Square Feet Annualized Minimum Rent at Expiration Percent of Total Annualized Minimum Rent Average Annual Minimum Rent per Square Foot at Expiration Month-to-month 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 Thereafter Total/Average 201 414 440 406 446 428 184 158 123 143 150 31 130 3,254 592,000 1,319,000 1,345,000 1,580,000 1,807,000 1,944,000 1,169,000 1,276,000 1,173,000 1,271,000 1,408,000 718,000 3,657,000 19,259,000 (1) Excluding any contractual renewal options. 3.0% 6.6% 6.7% 7.9% 9.0% 9.7% 5.8% 6.4% 5.8% 6.3% 7.0% 3.6% 18.2% 96.0% $ 9,533,000 22,830,000 22,794,000 23,412,000 32,094,000 31,874,000 18,438,000 20,047,000 17,384,000 20,429,000 23,163,000 9,877,000 57,993,000 $ 309,868,000 3.1% 7.4% 7.4% 7.6% 10.4% 10.3% 6.0% 6.5% 5.6% 6.6% 7.5% 3.2% 18.4% 100.0% $ 16.10 17.31 16.94 14.82 17.76 16.39 15.77 15.71 14.82 16.07 16.45 13.75 15.87 $ 16.09 Financing and Repayment of Indebtedness The Company has outstanding indebtedness in the form of mortgages, loans, credit facilities, senior unsecured debentures and convertible debentures and, as such, is subject to the risks normally associated with debt financing, including the risk that the Company’s cash flow will be insufficient to meet required payments of principal and interest. Debt service obligations reduce the funds available for operations, acquisitions, development activities and other business opportunities. There is a possibility that the Company’s internally generated cash may not be sufficient to repay all of its outstanding indebtedness. Upon the expiry of the term of the financing on any particular property owned by the Company, refinancing on a conventional mortgage loan basis may not be available in the amount required or may be available only on terms less favourable to the Company than the existing financing. The current credit environment is characterized by lenders that have suffered losses as well as overall weakening of the economy. As a result, lenders may not have access to capital and may tighten their lending requirements, making it more difficult for the Company, in turn, to access this capital. The current environment has increased the difficulty of refinancing debt obligations. The Company may elect to repay certain indebtedness through the issuance of equity securities or the sale of assets, where appropriate. The Company’s strategy of spreading the maturities of its debt is also helpful in mitigating its exposure to interest rate fluctuations. Subsequent to year end the Company completed the refinancing of its credit facilities as well as additional mortgage financing as described under the “Events Subsequent to December 31, 2008” section of this MD&A. first capital realty annual report 2008 67 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 68 Management’s Discussion and Analysis – continued Credit Ratings Changes or anticipated changes in the credit rating assigned by DBRS or Moody’s to the Company’s senior unsecured debentures may affect the Company’s access to financial markets and its cost of borrowing. Risk of Non-Collection of Straight-Line Rents Receivable A significant portion of the Company’s straight-line rent receivables will be payable by the tenant at dates up to 15 years in the future. Because of the inherent uncertainty of predicting economic trends and changes, consumer trends and specific tenant conditions, some or a significant portion of these straight-line rents receivable, which totalled $32.1 million at December 31, 2008, may not be collected. Under Canadian GAAP, the Company records allowances for doubtful accounts on straight-line rents on a tenant-by-tenant basis, using specific, known facts and circumstances that exist in its portfolio at the time of the analysis. At December 31, 2008 the allowance for doubtful accounts related to straight-line rent receivables totalled $5.3 million. The current allowance for doubtful accounts may not be adequate for future write-offs of these straight-line rents receivable. Acquisition, Expansion and Development Risk The key to the Company’s ongoing success will be its ability to create and enhance value through the skill, creativity and energy of its Management team and the opportunities which the market presents. First Capital Realty will continue to seek out acquisition, expansion and selective development opportunities that offer acceptable risk adjusted rates of return, although the Company may not succeed in identifying such opportunities or may not succeed in completing them. The Company competes for suitable real property investments with individuals, corporations, real estate investment companies, trusts and other institutions (both Canadian and foreign) which may seek real property investments similar to those desired by the Company. Many of these investors may also have financial resources, which are comparable to, or greater than, those of the Company. An increase in the availability of investment funds, and an increase of interest in real property investments, increases competition for real property investments, thereby increasing purchase prices and reducing the yield therefrom. The increasingly competitive real estate market has led to lower capitalization rates for new acquisitions in certain of the markets in which the Company operates. Lower capitalization rates mean a smaller spread between the Company’s cost of capital and return on acquisitions and may therefore have a negative impact on the Company’s earnings growth. Further, the Company’s development commitments are subject to those risks usually attributable to construction projects, which include: (i) construction or other unforeseeable delays; (ii) cost overruns; (iii) the failure of tenants to occupy and pay rent in accordance with existing lease agreements, some of which are conditional; and (iv) increase in interest rates during the life of the development. Risks of Foreign and Domestic Equity Investments and Borrowings The Company holds a significant equity investment in Equity One and Allied Properties REIT and may acquire investments in other U.S. or Canadian REITs or real estate investment vehicles from time to time. The value of the Company’s investments of this nature is subject to the risks inherent in investments in equity securities, including the risk that the financial condition of the issuers of the equity securities held by the Company may become impaired, or that the general condition of the stock market may deteriorate. The investee companies are also subject to risks associated with real property ownership which are similar to those described for the Company itself. Common stocks are also susceptible to general stock market fluctuations with potentially volatile increases and decreases in value as market confidence in, and perceptions of, their issuers change. In addition, given that the Company is a holder of U.S. equity securities and may not have sufficient access to borrowings denominated in U.S. dollars, the Company is subject to fluctuations in currency exchange rates or regulations, or the costs of currency conversion which may, from time to time, adversely impact its financial position and results of operations. 68 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 69 Economic Conditions The economic conditions in the markets in which the Company operates can have a significant impact on the Company’s financial success. Adverse changes in general or local economic conditions can result in some retailers being unable to sustain viable businesses and meet their lease obligations to the Company, and may also limit the Company’s ability to attract new or replacement tenants. share price and dividend history Average Closing Share Price 1st Quarter 2nd Quarter 3rd Quarter 4th Quarter Closing price, end of year Dividend History (per Common Share) 1st Quarter 2nd Quarter 3rd Quarter 4th Quarter Total Dividend Yield on Average Closing Price (end of period annualized dividend) 2008 22.35 23.16 22.23 18.48 18.97 0.32 0.32 0.32 0.32 1.28 6.93% $ $ $ $ $ $ $ $ $ $ 2007 27.73 27.25 25.77 25.10 24.02 0.31 0.31 0.32 0.32 1.26 5.10% $ $ $ $ $ $ $ $ $ $ 2006 23.69 23.96 24.15 26.24 27.78 0.30 0.31 0.31 0.31 1.23 4.73% $ $ $ $ $ $ $ $ $ $ 2005 19.74 19.42 20.89 21.51 23.00 0.30(1) 0.30 0.30 0.30 1.20 5.58% $ $ $ $ $ $ $ $ $ $ (1) Amount represents the regular dividend. A special dividend of $0.20 was paid in addition to the regular dividend. first capital realty annual report 2008 69 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 70 Shopping Centre Portfolio property ontario location year built or acquired gross leasable area percent occupied anchors and major tenants 1842-1852 Queen Street West 216 Elgin Adelaide Shoppers Ambassador Plaza Toronto Ottawa London Windsor 2006 2008 2005 1994 14,000 12,000 19,000 151,000 97.3% 100.0% 100.0% 99.2% Appleby Mall Burlington 2004 181,000 97.1% Bayview Lane Plaza Bowmanville Mall Brampton Corners Brantford Mall Bridgeport Plaza Brooklin Towne Centre Markham Bowmanville Brampton Brantford Waterloo Whitby Burlingwood Shopping Centre Byron Village Burlington London 2003 2005 2001 1995 1994 2003 2005 2002 38,000 123,000 302,000 285,000 222,000 90,000 67,000 89,000 82.6% 97.3% 100.0% 100.0% 99.5% 100.0% 91.4% 97.9% Cedarbrae Mall Toronto 1996 508,000 99.0% Chartwell Shopping Centre Toronto 2005 168,000 91.6% Chemong Park Plaza Clairfields Common Peterborough Guelph 2001 2006 68,000 85,000 100.0% 100.0% College Square (3) Ottawa 2005 388,000 100.0% Credit Valley Town Plaza Mississauga 2003 101,000 100.0% Delta Centre Cambridge 1998 79,000 100.0% Derry Heights Plaza Dufferin Corners Eagleson Cope Drive Eagleson Place Milton Toronto Ottawa Ottawa 2008 2003 2003 2003 49,000 74,000 103,000 50,000 100.0% 99.2% 100.0% 89.0% Fairview Mall St. Catharines 1994 390,000 99.5% Fairway Plaza Kitchener 2005 246,000 Gloucester City Centre Ottawa 2003 345,000 98.1% 95.5% Grimsby Square Shopping Centre Grimsby 2005 153,000 99.6% Starbucks Harvey’s, Second Cup Shoppers Drug Mart, Wendy’s Zellers, LCBO, CIBC, Scotiabank, Royal Bank of Canada, Rogers Video Fortino’s (Loblaws), Pharma Plus, LCBO, Bank of Montreal, TD Canada Trust, Home Hardware Bank of Montreal, Planet Organic Metro, Shoppers Drug Mart, Dollarama, GoodLife Fitness Fortino’s (Loblaws), Wal-Mart, Chapters, National Bank, Scotiabank, Kelsey’s, HSBC Zehrs (Loblaws), Wal-Mart, Cineplex, LCBO, Reitmans Sobeys, Zellers, Rogers Video, Tim Hortons Price Chopper (Sobeys), Shoppers Drug Mart, Scotiabank, Tim Hortons No Frills (Loblaws), Pharma Plus, Tim Hortons Metro, Pharma Plus, LCBO, TD Canada Trust, Rogers Video Loblaws, Zellers, Canadian Tire, Toys ’R’ Us, LCBO, Scotia Bank, CIBC, Extreme Fitness, Dollarama, The Beer Store, Burger King Price Chopper (Sobeys), Shoppers Drug Mart, CIBC, Bank of Montreal Sobeys, Government of Canada, TD Canada Trust Shoppers Drug Mart, TD Canada Trust, Scotiabank, Food Basics, Starbucks Loblaws, Home Depot, Pharma Plus, Rogers, Reitmans, LCBO, Bank of Montreal, The Beer Store, Tim Hortons No Frills, Pharma Plus, CIBC, TD Canada Trust, Rogers Video, Tim Hortons Price Chopper (Sobeys), Dollarama, Shoppers Home Health Care, Starbucks Pure Health and Fitness Shoppers Drug Mart, TD Canada Trust, Royal Bank of Canada Real Canadian Superstore (Loblaws) Shoppers Drug Mart, Rogers Video, The Beer Store, TD Canada Trust, Starbucks Food Basics (Metro), Zehrs (1) (Loblaws), Zellers, Office Depot, Future Shop, Winners, Mark’s Work Wearhouse, LCBO, CIBC, Scotiabank, Sport Chek, Costco Food Basics (Metro), Winners/Home Sense, Sport Chek, Pier 1 Imports, Dollarama, GoodLife Fitness, Starbucks Loblaws, Zellers, Pharma Plus, Scotiabank, CIBC, Tim Hortons Sobeys, Canadian Tire, Shoppers Drug Mart, Royal Bank of Canada, Mark’s Work Wearhouse, The Beer Store, McDonalds 70 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 71 location year built or acquired gross leasable area percent occupied anchors and major tenants property ontario (cont’d) Halton Hills Village Harwood Plaza Georgetown Ajax Humbertown Shopping Centre Toronto Hyde Park Plaza Laurelwood Shopping Centre Loblaws Plaza Maple Grove Village London Waterloo Ottawa Oakville 2007 1999 104,000 219,000 2006 141,000 2006 52,000 2007 2005 2003 90,000 128,000 111,000 96.9% 98.8% 97.3% 96.1% 100.0% 100.0% 98.8% McLaughlin Corners (3) Brampton 2002 116,000 99.0% Meadowvale Town Centre Mississauga 2003 380,000 97.9% Merchandise Building Midland Lawrence Plaza Toronto Toronto 2004 2002 52,000 81,000 74.2% 94.8% Morningside Crossing Toronto 2007 160,000 99.6% Norfolk Mall Northfield Centre Olde Oakville Orleans Gardens (3) Tillsonburg Waterloo Oakville Ottawa 2004 1999 88,000 52,000 99.5% 100.0% 2006 102,000 97.8% 2005 111,000 94.4% Parkway Centre Peterborough 1996 261,000 100.0% Queensway Queenston Place Sheridan Plaza Shoppes on Dundas Shops at King Liberty Toronto Hamilton Toronto Oakville Toronto Stanley Park Mall Kitchener Steeple Hill Shopping Centre Pickering Stoneybrook Plaza Strandherd Crossing Sunningdale Village Thickson Place London Ottawa London Whitby 2006 1995 1995 2007 2004 67,000 179,000 168,000 56,000 249,000 1997 190,000 2000 92,000 2006 2004 55,000 123,000 100.0% 97.4% 100.0% 98.0% 99.4% 99.3% 95.6% 100.0% 100.0% 2006 1997 73,000 93,000 97.9% 100.0% Metro, TD Canada Trust, Tim Hortons Food Basics (Metro), Shoppers Drug Mart, Scotiabank, Blockbuster, GoodLife Fitness, Tim Hortons, Dollarama Loblaws, Scotiabank, Blockbuster, LCBO, Shoppers Drug Mart, Royal Bank of Canada Remark Farm, Shoppers Drug Mart, Bank of Montreal, Starbucks Sobeys, LCBO, TD Canada Trust, Starbucks Loblaws, Royal Bank of Canada, Shoppers Drug Mart Sobeys, Pharma Plus, CIBC, Rogers Video, Tim Hortons, The Beer Store Metro, Shoppers Drug Mart, Royal Bank of Canada, Rogers Video, Pizza Hut Metro, Canadian Tire, Shoppers Drug Mart, LCBO, TD Canada Trust, CIBC, Bank of Montreal, Blockbuster, Tim Hortons, Premier Fitness Metro Price Chopper (Sobeys), Part Source (Canadian Tire), TD Bank Shoppers Drug Mart, TD Canada Trust, CIBC, Scotiabank, Bank of Montreal, Starbucks, Pizza Hut, Blockbuster, Metro, LCBO, Rogers Zehrs (Loblaws) (1), Wal-Mart, Dollarama Sobeys, Pharma Plus, Royal Bank of Canada, Rogers Video, Tim Hortons Whole Foods, Shoppers Drug Mart, HSBC, Royal Bank of Canada, Starbucks, Blockbuster Your Independent Grocer (Loblaws), CIBC, Rogers Video, Pharma Plus, Tim Hortons Price Chopper (Sobeys), Zellers, Winners, Reitmans, Addition Elle, Sport Mart, Dollarama Plastic Moulders, Panache Rotisseurs Zellers, Mark’s Work Wearhouse, Pennington’s (Reitmans), Aaron’s Electronics, Hamilton Produce Food Basics (Metro), Zellers Shoppers Drug Mart, TD Canada Trust, Starbucks Metro, LCBO, TD Canada Trust, Blockbuster, Starbucks, Royal Bank of Canada, GoodLife Fitness, First Capital Realty Inc., West Elm, Knoll Zehrs (Loblaws), Zellers, Pharma Plus, LCBO, TD Canada Trust Price Chopper (Sobeys), Shoppers Drug Mart, Blockbuster, Royal Bank of Canada Sobeys, Pharma Plus, TD Canada Trust, Home Depot Metro, Shoppers Drug Mart, Royal Bank of Canada, TD Canada Trust, Rogers Video, Starbucks, GoodLife Fitness, H&R Block No Frills, Shoppers Drug Mart, Starbucks Metro, Toys ’R’ Us (1), CIBC, TD Canada Trust first capital realty annual report 2008 71 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 72 Shopping Centre Portfolio property ontario (cont’d) location year built or acquired gross leasable area percent occupied anchors and major tenants Tillsonburg Town Centre (2) Tillsonburg 1994 277,000 89.5% University Plaza Windsor 2001 146,000 100.0% Valley Creek Waterloo Shoppers Drug Mart Wellington Corners Westney Heights Plaza Brampton Waterloo London Ajax 2008 2004 1999 2002 6,000 15,000 82,000 157,000 100.0% 100.0% 94.1% 100.0% Yonge-Davis Centre York Mills Gardens Newmarket Toronto 2003 2004 51,000 169,000 89.8% 97.9% Total – ontario quebec Charlemagne Drummondville Carrefour Charlemagne Carrefour des Forges Centre D’Achats Ville Mont-Royal Mount Royal Carrefour Don Quichotte Carrefour du Plateau Grives Carrefour du Versant Île Perrot Gatineau Gatineau Carrefour Soumande Carrefour St. David Carrefour St. Hubert Centre commercial Beaconsfield Québec City Québec City Longueuil Beaconsfield Centre commercial Côte St. Luc Côte St. Luc Centre commercial Domaine Montréal 8,897,000 97.9% 2006 2005 2007 2004 2008 2003 2004 2006 2002 2002 162,000 58,000 133,000 72,000 8,000 93,000 140,000 64,000 134,000 112,000 2002 162,000 2002 195,000 100.0% 100.0% 92.4% 85.5% 100.0% 100.0% 88.6% 100.0% 98.4% 72.4% 89.3% 95.9% Centre commercial Maisonneuve (2) Montréal 2003 114,000 100.0% Centre commercial Van Horne Montréal 2002 79,000 100.0% Centre commercial Wilderton Montréal 2002 129,000 97.7% Centre Kirkland/St. Charles Centre Maxi Trois Rivières Kirkland Trois Rivières Édifice Gordon Édifice Hooper Faubourg des Prairies Galeries Brien Galeries des Chesnaye Montréal Sherbrooke Montréal Repentigny Lachenaie 2006 2003 2005 2005 2007 2002 2005 114,000 122,000 19,000 141,000 61,000 59,000 58,000 95.4% 91.1% 87.4% 94.9% 88.9% 100.0% 95.3% 72 first capital realty annual report 2008 Zellers, Canadian Tire, Business Depot (Staples), Shoppers Drug Mart, LCBO, CIBC, TD Canada Trust, Rogers Video, Mark’s Work Wearhouse, Reitmans, The Souce by Circuit City Metro, Canadian Tire, Shoppers Drug Mart, Bank of Montreal, Dollarama Bank of Nova Scotia Shoppers Drug Mart Price Chopper (Sobeys), Shoppers Drug Mart, Starbucks Sobeys, Shoppers Drug Mart, CIBC, Scotiabank, TD Canada Trust, Rogers Video, Sherwin Williams, Starbucks Sleep Country Longo’s Supermarket, Shoppers Drug Mart, TD Canada Trust, Rogers Video, Second Cup, McDonalds Rona, Sports Rousseau IGA (Sobeys), SAQ Provigo, Scotiabank, Blockbuster Familiprix, CIBC Jean Coutu, Royal Bank of Canada, Desjardins IGA (Sobeys), Dollarama, Familiprix, TD Canada Trust, SAQ, Tim Hortons, Royal Bank of Canada, Quizno’s Royal Bank of Canada, Toys ’R’ Us, Fruiterie 440 Metro, TD Canada Trust, Starbucks, Subway Jean Coutu, CIBC, SAQ, Dollarama, Super C Metro, Pharmaprix (Shoppers Drug Mart), SAQ, Royal Bank of Canada IGA (Sobeys), Jean Coutu, SAQ, Royal Bank of Canada, Blockbuster, Dollarama, Reitmans Metro (3), Zellers, Rossy, CIBC, Dollarama, Uniprix, Reitmans, Tim Hortons Provigo (Loblaws), Canadian Tire, TD CanadaTrust, SAQ, Brunet IGA (Sobeys), Pharmaprix (Shoppers Drug Mart), Royal Bank of Canada, Scotiabank, Tim Hortons Metro, Pharmaprix (Shoppers Drug Mart), SAQ, Royal Bank of Canada, Laurentian Bank, Femme Fitness, Dollarama Uniprix, Bank of Montreal, Dollarama, CIBC, SAQ Maxi (Loblaws), Value Village, Jean Coutu, Bank of Montreal, Blockbuster, Tim Hortons Pharmaprix (Shoppers Drug Mart) IGA Extra (Sobeys), Familiprix, Desjardins IGA (Sobeys), SAQ, Familiprix IGA (Sobeys), Uniprix IGA (Sobeys), Uniprix, SAQ, Desjardins FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 73 property quebec (cont’d) location year built or acquired gross leasable area percent occupied anchors and major tenants Galeries Normandie Montréal 2002 210,000 87.6% IGA Tremblant La Porte de Châteauguay La Porte de Gatineau Mont-Tremblant Châteauguay Gatineau 2004 1995 1994 38,000 132,000 155,000 100.0% 100.0% 97.9% Le Campanîle & Place de Commerce Les Galeries de Lanaudière (3) Montréal Lachenaie 2003 104,000 93.1% 2002 268,000 100.0% Les Galeries de Repentigny Repentigny 1997 121,000 97.7% Les Promenades du Parc Longueuil 1997 105,000 100.0% Marche du Vieux Longueuil Place Bordeaux (5) Place Cité Des Jeunes Place de la Colline Place des Cormiers Place Fleury Place Kirkland Place Lorraine Place Michelet Place Nelligan (4) Place Panama Place Pierre Boucher Place Pointe-aux-Trembles Place Provencher Place Roland Therrien Place Seigneuriale Place Viau Place Vilamont Plaza Actuel Plaza Delson Longueuil Gatineau Gatineau Chicoutimi Sept-Îles Montréal Kirkland Lorraine Montréal Gatineau Brossard Boucherville Borough Montréal Montréal Longueuil Québec City Montréal Laval Longueuil Delson 2008 2002 2001 2004 2004 2002 2006 2006 2005 2002 2006 2004 2002 2004 2000 2004 2002 2002 2006 2002 39,000 29,000 58,000 52,000 75,000 108,000 47,000 61,000 59,000 57,000 94,000 80,000 118,000 46,000 42,000 54,000 152,000 73,000 58,000 169,000 100.0% 100.0% 86.9% 100.0% 94.6% 100.0% 94.4% 90.8% 96.1% 100.0% 95.8% 88.8% 91.9% 100.0% 100.0% 88.2% 100.0% 92.2% 100.0% 97.3% Plaza Don Quichotte Île Perrot 2004 134,000 96.8% Plaza Laval Élysée Promenades Lévis Laval Lévis Queen Mary Toys ’R’ Us/Pier 1 Imports Montréal Montréal 2004 63,000 100.0% 2004 163,000 88.6% 2006 2002 6,000 52,000 100.0% 100.0% IGA (Sobeys), Pharmaprix, Bank of Montreal, Desjardins, Royal Bank of Canada, SAQ, Baron Sports, Dollarama, Blockbuster IGA (Sobeys) Zellers, Blockbuster, Tim Hortons Maxi (Loblaws), Toys ’R’ Us (1), Future Shop, CIBC, TD Canada Trust, SAQ, Lazy Boy Furniture Pharmaprix (Shoppers Drug Mart), Bank of Montreal, Jean Coutu Bureau en Gros (Staples), Winners, Future Shop, Sears, Home Depot (1), Pier 1 Imports, Reitmans, TD Canada Trust Super C (Metro), Pharmaprix (Shoppers Drug Mart), Tim Hortons IGA (Sobeys), Pharmaprix (Shoppers Drug Mart), Laurentian Bank, Blockbuster, National Bank, Tim Hortons Metro Pharmaprix (Shoppers Drug Mart), National Bank Metro, Uniprix Maxi (Loblaws), Uniprix, Dollarama, McDonald’s Provigo (Loblaws), Bureau en Gros (Staples), SAQ Metro, Pharmaprix (Shoppers Drug Mart), SAQ, Reitmans, Bank of Montreal IGA (Sobeys), CIBC, Videotron Provigo (Loblaws), National Bank, SAQ IGA Extra (Sobeys), TD Canada Trust, A&W, St. Hubert, Sherwin Williams IGA (Sobeys), Citifinancial Loblaws (1) Maxi (Loblaws), Pharmaprix (Shoppers Drug Mart), SAQ Metro, Rossy, Jean Coutu Bureau en Gros (Staples), Pharmaprix (Shoppers Drug Mart) Super C (Metro) (1), Scotiabank, Blockbuster Metro, Royal Bank of Canada, Nautilus Plus Zellers Provigo (Loblaws), Jean Coutu, Laurentian Bank Pontiac Buick, Pizza Hut, Rotisserie St-Hubert Loblaws, Pharmaprix, Cineplex, SAQ, National Bank, Tim Hortons, Harveys, Hart IGA (Sobeys), SAQ, Caisse Populaire, Desjardins, Aubainerie, Laurentian Bank, Tim Hortons Maxi, Pharmaprix (Shoppers Drug Mart), Laurentian Bank, Tim Hortons Metro, Bank of Montreal, Jean Coutu, Easy Home, McDonald’s Couche Tard, Tim Hortons Toys ’R’ Us, Pier 1 Imports first capital realty annual report 2008 73 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 74 Shopping Centre Portfolio location year built or acquired gross leasable area percent occupied anchors and major tenants Laval 2002 27,000 5,278,000 100.0% 95.1% Value Village property quebec (cont’d) Village des Valeurs Total – quebec alberta Cochrane City Centre Deer Valley Eastview Shopping Centre Fairmount Shopping Centre Gateway Village Kingsland Shopping Centre Lakeview Plaza London Place West McKenzie Towne Centre Northgate Centre Old Strathcona Red Deer Village Cochrane Calgary Red Deer Calgary St. Albert Calgary Calgary Calgary Calgary Edmonton Edmonton Red Deer 2006 2008 2004 2006 1994 2005 2005 1998 2003 1997 2003 1999 59,000 196,000 34,000 58,000 105,000 46,000 64,000 72,000 144,000 493,000 78,000 217,000 86.7% 97.3% 100.0% 100.0% 88.3% 89.1% 98.6% 97.8% 100.0% 83.3% 95.3% 97.8% Richmond Square Royal Oak (6) Calgary Calgary 2006 2003 157,000 336,000 99.0% 100.0% Sherwood Centre Sherwood Towne Centre Sherwood Park Sherwood Park 1997 1997 76,000 120,000 63.8% 100.0% South Park Centre Edmonton 1996 378,000 93.3% Staples Gateway Towerlane Mall Edmonton Airdrie TransCanada Centre Tuscany Market Uplands Common Village Market West Lethbridge Towne Centre Calgary Calgary North Lethbridge Sherwood Park Lethbridge 2007 2005 2006 2003 2005 1997 1998 40,000 218,000 184,000 86,000 53,000 117,000 96,000 100.0% 83.0% 100.0% 100.0% 100.0% 99.0% 100.0% Westmount Shopping Centre Edmonton 2007 524,000 95.5% 9630 Macleod Trail Total – alberta Calgary 2006 127,000 4,077,000 100.0% 94.1% 74 first capital realty annual report 2008 Shoppers Drug Mart, Blockbuster, Starbucks Calgary Co-op, Shoppers Drug Mart, Royal Bank of Canada, Zellers Sobeys, Bank of Montreal, 7-Eleven Royal Bank of Canada, Tim Hortons, Sobeys Safeway, CIBC, Scotiabank, Bank of Montreal, Tim Hortons Shoppers Drug Mart, Starbucks IGA (Sobeys), Super Drug Mart, Scotiabank London Drugs, Bank of Montreal, Rogers Video Sobeys, Rexall, Blockbuster, GoodLife Fitness Safeway, Zellers, Future Shop, Royal Bank of Canada, Sport Mart Canada Post, Dollarama Sobeys, Shoppers Drug Mart, Canadian Tire, Mark’s Work Wearhouse, Sport Mart, TD Canada Trust, HSBC, Rogers Video, Reitmans, Starbucks Canadian Tire (1), Home Outfitters, GoodLife Fitness Sobeys, Wal-Mart, London Drugs, Royal Bank of Canada, Blockbuster, Royal Oak Clinic, Reitmans, Petcetera, Home Outfitters Save-On-Foods (1), CIBC, Rogers Video Home Depot (1), Mark’s Work Wearhouse, Staples, Home Sense, Royal Bank of Canada, Michael’s Canadian Tire, Zellers, Toys ’R’ Us (1), Linens ’n Things, Laura’s Shoppes, Sport Chek, Starbucks Staples, Mark’s Work Wearhouse, Home Depot Safeway, Staples, Saan Store, TD Canada Trust, Blockbuster, The Source Safeway, Rexall, Starbucks, Scotiabank Sobeys, Rexall, Scotiabank, Starbucks Sobeys Safeway, London Drugs, Scotiabank, Tim Hortons, Rogers Safeway, Home Hardware, Blockbuster, Starbucks, Scotia Bank Shoppers Drug Mart, Safeway, Scotia Bank, TD Canada Trust, Zellers, Dollarama, Tim Hortons, Blockbuster, Bank of Montreal, Home Depot Rona FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 75 property british columbia location year built or acquired gross leasable area percent occupied anchors and major tenants Broadmoor Shopping Centre Coronation Mall Richmond Duncan 2005 2005 43,000 54,000 74.0% 100.0% Gorge Shopping Centre Vancouver 2008 35,000 100.0% Harbour Front Centre Vancouver 2005 165,000 100.0% Langley Crossing Shopping Centre Langley Mall Linens Buildings Longwood Station Pemberton Plaza Port Place Shopping Centre Scott 72 Centre South Fraser Gate Staples Lougheed Terminal Park Terra Nova Shopping Centre The Olive Time Marketplace Langley Langley Coquitlam Nanaimo Vancouver Nanaimo Delta Abbotsford Burnaby Nanaimo Richmond Vancouver Vancouver 2005 126,000 98.8% 2005 132,000 93.2% 2006 2007 2005 2006 2004 2008 2006 2006 2005 2006 2004 38,000 106,000 96,000 142,000 165,000 18,000 32,000 29,000 72,000 21,000 43,000 100.0% 93.0% 95.9% 81.3% 82.7% 100.0% 92.0% 95.7% 100.0% 100.0% 86.0% West Oaks Mall (3) Abbotsford 2004 266,000 99.4% 2006 60,000 1,642,000 100.0% 94.0% Woodgrove Crossing Total – british columbia Nanaimo (1) Tenant (or other) owned. (2) Interest is leasehold. (3) 50% interest owned by First Capital Realty Inc. (4) 75% interest owned by First Capital Realty Inc. (5) 80% interest owned by First Capital Realty Inc. (6) 60% interest owned by First Capital Realty Inc. Royal Bank of Canada, Coast Capital Savings Save-On-Foods, TD Canada Trust, Blockbuster, BC Liquor Store Shoppers Drug Mart, Starbucks, Rogers, BC Liquor Store, Subway, Bell Canadian Tire, Michael’s, Vancity, Kelsey’s, Mark’s Work Wearhouse, PetSmart, Starbucks Shoppers Drug Mart, Longe & McQuade, Dollar Max, BDO Dunwoody LLP, Chuck E Cheese’s IGA Marketplace (H. Y. Louie Group), Army & Navy, TD Canada Trust, Shoppers Home Health Care Linens ’n Things Thrifty Foods, TD Canada Trust, Boston Pizza Save-On-Foods, Vancity, Starbucks London Drugs, BC Liquor Store, CIBC, Thrifty Foods London Drugs, Staples, TD Canada Trust, Starbucks Shoppers Drug Mart Staples Business Depot Bank of Montreal, BC Liquor Store Save-On-Foods, Royal Bank of Canada, Coast Capital Savings, Starbucks Capers Market IGA Marketplace (H. Y. Louie Group), Shoppers Drug Mart Save-On-Foods, Linens ’n Things, London Drugs, Future Shop, Michael’s, Reitmans, CIBC, Pier 1 Imports, Sport Mart, Tim Hortons, Starbucks Michael’s, Sleep Country, Petcetera first capital realty annual report 2008 75 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 76 Management’s Responsibility The accompanying consolidated financial statements and Management’s Discussion and Analysis (“MD&A”) are the responsibility of Management and have been prepared in accordance with Canadian generally accepted accounting principles. The preparation of financial statements and MD&A necessarily involves the use of estimates based on Management’s judgement, particularly when transactions affecting the current accounting period cannot be finalized with certainty until future periods. In addition, in preparing this financial information Management must make determinations as to the relevancy of information to be included, and estimates and assumptions that affect the reported information. The MD&A also includes information regarding the impact of current transactions and events, sources of liquidity and capital resources, operating trends, risks and uncertainties. Actual results in the future may differ materially from the present assessment of this information because future events and circumstances may not occur as expected. The consolidated financial statements have been properly prepared within reasonable limits of materiality and in light of information available up to March 5, 2009. Management is also responsible for the maintenance of financial and operating systems which include effective controls to provide reasonable assurance that the Company’s assets are safeguarded, transactions are properly authorized and recorded, and that reliable financial information is produced. PricewaterhouseCoopers LLP have been engaged to assist management and the Audit Committee in planning and conducting its annual internal audit plan. The Board of Directors is responsible for ensuring that Management fulfills its responsibilities through its Audit Committee, whose members are not involved in day-to-day operations of the Company. Each quarter the Audit Committee meets with Management and, as necessary, with the independent auditors, Deloitte & Touche LLP, to satisfy itself that Management’s responsibilities are properly discharged and to review and report to the Board on the consolidated financial statements. As at December 31, 2008, our Chief Executive Officer and Chief Financial Officer evaluated, or caused the evaluation under their direct supervision, the disclosure controls and procedures and the internal controls over financial reporting (as defined in National Instrument 52-109, Certification of Disclosure in Issuers’ Annual and Interim Filings) and, based on that assessment, determined that the disclosure controls and procedures and internal controls over financial reporting were designed and operating effectively. In accordance with generally accepted auditing standards, the independent auditors conduct an examination each year in order to express a professional opinion on the consolidated financial statements. Dori J. Segal President and Chief Executive Officer Karen H. Weaver, CPA Executive Vice President and Chief Financial Officer Toronto, Ontario March 5, 2009 76 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:33 AM Page 77 Auditors’ Report To the Shareholders of First Capital Realty Inc. We have audited the consolidated balance sheets of First Capital Realty Inc. as at December 31, 2008 and 2007 and the consolidated statements of earnings, comprehensive income, shareholders’ equity and cash flows for the years then ended. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with Canadian generally accepted auditing standards. Those standards require that we plan and perform an audit to obtain reasonable assurance whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by Management, as well as evaluating the overall financial statement presentation. In our opinion, these consolidated financial statements present fairly, in all material respects, the financial position of the Company as at December 31, 2008 and 2007 and the results of its operations and its cash flows for the years then ended in accordance with Canadian generally accepted accounting principles. Toronto, Ontario March 2, 2009 (except as to note 28(e), which is as of March 5, 2009) Chartered Accountants Licensed Public Accountants first capital realty annual report 2008 77 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 78 Consolidated Balance Sheets December 31 (thousands of dollars) ASSETS Real Estate Investments Shopping centres (note 3) Land and shopping centres under development (note 4) Deferred costs (note 5) Intangible assets (note 6) Investment in Equity One, Inc. (note 7) Loans, mortgages and other real estate assets (note 8) Other assets (note 9) Amounts receivable (notes 10 and 27) Cash and cash equivalents (note 23(d)) Future income tax assets (note 19) LIABILITIES Mortgages, loans and credit facilities (note 12) Accounts payable and other liabilities (note 13) Intangible liabilities (note 6) Senior unsecured debentures (note 14) Convertible debentures (note 15) Future income tax liabilities (note 19) SHAREHOLDERS’ EQUITY See accompanying notes to the consolidated financial statements. Approved by the Board of Directors: Chaim Katzman Chairman of the Board Dori J. Segal Director 78 first capital realty annual report 2008 2008 2007 $ 2,968,785 281,959 76,800 29,312 3,356,856 227,259 32,480 3,616,595 38,926 45,501 7,263 11,977 $ 3,720,262 $ 1,573,530 166,507 17,264 593,288 218,247 55,620 2,624,456 1,095,806 $ 3,720,262 $ 2,718,078 284,077 79,606 35,938 3,117,699 191,536 11,589 3,320,824 32,395 36,008 10,451 9,731 $ 3,409,409 $ 1,471,114 110,006 17,795 595,376 217,030 46,757 2,458,078 951,331 $ 3,409,409 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 79 Consolidated Statements of Earnings Years ended December 31 (thousands of dollars, except per share amounts) REVENUE Property rental revenue Interest and other income (note 17) EXPENSES Property operating costs Interest expense (note 18) Amortization Shopping centres Deferred costs Intangible assets Deferred financing fees Other assets Corporate expenses Equity income from Equity One, Inc. (note 7) Income before income taxes Income taxes (note 19) Current Future Net income Earnings per common share, basic and diluted (note 20) See accompanying notes to the consolidated financial statements. 2008 2007 $ 410,192 9,422 419,614 $ 376,891 5,550 382,441 150,601 113,685 60,253 16,593 7,783 854 1,305 21,577 372,651 8,716 55,679 1,985 16,264 18,249 37,430 0.43 $ $ 134,446 116,043 55,118 14,629 8,217 813 1,051 23,544 353,861 14,375 42,955 1,672 10,930 12,602 30,353 0.39 $ $ first capital realty annual report 2008 79 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 80 Consolidated Statements of Comprehensive Income Years ended December 31 (thousands of dollars) NET INCOME OTHER COMPREHENSIVE LOSS Unrealized foreign currency gain (loss) on translating self-sustaining foreign operations Gains (losses) arising during the year Reclassification adjustment for dilution gain on investment in Equity One, Inc. Other comprehensive losses of Equity One, Inc. Losses arising during the year Reclassification adjustment for dilution gain included in net income Unrealized losses on cash flow hedges of interest rates Unrealized losses arising during the year Reclassification adjustment for gains included in net income Change in cumulative unrealized gain on available-for-sale marketable securities Unrealized losses arising during the year Reclassification adjustments for losses included in net income Other comprehensive loss before income taxes Future income tax recovery (note 22(a)) Other comprehensive loss 2008 2007 $ 37,430 $ 30,353 12,043 (724) 11,319 (1,933) (11) (1,944) (16,443) — (16,443) (6,645) 55 (6,590) (13,658) (5,832) (7,826) (9,950) — (9,950) (320) — (320) (2,139) (597) (2,736) (534) 293 (241) (13,247) (1,044) (12,203) COMPREHENSIVE INCOME $ 29,604 $ 18,150 See accompanying notes to the consolidated financial statements. 80 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 81 Consolidated Statements of Shareholders’ Equity (thousands of dollars) Other Accumulated Total Deficit and Accumulated Comprehensive Comprehensive Income/(Loss) Income/(Loss) (note 22(b)) Deficit Convertible Debentures Equity Surplus Component (note 15) Options, Deferred Share Units and Warrants (note 16) Total Share Contributed Capital (note 16) Shareholders’ equity, December 31, 2007 Changes during the year Net income Issuance of common shares Dividends Dividends reinvested in common shares Payment of interest on convertible debentures Exercise of warrants Options vested Exercise of options Deferred share units Restricted share units Exercise of restricted share units Issue costs Other comprehensive loss Shareholders’ equity, December 31, 2008 $ (304,382) $ (25,965) $ (330,347) $ 1,238,286 $ 19,513 $ 15,905 $ 7,974 $ 951,331 37,430 — (113,116) — — — — — — — — — — — — — — — — — — — — — — 37,430 — (113,116) — — — — — — — — — — 153,856 — 59,980 12,891 2,197 — 785 — — — (4,606) (7,826) (7,826) — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — (139) 1,613 (29) 597 2,249 37,430 153,856 (113,116) 59,980 12,891 2,058 1,613 756 597 2,249 (1,407) — (1,407) (4,606) — (7,826) $(380,068) $ (33,791) $ (413,859) $ 1,463,389 $ 19,513 $ 15,905 $ 10,858 $ 1,095,806 See accompanying notes to the consolidated financial statements. first capital realty annual report 2008 81 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 82 Consolidated Statements of Shareholders’ Equity (thousands of dollars) Other Accumulated Total Deficit and Accumulated Comprehensive Comprehensive Income/(Loss) Income/(Loss) (note 22(b)) Deficit Contributed Surplus Share Capital (note 16) Convertible Debentures Equity Component (note 15) Options, Deferred Share Units and Warrants (note 16) Total Shareholders’ equity, December 31, 2006 Changes during the year Net income Issuance of common shares Dividends Dividends reinvested in common shares Payment of interest on convertible debentures Equity component on issuance of convertible debentures Conversion of convertible debentures Exercise of warrants Options vested Exercise of options Deferred share units Exercise of deferred share units Restricted share units Exercise of restricted share units Issue costs Other comprehensive loss Shareholders’ equity, December 31, 2007 $ (236,047) $ (13,762) $ (249,809) $ 1,128,926 $ 19,513 $ 9,030 $ 4,861 $ 912,521 30,353 — (98,688) — — — — — — — — — — — — — — — — — — — — — — — — — — — — 30,353 — (98,688) — — — — — — — — — — — — (12,203) (12,203) — 1,292 — 74,962 12,048 — 16,325 1,503 — 3,385 — 162 — — (317) — — — — — — — — — — — — — — — — — — — — — — — 30,353 1,292 — — (98,688) — 74,962 — 12,048 7,387 — 7,387 (512) — — — — — — — — — — 15,813 1,407 (96) 2,253 2,253 3,216 (169) 523 523 (162) 2,056 — 2,056 (1,292) — (1,292) (317) — (12,203) $ (304,382) $ (25,965) $ (330,347) $ 1,238,286 $ 19,513 $ 15,905 $ 7,974 $ 951,331 See accompanying notes to the consolidated financial statements. 82 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 83 Consolidated Statements of Cash Flows Years ended December 31 (thousands of dollars) CASH FLOW PROVIDED BY (USED IN): OPERATING ACTIVITIES Net income Items not affecting cash (note 23(a)) Deferred leasing costs Settlement of restricted share units Dividends received from Equity One, Inc. (note 7) Net change in non-cash operating items (note 23(b)) Cash provided by operating activities INVESTING ACTIVITIES Acquisition of shopping centres (note 3) Acquisition of land for development (note 4) Proceeds from disposition of shopping centre Proceeds from disposition of land held for development Expenditures on shopping centres Expenditures on land and shopping centres under development Changes in accounts payable and accrued liabilities related to expenditures on land and shopping centres under development Investment in common shares of Equity One, Inc. (note 7) Changes in loans, mortgages and other real estate assets (note 23(c)) Cash used in investing activities FINANCING ACTIVITIES Mortgage financings, loans and credit facilities Borrowings, net of financing costs Principal instalment payments Other repayments on maturity Issuance of common shares, net of issue costs (Purchase) issuance of senior unsecured debentures, net of issue costs (note 14) Issuance of convertible debentures, net of issue costs (note 15) Payment of dividends Cash provided by financing activities Effect of currency rate movement on cash balances (Decrease) increase in cash and cash equivalents Cash and cash equivalents, beginning of the year Cash and cash equivalents, end of the year (note 23(d)) See accompanying notes to the consolidated financial statements. 2008 2007 $ $ 37,430 98,331 (4,033) (1,275) 18,193 (2,688) 145,958 (56,704) (11,887) — 10,581 (22,222) (227,775) 30,072 (1,263) (30,520) (309,718) 552,708 (38,139) (452,273) 149,797 (2,543) — (49,312) 160,238 334 (3,188) 10,451 7,263 $ $ 30,353 82,150 (3,429) (1,826) 17,617 6,543 131,408 (230,554) (65,562) 6,400 — (23,718) (143,744) 1,309 (2,254) 14,352 (443,771) 425,428 (39,400) (305,554) 5,976 198,296 53,299 (21,066) 316,979 (975) 3,641 6,810 10,451 first capital realty annual report 2008 83 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 84 Notes to the Consolidated Financial Statements December 31, 2008 and 2007 1. significant accounting policies First Capital Realty Inc. (the “Company”) is incorporated under the laws of Ontario to engage in the business of acquiring, developing, redeveloping, owning and operating neighbourhood and community shopping centres. The Company’s accounting policies and its standards of financial disclosure are in accordance with Canadian generally accepted accounting principles. The Company’s significant accounting policies are as follows: (a) Principles of Consolidation The consolidated financial statements include the accounts of the Company, its wholly-owned subsidiaries and trusts, and the Company’s proportionate share of assets, liabilities, revenues and expenses of partnership, co-ownership and limited liability corporate ventures, which are accounted for using the proportionate consolidation method. The Company’s investment in Equity One, Inc. is accounted for using the equity method as the Company exercises significant influence over this investment. (b) Shopping Centres Shopping centres are stated at cost less accumulated amortization. The purchase price of shopping centre properties is allocated to land, building, deferred leasing costs and intangibles including lease origination costs associated with in-place leases, the value of above- and below-market leases, and the value of tenant relationships, if any. Allocations of the purchase price are generally based on the following criteria: (i) Land is recorded at its estimated fair value. (ii) Buildings are recorded at depreciated replacement cost based on estimates of prevailing construction costs for buildings of a similar class and age. (iii) Tenant improvements are recorded at depreciated replacement cost based on estimates of prevailing construction costs, taking into account the condition of tenants’ premises. (iv) Lease origination costs are determined based on estimates of the costs that would be required for the existing leases to be put in place under the same terms and conditions. These costs include leasing commissions, foregone rent and operating cost recoveries during an estimated lease-up period. (v) Values ascribed to above- and below-market in-place leases are determined based on the present value of the difference between the rents payable under the terms of the in-place leases and estimated market rents. (vi) Tenant relationship values are determined based on the net costs avoided if the tenants were to renew their leases at the end of the existing term, adjusted for the estimated probability that the tenants will renew. For practical reasons, the purchase price allocation of property acquisitions which occur at or near year end are estimated based on information known at the time and are subsequently evaluated and adjusted as necessary. (c) Land and Shopping Centres Under Development Land and shopping centres under development are stated at cost. Cost includes all expenditures incurred in connection with the acquisition, development, redevelopment and initial leasing of the properties. These expenditures include acquisition costs, construction costs, initial leasing costs, other direct costs, building improvement costs and carrying costs. Carrying costs (including property taxes and interest on both specific and general debt, incremental direct internal costs, net of operating results) are capitalized to the cost of the properties until the accounting completion date (which is defined as the earlier of the completion of tenant improvements or one year from the cessation of major construction activity). Upon completion, the properties are classified as shopping centres. 84 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 85 (d) Deferred Costs Deferred costs include tenant inducements and leasing costs incurred through leasing activities and tenant improvements related to shopping centre acquisitions. (e) Intangible Assets and Liabilities Intangible assets and liabilities include lease origination costs associated with in-place leases, the value of the above- and below-market leases, and the value of customer relationships, allocated to existing tenants in acquired shopping centres. (f) Impairment of Long-Lived Assets Long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If it is determined that the net cumulative future cash flows of a long-lived asset are less than its carrying value, the long-lived asset is written down to its fair value. Cumulative future cash flows represent the undiscounted estimated future cash flow expected to be received from the long-lived asset. Assets reviewed for impairment under this policy include shopping centres, land and shopping centres under development, intangible assets, and furniture, fixtures and equipment. (g) Furniture, Fixtures and Equipment Furniture, fixtures and equipment are recorded at cost less accumulated amortization. (h) Marketable Securities Marketable securities are classified as either held-to-maturity, held for trading, or available-for-sale. (cid:129) Held-to-maturity investments are measured at amortized cost. Losses due to impairment are included in current period net income. (cid:129) Held for trading investments are measured at fair value. All gains and losses are included in net income in the period in which they arise. (cid:129) Available-for-sale investments are measured at fair value. Revaluation gains and losses are included in other comprehensive income until the investment is sold or when a loss is deemed to be other than temporary and subsequently recorded on the income statement. (i) Property Rental Revenue Property rental revenue includes rents earned from tenants under lease agreements, including percentage participation rents, property tax and operating cost recoveries, and incidental income, including lease cancellation payments. Property rental revenue also includes the amortization of above- and below-market leases allocated on asset acquisitions. Tenant inducements are deducted from rental revenue on a straight-line basis over the term of the tenant’s lease. Revenue recognition begins on the lease commencement date. The Company uses the straight-line method of recognizing rental revenue whereby the total amount of rental revenue to be received from leases is accounted for on a straight-line basis over the term of the lease. Accordingly, a deferred rent receivable is recorded from the tenants for the current difference between the straight-line rent recognized as rental revenue and the rent that is contractually due from the tenants. (j) Amortization Buildings and improvements are amortized on a straight-line basis, so as to fully amortize the properties over their estimated useful lives, which vary, but do not exceed 40 years. Deferred costs, including leasing fees and tenant improvements incurred on securing leases, other than initial leases on shopping centres under development, are amortized over the term of such leases on a straight-line basis. first capital realty annual report 2008 85 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 86 Notes to the Consolidated Financial Statements – continued Lease origination costs associated with in-place leases are amortized over the remaining lives of the associated leases. The value of tenant relationships is amortized over the expected term of the relationship. In the event a tenant vacates its leased space prior to the contractual termination of the lease, and no rental payments are being made on the lease, any unamortized balance relating to that lease is expensed immediately. Commitment fees and other costs incurred in connection with debt financing are amortized using the effective interest method of amortization and presented as non-cash interest expense. Furniture, fixtures and equipment are amortized on a straight-line basis over estimated useful lives ranging from three to ten years. (k) Cash and Cash Equivalents Cash and cash equivalents are comprised of cash and short-term deposits with original maturities of three months or less. (l) Foreign Currency The Company carries on business in the United States through operationally and financially self-sustaining entities. Assets and liabilities denominated in United States dollars are translated into Canadian dollars at year-end exchange rates. Revenues and expenses denominated in United States dollars are translated at the weighted average daily exchange rate for the periods being reported on. The resulting net gains or losses are accumulated and included in a separate component of shareholders’ equity described as Accumulated Other Comprehensive Income. (m) Derivative Financial Instruments and Hedging Derivative financial instruments are utilized by the Company in the management of its interest rate exposures. Derivative instruments are recorded on the balance sheet at fair value including those derivatives that are embedded in a financial instrument or other contract but are not closely related to the host financial instrument or contract. Changes in the fair values of derivative instruments are recognized in net income, except for derivatives that are designated as cash flow hedges. The fair value changes for the effective portion of such cash flow hedges are recognized in Other Comprehensive Income (“OCI”). The Company has no significant derivative instruments other than its interest rate swaps. The Company documents its eligibility for hedge accounting and assesses the effectiveness of these relationships based on the degree of expected future offsetting cash flows. Interest rate swaps are recorded in the balance sheet at fair value. The change in fair value with respect to the swaps that have been designated is recorded in OCI. The change in fair value with respect to swaps that are not designated as hedges, as well as the ineffective portion of designated hedges, are recorded in net income with interest and other income. The Company does not utilize derivative financial instruments for trading or speculative purposes. (n) Convertible Debentures The Company presents its convertible debentures in their liability and equity component parts where applicable, as follows: (i) The liability component represents the present value of interest and principal obligations to be satisfied by cash or common shares of the Company, where a variable number of common shares is required to settle the obligation, discounted at the rate of interest that would have been applicable to a debt-only instrument of comparable term and risk at the date of issue. As a result, the interest payments are treated as a reduction of the liability component, and the interest expense, calculated using the discount rate, is recorded as an increase in the liability component. (ii) The equity component of the convertible debentures is included in Shareholders’ Equity in the consolidated balance sheets. The equity component consists of the value ascribed to the conversion right granted to the holder, which remains a fixed amount over the term of the debentures unless there are conversions. 86 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 87 (o) Income Taxes Income taxes are accounted for using the liability method. Under this method, future income taxes are recognized for the expected future tax consequences of differences between the carrying amount of balance sheet items and their corresponding tax values. Future income taxes are computed using substantively enacted corporate income tax rates for the years in which the differences are expected to reverse. (p) Stock-Based Compensation Plans The Company has stock-based compensation plans as described in note 16(d) and (e). The Company recognizes compensation expense for stock-based compensation awards at the fair value as at the granting date over the vesting period. (q) Use of Estimates The preparation of the Company’s financial statements in conformity with Canadian generally accepted accounting principles requires Management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the balance sheet date and the reported amounts of revenue and expenses during the reporting year. Actual results could differ from such estimates. Significant estimates are required in the allocation of the purchase prices of shopping centre acquisitions, determining future cash flows when assessing assets for impairment, determining the useful lives of assets for amortization purposes, determining the allocation of convertible debentures between debt and equity, future income taxes, assessing the allowance for doubtful accounts on trade accounts receivable and straight-line rent, the determination of the fair value of stock-based compensation and determining fair values of financial instruments. 2. changes in accounting policies (a) Current accounting policy changes Effective January 1, 2008, the Company adopted three new accounting standards issued by the Canadian Institute of Chartered Accountants (“CICA”). They include Section 1535, Capital Disclosures; Section 3862, Financial Instruments — Disclosures; and Section 3863, Financial Instruments — Presentation. As the standards relate primarily to disclosure, there was no impact on the Company’s financial position or results of operations. (i) Capital Disclosures — CICA Section 1535 On December 1, 2006, the CICA issued Handbook Section 1535 Capital Disclosures. Section 1535 specifies additional disclosures required regarding the Company’s management of capital. The Company has included these disclosures in Note 11. (ii) Financial Instruments — Disclosures and Presentation — CICA Sections 3862 and 3863 On December 1, 2006, the CICA issued two new accounting standards: Handbook Section 3862 Financial Instruments — Disclosures, and Handbook Section 3863 Financial Instruments — Presentation. The new Sections 3862 and 3863 replace Handbook Section 3861 Financial Instruments — Disclosure and Presentation, enhancing disclosure requirements. Additional disclosures have been included in Notes 10, 12 and 21 to comply with these standards. (b) Future accounting policy changes (i) Goodwill and Intangible Assets — CICA Section 3064 On January 31, 2008, the CICA issued a new accounting standard: Handbook Section 3064 Goodwill and Intangible Assets which clarifies that costs can be capitalized only when they relate to an item that meets the definition of an asset. Section 3064 will replace Handbook Section 3062 Goodwill and Other Intangible Assets and Handbook Section 3450 Research and Development Costs. This new standard will be effective for the Company in the first quarter of 2009 and will be adopted on a retroactive basis with restatement of prior years. As a result of applying this standard, the Company will no longer first capital realty annual report 2008 87 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 88 Notes to the Consolidated Financial Statements – continued defer recoverable costs and match the expense to the period over which the costs are recovered from the tenants. The standard requires that the expenditure is either capitalized or expensed in the period it is incurred, based upon the nature of the expenditure. The effect of adopting this standard is summarized as follows: Effect on the balance sheet as at December 31, 2008 (thousands of dollars) Shopping centres Other assets Shareholders’ Equity Effect on the statement of income for the year ended December 31, 2008 (thousands of dollars) Property operating costs Building amortization expense Net income Earnings per share (basic and diluted) Increase (decrease) 13,400 (11,500) 1,900 Increase (decrease) (600) 400 200 — $ $ $ $ $ $ $ (ii) Future adoption of IFRS (“International Financial Reporting Standards”) in Canada The Canadian Accounting Standards Board has confirmed that IFRS will replace Canadian GAAP effective for fiscal periods beginning on or after January 1, 2011. The Canadian Securities Administrators have provided issuers with the option of early adopting IFRS for Canadian reporting purposes. The Company does not intend to early adopt IFRS at this time. The Company is currently evaluating the impact of adopting IFRS as its primary accounting principles and implementing its changeover plan. (iii) Business Combinations In January 2009, the CICA issued new accounting standards: Handbook Section 1582 – Business Combinations, Handbook Section 1602 – Non-controlling Interests and Handbook Section 1601 – Consolidated Financial Statements, which are based on the IASB’s International Financial Reporting Standard 3, “Business Combinations”. The new standards replace the existing guidance on business combinations and consolidated financial statements. The objective of the new standards is to harmonize Canadian accounting for business combinations with the international and U.S. accounting standards. The new standards are to be applied prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after January 1, 2011, with earlier application permitted. Assets and liabilities that arose from business combinations whose acquisition dates preceded the application of the new standards shall not be adjusted upon application of these new standards. The Non-controlling Interests standard should be applied retrospectively except for certain items. The Company is assessing whether it will apply the new accounting standards at the beginning of its 2011 fiscal year or elect to early adopt the new accounting standards at the beginning of its 2010 fiscal year in order to minimize the amount of restatement when the Company adopts International Financial Reporting Standards (“IFRS”). The impact of the new standards on the Company’s results of operations, financial position and disclosures will be assessed as part of the Company’s IFRS transition project. 88 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 89 3. shopping centres (thousands of dollars) Land Buildings and improvements Accumulated amortization 2008 2007 $ 756,244 2,470,053 3,226,297 (257,512) $ 2,968,785 $ 695,025 2,222,071 2,917,096 (199,018) $ 2,718,078 The Company acquired interests in four (2007 – six) income-producing shopping centres as follows: (thousands of dollars) Allocation of purchase price: Shopping centres Shopping centres under development Deferred costs Intangible assets Intangible liabilities Total purchase price, including acquisition costs Less mortgages assumed on acquisition and vendor-take-back mortgages Difference between principal amount and fair value of assumed mortgage financing Net cash outlay for acquisitions, funded from cash and credit facilities 2008 2007 $ 54,490 4,237 1,235 1,492 (2,057) 59,397 (2,850) 157 56,704 $ $ 229,824 8,040 6,872 12,745 (1,921) 255,560 (24,602) (404) 230,554 $ During the year ended December 31, 2008, the Company sold a shopping centre in Regina, Saskatchewan for proceeds of $3.6 million resulting in a gain of $1.6 million (note 17). 4. land and shopping centres under development The Company acquired land and shopping centres under development as follows: (thousands of dollars) Purchase price of land and shopping centres acquired for development or redevelopment, including acquisition costs Less mortgages assumed on acquisitions and vendor-take-back mortgages Difference between principal amount and fair value of assumed mortgage financing Net cash outlay for acquisitions, funded through cash and credit facilities 2008 15,802 (4,024) 109 11,887 $ $ 2007 65,562 — — 65,562 $ $ During the year ended December 31, 2008, the Company sold four land parcels totalling 18.9 acres for gross proceeds of $11.0 million, resulting in a total net gain of $3.9 million (note 17). The Company also acquired an additional 25% interest in an existing land parcel for future development located in Calgary, Alberta in exchange for $1.6 million. During the year ended December 31, 2008, the Company completed developments with a book value of $288.7 million (2007 – $149.1 million) that were transferred to shopping centres. In addition, during the year ended December 31, 2008, the Company transferred shopping centres with a book value of $44.2 million (2007 – $38.2 million) to land and shopping centres under development. The Company also invested $227.8 million (2007 – $143.7) on expenditures on its development properties. first capital realty annual report 2008 89 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 90 Notes to the Consolidated Financial Statements – continued Interest expense and incremental direct internal costs capitalized to development properties during the year ended December 31, 2008, totalled $20.7 million (2007 – $15.6 million) and $6.0 million (2007 – $6.7 million), respectively. The costs to complete projects currently under development are estimated at $114.8 million. 5. deferred costs (thousands of dollars) Deferred leasing costs and tenant improvements incurred through leasing activities Tenant improvement costs recorded on acquisition of shopping centres (thousands of dollars) Deferred leasing costs and tenant improvements incurred through leasing activities Tenant improvement costs recorded on acquisition of shopping centres Cost 77,502 48,519 126,021 Cost 66,760 47,914 114,674 $ $ $ $ 2008 Accumulated Amortization $ $ 29,620 19,601 49,221 2007 Accumulated Amortization $ $ 21,385 13,683 35,068 Net Book Value 47,882 28,918 76,800 Net Book Value 45,375 34,231 79,606 $ $ $ $ Incremental direct internal costs related to leasing activities totalling $2.9 million (2007 – $2.4 million) were capitalized during the year ended December 31, 2008. 6. intangible assets and liabilities Cost 44,051 2,235 7,518 53,804 24,990 $ $ $ 2008 Accumulated Amortization $ $ $ 20,968 1,344 2,180 24,492 7,726 Net Book Value 23,083 891 5,338 29,312 17,264 $ $ $ (thousands of dollars) Intangible Assets Lease origination costs Above-market in-place leases Tenant relationships Intangible Liabilities Below-market in-place leases 90 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 91 (thousands of dollars) Intangible Assets Lease origination costs Above-market in-place leases Tenant relationships Intangible Liabilities Below-market in-place leases Cost 43,558 2,237 7,063 52,858 23,204 $ $ $ 2007 Accumulated Amortization $ $ $ 14,447 1,022 1,451 16,920 5,409 Values ascribed to above- and below-market in-place leases are amortized to property rental revenue. 7. investment in equity one, inc. (thousands of dollars) Investment in Equity One, Inc., beginning of year Equity income Less dividends received Purchase of Equity One, Inc., common shares (a) Other comprehensive losses of Equity One, Inc. Dilution gain (b) Cumulative currency effect Investment in Equity One, Inc., end of year (c) Ownership interest in Equity One at December 31 2008 191,536 8,716 (18,193) 1,263 (1,955) 2,359 43,533 227,259 18.5% $ $ Net Book Value 29,111 1,215 5,612 35,938 17,795 2007 226,996 14,375 (17,617) 2,254 (320) — (34,152) 191,536 19.1% $ $ $ $ $ Equity One, Inc. (“Equity One”) (NYSE:EQY), is a self-administered and self-managed real estate investment trust in the United States. The Company and Equity One are each indirectly controlled subsidiaries of Gazit-Globe Ltd. (“Gazit”), an Israeli corporation trading on the Tel Aviv Stock Exchange. (a) In 2008, the Company’s U.S. subsidiaries acquired 96,500 (2007 – 80,000) common shares of Equity One at an average price of US$10.75 (2007 – US$26.43) per share. (b) In 2008, Equity One’s common shares outstanding increased from 73.3 million to 76.2 million, resulting in a reduction of the Company’s ownership interest in Equity One from 19.1% at December 31, 2007 to 18.5% at December 31, 2008. As a result, the Company has recorded a dilution gain of $2.9 million before tax ($1.6 million, net of tax) during the year ended December 31, 2008 (note 17). (c) The closing price on the NYSE of Equity One’s common shares at December 31, 2008 was US$17.70 (2007 – US$23.03) per share. The book value per share of the Company’s investment in Equity One at December 31, 2008 was US$13.25 (2007 – US$13.82). At December 31, 2008, 76.2 million (2007 – 73.3 million) shares of Equity One were outstanding, of which 14.1 million (2007 – 14.0 million) shares were held by the Company. first capital realty annual report 2008 91 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 92 Notes to the Consolidated Financial Statements – continued 8. loans, mortgages and other real estate assets (thousands of dollars) Investment in units of Allied Properties Real Estate Investment Trust (a) Investments in other marketable securities (a) Loans receivable (b) 2008 19,808 2,980 9,692 32,480 $ $ 2007 — 2,130 9,459 11,589 $ $ (a) The Company invests from time to time in the securities of other public real estate entities. These securities are recorded at market value. Unrealized gains and losses on available-for-sale securities are recorded in other comprehensive income, while unrealized gains and losses on securities held for trading are recorded in net income. The investment in Allied Properties REIT at December 31, 2008 consisted of 1,591,000 units with a cost of $16.57 per unit. As at December 31, 2008, the market value of these units was $12.45 per unit resulting in an unrealized loss of $4.12 per unit or a total of $6.6 million which has been recorded in other comprehensive income, as the investment has been classified as available-for-sale under relevant accounting rules. Subsequent to year end, the Company made further investments in Allied Properties REIT which are discussed under Subsequent Events (Note 28(c)). Management has considered whether there is an “other-than-temporary” decline in the value of the Allied Properties REIT units, given the difference between current market value and cost. An “other-than-temporary” decline would result in the loss being reclassified to net income. Management has concluded that an “other-than-temporary” decline does not exist as of December 31, 2008, due to the fact that the decline in the unit price of Allied primarily took place in a two-and-a-half month period in 2008 and therefore, the decline is not, as of December 31, 2008, considered prolonged. The Company will periodically re-evaluate whether the decline is other-than-temporary and reclassify the loss if appropriate. (b) The Company has funded its partners’ share of certain development activities. The loans bear interest at an average rate of 7.1% (2007 – 7.9%) and are repayable from the partners’ share of proceeds generated from refinancings or sales. The Company has taken assignments of the development partners’ equity interests in the development partnerships as security for the loans receivable. The fair values of the Company’s loans, mortgages receivable and marketable securities approximate carrying values. 9. other assets (thousands of dollars) Deferred financing costs on credit facilities (net of accumulated amortization of $1.3 million (2007 – $0.5 million)) Prepaid expenses Deposit in trust on sale of property Deposits related to property operations Deposits and costs on properties under option Fixtures, equipment and computer hardware and software (net of accumulated amortization of $3.3 million (2007 – $2.0 million)) 2008 1,040 16,830 3,360 9,989 2,527 5,180 38,926 $ $ 2007 1,643 13,042 — 8,677 3,825 5,208 32,395 $ $ 92 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 93 10. amounts receivable (thousands of dollars) Trade receivables (net of allowances for doubtful accounts of $3.4 million (2007 – $3.0 million)) Rent revenue recognized on a straight-line basis (net of allowances for doubtful accounts of $5.3 million (2007 – $4.4 million)) Construction and development related chargebacks and receivables Corporate and other amounts receivable 2008 2007 $ 13,788 $ 13,227 26,835 3,844 1,034 45,501 $ 21,463 100 1,218 36,008 $ The Company determines its allowance for doubtful accounts on a tenant-by-tenant basis taking account of lease terms, industry conditions, and the status of the tenant’s account, among other factors. Accounts are written off only when all collection efforts have been exhausted. 11. capital management The Company manages its capital, taking into account the long-term business objectives of the Company, to provide stability and reduce risk while generating an acceptable return on investment over the long term to shareholders. The Company’s capital structure currently includes common shares, convertible debentures and secured and unsecured term financings and revolving credit facilities which together provide the Company with financing flexibility to meet its capital needs. Primary uses of capital include acquisitions, development activities, capital improvements, funding of leasing costs, debt principal repayments and the payment of dividends to shareholders. The actual level and type of future financings to fund these capital requirements will be determined based on prevailing interest rates, various costs of debt and/or equity capital, capital market conditions and Management’s general view of the required leverage in the business. The components of the Company’s capital as at December 31, 2008 are set out in the table below: (millions of dollars) Liabilities (principal amounts outstanding) Mortgages – Canada Loans and credit facilities – Canada Loans and credit facilities – U.S. Mortgages and credit facilities Senior unsecured debentures principal Convertible debentures principal Shareholders’ equity (based on closing share price of $18.97 (2007 – $24.02)) Common shares 2008 1,211 185 178 1,574 597 233 1,707 4,111 $ $ 2007 1,146 178 147 1,471 600 233 1,914 4,218 $ $ first capital realty annual report 2008 93 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 94 Notes to the Consolidated Financial Statements – continued The Company’s overall capital financing strategy includes maintaining debt in the range of 45% to60% of total market capitalization. The Company monitors a number of financial ratios in conjunction with its financial planning. These ratios are set out in the table below: Debt to total market capitalization Debt to aggregate assets EBITDA interest coverage excluding capitalized interest on development Fixed charges coverage ratio based on EBITDA Unencumbered asset value ratio Guideline 45-60% <65% >1.30 The above ratios include non-GAAP measures which are defined below: 2008 52.5% 53.6% 2.66 1.72 1.85 2007 48.9% 56.4% 2.39 1.59 1.49 Debt consists of mortgages, loans, credit facilities and senior unsecured debentures, net of cash on hand. Debt excludes convertible debentures if the Company pays interest in shares and if the maturity date is later than the maturity of senior unsecured financings. Aggregate assets consist of total assets plus accumulated amortization of buildings, deferred costs and intangible assets, less future income tax assets and cash. Total market capitalization consists of the market value of the Company’s common shares, the par value of senior unsecured debentures and convertible debentures and mortgages, loans and credit facilities. EBITDA is calculated as net income, adding back income tax expense, interest expense per the income statement, amortization expense and excluding the impact of gains and losses and other non-cash items. Fixed charges include financing costs plus principal payments on debt. Unencumbered assets include the gross book value of assets that have not been pledged as security under any credit agreement or mortgage excluding land and shopping centres under development and future income tax assets. The unencumbered asset value ratio is calculated as unencumbered assets divided by the principal amount of the unsecured debt. The Company’s strategy involves maintaining and improving the above ratios to allow continued access to capital at a reasonable cost. The Company’s senior unsecured debentures are currently rated BBB with a stable trend by Dominion Bond Rating Services and Baa(3) with a stable outlook by Moody’s Investor Services. The Company’s long-term financial objectives remained substantially unchanged during the past five years. However, given the disruption in the financial and credit markets since the third quarter of 2007, the type of capital available has shifted to primarily secured financing with no availability of unsecured financings at a reasonable cost. The Company has therefore accessed the secured financing market both in the form of mortgages and bank credit facilities to finance its activities. The Company’s long-term financing strategy is based on maintaining maximum flexibility in accessing capital including a pool of unencumbered assets and maintaining investment grade credit agency ratings. Unsecured financing will be utilized once available at a reasonable cost. The Company periodically re-evaluates its overall financing and capital strategy to ensure the best access to available capital at the lowest possible cost. The Company is subject to financial covenants in agreements governing its senior unsecured debentures and term revolving credit facilities. The Company is in compliance with all financial covenants. 94 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 95 12. mortgages, loans and credit facilities (thousands of dollars) Fixed rate mortgages Secured term loans Floating rate hedged (with interest rate swaps) Floating rate Secured revolving credit facilities Floating rate Unsecured revolving credit facilities Floating rate hedged (with interest rate swaps) Floating rate (thousands of dollars) Fixed rate mortgages Secured term loans Floating rate hedged (with interest rate swaps) Floating rate Secured revolving credit facilities Floating rate 2008 Canada $ 1,210,568 $ — — — 50,000 134,586 $ 1,395,154 Canada $ 1,145,828 — — 178,475 $ 1,324,303 $ 2007 $ $ U.S. — 60,764 62,558 30,450 — 24,604 178,376 U.S. — 39,536 88,440 18,835 146,811 Total $ 1,210,568 60,764 62,558 30,450 50,000 159,190 $ 1,573,530 Total $ 1,145,828 39,536 88,440 197,310 1,471,114 $ Mortgages and term loans are secured by shopping centres and the investment in Equity One. At December 31, 2008, the Company had $141.0 million (2007 – $128.0 million) of undrawn credit facilities available for acquisitions, development, and general corporate purposes. Of the net book value of real estate assets of $3.3 billion as at December 31, 2008 (2007 – $3.1 billion), approximately $1.6 billion (2007 – $1.8 billion) has been pledged as security under mortgages and the credit facilities. Real estate assets consist of shopping centres, land and shopping centres under development, deferred costs, intangible assets and intangible liabilities. Canada Fixed rate mortgages bear interest at a weighted coupon interest rate of 6.21% at December 31, 2008 (2007 – 6.32%) and mature in years ranging from 2009 to 2025. The weighted average effective interest rate on fixed rate financing at December 31, 2008 was 6.17% (2007 – 6.14%). Floating rate financing hedged (with interest rate swaps) is comprised of B.A. swaps on a notional $50 million (2007 – nil) at an average fixed rate of 4.27% plus applicable spreads which mature by 2018. Floating rate financing bears interest at floating rates determined by reference to Canadian prime lenders or bankers’ acceptance rates ranging from 2.70% to 4.85% and matures in March 2010. first capital realty annual report 2008 95 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 96 Notes to the Consolidated Financial Statements – continued Principal repayments of Canadian dollar mortgages and credit facilities outstanding as at December 31, 2008 are as follows: (thousands of dollars) 2009 2010 2011 2012 2013 Thereafter Unamortized deferred financing costs and premiums and discounts, net $ Principal Instalment Payments 31,223 30,530 29,208 27,150 23,910 51,512 193,533 Balance Maturing $ 60,477 295,774 62,672 108,785 155,189 519,557 1,202,454 $ Total 91,700 326,304 91,880 135,935 179,099 571,069 1,395,987 — 193,533 $ — $ 1,202,454 (833) $ 1,395,154 Weighted Coupon Interest Rate 5.64% 4.28% 7.17% 6.96% 6.34% 5.94% 5.72% — — On March 5, 2007, the Company completed a $250 million three-year unsecured revolving credit facility syndicated with six financial institutions. On October 4, 2007, the Company completed a $100 million increase on its unsecured revolving credit facility syndicated with seven financial institutions bringing the total availability to $350 million, with a term to March 2010. This facility was refinanced subsequent to December 31, 2008 as described in Note 28(e). United States Floating rate financing hedged (with interest rate swaps) is comprised of LIBOR swap agreements on a notional US$50 million (2007 – US$40 million) at an average fixed rate of 4.54% (2007 – 4.55%) plus applicable spreads, and matures between 2013 and 2018. Floating rate financing of $51.5 million (US$42.3 million) bears interest at the LIBOR plus 145 basis points and matures in 2010. Floating rate financing of $11.2 million (US$9.2 million) bears interest at the LIBOR plus 140 basis points and matures in 2011. The remainder of the floating rate debt bears interest at rates determined by U.S. prime lenders ranging from 2.06% to 3.72%. In 2007, floating rate financing of $65.9 million (US$66.5 million) bore interest at LIBOR plus 145 basis points and floating rate financing of $13.8 million (US$13.9 million) bore interest at LIBOR plus 140 basis points. The remainder of the floating rate debt bore interest at rates determined by reference to bankers’ acceptance rates or U.S. prime lenders ranging from 5.25% to 8.10%. Principal repayments of U.S. dollar financing outstanding as at December 31, 2008 are due as follows: (thousands of dollars) 2009 2010 2011 Add: unamortized deferred financing costs and premiums and discounts, net Principal Instalment Payments 8,222 35,018 228 43,468 — 43,468 $ $ Balance Maturing $ $ — 126,062 9,120 135,182 — 135,182 Total 8,222 161,080 9,348 178,650 (274) 178,376 $ $ At December 31, 2008, the fair value of the Company’s mortgages, loans and credit facilities was approximately $1,612 million (2007 – $1,493 million). Based on the amount of floating rate debt as of December 31, 2008, a 1% change in prevailing interest rates would change annualized interest expense by approximately $2.5 million. 96 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 97 13. accounts payable and other liabilities (thousands of dollars) Trade payables and accruals Construction and development payables and accruals Accrued interest Dividends payable Interest rate swaps at fair value Tenant deposits Other liabilities 2008 49,767 41,038 17,276 28,801 17,655 9,297 2,673 166,507 $ $ 2007 44,367 10,965 17,836 25,498 695 8,333 2,312 110,006 $ $ 14. senior unsecured debentures (thousands of dollars) Series Date of Issue Maturity Date A B C D E F June 21, 2012 March 30, 2011 December 1, 2011 June 21, 2005 March 30, 2006 August 1, 2006 September 18, 2006 April 1, 2013 January 31, 2007 April 5, 2007 January 31, 2014 October 30, 2014 Principal Outstanding $ 100,000 $ 100,000 $ 100,000 $ 97,000 $ 100,000 $ 100,000 $ 597,000 Interest Rate Coupon 5.08% 5.25% 5.49% 5.34% 5.36% 5.32% 5.31% Effective 5.29% 5.51% 5.67% 5.51% 5.52% 5.47% 5.50% 2008 2007 $ 99,259 99,451 99,532 96,389 99,347 99,310 $ 593,288 $ 99,096 99,227 99,388 99,240 99,224 99,201 $ 595,376 On December 29, 2008, the Company purchased $3 million of the Series D 5.34% senior unsecured debentures for $2.5 million resulting in a gain of $0.4 million (note 17). The fair value of the senior unsecured debentures is approximately $518 million at December 31, 2008 (2007 – $580 million) based on closing bid spreads and current underlying Government of Canada bond yields. 15. convertible debentures (thousands of dollars) Date of Issue Maturity Date December 19, 2005 November 30, 2006 June 29, 2007 September 30, 2017 September 30, 2017 September 30, 2017 2008 2007 Interest Rate Coupon Effective 5.50% 6.45% 5.50% 6.39% 5.50% 6.61% 5.50% 6.46% Principal Liability Equity Principal Liability Equity $ 83,000 100,000 50,000 $ 233,000 $ 77,797 94,084 46,366 $ 218,247 $ $ 2,503 6,015 7,387 15,905 $ 83,000 100,000 50,000 $ 233,000 $ 77,369 93,593 46,068 $ 217,030 $ $ 2,503 6,015 7,387 15,905 first capital realty annual report 2008 97 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 98 Notes to the Consolidated Financial Statements – continued In 2008, 600,661 common shares (2007 – 467,057) were issued for $12.9 million (2007 – $12.0 million) to pay interest to holders of convertible debentures. The Company’s convertible debentures require interest payable semi-annually on March 31 and September 30. Holders of the debentures have the right to convert them into common shares at a share price of $27.00 through to December 31, 2011, and $28.00 thereafter to maturity. The Company has the option of repaying the debentures on maturity through the issuance of common shares at 97% of a weighted average trading price of the Company’s common shares. The Company also has the option of paying the semi-annual interest through the issuance of common shares valued in the same fashion. On June 29, 2007, the Company issued $50 million for total proceeds of $53.5 million, via private placement, of 5.50% convertible unsecured subordinated debentures due September 30, 2017, with the same terms and conditions as those issued on December 19, 2005. Of these debentures, $49 million of the principal amount were issued to subsidiaries of the Company’s major shareholder, Gazit-Globe Ltd. During the second quarter of 2007, $12 million principal of the convertible debentures were converted at the holder’s option into 444,443 common shares. On December 15, 2007, an additional $5 million principal of the convertible debentures were converted at the holder’s option into 185,185 common shares. As at December 31, 2008, subsidiaries of the Company’s major shareholder, Gazit-Globe Ltd. (“Gazit”), owned $123.6 million (2007 – $118.7 million) principal amount of the outstanding convertible debentures. Based on the Toronto Stock Exchange (“TSX”) closing bid price, as at December 31, 2008, the market value of the principal amount of the convertible debentures was $186 million (2007 – $221 million). 16. shareholders’ equity (a) Share Capital The Company has an unlimited number of authorized preference shares and common shares. The preference shares may be issued from time to time in one or more series, each series comprising the number of shares, designations, rights, privileges, restrictions and conditions which the Board of Directors determines by resolution; preference shares are non-voting and rank in priority to the common shares with respect to dividends and distributions upon dissolution. No preference shares have been issued. The common shares carry one vote each and participate equally in the earnings of the Company and the net assets of the Company upon dissolution. Dividends are payable on the common shares as and when declared by the Board of Directors. The following table sets forth the particulars of the issued and outstanding shares of the Company: Issued and outstanding at December 31, 2006 Payment of interest on convertible debentures (note 15) Conversion of convertible debentures (note 15) Exercise of warrants (c) Exercise of deferred share units (e) Exercise of options (d) Private placement of shares (b) Dividends reinvested in common shares (f) Issue costs Tax effect on issue costs Issued and outstanding at December 31, 2007 98 first capital realty annual report 2008 Number of Common Shares Stated Capital (thousands of dollars) 75,297,908 467,057 629,628 119,291 7,789 192,998 73,383 2,893,875 — — 79,681,929 1,128,926 12,048 16,325 1,503 162 3,385 1,292 74,962 (474) 157 1,238,286 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 99 Issued and outstanding at December 31, 2007 Issuance of common shares (b) Payment of interest on convertible debentures (note 15) Exercise of warrants (c) Exercise of options (d) Private placement of shares (b) Dividends reinvested in common shares (f) Issue costs Tax effect on issue costs Issued and outstanding at December 31, 2008 Number of Common Shares Stated Capital (thousands of dollars) 79,681,929 6,740,000 600,661 174,484 48,500 71,959 2,685,048 — — 90,002,581 1,238,286 152,449 12,891 2,197 785 1,407 59,980 (6,775) 2,169 1,463,389 (b) Issuance of Common Shares On March 26, 2008, the Company issued 4,900,000 shares at a price of $22.25 per share for gross proceeds of $109 million. On July 3, 2008, the Company completed the sale of 1,600,000 common shares as well as 240,000 additional shares pursuant to the exercise of the over-allotment option by the underwriters at a price of $23.60 per common share for gross proceeds of $43.4 million. On December 15, 2008, the Company issued 71,959 shares to two members of the Company’s management at a price of $17.72 per share for gross proceeds of $1.3 million. On December 14, 2007, the Company issued 73,383 shares to two members of the Company’s management at a price of $24.89 per share for gross proceeds of $1.8 million. (c) Warrants During 2008, a total of 174,484 (2007 – 119,291) share purchase warrants were exercised at $11.80 per share resulting in proceeds to the Company of $2.1 million (2007 – $1.4 million). The equity component of the warrants exercised totalling $0.1 million (2007 – $0.1 million) was transferred to share capital. On September 2, 2008, the remaining outstanding 1,429 warrants expired unexercised. (d) Stock Options As of December 31, 2008, the Company is authorized to grant up to 7,025,000 (2007 – 7,025,000) common share options to the employees, officers and directors of the Company and third-party service providers. As of December 31, 2008, 2,603,411 (2007 – 2,983,453) common share options are available to be granted. Options granted by the Company generally expire ten years from the date of grant and vest over three to five years. The outstanding options have exercise prices ranging from $12.42 to $27.57. first capital realty annual report 2008 99 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 100 Notes to the Consolidated Financial Statements – continued 2008 Common Share Options Outstanding Weighted Weighted Average Average Remaining Life Exercise (years) Price Options Vested Exercise Price Range 323,200 $12.42 – $16.91 $19.11 – $22.27 937,574 $24.75 – $27.57 1,697,857 $12.42 – $27.57 2,958,631 $ 15.32 $ 21.64 $ 26.85 $ 23.94 4.6 8.2 8.0 7.7 323,200 371,802 612,734 1,307,736 Weighted Average Exercise Price of Options Exercisable $ 15.32 $ 20.75 $ 26.28 $ 22.00 Common Share Options Outstanding 359,300 411,302 1,856,487 2,627,089 2007 Weighted Weighted Average Average Remaining Life Exercise (years) Price $ 15.16 $ 20.76 $ 26.81 $ 24.27 5.5 7.6 9.0 8.3 Weighted Average Exercise Price of Options Exercisable $ 15.16 $ 20.74 25.03 $ 19.19 $ Options Vested 359,300 271,486 175,429 806,215 In 2008, $1.6 million (2007 – $2.3 million) was recorded as an expense due to the vesting of options. Outstanding, beginning of year Granted Exercised Forefeited Outstanding, end of year Options vested, end of year Weighted average remaining life (years) 2008 2007 Common Share Options Weighted Average Exercise Price Common Share Options Weighted Average Exercise Price 2,627,089 625,376 (48,500) (245,334) 2,958,631 1,307,736 7.7 $ $ $ $ $ $ 24.27 22.23 15.60 24.82 23.94 22.00 1,568,968 1,322,052 (192,998) (70,933) 2,627,089 806,215 8.3 $ 20.58 27.57 $ $ 16.66 $ 24.81 $ 24.27 19.19 $ On March 3, 2008, the Company granted 605,376 options with a strike price of $22.27 and on November 6, 2008, 20,000 options with a strike price of $20.95, which had a total value of approximately $1.1 million at the time of issue. The fair value associated with the options issued was calculated using the Binomial Model for option valuation, assuming an average volatility of 14% on the underlying shares, a ten-year term to expiry, and the ten-year weighted average risk-free interest rate (typically, the ten-year Canada bond rate at the grant date). One third of the options vest on each of the three anniversary dates following the grant date. (e) Share Unit Plans The Company’s share unit plans include a Directors Deferred Share Unit Plan (“DSUP”), an Employee Restricted Share Unit Plan (“Employee RSU Plan”) and a Chief Executive Officer Restricted Share Unit Plan (“CEO RSU Plan”). As at December 31, 2008, a total of 1,250,000 common shares (2007 – 1,250,000) have been reserved for issuance under these plans. As at December 31, 2008, 105,342 units (2007 – 77,569 units) have been granted under the DSUP, and $0.5 million (2007 – $0.4 million) has been recorded as an expense. During 2008, 87,500 units (2007 – 68,000 units) were granted under the RSU plans, the number of units issued as a result of dividends declared on the common shares of the Company was 19,161 (2007 – 14,169), and 71,959 units (2007 – 73,383) were settled. At December 31, 2008, 277,427 units (2007 – 242,725 units) were outstanding under RSU plans. The Company recorded an expense of $1.8 million in 2008 (2007 – $1.6 million) for the grants under the CEO RSU Plan and Employee RSU Plan. 100 first capital realty annual report 2008 FCR_Page 101.qxd:2008_First Capital 3/26/09 10:25 AM Page 101 (f) Dividend Reinvestment Plan (“DRIP”) The Company adopted a “DRIP” in May 2005 enabling shareholders who qualified to elect to participate in the DRIP, to reinvest in additional common shares at a discount of 2% of the weighted average trading price of the common shares on the TSX for the five consecutive trading days preceding the dividend payment date. On August 7, 2008, the Company announced that it was suspending the DRIP. Accordingly any dividend payable to shareholders subsequent to that date is not subject to the DRIP. The suspension is in effect unless and until further notice is given. The Company may consider from time to time reinstating the DRIP. 17. interest and other income (thousands of dollars) Realized (losses) gains on sale of marketable securities Change in cumulative unrealized (losses) gains on marketable securities held-for-trading Interest, dividend and distribution income from marketable securities and cash investments Dilution gain on investment in Equity One, Inc (note 7(b)) Gain (loss) on settlement of debt (note 14) Gain on disposition of shopping centres Gains on disposition of land Realized gains on interest rate swaps not designated as hedges Unrealized gains on interest rate swaps not designated as hedges Interest income from development loans Other income 18. interest expense (thousands of dollars) Mortgage, loans and credit facilities Senior unsecured debentures Convertible debentures Other non-cash interest expense Interest expense Convertible debenture interest paid in common shares (note 15) Change in accrued interest Effective interest rate in excess of coupon rate on debentures Interest paid in excess of coupon interest on assumed mortgages Other non-cash interest expense Interest capitalized to land and shopping centres under development Cash interest paid 2008 2007 $ (212) $ 2,504 (1,638) 1,474 2,898 438 1,631 3,945 — — 539 347 9,422 2008 65,700 31,887 13,632 2,466 113,685 (12,891) 560 (864) 1,436 (2,466) 20,723 120,183 $ $ $ — 1,768 — (483) 323 — 161 643 658 (24) 5,550 2007 70,807 30,071 12,685 2,480 116,043 (12,048) (2,362) (696) 1,890 (2,480) 15,601 115,948 $ $ $ first capital realty annual report 2008 101 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 102 Notes to the Consolidated Financial Statements – continued 19. income taxes The Company’s business activities are carried out directly and through operating subsidiaries, partnership ventures and trusts in Canada and the United States. The income tax effect on operations depends on the tax legislation in each country and the operating results of each subsidiary, partnership ventures, and the parent company. The following table summarizes the provision for income taxes: (thousands of dollars) Provision for income taxes on income at the combined Canadian federal and provincial income tax rate of 32.0% (2007 – 34.4%) Increase (decrease) in the provision for income taxes due to the 2008 2007 $ 17,817 $ 14,784 following items: U.S. operations Non-deductible interest expense Change in future income tax rate Expenses not deductible for tax purposes Other items Income taxes The Company’s future income tax assets are summarized as follows: (thousands of dollars) Losses available for carry-forward Canadian and U.S. minimum tax credits Other The Company’s future income tax liabilities are summarized as follows: (thousands of dollars) Investments Shopping centres Other 1,548 276 (2,515) 1,344 (221) 18,249 2008 11,636 884 (543) 11,977 2008 13,880 43,676 (1,936) 55,620 $ $ $ $ $ (40) 240 (5,250) 1,697 1,171 12,602 2007 7,890 761 1,080 9,731 2007 13,880 25,178 7,699 46,757 $ $ $ $ $ At December 31, 2008, the Company has tax-loss carry-forwards for Canadian income tax purposes of approximately $41.3 million (2007 – $29.0 million), which have been recognized as future income tax assets and are available to reduce future Canadian taxable income. These tax-loss carry-forwards expire at various dates between December 31, 2009 and December 31, 2028. 102 first capital realty annual report 2008 FCR_Page 103.qxd:2008_First Capital 3/26/09 10:26 AM Page 103 20. per share calculations The following table sets forth the computation of per share amounts: (thousands of dollars, except per share amounts) Basic and diluted net income available to common shareholders Denominator Weighted average shares outstanding for basic per share amounts: Outstanding warrants Outstanding options Denominator for diluted net income available to common shareholders Basic and diluted earnings per share 2008 2007 $ 37,430 87,127,555 44,037 88,632 87,260,224 $ 0.43 $ 30,353 77,996,827 132,477 298,279 78,427,583 $ 0.39 The following securities were not included in the diluted per share calculation as the effect would have been anti-dilutive: Exercise Price $ 20.80 – $ 27.57 $ 27.00 Number of Shares if Converted or Exercised 2008 2,625,431 8,629,630 Exercise Price $27.57 $27.00 2007 1,300,352 8,629,630 Common share options Convertible debentures – 5.5% 21. risk management In the normal course of its business, the Company is exposed to a number of risks that can affect its operating performance. These risks, and the actions taken to manage them, are as follows: (a) Interest Rate Risk The Company attempts to structure its financings so as to stagger the maturities of its debt, thereby mitigating its exposure to interest rate and other credit market fluctuations. A portion of the Company’s mortgages, loans and credit facilities are floating rate instruments. From time to time, the Company may enter into interest rate swap contracts or other financial instruments to modify the interest rate profile of its outstanding debt without an exchange of the underlying principal amount. The fair value of the Company’s interest rate swaps and other contracts is a negative value of approximately $17.7 million (2007 – negative value of $0.7 million) due to changes in interest rates since the contracts were entered into. (b) Credit Risk Credit risk arises from the possibility that tenants and/or debtors may experience financial difficulty and be unable to fulfill their lease commitments or loans. The Company mitigates the risk of credit loss by investing in well-located properties in urban markets that attract quality tenants, ensuring that its tenant mix is diversified and by limiting its exposure to any one tenant. No one tenant represents more than 7.1% of annualized minimum rent. A tenant’s success over the term of its lease and its ability to fulfill its lease obligations, is subject to many factors. There can be no assurance that a tenant will be able to fullfil all of its existing commitments and leases up to its expiry date. first capital realty annual report 2008 103 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 104 Notes to the Consolidated Financial Statements – continued (c) Currency Risk The Company maintains its accounts in Canadian dollars. However, a portion of its operations are located in the United States and therefore the Company is subject to foreign currency fluctuations which may, from time to time, impact its financial position and results. The Company’s U.S. operations are financed in part by U.S. dollar-denominated loans and credit facilities, which are serviced by the cash flow generated by the Company’s dividends from Equity One. In the normal course of business, the Company may enter into forward foreign exchange contracts, which may represent designated hedges of a portion of the net investment in the United States self-sustaining operations. While the U.S. dollar financings reduce the Company’s exposure to fluctuations in foreign currency exchange rates, not all of its net U.S. dollar currency risk has been hedged. As a result, a strengthening of the Canadian dollar would result in a reduction in the carrying value of the Company’s net assets in the United States, and a weakening of the Canadian dollar would increase the carrying value of the net assets in the United States. Based on the carrying value of the Company’s net assets in the United States, a 1% change in prevailing exchange rates would result in a net change of $0.8 million to the Company’s unrealized foreign currency adjustment included in Other Comprehensive Income. (d) Fair Values of Financial Instruments The fair values of the Company’s net working capital items approximate their recorded values at December 31, 2008 and 2007 due to their short-term nature. The fair values of the Company’s other financial assets and liabilities are disclosed in notes 8, 12, 14 and 15. (e) Liquidity Risk Real estate investments are relatively illiquid. This will tend to limit the Company’s ability to sell components of its portfolio promptly in response to changing economic or investment conditions. If the Company were required to quickly liquidate its assets, there is a risk that it would realize sale proceeds of less than the current book value of its real estate investments. An analysis of the Company’s contractual maturities of its material financial liabilities is set out below: (thousands of dollars) Mortgages Scheduled amortization Payments on maturity Total mortgage obligations Canadian revolving credit facilities U.S. term loans U.S. revolving credit facilities Senior unsecured debentures Land leases Total contractual obligations Payments Due by Period Total 2009 2010–2011 2012–2013 Thereafter $ 193,533 1,017,868 1,211,401 209,190 123,596 30,450 597,000 18,389 $ 2,190,026 $ 31,223 60,477 91,700 — 8,222 — — 801 $ 100,723 $ 59,738 173,860 233,598 209,190 115,374 30,450 200,000 1,602 $ 790,214 $ 51,060 263,974 315,034 — — — 197,000 1,607 $ 513,641 $ 51,512 519,557 571,069 — — — 200,000 14,379 $ 785,448 The Company manages its liquidity risk by staggering debt maturities; renegotiating expiring credit arrangements proactively; using undrawn lines of credit; and issuing equity when considered appropriate. This amount includes $209.2 million that was drawn on the Company’s Canadian revolving credit facility with a maturity of March 2010. Subsequent to Decmber 31, 2008, this facility was refinanced with a maturity of March 2012 as disclosed in Note 28(e). In addition, the Company has $20.0 million of outstanding letters of credit that have been issued by financial institutions primarily to support certain of the Company’s obligations related to its development projects. 104 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 105 22. supplemental other comprehensive loss information (a) The tax effects relating to each component of other comprehensive loss are as follows: (Years ended December 31) (thousands of dollars) 2008 2007 Before-tax Amount Tax expense (recovery) Net-of-tax Amount Before-tax Amount Tax expense (recovery) Net-of-tax Amount Unrealized foreign currency gain (loss) on translating self-sustaining foreign operations Other comprehensive losses of Equity One, Inc. Losses on cash flow hedges of interest rates Change in cumulative unrealized gain on available-for-sale marketable securities Other comprehensive loss $ 11,319 $ (1,944) — — (1,944) (16,443) (4,779) (11,664) $ 11,319 $ (9,950) $ — $ (9,950) (320) (2,736) (106) (906) (214) (1,830) (6,590) $ (13,658) (1,053) $ (5,832) (5,537) $ (7,826) (241) $ (13,247) (32) $ (1,044) (209) $ (12,203) (b) Accumulated Other Comprehensive Loss (Years ended December 31) (thousands of dollars) Unrealized foreign currency (loss) gain on translating self-sustaining foreign operations Other comprehensive losses of Equity One, Inc. Losses on cash flow hedges of interest rates Change in cumulative unrealized gain on available-for-sale marketable securities Accumulated other comprehensive loss 2008 Net Change During the Year Opening Balance January 1 2008 2007 Closing Balance December 31 2008 Opening Balance January 1 2007 Opening Adjustments Net Change During the Year Closing Balance December 31 2007 $ (24,120) $ 11,319 $ (12,801) $ (14,170) $ — $ (9,950) $ (24,120) (1,307) (1,944) (3,251) (508) (11,664) (12,172) (30) (5,537) (5,567) — — — (1,093) (214) (1,307) 1,322 (1,830) (508) 179 (209) (30) $ (25,965) $ (7,826) $ (33,791) $ (14,170) $ 408 $ (12,203) $ (25,965) The Company does not expect any of the balance of the Accumulated Other Comprehensive Loss at December 31, 2008 to be reclassified to net income in 2009. first capital realty annual report 2008 105 FCR_Page 106.qxd:2008_First Capital 3/26/09 10:26 AM Page 106 Notes to the Consolidated Financial Statements – continued 23. supplemental cash flow information (a) Items not affecting cash from operating activities (thousands of dollars) Amortization Amortization of above- and below-market leases Rent revenue recognized on a straight-line basis Gain on disposition of income-producing property (note 17) Gains on disposition of land (note 17) Realized losses (gains) on sale of marketable securities (note 17) Change in cumulative unrealized losses (gains) on marketable securities (note 17) (Gain) loss on settlement of debt (note 14) Non-cash compensation expense Interest paid in excess of effective interest on assumed mortgages (note 18) Debenture interest expense in excess of coupon (note 18) Convertible debenture interest paid in common shares (note 15) Other non-cash interest expense (note 18) Equity income from Equity One, Inc. (note 7) Dilution gain on investment in Equity One, Inc. (note 7(b)) Future income taxes Unrealized gains on interest rate swaps not designated as hedges (b) Net change in non-cash operating items The net change in non-cash operating assets and liabilities consists of the following: (thousands of dollars) Amounts receivable Prepaid expenses Trade payables and accruals Tenant security and other deposits Other working capital changes (c) Changes in loans, mortgages and other real estate assets (thousands of dollars) (Increase) decrease in loans and mortgages receivable Investment in marketable securities Return of capital from investments in marketable securities Proceeds from disposition of marketable securities 106 first capital realty annual report 2008 2008 86,788 (2,253) (5,374) (1,631) (3,945) 212 1,638 (438) 3,899 (1,436) 864 12,891 2,466 (8,716) (2,898) 16,264 — 98,331 2008 (3,909) (3,789) 4,684 (332) 658 (2,688) 2008 (1,507) (37,110) 623 7,474 (30,520) $ $ $ $ $ $ 2007 79,828 (2,122) (6,753) (323) — (2,504) — 483 4,295 (1,890) 696 12,048 2,480 (14,375) — 10,930 (643) 82,150 2007 (1,600) (2,356) 7,407 2,331 761 6,543 2007 1,538 (32,556) 339 45,031 14,352 $ $ $ $ $ $ FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 107 (d) Cash and cash equivalents (thousands of dollars) Cash Term deposits (e) Interest and income taxes (thousands of dollars) Cash income taxes paid Cash interest paid (note 18) 24. segmented information 2008 6,975 288 7,263 2008 2,251 120,183 $ $ $ $ 2007 6,458 3,993 10,451 2007 787 115,948 $ $ $ $ The Company and its subsidiaries operate in the shopping centre segment of the real estate industry in both Canada and the United States. Income by geographic segment for the year ended December 31, 2008, is summarized as follows: (thousands of dollars) Property rental revenue Property operating costs Income before the undernoted items Equity income from Equity One, Inc. Interest and other income Interest expense Corporate expenses Income before amortization Amortization Income before income taxes $ Canada 410,192 150,601 259,591 — 5,749 106,523 20,991 137,826 86,725 51,101 $ $ Income by geographic segment for the year ended December 31, 2007, is summarized as follows: (thousands of dollars) Property rental revenue Property operating costs Income before the undernoted items Equity income from Equity One, Inc. Interest and other income Interest expense Corporate expenses Income before amortization Amortization Income before income taxes Canada 376,891 134,446 242,445 — 5,030 106,376 22,751 118,348 79,777 38,571 $ $ $ $ U.S. — — — 8,716 3,673 7,162 586 4,641 63 4,578 U.S. — — — 14,375 520 9,667 793 4,435 51 4,384 Total 410,192 150,601 259,591 8,716 9,422 113,685 21,577 142,467 86,788 55,679 Total 376,891 134,446 242,445 14,375 5,550 116,043 23,544 122,783 79,828 42,955 $ $ $ first capital realty annual report 2008 107 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 108 Notes to the Consolidated Financial Statements – continued Canadian operations include the following: Year ended December 31, 2008 (thousands of dollars) Property rental revenue Property operating costs Net operating income Year ended December 31, 2007 (thousands of dollars) Property rental revenue Property operating costs Net operating income Eastern Region (1) Central Region (1) Western Region (1) Subtotal Other (2) Total $ $ $ $ 94,988 40,408 54,580 Eastern Region (1) 88,161 34,068 54,093 $ $ $ $ 191,853 73,569 118,284 $ $ 116,820 37,933 78,887 $ 403,661 151,910 251,751 $ Central Region (1) Western Region (1) 177,379 68,436 108,943 $ 104,049 33,424 70,625 $ Subtotal $ $ 369,589 135,928 233,661 $ $ $ $ 6,531 (1,309) 7,840 $ 410,192 150,601 259,591 $ Other (2) Total 7,302 (1,482) 8,784 $ 376,891 134,446 $ 242,445 The net book value of real estate assets is as follows: December 31, 2008 (thousands of dollars) Eastern Region (1) Central Region (1) Western Region (1) Subtotal Other Total Land and shopping centres under development Net book value of other real estate assets (3) Net book value of real estate assets $ 43,204 $ 145,845 $ 92,910 $ 281,959 — $ 281,959 636,717 $ 679,921 1,442,702 $ 1,588,547 978,214 $ 1,071,124 3,057,633 $ 3,339,592 — 3,057,633 — $ 3,339,592 December 31, 2007 (thousands of dollars) Eastern Region (1) Central Region (1) Western Region (1) Subtotal Other Total Land and shopping centres under development Net book value of other real estate assets (3) Net book value of real estate assets $ 62,575 $ 148,862 $ 72,640 $ 284,077 566,086 $ 628,661 1,347,155 $ 1,496,017 902,586 $ 975,226 2,815,827 $3,099,904 $ $ — $ 284,077 2,815,827 — — $3,099,904 Expenditures for additions to capital assets are as follows: Year ended December 31, 2008 (thousands of dollars) Eastern Region (1) Central Region (1) Western Region (1) Subtotal Other Total Deferred leasing costs Expenditures on shopping centres Expenditures on shopping centres under development Total expenditures $ $ 1,202 6,088 57,198 64,488 $ $ 1,806 8,303 102,203 112,312 $ $ 1,025 7,831 $ 4,033 22,222 68,374 77,230 227,775 $ 254,030 $ $ — $ — 4,033 22,222 — 227,775 — $ 254,030 108 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 109 Year ended December 31, 2007 (thousands of dollars) Eastern Region (1) Central Region (1) Western Region (1) Subtotal Other Total Deferred leasing costs Expenditures on shopping centres Expenditures on shopping centres under development Total expenditures $ $ 911 6,254 40,015 47,180 $ $ 1,875 10,503 61,080 73,458 $ $ 643 6,961 42,649 50,253 $ $ 3,429 23,718 143,744 170,891 $ $ — $ — 3,429 23,718 — — $ 143,744 170,891 (1) Eastern region includes properties located in Quebec, Nova Scotia and Newfoundland. Central region includes properties located in Ontario. Western region includes properties located in Saskatchewan, Alberta and British Columbia. (2) Other items are principally rental revenue recorded on a straight-line basis and market rent adjustments. (3) Net book value of other real estate assets is comprised of the net book value of shopping centres, deferred costs and intangible assets less intangible liabilities. 25. proportionate consolidation The Company is a participant in 16 (2007 – 15) partnership, co-ownership and limited liability corporate ventures that own land, shopping centres, and shopping centres under development (collectively the “joint ventures”). The Company’s participation in these entities ranges from 33% to 80%. The following amounts are included in the consolidated financial statements and represent the Company’s proportionate interest in the financial accounts of the joint ventures: (thousands of dollars) Assets Liabilities Revenues Expenses Net income Cash flows provided by (used in): Operating activities Investing activities Financing activities 2008 176,845 93,235 26,285 19,991 6,294 10,511 (15,874) 5,773 $ $ $ $ $ $ $ 2007 163,619 92,663 26,192 19,955 6,237 10,011 2,083 (10,508) $ $ $ $ $ $ $ Cash and cash equivalents held pursuant to terms of joint venture agreements amount to $4.4 million (2007 – $4.0 million). The Company is contingently liable for certain of the obligations of the joint ventures, and all of the net assets of the joint ventures are available for the purpose of satisfying such obligations and guarantees (note 26 (c)). first capital realty annual report 2008 109 FCR_Pages 110 and 112.qxd:2008_First Capital 3/26/09 10:27 AM Page 110 Notes to the Consolidated Financial Statements – continued 26. commitments and contingencies (a) The Company is involved in litigation and claims which arise from time to time in the normal course of business. In the opinion of Management, none of these, individually or in aggregate, would result in a liability that would have a significant adverse effect on the financial position of the Company. (b) On October 16, 2006, First Capital Realty and First Capital (Royal Oak) Corporation (a wholly owned nominee subsidiary of First Capital Realty) were named as defendants in a lawsuit commenced by Rencor Developments Inc. and Rencor Developments (Royal Oak) Inc. (collectively, “Rencor”). First Capital Realty and Rencor are joint venture partners in the Royal Oak Shopping Centre located in Calgary, Alberta, in which First Capital Realty owns a 60% undivided interest and Rencor owns the remaining 40% undivided interest. The Statement of Claim seeks damages for alleged breaches by First Capital Realty of certain agreements relating to the ownership and operation of the Royal Oak Shopping Centre. First Capital Realty believes the lawsuit to be frivolous and without merit and intends to vigorously defend against the allegations made in the Statement of Claim. Accordingly, as of December 31, 2008, First Capital Realty has not recorded any loss provision with respect to this claim in its financial statements. (c) The Company is contingently liable, jointly and severally, for approximately $45.6 million (2007 – $46.7 million) to various lenders in connection with loans advanced to its joint venture partners secured by the partners’ interest in the co-ownerships. (d) The Company is also contingently liable for letters of credit in the amount of $20.0 million (2007 – $11.9 million) issued in the ordinary course of business. (e) The Company has obligations as lessee under long-term leases for land. Annual commitments under these ground leases are (f) approximately $0.8 million with a total obligation of $18.4 million. In two of the Company’s shopping centres, the grocery store anchor tenant has a right to purchase their premises on terms that are potentially favourable to the tenants. 27. related party transactions (a) A subsidiary of the Company’s majority shareholder, Gazit-Globe Ltd. (“Gazit”), reimburses the Company for certain accounting and administrative services provided by the Company. The total amount reimbursed during 2008 was $1,171,000 (2007 – $976,000) which primarily consists of appraisal and accounting costs related to preparation of financial reporting in accordance with International Financial Reporting Standards. Gazit is also a tenant at a property owned by the Company. Total rental payments received during 2008 amounted to $89,000 (2007 – $36,000). At December 31, 2008, $212,500 due from Gazit was included in amounts receivable (2007 – $30,400) and collected subsequent to year end. In addition, subsidiary companies of Gazit subscribe to the Company’s convertible debentures as described in Note 15. (b) Included in amounts receivable at December 31, 2008 are loans due from employees totalling $250,000 (2007 – $150,000). The interest only loans bear interest at the rate prescribed by the Canada Revenue Agency for employee loans and are fully secured against restricted share units and options to purchase common shares held by the employees. $150,000 of the loans mature in December 2010 and $100,000 in May 2013. 28. subsequent events (a) Completion of Mortgages Since January 1, 2009 the Company has completed $64 million in mortgage financing on three properties and a top up of an existing mortgage. This financing carries a weighted average interest rate of 5.95% and weighted average term of 7.58 years. (b) Completion of a three year, $75,000,000 Secured Revolving Credit Facility On January 29, 2009, the Company closed on a three year, $75 million secured revolving credit facility with the Bank of Nova Scotia. 110 first capital realty annual report 2008 FCR_MD&A_Financials:2008_First Capital 3/23/09 9:34 AM Page 111 (c) Investment in Allied Properties Real Estate Investment Trust On February 9, 2009 the Company announced it had agreed to acquire from institutional investors an aggregate of 1,766,800 units (“Units”) of Allied Properties REIT in exchange for common shares of First Capital Realty at a ratio of 0.81 First Capital Realty shares per Unit. The acquisitions closed February 17, 2009. Together with the Units owned by the Company that were acquired with cash, First Capital Realty owns 3,453,100 Units, representing approximately 11% of the issued and outstanding Units. The Units have been acquired for investment purposes; however, First Capital Realty has indicated to Allied that it would like to engage in discussions with Allied to explore business opportunities, which may or may not result in a business combination; at this time no such discussions are underway. First Capital Realty does not currently intend to initiate a formal take-over bid for Allied. First Capital Realty may, in the future, take such actions in respect of its holdings as it may deem appropriate in light of the circumstances then existing, including the purchase of additional securities of Allied through open market purchases or privately negotiated transactions, or the sale of all or a portion of its holdings in the open market or in privately negotiated transactions to one or more purchasers. (d) Interest on Convertible Debentures On February 18, 2009, the Company announced that it will pay the interest due on March 31, 2009 to holders of both classes of its 5.50% convertible unsecured subordinated debentures, due September 30, 2017, by the issuance of common shares. The number of common shares to be issued per $1,000 principal amount of debentures will be calculated by dividing the dollar amount of interest payable by an amount equal to 97% of the volume-weighted average trading price of the common shares of First Capital Realty on the Toronto Stock Exchange, calculated for the 20 consecutive trading days ending on March 24, 2009. The interest payment due is approximately $6.4 million. It is the current intention of the Company to satisfy its obligations to pay principal and interest on its 5.50% debentures by the issuance of common shares. Since issuance, all interest payments have been made using shares. (e) Completion of a three year, $450,000,000 Secured Revolving Credit Facility On March 5, 2009 the Company closed a three year, $450 million Secured Revolving Credit Facility with a syndicate of ten banks jointly led by RBC Capital Markets, TD Securities, and BMO Capital Markets. The syndicate consists of seven Canadian Banks and three Schedule III Chartered Banks. The new facility was used to replace the Company’s existing three year $350 million Senior Unsecured Revolving Credit Facility maturing March 2010. The facility’s initial funding was at an interest rate of 4.16%. 29. comparative amounts Certain comparative amounts have been reclassified to reflect the presentation adopted in the current year. first capital realty annual report 2008 111 FCR_Pages 110 and 112.qxd:2008_First Capital 3/26/09 10:27 AM Page 112 Shareholder Information Toronto Stock Exchange Listings Common Shares: FCR 5.50% Convertible Cdn Debentures: FCR.DB.A 5.50% Convertible US Debentures: FCR.DB.B Transfer Agent Computershare Trust Company of Canada 100 University Avenue, 11th Floor Toronto, Ontario M5J 2Y1 (Toll Free) 1.800.564-6253 Legal Counsel Torys LLP Toronto, Ontario Davies Ward Phillips & Vineberg LLP Montreal, Quebec Auditors Deloitte & Touche LLP Toronto, Ontario Officers Dori J. Segal President and CEO Sylvie Lachance Executive Vice President and Chief Operating Officer Karen H. Weaver Executive Vice President and Chief Financial Officer Brian Kozak Senior Vice President, Western Canada Directors Chaim Katzman Chairman, First Capital Realty Inc. North Miami Beach, Florida Dori J. Segal President and Chief Executive Officer, First Capital Realty Inc. Toronto, Ontario Jon Hagan, C.A. Consultant, JN Hagan Consulting Toronto, Ontario Nathan Hetz, C.P.A. Chief Executive Officer and Director, Alony Hetz Properties and Investments Ltd. Ramat Gan, Israel Susan J. McArthur Managing Director, Jacob & Company Securities Toronto, Ontario Bernard McDonell Private Investor Montreal, Quebec Steven K. Ranson, C.A. President and Chief Executive Officer, Home Equity Income Trust Toronto, Ontario Moshe Ronen Barrister and Solicitor Thornhill, Ontario Gary M. Samuel Partner, Crown Realty Partners Toronto, Ontario Head Office King Liberty Village 85 Hanna Avenue, Suite 400 Toronto, Ontario M6K 3S3 Tel: 416 504 4114 Fax: 416 941 1655 Montreal Office 2620 de Salaberry, Suite 201 Montreal, Quebec H3M 1L3 Tel: 514 332 0031 Fax: 514 332 5135 Calgary Office Trans Canada Centre Unit 158, 1440-52nd Street NE Calgary, Alberta T2A 4T8 Tel: 403 257 6888 Fax: 403 257 6899 Edmonton Office Northgate Centre, Unit 2004 9499-137 Avenue Edmonton, Alberta T5E 5R8 Tel: 780 475 3695 Fax: 780 478 6716 Vancouver Office Terra Nova Village 3671 Westminster Hwy, Suite 240 Richmond, British Columbia V7C 5V2 Tel: 604 278 0056 Fax: 604 278 3364 Annual Shareholders’ Meeting May 15, 2009 The Design Exchange 234 Bay Street Toronto, Ontario at 11.00 a.m. www.firstcapitalrealty.ca 112 first capital realty annual report 2008 location location location First Capital Realty takes a highly disciplined approach to the development and redevelopment of our properties across Canada. We build value by creating and managing high quality properties with long-term appeal in neighbourhoods and communities that promise good and growing customer dedication well into the future. Knowledgeable, sophisticated retailers seek to position themselves in the best located, best managed and most visible and accessible locations. That’s the story of our growing portfolio. And that’s our value to investors. location location location f i r s t c a p i t a l r e a l t y i n c . a n n u a l r e p o r t 2 0 0 8 Essentially Urban. annual report 2008 85 Hanna Avenue, Suite 400, Toronto, Ontario m6k 3s3 t 416.504.4114 f 416.941.1655 www.fi rstcapitalrealty.ca Printed in Canada using VOC-free inks. Corporate Profi le First Capital Realty is Canada’s leading owner, developer and operator of supermarket and drug store-anchored neighbourhood and community shopping centres, located in growing metropolitan areas. The Company currently owns interests in 172 properties, including fi ve under development, totalling approximately 20.1 million square feet of gross leasable area and six land sites in the planning stage for future retail development. In addition, the Company owns 14.1 million shares (approximately 18.5%) of Equity One (NYSE:EQY), one of the largest shopping centre REITs in the southern United States. Including its investments in Equity One, the Company has interest in 328 properties totalling approximately 36.1 million square feet of gross leasable area. First Capital Realty has an enterprise value of over $4 billion. Contents Management’s Discussion & Analysis (MD&A) 17 Introduction 17 Business Overview and Strategy 22 Summary Consolidated Information and Highlights 24 Business and Operations Review 35 Results of Operations 44 Capital Structure and Liquidity 53 International Financial Reporting Standards (“IFRS”) 54 Quarterly Financial Information 55 Fourth Quarter 2008 Operations and Results 59 Events Subsequent to December 31, 2008 60 Outlook 61 Summary of Signifi cant Accounting Estimates and Policies 63 Summary of Changes to Signifi cant Accounting Policies 64 Controls and Procedures 65 Risks and Uncertainties Consolidated Financial Statements 76 Management’s Responsibility 77 Auditors’ Report 78 Consolidated Balance Sheets 79 Consolidated Statements of Earnings 80 Consolidated Statements of Comprehensive Income 81 Consolidated Statements of Shareholders’ Equity 83 Consolidated Statements of Cash Flows 84 Notes to the Consolidated Financial Statements 53910_AR Cover.indd 1 53910_AR Cover.indd 1 3/30/09 2:29:48 PM 3/30/09 2:29:48 PM A growth strategy applied to a stable business Take Stock Revenues (in millions) Net Operating Income (in millions) Gross Leasable Area (millions of sq. ft.) 420 382 333 269 260 242 206 165 20.1 19.4 18.2 172 158 161 15.7 133 05 06 07 08 05 06 07 08 05 06 07 mar. 09 number of properties At First Capital Realty we have always taken a highly disciplined approach to growing our business. Our primary strategy is the creation of shareholder value over the long term by generating sustainable cash fl ow and capital appreciation from our shopping centre portfolio. We measure achievement of our strategy by absolute and accretive growth in FFO and AFFO per common share, while maintaining a strong balance sheet. Furthermore, we will look to provide continual moderate dividend increases to shareholders while maintaining a conservative payout ratio. We have a committed and entrepreneurial management team that is aligned with shareholders, and we continue to work hard on increasing the value of First Capital Realty. 13 Years of Dividend Increases (per share) $0.99 $0.93 $0.89 $0.85 $0.81 $0.77 $0.57 $1.23 $1.20 $1.26 $1.28 $1.17 $1.14 $1.09 Debt to Aggregate Assets (in billions) Funds from Operations* (in millions) 4.0 3.6 3.2 2.6 54.2 55.4 56.4 53.6 145 125 117 95 $1.48 $1.58 $1.60 $1.66 95 96 97 98 99 00 01 02 03 04 05 06 07 08 05 06 07 08 05 06 07 08 % debt per share* *As defi ned in the MD&A. 53910_AR Cover.indd 2 53910_AR Cover.indd 2 3/30/09 2:30:06 PM 3/30/09 2:30:06 PM A growth strategy applied to a stable business Take Stock Revenues (in millions) Net Operating Income (in millions) Gross Leasable Area (millions of sq. ft.) 420 382 333 269 260 242 206 165 20.1 19.4 18.2 172 158 161 15.7 133 05 06 07 08 05 06 07 08 05 06 07 mar. 09 number of properties At First Capital Realty we have always taken a highly disciplined approach to growing our business. Our primary strategy is the creation of shareholder value over the long term by generating sustainable cash fl ow and capital appreciation from our shopping centre portfolio. We measure achievement of our strategy by absolute and accretive growth in FFO and AFFO per common share, while maintaining a strong balance sheet. Furthermore, we will look to provide continual moderate dividend increases to shareholders while maintaining a conservative payout ratio. We have a committed and entrepreneurial management team that is aligned with shareholders, and we continue to work hard on increasing the value of First Capital Realty. 13 Years of Dividend Increases (per share) $0.99 $0.93 $0.89 $0.85 $0.81 $0.77 $0.57 $1.23 $1.20 $1.26 $1.28 $1.17 $1.14 $1.09 Debt to Aggregate Assets (in billions) Funds from Operations* (in millions) 4.0 3.6 3.2 2.6 54.2 55.4 56.4 53.6 145 125 117 95 $1.48 $1.58 $1.60 $1.66 95 96 97 98 99 00 01 02 03 04 05 06 07 08 05 06 07 08 05 06 07 08 % debt per share* *As defi ned in the MD&A. 53910_AR Cover.indd 2 53910_AR Cover.indd 2 3/30/09 2:30:06 PM 3/30/09 2:30:06 PM location location location First Capital Realty takes a highly disciplined approach to the development and redevelopment of our properties across Canada. We build value by creating and managing high quality properties with long-term appeal in neighbourhoods and communities that promise good and growing customer dedication well into the future. Knowledgeable, sophisticated retailers seek to position themselves in the best located, best managed and most visible and accessible locations. That’s the story of our growing portfolio. And that’s our value to investors. location location location f i r s t c a p i t a l r e a l t y i n c . a n n u a l r e p o r t 2 0 0 8 Essentially Urban. annual report 2008 85 Hanna Avenue, Suite 400, Toronto, Ontario m6k 3s3 t 416.504.4114 f 416.941.1655 www.fi rstcapitalrealty.ca Printed in Canada using VOC-free inks. Corporate Profi le First Capital Realty is Canada’s leading owner, developer and operator of supermarket and drug store-anchored neighbourhood and community shopping centres, located in growing metropolitan areas. The Company currently owns interests in 172 properties, including fi ve under development, totalling approximately 20.1 million square feet of gross leasable area and six land sites in the planning stage for future retail development. In addition, the Company owns 14.1 million shares (approximately 18.5%) of Equity One (NYSE:EQY), one of the largest shopping centre REITs in the southern United States. Including its investments in Equity One, the Company has interest in 328 properties totalling approximately 36.1 million square feet of gross leasable area. First Capital Realty has an enterprise value of over $4 billion. Contents Management’s Discussion & Analysis (MD&A) 17 Introduction 17 Business Overview and Strategy 22 Summary Consolidated Information and Highlights 24 Business and Operations Review 35 Results of Operations 44 Capital Structure and Liquidity 53 International Financial Reporting Standards (“IFRS”) 54 Quarterly Financial Information 55 Fourth Quarter 2008 Operations and Results 59 Events Subsequent to December 31, 2008 60 Outlook 61 Summary of Signifi cant Accounting Estimates and Policies 63 Summary of Changes to Signifi cant Accounting Policies 64 Controls and Procedures 65 Risks and Uncertainties Consolidated Financial Statements 76 Management’s Responsibility 77 Auditors’ Report 78 Consolidated Balance Sheets 79 Consolidated Statements of Earnings 80 Consolidated Statements of Comprehensive Income 81 Consolidated Statements of Shareholders’ Equity 83 Consolidated Statements of Cash Flows 84 Notes to the Consolidated Financial Statements 53910_AR Cover.indd 1 53910_AR Cover.indd 1 3/30/09 2:29:48 PM 3/30/09 2:29:48 PM