2006Q4

OVERVIEW

In 2006, we reported cash flow from operations of $1.8 billion or $4.43 per share, a substantial increase over the $908 million recorded in 2005. This was due to increased contributions from most of our businesses. Net income was $1.2 billion and while less than in 2005, in absolute numbers, it was substantially higher on a comparable basis excluding the large gain realized on the sale of a non-core investment last year.

Higher cash flows from our operations and the continued low interest rate environment led to a significant rise in the underlying values of many of our operations. This was recognized by investors and led to the price of our shares increasing 44% over the year. Including dividends, the total return for the year was 46%, a performance which exceeded our returns over the long run.

Looking at 2006 on an overall basis, we achieved many of our key goals. We invested considerable time in evaluating the purchase of numerous assets, closed on a number of transactions and are currently pursuing several others which could add meaningfully to our assets under management. In most of the situations under evaluation, the landscape is highly competitive and there are many interested parties. Accordingly, while we focus on the opportunities where we believe that we have a strategic edge, we can never be certain of landing any of these transactions. However, given our operating platforms, deal-sourcing teams, reputation for closing transactions and capital availability, we believe that we will be able to complete our fair share of deals, allowing us to continue to expand our business.

We also advanced many operational initiatives during 2006. Most of them have been reported to you before in our quarterly letters and a summary by operating unit is included in the Financial Analysis section of our annual report.

From a capital-raising perspective, we created a further $5 billion of funding vehicles with equity from a number of new institutional and retail investors. The vehicles included a U.S. office fund, a North American real estate opportunity fund, a Brazilian retail fund, a transmission fund, a North American restructuring fund and another timberland fund.

GOALS AND STRATEGY

As stated many times before, our long-term goal is to achieve a compound 12% growth in cash flows from operations on a per share basis. This may not occur consistently each year, but we believe we can achieve this objective over the longer term by continuing to focus on four key operating strategies:

• Own, manage and build high-quality, long-life, cash-generating assets that require minimal sustaining capital and have some form of barrier to entry, a characteristic which favours the value appreciation of these assets over time. Today we are primarily focused on property, power, timber and transmission assets.

• Maximize the value of existing operations by actively managing our assets to create operating efficiencies, lower our cost of capital and enhance cash flows. Given that our assets generally require high initial capital investment, have relatively low variable costs and can be leveraged on a long-term, low-risk basis, even a small increase in top-line performance will result in a much higher percentage contribution to the bottom line.

• Base our investment decisions on disciplined return-on-capital metrics.

• Leverage our investment capabilities and operating track record to establish ourselves as a global asset manager of choice for investors seeking exposure to infrastructure type assets. We believe that the investment approach described above, combined with the alignment of interests created by investing alongside our clients gives us a competitive advantage with investors focused on long-term, risk-adjusted returns.

Looking to 2007, we have set four main priorities to achieve these goals.

The first is to organically grow our cash flows in our current businesses through incremental capital investments and by generating operating efficiencies. The second is to selectively add assets to these current operations when it makes financial sense, and after considering all the risks involved in taking on new assets. The third is to diversify our capital sources beyond our current partners and access broader capital to fund our operations. The fourth is to expand our business areas, both into similar product categories and on a more global basis.

The results of our recent focus on Brazilian, Chilean and European opportunities have been encouraging and we are currently evaluating several initiatives, not only in those regions but also in other parts of the world as we continue to broaden the scope of our operations. In particular, we are laying the foundations for operations in Australia, and also in Asia, a region where asset management is less developed but where the long-term growth trend is positive.

INVESTMENT APPROACH

Our general approach has been to acquire control positions in assets which we manage on our behalf and that of others. We often do this by acquiring 100% interests in assets directly from vendors. Other times we purchase these assets through the stock market by privatizing publicly-traded entities. Sometimes we are unsuccessful in acquiring the entities which we pursue and, when this occurs, we generally sell our accumulated stock positions for one-time gains or, unfortunately, occasional losses. In other situations these toehold positions, which are virtually always in entities in which we would otherwise be comfortable owning 100% of the assets, have led us into other more interesting transactions.

There are also times when we invest through the stock market in non-control positions, or positions where we are not eligible for accounting reasons to consolidate the results. We believe that such an investment strategy can be an effective way to deploy capital when entering new markets or product areas, provided they are in our areas of expertise and have high-quality, proven management teams. This enables us to reduce the risk level while we learn about a new market and seek alternative ways to build control positions in attractive assets in these markets. Two examples of this have been our investments in Canary Wharf in London, and our hotel services investment with Accor, S.A., in Brazil, which we recently sold. Both of these investments delivered the financial and secondary benefits which we sought from these non-control investments a number

of years ago, and both in many ways have also been highly beneficial to our overall franchise.

While we believe these non-consolidated investments can often be economically compelling, the challenge for us in investing in these positions is that many people look principally at price-earnings multiples when evaluating companies. This creates a financial reporting issue for us because these investments are non-control by definition, and hence can neither be consolidated, nor possibly, even equity accounted for in our results. Consequently, a large part of the annual returns from these types of investments is excluded from reported cash flows and profits of the company. In the future, we may have to redefine our cash flow from operations for you, and include the “look-through” cash flows to properly enable you to assess the underlying cash flows generated by these categories of assets. A similar reporting style has been successfully adopted by one of the all-time great investment companies, Berkshire Hathaway Inc., and should these investment positions become more meaningful on our balance sheet in the future, we will consider adding this type of information to our disclosure.

OPERATING PLATFORM

We attempt to differentiate ourselves as an asset manager in two ways. The first is quite simple. You, our shareholders, have endowed our company with substantial capital, allowing us to invest alongside our clients’ capital. Due to this alignment of interests, we seldom have disagreements with our partners on investment strategy, and this gives us a clear competitive advantage. The second differentiation has to do with the benefits derived from our operating platforms. We believe that the availability of full-scale operating groups within each of our chosen areas of operation has and will continue to produce superior returns on the capital invested compared with the alternative approaches to asset management.

Currently, this approach reduces our corporate returns, as we have not yet grown the asset management income stream to offset the fixed costs we have invested in our respective platforms. However, over the longer term, we think that this strategic differentiation offers us competitive advantages which will not only enable us to earn back the short-term costs we have been bearing, but also will allow our clients to earn higher returns by benefitting from this operating expertise. On that basis, our asset management franchise should be more valuable and ultimately trade at higher multiples. There is no question that this method of running our business somewhat complicates operations, but we believe that the long-term potential payoff far outweighs the costs.

INDUSTRY DYNAMICS

As stated in our third quarter report, our primary focus for growing our operations continues to be on infrastructure asset management, as opposed to general private equity, or other forms of alternative investments. This is in part because we have specialized in acquiring and operating these types of assets for decades. More importantly, it is our belief that infrastructure assets will be an important and growing investment class for many years based on the following four factors:

• Increased Demand – With the generally low interest rate environment, institutional and retail investors continue to seek investments which generate predictable current cash flows and increasing returns over time. In particular, institutions are seeking stable assets which, as a replacement to traditional fixed income securities, will generate an enhanced and, in many cases, increasing yield to match their long-duration liabilities. In this environment, we believe the demand for infrastructure as a general asset class will continue to grow and that our track record of focusing on long-term growth in cash flow and increasing value over time will make us an attractive asset manager for these institutions.

• Increased Supply – Both governments and corporations will continue to transfer the ownership of infrastructure to private investors. First, governments across the world are under intense pressure to keep up with new infrastructure investment. In our view, the privatization of infrastructure has only begun, and we believe that we are in a long-term trend which will see the transfer of the funding of new infrastructure and the ownership of current assets into private hands. Secondly, shareholders of corporations continue to encourage management to lower their cost of capital. We believe this will continue to lead corporations to separate their operating businesses from infrastructure assets. This started years ago with the separation of property assets from financial and retail companies, and has continued to occur with power plants being separated from industrial companies, timber assets

from forest product manufacturers, and port terminals from shipping companies. The list will only grow longer as operating businesses and governments reduce the amount of capital tied up in infrastructure assets in an attempt to drive efficient capital allocation models for their operations.

• Lower Overall Financing Cost – As a result of the quality of the income streams which are generated from infrastructure, the debt capital markets have matured in order to be able to very efficiently finance those assets. This evolutionary process started with pass-through mortgage certificates on credit-worthy tenants in real estate, moved into the creation of an efficient commercial mortgage-backed securities market for property, and is now being applied increasingly to hydroelectric power, timber, toll roads, pipelines and other infrastructure assets. While overall returns to the equity holder have generally stayed in the same range, more cost-efficient financings have increased values of infrastructure assets substantially. We believe the financial markets will continue to mature in this regard, both by asset class, and by geographic region, and as a result, asset values of many types of infrastructure will be positively affected.

• Good Margins on a Scalable Business – The property and infrastructure businesses, loosely defined, are by far the largest businesses in the world. In our view, the duration of the funds we are creating, the stability of the associated fee revenues and the potential for growth in the size of the business should permit us to produce attractive risk-weighted margins from this business that will, in turn, create excellent returns for our shareholders.

We believe these four broad trends are working in our favour and should allow us to continue to grow our business profitably. In addition, as was the case for the general private equity industry, we expect a few high-performing organizations will eventually become dominant in this segment of the asset management industry. Although we have in some ways a head start, and we think that our substantial capital resources and scalable operating platforms position us to be one of these thriving entities, we also recognize that much work is still required to ensure long-term success.

MARKET ENVIRONMENT

We recently observed comments from a highly renowned investor about the prognosis for the stock markets ahead. The paraphrased comments were “to forget the stock markets, and just keep doing what you’re doing.” While we agree wholeheartedly with these comments with respect to running our business, we find it difficult not to acknowledge that we have been, and continue to be, in “very good times”. Capital is abundant, interest rates are at the low end of recent historical averages, the economic environment in the developed world is solid, and many emerging market economies have growth rates which are advancing worldwide GDP at a rapid pace. This is in large part why there are few asset classes or areas of the world where assets can be purchased based on metrics which would historically be seen as value purchases.

Despite the many favourable factors previously mentioned and acknowledging that we see no immediate, meaningful negative issues on the horizon, odds are that, after the current protracted period of stock market growth, greater volatility will prevail. In our view, this should not affect our business model for the longer term and may even create opportunities in the shorter term.

SUMMARY

We remain committed to investing capital for you and our partners in high-quality, simple-to-understand assets which earn a solid cash-on-cash return on equity, while always emphasizing downside protection of the capital employed. The primary objective of the company continues to be generating increased cash flows, and as a result, higher intrinsic value on a per share basis over the longer term.

We will always strive to do better but we would be more than pleased if we could come close to maintaining the compound return for the past 20 years over the next two decades. However, on a cautionary note, it is important to remind ourselves that there may be occasional periods of time, maybe years, when the market value of any company, for various reasons not necessarily under the control of management, may not equate to the intrinsic value of the business.

Finally, we want to thank the many shareholders who provided us with investment ideas in 2006. Several of these have been successfully implemented and we are very appreciative of your suggestions. We hope you will keep thinking of us in 2007.

While I personally sign this letter, I respectfully do so on behalf of all of the members of the Brookfield team, who collectively generated the results for you. Please don’t hesitate to contact any of us, should you have suggestions, questions or comments.