Notes to the Financial Statements

1. Description of business

Ottawa Macdonald-Cartier International Airport Authority (the “Authority”) was incorporated January 1, 1995 as a corporation without share capital under Part II of the Canada Corporations Act and continued under the Canada Not-for-profit Corporations Act on January 17, 2014. All earnings of the Authority are retained and reinvested in airport operations and development.

The objects of the Authority are:

1. to manage, operate and develop the Ottawa Macdonald-Cartier International Airport (the “Airport”), the premises of which are leased to the Authority by the Government of Canada (Transport Canada – see note 12), and any other airport in the National Capital Region for which the Authority becomes responsible, in a safe, secure, efficient, cost effective and financially viable manner with reasonable airport user charges and equitable access to all carriers;
2. to undertake and promote the development of the Airport lands, for which it is responsible, for uses compatible with air transportation activities; and
3. to expand transportation facilities and generate economic activity in ways that are compatible with air transportation activities.

The Authority is governed by a 14-member Board of Directors, 10 of whom are nominated by the Minister of Transport for the Government of Canada, the Government of the Province of Ontario, the City of Ottawa, the City of Gatineau, the Ottawa Chamber of Commerce, the Ottawa Tourism and Convention Authority, Chambre de commerce de Gatineau, and Invest Ottawa. The remaining four members are appointed by the Board of Directors from the community at large.

On January 31, 1997, the Authority signed a 60-year ground lease (that was later extended to 80 years in 2013) with the Government of Canada and assumed responsibility for the management, operation and development of the Airport.

The Authority is exempt from federal and provincial income taxes, and Ontario capital tax. The Authority is domiciled in Canada. The address of the Authority’s registered office and its principal place of business is Suite 2500, 1000 Airport Parkway Private, Ottawa, Ontario, Canada, K1V 9B4.

2. Basis of preparation and summary of significant accounting policies

The financial statements were authorized for issue by the Board of Directors on February 21, 2018. The financial statements and amounts included in the notes to the financial statements are presented in Canadian dollars, which is the Authority’s functional currency.

The accounting policies set out below have been applied consistently to all periods presented in these financial statements. The Authority prepares its financial statements in accordance with International Financial Reporting Standards (“IFRS”). These financial statements have been prepared on a historical cost basis, except, as required, for the revaluation of certain financial assets and financial liabilities to fair value.

Cash and cash equivalents

Cash and cash equivalents are defined as cash and short-term investments with original terms to maturity of 90 days or less. Such short-term investments are recorded at fair value.

Consumable supplies

Inventories of consumable supplies are valued at the lower of cost, determined on a first-in, first-out basis, and net realizable value, based on estimated replacement cost.

Property, plant and equipment

Property, plant and equipment are recorded at cost, net of government assistance, if any, and include only the amounts expended by the Authority. These assets will revert to the Government of Canada upon the expiration or termination of the Authority’s ground lease with the Government of Canada. Property, plant and equipment do not include the cost of facilities that were included in the original ground lease with the Government of Canada. Incremental borrowing costs incurred during the construction phase of qualifying assets are included in the cost. During the years ended December 31, 2017 and 2016, no incremental borrowing costs were capitalized.

Amounts initially recognized in respect of an item of property, plant and equipment are allocated to its significant parts and depreciated separately when the cost of the component is significant in relation to the total cost of the item and when its useful life is different from the useful life of the item. Residual values, the method of depreciation and estimated useful lives of assets are reviewed annually and adjusted if appropriate.

Depreciation is provided on a straight-line basis over the useful lives of individual assets and their component parts as follows:

Construction in progress is recorded at cost and is transferred to buildings and support facilities and other asset categories as appropriate when the project is complete and the asset is available for use, or is written off when, due to changed circumstances, management does not expect the project to be completed. Assets under construction are not subject to depreciation until they are available for use.

The carrying amount of an item of property, plant and equipment is derecognized on disposal or when no future economic benefits are expected from its use. The gain or loss arising from derecognition (determined as the difference between net disposal proceeds and the carrying amount of the item) is included as an adjustment of depreciation expense when the item is derecognized.

Borrowing costs

Borrowing costs are capitalized during the construction phase of qualifying assets, which are assets that take a substantial period of time to get ready for their intended use. The capitalization rate is the weighted average cost of capital of outstanding loans during the period, other than the borrowings made especially for the purpose of obtaining the asset. All other borrowing costs are recognized in interest expense on a net basis in the statement of operations and comprehensive income (loss) in the period in which they are incurred. As noted above, no such amounts were capitalized during the years ended December 31, 2017 and 2016.

Impairment of non-financial assets

Property, plant and equipment and other assets are tested for impairment at the cash-generating unit level when events or changes in circumstances indicate that their carrying amount may not be recoverable, and in the case of indefinite-life assets, at least annually. A cash-generating unit is the smallest group of assets that generates cash flows from continuing use that are largely independent of the cash flows of other assets or groups of assets. An impairment loss is recognized when the carrying value of the assets in the cash-generating unit exceeds the recoverable amount of the cash-generating unit.

Because the Authority’s business model is to provide services to the travelling public, none of the assets of the Authority are considered to generate cash flows that are largely independent of the other assets and liabilities of the Authority. Instead, all of the assets are considered part of the same cash-generating unit. In addition, the Authority’s unregulated ability to raise its rates and charges as required to meet its obligations, mitigates its risk of impairment losses.

Deferred financing costs

Transaction costs relating to the issuance of long-term debt, including underwriting fees, professional fees, termination of interest rate swap agreements and bond discounts, are deferred and amortized using the effective interest rate method over the term of the related debt. Under the effective interest rate method, amortization is recognized over the life of the debt at a constant rate applied to the net carrying amount of the debt. Amortization is included in interest expense. Deferred financing costs are reflected as a reduction in the carrying amount of related long-term debt.

Leases

Leases or other arrangements entered into for the use of an asset are classified as either finance or operating leases.

The Authority as lessee – Except for the ground lease, the Authority typically only enters into operating leases for minor items such as photocopy machines and printers. As these leases are classified as operating leases, the payments are recognized as an expense on a straight-line basis over the lease term.

Rent imposed under the ground lease with the Government of Canada is calculated based on airport revenues for the year as defined in the lease and is considered contingent rent. Ground rent expense is accounted for as an operating lease in the statement of operations and comprehensive income (loss).

The Authority as lessor – The Authority subleases land and space to other entities under operating leases. Lease income from these operating leases is recognized in income on a straight-line basis over the term of the lease.

Revenue recognition

Landing fees, terminal fees and parking revenues are recognized as the Airport facilities are utilized. The Authority offers a rebate incentive program that provides airlines with incentives, such as waived landing and terminal fees, to operate flights to new destinations and as appropriate to the circumstances. These rebate obligations are recognized as a reduction of revenues until the expiry of the obligation.

Concession revenues are recognized on the accrual basis and calculated using agreed percentages of reported concessionaire sales, with specified minimum annual guarantees.

Rental revenues are recognized over the lives of respective leases, licenses and permits. Tenant inducements associated with leased premises, including the value of rent-free periods, are deferred and amortized on a straight-line basis over the term of the related lease and recognized as a reduction of rental revenues.

Airport improvement fees (“AIF”), net of air carrier administrative fees, are recognized upon the enplanement of passengers using information from air carriers obtained after enplanement has occurred, together with historical experience in percentages of connecting and exempt passengers. Under an agreement with the airlines, AIF are paid by the airlines to airport authorities on a basis of estimated enplaned passengers, net of air carrier administrative fees, on the first of the month following the month of enplanement. Final settlement based on actual passenger volumes occurs at the end of the month following the month of enplanement.

Pension plan and other post-employment benefits

The Authority accrues its obligations under pension and other post-employment benefit plans as employees render the services necessary to earn these benefits. The costs of these plans are actuarially determined using the projected unit credit method based on length of service. This determination reflects management’s best estimates at the beginning of each fiscal year of the rate of salary increases and various other factors including mortality, termination, retirement rates and expected future health care costs. For the purpose of calculating the net interest cost on the pension obligations net of pension plan assets, those assets are valued at fair value.

The post-employment pension benefit asset recognized on the balance sheet is the present value of the defined pension benefit obligation as at the balance sheet date less the fair value of plan assets. The accrued benefit obligation is discounted using the market interest rate on high-quality corporate debt instruments as at the measurement date, approximating the terms of the related pension liability.

The other post-employment benefit liability recognized on the balance sheet is the present value of the defined benefit obligation as at the balance sheet date. The accrued benefit obligation is discounted using the market interest rate on high-quality corporate debt instruments as at the measurement date, approximating the terms of the related pension liability.

Pension expense for the defined benefit pension plan includes current service cost and the net interest cost on the pension obligations net of pension plan assets calculated using the market interest rate on high-quality corporate debt instruments as determined for the previous balance sheet date. Past service costs are recognized immediately in the statement of operations and comprehensive income (loss). Pension expense is included in salaries and benefits on the statement of operations and comprehensive income (loss).

Actuarial gains and losses (experience gains and losses that arise because actual experience for each year will differ from the beginning-of-year assumptions used for purposes of determining the cost and liabilities of these plans) and the effect of the asset ceiling are recognized in full as re-measurements of defined benefit plans in the period in which they occur in other comprehensive income (loss) without recycling to the statement of operations and comprehensive income (loss) in subsequent periods.

Pension expense for the defined contribution pension plan is recorded as the benefits are earned by the employees covered by the plan.

Employee benefits other than post-employment benefits

The Authority recognizes the expense related to salaries, at risk pay and compensated absences, such as sick leave and vacations, as short-term benefits in the period the employee renders the service. Costs related to employee health, dental and life insurance plans are recognized in the period that expenses are incurred. The liabilities related to these benefits are not discounted due to their short-term nature.

Estimation uncertainty and key judgments

The preparation of financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, commitments and contingencies at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Accounting estimates and associated assumptions are based on historical experience and other factors that are considered to be relevant. These accounting estimates and assumptions are reviewed on an ongoing basis. Actual results could significantly differ from those estimates. Adjustments, if any, will be reflected in the statement of operations and comprehensive income (loss) in the period of settlement or in the period of revision and future periods if the revision affects both current and future periods.

Key judgment areas, estimations and assumptions include the useful lives of property, plant and equipment, valuation adjustments including allowances for uncollectible accounts, the cost of employee future benefits, and provisions for contingencies.

Useful lives of property, plant and equipment – Critical judgments are used to determine depreciation rates, and useful lives and residual values of assets that impact depreciation amounts.

Collectability of trade receivables – The Authority establishes a general allowance for uncollectible accounts that involves management review of individual receivable balances based on individual customer creditworthiness, current economic trends and the condition of the industry as a whole, and analysis of historical bad debts.

The cost of employee future benefits – The Authority accounts for pension and other post-employment benefits based on actuarial valuation information provided by the Authority’s independent actuaries. These valuations rely on statistical and other factors in order to anticipate future events. These factors include discount rates, and key actuarial assumptions such as expected salary increases, expected retirement ages and mortality rates.

Provisions for contingencies – Provisions are recognized when the Authority has a present legal or constructive obligation as a result of past events, when it is probable that an outflow of economic resources will be required to settle the obligation, and when the amount can be reliably estimated.

Financial instruments

Financial assets and liabilities are recognized when the Authority becomes a party to the contractual provisions of the financial instrument. Financial assets are derecognized when the contractual rights to the cash flows from the financial asset expire, or when the financial assets and all substantial risks and rewards are transferred. A financial liability is derecognized when it is extinguished, discharged, cancelled or expired.

All financial instruments measured at fair value are classified according to the following hierarchy:

Level 1: Valuation based on quoted prices in active markets for identical assets or liabilities obtained from the investment custodian, investment managers or dealer markets.

Level 2: Valuation techniques with significant observable market parameters including quoted prices for assets in markets that are considered less active.

Level 3: Valuation techniques with significant unobservable market parameters.

All financial instruments are classified into one of the following five categories: held for trading, loans and receivables, held to maturity, available for sale and other financial liabilities. Initial measurement of financial instruments is at fair value, subsequent measurement of financial instruments depends on their classification. Transaction costs are expensed as incurred for financial instruments classified as held for trading.

The Authority’s financial assets including cash and cash equivalents, trade and other receivables, the Debt Service Reserve Fund and Sinking Fund are classified as loans and receivables. As such, they are recorded at amortized cost, which approximates fair value.

The Authority’s financial liabilities including accounts payable and accrued liabilities, and long-term debt are classified as other financial liabilities and are accounted for at amortized cost.

Financing costs are included in the related long-term debt balances using the effective interest method. An impairment loss is recognized whenever the carrying amount of an asset exceeds its recoverable amount.

Payment in lieu of municipal taxes

In December 2000, the Province of Ontario amended the Assessment Act to change the methodology for determining payments in lieu of municipal taxes (“PILT”) for airports in Ontario. Under regulations signed in March 2001, PILT paid by airport authorities designated under the Airport Transfer (Miscellaneous Matters) Act are based on a fixed rate specific to each airport, multiplied by the airport’s prior year passenger volumes. This legislation effectively removes airports in Ontario from the effects of market value assessment.

Comprehensive income (loss)

Comprehensive income (loss) is defined to include net income plus or minus other comprehensive income (loss). Other comprehensive income (loss) includes actuarial gains and losses related to the Authority’s pension plan and other post-employment benefits. Other comprehensive income (loss) is accumulated in a separate component of equity called accumulated other comprehensive income.

Current accounting changes

We actively monitor new standards and amendments to existing standards that have been issued by the IASB. There was one amendment of the standard IAS 7 Statement of Cash flows issued by IASB that was applicable to the Authority effective January 1, 2017. The amendments introduce additional disclosure requirements for liabilities arising from financing activities and for financial assets which cash flows were, or future cash flows will be, included in cash flows from financing activities. The amendments require entities to disclose both changes arising from cash flows and non-cash changes. The Authority assessed this amendment and determined there is limited impact on the disclosures to the financial statements.

Future changes in accounting policies

The following new standards and interpretation issued by the IASB are currently being assessed as having a possible impact on the Authority in the future. We intend to adopt each of these standards and related interpretation guidance, if applicable, as at the required effective dates indicated below and are currently assessing the impact on our financial statements.

IFRS 9, Financial Instruments (“IFRS 9”), effective January 1, 2018, addresses classification, measurement and recognition of financial assets and financial liabilities. It introduces a model for classification and measurement, a single, forward-looking “expected loss” impairment model and a substantially reformed approach to hedge accounting. The new single, principle-based approach for determining the classification of financial assets is driven by cash flow characteristics and the business model in which an asset is held. The new model also results in a single impairment model being applied to all financial instruments, which will require more timely recognition of expected credit losses. As the IFRS 9 requirements for recognition and derecognition are largely consistent with IAS 39, the Authority is currently assessing the full impact, however based on preliminary assessment the impact is not expected to be material.

IFRS 15, Revenue from Contracts with Customers (“IFRS 15”) replaces IAS 18 Revenue, IAS 11 Construction Contracts and related interpretations. This standard sets out the requirements for recognizing revenue that apply to all contracts with customers (except for contracts that are within the scope of the standards on leases, insurance contracts and financial instruments). The new standard establishes a comprehensive five-step framework for determining when and how much revenue to recognize. The core principle of the framework is that an entity should recognize revenue when a performance obligation is satisfied to transfer promised goods or services to a customer in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. This performance obligation may be satisfied at a point in time or over time. The Authority is currently assessing the impact on various revenue streams, however based on preliminary assessment the impact is not expected to be material.

IFRS 16, Leases (“IFRS 16”), effective for annual periods beginning on or after January 1, 2019. Earlier application is permitted for entities that apply IFRS 15 at or before the date of initial application of IFRS 16. The objective is to ensure that lessees and lessors provide relevant information in a manner that faithfully represents those transactions. This information gives a basis for users of financial statements to assess the effect that leases have on the financial position, financial performance and cash flows of the entity. This eliminates the dual accounting model for lessees such that all operating leases will be recorded on the balance sheet. This will impact the timing of recognition and nature of expenses associated with the lease agreements. The Authority has not yet determined the full impact of this new standard on the financial statements.

3. Sinking Fund investments

On June 9, 2015, the Authority completed the issuance of $300.0 million of Series E Amortizing Revenue Bonds under the Master Trust Indenture (see note 8). Of the net proceeds from this issuance, $200.0 million was placed in a segregated fund (the “Sinking Fund”) maintained by the trustee under the Master Trust Indenture (the “Trustee”) and was invested in accordance with the Board approved investment policy. These investments matured prior to the Authority’s Series D Revenue Bonds maturing on May 2, 2017.

The Sinking Fund investments consist of the following:

4. Property, plant and equipment

5. Other assets

Interest in future proceeds from 4160 Riverside Drive

In an agreement signed on May 27, 1999, the Authority agreed to assist the Regional Municipality of Ottawa-Carleton [now the City of Ottawa, the “City”] in acquiring lands municipally known as 4160 Riverside Drive by contributing to the City 50.0% of the funds required for the acquisition. In return, the City agreed to place restrictions on the use of the lands to ensure the lands are used for purposes that are compatible with the operations of the Authority. In addition, the Authority will receive 50.0% of the net proceeds from any future sale, transfer, lease or other conveyance of the lands.

Tenant improvements and leasehold inducements

During 2011, the Authority entered into a long-term lease with a subtenant that included a three-year rent-free period and provided, as a tenant inducement, a payment in the amount of $1.5 million towards the cost of utilities infrastructure and other site improvements. Tenant inducements associated with leased premises, including the value of rent-free periods, are deferred and amortized on a straight-line basis over the term of the related lease and recognized as a reduction of rental revenues. The value of these tenant inducements is being recognized as a reduction in rent during the first 20 years of the 47-year term of the lease.

6. Credit facilities

The Authority maintains access to an aggregate of $140 million [2016 – $140 million] in committed credit facilities [“Credit Facilities”] with two Canadian banks. The 364-day Credit Facilities that expired on October 13, 2017 have been extended for another 364-day term expiring on October 13, 2018. The Credit Facilities are secured under the Master Trust Indenture [see note 8] and are available by way of overdraft, prime rate loans, or bankers’ acceptances. Indebtedness under the Credit Facilities bears interest at rates that vary with the lender’s prime rate and bankers’ acceptance rates, as appropriate.

The following table summarizes the amounts available under each of the Credit Facilities, along with their related expiry dates and intended purposes:

As at December 31, 2017, $14.4 million of the Credit Facilities had been designated to the Operating and Maintenance Reserve Fund [see note 8a].

In order to satisfy the Debt Service Reserve Fund requirement for the Series E Bonds, $5.9 million of the Credit Facilities had been designated to an irrevocable standby letter of credit in favour of the Trustee.

7. Capital management

The Authority is continued without share capital under the Canada Not-for-profit Corporations Act and, as such, all earnings are retained and reinvested in airport operations and development. Accordingly, the Authority’s only sources of capital for investing in airport operations and development are bank debt, long-term debt and accumulated income included on the Authority’s balance sheet as retained earnings.

The Authority incurs debt, including bank debt and long-term debt, to finance development. It does so on the basis of the amount that it considers it can afford and manage based on revenue from AIF and to maintain appropriate debt service coverage and long-term debt per enplaned passenger ratios. This provides for a self-imposed limit on what the Authority can spend on major development of the Airport, such as the Authority’s major infrastructure construction programs.

The Authority manages its rates and charges for aeronautical and other fees to safeguard the Authority’s ability to continue as a going concern and to maintain a conservative capital structure. It makes adjustments to these rates in light of changes in economic conditions, operating expense profiles and regulatory environment to maintain sufficient net earnings to meet ongoing debt coverage requirements.
The Authority is not subject to capital requirements imposed by a regulator, but manages its capital to comply with the covenants of the Master Trust Indenture [see note 8a] and to maintain its credit ratings in order to secure access to financing at a reasonable cost.

8. Long-term debt

[a] Bond issues
The Authority issues revenue bonds [collectively, “Bonds”] under a trust indenture dated May 24, 2002 [as amended or supplemented, the “Master Trust Indenture”]. In May 2002, the Authority completed its original $270 million revenue bond issue with two series, the $120 million Revenue Bonds, Series A at 5.64% due on May 25, 2007, and the $150 million Amortizing Revenue Bonds, Series B at 6.973% due on May 25, 2032. In May 2007, the Authority completed a $200 million Revenue Bond issue, in part to refinance the Series A, Revenue Bonds repaid on May 25, 2007. On May 2, 2017, $200 million of Series D Revenue Bonds at 4.733% matured and were repaid as planned. $200 million of funds raised as part of the Series E financing in June 2015 and set aside in a segregated Sinking Fund were used to redeem the Series D Bonds.

On June 9, 2015, the Authority completed a $300.0 million Amortizing Revenue Bonds, Series E issue, which bear interest at a rate of 3.933% due on June 9, 2045. Part of the net proceeds from this offering were used to prefund the repayment of the Series D Bonds by depositing $200 million into a segregated fund held by the trustee under the Master Trust Indenture [see note 3].

The Series B Revenue Bonds are redeemable, in whole or in part, at the option of the Authority at any time, and the Series E Bonds are redeemable until six months prior to the maturity date, upon payment of the greater of: (i) the aggregate principal amount remaining unpaid on the Bonds to be redeemed; and (ii) the value that would result in a yield to maturity equivalent to that of a Government of Canada bond of equivalent maturity plus a premium. The premium is 0.24% for the Series B Bonds and 0.42% for the Series E Bonds. If the Series E Bonds are redeemed within six months of the maturity date, the Series E Bonds will be redeemable at a price equal to 100.0% of the principal amount outstanding plus any accrued and unpaid interest.

The net proceeds from these offerings were used to finance the Authority’s infrastructure construction programs, and for general corporate purposes. These purposes included refinancing existing debt and bank indebtedness incurred by the Authority in connection with these construction programs and funding of the Debt Service Reserve Fund [see below].

Under the Master Trust Indenture, all of these bond issues are direct obligations of the Authority ranking pari passu with all other indebtedness issued. All indebtedness, including indebtedness under bank credit facilities, are secured under the Master Trust Indenture by an assignment of revenues and related book debts, a security interest on money in reserve funds and certain accounts of the Authority, a security interest in leases, concessions and other revenue contracts of the Authority, and an unregistered mortgage of the Authority’s leasehold interest in airport lands.

The Authority is unregulated in its ability to raise its rates and charges as required to meet its obligations. Under the Master Trust Indenture, the Authority is required to take action, such as increasing its rates, should its projected debt service coverage ratio fall below 1.0. If this debt service covenant is not met in any year, the Authority is not in default of its obligations under the Master Trust Indenture as long as the test is met in the subsequent year.

Under the terms of the Master Trust Indenture, the Authority is required to maintain with the Trustee, a Debt Service Reserve Fund equal to six months’ debt service in the form of cash, qualified investments or letter of credit. As at December 31, 2017, the balance of cash and qualified investments held to satisfy the Series B Bonds in the Debt Service Reserve Fund requirement was $6.5 million. Furthermore, in order to satisfy the Debt Service Reserve Fund requirement for the Series E Bonds, $5.9 million of the Credit Facilities has been designated to an irrevocable standby letter of credit in favour of the Trustee. These trust funds are held for the benefit of the bondholders for use and application in accordance with the terms of the Master Trust Indenture. In addition, the Authority is required to maintain an Operating and Maintenance Reserve Fund equal to 25.0% of defined operating and maintenance expenses from the previous twelve months. As at December 31, 2017, $14.4 million [$14.0 million in 2016] of the Credit Facilities had been designated to the Operating and Maintenance Reserve Fund [see note 6].

As at December 31, 2017, the Authority was in full compliance with the provisions of its debt facilities, including the Master Trust Indenture’s provisions related to reserve funds, the flow of funds and the rate covenant.

9. Airport improvement fees

AIF are paid by the air carriers to airport authorities on the basis of estimated enplaned passengers, net of air carrier administrative fees [6.0%], under an agreement between the Authority, the Air Transport Association of Canada and the air carriers serving the Airport. Under the agreement, AIF revenue may only be used to pay for the capital and related financing costs of major airport infrastructure development. As the air carrier administrative fee is the property of the air carriers, AIF revenue is recorded net of the 6% fee of $3.1 million [2016 – $3.0 million].

AIF funding activities in the year are outlined below:

The AIF will continue to be collected until the cumulative excess of expenditures over AIF revenue is reduced to zero.

10. Pension plan and other post-employment benefits

The amounts recognized as the post-employment benefit assets and liabilities on the balance sheet as at December 31 are as follows:

The Authority sponsors and funds a pension plan for its employees, which has defined benefit and defined contribution components.

Under the defined contribution plan, the Authority pays fixed contributions into an independent entity to match certain employee contributions. The Authority has no legal or constructive obligation to pay further contributions after its payment of the fixed contribution.

The defined benefit plan includes employees who were employees of the Authority on the date of transfer of the responsibility for the management, operation and development of the Airport from Transport Canada on January 31, 1997 [see note 1], including former Transport Canada employees, the majority of whom transferred their vested benefits from the Public Service Superannuation Plan to the Authority’s pension plan. Pension benefits payable under the defined benefit component of the plan are based on members’ years of service and the average of the best six years’ consecutive earnings near retirement up to the maximums allowed by law. Benefits are indexed annually to reflect the increase in the consumer price index to a maximum of 8.0% in any one year.

Pension plan costs are charged to operations as services are rendered based on an actuarial valuation of the obligation.

In addition to pension plan benefits, the Authority provides other post-employment and retirement benefits to some of its employees including health care insurance and lump-sum payments upon retirement or termination of employment. The Authority accrues the cost of these future benefits as employees render their services based on an actuarial valuation. This plan is not funded.

As at the date of the most recent actuarial valuation of the pension plan, which was as at December 31, 2016, that was completed and was filed in June 2017 as required by law, the plan had a surplus on a funding [going concern] basis of $5,166 assuming a discount rate of 4.00% [$723 surplus as at December 31, 2015 assuming a discount rate of 4.00%]. This amount differs from the amount reflected below primarily because the obligation is calculated using the discount rate that represents the expected long-term rate of return of assets. For accounting purposes, it is calculated using an interest rate determined with reference to market rates on high-quality debt instruments with cash flows that match the timing and amount of expected benefit payments.

The Pension Benefits Standards Act, 1985 (the “Act”) requires that a solvency analysis of the plan be performed to determine the financial position (on a “solvency basis”) of the plan as if it were fully terminated on the valuation date due to insolvency of the sponsor or a decision to terminate. As at December 31, 2016, the plan had a deficit on a solvency basis of $10,778 [$10,548 as at December 31, 2015] before considering the present value of additional solvency payments required under the Act. In 2017, the Authority made additional solvency payments of $2,156 [$2,110 in 2016] to amortize this deficiency.

The next required actuarial valuation of the defined benefit pension plan, which will be as at December 31, 2017, is scheduled to be completed and filed by its June 2018 due date. The plan’s funded position and the amounts of solvency payments required under the Act are subject to fluctuations in interest rates. It is expected that, once the actuarial valuation is completed, the additional solvency payments that will be required for 2018 will be approximately $2,156 [2017 – $2,156]. In addition, the Authority expects to contribute approximately $716 [2017 – $653] on account of current service in 2018 to the defined benefit component of the pension plan for the year ending December 31, 2018.

Based on the most recent actuarial determination of pension plan benefits completed as at December 31, 2016 and extrapolated to December 31, 2017 by the Authority’s actuaries, the estimated status of the defined benefit pension plan is as follows:

The costs of the defined benefit component of the pension plan and of other post-employment benefits are actuarially determined using the projected benefit method prorated on services. This determination reflects management’s best estimates of the rate of return on plan assets, rate of salary increases and various other factors including mortality, termination and retirement rates.

The significant economic assumptions used by the Authority’s actuaries in measuring the Authority’s accrued benefit obligations as at December 31 are as follows:

The Authority’s defined benefit pension plans and post-retirement benefit plans face a number of risks, including inflation, but the most significant of these risks relates to changes in interest rates [discount rate]. The defined benefit pension plan’s liability is calculated for various purposes using discount rates set with reference to corporate bond yields. If plan assets underperform this yield, this will increase the deficit. A decrease in this discount rate will increase plan liabilities, although this will be partially offset by an increase in the value of the plan’s bond holdings. In addition to the risks of fluctuations in interest rates [discount rate] outlined above, the Authority’s pension plans are subject to a number of other risks. Relative to the actuarial assumptions noted above, the financial impact of changes in key assumptions is outlined below:

The Authority’s pension and other post-employment benefit plans are designed to provide benefits for the life of the member. Increases in life expectancy will result in an increase in the plans’ liabilities. The obligations for these plans as at December 31, 2017 have been estimated by the Authority’s actuaries using the most recent mortality tables available [Canadian Pensioner Mortality 2014 Combined Sector Mortality Table].

The investment policy for the pension plan’s defined benefit funds was revised in early 2012 to adopt a “glide-path” de-risking strategy to better match fluctuations in the accrued benefit obligation due to changes in interest rates. Under this strategy, the proportion of liability matching assets [fixed income funds] will be increased and the proportion of growth assets [equity and other funds] will be decreased over time as the average age of active members increases and as the plan’s solvency ratio improves. The plan’s solvency ratio is monitored monthly by the plan’s actuaries. The defined benefit plan is a closed plan. As at the date of the most recent actuarial valuation at December 31, 2016, the average age of the 23 active members was 54 years of age. The average age of the 52 retired members was 68 years of age.

Responsibility for governance of the plans including overseeing aspects of the plans such as investment decisions lies with the Authority through a Pension Committee. The Pension Committee in turn has appointed experienced independent experts such as investment advisors, investment managers, actuaries and a custodian for assets.

In accordance with the investment policy for the pension plan’s defined benefit funds, as at December 31, the plan’s non-current, non-cash assets are invested in funds maintained by Manulife and managed by various investment managers as follows:

11. Financial instruments

Fair values

None of the Authority’s financial assets or liabilities are reflected in the financial statements at fair values (see note 2).

The Authority’s long-term debt, including Revenue Bonds outstanding, is reflected in the financial statements at amortized cost. As at December 31, 2017, the estimated fair value of the long-term Series B and Series E Revenue Bonds was $165.4 million and $319.2 million, respectively [2016 – $171.3 million, $204.1 million and $301.9 million for Series B, Series D (matured and repaid on May 2, 2017) and Series E Revenue Bonds, respectively]. The fair value of the bonds is estimated by calculating the present value of future cash flows based on year-end benchmark interest rates and credit spreads for similar instruments.

Risk management

The Authority is exposed to a number of risks as a result of the financial instruments on its balance sheet that can affect its operating performance. These risks include interest rate risk, liquidity risk, credit risk and concentration risk. The Authority’s financial instruments are not subject to foreign exchange risk or other price risk.

Interest rate risk

Interest rate risk is the risk that the fair value or future cash flows of a financial instrument will fluctuate because of changes in market interest rates.

The following financial instruments are subject to interest rate risk as at December 31:

The Authority has entered into fixed rate long-term debt, and accordingly, the impact of interest rate fluctuations has no effect on interest payments until such time as this debt is to be refinanced. Changes in prevailing benchmark interest rates and credit spreads, however, may impact the fair value of this debt. The Authority’s most significant exposure to interest rate risk relates to its future anticipated borrowings and refinancing, which are not expected to occur in the near-term.

In addition, the Authority’s bank indebtedness, cash and cash equivalents, and its Debt Service Reserve Fund are subject to floating interest rates. Management has oversight over interest rates that apply to its cash and cash equivalents, and its Debt Service Reserve Fund. These funds are invested from time to time in short-term Bankers’ Acceptances permitted by the Master Trust Indenture, while maintaining liquidity for purposes of investing in the Authority’s capital programs. Management has oversight over interest rates that apply to its bank indebtedness and fixes these rates for short term periods of up to 90 days based on Bankers’ Acceptance rates.

If interest rates had been 50 basis points [0.50%] higher/lower and all other variables were held constant, including timing of expenditures related to the Authority’s capital expenditure programs, the Authority’s earnings for the year would have increased/decreased by $0.4 million as a result of the Authority’s exposure to interest rates on its floating rate assets and liabilities. Management believes, however, that this exposure is not representative of the exposure during the year, and that interest income is not essential to the Authority’s operations as these assets are intended for reinvestment in airport operations and development, and not for purposes of generating interest income.

Liquidity risk

The Authority manages its liquidity risks by maintaining adequate cash and credit facilities, by updating and reviewing multi-year cash flow projections on a regular and as-needed basis and by matching its long-term financing arrangements with its cash flow needs including pre-funding debt repayment through a segregated sinking fund. Management believes the Authority has a strong credit rating that gives it access to sufficient long-term funds as well as committed lines of credit through credit facilities with two Canadian banks.

The Authority is unregulated in its ability to raise its rates and charges as required to meet its obligations. Under the Master Trust Indenture entered into by the Authority in connection with its debt offerings [see note 8], the Authority is required to take action, such as increasing its rates, should its projected debt service coverage ratio fall below 1.0. If this debt service covenant is not met in any year, the Authority is not in default of its obligations under the Master Trust Indenture as long as the test is met in the subsequent year. Because of the Authority’s unfettered ability to increase rates and charges, it expects to continue to have sufficient liquidity to cover all of its obligations as they come due, including interest payments of approximately $25.6 million per year. The future annual principal payment requirements of the Authority’s obligations under its long-term debt are described in note 8(c).

Credit risk and concentration risk

The Authority is subject to credit risk through its cash and cash equivalents, its Debt Service Reserve Fund, and its trade and other receivables. The counterparties of cash and cash equivalents and the Debt Service Reserve Fund are highly rated Canadian financial institutions. The trade and other receivables consist primarily of current aeronautical fees and AIF owing from air carriers. The majority of the Authority’s accounts receivable are paid within 37 days of the date that they are due. A significant portion of the Authority’s revenues, and resulting receivable balances, is derived from air carriers. The Authority performs ongoing credit valuations of receivable balances and maintains an allowance for potential credit losses. The Authority’s right under the Airport Transfer (Miscellaneous Matters) Act to seize and detain aircraft until outstanding aeronautical fees are paid mitigates the risk of credit losses.

The Authority derives approximately 51.0% [2016 – 50.0%] of its landing fee and terminal fee revenue from Air Canada and its affiliates. Management believes, however, that the Authority’s long-term exposure to any single air carrier is mitigated by the fact that approximately 96.0% [2016 – 94.0%] of the passenger traffic through the Airport is origin and destination traffic, and therefore other carriers are likely to absorb the traffic of any carrier that ceases operations. In addition, the Authority’s unfettered ability to increase its rates and charges mitigates the impact of these risks.

12. Operating leases

The Authority as lessee: On January 31, 1997, the Authority signed a 60-year ground lease [as amended, the “Lease”] with the Government of Canada (Transport Canada) for the management, operation and development of the Airport. The Lease contains provisions for compliance with a number of requirements, including environmental standards, minimum insurance coverage, specific accounting and reporting requirements, and various other matters that have a significant effect on the day-to-day operation of the Airport. The Authority believes that it has complied with all requirements under the Lease.

On February 25, 2013, the Minister of Transport for the Government of Canada signed an amendment to the Lease to extend the term from 60 years to 80 years ending on January 31, 2077. At the end of the renewal term, unless otherwise extended, the Authority is obligated to return control of the Airport to the Government of Canada.

In 2005, the Government of Canada announced the adoption of a new rent policy that has resulted in reduced rent for Canadian airport authorities, including the Authority. Under this formula, rent is calculated as a royalty based on a percentage of gross annual revenues on a progressive scale.

Based on forecasts of future revenues [which are subject to change depending on economic conditions and changes in the Authority’s rates and fees], estimated rent payments for the next five years are approximately as follows:

The Authority as lessor: The Authority leases out, under operating leases, land and certain assets that are included in property, plant and equipment. Many leases include renewal options, in which case they are subject to market price revision. The lessee does not have the possibility of acquiring the leased assets at the end of the lease.

The estimated lease revenue for the next five years is approximately as follows:

Key management includes the Authority’s Board of Directors and members of the executive team, including the President and CEO, and six Vice Presidents.

The defined pension plan referred to in note 10 is a related party to the Authority. The Authority’s transactions with the pension plan include contributions paid to the plan, which are disclosed in note 10. The Authority has not entered into other transactions with the pension plan and has no outstanding balances with the pension plan as at the balance sheet date.

15. Commitments and contingencies

Ground lease commitments

The Lease requires the Authority to calculate rent payable to Transport Canada utilizing a formula reflecting annual airport revenues [see note 12].

Operating commitments

The Authority has operating commitments in the ordinary course of business requiring payments of $11.7 million in 2018 and diminishing in each year over the next five years as contracts expire. As at December 31, 2017, the total of these operating commitments amounted to $16.9 million [2016 – $21.4 million]. These commitments are in addition to contracts for the purchase of property, plant and equipment of approximately $18.5 million.

Contingencies

The Authority may, from time to time, be involved in legal proceedings, claims and litigation that arise in the ordinary course of business. The Authority does not expect the outcome of any proceedings to have a material adverse effect on the financial position or results of operations of the Authority.

16. Post-reporting date events

No adjusting or significant non-adjusting events have occurred between the reporting date and February 21, 2018, when the financial statements were authorized for issue.