H&R REIT Annual Report 2005

← All annual reports

FY2005 Annual Report · H&R REIT

Loading PDF…

HRReit 2005 CVR 5/4/06 9:31 AM Page 1

2 0 0 5 A N N U A L R E P O RT

S TA B I L I T Y

T H R O U G H

Discipline
Discipline

H & R R E A L E S T A T E I N V E S T M E N T T R U S T

3 6 2 5 D U F F E R I N S T R E E T

S U I T E 5 0 0

DOWNSVIEW

ONTARIO, C A N A D A M 3 K 1 N 4

T 4 1 6 . 6 3 5 . 7 5 2 0

F 4 1 6 . 3 9 8 . 0 0 4 0

E i n f o @ h r- r e i t . c o m

w w w . h r - r e i t . c o m

HRReit 2005 CVR 5/4/06 9:31 AM Page 2

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Unitholder Distribution Reinvestment Plan and Direct Unit Purchase Plan

Since January 1, 2000, H&R REIT has offered registered holders of its units resident in Canada the opportunity
to participate in its Unitholder Distribution Reinvestment Plan (the “DRIP”) and Direct Unit Purchase Plan.

The DRIP allows participants to have their monthly cash contributions reinvested in additional units of H&R REIT at the
weighted average price of the units on the TSE for the five trading days (the “Average Market Price”) immediately preceding
the cash distribution date. In addition, participants will be entitled to receive an additional distribution equal to 3% of each cash
distribution reinvested pursuant to the DRIP which will be reinvested in additional units.

The Direct Unit Purchase Plan allows participants to purchase additional units on a monthly basis at the Average Market

Price subject to a minimum purchase of $250 per month (up to a maximum of $13,500 per year) for each participant.

For more information on the DRIP and/or the Direct Unit Purchase Plan, please contact us by email through the “Contact
Us” webpage of our website or contact the plan agent: CIBC Mellon Trust Company, P.O. Box 7010, Adelaide Street Postal
Station, Toronto, Ontario M5C 2W9, Tel: 416 643 5500 (or for callers outside of the 416 area code: 1 800 387 0825), Fax: 416 643
5501, Email: inquiries@cibcmellon.com.

Profile Incorporated in 1996, H&R Real Estate Investment Trust owns, manages and acquires income-

producing properties, and provides mezzanine financing for development projects that are substantially pre-leased.

A significant portion of H&R’s cash is distributed to unitholders each month and much of it is tax deferred. H&R

manages a diversified portfolio of office, industrial and retail properties under the direction of a Board of Trustees,

and investment opportunities are subject to specific guidelines and approval of the Trustees. Units of the trust

have traded since 1996 on the Toronto Stock Exchange (symbol: HR.UN).

Primary Objectives H&R REIT pursues two primary objectives: to provide unitholders with reliable and

growing cash distributions from its portfolio of income-producing properties, and to increase the value of units

through active management of H&R’s assets, accretive acquisition of additional properties, and funding of new

developments in which the REIT holds a purchase option. H&R is committed to maximizing cash distributions

and capital appreciation for unitholders while maintaining prudent risk management and conservative use of

financial leverage.

Diversification

of Rental Area

Office
Industrial
Retail
Total

Ontario

United States

Alberta

16%
25%
3%
43%

1%
18%
11%
30%

4%
5%
2%
11%

Quebec
& other

2%
9%
5%
16%

Total

22%
58%
20%
100%

CONTENTS 1 Highlights 4 President’s Message 12 Portfolio of Properties 18 Management’s Discussion & Analysis 46 Auditors’ Report to the

Unitholders 46 Management’s Responsibility for Financial Reporting 47 Consolidated Balance Sheets 48 Consolidated Statements of Earnings

49 Consolidated Statements of Unitholders’ Equity 50 Consolidated Statements of Cash Flows 51 Notes to Consolidated Financial Statements

62 Corporate Information IBC Unitholder Distribution Reinvestment Plan and Direct Unit Purchase Plan

m
o
c
.
s
l
l
i

m
n
a
y
r
b

w
w
w

p
u
o
r
G

s
l
l
i

n
a
y
r
B

n
g

i
s
e
D

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Through Discipline
• Maintained long terms to maturities for leasing

(12.3 years) and financing (11.1 years) at year end
• Added 4.7 million square feet to portfolio with
$618 million of acquisitions, generating 11%
return on investment

• Raised $250 million through two financings to

maintain sound capital structure

2005 Highlights

Stability
• Maintained portfolio occupancy rate at 99%

for the eighth consecutive year

• Increased Distributable Income 16% through

quality acquisitions

• Distributions per unit rose 5%
• Reached milestones of $3.8 billion in net book
value of assets, $150 million in distributable
income, $1.2 billion in unitholders’ equity, a
market price of $20 per unit, and $2.3 billion
in market capitalization

Rental income (millions)
Net earnings (millions)
NE per unit (basic)
Distributable income* (millions)
Distributable income per unit (basic)*
Distributions to unitholders (millions)
Distributions per unit (basic)
Assets (billions)
Unitholders’ equity (billions)
Weighted average number of units, basic (millions)

* Distributable income is a non-GAAP measure described in the MD&A.

2005

$ 486
87
$
$ 0.91
$ 150
$ 1.46
$ 135
$ 1.30
$ 3.8
$ 1.2
102

2004

$ 402
89
$
$ 1.00
$ 129
$ 1.44
$ 113
$ 1.24
$ 3.3
$ 1.0
90

2003

$ 319
91
$
$ 1.21
$ 104
$ 1.40
92
$
$ 1.22
$ 2.7
$ 1.0
75

Operating Income by Type of AssetOffice 51%Industrial 29%Retail 20%Book Value by Geographic RegionOntario 45%United States 28%Quebec and other 13%Alberta 14%
2

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Long-term Financial Performance

As one of the first diversified REITs in Canada, H&R has an enviable track record of solid financial

performance. We have built a strong, diversified portfolio by applying a strict discipline to our investment

decision-making. As a result, H&R unitholders have been rewarded with stable, growing distributions and

continual capital appreciation.

05101520253035199719981999200020012002200320042005Leasable Area (square feet, millions)05102030351525199719981999200020012002200320042005Lorem ipsum dolor sit amet, consectetuer adipiscing elit, sed diam nonummy nibh euismod tincidunt ut laoreet doloremagna aliquam erat volutpat. 0100200300400500199719981999200020012002200320042005Rentals from Income Properties ($millions)0100200300400500199719981999200020012002200320042005Lorem ipsum dolor sit amet, consectetuer adipiscing elit, sed diam nonummy nibh euismod tincidunt ut laoreet doloremagna aliquam erat volutpat. 0199719981999200020012002200320042005Numberof Properties050100150200250199719981999200020012002200320042005Lorem ipsum dolor sit amet, consectetuer adipiscing elit, sed diam nonummy nibh euismod tincidunt ut laoreet doloremagna aliquam erat volutpat. 0.00.51.199719981999200020012002200320042005Assets ($ billions)0.00.51.02.53.54.01.52.03.0199719981999200020012002200320042005Lorem ipsum dolor sit amet, consectetuer adipiscing elit, sed diam nonummy nibh euismod tincidunt ut laoreet doloremagna aliquam erat volutpat. 0199719981999200020012002200320042005Net Earnings ($millions)020406080100199719981999200020012002200320042005Lorem ipsum dolor sit amet, consectetuer adipiscing elit, sed diam nonummy nibh euismod tincidunt ut laoreet doloremagna aliquam erat volutpat. H & R R e i t 2 0 0 5 A n n u a l R e p o r t

* Distributable income is a non-GAAP measure described in the MD&A.

0199719981999200020012002200320042005Distributions toUnitholders ($millions)0309015060120199719981999200020012002200320042005Lorem ipsum dolor sit amet, consectetuer adipiscing elit, sed diam nonummy nibh euismod tincidunt ut laoreet doloremagna aliquam erat volutpat. 0199719981999200020012002200320042005Cash Distributions per Unit ($)0.000.251.001.251.500.500.75199719981999200020012002200320042005Lorem ipsum dolor sit amet, consectetuer adipiscing elit, sed diam nonummy nibh euismod tincidunt ut laoreet doloremagna aliquam erat volutpat. 0306090120150199719981999200020012002200320042005Distributable Income* ($ millions)0306090120150199719981999200020012002200320042005Lorem ipsum dolor sit amet, consectetuer adipiscing elit, sed diam nonummy nibh euismod tincidunt ut laoreet doloremagna aliquam erat volutpat. 0.000.250.500.751.001.251.50199719981999200020012002200320042005Distributable Income Per Unit* ($)0.000.251.001.251.500.500.75199719981999200020012002200320042005Lorem ipsum dolor sit amet, consectetuer adipiscing elit, sed diam nonummy nibh euismod tincidunt ut laoreet doloremagna aliquam erat volutpat. 0.00.51.01.52.02.199719981999200020012002200320042005MarketCapitalization ($billions, year end)0.00.51.01.52.02.5199719981999200020012002200320042005Lorem ipsum dolor sit amet, consectetuer adipiscing elit, sed diam nonummy nibh euismod tincidunt ut laoreet doloremagna aliquam erat volutpat. 4

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

President’s Message to Unitholders

Since inception ten years ago, H&R has
produced an average annual 18% return
on investment for unitholders.

We deliver Expected Results

With steady, profitable growth, H&R Real Estate Investment Trust is placed among the fastest-growing and

most highly valued REITs in Canada. H&R produced a return on investment to unitholders of 16% in 2005 and

a compound average annual 18% since inception in 1996, including both capital appreciation and distributions.

Year after year, H&R has delivered consistent and dependable financial performance; 2005 was no exception. After

kick-starting the year with a nearly 5% increase in distributions to unitholders, we continued to expand and

strengthen our portfolio with investments across North America totalling $618 million. The additional properties,

together with higher overall portfolio occupancy and contractual rental increases, contributed to H&R’s 16%

growth in distributable income last year. We closed off 2005 announcing the $229-million purchase of two state-

of-the-art Canadian Tire distribution facilities in Toronto and Calgary, which expanded our portfolio by almost

6%. Unitholders may also remember 2005 as the one when we reached $150 million in distributable income and

$20 in unit price. And early this year, they received another 2.3% increase in distributions per unit.

We are committed to a Disciplined Strategy

Our success over the past decade has been founded on a well proven, conservative strategy that churns out reliable

and growing distributable income. We have an experienced and diligent management team that has executed

and fine-tuned our two-part strategy, which ultimately provides stability through discipline.

We believe in Locking in Yield

Our first strategic focus is on establishing strong, stable cash flow by locking in our portfolio’s income yield

regardless of real estate cycles. We do this by signing long-term leases with highly creditworthy tenants, and

building in growth in rental income where possible through contractual rental escalations. For example, in

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Harbour Place/Commerce Tower office complex
Location: Sydney, Nova Scotia
Rentable area: 125,000 square feet

Give & Go freezer building
Location: Greater Toronto Area
Rentable area: 114,000 square feet

Highlights: This is one of two office buildings H&R acquired for
$25 million; approximately 78% of the space is leased long term
to provincial and federal government agencies.

Highlights: H&R purchased this new, freezer building in
Etobicoke, Ontario for $12 million; it is leased for 15 years
to Give & Go Prepared Foods Corp.

Bi-Lo retail store
Location: Dayton, Tennessee
Rentable area: 46,000 square feet

Angiotech Pharmaceuticals office building
Location: Vancouver, Canada
Rentable area: 73,000 square feet

Highlights: This is one of seven Bi-Lo/Bruno free-standing
retail stores comprising 316,000 square feet acquired for
$59 million by H&R in the southern United States, and leased
for 20 years.

Highlights: H&R purchased this $21-million, state-of-the-art
bitech/office building, which is leased for 15 years to a dual-listed,
world leader in the emerging field of drug-coated medical
devices and biomaterials.

P re s i d e n t ’s M e s s a g e t o U n i t h o l d e r s ( c o n t i n u e d )

addition to all other rental escalations across the portfolio in 2006, the net rental revenue for 1.2 million square

feet of space leased to TransCanada Pipelines and TELUS in Calgary will automatically increase on an annualized

basis by $3 million.

We intentionally negotiate for long-term leases so that their maturities are spread out over time. The average

term to maturity of our leases was 12 years at year end 2005, with only 15% of space coming up for renewal over

the next five years – thereby minimizing our downside exposure to potential adverse market conditions upon

expiry. Moreover, we strive to match the long-term leases with long-term financing at all our properties, of which

as much as 97% is at fixed interest rates, with an average interest rate of 6.6% and term to maturity of 11 years.

Here too, we spread out financing maturities into the future, so that only 24% of our mortgages will mature over

the next five years.

We reduce risk through Quality and Diversification

Our second strategic focus is on building a portfolio that can withstand the inevitable economic and real estate

cycles in various markets and generate a dependable income stream. We grow the portfolio through acquisitions,

new developments or expansions, ensuring that every investment is accretive to the REIT’s bottom line – the

$618 million we invested in 2005, in fact, produced an average levered return of 11%. But in the process, we try

to maintain a balanced mix of properties, in the industrial, office and retail segments, and in a broad variety of

urban markets throughout Canada and the United States.

H&R now owns a critical mass of commercial real estate that ensures stability and minimizes risk. Case in point,

the REIT’s overall portfolio occupancy rate has been over 99% for the past eight consecutive years – that translates

into stability. And with an average building age of 12 years, the portfolio has durability. We are also building quality

and resilience into the portfolio through mezzanine financing of development projects and selective pruning of non-

core assets. Two industrial facilities we purchased last year – a $60 million distribution warehouse and an

$11 million freezer building, both in the Greater Toronto Area – were part of our mezzanine financing program.

Average Years to MaturityAverage Yearsto Maturity1997 19981999 2000 2001 2002Leases 8.3 9.4 10.1 10.311.4 12.Mortgages 7.810.6 9.4 8.712.3 12.0246810121402468101214MortgagesLeases200520042003200220012000199919981997H & R R e i t 2 0 0 5 A n n u a l R e p o r t

TransCanada office tower
Location: Calgary, Alberta
Rentable area: 936,000 square feet

Highlights: H&R will benefit from a substantial rental uplift in
2006 resulting from contractual rent escalations that are part of
its 20-year lease.

P re s i d e n t ’s M e s s a g e t o U n i t h o l d e r s ( c o n t i n u e d )

After growing a compound average 30% per
year since 1997, H&R’s market capitalization
reached $2.3 billion at year end 2005.

We maintain Financial Flexibility

While building H&R REIT into a major real estate enterprise, we’ve been careful to maintain a solid balance sheet

that provides us with the financial flexibility to seize attractive acquisition opportunities. Our strong financial

position allowed us to raise capital twice in 2005, with $100-million and $150-million, bought-deal, public

offerings of units. Proceeds of these successful financings were used primarily to fund accretive acquisitions.

Our ratio of debt-to-GBV at year end 2005 of 61% was in line with our self-imposed guideline maximum of 65%,

which we believe is conservative given our long-term leases and the increasing proportion of total debt that is

non-recourse – 56% at year end.

We are increasing Market Value

H&R’s unit price has risen progressively as the investment market has applied a premium value to the quality of

our portfolio, our disciplined strategy and steady performance. The market capitalization of H&R REIT reached

$2.3 billion by year end 2005, having grown a compound average 30% per year since 1997. The REIT’s unit price

has also been buoyed by popular demand for tax-efficient, yield investment vehicles, increased capital inflows

from pension and index funds and foreigners, and low interest rates. The liquidity of H&R units, as measured by

trading volume, has also risen steadily over the years, and we expect that inclusion of H&R’s units in the S&P/TSX

Composite Index last December will further increase that liquidity and the breadth of our institutional investors.

We are confident Looking Forward

It is increasingly important, yet difficult, to anticipate how the future may unfold. Taking an optimistic view,

North American economies and commercial real estate market fundamentals are generally robust. In Canada,

occupancy and rental rates are relatively stable in the retail and industrial sectors and expected to rise in most

major office markets, and we foresee limited new speculative development occurring in all property sectors.

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Nestlé distribution facility
Location: DeKalb, Illinois
Rentable area: 861,000 square feet

Highlights: This is one of three state-of-the-art distribution
centres H&R acquired for $169 million in the suburbs of Chicago,
Atlanta and Dallas with a total 2.2 million square feet leased to
Nestlé USA.

Bell Mobility office complex
Location: Mississauga, Ontario
Rentable area: 775,000 square feet

Highlights: After providing mezzanine financing for
construction, H&R exercised its option to acquire the $69-million
expansion of this metro-suburb, office complex during 2004.

P re s i d e n t ’s M e s s a g e t o U n i t h o l d e r s ( c o n t i n u e d )

Globalization and securitization of real estate is accelerating as an abundance of capital flows across borders,

contributing to the rapid growth of REITs around the world. Well-established income trusts will continue to be

very popular with investors large and small, particularly with those entering the older demographic segments

that rely on monthly distributions. On the downside, with increasing competitive bidding for prime real estate,

we foresee continuing upward pressure on commercial property prices in North America, which will likely

curtail our rapid growth by acquisition. H&R knows how to create value incrementally through long-term leasing

and financing, but as we expect to see fewer accretive acquisition opportunities in Canada and the US, we will

be on the lookout for opportunities to purchase owner-occupied, privately-owned real estate – a huge and

relatively untapped source of potential growth. We will also refocus our efforts on expanding the REIT’s

mezzanine development program.

We are grateful to our stakeholders

This year, H&R REIT will celebrate its 10th anniversary, with a strong track record as its backdrop. We owe this

success to the employees who manage and grow H&R’s portfolio and to the Trustees who watch over our decisions,

and we are very grateful for their diligent efforts. We will continue to strive for superior results in 2006, so as to

maintain the confidence of our investors and favourable valuations in our markets.

Tom Hofstedter

President & CEO

March 1, 2006

H&R REITversus S&P/TSX Composite IndexD050100150200250JDec-9050100150200250S&P/TSX Composite IndexH&RREITDec-05Jun-05Dec-04Jun-04Dec-03Jun-03Dec-02Jun-02Dec-01Jun-01Dec-00Jun-00Dec-99Jun-99Dec-98Jun-98Dec-97H & R R e i t 2 0 0 5 A n n u a l R e p o r t

BJ’s retail store
Location: Cape Coral, Florida
Rentable area: 120,000 square feet

Highlights: This is one of three free-standing stores purchased
by H&R for $57 million, which are leased for a weighted
average 17 years to a national US merchandiser, and financed
with $44 million of non-recourse mortgages.

Harmony distribution facility
Location: Pickering, Ontario
Rentable area: 716,000 square feet

Highlights: H&R provided mezzanine financing for the land
component of this state-of-the-art distribution warehouse, which
is leased for 18 years to a major logistics company, then purchased
it for $60 million.

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Office Properties As at December 31, 2005

Properties

160 Elgin St.***
Ottawa, ON
450-1st St., S.W.***
Calgary, AB
411-1st St., S.E.
Calgary, AB
310-320-330 Front St. W.**
Toronto, ON
5099 Creekbank Rd.***
Mississauga, ON
100 Wynford Dr.***
Toronto, ON
200 Boul. Bouchard***
Dorval, QC
401-405 The West Mall**
Etobicoke, ON

25 Sheppard Ave. W.**
North York, ON

5115 Creekbank Rd.
Mississauga, ON
160 McNabb St.
Markham, ON
26 Wellington St. E.**
Toronto, ON
9050 W. Washington Blvd.*
Culver City, CA
55 Yonge St.**
Toronto, ON
145 Wellington St. W.**
Toronto, ON
110 Sheppard Ave. E.
North York, ON
2810 Matheson Blvd. E.**
Mississauga, ON
649 North Service Rd.
Burlington, ON
2780-2800 Skymark Ave.**
Mississauga, ON
6900 Maritz Dr.,
Mississauga, ON
1235 Bay St.
Toronto, ON
2611-3rd Ave.
Calgary, AB
291-295 The West Mall**
Etobicoke, ON
200 Jameson Dr.***
Peterborough, ON
5901 E. Fowler Ave.*
Temple Terrace, FL
69 Yonge St.**
Toronto, ON
1 Kenview Blvd.
Brampton, ON
88 McNabb St.**
Markham, ON
1618 Station St.
Vancouver, BC
3625 Dufferin St.**
North York, ON
2767-2nd Ave.
Calgary, AB
136 Charlotte St.
Sydney, NS
15 Dorchester S.
Sydney, NS
131 McNabb St.
Markham, ON
Total

Ownership
Interest

Year Built/
Renovated

Net Rentable
Area
(Square Feet)

Occupancy Major Tenants

100%

50%

100%

98.5%

100%

50%

100%

50%

100%

1971

2001

1981

1989–
1990
2002

1970–
1997
1969–
1997
1983–
1985

1994

2004

1986

1981

1996

1956–
1989
1987

1993

1990

1991

1988–
1990
2001

1973–
2000
1998

1978

2001

1991

1914–
1988
1989

1987

2001–
2002
1965–
1985
1998

1989

1987

1989

988,689

936,000

705,120

593,862

525,921

459,171

451,899

418,531

361,741

249,118

220,000

172,475

172,039

163,404

154,527

154,022

129,103

123,000

107,931

104,689

97,020

95,465

90,718

89,405

85,725

80,872

79,752

75,433

73,197

70,804

69,630

69,500

55,180

54,100

99% Bell Canada, Public Works of Canada,

Gowling Lafleur Henderson LLP, Accenture

100% TransCanada PipeLines

99% Telus Communications,
Public Works of Canada

96% Galileo Canada, National Bank, Royal Bank

of Canada

100% Bell Mobility

100% Bell Canada

94% Livgroup Investments Inc., Parmalat,

Diageo Canada Inc., Blockbuster Canada,
Royal Bank of Canada

100% Nestle Canada, Transcontinental Media Inc.,
Hewitt & Associates, Association of
Professional Engineers of Ontario

100% Bell Mobility

100% AC Nielsen Company of Canada

100% Map Info Canada, United Way,

Sceptre Investments

100% Sony Pictures Entertainment Inc.

100% CIBC, TransCanada PipeLines

100% American International Group,

Aon Consulting
83% Equifax Canada Inc.,
Eckler Partners
88% Credit Union Central of

Ontario, Navigant International Canada

100% Wescam Inc.

66% CIBC, Fritz Starber Inc.,
McDonald’s, Firkin Pubs

100% Maritz Canada Inc.

100% Dental Anesthesia Association,

Interac Business Centres, Toy Shop Inc.

100% Dominion Information Services Inc.

78% The Pace Law Firm,

Investors Group Financial Services

100% AmeriCredit

100% Coca-Cola Enterprises Inc.

95% Livingston Group, Shoppers Drug Mart,

Union Securities
100% Atlantis Aerospace Corp.

100% Pfizer Canada Inc.

100% Angiotech Pharmaceuticals Inc.

100% H&R Property Management Ltd.,

Qualified Financial Services

100% DeVry Inc.

100% Province of Nova Scotia

100% Public Works of Canada, KPMG LLP,
Canadian Imperial Bank of Commerce

100% Drug Trading Company Ltd.

8,278,043

98%

* Legal title to each of the U.S. properties is held by a separate legal entity which is 100% owned, directly or indirectly, by H&R REIT (U.S.) Holdings Inc. (the “Company”); the assets of
each such separate entity are not available to satisfy the debts or obligations of any other person or entity; each such separate entity maintains separate books and records; the identity of the
owner of a particular U.S. property is available from the Company. This does not prevent distributions to the entity owners provided there are no conditions of default.

** Partially held through H&R Portfolio Limited Partnership.
*** Debt related to certain Canadian properties is held in separate legal entities, where the rent received from each property is first used to satisfy the related debt obligations with any balance

then available to satisfy the cash flow requirements of H&R Real Estate Investment Trust.

Single-Tenant Industrial Properties As at December 31, 2005

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Properties

110 Circuit City Rd.*
Marion, IL
1915-B Fairview Dr.*
Dekalb, IL
170 Butts St.*
South Hill, VA
One Nestle Ct.*
McDonough, GA
2300 Rue Senkus
LaSalle, QC
100 Metropolitan Rd.
Toronto, ON
220 Chemin du Tremblay
Boucherville, QC
1400 Church St. S.
Pickering, ON
12090 Sage Point Ct.*
Reno, NV
13600 Independence Pkwy.*
Fort Worth, TX
55 West Dr.
Brampton, ON
950 Stelzer Rd.*
Columbus, OH
1880 Matheson Blvd. E.
Mississauga, ON
930 Sherwin Pkwy.*
Buford, GA
500 Palladium Dr.
Kanata, ON
4441-76th St.
Calgary, AB
137 Horner Ave.
Etobicoke, ON
2121 Cornwall Rd.
Oakville, ON
1600 Lionell Boulet
Varennes, QC
7830 Tranmere Dr.
Mississauga, ON
1595 North Service Rd.
Oakville, ON
1 Chandaria Pl.
Kitchener, ON
6580 Millcreek Dr.
Mississauga, ON
75 Frontenac Dr.
Markham, ON
901 Guelph Line
Burlington, ON
1801 Blairtown Rd.*
Rock Springs, WY
6590 Millcreek Dr.
Mississauga, ON
475 Admiral Blvd.
Mississauga, ON
2695 Meadowvale Blvd.
Mississauga, ON
1616 Rue Eiffel
Boucherville, QC
30 Aero Dr.
Calgary, AB
2390 Argentia Rd.
Mississauga, ON
3900 Gantz Rd.*
Grove City, OH
16900-107th Ave., N.W.
Edmonton, AB
650 Cataraqui Woods Dr.
Kingston, ON
6660 Financial Dr.
Mississauga, ON
7575 Brewster Ave.*
Philadelphia, PA
6735-11th St., N.E.
Calgary, AB

Ownership
Interest

Year Built/
Renovated

Net Rentable
Area
(Square Feet)

Occupancy Major Tenants

100%

2000–
2001
1993

1998–
2001
1993

1972

1975–
1990
1999

2004–
2005
1997

1993

1969–
1981
1966–
2004
2003

2003

2000–
2001
1980–
1991
1962

1997–
1998
1971

1985–
1987
2002

1967

1999

1986

1955

2004

1999

1994–
1999
1999–
2003
1989–
2001
2001

1984

1992

1961–
1988
1988–
2003
1998–
1999
1981

1979

1,078,450

100% Circuit City

860,939

817,000

782,565

742,000

738,102

727,966

716,261

690,000

524,252

505,565

480,762

389,313

358,771

329,612

323,796

320,000

314,166

311,103

265,469

254,891

254,719

249,634

243,614

227,444

226,639

225,694

219,886

219,220

186,793

184,377

179,054

172,300

172,070

165,916

164,236

164,150

163,899

100% Nestle USA, Inc.

100% Jones Apparel Group Inc.

100% Nestle USA, Inc.

100% Owens-Illinois Canada Corp.

100% Hudson’s Bay Company

100% Rona Inc.

100% Harmony Logistics Canada Inc.

100% Sherwin Williams

100% Nestle USA, Inc.

100% Winners Apparel Ltd.

100% Dr. Pepper/7Up Bottling Group

100% Eagle Global Logistics (Canada),

UPS SCS Inc.

100% Sherwin Williams

100% Breconridge Manufacturing Solutions

Corporation

100% UPS Logistics Group Canada,

Cascades Tissue Group Inc.
100% Livingston Investments Ltd.

100% UPS Logistics Group Canada

100% Asea Brown Boveri Inc.

100% Paperboard Industries Corporation

100% UPS SCS Inc.

100% Truserv Canada Co-Operators Inc.

100% UPS Logistics Canada Ltd.

100% Hyundai Auto Canada

100% International Truck and Engine Corporation

100% Halliburton Energy Services

100% Hershey Canada Inc.

100% CFM Corporation

100% Corporate Express Canada Inc.

100% Purolator Courier Limited

100% CRL Company, Golder Associates

100% Borders, Inc.

100% Finning International Inc.

100% Sysco Food Services of Canada, Inc.

100% Servi-Logistix Inc.

100% Georgia Pacific Corporation

100% Finning International Inc.

then available to satisfy the cash flow requirements of H&R Real Estate Investment Trust.

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Single-Tenant Industrial Properties (continued) As at December 31, 2005

Properties

Ownership
Interest

Year Built/
Renovated

Net Rentable
Area
(Square Feet)

Occupancy Major Tenants

2928-16th St., N.E.
Calgary, AB
1330 Martin Grove Ave.
Mississauga, ON
351 Passmore Ave.
Scarborough, ON
10910-170th St., N.W.
Edmonton, AB
20600 Rue Clark-Graham
Montreal, QC
11 Kenview Blvd., Brampton, ON
1, 4 & 8 Prince Andrew Pl.
Toronto, ON
400 Traders Blvd. E
Mississauga, ON
5550 Skyline Way, Calgary, AB
510 East Courtland St.*
Morton, IL
17718-114th Ave., Edmonton, AB
7000 Rue Armand
Quebec City, QC
300 Humber College Blvd.
Etobicoke, ON
19100-94th Ave.
Surrey, BC
525 Boxwood Dr., Cambridge, ON
1350-1380 Matheson Blvd. E.
and 5391 Ambler Dr., Mississauga, ON
1 Duck Pond Rd.
Lakeside, NS
6740 Campobello Rd.***
Mississauga, ON
9300 Airport Rd., Hamilton, ON
200 Chisholm Dr., Milton, ON
1550 Creditstone Rd., Vaughan, ON
2600 Meadowvale Rd., Mississauga, ON
97 Thames Rd. E.
Exeter, ON
10300 Rue Henri Bourassa
St. Laurent, QC
380 Markland St., Markham, ON
10 Old Placentia Rd.
Mount Pearl, NL
388 Markland St., Markham, ON
2 East Beaver Creek Rd.**
Richmond Hill, ON
460 MacNaughton Ave.
Moncton, NB
10430-178th St., N.W.
Edmonton, AB
940 Gateway Dr., Burlington, ON
6315 Kenway Dr.
Mississauga, ON
John G. Diefenbaker Airport
Saskatoon, SK
118 MacDonald Cres.
Fort McMurray, AB
3620-32nd St., N.E.
Calgary, AB
1764 & 1776 Kelly Douglas Rd.
Kamloops, BC
611 Ferdinand Blvd., Dieppe, NB
9201 Rue de l’Innovation, Anjou, QC
6520 Kestrel Rd., Mississauga, ON
2005 Boul. Dagenais, Laval, QC
550 York Rd.
Niagara-on-the-Lake, ON
3104-97th St., Edmonton, AB
880 Milner Ave.
Scarborough, ON
2860 Plymouth Dr., Oakville, ON
1 Moyal Ct.**
Vaughan, ON
115 Belfield Rd.
Toronto, ON

100%

100%
100%

100%

100%
100%

100%

100%
100%

100%

100%
100%
100%
100%
100%

100%

100%
100%

100%

100%
100%

100%

100%
100%
100%
100%
100%

100%
70%

100%
100%

100%

1981–
1994
1972–
2000
1986–
1997
1977–
1999
2003

1989
1966–
1985
1985–
1999
1984
2000

2000
2000

2005

1998–
2001
2003
1987

1968–
2000
1980–
1985
2000
1991
2000
2000
1973–
1994
1976–
1989
1992
1989–
2003
1996
1988

1979–
1995
1979

1982
1999

2001

1977

1983–
1998
1965–
1989
1997
2000
2000
2000
2000

2000
1990

1989
1991

1968–
1980

163,280

162,775

161,137

154,721

140,000

139,548
139,520

126,790

124,805
123,090

121,315
120,584

114,316

112,819

111,996
110,059

105,975

94,700

93,357
91,828
88,584
84,486
84,000

81,500

81,222
80,730

79,039
79,024

76,303

70,676

70,218
68,678

66,355

65,169

65,120

64,271

63,053
62,691
62,217
62,217
62,185

62,169
60,028

59,396
52,792

47,990

100% Nova Chemicals Corporation

100% 2072013 Ontario Inc. and

Paramount Pallet, Inc.
100% Samuel, Son & Company Limited

100% Finning International Inc.

100% Warnaco of Canada

100% Para Paints Canada Inc.
100% Symcor Inc.

100% Wentworth Technologies

100% Hunting Oilfield Services (Canada) Ltd.
100% Georgia Pacific Corporation

100% Purolator Courier Limited
100% Purolator Courier Limited

100% Give and Go Prepared Foods Corp.

100% Finning International Inc.

100% United Auto Parts Inc.
100% Minuk Construction and Engineering

100% Sysco Food Services of Canada, Inc.

100% Maxxam Analytics

100% Purolator Courier Limited
100% Asea Brown Boveri Inc.
100% Purolator Courier Limited
100% Purolator Courier Limited
100% Andex Metal Products Limited

100% Asea Brown Boveri Inc.

–

100% Sysco Food Services of Canada, Inc.

100% 2057412 Ontario Inc.
69% Country Style,

Acura Technology

100% Sysco Food Services of Canada, Inc.

100% Finning International Inc.

100% Cygnal Technologies
100% Katoen Natie Canada Company

100% Purolator Courier Limited

100% Finning International Inc.

100% Nova Chemicals Corporation

100% Finning International Inc.

100% Sysco Food Services of Canada, Inc.
100% Purolator Courier Limited
100% Purolator Courier Limited
100% Purolator Courier Limited
100% Purolator Courier Limited

100% Purolator Courier Limited
100% House of Electrical,

Lombardi Direct Marketing

100% Kraft Canada Inc.
100% Wajax Industries

100% Wentworth Technologies

then available to satisfy the cash flow requirements of H&R Real Estate Investment Trust.

Single-Tenant Industrial Properties (continued) As at December 31, 2005

Properties

Ownership
Interest

Year Built/
Renovated

Net Rentable
Area
(Square Feet)

Occupancy Major Tenants

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

75%

94%

100%

100%
75%

100%
100%

Industrial Park W., Peace River, AB
72 Plant Farm Blvd.
Brantford, ON
5321-11th St. N.E., Calgary, AB
360 Spinnaker Way**
Vaughan, ON
2815 Matheson Blvd. E.**
Mississauga, ON
380 Spinnaker Way**
Vaughan, ON
4248-14th Ave.**
Markham, ON
749 Douglas Fir Rd., Sparwood, BC
300 Biscayne Cres.**
Brampton, ON
6740-67th Ave., Red Deer, AB
1604 & 1720 Willow St.
Campbell River, BC
19498-92nd Ave., Surrey, BC
45 Bodrington Ct.**
Markham, ON
450 Mackenzie Ave.
& 265 Fifth Ave. S.
Williams Lake, BC
2400 Matheson Blvd. E.**
Mississauga, ON
5230 Orbitor Dr.**
Mississauga, ON
Mile 49.5 Alaska Hwy., Fort St. John, BC 100%
100%
4750-101 St. N.W., Edmonton, AB
100%
700 Vanalman Ave., Victoria, BC
R.R. #1, Mile 295, 2600 Alaska Hwy.
100%
Fort Nelson, BC
Total

100%
100%

100%

1970
1990–
2001
1991
1995

1987

1995

1994

1978
1996

1975
1980

1992
1992

1959–
1978

1993

1994

1979
1978
1990
1980

44,668
44,500

43,000
41,944

40,000

33,017

32,708

31,784
31,606

30,655
30,000

28,621
28,089

27,321

25,273

22,000

21,259
20,457
14,411
12,399

100% Finning International Inc.
100% Wentworth Technologies

100% Olympic Seismic Ltd.
100% The Packaging Group

100% ADT Security Services

100% Topax Export Packaging

100% Linsey Foods Limited

100% Finning International Inc.
100% Dicom Express Inc.

100% Finning International Inc.
100% Finning International Inc.

100% Finning International Inc.
100% Canada Bread Company Limited

100% Finning International Inc.

100% Givaudan Canada Co.

100% The Oak Manufacturing Co.

100% Finning International Inc.
100% Finning International Inc.
100% Finning International Inc.
100% Finning International Inc.

19,867,068

99%

Retail Properties As at December 31, 2005

Properties

Ownership
Interest

Year Built/
Renovated

Net Rentable
Area
(Square Feet)

Occupancy Major Tenants

14111-14300 Entertainment Blvd. and
14140 Triangle Road, Richmond, BC
720 Blvd. Maloney W.
Gatineau, QC
NorthPointe Towne Centre, Calgary, AB
7500 Lundy’s Lane
Niagara Falls, ON
10450-42nd Ave., Edmonton, AB
615 George Wallace Dr.*
Gadsden, AL
220 Chain Lake Dr.
Halifax, NS
1701 Frederick Rd.*
Opelika, AL
2301 Woodmont St.*
Columbus, MS
3505 North Memorial Pkwy.*
Huntsville, AL
575 Molly Lane*
Woodstock, GA
733 Pleasant Hill Rd.*
Lilburn, GA
2650 Dallas Hwy.*
Marietta, GA
8199 Pearl Rd.*
Strongsville, OH

100%

100%
100%

100%

1994–
1997
1995–
1998
2000
1999–
2001
1993
2002

1996–
1998
1999

2001

2002

1997

314,033

283,970

199,502
172,800

150,457
146,730

138,027

135,197

135,039

132,847

132,448

100% Famous Players, City of Richmond

100% Wal-Mart, Canadian Tire,
Metro Richlieu

100% Famous Players, Canadian Tire
99% Tommy Hilfiger, Levi’s, Roots Canada,

Nike, Danier Leather, Sony

100% Rona Revy Inc.
100% Lowe’s Companies, Inc.

100% Wal-Mart

100% Lowe’s Companies, Inc.

100% Lowe’s Companies Inc.

100% Lowe’s Companies, Inc.

100% Home Depot

then available to satisfy the cash flow requirements of H&R Real Estate Investment Trust.

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Retail Properties (continued) As at December 31, 2005

Properties

Ownership
Interest

Year Built/
Renovated

Net Rentable
Area
(Square Feet)

2495 Gulf To Bay Blvd.*
Clearwater, FL
200 Weis Lane off Susquehanna Blvd.*
West Hazelton, PA
2343 Princess St., Kingston, ON
10580 Duke Dr.*
Alpharetta, GA
4855 Stone Mountain Hwy.*
Lilburn, GA
1701-1711 Merivale Rd., Ottawa, ON
1 Boul. Bouthillier, Rosemère, QC
225 Joseph-Casavant Ave., Beauport, QC
775 Panet Rd., Winnipeg, MB
1929 NE Pine Island Rd.*
Cape Coral, FL
1880 Innes Rd., Ottawa, ON
5035 Boul. Cousineau, St-Hubert, QC
2435 East-West Connector*
Austell, GA
6344 Cash Crt.*
Norcross, GA
1711 Springfield Rd., Kelowna, BC
7277 Rue St-Jacques, Montréal, QC
29659 Seven Mile Rd.*
Livonia, MI
38272 Colorado Ave.*
Avon, OH
1677 Home Ave.*
Akron, OH
3712 Call Field Rd.*
Wichita Falls, TX
5555 S. Buckner Blvd.*
Dallas, TX
730 Ottawa St. S., Kitchener, ON
275 Boul. Rideau
Rouyn-Noranda, QC
7350 Catherine St., Windsor, ON
711 Creek View Dr.*
Columbus, IN
2665-32nd St. N.E., Calgary, AB
906 East North Ave.*
Belton, MO
1333 Sargent Ave.,Winnipeg, MB
Interstate 640 at Washington Pike*
Knoxville, TN
110 Bloor St. W.
Toronto, ON
1058-1100 10th St., Hanover, ON
124 & 128 Boston Post Rd.*
Waterford, CT
8150 Rockville Rd.*
Indianapolis, IN
9950 Berberich Dr.*
Florence, KY
4478 Market St.*
Marianna, FL
1309 Decatur Hwy.*
Gardendale, AL
4211-137 Ave. & 4204-137 Ave.
Edmonton, AB
521 Highway 80 E.*
Demopolis, AL
6951 Lee Hwy.*
Chattanooga, TN
205 Oakbrook Dr.*
Mt. Washington, KY
3100 East Meighan Blvd.*
East Gasden, AL
420 Market St.*
Dayton, TN
5428 Dogwood Dr.*
Milton, FL
61st Ave. & Barlow Trail S.E.
Calgary, AB

100%

100%
100%

100%

100%
100%
100%
100%
100%

100%
100%
100%

100%

100%
100%
100%

100%

100%
20%

100%
100%

100%

100%
100%

100%

1997

2003
1998

1999

2002
1998
1990
1997
2005

1999
1996
2003

2004

1995
2000
1994

1999

1998

1992

1991–
1997
2004
1996–
1998
2002
1994

1998
2004

1998
1997

1997–
1998
2001
1996–
2002
1995

1997

1977–
1995
1996–
1998
1987

1980–
1996
1998

1985

1999

1984–
1996
1998–
1999

131,946

131,575

129,181
129,044

128,997

127,489
124,851
124,182
121,962
119,598

118,526
117,765
115,396

115,367

110,178
110,004
109,800

108,532

108,510

108,178

107,927

105,978
104,222

102,997
95,120

89,438
88,248

87,769
86,584

86,164

78,114
65,506

61,614

60,835

58,100

56,665

55,900

49,580

48,261

47,311

45,998

45,983

43,750

40,480

Occupancy Major Tenants

100% Home Depot

100% Lowe’s Companies, Inc.

100% Rona Home & Garden
100% Lowe’s Companies, Inc.

100% Lowe’s Companies, Inc.

100% Loeb’s, Best Buy, Linens ’N Things
100% Reno Depot
100% Reno Depot
100% Rona Revy, Inc.
100% BJ’s Wholesale Club

100% Rona Home & Garden
100% Reno Depot
100% BJ’s Wholesale Club

100% BJ’s Wholesale Club

100% Rona Revy Inc.
100% Reno Depot
100% Farmer Jack

100% BJ’s Wholesale Club

100% Kohl’s

100% Sam’s Club

100% Rona Home & Garden
100% Wal-Mart

100% Building Box
100% Lowe’s Companies, Inc.

100% Rona Revy Inc.
100% Kohl’s

100% Indigo Books, Nike, Escada

100% Wal-Mart
100% Shaw’s

100% Kroger

100% Winn Dixie Stores Inc.

100% Bruno’s Grocery Store

95% Cineplex Odeon Corporation

100% Bruno’s Grocery Store

100% Bi-Lo Grocery Store

100% Associated Wholesale Group

100% Bruno’s Grocery Store

100% Bi-Lo Grocery Store

100% Winn Dixie Stores Inc.

100% Business Depot

then available to satisfy the cash flow requirements of H&R Real Estate Investment Trust.

Retail Properties (continued) As at December 31, 2005

Properties

9320 Hwy. 93
Midland, ON
342 Blue Ridge St.*
Blairsville, GA
Sunridge Plaza, Calgary, AB
819 West Carolina Ave.*
Hartsville, SC
8754 Highway 60, Eganville, ON
State Bridge & Morton Rd.*
Alpharetta, GA
46651 & 46655 Algonkian Pkwy.*
Sterling, VA
901 Supermall Rd.*
Auburn, WA
4845 & 4865 Alabama Rd. N.W.*
Roswell, GA
593 Summit Blvd.*
Broomfield, CO
1546 E. Ray Rd.*
Gilbert, AZ
22994 East Smoky Hill Rd.*
Aurora, CO
1459 Tiger Park Lane*
Gulf Breeze, FL
1157 Azalea Ave.*
Richmond, VA
1225 East Ridge Rd.*
Griffith, IN
42285 & 44245 Farmwell Rd.*
Ashburn, VA
3332 Arapahoe Rd.*
Erie, CO
7520 Village Square Dr.*
Castle Rock, CO
Highway 20 & Samples Rd.*
Cumming, GA
1947 & 1959 South Greenfield Rd.*
Mesa, AZ
4901 & 4951 W. Eldorado Pkwy.*
McKinney, TX
16542 Keystone Blvd.*
Parker, CO
83rd Ave. & Thunderbird Rd.*
Peoria, AZ
7112 Hwy. 98*
Panama City, FL
1347 West 15th St.*
Panama City, FL
6217 Silver Star Rd.*
Orlando, FL
302 N. Tyndall Pkwy.*
Callaway, FL
2701 Dick Pond*
Surfside Beach, SC
800 North Glynn St.*
Fayetteville, GA
502 37th Ave S.E.*
Puyallup, WA
3990 Red Cedar Dr.*
Highlands Ranch, CO
Total

Ownership
Interest

Year Built/
Renovated

Net Rentable
Area
(Square Feet)

100%

100%
100%

100%

1976–
2003
2001

2000
1989–
1999
2001
2003

2002

2001

2002

2000

2002

2000

2002

1997

2005

1999

2000

2003

2004

2002

1999

2002

1997

2000

2004

40,000

36,524

35,332
32,998

25,296
18,529

16,838

16,465

16,406

15,732

14,916

14,533

14,490

13,905

13,815

13,713

13,597

13,498

13,404

13,368

11,811

11,200

10,908

10,102

9,332

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Occupancy Major Tenants

100% Rona Building Centre

100% Bi-Lo Grocery Store

100% Mark’s Work Wearhouse, CIBC
100% Bi-Lo Grocery Store

100% IGA
100% Shell Oil Products

100% Shell Oil Products

100% Walgreens Company

100% Shell Oil Products

100% CVS Pharmacy, Inc.

100% Eckerd Corporation

100% Shell Oil Products

6,964,404

99%

then available to satisfy the cash flow requirements of H&R Real Estate Investment Trust.

Mezzanine Financing for Development As at December 31, 2005

Properties

Eglinton Ave. E. & Dixie Rd.
Mississauga, ON

Property
Type

Office

Ownership
Option

Expected
Completion

Net
Rentable Area
(Square Feet)

Occupancy

Major Tenants

100%

N/A

Bell Mobility

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Management’s Discussion and Analysis

For the year ended December 31, 2005

SECTION I

1. Forward Looking Disclaimer
Management’s discussion and analysis (“MD&A”) of the consolidated financial position and the consolidated results of operations
of H&R Real Estate Investment Trust (“H&R” or the “Trust”) for the year ended December 31, 2005 should be read in conjunction
with the Trust’s consolidated financial statements and the notes thereto for the years ended December 31, 2005 and 2004. Historical
results, including trends which might appear, should not be taken as indicative of future operations or results. Certain prior year
items have been reclassified to conform with the presentation adopted in the current year.

Certain information in this MD&A contains forward-looking statements with the meaning of applicable securities laws including,
among others, statements made or implied under the headings “Results of Operations”, “Financial Condition” and “Outlook”
relating to the Trust’s objectives, strategies to achieve those objectives, the Trust’s beliefs, plans, estimates, and intentions, and similar
statements concerning anticipated future events, results, circumstances, performance or expectations that are not historical facts.
Forward-looking statements generally can be identified by words such as “outlook”, “objective”, “may”, “will”, “expect”, “intend”,
“estimate”, “anticipate”, “believe”, “should”, “plans” or “continue” or similar expressions suggesting future outcomes or events. Such
forward-looking statements reflect the Trust’s current beliefs and are based on information currently available to management.
These statements are not guarantees of future performance and are based on the Trust’s estimates and assumptions that are
subject to risk and uncertainties, including those described below under “Risks and Uncertainties” and those discussed in the
Trust’s materials filed with the Canadian securities regulatory authorities from time to time, which could cause the actual results
and performance of the Trust to differ materially from the forward-looking statements contained in this MD&A. Those risks and
uncertainties include, among other things, risks related to: price of the Units; real property ownership; availability of cash flow;
competition for real property investments; government regulation; interest rates and financing; environmental matters; redemption
of the Units; unitholder liability; co-ownership interest in properties; reliance on one corporation for management of a significant
number of the Trust’s properties; dependence on key personnel; potential conflicts of interest; changes in legislation; investment
eligibility; construction risks; currency risk; tax treatment of income trusts; dilution; ability to access capital markets; cash
distributions; indebtedness of the Trust; and statutory remedies. Material factors or assumptions that were applied in drawing a
conclusion or making an estimate set out in the forward-looking statements include that the general economy remains stable;
interest rates are relatively stable; acquisition capitalization rates are stable; competition for acquisitions of high quality office,
industrial and retail properties remains strong; and equity and debt markets continue to provide access to capital. The Trust
cautions that this list of factors is not exhaustive. Although the forward-looking statements contained in this MD&A are based
upon what the Trust believes are reasonable assumptions, there can be no assurance that actual results will be consistent with these
forward-looking statements.

All forward-looking statements in this MD&A are qualified by these cautionary statements. These forward-looking statements
are made as of March 1, 2006 and H&R, except as required by applicable law, assumes no obligation to update or revise them
to reflect new information or the occurrence of future events or circumstances. All information for the three months ended
December 31, 2005 and 2004 was neither audited nor subject to a review engagement. In addition, information for the three
months ended March 31, 2004 was neither audited nor subject to a review engagement.

2. Overview
H&R is an unincorporated open-ended trust created by a Declaration of Trust and governed by the laws of the Province of
Ontario. The Trust completed its conversion into an “open-ended” mutual fund trust under the provisions of the Income Tax Act
(Canada) effective July 21, 2005. As a result of the conversion, Unitholders are entitled to have their units redeemed at any time
on demand payable in cash (subject to monthly limits) and/or in specie. The Trust obtained an advance income tax ruling to
confirm, among other things, that the conversion would not result in Unitholders being considered to have disposed of their units
for tax purposes. The units of the Trust trade on the Toronto Stock Exchange under the symbol HR.UN.

The Trust commenced operations on December 23, 1996 with the initial acquisition of a 70% undivided interest in a portfolio
of 27 properties, principally located in the Greater Toronto Area (the “GTA”). As at December 31, 2005, the Trust owned and
operated a portfolio of 227 properties, comprising an aggregate leaseable area of 34.4 million square feet (as calculated at the
Trust level of ownership).

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

H&R has two primary objectives:

• to provide Unitholders with stable and growing cash distributions, generated by the revenue it derives from investments

in income producing real estate properties; and

• to maximize unit value through ongoing active management of the Trust’s assets, acquisition of additional properties and

the provision of mezzanine financing for selected development projects.

The Trust focuses on investing in a diversified real estate portfolio of office, industrial and retail properties in both Canada
and the United States to meet its objectives. The Trust’s strategy is to purchase quality properties leased primarily to highly
creditworthy tenants on a long-term basis, and to place long-term financing on the properties matching the term of the financing
to that of the lease wherever economically feasible.

The geographic diversification of H&R’s portfolio as at December 31, 2005 is outlined in the charts below:

Ontario
properties

United
States
properties

Alberta
properties

Quebec
properties

Other
properties

Total
properties

24
53
10

Ontario
sq. ft.

5,420
8,568
987

14,975

2
12
62

United
States
sq. ft.

258
6,279
3,769

10,306

4
16
6

Alberta
sq. ft.

1,406
1,810
571

3,787

1
9
6

Quebec
sq. ft.

452
2,435
782

3,669

3
14
5

Other
sq. ft.

198
736
772

1,706

34
104
89

227

Total
sq. ft.

7,734
19,828
6,881

34,443

Office
Industrial
Retail

Total

(000’s)

Office
Industrial
Retail

Total

The Trust provides mezzanine financing for development projects that are consistent with its objectives and philosophy.
Participation in these projects enables the Trust to acquire high quality, new properties at higher yields than would otherwise be
available. As at December 31, 2005, the Trust had invested $2.6 million as land under development for one development project.
Also, the Trust had taken back mortgage receivables totalling $24.0 million on the sale of one industrial property and on the Trust
relinquishing its option to purchase a property upon repayment in full of the mezzanine financing that was previously provided
by the Trust.

The average term to maturity of our leases of 12.3 years at December 31, 2005 (December 31, 2004 – 12.5 years) closely matches the
average term to maturity of our mortgages of 11.1 years at December 31, 2005 (December 31, 2004 – 12.0 years). These statistics
are evidence that our objective of providing long-term stable income is being met.

The following chart outlines our lease expiries over the next 5 years highlighting the fact that only 15.0% of our leases expire over
that period. This is a further illustration of the long-term nature of management’s outlook which is designed to stabilize cash flow.

Office

Rent per
sq. ft. ($)
on expiry

16.09
16.55
16.71
21.37
17.24

18.14

% of
sq. ft.

0.45
0.39
1.25
1.29
0.88

4.26

Industrial

Rent per
sq. ft. ($)
on expiry

6.15
4.44
3.94
5.05
6.47

4.83

% of
sq. ft.

0.56
1.62
3.18
3.48
1.22

10.06

Retail

Rent per
sq. ft. ($)
on expiry

21.02
24.51
25.11
19.77
27.69

24.94

% of
sq. ft.

0.05
0.03
0.14
0.15
0.35

0.72

Total

Rent per
sq. ft. ($)
on expiry

11.05
7.05
8.08
9.78
13.37

9.57

% of
sq. ft.

1.06
2.04
4.57
4.92
2.45

15.04

2006
2007
2008
2009
2010

Total

M a n a g e m e n t ’s D i s c u s s i o n a n d A n a l y s i s

SECTION II

1. Selected Annual Information
The following tables summarize certain financial information of the Trust for the periods indicated below:

(000’s, except per unit amounts)

Rentals from income properties
Mortgage interest and other income
Property operating income
Net earnings from continuing operations
Net earnings per unit from continuing operations

(basic)
(diluted)(2)
Net earnings
Net earnings per unit

(basic)
(diluted)(2)

Total assets
Mortgages payable
Distributable income per unit (excluding gains and losses)(4)
Cash distributions per unit

Year ended
December 31,
2005(1)

Year ended
December 31,

2004(1)(3)

2003(1)(3)

486,252
1,917
92,990
80,258

0.84
0.84
86,653

0.91
0.90
3,826,948
2,396,894
1.46
1.30

402,418
8,104
96,197
89,328

1.01
1.01
88,781

1.00
1.00
3,300,913
2,053,168
1.44
1.24

313,948
7,862
88,716
83,873

1.12
1.11
90,553

1.21
1.20
2,681,787
1,614,994
1.40
1.22

Notes:
(1) The financial information set forth under “Year Ended December 31, 2005”, “Year Ended December 31, 2004” and “Year Ended December 31, 2003” include

the operating results of those properties that were acquired in 2005, 2004 and 2003, respectively.

(2) The calculation to determine “net earnings per unit from continuing operations (diluted)” and “net earnings per unit (diluted)” gives effect to the issue

of Units pursuant to outstanding options and non-controlling interest conversion to units.

(3) Certain items have been reclassified to conform with the presentation adopted in the current year.
(4) Distributable Income is not a measure recognized under Canadian generally accepted accounting principles (“GAAP”) and does not have a standardized

meaning prescribed by GAAP. See Section II (2) (b).

Over the last three years, total assets of the Trust have increased substantially principally due to property acquisitions. As a result,
rentals from income properties and operating income have increased reflecting the greater number of income-producing properties
owned by the Trust. In addition, mortgages payable have also increased due to property acquisitions and to take advantage of the
low cost of debt. It is expected that these figures will continue to increase as the Trust continues to manage and grow its activities
to meet its business objectives.

Changes in accounting policy implemented during 2005 that impacted the financial information outlined above include the
application of variable interest entities (see Section IV (2) (a)). During 2004, numerous changes in accounting policies were adopted
impacting the financial information listed above. These changes included accounting policies for property acquisitions,
depreciation, stock based compensation, recognition of rental revenue and hedging relationships, as more fully described in the
Trust’s MD&A for the year ended December 31, 2004.

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

2. Results of Operations
(in thousands of dollars except per unit amounts)

(a) Net Earnings

Operating revenue

Rentals from income properties
Mortgage interest and other income

Operating expenses

Property operating costs
Mortgage and other interest
Depreciation of income properties
Amortization of deferred expenses

and intangible costs

Property operating income
Trust expenses

Net earnings before discontinued operations

and non-controlling interests

Non-controlling interest

Net earnings from continuing operations

Net earnings (loss) from discontinued operations

Net earnings

Basic net earnings (loss) per unit

Continuing operations
Discontinued operations

Diluted net earnings (loss) per unit

Continuing operations
Discontinued operations

Three months ended

Year ended

December 31,
2005
(unaudited)

December 31,
2004
(unaudited)

December 31,
2005

December 31,
2004

126,398
198

126,596

38,698
39,562
19,749

6,802

104,811

21,785
918

20,867
(1,347)

19,520

3,962

23,482

0.19
0.04

0.23

0.19
0.04

0.23

109,276
1,289

110,565

34,411
33,351
15,502

3,547

86,811

23,754
1,728

22,026
(1,073)

20,953

21,018

0.24
–

0.24

0.23
–

0.23

486,252
1,917

488,169

153,256
149,400
69,907

22,616

395,179

92,990
6,866

86,124
(5,866)

80,258

6,395

86,653

0.84
0.07

0.91

0.84
0.06

0.90

402,418
8,104

410,522

127,012
121,637
56,783

8,893

314,325

96,197
5,796

90,401
(1,073)

89,328

(547)

88,781

1.01
(0.01)

1.00

1.01
(0.01)

1.00

Net earnings for the three months ended December 31, 2005 of $23.5 million or $0.23 per unit increased by 11.7% on a dollar basis
and decreased by 4.2% on a per unit basis compared to net earnings of $21.0 million or $0.24 per unit for December 31, 2004.

For the year ended December 31, 2005 compared to December 31, 2004, net earnings decreased by 2.4% from $88.8 million to

$86.7 million on a dollar basis and by 9.0% from $1.00 to $0.91 on a per unit basis.

These changes are due mainly to the increase in the amortization of deferred expenses and intangible costs, the amortization
of above and below market rents and the increase in trust expenses as described below (see “Section II (2) (a) (vi) and (vii)”), which
were partially offset by the impact of the asset acquisition program of the Trust as outlined below in “Rentals from Income
Properties – Section II (2) (a) (i)” as well as the gains on the sale of certain income properties realized in Q3 and Q4 of 2005 (see
“Section II (2) (a) (ix)” below) as compared to a loss on sale realized in the year ended December 31, 2004.

M a n a g e m e n t ’s D i s c u s s i o n a n d A n a l y s i s

Details of the impact of the implementation of changes to significant accounting policies (see “Section IV (2) (a)”) for the three

months and year ended December 31, 2005 are described in detail as follows:

Three months ended

Year ended

December 31,
2005

December 31,
2004

December 31,
2005

December 31,
2004

Net earnings before accounting changes

22,544

21,018

86,043

88,781

Adjustments relating to accounting policy changes:

Variable Interest Entities –

reversal of interest income

Variable Interest Entities –

capitalization of interest expense
Variable Interest Entities – gain on sale

(348)

227
1,059

–

–
–

(1,508)

1,059
1,059

–

Net earnings

23,482

21,108

86,653

88,781

The impact of each individual component comprising net earnings is discussed below.

(i) Rentals from income properties
Rentals from income properties (“rentals”) include all amounts earned from tenants related to lease agreements, including basic
rent, parking income, operating cost recoveries and realty tax recoveries.

Same-asset
Acquisitions

Total

Three months ended

Year ended

December 31,
2005

December 31,
2004

December 31,
2005

December 31,
2004

94,767
31,631

126,398

93,687
15,589

109,276

379,541
106,711

486,252

377,020
25,398

402,418

“Same-asset” refers to those properties owned by the Trust for the entire year ended December 31, 2005 and for the entire year
ended December 31, 2004, i.e. any acquisitions since January 1, 2004 to December 31, 2005 are considered “acquisitions” for the
purpose of this analysis. Acquisitions include the acquisition of substantially all of the remaining 30% of the original portfolio as
described in detail in the MD&A for the year ended December 31, 2004.

Rentals from income properties increased 15.7% from $109.3 million in Q4 2004 to $126.4 million in Q4 2005. For the year
ended December 31, 2005, rentals from income properties increased by $83.8 million or by 20.8% over the comparative 2004
period. As highlighted above, the increase is primarily the result of the Trust’s ongoing strategy of adding to its properties either
through acquisitions or mezzanine financing programs. A total of 74 properties were added and five were disposed of between
January 1, 2004 and December 31, 2005.

However, rentals were reduced in Q4 2005 by $1.1 million (Q4 2004 – $0.3 million) as the result of the amortization of above
and below market rents as required by EIC-140 (See “Critical Accounting Estimates, Property Acquisitions – Section (IV) (1) (c)”)
which was implemented by the Trust in 2004. This reduction was offset by the increase in straight lining of rents of $1.0 million
between Q4 2004 and 2005.

For the year ended December 31, 2005 rentals were reduced by $4.1 million and for the year ended December 31, 2004 rentals
were reduced by $0.1 million as a result of amortization of above and below market rents. This reduction was partially offset by
the net increase in straight lining of rents of $3.4 million between the years ended December 31, 2004 and 2005.

Rentals continue to be affected by contractual rental escalations in existing leases offset by the general soft conditions in the
multi-tenant office market in the GTA. This weakness in the market is still giving rise to lower net effective rents on lease
renewals and new leasing. As an example, during Q4 2005, rental income was reduced by $0.6 million due to a non-recurring
two month rent free period granted to a tenant at 145 Wellington Street West as part of their renewal incentives (which had a
100% impact during Q4 2005). Despite such weakness in the market, however, due in part to acquisitions and to the proactive
management of the Trust’s portfolio, vacancies have remained constant in the portfolio on an overall and same-asset basis across
all asset categories.

As a result of all these factors, rentals from same-asset properties have increased from $93.7 million for Q4 2004 to $94.8 million
for Q4 2005, a 1.2% increase. For the year ended December 31, 2004 as compared to the year ended December 31, 2005, rentals
from same-asset properties also increased from $377.0 million to $379.5 million.

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Occupancy levels and the average rent per square foot in the portfolio are summarized in the table below:

Occupancy – all assets

Occupancy – same assets

Average rent per square foot

Year
Ended

2005
2004

Office

98.2%
97.5%

98.4%
97.7%

17.75
17.42

$
$

Industrial

99.5%
100.0%

99.9%
100.0%

$
$

5.22
5.11

$
$

Weighted
Retail Average Total

99.9%
99.9%

13.16
11.94

$
$

99.3%
99.4%

99.5%
99.4%

9.62
9.44

The above statistics reflect the net ownership position of H&R.

Currently there still does not appear to be any significant core-inflationary pressure on the Canadian or US economies. However,
it is possible that such pressures could surface in the near term future as North American economies continue to improve and oil
prices remain high. The cash flow of the Trust is protected to a large degree as most leases in the Trust’s Canadian assets contain
periodic rental escalation clauses to take expected inflation into account and in the US, the vast majority of leases are over 15 years
in length which, in management’s view, removes the uncertainty that can arise in shorter term economic cycles. The Trust’s long-
term, strong credit philosophy should therefore insulate the Trust from any impact that inflation may have on the rental streams
from its portfolio as compared to a portfolio with short-term lease expiries. In addition, most of the Trust’s leases are net leases
where all operating costs of the properties are recovered from the tenants. Therefore, even if operating and tax costs do increase
due to inflationary pressure, such additional costs will be passed through to the tenants, with negligible impact being felt by the
Trust on its net earnings.

Rentals from properties sold or where a sale has been initiated during the years ended December 31, 2005 and December 31,

2004 have been recorded under net earnings (loss) from discontinued operations in Section II (2) (a) (ix) below.

(ii) Mortgage interest and other income
This revenue item comprises the following:

Mortgage interest and other income

before accounting change

Accounting change:
Accounting for variable interest entities

Mortgage interest and other income

Three months ended

Year ended

December 31,
2005

December 31,
2004

December 31,
2005

December 31,
2004

546

(348)

198

1,289

–

1,289

3,425

(1,508)

1,917

8,104

–

8,104

Mortgage interest and other income is earned mainly on funds provided in the Trust’s mezzanine financing program, which allows
H&R to access properties earlier on in the development cycle and to obtain better returns.

This income decreased 84.6% for the fourth quarter ended December 31, 2005 ($0.2 million) as compared to the fourth quarter
of 2004 ($1.3 million) due primarily to the decrease in the average mortgage receivable balance between the two quarters (see
“Mortgages Receivable – Section II (3) (a) (iii)” below) and the accounting changes required for variable interest entities (see
“Section IV (2) (a)”).

When comparing the year ended December 31, 2005 to the year ended December 31, 2004, mortgage interest and other income
decreased by $6.2 million to $1.9 million, a 76.3% decrease also due mainly to the decrease in the average mortgage receivable
balance between the two years. This reduction is due in large part to two transactions; (i) the decrease in the mezzanine loan that
was advanced on Phase II of the Bell Canada Complex in the first half of 2004, and was converted to an income property when
the Trust exercised its option on June 30, 2004 and (ii) the repayment of a $31.1 million mortgage receivable during July 2005
whereupon the option to purchase 50% of that particular development project was relinquished.

(iii) Property operating costs
Total property operating costs include costs relating to such items as cleaning, interior and exterior building repairs and
maintenance, elevator, HVAC, insurance (collectively, “building operating costs”); realty taxes; utilities and property management
fees among other items. These costs increased by 12.5% from $34.4 million to $38.7 million in the fourth quarter of 2005 as
compared with the same 2004 period. For the year ended December 31, 2005 compared to the same period in 2004, property
operating costs increased by $26.2 million or 20.7% to $153.3 million.

M a n a g e m e n t ’s D i s c u s s i o n a n d A n a l y s i s

For Q4 2005, building operating costs, realty taxes, utilities and property management fees represented 23.8%, 46.5%, 12.7%,
and 6.3% respectively of total property operating costs and for the year ended December 31, 2005, these costs represented 19.8%,
50.5%, 12.8% and 6.0% on the same basis. These percentages have not changed materially from Q4 2004 and the year ended
December 31, 2004.

Almost all the leases in the portfolio are triple net leases to the landlord whereby the tenants are responsible for all costs

incurred in the upkeep and operations of the properties.

Same-asset operating costs
Acquisitions

Three months ended

Year ended

December 31,
2005

December 31,
2004

December 31,
2005

December 31,
2004

31,407
7,291

38,698

30,144
4,267

34,411

124,653
28,603

153,256

120,526
6,486

127,012

On a same-asset basis, property operating costs increased by 4.2% between the corresponding Q4 periods ended December 31,
2005 and 2004, and increased 3.4% between the corresponding year ended December 31, 2005 and 2004. This change for both
periods is attributable to regular fluctuations in the normal course of business operations due primarily to the differing timing
and quantum of the amounts payable and the actual payments made.

The bulk of the increase, however, as shown above, results from the additional properties added to the Trust’s portfolio over

the past 24 months.

Same-asset operating income (representing rentals from income properties less property operating costs) appears to have
decreased marginally between Q4 2005 and Q4 2004 as well as between the years ended December 31, 2005 and 2004. However,
this calculation is affected by the US exchange rate as Canadian income reduces when the Canadian dollar improves against the
US dollar (as was the case between Q4 2005 and Q4 2004 and between the years ended December 31, 2005 and 2004), without
actually accounting for the benefit incurred with respect to the natural hedge provided by the US dollar mortgage interest
payments made. In absolute dollar terms or after accounting for mortgage interest payments, same-asset operating income has
marginally increased for Q4 2005 and for the year ended December 31, 2005 over the respective 2004 periods.

Property operating costs from properties sold or where a sale has been initiated during the fourth quarter and the year
ended December 31, 2005 have been recorded under net earnings (loss) from discontinued operations and are disclosed in
Section II (2) (a) (ix) below for both 2005 and 2004.

(iv) Mortgage and other interest
Mortgage and other interest increased 18.6% from $33.4 million for the quarter ended December 31, 2004 to $39.6 million for
Q4 2005. An increase of 22.8% from $121.6 million to $149.4 million for the years ended December 31, 2004 and 2005 respectively
also occurred. These increases are due to increased levels of debt required to finance acquisition activity in 2004 and 2005 (see
“Mortgages Payable – Section II (3) (b) (i)” below). The impact of the accounting changes required for variable interest entities
was not material (see “Section IV (2) (a)”), requiring a Q4 2005 decrease in this expense of $0.2 million (Q4 2004 – nil) and a
reduction in the year ended December 31, 2005 of $1.1 million (2004 – nil).

As at December 31, 2005 and 2004, H&R’s weighted average cost of mortgage debt was 6.6% and 6.9%, respectively.

(v) Depreciation of income properties
H&R depreciates its income properties on a straight-line basis over their remaining estimated life.

Depreciation increased 27.4% or $4.2 million from $15.5 million for the three months ended December 31, 2004 to
$19.7 million for the same period ended December 31, 2005. For the year ended December 31, 2005 compared to the same 2004
period, depreciation increased by $13.1 million to $69.9 million. All of the increase is due to the continued acquisition of properties
during 2004 and 2005. Depreciation expense will continue to increase as more properties are added to the Trust’s portfolio.

Depreciation
Depreciation included in discontinued operations

Net depreciation

Three months ended

Year ended

December 31,
2005

December 31,
2004

December 31,
2005

December 31,
2004

19,769
(20)

19,749

15,580
(78)

15,502

70,192
(285)

69,907

57,181
(398)

56,783

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

(vi) Amortization of deferred expenses and intangible costs
Amortization expense increased by 91.8% from $3.5 million for Q4 2004 to $6.8 million for Q4 2005 and by 154.3% from $8.9 million
for the year ended December 31, 2004 to $22.6 million for the year ended December 31, 2005. Amortization expense is comprised
of the following:

Amortization of deferred leasing expenses
Amortization of deferred financing expenses
Amortization of deferred maintenance costs
Amortization of intangible assets on

acquisitions of properties

Amortization included in discontinued operations

Three months ended

Year ended

December 31,
2005

December 31,
2004

December 31,
2005

December 31,
2004

1,282
420
506

4,594

6,802
–

6,802

1,057
322
329

1,848

3,556
(9)

3,547

4,185
1,510
1,750

15,181

22,626
(10)

22,616

3,658
1,029
914

3,409

9,010
(117)

8,893

Amortization of deferred leasing expenses have increased from $1.1 million in Q4 2004 to $1.3 million in Q4 2005, an increase of
21.3%. Amortization of these costs have increased from $3.7 million for the year ended December 31, 2004 to $4.2 million for the
year ended December 31, 2005, a 14.4% increase. The increase is due in large part to the increase in expenditure in this asset class
(see “Deferred Expenses – Section II (3) (a) (iv)” for further details).

Amortization of deferred financing expenses did not change materially between Q4 2004 and Q4 2005 nor between the year
ended December 31, 2004 and 2005. The increase is due to the increased levels of debt required to finance acquisition activity in
2004 and 2005 (see “Mortgages Payable – Section II (3) (b) (i)” below).

Amortization of deferred maintenance costs have increased from $0.3 million in Q4 2004 to $0.5 million in Q4 2005.
Amortization of deferred maintenance costs have increased from $0.9 million for the year ended December 31, 2004 to $1.8 million
for the year ended December 31, 2005. These increases are due to the increase in expenditures in this line item (see “Income
Properties – Section II (3) (a) (i)” for further details).

For acquisitions of properties after September 12, 2003, the acquisition cost is allocated to land, buildings and intangible costs.
These intangible costs include the value of above and below market leases, in-place leasing costs and costs attributable to tenant
relationship value. In-place leasing costs are those costs that would be incurred to lease up the property had it been vacant upon
acquisition, and include commissions, tenant allowances and inducements, etc. Amortization of these intangible costs has been
separately disclosed above from on-going operating activities to highlight the significant impact of the accounting policy change
between Q4 2004 and Q4 2005 as well as the respective years ended December 31, 2004 and 2005 (see “Critical Accounting
Estimates – Property Acquisitions, Section IV (1) (c)”). The accelerated amortization of these costs when compared to depreciation
that would have been recorded had this guideline not been implemented has resulted in a reduction of net earnings of approximately
$5.2 million in Q4 2005 (Q4 2004 – $1.8 million) and $12.3 million for the year ended December 31, 2005 (2004 – $3.4 million). The
continued acquisition of properties will result in an increase of this expense each quarter for the foreseeable future.

(vii) Trust expenses
Trust expenses (which principally include salary, professional fees and trustee fees) decreased by 46.9% from the $1.7 million for
the three months ended December 31, 2004 to $0.9 million for the same period ended December 31, 2005, but increased by 18.5%
from $5.8 million for the year ended December 31, 2004 to $6.9 million for the year ended December 31, 2005.

This decline in Q4 2005 is attributable to a reduction in overall professional fees and other costs incurred as well as a decrease in
salaries based on a revised bonus estimate for the 2005 year of which the entire amount was recorded in the fourth quarter of 2005.
The overall increase for the twelve month comparative periods was mainly as a result of an increase in professional fees. This
was due to additional services required due to accounting policy changes, corporate governance changes, the conversion of the
Trust to an open-ended Trust as well as the timing of certain recurring expenditures. Professional fees are expected to stabilize
over the next few quarters when non-recurring items diminish.

M a n a g e m e n t ’s D i s c u s s i o n a n d A n a l y s i s

For the three months ended December 31, 2005, salaries, professional fees and trustee fees represented approximately 13.6%, 43.9%
and 10.4%, respectively, of overall trust expenses after the revised bonus estimate for the 2005 year (Q4 2004 – 66.8%, 7.1%, 2.6%
respectively). For the year ended December 31, 2005, salaries, professional fees and trustees fees represented approximately 53.0%,
23.4% and 3.4% respectively of overall trust expenses (2004 – 67.2%, 9.8%, 3.1% respectively). Prior to the revised bonus estimate,
salaries, professional fees and trustee fees for Q4 2005 represented 58.6%, 21.0% and 5.0% respectively, of overall trust expenses and
for the year ended December 31, 2005, salaries, professional fees and trustee fees represented 59.0%, 20.4% and 2.9% respectively.

For Q4 2005 total trust expenses amounted to 0.7% of rentals from income properties (Q4 2004 – 1.6%). These expenses were
unchanged for the equivalent years ended December 31, 2005 and 2004 being 1.4% of rentals from income properties for both
years respectively.

(viii) Non-controlling interest
As a result of the November 2004 acquisition of substantially all of the 30% interest of the remaining properties in which the Trust
acquired an initial 70% as part of its 1996 Initial Public Offering (see “Section II (3) (c)”) net earnings attributable to the Class B
unitholders of a subsidiary partnership have been segregated and deducted from the net earnings of the Trust. As and when these
Class B units are exchanged into Trust units, the non-controlling interest and net earnings related thereto will reduce accordingly.
The non-controlling interest is separated between continuing operations and discontinued operations. The amount of non-
controlling interest deducted from income from continuing operations for Q4 2005 is $1.3 million (Q4 2004 – $1.1 million) and
$5.9 million for the year ended December 31, 2005 (December 31, 2004 – $1.1 million) (see “Net earnings (loss) from discontinued
operations” below for the non-controlling interest deducted from income from discontinued operations). The adjustment was
made for the entire year ended December 31, 2005, however, for comparable purposes, it is only applicable to the months of
November and December in 2004.

In calculating distributable income and distributable income per unit and funds from operations and funds from operations per
unit, the non-controlling share of net earnings is added back as the equivalent Trust units have been issued and are included in the
per unit calculations (see “Distributable Income – Section II (2) (b)” and “Funds from Operations – Section II (3) (e) (i)” below).

(ix) Net earnings (loss) from discontinued operations
When the Trust decides to dispose of an asset or initiates the sale of an asset, the property operating income, any gain or loss as a
result of the sale and the attributable portion of non-controlling interest for those properties are combined on the income statement
into net earnings (loss) from discontinued operations as per the chart below:

Property operating income
Gain (loss) on sale of income properties

and land under development

Non-controlling interest

Three months ended

Year ended

December 31,
2005

December 31,
2004

December 31,
2005

December 31,
2004

300

3,939
(277)

3,962

–
(3)

746

6,116
(467)

6,395

532

(1,076)
(3)

(547)

The Trust’s philosophy is to dispose of assets that no longer fit its investment strategy and then re-deploy the proceeds in more attractive
opportunities. In other cases, disposals may occur when a tenant has an option to purchase a property under the terms of their lease.
During Q3 2005, the Trust disposed of a 184,266 square foot single tenant industrial property and initiated the sale of 81,222 square

foot single tenant industrial building, both of which are located in the GTA.

In December 2005, the Trust disposed of a 123,529 square foot industrial building and had a tenant exercise its option to

purchase a 65,284 square foot industrial building, both of which are located in the GTA.

The Trust also relinquished its option to purchase a property located at Front and John Streets in Toronto, Ontario upon the

repayment in full of the mezzanine financing provided by the Trust.

During 2004, the Trust disposed of 2 properties in the first quarter; an office building in Los Angeles, CA and an industrial

building located in the GTA.

The effect of these transactions has resulted in net earnings from discontinued operations of $4.0 million in Q4 2005 (Q4 2004 –
$0.1 million). For the year ended December 31, 2005, net earnings from discontinued operations totalled $6.4 million, as compared
to a loss of $0.5 million for the year ended December 31, 2004.

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Property operating income of $0.3 million for Q4 2005 was recognized as compared to $0.1 million for Q4 2004. For the year ended
December 31, 2005, property operating income was $0.7 million, as compared to $0.5 million for the year ended December 31, 2004.
A gain on sale was recorded in Q4 2005 of $3.9 million (Q4 2004 – nil) resulting from these transactions and included $0.5 million
earned by the Trust for relinquishing its option to purchase the property located at Front and John Streets in Toronto. Offsetting
this amount is a write down of $0.5 million the Trust was required to record to ensure that the carrying value of the asset listed
for sale approximates the selling price. The gain on sale for the year ended December 31, 2005 was $6.1 million, as compared to
a loss on sale of $1.1 million for the year ended December 31, 2004.

As described in Section II 2 (a) (viii), the portion of net earnings attributable to non-controlling interest must be segregated
and deducted from net earnings from discontinued operations. The amounts of this deduction for Q4 2005 and the year ended
December 31, 2005 are $0.3 million and $0.5 million, respectively, as compared to $0 for the corresponding periods of 2004. The
adjustment was made for the entire year ended December 31, 2005, however, for comparable purposes, it is only applicable to
the months of November and December in 2004.

(b) Distributable Income
Management uses Distributable Income (“DI”) to reflect distributable cash which is defined in the Declaration of Trust and of
which at least 80% must be distributed to Unitholders. The Trust currently distributes not less than 80% of its distributable
income to Unitholders on a monthly basis. Readers are cautioned that DI is not a measure recognized under GAAP and does not
have a standardized meaning prescribed by GAAP. DI should not be construed as an alternative to net earnings determined in
accordance with GAAP as an indicator of the Trust’s performance. H&R’s method of calculating DI may differ from other issuer’s
methods and accordingly, DI may not be comparable to measures used by other issuers.

As a primary objective of the Trust is to provide Unitholders with stable growing cash distributions, management considers DI
to be an indicative measure in evaluating the Trust’s performance. Depreciation, accrued rent, gains on sales and other non cash items
are added to, or deducted from, net earnings to determine the amount of income available for distribution. The most substantial
adjustment to calculate DI is the adding back of depreciation to net earnings as it is management’s belief that properly maintained
and managed commercial real estate should not depreciate substantially over time and therefore no deduction is required.

In addition to the transaction described in Section II (2) (a) (viii) above, the Trust has also issued Trust units to mirror these
Class B Units which gave rise to the non-controlling interest adjustment in determining net earnings. As these units have legally
been issued and monthly distributions are made thereon as with all other units, DI will be adjusted by adding back these non-
controlling interest amounts and the weighted and diluted weighted average number of units outstanding will be amended
accordingly to reflect the actual number of units issued as outlined in the table below.

Weighted Average Units Outstanding:

Three months ended

Year ended

December 31,
2005

December 31,
2004

December 31,
2005

December 31,
2004

Weighted average units outstanding
Non-controlling interest conversion to units

Weighted average units with assumed conversions
Effect of dilutive securities:

Unit option plan

Adjusted weighted average units with

assumed conversions

100,891
6,975

107,866

655

88,805
4,549

93,354

725

95,429
6,975

102,404

651

108,521

94,079

103,055

88,445
1,146

89,591

607

90,198

M a n a g e m e n t ’s D i s c u s s i o n a n d A n a l y s i s

Calculation of Distributable Income:

Net earnings

Add (deduct)

Depreciation of income properties
Depreciation of income properties

included within discontinued operations

Net variable interest entity adjustment
Straight-lining of rents
Straight lining of rents included within

discontinued operations

Expense re stock based compensation
Amortization of intangible costs on

acquisition of properties

Amortization of intangible costs on acquisition
of properties included within discontinued
operations

Amortization of above and below market rent
Amortization of above and below rent included

within discontinued operations
Amortization of mortgage premium
Amortization of mortgage premium included

within discontinued operations

Net income attributable to non-controlling interest
Loss (gain) on sale of income properties and

land under development

Option fee earned (included in gain on

sale of income properties)

Distributable income

Distributions to unitholders
Distributions to non-controlling interest

Total distributions paid

Total distributions paid as a % of DI

Weighted average number of units
Diluted weighted average number of units
Basic (adjusted for conversion of

non-controlling interest) DI per unit

Diluted DI per unit
Distributions paid per unit

Three months ended

Year ended

December 31,
2005

December 31,
2004

December 31,
2005

December 31,
2004

23,482

21,018

86,653

88,781

19,749

20
121
(7,270)

(17)
–

4,594

–
1,128

–
(485)

–
1,624

(3,939)

500

16,025

39,507

33,415
2,274

35,689

90.3%

107,866
108,521

0.366
0.364
0.326

$
$
$

15,502

78
–
(6,271)

(12)
100

1,848

–
320

–
(229)

–
1,076

–

12,412

33,430

28,695
1,447

30,142

90.2%

93,354
94,079

0.358
0.355
0.311

$
$
$

69,907

285
449
(25,744)

54
175

15,241

(60)
4,068

(27)
(1,719)

(52)
6,333

(6,116)

500

63,294

149,947

126,108
9,097

135,205

90.2%

102,404
103,055

1.464
1.455
1.304

$
$
$

56,783

398
–
(22,352)

(54)
398

3,409

–
64

–
(229)

–
1,076

1,076

–

40,569

129,350

111,251
1,447

112,698

87.1%

89,591
90,198

1.444
1.434
1.244

Effective January 1, 2005, distributions were increased from 10.37 cents per month to 10.87 cents per month representing
annualized distributions per unit of $1.3044 for the year ending December 31, 2005, compared to the $1.2444 per unit actual 2004
annualized distributions. Distributions made for the respective three months ended December 31, 2005 and 2004 amounted to
$35.7 million and $30.1 million and for the respective years ended December 31, 2005 and 2004 amounted to $135.2 million and
$112.7 million.

Diluted DI per unit has increased in Q4 2005 as compared to Q4 2004 by approximately $0.008 per unit due primarily to the
asset acquisitions occurring during 2005 offset partially by the dilutive impact of the October 2005 equity offering ($0.005) described
in detail in Section II (3) (d) (i) below.

DI was also affected by a number of other items in Q4 2005 including the previously mentioned reduction in rental income
due to free rental periods granted in Q4 2005 (see “Section II (2) (a) (i)”), the $0.5 million earned for relinquishing an option to
purchase a development property, as well as fluctuations in trust expenses (see “Section II (2) (a) (vii)”).

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Diluted DI per unit increased for the year ended December 31, 2005 as compared to the year ended December 31, 2004 by $0.02
also primarily due to the asset acquisitions occurring during 2005 offset partially by the dilutive impact of the March 2005 and
October 2005 equity offerings described in “Section II (3) (d) (i)” below. Total dilution from these two offerings approximated
$0.02 per unit in 2005 when the Trust was unable to deploy proceeds from these two equity offerings as quickly as it had done in
the past, due in part to the competitive conditions existing in the acquisition side of the market during the year.

The percentage of distributions to DI outlined above increased quarter over quarter and for the respective years ended
December 31, 2005 and 2004 mainly due to the dilutive impact of the March and October 2005 equity offerings described above.
The tax deferred portion of distributions is 64% for the 2005 fiscal year as compared to 65% for the year ended December 31,
2004. This deferral will vary in any given year due to factors such as the size and timing of unit offerings, the amount and timing
of acquisition of properties, the provision of mezzanine financing for development projects and capital gains or losses incurred
in any one year.

(c) Segmented Information
H&R invests in three asset classes, being office, industrial and retail properties in both Canada and the United States.

The Trust is not required to report in its financial statements on the performance of each class of asset separately due to
management’s assessment that all assets effectively adhere to the same investment policy of being leased on a long-term basis to
creditworthy tenants and financed where possible on a matching long-term basis and the fact that the Trust manages all assets
on a similar basis.

However, for further clarification, a breakdown of operating income by class of asset before interest, depreciation and

amortization is set out below.

Operating Income by Asset Class (before interest, depreciation and amortization)

Office
Industrial
Retail

Three months ended

Year ended

December 31,
2005

December 31,
2004

December 31,
2005

December 31,
2004

51.3%
28.6%
20.1%

100.0%

54.3%
28.7%
17.0%

100.0%

51.6%
28.6%
19.8%

100.0%

54.5%
29.2%
16.3%

100.0%

However, segmented disclosure is provided in the financial statements by operating income on a geographic basis as the property
operations in the United States are considered to be a geographic segment. This segmented information on property operating
income from income properties is outlined below:

Property operating income for the three months ended December 31, 2005

Operating revenue
Property operating costs
Mortgage and other interest
Depreciation of income properties
Amortization of deferred expenses and intangible costs

Property operating income

Property operating income for the three months ended December 31, 2004

Operating revenue
Property operating costs
Mortgage and other interest
Depreciation of income properties
Amortization of deferred expenses and intangible costs

Canada

United States

106,902
(37,653)
(28,792)
(13,790)
(5,169)

19,694
(1,045)
(10,770)
(5,959)
(1,633)

Total

126,596
(38,698)
(39,562)
(19,749)
(6,802)

21,498

287

21,785

Canada

United States

98,551
(33,753)
(26,922)
(12,378)
(2,982)

12,014
(658)
(6,429)
(3,124)
(565)

Total

110,565
(34,411)
(33,351)
(15,502)
(3,547)

Property operating income

22,516

1,238

23,754

M a n a g e m e n t ’s D i s c u s s i o n a n d A n a l y s i s

Property operating income for the year ended December 31, 2005

Operating revenue
Property operating costs
Mortgage and other interest
Depreciation of income properties
Amortization of deferred expenses and intangible costs

Property operating income

Property operating income for the year ended December 31, 2004

Operating revenue
Property operating costs
Mortgage and other interest
Depreciation of income properties
Amortization of deferred expenses and intangible costs

Property operating income

Canada

United States

420,903
(149,766)
(112,532)
(52,136)
(17,932)

67,266
(3,490)
(36,868)
(17,771)
(4,684)

Total

488,169
(153,256)
(149,400)
(69,907)
(22,616)

88,537

4,453

92,990

Canada

United States

364,094
(124,750)
(97,460)
(44,663)
(7,208)

46,428
(2,262)
(24,177)
(12,120)
(1,685)

Total

410,522
(127,012)
(121,637)
(56,783)
(8,893)

90,013

6,184

96,197

Operating revenue from income properties in the United States has increased significantly by $7.7 million or 63.9% for the quarter
ended December 31, 2005 compared to the same period in 2004 and by $20.8 million or 44.9% for the year ended December 31,
2005 compared to the same 2004 period. This is due to numerous acquisitions that occurred in the United States over the past
24 months. This is further illustrated by the fact that the total value of U.S. assets in the portfolio increased by $340.1 million or
50.1% between the end of Q4 2004 and Q4 2005.

(d) Use of Proceeds from Financing

Financing

Disclosed Use of Proceeds

Actual Use of Proceeds

Public offering of
$100.3 million of
units completed on
March 16, 2005

Public offering of
$150.0 million of units
completed on
October 31, 2005

To fund the acquisition of additional
properties, reduce H&R’s indebtedness
(where applicable), provide mezzanine
financing and for general trust purposes.
Proceeds intended to fund the acquisition
of additional properties or provide
mezzanine financing and not initially
used for such purposes were to be used
to reduce the Trust’s bank indebtedness.

To fund the acquisition of additional
properties. Proceeds intended to fund the
acquisition of additional properties and
not initially used for such purposes were
to be used to reduce the Trust’s bank
indebtedness.

These entire proceeds were used to pay down
the Trust’s bank indebtedness on March 16, 2005
which included an acquisition line primarily
used to fund previously announced acquisitions.
The equity component of acquisitions from that
date forward was obtained from the bank
acquisition line as required until the Trust’s
overall percentage indebtedness was raised to
a level which warranted a new public offering that
closed on October 31, 2005, as described below.

These entire proceeds were used on October 31,
2005 to pay down the Trust’s bank indebtedness
(as described above) leaving net excess cash
available of approximately $22.8 million.

On November 1, 2005, approximately
$59.0 million US dollars ($69.0 Cdn) of excess
cash and bank indebtedness was utilized (in
addition to assumption of debt) to purchase
the three property industrial portfolio in the
United States as described in Section II (3) (a) (i).
The equity component of acquisitions after
November 1, 2005 will be obtained from the bank
acquisition line until the Trust’s overall percentage
indebtedness is raised to a level which warrants a
new public offering.

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

3. Financial Condition

(a) Assets

(i) Income properties
Acquisitions of income properties during the year ended December 31, 2005 were in accordance with the Trust’s investment
strategy of acquiring quality assets occupied by long term creditworthy tenants. Funds for these acquisitions were obtained
primarily from the proceeds of a $100.3 million trust unit issue completed on March 16, 2005, proceeds of a $150.0 million trust
unit issue completed on October 31, 2005, as well as from the Trust’s bank acquisition line and mortgages secured or assumed at
closing or shortly thereafter.

During the first quarter of 2005, the Trust acquired two properties in Canada and one in the United States as follows:
In January 2005, the Trust purchased a 115,000 square foot retail property in Georgia for a cost of $20.4 million. A non-recourse

mortgage of $15.8 million was secured on the property on closing.

In January 2005, the Trust exercised an option to acquire a 716,000 square foot state-of-the-art distribution centre in Pickering,
Ontario for which it previously provided mezzanine financing for a total cost of approximately $60 million. A 10 year $52 million
mortgage was secured on the property shortly after closing.

The Trust also completed the acquisition for $7.2 million of an 81,000 square foot industrial property in Markham, Ontario

on a 10 year sale-and-leaseback basis, and a mortgage of $3.6 million was assumed on closing.

During the second quarter of 2005, the Trust acquired 18 single tenant retail properties in the United States.
During April 2005, the Trust purchased in two separate transactions, an additional ten Shell Oil Company
retail/gas/convenience car wash facilities located throughout the United States for $84.3 million, bringing the total number of
similar properties in the portfolio to 17. These new additions had 18.3 years remaining on their lease terms at the time of
acquisition. Mortgages totalling $73.7 million maturing simultaneously with the leases were assumed on closing.

In June 2005, the Trust acquired a 109,800 square foot single tenant retail property in Detroit, Michigan leased on a long-term
basis for $19.1 million. A mortgage of $14.2 million was placed on this property in July 2005. In addition, on June 30, 2005, the
Trust acquired a portfolio of seven retail grocery stores in the southern United States comprising approximately 316,000 square
feet for a cost of $59.4 million. Mortgages totalling $41.2 million were secured on closing.

During the third quarter of 2005, the Trust purchased six properties in Canada and disposed of one property as well as acquiring

two properties in the United States.

During July 2005, the Trust purchased one property in the United States and two in Canada, as well as disposed of one property
in Canada. A 108,510 square foot single tenant retail store located in Akron, Ohio was purchased for $15.6 million. A ten year
mortgage financing in the amount of $11.7 million and bearing interest at 5.54% was secured for this property during September
2005. Two office properties totalling 124,680 square feet and located in Sydney, Nova Scotia were purchased for $24.8 million with
mortgages totalling $12.7 million being assumed on closing. The federal and provincial governments occupy 78% of the leasable
area of those two properties. The disposition of one industrial building totalling 184,266 square feet, located in the GTA, was
completed in July 2005 resulting in a gain of $2.2 million.

During August 2005, the Trust purchased three properties in Canada. Firstly, two single tenant retail properties comprising
209,731 square feet and located in Winnipeg, Manitoba were purchased for $32.7 million with mortgages of $13.2 million being
assumed on closing. Secondly, the Trust acquired a 314,033 square foot retail and entertainment complex in Richmond, British
Columbia for approximately $83.0 million. A 10-year $62.1 million mortgage bearing interest at 5.06% was secured on completion
of the transaction. The tenants at this property include the City of Richmond and Famous Players.

During September 2005, the Trust purchased one retail asset in Canada and one in the United States. The Canadian asset is a
25,296 square foot property located in Eganville, Ontario purchased for a price of $3.6 million. The Trust also acquired a 119,598
square foot single tenant retail store located in Cape Coral, Florida for $20.7 million. A 10-year $16.6 million mortgage bearing
interest at 5.35% was secured on the closing of this property.

During the fourth quarter of 2005, the Trust acquired one property and disposed of two properties in Canada, as well as

acquiring four properties in the United States.

During October 2005, the Trust completed the purchase of the Etobicoke industrial project previously shown on the financial
statements as a mortgage receivable for a total purchase price of $11.5 million. A ten year $8.6 million mortgage was secured on
this project.

During November 2005, the Trust purchased three industrial distribution centres, in the United States. The properties,
comprising 2,168,000 square feet of leasable area in the aggregate and located near Chicago, Illinois, Dallas, Texas and Atlanta,
Georgia were purchased for a total consideration of approximately $169.0 million. Mortgages totalling approximately
$100.0 million were assumed on closing. The properties have a weighted average lease term to maturity of 12.0 years and are leased
to an international investment grade rated tenant.

In December 2005, the Trust purchased a 47,311 square foot retail store in Mount Washington, Kentucky, for a total cash

consideration of approximately $5.7 million.

M a n a g e m e n t ’s D i s c u s s i o n a n d A n a l y s i s

Also in December, the Trust disposed of two industrial properties located in the GTA. A 123,529 square foot industrial property
located in Vaughan, Ontario was sold for total proceeds of $10.0 million while a 65,284 square foot industrial property located in
Mississauga, Ontario was disposed of for total proceeds of $3.8 million when the tenant exercised its option to purchase the
property. As a consequence of these sales, one mortgage of $3.2 million was repaid in full while a second mortgage of $2.1 million
was assumed by the purchaser.

After accounting for these transactions and for depreciation expensed, income properties increased by 15.7% to $3.637 billion
at December 31, 2005 (including income properties held for sale) from $3.145 billion at December 31, 2004. The allocation of costs
to income properties was done in accordance with the requirements of Canadian Institute of Chartered Accountants (“CICA”)
EIC 140 (see “Section IV (1) (c)”) and all additional categories are included in the total comparison above. The dollar figures shown
above for US acquisitions are in Canadian dollars and are based on the currency exchange rates at the time of such acquisitions.
Capital expenditure and non-recoverable maintenance required on the Trust’s portfolio has been relatively immaterial in the
past. However, the Trust is committed to continuously maintain and improve the quality of the assets in its portfolio through the
implementation of its capital improvements program. The objective of this program is to regularly assess all properties to determine
what improvements may be required to upgrade the quality or class of the asset and to enhance efficiencies in the operations of
the property to improve cost control or obtain future cost savings. Currently, the majority of the program is aimed at the Trust’s
multi-tenant office portfolio which has experienced relative weakness over the last two years in terms of leasing demand and rental
rates. In order to properly position these properties in their markets and provide them with a competitive leasing edge, the Trust
has accelerated this aspect of the program to be largely completed by the end of 2007 to be able to capitalize on the expected office
market recovery.

The amount of deferred capital expenditures undertaken during 2005 was $12.6 million. Total expenditure in 2004 amounted
to $8.6 million. Currently, the budget for 2006 is $11.9 million, for 2007 is $9.7 million and thereafter this expenditure is expected
to reduce to lower regular levels consistent with 2003 and prior years.

The portion of the above expenditure comprising deferred maintenance costs, which are major items of repair or replacement,
are amortized on a straight-line basis over the period of recovery or, if not recoverable, over the expected useful life of such major
repairs or replacement. If such cost is not recoverable in the current year from tenants, the unamortized balance is included in
deferred charges. Those costs which relate to the redevelopment of and upgrading of the quality and class of the asset have been
capitalized to income properties.

Of the above costs, $7.2 million have been allocated to income producing properties for the year ended December 31, 2005
(2004 – $2.8 million) while $5.4 million (2004 – $5.8 million) has been included in deferred expenses against which future applicable
recoveries from tenants will be applied.

Notwithstanding the above, the portfolio remains relatively new and should require minimal capital expenditure in the future.
The average age of the total portfolio is 12.1 years at December 31, 2005 (December 31, 2004 – 11.9 years) and the split between
asset class by age of property is as follows:

(years)

Office
Industrial
Retail

Total

December 31,
2005

December 31,
2004

15.0
12.6
7.4

12.1

14.1
12.7
6.3

11.9

(ii) Segmented information – income properties (including income properties held for sale)
The make up of the book value of income properties (including income properties held for sale) expressed by asset class and by
region is as follows:

Book value by Asset Class

(millions)

Office
Industrial
Retail

December 31,
2005

December 31,
2004

1,473
1,111
1,053

3,637

1,480
911
754

3,145

Book value by Region

(millions)

Ontario
Alberta
Other
Quebec

Sub Total
United States

Total

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

December 31,
2005

December 31,
2004

1,623
521
241
234

2,619
1,018

3,637

1,591
532
104
240

2,467
678

3,145

(iii) Mortgages receivable
The Trust provides mezzanine financing for development projects that are consistent with the Trust’s objectives and philosophy.
These projects are secured through mortgage financing provided by the Trust, which receives an option to acquire an equity
interest in the project. Construction financing is only provided after 70% of the project has been pre-leased. Participation in
development projects enables the Trust to acquire high quality, new properties at higher yields than would otherwise be available.
At December 31, 2005, there was one project for which the Trust had provided mezzanine financing compared to four projects
at December 31, 2004. In addition, in Q4 2005, the Trust provided regular mortgage financing on two properties totalling
$24.0 million with a weighted average interest rate of 5.2%, with no option to purchase the properties. All the financing was
provided for assets in Canada.

The Trust provided a $16.0 million mortgage maturing in 2009 on the Front and John, Toronto project to the purchaser of
the land once the Trust had relinquished its option to purchase the development. Further, the Trust provided a vendor take back
mortgage in the amount of $8.0 million to the purchaser of an industrial property sold by the Trust in December 2005 which
matures in May 2006. This mortgage was repaid during February 2006.

Mortgages receivable (as analyzed before accounting policy change described below) reduced significantly from $54.8 million
at December 31, 2004 to $26.6 million at December 31, 2005, a 51.4% decline. The majority of the decrease occurred when the
Trust relinquished an option to acquire a 50% interest in a retail development upon repayment of a mortgage receivable of
$31.1 million during July 2005.

Details of mortgages receivable are as follows:

Front and John, Toronto
Langstaff Industrial project
Bell Canada Complex
(Phase III), Mississauga
Vaughan – Wal-Mart
Pickering Industrial

Option %

0%
0%

100%
0%
0%

Type

N/A
N/A

Office
N/A
Industrial

(1) Less: reallocated in accordance with variable interest

entity accounting policy changes

(iv) Deferred expenses
Deferred expenses are comprised of the following components:

Deferred leasing
Deferred financing
Deferred maintenance

December 31,
2005

December 31,
2004

15,985
8,000

2,648(1)
–
–

26,633

2,648

23,985

12,981
–

2,790
31,102
7,895

54,768

–

54,768

December 31,
2005

December 31,
2004

43,387
15,801
11,164

70,352

23,580
13,969
7,570

45,119

M a n a g e m e n t ’s D i s c u s s i o n a n d A n a l y s i s

Deferred leasing expenses relate to those expenditures incurred to lease up new premises or re-lease premises once they become
vacant through lease expiries or upon lease renewals and include costs such as legal fees, brokers’ commissions, tenant inducements
and allowances. These costs are deferred and amortized over the term of the specific lease to which they relate. These expenses
increased by a net $19.8 million (after amortization) or 84.0% between December 31, 2004 and December 31, 2005 mainly as a
result of numerous lease renewals and lease extensions that occurred during the year as follows:

During Q1 2005, the net increase was a minimal $0.8 million.
During Q2 2005, these deferred expenses increased by a net $9.3 million for numerous specific lease renewals and extensions including:

• an extension of two Bell Canada leases comprising 911,000 square feet for five years
• an extension of two Bell Mobility leases comprising 775,000 square feet for approximately 1.5 years
• a renewal of the AIG lease at 145 Wellington Street West in Toronto comprising 102,000 square feet for 10 years
• a renewal of a lease comprising 39,600 square feet for 10 years at 320 Front Street West in Toronto

Further expenditure of a net amount of $5.9 million was incurred during Q3 2005 and related to additional renewals and

extensions mainly across the office portfolio including such properties as:

• 320 Front Street West, Toronto
• 145 Wellington Street West, Toronto
• 88 McNabb Street, Markham
• 160 Elgin Street, Ottawa
• 7500 Lundy’s Lane, Niagara Falls
• 25 Sheppard Avenue West, Toronto

Additional net expenditures of $3.7 million was incurred in Q4 2005 including approximately $1.5 million at each of the Telus
Tower in Calgary and 145 Wellington Street West in Toronto, whereby the final payment to AIG was accrued for in Q4 2005.
Other properties experiencing lease renewals and extensions requiring tenant inducements in Q4 2005 included:

• 2800 Skymark Avenue, Toronto
• 401/405 The West Mall, Etobicoke
• 160 Elgin Street, Ottawa
• 1235 Bay Street, Toronto

Management believes 2005 was highly unusual in the amount required to be expensed in this asset category as these costs can
vary greatly from quarter to quarter and from year to year depending on the timing of lease expiries, lease renewals and other
factors. Payments are expected to reduce significantly in 2006 and beyond to more normalized levels consistent with prior years
and is expected to be between $5.0 million and $6.0 million per annum.

Deferred financing expenses represent expenditures incurred in securing financing on a property including legal fees, brokers’
commissions and loan commitment fees. These costs are deferred and amortized over the term of the specific mortgage to which
they relate. The increase between December 31, 2004 and December 31, 2005 for this category reflects the normal increase in
activity resulting from additional properties added to the portfolio offset by the ongoing amortization of this asset.

Deferred maintenance expenses represent those costs incurred under the Trust’s capital improvement program (see “Income

Properties – Section II (3) (a) (i)”) which are to be deferred and amortized over the expected recovery period from tenants.

(v) Land under development
CICA Accounting Guideline AcG-15 (as defined in “Section IV (2) (a)” below) issued June 2003 provides guidelines for applying
consolidation principles to certain entities that are subject to control on a basis other than ownership of voting interests. This
guideline became effective for all accounting projects commencing on or after November 1, 2004.

The impact at December 31, 2005 has been to reallocate one transaction previously disclosed as a mortgage receivable to a new

asset category entitled land under development.

This change resulted in a reduction to unitholders’ equity of $1.2 million effective January 1, 2005. For the year ended
December 31, 2005 interest income of $1.5 million (2004 – $0) earned on loans made by the Trust in the course of these transactions
has been reversed out of mortgage interest and other income while mortgage and other interest expense has been reduced in 2005
by $1.1 million (2004 – $0) and capitalized to the cost of the development in accordance with the guideline. During the fourth
quarter, the repayment of the mezzanine financing on the Front John project in Toronto required a reversal of $1.1 million of
the total adjustment described above. The overall effect was a net reduction of unitholders’ equity of $0.5 million for the year ended
December 31, 2005 due to the implementation of this new policy.

(vi) Other assets
Certain leases call for rental payments that increase over their term. Accrued rent receivable records the rental revenue from these
leases on a straight-line basis, resulting in accruals for rents that are not billable or due until future years. Accrued rent receivable
has increased by 73.3% or $25.6 million from $34.9 million at December 31, 2004 to $60.5 million at December 31, 2005 with a
corresponding adjustment to rental revenue from income properties.

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Prepaid expenses and sundry assets increased from $9.6 million at December 31, 2004 to $18.1 million at December 31, 2005,
an increase of 88.5%. The $8.5 million increase is primarily a result of purchase deposits on three transactions in the US and one
transaction in Canada totalling approximately $11.2 million that existed at December 31, 2005.

Accounts receivable were virtually unchanged between December 31, 2004 and December 31, 2005. The slight decrease is due
to fluctuations arising during the normal course of business operations offset by the fact that the property portfolio continues to
increase in size each quarter.

Cash and cash equivalents increased to $9.3 million at December 31, 2005 from $6.6 million at December 31, 2004. Included
in the balance at December 31, 2005 is $4.3 million related to funds being held in escrow until the expiry of certain non-recourse
public mortgage bonds and other non-recourse US mortgages. Of the $9.3 million approximately $2.1 million represents rents
paid in advance which fluctuates monthly depending on the timing of receipt of such rental payments.

(b) Liabilities
H&R’s Declaration of Trust limits the indebtedness of the Trust to a maximum of 65% of the gross book value (“GBV”) of the
Trust. Within this limitation, debt that is recourse to the Trust cannot exceed 60% of the GBV of those assets to which the recourse
debt pertains. The Trust’s allocation of debt, including bank indebtedness, is as follows:

Total debt to GBV
Recourse debt to GBV of subject assets
Non-recourse debt to GBV of subject assets
Non-recourse debt as a percentage of total debt
Floating rate debt as a percentage of total debt

December 31,
2005

December 31,
2004

61.1%
50.1%
74.0%
55.8%
2.7%

62.6%
53.0%
74.3%
53.7%
4.2%

There were no material changes in the allocation of debt as outlined above. The increase of the percentage of non-recourse debt
in the Trust’s portfolio is a deliberate strategy adopted by the Trust to reduce risk within the property portfolio.

(i) Mortgages payable
Mortgages payable (including mortgages payable on income properties held for sale) increased 16.7% from the December 31, 2004
figure of $2.053 billion to $2.397 billion at December 31, 2005. This increase is mainly a result of numerous transactions described
in detail in “Income Properties – Section II (3) (a) (i)” above as well as a number of additional transactions relating only to
mortgages payable not previously mentioned totalling a net $19.2 million. The dollar figures shown for US transactions are based
on the currency exchange rates at the time of such transactions.

All mortgages were financed at market rates existing at the time the mortgages were obtained. Certain mortgages have been
assumed on property acquisitions where the rates were above market rates prevailing at the time of the acquisition. After determining
the fair value of these mortgages a mark-to-market premium was recorded on the financial statements to increase income properties
and mortgages payable. The premium recorded during the year ended December 31, 2005 was $1.7 million (2004 – $14.3 million).
These transactions, offset by the regular monthly self amortizing principal payments made in the normal course of business

operations accounted for the $343.7 million net increase in the mortgages payable balance from December 31, 2004.

The mortgages bear interest at the weighted average rate of 6.6% (December 31, 2004 – 6.9%) and mature between 2006 and
2035. To reduce risk, management’s strategy is to, wherever possible, closely match the weighted average term to maturity of the
mortgages of 11.1 years (December 31, 2004 – 12.0 years) to the remaining average lease term of 12.3 years (December 31, 2004 –
12.5 years). Going forward, the Trust anticipates being able to refinance all its debt as it matures.

Future principal repayments (including mortgages payable on income properties held for sale) and the balances due on maturity

exclusive of the normal periodic self-amortizing principal repayments are as follows:

Years

2006
2007
2008
2009
2010
Thereafter

Mortgage premiums

Total

Periodic
Amortized
Principal
($000’s)

Principal
on Maturity
($000’s)

70,875
74,599
77,321
80,690
86,524

21,623
43,885
71,099
32,128
9,803

Weighted
Average
Interest Rate
on Maturity

6.98%
8.10%
8.98%
7.07%
6.45%

% of Total
Principal

3.9%
5.0%
6.2%
4.7%
4.0%
76.2%

Total
Principal
($000’s)

92,498
118,484
148,420
112,818
96,327
1,814,868

$ 2,383,415
13,479

$ 2,396,894

M a n a g e m e n t ’s D i s c u s s i o n a n d A n a l y s i s

Segmented disclosure by asset class is not considered relevant by management.

Segmented disclosure (including mortgages payable on income properties held for sale) by geographic location is provided as follows:

Canada
United States

Total

December 31,
2005

December 31,
2004

1,640,948
755,946

2,396,894

1,539,300
513,868

2,053,168

(ii) Bank indebtedness
H&R’s bank facilities include a one year revolving line of credit limited to $180 million which is secured by a first charge over
certain income properties, is due on demand and can be drawn in either Canadian or US dollars (to a maximum of $100 million
Canadian for US borrowings).

Bank indebtedness decreased by $22.4 million from $89.5 million at December 31, 2004 to $67.1 million at December 31, 2005.
The change is primarily as a result of equity required for acquisitions made during the year ended December 31, 2005 offset by
proceeds from the two public offerings completed in March and October 2005 being applied to the bank indebtedness at that time
(see “Section II (3) (d) (i)” below for further details).

The Canadian dollar portion of the debt bears interest at rates approximating the prime rate of a Canadian Chartered bank,
while the US portion of the debt (Canadian equivalent of $30.6 million at December 31, 2005 compared to $39.8 million at
December 31, 2004) bears interest at LIBOR rates. These funds, when drawn, are primarily used for asset purchases and the
provision of additional mezzanine financing for development projects.

(iii) Accounts payable and accrued liabilities
Accounts payable decreased by $6.5 million from $61.6 million at December 31, 2004 to $55.1 million at December 31, 2005. The
decrease is primarily due to the reduction in certain accruals remaining outstanding on a prior years purchase offset by an increase
in the accruals for mortgage interest (which will change proportionately each quarter with the changes in the mortgages payable
balance occurring each quarter) as well as an increase in other payables and accruals relating to transactions occurring in the normal
course of business operations, which should also increase as the Trust acquires more assets each quarter.

(c) Non-Controlling Interest
During November 2004, as part of the acquisition of substantially all of the 30% interest of the remaining properties in which the
Trust acquired an initial 70% as part of its 1996 initial public offering the Trust issued 6,974,555 trust units to its subsidiary
H&R Portfolio Limited Partnership (“HRLP”), set up to complete this transaction. The participating vendors exchanged their
interest in these properties for 5,696,610 Class B units of HRLP as well as subscribing for an additional 1,277,945 Class B units of
HRLP at the same time. These units are exchangeable on a one for one basis for Trust units. As clarified by EIC-151 which was
issued in final form in January 2005, since these Class B units can be transferred without requirement to be exchanged first for
Trust units, the aggregate outstanding amount at any point in time of the exchangeable Class B units of HRLP shall be recorded
as a non-controlling interest on the Trust’s financial statements until such time as these Class B units have been exchanged for
Trust units. As Class B units are exchanged over time into Trust units, the equivalent dollar value of the conversion will be
transferred to unitholders’ equity and the non-controlling interest will accordingly be reduced. As at December 31, 2005, no
exchange into Trust units had occurred.

(d) Equity

(i) Unitholders’ equity
On March 16, 2005, the Trust completed a public offering for gross proceeds of $100.3 million of Trust units. On October 31, 2005,
the Trust completed a second public offering of Trust units in the year for gross proceeds of $150.0 million. Unitholders’ equity
increased by $214.0 million between December 31, 2004 and December 31, 2005 primarily as a result of the receipt of
$240.3 million from these offerings after deducting the underwriters’ fee, proceeds from the Trust’s distribution reinvestment plan
and direct unit purchase plan and the exercise of options by officers and trustees of the Trust during the period. These proceeds
were offset by the excess of distributions paid over net earnings for the period, which arose mainly as a result of the effect of the
accounting change for depreciation of income properties and amortization of intangible assets which was implemented effective
January 1, 2004. There was an opening adjustment of $1.2 million for variable interest entities to prior years as a result of the
adoption of the change in accounting policy previously described. Of this amount, $1.1 million was reversed due to the repayment
of mezzanine financing in December 2005 on the Front and John project.

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

(ii) Cumulative foreign exchange adjustment
As a result of the strengthening of the Canadian dollar against the US dollar during the year ended December 31, 2004, an
unrealized loss of $22.1 million was recorded on the financial statements at December 31, 2004. As at December 31, 2005, the
Canadian dollar strengthened further in relation to the US dollar when compared to the December 31, 2004 exchange rate hence
the unrealized loss increased to $29.7 million.

This cumulative adjustment reflects the net adjustment to the equity invested in US properties, with the Trust’s debt being
held in US dollars currently acting as a natural hedge against its total investment in US dollars. This amount fluctuates
continuously depending on the US exchange rate at the end of the applicable accounting period, but is not a concern to
management at this time as all the US assets are long-term in nature and no short-term realization of loss is anticipated. This
amount is taken to income only when the net investment in the self-sustaining foreign operations is reduced.

In addition, as part of the Trust’s strategy of providing stable distributable income to its Unitholders, H&R has implemented
a hedging strategy on its US income to minimize exposure to currency fluctuations, whereby the Trust has purchased forward
contracts with a Canadian chartered bank to exchange US dollar cash flows received into Canadian dollars at a set future price
to protect the Trust against a material change in the Canadian/US exchange rate. These contracts normally run for period of a
year and their maturities are staggered where possible to allow the Trust flexibility in its hedging program.

(e) Liquidity and Capital Resources
(i) Funds from operations
Funds from operations (“FFO”) is not a measure recognized under GAAP and does not have a standardized meaning prescribed
by GAAP. FFO should not be construed as an alternative to net earnings determined in accordance with GAAP as an indicator
of the Trust’s performance. However, FFO is an operating performance measure which is widely used by the real estate industry
(and in particular, by a number of other Canadian real estate investment trusts) and the Trust has calculated FFO in accordance
with the recommendations of the Real Property Association of Canada. Nevertheless, H&R’s method of calculating FFO may differ
from other issuers’ methods and accordingly may not be comparable to similar measures presented by other issuers.

Management does consider FFO to be a valuable indication of the Trust’s liquidity and ability to generate capital resources
due to (i) management’s belief that if properly maintained, real estate generally does not depreciate predictably over time, and
(ii) management’s use of FFO as a measure of capital resources available to the Trust (see “Section II (3) (e) (ii)” below).
See “Distributable Income – Section II (2) (b)” for a determination of the weighted average and diluted weighted average number
of units outstanding at the period end to determine FFO per unit on a basic and diluted basis.

FFO is calculated as follows:

Net earnings
Add (deduct)

Depreciation of income properties
Amortization of deferred leasing expenses
Amortization of intangible assets on

acquisitions of properties

(Gain) loss on sale of income properties and

land under development

Option fee earned (included in gain of sale

of income properties)

Operating income from discontinued operations
Net earnings attributable to non-controlling interest

Funds from operations – continuing operations
Funds from operations – discontinued operations

Funds from operations

Funds from operations per unit

(basic – adjusted for conversion of
non-controlling interest)

Funds from operations per unit (diluted)

Three months ended

Year ended

December 31,
2005

December 31,
2004

December 31,
2005

December 31,
2004

23,482

21,018

86,653

88,781

19,749
1,282

4,594

(3,939)

500
(300)
1,624

46,992
320

47,312

0.439

0.436

15,502
1,050

1,848

–

–
(70)
1,076

40,424
155

40,579

0.435

0.431

69,907
4,122

15,241

(6,116)

500
(753)
6,333

175,887
1,041

176,928

1.728

1.717

56,783
3,547

3,409

1,076

(538)
–
1,076

154,134
1,047

155,181

1.732

1.720

M a n a g e m e n t ’s D i s c u s s i o n a n d A n a l y s i s

(ii) Capital resources
Cash provided from operations together with proceeds from issuance of units, conventional mortgage financing and short-term
bank financing, have been used mainly to fund net property acquisitions and capital expenditures of $406.3 million and total
distributions to Unitholders and non-controlling interest of $135.2 million for the year ended December 31, 2005.

The cash flow generated from operating the portfolio represents the primary source of funds to service debt, to fund deferred
leasing, financing and maintenance costs and to fund distributions on units. There are no material or unusual working capital
requirements that currently exist and there are no pending balance sheet conditions or income or cash flow items that may affect
liquidity. There are no legal or practical restrictions on the ability of the Trust’s subsidiaries to transfer funds to the Trust.

Management expects to be able to meet all of the Trust’s ongoing obligations and to finance future growth through the issue
of new equity as well as by using conventional real estate debt, short term financing from the banks and the Trust’s stable cash
flow. The Trust is not in default or arrears on any of its obligations including distribution payments, interest or principal payments
on debt and any debt covenant.

Short-term bank financing has been provided by the same chartered bank since the Trust’s inception. This acquisition line is
adequately secured by income producing properties and management believes this facility will continue to be made available
in the future as it represents a typical or standard loan facility provided by numerous financial institutions in the industry.
At December 31, 2005, approximately $93.9 million was still available under this line.

The growth and popularity of income trusts in the Canadian equity markets and the large number of equity financings
undertaken by the Trust and others within the last 24 months leads management to believe that equity financings will continue
to be available for H&R as a source of future liquidity. As these financings provide the primary source of funds for future acquisitions,
should new equity become more scarce, property acquisitions can be accordingly deferred or postponed. On March 16, 2005 and
October 31, 2005, the Trust completed two separate public offerings of $250.3 million of trust units.

There are no unusual covenants in financial instruments that could trigger early repayment of the Trust’s debt. The mortgages
secured by the Trust are fairly standard in nature with typical default clauses contained therein. There are no debt levered tests
outside of the 65% debt to GBV test or other covenants or circumstances that exist that management believes would impair the
Trust’s ability to operate.

Legislative changes in Ontario that came into effect on December 16, 2004 clarified that unitholders of publicly traded trusts
would not be liable for the activities of the Trust – this was expected to foster investor protection and confidence and represented
an important step towards the inclusion of Trust’s units in the S&P/TSX Composite Index, which was announced in December
2005. This inclusion is expected to broaden the investor base to include institutions such as pension funds, thereby providing
additional liquidity.

Property acquisitions are a key component to providing growing but stable cash distributions for Unitholders, a key objective
of the Trust. The Trust is currently contemplating acquisitions amounting to a gross value of approximately $230.0 million
(in addition to those transactions described in “Subsequent Events – Section VI (2)” but expects total acquisitions to remain
constant on a dollar basis in 2006 as compared to 2005 due to a limited supply of new acquisition opportunities in both Canada
and the United States (see “Section VI (1)” below).

The following is a summary of material contractual obligations of the Trust including payments due for the next five years

and thereafter:

Contractual Obligations

Long Term Debt
Purchase Obligations(1)

Total Contractual Obligations

2006

2007–2008

2009–2010

Payments Due by Period

2011 and
thereafter

Total

92,498
54,454

146,952

266,904
–

266,904

209,145
–

$ 1,814,868
–

$ 2,383,415
54,454

209,145

$ 1,814,868

$ 2,437,869

(1) These purchase obligations represent the equity required only for those transactions where the Trust is legally bound to complete the transaction and are

in addition to any transactions listed below in Subsequent Events (see “Section VI (2)”).

The Trust has no material capital or operating lease obligations.

(iii) Funding of future commitments
H&R’s acquisition capacity to fund future acquisitions and commitments is in excess of $400.0 million as at December 31, 2005.
This represents the amount that can be funded by the Trust from debt (fixed and short term) before the Trust reaches its maximum
debt limitation of 65% of debt to its GBV of assets. This capacity has reduced substantially after December 31, 2005 as a result of
the completion of a number of acquisitions since year end, as described in “Subsequent Events – Section VI (2)” below.

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

H&R currently has no additional construction commitments to mezzanine development projects as no project currently
requires additional funding, but depending on H&R’s circumstances, additional project specific bank financing should be available
for each project, requiring no further material outlay of funds by the Trust.

(f) Off-Balance Sheet Items
Normally, mezzanine financing provided by H&R for development projects result in H&R having an option, and not an obligation,
to purchase the completed project. Thus, in accordance with GAAP, prior to November 2004, only the loan was recorded
as an asset on the balance sheet. The principal amount of the mezzanine financing at December 31, 2005 was $2.6 million
(December 31, 2004 – $54.8 million).

However, the new CICA guideline AcG-15 “Consolidation of Variable Interest Entities” issued June 2003 provides guidance
for applying consolidation principles to certain entities that are subject to control on a basis other than ownership of voting
interests. This guideline became effective for all accounting periods commencing on or after November 1, 2004. After completing
its analysis in Q1 2005, the Trust determined that two mortgages receivable totalling $16.9 million would be eliminated and
replaced with land under development and bank indebtedness. As part of this new guideline, H&R had to record an adjustment
of $1.2 million to opening unitholders’ equity. Of this amount, $1.1 million was reversed in Q4 2005 due to the repayment of
mezzanine financing on the Front and John project. Therefore at December 31, 2005, there remained only one project impacted
by AcG-15, as described previously in “Section II (3) (a) (v) – Financial Condition – Assets – Land under development”.

For the twelve months ended December 31, 2005, interest income of $1.5 million was eliminated, interest expense was reduced
by $1.1 million with a net reduction of $0.4 million to net earnings and $0.5 million to unitholders’ equity, as a result of applying
these guidelines for the year ended December 31, 2005 (2004 – $0).

The Trust has certain co-owners or partners in various projects. As a rule H&R does not provide guarantees or indemnities
for these co-owners pursuant to property acquisitions because should such guarantees be provided, recourse would be available
against the Trust in the event of a default of the borrowers, in which case the Trust would have a claim against the underlying
real estate investment. However, in certain circumstances, where absolutely required but subject to compliance with the Trust’s
Declaration of Trust and also, when management has determined that the fair value of the borrower’s investment in the real estate
investment is greater than the mortgages payable for which the Trust has provided guarantees, such guarantees might be provided.
At December 31, 2005, such guarantees amounted to $50.0 million, expiring between 2011 and 2016 and no amount has been
provided for in the consolidated financial statements for these items. These amounts arise out of only two properties where the
Trust is a co-owner in the project. The Trust, however, customarily guarantees or indemnifies the obligations of its nominee
companies which hold separate title to each of its properties owned.

(g) Financial Instruments and Other Instruments
All financial instruments have been disclosed and recorded as mortgages receivable or mortgages payable on the consolidated
financial statements, and any adjustments required to record these at fair value have been properly accounted for.

The fair value of the mortgages payable has been determined by discounting the cash flows of these financial obligations using
year end market rates for debt of similar terms and credit risks. Based on these assumptions, the fair value of mortgages payable
at December 31, 2005 has been estimated at $2.583 billion (2004 – $2.134 billion) compared with the carrying value of $2.397 billion
(2004 – $2.053 billion).

As previously disclosed, the Trust uses foreign exchange forward contracts to protect itself from currency fluctuations between
the Canadian and US dollar. The Trust currently has forward contracts totalling US $0.6 million per month of which $0.1 million
will expire in April 2006 and $0.5 million will expire in December 2006. The fair value of these foreign exchange forward contracts
at December 31, 2005 has been estimated at $0.2 million as quoted by the Trust’s banker, taking into account current foreign
exchange rates.

The Trust has an electricity swap contract as a cash flow hedge of price volatility of the Trust’s electricity costs in Ontario,
Canada for a monthly notional amount of 4,000 MWh until June 2008. The fair value of this contract at December 31, 2005 has
been estimated at $2.2 million (2004 – ($0.1) million).

Where appropriate, the Trust also uses forward contracts to lock in lending rates on certain anticipated mortgages. This
strategy provides certainty in the rate of interest on borrowings when H&R is involved in transactions that might only close
further into the future than during the normal timeframe of a transaction. At December 31, 2005, H&R had $160.0 million of
such forward contracts in place which were all closed out in January 2006 upon the acquisition of the two Canadian Tire industrial
distribution centres as described in Subsequent Events below (see “Section VI (2)”).

See also “Risk and Uncertainties – Interest Rate and Financing Risk and Currency Risk”, and “Financial Condition –
Equity – Cumulative Foreign Exchange Adjustment” for additional information concerning interest rate risks on the Trust’s
borrowings and foreign exchange fluctuations.

M a n a g e m e n t ’s D i s c u s s i o n a n d A n a l y s i s

SECTION III

1. Summary of Quarterly Results

(unaudited)

Rentals from income properties
Mortgage interest and other income
Property operating income
Net earnings from continuing operations
Net earnings per unit from continuing operations

(basic)
(diluted)
Net earnings
Net earnings per unit

(basic)
(diluted)

(unaudited)

Rentals from income properties
Mortgage interest and other income
Property operating income
Net earnings from continuing operations
Net earnings per unit from continuing operations

(basic)
(diluted)
Net earnings
Net earnings per unit

(basic)
(diluted)

December 31,
2005

September 30,
2005(1)

126,398
198
21,785
19,520

0.19
0.19
23,482

0.23
0.23

124,658
231
23,579
20,103

0.21
0.21
22,288

0.23
0.23

December 31,
2004(1)

September 30,
2004(1)

109,276
1,289
23,754
20,953

0.24
0.23
21,018

0.24
0.23

100,838
1,267
23,949
22,477

0.25
0.25
22,641

0.25
0.25

June 30,
2005(1)

117,907
755
24,159
20,485

0.22
0.21
20,520

0.22
0.21

June 30,
2004(1)

97,115
2,867
24,135
22,776

0.26
0.26
22,976

0.26
0.26

March 31,
2005(1)

117,289
733
23,467
20,150

0.22
0.22
20,363

0.23
0.22

March 31,
2004(1)

95,189
2,681
24,359
23,122

0.26
0.26
22,146

0.25
0.25

Changes to the quarterly financial information are not reflective of seasonality or cyclicality but generally from new property
acquisitions (see “Financial Condition – Assets – Income Properties – Section II (3) (a) (i)”) and changes in accounting policies
(see “Changes to Significant Accounting Policies – Section IV (2)”).

(1) Certain items for all periods except the current period have been reclassified to conform with the presentation adopted in the current period mainly as

a result of the immaterial reclassification of items to discontinued operations.

SECTION IV

1. Critical Accounting Estimates
The preparation of the Trust’s financial statements requires management to make estimates and judgements that affect the
reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements
and reported amounts of revenue and expenses during the reporting period. The Trust’s financial statements and, unless otherwise
indicated, the financial data contained herein have been prepared in accordance with GAAP.

Management believes the policies which are most subject to estimation and judgements are outlined below. For a detailed description
of these and other accounting policies refer to note 1 of the December 31, 2005 audited consolidated financial statements of the Trust.

(a) Impairment of Assets
The Trust is required to write down to fair value any of its income properties that have been determined to have been impaired.
The analysis required is dependent upon a review of estimated future cash flows from operations over the anticipated holding
period. This review involves subjective assumptions of, among other things, estimated occupancy and rental rates, all of which
can affect the ultimate value of the property. In the event these factors result in a carrying value that exceeds the sum of future
undiscounted cash flows expected to result from the ongoing use and ultimate residual value of the properties, an impairment
would be recognized. During Q3 2005, a writedown of $0.6 million was recorded for two industrial buildings which were listed
for sale representing the accelerated amortization of intangible assets set up on the acquisition of these two properties as the leases
to which these intangibles pertain were no longer in effect. An additional writedown of $0.5 million was recorded in Q4 2005

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

pertaining to one of these properties (see “Section II (2) (a) (ix)”) bringing the total adjustment in 2005 to $1.1 million.
No impairments were recorded during 2004.

The Trust also evaluates the fair value of mortgages receivable to determine whether any impairment provisions are required.
Impairment is recognized when the carrying value of the mortgage receivable will not be recovered as determined by the economic
value of the underlying security and/or the financial covenant of the issuer of the security. No impairments of mortgages receivable
were recorded during 2004 and 2005.

(b) Depreciation of Income Properties
On the acquisition of a property, a significant portion of the cost is allocated per management’s determination to the building
component of the property. In addition, the Trust is required to assess the useful lives of its income properties in order to determine
the amount of building depreciation to record on a quarterly and annual basis.

Since January 1, 2004, the Trust depreciates its buildings on a straight-line basis over their estimated useful lives. In the event
the allocation to the building component is inappropriate or the estimated useful life of the properties are not correct, the amount
of depreciation expensed quarterly and annually which affects the Trust’s future net earnings might not be appropriate.

(c) Property Acquisitions
For acquisitions of properties initiated on or after September 12, 2003, the CICA has issued guidance for accounting for operating
leases required in connection with these acquisitions. Through management’s judgment and estimates, the purchase price must
be allocated to land site improvements, building, the above or below market value of in-place operating leases, the fair value of
tenant improvements, in-place leasing costs and the value of the relationship with the existing tenants.

These estimates will impact rentals from income properties, depreciation expense and amortization expense recorded on both

a quarterly and annual basis.

(d) Fair Value of Financial Instruments
The Trust is required to determine annually the fair value of its mortgages payable. In determining the fair value of these financial
instruments, the Trust uses current market quotations and internally developed models that reflect estimated market conditions.
The Trust’s valuations of financial instruments are based on estimates and the fair value of these instruments may change if its
estimates do not turn out to be accurate.

(e) Variable Interest Entities
Accounting Guideline 15, “Consolidation of Variable Interest Entities”, (“AcG-15”) issued September 2003 by the CICA provides
guidelines for applying consolidation principles to certain entities that are subject to control on a basis other than ownership of
voting interests. This guideline became effective for all accounting projects commencing on or after November 1, 2004. The Trust
implemented AcG-15 effective January 1, 2005 and is now required to consolidate all variable interest entities (“VIE’s”) for which
it is determined to be the primary beneficiary. These determinations will impact mortgages receivable, land under development,
bank indebtedness or mortgages payable where applicable, interest income and interest expense. Should the incorrect
determination be made for VIE’s, the Trust’s assets and liabilities could be misstated and the amount of interest income and
expense recognized quarterly and annually which affects the Trust’s future net earnings might not be appropriate.

2. Changes to Significant Accounting Policies
Changes to significant accounting policies in 2005 and changes that will affect the Trust in 2006 are as follows:

(a) Variable Interest Entities
Effective January 1, 2005, the Trust was required, pursuant to AcG-15, to consolidate certain VIE’s that are subject to control on
a basis other than through ownership of a majority of voting interest.

AcG-15 defines a VIE as an entity that either does not have sufficient equity at risk to finance its activities without subordinated
financial support or where the holders of the equity at risk lack the characteristics of a controlling financial interest. AcG-15
requires the primary beneficiary to consolidate VIE’s and considers an entity to be the primary beneficiary of a VIE if its holds
variable interests that expose it to a majority of the VIE’s expected losses or entitle it to receive a majority of the VIE’s expected
residual returns or both. Effective January 1, 2005, the Trust implemented AcG-15, retroactively without restatement of prior
periods, and as a result, the Trust consolidates all VIE’s for which it is the primary beneficiary.

Upon implementation of AcG-15, the Trust determined that it was required to consolidate two entities for development
projects, for which the Trust had provided mezzanine financing, and which the Trust has an option to purchase upon completion.
Due to the repayment of the mezzanine financing on one of the projects, (the Front and John property) in December 2005, a gain
of $1.1 million was recorded in net earnings (loss) from discontinued operations in Q4 2005.

(b) Non-Monetary Transactions
In June 2005, the CICA issued Section 3831, “Non-Monetary Transactions”, which introduces new requirements for non-monetary
transactions entered into on or after January 1, 2006. The amended requirements will result in non-monetary transactions being
measured at fair values unless certain criteria are met, in which case, the transaction is measured at carrying value. As this standard

M a n a g e m e n t ’s D i s c u s s i o n a n d A n a l y s i s

is to be implemented for non-monetary transactions entered into on or after January 1, 2006, the impact of adoption of this
standard will depend upon future non-monetary transactions.

3. Disclosure Controls and Procedures
The Trust’s management, including the Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”) are responsible
for establishing and maintaining the Trust’s disclosure controls and procedures. Disclosure controls and procedures are designed
to provide reasonable assurance that information required to be disclosed in reports filed with securities regulatory authorities is
recorded, processed, summarized and reported on a timely basis to the Trust’s management, including the CEO and the CFO,
as appropriate, to allow timely decisions regarding required disclosure.

The CEO and CFO evaluated the effectiveness of the Trust’s disclosure controls and procedures (as defined in Multilateral
Instrument 52-109 – Certification of Disclosure in Issuers’ Annual and Interim Filings) as at December 31, 2005 and have concluded
that such controls and procedures are effective.

SECTION V

1. Risks and Uncertainties
All income property investments are subject to a degree of risk and uncertainty. They are affected by various factors including
general market conditions and local market circumstances. An example of general market conditions would be the availability
of long-term mortgage financing whereas local conditions would relate to factors affecting specific properties such as an over supply
of space or a reduction in demand for real estate in a particular area. Management attempts to manage these risks through
geographic, asset class and tenant diversification in the Trust’s portfolio. The major risk factors are outlined below.

(a) Interest Rate and Financing Risk
The Trust is exposed to interest rate risk on its borrowings. It minimizes this risk by obtaining long-term, fixed rate debt to
replace short-term floating rate borrowings. At December 31, 2005, the percentage of fixed rate debt to total debt was 97.3%
(December 31, 2004 – 95.8%). In addition, the Trust matches the terms to maturity of its mortgages on specific properties to
the corresponding lease terms to maturity as closely as possible. At December 31, 2005, the weighted average term to maturity of
the mortgages was 11.1 years (December 31, 2004 – 12.0 years) compared to the remaining average lease term of 12.3 years
(December 31, 2004 – 12.5 years). The Trust also minimizes financing risk by restricting total debt to 65% of aggregate
assets as well as by obtaining non-recourse debt wherever possible. At December 31, 2005, the debt to GBV ratio was 61.1%
(December 31, 2004 – 62.6%) while the percentage of non-recourse debt to total debt was 55.8% (December 31, 2004 – 53.7%).

(b) Credit Risk and Tenant Concentration
The Trust is exposed to credit risk as an owner of real estate in that tenants may become unable to pay the contracted rents.
Management mitigates this risk by carrying out appropriate credit checks and related due diligence on the significant tenants.
Management has diversified the Trust’s holdings so that it owns several categories of properties (office, industrial and retail) and
acquires properties throughout Canada and the United States. In addition, management ensures that no tenant or related group
of tenants, other than investment grade tenants, account for a significant portion of the cash flow. The only tenants which account
for more than 5% of the rentals from income properties of the Trust are Bell Canada, TransCanada PipeLines Limited and Bell
Mobility, but each individually represent less than 11% of the rentals from income properties of the Trust and currently are at
least A rated by a recognized rating agency.

The following table illustrates the Trust’s 10 largest tenants (based on estimated future annualized gross revenue excluding

the straight lining of rents) and the weighted average term remaining on their leases as at December 31, 2005:

Tenant

1. Bell Canada
2. TransCanada PipeLines Limited
3. Bell Mobility
4. Rona Inc.
5. Royal Bank of Canada
6. Lowes Companies Inc.
7. Nestle USA
8. Purolator Courier
9. Shell Oil Products
10. Nestle Canada

Total

% of rentals from
income properties

Lease term to
maturity (years)

10.74%
7.29%
6.48%
4.52%
3.23%
2.89%
2.43%
2.01%
1.98%
1.96%

43.53%

18.75
15.00
20.00
15.75
5.50
13.25
11.75
15.50
16.50
13.75

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

As indicated above, the Trust actively pursues highly creditworthy tenants which is further evidenced by its high occupancy rate
of 99% at both December 31, 2005 and December 31, 2004.

(c) Lease Rollover Risk
Lease rollover risk arises from the possibility that H&R may experience difficulty renewing leases as they expire or in re-leasing
space vacated by tenants upon lease expiry. Management’s strategy is to sign tenants to leases that are long-term in nature which
assists in the Trust’s attempt to fulfill its primary goal of maintaining a predictable cash flow. The Trust has relatively few short
to medium term lease rollovers which is illustrated in the previously disclosed lease rollover schedule (see “Section I (2) – Overview”),
being 15.0% over the next 5 years.

(d) Mezzanine Financing Credit Risk
The Trust is also exposed to credit risk as a lender on the security of real estate in the event that a borrower is unable to make the
contracted payments. Such risk is mitigated through credit checks and related due diligence of the borrowers and through careful
evaluation of the worth of the underlying assets. Risk is further mitigated by the Trust’s investment guideline of only providing
construction financing after 70% of the project has been pre-leased.

(e) Currency Risk
The Trust is exposed to foreign exchange fluctuations as a result of ownership of assets in the United States. In order to mitigate
the risk of significant fluctuations, a hedging program has been implemented to protect income earned in US dollars.

For the year ended December 31, 2005, there was no material difference between the book value and market value of these

forward hedge contracts.

(f) Environmental Risk
The Trust’s assets and operations are inherently not subject to a high level of environmental risk. However, H&R is subject to
various Canadian and US laws, which could cause the Trust, as an owner and operator of real property, to become liable for the
costs of removal or remediation of certain hazardous or toxic substances released on or in its properties or disposed of at other
locations. The failure to remediate any environmental issue may affect the Trust’s ability to sell or finance the affected asset and
could potentially also result in claims against the Trust.

The Trust has formal environmental policies in place to manage any exposure. The Trust’s guidelines mandate the carrying
out of environmental audits and inspections before a property is purchased. Also, the majority of its leases specify that tenants
will conduct their businesses in accordance with environmental regulations and be responsible for liabilities arising out of any
infractions. In support thereof, tenants’ premises are periodically inspected for environmental issues, among other things, to
ensure adherence where applicable. Finally, the Trust carries appropriate insurance coverage to cover any environmental mishaps.

(g) Redemption Right
As a result of the Trust’s conversion into an open-ended trust, Unitholders are entitled to have their units redeemed at any time on
demand (see “Overview – Section I (2)” above). It is anticipated that this redemption right will not be the primary mechanism for
Unitholders to liquidate their investments. The aggregate redemption price payable by the Trust is subject to limitations. The notes
which may be distributed in specie to Unitholders in connection with a redemption will not be listed on any stock exchange, no
established market is expected to develop for such notes and they may be subject to resale restrictions under applicable securities laws.

(h) Liquidity Risk
Real estate investments are relatively illiquid. This fact will tend to limit H&R’s ability to vary its portfolio promptly in response
to changing economic or investment conditions. If for whatever reason, immediate liquidation of assets is required, there is a risk
that sale proceeds realized might be less than the current book value of the Trust’s investments.

(i) Unitholder Liability
On December 16, 2004, legislation came into effect in Ontario, which clarified that investors in publicly traded trusts governed
by the laws of Ontario would not be liable for the activities of the Trust.

In addition, H&R’s Declaration of Trust provides that Unitholders will have no personal liability for actions of the Trust and
no recourse will be available to the private property of any Unitholder for satisfaction of any obligation or claims arising out of a
contract or obligation of the Trust. The Declaration of Trust further provides that this Unithholder indemnity, where possible,
must be provided for in certain contracts signed by the Trust, such as mortgages and leases. Where H&R purchases investments
subject to existing contractual obligations that do not include such indemnification provisions, the Trust uses its best efforts to
ensure such disclaiming provisions are included at the time of purchase or will be included in the future.

(j) Tax Risk
On September 8, 2005, the Department of Finance (Canada) released a consultation paper entitled ‘’Tax and Other Issues Related
to Publicly Listed Flow-Through Entities (Income Trusts and Limited Partnerships)’’ and requested that submissions on the
relevant issues be sent to the Department of Finance (Canada) before December 31, 2005. On September 19, 2005, the Minister
of Finance (Canada) announced that he had requested that the Canada Revenue Agency postpone providing advance income tax

M a n a g e m e n t ’s D i s c u s s i o n a n d A n a l y s i s

rulings respecting flow-through entity structures effective immediately, that the Department of Finance (Canada) is closely
monitoring developments in the flow-through entity market with a view to proposing tax measures in relation to the consultations
and that consideration would be given to what, if any, transitional measures were appropriate. On November 23, 2005, the Minister
of Finance (Canada) announced that the public consultation process was ended and he tabled in the House of Commons a Notice
of Ways and Means Motion to implement a reduction in personal income tax on dividends with a view to establishing a better
balance between the treatment of large corporations and that of income trusts. No measures were announced with respect to the
taxation of flow-through entities, including income trusts, and their investors. No assurance may be given that further review of
the tax treatment of flow-through entities, including income trusts, will not be undertaken or that Canadian federal income tax
law respecting flow-through entities will not be changed in a manner which adversely affects the Trust and its Unitholders.

2. Related Party Transactions
The Trust has entered into an agreement with H&R Property Management Ltd., (the “Property Manager”) a company owned
by family members of the Chief Executive Officer, to provide property management services including leasing services concerning
the properties owned by the Trust for approximately 3% of gross revenue. In addition, the Property Manager provides support
services in connection with the acquisition and development activities of the Trust for a fee of 1% of total acquisition costs as defined
in the agreement. This fee payment is limited to 1% of gross revenue for any particular year with the balance available for carry
forward subject to certain conditions. The current agreement is for four years expiring December 31, 2009, with two automatic
five-year extensions. For the year ended December 31, 2005, the Trust accrued fees pursuant to this agreement of $17.4 million
(December 31, 2004 – $15.8 million), of which $6.1 million (December 31, 2004 – $5.9 million) was capitalized to the cost of
income properties acquired and $2.1 million (December 31, 2004 – $1.9 million) was capitalized to deferred expenses. The Trust
has also reimbursed the property manager for certain direct property operating costs.

In March 2006, the Trust and the Property Manager agreed to further amend the fees for property management services and

support services, as more fully described below under “Subsequent Events – Section IV (2)”.

For the year ended December 31, 2005, a further amount of $1.3 million (December 31, 2004 – $2.2 million) has been allocated
to the Property Manager in accordance with the annual incentive bonus pool and has been expensed in the consolidated
statements of earnings.

Pursuant to the above agreements, as at December 31, 2005, $2.1 million (December 31, 2004 – $2.1 million) was payable to

the Property Manager.

These transactions are in the normal course of operations and are measured at the exchange amount, which is the amount of

consideration established and agreed to by the related parties.

3. Outstanding Unit Data
The beneficial interests in the Trust are represented by a single class of units which are unlimited in number. Each unit carries a
single vote at any meeting of unitholders. As at March 1, 2006, 110,729,222 trust units were issued and outstanding.

A maximum of 5,800,000 units were authorized to be issued to the Trust’s officers, employees and certain trustees. All such
options had been issued prior to December 31, 2003. As at March 1, 2006, 1,883,932 options to purchase units were outstanding.

SECTION VI

1. Outlook
A key objective of H&R is to provide growing but stable cash distributions for Unitholders. As discussed previously, property
acquisitions are a key component to providing this growth. The Trust is constantly considering new property acquisitions following
the same criteria and may from time to time consider a property disposition if such property no longer fits within the Trust’s
strategy. The Trust is currently contemplating acquisitions amounting to approximately $230.0 million in addition to the
acquisitions discussed in “Subsequent Events – Section VI (2)” below.

The Trust’s strategy of purchasing predominantly high quality assets with strong tenants, both leased and financed on a long-
term basis has enabled the Trust to meet or exceed objectives in the past and is expected to continue through 2006 and beyond.
Certain key statistics in the Trust’s portfolio illustrate the effectiveness of the Trust’s strategy and highlight its ability to continually
produce stable income. The Trust’s overall occupancy level of 99%, its lease expiries of 15.0% over the next 5 years and the average
term to maturities of its leases and mortgages both close to or in excess of 12 years demonstrates the strength in H&R’s strategies.
Cash distributions per unit on a monthly basis have increased by approximately 5% between 2005 and 2004, with annualized
distributions in 2005 increasing to $1.3044 per unit compared to $1.244 for the year ended December 31, 2004. The percentage
payout of 90% for the year ended December 31, 2005 has increased over the prior year’s percentage of 87% due to the timing of
the equity offerings in the first and last quarter of 2005 and the deployment of those funds in property acquisitions.

Effective January 1, 2006, the Trust announced an increase in the monthly distributions from $0.1087 to $0.1112 per unit per
month, representing an annualized 2006 distribution of $1.3344, a 2.3% increase over 2005. Even with this increase, management
expects the payout ratio to decline to below 89% for 2006.

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

One principal challenge faced by the Trust in 2004 and 2005 was the weakness in the office leasing market throughout the GTA,
resulting in higher vacancies and lower net effective rental rates. Management believes this trend will continue into 2006. Also,
due to a limited supply of new acquisition opportunities in both Canada and the United States, the Trust expects total acquisitions
at maximum to remain constant on a dollar basis in 2006 as compared to 2005.

However, despite the above, given the strength of the Trust’s existing portfolio, management is confident, that barring

unforeseen circumstances. The Trust will perform at approximately the same level for 2006.

2. Subsequent Events
In January 2006, the Trust purchased two Canadian Tire industrial distribution centres located in Brampton, Ontario and Calgary,
Alberta totalling 2.1 million square feet for a cash consideration of $229.1 million. Mortgages totalling approximately
$180.1 million were secured at the time of the acquisition.

In February 2006, the Trust purchased a portfolio of four industrial properties in the United States, totalling 437,000 square

feet for a total consideration of $30.3 million.

In March 2006, the Trust and the Property Manager agreed to further amend the Omnibus Property Management Agreement
so that effective January 1, 2006 and for the remaining terms of the agreement, the fees payable by the Trust to the Property
Manager (i) for property management services is reduced from 3% to 2% of gross rental revenue, and (ii) for support services is
reduced from 1% to 2/3 rds of 1% of the value of real property acquisitions and project development costs, but without the 1%
gross revenue limit or the carryforward mechanism. The currently accrued support services fees in the amount of $3.1 million
will be paid out to the Property Manager.

3. Additional Information
Additional information relating to H&R, including H&R’s Annual Information Form, is available on SEDAR at www.sedar.com.

HRReit 2005 BACK p12-end 5/5/06 12:46 PM Page 46

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Auditors’ Report to the Unitholders

We have audited the consolidated balance sheets of H&R Real Estate Investment Trust as at December 31, 2005 and 2004 and
the consolidated statements of earnings, unitholders’ equity and cash flows for the years then ended. These financial statements
are the responsibility of the Trust’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 Trust
as at December 31, 2005 and 2004 and the results of its operations and its cash flows for the years then ended in accordance with
Canadian generally accepted accounting principles.

Chartered Accountants
Toronto, Canada
February 23, 2006,
except as to notes 19(a) and 26(c),
which are as of March 1, 2006,
and except as to notes 26(d) and 26(e),
which are as of May 1, 2006

Management’s Responsibility for Financial Reporting

The accompanying consolidated financial statements of H&R Real Estate Investment Trust are the responsibility of management
and have been prepared by management in accordance with Canadian generally accepted accounting principles. The significant
accounting policies, which management believes are appropriate for the Trust, are described in note 1 to the consolidated financial
statements. Management has also ensured that the financial information contained elsewhere in this Annual Report is consistent
with that in the consolidated financial statements.

Management is responsible for the integrity and objectivity of the consolidated financial statements and the financial
information contained elsewhere in the Annual Report. Estimates are necessary in the preparation of these statements and, based
on careful judgements, have been properly reflected. Management has ensured that accounting procedures and related systems
of internal control are designed to provide reasonable assurance that its assets are safeguarded and its financial records are reliable.
The Board of Trustees is responsible for ensuring that management fulfills its responsibilities for financial reporting and internal
control. The Audit Committee of the Board is responsible for reviewing and approving the annual consolidated financial statements
and reporting to the Board, making recommendations with respect to the appointment and remuneration of the Trust’s Auditors,
and reviewing the scope of the audit. Management recognizes its responsibility for conducting the Trust’s affairs in compliance with
established financial standards and applicable laws and maintaining proper standards of conduct for its activities.

The consolidated financial statements have been audited by KPMG LLP, Chartered Accountants which have full and
unrestricted access to the Audit Committee. KPMG’s report on the consolidated financial statements is presented herein. These
consolidated financial statements and the accompanying Management’s Discussion and Analysis have been approved by the Board
of Trustees for inclusion in this Annual Report based on the review and recommendation of the Audit Committee.

Toronto, Ontario
March 1, 2006

Thomas J. Hofstedter
President and Chief Executive Officer

Eric Cohen
Chief Financial Officer

HRReit 2005 BACK p12-end 5/5/06 12:46 PM Page 47

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

December 31,
2005

December 31,
2004

3,637,488
2,648
70,352
60,451
23,985
18,063
4,652
9,309

3,145,045
–
45,119
34,874
54,768
9,585
4,891
6,631

3,826,948

3,300,913

2,396,894
67,097
55,128

2,519,119

116,688
1,191,141

2,053,168
89,538
61,610

2,204,316

119,452
977,145

3,826,948

3,300,913

Consolidated Balance Sheets

(In thousands of dollars)

Assets
Income properties (notes 3 and 20)
Land under development
Deferred expenses (note 4)
Accrued rent receivable
Mortgages receivable (note 5)
Prepaid expenses and sundry assets
Accounts receivable
Cash and cash equivalents (note 6)

Liabilities and Unitholders’ Equity
Liabilities:

Mortgages payable (note 7)
Bank indebtedness (note 8)
Accounts payable and accrued liabilities

Non-controlling interest (note 9)
Unitholders’ equity (note 10)
Commitments and contingencies (note 22)
Subsequent events (note 26)

See accompanying notes to consolidated financial statements.

Approved by the Trustees:

Robert Dickson
Trustee

Thomas J. Hofstedter
Trustee

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Consolidated Statements of Earnings

(In thousands of dollars, except per unit amounts)

Years ended

Operating revenue:

Rentals from income properties (note 11)
Mortgage interest and other income

Operating expenses:

Property operating costs
Mortgage and other interest (note 12)
Depreciation of income properties (note 13)
Amortization of deferred expenses and intangible costs (note 14)

Property operating income (note 20)
Trust expenses

Net earnings before discontinued operations and non-controlling interests
Non-controlling interest (note 9)

Net earnings from continuing operations
Net earnings (loss) from discontinued operations (note 21)

Net earnings

Basic net earnings (loss) per unit (note 15):

Continuing operations
Discontinued operations

Diluted net earnings (loss) per unit (note 15):

Continuing operations
Discontinued operations

See accompanying notes to consolidated financial statements.

December 31,
2005

December 31,
2004

486,252
1,917

488,169

153,256
149,400
69,907
22,616

395,179

92,990
6,866

86,124
(5,866)

80,258
6,395

86,653

0.84
0.07

0.91

0.84
0.06

0.90

402,418
8,104

410,522

127,012
121,637
56,783
8,893

314,325

96,197
5,796

90,401
(1,073)

89,328
(547)

88,781

1.01
(0.01)

1.00

1.01
(0.01)

1.00

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Cumulative
foreign
currency
translation
adjustment

Total

Consolidated Statements of Unitholders’ Equity

(In thousands of dollars)

Unitholders’ equity, December 31, 2003
Unit-based compensation relating

to 2002 and 2003

Proceeds from issuance of units
Issued to subsidiary (note 9)
Issue costs
Net earnings
Distributions to unitholders
Unit-based compensation
Foreign currency translation adjustment

Unitholders’ equity, December 31, 2004,

as previously reported
Variable interest entities

Value Accumulated Accumulated
distributions

net earnings

of units

970,521

396,817

(387,765)

(11,408)

968,165

621
161,740
(119,823)
(172)
–
–
398
–

(621)
–
–
–
88,781
–
–
–

–
–
–
–
–
(111,251)
–
–

–
–
–
–
–
–
–
(10,693)

–
161,740
(119,823)
(172)
88,781
(111,251)
398
(10,693)

1,013,285

484,977

(499,016)

(22,101)

977,145

adjustment to prior periods (note 2)

–

(1,165)

–

(1,165)

Unitholders’ equity, December 31, 2004,

as restated

Proceeds from issuance of units (note 10(a))
Issue costs
Net earnings
Distributions to unitholders
Unit-based compensation
Foreign currency translation adjustment

1,013,285
273,076
(11,072)
–
–
175
–

483,812
–
–
86,653
–
–
–

(499,016)
–
–
–
(126,108)
–
–

(22,101)
–
–
–
–
–
(7,563)

975,980
273,076
(11,072)
86,653
(126,108)
175
(7,563)

Unitholders’ equity, December 31, 2005

$ 1,275,464

570,465

(625,124)

$ (29,664)

$ 1,191,141

See accompanying notes to consolidated financial statements.

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Consolidated Statements of Cash Flows

(In thousands of dollars)

Years ended

Cash provided by (used in):
Operations:

Net earnings
Items not affecting cash:

Depreciation of income properties (note 13)
Amortization of deferred expenses and intangible costs (note 14)
Loss (gain) on sale of income properties and land under development (note 21)
Unit-based compensation
Net earnings attributable to non-controlling interest (note 9)

Change in other non-cash operating items (note 16)

Financing:

Bank indebtedness
Mortgages payable:

New mortgages payable
Principal repayments

Proceeds from issuance of units, net
Distributions to unitholders
Distributions to non-controlling interest (note 9)

Investments:

Income properties:

Land under development
Proceeds on disposition of income properties and land under development
Acquisitions and capital expenditures

Mortgages receivable

Increase (decrease) in cash and cash equivalents
Cash and cash equivalents, beginning of year

Cash and cash equivalents, end of year

Supplemental cash flow information:

Interest paid

Supplemental disclosure of non-cash financing and investing activities:

Acquisitions of income properties through assumption of mortgages payable
Acquisitions of income properties through repayment of mortgages receivable
Acquisition of income properties through issuance of Class B units of

H&R Portfolio Limited Partnership

Mortgages payable assumed by purchaser on disposition of income properties
Mortgages receivable granted to purchaser on disposition of income properties

and land under development

See accompanying notes to consolidated financial statements.

December 31,
2005

December 31,
2004

86,653

88,781

70,192
22,626
(6,116)
175
6,333
(73,487)

106,376

57,181
9,010
1,076
398
1,076
(25,484)

132,038

(28,781)

33,257

257,786
(92,262)
262,004
(126,108)
(9,097)

263,542

(1,583)
17,022
(406,303)
23,624

(367,240)

2,678
6,631

9,309

150,684

201,853
15,328

–
2,133

23,940

405,275
(79,130)
63,700
(111,251)
(1,447)

310,404

–
19,258
(450,210)
(24,400)

(455,352)

(12,910)
19,541

6,631

120,215

139,685
61,376

97,868
–

–

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Notes to Consolidated Financial Statements

(In thousands of dollars, except unit and per unit amounts)

Years ended December 31, 2005 and 2004

H&R Real Estate Investment Trust (the “Trust”) is an unincorporated open-ended trust (note 10) with each unitholder participating
pro rata in distributions of income and, in the event of termination of the Trust, participating pro rata in the net assets remaining
after satisfaction of all liabilities.

1. Significant Accounting Policies:
The consolidated financial statements have been prepared in accordance with Canadian generally accepted accounting principles
and reflect the following policies:

(a) Principles of Consolidation:
The consolidated financial statements include the accounts of all entities in which the Trust holds a controlling interest and
consolidates certain variable interest entities that are subject to control on a basis other than through ownership of a majority
interest (note 2). The Trust consolidates its interest in joint ventures on a proportionate basis, eliminating its proportionate share
of transactions with the joint venture. All material transactions and balances have been eliminated.

(b) Income Properties:
Income properties are recorded at cost less accumulated depreciation. If the sum of the estimated undiscounted future cash flows
from operations and expected residual value is less than the carrying value of a particular asset, an impairment would be recognized
whereby the asset would be written down to fair value. The buildings are depreciated on a straight-line basis over a period not
to exceed 40 years. Paving and equipment are depreciated on a straight-line basis over 10 years. Intangibles resulting from in-
place leases are amortized over the related lease terms.

Upon acquisition of properties, the Trust allocates the purchase price to the fair value of assets and liabilities including land,

building and intangibles such as above- and below-market leases and in-place operating leases.

(c) Deferred Expenses:
Leasing costs, such as commissions and other tenant inducements, are deferred and amortized on a straight-line basis over the
terms of the related leases. Mortgage financing costs are deferred and amortized over the terms of the related debt. Maintenance
and repair costs are expensed against operations, while deferred maintenance costs, which are major items of repair or replacement,
are amortized on a straight-line basis over the expected recovery from the tenants. The unamortized balance of all these costs is
included in deferred expenses.

(d) Revenue Recognition:
The Trust retains substantially all of the benefits and risks of ownership of its income properties and, therefore, accounts for its leases
with tenants as operating leases. Rentals from income properties include all amounts from tenants including recovery of operating costs.
Rental revenue from all leases is recognized on the straight-line method over the term of the related lease. The difference between
the rental revenue recognized and the amounts contractually due under the lease agreements is recorded in accrued rent receivable.

(e) Co-ownerships:
The Trust carries out a portion of its activities through co-ownership agreements and records its proportionate share of assets,
liabilities, revenue, expenses and cash flows of all co-ownerships in which it participates.

(f) Income Taxes:
Pursuant to the terms of the Declaration of Trust, the trustees intend to distribute or designate all taxable income to unitholders
of the Trust and to deduct such distributions and designations for Canadian income tax purposes. Therefore, no provision for
income taxes is required on income earned by the Trust, its subsidiary trust and flow through entities.

The Trust’s corporate subsidiaries are subject to tax on their taxable income. Income taxes are accounted for using the asset
and liability method, whereby future income tax assets and liabilities are determined based on differences between the carrying
amount of the balance sheet items and their corresponding tax values. Income taxes are computed using substantively enacted
corporate income tax rates for the years in which tax and accounting basis differences are expected to reverse.

(g) Unit Option Plan:
The Trust has a unit option plan available for officers, employees and certain trustees as disclosed in note 10(b). Any consideration
paid by optionholders on exercise of unit options is credited to unitholders’ equity. All options granted under the option plan are
fair valued and expensed over the vesting period of three years.

N o t e s t o C o n s o l i d a t e d F i n a n c i a l S t a t e m e n t s

(h) Cash and Cash Equivalents:
Included in cash and cash equivalents are short-term investments which have maturities of three months or less from the date
of acquisition.

(i) Use of Estimates:
The preparation of financial statements requires management to make estimates and assumptions that affect the reported amounts
of the assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported
amounts of revenue and expenses during the year. Actual results could differ from those estimates.

(j) Foreign Currency Translation:
The Trust accounts for its investments in the United States (“foreign operations”) as self-sustaining operations. Assets and liabilities
of foreign operations are translated into Canadian dollars at the exchange rate in effect at the balance sheet date and revenue and
expenses are translated at the average exchange rate for the year. The foreign currency translation adjustment is recorded as a
separate component of unitholders’ equity until there is a reduction in the Trust’s net investment in the foreign operations.

The U.S. denominated bank indebtedness is designated as a hedge of its investment in self-sustaining operations. Accordingly,
the cumulative unrealized gains or losses arising from the translation of this obligation are recorded as a foreign currency
translation adjustment.

(k) Derivative Financial Instruments:
Derivative financial instruments are utilized by the Trust in its management of its foreign currency and interest rate exposures.
The Trust formally documents all relationships between hedging instruments and hedged items, as well as its risk management
objective and strategy for undertaking various hedge transactions. The Trust also formally assesses, both at the hedge’s inception
and on an ongoing basis, whether hedging relationships will be highly effective. Gains or losses on hedges of existing assets and
liabilities are deferred. Unrealized gains or losses on hedged commitments or anticipated transactions are not recorded in the
consolidated financial statements until the transaction occurs.

The Trust has entered into foreign exchange contracts which hedge the currency risk attributable to forecasted U.S.
denominated interest payments on U.S. denominated debt from its wholly owned subsidiary. The foreign exchange translation
gains and losses are recognized as an adjustment to income when this interest is recorded.

The Trust, in certain cases, enters into bond forward contracts to lock in interest rates on specific anticipated mortgages. For
contracts qualifying as hedges, the gain or loss on settlement of the contract is recognized as an adjustment to interest expense
over the term of the related mortgage.

The Trust has entered into electricity contracts to hedge the electricity price on notional quantity usage of electricity. The gains

and losses are recognized as an adjustment to income when the electricity expense is recorded.

In the event a designated hedged item is sold, extinguished, or it is no longer probable that the anticipated transaction will occur,
or matures prior to termination of the related derivative instrument, any realized or unrealized gain or loss on such derivative
instrument is recognized in income.

(l) Land Under Development:
Land under development is stated at cost. If it is determined that the carrying amount exceeds the undiscounted estimated future
net cash flows expected to be received from the ongoing use and residual value of the land, after taking into account estimated
costs to complete the development, it is reduced to its estimated fair value.

Cost includes initial acquisition costs, other direct costs and realty taxes, interest, and operating revenue and expenses during

the period of development.

2. Change in Accounting Policy:
Effective January 1, 2005, the Trust is required, pursuant to Accounting Guideline 15, Consolidation of Variable Interest Entities
(“AcG-15”) issued by The Canadian Institute of Chartered Accountants (“CICA”), to consolidate certain variable interest entities
(“VIEs”) that are subject to control on a basis other than through ownership of a majority of voting interest.

AcG-15 defines a VIE as an entity that either does not have sufficient equity at risk to finance its activities without subordinated
financial support or where the holders of the equity at risk lack the characteristics of a controlling financial interest. AcG-15
requires the primary beneficiary to consolidate VIEs and considers an entity to be the primary beneficiary of a VIE if it holds
variable interests that expose it to a majority of the VIE’s expected losses or entitles it to receive a majority of the VIE’s expected
residual returns or both.

Effective January 1, 2005, the Trust implemented AcG-15 retroactively without restatement of prior periods and, as a result,

the Trust consolidates all VIEs for which it is the primary beneficiary.

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Details of the amounts recorded upon implementation and their effect on the relevant balance sheet captions at January 1, 2005

are summarized below:

Assets
Mortgages receivable
Land under development
Liabilities and Unitholders’ Equity
Bank indebtedness
Unitholders’ equity

Income Properties:

Land
Buildings
Paving and equipment

Income properties held for sale (note 21)
Intangible assets on acquisitions
Intangible liabilities on acquisitions

Before
AcG-15
impact

Impact of the
implementation
of AcG-15

54,768
–

(15,771)
20,946

89,538
977,145

6,340
(1,165)

After
AcG-15
impact

38,997
20,946

95,878
975,980

Accumulated
depreciation
and
amortization

–
164,425
19,039

183,464
61
23,664
(1,899)

2005

2004

Net book
value

703,952
2,591,575
75,353

3,370,880
7,362
276,633
(17,387)

Net book
value

608,053
2,315,275
34,112

2,957,440
15,388
185,569
(13,352)

Cost

703,952
2,756,000
94,392

3,554,344
7,423
300,297
(19,286)

3,842,778

205,290

3,637,488

3,145,045

Included in intangible assets on acquisitions are intangible assets relating to the property management contract.

4. Deferred Expenses:

Deferred leasing
Deferred financing
Deferred maintenance

Cost

56,003
19,889
13,958

89,850

Accumulated
amortization

12,616
4,088
2,794

19,498

2005

Net book
value

43,387
15,801
11,164

70,352

2004

Net book
value

23,580
13,969
7,570

45,119

5. Mortgages Receivable:
The mortgages receivable are secured by real property and bear interest at a weighted average rate of 5.2% (2004 – 8.3%) per
annum. They are repayable between 2006 and 2009.

6. Cash and Cash Equivalents:
Included in cash and cash equivalents at December 31, 2005 is approximately $4,282 of restricted cash (2004 – $3,500).

7. Mortgages Payable:
The mortgages payable are secured by income properties and letters of credit in certain cases, bear fixed interest with a weighted
average rate of 6.6% (2004 – 6.9%) per annum and mature between 2006 and 2035. Included in the mortgages payable at
December 31, 2005 are mortgages denominated in U.S. dollars of U.S. $651,678 (2004 – U.S. $428,223). The Canadian equivalents
of these amounts are $755,946 and $513,868, respectively.

N o t e s t o C o n s o l i d a t e d F i n a n c i a l S t a t e m e n t s

Future principal mortgage payments are as follows:

Years ending December 31:

2006
2007
2008
2009
2010
Thereafter

Mortgage premiums

92,498
118,484
148,420
112,818
96,327
1,814,868

2,383,415
13,479

2,396,894

The mortgage premiums represent the difference between the actual mortgages assumed on property acquisitions and the fair
value of the mortgages at the date of purchase, less accumulated amortization of $1,771 (2004 – $229).

8. Bank Indebtedness:
The bank indebtedness of the Trust is secured by fixed charges over certain income properties, is due on demand and is subject
to review each year on July 31. The total facility is $180,000. The amount available at December 31, 2005, after taking into account
the bank indebtedness drawn of $67,097 and the outstanding letters of credit and other items is $93,858. The amount can be
drawn in Canadian or U.S. dollars.

The Canadian dollar bank indebtedness bears interest at rates approximating the prime rate of a Canadian chartered bank.

At December 31, 2005, the Canadian prime interest rate was 5.00% (2004 – 4.25%) per annum.

Included in bank indebtedness at December 31, 2005 is U.S. $26,366 (2004 – U.S. $33,173). The Canadian equivalents of these

amounts are $30,584 and $39,808, respectively. The United States dollar bank indebtedness bears interest at LIBOR rates.

9. Non-controlling Interest:
Non-controlling interest represents the amount of equity related to the Class B units of a subsidiary, H&R Portfolio Limited
Partnership (“HRLP”). This non-controlling interest has been accounted for in accordance with EIC-151, Exchangeable Securities
Issued by Subsidiaries of Income Trusts. The accounts of HRLP are consolidated in these consolidated financial statements.
Class B units of HRLP are only exchangeable on a one-for-one basis, at the option of the holder, into Trust units which have already
been issued to HRLP.

Holders of the Class B units of HRLP are entitled to receive distributions on a per unit amount equal to a per Trust unit amount

provided to holders of Trust units.

The details of the non-controlling interest are as follows:

Issuance of Class B units of HRLP on November 1, 2004 (note 10(a))
Non-controlling interest from continuing operations
Non-controlling interest from discontinued operations (note 21)
Distributions on Class B units of HRLP

December 31, 2004
Non-controlling interest from continuing operations
Non-controlling interest from discontinued operations (note 21)
Distributions on Class B units of HRLP

December 31, 2005

119,823
1,073
3
(1,447)

119,452
5,866
467
(9,097)

116,688

10. Unitholders’ Equity:
The Trust completed its conversion into an “open-ended” mutual fund trust under the provisions of the Income Tax Act (Canada)
effective July 21, 2005. The beneficial interests in the Trust are represented by a single class of units, which are unlimited in
number. Each unit carries a single vote at any meeting of unitholders and carries the right to participate pro rata in any
distributions. The unitholders have the right to require the Trust to redeem their units on demand. Upon the tender of their units
for redemption by the Trust, all of the unitholders’ rights to and under such units are surrendered and the unitholder is entitled

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

to receive a price per unit as determined by a market formula. The redemption price payable by the Trust will be satisfied by way
of a cash payment to the unitholder or, in certain circumstances, including where such payment would cause the Trust’s monthly
cash redemption obligations to exceed $50, an in specie distribution of notes of H&R Portfolio LP Trust (a subsidiary of the Trust).

(a) The Following Units are Issued and Outstanding:

December 31, 2003
Issued on January 15, 2004 (at a price of $13.52 per unit)
Issued on November 1, 2004 (at a price of $17.18 per unit) to a subsidiary (note 9)
Issued under the distribution reinvestment plan and direct unit purchase plan
Options exercised

Subtotal
Units held by a subsidiary (note 9)

December 31, 2004

December 31, 2004
Issued on March 16, 2005 (at a price of $19.10 per unit)
Issued on October 31, 2005 (at a price of $19.55 per unit)
Issued under the distribution reinvestment plan and direct unit purchase plan
Options exercised

Subtotal
Units held by a subsidiary (note 9)

December 31, 2005

86,198,168
1,849,605
6,974,555
410,894
873,100

96,306,322
(6,974,555)

89,331,767

96,306,322
5,250,000
7,675,000
884,357
508,637

110,624,316
(6,974,555)

103,649,761

(b) Unit Option Plan:
A maximum of 5,800,000 units were authorized to be issued to the Trust’s officers, employees and certain trustees. All such options
were issued prior to December 31, 2003. The exercise price of each option approximated the market price of the Trust’s units on
the date of grant. The options vested at 33.33% per year from the grant date, being fully vested after 3 years, and expire 10 years
after the date of the grant.

A summary of the status of the plan as at December 31, 2005 and 2004 and the changes during the years ended on those dates

are as follows:

Outstanding, beginning of year
Exercised

Outstanding, end of year

Options exercisable at December 31

2005

Weighted
average
exercise price

12.66
12.02

12.83

12.78

Units

2,418,668
(508,637)

1,910,031

1,753,976

2004

Weighted
average
exercise price

12.40
11.68

12.66

12.48

Units

3,291,768
(873,100)

2,418,668

1,848,219

The options outstanding at December 31, 2005 are exercisable at varying prices ranging from $12.01 to $13.36 (2004 – $11.22 to
$13.36) with a weighted average remaining life of 6.1 years (2004 – 6.9 years). The vested options are exercisable at varying prices
ranging from $12.01 to $13.36 (2004 – $11.22 to $13.36) with a weighted average remaining life of 6.1 years (2004 – 6.7 years).

(c) Unit-based Compensation:
During the year ended December 31, 2005, no options were granted (2004 – nil). The fair value of the unit options used to compute
compensation expense is the estimated fair value of each option grant on the grant date. This was calculated for options granted
during 2003 and 2002 using the Black-Scholes option pricing model with the following weighted average assumptions: expected
distribution yield for 2003 is 9.0% (2002 – 8.6%); expected volatility for 2003 is 12.5% (2002 – 10.2%); risk free interest rate for
2003 is 5.0% (2002 – 5.4%); and expected option life in years for 2003 is 10 (2002 – 10).

N o t e s t o C o n s o l i d a t e d F i n a n c i a l S t a t e m e n t s

(d) Unitholders’ Rights Plan:
The Trust has adopted a Unitholders’ Rights Plan (“Rights Plan”) effective May 20, 2003 to ensure that any takeover bid made
for the units of the Trust would be made to all unitholders, treat all unitholders equally, and provide the Board of Trustees with
sufficient time to consider any such offer and encourage competing bids to emerge. The Rights Plan grants unitholders the right
to acquire, under certain circumstances, additional units at a 50% discount from its then current market price. The Trust, with
the consent of its unitholders or rights holders, may redeem each right at a nominal price. The Rights Plan will expire at the annual
meeting of unitholders in 2006, unless terminated earlier.

(e) Distribution Reinvestment Plan and Direct Unit Purchase Plan:
The Trust has a distribution reinvestment plan and direct purchase plan for its unitholders which allows participants to reinvest
their monthly cash distributions in additional Trust units at an effective discount of 3% and to purchase additional Trust units at
an undiscounted price.

(f) Distributions:
The Trust is required to distribute to unitholders not less than 80% of the Distributable Cash as defined in the Declaration of Trust.

11. Rentals from Income Properties:

Rentals from income properties
Straight-lining of contractual rent increases
Rent amortization of above- and below-market rents

12. Mortgage and Other Interest Expense:

Mortgage interest
Amortization of mortgage premium
Bank interest and charges

13. Depreciation of Income Properties:

Depreciation
Depreciation included in discontinued operations (note 21)

14. Amortization of Deferred Expenses and Intangible Costs:

Amortization of deferred leasing expenses
Amortization of deferred financing expenses
Amortization of deferred maintenance costs
Amortization of intangible assets on acquisitions of properties

Amortization included in discontinued operations (note 21)

2005

464,576
25,744
(4,068)

486,252

2005

147,131
(1,719)
3,988

149,400

2005

70,192
(285)

69,907

2005

4,185
1,510
1,750
15,181

22,626
(10)

22,616

2004

380,130
22,352
(64)

402,418

2004

118,863
(229)
3,003

121,637

2004

57,181
(398)

56,783

2004

3,658
1,029
914
3,409

9,010
(117)

8,893

15. Net Earnings per Unit:

Net earnings:

Basic net earnings
Add net earnings attributable to non-controlling interest (note 9)

Diluted net earnings

The weighted average number of units outstanding was as follows:

Basic units
Effect of dilutive securities:

Unit option plan
Non-controlling interest conversion to units (notes 9 and 10(a))

Diluted units

Net earnings per unit:

Basic
Diluted

16. Change in Other Non-cash Operating Items:

Deferred expenses
Accrued rent receivable
Prepaid expenses and sundry assets
Accounts receivable
Accounts payable and accrued liabilities

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

2005

86,653
6,333

92,986

2004

88,781
1,076

89,857

95,429,798

88,444,993

650,720
6,974,555

606,722
1,146,502

103,055,073

90,198,217

0.91
0.90

2005

(33,189)
(25,577)
(8,478)
239
(6,482)

1.00
1.00

2004

(22,544)
(22,376)
(642)
815
19,263

(73,487)

(25,484)

17. Risk Management and Fair Values of Financial Assets and Liabilities:

(a) Risk Management:
The Trust is exposed to interest rate risk on its borrowings. It minimizes this risk by restricting total debt to 65% of aggregate
assets and by attaining long-term fixed rate debt to replace short-term floating rate borrowings. In addition, the weighted average
term to maturity of long-term debt is relative to the remaining average lease terms.

The Trust is exposed to credit risk as an owner of real estate in that tenants may become unable to pay the contracted rents.
Management mitigates this risk by carrying out appropriate credit checks and related due diligence on the significant tenants.
Management has diversified the Trust’s holdings so that it owns several categories of properties (office, industrial and retail) and
acquires properties throughout Canada and the United States. In addition, management reviews exposures to tenant or related
groups of tenants. Bell Canada is the only tenant that accounts for more than 10% of the Trust’s rentals from income properties.
The Trust is also exposed to credit risk as a lender on the security of real estate in the event that a borrower is unable to make
the contracted payments. Such risk is mitigated through credit checks and related due diligence of the borrowers and through
careful evaluation of the worth of the underlying assets.

The Trust is exposed to foreign exchange fluctuations as a result of ownership of assets in the United States. In order to mitigate

the risk of significant fluctuations, a hedging program has been implemented to protect income earned in US dollars.

(b) Fair Values:
The fair values of the Trust’s mortgages receivable, accounts receivable, cash and cash equivalents, bank indebtedness and accounts
payable and accrued liabilities approximate their carrying amounts due to the relatively short periods to maturity of the
instruments.

The fair value of the mortgages payable has been determined by discounting the cash flows of these financial obligations using
year-end market rates for debt of similar terms and credit risks. Based on these assumptions, the fair value of mortgages payable
at December 31, 2005 has been estimated at $2,583,495 (2004 – $2,133,911) compared with the carrying value of $2,396,894
(2004 – $2,053,168).

At December 31, 2005, the Trust has foreign exchange forward contracts to sell U.S. dollars for Canadian dollars at a stipulated
rate. Additionally, the Trust has an electricity contract to swap floating for fixed price rates as a cash flow hedge of price volatility
of the Trust’s electricity costs in Ontario, Canada. As at December 31, 2005, the foreign exchange forward contracts total $10,547
for 2006 and $3,523 for 2007. The fair value of these foreign exchange forward contracts at December 31, 2005 have been estimated

N o t e s t o C o n s o l i d a t e d F i n a n c i a l S t a t e m e n t s

at $241 (2004 – $225) as quoted by the Trust’s banker, taking into account current foreign exchange rates. The electricity swap
contract hedges a monthly notional amount of approximately 4,000 MWh until June 2008. The fair value of this contract at
December 31, 2005 has been estimated at $2,242 (2004 – ($65)).

As at December 31, 2005, the Trust has bond forward contracts for notional amounts totalling $160,000 to hedge against the
interest payments on mortgages anticipated to be entered into in January 2006 for the acquisition of two properties as described
in note 26(a). The fair value of these contracts at December 31, 2005 is a liability of $2,867.

18. Co-ownership Activities:
These financial statements include the Trust’s proportionate share of assets, liabilities, revenue, expenses and cash flows of the
co-ownerships. The Trust’s proportionate share of these co-ownerships range between 20.0% and 98.5%, summarized as follows:

Assets
Liabilities
Revenue
Expenses
Operating income from properties
Cash flows provided by operations
Cash flows used in financing
Cash flows provided by (used in) investing

2005

137,196
63,587
26,200
17,891
8,309
6,301
(1,649)
750

2004

140,511
66,872
59,266
51,336
7,860
23,790
(6,185)
(2,583)

Under the terms of the co-ownership agreements, the Trust is only responsible for its proportionate share of the obligations of
the co-ownerships, except as disclosed under note 22.

19. Related Party Transactions:
(a) The Trust has entered into an agreement with H&R Property Management Ltd. (“Property Manager”), a company owned
by family members of the Chief Executive Officer, to provide property management services including leasing services concerning
the properties owned by the Trust for a fee of approximately 3% of gross revenue. In addition, the Property Manager provides
support services in connection with the acquisition and development activities of the Trust for a fee of 1% of total acquisition costs
as defined in the agreement. This fee payment is limited to 1% of gross revenue for any particular year with the balance available
for carry forward subject to certain conditions. The current agreement is for four years expiring December 31, 2009 with two
automatic five-year extensions. During the year ended December 31, 2005, the Trust accrued fees pursuant to this agreement of
$17,351 (2004 – $15,849), of which $6,135 (2004 – $5,904) was capitalized to the cost of the income properties acquired and $2,099
(2004 – $1,913) was capitalized to deferred expenses. The Trust has also reimbursed the Property Manager for certain direct
property operating costs.

For the year ended December 31, 2005, a further amount of $1,300 (2004 – $2,200) has been allocated to the Property Manager

in accordance with the annual incentive bonus pool and has been expensed in the consolidated statements of earnings.

Pursuant to the above agreements, as at December 31, 2005, $2,073 (2004 – $2,135) was payable to the Property Manager.
These transactions are measured at the exchange amount, which is the amount of consideration established and agreed to by

the related parties.

In March 2006, the Trust and the Property Manager agreed to further amend the fees for property management services and

support services, as more fully described below under note 26.

(b) On November 1, 2004, the Trust, through its subsidiary, HRLP, completed the acquisition of substantially all of the 30% interest
of 22 properties in which the Trust acquired an initial 70% undivided interest as part of its 1996 initial public offering (note 23(a)).

20. Segment Disclosures:
Segmented information on identifiable assets by geographic region and property operating income is as follows:

Geographic information:

Items are attributed to countries based on the location of the properties.

Income properties:

Canada
United States

2005

2,619,452
1,018,036

3,637,488

2004

2,466,923
678,122

3,145,045

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Property operating income for the year ended December 31, 2005:

Operating revenue
Property operating costs
Mortgage and other interest
Depreciation of income properties
Amortization of deferred expenses and intangible costs

Property operating income

Property operating income for the year ended December 31, 2004:

Operating revenue
Property operating costs
Mortgage and other interest
Depreciation of income properties
Amortization of deferred expenses and intangible costs

Property operating income

Canada

United States

420,903
(149,766)
(112,532)
(52,136)
(17,932)

67,266
(3,490)
(36,868)
(17,771)
(4,684)

Total

488,169
(153,256)
(149,400)
(69,907)
(22,616)

88,537

4,453

92,990

Canada

United States

364,094
(124,750)
(97,460)
(44,663)
(7,208)

46,428
(2,262)
(24,177)
(12,120)
(1,685)

Total

410,522
(127,012)
(121,637)
(56,783)
(8,893)

90,013

6,184

96,197

21. Discontinued Operations:
During the year ended December 31, 2005, three industrial buildings and land under development were sold for consideration
of $43,095, settled by cash of $17,022, vendor take-back mortgages of $23,940, and vendor assumption of Trust’s mortgage payable
of $2,133. In addition, one industrial building is currently listed for sale. During 2004, there were two properties sold. The results
of operations from these properties have been separately disclosed below:

Property operating income before depreciation and amortization
Depreciation of income properties
Amortization of deferred expenses and intangible costs

Property operating income
Gain (loss) on sale of income properties and land under development

Earnings (loss) from discontinued operations before non-controlling interest
Non-controlling interest (note 9)

2005

1,041
(285)
(10)

746
6,116

6,862
(467)

Net earnings (loss) from discontinued operations

6,395

2004

1,047
(398)
(117)

532
(1,076)

(544)
(3)

(547)

22. Commitments and Contingencies:
(a) In the normal course of operations, the Trust has issued letters of credit in connection with financings, operations and
acquisitions. As at December 31, 2005, the Trust has outstanding letters of credit totalling $17,295 (2004 – $23,244), including
$16,435 (2004 – $16,326) which has been pledged as security for certain mortgages payable. These letters of credit are secured in
the same means as the bank indebtedness (note 8).

At December 31, 2005, the Trust had issued guarantees amounting to $50,022 (2004 – $51,457) which expire between 2011 and
2016 and no amount has been provided for in the consolidated financial statements for these items. These amounts arise out of
two properties where the Trust has guaranteed a co-owner’s share of the mortgage liability. The Trust has recourse to the
co-owner’s share of the assets in the event the guarantees are called upon.

(b) As of December 31, 2005, the Trust had entered into agreements to acquire properties for purchase prices aggregating $455,711,
including the transactions described in note 26.

(c) The Trust is involved in litigation and claims in relation to the income properties that arise from time to time in the normal
course of business. In the opinion of management, any liability that may arise from such contingencies would not have a significant
adverse effect on the consolidated financial statements.

N o t e s t o C o n s o l i d a t e d F i n a n c i a l S t a t e m e n t s

23. Acquisitions:

(a) Related Party Acquisitions:
On November 1, 2004, the Trust, through its subsidiary HRLP, completed the acquisition of substantially all of the 30% interest of
22 properties as disclosed in note 19(b). The participating vendors exchanged, on a tax deferred basis, their remaining interest in these
properties for an aggregate of 5,696,610 Class B units of HRLP which are exchangeable on a one-for-one basis at any time for Trust
units held by HRLP, and the assumption by HRLP of the proportionate share of the mortgage liabilities on the particular properties.
As part of the acquisition consideration, the fee arrangement with the Property Manager has been amended. The amendments for
the fee arrangement comprise: (i) an aggregate reduction in the payments owing to it under the 3% management fee and the bonus
plan by an amount of $2,500 per annum over the remaining term of the property management agreement (commencing January 1,
2005), and (ii) a change to the basis for calculating the support services fee payable by the Trust from 1% of the Trust’s total annual
revenue, to 1% of the value of the Trust’s property acquisition and project development costs, not to exceed 1% of total revenue
(effective January 1, 2004). At closing, the Trust issued 5,696,610 Trust units to HRLP. The acquisitions have been recorded by the
purchase method, with the results of operations included in these consolidated financial statements from the date of acquisition.

The following table summarizes the acquired net assets at fair value:

Assets
Land
Building
Paving and equipment
Intangible above market leases
Intangible acquired in-place lease costs
Intangible asset relating to property management contract

Liabilities
Mortgages payable
Intangible below market leases

Net assets acquired and settled by issuance of 5,696,610 Class B units of HRLP,

recorded at the exchange amount

19,526
78,105
731
16,287
21,876
21,400

157,925

59,106
951

60,057

97,868

The vendors also subscribed for an additional 1,277,945 Class B units of HRLP for an aggregate price of approximately $21,955
which was settled for cash. This increased their total Class B units to 6,974,555 (note 10(a)).

(b) Other Acquisitions:
During the year ended December 31, 2005, the Trust acquired a total of 34 properties (2004 – 40). These acquisitions have been
recorded by the purchase method with the results of operations included in these consolidated financial statements from the date
of acquisition. The following table summarizes the acquired net assets at fair value:

Assets
Land
Building
Paving and equipment
Intangible above market leases
Intangible acquired in-place lease costs
Customer relationship value

Liabilities
Mortgages payable
Intangible below market leases

Settled by:
Cash
Mortgages receivable

2005

2004

108,689
363,455
36,033
28,205
82,515
6,151

625,048

201,853
6,418

208,271

416,777

401,449
15,328

416,777

90,507
362,031
1,378
21,828
102,953
–

578,697

80,579
9,962

90,541

488,156

426,780
61,376

488,156

HRReit 2005 BACK p12-end 5/5/06 3:11 PM Page 60

N o t e s t o C o n s o l i d a t e d F i n a n c i a l S t a t e m e n t s

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Income Taxes:

24.
The Trust is taxed as a Mutual Fund Trust for Canadian income tax purposes.

In respect of assets and liabilities of the Trust, where income is taxed directly in the hands of the unitholders, the net book value

for accounting purposes of those net assets exceeds their tax basis by an amount of approximately $638,354 (2004 – $591,247).

The Trust has certain subsidiaries in the United States which are subject to tax on their taxable income at a rate of approximately
38%. At December 31, 2005, these subsidiaries had accumulated net operating losses available for carryforward for income tax
purposes of approximately $25,069. These losses expire between 2018 and 2025. The net future tax assets of these corporate
subsidiaries of $7,605 consist of net operating losses and tax and book basis differences relating to United States income properties,
against which a valuation allowance of $7,605 has been recorded.

25. Comparative Figures:
Certain 2004 comparative figures have been reclassified to conform with the financial statement presentation adopted in 2005.

26. Subsequent Events:
(a) In January 2006, the Trust purchased two distribution facilities located in Brampton, Ontario and Calgary, Alberta for cash
consideration of $229,050. The Trust obtained two mortgages totalling $180,113 on these properties.

(b) In February 2006, the Trust purchased a portfolio of four industrial properties in the United States for a total cash consideration
of $30,300.

(c) In March 2006, the Trust and the Property Manager agreed to further amend the Omnibus Property Management Agreement
so that effective January 1, 2006 and for the remaining terms of the agreement, the fees payable by the Trust to the Property
Manager (i) for property management services is reduced from 3% to 2% of gross rental revenue, and (ii) for support services is
reduced from 1% to two-thirds of 1% of the value of real property acquisitions and project development costs, but without the
1% gross revenue limit or the carryforward mechanism. The currently accrued support services fees in the amount of $3.1 million
will be paid out to the Property Manager.

(d) On April 28, 2006, the Trust completed a public offering, issuing 5,985,000 units for gross proceeds of approximately $125,100.

(e) On May 1, 2006, the Trust acquired a 100% undivided interest in a office complex located in Burnaby, British Columbia
which has been leased for a 20 year term to Telus Communications Inc. for cash consideration of approximately $151,000.
A 20 year non-recourse mortgage for $115,500 was secured at the time of closing.

23. Acquisitions:

The following table summarizes the acquired net assets at fair value:

Assets
Land
Building
Paving and equipment
Intangible above market leases
Intangible acquired in-place lease costs
Intangible asset relating to property management contract

Liabilities
Mortgages payable
Intangible below market leases

Net assets acquired and settled by issuance of 5,696,610 Class B units of HRLP,

recorded at the exchange amount

19,526
78,105
731
16,287
21,876
21,400

157,925

59,106
951

60,057

97,868

Assets
Land
Building
Paving and equipment
Intangible above market leases
Intangible acquired in-place lease costs
Customer relationship value

Liabilities
Mortgages payable
Intangible below market leases

Settled by:
Cash
Mortgages receivable

2005

2004

108,689
363,455
36,033
28,205
82,515
6,151

625,048

201,853
6,418

208,271

416,777

401,449
15,328

416,777

90,507
362,031
1,378
21,828
102,953
–

578,697

80,579
9,962

90,541

488,156

426,780
61,376

488,156

H & R R e i t 2 0 0 5 A n n u a l R e p o r t

Corporate Information

Tr u s t e e s a n d O ff i c e r s

U n i t h o l d e r I n f o r m a t i o n

B o a rd o f Tr u s t e e s

O ff i c e r s

Thomas J. Hofstedter
President and
Chief Executive Officer

Eric Cohen
Chief Financial Officer

Nathan Uhr
Vice-President,
Acquisitions

Sandor Hofstedter
Honourary Chairman
and one of the founders
of H&R Developments

Thomas J. Hofstedter1
President and
Chief Executive Officer
H&R Real Estate
Investment Trust

Robert Dickson2
Managing Director
MDC Partners

Edward Gilbert1, 2, 3
Chief Operating Officer
Firm Capital Mortgage
Investment Fund

The Honourable
Robert P. Kaplan, P.C., Q.C.
Business Consultant
Member of Parliament until 1993

Laurence A. Lebovic1, 3
Chief Executive Officer
Runnymede Development
Corporation Ltd.

Ronald C. Rutman2, 3
Partner
Zeifman & Company,
Chartered Accountants

1 Investment Committee
2 Audit Committee
3 Compensation and Governance Committee

H&R Real Estate Investment Trust
3625 Dufferin Street, Suite 500
Downsview, Ontario, Canada
M3K 1N4
Telephone: 416 635 7520
Fax: 416 398 0040
E-mail: info@hr-reit.com
Website: www.hr-reit.com

Registrar and Transfer Agent
CIBC Mellon Trust Company
P.O. Box 7010
Adelaide Street Postal Station
Toronto, Ontario, Canada M5C 2W9
Telephone: 416 643 5500 or
1 800 387 0825
Fax: 416 643 5501
E-mail: inquiries@cibcmellon.com
Website: www.cibcmellon.com

Auditors
KPMG LLP

Legal Counsel
Fraser Milner Casgrain

Investor Information
Analysts, Unitholders, and others
seeking financial data should
contact: Eric Cohen, Chief Financial
Officer (416) 635-7520

Taxability of Distributions
64% of the distributions made by the
REIT to unitholders during 2005
were tax deferred. Management
estimates that between 55% and 65%
of the distributions to be made by the
REIT in 2006 will be tax deferred.

Plan Eligibility
RRSP RRIF DPSP

Stock Exchange Listing
Units of H&R REIT are listed on
the Toronto Stock Exchange under
the trading symbol “HR.UN”.

Annual Meeting of Unitholders
June 23, 2006
3:00 p.m.
Le Royal Meridien
King Edward Hotel
37 King Street East
Toronto, ON
MJC 3E9