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Archived - Annual Report of the Canada Pension Plan 2006–07

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Canada Pension Plan

Consolidated Financial Statements for the year ended March 31, 2007

Management’s responsibility for financial statements

The consolidated financial statements of the Canada Pension Plan have been prepared in accordance with Canadian generally accepted accounting principles for the public sector, by the management of Service Canada in agreement with the management of Human Resources and Social Development Canada (the Department).

Management is responsible for the integrity and objectivity of the information in the financial statements, including the amounts which must, of necessity, be based on best estimates and judgement. The financial information presented throughout the Annual Report is consistent with the financial statements.

In support of its responsibilities, management has developed and maintains systems of internal control and supporting procedures. They are designed to provide reasonable assurance that assets are safeguarded, recorded and properly maintained and transactions are properly authorized and are in accordance with the Canada Pension Plan Act, the Financial Administration Act and accompanying regulations. These controls include the establishment of an organizational structure that provides a well defined division of responsibilities and accountability, the selection and training of qualified staff, and the communication of policies and guidelines throughout the organization. Internal controls are reviewed and evaluated by both internal and external auditors in accordance with their respective audits. Management also reviews the recommendations of its internal and external auditors for improvements in internal controls.

The Auditor General of Canada, the external auditor of the Canada Pension Plan, has conducted an independent audit of the consolidated financial statements in accordance with Canadian generally accepted auditing standards and has reported to the Minister of Human Resources and Social Development.

August 17, 2007

AUDITOR'S REPORT

To the Minister of Human Resources and Social Development

I have audited the consolidated statement of net assets of the Canada Pension Plan as at March 31, 2007 and the consolidated statement of changes in net assets and cash flow for the year then ended. These financial statements are the responsibility of the management of Human Resources and Social Development. My responsibility is to express an opinion on these financial statements based on my audit.

I conducted my audit in accordance with Canadian generally accepted auditing standards. Those standards require that I plan and perform an audit to obtain reasonable assurance whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estfmates made by management, as well as evaluating the overall financial statement presentation.

ln my opinion, these consolidated financial statements present fairly, in all material respects, the net assets of the Canada Pension Plan as at March 31, 2007 and the changes in its net assets and cash flows for the year then ended in accordance with Canadian generally accepted accounting principles.

Canada Pension Plan Consolidated Statement of Net Assets As at March 31
	2007	2006
(in millions of dollars)
Assets
Cash (Note 8)	56	155
Receivables (Note 7)	5,946	3,439
Investments (Schedule, Note 3)	118,094	99,196
Other Assets	15	8
	124,111	102,798
Liabilities
Accounts payable	148	41
Pensions and benefits payable	74	62
Tax deductions due to Canada Revenue Agency	100	96
Investment liabilities (Schedule, Note 3)	1,382	775
Amounts payable from pending trades (Schedule, Note 3)	2,576	703
	4,280	1,677
Net assets	119,831	101,121

Contingencies (Note 13)

The accompanying notes and consolidated schedule are an integral part of these consolidated financial statements.

Approved by:

Consolidated Statement of Changes in Net Assets for the year ended March 31
	2007	2006
	(in millions of dollars)
Net assets, beginning of year	101,121	83,411
Increase
Contributions	32,355	30,117
Net Investment income (Note 9)
Realized gains	9,540	6,448
Unrealized (losses)/gains	(542)	3,239
Interest income	1,988	2,185
Dividend income	1,666	1,031
Other income	417	165
Investment management fees	(25)	(36)
	13,044	13,032
	45,399	43,149
Decrease
Pensions and benefits
Retirement	18,679	17,698
Survivors	3,573	3,466
Disability	3,137	3,111
Disabled contributor’s child	273	269
Death	260	264
Orphan	218	218
Net overpayments	(25)	(49)
	26,115	24,977
Operating expenses (Note 10)	574	462
	26,689	25,439
Net increase in net assets	18,710	17,710
Net assets, end of year	119,831	101,121

The accompanying notes and consolidated schedule are an integral part of these consolidated financial statements.

Consolidated Statement of Cash Flow for the year ended March 31
	2007	2006
	(in millions of dollars)
Operating Activities
Cash receipts
Contributions	32,107	29,310
Interest on investments	2,146	2,274
Dividends on investments	1,627	989
Other investment income	1,297	2,357
Cash payments
Pensions and benefits	(26,151)	(24,974)
Operating expenses	(437)	(496)
Investment management fees	(37)	(27)
Cash Flows from Operating Activities	10,552	9,433
Financing Activities
Issuance of debt	703	441
Repayment of debt	(235)	(10)
Payment of interest on debt	(64)	(28)
Cash Flows from Financing Activities	404	403
Investing Activities
Purchases
Equities	(81,422)	(35,258)
Inflation sensitive investments	(4,834)	(8,718)
Fixed income investments	(6,011)	(17,046)
Money market securities	(294,842)	(332,728)
Premises and equipment	(9)	(4)
Disposals
Equities	80,231	27,801
Inflation sensitive investments	2,347	1,307
Fixed income investments	3,520	17,623
Money market securities	289,965	334,569
Cash Flows used in Investing Activities	(11,055)	(12,454)
Net (decrease) in Cash	(99)	(2,618)
Cash at beginning of year	155	2,773
Cash at end of year	56	155

 

Consolidated Schedule of Investments for the year ended March 31
	2007	2006
Equities Canada	(in millions of dollars)
Public equities	14,800	20,003
Private equities	667	455
	15,467	20,458
Foreign
Public equities	36,656	27,743
Private equities	7,436	3,995
Pooled funds	260	-
	44,352	31,738
Total equities	59,819	52,196
Nominal fixed income
Bonds (Note 3d)	28,481	26,452
Money market securities	15,561	10,356
Total nominal fixed income	44,042	36,808
Inflation-sensitive assets
Public real estate	1,409	1,178
Private real estate	5,441	3,676
Inflation-linked bonds	3,802	3,837
Infrastructure	2,181	350
Total inflation-sensitive assets	12,833	9,041
Total investments	116,694	98,045
Investment receivables
Accrued interest	714	764
Derivatives receivables	519	259
Dividends receivables	167	128
Total investment receivables	1,400	1,151
Total investments and investments receivable	118,094	99,196
Investments liabilities
Debt on private real estate properties	(1,174)	(664)
Derivatives liabilities	(208)	(111)
Total investments liabilities	(1,382)	(775)
Amounts receivable from pending trades	2,477	255
Amounts payable from pending trades	(2,576)	(703)
Net investments	116,613	97,973

Notes to consolidated financial statements
March 31, 2007

1. Description of the Canada Pension Plan

a) Description of the Canada Pension Plan

The Canada Pension Plan (CPP) is a federal/provincial plan established by an Act of Parliament in 1965.

The CPP began operations in 1966. It is a compulsory and contributory social insurance program operating in all parts of Canada, except Quebec, which operates the Régime des rentes du Québec, a comparable program. The Plan’s objective is to provide a measure of protection to workers and their families against the loss of earnings due to retirement, disability or death.

The Canada Pension Plan Investment Board (CPPIB) was established pursuant to the Canada Pension Plan Investment Board Act. The CPPIB is a federal Crown corporation, all of its shares are owned by her Majesty the Queen in right of Canada.

The Minister of Human Resources and Social Development is responsible for the administration of the Canada Pension Plan (under the CPP Act); the Minister of National Revenue is responsible for collecting contributions. The Minister of Finance and his provincial counterparts are responsible for setting CPP contribution rates, pension and benefit levels and funding policy. The CPP Investment Board is responsible for managing amounts that are being transferred under Section 108.1 of the Canada Pension Plan and interest on any debt securities transferred to the Board. It acts in the best interests of the beneficiaries and contributors under the Act.

In accordance with the CPP Act, the financial activities of the Canada Pension Plan are recorded in the CPP Account (Note 8). The Plan’s investments are held by the CPP Investment Fund (Note 4) and the CPP Investment Board (CPPIB). The financial transactions affecting the Account and the Investment Fund are governed by the CPP Act and regulations. The Investment Board’s transactions are governed by the Canada Pension Plan Investment Board Act and the accompanying regulations. The CPP Investment Board’s assets are to be invested with a view to achieve a maximum rate of return without undue risk of loss, having regard to the factors that may affect the funding of the CPP and its ability to meet its financial obligations on any given business day.

The CPP Investment Board and its subsidiaries are exempt from Part I income tax under paragraphs 149(1)(d) and 149 (1) (d.2) of the Income Tax Act (Canada) on the basis that all of the shares of the CPP Investment Board and its subsidiaries are owned by Her Majesty the Queen in right of Canada or by a corporation whose shares are owned by Her Majesty the Queen in right of Canada, respectively.

The CPP Investment Board is designed to operate at arm’s length from the government. It is required to be accountable to the public, Parliament (through the federal Minister of Finance), and the provinces. It provides regular reports of its activities and the results achieved.

As stated in the CPP and CPPIB Acts, changes to these Acts require the approval of at least two-thirds of the provinces having, in the aggregate, not less than two-thirds of the population of all included provinces.

b) Financing

The CPP is financed by contributions and investment returns. Employers and employees pay contributions equally to CPP. Self-employed workers pay the full amount.

The CPP was designed initially to be financed on a pay-as-you-go basis, which means that the Plan would operate on a current basis with pensions and benefits being paid out of current contributions. With changes made to the Act in 1997, CPP is now intended to be funded on a "steady-state" basis – that is, combined employer-employee contributions of 9.9% of pensionable earnings. While the net asset value does not cover the actuarial present value of accrued pensions and benefits, it is expected to provide a capitalization level of 25% of the Plan’s liability by the year 2025 as per the last triennial Actuarial Report issued in 2004.

The CPP Act provides that an actuarial report shall be prepared every three years for purposes of the review of the financial state of the CPP by the Minister of Finance and his provincial counterparts. The most recent triennial report, the Twenty-first Actuarial Report of the Chief Actuary as at December 31, 2003, was tabled on December 8, 2004. The report concluded that the CPP is financially sound and the 9.9% combined employee-employer contribution rate reached in 2003 is expected to be sufficient to sustain the Plan in the face of an aging population.

The CPP Act also provides that whenever a bill amending the CPP Act is introduced that would materially affect the estimates of the most recent triennial report, the Chief Actuary will prepare a report, using the same assumptions and basis as the triennial report, presenting how this bill would affect the estimates of the last triennial report. Following the introduction of Bill C-36, an act amending the CPP Act to relax the contributory requirements for disability and disabled contributors’ child benefits, the Twenty-second Actuarial Report of the Chief Actuary as at December 31, 2003 was tabled on December 4, 2006. This report concludes that the CPP remains financially sound and that the 9.9% combined employer-employee contribution rate is expected to be sufficient to sustain the Plan.

A number of assumptions such as long term rate of return on assets, inflation rate, mortality rates, increase in salary and benefit rates, among other things, were used in the Twenty-first and Twenty-second Actuarial Reports. These assumptions reflect best estimates of future economic and demographic events. The next triennial actuarial report as at December 31, 2006 is expected to be completed by December 2007.

c) Net assets of the Plan

The net assets of the Plan are composed of the deposit with the Receiver General for Canada, bonds and other net assets held on behalf of the CPP by the Government of Canada and investments held by the CPPIB. They represent funds accumulated for the payment of pensions, benefits and operating expenses.

As at March 31, 2007, the value of net assets of the Plan is $119.8 billion (2006 – $101.1 billion). This amount represents approximately 4.6 times the total of pensions and benefits in 2007 (2006 - 4.0 times). According to the Twenty-first Actuarial Report, this is expected to grow to 5.6 times by 2021.

d) Pensions and benefits

Retirement pensions – A retirement pension is payable to each contributor at age 60 or older, according to the provisions of the Act. The monthly amount is equal to 25% of the contributor’s average monthly pensionable earnings during the pensionable period. The amount may be reduced or increased depending upon whether the contributor applies for a retirement pension before or after age 65. This adjustment cannot exceed 30%. The maximum new monthly pension payable at age 65 in 2007 is $863.75 (2006 – $844.58).

Disability benefits – A disability benefit is payable to a contributor who is disabled, according to the provisions of the Act. The amount of the disability benefit to be paid includes a flat-rate portion and an amount equal to 75% of the earned retirement pension. The maximum new monthly disability benefit in 2007 is $1,053.77 (2006 – $1,031.05).

Survivor’s benefits – A survivor’s benefit is payable to the spouse or common-law partner (the beneficiary) of a deceased contributor, according to the provisions of the Act. For a beneficiary under the age of 65, the benefit consists of a flat-rate portion and an amount equal to 37.5% of the deceased contributor’s earned retirement pension. A beneficiary between the ages of 35 and 45 who is not disabled or who has no dependent children receives reduced benefits. For beneficiaries aged 65 and over, the benefit is equal to 60% of the retirement pension granted to the deceased contributor. The maximum new monthly benefit payable to a beneficiary in 2007 is $518.25 (2006 – $506.75).

Disabled contributor’s child and orphan benefits – According to the provisions of the Act, each child of a contributor who is receiving disability benefits or a child of a contributor who is deceased is entitled to a benefit as long as the child is under the age of 18, or is between the ages of 18 and 25 and attending school full-time. The flat-rate monthly benefit in 2007 is $204.68 (2006 – $200.47).

Death benefits – According to the provisions of the Act, a death benefit is a one-time payment to, or on behalf of, the estate of a contributor. The benefit amounts either to 10% of the maximum pensionable earnings in the year of death or six times the monthly retirement pension granted to the deceased contributor, whichever is less. The maximum death benefit in 2007 is $2,500 (2006 – $2,500).

Pensions and benefits indexation – As required by the Act, pensions and benefits are indexed annually based on the Consumer Price Index for Canada. The rate of indexation for 2007 is 2.1% (2006 – 2.3%).

2. Significant accounting policies

a) Basis of presentation

These financial statements are presented on a consolidated basis. They include the consolidated net assets, the consolidated changes in net assets and the consolidated cash flows of the CPP and the CPP Investment Board. These financial statements are prepared in accordance with Canadian generally accepted accounting principles for the public sector and conform to the disclosure and accounting requirements of the CPP Act.

These consolidated financial statements do not provide information on the actuarial estimates required to meet future obligations of the CPP since the CPP Act does not require that the pensions and benefits be prefunded.

The CPP, which is under joint control of the Government of Canada and participating provinces, is not considered to be part of the reporting entity of the Government of Canada. Accordingly, its financial activities are not consolidated with those of the Government.

b) Valuation of investments, investment receivables and investment liabilities

Investments, investment receivables and investment liabilities are recorded on a trade date basis and are stated at fair value. Fair value is the amount of the consideration that would be agreed upon in an arm’s-length transaction between knowledgeable, willing parties who are under no compulsion to act.

Fair value is determined as follows:

1. Quoted market prices for publicly-traded equities and unit values for public equity and pooled funds are used to represent fair value for these investments. Unit values reflect the quoted market prices of the underlying securities. In the case where quoted market prices are not available or reliable, such as those for securities that are not sufficiently liquid to be used as a basis for fair value, fair value is determined using accepted industry valuation methods.
2. Private equity and infrastructure investments are either held directly or through ownership in limited partnership arrangements. The fair value for investments held directly is determined using accepted industry valuation methods. These methods include considerations such as earnings multiples of comparable publicly-traded companies, discounted cash flows and third party transactions, or other events that would suggest a change in the value of the investment. In the case of investments held through a limited partnership, fair value is generally determined based on carrying values and other relevant information reported by external managers using accepted industry valuation methods. In the first year of ownership, cost, which includes capitalized management fees, is generally considered to be an appropriate estimate of fair value for private equity and infrastructure investments unless there is evidence of a significant change in value.
3. Quoted market prices are used to represent the fair value for marketable bonds. Where quoted market prices are not available, fair value is calculated using discounted cash flows based on current market yields of instruments with similar characteristics.
4. Fair value for non-marketable Canadian federal, provincial and territorial government bonds is calculated using discounted cash flows based on current market yields of instruments with similar characteristics, adjusted for the non-marketability and rollover provisions of the bonds.
5. Money market securities are recorded at cost, which, together with accrued interest income, approximates fair value.
6. Quoted market prices are used to represent the fair value for public real estate investments.
7. The fair value of private real estate investments is determined using accepted industry valuation methods, such as discounted cash flows and comparable purchase and sales transactions. Debt on private real estate investments is valued using discounted cash flows based on current market yields for instruments with similar characteristics. In the first year of ownership, cost is generally considered to be an appropriate estimate of fair value for private real estate investments unless there is evidence of a significant change in value.
8. Quoted market prices are used to represent the fair value for inflation-linked bonds.
9. Fair value for exchange-traded derivatives, which include equity, bond and interest futures, is based on quoted market prices. Fair value for over-the-counter derivatives, which include equity swaps, inflation-linked bond swaps and foreign exchange forward contracts, is determined based on the quoted market prices for underlying instruments.

c) Contributions

Contributions include CPP contributions earned for the year. The Canada Revenue Agency (CRA) collects contributions and measures them using the assessment of tax returns. In determining the amount of contributions earned for the year, the Agency considers cash received and contributions assessed, and makes an estimate for contributions related to tax returns not yet assessed. This estimate is subject to review and adjustments. Adjustments, if any, are recorded as contributions in the year they are known.

d) Investment income

Investment income is recorded on the accrual basis and includes realized gains and losses from investments, unrealized gains and losses on investments held at the end of the year, dividend income (recognized on ex-dividend date), interest income and net operating income from private real estate investments.

Realized gains and losses on investments sold during the year represent the difference between sale proceeds and cost, less related costs of disposition. Unrealized gains and losses represent the difference between the fair value and cost of the investments at the end of the year. The current year unrealized gains and losses represent the year-over-year change in this difference.

e) Translation of foreign currencies

Transactions denominated in foreign currencies are translated into Canadian dollars at exchange rates prevailing on the transaction date. Investments and other monetary assets and liabilities denominated in foreign currencies are translated into Canadian dollars at exchange rates prevailing on the year end date with any resulting gain or loss being included in investment income.

f) Pensions and benefits

Pensions and benefits are recorded when payable.

g) Tax deductions due to Canada Revenue Agency

Tax deductions due to CRA consists primarily of voluntary and non-resident taxes withheld from pensions and benefit payments to CPP beneficiaries.

h) Net overpayments

Net overpayments are composed of overpayments of pensions and benefits that were established during the year less remissions of debts granted.

i) Operating expenses

Operating expenses are recorded in the year to which they relate.

j) Use of estimates

The preparation of consolidated financial statements in accordance with Canadian generally accepted accounting principles for the public sector requires management to make estimates and assumptions that affect the reported values of assets and liabilities as at the date of the financial statements, and income and expenses during the reporting period. Significant estimates and judgments are required principally in determining the reported estimated contributions, allowance for doubtful accounts, contingencies and fair values of investments since these determinations include estimates of expected future cash flows, rates of return and the impact of future events. Actual results could differ significantly from those estimates.

k) Future Changes in accounting policy

In April 2005, the CICA issued section 3855, Financial Instruments – Recognition and Measurement, which is effective for fiscal years beginning on or after October 1, 2006. As the CPP Investment Board qualifies as an Investment Company and it reports its investments at fair value in accordance with AcG-18, Investment Companies, only certain aspects of section 3855 are applicable to the CPP Investment Board.

Effective April 1, 2007, the CPP Investment Board will adopt the fair value measurement considerations of section 3855. The impact to the CPP Investment Board is a change in the way certain investments are valued, expensing of transaction costs when incurred and applying the effective interest method in accounting for interest income on bonds. On April 1, 2007, the investments of the CPP Investment Board will be remeasured to reflect the new valuation standards. This transition adjustment is not expected to have a material impact on the CPP Investment Board’s financial position.

The adoption of the new standard by CPPIB is not expected to have a material impact on the Canada Pension Plan's financial statements.

3. Investments and investment liabilities

The CPP Investment Board has established investment policies in accordance with the CPPIB regulations which set out the manner in which their assets shall be invested. In setting the policies, the CPP Investment Board takes into consideration certain assets that are held outside of the CPP Investment Board and that are in the process of being transferred to the CPP Investment Board as set out in the following paragraph:

The CPP Act and an administrative agreement between Her Majesty the Queen in right of Canada and the CPP Investment Board (the “Agreement”) together provide for the transfer of certain specified CPP assets, currently administered by the federal government, to the CPP Investment Board. These assets consist of the remaining portfolio of non-marketable federal, provincial and territorial bonds that have been transferred to the CPP Investment Board at the rate of 1/36th every month since May 1, 2004. The last 1/36th, totalling $630 million (including $16 million of accrued interest) at fair market value as at March 31, 2007, will be transferred to the CPP Investment Board on April 1, 2007 (see Note 3d).

a) Derivative contracts

A derivative is a financial contract, the value of which is derived from the value of underlying assets, indexes, interest rates or currency exchange rates. The fair value of these contracts is reported as derivative receivables and derivative liabilities on the consolidated schedule of Investments. Derivative exposure includes the fair value plus the notional amount of the contract.

The CPP Investment Board uses the following types of derivative instruments as described below:

Equity and inflation-linked bond swaps
Swaps are over-the-counter contractual agreements between two counterparties to exchange financial returns with predetermined conditions based on notional amounts. Swaps are used for yield enhancement purposes or to adjust exposures to certain equities and inflation-linked bonds without directly purchasing or selling the underlying asset. Swap contracts create credit risk exposure due to the possible inability of counterparties to meet the terms of the contracts. There is also risk arising from exposure to movements in equity values, interest rates and foreign rates, as applicable (see Note 5).

Equity, interest rate and bond futures
Futures are standardized contracts transacted on an exchange to purchase or sell a specified quantity of equities, interest rate sensitive financial instruments or bonds at a predetermined price and date in the future. Futures are used to adjust exposure to specified equities, interest rate sensitive financial instruments and bonds without directly purchasing or selling the underlying asset. The primary risks associated with futures contracts are related to the exposure to movements in equity values, interest rates and foreign exchange rates, as applicable. Credit risk on exchange-traded futures is limited, as these transactions are executed on regulated exchanges, each of which is associated with a well-capitalized clearing house that assumes the obligations of both counterparties (see Note 5).

Foreign exchange forward contracts
Foreign exchange forward contracts are over-the-counter contractual agreements negotiated between two counterparties to exchange a specified amount of one currency for a specified amount of a second currency on a predetermined date in the future. Foreign exchange forward contracts are used to manage exposures to currencies other than the Canadian dollar. The primary risks associated with foreign exchange forward contracts arise from exposure to movements in foreign exchange rates and from the possible inability of counterparties to meet the terms of the contract (see Note 5).

All derivative contracts have a term of maturity of one year or less.

Notional amounts of derivative contracts represent the contractual amounts to which a rate or price is applied for computing the cash flows to be exchanged. The notional amounts are used to determine the returns and fair value of the contracts and are a measure of the exposure to the asset class to which the contract relates. They are not recorded as assets or liabilities on the balance sheet. Notional amounts do not represent the potential gain or loss associated with the market risk and are not indicative of the credit risk associated with a derivative contract.

The notional amounts and fair value of derivative contracts held as at March 31 are as follows:

As at March 31, 2007					For the Year Ended March 31, 2007
	Notional Amount	Gross Positive Fair Value	Gross Negative Fair Value	Net Fair Value	Average Gross Positive Fair Value1	Average Gross Negative Fair Value1
(in millions of dollars)
Equity swaps	14,435	373	(134)	239	274	(156)
Equity futures	1,797	1	(2)	(1)	4	(4)
Foreign exchange forward contracts	19,170	145	(72)	73	132	(147)
Inflation-linked bond swaps	-	-	-	-	-	-
Interest rate and bond futures	-	-	-	-	-	(1)
Total	35,402	519	(208)	311	410	(308)

As at March 31, 2006					For the Year Ended March 31, 2006
(in millions of dollars)	Notional Amount	Gross Positive Fair Value	Gross Negative Fair Value	Net Fair Value	Average Gross Positive Fair Value1	Average Gross Negative Fair Value1
Equity swaps	8,874	213	(44)	169	93	(45)
Equity futures	1,047	1	(3)	(2)	3	(15)
Foreign exchange forward contracts	6,184	45	(59)	(14)	24	(43)
Inflation-linked bond swaps	126	-	(5)	(5)	4	(5)
Interest rate and bond futures	-	-	-	-	-	-
Total	16,231	259	(111)	148	124	(108)

¹ Determined using month-end values

b) Private equity investments

Private equity investments are generally made directly or through ownership in limited partnership arrangements, which have a typical term of 10 years. The private equity investments represent equity ownerships or investments with the risk/return characteristics of equity.

With respect to limited partnership arrangements, the CPP Investment Board advances capital to the limited partnerships, a portion of which, commonly referred to as management fees, is used by the general partners to select and provide ongoing management support to the underlying companies. Management fees generally vary between 1% and 2% of the total amount committed to the limited partnerships, and are included as part of the CPP Investment Board’s cost of the investments. During the year ended March 31, 2007, management fees of $131 million (2006 – $87 million) were paid to the limited partnerships and recorded as part of the cost of the investments. As discussed more fully in Note 2b, the carrying values of these investments are reviewed quarterly and any resulting adjustments are reflected as unrealized gains or losses in investment income (see Note 9).

c) Inflation-sensitive assets

i. The CPP Investment Board obtains exposure to real estate through investments in publicly-traded securities and privately held real estate.

Private real estate investments are held by a wholly-owned subsidiary and are managed on behalf of the CPP Investment Board by external advisors and managers through co-ownership arrangements. As at March 31, 2007, the subsidiary’s share of these investments includes assets of $5,441 million (2006 – $3,676 million) and $1,174 million of secured debt (2006 – $664 million), with a weighted average fixed interest rate of 6.2 per cent and terms to maturity of one to 20 years.

Included in the private real estate are investments in joint ventures. The CPP Investment Board’s proportionate interest in joint ventures at March 31 is summarized as follows:

Proportionate share of net assets (in millions of dollars)	2007	2006
Assets	4,790	3,312
Liabilities	(1,174)	(664)
	3,616	2,648
Proportionate share of net income (in millions of dollars)	2007	2006
Revenue	484	273
Expenses	(325)	(183)
	159	90

ii. The terms to maturity of the inflation-linked bonds as at March 31 are as follows:

	2007						2006
Terms to Maturity
(in millions of dollars)	Within 1 year	1 to 5 years	6 to 10 years	Over 10 years	Total	Average Effective Yield	Total	Average Effective Yield
Inflation-linked bonds	-	332	560	2,910	3,802	3.3%	3,837	4.8%

iii. Infrastructure investments are generally made directly, but can also occur through limited partnership arrangements that have a typical term of 10 years. Direct investments do not have management fees, while management fees for limited partnership infrastructure investments are treated similarly to private equity management fees as discussed in Note 3b). During the year ended March 31, 2007, management fees paid to the limited partnerships were $4.7 million (2006 – $5.4 million).

d) Bonds

Bonds consist of marketable and non-marketable bonds as follows:

	2007	2006
(in millions of dollars)
Marketable bonds
Government of Canada	2,200	-
Provincial	1,110	-
Government corporations	920	-
Total marketable bonds	4,230	-
Non-marketable bonds
Government of Canada	1,888	3,354
Provincial and territorial	22,363	23,098
Total non-marketable bonds	24,251	26,452
Total bonds	28,481	26,452

The following table provides information on disposals, re-investments, unrealized gains(losses) of non-marketable bonds held by the CPP for the CPP Investment Board and the CPP:

Non-marketable bonds (in millions of dollars)
	March, 31 2006 at cost	Disposals	Re- Investments	March, 31 2007 at cost	March, 31 2007 at fair value	March, 31 2006 at fair value
CPP Investment Fund’s share	8,355	600	-	563	614	9,164
CPP Investment Board’s share	*15,944	2,275	1,120	21,981	23,637	17,288
	24,299	2,875	1,120	22,544	24,251	26,452

* CPP transferred to CPP Investment Board bonds with a cost of $7,193 million during the year ending March 31, 2007 ($8,028 million – 2006).

The transfer to the CPP Investment Board of the CPP portfolio of non-marketable federal, provincial and territorial bonds began on May 1, 2004. Bonds of $8 billion based on fair market value at the time of transfer were transferred during the year ended March 31, 2007.

The non-marketable bonds issued by the provinces and territories and purchased by the CPP prior to 1998 contained a rollover provision which will permit these issuers, at their option, to roll over the bonds for a further 20-year term at a rate based on capital markets borrowing rates existing at the time of rollover. The non-marketable bonds are also redeemable at the option of the issuers for redemption amounts calculated in accordance with Section 110 of the Canada Pension Plan Act.

During the year, all disposals of bonds were made, at maturity date, at face value. The bonds are redeemable in whole or in part before maturity. The provinces and territories are permitted to redeem their bonds held by the CPP Investment Fund prior to their maturity at a value equivalent to market value. No bonds were redeemed by the provinces and the territories prior to maturity during the year ended March 31, 2007 (2006 – none).

Effective June 2005, the Agreement was amended to permit the CPP Investment Board to purchase replacement bonds directly from a province or territory upon the maturity of the non-marketable bonds issued by the provinces and territories prior to 1998, subject to the relevant province or territory having entered into an agreement with the CPP Investment Board. The maximum term of such securities is 30 years including rollover periods. The issuer may elect to have the CPP Investment Board purchase a replacement debt security or securities in a total principal amount not exceeding the principal amount of the maturing security for a term of not less than five years and not greater than 30 years. Such replacement bonds contain rollover provisions which will permit the issuer, at its option, to roll over the debt security for successive terms of not less than five years and subject in all cases to the maximum 30 years outside maturity date. The replacement bonds are also redeemable at the option of the provinces or territories prior to maturity. Agreements between the CPP Investment Board and the relevant provinces or territories were effective commencing July 1, 2005.

The following schedule presents the fair value of the bonds by maturity dates and the average annual rate of return on bonds currently held based on current effective yields for similar type bonds:

	2007		2006
	(in millions of dollars)
	Investments at fair value	Effective yield	Investments at fair value	Effective yield
Investments maturing
Within 1 year	2,125	4.87 %	2,837	4.71 %
1 – 5 years	9,396	4.95 %	11,965	5.02 %
Over 5 years	12,730	4.98 %	11,650	5.17 %
Total – Investments	24,251		26,452
Average effective yield on investments		4.96 %		5.05 %

e) Commissions

Commissions are paid to brokers on purchases and sales of publicly traded equities. Commissions on purchases are included as part of the cost of publicly-traded equities. Commissions on sales are deducted from realized gains and added to losses as a cost of disposition. During the year ended March 31, 2007, the CPP Investment Board paid total brokerage commissions of $39 million (2006 – $28 million).

f) Securities lending

The CPP Investment Board engages in securities lending to enhance portfolio returns. Credit risk associated with securities lending is mitigated by requiring the borrower to provide daily collateral in the form of readily marketable investments of greater market value than the securities loaned. As at March 31, 2007, the CPP Investment Board’s investments include securities loaned with an estimated fair value of $3,047 million (2006 – $1,847 million). The fair value of collateral received in respect of the securities loaned is $3,202 million (2006 – $1,942 million).

4. Investments held by the CPP Investment Fund

The Canada Pension Plan Investment Fund was established in the accounts of Canada by the CPP Act to record the Plan’s investments in bonds of the provinces, territories and Canada. The CPP Investment Fund’s bond portfolio is administered by the federal Department of Finance.

In accordance with the amended legislation and the related administrative agreement, the bonds held by the CPP Investment Fund are being transferred to the CPP Investment Board over a three year period. As at March 31, 2007, 35/36th of the Investment Fund has been transferred to the CPP Investment Board. The fair value of the bonds at the moment of the transfers total up to approximately $26 billion (2006 – 23/36th for approximately $18 billion). Once all the bonds are transferred to the CPP Investment Board in April 2007, the CPP Investment fund will cease to exist.

For further bond details see Note 3d).

5. Investment risk management

Investments may be exposed to a variety of financial risks: price risk (including currency risk, interest rate risk and market risk), credit risk and liquidity risk. The CPP Investment Board manages financial risks in accordance with the Canada Pension Plan Investment Board Act, regulations and the investment policies. In addition, derivatives are used, where applicable, to manage certain risk exposures (See Note 3a).

Currency Risk: The CPP is exposed to currency risk through holdings of investments in various currencies. Fluctuations in the relative value of foreign currencies against the Canadian dollar can result in a positive or negative effect on the fair value of investments. The net underlying currency exposures, after allocating foreign currency derivatives, as at March 31 are as follows:

(in millions of dollars)	2007		2006
Currency	Net Exposure	% of Total	Net Exposure	% of Total
Canadian Dollar	69,559	59	63,802	66
United States Dollar	23,502	20	18,771	19
Euro	8,744	7	5,900	6
Japanese Yen	5,299	5	3,370	3
British Pound Sterling	4,166	4	3,266	3
Swiss Franc	1,167	1	760	1
Australian Dollar	1,799	2	893	1
Other	2,378	2	1,211	1
	116,614	100	97,973	100

Interest Rate Risk: Interest rate risk refers to the effect on the fair value of investments due to fluctuations in market interest rates. The fair value of the CPP marketable, non-marketable and inflation-linked bonds and debt on private real estate properties is directly affected by changes in interest rates. At March 31, 2007, should nominal interest rates have increased/decreased by 1%, the fair value of the bonds would decrease/increase by 7% (2006 – 7%).

Market Risk: Market risk is the risk that the value of an investment will fluctuate as a result of changes in market prices, whether those changes are caused by factors specific to the individual investment or factors affecting all securities traded in the market. The CPP manages market risk by investing across a wide spectrum of asset classes and investment strategies to earn a diversified risk premium at the total fund, based on risk limits established in the investment policies.

Credit Risk: Credit risk refers to the risk of financial loss due to a counterparty failing to meet its contractual obligations. The CPP limits credit risk by dealing with counterparties that have a minimum credit rating of A or R-1 (short-term) as determined by a recognized credit rating agency, where available, or as determined through an internal credit rating process. Credit exposure to any single counterparty is limited to maximum amounts as specified in the investment policies.

Liquidity Risk: Liquidity risk is the risk of being unable to generate sufficient cash or its equivalent in a timely and cost-effective manner to meet commitments as they come due. The CPP is exposed to liquidity risk through its responsibility to pay benefits on a timely basis. The CPP mitigates liquidity risk through its unsecured credit facilities (see Note 6).

6. Credit facilities

The CPP Investment Board maintains $1.5 billion (2006 - $1.5 billion) of unsecured credit facilities to meet potential liquidity requirements. As at March 31, 2007, the total amount drawn on the credit facilities is $nil (2006 – $nil).

7. Receivables

	2007		2006
(in millions of dollars)
Receivables
Contributions		3,333	3,085
Régime des rentes du Québec		100	49
Beneficiaries
Balance of pensions and benefits overpayments		89	86
Allowance for doubtful accounts		(53)	(50)
Amounts receivable from pending trades		2,477	255
Other		-	14
		5,946	3,439

The Department has procedures to detect overpayments. During the year, overpayments totalling $29 million (2006 – $53 million) were established and remissions of debts totalling $4 million (2006 – $4 million) were granted. A further $22 million was recovered (2006 – $45 million).

8. Canada Pension Plan Account

The CPP Account was established in the accounts of Canada by the CPP Act to record the contributions, interest, pensions, benefits and operating expenses of the Plan. It also records the amounts transferred to or received from the CPP Investment Fund and the CPP Investment Board. As at March 31, 2007, the Deposit with the Receiver General for Canada is $54 million (2006 - $151 million) and CPPIB’s cash is $2 million (2006 - $4 million) for a total of $56 million (2006 - $155 million) in the consolidated statement of net assets and the consolidated statement of cash flow.

9. Net investment income

Investment income is reported net of external investment management fees. Investment management fees in respect of publicly-traded investments are expensed as incurred. These fees include an incentive portion that fluctuates with investment performance. Investment management fees for private real estate investments are deducted by the asset manager before the CPP Investment Board receives its share of net operating income from the properties (See Notes 3b and 3c).

Net investment income by asset class and after giving effect to derivative contracts and investment receivables and liabilities for the year ended March 31 is as follows:

	2007	2006
Equities1	(in millions of dollars)
Canada
Public equities	3,175	7,567
Private equities	77	(13)
	3,252	7,554
Foreign
Public markets	4,955	3,054
Private markets	1,837	585
Pooled funds	(1)	-
	6,791	3,639
Less : External investment management fees2	(10)	(30)
	10,033	11,163
Nominal Fixed Income3
Bonds	1,431	1,283
Money market securities	98	41
	1,529	1,324
Inflation-sensitive assets
Public real estate4	453	298
Private real estate5	855	183
Inflation-linked bonds	30	57
Infrastructure	150	(8)
	1,488	530
Less: External investment management fees2	(15)	(6)
	1,473	524
Interest on operating balance	9	21
Total net investment income6	13,044	13,032

¹ Includes unrealized losses of $922 million (2006 – unrealized gains of $3,715 million), realized gains of $9,333 million net of external investment management fees (2006 – realized gains of $6,449 million net of external investment management fees), dividends of $1,615 million (2006 – $993 million) and securities lending income of $7 million (2006 – $6 million).

² Investment management fees do not include capitalized management fees of $131 million (2006 – $87 million) for private equities and $4.7 million (2006- $5.4 million) for infrastructure.

³ Includes interest income of $1,988 million (2006 – $2,185 million), realized losses of $75 million (2006 – realized losses of $31 million) and unrealized losses of $375 million (2006 – unrealized losses of $809 million).

⁴ Includes unrealized gains of $133 million (2006 – unrealized gains of $260 million), realized gains of $269 million (2006 – realized losses of $0.3 million) and dividends of $51 million (2006 – $38 million).

⁵ Includes private markets real estate operating income of $230 million (2006 – $110 million), which is net of interest expense of $63 million (2006 – $42 million), unrealized gains of $622 million (2006 – unrealized gains of $73 million) and realized gains of $3 million (2006 - $nil).

⁶ Includes foreign exchange gains of $1,053 million (2006 – foreign exchange losses of $1,679 million).

10. Operating expenses

	2007	2006
(in millions of dollars)
General operating expenses	257	222
Salaries and benefits	304	232
Professional and consulting fees	13	8
Total Operating expenses	574	462

11. Net Assets and Changes in Net Assets for accountability purposes

The administration of the Canada Pension Plan’s assets and activities is shared between various government of Canada’s departments and the Canada Pension Plan Investment Board (CPPIB). The CPPIB is responsible for investing the majority of the Plan’s assets, while the Government of Canada, through various federal departments, manages the remainder of the assets, as well as the collection of the CPP contributions and the administration and payments of the CPP benefits. For accountability purposes, the following table presents summary information on the levels of assets and liabilities and sources of income and expenses managed by each the GoC and the CPPIB.

		2007			2006
	GoC	CPPIB	Total (in millions of dollars)	GoC	CPPIB	Total
Assets	4,152	119,959	124,111	12,750	90,048	102,798
Liabilities	256	4,024	4,280	161	1,516	1,677
Net assets	3,896	115,935	119,831	12,589	88,532	101,121
Income :
Contributions	32,355	-	32,355	30,117	-	30,117
Investment income	256	12,788	13,044	839	12,193	13,032
	32,611	12,788	45,399	30,956	12,193	43,149
Expenses :
Pensions and benefits	26,115	-	26,115	24,977	-	24,977
Operating expenses	460	114	574	408	54	462
	26,575	114	26,689	25,385	54	25,439
Increase in net assets	6,036	12,674	18,710	5,571	12,139	17,710

Pursuant to Section 108.1 of the CPPIB Act and the Agreement dated as of April 1, 2004, amounts not required to meet specified obligations of the CPP are transferred to the CPPIB. The funds originate from employer and employee contributions to the CPP, proceeds of maturing and redeemed government bonds held by the GoC on behalf of the CPP and interest income generated from this portfolio.

CPP transfers include an interest in the bond portfolio administered by the GoC for the CPP and a portion of the amount on deposit with the Receiver General. In September 2004, the CPPIB assumed responsibility for providing cash investment services to the CPP, including periodic return, on at least a monthly basis of funds required to meet expenses and benefits.

During the year ended March 31, 2007, a total of $33.5 billion was transferred to the CPPIB which include bonds of $8.0 billion based on fair market value at the time of transfer and cash of $25.5 billion. During the same year a total of $18.8 billion was returned to the CPP to meet its liquidity requirements.

Transaction total for the year
	2007	2006
(in millions of dollars)
Canada Pension Plan Investment Board
Accumulated transfers to CPPIB, beginning of year	91,795	57,296
Transfers of bonds titles and accrued interest	8,018	9,201
Transfers of funds to CPPIB	25,476	25,298
Accumulated transfers to CPPIB, end of year	125,289	91,795
Accumulated transfers from CPPIB, beginning of year	(23,355)	(6,669)
Transfers of funds from CPPIB	(18,765)	(16,686)
Accumulated transfers from CPPIB, end of year	(42,120)	(23,355)
Accumulated net transfers to CPPIB	83,169	68,440

12. Commitments

The CPP Investment Board has committed to enter into investment transactions, which will be funded over the next several years in accordance with the agreed terms and conditions. As at March 31, 2007, the remaining commitments total $13.4 billion (2006 – $8.3 billion).

As at March 31, 2007, the CPPIB has made lease commitments of $54.9 million (2006 – $26 million) over the next seven years.

13. Contingencies

a) Appeals relating to the payment of pensions and benefits

At March 31, 2007, there were 7,996 (8,226 in 2006) appeals relating to the payment of CPP pensions and benefits. These contingencies are estimated at an amount of $88 million ($79 million in 2006). Any award made in favour of beneficiaries will be accounted for as an expense of the period in which the amount becomes determinable.

b) Class action

A class action was filed against the CPP for discrimination against survivors whose same-sex common-law partners died on or after April 17, 1985 and before January 1, 1998.

On March 1, 2007, the Supreme Court of Canada rendered its decision and ruled that class members are entitled to receive CPP survivor’s pension. The arrears payment is limited to 11 months. It is expected that the parties will appear before the Ontario Superior Court of Justice to resolve outstanding administrative issues, including the interest rates to be applied.

An amount of $13.5 million was recognized in the CPP 2006-07 financial statements for the estimated obligation at March 31, 2007.

c) Other claims and legal proceedings

In the normal course of operations, the CPP is involved in various claims and legal proceedings other than the class action described in 13b). While the total amount claimed in these actions may be significant, their outcomes are not determinable. The CPP records an allowance for claims and legal proceedings when it is likely that there will be a future payment and a reasonable estimate of the loss can be made. No such allowance was recognized in the financial statements for the 2006-07 and 2005-06 fiscal years for these claims and legal proceedings.

d) Guarantees and indemnifications

The CPP Investment Board provides indemnifications to its officers, directors and, in certain circumstances, to various counterparties. The CPP Investment Board may be required to compensate these parties for costs incurred as a result of various contingencies such as changes in laws and regulations and litigation claims. The contingent nature of the indemnification agreements prevents the CPP Investment Board from making a reasonable estimate of the maximum potential payments the CPP Investment Board could be required to make. To date, the CPP Investment Board has not received any claims nor made any payments for such indemnifications.

14. Related party transactions

In addition to the information already disclosed in the other notes to the consolidated financial statements, the CPP has $3,333 million (2006 - $3,085 million) of contributions receivable from the Canada Revenue Agency.

The CPP enters into transactions with the Government of Canada in the normal course of business, which are recorded at the exchange value. The costs are based on estimated allocations of costs and are charged to the CPP in accordance with a memorandum of understanding.

Transaction total for the year
	2007	2006
(in millions of dollars)
Pension and benefit delivery, accommodation and corporate services
Social Development Canada	293	269
Human Resources and Skills Development Canada	17	21
	310	290
Collection of contributions
Canada Revenue Agency	135	101
Cheque issue and computer services
Public Works and Government Services Canada	14	16
Actuarial services
Office of the Superintendent of Financial Institutions	1	1
	460	408

 

15. Comparative figures

Certain comparative figures have been reclassified to conform to the current year’s presentation.

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Date Modified:

2011-11-15