THE WESTAIM CORPORATION
ANNUAL REPORT 2017
THE WESTAIM CORPORATION
ANNUAL REPORT 2017
Contents
Letter to Shareholders
Management’s Discussion and Analysis
Management’s Responsibility for Financial Information
Independent Auditor’s Report
Consolidated Financial Statements
Notes to Consolidated Financial Statements
Board of Directors
Shareholder and Corporate Information
1
3
43
44
45
49
69
69
All currency amounts are in United States dollars, unless otherwise indicated.
LETTER TO SHAREHOLDERS
Dear Shareholders:
We are pleased with our fourth quarter and 2017 annual results at both HIIG and the Arena
Group. Both businesses continue to execute their respective business plans and are well
positioned in 2018 to profitably grow and create value for Westaim’s shareholders.
2017 was a significant year for HIIG. Under the leadership of Stephen Way and the HIIG
management team, HIIG reported four quarters of income before income taxes. The global
insurance industry in 2017 felt the severity of mother nature with Hurricanes Harvey, Irma, Jose
and Maria along with wildfires in California, culminating in insured losses reaching an all-time
high. We largely avoided these perils as HIIG was positioned to minimize catastrophe loss
exposure through the use of significant reinsurance. HIIG had 286 full time employees at
December 31, 2017 and its four divisions (Commercial, Specialty, MGU Partners and Accident
& Health) collectively increased Gross Written Premiums by 8% in 2017 with the consolidated
Net Loss and LAE Ratio improving to 70% in 2017 from 84% in the prior year. In addition to
HIIG’s growth, operating improvements are being achieved across the organization, most
notably in HIIG’s expanded claims department which is already starting to realize performance
and cost improvements. Partly as a result of severe industry losses in 2017, HIIG is
experiencing rate increases (they vary by business line) which, coupled with a growing
economy, may provide the backdrop for HIIG to increase retention in the future.
HIIG’s investment portfolio achieved a solid performance in 2017, producing a 4.7% total return
due to investment gains, increases in U.S. interest rates and gains from its investments
managed by Arena. This was realized with a short duration on the fixed income portfolio,
maintaining a 13% public and private equity exposure and a 14% allocation to Arena.
Investments managed by Arena have proven to be a significant driver of returns for HIIG’s
investment portfolio. Currently, HIIG’s investment portfolio is largely liquid and positioned to
respond to opportunities.
In our IFRS consolidated financial statements, the fair value of HIIG was increased from 1.0x
the adjusted book value at December 31, 2016 to 1.1x the adjusted book value at December 31,
2017. The increase in fair value reflected a general improvement in property and casualty
insurance industry conditions, improved outlook for investment returns resulting partially from
higher short term interest rates and a reduction in the U.S. corporate tax rate effective January
1, 2018 as a result of tax reform in the United States.
The insurance industry is experiencing significant consolidation with specialty property and
casualty insurance considered an attractive platform to enter and grow in the U.S. and we are
fortunate to be well positioned with strong partners and Stephen’s leadership.
Arena consists of Arena Investors, Arena Finance and Arena Origination, and in 2017, Arena
enjoyed a breakout year. The Arena business is currently carried on by a group of 46
professionals under the leadership of Dan Zwirn, originating and managing asset-backed credit
investments within a global, multi-strategy mandate. Arena Investors is an asset management
business that manages pools of fee-paying third party capital. Arena’s highly diversified
portfolio has consistently achieved attractive unlevered returns on Westaim’s principal capital
(held within Arena Finance and Arena Origination) and, as a result, Arena Investors is now
- 1 -
receiving investor allocations and substantial interest from institutional and high net worth
investors. Arena Investors’ committed assets under management (“AUM”) (including Arena
Finance and Arena Origination) finished the year at $760 million, up from $380 million a year
ago. We are confident that Arena Investors’ AUM growth will continue in 2018.
Arena Finance and Arena Origination held 139 open investment positions as at December 31,
2017. To provide further insight into how Arena manages Westaim’s capital, the characteristics
of Arena Finance’s loan and private asset positions as at December 31, 2017 were: loan-to-
value of 52% (i.e. approximately 2x asset coverage), approximately 90% first lien, tight
covenants, largely floating rate structures, 1.6 years remaining to maturity, and an average
coupon of 13.2%. These attractive credit characteristics are a direct by-product of Arena
Investors’ origination (versus syndication) abilities – their true alpha. For example, Arena
Investors’ in-house teams, levered with the utilization of 45+ (and growing) hyper aligned joint
venture partners, reviewed over 1,000 opportunities in 2017 and selectively closed on 53.
Essentially, Arena Investors is executing a strategy similar to the mega global private credit
firms while capturing the multitude of credit opportunities sized $100 million and below, a space
in which the larger firms, with $50 billion to $150 billion in credit AUM, do not focus.
Arena’s compelling yield, coupled with the shorter duration provided by Arena portfolios, allows
clients such as insurance companies to maintain a significant short term cash position without
sacrificing yield, and provides them with added capital protection in an environment where
equity and liquid bond markets appear to be trading at record valuation levels. Arena’s
contribution to HIIG’s portfolio has not gone unnoticed by our insurance peers and, in particular,
last June, Westaim welcomed a strategic investment from Fairfax Financial Holdings Limited
with Arena being awarded a material investment allocation. Management believes that Arena is
reaching an inflection point, and is firmly established to create value for Westaim’s shareholders
as we move into 2018.
Finally, the implementation of the tax reform in the U.S., which included a significant reduction in
the U.S. corporate tax rate, is a clear positive for both of our businesses, and in turn for
Westaim shareholders.
On behalf of the Board of Directors, I want to thank Westaim shareholders, employees and our
partners at HIIG and Arena for their ongoing efforts, and we look forward to another rewarding
year in 2018.
Sincerely,
J. Cameron MacDonald,
President and Chief Executive Officer
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The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
TABLE OF CONTENTS
1.
THE COMPANY
2. OVERVIEW OF PERFORMANCE
3.
4.
INVESTMENTS
FINANCING
5. ANALYSIS OF FINANCIAL RESULTS
6. ANALYSIS OF FINANCIAL POSITION
7. OUTLOOK
8.
LIQUIDITY AND CAPITAL RESOURCES
9. RELATED PARTY TRANSACTIONS
10. CRITICAL ACCOUNTING ESTIMATES AND ASSUMPTIONS
11. CRITICAL ACCOUNTING POLICIES AND RECENTLY ADOPTED AND PENDING ACCOUNTING PRONOUNCEMENTS
12. QUARTERLY FINANCIAL INFORMATION
13. RISKS
14. ADDITIONAL ARENA GROUP INVESTMENT SCHEDULES
15. NON-GAAP MEASURES
16. CAUTIONARY NOTE REGARDING FUTURE ORIENTED FINANCIAL INFORMATION
“Westaim” or the “Company” in this Management’s Discussion and Analysis (“MD&A”) refers to The Westaim Corporation on a consolidated basis. This
MD&A, which has been approved by the Board of Directors of Westaim, should be read in conjunction with Westaim’s audited annual consolidated
financial statements including notes for the years ended December 31, 2017 and 2016 as set out on pages 45 to 68 of this annual report. Financial data
in this MD&A has been derived from the audited annual consolidated financial statements for the years ended December 31, 2017 and 2016 and is
intended to enable the reader to assess Westaim’s results of operations for the three months and year ended December 31, 2017 and financial
condition as at December 31, 2017. The Company reports its consolidated financial statements using accounting policies consistent with International
Financial Reporting Standards (“IFRS”). All currency amounts are in United States dollars (“US$”), the functional and presentation currency of the
Company, except per share data, unless otherwise indicated. The following commentary is current as of March 29, 2018. Additional information
relating to Westaim is available on SEDAR at www.sedar.com. Certain comparative figures have been reclassified to conform to the presentation of the
current year, and certain totals, subtotals and percentages may not reconcile due to rounding.
IFRS for Investment Entities
Westaim qualifies as an investment entity under IFRS and uses fair value as the key measure to monitor and evaluate its primary investments. The
Company reports its financial results in accordance with IFRS applicable to investment entities.
Functional and Presentation Currency
The US$ is the functional and presentation currency of the Company. International Accounting Standard 21 “The Effects of Changes in Foreign
Exchange Rates” describes functional currency as the currency of the primary economic environment in which an entity operates. A significant majority
of the Company’s revenues and costs are earned and incurred in US$, respectively.
Non-GAAP Measures
Westaim uses both IFRS and non-generally accepted accounting principles (“non-GAAP”) measures to assess performance. The Company cautions
readers about non-GAAP measures that do not have a standardized meaning under IFRS and are unlikely to be comparable to similar measures used
by other companies. Management believes these measures allow for a more complete understanding of the underlying business. These measures are
used to monitor Westaim's results and should not be viewed as a substitute for those determined in accordance with IFRS. Reconciliations of such
measures to the most comparable IFRS figures are contained in Section 15, Non-GAAP Measures of this MD&A.
- 3 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
Cautionary Statement Regarding the Valuation of Investments in Private Entities
In the absence of an active market for its investments in private entities, fair values for these investments are determined by management using the
appropriate valuation methodologies after considering the history and nature of the business, operating results and financial conditions, outlook and
prospects, general economic, industry and market conditions, capital market and transaction market conditions, contractual rights relating to the
investment, public market comparables, net asset value, discounted cash flow analysis, comparable recent arm’s length transactions, private market
transaction multiples and, where applicable, other pertinent considerations. The process of valuing investments for which no active market exists is
inevitably based on inherent uncertainties and the resulting values may differ from values that would have been used had an active market existed. The
amounts at which the Company's investments in private entities could be disposed of may differ from the fair value assigned and the differences could
be material.
Cautionary Statement Regarding Financial Information of Houston International Insurance Group, Ltd.
Select financial information concerning Houston International Insurance Group, Ltd. (“HIIG”) (the “HIIG Financial Information”) contained in this MD&A is
unaudited and has been derived from the annual consolidated financial statements of HIIG for the years ended December 31, 2017 and 2016 (the “HIIG
Statements”) which have been prepared in accordance with United States generally accepted accounting principles (“US GAAP”). Such statements are
the responsibility of the management of HIIG. The HIIG Financial Information, including any HIIG non-GAAP measures contained therein, has not been
reconciled to IFRS and so may not be comparable to the financial information of issuers that present their financial information in accordance with IFRS.
The HIIG Financial Information should be read in conjunction with Westaim’s historical financial statements including the notes thereto and the related
MD&A as well as Westaim’s other public filings.
The HIIG Financial Information has been provided solely by HIIG. Although Westaim has no knowledge that would indicate that any of the HIIG
Financial Information contained herein is untrue or otherwise misleading, neither Westaim nor any of its directors or officers assumes any responsibility
for the accuracy or completeness of such information, or for any failure by HIIG to disclose to Westaim events or facts which may have occurred or
which may affect the significance or accuracy of any such financial information but which are unknown to Westaim.
Westaim disclaims and excludes all liability (to the extent permitted by law), for losses, claims, damages, demands, costs and expenses of whatever
nature arising in any way out of or in connection with the HIIG Financial Information, its accuracy, completeness or by reason of reliance by any person
on any of it.
Cautionary Statement Regarding Financial Information of the Arena Group
Select financial information concerning the Arena Group (as hereinafter defined) (the “Arena Financial Information”) contained in this MD&A is unaudited
and has been derived from the annual financial statements of the Arena Group for the years ended December 31, 2017 and 2016 which have been
prepared in accordance with either IFRS or US GAAP. Such statements are the responsibility of the management of the Arena Group. The Arena
Financial Information, including any Arena Group non-GAAP measures contained therein, may not be reconciled to IFRS and so may not be
comparable to the financial information of issuers that present their financial information in accordance with IFRS.
The Arena Financial Information should be read in conjunction with Westaim’s historical financial statements including the notes thereto and the related
MD&A as well as Westaim’s other public filings.
The Arena Financial Information has been provided by the Arena Group. Although Westaim has no knowledge that would indicate that any of the Arena
Financial Information contained herein is untrue or otherwise misleading, neither Westaim nor any of its directors or officers assumes any responsibility
for the accuracy or completeness of such information, or for any failure by the Arena Group to disclose to Westaim events or facts which may have
occurred or which may affect the significance or accuracy of any such financial information but which are unknown to Westaim.
Westaim disclaims and excludes all liability (to the extent permitted by law), for losses, claims, damages, demands, costs and expenses of whatever
nature arising in any way out of or in connection with the Arena Financial Information, its accuracy, completeness or by reason of reliance by any person
on any of it.
Future Oriented Financial Information
This MD&A may contain forward-looking statements that involve risks and uncertainties. The Company’s actual results could differ materially from these
forward-looking statements as a result of various factors, including those discussed hereinafter, and in the Company’s Annual Information Form dated
March 29, 2018 for its fiscal year ended December 31, 2017 which is available on SEDAR at www.sedar.com. Please refer to Section 16, Cautionary
Note Regarding Future Oriented Financial Information of this MD&A.
- 4 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
1.
THE COMPANY
The Westaim Corporation (TSXV: WED) is a Canadian investment company specializing in providing long-term capital to businesses operating
primarily within the global financial services industry. The Company invests, directly and indirectly, through acquisitions, joint ventures and other
arrangements, with the objective of providing its shareholders with capital appreciation and real wealth preservation.
Westaim’s strategy is to pursue investment opportunities with a focus towards the global financial services industry and grow shareholder value
over the long term. The Company’s principal investments consist of HIIG (through Westaim HIIG Limited Partnership) and the Arena Group. See
discussion in Section 3, Investments of this MD&A for additional information on these investments.
On April 3, 2017, the Company announced that it had entered into an agreement pursuant to which Fairfax Financial Holdings Limited, through
certain of its subsidiaries (collectively, “Fairfax”), had agreed to make an investment of up to Canadian dollars (“C$”) 100 million in Westaim in
exchange for the issuance by Westaim of 5% interest bearing notes (the “Preferred Securities”) and common share purchase warrants (the
“Warrants”) (collectively, the “Private Placement”). On June 2, 2017, the Company closed an initial subscription by Fairfax of C$50 million of
Preferred Securities and issued 28,571,430 Warrants to Fairfax, with 14,285,715 Warrants having vested on June 2, 2017. See discussion in
Section 4, Financing of this MD&A for additional information on the Private Placement. The Company had discretion until January 1, 2018 to
require Fairfax to purchase all or part of the remaining 5,000,000 Preferred Securities, and had exercised its discretion not to do so. As a result, the
remaining 14,285,715 unvested Warrants were cancelled on January 31, 2018. The proceeds raised from the Fairfax financing were used by
Westaim to make interest bearing loans to the Arena Group. See discussion in Section 3, Investments of this MD&A for additional information on
these loans.
2. OVERVIEW OF PERFORMANCE
Highlights
(millions except share and per share data)
Three months ended December 31
2017
2016
Year ended December 31
2016
2017
Revenue
Net results of investments
Net (expenses) recovery of expenses
Profit (loss) and comprehensive income (loss)
Earnings (loss) per share - basic and diluted
At December 31:
Shareholders’ equity
Number of common shares outstanding
Book value per share - in US$ 1
Book value per share - in C$ 1
$
$
$
$
1.2
9.0
(3.4)
$
0.7
(1.9)
0.3
$
3.7
19.8
(18.0)
6.8
$
(0.9)
$
5.5
$
2.7
(4.0)
(7.0)
(8.3)
0.05
$
(0.01)
$
0.04
$
(0.06)
$
$
$
326.0
143,186,718
2.33
2.92
$
$
$
318.5
143,186,718
2.21
2.97
$
$
$
326.0
143,186,718
2.33
2.92
$
$
$
318.5
143,186,718
2.21
2.97
1 Non-GAAP measure. See Section 15, Non-GAAP Measures of this MD&A. Period end exchange rates: 1.2539 at December 31, 2017 and 1.3427 at December
31, 2016.
Three months ended December 31, 2017 and 2016
The Company reported a profit and comprehensive income of $6.8 million for the three months ended December 31, 2017 (2016 - loss and
comprehensive loss of $0.9 million).
Revenue for the three months ended December 31, 2017 of $1.2 million (2016 - $0.7 million) consisted of interest income of $0.9 million (2016 -
$0.4 million) and advisory fees of $0.3 million (2016 - $0.3 million).
Net results of investments were a gain of $9.0 million for the three months ended December 31, 2017 (2016 - loss of $1.9 million), consisting of an
unrealized gain on the Company’s investments in private entities of $9.5 million (2016 - loss of $1.3 million) and an unrealized gain on other
investments of $0.2 million (2016 - $nil), partially offset by the Company’s share of losses of its Associates (as hereinafter defined) of $0.7 million
(2016 - $0.6 million).
Net expenses for the three months ended December 31, 2017 of $3.4 million (2016 - net recovery of expenses of $0.3 million) consisted of share-
based compensation of $1.1 million (2016 - $0.9 million), professional fees of $0.1 million (2016 - $0.1 million), site restoration provision of $0.4
million (2016 - recovery of $1.5 million), salaries and benefits of $0.2 million (2016 - $0.2 million), general, administrative and other expenses of
$0.3 million (2016 - $0.2 million), a foreign exchange loss of $0.2 million (2016 - gain of $0.2 million), interest on preferred securities of $0.5 million
(2016 - $nil), and an unrealized loss resulting from a change in the fair value of the vested Warrants of $0.6 million (2016 - $nil).
- 5 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
2. OVERVIEW OF PERFORMANCE (continued)
Years ended December 31, 2017 and 2016
The Company reported a profit and comprehensive income of $5.5 million for the year ended December 31, 2017 (2016 - loss and comprehensive
loss $8.3 million).
Revenue for the year ended December 31, 2017 of $3.7 million (2016 - $2.7 million) consisted of interest income of $2.3 million (2016 - $1.3
million) and advisory fees of $1.4 million (2016 - $1.4 million).
Net results of investments were a gain of $19.8 million for the year ended December 31, 2017 (2016 - loss of $4.0 million), consisting of an
unrealized gain on the Company’s investments in private entities of $22.8 million (2016 - loss of $1.6 million) and an unrealized gain on other
investments of $0.4 million (2016 - $nil), partially offset by the Company’s share of losses of its Associates of $3.4 million (2016 - $2.4 million).
Net expenses for the year ended December 31, 2017 of $18.0 million (2016 - $7.0 million) consisted of share-based compensation of $3.8 million
(2016 - $2.6 million), professional fees of $0.7 million (2016 - $0.9 million), site restoration provision of $0.1 million (2016 - recovery of $0.5
million), salaries and benefits of $3.0 million (2016 - $2.8 million), general, administrative and other expenses of $1.1 million (2016 - $1.0 million), a
foreign exchange loss of $1.6 million (2016 - $0.2 million), interest on preferred securities of $1.2 million (2016 - $nil), an expense of $9.0 million
upon initial recognition of the vested Warrants on June 2, 2017 offset in part by unrealized gains of $3.0 million, resulting from a change in the fair
value of the vested Warrants (2016 - $nil), and preferred securities issuance cost of $0.5 million (2016 - $nil).
3.
INVESTMENTS
The Company’s investments in private entities and associates are included under investments in the consolidated statements of financial position.
The Company’s principal investments consist of its investments in HIIG (through Westaim HIIG Limited Partnership (the “HIIG Partnership”)) and
the Arena Group, as follows:
Investments in private entities:
- HIIG Partnership
- Arena Finance
- Arena Origination
Investments in Associates:
- WAHII
- ASOF-ON GP
- ASOF-OFF II GP
Place of
establishment
Principal place
of business
Ownership interest
as at December 31, 2017 and 2016
Ontario, Canada
Ontario, Canada
Delaware, U.S.
Ontario, Canada
Ontario, Canada
New York, U.S.
58.5% owned by Westaim
100% owned by Westaim 1
100% owned by Westaim 2
Delaware, U.S.
Delaware, U.S.
Delaware, U.S.
New York, U.S.
New York, U.S.
New York, U.S.
51% beneficially owned by Westaim, indirectly through WCA 3
51% beneficially owned by Westaim, indirectly through WCA 3
51% beneficially owned by Westaim 3
1 Ownership subject to the vesting and conversion of Class M Units held by Bernard Partners, LLC (as hereinafter defined) described under “Investment in the
Arena Group - Arena Finance”.
2 Ownership subject to the vesting and conversion of Class M Units held by Bernard Partners, LLC described under “Investment in the Arena Group - Arena
Origination”.
3 Legal equity ownership is 100%, and beneficial ownership denotes profit percentage subject to change over time pursuant to the earn-in rights granted to Bernard
Partners, LLC described under “Investment in the Arena Group - Arena Investors”.
For additional information on the Company’s corporate structure, see the Company’s Annual Information Form dated March 29, 2018 for its fiscal
year ended December 31, 2017 which is available on SEDAR at www.sedar.com.
Houston International Insurance Group, Ltd.
The Company indirectly owns a significant interest in HIIG, through the HIIG Partnership, an Ontario limited partnership managed by Westaim
HIIG GP Inc. HIIG is a U.S. based diversified specialty insurance company providing coverage primarily in the United States but also globally for
certain risks. The Company’s investment in HIIG (through the HIIG Partnership) is recorded in investments in private entities included under
investments in the Company’s consolidated financial statements.
Arena Group
The Arena Group consists of the following three businesses:
Arena Investors – WAHII, ASOF-ON GP and ASOF-OFF II GP (collectively, “Arena Investors”) jointly operate as an investment manager
offering clients access to fundamentals-based, asset-oriented credit investments. The Company’s investment in Arena Investors is recorded
as investments in associates included under investments in the Company’s consolidated financial statements.
- 6 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
3.
INVESTMENTS (continued)
Arena Finance – Arena Finance, through Arena Finance Holdings Co., LLC (“AFHC”), a Delaware limited liability company wholly-owned by
Arena Finance, and AFHC’s subsidiaries, is a specialty finance company that primarily purchases fundamentals-based, asset-oriented credit
investments for its own account. The Company’s investment in Arena Finance is recorded as investments in private entities included under
investments in the Company’s consolidated financial statements.
Arena Origination – Arena Origination, through Arena Origination Co., LLC (“AOC”), a Delaware limited liability company wholly-owned by
Arena Origination, facilitates the origination of fundamentals-based, asset-oriented credit investments for its own account and/or possible
future sale to Arena Finance, clients of Arena Investors and/or other third parties. The Company’s investment in Arena Origination is
recorded as investments in private entities included under investments in the Company’s consolidated financial statements.
Arena Investors, Arena Finance and Arena Origination and related entities are collectively referred to as “Arena” or the “Arena Group”.
The following chart illustrates a simplified organizational structure of the Arena Group:
1 Legal equity ownership is 100%, and beneficial ownership denotes profit percentage subject to change over time pursuant to the earn-in rights granted to Bernard
Partners, LLC described under “Investment in the Arena Group - Arena Investors”.
2 Ownership subject to the vesting and conversion of Class M Units held by Bernard Partners, LLC described under “Investment in the Arena Group - Arena
Origination”.
3 Ownership subject to the vesting and conversion of Class M Units held by Bernard Partners, LLC described under “Investment in the Arena Group - Arena
Finance”.
For a detailed discussion of the business of the Arena Group, see the Company’s Annual Information Form dated March 29, 2018 for its fiscal year
ended December 31, 2017 which is available on SEDAR at www.sedar.com.
Accounting for the Company’s Investments
The Company’s investments in private entities consist of its investments in HIIG (through the HIIG Partnership), Arena Finance and Arena
Origination. Westaim qualifies as an investment entity under IFRS and uses fair value as the key measure to monitor and evaluate its primary
investments. Accordingly, the Company’s investments in private entities are accounted for at fair value through profit or loss (“FVTPL”).
- 7 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
3. INVESTMENTS (continued)
In determining the valuation of investments in private entities at December 31, 2017 and 2016, the Company used net asset value as the primary
valuation technique. For a detailed description of the valuation of the Company’s investments in private entities, see note 6 to the Company’s
audited annual consolidated financial statements for the years ended December 31, 2017 and 2016.
The Company’s investments in associates consist of its investment in Arena Investors, including the Company’s indirect investment in WAHII
(through WCA), ASOF-ON GP (through WCA), and its direct investment in ASOF-OFF II GP. WAHII, ASOF-ON GP and ASOF-OFF II GP are
collectively referred to as the “Associates”. The Company’s investments in Associates are accounted for using the equity method and consist of
investments in corporations or limited partnerships where the Company has significant influence.
Changes in the fair value of the Company’s investments in private entities and the Company’s share of profit (loss) and other comprehensive
income (loss) of Associates are reported under “Net results of investments” in the consolidated statements of profit (loss) and comprehensive
income (loss).
Changes in the Company’s investments in private entities are summarized as follows:
Three months ended December 31, 2017
Unrealized
gain
Opening
balance
Ending
balance
Three months ended December 31, 2016
Opening
balance
Unrealized
(loss) gain
Ending
balance
Investments in private entities:
- HIIG Partnership
- Arena Finance 1
- Arena Origination 2
$
$
149.4
150.5
33.9
333.8
$
$
7.7
0.8
1.0
9.5
$
$
157.1
151.3
34.9
343.3
$
$
147.6
141.7
32.5
321.8
$
$
(2.3)
1.1
(0.1)
(1.3)
$
$
145.3
142.8
32.4
320.5
1 Ownership subject to the vesting and conversion of Class M Units held by Bernard Partners, LLC described under “Investment in the Arena Group - Arena
Finance”.
2 Ownership subject to the vesting and conversion of Class M Units held by Bernard Partners, LLC described under “Investment in the Arena Group - Arena
Origination”.
Opening
balance
Year ended December 31, 2017
Repayment
of term loan
Unrealized
gain
Additions
- Equity
Ending
balance
Year ended December 31, 2016
Unrealized
loss
Opening
balance
Ending
balance
Investments in private entities:
- HIIG Partnership
- Arena Finance 1
- Arena Origination 2
$
$
145.3
142.8
32.4
320.5
$
$
-
-
7.0
7.0
$
$
-
-
(7.0)
(7.0)
$ 11.8
8.5
2.5
$ 22.8
$
$
157.1
151.3
34.9
343.3
$
$
146.0
143.1
33.0
322.1
$
$
(0.7)
(0.3)
(0.6)
(1.6)
$
$
145.3
142.8
32.4
320.5
1 Ownership subject to the vesting and conversion of Class M Units held by Bernard Partners, LLC described under “Investment in the Arena Group - Arena
Finance”.
2 Ownership subject to the vesting and conversion of Class M Units held by Bernard Partners, LLC described under “Investment in the Arena Group - Arena
Origination”.
Changes in the Company’s investments in Associates are summarized as follows:
Three months ended December 31
2017
2016
Year ended December 31
2017
2016
$
$
(1.4)
-
14.5
(4.4)
(0.7)
8.0
$
$
1.9
-
-
-
(0.6)
1.3
$
$
1.3
-
14.5
(4.4)
(3.4)
8.0
$
$
3.0
0.3
-
0.4
(2.4)
1.3
Investments in Associates
Opening balance
Additions - Equity
Additions - Loan
(Repayment) addition of advances
Share of loss
Ending balance
A. INVESTMENT IN HIIG
At December 31, 2017, the HIIG Partnership owned approximately 75.0% of the common shares of HIIG (“HIIG Shares”) and the Company
owned, directly and indirectly, approximately 58.5% of the HIIG Partnership, representing an approximate 43.9% indirect ownership interest in
HIIG.
Units of the HIIG Partnership cannot be issued without the prior approval of the unitholders and, in connection with any such issuance, the holders
of units have pre-emptive rights entitling them to purchase their pro rata share of any units that may be so issued.
- 8 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
3.
INVESTMENTS (continued)
(i) Fair Value
The investment in HIIG (through the HIIG Partnership) is accounted for at FVTPL. The fair value of the Company’s investment in the HIIG
Partnership was determined to be $157.1 million and $145.3 million at December 31, 2017 and 2016, respectively.
Management used net asset value as the primary valuation technique to arrive at the fair value of the Company’s investment in the HIIG
Partnership of $157.1 million at December 31, 2017. The fair value of the HIIG Partnership at December 31, 2017 was derived from a valuation of
the HIIG Shares owned by the HIIG Partnership and other net assets of the HIIG Partnership at December 31, 2017. The carrying values of the
HIIG Partnership’s other net assets, consisting of monetary assets including cash and cash equivalents, accounts receivable, accounts payable
and accrued liabilities, approximate their fair values due to the short maturity of these financial instruments. In valuing the HIIG Shares,
management determined that using net asset value as the primary valuation technique produced the best indicator of the fair value of the HIIG
Shares as at December 31, 2017 and 2016, given that this is the valuation technique which a market participant would employ.
In valuing the HIIG Shares, using net asset value as the primary valuation technique, fair value was determined to be 1.1x the adjusted book value
(or adjusted Stockholders’ Equity) of HIIG as at December 31, 2017. The adjusted book value of HIIG as at December 31, 2017 reflected 100% of
HIIG stockholders’ equity obtained from the audited financial statements of HIIG for the year ended December 31, 2017 prepared in accordance
with United States generally accepted accounting principles (“US GAAP”), adjusted for a reclassification of a stock notes receivable from
employees relating to their purchase of HIIG Shares. The adjusted book value contained certain significant judgments and estimates made by
management of HIIG including the provision for loss and loss adjustment expenses (LAE), the valuation of goodwill and intangible assets, and the
valuation allowance recorded against deferred income tax assets. The multiple applied to HIIG’s adjusted Stockholders’ Equity increased from
1.0x at December 31, 2016 to 1.1x at December 31, 2017, after giving consideration to a general improvement in property and casualty insurance
industry conditions, improved investment returns resulting from higher interest rates and a reduction in the U.S. corporate tax rate effective
January 1, 2018 as a result of tax reform in the United States.
Management considers other secondary valuation methodologies as a way to ensure no significant contradictory evidence exists that would
suggest an adjustment to the fair value as determined by the primary valuation methodology used. In order to do this, the Company may also
consider valuation techniques including the discounted cash flow method, the review of comparable arm’s length transactions involving other
specialty property and casualty insurance companies and comparable publicly traded company valuations. For greater certainty, these secondary
valuation techniques were not used to arrive at the fair value of the Company’s investment in the HIIG Partnership at the end of each reporting
period.
The Company recorded an unrealized gain of $7.7 million and an unrealized loss of $2.3 million in the three months ended December 31, 2017
and 2016, respectively, and an unrealized gain of $11.8 million and an unrealized loss of $0.7 million in the years ended December 31, 2017 and
2016, respectively, on its investment in the HIIG Partnership.
(ii) Select Financial Information of HIIG for the years ended December 31, 2017 and 2016
The Company considers certain financial results of HIIG to be important measures for investors in assessing the Company’s financial position and
performance. In particular, premium volumes provide a measure of HIIG’s growth; “net loss and LAE ratio” (calculated by dividing net loss and
loss adjustment expenses by net earned premiums) and “combined ratio” (calculated by dividing the aggregate of net loss and loss adjustment
expenses, net policy acquisition expenses and net operating expenses by net earned premiums) provide measures of HIIG’s underwriting
profitability; net income provides a measure of HIIG’s overall profitability; and stockholders’ equity is a measure that is generally used by investors
to determine the value of insurance companies.
In the second quarter of 2016, the management of HIIG modified the reporting segments of HIIG to better align the business HIIG writes with the
presentation of other specialty property and casualty insurers in the United States. Comparative figures have been reclassified to conform to the
presentation of the current period. The reporting segments are as follows:
Commercial - premiums from standard property and casualty lines underwritten by HIIG generally on an admitted basis for which rate filings are
generally required. This segment includes insurance related to workers’ compensation, construction, security firms and pest control operators.
Specialty - premiums underwritten by HIIG generally on non-admitted or surplus lines basis for which rate filings are generally not required.
This segment includes HIIG’s energy division, professional lines, transactional property, hospitality, and commercial auto business.
MGU Partners - premiums from contracted managing general underwriters predominantly in specialty insurance lines. This segment includes
primarily managing general underwriters (“MGUs”) serving artisan contractors, lawyers E&O insurance, and auto dealerships.
Accident and Health - premiums underwritten for medical stop loss business.
Non-continuing lines - represent lines of business no longer underwritten by HIIG.
- 9 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
3.
INVESTMENTS (continued)
Set out in the table below is certain select financial information relating to HIIG. The HIIG Financial Information is unaudited and has been derived
from the supporting schedules to the annual consolidated financial statements of HIIG for the years ended December 31, 2017 and 2016 which
have been prepared in accordance with US GAAP. Such statements are the responsibility of the management of HIIG. Readers are cautioned
that the HIIG financial information has not been reconciled to IFRS and so may not be comparable to the financial information of issuers that
present their financial information in accordance with IFRS.
(unaudited)
(millions except for percentage)
Income Statement
Gross written premiums
Net written premiums
Net earned premiums
Net income (loss) before
U.S. Tax Reform 1
related income adjustment
Net loss
Combined ratio
Select Information
Gross written premiums:
Commercial
Specialty
MGU Partners
Accident and Health
Non-continuing lines
Net written premiums:
Commercial
Specialty
MGU Partners
Accident and Health
Non-continuing lines
Net earned premiums:
Commercial
Specialty
MGU Partners
Accident and Health
Non-continuing lines
Net Loss and LAE Ratio:
Commercial
Specialty
MGU Partners
Accident and Health
Non-continuing lines
$
$
$
$
$
$
$
$
$
$
$
Three months ended December 31
Year ended December 31
2017
2016
2017
2016
$
$
$
$
$
$
$
$
$
$
$
143.4
64.0
64.9
7.4
(14.7)
102.0%
21.7
66.0
36.4
19.3
-
143.4
11.9
33.3
11.9
6.9
-
64.0
11.2
32.0
14.8
6.9
-
64.9
98.5%
53.3%
63.9%
76.8%
n.m. 2
66.7%
$
$
$
$
$
$
$
$
$
$
$
127.2
67.6
70.8
(4.2)
(4.2)
170.3%
19.2
54.2
32.7
21.0
0.1
127.2
10.5
24.5
22.1
10.4
0.1
67.6
11.3
25.4
23.6
10.4
0.1
70.8
287.7%
96.8%
72.7%
98.6%
n.m. 2
124.5%
$
$
$
$
$
$
$
$
$
$
$
575.3
257.7
265.7
16.6
(5.5)
101.5%
96.5
268.4
131.9
78.5
-
575.3
49.4
125.1
54.5
30.0
(1.3)
257.7
47.7
115.6
73.7
30.0
(1.3)
265.7
91.2%
55.7%
66.6%
89.0%
n.m. 2
69.8%
534.2
286.5
310.4
(7.3)
(7.3)
120.7%
83.2
230.2
134.8
86.0
-
534.2
45.0
102.7
92.6
47.5
(1.3)
286.5
48.0
115.9
100.3
47.5
(1.3)
310.4
124.6%
77.6%
64.5%
86.0%
n.m. 2
83.9%
Balance Sheet Information
Investments, cash and cash equivalents
Stockholders’ equity
December 31, 2017
$
$
613.2
318.9
December 31, 2016
$
$
635.8 3
324.7
1 Tax reform in the United States (“U.S. Tax Reform”) reduces the U.S. corporate federal income tax rate from 35% to 21% effective January 1, 2018. This rate
reduction resulted in a decrease in HIIG’s deferred tax asset at December 31, 2017 and HIIG’s net income for the three months and year ended December 31,
2017 by $22.1 million.
2 Not material or meaningful, but included in the aggregate numbers.
3 Adjusted to conform to the presentation of the current year.
- 10 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
3.
INVESTMENTS (continued)
Gross written premiums - Gross written premiums was $143.4 million for the three months ended December 31, 2017 compared to $127.2
million for the three months ended December 31, 2016, an increase of 12.7%, and $575.3 million for the year ended December 31, 2017
compared to $534.2 million for the year ended December 31, 2016, an increase of 7.7%. The increase in gross written premiums in the three
months ended December 31, 2017 compared to the same period in the prior year was driven primarily by growth in the Commercial, Specialty and
MGU Partners segments, partially offset by a decrease in gross written premiums in the Accident and Health (“A&H”) segment. The increase in
gross written premiums in the year ended December 31, 2017 compared to the prior year was driven primarily by growth in the Commercial and
Specialty segments, partially offset by reductions in gross written premiums in the MGU Partners and A&H segments.
Net written premiums - Net written premiums was $64.0 million for the three months ended December 31, 2017 compared to $67.6 million for the
three months ended December 31, 2016, a decrease of 5.3%, and $257.7 million for the year ended December 31, 2017 compared to $286.5
million for the year ended December 31, 2016, a decrease of 10.1%, resulting from an increased use of proportional reinsurance in all segments.
Net earned premiums - Net earned premiums was $64.9 million for the three months ended December 31, 2017 compared to $70.8 million for the
three months ended December 31, 2016, a decrease of 8.3%, and $265.7 million for the year ended December 31, 2017 compared to $310.4
million for the year ended December 31, 2016, a decrease of 14.4%. The decrease in net earned premiums was attributed to HIIG’s increased
use of proportional reinsurance in all segments.
Overall net loss and LAE ratio - The overall net loss and LAE ratio was 66.7% for the three months ended December 31, 2017 compared to
124.5% for the same period in the prior year, and 69.8% for the year ended December 31, 2017 compared to 83.9% for the prior year. HIIG
recorded reserve strengthening for prior years of $0.2 million and $8.8 million in the three months and year ended December 31, 2017,
respectively, compared to $33.3 million and $58.2 million in the three months and year ended December 31, 2016, respectively. In addition, HIIG
recorded catastrophe losses, net of reinsurance, related to hurricanes Harvey, Irma and Maria of $1.9 million in the year ended December 31,
2017.
In the three months ended December 31, 2017, reserve strengthening for prior years was not material. In the three months ended December 31,
2016, HIIG had a reserve redundancy of $1.2 million in the A&H segment, and a reserve strengthening of $17.7 million in the Commercial
segment, $14.6 million in the Specialty segment and $2.2 million in other segments.
In the year ended December 31, 2017, HIIG had a reserve strengthening of $5.1 million in the Commercial segment, $1.5 million in the MGU
Partners segment and $2.8 million in the A&H segment, and a reserve redundancy of $0.6 million in other segments. In the year ended December
31, 2016, HIIG had a reserve strengthening of $24.6 million in the Commercial segment, $27.3 million in the Specialty segment, $2.4 million in the
A&H segment and $3.9 million in other segments.
Operating results - HIIG recorded a net loss of $14.7 million for the three months ended December 31, 2017 compared to a net loss of $4.2
million for the three months ended December 31, 2016, and a net loss of $5.5 million for the year ended December 31, 2017 compared to a net
loss of $7.3 million for the year ended December 31, 2016.
Operating results were impacted by the following:
Income increased (decreased) by:
Reserve strengthening for prior years
Reduction in earn-out liabilities payable - prior acquisitions
Goodwill impairment - prior acquisitions
Income tax
- U.S. Tax Reform
- Reduction in valuation allowance against deferred tax asset
Three months ended
December 31,2017
Three months ended
December 31,2016
After tax
Pre tax
After tax
Pre-tax
$
$
(0.1)
3.4
-
(22.1)
-
(18.8)
$
$
(0.2)
3.4
-
-
-
3.2
$
(21.6)
9.8
(6.8)
-
27.4
8.8
$
$
$
(33.3)
9.8
(6.8)
-
-
(30.3)
- 11 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
3. INVESTMENTS (continued)
Income increased (decreased) by:
Reserve strengthening for prior years
Reduction in earn-out liabilities payable - prior acquisitions
Goodwill impairment - prior acquisitions
Catastrophe losses
Income tax
- U.S. Tax Reform
- Reduction in valuation allowance against deferred tax asset
Year ended
December 31,2017
Year ended
December 31,2016
After tax
Pre tax
After tax
Pre-tax
$
$
(5.7)
6.5
-
(1.2)
(22.1)
-
(22.5)
$
$
(8.8)
6.5
-
(1.9)
-
-
(4.2)
$
$
(37.8)
9.8
(6.8)
-
-
27.4
(7.4)
$
$
(58.2)
9.8
(6.8)
-
-
-
(55.2)
Stockholders’ equity - HIIG stockholders’ equity decreased to $318.9 million at December 31, 2017 from $324.7 million at December 31, 2016.
The decrease of $5.8 million resulted from HIIG’s net loss for the year of $5.5 million and a net repurchase of the shares and settlement of loans
from their employees’ share purchase plan of $0.8 million, partially offset by an increase in the unrealized gains on HIIG’s investment portfolio for
the year (net of income taxes) of $0.5 million.
B. INVESTMENT IN THE ARENA GROUP
The Arena Group makes and manages fundamentals-based, asset-oriented credit investments. Fundamentals-based, asset-oriented credit
investments refer to loans or credit arrangements which are generally secured by assets. These assets could include hard assets such as real
estate, inventory, vehicles, aircraft, watercraft, oil and gas reserves, or a borrower’s plant and equipment and other hard assets, or soft assets
such as securities, receivables, contractual income streams, and certain intellectual property assets. Fundamentals-based, asset-oriented lenders
and investors manage their risk and exposure by carefully assessing the value of the assets securing the loan or investment, receiving periodic
and frequent reports on collateral value and the status of those assets, and tracking the financial performance of borrowers.
The Arena Group seeks to capitalize on opportunities in both private as well as public investments subject to approved investment policies. These
investment strategies include:
Corporate Private Credit
Senior private corporate debt, bank debt, including secondary market bank debt, distressed debt such as senior secured bank debt before or
during a Chapter 11 bankruptcy filing, bridge loans/transition financing, debtor-in-possession (“DIP”) financings, junior secured loans, junior capital
to facilitate restructurings, equity co-investments or warrants alongside corporate loans.
Real Estate Private Credit and Real Estate Assets
Real property, secured or unsecured mezzanine financings, DIP loans, “A-tranche” loans (senior secured loans) and “B-tranche” loans (junior
secured loans) for real estate properties requiring near-term liquidity, structured letters of credit, real estate loans secured by office buildings, retail
centers, hotels, land, single family homes, multi-family apartments, condominium towers, hospitality providers, health care service providers, and
corporate campuses, leases and lease residuals.
Commercial & Industrial Assets
Commercial receivables, investments in entities (including start-up businesses) engaged, or to be engaged, in activities or investments such as
distressed commercial and industrial loans, commercial and industrial assets such as small-scale asset-based loans, trade claims and vendor
puts, specialized or other types of equipment leases and machinery, non-performing loans globally, hard assets (including airplanes and
components, industrial machinery), commodities (physical and synthetic), reinsurance and premium finance within life and property casualty
insurance businesses, legal-related finance including law firm loans, settled and appellate judgments and probate finance, royalties, trust
certificates, intellectual property and other financial instruments that provide for the contractual or conditional payment of an obligation.
Structured Finance Investments
Thinly traded or more illiquid loans and securities backed by mortgages (commercial and residential), other small loans including equipment
leases, auto loans, commercial mortgage-backed securities, residential mortgage-backed securities, manufactured housing-backed securities,
collateralized loan obligations, collateralized debt obligations, other structured credits and consumer credit securitizations, aviation and other
leased asset securitizations, esoteric asset securitization, revenue interests, synthetics, and catastrophe bonds.
- 12 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
3.
INVESTMENTS (continued)
Consumer Assets
Auto and title loans, credit cards, consumer installment loans, charged-off consumer obligations, consumer bills, consumer receivables, product-
specific purchase finance, residential mortgages, tax liens, real estate owned homes, other consumer credit securitizations, retail purchase loans
and unsecured consumer loans as well as distressed or charged-off obligations of all of these types, peer-to-peer originated loans of all types,
manufactured housing, and municipal consumer obligations.
Other Securities
Hedged and unhedged investments in public securities (including public real estate), preferred stock, common stock, municipal bonds, senior
public corporate debt, corporate bonds including bonds in liquidation or out-of-court exchange offers and trade claims of distressed companies in
anticipation of a recapitalization, private investment in public equity, other industry relative value, merger arbitrage in transactions such as
mergers, hedged investments in regulated utilities, integrated utilities, merchant energy providers, acquisitions, tender offers, spin-offs,
recapitalizations and Dutch auctions, event-driven relative value equity investments in transactions such as corporate restructurings, strategic
block, other clearly defined event, high-yield bonds, credit arbitrage and convertible bond arbitrage, in/post-bankruptcy equities, demutualizations,
liquidations and litigation claims, real estate securities, business development companies, master limited partnership interests, royalty trusts,
publicly traded partnerships, options and other equity derivatives.
Arena Finance
Arena Finance is a specialty finance company that primarily purchases fundamentals-based, asset-oriented credit investments for its own account.
Arena Finance, through its subsidiaries, uses funds to primarily acquire loans and/or other credit investments from Arena Origination or other third
parties at their fair market value. Arena Finance does not have a target range of investment; the size of the loans and/or other credit investments
acquired from Arena Origination or other third parties depends on, among other things, any diversity requirements which may be imposed by any
lender as well as the investment policy of Arena Finance. In the absence of such requirements, Arena Finance is not subject to concentration
limitations but the management of Arena Finance will use its best judgment as to what is prudent in the circumstances. Arena Finance seeks to
capitalize on opportunities in both private and public investments subject to its investment policy.
Before acquiring any such loans or other investments, Arena Finance reviews the nature of the loan, the creditworthiness of the borrower, the
nature and extent of any collateral and the expected return on such loan or investment. Arena Finance acquires such loans or investments based
on its assessment of the fair market value of the investment at the time of purchase.
On June 9, 2017, the Company used part of the proceeds from the Fairfax financing to loan C$30 million to AFHC (the “AFHC Loan”) on market
terms. The AFHC Loan is denominated in C$, repayable on demand (with a final repayment date not later than June 9, 2022) and secured by the
assets of AFHC. The AFHC Loan carries interest at a rate of 4.5% per annum plus the greater of (i) 3-month LIBOR and (ii) 1%, with the
applicable rate adjusted at the beginning of each quarter. Interest is due at the end of each calendar quarter. On December 21, 2017, AFHC
made a principal repayment of C$20 million to the Company. The AFHC Loan is translated into US$ at rates of exchange at the end of each
reporting period and any resulting foreign exchange gain or loss is included in the consolidated statements of profit (loss) and comprehensive
income (loss). At December 31, 2017, the US$ converted value of the AFHC Loan was $8.0 million. The Company recorded an unrealized
foreign exchange loss relating to the AFHC Loan of $0.5 million for the three months ended December 31, 2017 and a foreign exchange gain of
$1.4 million (realized - $0.8 million; unrealized - $0.6 million) in the year ended December 31, 2017. AFHC has used the loan proceeds for
investment purposes.
The primary revenue of Arena Finance, through its subsidiaries, consists of interest income, dividend income and/or fees earned on the credit
investments that it acquires. The operating results of Arena Finance also include gain (loss) on its investments.
Rights Granted to Bernard Partners, LLC
On August 31, 2015, Arena Finance and Bernard Partners, LLC (“BP LLC”), a limited liability company controlled by certain members of the Arena
Group management team, entered into a limited liability company agreement in respect of AFHC (the “AFHC LLC Agreement”) setting forth each
of Arena Finance’s and BP LLC’s respective rights and obligations as members of AFHC. Under the AFHC LLC Agreement, BP LLC was issued
Class M units which are convertible into Class A units, entitling BP LLC to acquire an equity interest of up to 20% (16.67% on a fully-diluted basis)
in AFHC. The Class M units vest equally over 5 years from August 31, 2015 and carry escalating conversion prices which are in excess of the
price paid by the Company for its investment in AFHC (through Arena Finance). At December 31, 2017, no value was attributable to the Class M
units. No Class M units were converted into Class A units in the years ended December 31, 2017 and 2016.
Accounting for Arena Finance
The investment in Arena Finance is accounted for at FVTPL and is included in investments in private entities. The fair value of the Company’s
investment in Arena Finance was determined to be $151.3 million and $142.8 million at December 31, 2017 and 2016, respectively.
- 13 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
3.
INVESTMENTS (continued)
Management used net asset value as the primary valuation technique and arrived at the fair value of the Company’s investment in Arena Finance
of $151.3 million at December 31, 2017. In valuing Arena Finance, using net asset value as the primary valuation technique, fair value was
determined to be 1.0x the book value, or 100% of the shareholder’s equity, of Arena Finance as at December 31, 2017. The Company determined
that the shareholder’s equity of Arena Finance at December 31, 2017 in the amount of $151.3 million approximated the fair value, as the value of
the Company’s investment in Arena Finance was, through its subsidiaries, composed largely of cash and cash equivalents and investments,
carried at fair value at December 31, 2017. This same basis of valuation was used to determine the fair value of the Company’s investment in
Arena Finance of $142.8 million at December 31, 2016.
Management considers other secondary valuation methodologies as a way to ensure no significant contradictory evidence exists that would
suggest an adjustment to the fair value as determined by the primary valuation methodology used. In order to do this, the Company may also
consider valuation techniques including the review of comparable arm’s length transactions involving other specialty finance companies and
comparable publicly traded company valuations. For greater certainty, these secondary valuation techniques were not used to arrive at the fair
value of the Company’s investment in Arena Finance at the end of each reporting period.
The Company recorded unrealized gains of $0.8 million and $1.1 million in the three months ended December 31, 2017 and 2016, respectively,
and an unrealized gain of $8.5 million and an unrealized loss of $0.3 million in the years ended December 31, 2017 and 2016, respectively, on its
investment in Arena Finance.
Select Financial Information of Arena Finance
The Company considers certain financial results of Arena Finance, its subsidiary AFHC, and AFHC’s subsidiaries to be important measures in
assessing the Company’s financial position and performance, in particular, the net assets which can be invested to generate investment income,
and operating expenses. Select financial information related to Arena Finance, AFHC and AFHC’s subsidiaries set out below is unaudited and has
been derived from the financial statements of Arena Finance and the consolidated financial statements of AFHC for the years ended December
31, 2017 and 2016, which have been prepared in accordance with IFRS or US GAAP. Such statements are the responsibility of the management
of Arena Finance and AFHC. Readers are cautioned that the financial information has not been reconciled to IFRS and so may not be
comparable to the financial information of issuers that present their financial information in accordance with IFRS.
A summary of the net assets of AFHC and AFHC’s subsidiaries is as follows:
(unaudited)
(millions except for percentage)
Cash and cash equivalents
Due from brokers, net
Investments:
Loans / Private assets
Bonds
Equity securities
Private investment in public equity
Fund investment
Secondary bank debt
December 31, 2017
December 31, 2016
Percentage of
net assets at
fair value
14.3%
3.7%
$
Fair value
30.5
11.7
Percentage of
net assets at
fair value
21.3%
8.2%
$
Fair value
21.7
5.6
118.2
0.7
5.3
8.6
0.8
-
133.6
77.8%
0.5%
3.5%
5.6%
0.6%
-
88.0%
93.8
1.4
1.4
1.3
-
7.3
105.2
65.5%
1.0%
1.0%
0.9%
-
5.1%
73.5%
-
(3.0)%
100.0%
Loan payable to Westaim
Other net liabilities
Net assets of AFHC and AFHC’s subsidiaries
(8.0)
(1.1)
151.8
$
(5.3)%
(0.7)%
100.0%
-
(4.4)
143.0
$
Due from brokers consists of cash balances as well as net amounts due from brokers for unsettled securities transactions. Bonds and equity
securities are net of short positions. In the normal course of AFHC’s operations, AFHC enters into currency hedges to reduce its foreign currency
exposure.
For additional information on the investments of AFHC and AFHC’s subsidiaries, see Section 14, Additional Arena Group Investment Schedules of
this MD&A.
- 14 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
3.
INVESTMENTS (continued)
A summary of the operating results of Arena Finance, AFHC and AFHC’s subsidiaries attributable to the Company is as follows:
(unaudited)
(millions)
Operating results of AFHC and AFHC’s subsidiaries:
Investment income, net
Gain on investments
Operating expenses:
Administrative and service fees
Interest expense 1
Other operating expenses
Operating results of Arena Finance:
Operating expenses:
Other operating expenses
Deferred income tax recovery
Operating results of Arena Finance,
AFHC and AFHC’s subsidiaries
1 Demand loan owed by AFHC to Westaim.
Three months ended December 31
2017
2016
Year ended December 31
2016
2017
$
$
2.7
0.4
(1.4)
(0.3)
(0.6)
0.8
-
-
-
$
1.9
1.2
(1.4)
-
(0.5)
1.2
(0.1)
-
(0.1)
$
11.2
5.2
(5.6)
(0.7)
(1.4)
8.7
(0.2)
-
(0.2)
$
0.8
$
1.1
$
8.5
$
5.2
2.5
(6.6)
-
(1.5)
(0.4)
(0.3)
0.4
0.1
(0.3)
The following table shows a continuity of the carrying value of the Company’s investment in Arena Finance included in the Company’s investments
in private entities is as follows:
(unaudited)
(millions)
Carrying value of Arena Finance:
Opening balance
Unrealized gain (loss)
Ending balance
Arena Origination
Three months ended December 31
2017
2016
Year ended December 31
2016
2017
$
$
150.5
0.8
151.3
$
$
141.7
1.1
142.8
$
$
142.8
8.5
151.3
$
$
143.1
(0.3)
142.8
Arena Origination is a specialty finance company that, through its subsidiary AOC, originates fundamentals-based, asset-oriented credit
investments for its own account and/or possible future sale to Arena Finance, clients of Arena Investors and/or third parties. Arena Origination is a
taxable C-Corporation established in the state of Delaware and AOC is a U.S. based limited liability company established in the state of Delaware.
Arena Origination invests in both debt and equity instruments, with an emphasis on debt instruments comprised of multiple investment strategies
including, but not limited to, corporate private credit, real estate private credit and real estate assets, commercial & industrial assets, structured
finance investments, consumer assets, and other securities. Arena Origination does not have a target range of investment; the size of the loans
and/or other credit investments originated depends on, among other things, any diversity requirements which may be imposed by any lender as
well as the investment policy of AOC. In the absence of such requirements, Arena Origination is not subject to concentration limitations but the
management of Arena Origination will use its best judgment as to what is prudent in the circumstances. Arena Origination seeks to capitalize on
opportunities in both private and public investments subject to its investment policy.
Before originating any such loans or other investments, Arena Origination reviews the nature of the loan, the creditworthiness of the borrower, the
nature and extent of any collateral and the expected return on such loan or investment. Arena Origination originates such loans or investments
based on its assessment of the fair market value of the investment at the time of purchase.
On June 6, 2017, the Company made an additional equity investment of $7.0 million in Arena Origination by acquiring additional common shares
of Arena Origination.
In connection with the original capitalization of Arena Origination, the Company loaned $17 million to Arena Origination on August 31, 2015. The
loan has a seven year term to August 31, 2022, is unsecured and carries interest at a rate of 7.25% per annum, with interest due on January 1 of
each year during the term. On June 6, 2017, Arena Origination repaid $7 million of the term loan to Westaim, with a remaining balance of $10
million outstanding at December 31, 2017.
- 15 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
3.
INVESTMENTS (continued)
On June 9, 2017, the Company used part of the proceeds from the Fairfax financing to loan C$20 million to AOC (the “AOC Loan”) on market
terms. The AOC Loan is denominated in C$, repayable on demand (with a final repayment date not later than June 9, 2022) and secured by the
assets of AOC. The AOC Loan carries interest at a rate of 4.5% per annum plus the greater of (i) 3-month LIBOR and (ii) 1%, with the applicable
rate adjusted at the beginning of each quarter. Interest is due at the end of each calendar quarter. The AOC Loan is translated into US$ at rates
of exchange at the end of each reporting period and any resulting foreign exchange gain or loss is included in the consolidated statements of profit
(loss) and comprehensive income (loss). At December 31, 2017, the US$ converted value of the AOC Loan was $15.9 million. The Company
recorded an unrealized foreign exchange loss relating to the AOC Loan of $0.1 million for the three months ended December 31, 2017 and an
unrealized foreign exchange gain relating to the AOC loan of $1.1 million in the year ended December 31, 2017. AOC has used the loan proceeds
for investment purposes.
The primary revenue of Arena Origination, through AOC, consists of interest income, dividend income and/or investment-related fees earned on
the credit investments that it originates. The operating results of Arena Origination also include gain (loss) on its investments.
Rights Granted to BP LLC
On August 31, 2015, Arena Origination and BP LLC entered into a limited liability company agreement in respect of AOC (the “AOC LLC
Agreement”) setting forth each of Arena Origination’s and BP LLC’s respective rights and obligations as members of AOC. Under the AOC LLC
Agreement, BP LLC was issued Class M units which are convertible into Class A units, entitling BP LLC to acquire an equity interest of up to 20%
(16.67% on a fully-diluted basis) in AOC. The Class M units vest equally over 5 years from August 31, 2015 and carry escalating conversion
prices which are in excess of the price paid by the Company for its investment in AOC (through Arena Origination). On June 5, 2017, a cash
distribution of $0.93 per Class A unit, totaling $3.2 million, was made by AOC to Arena Origination, and in accordance with the AOC LLC
Agreement, the escalating conversion prices of the Class M units were correspondingly reduced by $0.93 per Class M unit. At December 31,
2017, the fair value of AOC attributable to the Class M units was nominal. No Class M units were converted into Class A units in the years ended
December 31, 2017 and 2016.
Accounting for Arena Origination
The investment in Arena Origination is accounted for at FVTPL and is included in investments in private entities. The fair value of the Company’s
investment in Arena Origination was determined to be $34.9 million and $32.4 million at December 31, 2017 and 2016, respectively.
Management used net asset value as the primary valuation technique and arrived at the fair value of the Company’s investment in Arena
Origination of $34.9 million at December 31, 2017. In valuing Arena Origination, using net asset value as the primary valuation technique,
management determined that 1.0x the book value, or 100% of the shareholder’s equity, of Arena Origination of $24.9 million at December 31,
2017 and the fair value of the term loan of $10 million, totaling $34.9 million, approximated the fair value of the Company’s investment in Arena
Origination. The Company’s investment in Arena Origination, through AOC, was composed largely of cash and cash equivalents and investments,
carried at fair value at December 31, 2017. This same basis of valuation was used to determine the fair value of the Company’s investment in
Arena Origination of $32.4 million at December 31, 2016.
Management considers other secondary valuation methodologies as a way to ensure no significant contradictory evidence exists that would
suggest an adjustment to the fair value as determined by the primary valuation methodology used. In order to do this, the Company may also
consider valuation techniques including the review of comparable arm’s length transactions involving other specialty finance companies and
comparable publicly traded company valuations. For greater certainty, these secondary valuation techniques were not used to arrive at the fair
value of the Company’s investment in Arena Origination at the end of each reporting period.
The Company recorded an unrealized gain of $1.0 million and an unrealized loss of $0.1 million in the three months ended December 31, 2017
and 2016, respectively, and an unrealized gain of $2.5 million and an unrealized loss of $0.6 million in the years ended December 31, 2017 and
2016, respectively, on its investment in Arena Origination.
Select Financial Information of Arena Origination
The Company considers certain financial results of Arena Origination and its subsidiary, AOC, to be important measures in assessing the
Company’s financial position and performance, in particular, the net assets which can be invested to generate investment income, and operating
expenses. Select financial information related to Arena Origination and AOC set out below is unaudited and has been derived from the financial
statements of Arena Origination and AOC for the years ended December 31, 2017 and 2016, which have been prepared in accordance with IFRS
or US GAAP. Such statements are the responsibility of the management of Arena Origination and AOC. Readers are cautioned that the financial
information has not been reconciled to IFRS and so may not be comparable to the financial information of issuers that present their financial
information in accordance with IFRS.
- 16 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
3.
INVESTMENTS (continued)
A summary of the net assets of AOC is as follows:
(unaudited)
(millions except for percentage)
Cash and cash equivalents
Due from brokers, net
Investments:
Loans / Private assets
Bonds
Equity securities
Private investment in public equity
Loan payable to Westaim
Other net assets (liabilities)
Net assets of AOC
December 31, 2017
December 31, 2016
$
Fair value
7.3
2.7
36.9
0.2
1.3
2.9
41.3
(15.9)
0.2
35.6
$
Percentage of
net assets at
fair value
20.6%
7.7%
103.6%
0.6%
3.8%
8.1%
116.1%
(44.8)%
0.4%
100.0%
Fair value
$
8.1
7.5
18.2
0.4
0.3
-
18.9
-
(0.1)
34.4
$
Percentage of
net assets at
fair value
23.5%
21.8%
52.8%
1.0%
1.0%
-
54.8%
-
(0.1)%
100.0%
Due from brokers consists of cash balances as well as net amounts due from brokers for unsettled securities transactions. Bonds and equity
securities are net of short positions. In the normal course of AOC’s operations, AOC enters into currency hedges to reduce its foreign currency
exposure.
For additional information on the investments of AOC, see Section 14, Additional Arena Group Investment Schedules of this MD&A.
The following table shows a summary of the operating results of Arena Origination and AOC attributable to the Company:
(unaudited)
(millions)
Operating results of AOC:
Investment income, net
Gain on investments
Operating expenses:
Administrative and service fees
Interest expense 1
Other operating expenses
Amount attributable to Class M units
Amount attributable to Arena Origination
Operating results of Arena Origination:
Operating expenses:
Interest expense 2
Other operating expenses
Income taxes
Operating results of Arena Origination and AOC
$
attributable to Arena Origination
1 Demand loan owed by AOC to Westaim.
2 Term loan owed by WOH to Westaim.
Three months ended December 31
2017
2016
Year ended December 31
2016
2017
$
$
1.1
1.5
-
(0.3)
(0.4)
1.9
0.1
1.8
(0.2)
-
(0.6)
(0.8)
$
0.7
0.2
-
-
(0.5)
0.4
-
0.4
(0.3)
(0.2)
-
(0.5)
$
4.2
2.5
0.3
(0.5)
(2.1)
4.4
0.1
4.3
(1.0)
(0.2)
(0.6)
(1.8)
2.6
0.4
(0.4)
-
(1.7)
0.9
-
0.9
(1.2)
(0.3)
-
(1.5)
1.0
$
(0.1)
$
2.5
$
(0.6)
- 17 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
3.
INVESTMENTS (continued)
The following table shows a continuity of the carrying value of the Company’s investment in Arena Origination included in the Company’s
investments in private entities:
(unaudited)
(millions)
Carrying value of Arena Origination:
Opening balance
Addition - equity
Repayment of term loan
Unrealized gain (loss)
Ending balance
Arena Investors
Three months ended December 31
2017
2016
Year ended December 31
2016
2017
$
$
33.9
-
-
1.0
34.9
$
$
32.5
-
-
(0.1)
32.4
$
$
32.4
7.0
(7.0)
2.5
34.9
$
$
33.0
-
-
(0.6)
32.4
Arena Investors consists of the Associates including the Company’s indirect investment in WAHII (through WCA), ASOF-ON GP (through WCA),
and its direct investment in ASOF-OFF II GP. WAHII is the sole limited partner of Arena Investors, LP, a limited partnership established under the
laws of Delaware to carry on the third-party investment management business of the Arena Group.
Arena Investors, LP operates as an investment manager offering third-party clients access to fundamentals-based, asset-oriented credit
investments that aim to deliver attractive yields with low volatility. Arena Investors, LP provides investment services to third-party clients consisting
of but not limited to institutional clients, insurance companies, private investment funds and other pooled investment vehicles.
Arena Investors generates revenues primarily from Management Fees, Incentive Fees and Asset Servicing Fees. “Management Fees” are the
fees generally calculated on Arena Investors’ various segregated client accounts and private pooled investment vehicles as a percentage of assets
under management (“AUM”). Management fees for separately managed accounts may be based on a percentage of the fair value of invested
capital for the account during the ramp-up phase. “Incentive Fees” are the fees generally calculated as a percentage of net profits earned by
Arena Investors as of the end of each fiscal year or applicable withdrawal date related to client accounts subject to a “high water mark” and loss
carryforward provisions for each measurement date. “Asset Servicing Fees” are the fees generally earned in connection with the management
and servicing of the illiquid portion of clients’ investment portfolio.
Arena Investors has established a U.S. onshore fund, Arena Special Opportunities Fund, LP (“ASOF LP”) and an offshore fund, Arena Special
Opportunities Fund (Cayman), LP, as investment funds primarily for clients of Arena Investors. Arena Investors continues to be in discussions with
potential clients for additional capital to invest in its various pools, in accordance with its business strategy.
In connection with the Private Placement, Fairfax also agreed to invest up to $500 million in investments sourced by Arena Investors, LP. Fairfax’s
commitment to invest an initial $125 million with Arena Investors, LP was triggered by Fairfax purchasing C$50 million of Preferred Securities from
the Company on June 2, 2017. See discussion in Section 4, Financing of this MD&A for additional information on the Private Placement. The
agreement for Fairfax to invest the remaining $375 million with Arena Investors, LP was based on Fairfax’s purchase of additional tranches of
Preferred Securities. As the Company had exercised its discretion not to issue additional Preferred Securities, Fairfax is not required to make any
further investments with Arena Investors, LP.
As of December 31, 2017, the Arena Group had committed AUM of approximately $760 million. This amount includes the net assets of Arena
Finance and Arena Origination totaling $187 million and the committed AUM by Fairfax of $125 million.
Rights Granted to BP LLC
On August 31, 2015, agreements were entered into between the Company (through WCA) and BP LLC in respect of WAHII and ASOF-ON GP
and between Westaim and BP LLC in respect of ASOF-OFF II GP (the “Associate Agreements”). The Associate Agreements set forth the
members’ respective rights and obligations, as well as BP LLC’s right to participate in distributions of the capital and profits of the Associates. BP
LLC’s initial profit sharing percentage is 49%, and under the Associate Agreements, BP LLC has the right to earn-in up to 75% equity ownership
percentage in the Associates and share up to 75% of the profits of the Associates based on achieving certain AUM and cash flow (measured by
the margin of trailing twelve months earnings before interest, income taxes, depreciation and amortization to trailing twelve month revenues)
thresholds in accordance with the Associate Agreements.
- 18 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
3.
INVESTMENTS (continued)
Accounting for Arena Investors
On June 30, 2016, the Company made an additional equity investment of $0.3 million in Arena Investors. On December 21, 2017, the Company
(through WCA) granted a $20 million revolving loan facility to the Associates (the “Associates Loan”) in order to (i) fund growth initiatives and
working capital needs of Arena Investors and (ii) enable WAHII to repay $4.4 million in advances previously owed to the Company and extinguish
the WAHII loan owed to AHFC. See section 9, Related Party Transactions of this MD&A for additional information on these loans. The loan facility
has a term of 36 months and bears interest at a rate of 5.25% per annum. At December 31, 2017, WAHII had drawn down the loan facility by
$14.5 million. The loan facility is secured by the assets of certain of the Associates.
The Company’s investments in the Associates (Arena Investors) are accounted for using the equity method. The carrying amount of the
Company’s investments in the Associates was $8.0 million and $1.3 million at December 31, 2017 and 2016, respectively. The total of the
Company’s 51% share of losses of the Associates of $0.7 million and $0.6 million in the three months ended December 31, 2017 and 2016,
respectively, and $3.4 million and $2.4 million in the years ended December 31, 2017 and 2016, respectively, was reported under “Net results of
investments” in the consolidated statements of profit (loss) and comprehensive income (loss).
Select Financial Information of Arena Investors
The Company considers certain financial results of Arena Investors to be important measures in assessing the Company’s financial position and
performance, in particular, the AUM used in the calculation of revenues from the provision of investment management services, and operating
expenses. Select financial information related to Arena Investors set out below is unaudited and has been derived from the financial statements of
WAHII, ASOF-ON GP and ASOF-OFF II GP for the years ended December 31, 2017 and 2016, which have been prepared in accordance with US
GAAP. Such statements are the responsibility of the management of Arena Investors. Management of the Company concluded that any
reconciling items to IFRS are not material.
Select financial information of Arena Investors is as follows:
Statement of Financial Position 1
(unaudited)
(millions)
Cash and cash equivalents
Restricted cash
Associates Loan
Advances from Westaim
Loan from AFHC
Other net liabilities
Net liabilities
December 31, 2017
$
$
1.5
8.3
(14.5)
-
-
(8.4)
(13.1)
December 31, 2016
0.6
2.9
-
(4.4)
(2.0)
(3.5)
(6.4)
$
$
Company’s share
Associates Loan
Advances to Arena Investors
Carrying amount of the Company’s investments in Associates
Includes the accounts of WAHII, ASOF-ON GP and ASOF-OFF II GP prepared in accordance with US GAAP with no material reconciling differences to IFRS.
(6.5)
14.5
-
8.0
(3.1)
-
4.4
1.3
$
$
$
$
1
Restricted cash includes deposits related to investment loans received in advance.
Statement of Loss and Comprehensive Loss 1
(unaudited)
(millions)
Management, asset servicing and incentive fees
Administrative and service fees
Gain on investments
Operating expenses
Loss and comprehensive loss
Three months ended December 31
2017
2016
Year ended December 31
2016
2017
$
$
2.4
1.4
0.8
(6.0)
(1.4)
$
$
0.9
1.4
-
(3.5)
(1.2)
$
$
7.8
5.3
0.8
(20.6)
(6.7)
$
$
1.8
7.0
-
(13.5)
(4.7)
Company’s share of losses of Associates (51%)
(2.4)
Includes the accounts of WAHII, ASOF-ON GP and ASOF-OFF II GP prepared in accordance with US GAAP with no material reconciling differences to IFRS.
(3.4)
(0.7)
(0.6)
$
$
$
$
1
- 19 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
3.
INVESTMENTS (continued)
The management, asset servicing and incentive fees were generated from the various segregated client accounts and managed funds of Arena
Investors. The administrative and service fees were charged to AFHC and AOC.
Operating expenses of $6.0 million for the three months ended December 31, 2017 included $3.7 million in salaries and benefits, $1.3 million in
professional fees and $1.0 million in general, administrative and other expenses. Operating expenses of $3.5 million for the three months ended
December 31, 2016 included $2.5 million in salaries and benefits, $0.4 million in professional fees, and $0.6 million in general, administrative and
other expenses.
Operating expenses of $20.6 million for the year ended December 31, 2017 included $13.0 million in salaries and benefits, $3.0 million in
professional fees, $1.5 million in foreign exchange loss, and $3.1 million in general, administrative and other expenses. Operating expenses of
$13.5 million for the year ended December 31, 2016 included $10.4 million in salaries and benefits, $1.1 million in professional fees, and $2.0
million in general, administrative and other expenses.
C. OTHER INVESTMENTS
The Company’s investment in ASOF LP, a fund managed by Arena Investors, LP, with a fair value of $2.3 million and $1.9 million at December 31,
2017 and 2016, respectively, was included in other assets in the consolidated statements of financial position. The Company’s unrealized gain on
its investment in ASOF LP was $0.2 million and $0.4 million in the three months and year ended December 31, 2017, respectively (2016 -
nominal).
4.
FINANCING
Preferred Securities
Fairfax agreed to purchase, on a private placement basis, up to 10,000,000 Preferred Securities for aggregate proceeds of up to C$100 million. The
Preferred Securities are denominated in C$, each issuable for a principal amount of C$10 and carry interest at a rate of 5% per annum. The
Preferred Securities are issuable in tranches of not less than 2,500,000 Preferred Securities.
On June 2, 2017, the Company closed the sale to Fairfax of 5,000,000 Preferred Securities for C$50 million. The Company had discretion until
January 1, 2018 to require Fairfax to purchase all or part of the remaining 5,000,000 Preferred Securities, and had exercised its discretion not to do
so. The Preferred Securities are subordinate secured securities that will mature on May 26, 2116 but may be repaid, in whole or in part, by the
Company at any time after June 2, 2022 and at any time after June 2, 2020 if the volume-weighted average trading price of Westaim’s common
shares for any 10 day period prior to the date on which the applicable redemption notice is given is at least C$5.60.
The Preferred Securities are repayable on demand upon a change of control of Westaim and the liability is recorded at the principal amount in the
consolidated statements of financial position. The Preferred Securities liability is translated into US$ at rates of exchange at the end of each
reporting period and any resulting foreign exchange gain or loss is included in the consolidated statements of profit (loss) and comprehensive
income (loss). At December 31, 2017, the US$ converted amount of the Preferred Securities was $39.9 million, and the Company recorded an
unrealized foreign exchange gain of $0.2 million and an unrealized foreign exchange loss of $2.9 million relating to the Preferred Securities in the
three months and year ended December 31, 2017, respectively. The carrying amount of the Preferred Securities approximated fair value at
December 31, 2017.
Interest on the Preferred Securities amounted to $0.5 million and $1.2 million in the three months and year ended December 31, 2017,
respectively. At December 31, 2017, interest of $0.5 million (December 31, 2016 - $nil) was accrued in the consolidated statements of financial
position.
Transaction costs incurred for the issuance of the Preferred Securities was $nil and $0.5 in the three months and year ended December 31, 2017,
respectively, and were recorded as an expense in the consolidated statements of profit (loss) and comprehensive income (loss).
On December 21, 2017, the Company entered into a foreign exchange forward contract to sell US$ and buy C$20 million to manage part of the
foreign currency exposure arising from the Preferred Securities. The contract has a term to maturity of less than one year and may be renewed at
market rates. The Company has not designated this foreign exchange forward contract as an accounting hedge. Unrealized gain on the foreign
exchange forward contract amounted to $0.1 million and was recorded under other assets in the consolidated statement of financial position at
December 31, 2017, and under foreign exchange in the consolidated statements of profit (loss) and comprehensive income (loss) for the year
ended December 31, 2017. In connection with foreign exchange forward contracts which the Company may enter into from time to time, the
Company has obtained a credit facility under which the Company has pledged cash on deposit of $2.5 million as security. The security shall
remain in effect for the duration of any outstanding foreign exchange forward contracts.
- 20 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
4.
FINANCING (continued)
Warrants
In conjunction with the private placement of Preferred Securities, Westaim also issued to Fairfax 28,571,430 Warrants, each exercisable for one
Westaim common share at an exercise price of C$3.50. The Warrants vest proportionately based upon the aggregate percentage of Preferred
Securities purchased by Fairfax, with 14,285,715 having vested on June 2, 2017. The remaining 14,285,715 unvested Warrants were cancelled on
January 31, 2018. Each vested Warrant is exercisable on or prior to June 2, 2022, but the expiry date will be extended to June 2, 2024 if the
volume-weighted average trading price of Westaim’s common shares for the 10 day period ending on June 2, 2022 is less than C$5.60. After
June 2, 2020, the Company can also elect to require early exercise of the Warrants if the volume-weighted average trading price of Westaim’s
common shares for any 10 day period prior to the election is at least C$5.60.
The Warrants are subject to a cashless exercise at the discretion of Fairfax and are classified as a derivative liability in accordance with IFRS and
measured at FVTPL. Subsequent changes in fair value of the vested Warrants and the related foreign exchange impact are reported in the
consolidated statements of profit (loss) and comprehensive income (loss) for the period in which they arise.
Changes to the derivative warrant liability are as follows:
Opening balance
Fair value upon initial recognition
Change in fair value
Unrealized foreign exchange loss
Ending balance
Three months ended
December 31, 2017
Year ended
December 31, 2017
$
$
6.1
-
0.6
-
6.7
$
$
-
9.0
(3.0)
0.7
6.7
The Company recorded an expense of $9.0 million upon initial recognition of the vested Warrants on June 2, 2017. In the three months and year
ended December 31, 2017, the Company recognized an unrealized loss of $0.6 million and an unrealized gain of $3.0 million, respectively,
resulting from a change in the fair value of the vested Warrants. The Company also recorded unrealized foreign exchange losses with respect to
the vested Warrants of $nil and $0.7 million in the three months and year ended December 31, 2017, respectively, under foreign exchange in the
consolidated statements of profit (loss) and comprehensive income (loss). At December 31, 2017, a liability of $6.7 million had been recognized
with respect to the vested Warrants in the consolidated statements of financial position.
The fair value of the vested Warrants at December 31, 2017 of $6.7 million was estimated using the Monte Carlo pricing model assuming no
dividends are paid on the common shares, a risk-free interest rate of 1.81%, an expiration date between January 1, 2018 and June 2, 2024, and a
volatility of the underlying common shares of the Company of 25.08%. The amounts computed according to the Monte Carlo pricing model may
not be indicative of the actual values realized upon the exercise of the vested Warrants by Fairfax.
- 21 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
5. ANALYSIS OF FINANCIAL RESULTS
Details of the Company’s operating results are as follows:
(millions)
Revenue
Net results of investments
Expenses
Salaries and benefits
General, administrative and other
Professional fees
Site restoration provision
Share-based compensation
Foreign exchange
Interest on preferred securities
Derivative warrants
Preferred securities issuance costs
Profit (loss) and comprehensive income (loss)
5.1 Revenue
Three months ended December 31
2017
2016
Year ended December 31
2016
2017
$
$
$
1.2
9.0
0.2
0.3
0.1
0.4
1.1
0.2
0.5
0.6
-
3.4
6.8
$
0.7
$
3.7
$
2.7
(1.9)
0.2
0.2
0.1
(1.5)
0.9
(0.2)
-
-
-
(0.3)
(0.9)
19.8
3.0
1.1
0.7
0.1
3.8
1.6
1.2
6.0
0.5
18.0
5.5
$
$
$
$
(4.0)
2.8
1.0
0.9
(0.5)
2.6
0.2
-
-
-
7.0
(8.3)
$
$
Revenue for the three months ended December 31, 2017 of $1.2 million (2016 - $0.7 million) consisted of interest income of $0.9 million (2016 -
$0.4 million) and advisory fees of $0.3 million (2016 - $0.3 million). In the three months ended December 31, 2017, the Company earned interest
on loans made to the Arena Group of $0.8 million (2016 - $0.3 million). In the same period, the Company earned advisory fees from HIIG of $0.3
million (2016 - $0.3 million).
Revenue for the year ended December 31, 2017 of $3.7 million (2016 - $2.7 million) consisted of interest income of $2.3 million (2016 - $1.3
million) and advisory fees of $1.4 million (2016 - $1.4 million). In the year ended December 31, 2017, the Company earned interest on loans made
to the Arena Group of $2.2 million (2016 - $1.3 million). In the same period, the Company earned advisory fees from HIIG of $1.0 million (2016 -
$1.0 million) and from the Arena Group of $0.4 million (2016 - $0.4 million).
5.2 Net Results of Investments
Net results of investments were a gain of $9.0 million for the three months ended December 31, 2017 (2016 - loss of $1.9 million), consisting of an
unrealized gain on the Company’s investments in private entities of $9.5 million (2016 - loss of $1.3 million), an unrealized gain on other
investments of $0.2 million (2016 - $nil) partially offset by the Company’s share of losses of its Associates of $0.7 million (2016 - $0.6 million).
Net results of investments were a gain of $19.8 million for the year ended December 31, 2017 (2016 - loss of $4.0 million), consisting of an
unrealized gain on the Company’s investments in private entities of $22.8 million (2016 - loss of $1.6 million), an unrealized gain on other
investments of $0.4 million (2016 - $nil) partially offset by the Company’s share of losses of its Associates of $3.4 million (2016 - $2.4 million).
See discussion in Section 3, Investments of this MD&A.
Investments in Private Entities
The Company’s investments in private entities are accounted for at FVTPL. In the three months ended December 31, 2017, the Company
recorded unrealized gains of $7.7 million on its investment in the HIIG Partnership (2016 - loss of $2.3 million), $0.8 million on its investment in
Arena Finance (2016 - $1.1 million), and $1.0 million on its investment in Arena Origination (2016 - loss of $0.1 million). In the year ended
December 31, 2017, the Company recorded unrealized gains of $11.8 million on its investment in the HIIG Partnership (2016 - loss of $0.7 million),
$8.5 million on its investment in Arena Finance (2016 - loss of $0.3 million), and $2.5 million on its investment in Arena Origination (2016 - loss of
$0.6 million).
- 22 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
5. ANALYSIS OF FINANCIAL RESULTS (continued)
Investments in Associates
The Company’s investments in Associates are accounted for using the equity method. In the three months ended December 31, 2017, the
Associates earned management, incentive and asset servicing fees of $2.4 million (2016 - $0.9 million), administrative and service fees of $1.4
million (2016 - $1.4 million) and gains on investments of $0.8 million (2016 - $nil) and incurred operating expenses of $5.9 million (2016 - $3.5
million), resulting in a loss of $1.3 million (2016 - $1.2 million). In the year ended December 31, 2017, the Associates earned management,
incentive and asset servicing fees of $7.8 million (2016 - $1.8 million), administrative and service fees of $5.3 million (2016 - $7.0 million) and
gains on investments of $0.8 million (2016 - $nil) and incurred operating expenses of $20.5 million (2016 - $13.5 million), resulting in a loss of $6.6
million (2016 - $4.7 million). Operating expenses included a $1.5 million charge relating to a non-recurring foreign currency hedging transaction in
the year ended December 31, 2017.
The total of the Company’s 51% share of losses of the Associates amounted to $0.7 million and $0.6 million in the three months ended December
31, 2017 and 2016, respectively, and $3.4 million and $2.4 million in the years ended December 31, 2017 and 2016, respectively.
5.3 Expenses
Salaries and benefits and general, administrative and other expenses in the three months and year ended December 31, 2017 were comparable
to the corresponding periods in the prior year.
Professional fees generally include legal, accounting and consulting fees and the expense in the three months ended December 31, 2017 was
comparable to the expense in the three months ended December 31, 2016. Professional fees were $0.2 million lower in the year ended
December 31, 2017 when compared to the year ended December 31, 2016, primarily due to additional professional services rendered in the first
quarter of 2016 for general corporate matters.
The Company has provided indemnifications to third parties with respect to future site restoration costs to be incurred on industrial sites formerly
owned by the Company. Variations in the Company’s site restoration provision expense from period to period are generally attributed to changes
in the discount and inflation rates used to arrive at the site restoration provision. Reimbursements of site restoration costs are recorded when
received.
Changes in share-based compensation expense from period to period result from the vesting of RSUs, the issuance of DSUs in lieu of director
fees, as well as movement in the Company’s share price which affects the per unit valuation of outstanding RSUs and DSUs. Share-based
compensation expense in the three months and year ended December 31, 2017 also included compensation expense for stock options of $0.6
million (2016 - $0.2 million) and $2.0 million (2016 - $0.7 million), respectively. See Section 8, Liquidity and Capital Resources of this MD&A for
additional information on the Company’s share-based compensation plans.
The Company holds C$ denominated assets and liabilities and the Company’s operating results include foreign exchange gains or losses arising
from the revaluation of the Company’s C$ denominated net liabilities into US$ at period end exchange rates. The following is a breakdown of the
major components of the foreign exchange (loss) gain in the three months and years ended December 31, 2017 and 2016:
(millions)
Foreign exchange (loss) gain relating to:
- site restoration provision
- liabilities for RSUs and DSUs
- Preferred securities
- AFHC and AOC loans receivable
- derivative warrant liability
- foreign exchange forward contract
- other
Three months ended
December 31
Year ended
December 31
2017
2016
2017
2016
$
$
-
-
0.2
(0.5)
-
0.1
-
(0.2)
$ 0.1
0.1
$
-
-
-
-
-
$ 0.2
$
(0.3)
(0.5)
(2.9)
2.6
(0.7)
0.1
0.1
(1.6)
$
$
(0.1)
(0.2)
-
-
-
-
0.1
(0.2)
In the three months and year ended December 31, 2017, interest on preferred securities was $0.5 million and $1.2 million, respectively, unrealized
loss resulting from a change in the fair value of the vested Warrants was $0.6 million and $6.0 million, respectively, and preferred securities
issuance costs were nominal and $0.5 million, respectively. See discussion in Section 4, Financing of this MD&A for additional information on
these expense items.
- 23 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
6. ANALYSIS OF FINANCIAL POSITION
The Company’s assets, liabilities and shareholders’ equity as at the dates indicated below consisted of the following:
(millions)
Assets
Cash
AFHC and AOC loans receivable
Other assets
Investments
Liabilities
Accounts payable and accrued liabilities
Preferred securities
Derivative warrant liability
Site restoration provision
Shareholders’ equity
Total liabilities and shareholders’ equity
6.1 Cash
December 31, 2017
December 31, 2016
$
$
$
$
7.8
23.9
3.1
351.3
386.1
9.7
39.9
6.7
3.8
60.1
326.0
386.1
$
$
$
$
3.0
-
4.4
321.8
329.2
7.3
-
-
3.4
10.7
318.5
329.2
At December 31, 2017, the Company had cash of $7.8 million compared to $3.0 million at December 31, 2016. At December 31, 2017, cash
consisted of cash on deposit, including restricted cash on deposit of $2.5 million.
6.2 Loans Receivable
On June 9, 2017, the Company used the proceeds from the Fairfax financing to loan C$30 million to AFHC and C$20 million to AOC on market
terms. On December 21, 2017, AFHC made a principal repayment of C$20 million to the Company. For additional information on these loans, see
discussion in Section 3, Investments of this MD&A. At December 31, 2017, the carrying amount of the loans totaled $23.9 million.
6.3 Other Assets
Other assets at December 31, 2017 included the Company’s portfolio investment in ASOP LP with a fair value of $2.3 million (December 31, 2016
- $1.9 million). Other assets at December 31, 2017 also included $0.1 million of capital assets (December 31, 2016 - $0.1 million). Depreciation
expense for the capital assets was nominal for the three months and years ended December 31, 2017 and 2016.
On December 21, 2017, the Company entered into a foreign exchange forward contract to sell US$ and buy C$20 million to manage part of the
foreign currency exposure arising from the Preferred Securities. The Company has not designated this foreign exchange forward contract as an
accounting hedge. Unrealized gain on the foreign exchange forward contract at December 31, 2017 amounted to $0.1 million and was recorded
under other assets. See discussion in Section 4, Financing of this MD&A.
6.4 Investments
Investments in Private Entities
The Company’s investments in private entities consist of its investments in HIIG (through the HIIG Partnership), Arena Finance and Arena
Origination, which are accounted for at FVTPL. The fair values of the HIIG Partnership, Arena Finance and Arena Origination at December 31,
2017 were determined to be $157.1 million, $151.3 million and $34.9 million, respectively (December 31, 2016 - $145.3 million, $142.8 million and
$32.4 million, respectively). See discussion in Section 3, Investments of this MD&A.
Investments in Associates
The Company’s investments in associates consist of the Company’s indirect investment in Arena Investors. These investments are accounted for
using the equity method. The carrying value of the Company’s investments in the Associates at December 31, 2017 was $8.0 million (December
31, 2016 - $1.3 million). See discussion in Section 3, Investments of this MD&A.
- 24 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
6. ANALYSIS OF FINANCIAL POSITION (continued)
6.5 Accounts Payable and Accrued Liabilities
Accounts payable and accrued liabilities were $9.7 million at December 31, 2017 and $7.3 million at December 31, 2016. Accounts payable and
accrued liabilities at December 31, 2017 included liabilities related to accrued employee bonuses of $0.9 million (December 31, 2016 - $0.8
million), RSUs of $7.2 million (December 31, 2016 - $5.4 million), DSUs of $1.0 million (December 31, 2016 - $0.8 million), and interest accrued on
the Preferred Securities of $0.5 million (December 31, 2016 - $nil). See Section 8, Liquidity and Capital Resources of this MD&A for additional
information on the Company’s share-based compensation plans.
6.6 Preferred Securities
On June 2, 2017, the Company closed the sale to Fairfax of 5,000,000 Preferred Securities for C$50 million. The Preferred Securities are
repayable on demand upon a change of control of Westaim and the liability is recorded at the principal amount in the consolidated statements of
financial position. The C$ principal amount of the Preferred Securities was converted to US$ at the period end exchange rate, resulting in a
carrying amount of the Preferred Securities at December 31, 2017 of $39.9 million. See discussion in Section 4, Financing of this MD&A.
6.7 Derivative Warrant Liability
In conjunction with the purchase by Fairfax of C$50 million in Preferred Securities on June 2, 2017, Westaim also issued to Fairfax 28,571,430
Warrants, with 14,285,715 Warrants having vested on June 2, 2017. The Warrants are subject to a cashless exercise at the discretion of Fairfax
and are classified as a derivative liability and measured at FVTPL. At December 31, 2017, a liability of $6.7 million (December 31, 2016 - $nil)
representing the estimated fair value of the vested Warrants had been accrued in the consolidated statements of financial position. No liability
has been accrued with respect to the unvested Warrants which were cancelled on January 31, 2018. See discussion in Section 4, Financing of
this MD&A.
6.8 Site Restoration Provision
The site restoration provision of $3.8 million at December 31, 2017 and $3.4 million at December 31, 2016 relates to future site restoration costs
associated with soil and groundwater reclamation and remediation costs relating to industrial sites previously owned by the Company.
The Company conducts periodic reviews of the underlying assumptions supporting the provision, taking into consideration the anticipated method
and extent of the remediation consistent with regulatory requirements, industry practices, current technology and possible uses of the site. The
amount of the provision is the present value of the estimated future restoration costs discounted using interest rates of high quality government
bonds in relation to the estimated timing of cash outflows.
Future reimbursements of costs resulting from indemnifications provided to the Company by previous owners of the industrial sites have not been
recognized in the Company’s consolidated financial statements. Reimbursements are recorded when received.
6.9 Shareholders’ Equity
The details of shareholders’ equity are as follows:
(millions)
Common shares
Contributed surplus
Accumulated other comprehensive loss
Deficit
Shareholders’ equity
Common Shares
December 31, 2017
December 31, 2016
$
$
382.2
14.2
(2.2)
(68.2)
326.0
$
$
382.2
12.2
(2.2)
(73.7)
318.5
The Company had 143,186,718 common shares outstanding at December 31, 2017 and 2016.
Contributed Surplus
The increase in contributed surplus of $2.0 million resulted from compensation expense relating to stock options in the year ended December 31,
2017.
- 25 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
6. ANALYSIS OF FINANCIAL POSITION (continued)
Accumulated Other Comprehensive Loss
Accumulated other comprehensive loss of $2.2 million at December 31, 2017 and 2016 comprised cumulative exchange differences from currency
translation as a result of a change in presentation currency from the C$ to the US$ on August 31, 2015.
Deficit
The decrease in deficit of $5.5 million from December 31, 2016 to December 31, 2017 is due to the profit for the year ended December 31, 2017.
7. OUTLOOK
The focus of Arena’s management team is to continue to expand Arena’s diversified portfolio of quality senior ranking credit investments, increase
its pipeline of investment opportunities, and grow its AUM primarily by attracting new third-party investors. Arena’s investments are performing at
or above expectations and Arena had 44 employees as at December 31, 2017.
Following the catastrophe losses experienced by the insurance industry in 2017 due to adverse weather conditions in the United States, the
Company believes that the industry is at the start of a cycle of increasing insurance rates and improved terms. In addition, with the operational
enhancement initiatives undertaken by HIIG, an improved economy, rising interest rates and U.S. Tax Reform, HIIG’s financial performance is
expected to continue to improve.
The Company is continuing to seek additional investment opportunities to create shareholder value through partnering with other aligned and
experienced management teams to build profitable businesses that generate attractive returns over the long term.
8.
LIQUIDITY AND CAPITAL RESOURCES
Capital Management Objectives
The Company’s capital currently consists of the Preferred Securities and common shareholders’ equity.
The Company’s guiding principles for capital management are to maintain the stability and safety of the Company’s capital for its stakeholders
through an appropriate capital mix and a strong balance sheet.
The Company monitors the mix and adequacy of its capital on a continuous basis using internal metrics. The capital of the Company is not
subject to any restrictions.
Share Capital
The Company’s authorized share capital consists of an unlimited number of common shares, Class A preferred shares and Class B preferred
shares.
At December 31, 2017 and 2016, the Company had 143,186,718 common shares outstanding, with a stated capital of $382.2 million.
There were no Class A or Class B preferred shares outstanding at December 31, 2017 and 2016.
Dividends
No dividends were paid in the years ended December 31, 2017 and 2016.
Share-based Compensation Plans
The Company’s long-term equity incentive plan (the “Incentive Plan”) provides for grants of RSUs, DSUs, stock appreciation rights and other
share-based awards. The Company also has a stand-alone incentive stock option plan (the “Option Plan”).
- 26 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
8.
LIQUIDITY AND CAPITAL RESOURCES (continued)
On March 31, 2016, the Company’s Board of Directors approved amendments to the Incentive Plan which, among other things, increased the
maximum number of common shares which may be issued under the Incentive Plan from 7,042,150 to 14,318,671. Such amendments were
approved by the shareholders of the Company at the annual and special meeting of shareholders held on May 12, 2016. The Option Plan is a
“rolling plan” which provides that the aggregate number of common shares which may be reserved for issuance under the Option Plan is limited to
not more than 10% of the aggregate number of common shares outstanding. However, each of the Incentive Plan and the Option Plan provide
that under no circumstances shall there be common shares issuable under such plan, together with all other security-based compensation
arrangements of the Company, which exceed 10% of the aggregate number of common shares outstanding.
At December 31, 2017, the Company had 6,613,337 stock options outstanding (December 31, 2016 - 2,754,940 stock options outstanding). On
April 1, 2016, 2,752,940 options were granted to certain officers and employees of the Company. These options have a term of seven years, vest
in three equal instalments on April 1, 2017, April 1, 2018 and April 1, 2019, and have an exercise price of C$3.25. At December 31, 2017, 917,646
of these 2,752,940 outstanding options had vested. On April 3, 2017, 3,860,397 additional options were granted to certain officers and employees
of the Company. The options have a term of seven years, vest in three equal instalments on December 31, 2017, December 31, 2018 and
December 31, 2019, and have an exercise price of C$3.00. At December 31, 2017, 1,286,799 of these 3,860,397 additional options had vested.
In the three months and year ended December 31, 2017, compensation expense relating to options was $0.6 million (2016 - $0.2 million) and $2.0
million (2016 - $0.7 million), respectively, with a corresponding increase to contributed surplus.
The Company also had 3,034,261 RSUs outstanding at December 31, 2017 (December 31, 2016 - 3,082,073 RSUs outstanding). On November
14, 2014, an aggregate of 2,375,000 RSUs were granted to certain officers, employees and consultants. At December 31, 2017, all of these
RSUs had vested, of which 265,937 units had been exercised and 2,109,063 units were outstanding. On April 1, 2016, 925,198 additional RSUs
were granted to certain officers and employees of the Company. These RSUs vest in three equal instalments on April 1, 2017, April 1, 2018 and
December 31, 2018 and, once vested, may be settled, at the election of the holder, in common shares of the Company or cash based on the
prevailing market price of the common shares on the settlement date. At December 31, 2017, 308,399 of these 925,198 outstanding RSUs had
vested.
At December 31, 2017, the Company had 416,529 DSUs outstanding (December 31, 2016 - 398,731 DSUs outstanding). DSUs are issued to
certain directors in lieu of director fees, at their election, at the market value of the Company’s common shares at the date of grant and, with
respect to the DSUs that are outstanding, are paid out in cash no later than the end of the calendar year following the year the participant ceases
to be a director. In the year ended December 31, 2017, 92,525 DSUs were exercised for a cash payment of C$2.99 per DSU and the DSU liability
was correspondingly reduced by $0.2 million.
At December 31, 2017, accounts payable and accrued liabilities included amounts related to outstanding RSUs of $7.2 million (December 31,
2016 - $5.4 million) and outstanding DSUs of $1.0 million (December 31, 2016 - $0.8 million).
Market for Securities
Westaim’s common shares trade on the TSXV under the symbol “WED”.
Cash Flow Objectives
The Company manages its liquidity with a view to ensuring that there is sufficient cash to meet all financial commitments and obligations as they
fall due. The Company has sufficient funds to meet its financial obligations. As part of pursuing one or more new opportunities, the Company may
from time to time issue shares from treasury.
- 27 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
8.
LIQUIDITY AND CAPITAL RESOURCES (continued)
The following tables illustrate the duration of the financial assets of the Company compared to its financial obligations:
December 31, 2017 (millions)
Financial assets:
Cash
AFHC and AOC loans receivable
Other assets (excluding capital assets)
Investments
Total financial assets
Financial obligations:
Accounts payable and accrued liabilities
Preferred securities
Site restoration provision
Total financial obligations
Financial assets net of financial obligations
December 31, 2016 (millions)
Financial assets:
Cash
Other assets (excluding capital assets)
Investments
Total financial assets
Financial obligations:
Accounts payable and accrued liabilities
Site restoration provision
Total financial obligations
Financial assets net of financial obligations
One year or less
One to five
years
No specific
date
Total
$
$
7.8
-
0.7
-
8.5
1.5
-
-
1.5
7.0
$
$
-
23.9
-
-
23.9
-
-
-
-
23.9
$
$
-
-
2.3
351.3
353.6
8.2
39.9
3.8
51.9
301.7
One year or less
One to five
years
No specific
date
$
$
3.0
2.4
-
5.4
1.1
-
1.1
4.3
$
$
-
-
-
-
-
-
-
-
$
$
-
1.9
321.8
323.7
6.2
3.4
9.6
314.1
$
$
$
$
7.8
23.9
3.0
351.3
386.0
9.7
39.9
3.8
53.4
332.6
Total
3.0
4.3
321.8
329.1
7.3
3.4
10.7
318.4
The Company’s investment guidelines stress preservation of capital and market liquidity to support payment of liabilities. The matching of the
duration of financial assets and liabilities is monitored to ensure that all obligations will be met.
9. RELATED PARTY TRANSACTIONS
Related parties include key management personnel, close family members of key management personnel and entities which are, directly or
indirectly, controlled by, jointly controlled by or significantly influenced by key management personnel or their close family members. Key
management personnel are those persons having authority and responsibility for planning, directing and controlling the activities of the Company,
directly or indirectly, and include executive officers and current and former directors of the Company.
Compensation expenses related to the Company’s key management personnel are as follows:
(millions)
Salaries and benefits
Share-based compensation
Three months ended December 31
2017
2016
Year ended December 31
2016
2017
$
$
0.1
1.2
1.3
$
$
0.2
0.9
1.1
$
$
2.6
3.8
6.4
$
$
2.5
2.5
5.0
Fees paid to Hartford Consulting, Inc. (the “Consultant”), a company owned by William R. Andrus, a director of HIIG, for insurance industry related
consulting services and compensation expense relating to RSUs issued to the Consultant were $0.1 in each of the years ended December 31,
2017 and 2016. At December 31, 2017, a liability of $0.1 million (December 31, 2016 - $0.1 million) had been accrued in the consolidated
statements of financial position with respect to outstanding RSUs held by the Consultant.
- 28 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
9. RELATED PARTY TRANSACTIONS (continued)
On September 28, 2016, AFHC granted a $10 million revolving loan facility to the Associates to fund the working capital needs of Arena Investors.
The loan facility has a term of 36 months and bears interest at a rate of 5.25% per annum. On August 2, 2017, the limit of the facility was
increased to $15 million. WAHII repaid the balance owing under the loan facility of $7.8 million, including interest, to AFHC on December 21, 2017
and the loan facility was terminated.
The Company earned and received interest on the term loan to WOH of $0.1 million and $0.9 million in the three months and year ended
December 31, 2017, respectively, and 0.3 million and $1.2 million in the three months and year ended December 31, 2016, respectively. The
Company earned interest on the demand loans to AFHC and AOC totaling $0.7 million and $1.3 million in the three months and year ended
December 31, 2017, respectively.
The Company earned advisory fees from the Arena Group of $0.4 million in each of the years ended December 31, 2017 and 2016. The
Company also earned advisory fees from HIIG of $0.3 million in each of the three months ended December 31, 2017 and 2016 and $1.0 million in
each of the years ended December 31, 2017 and 2016.
10. CRITICAL ACCOUNTING ESTIMATES AND ASSUMPTIONS
Preparation of the financial statements in conformity with IFRS requires management to make estimates and assumptions, some of which relate to
matters that are uncertain. As more information becomes known, these estimates and assumptions could change and thus have a material impact
on the Company’s financial condition and results of operations in the future. The Company has established detailed policies and control
procedures that are intended to ensure that management’s judgments and estimates are well controlled, independently reviewed and consistently
applied from period to period. Management believes that its estimates for determining the valuation of the Company’s assets and liabilities are
appropriate.
Management used net asset value as the primary valuation technique in determining the fair value of the Company’s investments in private entities
at December 31, 2017. Management determined that this valuation technique produced the best indicator of the fair value of the HIIG Partnership,
Arena Finance and Arena Origination at December 31, 2017. The significant unobservable inputs used in the valuation of the HIIG Partnership,
Arena Finance and Arena Origination at December 31, 2017 were the equity of each of the entities at December 31, 2017 and the multiple applied.
For a detailed description of the valuation of the Company’s investments in private entities, see note 6 to the Company’s audited annual
consolidated financial statements for the years ended December 31, 2017 and 2016. Due to the inherent uncertainty of valuation, management’s
estimated values may differ significantly from the values that would have been used had an active market for the investment existed, and the
differences could be material.
The fair value of the vested Warrants is estimated using the Monte Carlo pricing model which contains various assumptions made by
management. The amounts computed according to the Monte Carlo pricing model may not be indicative of the actual values realized upon the
exercise of the vested Warrants by Fairfax.
Other key estimates include the Company’s provision for site restoration, fair value of share-based compensation, and unrecognized deferred tax
assets. Details of these items are disclosed in note 10, note 13 and note 15, respectively, to the Company’s audited annual consolidated financial
statements for the years ended December 31, 2017 and 2016.
11. CRITICAL ACCOUNTING POLICIES AND RECENTLY ADOPTED AND PENDING ACCOUNTING PRONOUNCEMENTS
A description of the Company’s accounting policies and other recently adopted and pending accounting pronouncements are disclosed in note 2
and note 3, respectively, to the audited annual consolidated financial statements for the years ended December 31, 2017 and 2016.
12. QUARTERLY FINANCIAL INFORMATION
(millions)
Revenue
Net results of investments - gain (loss)
Net (expenses) recovery of expenses
Profit (loss) and comprehensive income (loss)
Q4
2017
$ 1.2
9.0
(3.4)
$ 6.8
Q3
2017
$ 1.1
4.3
0.8
$ 6.2
Q2
2017
$ 0.7
3.3
(13.5)
$ (9.5)
Q1
2017
$ 0.7
3.2
(1.9)
$ 2.0
Q4
2016
$ 0.7
(1.9)
0.3
$ (0.9)
Q3
2016
$ 0.6
(2.3)
(2.0)
$ (3.7)
Q2
2016
$ 0.7
(2.8)
(3.0)
$ (5.1)
Q1
2016
$ 0.7
3.0
(2.3)
$ 1.4
- 29 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
12. QUARTERLY FINANCIAL INFORMATION (continued)
Revenue consisted of investment income and advisory fee income.
Net results of investments in Q4, 2017 included an unrealized gain on investments in private entities of $9.5 million, an unrealized gain on other
investments of $0.2 million and share of losses of Associates of $0.7 million. Net results of investments in Q3, 2017 included an unrealized gain
on investments in private entities of $4.8 million, an unrealized gain on other investments of $0.1 million and share of losses of Associates of $0.6
million. Net results of investments in Q2, 2017 included an unrealized gain on investments in private entities of $4.8 million and share of losses of
Associates of $1.5 million. Net results of investments in Q1, 2017 included an unrealized gain on investments in private entities of $3.7 million, an
unrealized gain on other investments of $0.1 million and share of losses of Associates of $0.6 million. Net results of investments in Q4, 2016
included an unrealized loss on investments in private entities of $1.3 million and share of losses of Associates of $0.6 million. Net results of
investments in Q3, 2016 included an unrealized loss on investments in private entities of $1.5 million and share of losses of Associates of $0.8
million. Net results of investments in Q2, 2016 included an unrealized loss on investments in private entities of $2.2 million and share of losses of
Associates of $0.6 million. Net results of investments in Q1, 2016 included an unrealized gain on investments in private entities of $3.4 million and
share of losses of Associates of $0.4 million.
Net expenses in Q4, 2017 consisted of salaries and benefits of $0.2 million, general and administrative costs of $0.3 million, share-based
compensation expense of $1.1 million, professional fees of $0.1 million, site restoration provision of $0.4 million, a foreign exchange loss of $0.2
million, interest on preferred securities of $0.5 million and an unrealized loss resulting from a change in the fair value of the vested Warrants of
$0.6 million. Net recovery of expenses in Q3, 2017 consisted of salaries and benefits of $1.0 million, general and administrative costs of $0.2
million, share-based compensation expense of $0.4 million, professional fees of $0.2 million, site restoration provision recovery of $0.6 million, a
foreign exchange loss of $0.8 million, interest on preferred securities of $0.5 million and an unrealized gain resulting from a change in the fair
value of the vested Warrants of $3.3 million. Net expenses in Q2, 2017 consisted of salaries and benefits of $0.9 million, general and
administrative costs of $0.2 million, share-based compensation expense of $2.0 million, professional fees of $0.2 million, site restoration provision
expense of $0.3 million, a foreign exchange loss of $0.5 million, interest on preferred securities of $0.2 million, an expense of $9.0 million upon
initial recognition of the vested Warrants on June 2, 2017 offset in part by an unrealized gains of $0.3 million, resulting from a change in the fair
value of the vested Warrants, and preferred securities issuance cost of $0.5 million. Net expenses in Q1, 2017 consisted of salaries and benefits
of $0.9 million, general and administrative costs of $0.4 million, share-based compensation expense of $0.3 million, professional fees of $0.2
million and a foreign exchange loss of $0.1 million.
Net recovery of expenses in Q4, 2016 consisted of salaries and benefits of $0.2 million, general and administrative costs of $0.2 million, site
restoration provision recovery of $1.5 million, share-based compensation expense of $0.9 million, professional fees of $0.1 million and a foreign
exchange gain of $0.2 million. Net expenses in Q3, 2016 consisted of salaries and benefits of $0.9 million, general and administrative costs of
$0.2 million, site restoration provision recovery of $0.2 million which was net of a reimbursement of $0.4 million, share-based compensation
expense of $1.0 million and professional fees of $0.1 million. Net expenses in Q2, 2016 consisted of salaries and benefits of $0.9 million, general
and administrative costs of $0.3 million, site restoration provision expense of $0.9 million, share-based compensation expense of $0.5 million,
professional fees of $0.3 million and a foreign exchange loss of $0.1 million. Net expenses in Q1, 2016 consisted of salaries and expenses of
$0.8 million, general and administrative costs of $0.3 million, site restoration provision expense of $0.3 million, professional fees of $0.4 million,
share-based compensation expense of $0.2 million, and a foreign exchange loss of $0.3 million.
13. RISKS
The Company is subject to a number of risks which could affect its business, prospects, financial condition, results of operations and cash flows,
including risks relating to lack of significant revenues, regulatory risks, foreign exchange risks and risks relating to the businesses of HIIG and
Arena. A detailed description of the risk factors associated with the Company and its business is contained in the Company’s Annual Information
Form dated March 29, 2018 for its fiscal year ended December 31, 2017 which is available on SEDAR at www.sedar.com.
- 30 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
14. ADDITIONAL ARENA GROUP INVESTMENT SCHEDULES
ARENA FINANCE
The investments of AFHC and AFHC’s subsidiaries shown by investment strategy are as follows:
Investments by Strategy
(unaudited)
(millions except for number
of positions and percentage)
Corporate Private Credit
Real Estate Private Credit
and Real Estate Assets
Structured Finance 1
Other Securities
Investments by Strategy
(unaudited)
(millions except for number
of positions and percentage)
Corporate Private Credit
Real Estate Private Credit
and Real Estate Assets
Structured Finance 1
Other Securities
December 31, 2017
Number of
positions
18
Cost
$
45.0
Fair value
46.5
$
19
29
25
91
17.6
53.6
12.7
128.9
$
17.8
53.9
15.4
133.6
$
Percentage of
investments at
fair value
34.8%
13.3%
40.4%
11.5%
100.0%
%
Debt investments
34.8%
13.3%
40.1%
0.5%
88.7%
%
Equity
investments
-
-
0.3%
11.0%
11.3%
Number of
positions
17
Cost
$
41.3
Fair value
41.0
$
Percentage of
investments at
fair value
39.0%
%
Debt investments
39.0%
%
Equity
investments
-
December 31, 2016
16
17
41
91
14.3
38.8
11.1
105.5
14.0
38.8
11.4
105.2
13.2%
36.9%
10.9%
100.0%
13.2%
36.9%
8.3%
97.4%
-
-
2.6%
2.6%
$
1 The investments in Structured Finance are inclusive of investments in the following investment strategies of the Arena Group: Commercial & Industrial Assets,
Structured Finance Investments and Consumer Assets.
$
Investments in Corporate Private Credit, Real Estate Private Credit and Real Estate Assets, and Structured Finance relate to loans issued to
privately held entities. Investments in Other Securities are net of short positions and comprise publicly traded corporate bonds, equity securities,
bank debt, private investments in public entity and derivatives.
The investments of AFHC and AFHC’s subsidiaries shown by geographic breakdown are as follows:
Investments by
Geographic Breakdown
(unaudited)
(millions except for percentage)
Loans / Private Assets
United States
Canada
Europe
Asia Pacific
Mexico
Other Securities 1
United States
Europe
Other
1 Net of short positions
December 31, 2017
December 31, 2016
Cost
Fair value
Percentage of
investments at
fair value
Cost
Fair value
Percentage of
investments at
fair value
$
99.3
-
11.6
1.4
3.9
116.2
3.8
8.1
0.8
12.7
$
99.8
-
13.0
1.5
3.9
118.2
4.1
10.4
0.9
15.4
74.8%
-
9.7%
1.1%
2.9%
88.5%
3.1%
7.8%
0.6%
11.5%
$
$
87.9
0.3
6.2
-
-
94.4
8.2
1.5
1.4
11.1
87.9
-
5.9
-
-
93.8
7.6
2.5
1.3
11.4
83.5%
-
5.6%
-
-
89.1%
7.3%
2.4%
1.2%
10.9%
$
128.9
$
133.6
100.0%
$
105.5
$
105.2
100.0%
- 31 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
14. ADDITIONAL ARENA GROUP INVESTMENT SCHEDULES (continued)
ARENA FINANCE
The investments of AFHC and AFHC’s subsidiaries shown by industry are as follows:
Investments by Industry
(unaudited)
(millions except for percentage)
Loans / Private Assets
Corporate Private Credit
Business Services
Consumer Products
Financial Services
Healthcare Services
Industrial
Manufacturing
Oil and Gas
Other Assets
Retail
Real Estate Private Credit
and Real Estate Assets
Hospitality
Industrial
Land
- Commercial Development
Land
- Multi-Family Development
Land
- Single-Family Development
Mixed Use
Multi Family
Residential
Retail
Commercial
Structured Finance
Commercial & Industrial
Consumer
Lease/Equipment
Other Assets
Real Estate-related
Other Securities (1)
Consumer Products
Financial Services
Healthcare Services
Industrial
Information Technology
Oil and Gas
Telecommunications
1 Net of short positions
December 31, 2017
December 31, 2016
Cost
Fair value
Percentage of
investments at
fair value
Cost
Fair value
Percentage of
investments at
fair value
$
$
16.3
0.9
1.3
3.4
-
2.7
9.7
10.7
-
45.0
3.6
0.4
5.2
1.5
1.4
-
0.1
3.4
0.3
1.7
17.6
2.0
13.4
15.0
23.2
-
53.6
16.9
0.9
1.3
3.4
-
2.6
9.6
11.8
-
46.5
3.7
0.4
5.2
1.5
1.5
-
0.1
3.5
0.2
1.7
17.8
2.0
13.0
15.5
23.4
-
53.9
2.4
1.7
0.3
4.5
0.6
2.0
1.2
12.7
2.6
1.8
0.7
4.9
0.7
3.1
1.6
15.4
$
$
12.7%
0.6%
1.0%
2.6%
-
1.9%
7.2%
8.8%
-
34.8%
2.8%
0.3%
3.9%
1.1%
1.1%
0.1%
0.1%
2.6%
0.1%
1.2%
13.3%
1.5%
9.8%
11.6%
17.5%
-
40.4%
88.5%
2.0%
1.3%
0.5%
3.7%
0.5%
2.3%
1.2%
11.5%
11.8
3.6
4.5
9.5
2.3
2.9
3.0
-
3.7
41.3
1.9
0.4
0.4
2.4
2.8
0.3
0.4
3.4
0.3
2.0
14.3
2.0
16.2
4.6
12.0
4.0
38.8
94.4
1.4
0.5
0.3
(0.1)
-
9.0
-
11.1
11.8
3.6
4.5
9.5
2.3
2.9
3.0
-
3.4
41.0
1.8
0.4
0.3
2.4
2.8
0.3
0.4
3.4
0.2
2.0
14.0
2.0
16.4
4.6
11.8
4.0
38.8
93.8
1.4
0.5
0.4
(0.3)
-
9.4
-
11.4
11.3%
3.4%
4.2%
9.1%
2.2%
2.7%
2.8%
-
3.3%
39.0%
1.7%
0.4%
0.3%
2.2%
2.7%
0.3%
0.3%
3.2%
0.2%
1.9%
13.2%
1.9%
15.6%
4.4%
11.2%
3.8%
36.9%
89.1%
1.4%
0.5%
0.3%
(0.3)%
-
9.0%
-
10.9%
$
128.9
$
133.6
100.0%
$
105.5
$
105.2
100.0%
- 32 -
Total Loans / Private Assets
116.2
118.2
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
14. ADDITIONAL ARENA GROUP INVESTMENT SCHEDULES (continued)
ARENA FINANCE
Details of the loan and Private Asset positions of AFHC and AFHC’s subsidiaries are as follows:
Details of Loan and Private Asset Positions
(unaudited)
(millions except for percentage)
December 31, 2017
Principal (1)
Investments
at cost
Investments
at fair value
Geographic
location
Collateral
Total coupon
(including PIK) (2)
Europe
Europe
United States
Mexico
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
Second Lien
First Lien
Second Lien
Second Lien
First Lien
Second Lien
First Lien
First Lien
First Lien
First Lien
First Lien (5)
First Lien
First Lien
First Lien
United States
Europe
United States
United States
First Mortgage
First Mortgage
First Mortgage
First Mortgage
New Zealand
United States
United States
First Mortgage
First Mortgage
First Mortgage
9.21%
30.00%
13.06%
11.56%
8.56%
11.11%
11.00%
12.06%
16.69%
10.75%
12.98%
13.06%
4.75%
13.50%
12.00%
8.69%
12.10%
8.56%
14.00%
8.69%
13.09%
12.50%
7.00%
11.06%
11.56%
13.50%
10.31%
16.06%
United States
First Mortgage
12.00%
71.0%
United States
United States
United States
First Mortgage
First Mortgage
Real Property
15.00%
n/a (6)
n/a (6)
United States
United States
United States
First Mortgage
First Mortgage
First Mortgage
United States
United States
United States
United States
First Mortgage
First Mortgage
First Mortgage
First Mortgage
United States
Real Property
15.00%
15.00%
2.75%
15.00%
15.00%
6.75%
13.00%
n/a (6)
11.63%
n/a (7)
52.5%
LTV (3)
56.0%
57.0%
12.0%
40.0%
51.0%
39.0%
10.3%
54.0%
n/a (4)
11.0%
68.0%
50.0%
33.4%
55.3%
33.3%
31.0%
48.0%
51.0%
43.0%
31.0%
41.9%
46.0%
44.8%
47.0%
74.0%
24.0%
69.0%
76.0%
55.0%
54.0%
n/a (7)
66.0%
55.0%
38.0%
53.0%
32.0%
53.0%
27.0%
Investments by industry
Ref. no.
Corporate Private Credit
CPC-2209
CPC-1571
CPC-2104
CPC-2514
CPC-1266TL
CPC-1450
CPC-1781
CPC-1361TL
CPC-1101
CPC-2208
CPC-1783
CPC-2051
CPC-2170
CPC-2752
CPC-1927
CPC-1265TL
CPC-1630
CPC-1266RC
CPC-1010
CPC-1265RC
Subtotal / Weighted average %
Other Assets
Business Services
Business Services
Other Assets
Business Services
Oil and Gas
Business Services
Healthcare Services
Manufacturing
Business Services
Oil and Gas
Oil and Gas
Oil and Gas
Other Assets
Financial Services
Consumer Products
Healthcare Services
Business Services
Oil and Gas
Consumer Products
REPC-2162
REPC-2214
REPC-1766
REPC-1068S5
REPC-1207
REPC-1068S4
REPC-2427
REPC-2692
Real Estate Private Credit
and Real Estate Assets
Land
REPC-2277
- Commercial Development
Hospitality
Residential
Commercial
Land
- Single-Family Development
Hospitality
Residential
Land
- Multi-Family Development
Land
- Multi-Family Development
Residential
Industrial
Land
- Commercial Development
Industrial
Retail
Land
- Commercial Development
Residential
Multi-Family
Mixed Use
Land
- Commercial Development
REPC-1042
REPC-1031
REPC-1041
REPC-1015
REPC-1068
REPC-1025
REPC-1017
REPC-1046
REPC-1036
REPC-1047
Subtotal / Weighted average %
4.7
3.6
4.0
3.9
3.1
3.0
2.4
2.7
2.7
2.3
2.5
2.3
3.0
1.8
1.3
0.9
0.7
0.5
0.2
0.5
46.1
5.1
4.3
3.9
3.9
3.1
3.0
2.4
2.7
2.7
2.3
2.4
2.3
1.8
1.7
1.3
0.9
0.7
0.3
0.2
-
45.0
4.9
2.2
1.9
1.7
4.8
2.2
1.9
1.7
3.3
1.4
0.9
1.0
0.5
0.5
0.2
0.2
0.2
0.3
0.1
0.1
0.1
-
0.2
19.7
6.2
4.5
3.9
3.9
3.1
3.0
2.7
2.7
2.6
2.4
2.4
2.3
1.7
1.7
1.3
0.9
0.7
0.3
0.2
-
46.5
4.9
2.3
1.9
1.7
1.5
1.4
1.1
1.0
0.5
0.4
0.2
0.2
0.2
0.2
0.1
0.1
0.1
-
1.4
1.4
0.9
1.0
0.5
0.5
0.2
0.2
0.2
0.3
0.1
0.1
0.1
-
0.1
17.6
-
17.8
- 33 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
14. ADDITIONAL ARENA GROUP INVESTMENT SCHEDULES (continued)
ARENA FINANCE
Details of the loan and Private Asset positions of AFHC and AFHC’s subsidiaries are as follows:
Details of Loan and Private Asset Positions (continued)
(unaudited)
(millions except for percentage)
December 31, 2017
Investments by industry
Ref. no.
Structured Finance
Lease/Equipment
SF-1793
Other assets
SF-2253
Lease/Equipment
SF-2201
Other assets
SF-1999
Consumer
SF-1052F
Other assets
SF-1811
Consumer
SF-1788/1933
Other assets
SF-1800
Commercial & Industrial
SF-1520
Lease/Equipment
SF-1716
Other assets
SF-1519
Other assets
SF-2000
Consumer
SF-1245
Consumer
SF-2204
Other assets
SF-2259
Consumer
SF-2139
SF-1933REO
Consumer
SF-1788REOS3 Consumer
Consumer
SF-2373
Other assets
SF-2398
Consumer
SF-1934
Other assets
SF-1007
Consumer
SF-1788REO
Consumer
SF-1052S
Other assets
SF-1035
Other assets
SF-2729
Lease/Equipment
SF-2323
Other assets
SF-1038
Consumer
SF-1788REO
Other assets
SF-1282
Other assets
SF-1018
Other assets
SF-1002
Other assets
SF-1037
Consumer
SF-1020
SF-2589
Other assets
Subtotal / Weighted average %
Principal (1)
Investments
at cost
Investments
at fair value
Geographic
location
Collateral
Total coupon
(including PIK) (2)
9.6
7.8
3.7
3.0
3.2
3.6
2.1
2.5
2.0
1.5
3.3
1.5
1.2
4.7
1.1
0.8
0.8
0.8
0.7
0.8
0.6
0.8
0.4
1.5
0.4
0.3
0.2
0.2
0.2
-
0.2
0.3
0.1
-
2.7
62.6
9.6
7.8
3.7
3.2
3.2
2.8
2.1
2.5
2.0
1.5
1.5
1.5
1.2
1.1
1.1
0.8
0.8
0.8
0.7
0.8
0.6
0.5
0.4
1.5
0.4
0.3
0.2
0.2
0.2
-
0.2
0.3
0.1
-
-
53.6
9.6
8.3
3.9
3.3
3.2
2.8
2.6
2.5
2.0
1.8
1.5
1.5
1.2
1.1
1.1
1.0
0.8
0.8
0.8
0.8
0.6
0.5
0.4
0.3
0.3
0.3
0.2
0.2
0.2
0.1
0.1
0.1
-
-
-
53.9
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
Europe
Hard Asset
First Lien
Hard Asset
First Lien
First Lien
Second Lien
First Lien
First Lien
First Lien
Hard Asset
Second Lien
First Lien(10)
Second Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
Hard Asset
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
Unsecured
First Lien
n/a (8)
14.00%
n/a (8)
14.00%
15.66%
15.00%
n/a (6)
14.00%
n/a (9)
n/a (8)
15.00%
15.18%
13.00%
14.69%
14.00%
n/a (6)
n/a (6)
n/a (6)
12.00%
14.50%
n/a (6)
13.00%
n/a (6)
15.66%
11.31%
n/a (11)
n/a (8)
n/a (9)
n/a (6)
n/a (12)
9.06%
11.00%
n/a (13)
n/a (14)
20.00%
14.28%
LTV (3)
n/a (8)
72.0%
n/a (8)
65.0%
100.0%
77.8%
53.4%
34.2%
41.0%
n/a (8)
35.5%
75.4%
9.0%
81.8%
58.0%
61.7%
53.4%
53.4%
52.0%
70.2%
53.0%
100.0%
53.4%
100.0%
100.0%
52.6%
n/a (8)
5.0%
61.7%
n/a (12)
100.0%
100.0%
100.0%
100.0%
n/a
63.8%
Total / Weighted average %
52.2%
$
1 Principal represents the total funding commitment of a loan which, if applicable, is inclusive of any unfunded portion of the commitment at the end of the reporting period. Where a loan
is issued at a discount, the cost amount includes the accreted discount as of the end of the reporting period. A loan may also be acquired at a cost lower than the par value of the
principal outstanding.
$ 128.4
13.20%
116.2
118.2
$
2 Some investments bear interest at a rate that may be determined by reference to London Interbank Offered Rate (“LIBOR”) or Prime which reset daily, monthly, quarterly, or semi-
annually and may be subject to a floor. For each, the Company has provided the current contractual interest rate in effect at December 31, 2017. Interest rates listed are inclusive of
PIK, where applicable. PIK is interest paid in kind through an increase in the principal amount of the loan. The internal rate of return for many investments is generally greater than or
equal to the total coupon (additional yield resulting from original issue discounts and/or some form of profit sharing, e.g. warrants). In the event that the internal rate of return on the
investment is less than the stated rate, the lower rate is noted.
3 Loan to value (“LTV”) represents the value of the outstanding loan as a percentage of the estimated fair value of the underlying collateral as of December 31, 2017.
4 Given deteriorating operating performance of the Borrower, Arena has retained financial and operational consultants to assess the near and long term viability of the company; one of
the principal tasks of the consultants will be to derive a "normalized" EBITDA and associated assessment of Enterprise Value. The company presently has negative TTM EBITDA,
therefore there are no reportable LTV or leverage ratios.
5 Denotes subordinate position within the structure.
6
7
Interest not accrued on loans purchased as non-performing.
Investment represents owned real estate acquired through lender default.
Investment represents an aircraft purchased. Coupon and LTV not applicable to hard assets.
Investment in litigation claim proceeds with no stated coupon rate.
Investment consists of a first lien note, a second lien note and a preferred equity investment.
Investment with no stated coupon rate.
Investment is the remaining profit participation on a repaid loan.
Investment is in default past its maturity date and has an uncertain holding period as of December 31, 2017.
8
9
10
11
12
13
14 Investment is a peer-to-peer and consumer lending platform that connects lenders and borrowers for small unsecured loans. While the underlying loans do have stated coupons, the
investment itself does not have a stated coupon.
- 34 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
14. ADDITIONAL ARENA GROUP INVESTMENT SCHEDULES (continued)
ARENA FINANCE
Details of the loan and Private Asset positions of AFHC and AFHC’s subsidiaries are as follows:
Details of Loan and Private Asset Positions
(unaudited)
(millions except for percentage)
December 31, 2016
Principal (1)
Investments
at cost
Investments
at fair value
Geographic
location
Collateral
Total coupon
(including PIK) (2)
Investments by industry
Ref. no.
Corporate Private Credit
CPC-1361TL
CPC-1571
CPC-1266TL
CPC-1267TL
CPC-1101
CPC-1450
CPC-1270
CPC-1297TL
CPC-1665
CPC-ARENARC1
CPC-1268TL
CPC-1199TL
CPC-1630
CPC-1199TL2
CPC-1781
CPC-1265TL
CPC-1268TL2
CPC-1268TL3
CPC-1199
CPC-1268TL4
CPC-1010
CPC-1268RC
CPC-1009RC
CPC-1267RC
CPC-1266RC
CPC-1265RC
CPC-1009A
CPC-1009B
Subtotal / Weighted average %
Healthcare Services
Business Services
Business Services
Business Services
Manufacturing
Oil and Gas
Consumer Products
Financial Services
Industrial
Financial Services
Healthcare Services
Retail
Healthcare Services
Retail
Business Services
Consumer Products
Healthcare Services
Healthcare Services
Retail
Healthcare Services
Oil and Gas
Healthcare Services
Retail
Business Services
Business Services
Consumer Products
Retail
Retail
Real Estate Private Credit
and Real Estate Assets
REPC-1068S4
REPC-1082
REPC-1068
REPC-1207
REPC-1068S3
REPC-1437
REPC-1029
REPC-1033
REPC-1017
REPC-1025
REPC-1046
REPC-1036
REPC-1013
REPC-1047
REPC-1031
REPC-1041
REPC-1042
REPC-1015
Residential
Land - Single-Family
Luxury Development
Commercial
Hospitality
Land
- Multi-Family Development
Land
- Multi-Family Development
Multi-Family
Mixed Use
Land
- Commercial Development
Industrial
Industrial
Retail
Residential
Land
- Commercial Development
Multi-Family
Mixed Use
Residential
Land
- Commercial Development
Subtotal / Weighted average %
$
$
4.2
3.3
3.3
3.2
2.9
2.9
2.5
2.5
2.3
10.0 (4)
1.7
1.7
1.4
1.2
1.1
1.0
0.9
0.8
0.6
0.5
0.2
0.2
0.5
0.2
0.5
0.4
-
-
50.0
3.1
2.8
2.1
2.1
1.5
0.9
0.3
0.2
0.2
0.2
0.2
0.2
0.1
0.1
0.1
0.1
0.1
4.2
4.2
3.3
3.2
2.9
2.8
2.5
2.5
2.3
2.0
1.7
1.7
1.4
1.2
1.1
1.0
0.9
0.8
0.6
0.5
0.2
0.1
0.2
-
-
-
-
-
41.3
3.1
2.8
2.1
2.0
1.5
0.9
0.3
0.2
0.2
0.2
0.2
0.2
0.1
0.1
0.1
0.1
0.1
$
4.2
4.1
3.3
3.2
2.9
2.8
2.5
2.5
2.3
2.0
1.7
1.6
1.4
1.2
1.2
1.0
0.9
0.8
0.6
0.5
0.2
0.1
-
-
-
-
-
-
41.0
3.1
2.8
2.0
1.8
1.5
0.9
0.3
0.2
0.2
0.2
0.2
0.2
0.1
0.1
0.1
0.1
0.1
0.2
14.5
0.1
14.3
0.1
14.0
- 35 -
United States
Europe
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
Canada
United States
United States
United States
Canada
Canada
First Lien
First Lien
First Lien
First Lien
Second Lien
First Lien
First Lien
First Lien
Second Lien
First Lien
First Lien
First Lien
First Lien (5)
First Lien
Second Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
12.00%
30.00%
8.00%
8.25%
15.00%
10.69%
8.75%
9.25%
13.50%
5.25%
8.50%
10.00%
11.54%
10.00%
11.00%
8.00%
9.00%
9.00%
10.00%
9.00%
14.00%
9.00%
6.20%
8.25%
8.00%
8.00%
10.45%
12.45%
12.07%
LTV (3)
51.0%
34.0%
23.5%
38.0%
71.0%
52.0%
35.0%
49.0%
63.0%
n/a (4)
48.3%
60.0%
53.0%
60.0%
14.0%
28.0%
48.3%
48.3%
60.0%
48.3%
43.0%
48.3%
100.0%
38.0%
23.5%
28.0%
100.0%
100.0%
45.7%
United States
First Mortgage
10.27%
47.0%
United States
United States
Europe
First Mortgage
First Mortgage
First Mortgage
12.00%
5.12% (6)
7.00%
57.0%
48.0%
44.8%
United States
First Mortgage (5)
10.27%
70.0%
United States
United States
United States
First Mortgage
First Mortgage
First Mortgage
United States
United States
United States
United States
United States
United States
United States
United States
United States
First Mortgage
Real Property
First Mortgage
First Mortgage
First Mortgage
First Mortgage
First Mortgage
First Mortgage
First Mortgage
United States
Real Property
11.27%
9.00%
9.75%
15.00%
n/a (7)
15.00%
2.75%
16.50%
15.00%
6.75%
13.00%
15.00%
66.0%
37.0%
58.0%
66.0%
n/a (7)
55.0%
38.0%
10.0%
50.0%
65.0%
27.0%
32.0%
n/a (7)
9.61%
n/a (7)
52.4%
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
14. ADDITIONAL ARENA GROUP INVESTMENT SCHEDULES (continued)
ARENA FINANCE
Details of the loan and Private Asset positions of AFHC and AFHC’s subsidiaries are as follows:
Details of Loan and Private Asset Positions (continued)
(unaudited)
(millions except for percentage)
December 31, 2016
Investments by industry
Ref. no.
Structured Finance
SF-1467
SF-1416
SF-1793
SF-1051
SF-1052F
SF-1788/1933
SF-1282S2
SF-1520
SF-1282S3
SF-1052S
SF-1282
SF-1934
SF-1007
SF-1035
SF-1788REO
SF-1018
SF-1038
SF-1002
SF-1027
SF-1020
SF-1026
SF-1037
Subtotal / Weighted average %
Consumer
Other assets
Lease/Equipment
Real Estate-related
Consumer
Consumer
Other assets
Commercial & Industrial
Other assets
Consumer
Other assets
Consumer
Other assets
Other assets
Consumer
Other assets
Other assets
Other assets
Other assets
Consumer
Other assets
Other assets
Principal (1)
Investments
at cost
Investments
at fair value
Geographic
location
Collateral
Total coupon
(including PIK) (2)
6.7
9.6
4.6
4.4
3.7
3.1
2.4
2.0
2.4
1.5
2.4
0.9
0.8
0.4
0.3
0.2
0.2
0.4
0.1
0.1
0.1
0.1
46.4
6.7
4.8
4.6
4.0
3.7
3.1
2.0
2.0
1.8
1.5
1.4
0.9
0.5
0.4
0.3
0.2
0.2
0.3
0.1
0.1
0.1
0.1
38.8
6.7
4.8
4.6
4.0
3.7
3.2
2.0
2.0
1.8
1.5
1.4
1.0
0.5
0.4
0.3
0.2
0.2
0.2
0.1
0.1
0.1
-
38.8
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
First Lien
First Lien
Hard Asset
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
Unsecured
First Lien
First Lien
15.00%
18.00%
n/a (8)
12.00%
12.00%
n/a (9)
12.00%
n/a (10)
12.00%
25.00%
12.00%
n/a (9)
13.00%
10.52%
n/a (9)
8.27%
n/a (10)
11.00%
n/a (10)
n/a (11)
n/a (10)
12.00%
14.45%
LTV (3)
75.0%
70.0%
n/a (8)
54.0%
60.0%
53.0%
85.0%
41.0%
85.0%
60.0%
85.0%
53.0%
100.0%
100.0%
53.0%
100.0%
5.0%
100.0%
28.1%
100.0%
26.2%
100.0%
66.7%
Total / Weighted average %
55.0%
$
1 Principal represents the total funding commitment of a loan which, if applicable, is inclusive of any unfunded portion of the commitment at the end of the reporting period. Where a loan
is issued at a discount, the cost amount includes the accreted discount as of the end of the reporting period. A loan may also be acquired at a cost lower than the par value of the
principal outstanding.
$ 110.9
12.46%
94.4
93.8
$
2 Some investments bear interest at a rate that may be determined by reference to London Interbank Offered Rate (“LIBOR”) or Prime which reset daily, monthly, quarterly, or semi-
annually and may be subject to a floor. For each, the Company has provided the current contractual interest rate in effect at December 31, 2016. Interest rates listed are inclusive of
PIK, where applicable. PIK is interest paid in kind through an increase in the principal amount of the loan. The internal rate of return for many investments is generally greater than or
equal to the total coupon (additional yield resulting from original issue discounts and/or some form of profit sharing, e.g. warrants). In the event that the internal rate of return on the
investment is less than the stated rate, the lower rate is noted.
Instrument relates to a revolving loan facility granted to Arena Investors (see Section 9, Related Party Transactions of this MD&A for additional information on the loan facility).
3 Loan to value (“LTV”) represents the value of the outstanding loan as a percentage of the estimated fair value of the underlying collateral as of December 31, 2016.
4
5 Denotes subordinate position within the structure.
6 Coupon represents a weighted average rate for three non-performing loans acquired from a regional commercial bank.
7 Coupon and LTV not applicable to real property.
8
9
10
Investment represents an aircraft purchased for repositioning. Coupon and LTV not applicable to hard assets.
Interest not accrued on loans purchased as non-performing.
Investment in litigation claim proceeds with no stated coupon rate.
Investment with no stated coupon rate.
11
- 36 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
14. ADDITIONAL ARENA GROUP INVESTMENT SCHEDULES (continued)
ARENA ORIGINATION
The investments of AOC shown by investment strategy are as follows:
12
9
22
48
2
5
16
25
15.0
16.3
3.4
40.9
6.6
8.0
0.7
18.8
Investments by Strategy
(unaudited)
(millions except for number
of positions and percentage)
Investments by strategy:
Corporate Private Credit
Real Estate Private Credit
and Real Estate Assets
Structured Finance 1
Other Securities
Investments by Strategy
(unaudited)
(millions except for number
of positions and percentage)
Investments by strategy:
Corporate Private Credit
Real Estate Private Credit
and Real Estate Assets
Structured Finance 1
Other Securities
Number of
positions
Cost
Fair value
Percentage of
investments at
fair value
%
Debt investments
%
Equity
investments
5
$
6.2
$
6.2
15.0%
15.0%
-
December 31, 2017
$
1 The investments in Structured Finance are inclusive of investments in the following investment strategies of the Arena Group: Commercial & Industrial Assets,
Structured Finance Investments and Consumer Assets.
$
14.9
15.7
4.5
41.3
36.2%
38.0%
10.8%
100.0%
36.2%
38.0%
0.5%
89.7%
-
-
10.3%
10.3%
Number of
positions
Cost
Fair value
Percentage of
investments at
fair value
%
Debt investments
%
Equity
investments
2
$
3.5
$
3.5
18.5%
18.5%
-
December 31, 2016
6.7
8.0
0.7
18.9
35.5%
42.4%
3.6%
100.0%
35.5%
42.4%
1.8%
98.2%
-
-
1.8%
1.8%
$
1 The investments in Structured Finance are inclusive of investments in the following investment strategies of the Arena Group: Commercial & Industrial Assets,
Structured Finance Investments and Consumer Assets.
$
Investments in Corporate Private Credit, Real Estate Private Credit and Real Estate Assets, and Structured Finance relate to loans issued to
privately held entities. Investments in Other Securities are net of short positions and comprise publicly traded corporate bonds, equity securities,
bank debt, private investments in public entity and derivatives.
The investments of AOC shown by geographic breakdown are as follows:
Investments by
Geographic Breakdown
(unaudited)
(millions except for percentage)
Loans / Private Assets
United States
Other Securities 1
United States
Europe
Asia Pacific
Other
1 Net of short positions
December 31, 2017
December 31, 2016
Cost
Fair value
Percentage of
investments at
fair value
Cost
Fair value
Percentage of
investments at
fair value
$
37.5
$
36.8
89.2%
$
18.1
$
18.2
96.4%
0.9
2.1
0.2
0.2
3.4
0.9
2.6
0.7
0.3
4.5
2.1%
6.3%
1.7%
0.7%
10.8%
0.3
0.1
-
0.3
0.7
0.1
0.3
-
0.3
0.7
0.5%
1.5%
-
1.6%
3.6%
$
40.9
$
41.3
100.0%
$
18.8
$
18.9
100.0%
- 37 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
14. ADDITIONAL ARENA GROUP INVESTMENT SCHEDULES (continued)
ARENA ORIGINATION
The investments of AOC shown by industry are as follows:
Investments by Industry
(unaudited)
(millions except for percentage)
Loans / Private Assets
Corporate Private Credit
Business services
Financial services
Oil and Gas
Retail
Real Estate Private Credit
and Real Estate Assets
Commercial
Hospitality
Land
- Commercial Development
Land
- Multi-Family Development
Land
- Single-Family Development
Residential
Retail
Structured Finance
Consumer
Other assets
Total Loans / Private Assets
Other Securities (1)
Consumer Products
Financial Services
Healthcare Services
Industrial
Information Technology
Oil and Gas
Telecommunications
1 Net of short positions
December 31, 2017
December 31, 2016
Cost
Fair value
Percentage of
investments at
fair value
Cost
Fair value
Percentage of
investments at
fair value
$
0.7
1.4
1.8
2.3
6.2
3.5
2.3
3.1
1.9
0.2
2.5
1.5
15.0
11.5
4.8
16.3
37.5
0.6
0.3
0.1
1.4
0.2
0.5
0.3
3.4
0.7
$
1.4
1.8
2.3
6.2
3.4
2.3
3.1
1.9
0.2
2.6
1.4
14.9
11.0
4.7
15.7
36.8
0.7
0.3
0.2
2.1
0.2
0.7
0.3
4.5
$
1.7%
3.5%
4.2%
5.6%
15.0%
8.3%
5.7%
7.5%
4.5%
0.5%
6.2%
3.5%
36.2%
26.7%
11.3%
38.0%
89.2%
1.6%
0.7%
0.5%
5.1%
0.4%
1.7%
0.8%
10.8%
$
-
-
3.5
-
3.5
-
-
4.4
2.2
-
-
-
6.6
6.2
1.8
8.0
-
-
3.5
-
3.5
-
-
4.5
2.2
-
-
-
6.7
6.2
1.8
8.0
18.1
18.2
-
0.1
0.1
-
-
0.5
-
0.7
-
0.1
0.1
-
-
0.5
-
0.7
-
-
18.5%
-
18.5%
-
-
23.6%
11.9%
-
-
-
35.5%
32.8%
9.6%
42.4%
96.4%
-
0.5%
0.5%
-
-
2.6%
-
3.6%
$
40.9
$
41.3
100.0%
$
18.8
$
18.9
100.0%
- 38 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
14. ADDITIONAL ARENA GROUP INVESTMENT SCHEDULES (continued)
ARENA ORIGINATION
Details of the loan and Private Asset positions of AOC are as follows:
Details of Loan and Private Asset Positions
(unaudited)
(millions except for percentage)
December 31, 2017
Principal (1)
Investments
at cost
Investments
at fair value
Geographic
location
Collateral
Total coupon
(including PIK) (2)
Investments by industry
Ref. no.
Corporate Private Credit
CPC-2151
CPC-2397
CPC-2364TL
CPC-2364DD
CPC-104
CPC-1927
Subtotal / Weighted average %
Oil and Gas
Financial Services
Retail
Retail
Business Services
Financial Services
Real Estate Private Credit
and Real Estate Assets
REPC-2556
REPC-2952
REPC-2683
REPC-2159
REPC-1942
REPC-2187
REPC-2560
REPC-2497
REPC-2777
REPC-2528
REPC-2342
REPC-2249
Residential
Land
- Commercial Development
Land
- Multi-Family Development
Commercial
Commercial
Retail
Hospitality
Hospitality
Land
- Commercial Development
Land
- Single-Family Development
Land
- Single-Family Development
Land
- Single-Family Development
Subtotal / Weighted average %
Structured Finance
SF-1839
SF-2620
SF-2651
SF-1998
SF-2261
SF-2064
SF-1999
SF-2147
SF-2147TL2
SF-2228DD1
Subtotal / Weighted average %
Consumer
Consumer
Other assets
Consumer
Other assets
Other assets
Other assets
Other assets
Other assets
Other assets
$
1.9
1.2
1.2
1.5
0.7
0.2
6.7
2.5
2.4
1.9
1.8
1.7
1.5
1.4
0.9
1.1
0.7
0.3
0.4
16.6
6.7
4.1
3.1
1.4
0.6
1.1
0.4
0.2
-
1.5
19.1
$
1.8
1.2
1.2
1.1
0.7
0.2
6.2
2.5
2.4
1.9
1.8
1.7
1.5
1.4
0.9
0.7
0.1
0.1
-
15.0
6.0
4.1
3.1
1.4
0.6
0.6
0.4
0.1
-
-
16.3
$
1.8
1.2
1.2
1.1
0.7
0.2
6.2
2.6
2.4
1.9
1.8
1.6
1.4
1.4
0.9
0.7
0.1
0.1
-
14.9
6.0
3.6
3.0
1.4
0.6
0.6
0.4
0.1
-
-
15.7
United States
United States
United States
United States
United States
United States
First Lien
First Lien
First Lien (4)
First Lien (4)
First Lien
First Lien
11.98%
18.19%
10.42%
10.42%
13.06%
12.00%
12.80%
LTV (3)
36.0%
45.0%
44.0%
44.0%
12.0%
33.0%
38.0%
United States
First Mortgage
8.99%
54.0%
United States
First Mortgage
10.50%
79.0%
United States
United States
United States
United States
United States
United States
First Mortgage
First Mortgage
Real Property
First Mortgage
First Mortgage
First Mortgage
12.31%
12.00%
n/a (5)
9.76%
10.31%
10.31%
58.0%
31.0%
n/a (5)
74.0%
65.0%
65.0%
United States
First Mortgage
10.00%
59.0%
United States
First Mortgage
10.00%
49.0%
United States
First Mortgage
9.00%
42.0%
United States
First Mortgage
9.00%
10.50%
42.0%
60.2%
United States
United States
United States
United States
United States
United States
United States
United States
United States
United States
First Lien
Consumer
Hard Asset
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
First Lien
18.00%
n/a (6)
8.00%
8.16%
18.00%
12.56%
14.00%
13.00%
13.00%
16.00%
13.97%
65.0%
29.0%
75.0%
40.0%
78.0%
37.0%
65.0%
69.0%
45.0%
n/a (7)
56.0%
Total / Weighted average %
54.4%
$
1 Principal represents the total funding commitment of a loan which, if applicable, is inclusive of any unfunded portion of the commitment at the end of the reporting period. Where a loan
is issued at a discount, the cost amount includes the accreted discount as of the end of the reporting period. A loan may also be acquired at a cost lower than the par value of the
principal outstanding.
12.28%
37.5
42.4
36.8
$
$
2 Some investments bear interest at a rate that may be determined by reference to London Interbank Offered Rate (“LIBOR”) or Prime which reset daily, monthly, quarterly, or semi-
annually and may be subject to a floor. For each, the Company has provided the current contractual interest rate in effect at December 31, 2017. Interest rates listed are inclusive of
PIK, where applicable. PIK is interest paid in kind through an increase in the principal amount of the loan. The internal rate of return for many investments is generally greater than or
equal to the total coupon (additional yield resulting from original issue discounts and/or some form of profit sharing, e.g. warrants). In the event that the internal rate of return on the
investment is less than the stated rate, the lower rate is noted.
3 Loan to value (“LTV”) represents the value of the outstanding loan as a percentage of the estimated fair value of the underlying collateral as of December 31, 2017.
4 Denotes subordinate position within the structure.
5 Coupon and LTV not applicable to real property.
6
Investment not accrued on loans purchased as non-performing.
Investment is unfunded as of December 31, 2017.
7
- 39 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
14. ADDITIONAL ARENA GROUP INVESTMENT SCHEDULES (continued)
ARENA ORIGINATION
Details of the loan and Private Asset positions of AOC are as follows:
Details of Loan and Private Asset Positions
(unaudited)
(millions except for percentage)
December 31, 2016
Investments by industry
Ref. no.
Corporate Private Credit
CPC-2051
CPC-1803
Subtotal / Weighted average %
Oil and Gas
Oil and Gas
Real Estate Private Credit
and Real Estate Assets
Land
REPC-1942
- Commercial Development
Land
- Multi-Family Development
REPC-1766
Subtotal / Weighted average %
Structured Finance
SF-1245
SF-1839
SF-1800
SF-1519
SF-1294
SF-1669
SF-1381
Subtotal / Weighted average %
Consumer
Consumer
Other assets
Other assets
Other assets
Other assets
Other assets
Principal (1)
Investments
at cost
Investments
at fair value
Geographic
location
Collateral
Total coupon
(including PIK) (2)
$
2.5
5.9
8.4
4.4
2.2
6.6
5.2
1.1
1.0
1.5
0.1
-
-
8.9
$
$
2.5
1.0
3.5
4.4
2.2
6.6
5.1
1.1
1.0
0.7
0.1
-
-
8.0
2.5
1.0
3.5
4.5
2.2
6.7
5.1
1.1
1.0
0.7
0.1
-
-
8.0
United States
United States
Second Lien
First Lien
United States
Real Property
United States
First Mortgage
United States
United States
United States
United States
United States
United States
United States
Second Lien
First Lien
First Lien
Second Lien
First Lien
First Lien
First Lien
14.25%
11.00%
13.31%
n/a (4)
15.27%
15.27%
13.00%
18.00%
14.00%
15.00%
n/a (5)
n/a (5)
n/a (5)
14.02%
LTV (3)
57.0%
31.0%
49.5%
n/a (4)
61.8%
61.8%
29.0%
76.0%
80.0%
23.0%
12.0%
12.0%
12.0%
40.9%
Total / Weighted average %
47.0%
$
1 Principal represents the total funding commitment of a loan which, if applicable, is inclusive of any unfunded portion of the commitment at the end of the reporting period. Where a loan
is issued at a discount, the cost amount includes the accreted discount as of the end of the reporting period. A loan may also be acquired at a cost lower than the par value of the
principal outstanding.
14.05%
18.1
23.9
18.2
$
$
2 Some investments bear interest at a rate that may be determined by reference to London Interbank Offered Rate (“LIBOR”) or Prime which reset daily, monthly, quarterly, or semi-
annually and may be subject to a floor. For each, the Company has provided the current contractual interest rate in effect at December 31, 2016. Interest rates listed are inclusive of
PIK, where applicable. PIK is interest paid in kind through an increase in the principal amount of the loan. The internal rate of return for many investments is generally greater than or
equal to the total coupon (additional yield resulting from original issue discounts and/or some form of profit sharing, e.g. warrants). In the event that the internal rate of return on the
investment is less than the stated rate, the lower rate is noted.
3 Loan to value (“LTV”) represents the value of the outstanding loan as a percentage of the estimated fair value of the underlying collateral as of December 31, 2016.
4 Coupon and LTV not applicable to real property.
5
Investment in litigation claim proceeds with no stated coupon rate.
- 40 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
15. NON-GAAP MEASURES
Book value per share
Book value per share is computed as book value divided by the adjusted number of common shares. Management believes book value per share
is a useful financial performance measure of the Company as, the relative increase or decrease from period to period in book value per share
should approximate over the long term the relative increase or decrease in the intrinsic value of the Company’s businesses, in large part because
book value reflects the fair value of the Company's primary investments which are accounted for at fair value through profit or loss under IFRS.
However, book value is not necessarily equivalent to the net realizable value of the Company’s assets per share.
The table below provides the reconciliation of the Company’s shareholders’ equity at the end of the period, determined on an IFRS basis, to book
value, and the number of common shares outstanding at the end of the period to the adjusted number of common shares:
(millions except share and per share data)
Book value (in US$):
Shareholders’ equity per IFRS
Adjustments:
RSU liability 1
Derivative warrant liability 2
Assumed exercise proceeds of in-the-money options 3
Number of common shares:
Number of common shares outstanding
Adjustments for assumed exercise of:
Outstanding RSUs 1
In-the-money options 3
Adjusted number of common shares
Book value per share - in US$
Book value per share - in C$ 4
Westaim TSXV closing share price - in C$
December 31, 2017
December 31, 2016
$
326.0
$
318.5
7.2
6.7
9.2
349.1
5.4
-
-
323.9
$
143,186,718
143,186,718
3,034,261
3,860,397
150,081,376
3,082,073
-
146,268,791
2.33
2.92
3.11
$
$
$
2.21
2.97
2.80
$
$
$
$
1 See note 13 to the Company’s audited annual consolidated financial statements for the years ended December 31, 2017 and 2016. Liability related to RSUs
converted from C$ to US$ at period end exchange rates. RSUs are exercisable for common shares at no cost to the holders. Adjustment made to reflect a
reclassification of the RSU liability to shareholders’ equity assuming all outstanding RSUs were exercised for common shares.
2 See note 9 to the Company’s audited annual consolidated financial statements for the years ended December 31, 2017 and 2016. Derivative warrant liability
converted from C$ to US$ at period end exchange rates. Adjustment made as the non-cash fair value change in the derivative warrant liability from period to
period is not indicative of the change in the intrinsic value of the Company. Vested Warrants not included in the adjusted number of common shares as none of
them were in-the-money at December 31, 2017.
3 See note 13 to the Company’s audited annual consolidated financial statements for the years ended December 31, 2017 and 2016. Exercise price of options
denominated in C$ and assumed exercise proceeds of in-the-money options at period end converted to US$ at period end exchange rates. Adjustment made as
exercise of in-the-money options would have resulted in an infusion of capital to the Company.
4 Book value per share converted from US$ to C$ at period end exchange rates. Period end exchange rates: 1.2539 at December 31, 2017 and 1.3427 at
December 31, 2016.
16. CAUTIONARY NOTE REGARDING FUTURE ORIENTED FINANCIAL INFORMATION
Certain portions of this MD&A, as well as other public statements by the Company, contain forward-looking statements. In particular, the words
"strategy", "may", "will", "continue", "developed", "objective", "potential", "exploring", "could", "expect", "expected", "expects", “tends”, "indicates",
and words and expressions of similar import, are intended to identify forward-looking statements. Such forward-looking statements include but are
not limited to statements concerning: strategies, alternatives and objectives to maximize value for shareholders; expectations and assumptions
relating to the Company’s business plan; expectations and assumptions relating to the business and operations of HIIG and the Arena Group;
expectations regarding the Company’s assets and liabilities; the Company’s ability to retain key employees; management’s belief that its estimates
for determining the valuation of the Company’s assets and liabilities are appropriate; the Company’s views regarding potential future remediation
costs; the effect of changes to interpretations of tax legislation on income tax provisions in future periods; and the Company’s determination that
the adoption of new accounting standards will not have a material impact on its consolidated financial statements.
- 41 -
The Westaim Corporation
Management’s Discussion and Analysis
Year ended December 31, 2017
(Currency amounts in United States dollars unless otherwise indicated)
16. CAUTIONARY NOTE REGARDING FUTURE ORIENTED FINANCIAL INFORMATION (continued)
These statements are based on current expectations that are subject to risks, uncertainties and assumptions and the Company can give no
assurance that these expectations are correct. By their nature, these statements are subject to inherent risks and uncertainties that may be
general or specific. A variety of material factors, many of which are beyond the Company’s control, may affect the operations, financial position,
performance and results of the Company and its business, and could cause actual results to differ materially from the expectations expressed in
any of these forward-looking statements.
The Company’s actual results or financial position could differ materially from those anticipated by these forward-looking statements for various
reasons generally beyond the Company’s control, including, without limitation, the following factors: risks inherent in acquisitions generally; the
volatility of the stock market and other factors affecting the Company’s share price; future sales of a substantial number of the Company’s common
shares; the Company’s ability to generate revenue from its investments; the Company’s ability to raise additional capital; environmental risks;
regulatory requirements may delay or deter a change in control of the Company; fluctuations in the US$ to C$ exchange rate; the potential
treatment of the Company as a passive foreign investment company for U.S. federal income tax purposes; the occurrence of catastrophic events
including terrorist attacks and weather related natural disasters; the cyclical nature of the property and casualty insurance industry; HIIG’s ability to
adequately maintain loss reserves to cover its estimated liability for unpaid losses and loss adjustment expenses; the effects of emerging claim
and coverage issues on HIIG’s business; the effect of government regulations designed to protect policyholders and creditors rather than
investors; the effect of climate change on the risks that HIIG insures; HIIG’s reliance on brokers and third parties to sell its products to clients; the
effect of intense competition and/or industry consolidation; HIIG’s ability to accurately assess underwriting risk; the effect of risk retentions on
HIIG’s risk exposure; HIIG’s ability to alleviate risk through reinsurance; dependence by HIIG on key employees; the effect of litigation and
regulatory actions; HIIG’s ability to successfully manage credit risk (including credit risk related to the financial health of reinsurers); HIIG’s ability
to compete against larger more well-established competitors; unfavourable capital market developments or other factors which may affect the
investments of HIIG; HIIG’s ability to maintain its financial strength and issuer credit ratings; HIIG’s ability to obtain additional funding; HIIG’s ability
to successfully pursue its acquisition strategy; HIIG’s possible exposure to goodwill or intangible asset impairment in connection with its
acquisitions; HIIG’s ability to receive dividends from its subsidiaries; HIIG’s reliance on information technology and telecommunications systems;
dependence by HIIG on certain third party service providers; Arena’s limited operating history; Arena’s ability to mitigate operational and due
diligence risks; the subjective nature of the valuation methods for certain of Arena’s investments; Arena’s ability to mitigate regulatory and other
legal risks; Arena’s ability to find appropriate investment opportunities; Arena Investors’ ability to successfully navigate and secure compliance with
regulations applicable to it and its business; the performance of the investments of Arena; Arena’s investment in illiquid investments; Arena’s
ability to manage risks related to its risk management procedures; dependence by Arena on key management and staff; Arena Investors’ ability to
compete against current and potential future competitors; conflicts of interest; employee error or misconduct; Arena’s ability to finance borrowers in
a variety of industries; dependence by Arena Origination and Arena Finance on the creditworthiness of borrowers; the ability of Arena Origination
and/or Arena Finance to mitigate the risk of default by and bankruptcy of a borrower; the ability of Arena Origination and/or Arena Finance to
adequately obtain, perfect and secure loans; the ability of Arena Origination and/or Arena Finance to limit the need for enforcement or liquidation
procedures; the ability of Arena Origination and/or Arena Finance to protect against fraud; changes to the regulation of the asset-based lending
industry; United States tax law implications relating to the conduct of a U.S. trade or business; and other risk factors set forth herein or in the
Company’s annual report or other public filings.
The Company disclaims any intention or obligation to revise forward-looking statements whether as a result of new information, future
developments or otherwise except as required by law. All forward-looking statements are expressly qualified in their entirety by this cautionary
statement.
- 42 -
March 29, 2018
MANAGEMENT'S RESPONSIBILITY
FOR FINANCIAL INFORMATION
The accompanying consolidated financial statements including the notes thereto have been prepared by,
and are the responsibility of, the management of The Westaim Corporation. This responsibility includes
selecting appropriate accounting policies and making estimates and informed judgments based on the
anticipated impact of current transactions, events and trends, consistent with International Financial
Reporting Standards. The Board of Directors is responsible for ensuring that management fulfills its
responsibility for financial reporting and internal control. In meeting our responsibility for the reliability and
timeliness of financial information, the Company maintains and relies upon a comprehensive system of
internal controls including organizational, procedural and disclosure controls. The Audit Committee,
which is comprised of three Directors, all of whom are independent, meets with management as well as
the external auditors to satisfy itself that management is properly discharging its financial reporting
responsibilities and to review the consolidated financial statements and the report of the auditors. It
reports its findings to the Board of Directors who approve the consolidated financial statements.
The accompanying consolidated financial statements have been audited by Deloitte LLP, the independent
auditors, in accordance with generally accepted auditing standards. The auditors have full and
unrestricted access to the Audit Committee.
J. Cameron MacDonald
President and Chief Executive Officer
Glenn G. MacNeil
Chief Financial Officer
- 43 -
Independent Auditor’s Report
TO THE SHAREHOLDERS OF
THE WESTAIM CORPORATION
We have audited the accompanying consolidated financial statements of The Westaim Corporation, which comprise
the consolidated statements of financial position as at December 31, 2017 and 2016, and the consolidated statements
of profit (loss) and comprehensive income (loss), consolidated statements of changes in equity and, consolidated
cash flow statements for the years then ended, and a summary of significant accounting policies and other
explanatory information.
Management’s Responsibility for the Consolidated Financial Statements
Management is responsible for the preparation and fair presentation of these consolidated financial statements in
accordance with International Financial Reporting Standards, and for such internal control as management
determines is necessary to enable the preparation of consolidated financial statements that are free from material
misstatement, whether due to fraud or error.
Auditor’s Responsibility
Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We
conducted our audits in accordance with Canadian generally accepted auditing standards. Those standards require
that we comply with ethical requirements and plan and perform the audit to obtain reasonable assurance about
whether the consolidated financial statements are free from material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the
consolidated financial statements. The procedures selected depend on the auditor's judgment, including the
assessment of the risks of material misstatement of the consolidated financial statements, whether due to fraud or
error. In making those risk assessments, the auditor considers internal control relevant to the entity's preparation and
fair presentation of the consolidated financial statements in order to design audit procedures that are appropriate in
the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity's internal control.
An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of
accounting estimates made by management, as well as evaluating the overall presentation of the consolidated
financial statements.
We believe that the audit evidence we have obtained in our audits is sufficient and appropriate to provide a basis for
our audit opinion.
Opinion
In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of
The Westaim Corporation as at December 31, 2017 and 2016, and its financial performance and its cash flows for
the years then ended in accordance with International Financial Reporting Standards.
Chartered Professional Accountants
Licensed Public Accountants
March 29, 2018
Toronto, Canada
- 44 -
The Westaim Corporation
Consolidated Statements of Financial Position
(thousands of United States dollars)
ASSETS
Cash
Loans receivable (note 4)
Other assets (note 5)
Investments (note 6)
LIABILITIES
Accounts payable and accrued liabilities (note 7)
Preferred securities (note 8)
Derivative warrant liability (note 9)
Site restoration provision (note 10)
Commitments and contingent liabilities (note 11)
SHAREHOLDERS' EQUITY
Share capital (note 12)
Contributed surplus (note 2m and 13)
Accumulated other comprehensive loss (note 2n)
Deficit
December 31
2017
December 31
2016
$
$
$
$
7,813
23,925
3,114
351,338
386,190
$
$
9,824
39,876
6,678
3,770
60,148
382,182
14,172
(2,227)
(68,085)
326,042
$
386,190
$
3,027
-
4,423
321,718
329,168
7,224
-
-
3,439
10,663
382,182
12,210
(2,227)
(73,660)
318,505
329,168
The accompanying notes are an integral part of these consolidated financial statements
Approved on behalf of the Board
Ian W. Delaney
Director
John W. Gildner
Director
- 45 -
The Westaim Corporation
Consolidated Statements of Profit (Loss) and Comprehensive Income (Loss)
(thousands of United States dollars except share and per share data)
Year Ended December 31
2017
2016
Revenue
Investment income (note 14)
Fee income (note 14)
Net results of investments
Unrealized gain (loss) on investments in private entities (note 6)
Share of loss of associates (note 6)
Unrealized gain on other investments (note 5)
Net expenses
Salaries and benefits
General, administrative and other
Professional fees
Site restoration provision (note 10)
Share-based compensation (note 13)
Foreign exchange
Interest on preferred securities (note 8)
Derivative warrants (note 9)
Preferred securities issuance costs (note 8)
Profit (loss) and comprehensive income (loss)
Earnings (loss) per share - basic and diluted (note 16)
Weighted average number of common shares outstanding (in thousands)
Basic and diluted
The accompanying notes are an integral part of these consolidated financial statements
$
$
$
$
2,244
1,440
3,684
22,909
(3,379)
333
19,863
3,035
1,062
695
72
3,810
1,653
1,161
5,979
505
17,972
1,256
1,440
2,696
(1,669)
(2,376)
47
(3,998)
2,799
979
957
(547)
2,622
183
-
-
-
6,993
5,575
$
(8,295)
0.04
$
(0.06)
143,187
143,187
- 46 -
The Westaim Corporation
Consolidated Statements of Changes in Equity
Year ended December 31, 2017
(thousands of United States dollars)
Share
Capital
Contributed
Surplus
Accumulated
Other
Comprehensive
Loss
Deficit
Total
Equity
Balance at January 1, 2017
$
382,182
$
12,210
$
(2,227)
$
(73,660)
$
318,505
Stock option plan expense (note 13)
Profit
-
-
1,962
-
-
-
-
5,575
1,962
5,575
Balance at December 31, 2017
$
382,182
$
14,172
$
(2,227)
$
(68,085)
$
326,042
Year ended December 31, 2016
(thousands of United States dollars)
Share
Capital
Contributed
Surplus
Accumulated
Other
Comprehensive
Loss
Deficit
Total
Equity
Balance at January 1, 2016
$
382,182
$
11,498
$
(2,227)
$
(65,365)
$
326,088
Stock option plan expense (note 13)
Loss
-
-
712
-
-
-
-
(8,295)
712
(8,295)
Balance at December 31, 2016
$
382,182
$
12,210
$
(2,227)
$
(73,660)
$
318,505
The accompanying notes are an integral part of these consolidated financial statements
- 47 -
The Westaim Corporation
Consolidated Cash Flow Statements
(thousands of United States dollars)
Operating activities
Profit (loss)
Unrealized (gain) loss on investments in private entities
Share of loss of associates
Unrealized gain on other investments
Share-based compensation expense
Share-based compensation payments
Site restoration provision expense (recovery)
Site restoration payments
Lease expense
Depreciation and amortization
Unrealized foreign exchange loss
Change in fair value of derivative warrant liability (note 9)
Net change in other non-cash balances
Other assets
Accounts payable and accrued liabilities
Cash provided from (used in) operating activities
Investing activities
Purchase of investments in private entities
Loans made to subsidiaries (note 4)
Repayment of loans made to subsidiaries (note 4)
Purchase of capital assets
Loans made to associates (note 6)
Repayment of loans made to associates (note 6)
Cash used in investing activities
Financing activities
Issuance of preferred securities (note 8)
Cash from financing activities
Net increase (decrease) in cash
Cash, beginning of year
Cash, end of year
Cash
Supplemental disclosure of cash flow information:
Interest paid
The accompanying notes are an integral part of these consolidated financial statements
Year Ended December 31
2016
2017
$
5,575
(22,909)
3,379
(333)
3,810
(340)
72
-
(12)
53
2,481
5,979
1,711
614
80
(5)
(37,030)
14,812
(12)
(14,500)
4,415
(32,320)
37,026
37,026
4,786
3,027
7,813
7,813
$
$
(8,295)
1,669
2,376
(47)
2,622
(273)
(547)
(15)
(44)
48
211
-
(1,769)
1
(4,063)
-
-
-
(69)
(639)
-
(708)
-
-
(4,771)
7,798
3,027
3,027
659
$
-
$
$
$
$
- 48 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
1
Nature of Operations
The Westaim Corporation (“Westaim” or the “Company”) was incorporated on May 7, 1996 by articles of incorporation under the Business
Corporations Act (Alberta). The Company’s head office is located at Suite 1700, 70 York Street, Toronto, Ontario, Canada. These
consolidated financial statements were authorized for issue by the Board of Directors of the Company on March 29, 2018.
Westaim is a Canadian investment company specializing in providing long-term capital to businesses operating primarily within the global
financial services industry. The Company’s principal investments consist of Houston International Insurance Group, Ltd. (through Westaim
HIIG Limited Partnership) and the Arena Group (as described in note 6). The Company’s common shares are traded on the TSX Venture
Exchange (the “TSXV”) under the symbol WED.
These consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries, Westaim Management
Limited Partnership (“Management LP”), Westaim Management GP Inc. (“Management GP”), Westaim HIIG GP Inc. (“HIIG GP”) and The
Westaim Corporation of America (“WCA”).
All currency amounts are expressed in thousands of United States dollars (“US$”), the functional and presentation currency of the Company,
except per share data, unless otherwise indicated.
2
Summary of Significant Accounting Policies
The significant accounting policies used to prepare these consolidated financial statements are as follows:
(a) Basis of preparation
These consolidated financial statements are prepared in compliance with International Financial Reporting Standards (“IFRS”).
The Company meets the definition of an investment entity under IFRS 10 "Consolidated Financial Statements" ("IFRS 10") and measures its
investments in particular subsidiaries at fair value through profit or loss (“FVTPL”), instead of consolidating those subsidiaries in its
consolidated financial statements. Entities accounted for at FVTPL consist of Westaim HIIG Limited Partnership (the “HIIG Partnership”),
Arena Finance Company Inc. (“Arena Finance”) and Westaim Origination Holdings, Inc. (“Arena Origination”).
The financial statements of entities controlled by the Company which provide investment-related services are consolidated. These entities
consist of its wholly-owned subsidiaries, Management LP, Management GP, HIIG GP and WCA. The financial results of these entities are
included in the consolidated financial statements from the date that control commences until the date that control ceases. The Company
controls an entity when the Company has power over the entity, is exposed to, or has rights to, variable returns from its involvement with the
entity and has the ability to affect those returns through its power over the entity. Assessment of control is based on the substance of the
relationship between the Company and the entity and includes consideration of both existing voting rights and, if applicable, potential voting
rights that are currently exercisable or convertible. Intercompany balances and transactions are eliminated upon consolidation.
Investments in associates are accounted for using the equity method in accordance with International Accounting Standard (“IAS”) IAS 28
“Investments in Associates and Joint Ventures” and consist of investments in corporations or limited partnerships where the Company has
significant influence. Significant influence is the power to participate in the financial and operating policy decisions of the investee but is not
control or joint control over these policies. The Company’s investments in associates consist of its investments in Westaim Arena Holdings II,
LLC (“WAHII”) (through WCA), Arena Special Opportunities Fund (Onshore) GP, LLC (“ASOF-ON GP”) (through WCA), and Arena Special
Opportunities Fund (Offshore) II GP, LP (“ASOF-OFF II GP”) (the “Associates”), and are reported under investments in the consolidated
statements of financial position, with the Company’s share of profit (loss) and comprehensive income (loss) of the Associates reported under
“Net results of investments” in the consolidated statements of profit (loss) and comprehensive income (loss).
(b) Functional and presentation currency
The US$ is the functional and presentation currency of the Company. IAS 21 “The Effects of Changes in Foreign Exchange Rates” describes
functional currency as the currency of the primary economic environment in which an entity operates. A significant majority of the Company’s
revenues and costs are earned and incurred in US$, respectively.
(c) Use of estimates
The preparation of financial statements requires management to make estimates that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from these estimates and changes in estimates are recorded in the reporting period in
which they are determined. Key estimates include the fair value of investments in private entities, provision for site restoration, fair value of
share-based compensation, fair value of derivative warrant liability, and unrecognized deferred tax assets.
- 49 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
2
Summary of Significant Accounting Policies (continued)
(d) Judgments made by management
Key areas where management has made difficult, complex or subjective judgments in the process of applying the Company’s accounting
policies, often as a result of matters that are inherently uncertain, include determining that the Company meets the definition of an investment
entity under IFRS 10, valuation techniques for fair value determination of investments in private entities, applying the equity method of
accounting for associates and determining that the Company’s functional currency is the US$. For additional information on these judgments,
see note 6 for investments in private entities and associates and note 2(b) for functional currency.
(e) Foreign currency translation
Transactions in foreign currencies are translated into US$ at rates of exchange prevailing at the time of such transactions. Monetary assets
and liabilities transacted in foreign currencies are translated into US$ at rates of exchange at the end of the reporting period. Non-monetary
items measured at fair value in a foreign currency are translated using exchange rates at the date when the fair value was measured. Any
resulting foreign exchange gain or loss is included in the consolidated statements of profit (loss) and comprehensive income (loss).
From time to time, the Company may enter into foreign exchange forward contracts to manage certain foreign currency exposures arising
from foreign currency denominated transactions. The Company has not designated any foreign exchange forward contracts as accounting
hedges. Any resulting foreign exchange gain or loss arising from the foreign exchange forward contracts is included in the consolidated
statements of profit (loss) and comprehensive income (loss).
(f) Revenue recognition
Investment income includes interest income and dividend income. Interest income is recognized on an accrual basis and dividend income is
recognized on the ex-dividend date. Advisory and management fees are recorded as fee income on an accrual basis when earned.
(g) Cash and cash equivalents
Cash and cash equivalents generally consist of cash on deposit and highly liquid short-term investments with original maturities of 90 days or
less. At December 31, 2017, the Company’s cash consisted of cash on deposit, including restricted cash on deposit of $2,500 (see note 8).
(h) Capital assets
The Company’s capital assets are included in other assets and are reported at cost less accumulated depreciation. Depreciation is calculated
based on the estimated useful lives of the particular assets which is 3 to 10 years for furniture and equipment. Leasehold improvements are
depreciated using the straight-line method over the lesser of the term of the lease or the estimated useful life of the assets. At the end of each
reporting period, management reviews the carrying amounts of capital assets for any indication of impairment. An impairment loss is
recognized for the amount by which the carrying amount of the asset exceeds its recoverable amount. The recoverable amount is the higher
of fair value less cost to sell and value in use.
(i) Investments
The Company’s investments in private entities are classified as FVTPL and are carried at fair value. At initial recognition, investments in
private entities are measured at cost, which is representative of fair value, and subsequently, at each reporting date, recorded at fair value
with gains and losses arising from changes in fair values being recorded in the consolidated statements of profit (loss) and comprehensive
income (loss) for the period in which they arise. Transaction costs on the investments are expensed as incurred.
Investments in associates are initially recorded at cost and subsequently adjusted to recognize the Company’s share of profit (loss) and other
comprehensive income (loss) of the Associates and any dividends received from the Associates. Transaction costs on investments in
associates are capitalized.
Investments in financial assets and instruments that are not traded in an active market, including private entities, are generally valued initially
at the cost of acquisition on the basis that such cost is a reasonable estimate of fair value. Such investments are subsequently revalued using
accepted industry valuation techniques. The Company considers a variety of methods and makes assumptions that are based on market
conditions existing at each period end date. Valuation techniques used may include initial acquisition cost, net asset value, discounted cash
flow analysis, comparable recent arm’s length transactions, comparable publicly traded company metrics, reference to other instruments that
are substantially the same, option pricing models and other valuation techniques commonly used by market participants. Any sale, size or
other liquidity restrictions on the investment are also considered by management in its determination of fair value. Due to the inherent
uncertainty of valuation, management’s estimated values may differ significantly from the values that would have been used had an active
market for the investments existed, and the differences could be material.
- 50 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
2
Summary of Significant Accounting Policies (continued)
The Company may use internally developed models, which are usually based on valuation methods and techniques generally recognized as
accepted within the industry. Valuation models are used primarily to value unlisted equity and debt securities for which no market quotes exist
or where markets were or have been inactive during the financial period. Some of the inputs to these models may not be observable and are
therefore estimated based on assumptions. The output of a model is always an estimate or approximation of a value that cannot be
determined with certainty, and valuation techniques employed may not fully reflect all factors relevant to the positions the Company holds.
Valuations are therefore adjusted, where appropriate, to allow for additional factors including model risk, liquidity risk and counterparty risk.
Management is responsible for performing fair value measurements included in the Company’s consolidated financial statements for each
quarter. The Company prepares a detailed valuation for each reporting period describing the valuation processes and procedures undertaken
by management. The applicable valuation memoranda are provided to members of the Company’s audit committee and all Level 3 valuation
results are reviewed with the audit committee as part of its review of the Company’s consolidated financial statements.
(j) Income taxes
Income tax expense is recognized in the consolidated statements of profit (loss) and comprehensive income (loss). Current tax is based on
taxable income which differs from profit (loss) and comprehensive income (loss) because of items of income or expense that are taxable or
deductible in other years and items that are never taxable or deductible.
Deferred tax assets are generally recognized for all deductible temporary income tax differences to the extent that it is probable that taxable
profits will be available against which those deductible temporary differences can be utilized. Deferred tax liabilities are generally recognized
for all taxable temporary differences. Deferred tax assets and liabilities are determined based on the enacted or substantively enacted tax
laws and rates that are anticipated to apply in the year of realization. The measurement of deferred tax assets and liabilities reflects the tax
consequences that would follow from the manner in which the Company expects to recover or settle the carrying amount of the related assets
and liabilities. The carrying amount of the deferred tax asset is reduced to the extent that it is no longer probable that sufficient taxable profits
will be available to allow all or part of the asset to be recovered.
Income tax assets and liabilities are offset when the Company intends to settle on a net basis and there is a legally enforceable right to do so.
(k) Warrants
Warrants subject to a cashless exercise at the discretion of the holder are classified as a derivative liability and measured at FVTPL.
Changes in the fair value of the warrants is reported in the consolidated statements of profit (loss) and comprehensive income (loss) for the
period in which they arise.
(l) Site restoration provision
Future site restoration costs relate to industrial sites previously owned by the Company and are estimated taking into consideration the
anticipated method and extent of the remediation consistent with regulatory requirements, industry practices, current technology and possible
uses of the site. The estimated amount of future restoration costs is reviewed periodically based on available information. The amount of the
provision is the present value of the estimated future restoration costs discounted using interest rates of a high quality government bond in
relation to the estimated cash outflows.
Future reimbursements of costs resulting from indemnifications provided to the Company by previous owners of the industrial sites have not
been recognized in these consolidated financial statements. Reimbursements of site restoration costs are recorded when received.
(m) Contributed surplus
The cost of stock options is recognized over the period from the issue date to the vesting date and recorded as contributed surplus. When
share capital of the Company is repurchased by the Company, the amount by which the average carrying value of the shares exceeds the
cost to repurchase the shares is included in contributed surplus.
(n) Accumulated other comprehensive loss
Comprehensive income (loss) consists of profit (loss) and other comprehensive income (loss). Accumulated other comprehensive loss
consists of cumulative exchange differences from currency translation.
- 51 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
2
Summary of Significant Accounting Policies (continued)
(o) Share-based compensation
The Company maintains share-based compensation plans, which are described in note 13. The cost of stock options is recognized in income
as an expense over the period from the issue date to the vesting date with a corresponding increase in contributed surplus. Any consideration
paid by stock option holders for the purchase of stock is credited to share capital.
Obligations related to Deferred Share Units (“DSUs”) and Restricted Share Units (“RSUs”) are recorded as liabilities at fair value. At each
reporting date they are re-measured at fair value with reference to the fair value of the Company’s stock price and the number of units that
have vested. The corresponding share-based compensation expense or recovery is recognized over the vesting period. When a change in
value occurs, it is recognized in share-based compensation and foreign exchange gain or loss in the applicable financial period.
(p) Earnings per share
Basic earnings per share is calculated by dividing profit or loss by the weighted average number of common shares outstanding during the
reporting period.
Diluted earnings per share is calculated by dividing profit or loss by the weighted average number of shares outstanding during the reporting
period after adjusting both amounts for the effects of all dilutive potential common shares, which consist of options, RSUs and Warrants. Anti-
dilutive potential common shares are not included in the calculation of diluted earnings per share.
3
Accounting Pronouncements Issued but not yet Adopted
In November 2009, the International Accounting Standards Board (“IASB”) issued IFRS 9 “Financial Instruments” (“IFRS 9”) as part of its plan
to replace IAS 39 “Financial Instruments: Recognition and Measurement”. IFRS 9 requires financial assets to be measured at either fair value
or amortized cost. In July 2014, the IASB issued the final version of IFRS 9 incorporating a new expected loss impairment model and
introducing limited amendments to the classification and measurement requirements for financial assets. This version supersedes all previous
versions and is mandatorily effective for periods beginning on or after January 1, 2018. The Company has substantially completed its
assessment of the impact of IFRS 9, including an evaluation of the classification and measurement of the Company's financial instruments as
at December 31, 2017, and management has determined that the adoption of IFRS 9 will not have a material impact on the Company’s
consolidated financial statements. IFRS 9 will be adopted on January 1, 2018 on a retrospective basis without restatement of comparative
periods. The Company is currently evaluating the enhanced disclosure requirements of IFRS 9 on its 2018 interim and annual financial
statements.
On May 28, 2014, the IASB issued a standard on the recognition of revenue from contracts with customers, which will replace all existing
revenue standards and interpretations. The core principle of the new standard is for entities to recognize revenue to depict the transfer of
goods or services to customers in amounts that reflect the consideration to which the entity expects to be entitled in exchange for those goods
or services. The new standard will also result in enhanced disclosures in relation to revenue and provide guidance for transactions that were
not previously addressed comprehensively. Application of the standard is mandatory and it applies to nearly all contracts with customers. The
main exceptions are leases, financial instruments, insurance contracts and certain non-monetary exchange transactions. IFRS 15 “Revenue
from Contracts with Customers” (“IFRS 15”) will be adopted on January 1, 2018 and is to be applied using the retrospective or the modified
retrospective approach. The Company has substantively completed its assessment of IFRS 15, including an evaluation of the Company’s
contracts with customers as at December 31, 2017, and has determined that the adoption of IFRS 15 will not have a material impact on the
Company’s consolidated financial statements. The standard will be adopted on a modified retrospective basis whereby the standard will be
adopted retrospectively commencing on January 1, 2018 without the restatement of comparative periods. The Company is currently
evaluating the enhanced disclosure requirements of IFRS 15 on its 2018 interim and annual financial statements.
On January 13, 2016, the IASB issued IFRS 16 “Leases” (“IFRS 16”) which will replace IAS 17 “Leases”. IFRS 16 will bring most leases on-
balance sheet for lessees under a single model, eliminating the distinction between operating and finance leases. Lessor accounting however
remains largely unchanged and the distinction between operating and finance leases is retained. The new standard is effective for periods
beginning on or after January 1, 2019 with early adoption permitted if IFRS 15 has also been applied. The Company is currently assessing
the impact of this new standard on its consolidated financial statements and has no plans for early adoption.
- 52 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
3
Accounting Pronouncements Issued but not yet Adopted (continued)
In June 2017, the IASB published IFRIC 23, “Uncertainty over Income Tax Treatments” (“IFRIC 23”) effective for annual periods beginning on
or after January 1, 2019. The interpretation requires an entity to assess whether it is probable that a tax authority will accept an uncertain tax
treatment used, or proposed to be used, by an entity in its income tax filings and to exercise judgment in determining whether each tax
treatment should be considered independently or whether some tax treatments should be considered together. The decision should be based
on which approach provides better predictions of the resolution of the uncertainty. An entity also has to consider whether it is probable that the
relevant authority will accept each tax treatment, or group of tax treatments, assuming that the taxation authority with the right to examine any
amounts reported to it will examine those amounts and will have full knowledge of all relevant information when doing so. The interpretation
may be applied on either a fully retrospective basis or a modified retrospective basis without restatement of comparative information. The
Company is currently evaluating the impact of IFRIC 23 on its consolidated financial statements.
On June 20, 2016, the IASB issued amendments to IFRS 2 “Share-based Payment” (“IFRS 2”), clarifying the accounting for cash-settled
share-based payment transactions that include a performance condition, the classification of share-based payment transactions with net
settlement features for withholding tax obligations, and the accounting for modifications of share-based payment transactions from cash-
settled to equity-settled. The amendments are effective for annual periods beginning on or after January 1, 2018. The Company has
substantively completed its assessment of the amendments to IFRS 2 and management has determined that the adoption of the amendments
to IFRS 2 will not have a material impact on the Company’s consolidated financial statements.
4
Loans Receivable
On June 9, 2017, the Company used the proceeds from the Fairfax Financing (as defined in note 8) to loan Canadian dollars (“C$”) 30,000 to
AFHC (as defined in note 6) and C$20,000 to AOC (as defined in note 6) (collectively, the “Arena Loans”) on market terms. The Arena Loans
are denominated in C$, repayable on demand (with a final repayment date not later than June 9, 2022) and secured by the assets of AFHC
and AOC. The Arena Loans carry interest at a rate of 4.5% per annum plus the greater of (i) 3-month LIBOR and (ii) 1%, with the applicable
rate adjusted at the beginning of each quarter. Interest is due at the end of each calendar quarter. On December 21, 2017, AFHC made a
principal repayment of C$20,000 to the Company.
The Arena Loans are recorded under loans receivable in the consolidated statements of financial position. The Arena Loans are translated
into US$ at rates of exchange at the end of each reporting period and any resulting foreign exchange gain or loss is included in the
consolidated statements of profit (loss) and comprehensive income (loss). At December 31, 2017, the carrying amount of the Arena Loans
totaled $23,925, and the Company recorded a foreign exchange gain of $2,469 ($762 realized and $1,707 unrealized) relating to the Arena
Loans for the year ended December 31, 2017. The carrying amount of the Arena Loans approximated fair value at December 31, 2017.
Interest on the Arena Loans earned and received by the Company totaled $1,265 for the year ended December 31, 2017 and was included in
investment income in the consolidated statements of profit (loss) and comprehensive income (loss).
5
Other Assets
Other assets consist of the following:
Capital assets
Investment in Arena Special Opportunities Fund, LP (a)
Receivables from related parties (b)
Unrealized gain on foreign exchange forward contract (note 8)
Accounts receivable and other
December 31,
2017
December 31,
2016
$
$
95
2,255
476
110
178
3,114
$
$
136
1,922
2,200
-
165
4,423
(a) The Company’s investment in Arena Special Opportunities Fund, LP (“ASOF LP”), a fund managed by Arena Investors, LP (see note 6),
is classified at Level 3 of the fair value hierarchy and measured at FVTPL. At December 31, 2017 and 2016, the fair value of the
Company’s interest in ASOF LP was determined by Arena Investors (as defined in note 6) to be $2,255 and $1,922, respectively. The
Company reported unrealized gains of $333 and $47 in the years ended December 31, 2017 and 2016, respectively, with respect to the
investment in the consolidated statements of profit (loss) and comprehensive income (loss).
(b) Receivables from related parties totaled $476 at December 31, 2017 and $2,200 at December 31, 2016 and included certain expenses
paid by the Company on behalf of the Arena Group from time to time which are subject to reimbursement.
- 53 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
6
Investments
The carrying values of the Company’s investments in private entities and associates included under investments in the consolidated
statements of financial position are as follows:
Investments in private entities
Investments in associates
December 31, 2017
December 31, 2016
$
$
343,378
7,960
351,338
$
$
320,464
1,254
321,718
The Company’s principal investments consist of its investments in HIIG (through the HIIG Partnership) and the Arena Group. Investments in
private entities are measured at FVTPL and investments in associates are accounted for using the equity method.
Investments in private entities:
- HIIG Partnership
- Arena Finance
- Arena Origination
Investments in Associates:
- WAHII
- ASOF-ON GP
- ASOF-OFF II GP
Place of
establishment
Principal place
of business
Ownership interest as at
December 31, 2017 and 2016
Ontario, Canada
Ontario, Canada
Delaware, U.S.
Ontario, Canada
Ontario, Canada
New York, U.S.
58.5% owned by Westaim 1
100% owned by Westaim
100% owned by Westaim
Delaware, U.S.
Delaware, U.S.
Delaware, U.S.
New York, U.S.
New York, U.S.
New York, U.S.
51% beneficially owned by Westaim, indirectly through WCA 2
51% beneficially owned by Westaim, indirectly through WCA 2
51% beneficially owned by Westaim 2
1 On December 31, 2016, the Company transferred part of its ownership interest in the HIIG Partnership to Westaim HIIG Holdings Inc. (“HIIG Holdings”), a
newly incorporated wholly-owned subsidiary, at fair value. No gain or loss was recorded upon the transfer. Following the transfer, the Company continues to
own, directly and indirectly through HIIG Holdings, 58.5% of the HIIG Partnership.
2 Legal equity ownership is 100%, and beneficial ownership denotes profit percentage subject to change over time pursuant to the earn-in rights granted to
Bernard Partners, LLC described below under “Investments in Associates”.
The HIIG Partnership, Arena Finance and Arena Origination are investment entities, as defined in IFRS 10, and account for their investments
in subsidiaries at FVTPL instead of consolidating them. The subsidiaries of the HIIG Partnership, Arena Finance and Arena Origination are as
follows:
HIIG Partnership:
- Houston International Insurance Group, Ltd.
(“HIIG”)
Arena Finance:
- Arena Finance Holdings Co., LLC (“AFHC”)
- Arena Finance National, LLC
- Arena Finance Global, LLC
- Arena Finance Markets GP, LLC
- Arena Finance Markets, LP
Arena Origination:
- Arena Origination Co., LLC (“AOC”)
Place of
establishment
Principal place
of business
Ownership interest
as at December 31, 2017
Ownership interest
as at December 31, 2016
Delaware, U.S.
Texas, U.S.
75.0% owned by
HIIG Partnership
74.6% owned by
HIIG Partnership
Delaware, U.S.
New York, U.S.
Delaware, U.S.
Delaware, U.S.
Delaware, U.S.
Delaware, U.S.
New York, U.S.
New York, U.S.
New York, U.S.
New York, U.S.
100% owned by
Arena Finance
100% owned by AFHC
100% owned by AFHC
100% owned by AFHC
100% owned by AFHC
100% owned by
Arena Finance
100% owned by AFHC
100% owned by AFHC
100% owned by AFHC
100% owned by AFHC
Delaware, U.S.
New York, U.S.
100% owned by
Arena Origination
100% owned by
Arena Origination
- 54 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
6
Investments (continued)
Houston International Insurance Group, Ltd.
The Company’s investment in HIIG (through the HIIG Partnership) is recorded as an investment in private entities and is measured at FVTPL
in the Company’s financial statements. See “Investments in Private Entities” below for a further description of the Company’s investment in
the HIIG Partnership.
Arena Group
The Arena Group consists of the following three businesses:
Arena Investors – WAHII, ASOF-ON GP and ASOF-OFF II GP (collectively, “Arena Investors”) jointly operate as an investment manager
offering clients access to fundamentals-based, asset-oriented credit investments. The Company’s investment in Arena Investors is
accounted for using the equity method in the Company’s consolidated financial statements. See “Investments in Associates” below.
Arena Finance – Arena Finance, through AFHC and AFHC’s subsidiaries, is a specialty finance company that primarily purchases
fundamentals-based, asset-oriented credit investments for its own account. The Company’s investment in Arena Finance is measured
at FVTPL in the Company’s consolidated financial statements. See “Investments in Private Entities” below.
Arena Origination – Arena Origination, through AOC, facilitates the origination of fundamentals-based, asset-oriented credit investments
for its own account and/or possible future sale to Arena Finance, clients of Arena Investors and/or other third parties. The Company’s
investment in Arena Origination is measured at FVTPL in the Company’s consolidated financial statements. See “Investments in Private
Entities” below.
Arena Investors, Arena Finance and Arena Origination and related entities are collectively referred to as the “Arena Group”.
INVESTMENTS IN PRIVATE ENTITIES
The Company’s investments in private entities are classified as FVTPL and are carried at fair value under investments in the consolidated
statements of financial position. Changes in fair value are reported under "Net results of investments" in the consolidated statements of profit
(loss) and comprehensive income (loss).
The table below summarizes the fair value hierarchy under which the Company’s investments in private entities are valued. Level 1 fair value
measurements are those derived from quoted prices (unadjusted) in active markets for identical assets or liabilities. Level 2 fair value
measurements are those derived from inputs other than quoted prices included within Level 1 that are observable for the asset or liability,
either directly or indirectly. Level 3 fair value measurements are those derived from valuation techniques that include inputs for the asset or
liability that are not based on observable market data (unobservable inputs). Inputs are considered as observable if they are developed using
market data, such as publicly available information about actual events or transactions, and that reflect the assumption that market
participants would use when pricing the asset or liability.
The Company’s investments in private entities are as follows:
As at December 31, 2017
Investments in private entities:
- HIIG Partnership
- Arena Finance
- Arena Origination
As at December 31, 2016
Investments in private entities:
- HIIG Partnership
- Arena Finance
- Arena Origination
Fair value
Level 1
Level 2
Level 3
$ 157,107
151,315
34,956
$ 343,378
$
Fair value
Level 1
$ 145,227
142,800
32,437
$ 320,464
$
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
$ 157,107
151,315
34,956
$ 343,378
Level 3
$ 145,227
142,800
32,437
$ 320,464
Level 2
$
$
- 55 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
6
Investments (continued)
Changes in investments in private entities included in Level 3 of the fair value hierarchy are as follows:
Year ended December 31, 2017
Investments in private entities:
- HIIG Partnership
- Arena Finance
- Arena Origination
Year ended December 31, 2016
Investments in private entities:
- HIIG Partnership
- Arena Finance
- Arena Origination
Opening
balance
Additions
- Equity
Repayment
of term loan
Unrealized
gain
Ending
balance
$ 145,227
142,800
32,437
$ 320,464
$
$
-
-
7,005
7,005
$
$
-
-
(7,000)
(7,000)
$ 11,880
8,515
2,514
$ 22,909
$ 157,107
151,315
34,956
$ 343,378
Opening
balance
Unrealized
loss
Ending
balance
$ 146,066
143,082
32,985
$ 322,133
$
$
(839)
(282)
(548)
(1,669)
$ 145,227
142,800
32,437
$ 320,464
There were no transfers among Levels 1, 2 and 3 during the years ended December 31, 2017 and 2016.
Investment in Houston International Insurance Group, Ltd.
The Company indirectly owns a significant interest in HIIG, through the HIIG Partnership, an Ontario limited partnership managed by HIIG GP,
a wholly-owned subsidiary of Westaim. HIIG is a U.S. based diversified specialty insurance company providing coverage primarily in the
United States but also globally for certain risks.
At December 31, 2017, the Company owned, directly and indirectly, approximately 58.5% of the HIIG Partnership, representing an
approximate 43.9% indirect ownership interest in HIIG.
Westaim controls the HIIG Partnership through its ownership of approximately 58.5% of the HIIG Partnership and through its control of HIIG
GP, the general partner of the HIIG Partnership; and the HIIG Partnership exercises control over HIIG and its insurance subsidiaries through
its ownership of approximately 75.0% of the issued and outstanding common shares of HIIG (“HIIG Shares”) at December 31, 2017. The
amount of dividends paid to HIIG by its subsidiaries which carry on an insurance business may be subject to restrictions imposed by the
insurance regulators in the United States, thereby limiting the amount of dividends HIIG can pay to its shareholders, including the HIIG
Partnership. Payment of dividends from HIIG to the HIIG Partnership may also be restricted as a result of covenants in credit facilities entered
into by HIIG from time to time.
The Company, through HIIG GP, entered into a management services agreement (the "HIIG MSA") with HIIG commencing on July 31, 2014,
whereby HIIG GP was entitled to receive from HIIG an advisory fee of $1,000 annually for the first three years of the agreement and $500
annually for two years thereafter relating to advisory services provided under the HIIG MSA. The HIIG MSA was amended as of July 1, 2017
such that HIIG GP is entitled to receive from HIIG an advisory fee of $1,000 annually for the final two years of the agreement.
FVTPL
The investment in HIIG (through the HIIG Partnership) is accounted for at FVTPL. The fair value of the Company’s investment in the HIIG
Partnership was determined to be $157,107 at December 31, 2017 and $145,227 at December 31, 2016.
Management used net asset value as the primary valuation technique to arrive at the fair value of the Company’s investment in the HIIG
Partnership of $157,107 at December 31, 2017. The fair value of the HIIG Partnership at December 31, 2017 was derived from a valuation of
the HIIG Shares owned by the HIIG Partnership and other net assets of the HIIG Partnership at December 31, 2017. The carrying values of
the HIIG Partnership’s other net assets, consisting of monetary assets including cash and cash equivalents, accounts receivable, accounts
payable and accrued liabilities, approximate their fair values due to the short maturity of these financial instruments. In valuing the HIIG
Shares, management determined that using net asset value as the primary valuation technique produced the best indicator of the fair value of
the HIIG Shares as at December 31, 2017 and 2016, given that this is the valuation technique which a market participant would employ.
- 56 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
6
Investments (continued)
The significant unobservable inputs used in the valuation were the multiple applied and the adjusted book value of HIIG as at December 31,
2017. Management applied a multiple of 1.1x to the adjusted book value of HIIG at December 31, 2017 (December 31, 2016 - 1.0x). The
adjusted book value of HIIG as at December 31, 2017 reflected 100% of HIIG stockholders’ equity obtained from the audited financial
statements of HIIG for the year ended December 31, 2017 prepared in accordance with United States generally accepted accounting
principles (“US GAAP”), adjusted for a reclassification of a stock notes receivable from employees relating to their purchase of HIIG Shares.
The adjusted book value contained certain significant judgments and estimates made by management of HIIG including the provision for loss
and loss adjustment expenses (LAE), the valuation of goodwill and intangible assets, and the valuation allowance recorded against deferred
income tax assets.
Management considers other secondary valuation methodologies as a way to ensure no significant contradictory evidence exists that would
suggest an adjustment to the fair value as determined by the primary valuation methodology used. In order to do this, the Company may also
consider valuation techniques including the discounted cash flow method, the review of comparable arm’s length transactions involving other
specialty insurance companies and comparable publicly traded company valuations. For greater certainty, these secondary valuation
techniques were not used to arrive at the fair value of the Company’s investment in the HIIG Partnership at the end of each reporting period.
The Company recorded an unrealized gain of $11,880 and an unrealized loss of $839 on its investment in the HIIG Partnership in the years
ended December 31, 2017 and 2016, respectively.
For purposes of assessing the sensitivity of HIIG stockholders’ equity on the valuation of the Company’s investment in the HIIG Partnership, if
HIIG stockholders’ equity at December 31, 2017 was higher by $1,000, the fair value of the Company’s investment in the HIIG Partnership at
December 31, 2017 would have increased by approximately $483 (December 31, 2016 - $437) and the unrealized gain on investments in
private entities for the year ended December 31, 2017 would have increased by approximately $483 (2016 - $437). If HIIG stockholders’
equity at December 31, 2017 was lower by $1,000, an opposite effect would have resulted.
Investments in Arena Finance and Arena Origination
The Company owns a 100% interest in Arena Finance, a specialty finance company, and Arena Origination, a specialty finance origination
company, which form part of the Arena Group. Through its ownership of all of the common shares of Arena Finance and Arena Origination,
Westaim exercises control over each of these businesses.
On August 31, 2015, Arena Finance and Bernard Partners, LLC (“BP LLC”), a limited liability company controlled by certain members of the
Arena Group management team, entered into a limited liability company agreement in respect of AFHC under which BP LLC was issued
Class M units of AFHC which are convertible into Class A units, entitling BP LLC to acquire an equity interest of up to 20% (16.67% on a fully-
diluted basis) in AFHC. The Class M units vest equally over 5 years from August 31, 2015 and carry pre-determined escalating conversion
prices which are in excess of the price paid by the Company for its investment in AFHC (through Arena Finance). A similar agreement was
entered into between Arena Origination and BP LLC with respect to AOC. On June 5, 2017, a cash distribution of $0.93 per Class A unit,
totaling $3,162, was made by AOC to Arena Origination, and in accordance with the AOC LLC Agreement, the pre-determined escalating
conversion prices of the Class M units were correspondingly reduced by $0.93 per Class M unit. At December 31, 2017, the fair value of AOC
attributable to the Class M units was nominal. No Class M units were converted into Class A units in the years ended December 31, 2017 and
2016.
In connection with the capitalization of Arena Origination, the Company granted a term loan of $17,000 to Arena Origination on August 31,
2015. The loan has a seven year term to August 31, 2022, is unsecured and carries interest at a rate of 7.25% per annum, with interest due
on January 1 of each year during the term. On June 6, 2017, Arena Origination repaid $7,000 of the term loan to Westaim, with a remaining
balance of $10,000 outstanding at December 31, 2017.
On June 6, 2017, the Company made an additional equity investment of $7,005 in Arena Origination by acquiring additional common shares
of Arena Origination.
FVTPL
The investments in Arena Finance and Arena Origination are accounted for at FVTPL and are included in investments in private entities. The
fair values of the Company’s investments in Arena Finance and Arena Origination were determined to be $151,315 and $34,956, respectively,
at December 31, 2017 and $142,800 and $32,437, respectively, at December 31, 2016.
- 57 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
6
Investments (continued)
Management used net asset value as the primary valuation technique and determined that 100% (or 1.0x) of the shareholder’s equity of Arena
Finance at December 31, 2017 in the amount of $151,315 approximated the fair value of the Company’s investment in Arena Finance; and
100% (or 1.0x) of the shareholder’s equity of Arena Origination at December 31, 2017 in the amount of $24,956 and the fair value of the term
loan of $10,000, totaling $34,956, approximated the fair value of the Company’s investment in Arena Origination. Management determined
that this valuation technique produced the best indicator of the fair value of Arena Finance and Arena Origination at December 31, 2017. This
same basis of valuation was used to determine the fair value of the Company’s investments in Arena Finance and Arena Origination of
$142,800 and $32,437, respectively, at December 31, 2016.
The significant unobservable inputs used in the valuation of Arena Finance and Arena Origination at December 31, 2017 were the
shareholder’s equity of each of the entities at December 31, 2017 and the multiple applied. Management applied a multiple of 1.0x as the
shareholder’s equity of Arena Finance and Arena Origination reflected the net assets of the respective entity which were carried at fair value
at December 31, 2017, as described below. The shareholder’s equity contained certain significant judgments and estimates made by
management of Arena Finance and Arena Origination, including the determination of the fair value of their subsidiaries’ investments as noted
below.
The carrying values of cash and cash equivalents, short-term investments, accounts receivable, accounts payable and accrued liabilities of
Arena Finance and Arena Origination and their subsidiaries approximate their fair values due to the short maturity of these financial
instruments. The subsidiaries of Arena Finance and Arena Origination also make investments in equity securities, corporate bonds, private
loans and other private investments, warrants and derivative instruments. When an investment is acquired or originated, its fair value is
generally the value of the consideration paid or received. Subsequent to initial recognition, the subsidiaries of Arena Finance and Arena
Origination determine the fair value of the investments using the following valuation techniques and inputs:
Equity securities that are actively traded on a securities exchange are valued based on quoted prices from the applicable exchange.
Equity securities traded on inactive markets and certain foreign equity securities are valued using significant other observable inputs, if
available, and include broker quotes or evaluated price quotes received from pricing services. If the inputs are not observable or
available on a timely basis, the values of these securities are determined using valuation methodologies for Level 3 investments
described below.
Corporate bonds are valued using various inputs and techniques, which include third-party pricing services, dealer quotations, and
recently executed transactions in securities of the issuer or comparable issuers. Adjustments to individual bonds can be applied to
recognize trading differences compared to other bonds issued by the same issuer. Values for high-yield bonds are based primarily on
pricing services and dealer quotations from relevant market makers. The dealer quotations received are supported by credit analysis of
the issuer that takes into consideration credit quality assessments, daily trading activity, and the activity of the underlying equities, listed
bonds, and sector-specific trends. If these inputs are not observable or timely, the values of corporate bonds and convertible bonds are
determined using valuation methodologies for Level 3 investments described below.
Private loans and other private investments are valued using valuation methodologies for Level 3 investments. When valuing private
loans, factors evaluated include the impact of changes in market yields, credit quality of the borrowers and estimated collateral values. If
there is sufficient credit coverage, a yield analysis is performed by projecting cash flows for the instrument and discounting the cash
flows to present value using a market-based, risk adjusted rate. On each valuation date, an analysis of market yields is also performed
to determine if any adjustments to the fair values are necessary. Techniques used to value collateral, real estate, and other hard assets
include discounted cash flows, with the discount rate being the primary unobservable input, recent transaction pricing and third party
appraisals. Private investments held through joint ventures are valued net of each respective joint venture waterfall and other joint
venture assets and liabilities.
Warrants that are actively traded on a securities exchange are valued based on quoted prices. Warrants that are traded over-the-
counter or are privately issued are valued based on observable market inputs, if available. If these inputs are not observable or timely,
the values of warrants are determined using valuation methodologies for Level 3 investments described below.
Listed derivative instruments, such as listed options, that are actively traded on a national securities exchange are valued based on
quoted prices from the applicable exchange. Derivative instruments that are not listed on an exchange are valued using pricing inputs
observed from actively quoted markets. If the pricing inputs used are not observable and/or the market for the applicable derivative
instruments is inactive, the values of the derivative instruments are determined using valuation methodologies for Level 3 investments
described below.
- 58 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
6
Investments (continued)
Where pricing inputs are unobservable and there is little, if any, market activity for Level 3 investments, fair values are determined by
management of the subsidiaries of Arena Finance and Arena Origination using valuation methodologies that consider a range of factors,
including but not limited to the price at which the investment was acquired, the nature of the investment, local market conditions, trading
values on public exchanges for comparable securities, current and projected operating performance and financing transactions subsequent to
the acquisition of the investment. The inputs into the determination of fair value may require significant judgment by management of the
subsidiaries of Arena Finance and Arena Origination. Due to the inherent uncertainty of these estimates, these values may differ materially
from the values that would have been used had a ready market for these investments existed.
Management considers other secondary valuation methodologies as a way to ensure no significant contradictory evidence exists that would
suggest an adjustment to the fair value as determined by the primary valuation methodology used. In order to do this, the Company may also
consider valuation techniques including the review of comparable arm’s length transactions involving other specialty finance companies and
comparable publicly traded company valuations. For greater certainty, these secondary valuation techniques were not used to arrive at the
fair values of the Company’s investments in Arena Finance and Arena Origination at the end of each reporting period.
The Company recorded an unrealized gain of $8,515 and an unrealized loss of $282 on its investment in Arena Finance in the years ended
December 31, 2017 and 2016, respectively. The operating results of Arena Finance included interest expense on the demand loan from
Westaim to AFHC of $747 in the year ended December 31, 2017.
The Company recorded an unrealized gain of $2,514 and an unrealized loss of $548 on its investment in Arena Origination in the years ended
December 31, 2017 and 2016, respectively. The operating results of Arena Origination included interest expense on the term loan from
Westaim to Arena Origination and the demand loan from Westaim to AOC totaling $1,460 in the year ended December 31, 2017 and on the
term loan to Arena Origination of $1,233 in the year ended December 31, 2016.
For purposes of assessing the sensitivity of the shareholder’s equity of Arena Finance and Arena Origination on the valuation of the
Company’s investment in these entities which is wholly-owned by the Company, if the shareholder’s equity of either Arena Finance or Arena
Origination at December 31, 2017 was higher by $1,000, the fair value of the Company’s investment in the respective entity at December 31,
2017 would have increased by $1,000 and the unrealized gain on investments in private entities for the year ended December 31, 2017 would
have increased by $1,000. If the shareholder’s equity of either Arena Finance or Arena Origination at December 31, 2017 was lower by
$1,000, an opposite effect would have resulted.
INVESTMENTS IN ASSOCIATES
The Company’s investments in associates consist of its investment in Arena Investors, including the Company’s indirect investment in WAHII
(through WCA), ASOF-ON GP (through WCA), and its direct investment in ASOF-OFF II GP. WAHII is the sole limited partner of Arena
Investors, LP, a limited partnership established under the laws of Delaware to carry on the third-party investment management business of the
Arena Group.
On August 31, 2015, agreements were entered into between the Company (through WCA) and BP LLC in respect of WAHII and ASOF-ON
GP and between Westaim and BP LLC in respect of ASOF-OFF II GP (the “Associate Agreements”). BP LLC’s initial profit sharing
percentage is 49%, and under the Associate Agreements, BP LLC has the right to earn-in up to 75% equity ownership percentage in the
Associates and share up to 75% of the profits of the Associates based on achieving certain assets under management (“AUM”) and cash flow
(measured by the margin of trailing twelve months earnings before interest, income taxes, depreciation and amortization to trailing twelve
month revenues) thresholds in accordance with the Associate Agreements.
The Company concluded that based on the contractual rights and obligations under the Associate Agreements, the Company does not
exercise control but exercises significant influence over the Associates. The Company’s investments in the Associates are therefore
accounted for using the equity method in accordance with IAS 28.
- 59 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
6
Investments (continued)
The following summarized financial information represents amounts within the financial statements of the Associates:
As at December 31, 2017
Financial information of Associates:
Assets
Liabilities
Net liabilities
Company’s share
Associates Loan
Carrying amount of the Company’s investments in Associates
As at December 31, 2016
Financial information of Associates:
Assets
Liabilities
Net liabilities
Company’s share
Advances to Associates
Carrying amount of the Company’s investments in Associates
WAHII
Other associates
Total
$ 18,235
(31,309)
$ (13,074)
$
$
(6,540)
14,500
7,960
$
$
$
$
1,041
(1,041)
-
-
-
-
$ 19,276
(32,350)
$ (13,074)
$
$
(6,540)
14,500
7,960
WAHII
Other associates
Total
$
$
$
$
7,209
(13,652)
(6,443)
(3,158)
4,415
1,257
$
$
$
$
165
(171)
(6)
(3)
-
(3)
$
$
$
$
7,374
(13,823)
(6,449)
(3,161)
4,415
1,254
Year ended December 31, 2017
Other
associates
Total
WAHII
Year ended December 31, 2016
Other
associates
Total
WAHII
Financial information of Associates:
Fee income
Operating expenses 1
(Loss) income and
comprehensive (loss) income
Company’s share of (loss) profit
of Associates (51%)
$ 14,095
(20,726)
$ 1,040
(1,034)
$ 15,135
(21,760)
$ 8,696
(13,348)
$
160
(168)
$ 8,856
(13,516)
$ (6,631)
$
6
$ (6,625)
$ (4,652)
$
(8)
$ (4,660)
$ (3,382)
$
3
$ (3,379)
$ (2,372)
$
(4)
$ (2,376)
1 Includes interest expense on the loan granted by AFHC to the Associates (see note 14) of $257 and $26 in the years ended December 31, 2017 and 2016,
respectively, and interest expense on the loan granted by WCA to WAHII of $23 in the year ended December 31, 2017.
On June 30, 2016, the Company made an additional equity investment of $260 in Arena Investors.
On December 21, 2017, the Company (through WCA) granted a $20,000 revolving loan facility to the Associates (the “Associates Loan”) in
order to (i) fund growth initiatives and working capital needs of Arena Investors and (ii) enable WAHII to repay $4,415 in advances previously
owed to the Company and extinguish the loan owed to AHFC (see note 14). The loan facility has a term of 36 months and bears interest at a
rate of 5.25% per annum. At December 31, 2017, WAHII had drawn down the loan facility by $14,500. The loan facility is secured by the
assets of certain of the Associates. The Company earned and received interest on the Associates Loan of $23 for the year ended December
31, 2017.
The total of the Company’s 51% share of losses of the Associates was $3,379 and $2,376 in the years ended December 31, 2017 and 2016,
respectively, and was reported under “Net results of investments” in the consolidated statements of profit (loss) and comprehensive income
(loss).
- 60 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
7
Accounts Payable and Accrued Liabilities
Accounts payable and accrued liabilities consist of the following:
Liabilities related to:
RSUs (note 13)
DSUs (note 13)
Interest on Preferred Securities (note 8)
Other accounts payable and accrued liabilities
Ending balance
December 31, 2017
December 31, 2016
$
$
7,154
1,033
502
1,135
9,824
$
$
5,353
832
-
1,039
7,224
8
Preferred Securities
On April 3, 2017, the Company announced that it had entered into an agreement pursuant to which Fairfax Financial Holdings Limited,
through certain of its subsidiaries (collectively, “Fairfax”), had agreed to make an investment of up to C$100,000 in Westaim in exchange for
the issuance by Westaim of 5% interest bearing notes (the “Preferred Securities”) and common share purchase warrants (the “Warrants”) (see
note 9) (collectively, the “Private Placement”).
The Preferred Securities are denominated in C$, each issuable for a principal amount of C$10, carry interest at a rate of 5% per annum, and are
issuable in tranches of not less than 2,500,000 Preferred Securities. The Preferred Securities are subordinate secured securities that will
mature on May 26, 2116 but may be repaid, in whole or in part, by the Company at any time after June 2, 2022 and at any time after June 2,
2020 if the volume-weighted average trading price of Westaim’s common shares for any 10 day period prior to the date on which the
applicable redemption notice is given is at least C$5.60.
On June 2, 2017, the Company closed an initial subscription by Fairfax of C$50,000 of Preferred Securities (the “Fairfax Financing”). The
proceeds raised from the Fairfax Financing were used by Westaim to make interest bearing loans to the Arena Group (see note 4). The
Company had discretion until January 1, 2018 to require Fairfax to purchase all or part of the remaining 5,000,000 Preferred Securities, and had
exercised its discretion not to do so.
The Preferred Securities are repayable on demand upon a change of control of Westaim and the liability is recorded at the principal amount in
the consolidated statements of financial position. The Preferred Securities liability is translated into US$ at rates of exchange at the end of
each reporting period and any resulting foreign exchange gain or loss is included in the consolidated statements of profit (loss) and
comprehensive income (loss). At December 31, 2017, the carrying amount of the Preferred Securities was $39,876, and the Company
recorded an unrealized foreign exchange loss of $2,850 relating to the Preferred Securities in the year ended December 31, 2017. The
carrying amount of the Preferred Securities approximated fair value at December 31, 2017.
Interest on the Preferred Securities amounted to $1,161 in the year ended December 31, 2017 and $502 was accrued in the consolidated
statement of financial position at December 31, 2017.
Transaction costs incurred for the issuance of the Preferred Securities totaling $505 were recorded as an expense in the consolidated
statements of profit (loss) and comprehensive income (loss) in the year ended December 31, 2017.
On December 21, 2017, the Company entered into a foreign exchange forward contract to sell US$ and buy C$20 million to manage part of
the foreign currency exposure arising from the Preferred Securities. The contract has a term to maturity of less than one year and may be
renewed at market rates. The Company has not designated this foreign exchange forward contract as an accounting hedge. Gain accrued
on the foreign exchange forward contract amounted to $110 and was recorded under other assets in the consolidated statement of financial
position at December 31, 2017, and under foreign exchange in the consolidated statements of profit (loss) and comprehensive income (loss)
for the year ended December 31, 2017. In connection with foreign exchange forward contracts which the Company may enter into from time
to time, the Company has obtained a credit facility under which the Company has pledged cash on deposit of $2,500 as security. The security
shall remain in effect for the duration of any outstanding foreign exchange forward contracts.
- 61 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
9
Derivative Warrant Liability
In connection with the Private Placement (see note 8), Westaim issued to Fairfax 28,571,430 Warrants, each exercisable for one Westaim
common share at an exercise price of C$3.50. The Warrants vest proportionately based upon the aggregate percentage of Preferred Securities
purchased by Fairfax, with 14,285,715 having vested on June 2, 2017. The remaining 14,285,715 unvested Warrants were cancelled on
January 31, 2018. Each vested Warrant is exercisable on or prior to June 2, 2022, but the expiry date will be extended to June 2, 2024 if the
volume-weighted average trading price of Westaim’s common shares for the 10 day period ending on June 2, 2022 is less than C$5.60. After
June 2, 2020, the Company can also elect to require early exercise of the Warrants if the volume-weighted average trading price of
Westaim’s common shares for any 10 day period prior to the election is at least C$5.60.
The Warrants are subject to a cashless exercise at the discretion of Fairfax and are classified as a derivative liability in accordance with IFRS
and measured at FVTPL. The fair value of the vested Warrants at initial recognition was recorded as an expense in the consolidated
statements of profit (loss) and comprehensive income (loss). Subsequent changes in fair value of the vested Warrants are reported in the
consolidated statements of profit (loss) and comprehensive income (loss) for the period in which they arise.
Changes to the derivative warrant liability are as follows:
Opening balance
Fair value upon initial recognition
Change in fair value
Unrealized foreign exchange loss
Ending balance
Year ended
December 31, 2017
$
$
-
8,992
(3,013)
699
6,678
The Company recorded an expense of $8,992 upon initial recognition of the vested Warrants on June 2, 2017. In the year ended December
31, 2017, the Company recognized unrealized gains of $3,013, resulting from a change in the fair value of the vested Warrants. The
Company also recorded unrealized foreign exchange losses with respect to the vested Warrants of $699 in the year ended December 31,
2017 under foreign exchange in the consolidated statements of profit (loss) and comprehensive income (loss). At December 31, 2017, a
liability of $6,678 had been recognized with respect to the vested Warrants in the consolidated statements of financial position.
The fair value of the vested Warrants at December 31, 2017 of $6,678 was estimated using the Monte Carlo pricing model assuming no
dividends are paid on the common shares, a risk-free interest rate of 1.81%, an expiration date between January 1, 2018 and June 2, 2024,
and a volatility of the underlying common shares of the Company of 25.08%. The amounts computed according to the Monte Carlo pricing
model may not be indicative of the actual values realized upon the exercise of the vested Warrants by Fairfax.
A sensitivity analysis is performed within the Monte Carlo pricing model, which produces a probability distribution of possible outcomes by
identifying which inputs impact the outcome the most.
10 Site Restoration Provision
The Company has provided indemnifications to third parties with respect to future site restoration costs to be incurred on industrial sites
formerly owned by the Company. The site restoration provision is based on periodic independent estimates of costs associated with soil and
groundwater reclamation and remediation of these industrial sites. The ultimate environmental costs are uncertain as they are dependent on
the future use of the land and future laws and regulations.
Changes to the site restoration provision are as follows:
Opening balance
Changes due to:
Expenditures
Estimates of future expenditures
Inflation
Passage of time and discount rates
Foreign exchange
Ending balance
Year ended
December 31, 2017
Year ended
December 31, 2016
$
3,439
$
3,899
-
(6)
-
78
259
3,770
$
(401)
18
89
(268)
102
3,439
$
- 62 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
10 Site Restoration Provision (continued)
In the year ended December 31, 2016, the Company made a payment of $401 for site restoration expenditures relating to the
indemnifications. Of these expenditures, the Company was reimbursed $385 pursuant to indemnifications provided to the Company by
previous owners of the industrial sites. The payment was recorded as a reduction of the site restoration provision and the reimbursement was
included as a recovery in the consolidated statements of profit (loss) and comprehensive income (loss) in the year ended December 31, 2016.
Estimates of future expenditures could change as a result of periodic reviews of the underlying assumptions supporting the provision,
including remediation costs and regulatory requirements.
Cash flows are estimated to take place over the next 150 years, with the majority to take place later than 50 years after December 31, 2017.
To calculate the site restoration provision, the estimated cash outflows were adjusted for inflation and discounted to December 31, 2017. For
inflation and discounting calculations, all cash flows later than 50 years are treated as if the cash flow would occur at 100 years. Inflation is
estimated at 1.76% (December 31, 2016 - 1.76%) per annum over the next 100 years. Discount rates are based on risk free rates which
range from 1.52% to 2.27% (December 31, 2016 - 0.6% to 2.3%) over the next 30 years. The 30-year risk free rate is used for discounting
cash flows that are estimated to occur later than 30 years after December 31, 2017.
11 Commitments and Contingent Liabilities
(a)
In connection with foreign exchange forward contracts which the Company may enter into from time to time, the Company has obtained
a credit facility under which the Company has pledged cash on deposit of $2,500 as security (see note 8).
(b) The Company has operating leases for office premises in Toronto with lease terms expiring on November 30, 2019. At December 31,
2017, the Company had a total commitment of $636 for future occupancy cost payments including payments due not later than one year
of $332 and payments due later than one year of $304.
12 Share Capital
The Company’s authorized share capital consists of an unlimited number of common shares with no par value, Class A preferred shares with
no par value and Class B preferred shares with no par value.
At December 31, 2017 and 2016, the Company had a total of 143,186,718 common shares issued and outstanding, with a stated capital of
$382,182. There were no changes in share capital in the years ended December 31, 2017 and 2016.
No shares of the Company are held by the Company, and there were no Class A preferred shares or Class B preferred shares outstanding at
December 31, 2017 and 2016.
13 Share-based Compensation
The Company’s long-term equity incentive plan (the “Incentive Plan”) provides for grants of RSUs, DSUs, stock appreciation rights and other
share-based awards. The Company also has a stand-alone incentive stock option plan (the “Option Plan”).
At the annual and special meeting of shareholders of the Company held on May 12, 2016, the shareholders approved amendments to the
Incentive Plan which, among other things, increased the maximum number of common shares which may be issued under the Incentive Plan
from 7,042,150 to 14,318,671. The Option Plan is a “rolling plan” which provides that the aggregate number of common shares which may be
reserved for issuance under the Option Plan is limited to not more than 10% of the aggregate number of common shares outstanding.
However, each of the Incentive Plan and the Option Plan provide that under no circumstances shall there be common shares issuable under
such plan, together with all other security-based compensation arrangements of the Company, which exceed 10% of the aggregate number of
common shares outstanding.
In certain circumstances such as a change of control of the Company or the sale of substantially all of the assets of the Company, all
outstanding options and RSUs will vest immediately.
- 63 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
13 Share-based Compensation (continued)
Stock Options - Changes to the number of stock options are as follows:
Common share stock options
Opening balance
Granted
Expired
Ending balance
Options exercisable at end of year
Year ended December 31, 2017
Year ended December 31, 2016
Number
2,754,940
3,860,397
(2,000)
6,613,337
2,204,445
Weighted Average
Exercise Price
C$
C$
C$
C$
C$
3.29
3.00
61.50
3.10
3.10
Number
3,000
2,752,940
(1,000)
2,754,940
2,000
Weighted Average
Exercise Price
C$
C$
C$
C$
C$
144.00
3.25
309.00
3.29
61.50
As at December 31, 2017
Exercise prices
3.00
C$
3.25
C$
Number of
stock options
outstanding
3,860,397
2,752,940
6,613,337
Weighted Average
Remaining
Contractual Life
(years)
6.25
5.25
5.84
Weighted Average
Exercise Price
C$
C$
C$
3.00
3.25
3.10
Number of
stock options
exercisable
1,286,799
917,646
2,204,445
Exercisable
Weighted Average
Exercise Price
3.00
3.25
3.10
C$
C$
C$
On April 1, 2016, 2,752,940 options were granted to certain officers and employees of the Company. The options have a term of seven years,
vest in three equal instalments on April 1, 2017, April 1, 2018 and April 1, 2019, and have an exercise price of C$3.25. The fair value of the
options granted on April 1, 2016 is estimated using the Black-Scholes option pricing model assuming no dividends are paid on the common
shares, a risk-free interest rate of 0.61%, an average life of 4.0 years and a volatility of 46.49%.
On April 3, 2017, 3,860,397 additional options were granted to certain officers and employees of the Company. The options have a term of
seven years, vest in three equal instalments on December 31, 2017, December 31, 2018 and December 31, 2019, and have an exercise price
of C$3.00. The fair value of the options granted on April 3, 2017 is estimated using the Black-Scholes option pricing model assuming no
dividends are paid on the common shares, a risk-free interest rate of 1.00%, an average life of 4.0 years and a volatility of 35.45%.
The amounts computed according to the Black-Scholes pricing model may not be indicative of the actual values realized upon the exercise of
options by the holders.
Compensation expense relating to options was $1,962 and $712 in the year ended December 31, 2017 and 2016, respectively, with a
corresponding increase to contributed surplus.
Restricted Share Units - RSUs vest on specific dates and are payable when vested with either cash or common shares of the Company, at
the option of the holder. In certain circumstances such as a change of control of the Company or the sale of substantially all of the assets of
the Company, RSUs vest immediately.
Changes to the number of RSUs are as follows:
Opening balance
Granted
Exercised
Ending balance
Year ended December 31
2017
3,082,073
-
(47,812)
3,034,261
2016
2,209,563
925,198
(52,688)
3,082,073
On November 14, 2014, an aggregate of 2,375,000 RSUs were granted to certain officers, employees and consultants. At December 31,
2017, all of these RSUs had vested, of which 265,937 RSUs had been exercised and 2,109,063 RSUs were outstanding.
On April 1, 2016, an additional 925,198 RSUs were granted to certain officers and employees of the Company. These RSUs vest in three
equal instalments on April 1, 2017, April 1, 2018 and December 31, 2018. At December 31, 2017, 308,399 of these RSUs had vested and
none have been exercised.
- 64 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
13 Share-based Compensation (continued)
In the year ended December 31, 2017, 47,812 RSUs were exercised for a cash payment of C$3.18 per RSU and the RSU liability was
correspondingly reduced by $115. In the year ended December 31, 2016, 52,688 RSUs were exercised for a cash payment of C$2.55 per
RSU and the RSU liability was correspondingly reduced by $105.
Compensation expense relating to RSUs was $1,495 and $1,555 for the years ended December 31, 2017 and 2016, respectively. At
December 31, 2017, a liability of $7,154 (December 31, 2016 - $5,353) had been accrued with respect to outstanding RSUs in the
consolidated statements of financial position.
Deferred Share Units - DSUs are issued to certain directors of the Company in lieu of director fees, at their election, at the market value of
the Company’s common shares at the date of grant and are paid out in cash no later than the end of the calendar year following the year the
participant ceases to be a director.
Changes to the number of DSUs are as follows:
Opening balance
Granted
Exercised
Ending balance
Year ended December 31
2017
398,731
110,323
(92,525)
416,529
2016
319,465
146,961
(67,695)
398,731
In the year ended December 31, 2017, 110,323 DSUs were issued in lieu of director fees of $263, and in the year ended December 31, 2016,
146,961 DSUs were issued in lieu of director fees of $302.
In the year ended December 31, 2017, 92,525 DSUs were exercised for a cash payment of C$2.99 per DSU and the DSU liability was
correspondingly reduced by $225. In the year ended December 31, 2016, 67,695 DSUs were exercised for a cash payment of C$3.33 per
DSU and the DSU liability was correspondingly reduced by $168.
Compensation expense relating to DSUs was $353 and $355 for the years ended December 31, 2017 and 2016, respectively. At December
31, 2017, a liability of $1,033 (December 31, 2016 - $832) had been accrued with respect to outstanding DSUs in the consolidated statements
of financial position.
14 Related Party Transactions
Related parties include key management personnel, close family members of key management personnel and entities which are, directly or
indirectly, controlled by, jointly controlled by or significantly influenced by key management personnel or their close family members. Key
management personnel are those persons having authority and responsibility for planning, directing and controlling the activities of the
Company, directly or indirectly, and include executive officers and current and former directors of the Company.
Compensation expenses related to the Company’s key management personnel are as follows:
Salaries and benefits
Share-based compensation
Year ended December 31
2017
2,621
3,743
6,364
$
$
2016
2,441
2,537
4,978
$
$
Fees paid to Hartford Consulting, Inc. (the “Consultant”), a company owned by William R. Andrus, a director of HIIG, for insurance industry
related consulting services were $138 and $136 for the years ended December 31, 2017 and 2016, respectively. Compensation expense
relating to RSUs issued to the Consultant was $18 and $42 for the years ended December 31, 2017 and 2016, respectively, and the amounts
were included in the consolidated statements of profit (loss) and comprehensive income (loss) under share-based compensation expense. At
December 31, 2017, a liability of $146 (December 31, 2016 - $120) had been accrued in the consolidated statements of financial position with
respect to outstanding RSUs held by the Consultant.
- 65 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
14 Related Party Transactions (continued)
On September 28, 2016, AFHC granted a $10,000 revolving loan facility to the Associates to fund the working capital needs of Arena
Investors. The loan facility has a term of 36 months and bears interest at a rate of 5.25% per annum. On August 2, 2017, the limit of the
facility was increased to $15,000. WAHII repaid the balance owing under the loan facility of $7,773, including interest, to AFHC on December
21, 2017 and the loan facility was terminated.
The Company earned and received interest on (i) the term loan to Arena Origination (see note 6) of $942 and $1,233 for the years ended
December 31, 2017 and 2016, respectively, (ii) the Arena Loans (see note 4) totaling $1,265 for the year ended December 31, 2017 and (iii)
the Associates Loan (see note 6) of $23 for the year ended December 31, 2017.
The Company earned advisory fees of $1,000 from HIIG and $440 from the Arena Group in each of the years ended December 31, 2017 and
2016. Advisory fees are included in fee income in the consolidated statements of profit (loss) and comprehensive income (loss).
15
Income Taxes
Income taxes are recognized for deferred income taxes attributed to estimated differences between the financial statement carrying values of
assets and liabilities and their respective income tax bases. Deferred tax assets / (liabilities) recognized in profit or loss are as follows:
Unrealized (gain) loss on investments in private entities
Non-capital loss carry-forwards
Year ended December 31
$
2017
(3,034)
3,034
-
$
$
$
2016
211
(211)
-
As the realization of any related tax benefits is not probable, no deferred income tax assets have been recognized for the following:
Non-capital loss carry-forwards
Capital loss carry-forwards
Deductible temporary differences
Corporate minimum tax credits
Investment tax credits
December 31, 2017
$
50,221
5,441
18,557
354
4,331
December 31, 2016
$
40,734
5,204
16,747
337
6,248
The unrecognized non-capital losses and investment tax credits will expire at various times to the end of 2037, as follows:
Non-capital losses by year of expiry:
2027
2028
2029
2030
2031
2033
2034
2035
2036
2037
$
$
3,303
7,216
82
201
16,722
3,054
3,891
3,378
987
11,387
50,221
Investment tax credits by year of expiry:
2018
2019
2020
2021
2022
Beyond 2022
$
$
708
766
656
513
258
1,430
4,331
- 66 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
15
Income Taxes (continued)
The following is a reconciliation of income taxes calculated at the statutory income tax rate to the income tax expense included in the
consolidated statements of profit (loss) and comprehensive income (loss):
Profit (loss) before income tax
Statutory income tax rate
Income taxes at statutory income tax rate
Variations due to:
(Non-taxable) non-allowable portion of unrealized
(gain) loss on investments in private entities
Tax losses allocated from the HIIG Partnership
Non-deductible items
Difference between statutory and foreign tax rates
Unrecognized temporary differences
Unrecognized tax losses
Income tax expense
Year ended December 31
2017
$ 5,575
26.5%
1,477
(3,034)
(26)
2,288
(753)
952
(904)
-
$
2016
$ (8,295)
26.5%
(2,198)
211
(16)
189
(640)
(1,359)
3,813
-
$
16 Earnings per Share
The Company had 6,613,337 stock options, 3,034,261 RSUs and 28,571,430 Warrants outstanding at December 31, 2017 and 2,754,940
stock options and 3,082,073 RSUs outstanding at December 31, 2016. The stock options, RSUs and Warrants were excluded in the
calculation of diluted earnings per share for the years ended December 31, 2017 and 2016 as they were not dilutive.
17
Capital Management
The Company’s capital currently consists of the Preferred Securities and common shareholders’ equity.
The Company’s guiding principles for capital management are to maintain the stability and safety of the Company’s capital for its stakeholders
through an appropriate capital mix and a strong balance sheet.
The Company monitors the mix and adequacy of its capital on a continuous basis. The Company employs internal metrics. The capital of the
Company is not subject to any restrictions. Units of the HIIG Partnership cannot be issued without the prior approval of the unitholders and, in
connection with any such issuance, the holders of units have pre-emptive rights entitling them to purchase their pro rata share of any units
that may be so issued.
18 Financial Risk Management
The Company is exposed to a number of risks due to its business operations. The Company’s consolidated statement of financial position at
December 31, 2017 consists of short-term financial assets and financial liabilities with maturities of less than one year, loans receivable,
investments in private entities and associates, Preferred Securities, derivative warrant liability and the site restoration provision. The most
significant identified risks which arise from holding financial instruments include credit risk, liquidity risk, currency risk, interest rate risk and
equity risk. The Company has a comprehensive risk management framework to monitor, evaluate and manage the risks assumed in
conducting its business.
Credit risk
Credit risk refers to the risk that a counterparty will default on its contractual obligations resulting in financial loss to the Company. The
Company’s credit risk arises primarily from its cash and cash equivalents. The Company manages such risk by maintaining bank accounts
with Schedule 1 banks in Canada and a major bank in the United States.
Loans receivable by the Company were made to subsidiaries which the Company controls and the loans are secured by underlying assets of
the subsidiaries. Therefore, credit risk related to these loans is nominal.
Liquidity risk
Liquidity risk is the risk that the Company may not be able to generate sufficient cash resources to settle its obligations in full as they fall due
or can only do so on terms that are materially disadvantageous.
- 67 -
The Westaim Corporation
Notes to Consolidated Financial Statements
For the years ended December 31, 2017 and 2016
(Currency amounts in thousands of United States dollars except per share data, unless otherwise indicated)
18 Financial Risk Management (continued)
The Company has made investments in private entities and associates which do not typically have an active market. Private investment
transactions can be highly structured and the Company takes measures, where possible, to create defined liquidity events and as part of its
strategy, the Company has sought to create or accelerate such liquidity events. However, such liquidity events are rarely expected in the first
two or three years of making an investment and may not be realized as expected.
At December 31, 2017, the Company’s short-term financial liabilities amounted to $1,637 (December 31, 2016 - $1,039), and the Company
had cash resources to meet these financial obligations.
Currency risk
The Company maintains certain cash balances in C$ and has other C$ denominated monetary assets and liabilities. A 10% strengthening of
the C$ against the US$ would have increased the foreign exchange loss for the year ended December 31, 2017 by approximately $1,161. A
similar weakening of the C$ would have resulted in an opposite effect.
From time to time, the Company may enter into foreign exchange forward contracts to manage certain foreign currency exposures arising
from foreign currency denominated transactions. The Company has not designated any foreign exchange forward contracts as accounting
hedges.
Interest rate risk
The Company does not believe that the results of operations or cash flows would be affected to any significant degree by a sudden change in
market interest rates relative to interest rates on its cash and cash equivalents, loans receivable, or the Preferred Securities. The Company is
subject to interest rate risks indirectly as a result of its investments in HIIG (through the HIIG Partnership), Arena Finance and Arena
Origination as certain underlying investments made by these entities are sensitive to interest rate movements.
Equity risk
There is no active market for the Company’s investments in HIIG (through the HIIG Partnership) and the Arena Group. The Company holds
these investments for strategic and not trading purposes. The fair values of these investments recorded in the Company’s consolidated
financial statements have been arrived at using industry accepted valuation techniques. Due to the inherent uncertainty of valuation, these
fair values may not be indicative of the actual values which can be realized upon a liquidity event for these investments.
19 Subsequent Events
The Company elected not to issue the remaining 5,000,000 Preferred Securities to Fairfax and, as a result, 14,285,715 of the aggregate
Warrants issued to Fairfax remained unvested and were cancelled on January 31, 2018.
On January 18, 2018, 3,815,000 options were granted to certain officers and employees of the Company. The options have a term of seven
years, vest in three equal instalments on December 31, 2018, December 31, 2019 and December 31, 2020, and have an exercise price of
C$3.10.
- 68 -
SHAREHOLDER INFORMATION
BOARD OF DIRECTORS
Stephen R. Cole 1, 2, 3, 5, 6
J. Cameron MacDonald
Lead Director, The Westaim Corporation
President, Seeonee Inc.
Senior Advisor to Duff & Phelps Canada Limited
Ian W. Delaney 3
Executive Chairman, The Westaim Corporation
John W. Gildner 1, 2, 3, 4
Independent Businessman
President and Chief Executive Officer, The Westaim Corporation
Bruce V. Walter 1, 2, 3
Chairman, Nunavut Iron Ore, Inc.
Vice Chair, Centerra Gold Inc.
Numbers indicate the individual’s committee membership:
1. Member of the Audit Committee
2. Member of the Human Resources and Compensation Committee
3. Member of the Nominating and Corporate Governance Committee
4. Chair of the Audit Committee
5. Chair of the Human Resources and Compensation Committee
6. Chair of the Nominating and Corporate Governance Committee
The Westaim Corporation Annual and Special Meeting of Shareholders
Thursday May 17th, 2018 10:00 A.M. EDT
Vantage Venues
150 King Street West, Sun Life Financial Tower
S3/S4 Inverness Room, 27th Floor
Toronto, Ontario M5H 1J9
CORPORATE INFORMATION
STOCK INFORMATION
OFFICES
Ian W. Delaney
Executive Chairman
Traded on the TSX Venture Exchange
The Westaim Corporation, Corporate Office
under the symbol WED
70 York Street, Suite 1700
Toronto, Ontario M5J 1S9
J. Cameron MacDonald
Shares issued and outstanding
President and Chief Executive Officer
at December 31, 2017 were 143,186,718
The Westaim Corporation of America
405 Lexington Avenue, 59th Floor
New York, New York 10174
Robert T. Kittel
Chief Operating Officer
Glenn G. MacNeil
Chief Financial Officer
Joseph A. Schenk
Managing Director
TRANSFER AGENT
Computershare Investor Services Inc.
600, 530 – 8th Avenue SW
Calgary, Alberta T2P 3S8
Tel: 1-800-564-6253
E-mail: service@computershare.com
CONTACT INFORMATION
Tel: (416) 969-3333
Fax: (416) 969-3334
E-mail: info@westaim.com
www.westaim.com
- 69 -
THE WESTAIM CORPORATION
70 York Street, Suite 1700
Toronto, Ontario, Canada
M5J 1S9
www.westaim.com
info@westaim.com