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(AIR CANADA)





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PREFACE

On April 1, 2003, Air Canada obtained an order from the Ontario Superior Court
of Justice (the Court) providing creditor protection under the Companies
Creditors Arrangement Act (CCAA). The initial order was amended by the Court
on April 25, 2003 and may be further amended by the Court throughout the CCAA
proceedings based on motions from Air Canada, its creditors and other
interested parties. On April 1, 2003, Air Canada, through its Court-appointed
Monitor, also made a concurrent petition for recognition and ancillary relief
under Section 304 of the U.S. Bankruptcy Code. The CCAA and U.S. proceedings
cover Air Canada and the following of its wholly-owned subsidiaries: Jazz Air
Inc., ZIP Air Inc., 3838722 Canada Inc., Air Canada Capital Ltd., Manoir
International Finance Inc., Simco Leasing Ltd., and Wingco Leasing Inc.
(collectively, the Applicants). Aeroplan, Air Canada Vacations and Destina
are not included in the CCAA filing. These three subsidiaries continue dealings
with their creditors on a normal basis, unaffected by the CCAA and U.S.
proceedings.

The Court order and U.S. proceedings provide for a general stay period
that expires on June 30, 2003, subject to extension as the Court may deem
appropriate. This stay generally precludes parties from taking any action
against the Applicants for breach of contractual or other obligations. The
purpose of the stay period order is to provide the Applicants with relief
designed to stabilize operations and business relationships with customers,
vendors, employees and creditors. During the stay period, Air Canada is
developing its revised business plan and negotiating new arrangements with
creditors (including aircraft lessors) and labour unions with a view to having
those arrangements completed prior to proposing a final plan of arrangement.

The Applicants continue operations with the consent and assistance of the
Court-appointed Monitor and under the provisions of the Court orders. The
Applicants are undertaking an operational, commercial, financial and corporate
restructuring and will propose a plan of arrangement, which will be submitted
to the Court for confirmation after submission to any required vote to
creditors for approval. Under the plan of arrangement, claims against and
interests in the Applicants will be divided into classes according to their
seniority or similarity of interests and each class of creditors will vote on
the plan of arrangement as it pertains to that class. No rulings have yet been
made on the classification of affected creditors.

The CCAA filing triggered defaults on substantially all of the Applicants
debt and lease obligations. The stay period order stays most actions against
the Applicants, including employee group actions and most actions to collect
pre-filing indebtedness or to exercise control over the Applicants
property. The order also grants the Applicants with the authority to, among
other things, a) pay outstanding and future employee wages, salaries and
employee benefits and other employee obligations; b) honour obligations related
to airline tickets and Aeroplan redemptions; and c) honour obligations related
to the Applicants interline, clearing house, code sharing and other similar
agreements.

EXPLANATORY NOTES

2002 Accounting Standard Changes

Effective January 1, 2002, Air Canada adopted, with restatement of prior
periods, accounting standard amendments related to foreign exchange on
long-term monetary items as prescribed by the Canadian Institute of Chartered
Accountants standard #1650  Foreign Currency Translation (CICA 1650). For 2001,
the impact of CICA 1650 was a charge to deficit of $522 million to write off
December 31, 2001 deferred foreign exchange losses on long-term and perpetual
debt. As expected, the new accounting standard has increased the volatility of
earnings in periods of significant fluctuation in foreign currency exchange
rates relative to the Canadian dollar. Under the new standard, Air Canada
recorded, in current income for 2002, $60 million of foreign exchange losses on
long-term monetary assets and liabilities denominated in foreign currencies,
net of hedging. A loss of $20 million was recorded retroactively in 2001
following the CICA 1650 restatement. Prior to January 2002, under Canadian
Generally Accepted Accounting Principles (GAAP), foreign exchange gains or
losses on long-term monetary assets and liabilities were deferred and amortized
to income over the life of the corresponding asset or liability. The adoption
of this policy, including all other foreign exchange related adjustments,
increased net losses by $33 million in 2002 and $61 million in 2001.

Also effective January 1, 2002, Air Canada prospectively adopted
accounting standard amendments with respect to Goodwill and Other Intangibles
(CICA 3062) and Stock-Based Compensation and Other Stock-Based Payments (CICA
3870). Please refer to Note 2 to the Consolidated Financial Statements for a
further description of these changes.

Non-GAAP Earnings (Losses) or Adjusted Earnings (Losses)

Due to the significant events facing Air Canada in 2002 and in prior years, it
is particularly relevant to view the financial results on a more normalized
basis. Air Canada supplements reported GAAP results with an analysis of
earnings (losses) adjusted for non-recurring or other significant items
(referred to herein as adjusted earnings (losses) or non-GAAP earnings
(losses)) as described on page 16. Non-recurring or other significant items,
which are not reflective of the underlying financial performance of the
Corporation from ongoing operations, have been removed from reported earnings
(losses) for the purposes of adjusted or non-GAAP earnings (losses).

Adjusted earnings (losses) are not a recognized measure for financial
statement presentation under GAAP. Non-GAAP earnings measures (such as adjusted
earnings (losses) and operating income (loss) removing non-recurring labour
expenses) do not have any standardized meaning and are therefore not likely to
be comparable to similar measures presented by other public companies. Readers
should consider the adjusted earnings (losses) measures in the context of Air
Canadas GAAP results. Refer to pages 16 to 18  Adjusting 1998-2002
Results for Non-recurring or Other Significant Items for a reconciliation
between GAAP results and the adjusted earnings (losses).

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

1



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EBITDAR is a non-GAAP financial measure commonly used in the airline
industry to assess earnings before interest, taxes, depreciation and aircraft
rent. EBITDAR is calculated by taking operating income and adding back the line
items: Depreciation, amortization and obsolescence and Aircraft rent as
described below:

|                             |                                             |      |     |      |  |      |       |      |  |      |       |     |  |  |      |     |  |  |       |       | 
|---------------------------- | ------------------------------------------- | ---- | --- | ---- |  | ---- | ----- | ---- |  | ---- | ----- | --- |  |  | ---- | --- |  |  | ----- | ----- | 
|($ millions)                 |                                             | 1998 |     | 1999 |  | 2000 |       | 2001 |  | 2002
|                             |                                             |      |     |      |  |      |       |      |  |     
|GAAP operating income (loss) |                                             |      | 95  |      |  |      | 377   |      |  |      | 83    |     |  |  | (731 | )   |  |  | (218  | )    
|                             |                                             |      |     |      |  |      |       |      |  |      |       |     |  |  |      |     |  |  |       |      
|Add back:                    |                                             |      |     |      |  |      |       |      |  |      |       |     |  |  |      |     |  |  |       |      
|                             | Depreciation, amortization and obsolescence |      |     | 292  |  |      |       | 311  |  |      |       | 408 |  |  |      | 441 |  |  |       | 372   | 
|                             |                                             |      |     |      |  |      |       |      |  |      |       |     |  |  |      |     |  |  |       |      
|                             | Aircraft rent                               |      |     | 474  |  |      |       | 513  |  |      |       | 713 |  |  |      | 959 |  |  |       | 1,109 | 
|                             |                                             |      |     |      |  |      |       |      |  |      |       |     |  |  |      |     |  |  |       |      
|EBITDAR                      |                                             |      | 861 |      |  |      | 1,201 |      |  |      | 1,204 |     |  |  | 669  |     |  |  | 1,263 |      
|                             |                                             |      |     |      |  |      |       |      |  |      |       |     |  |  |      |     |  |  |       |      

2000 Financial Results  Canadian Airlines

Canadian Airlines financial results from operations are included in the Air
Canada accounts beginning with the third quarter of 2000, following its
acquisition by Air Canada effective June 30, 2000. The 2000 financial
statements, related charts and discussion incorporate Canadian Airlines results
only for the July to December 2000 period.

Comparative Figures

Certain comparative figures have been reclassified to conform with the
financial statement presentation adopted in the current year.

Mainline or Mainline-related Operations

The charts, discussion and analysis of results contain references to Mainline
or Mainline-related operations. These terms refer to the unconsolidated
operations of Air Canada (including Tango by Air Canada) and include, as the
context may require, the operations of Aeroplan Limited Partnership (Aeroplan);
ZIP Air Inc. (ZIP), a wholly-owned subsidiary airline; Destina.ca Inc.
(Destina), a wholly-owned web-based travel company; Air Canada Capital Ltd., a
wholly-owned subsidiary whose main business is the leasing of aircraft to Air
Canada and ZIP; and other related subsidiaries including Acetek Composites Inc.
Mainline or Mainline-related operations exclude the operations of Jazz Air Inc.
(Air Canada Jazz or Jazz), Air Canada s regional airline; Wingco Leasing
Inc. (Wingco), a wholly-owned subsidiary whose main business is the leasing of
regional aircraft to Air Canada Jazz and to third party airlines operating
under capacity purchase agreements; Touram Inc. (Air Canada Vacations); and
other non-airline subsidiaries.
     The
Corporation operates in one major business segment, air transportation
and related services. The Corporation manages the business, allocates resources
and assesses its performance based on the financial information of this one
segment.
     However,
Air Canada announced, on April 1, 2003, its intention to
undertake a corporate reorganization as part of its restructuring under CCAA.
As a result, it will create a new holding parent corporation, Air Canada
Enterprises, with separate business units for each of the activities in which
the Corporation is involved.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

2



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Air Canada Performance at a Glance

Operating Income and
MarginOperating income (loss) ($M)Operating margin (%)

(OPERATING INCOME AND MARGIN BAR CHART)



| |  | Operating loss of $218 million, a $513 million improvement
from 2001.                                                      
|- |  | ---------------------------------------------------------------------------------------------------------------------------
| 
| |  | Removing 2002 non-recurring labour expenses, adjusted
operating loss of $192 million, a $539 million improvement
from 2001.
| 
|* |  | Adjusted for non-recurring or
other significant items. See page 16.                                                        

EBITDAR
EBITDAR ($M) EBITDAR margin(%)

(EBITDAR BAR CHART)



| |  | EBITDAR increased $594 million to $1,263 million in 2002.                                       
|- |  | ------------------------------------------------------------------------------------------------
| 
| |  | EBITDAR margin rose 5.9 percentage points over 2001.                                            
| 
| |  | EBITDAR is net of non-recurring labour expenses of $26 million
in 2002 and $178 million in 2000.

EBITDAR is a non-GAAP earnings measure calculated as earnings (operating
income) before depreciation, amortization, obsolescence and aircraft rent.

Passenger Revenue Change

Passenger revenues$M

(PASSENGER REVENUE CHANGE BAR CHART)



| |  | In 2002, passenger revenues increased $67 million or 1 per
cent on a 1 per cent reduction in ASM capacity from 2001.
|- |  | --------------------------------------------------------------------------------------------------------------------
| 
| |  | North American passenger revenues
declined in 2002 while Other international revenues showed marked growth.         

More information on page 8.

Passenger Revenue Change (contd)

Passenger revenue change by service$M change 2002 vs 2001

(PASSENGER REVENUE CHANGE BAR CHART)

|  |  |                                                                                                           
|- |  | ----------------------------------------------------------------------------------------------------------
| |  | Canada Mainline passenger revenues up $108 million or 4 per cent in 2002.                                 
|  |  |                                                                                                           
| |  | Including Jazz regional operations, Canada consolidated passenger revenues down $47 million or 1 per cent.
|  |  |                                                                                                           
| |  | Consolidated US transborder revenues down $173 million or 8 per cent.                                     
|  |  |                                                                                                           
| |  | Other international revenues showed considerable growth over 2001, rising $287 million or 12 per cent.    

More information on page 8.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

3



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Air Canada Performance at a Glance (contd)

Passenger Revenue Performance

Passenger revenue per available seat
mile (RASM)% change 2002 vs 2001

(PASSENGER REVENUE PERFORMANCE BAR CHART)



| |  | RASM improved 2 per cent year-over-year mainly due to a
2.2 percentage point improvement in passenger load factor.              
|- |  | --------------------------------------------------------------------------------------------------------------------------------
| 
| |  | 2002 system traffic was up 2 per cent on a 1 per cent reduction in ASM capacity and passenger yield per RPM declined
1 per cent.

More information on page 8.

Operating Cost Performance

Changes in operating expense, ASM and
unit cost(1)Mainline-related operations, removing
non-recurring labourexpenses% change 2002 vs 2001

(OPERATING COST PERFORMANCE BAR CHART)



|   |  | For the full year 2002, Mainline unit costs were down
3 per cent.                                                                                                                              
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|   |  | Mainline ASM capacity was unchanged year-over-year. Aircraft
frequencies and flying hours were down 5 per cent due to
improved scheduling and increased economy seating on many
aircraft types.
|   
|   |  | Lower fuel prices, cost reduction initiatives and increased
seating contributed to the unit cost reduction.                                                                                    
|   
|(1) |  | Unit cost is calculated as operating expense (removing non-recurring
labour expenses of $26 million in 2002) divided by ASMs.                                                                  

More information on page 12.

Aircraft Fuel

Fuel price per
litre*Mainline-related operations

Cents

(AIRCRAFT FUEL BAR CHART)



| |  | Consolidated aircraft fuel expense was down $305 million or
19 per cent on a 1 per cent capacity reduction from 2001.                                                                 
|- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| 
| |  | Mainline-related fuel price per litre, net of hedging, declined
13 per cent, on average, during 2002 compared to 2001.                                                                
| 
| |  | In late 2002, fuel prices experienced a major increase and
significantly higher fuel prices were in effect for the first
quarter of 2003 compared to price levels experienced in 2002.
| 
|* |  | Net of fuel hedging                                                                                                                                                                   

More information on page 12.

Cash Flows from (used for)
Operations

Cash flows from (used for) operations

$M

(CASH FLOWS FROM (USED FOR) OPERATIONS BAR CHART)



| |  | Cash flows used for operations amounted to $95 million
in 2002, an improvement of $977 million from 2001.                                                           
|- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------
| 
| |  | 2001 cash flows used for operations included $472 million
of major one-time integration-related payments versus integration-related payments of $45 million in 2002.
| 
| |  | 2002 cash flows used for operations included a cash inflow
of $145 million for net recoveries of rebates on certain leased aircraft.                                

More information on page 14.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

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Management Discussion and Analysis of Results

OVERVIEW OF 2002

Despite continuing weakness in business travel markets, increased domestic
competition and the continuing adverse effect on air travel resulting from the
September 11, 2001 terrorist attacks, Air Canada demonstrated a significant
improvement in operating results in 2002 but this improvement was not
sufficient to deal with the structural problems in the network airline industry
in North America. For the second and third quarters of the year, the
Corporation reported operating and net profits, the only full service North
American air carrier to do so. The fourth quarter of the year was disappointing
with revenue declines in the domestic market, increased competition, continuing
threat of terrorism, uncertainty in the minds of the travelling public about a
potential war in Iraq, rising fuel prices and other expense pressures all
leading to a large operating loss.

For the year, Air Canada reported an operating loss of $218 million, an
improvement of $513 million from 2001. Removing non-recurring labour expenses
of $26 million recorded in 2002, the adjusted (a) (refer to pages 16 and 17)
operating loss of $192 million improved $539 million from 2001. Loss before
foreign exchange on long-term monetary items and income taxes amounted to $384
million, $581 million better than the prior year. With the $400 million
valuation allowance recorded in the fourth quarter of 2002 against the value of
the non-cash future income tax asset (2001  $453 million), net loss amounted
to $828 million or $6.89 per share, a $487 million improvement from the net
loss of $1,315 million or $10.95 per share in 2001.

For the year 2002, passenger revenues increased $67 million or 1 per cent
compared to 2001. International markets performed well, however, this was
largely offset by domestic revenue reductions at Air Canada Jazz and by a weak
US transborder market. With continuing weakness in the business travel market
and significantly more consumers looking for low fare air travel, Air Canada
expanded its Tango operations and, later in the year, introduced ZIP, its low
fare airline subsidiary. In 2002, Tango and ZIP comprised approximately 15 per
cent of Mainline ASM capacity. With the improved revenue performance of
Aeroplan, Air Canada Vacations and Technical Services, other revenues increased
$141 million or 15 per cent. Total revenues increased $215 million or 2 per
cent. Operating expenses declined $298 million or 3 per cent, including
non-recurring labour expenses of $26 million in 2002. Lower fuel prices were a
major contributor to the expense decline as well as cost reductions in numerous
areas including commissions, depreciation, aircraft maintenance materials and
food, beverages and supplies. Aircraft rent expense, employee benefits and
airport and navigation fees were the main areas of cost growth.

Non-operating expense amounted to $166 million compared to $234 million in
the prior year. Net interest expense decreased $54 million mainly as a result
of lower interest rates and the favourable effect of a swap transaction
completed in early 2002. In 2002, the Corporation recorded provisions on
aircraft and inventory values of $32 million (2001  provisions of $176
million, including aircraft lease provisions) and net losses from asset sales
of $10 million (2001  gains of $91 million). Income of $97 million was
recorded in other non-operating income in 2002. The other non-operating
income was mainly comprised of $118 million of gains from the purchase of Air
Canada debt, net of a $37 million charge due to the disallowance of a portion
of Air Canadas 2001 Government of Canada assistance claim for the closure
of Canadas airspace following the September 11, 2001 terrorist attacks. In
the prior year, Air Canada recorded, in other non-operating income, gains of
$52 million from the purchase of debt and $105 million of expected proceeds
from the above-mentioned Government of Canada assistance claim.

Since the third quarter 2001, future income tax benefits related to
Mainline results of operations have been reduced by a valuation allowance. In
addition to recording valuation allowances to reduce tax benefits, consistent
with the economic uncertainty in the airline industry as discussed in Note 1 to
the Consolidated Financial Statements, a $400 million valuation allowance was
recorded in the fourth quarter of 2002 (2001  $453 million) to reduce the
value of the previously recorded future income tax asset to zero.

As at December 31, 2002, the Corporation had $558 million of cash
and cash equivalents.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

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QUARTERLY RESULTS

The table below describes quarterly operating and net results for the year
2002, together with major operating statistics:

|                                                                                   |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |        | 
|---------------------------------------------------------------------------------- | ------------- | -- | ------ | ----- |  | -- | ------ | ----- |  | ---- | ------ | ------ |  | - | ------ | ----- |  | - | ------ | ------ | 
|                                                                                   |               |    | 2002  
|Quarterly
Financial Data  Consolidated                                            |               |   
|($ millions, except per share figures)                                             |               | Q1 |        | Q2    |  | Q3 |        | Q4    |  | Year
|                                                                                   |               |    |        |       |  |    |        |       |  |     
|Passenger revenues                                                                 |               |    | 1,857  |       |  |    | 2,164  |       |  |      | 2,336  |        |  |   | 1,833  |       |  |   | 8,190  |       
|Cargo revenues                                                                     |               |    | 130    |       |  |    | 141    |       |  |      | 154    |        |  |   | 160    |       |  |   | 585    |       
|Other revenues                                                                     |               |    | 299    |       |  |    | 247    |       |  |      | 255    |        |  |   | 250    |       |  |   | 1,051  |       
|                                                                                   |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Operating revenues                                                                 |               |    | 2,286  |       |  |    | 2,552  |       |  |      | 2,745  |        |  |   | 2,243  |       |  |   | 9,826  |       
|Operating expenses before non-recurring labour expenses                            |               |    | 2,446  |       |  |    | 2,490  |       |  |      | 2,577  |        |  |   | 2,505  |       |  |   | 10,018 |       
|                                                                                   |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Operating income (loss) before non-recurring labour expenses                       |               |    | (160   | )     |  |    | 62     |       |  |      | 168    |        |  |   | (262   | )     |  |   | (192   | )     
|Non-recurring labour expenses                                                      |               |    |       |       |  |    |       |       |  |      |       |        |  |   | 26     |       |  |   | 26     |       
|                                                                                   |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Operating income (loss)                                                            |               |    | (160   | )     |  |    | 62     |       |  |      | 168    |        |  |   | (288   | )     |  |   | (218   | )     
|Non-operating income (expense)                                                     |               |    | (86    | )     |  |    | (46    | )     |  |      | 37     |        |  |   | (71    | )     |  |   | (166   | )     
|                                                                                   |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Income (loss) before foreign exchange on long-term monetary
items and income taxes |               |    | (246   | )     |  |    | 16     |       |  |      | 205    |        |  |   | (359   | )     |  |   | (384   | )     
|Foreign exchange on long-term monetary items                                       |               |    | 21     |       |  |    | 19     |       |  |      | (86    | )      |  |   | (14    | )     |  |   | (60    | )     
|                                                                                   |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Income (loss) before income taxes                                                  |               |    | (225   | )     |  |    | 35     |       |  |      | 119    |        |  |   | (373   | )     |  |   | (444   | )     
|Recovery of (provision for) income taxes                                           |               |    | 6      |       |  |    | (5     | )     |  |      | 6      |        |  |   | 391    |       |  |   | 384    |       
|                                                                                   |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Net income (loss)                                                                  |               |    | (219   | )     |  |    | 30     |       |  |      | 125    |        |  |   | (764   | )     |  |   | (828   | )     
|                                                                                   |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Earnings/(loss)
per share - basic                                                  |               | $  | (1.83  | )     |  | $  | 0.25   |       |  | $    | 1.04   |        |  | $ | (6.35  | )     |  | $ | (6.89  | )     
|Earnings/(loss)
per share - diluted                                                |               | $  | (1.83  | )     |  | $  | 0.23   |       |  | $    | 0.91   |        |  | $ | (6.35  | )     |  | $ | (6.89  | )     
|Quarterly Operating Statistics  Consolidated Operations                           |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Revenue passenger miles (millions)                                                 |               |    | 10,213 |       |  |    | 11,511 |       |  |      | 13,282 |        |  |   | 9,701  |       |  |   | 44,707 |       
|Available seat miles (millions)                                                    |               |    | 13,636 |       |  |    | 15,358 |       |  |      | 17,311 |        |  |   | 13,864 |       |  |   | 60,169 |       
|Passenger load factor (%)                                                          |               |    | 74.9   |       |  |    | 75.0   |       |  |      | 76.7   |        |  |   | 70.0   |       |  |   | 74.3   |       
|Quarterly Operating Statistics  Mainline-related Operations                       |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Revenue passenger miles (millions)                                                 |               |    | 9,853  |       |  |    | 11,086 |       |  |      | 12,877 |        |  |   | 9,319  |       |  |   | 43,135 |       
|                                                                                   | Domestic      |    |        | 2,952 |  |    |        | 3,480 |  |      |        | 3,979  |  |   |        | 2,902 |  |   |        | 13,313 | 
|                                                                                   | International |    |        | 6,901 |  |    |        | 7,606 |  |      |        | 8,898  |  |   |        | 6,417 |  |   |        | 29,822 | 
|Available seat miles (millions)                                                    |               |    | 12,970 |       |  |    | 14,587 |       |  |      | 16,587 |        |  |   | 13,181 |       |  |   | 57,325 |       
|                                                                                   | Domestic      |    |        | 3,883 |  |    |        | 4,683 |  |      |        | 5,378  |  |   |        | 4,220 |  |   |        | 18,164 | 
|                                                                                   | International |    |        | 9,087 |  |    |        | 9,904 |  |      |        | 11,209 |  |   |        | 8,961 |  |   |        | 39,161 | 
|Passenger load factor (%)                                                          |               |    | 76.0   |       |  |    | 76.0   |       |  |      | 77.6   |        |  |   | 70.7   |       |  |   | 75.2   |       
|                                                                                   | Domestic      |    |        | 76.0  |  |    |        | 74.3  |  |      |        | 74.0   |  |   |        | 68.8  |  |   |        | 73.3   | 
|                                                                                   | International |    |        | 75.9  |  |    |        | 76.8  |  |      |        | 79.4   |  |   |        | 71.6  |  |   |        | 76.2   | 

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

6



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QUARTERLY RESULTS (contd)

The table below describes quarterly operating and net results for the year
2001, together with major operating statistics:

|                                                                                   |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |        | 
|---------------------------------------------------------------------------------- | ------------- | -- | ------ | ----- |  | -- | ------ | ----- |  | ---- | ------ | ------ |  | - | ------ | ----- |  | - | ------ | ------ | 
|                                                                                   |               |    | 2001  
|Quarterly
Financial Data  Consolidated                                            |               |   
|($ millions, except per share figures)                                             |               | Q1 |        | Q2    |  | Q3 |        | Q4    |  | Year
|                                                                                   |               |    |        |       |  |    |        |       |  |     
|Passenger revenues                                                                 |               |    | 1,968  |       |  |    | 2,215  |       |  |      | 2,208  |        |  |   | 1,732  |       |  |   | 8,123  |       
|Cargo revenues                                                                     |               |    | 150    |       |  |    | 139    |       |  |      | 136    |        |  |   | 153    |       |  |   | 578    |       
|Other revenues                                                                     |               |    | 226    |       |  |    | 210    |       |  |      | 242    |        |  |   | 232    |       |  |   | 910    |       
|                                                                                   |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Operating revenues                                                                 |               |    | 2,344  |       |  |    | 2,564  |       |  |      | 2,586  |        |  |   | 2,117  |       |  |   | 9,611  |       
|Operating expenses before non-recurring labour expenses                            |               |    | 2,637  |       |  |    | 2,636  |       |  |      | 2,644  |        |  |   | 2,425  |       |  |   | 10,342 |       
|                                                                                   |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Operating income (loss) before non-recurring labour expenses                       |               |    | (293   | )     |  |    | (72    | )     |  |      | (58    | )      |  |   | (308   | )     |  |   | (731   | )     
|Non-recurring labour expenses                                                      |               |    |       |       |  |    |       |       |  |      |       |        |  |   |       |       |  |   |       |       
|                                                                                   |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Operating income (loss)                                                            |               |    | (293   | )     |  |    | (72    | )     |  |      | (58    | )      |  |   | (308   | )     |  |   | (731   | )     
|Non-operating income (expense)                                                     |               |    | 14     |       |  |    | (71    | )     |  |      | (111   | )      |  |   | (66    | )     |  |   | (234   | )     
|                                                                                   |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Income (loss) before foreign exchange on long-term monetary
items and income taxes |               |    | (279   | )     |  |    | (143   | )     |  |      | (169   | )      |  |   | (374   | )     |  |   | (965   | )     
|Foreign exchange on long-term monetary items                                       |               |    | (15    | )     |  |    | 161    |       |  |      | (253   | )      |  |   | 87     |       |  |   | (20    | )     
|                                                                                   |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Income (loss) before income taxes                                                  |               |    | (294   | )     |  |    | 18     |       |  |      | (422   | )      |  |   | (287   | )     |  |   | (985   | )     
|Recovery of (provision for) income taxes                                           |               |    | 115    |       |  |    | 26     |       |  |      | (481   | )      |  |   | 10     |       |  |   | (330   | )     
|                                                                                   |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Net income (loss)                                                                  |               |    | (179   | )     |  |    | 44     |       |  |      | (903   | )      |  |   | (277   | )     |  |   | (1,315 | )     
|                                                                                   |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Earnings/(loss)
per share - basic                                                  |               | $  | (1.49  | )     |  | $  | 0.37   |       |  | $    | (7.51  | )      |  | $ | (2.31  | )     |  | $ | (10.95 | )     
|Earnings/(loss)
per share - diluted                                                |               | $  | (1.49  | )     |  | $  | 0.32   |       |  | $    | (7.51  | )      |  | $ | (2.31  | )     |  | $ | (10.95 | )     
|Quarterly Operating Statistics  Consolidated Operations                           |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Revenue passenger miles (millions)                                                 |               |    | 10,320 |       |  |    | 11,385 |       |  |      | 12,794 |        |  |   | 9,224  |       |  |   | 43,723 |       
|Available seat miles (millions)                                                    |               |    | 14,602 |       |  |    | 15,506 |       |  |      | 17,119 |        |  |   | 13,410 |       |  |   | 60,637 |       
|Passenger load factor (%)                                                          |               |    | 70.7   |       |  |    | 73.4   |       |  |      | 74.7   |        |  |   | 68.8   |       |  |   | 72.1   |       
|Quarterly Operating Statistics  Mainline-related Operations                       |               |    |        |       |  |    |        |       |  |      |        |        |  |   |        |       |  |   |        |       
|Revenue passenger miles (millions)                                                 |               |    | 9,765  |       |  |    | 10,808 |       |  |      | 12,274 |        |  |   | 8,804  |       |  |   | 41,651 |       
|                                                                                   | Domestic      |    |        | 2,930 |  |    |        | 3,492 |  |      |        | 3,895  |  |   |        | 2,950 |  |   |        | 13,267 | 
|                                                                                   | International |    |        | 6,835 |  |    |        | 7,316 |  |      |        | 8,379  |  |   |        | 5,854 |  |   |        | 28,384 | 
|Available seat miles (millions)                                                    |               |    | 13,691 |       |  |    | 14,571 |       |  |      | 16,185 |        |  |   | 12,657 |       |  |   | 57,104 |       
|                                                                                   | Domestic      |    |        | 4,050 |  |    |        | 4,617 |  |      |        | 5,228  |  |   |        | 4,023 |  |   |        | 17,918 | 
|                                                                                   | International |    |        | 9,641 |  |    |        | 9,954 |  |      |        | 10,957 |  |   |        | 8,634 |  |   |        | 39,186 | 
|Passenger load factor (%)                                                          |               |    | 71.3   |       |  |    | 74.2   |       |  |      | 75.8   |        |  |   | 69.6   |       |  |   | 72.9   |       
|                                                                                   | Domestic      |    |        | 72.3  |  |    |        | 75.6  |  |      |        | 74.5   |  |   |        | 73.3  |  |   |        | 74.0   | 
|                                                                                   | International |    |        | 70.9  |  |    |        | 73.5  |  |      |        | 76.5   |  |   |        | 67.8  |  |   |        | 72.4   | 

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

7



---



##### 



EARNINGS

Air Canada recorded a loss of $828 million in 2002. This represented an
improvement of $487 million from the $1,315 million loss recorded in 2001. In
2002 and 2001, the Corporation recorded valuation allowances of $400 million
and $453 million respectively against the value of its non-cash future income
tax asset. Since the third quarter of 2001, future income tax benefits related
to Mainline results of operations have been reduced by a valuation allowance.
As a result of this change, after tax losses from operations are not directly
comparable to prior years. Removing non-recurring or other significant items
described on pages 16 and 17, the adjusted loss for 2002 amounted to $438
million, an improvement of $476 million from the prior year.

Effective January 1, 2002, Air Canada adopted, with retroactive
restatement, accounting standard amendments related to foreign exchange as
prescribed by the Canadian Institute of Chartered Accountants
standard #1650 
Foreign Currency Translation (CICA 1650). For the year 2002, Air Canada
recorded, in current income, $60 million of foreign exchange losses, net of
hedging, on long-term monetary items compared to $20 million in 2001.

Income (loss)

$M



(INCOME (LOSS) BAR CHART)


*    Adjusted for non-recurring or
other significant items. See page 16.

OPERATING REVENUE GROWTH

Operating revenues increased $215 million or 2 per cent in 2002, as
described below.

|                         |  |      |       |      |  |         |       |      |  |      |       |   |  |  |       |   |  |  |       |  
|------------------------ |  | ---- | ----- | ---- |  | ------- | ----- | ---- |  | ---- | ----- | - |  |  | ----- | - |  |  | ----- | -
|($ millions)             |  | 1998 |       | 1999 |  | 2000(1) |       | 2001 |  | 2002
|                         |  |      |       |      |  |         |       |      |  |     
|Domestic
Routes          |  |      |       |      |  |         |       |      |  |      |       |   |  |  |       |   |  |  |       |  
|Passenger                |  |      | 2,294 |      |  |         | 2,510 |      |  |      | 3,508 |   |  |  | 3,582 |   |  |  | 3,535 |  
|Cargo                    |  |      | 104   |      |  |         | 109   |      |  |      | 146   |   |  |  | 161   |   |  |  | 153   |  
|                         |  |      |       |      |  |         |       |      |  |      |       |   |  |  |       |   |  |  |       |  
|Total                    |  |      | 2,398 |      |  |         | 2,619 |      |  |      | 3,654 |   |  |  | 3,743 |   |  |  | 3,688 |  
|                         |  |      |       |      |  |         |       |      |  |      |       |   |  |  |       |   |  |  |       |  
|International
Routes     |  |      |       |      |  |         |       |      |  |      |       |   |  |  |       |   |  |  |       |  
|Passenger                |  |      | 2,683 |      |  |         | 3,010 |      |  |      | 4,441 |   |  |  | 4,541 |   |  |  | 4,655 |  
|Cargo                    |  |      | 265   |      |  |         | 278   |      |  |      | 396   |   |  |  | 417   |   |  |  | 432   |  
|                         |  |      |       |      |  |         |       |      |  |      |       |   |  |  |       |   |  |  |       |  
|Total                    |  |      | 2,948 |      |  |         | 3,288 |      |  |      | 4,837 |   |  |  | 4,958 |   |  |  | 5,087 |  
|                         |  |      |       |      |  |         |       |      |  |      |       |   |  |  |       |   |  |  |       |  
|Other Revenue            |  |      | 552   |      |  |         | 536   |      |  |      | 805   |   |  |  | 910   |   |  |  | 1,051 |  
|                         |  |      |       |      |  |         |       |      |  |      |       |   |  |  |       |   |  |  |       |  
|Total
Operating
Revenues |  |      | 5,898 |      |  |         | 6,443 |      |  |      | 9,296 |   |  |  | 9,611 |   |  |  | 9,826 |  
|                         |  |      |       |      |  |         |       |      |  |      |       |   |  |  |       |   |  |  |       |  
|Growth                   |  |      | 7     | %    |  |         | 9     | %    |  |      | 44    | % |  |  | 3     | % |  |  | 2     | %



|(1) |  | Air Canadas operating
revenues include Canadian Airlines operating revenues commencing with the third quarter of 2000.
|--- |  | ------------------------------------------------------------------------------------------------------------------------

REVENUE PERFORMANCE

Passenger Revenues

In a difficult travel environment, passenger revenues increased $67 million or
1 per cent. Over the past two years, the global airline industry has been
affected by generally weaker economic conditions, reduced business travel,
changed business travel patterns, increased low fare competition, the events of
September 11 and, later in 2002, uncertainty relating to a potential war in
Iraq, all of which have had a continuing significant adverse effect on
high-yield and other traffic, particularly in the US transborder market. For
2002, the Corporations passenger traffic as measured by revenue passenger
miles (RPMs) increased 2 per cent on a 1 per cent decrease in available seat
mile (ASM) capacity resulting in a 2.2 percentage point improvement in load
factor. System passenger yield per RPM declined 1 per cent reflecting lower US
transborder yields and higher international yields. The improved load factor
was the main driver behind the 2 per cent increase to passenger revenue per ASM
(RASM) from 2001.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

8



---



##### 



Premium Class Revenues

References in this document to business travel relate to the purpose of the
trip and not necessarily to the class of service purchased. Business travel
represents a much larger segment of Air Canadas revenues than solely
premium class revenues.

Taking into account the factors referred to above, premium class passenger
revenues from Executive Class and Executive First declined $78 million or 5 per
cent in 2002. Premium traffic was down 9 per cent from 2001 levels reflecting
weakness in the high-yield business market. Beginning in 2001 and continuing in
2002, Air Canada changed the seating configuration on many aircraft types
resulting in increased economy seating and reduced business class seating. As a
result of this program and reduced overall flying, premium ASM capacity was
lowered by 9 per cent in relation to the reduced demand for these services.

Premium Class Revenues

$M

[PREMIUM CLASS REVENUES BAR CHART]

*   Including Executive Class and Executive First

Domestic Passenger Revenues

Domestic passenger revenues declined $47 million or 1 per cent reflecting lower
revenues at Air Canada Jazz. Mainline passenger revenues increased $108 million
or 4 per cent, while Jazz passenger revenues declined $155 million or 18 per
cent due to a major reduction in short-haul air travel demand and capacity,
especially in western Canada.

Revenue growth of 2 per cent was recorded on the transcontinental routes,
linking Toronto, Montreal and Ottawa with major western Canada cities including
Winnipeg, Calgary, Edmonton and Vancouver. These routes represented 46 per cent
of domestic passenger revenues. Revenues for commuter routes, including
Rapidair operations between Toronto and Montreal/Ottawa, were essentially
unchanged from 2001 and accounted for 23 per cent of domestic passenger
revenues. Revenues on regional routes, which include operations within eastern
and western Canada, declined 7 per cent reflecting mainly reductions in Jazz
western Canada revenues.

Air Canada introduced Tango in November 2001 in response to growing demand
for low fare, no frills service. Tango is a different product from the full
service operation, a separate brand that offers non-stop service between major
Canadian cities on separately branded aircraft with an all options are extra
in-flight service and 100 per cent E-ticketing. In September 2002, ZIP
commenced operations in western Canada as a low fare, no frills domestic
airline. In 2002, with the transfer of flying to these low fare operations,
Tango and ZIP generated $368 million in domestic
passenger revenues representing 13 per cent of domestic Mainline revenues (over
10 per cent of consolidated domestic passenger revenues). For the year, Tango
and ZIP comprised 15 per cent of domestic Mainline ASM capacity (13 per cent of
consolidated domestic capacity). These products demonstrated superior cost
performance relative to the full service airline product offered on comparable
domestic routes.

Domestic Passenger Revenues

$M

[DOMESTIC PASSENGER REVENUES BAR CHART]

(1)  Canadian Airlines does not include Canadian Regional Airlines
operations July-December 2000.

(2)  Jazz includes Canadian Regional Airlines operations commencing in July
2000.

Components of Domestic Revenue

Consolidated domestic passenger revenues declined 1 per cent on a 2 per cent
reduction in ASM capacity with domestic RASM unchanged from 2001. Domestic
traffic was down 3 per cent from 2001 due largely to reduced demand for
short-haul travel at Air Canada Jazz.

Mainline domestic passenger revenues were up 4 per cent, due to a 4 per
cent increase in passenger yield resulting from fare increases and fuel
surcharges, with ASM capacity up 1 per cent. As a result, domestic Mainline
RASM increased 3 per cent from 2001. Mainline passenger revenues were up on
Atlantic Canada routes, commuter routes, including Rapidair, and on
transcontinental routes, with a small decline in western Canada. Domestic
passenger revenues from Jazz regional operations declined $155 million or 18
per cent on a 20 per cent decline in ASM capacity. Jazz passenger traffic was
down 25 per cent mainly on short-haul routes in western Canada and, to a lesser
extent, in Atlantic Canada. This decline was the result of reduced demand,
capacity reductions, the security surcharge imposed by the government and the
perceived inconvenience related to the enhanced security measures.

Components of Consolidated Domestic
Revenue

% change 2002 vs 2001

[COMPONENTS OF CONSOLIDATED DOMESTIC REVENUE BAR CHART]

Air Canada  2002 Management
Discussion & Analysis of Results / 2002 Financial Statements & Notes

9



---



##### 



RASM

Passenger revenue per available seat mile (RASM) is a common industry measure
of passenger revenue performance providing a yardstick of revenue generation
per unit of capacity offered. RASM is the product of three key components:



| |  | Load factor                               
|- |  | ------------------------------------------
| 
| |  | Yield per RPM                             
| 
| |  | Number of seats available on each aircraft

The first component is load factor which represents passenger traffic
expressed in relation to the capacity offered (i.e. revenue passenger miles
(RPMs) to available seat miles (ASMs)). The second component is the yield per
revenue passenger mile (or average fare paid per occupied seat mile flown). If
an airline can improve its load factor on a particular flight (i.e. the number
of revenue passengers) or its yield per revenue passenger mile (i.e. the
average fare per mile paid by each passenger) then the passenger revenue per
available seat mile (RASM) will increase leading to greater operating
profitability on that flight. Depending on market conditions, airlines may
periodically have a greater focus on improving load factor or yield, however,
the interaction of both these factors will determine RASM. The higher the RASM,
the more revenue is generated by the airline for each available seat.

In periods of changing travel demand (e.g. reduced higher yielding
business travel and greater leisure travel), airlines can increase the total
number of seats available on an aircraft by reducing the size and number of
seats in the business class cabin and increasing the number of seats in the
economy cabin. The airline may offset the potential loss of business class
revenues with an increase in revenue from a greater number of leisure
passengers who typically pay a lower fare. Depending on the load factor
achieved and the relative yields per RPM, such aircraft reconfiguration actions
could reduce the RASM. However, because the unit cost per ASM has also been
reduced due to a greater number of seats on the aircraft, profit margins can be
maintained or improved on the aircraft.

Long-haul flights generally have a lower yield per RPM than short-haul
flights. When measured on a per mile basis, the average fare paid on long-haul
flights is relatively lower than on short-haul flights. Because the costs of
ground handling and fees for take-off and landing are similar for both short
and long-haul flights, unit costs per ASM are normally lower for long-haul
flights due to the distance flown.

International Passenger Revenues

Passenger revenues from international services, including US transborder
services, rose $114 million or 3 per cent due to the strong performance on
services other than US transborder.

International Passenger Revenues

$M

[INTERNATIONAL PASSENGER REVENUES BAR CHART]

Canada-US Transborder Passenger Revenues

US transborder passenger revenues declined $173 million or 8 per cent from
2001. The revenue decline was due to the continuing effect of the events of
September 11 on passenger traffic and an increased competitive environment. The
routes which recorded the largest reduction in revenues were in the short-haul
business markets. Consequently, during 2002, Air Canada shifted flying to
longer haul sun and leisure markets. US transborder passenger revenues
accounted for 24 per cent of total passenger revenues in 2002.

Canada-US Transborder Passenger
Revenues

$M

[CANADA-US TRANSBORDER PASSENGER REVENUES BAR CHART]

(1)  Jazz includes Canadian Regional Airlines operations commencing in July
2000.

(2)  Canadian Airlines does not include Canadian Regional Airlines operations
July-December 2000.

Components of Canada-US Transborder Revenue

US transborder passenger revenues were down 8 per cent on an ASM capacity
reduction of 3 per cent compared to 2001. US transborder traffic was down 2 per
cent overall with an 18 per cent increase on longer haul sun and leisure
markets offset by decreases on short-haul and other markets. Load factor was
essentially unchanged from 2001. Yield per RPM was down 6 per cent reflecting
increased fare discounting, reduced business travel particularly on short-haul
business routes and a greater proportion of longer haul flying which has a
lower yield per RPM. As a result, US transborder RASM declined 6 per cent in
2002.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

10



---



##### 



Components of Canada-Us Transborder Revenue
% charge 2002 vs 2001

[COMPONENTS OF CANADA-US TRANSBORDER REVENUE BAR CHART]

Other International Passenger Revenues

Passenger revenues from other international routes, comprised of Atlantic and
Pacific as well as South Pacific, Caribbean and other international routes,
experienced strong revenue growth. Passenger revenues on these routes increased
$287 million or 12 per cent due to both increased travel demand and higher
yields. These international routes accounted for 33 per cent of system
passenger revenues in 2002. Atlantic represented 19 per cent, Pacific
represented 4 per cent, and South Pacific, Caribbean, Mexico and South America
represented 10 per cent of total passenger revenues.

In 2002, Atlantic passenger revenues increased $158 million or 11 per cent
due to greater yield and traffic. Growth on the UK market was the major
contributor to increased Atlantic revenues. Pacific passenger revenues
increased by $79 million or 11 per cent due mainly to increased traffic. The
Japan route reflected the largest passenger revenue growth of the Pacific
service. South Pacific, Caribbean, Mexico and South America revenues increased
$50 million or 17 per cent over 2001, due mainly to new services to Mexico.

Other International Passenger Revenues
$M

[OTHER INTERNATIONAL PASSENGER REVENUES BAR CHART]Components of Other International Revenue

Passenger revenues from other international services increased 12 per cent in
2002 with traffic 8 per cent higher and ASM capacity up 1 per cent. RASM grew
by 11 per cent reflecting a 5.2 percentage point increase in load factor and a
4 per cent increase in passenger yield per RPM. In Atlantic markets, RASM rose
12 per cent with a 7 per cent increase to passenger yield per RPM and a 3.7
percentage point increase to load factor. In Pacific markets, RASM demonstrated
a similar trend, up 15 per cent with load factor up 9.6 percentage points and
yield per RPM up 1 per cent. Japan recorded the largest traffic growth of the
Pacific routes. For South Pacific, Caribbean, Mexico and South America routes,
traffic rose 20 per cent but yield per RPM declined 3 per cent reflecting lower
yields on South America routes.

Components of Other International
Revenue% charge 2002 vs 2001

[COMPONENTS OF OTHER INTERNATIONAL REVENUE BAR CHART]

Cargo Revenues

Cargo revenues rose $7 million or 1 per cent in 2002. International cargo
revenues recorded growth of $15 million or 4 per cent mainly from Pacific
markets due to a stronger demand out of Asia and higher cargo rates and
surcharges. Cargo revenues from domestic routes declined $8 million or 5 per
cent mainly due to a lower level of premium cargo traffic.

Cargo Revenues$M

[CARGO REVENUES BAR CHART]

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

11



---



##### 



Other Revenues

Other non-transportation revenues rose $141 million or 15 per cent. Excluding
intercompany revenues, Aeroplan revenues increased $79 million or 34 per cent.
This was mainly due to an increased rate per point on redemption, the
commencement of the amortization to income of the $190 million CIBC partner
contribution made in 1999 related to a contract extension and increased
purchases of Aeroplan points. Air Canada Technical Services revenues from
maintenance services to third parties grew $15 million or 7 per cent. Air
Canada Vacations revenues rose $34 million or 25 per cent primarily as a result
of growth in tour packages offered to sun destinations in 2002.

Other Revenues$M

[OTHER REVENUES BAR CHART]

OPERATING COST PERFORMANCE

Operating expense, including non-recurring labour expenses of $26 million,
declined $298 million from 2001. Adjusted operating expense, removing
non-recurring labour expenses, declined $324 million or 3 per cent on a 1 per
cent decrease in ASM capacity.

Mainline-related unit cost, as measured by operating expense per ASM, was
3 per cent below the 2001 level, removing non-recurring labour expenses.
Excluding fuel expenses and removing non-recurring labour expenses, adjusted
unit cost was unchanged from 2001. Operating expense per ASM, net of cargo and
other non-ASM producing revenues, was 5 per cent below 2001 levels for
Mainline-related operations, removing non-recurring labour expenses in 2002.

Unit Cost Removing Non-recurring
Labour Expenses

Mainline-related operations

Cents per ASM

[UNIT COST REMOVING NON-RECURRING LABOUR EXPENSES BAR CHART]

The following describes cost changes in 2002:

Salaries and wage expense was down $3 million on an ASM capacity reduction
of 1 per cent. For the year 2002, full-time equivalent (FTE) employees were
reduced by approximately 3,000 employees or 7 per cent compared to 2001.
Mainline-related FTE employees were also down 7 per cent with average salaries
up 5 per cent. The growth in average salaries included negotiated wage
increases, progression through scale, the impact of laying off more junior
employees and certain wage parity increases for employees who were previously
employed by Canadian Airlines.

2002 Consolidated Operating Expenses Removing Non-recurring Labour
Expenses

% of total

[2002 CONSOLIDATED OPERATING EXPENSES REMOVING NON-RECURRING LABOUR EXPENSES PIE CHART]

Employee benefits expense increased $80 million or 15 per cent. Pension
and employee future benefits rose $44 million over 2001 due mainly to higher
pension and increased health care costs. Other benefits increased $36 million
mainly due to a $23 million adjustment in 2002 relating to an updated actuarial
valuation of workers compensation liability.

Aircraft fuel expense declined $305 million or 19 per cent on an ASM
capacity reduction of 1 per cent and a 7 per cent reduction in flying hours.
Declines in the average base fuel price per litre, net of foreign exchange,
contributed to a $126 million or 8 per cent reduction in fuel expense from
2001. Fuel litres consumed declined 6 per cent on a consolidated basis due to
the 7 per cent reduction in flying hours. Fuel hedging results had a $77
million favourable year-over-year impact on 2002 fuel expense. Fuel cost per
available seat mile declined 19 per cent. Increasing seating on many aircraft
types and the use of larger aircraft contributed to the unit cost decline as
this allowed Air Canada to reduce aircraft frequencies and flying hours by an
amount much greater than the ASM capacity reduction.

Aircraft Fuel Expense

$M

[AIRCRAFT FUEL EXPENSE BAR CHART]

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

12



---



##### 



Depreciation, amortization and obsolescence expense decreased $69 million
or 16 per cent in 2002 due largely to the sale and leaseback of
previously-owned aircraft as well as the retirement of DC-9, Boeing 737 and
Fokker F28 aircraft. Reductions in depreciation due to sale and leaseback
transactions were offset by increases to aircraft rent.

Commission expense was reduced by $107 million or 22 per cent on passenger
and cargo revenue growth of 1 per cent. Commission as a per cent of passenger
and cargo revenues declined from 5.5 per cent in 2001 to 4.2 per cent in 2002.
This reflected initiatives to reduce distribution costs including the
elimination of base commissions for travel in North America in the spring of
2002 (with the exception of Tango and ZIP flights) and increased direct
passenger sales via the internet.

Food, beverages and supplies expense declined by $40 million or 9 per cent
on a 2 per cent increase to passenger traffic as measured by RPMs. Revised meal
specifications starting early in 2002, cost reduction initiatives and increased
no frills Tango and ZIP operations were the main factors contributing to the
decrease.

Aircraft maintenance, materials and supplies expense declined $61 million
or 11 per cent. Approximately one half of the reduction was due to the removal
of older aircraft from the Mainline and Jazz operating fleets. Aircraft
material costs also decreased mainly for Airbus A320, Boeing 767, de Havilland
DHC-8 and Canadair Regional Jet aircraft partially offset by expense increases
for Airbus A340, A330 and A319 aircraft. In the prior year, Air Canada recorded
a $21 million charge relating to return provisions for short-term leased
aircraft compared to $14 million in 2002.

Airport and navigation fees increased $34 million or 5 per cent on a 9 per
cent reduction to consolidated aircraft frequencies. The average Mainline
landing fee and general airport terminal fee per aircraft landing rose 8 per
cent during the year with a 13 per cent increase experienced in the fourth
quarter of 2002. Airport user fees reflected increases at most airports but
primarily at Torontos Pearson International Airport, Air Canadas main
hub. Fees for air navigation services also increased in 2002.

Aircraft rent rose $150 million or 16 per cent. New aircraft deliveries of
Airbus A319, A320, A321, Boeing 767-300 and Airbus A330 aircraft as well as
Canadair Regional Jet aircraft accounted for $98 million of the increase, net
of retirements. During the year, aircraft rent rose by $67 million due to sale
and leaseback transactions completed on existing fleet in 2001 and 2002 to
increase liquidity. These increases were partly offset by a $15 million decline
in aircraft rent largely as a result of aircraft retirement provisions taken in
2001.

The other operating expense category decreased $3 million. Jazz expenses
were down $31 million, net of consolidation adjustments, as a result of reduced
activity and cost reduction initiatives. Air Canada Mainline recorded expense
increases in several categories including a $63 million increase to insurance
costs and other increases recorded in airline settlements, credit card fees,
advertising and other expense categories. These increases were mostly offset by
expense reductions to building rent, communications expense and to a number of
other areas. Other expenses for Air Canada Vacations and other subsidiaries
increased $20 million, net of consolidation adjustments, due primarily to a
major expansion in tour operations by Air Canada Vacations.

NON-OPERATING EXPENSE

Non-operating expense was $166 million, $68 million below 2001. Net interest
expense decreased $54 million, mainly as a result of lower interest rates and
the favourable effect of a swap transaction completed in early 2002. Losses
from sale of assets amounted to $42 million in 2002 compared to losses of $85
million in 2001. In 2002, the Corporation recorded $32 million of expense
provisions on non-operating aircraft and inventory values and losses on sale of
assets of $10 million. In 2001, $176 million of aircraft and inventory
write-downs for retired aircraft were recorded as well as gains on sale of
assets of $91 million. Other non-operating income amounted to $97 million
compared to $126 million in 2001. The 2002 other non-operating income related
mainly to $118 million of gains from the purchase of debt, partially offset by
a $37 million charge due to the disallowance by the Government of Canada of a
portion of Air Canadas September 11 assistance claim. The 2001 other
non-operating income included $105 million related to expected proceeds from
the Government of Canada program to compensate Canadian air carriers for the
losses incurred in the September 11 to 16 period due to the closure of Canadas airspace following the terrorist attacks on the United States. Gains of $52
million were also recorded in 2001 other non-operating income from the
purchase of Air Canadas perpetual and other debt.

TAX

Since the third quarter 2001, future income tax benefits related to Mainline
results of operations have been reduced by a valuation allowance. As a result
of this change, after tax losses from operations are not directly comparable to
prior years. In addition to recording valuation allowances to reduce tax
benefits, valuation allowances were also recorded in 2002 and 2001 on
previously recorded future income tax assets in the amounts of $400 million and
$453 million respectively. These charges were non-cash and had no impact on Air
Canadas cash position. Please refer to Note 14 to the Consolidated
Financial Statements for more information. In 2002, Air Canadas
subsidiaries continued to tax affect results of operations where appropriate.

The table below describes pre-tax loss, tax recoveries, the tax valuation
allowance and net loss for the past two years.

|                                      |  |      |      |      |  |  |        |  
|------------------------------------- |  | ---- | ---- | ---- |  |  | ------ | -
|($ millions)                          |  | 2002 |      | 2001
|                                      |  |      |      |     
|Pre-tax loss                          |  |      | (444 | )    |  |  | (985   | )
|Tax recovery                          |  |      | 69   |      |  |  | 240    |  
|Valuation allowance  recovery offset |  |      | (53  | )    |  |  | (117   | )
|Valuation allowance  asset write-off |  |      | (400 | )    |  |  | (453   | )
|                                      |  |      |      |      |  |  |        |  
|Net loss                              |  |      | (828 | )    |  |  | (1,315 | )
|                                      |  |      |      |      |  |  |        |  

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

13



---



##### 



FINANCIAL MANAGEMENT

Cash Flows from (used for) Operations

2002 cash flows used for operations amounted to $95 million compared to cash
flows used for operations of $1,072 million in 2001. Several factors
contributed to the $977 million improvement in cash flows used for operations
in 2002. These included a major improvement in operating results, a $427
million reduction in Canadian Airlines integration-related payments, a $170
million reduction in cash used for aircraft lease payments in excess of rent
expense and a cash inflow of $145 million in 2002 from net recoveries of
rebates on certain leased aircraft.

Integration-related payments in 2002 amounted to $45 million for employee
separation plans and cash payments for intermingling of employee groups. In
2001, major one-time integration-related payments of $472 million included:
voluntary or involuntary separation payments to employees, cash payments to
employees for intermingling of employee groups, payments to AMR Corporation for
the operation of duplicate information technology systems during the transition
period and termination of information technology agreements, as well as other
payments including payments to Canadian Airlines suppliers for services largely
provided in 2000. Aircraft lease payments in excess of rent expense were $253
million in 2002 compared to $423 million in 2001. Aircraft lease payments in
excess of rent expense represent primarily the difference between actual cash
lease payments, either at the inception or during the term of a lease, and
amounts recorded for aircraft rent expense which are expensed on a straight
line basis over the term of the lease. The decrease was due primarily to lower
up front cash rental payments at the time of financing new aircraft deliveries
as well as the timing of cash lease payments for other aircraft types and
aircraft engines. In 2002, Air Canada completed a transaction which resulted in
a cash inflow of $145 million for net recoveries of rebates under 16 aircraft
operating leases.

Cash Flows from (used for) Operations

$M

[CASH FLOWS FROM (USED FOR) OPERATIONS BAR CHART]

In 2002, reduction of long-term debt amounted to $672 million and
included a $173 million repayment of Swiss franc bonds and $120 million for a
revolving credit facility as well as $248 million of other mandatory debt
repayments. Included in reduction of long-term debt were optional debt
repayments amounting to $131 million, including $50 million for the purchase
of Japanese yen subordinated perpetual debt.

During 2002, the Corporation sold and leased back assets for net proceeds
of $284 million. Sale and leaseback transactions were completed on 11 aircraft
engines, 12 de Havilland DHC-8 aircraft, one Airbus A320 aircraft, two Canadair
Regional Jet aircraft, as well as a cargo facility in Toronto. Long-term
borrowings amounted to $78 million relating to the financing of seven aircraft
simulators. Sale of investments and other assets provided cash proceeds of $17
million.

2002 Capital Expenditures

$M

[2002 CAPITAL EXPENDITURES BAR CHART]

(1)  Net of recovered progress payments of $100 million.

Additions to property and equipment totaled $109 million in 2002. Aircraft
and aircraft-related expenditures amounted to $31 million, net of progress
payment recoveries on aircraft amounting to $100 million. These recoveries
represented cash proceeds from the recovery of progress payments made in prior
years, upon completion of lease financing of new aircraft on delivery.
Excluding recovered progress payments, aircraft and aircraft-related capital
spending was $131 million and covered progress payments on Airbus aircraft
including capitalized interest as well as aircraft-related spending of $81
million for inventory and spare engines, seat reconfigurations and aircraft
betterments. Expenditures for ground and computer equipment, aircraft
simulators and computer systems development amounted to $55 million. Facilities
expenditures were $16 million and included the development of new facilities at
Torontos Pearson International Airport. Subsidiary capital expenditures
amounted to $7 million.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

14



---



##### 



2002 Changes in Cash Position

$M

[2002 CHANGES IN CASH POSITION BAR CHART]

(1)   Net of recovered progress payments
of $100 million.

LIQUIDITY

As at December 31, 2002, the Corporation had cash and cash equivalents of $558
million and committed financing of $46 million for the sale and leaseback of
certain cargo equipment. Air Canada also had a $300 million committed and
unsecured revolving credit facility with a group of financial institutions
which was fully drawn. As at December 31, 2002, Air Canada had additional
commitments from financial institutions to provide financing of $940 million
for aircraft deliveries in the 2003 to 2004 period. As a result of the CCAA
filing, the committed financing and aircraft facilities are no longer available
and the liquidity of Air Canada will be determined by the outcome of the
restructuring process under CCAA.

Debt Obligations

As at December 31, 2002, Air Canada had long-term debt and capital lease
obligations of $4.7 billion, including current portion, with a cash and cash
equivalents balance of $558 million. This compared to long-term debt and
capital lease obligations of $5.1 billion as at December 31, 2001, including
current portion, with a cash and cash equivalents balance of $1.1 billion. Net
of cash, the long-term debt position was essentially unchanged from 2001 to
2002.

Lease Obligations

In addition to long-term debt described above, as at December 31, 2002, Air
Canada had the obligation to make lease payments under operating leases
relating to aircraft and other property. As disclosed in Note 15 to the
Consolidated Financial Statements, the future minimum lease payments under
these operating leases amounted to $7.7 billion, of which $7.1 billion related
to operating leases of aircraft. These aircraft lease contracts are
appropriately accounted for as operating leases in accordance with Generally
Accepted Accounting Principles in Canada. The amount of lease payments made
under these operating leases is an operating expense for Air Canada. The
financing of assets under operating leases is consistent with the commercial
practice of airlines within the industry.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

15



---



##### 



SHAREHOLDERS EQUITY AND DEFICIT

Over the period from 1998 to December 31, 2002, shareholders equity declined
significantly. At December 31, 2002, shareholders equity equaled a deficiency
of $2,288 million including a deficit of $3,280 million. In 1998, shareholders
equity amounted to $1,457 million, as originally published, with retained
earnings of $152 million. The 2002 and 2001 net losses were responsible for
$828 million and $1,315 million respectively of the decline, however, a number
of events and accounting standard amendments contributed to the reduction to
shareholders equity.

Of the $3.7 billion deterioration to shareholders equity from the 1998
originally published amount, approximately $2.8 billion was attributable to the
items described in the following table.

|                                      |                                         |            |        |                |   |                                  |              |  | 
|------------------------------------- | --------------------------------------- | ---------- | ------ | -------------- | - | -------------------------------- | ------------ |  | 
|Event/ Accounting                     |                                         |            |        |                |   |                                  |              | 
|Standard Amendments                   |                                         | $ Millions |        | Date of Change
|                                      |                                         |            |        |               
|Share buyback program                 |                                         |            | (1,100 | )(1)           |   | December 1999                   
|Accounting standard changes:          |                                         |            |        |                |   |                                  |              | 
|                                      | Employee future
benefits CICA #3461     |            |        | (218           | ) |                                  | January 2000
|                                      | Future income taxes CICA
#3465          |            |        | 36             |   |                                  | January 2000
|                                      | Loyalty programs SAB #101               |            |        | (147           | ) |                                  | January 2000
|                                      | Foreign currency translation
CICA #1650 |            |        | (522           | ) |                                  | January 2002
|Future income tax valuation allowance |                                         |            | (853   | )(2)           |   | September 2001 and December 2002
|                                      |                                         |            |        |                |   |                                  |              | 
|Total                                 |                                         |            | (2,804 | )              |   |                                  |              | 
|                                      |                                         |            |        |                |   |                                  |              | 



|(1) |  | $470 million charged to share capital and $630 million charged to
deficit. The share buyback program was in part funded by partner contributions and other
funding arrangements of $705 million in 1999.
|--- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|(2) |  | Tax valuation allowance of $400 million included in 2002 net loss
of $828 million and $453 million included in 2001 net loss of $1,315
million.                                                         

ADJUSTING 1998-2002 RESULTS FOR
NON-RECURRING OR OTHER SIGNIFICANT ITEMS (a)

The following tables adjust 1998 through 2002 results for major non-recurring
or other significant items described herein. On an adjusted basis, the 2002
loss before foreign exchange on long-term monetary items and income taxes was
$397 million and adjusted net loss was $438 million, compared to adjusted
losses of $1,037 million and $914 million respectively in 2001.



| | (a) |  | Due to the significant events facing Air Canada in 2002 and in the
prior years, it is particularly relevant to view the financial results on
a more normalized basis. Air Canada supplements reported GAAP results
with an analysis of earnings (losses) adjusted for non-recurring or other
significant items (referred to herein as adjusted earnings (losses) or
non-GAAP earnings (losses)) as described on pages 17 and 18.
Non-recurring or other significant items, which are not reflective of the
underlying financial performance of the Corporation from ongoing
operations, have been removed from reported earnings (losses).
| | --- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |     |  | Adjusted earnings (losses) are not a recognized measure for financial statement
presentation under GAAP. Non-GAAP earnings measures (such as adjusted earnings
(losses) and operating income (loss) removing non-recurring labour expenses) do
not have any standardized meaning and are therefore not likely to be comparable
to similar measures presented by other public companies. Readers should
consider the adjusted earnings (losses) measures in the context of Air Canadas
GAAP results, as described in the following reconciliation.                                                                                        

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial Statements & Notes

16



---



##### 



ADJUSTING 1998-2002 RESULTS FOR
NON-RECURRING OR OTHER SIGNIFICANT
ITEMS(contd)

|                                                                                   |  |         |        |                   |  |                   |     |          |  |  |      |      |  |  |        |  
|---------------------------------------------------------------------------------- |  | ------- | ------ | ----------------- |  | ----------------- | --- | -------- |  |  | ---- | ---- |  |  | ------ | -
|                                                                                   |  |         |        |                   |  | Provisions        |     |          |  |  |      |      |  | 
|                                                                                   |  |         |        |                   |  | on Aircraft and   |     |          |  |  |      |      |  | 
|                                                                                   |  |         |        |                   |  | Inventory Values, |     |          |  |  |      |      |  | 
|                                                                                   |  |         |        |                   |  | Non-recurring     |     | Gains    |  |  |      |     
|                                                                                   |  | Actual  |        | Labour Expenses   |  | and Other         |     | Adjusted
|($ millions)                                                                       |  | GAAP    |        | and Tax Valuation |  | One-time          |     | Non-GAAP
|unaudited, except for actual results                                               |  | Results |        | Allowance         |  | Items             |     | Results 
|                                                                                   |  |         |        |                   |  |                   |     |         
|2002                                                                               |  |         |        |                   |  |                   |     |          |  |  |      |      |  |  |        |  
|Operating revenues                                                                 |  |         | 9,826  |                   |  |                   |    |          |  |  |     |      |  |  | 9,826  |  
|Operating expenses                                                                 |  |         | 10,018 |                   |  |                   |    |          |  |  |     |      |  |  | 10,018 |  
|                                                                                   |  |         |        |                   |  |                   |     |          |  |  |      |      |  |  |        |  
|Operating loss before the undernoted item                                          |  |         | (192   | )                 |  |                   |    |          |  |  |     |      |  |  | (192   | )
|Non-recurring labour expenses                                                      |  |         | 26     |                   |  |                   | (26 | )        |  |  |     |      |  |  |       |  
|                                                                                   |  |         |        |                   |  |                   |     |          |  |  |      |      |  |  |        |  
|Operating income (loss)                                                            |  |         | (218   | )                 |  |                   | 26  |          |  |  |     |      |  |  | (192   | )
|Non-operating income (expense)                                                     |  |         | (166   | )                 |  |                   | 32  |          |  |  | (71  | )(1) |  |  | (205   | )
|                                                                                   |  |         |        |                   |  |                   |     |          |  |  |      |      |  |  |        |  
|Income (loss) before foreign exchange on
long-term monetary items and income taxes |  |         | (384   | )                 |  |                   | 58  |          |  |  | (71  | )    |  |  | (397   | )
|Foreign exchange on long-term monetary items                                       |  |         | (60    | )                 |  |                   |    |          |  |  |     |      |  |  | (60    | )
|Recovery of income taxes                                                           |  |         | 16     |                   |  |                   | 3   |          |  |  |     |      |  |  | 19     |  
|Tax valuation allowance                                                            |  |         | (400   | )                 |  |                   | 400 |          |  |  |     |      |  |  |       |  
|                                                                                   |  |         |        |                   |  |                   |     |          |  |  |      |      |  |  |        |  
|Income (loss) for the year                                                         |  |         | (828   | )                 |  |                   | 461 |          |  |  | (71  | )    |  |  | (438   | )
|                                                                                   |  |         |        |                   |  |                   |     |          |  |  |      |      |  |  |        |  
|2001(2)                                                                            |  |         |        |                   |  |                   |     |          |  |  |      |      |  |  |        |  
|Operating revenues                                                                 |  |         | 9,611  |                   |  |                   |    |          |  |  |     |      |  |  | 9,611  |  
|Operating expenses                                                                 |  |         | 10,342 |                   |  |                   |    |          |  |  |     |      |  |  | 10,342 |  
|                                                                                   |  |         |        |                   |  |                   |     |          |  |  |      |      |  |  |        |  
|Operating loss                                                                     |  |         | (731   | )                 |  |                   |    |          |  |  |     |      |  |  | (731   | )
|Non-operating income (expense)                                                     |  |         | (234   | )                 |  |                   | 176 |          |  |  | (248 | )(3) |  |  | (306   | )
|                                                                                   |  |         |        |                   |  |                   |     |          |  |  |      |      |  |  |        |  
|Income (loss) before foreign exchange on
long-term monetary items and income taxes |  |         | (965   | )                 |  |                   | 176 |          |  |  | (248 | )    |  |  | (1,037 | )
|Foreign exchange on long-term monetary items                                       |  |         | (20    | )                 |  |                   |    |          |  |  |     |      |  |  | (20    | )
|Recovery of (provision for) income taxes                                           |  |         | 123    |                   |  |                   | (13 | )        |  |  | 33   |      |  |  | 143    |  
|Tax valuation allowance                                                            |  |         | (453   | )                 |  |                   | 453 |          |  |  |     |      |  |  |       |  
|                                                                                   |  |         |        |                   |  |                   |     |          |  |  |      |      |  |  |        |  
|Income (loss) for the year                                                         |  |         | (1,315 | )                 |  |                   | 616 |          |  |  | (215 | )    |  |  | (914   | )
|                                                                                   |  |         |        |                   |  |                   |     |          |  |  |      |      |  |  |        |  



|(1) |  | 2002 loss on asset sales $10 million ($10 million after tax);
charge for September 11 government assistance claim $37 million;
and 2002 gains on purchase of debt $118 million;
for a total net gain of $71 million ($71 million after tax).                                                                                                                                                                                                                                 
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|(2) |  | In 2001, Air Canada estimated and previously presented that $163
million of operating income was lost in the September 11 to 30, 2001
period as a result of the September 11 terrorist
attacks and subsequent events. This estimate has not been included in the
tables above as it is not possible to accurately estimate the continuing
impact of the September 2001 events on
2002 results and therefore it is not possible to provide a proper
year-over-year comparison.
|   
|(3) |  | 2001 gains on asset sales $91 million ($64 million after tax); gains
on purchase of debt $52 million ($49 million after tax); and expected
government assistance claim re September 11 airspace
closure $105 million ($102 million after tax); for a total net gain of $248
million ($215 million after tax).                                                                                                                                                                

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

17



---



##### 



ADJUSTING 1998-2002 RESULTS FOR NON-RECURRING OR OTHER SIGNIFICANT ITEMS(contd)

|                                                                                   |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  
|---------------------------------------------------------------------------------- |  | ------- | ----- | -------------- |  | --------- | --- | -------- |  | ----- | ---- | ---- |  |  | ----- | -
|                                                                                   |  |         |       |                |  |           |     |          |  | Gains |      |      |  | 
|                                                                                   |  | Actual  |       | Pilot Strike / |  | and Other |     | Adjusted
|($ millions)                                                                       |  | GAAP    |       | Strike Threat  |  | One-time  |     | Non-GAAP
|unaudited, except for actual results                                               |  | Results |       | (Estimated)    |  | Items     |     | Results 
|                                                                                   |  |         |       |                |  |           |     |         
|2000                                                                               |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  
|Operating revenues                                                                 |  |         | 9,296 |                |  |           | 32  |          |  |       |     |      |  |  | 9,328 |  
|Operating expenses                                                                 |  |         | 9,035 |                |  |           |    |          |  |       | (72  | )(1) |  |  | 8,963 |  
|                                                                                   |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  
|Operating income before the undernoted item                                        |  |         | 261   |                |  |           | 32  |          |  |       | 72   |      |  |  | 365   |  
|Non-recurring labour expenses                                                      |  |         | 178   |                |  |           |    |          |  |       | (178 | )    |  |  |      |  
|                                                                                   |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  
|Operating income                                                                   |  |         | 83    |                |  |           | 32  |          |  |       | 250  |      |  |  | 365   |  
|Non-operating expense                                                              |  |         | (158  | )              |  |           |    |          |  |       | (63  | )(2) |  |  | (221  | )
|                                                                                   |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  
|Income (loss) before foreign exchange on
long-term monetary items and income taxes |  |         | (75   | )              |  |           | 32  |          |  |       | 187  |      |  |  | 144   |  
|Foreign exchange on long-term monetary items                                       |  |         | 78    |                |  |           |    |          |  |       |     |      |  |  | 78    |  
|Provision for income taxes                                                         |  |         | (39   | )              |  |           | (13 | )        |  |       | (88  | )    |  |  | (140  | )
|                                                                                   |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  
|Income (loss) for the year                                                         |  |         | (36   | )              |  |           | 19  |          |  |       | 99   |      |  |  | 82    |  
|                                                                                   |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  
|1999                                                                               |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  
|Operating revenues                                                                 |  |         | 6,443 |                |  |           |    |          |  |       |     |      |  |  | 6,443 |  
|Operating expenses                                                                 |  |         | 6,066 |                |  |           |    |          |  |       |     |      |  |  | 6,066 |  
|                                                                                   |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  
|Operating income                                                                   |  |         | 377   |                |  |           |    |          |  |       |     |      |  |  | 377   |  
|Non-operating expense                                                              |  |         | (68   | )              |  |           |    |          |  |       | (83  | )(3) |  |  | (151  | )
|                                                                                   |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  
|Income (loss) before foreign exchange on
long-term monetary items and income taxes |  |         | 309   |                |  |           |    |          |  |       | (83  | )    |  |  | 226   |  
|Foreign exchange on long-term monetary items                                       |  |         | 205   |                |  |           |    |          |  |       |     |      |  |  | 205   |  
|Recovery of (provision for) income taxes                                           |  |         | (165  | )              |  |           |    |          |  |       | 26   |      |  |  | (139  | )
|                                                                                   |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  
|Income (loss) for the year                                                         |  |         | 349   |                |  |           |    |          |  |       | (57  | )    |  |  | 292   |  
|                                                                                   |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  
|1998                                                                               |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  
|Operating revenues                                                                 |  |         | 5,898 |                |  |           | 263 |          |  |       |     |      |  |  | 6,161 |  
|Operating expenses                                                                 |  |         | 5,803 |                |  |           | 13  |          |  |       | (2   | )(4) |  |  | 5,814 |  
|                                                                                   |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  
|Operating income                                                                   |  |         | 95    |                |  |           | 250 |          |  |       | 2    |      |  |  | 347   |  
|Non-operating expense                                                              |  |         | (141  | )              |  |           |    |          |  |       | (30  | )(5) |  |  | (171  | )
|                                                                                   |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  
|Income (loss) before foreign exchange on
long-term monetary items and income taxes |  |         | (46   | )              |  |           | 250 |          |  |       | (28  | )    |  |  | 176   |  
|Foreign exchange on long-term monetary items                                       |  |         | (414  | )              |  |           |    |          |  |       |     |      |  |  | (414  | )
|Recovery of (provision for) income taxes                                           |  |         | 113   |                |  |           | (95 | )        |  |       | (4   | )    |  |  | 14    |  
|                                                                                   |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  
|Income (loss) for the year                                                         |  |         | (347  | )              |  |           | 155 |          |  |       | (32  | )    |  |  | (224  | )
|                                                                                   |  |         |       |                |  |           |     |          |  |       |      |      |  |  |       |  



|(1) |  | $72 million of estimated integration/customer service costs ($42 million
after tax).                                                                                                                                                                                                                                                                                                               
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|(2) |  | Gains on sale of assets $39 million, net of investment provisions;
gains on purchase of Japanese yen perpetual debt $48 million; less
provisions on the value of retired aircraft $24 million; for a
total net gain of $63 million ($48 million after tax).                                                                                                                                        
|   
|(3) |  | Gains on sale of investments and other assets $69 million; gains on
purchase of Japanese yen perpetual debt $55 million; gains from
restructuring of aircraft leases $13 million; less one-time
costs mainly to defend against a failed hostile takeover bid $42 million;
and provisions on the value of retired aircraft $12 million; for a total net
gain of $83 million ($57 million after tax).
|   
|(4) |  | $2 million fuel excise tax rebate repayment resulting in $10 million of
income tax benefits.                                                                                                                                                                                                                                                                                                       
|   
|(5) |  | Gains on sale of investments and other assets, net of provisions, $30
million ($24 million aftertax).                                                                                                                                                                                                                                                                                              

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

18





---



##### 



WORK FORCE

During 2002, the Corporation had an average of 39,596 employees,
measured on a full-time equivalent (FTE) basis representing a reduction
of 2,994 FTE employees or 7 per cent from 2001.

In the fourth quarter of 2002, the Corporation had an average of
39,996 FTE employees, up 1 per cent from the prior year, as described
below:

|                                              |  |               |     |              |       |                  |        |               |       |        |        |  |      |   |     |  |    |   |    | 
|--------------------------------------------- |  | ------------- | --- | ------------ | ----- | ---------------- | ------ | ------------- | ----- | ------ | ------ |  | ---- | - | --- |  | -- | - | -- | 
|                                              |  |               |     |              |       | FTE Employees    |        | FTE Employees |       |        |        |  |      | %
|Employee Group                                |  | Union (1)     |     | 4th Qtr 2002 |       | 4th Qtr
2001 (2) |        | Change        |       | Change
|                                              |  |               |     |              |       |                  |        |               |       |       
|Mainline-related                              |  |               |     |              |       |                  |        |               |       |        |        |  |      |   |     |  |    |   |    | 
|Management & administrative
support employees |  |               | n/a |              |       |                  | 4,723  |               |       |        | 4,673  |  |      |   | 50  |  |    |   | 1  | 
|Pilots                                        |  | ACPA          |     |              | 3,100 |                  |        |               | 3,167 |        |        |  | (67  | ) |     |  | (2 | )
|Flight attendants                             |  | CURE          |     |              | 6,789 |                  |        |               | 6,416 |        |        |  | 373  |   |     |  | 6  |  
|Customer sales & service agents               |  | CAW / IBT     |     |              | 6,303 |                  |        |               | 6,556 |        |        |  | (253 | ) |     |  | (4 | )
|Maintenance, ramp & cargo
employees           |  | IAMAW         |     |              | 5,270 |                  |        |               | 5,320 |        |        |  | (50  | ) |     |  | (1 | )
|Technical Services employees                  |  | IAMAW / other |     |              | 6,994 |                  |        |               | 6,478 |        |        |  | 516  |   |     |  | 8  |  
|Other unionized employees                     |  | various       |     |              | 1,664 |                  |        |               | 1,701 |        |        |  | (37  | ) |     |  | (2 | )
|Other                                         |  |               | n/a |              |       |                  | 362    |               |       |        | 300    |  |      |   | 62  |  |    |   | 21 | 
|                                              |  |               |     |              |       |                  |        |               |       |        |        |  |      |   |     |  |    |   |    | 
|Total
Mainline-related                        |  |               |     |              |       |                  | 35,205 |               |       |        | 34,611 |  |      |   | 594 |  |    |   | 2  | 
|Jazz
and other subsidiaries                   |  | various       |     |              | 4,791 |                  |        |               | 4,869 |        |        |  | (78  | ) |     |  | (2 | )
|                                              |  |               |     |              |       |                  |        |               |       |        |        |  |      |   |     |  |    |   |    | 
|Total
consolidated                            |  |               |     |              |       |                  | 39,996 |               |       |        | 39,480 |  |      |   | 516 |  |    |   | 1  | 
|                                              |  |               |     |              |       |                  |        |               |       |        |        |  |      |   |     |  |    |   |    | 



|(1) |  | ACPA: Air Canada Pilots Association; CUPE: Canadian Union
of Public Employees; CAW: Canadian Auto Workers Union; IBT:
International Brotherhood of Teamsters; IAMAW: International Association of Machinists and Aerospace
Workers.
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|(2) |  | Certain comparative figures have been reclassified to conform to the
presentation adopted in the current year.                                                                                                                      

In 2000, following the acquisition of Canadian Airlines, Air Canada
embarked upon the most complex corporate integration program in Canadian
aviation history. During 2001 and 2002, the Corporation reduced employee counts
as shown below:

Number of FTE Employees

[NUMBER OF FTE EMPLOYEES BAR CHART]

As a result of the events of September 11, 2001, Air Canada reduced flying
capacity and employee levels in the fourth quarter of 2001 and in the first
quarter of 2002. As operations returned to more normal levels, employee counts
were increased in line with operational requirements.

Air Canada performs aircraft maintenance, ground handling and other
services for airlines and other customers. In 2002, these services generated
over $260 million of revenue. Employees who perform this work are included in
FTE employee counts.

For the year 2002, employee productivity, as measured by operating revenue
per employee, increased 12 per cent for Mainline-related operations from 2001.

Operating Revenue per Employee

Mainline-related operations$ thousands

[OPERATING REVENUE PER EMPLOYEE BAR CHART]

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

19



---



##### 



OPERATING FLEET

Air Canadas Mainline total fleet and operating fleet, excluding Jazz
aircraft, at December 31, 2002, is as described below:

|                      |  |             |     |              |  |           |     |           |  |           |      |           |  |  |    |           |  |           |   |  |  |  |     | 
|--------------------- |  | ----------- | --- | ------------ |  | --------- | --- | --------- |  | --------- | ---- | --------- |  |  | -- | --------- |  | --------- | - |  |  |  | --- | 
|                      |  |             |     |              |  |           |     |           |  | Average   |      |           |  |  |    |           |  |           |   |  |  | 
|                      |  |             |     |              |  |           |     |           |  | Age of    |      |           |  |  |    | Operating |  | Operating
|                      |  | Total       |     | Number of    |  | Operating |     | Operating |  | Aircraft |      | Aircraft
|                      |  | Number      |     | Operating    |  | Aircraft  |     | Aircraft |  | Capital   |      | Operating
|                      |  | of Aircraft |     | Aircraft (1) |  | (Years)   |     | Owned     |  | Lease     |      | Lease
(2)
|                      |  |             |     |              |  |           |     |           |  |           |      |          
|Widebody Aircraft     |  |             |     |              |  |           |     |           |  |           |      |           |  |  |    |           |  |           |   |  |  |  |     | 
|Airbus A340-600       |  |             |    |              |  |           |    |           |  |           |     |           |  |  |   |           |  |           |  |  |  |  |    | 
|Airbus A340-500       |  |             |    |              |  |           |    |           |  |           |     |           |  |  |   |           |  |           |  |  |  |  |    | 
|Airbus A340-300       |  |             | 9   |              |  |           | 9   |           |  |           | 5.5  |           |  |  |   |           |  |           |  |  |  |  | 9   | 
|Airbus A330-300       |  |             | 8   |              |  |           | 8   |           |  |           | 2.2  |           |  |  |   |           |  |           |  |  |  |  | 8   | 
|Boeing 747-400        |  |             | 6   |              |  |           | 6   |           |  |           | 11.1 |           |  |  |   |           |  |           | 1 |  |  |  | 5   | 
|Boeing 747-200        |  |             | 3   |              |  |           |    |           |  |           |     |           |  |  |   |           |  |           |  |  |  |  |    | 
|Boeing 767-300        |  |             | 35  |              |  |           | 35  |           |  |           | 9.5  |           |  |  |   |           |  |           | 3 |  |  |  | 32  | 
|Boeing 767-200        |  |             | 23  |              |  |           | 15  |           |  |           | 17.0 |           |  |  | 9  |           |  |           |  |  |  |  | 6   | 
|Narrowbody Aircraft   |  |             |     |              |  |           |     |           |  |           |      |           |  |  |    |           |  |           |   |  |  |  |     | 
|Airbus A321           |  |             | 13  |              |  |           | 13  |           |  |           | 1.9  |           |  |  |   |           |  |           |  |  |  |  | 13  | 
|Airbus A320           |  |             | 50  |              |  |           | 50  |           |  |           | 10.5 |           |  |  |   |           |  |           | 1 |  |  |  | 49  | 
|Airbus A319           |  |             | 46  |              |  |           | 46  |           |  |           | 4.1  |           |  |  |   |           |  |           |  |  |  |  | 46  | 
|Boeing
737-200(2)     |  |             | 36  |              |  |           | 25  |           |  |           | 21.6 |           |  |  | 1  |           |  |           | 4 |  |  |  | 20  | 
|DC-9                  |  |             | 20  |              |  |           |    |           |  |           |     |           |  |  |   |           |  |           |  |  |  |  |    | 
|Canadair Regional Jet |  |             | 25  |              |  |           | 25  |           |  |           | 7.2  |           |  |  |   |           |  |           |  |  |  |  | 25  | 
|                      |  |             |     |              |  |           |     |           |  |           |      |           |  |  |    |           |  |           |   |  |  |  |     | 
|Total Aircraft        |  |             | 274 |              |  |           | 232 |           |  |           | 9.4  |           |  |  | 10 |           |  |           | 9 |  |  |  | 213 | 
|                      |  |             |     |              |  |           |     |           |  |           |      |           |  |  |    |           |  |           |   |  |  |  |     | 



|(1) |  | Excludes four owned and one leased Boeing 767-200 aircraft, and two
owned and two leased Boeing 737-200 aircraft which were temporarily
parked. Also excludes three owned Boeing 747-200, three owned Boeing 767-200, 20 owned DC-9 and four leased Boeing
737-200 aircraft which were permanently removed from service. In addition,
three Boeing 737-200 aircraft were subleased to a third party. The owned permanently parked aircraft were
available for sale as at December 31, 2002.
|--- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|    |                                                                                           
|--- | ------------------------------------------------------------------------------------------
|(2) | ZIP operated with seven Boeing 737-200 aircraft, which are included in
the Mainline fleet.

In 2002, Air Canada took delivery of 16 aircraft under long-term
operating leases: three Airbus A320, five Airbus A321 and eight Airbus A319
aircraft. Air Canada also took delivery of two Boeing 767-300 and three
Airbus A321 aircraft under 24 to 60 month operating leases where rentals are
payable in relation to the hours flown (Power by the Hour or PBH aircraft).
By the end of the year 2002, Air Canada had returned seven aircraft to the
lessors (one Boeing 747-400, three Airbus A340-300 and three Boeing 737-200
aircraft). In addition, one parked DC-9 aircraft was sold, two DC-9s were
donated and five Boeing 737-200 aircraft were sold. At December 31, 2002, Air
Canada had a total of 10 Power by the Hour aircraft with aircraft rental
payments based on the number of hours flown. These aircraft give Air Canada
the ability to increase or decrease flying capacity with lease rentals
variable to the hours flown.

The average age of the Mainline operating fleet was 9.4 years as at
December 31, 2002.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

20



---



##### 



Jazzs total fleet and operating fleet at December 31, 2002 is as
described below:

|                          |  |              |     |                 |  |         |     |            |  |              |      |  |  |  |    |       |  |  |    | 
|------------------------- |  | ------------ | --- | --------------- |  | ------- | --- | ---------- |  | ------------ | ---- |  |  |  | -- | ----- |  |  | -- | 
|                          |  |              |     |                 |  |         |     |            |  | Average      |      |  |  |  |    |       |  | 
|                          |  |              |     |                 |  |         |     |            |  | Age of       |      |  |  |  |    | Total
|                          |  | Total        |     | Number of       |  | Total   |     | Total      |  | Aircraft
  
|                          |  | Number of    |     | Operating       |  | Fleet   |     | Aircraft
 |  | Operating   
|                          |  | Aircraft
(1) |     | Aircraft
(2)(3) |  | (Years) |     | Owned
(1)  |  | Lease
(1)(3)
|                          |  |              |     |                 |  |         |     |            |  |             
|Jazz                      |  |              |     |                 |  |         |     |            |  |              |      |  |  |  |    |       |  |  |    | 
|Canadair Regional Jet     |  |              | 10  |                 |  |         | 10  |            |  |              | 4.0  |  |  |  |   |       |  |  | 10 | 
|British Aerospace BAe 146 |  |              | 10  |                 |  |         | 10  |            |  |              | 13.8 |  |  |  |   |       |  |  | 10 | 
|Fokker F28                |  |              | 29  |                 |  |         | 0   |            |  |              | 29.2 |  |  |  | 29 |       |  |  |   | 
|de Havilland DHC-8-300    |  |              | 26  |                 |  |         | 26  |            |  |              | 12.8 |  |  |  | 17 |       |  |  | 9  | 
|de Havilland DHC-8-100    |  |              | 58  |                 |  |         | 58  |            |  |              | 14.5 |  |  |  | 47 |       |  |  | 11 | 
|                          |  |              |     |                 |  |         |     |            |  |              |      |  |  |  |    |       |  |  |    | 
|Total
Aircraft            |  |              | 133 |                 |  |         | 104 |            |  |              | 16.2 |  |  |  | 93 |       |  |  | 40 | 
|                          |  |              |     |                 |  |         |     |            |  |              |      |  |  |  |    |       |  |  |    | 



|(1) |  | Includes aircraft owned by the Corporation and its subsidiaries
except for five owned Beech 1900D aircraft which have been leased by
Wingco to third party airlines operating under capacity
purchase agreements. Also excludes five leased Jetstream aircraft, of
which two were subleased to a third party and three were surplus.
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|(2) |  | Excludes 29 Fokker F28 aircraft of which 28 have been permanently
retired and one of which is subleased to a third party. At December
31, 2002, Jazz has an agreement in place under which
five Fokker F28 aircraft are planned to be sold to a third party in
2003.                                                                
|   
|(3) |  | In 2001, the Jazz operating fleet was calculated on an equivalent flying
hour basis. On that same basis, Jazzs 2002 operating fleet would have
totaled 97 aircraft.                                                                                                                                                                

AIRCRAFT COMMITMENTS

As described in Note 15 to the Consolidated Financial Statements, at December
31, 2002, Air Canada had commitments to acquire two Airbus A340-500 and two
Airbus A321 aircraft in 2003 and three Airbus A340-600 aircraft in 2004, for a
total payment amount of $970 million. Financing commitments as at December 31,
2002, amounted to $940 million for these aircraft deliveries. At December 31,
2002, the Corporation had also committed to leasing two Airbus A319 and six
Airbus A320 aircraft in 2003, and three Airbus A320 aircraft in 2004 on a long
term basis and one Boeing 767-300 on a PBH basis. As a result of the CCAA
filing, the financing commitments may no longer be available and the status of
the orders will be determined by the outcome of the restructuring process under
CCAA.

PENSION PLANS

On March 21, 2003, the Office of the Superintendent of Financial Institutions
(OSFI) issued a Temporary Direction instructing Air Canada to make
contributions in excess of the minimum required under the regulations and
legislation. Specifically, Air Canada was requested to remit an amount
approximately equal to the contribution holidays taken in 2002, and to cease
taking contribution holidays.

On April 1, 2003, Air Canada filed an application in Court for protection
from its creditors under the Companies Creditors Arrangement Act. The Court
order currently in effect allows Air Canada to cease making contributions to
funded pension plans, pending a further order of the Court. Pension benefit
payments from the registered pension plans continue to be paid.

Following these events, Air Canada conducted an update on the financial
position of its pension plans as of January 1, 2003 to determine the funded
status of its pension plans. Due to the impact of the negative stock market
returns and declining interest rates, the financial update reports revealed
solvency deficits equal to approximately $1,300 million for all domestic
registered pension plans on a combined basis.

The Company intends to discuss the future of the pension plans with its
stakeholders. It is uncertain at this time what the outcome of these
discussions will be. The funding requirements as well as the accounting
implications vis-a-vis the pension plans will largely depend on the outcome of
these discussions.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

21



---



##### 



RISK MANAGEMENT

In 2002 and in the first quarter of 2003, the Corporation managed its exposure
to changes in interest rates, foreign exchange rates and jet fuel prices
through the use of various derivative financial instruments for the purpose of
hedging existing commitments or obligations, not for generating trading
profits. Most hedging took place within a one-year time horizon and was
principally in support of cash management activities. Longer term hedging was
done infrequently and essentially supported financing activities. Foreign
exchange hedging activities were conducted in accordance with Air Canadas
approved Foreign Exchange Risk Management Policy. Refer to Notes 7, 9, 15 and
17 to the Consolidated Financial Statements for further information on hedging,
financial instruments and risk management.

Effective January 2002, Air Canada adopted changes in Canadian accounting
standards that eliminated deferral of foreign exchange revaluation of long-term
monetary assets and liabilities in foreign currencies. In 2002, the revaluation
adjustments were recorded fully in income, net of any hedging positions, on a
monthly basis and resulted in increased volatility of earnings due to
fluctuations in the value of the Canadian dollar against foreign currencies. In
2002, the Corporation designated future foreign currency surplus cash flows in
Euro, Swiss franc and Japanese yen as a hedge against foreign exchange
revaluations of subordinated perpetual debt in these currencies.

Air Canada has an ongoing operational requirement for US dollars to cover
various expenses such as fuel, aircraft materials, interest and aircraft lease
payments as well as debt repayments. The Corporation generally obtains US
dollars from operations as well as by buying dollars on the spot and on forward
exchange markets and through the conversion of other foreign currency surpluses
into US dollars. At December 31, 2002, approximately 7 per cent of the net
projected operational requirement for US dollars in 2003 was covered by forward
exchange contracts.

Aircraft fuel is a major expense to the Corporation. The Corporation
entered into contracts, not exceeding two years, with unrelated creditworthy
financial intermediaries and oil companies to manage its exposure to crude oil
and fuel price volatility. As at December 31, 2002, the Corporation had
effectively hedged 46 per cent of its anticipated first quarter 2003 fuel
consumption. Based on 2002 volumes, a US$1 per barrel movement in the average
price of crude oil (for example, an improvement from an average of US$29.00 to
US$28.00 per barrel of WTI) would have resulted in an approximate CDN$28
million change in 2002 fuel expense for Air Canada, net of fuel hedges,
assuming that flying capacity remained unchanged and refining spreads between
WTI and jet fuel as well as foreign exchange rates remained constant.

Air Canada and other airlines have experienced a dramatic rise in the cost
of aviation insurance since September 11, 2001. For the year 2002, the
Corporations aviation insurance increased by approximately $71 million
compared to insurance costs in effect prior to September 11, 2001.
Additionally, the previous level of third party war risk liability insurance
was limited to US$50 million by aviation insurers shortly after September 11.
The Government of Canada continues to provide an indemnity for essential
aviation service operators which, in Canada, includes air carriers, airports
and NAV CANADA, amongst others, which restored the war risk liability coverage
to what existed previously. The government indemnity is a temporary measure,
until such time as a longer term commercially accepted alternative solution is
found. In accordance with our established risk management practice, Air Canada
continues to maintain adequate levels of insurance to protect the Corporations assets and operational exposures. Such insurance is comparable to insurance
coverage carried by other major international airlines.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

22





---



##### 



SENSITIVITY OF CONSOLIDATED AIRLINE RESULTS

Financial results of the Corporation are subject to many different
internal and external factors which can have a significant impact on
operating results. In order to provide a general guideline, the following
table describes, on an indicative basis, the financial impact that changes
in operating assumptions would generally have had on the Corporations
consolidated 2002 operating results. These guidelines were derived from 2002
levels of activity and make use of management estimates. The impacts are
not additive, do not reflect the interdependent relationship of the
elements and may vary significantly from actual results due to factors
beyond the control of the Corporation.

Conversely, an opposite change in the sensitivity factor would have had
the opposite effect on operating income.

Consolidated

|                                        |  |        |  |         |        |          |       |                                            |  |                                  |    |  |     |              |  | 
|--------------------------------------- |  | ------ |  | ------- | ------ | -------- | ----- | ------------------------------------------ |  | -------------------------------- | -- |  | --- | ------------ |  | 
|                                        |  |        |  |         |        |          |       |                                            |  |                                  |    |  |     | Estimated   
|                                        |  |        |  |         |        |          |       |                                            |  |                                  |    |  |     | Operating   
|                                        |  |        |  |         |        | 2002     |       | Sensitivity                                |  | Income                          
|Key Variable                            |  | Routes |  | Measure |        | Factor   |       | Impact                                    
|                                        |  |        |  |         |        |          |       |                                           
|                                        |  |        |  |         |        |          |       |                                            |  |                                  |    |  |     | ($ millions)
|Revenue Measures                        |  |        |  |         |        |          |       |                                            |  |                                  |    |  |     |              |  | 
|Passenger yield per RPM (cents)         |  | System |  |         | 18.3   |          |       | 1% change in                               |  |                                  | 69 | 
|                                        |  | Canada |  |         | 24.1   |          |       | yield per RPM                              |  |                                  | 30 | 
|Traffic (RPMs) (millions)               |  | System |  |         | 44,707 |          |       | 1%  change in traffic                      |  |                                  | 61 | 
|                                        |  | Canada |  |         | 14,616 |          |       |                                            |  |                                  |    |  | 26  |             
|Passenger load factor (%)               |  | System |  |         | 74.3   |          |       | 1 percentage point change                  |  |                                  | 82 | 
|RASM (cents)                            |  | System |  |         | 13.6   |          |       | 1% change in RASM                          |  |                                  | 65 | 
|Cost Measures                           |  |        |  |         |        |          |       |                                            |  |                                  |    |  |     |              |  | 
|Labour & benefit expenses ($ millions)  |  |        |  |         |        | $        | 3,099 |                                            |  | 1% change                        |    |  | 31  |             
|Fuel -WTI price (US$/barrel)            |  |        |  |         |        | US$25.35 |       | US$1/barrel change to WTI (net of hedging) |  |                                  | 28 | 
|Fuel
- Jet fuel price (CDN cents/litre) |  |        |  |         |        |          | 34.0  |                                            |  | 1% change (net of hedging)       |    |  | 10  |             
|Cost
per ASM (cents)(1)                 |  |        |  |         |        |          | 16.6  |                                            |  | 1% change                        |    |  | 100 |             
|Currency Exchange                       |  |        |  |         |        |          |       |                                            |  |                                  |    |  |     |              |  | 
|Canada to US (CDN$)                     |  |        |  |         |        | $        | 1.57  |                                            |  | CDN 1¢ change                    |    |  | 9   |             
|                                        |  |        |  |         |        |          |       |                                            |  | (e.g. $1.57 to $1.56 CDN dollar) |    |  |     |             



|(1) |  | Removing non-recurring labour expenses in 2002.
|--- |  | -----------------------------------------------

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

23





---



##### 



OUTLOOK

On April 1, 2003, Air Canada obtained an order from the Ontario Superior Court
of Justice (the Court) providing creditor protection under the Companies
Creditors Arrangement Act (CCAA). The initial order was amended by the Court
on April 25, 2003 and may be further amended by the Court throughout the CCAA
proceedings based on motions from Air Canada, its creditors and other
interested parties. On April 1, 2003, Air Canada, through its Court-appointed
Monitor, also made a concurrent petition for recognition and ancillary relief
under Section 304 of the U.S. Bankruptcy Code. The CCAA and U.S. proceedings
cover Air Canada and the following of its wholly-owned subsidiaries: Jazz Air
Inc., ZIP Air Inc., 3838722 Canada Inc., Air Canada Capital Ltd., Manoir
International Finance Inc., Simco Leasing Ltd., and Wingco Leasing Inc.
(collectively, the Applicants). Aeroplan, Air Canada Vacations and Destina
are not included in the CCAA filing. These three subsidiaries continue dealings
with their creditors on a normal basis, unaffected by the CCAA and U.S.
proceedings.

The Court order and U.S. proceedings provide for a general stay period
that expires on June 30, 2003, subject to extension as the Court may deem
appropriate. This stay generally precludes parties from taking any action
against the Applicants for breach of contractual or other obligations. The
purpose of the stay period order is to provide the Applicants with relief
designed to stabilize operations and business relationships with customers,
vendors, employees and creditors. During the stay period, Air Canada is
developing its revised business plan and negotiating new arrangements with
creditors (including aircraft lessors) and labour unions with a view to having
those arrangements completed prior to proposing a final plan of arrangement.

The Applicants continue operations with the consent and assistance of the
Court-appointed Monitor and under the provisions of the Court orders. The
Applicants are undertaking an operational, commercial, financial and corporate
restructuring and will propose a plan of arrangement, which will be submitted
to the Court for confirmation after submission to any required vote to
creditors for approval. Under the plan of arrangement, claims against and
interests in the Applicants will be divided into classes according to their
seniority or similarity of interests and each class of creditors will vote on
the plan of arrangement as it pertains to that class. No rulings have yet been
made on the classification of affected creditors.

The CCAA filing triggered defaults on substantially all of the Applicants
debt and lease obligations. The stay period order stays most actions against
the Applicants, including employee group actions and most actions to collect
pre-filing indebtedness or to exercise control over the Applicants
property. The order also grants the Applicants with the authority to, among
other things, a) pay outstanding and future employee wages, salaries and
employee benefits and other employee obligations; b) honour obligations related
to airline tickets and Aeroplan redemptions; and c) honour obligations related
to the Applicants interline, clearing house, code sharing and other similar
agreements.

Financing During CCAA Proceedings

In conjunction with the CCAA proceedings and for the purpose of ensuring
adequate liquidity during the restructuring, Air Canada has arranged for a
US$700 million (or an equivalent amount in Canadian dollars not to exceed $1.05
billion) debtor-in-possession (DIP) secured revolving credit facility from
General Electric Capital Canada Inc. The facility is secured by all of the
unencumbered assets of Air Canada. The facility will be available in stages.
The first tranche is in the amount of US$400 million, of which CDN$350 million
was made available on May 1, 2003. The remainder of the funds within the first
tranche will be available after a 21-day appeal period which commenced on May
1st, subject to some security and other documentation being put into place. The
second tranche is in the amount of US$300 million and will be made available
subject to certain other conditions. The agreement will have a term of up to
the earliest of the (a) effective date of a plan of arrangement in the CCAA
proceedings and (b) the prepayment in full by the Corporation of all amounts
outstanding under the agreement and the termination of the lenders
commitments under the agreement.

CIBC Agreement

On April 17, 2003, Air Canada reached an agreement with Canadian Imperial Bank
of Commerce (CIBC) on a new contract with respect to the CIBC Aerogold Visa
card program and a $350 million short-term financing. The agreement is subject
to Court approval under the CCAA proceedings.

If approved by the Court, CIBC would lend Air Canada $350 million, which
loan would be repayable from the proceeds payable by CIBC for points purchased
from Air Canada in connection with credit cards that would be subject to the
new credit card agreement. The new credit card agreement also provides that the
price per point purchased by CIBC would be greater than the price in the old
credit card agreement. Pursuant to the new credit card agreement, the
arrangements between Air Canada and CIBC would be extended from 2009 to 2013.
On April 28, 2003, Air Canada received an unsolicited and non-binding
expression of interest for a credit card agreement with Aeroplan from a third
party, who has requested that its identity not be disclosed, leading to a bid
process that ended on May 10, 2003. Several financial institutions submitted
their bids for a credit card agreement with Aeroplan. The recommendation is
expected to be heard by the Court on May 14, 2003.

Industry Outlook

During 2002 and continuing in 2003, the airline industry has suffered from a
weak economic environment and competitive pressures resulting from excess
capacity, lower demand and lower fares. In addition, the industry has
experienced challenging operating conditions from increased security measures,
increased user fees and insurance costs and high fuel prices. The outlook for
the industry remains uncertain reflecting decreasing demand for air travel
caused by continuing concerns over security, international

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

24





---



##### 



conflicts, the impact of Severe
Acute Respiratory Syndrome (SARS)
on the travel industry and general
economic conditions. During 2002,
several major North American
airlines commenced bankruptcy
proceedings. The current situation
and potential future adverse events
will likely result in continued
financial difficulties for airlines.

Air Canadas Outlook

Under the current circumstances, Air
Canadas outlook will be
determined by the outcome of its
restructuring under the CCAA, taking
into account the airline industrys operating environment. Under the
CCAA process, Air Canada intends to
restructure its balance sheet and
costs to complete its transformation
into a leaner, more efficient, lower
cost airline through savings
obtained from, among others,
aircraft lessors, lenders,
suppliers, creditors and labour
groups.

In addition, a weak revenue
environment intensified in April
primarily as a result of the
devastating impact of the rapid
acceleration of the SARS outbreak,
not only on Asian routes, but on the
airlines entire network and, in
particular, its main hub in Toronto.
This environment is translating into
reduced forward bookings of between
20 to 25 per cent for the months of
May through to July on a
year-over-year basis. As a result,
on May 13, 2003, the Corporation
announced immediate and aggressive
actions to reduce operating costs
until such time as traffic levels
stabilize. These actions include
overall capacity reductions
amounting to 17 per cent
year-over-year for June, July and
August, mainly on Asian and
transborder routes which will result
in the grounding of approximately 40
aircraft at Air Canada and at its
subsidiary, Jazz.

Air
Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

25





---



##### 



(AIR CANADA)

26





---



##### 



Managements Report

The consolidated financial statements
have been prepared by management in
accordance with generally accepted
accounting principles and the
integrity and objectivity of the data
in these financial statements are
managements responsibility.
Management is also responsible for
all other financial information and
for ensuring that this information is
consistent, where appropriate, with
the information and data contained in
the financial statements.

In support of its
responsibility, management
maintains a system of internal
control to provide reasonable
assurance as to the reliability of
financial information and the
safeguarding of assets. The
Corporation has an internal audit
department whose functions include
reviewing internal controls and
their application, on an ongoing
basis.

The Board of Directors is
responsible for ensuring that
management fulfills its
responsibilities for financial
reporting and internal control and
exercises this responsibility through
the Audit Committee of the Board,
which is composed of directors who
are not employees of the Corporation.
The Audit Committee meets with
management, the internal auditors and
the external auditors at least four
times each year.

The external auditors,
PricewaterhouseCoopers conduct an
independent audit, in accordance with
generally accepted auditing standards
and express their opinion on the
financial statements. Their audit
includes a review and evaluation of
the Corporations system of
internal control and appropriate
tests and procedures to provide
reasonable assurance that, in all
material respects, the financial
statements are presented fairly. The
external auditors have full and free
access to the Audit Committee of the
Board and meet with it on a regular
basis.

|                                                                        |  |                                                       
|----------------------------------------------------------------------- |  | ------------------------------------------------------
|-s- M.Robert Peterson                                                   |  | -s- Robert A. Milton                                  
|                                                                        |  |                                                       
|M. Robert Peterson
Executive Vice President
and Chief Financial Officer |  | Robert A. Milton
President and
Chief Executive Officer

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

27





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##### 



[PRICEWATERHOUSECOOPERS LLP LOGO]

---

|                                                         |  |                                    
|-------------------------------------------------------- |  | -----------------------------------
|                                                         |  | PricewaterhouseCoopers LLP         
|                                                         |  | Chartered Accountants              
|                                                         |  | 1250, boulevard René-Lévesque Quest
|                                                         |  | Bureau 3500                        
|                                                         |  | Montréal (Québec)                  
|                                                         |  | Canada H3B 2G4                     
|February 5, 2003                                         |  | Telephone +1 (514) 205 5000        
|(except for Notes 1 and 21 which are as at May 13, 2003) |  | Facsimile +1 (514) 938 5709        

Auditors Report

To the Shareholders of Air Canada

We have audited the consolidated statements of financial position of
Air Canada as at December 31, 2002 and 2001 and the consolidated
statements of operations and retained earnings (deficit) and cash flows
for the years then ended. These financial statements are the
responsibility of the Corporations management. Our responsibility is
to express an opinion on these financial statements based on our
audits.

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

In our opinion, these consolidated financial statements present fairly,
in all material respects, the financial position of the Corporation as
at December 31, 2002 and 2001 and the results of its operations and the
changes in its cash flows for the years then ended in accordance with
Canadian generally accepted accounting principles.

[PRICEWATERHOUSECOOPERS LLP GRAPHIC]

Chartered Accountants


PricewaterhouseCoopers refers to the Canadian firm of
PricewaterhouseCoopers LLP and the other member firms of
PricewaterhouseCoopers International Limited, each of which is a
separate and independent legal entity.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

28





---



##### 



Consolidated Statement of Operations and Retained Earnings (deficit)

(IN MILLIONS EXCEPT PER SHARE FIGURES)

(Under Creditor Protection as of
April 1, 2003 - note 1)

|                                                                          |  |      |        |      |  |   |        |  
|------------------------------------------------------------------------- |  | ---- | ------ | ---- |  | - | ------ | -
|Year ended December 31                                                    |  | 2002 |        | 2001
|                                                                          |  |      |        |     
|Operating revenues                                                        |  |      |        |      |  |   |        |  
|Passenger                                                                 |  | $    | 8,190  |      |  | $ | 8,123  |  
|Cargo                                                                     |  |      | 585    |      |  |   | 578    |  
|Other                                                                     |  |      | 1,051  |      |  |   | 910    |  
|                                                                          |  |      |        |      |  |   |        |  
|                                                                          |  |      | 9,826  |      |  |   | 9,611  |  
|                                                                          |  |      |        |      |  |   |        |  
|Operating expenses                                                        |  |      |        |      |  |   |        |  
|Salaries and wages                                                        |  |      | 2,492  |      |  |   | 2,495  |  
|Benefits                                                                  |  |      | 607    |      |  |   | 527    |  
|Aircraft fuel                                                             |  |      | 1,288  |      |  |   | 1,593  |  
|Depreciation, amortization and obsolescence                               |  |      | 372    |      |  |   | 441    |  
|Commissions                                                               |  |      | 369    |      |  |   | 476    |  
|Food, beverages and supplies                                              |  |      | 395    |      |  |   | 435    |  
|Aircraft maintenance, materials and supplies                              |  |      | 508    |      |  |   | 569    |  
|Airport and navigation fees                                               |  |      | 772    |      |  |   | 738    |  
|Aircraft rent                                                             |  |      | 1,109  |      |  |   | 959    |  
|Other                                                                     |  |      | 2,106  |      |  |   | 2,109  |  
|                                                                          |  |      |        |      |  |   |        |  
|                                                                          |  |      | 10,018 |      |  |   | 10,342 |  
|                                                                          |  |      |        |      |  |   |        |  
|Operating loss before the undernoted item                                 |  |      | (192   | )    |  |   | (731   | )
|Non-recurring
labour expenses (note 2u)                                   |  |      | 26     |      |  |   |       |  
|                                                                          |  |      |        |      |  |   |        |  
|Operating loss                                                            |  | $    | (218   | )    |  | $ | (731   | )
|                                                                          |  |      |        |      |  |   |        |  
|Non-operating
income (expense) (note 6)                                   |  |      |        |      |  |   |        |  
|Net interest expense                                                      |  |      | (221   | )    |  |   | (275   | )
|Loss on sale of assets                                                    |  |      | (42    | )    |  |   | (85    | )
|Other                                                                     |  |      | 97     |      |  |   | 126    |  
|                                                                          |  |      |        |      |  |   |        |  
|                                                                          |  |      | (166   | )    |  |   | (234   | )
|                                                                          |  |      |        |      |  |   |        |  
|Loss before foreign exchange on long-term
monetary items and income taxes |  |      | (384   | )    |  |   | (965   | )
|Foreign exchange on long-term monetary items                              |  |      | (60    | )    |  |   | (20    | )
|                                                                          |  |      |        |      |  |   |        |  
|Loss before income taxes                                                  |  |      | (444   | )    |  |   | (985   | )
|Provision
for income taxes (note 14)                                      |  |      | (384   | )    |  |   | (330   | )
|                                                                          |  |      |        |      |  |   |        |  
|Loss for the year                                                         |  |      | (828   | )    |  |   | (1,315 | )
|Deficit, beginning of year, as originally reported                        |  |      | (1,930 | )    |  |   | (676   | )
|Adjustment
related to change in accounting standard (note 2f)             |  |      | (522   | )    |  |   | (461   | )
|                                                                          |  |      |        |      |  |   |        |  
|Deficit, beginning of year, as restated                                   |  |      | (2,452 | )    |  |   | (1,137 | )
|                                                                          |  |      |        |      |  |   |        |  
|Deficit, end of year                                                      |  | $    | (3,280 | )    |  | $ | (2,452 | )
|                                                                          |  |      |        |      |  |   |        |  
|Loss
per share (note 13)                                                  |  |      |        |      |  |   |        |  
|                                                                          |  |      |        |      |  |   |        |  
|Basic and diluted                                                         |  | $    | (6.89  | )    |  | $ | (10.95 | )
|                                                                          |  |      |        |      |  |   |        |  

See accompanying notes.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

29





---



##### 



Consolidated Statement of Financial Position

(IN MILLIONS EXCEPT PER SHARE FIGURES)

(Under Creditor Protection as of
April 1, 2003 - note 1)

|                                                                                 |                                                                          |      |        |       |  |   |        |       | 
|-------------------------------------------------------------------------------- | ------------------------------------------------------------------------ | ---- | ------ | ----- |  | - | ------ | ----- | 
|December 31                                                                      |                                                                          | 2002 |        | 2001 
|                                                                                 |                                                                          |      |        |      
|ASSETS                                                                           |                                                                          |      |        |       |  |   |        |      
|Current                                                                          |                                                                          |      |        |       |  |   |        |      
|                                                                                 | Cash and cash equivalents                                                |      | $      | 558   |  |   | $      | 1,067 | 
|                                                                                 | Accounts receivable                                                      |      |        | 760   |  |   |        | 764   | 
|                                                                                 | Spare parts, materials and supplies                                      |      |        | 367   |  |   |        | 344   | 
|                                                                                 | Prepaid expenses                                                         |      |        | 86    |  |   |        | 60    | 
|                                                                                 |                                                                          |      |        |       |  |   |        |       | 
|                                                                                 |                                                                          |      | 1,771  |       |  |   | 2,235  |      
|Property
and equipment (note 3)                                                  |                                                                          |      | 2,279  |       |  |   | 2,830  |      
|Future income taxes (note 14)                                                    |                                                                          |      | 4      |       |  |   | 404    |      
|Deferred
charges (note 4)                                                        |                                                                          |      | 1,781  |       |  |   | 1,619  |      
|Goodwill                                                                         |                                                                          |      | 510    |       |  |   | 510    |      
|Other
assets (note 5)                                                            |                                                                          |      | 1,071  |       |  |   | 1,146  |      
|                                                                                 |                                                                          |      |        |       |  |   |        |       | 
|                                                                                 |                                                                          | $    | 7,416  |       |  | $ | 8,744  |      
|                                                                                 |                                                                          |      |        |       |  |   |        |       | 
|LIABILITIES                                                                      |                                                                          |      |        |       |  |   |        |      
|Current                                                                          |                                                                          |      |        |       |  |   |        |      
|                                                                                 | Accounts payable and accrued liabilities                                 |      | $      | 1,713 |  |   | $      | 1,857 | 
|                                                                                 | Advance ticket sales                                                     |      |        | 506   |  |   |        | 481   | 
|                                                                                 | Current
portion of long-term debt and capital lease obligations (note 7) |      |        | 373   |  |   |        | 531   | 
|                                                                                 |                                                                          |      |        |       |  |   |        |       | 
|                                                                                 |                                                                          |      | 2,592  |       |  |   | 2,869  |      
|Long-term and subordinated perpetual debt and capital lease obligations (note 7) |                                                                          |      | 4,314  |       |  |   | 4,580  |      
|Future income taxes (note 14)                                                    |                                                                          |      | 32     |       |  |   | 60     |      
|Other long-term liabilities (note 10)                                            |                                                                          |      | 1,405  |       |  |   | 1,279  |      
|Deferred credits (note 11)                                                       |                                                                          |      | 1,361  |       |  |   | 1,416  |      
|                                                                                 |                                                                          |      |        |       |  |   |        |       | 
|                                                                                 |                                                                          |      | 9,704  |       |  |   | 10,204 |      
|                                                                                 |                                                                          |      |        |       |  |   |        |       | 
|SHAREHOLDERS EQUITY                                                             |                                                                          |      |        |       |  |   |        |      
|Share
capital and other equity (note 12)                                         |                                                                          |      | 977    |       |  |   | 977    |      
|Contributed surplus                                                              |                                                                          |      | 15     |       |  |   | 15     |      
|Deficit                                                                          |                                                                          |      | (3,280 | )     |  |   | (2,452 | )    
|                                                                                 |                                                                          |      |        |       |  |   |        |       | 
|                                                                                 |                                                                          |      | (2,288 | )     |  |   | (1,460 | )    
|                                                                                 |                                                                          |      |        |       |  |   |        |       | 
|                                                                                 |                                                                          | $    | 7,416  |       |  | $ | 8,744  |      
|                                                                                 |                                                                          |      |        |       |  |   |        |       | 

| |  |                                      
| |  | -------------------------------------
| |  | Approved by the Board:               
| |  |                                      
| |  | Robert A. Milton                     
| |  | President and Chief Executive Officer
| |  |                                      
| |  | Paul D. Mitchell                     
| |  | Chairman of the Audit Committee      

See accompanying notes.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

30





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##### 



Consolidated Statement of Cash Flow

(IN MILLIONS EXCEPT PER SHARE FIGURES)

(Under Creditor Protection as of
April 1, 2003 - note 1)

|                                                                        |                                                            |      |       |      |   |   |        |      |  
|----------------------------------------------------------------------- | ---------------------------------------------------------- | ---- | ----- | ---- | - | - | ------ | ---- | -
|Year ended December 31                                                  |                                                            | 2002 |       | 2001
|                                                                        |                                                            |      |       |     
|CASH FLOWS FROM (USED FOR)                                              |                                                            |      |       |      |   |   |        |     
|Operating                                                               |                                                            |      |       |      |   |   |        |     
|Loss for the year                                                       |                                                            | $    | (828  | )    |   | $ | (1,315 | )   
|                                                                        |                                                            |      |       |      |   |   |        |     
|Adjustments to reconcile to net cash provided by operations             |                                                            |      |       |      |   |   |        |     
|                                                                        | Depreciation, amortization and obsolescence                |      |       | 372  |   |   |        | 441  |  
|                                                                        | Loss
on sale of assets (note 6)                            |      |       | 42   |   |   |        | 85   |  
|                                                                        | Foreign exchange on long-term monetary items               |      |       | 60   |   |   |        | 20   |  
|                                                                        | Future
income taxes (note 14)                              |      |       | 372  |   |   |        | 319  |  
|                                                                        | Employee future benefit funding less than expense          |      |       | 188  |   |   |        | 156  |  
|                                                                        | Decrease in accounts receivable                            |      |       | 87   |   |   |        | 142  |  
|                                                                        | Decrease (increase) in spare parts, materials and supplies |      |       | (21  | ) |   |        | 24   |  
|                                                                        | Decrease in accounts payable and accrued liabilities       |      |       | (145 | ) |   |        | (490 | )
|                                                                        | Increase (decrease) in advance ticket sales                |      |       | 25   |   |   |        | (17  | )
|                                                                        | Aircraft lease payments in excess of rent expense          |      |       | (253 | ) |   |        | (423 | )
|                                                                        | Recovery
of lease rebates (note 4)                         |      |       | 145  |   |   |        |     |  
|                                                                        | Other                                                      |      |       | (139 | ) |   |        | (14  | )
|                                                                        |                                                            |      |       |      |   |   |        |     
|                                                                        |                                                            |      | (95   | )    |   |   | (1,072 | )   
|                                                                        |                                                            |      |       |      |   |   |        |     
|Financing                                                               |                                                            |      |       |      |   |   |        |     
|Short-term loans                                                        |                                                            |      |      |      |   |   | (178   | )   
|Long-term borrowings                                                    |                                                            |      | 78    |      |   |   | 996    |     
|Reduction of long-term debt                                             |                                                            |      | (672  | )    |   |   | (566   | )   
|Proceeds from sale and leaseback of assets                              |                                                            |      | 284   |      |   |   | 1,468  |     
|Other                                                                   |                                                            |      |      |      |   |   | (2     | )   
|                                                                        |                                                            |      |       |      |   |   |        |     
|                                                                        |                                                            |      | (310  | )    |   |   | 1,718  |     
|                                                                        |                                                            |      |       |      |   |   |        |     
|Investing                                                               |                                                            |      |       |      |   |   |        |     
|Proceeds from sale of assets                                            |                                                            |      | 17    |      |   |   | 164    |     
|Additions to property and equipment, net of recovered progress payments |                                                            |      | (109  | )    |   |   | (179   | )   
|Investments and advances                                                |                                                            |      | (12   | )    |   |   | (1     | )   
|                                                                        |                                                            |      |       |      |   |   |        |     
|                                                                        |                                                            |      | (104  | )    |   |   | (16    | )   
|                                                                        |                                                            |      |       |      |   |   |        |     
|Increase (decrease) in cash and cash equivalents                        |                                                            |      | (509  | )    |   |   | 630    |     
|Cash and cash equivalents, beginning of year                            |                                                            |      | 1,067 |      |   |   | 437    |     
|                                                                        |                                                            |      |       |      |   |   |        |     
|Cash and cash equivalents, end of year                                  |                                                            | $    | 558   |      |   | $ | 1,067  |     
|                                                                        |                                                            |      |       |      |   |   |        |     
|Cash flow per share from operations                                     |                                                            |      |       |      |   |   |        |     
|                                                                        |                                                            |      |       |      |   |   |        |     
|Basic and diluted                                                       |                                                            | $    | (0.79 | )    |   | $ | (8.92  | )   
|                                                                        |                                                            |      |       |      |   |   |        |     

See accompanying notes.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

31





---



##### 



Notes to Consolidated Financial Statements

(CURRENCIES IN MILLIONS)

1. CREDITOR PROTECTION AND RESTRUCTURING

On April 1, 2003 Air Canada obtained an order from the Ontario Superior Court
of Justice (the Court) providing creditor protection under the Companies
Creditors Arrangement Act (CCAA). The initial order was amended by the Court
on April 25, 2003 and may be further amended by the Court throughout the CCAA
proceedings based on motions from Air Canada, its creditors and other
interested parties. On April 1, 2003, Air Canada, through its Court-appointed
Monitor, also made a concurrent petition for recognition and ancillary relief
under Section 304 of the U.S. Bankruptcy Code. The CCAA and U.S. proceedings
cover Air Canada and the following of its wholly-owned subsidiaries: Jazz Air
Inc., ZIP Air Inc., 3838722 Canada Inc., Air Canada Capital Ltd., Manoir
International Finance Inc., Simco Leasing Ltd., and Wingco Leasing Inc.
(collectively, the Applicants). Aeroplan Limited Partnership (Aeroplan),
Air Canada Vacations (ACV) and Destina.ca Inc. (Destina) are not included
in the filings.

The Court order and U.S. proceedings provide for a general stay period
that expires on June 30, 2003, subject to extension as the Court may deem
appropriate. This stay generally precludes parties from taking any action
against the Applicants for breach of contractual or other obligations. The
purpose of the stay period order is to provide the Applicants with relief
designed to stabilize operations and business relationships with customers,
vendors, employees and creditors. During the stay period, Air Canada is
developing its revised business plan and negotiating new arrangements with
creditors (including aircraft lessors) and labour unions with a view to having
those arrangements completed prior to proposing a final plan of arrangement.

The Applicants continue operations with the consent and assistance of the
Court-appointed Monitor and under the provisions of the Court orders. The
Applicants are undertaking an operational, commercial, financial and corporate
restructuring and will propose a plan of arrangement, which will be submitted
to the Court for confirmation after submission to any required vote to
creditors for approval. Under the plan of arrangement, claims against and
interests in the Applicants will be divided into classes according to their
seniority or similarity of interests and each class of creditors will vote on
the plan of arrangement as it pertains to that class. No rulings have yet been
made on the classification of affected creditors.

The filings triggered defaults on substantially all of the Applicants
debt and lease obligations. The stay period order stays most actions against
the Applicants, including employee group actions and most actions to collect
pre-filing indebtedness or to exercise control over the Applicants
property. The order also grants the Applicants with the authority to, among
other things, a) pay outstanding and future employee wages, salaries and
employee benefits and other employee obligations; b) honour obligations related
to airlines tickets and Aeroplan redemptions;
and c) honour obligations related to the Applicants interline, clearing
house, code sharing and other similar agreements.

Basis of Presentation

While the Company has filed for creditor protection, these financial statements
continue to be prepared using the generally accepted accounting principles
applied by the Company prior to its filings for creditor protection.
Accordingly, the financial statements presented have been prepared using the
same principles as those for a going concern. The creditor protection
proceedings provide for a period of time for the Company to stabilize its
operations and develop a plan of reorganization. As noted below, the DIP
financing has been approved by the courts. Management is currently developing a
plan to restructure the operations under creditor protection expecting a plan
to continue the operations as a going concern. During this period, management
will continue to operate the businesses within the constraints of the Court
orders. The plan is targeted to be filed with the courts in the third quarter
of 2003. Management believes that these actions make the going concern basis
appropriate, however, it is not possible to predict the outcome of these
matters and there is substantial doubt about the Corporations ability to
continue as a going concern. There can be no assurance that the results of
these actions will improve the financial condition of the Corporation. If the
going concern basis is not appropriate, adjustments may be necessary in the
carrying amounts and/or classification of assets, liabilities, revenues and
expenses in these financial statements. These financial statements do not
reflect any adjustments related to subsequent events related to conditions that
arose subsequent to December 31, 2002.

During the periods while the Company is under creditor protection, the
Company will reclassify certain amounts within its financial statements to
reflect the financial evolution of the operations during the proceedings to
distinguish transactions and events that are directly associated with the
reorganization from the ongoing operations of the business. In addition,
allowed claims under the proceedings may be recorded as liabilities. If the
restructuring and reorganization is successful and there is a substantial
realignment of the non-equity and equity interests in the Corporation, the
Corporation will be required to adopt fresh start reporting. Fresh start
reporting requires a comprehensive revaluation of the assets and liabilities of
the Corporation based on the reorganization value established and confirmed in
the Plan. These financial statements do not give effect to any adjustments that
may be required during the period in which the company is under creditor
protection or as a result of fresh start reporting.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

32



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##### 



FINANCING DURING CCAA PROCEEDINGS

GE DIP Financing

In conjunction with the filing, the Corporation has arranged for
debtor-in-possession (DIP) secured financing. On May 1, 2003, the Court
approved the Credit Agreement between Air Canada, as Borrower, and General
Electric Canada Finance Inc., as Administrative Agent, Collateral Agent and
Revolving Lender. The Credit Agreement also includes the Air Canada
subsidiaries included in the filing, as well as Aeroplan, ACV and Destina, as
credit parties to the agreement. The facility will be secured by all of the
unencumbered present and future assets of Air Canada and its direct and
indirect subsidiaries. Each of the credit parties to the agreement has
guaranteed payment of the Borrowers obligations.

The Credit Agreement is made up of a Credit Advance facility and a Letter
of Credit facility, with a maximum aggregate borrowing under the Credit
Agreement of US$700. The Credit Agreement can be drawn in either US or Canadian
funds and will be available in stages. The initial funding period is a Credit
Advance and Letter of Credit obligation in an aggregate amount of up to US$400,
of which CDN$350 was made available on May 1, 2003. The remainder of the funds
within the initial funding period will be available after a 21 day appeal
period which commenced on May 1st, subject to some security and other
documentation being put into place. The second funding period is a Credit
Advance and Letter of Credit obligation in an aggregate amount of up to US$700,
including amounts drawn under the initial funding period. The availability of
funds under the initial funding period is subject to certain conditions,
including the maintenance of a loan collateral ratio. The availability of funds
under the second funding period is subject to the conditions of the initial
funding period and additional conditions, including the maintenance of a
minimum EBITDAR (earnings (operating income) before depreciation, amortization,
obsolescence and aircraft rent); minimum cash balance requirements and; the
approval of the business plan by the lender.

Under the Credit Agreement, availability of funds is determined by a
formula based on a percentage of eligible assets. The eligible assets consist
of certain previously unencumbered aircraft, equipment, spare parts, real
estate, takeoff and landing slots, gates and routes, and accounts receivable.
The underlying value of the eligible assets may fluctuate periodically and such
fluctuations in value may have an impact on the availability of funds under the
Credit Agreement.

The Credit Agreement will have a term of up to the earliest of (a) the
effective date of a plan of arrangement in the CCAA proceeding and (b) the
prepayment in full by the Corporation of all amounts outstanding under the
Credit Agreement and the termination of the lenders commitments under the
agreement. The Credit Agreement may be accelerated upon the occurrence of an
event of default under the Credit Agreement and contains customary mandatory
prepayments including, among other things, the occurrence of certain asset
sales and the issuance of certain debt or equity securities.

US dollar borrowings under the Credit Advance bear interest at rates per
annum equal to either the US index rate plus 5% or the LIBOR rate plus 6.5%, at
the borrowers option. Canadian dollar borrowings under the Credit Advance
bear interest at rates per annum equal to either the Canadian Index rate plus
5% or the BA rate plus 6.5% at the borrowers option.

Closing and commitment fees under the Credit Agreement are US$40. An
unused facility fee is payable at 0.5% on unused facility less than US$100, at
0.75% for unused facility between US$100 and $200 and 1.0% for unused facility
greater than $200. Outstanding letters of credit draw a fee of 4%. An annual
collateral monitoring fee of US$0.5 is payable up until the effective date of a
plan of arrangement.

CIBC Financing

On April 17, 2003, Air Canada reached an agreement with CIBC on a new contract
with respect to the CIBC Aerogold Visa card program. The new contract is subject
to Court approval in the CCAA proceedings. As part of the new contract, CIBC
would make a miles prepayment of $350 million to Air Canada and pay the airline
a higher price per Aeroplan Mile acquired. The terms of the contract also call
for an extension to 2013.

Air Canada received on April 28 an unsolicited and non-binding expression
of interest for a credit card agreement with Aeroplan from a third party who
has requested that its identity not be disclosed. Following the Monitors
review of the proposal, the Monitor issued a report in which it recommended
that the motion to approve the CIBC credit card agreement and related financing
facility be adjourned in order to provide the Monitor with additional time to
conduct a process in which additional expressions of interest from alternative
credit card providers could be obtained. The Court granted the Monitors
request to adjourn the motion to approve the CIBC agreements and approved the
bid process recommended by the Monitor. The bid process ended May 10, 2003.
Several financial institutions submitted their bids for a credit card agreement
with Aeroplan. The Court is scheduled to review the Monitors recommendation
on May 14, 2003. It is uncertain at this time what the outcome of this process
will be.

Contributing Factors

During 2002 and continuing in 2003, the airline industry has suffered from a
weak economic environment and competitive pressures resulting from excess
capacity, lower demand and lower fares. In addition, the industry has
experienced challenging operating conditions from increased security measures,
increased user fees and insurance costs and high fuel prices. The outlook for
the industry remains uncertain reflecting decreasing demand for air travel
caused by continuing concerns over security, international conflicts, the
impact of Severe Acute Respiratory Syndrome (SARS) on the travel industry and
general economic conditions. During 2002, two major North American Airlines
commenced bankruptcy proceedings. The current situation and potential future
adverse events will likely result in continued financial difficulties for
airlines.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

33





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##### 



The Corporation became significantly leveraged in recent years. The 1999
share buy back which used $1,100 of cash, before partner contributions and
other funding arrangements of $705, and the unfavourable market conditions
affecting all major North American airlines resulting from the September 11,
2001 terrorists attacks were contributing factors. The Corporation had
significant debt as outlined in Notes 7 through 9. At December 31, 2002, the
aggregate carrying value of the Corporations debt was $4,687. Further, the
Corporation had significant commitments related to operating leases and
purchase commitments and employee benefit plans. Also contributing to the
liquidity concerns, on March 21,2003, the Office of the Superintendent of
Financial Institutions issued a Temporary Direction instructing Air Canada to
make pension contributions in an amount equal to the contribution holidays
taken in 2002 and to cease taking contribution holidays (refer to note 21). In
addition, the Corporation had fully utilized its existing credit lines.

In recent years, liquidity requirements were met in part by certain
financing transactions involving unencumbered assets and the sale and leaseback
of aircraft. These transactions had the impact of increasing future charges
such as lease and interest expense.

Beginning in 2002, Management undertook a plan designed to improve
liquidity, increase revenues and reduce costs including: (a) increased
participation and more effective competition in the low fare market through the
expansion of Tango and the launch of ZIP, (b) reducing distribution costs
through the use of new distribution models and (c) the launch of a Six Sigma
program, focusing on cost reduction, cash flow improvement and process
re-design. However these initiatives were not enough to overcome the
significant cost and liquidity challenges faced by the Corporation.

2.     NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES

Nature of Operations

Air Canada is Canadas largest domestic and international full service
airline, providing scheduled and charter air transportation for passengers and
cargo. The Air Canada family of brands includes Tango, ZIP, Air Canada Jazz,
and Air Canada Jetz. As at December 31, 2002, the Corporations route network
serves 148 destinations including 61 cities in Canada, 41 cities in the United
States and 46 other international destinations. Through commercial agreements
with independent regional carriers, an additional 21 North American communities
are served bringing the total network to 169 destinations on five continents.

Air Canada operates an extensive global network in conjunction with its
international airline partners. With Air Canadas strategic alliance and
commercial partnerships, during 2002, scheduled and charter air transportation
was offered to 700 destinations in more than 128 countries.

Supporting the airline business, the Corporation also provides airline
related services. Air Canada provides aircraft and engine maintenance services
to third parties. Aeroplan, Air Canadas loyalty program, rewards members
with travel rewards both for flying on Air Canada and its airline partners, and
for purchasing
services from other program participants. Air Canada Vacations, a Canadian tour
operator, provides packaged vacation solutions. In 2002 Air Canada launched
Destina.ca as a comprehensive online travel services site. Air Canada also
provides ground handling and other services to airlines and other customers.

Summary of Significant Accounting Policies

a) Basis of Presentation and Generally Accepted Accounting Principles

The consolidated financial statements are expressed in Canadian dollars and are
prepared in accordance with accounting principles generally accepted in Canada.
A reconciliation to generally accepted accounting principles in the United
States is provided in Note 20.

As further described in note 1, these consolidated financial statements
have been prepared in accordance with Canadian generally accepted accounting
principles applicable to a going concern, which assumes that the Corporation
will be able to realize its assets and discharge its liabilities in the normal
course of business in the foreseeable future.

b) Principles of Consolidation

These consolidated financial statements include the accounts of Air Canada as
well as all of the Corporations subsidiaries. There are no subsidiaries
that have not been consolidated where it would be appropriate to do so under
accounting principles generally accepted in Canada. All significant
intercompany balances and transactions are eliminated.

In April 2003, the Canadian Accounting Standards Board approved a new
Accounting Guideline on Consolidation of Variable Interest Entities
(AcG-15). AcG-15 requires an entity to identify variable interest entities
(VIEs) in which they have an interest and determine whether they are the
primary beneficiary of such entities. AcG-15 also provides guidance for
applying the principles in Subsidiaries, Section 1590. The Guideline is
harmonized with US Guidance. AcG-15 will be effective for all annual and
interim periods beginning on or after January 1, 2004. The Corporation
continues to evaluate the potential future impact this guideline will have on
its financial position and results of operations under both Canadian and US
GAAP.

c) Segment Reporting

The Corporation has one major business segment, air transportation and related
services.

d) Goodwill

Goodwill represents the excess of the acquisition costs of investments in
subsidiaries over the Corporations proportionate share of the fair value of
the net assets at the date of acquisition.

Effective January 1, 2002, the Corporation prospectively adopted the new
Canadian Institute of Chartered Accountants standard #3062  Goodwill and Other
Intangibles (CICA 3062), which no longer permits the amortization of goodwill
and other indefinite life intangibles but subjects these assets to fair value
impairment tests on at least an annual basis.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

34



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##### 



As required by CICA 3062, goodwill and indefinite life intangibles were
tested for impairment as of January 1, 2002. This transitional impairment test
was completed during the second quarter, and no impairment loss was recorded.

The annual impairment test was completed in the fourth quarter, and it was
determined that no impairment had occurred. Any impairment of goodwill would be
recognized as an expense in the period of impairment.

The following is what the reported loss would be for the year ended
December 31, 2001, after removing goodwill and indefinite life intangible
amortization expense:

|                                                              |  |      |       |      |  |   |        |  
|------------------------------------------------------------- |  | ---- | ----- | ---- |  | - | ------ | -
|Year ended December 31                                        |  | 2002 |       | 2001
|                                                              |  |      |       |     
|Reported loss                                                 |  | $    | (828  | )    |  | $ | (1,315 | )
|Add back: Goodwill amortization                               |  |      |      |      |  |   | 17     |  
|Add back: Amortization of route rights
and slot purchase cost |  |      |      |      |  |   | 5      |  
|                                                              |  |      |       |      |  |   |        |  
|Adjusted income loss for the period                           |  | $    | (828  | )    |  | $ | (1,293 | )
|                                                              |  |      |       |      |  |   |        |  
|Basic and diluted earnings per share                          |  | $    | (6.89 | )    |  | $ | (10.95 | )
|Add Back: Goodwill amortization                               |  |      |      |      |  |   | 0.14   |  
|Add Back: Amortization of route rights
and slot purchase cost |  |      |      |      |  |   | 0.04   |  
|                                                              |  |      |       |      |  |   |        |  
|Adjusted basic and diluted
earnings per share                 |  | $    | (6.89 | )    |  | $ | (10.77 | )
|                                                              |  |      |       |      |  |   |        |  

e) Use of Estimates

The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the amounts reported in the financial statements and accompanying
notes. Actual results could differ from those estimates.

f) Foreign Currency Translation

Monetary assets and liabilities denominated in foreign currencies are
translated into Canadian dollars at rates of exchange in effect at the date of
the consolidated statement of financial position. Gains or losses are included
in income of the year. Non-monetary assets, non-monetary liabilities, revenues
and expenses arising from transactions denominated in foreign currencies, are
translated at rates of exchange in effect at the date of the transaction.

Effective January 1, 2002, the Corporation retroactively adopted, with
restatement of prior periods, the amendments to Canadian Institute of Chartered
Accountants standard #1650  Foreign Currency Translation (CICA 1650), which
no longer permits the deferral and amortization of unrealized translation gains
and losses on long-term foreign currency denominated assets and liabilities.

The impact of CICA 1650 as at January 1, 2001 is a charge to the deficit
of $461 (charge of $522 as at December 31, 2001). Based on December 31, 2000
balances, this charge is the write off of deferred foreign exchange losses on
long-term debt of $119 ($157 as at December 31, 2001) and the recording of
foreign exchange losses on subordinated perpetual debt of $410 ($365
as at December 31, 2001), net of a tax asset of $68 (nil as at December 31,
2001). The impact on loss for the year ended December 31, 2001 is unfavourable
$61 or $0.52 per share, basic and diluted. The impact on loss for the year
ended December 31, 2002 is unfavourable $33 or $.28 per share, basic and
diluted.

g) Cash and Cash Equivalents

Cash includes short-term investments of $343 (2001 $1,021). All short-term
investments may be liquidated promptly and have maturities of less than
ninety days.

h) Spare Parts, Materials and Supplies

Spare parts, materials and supplies are valued at average cost. A provision for
the obsolescence of flight equipment spare parts is accumulated over the
estimated service lives of the related flight equipment to a 30% residual
value.

i) Air Transportation Revenues

Airline passenger and cargo sales are deferred and included in current
liabilities. Passenger and cargo revenues are recognized when the
transportation is provided. Due to the complex pricing structures and the
complex nature of interline agreements used throughout the industry, certain
amounts recognized as revenue are based on estimates as to timing and amount.

j) Employee Future Benefits

The significant policies related to employee future benefits are as follows:

| 
|-
|
| 
|
| 
|
| 
|

k) Property and Equipment

Property and equipment is stated at cost. Property under capital leases and the
related obligation for future lease payments are initially recorded at an
amount equal to the then present value of those lease payments. Property and
equipment is carried at the lesser of amortized cost and net recoverable
amount.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

35



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##### 



Operating property and equipment, including property under capital lease,
are depreciated to estimated residual values based on the straight-line method
over their estimated service lives. Mainline aircraft and flight equipment are
depreciated over 20 to 25 years, with 10 to 15% estimated residual values.
Regional aircraft and flight equipment are depreciated over 20 years, with 20%
estimated residual values. Aircraft reconfiguration costs are amortized over 3
years. Aircraft introduction costs are amortized over 4 years. Betterments to
owned aircraft are capitalized and amortized over the remaining service life of
the aircraft. Betterments to aircraft on operating leases are amortized over
the term of the lease.

l) Maintenance and Repairs

Maintenance and repair costs are charged to operating expenses as incurred,
with the exception of maintenance and repair costs related to return
conditions on short-term aircraft leases, which are accrued over the term of
the lease.

m) Other Operating Expenses

Included in other operating expenses are expenses related to computer network
and information technology costs, computer reservation service charges,
building rent and maintenance, terminal handling, professional fees and
services, crew meals and hotels, advertising and promotion, insurance costs,
credit card fees, and other expenses.

n) Loyalty Program

The incremental cost of providing travel awards for mileage credits earned
through air travel is charged to expense when the mileage credits are issued.
The proceeds from the sale of mileage credits to third parties are deferred and
recognized as revenue as these credits are redeemed.

The current portion of incremental cost and the current portion of
deferred revenue liabilities are included in accounts payable. The
determination of the current portion is based on managements estimate as to
the portion of the liabilities that will be extinguished in the next twelve
months. The remainder of the liabilities are carried in other long-term
liabilities.

o) Interest Capitalized

Interest on funds used to finance the acquisition of new flight equipment and
other property and equipment is capitalized for periods preceding the dates the
assets are available for service. The interest rate used for capitalization is
based on the Corporations weighted average interest rate as disclosed in
note 7.

p) Deferred Credits

Gains on sale and leaseback transactions are deferred and amortized to income
over the terms of the leases as a reduction of rental expense.

Contributions received in exchange for extensions to commercial
agreements are deferred and amortized over the life of the contract
extension as other revenues.

q) Income Taxes

The Corporation utilizes the liability method of accounting for income taxes
under which future income tax assets and liabilities are recognized for the
estimated future tax consequences attributable to differences between the
financial statement carrying amount and the tax basis of assets and
liabilities. Future income tax assets are measured using substantively enacted
tax rates in effect for the year in which those temporary differences are
expected to be recovered or settled. The effect on future income tax assets and
liabilities of a change in tax rates is recognized in earnings in the period
that includes the enactment date.

Future income tax assets are recognized to the extent that realization is
considered more likely than not. The assessment as to the future realization of
future income tax assets, including loss carryforwards, requires considerable
judgment. Future realization of tax assets is dependent upon sufficient taxable
income of an appropriate nature within the carryforward periods available under
the appropriate tax laws. The assessment of realization is based upon the
weight of evidence at the respective balance sheet date.

r) Stock-Based Compensation Plans

Effective January 1, 2002, the Corporation prospectively adopted the new
Canadian Institute of Chartered Accountants standard #3870  Stock-Based
Compensation and Other Stock-Based Payments (CICA 3870). As recommended by
CICA 3870, the Corporation adopted the fair value method to account for
stock-based transactions with employees. The Corporation has a stock option
plan as described in note 12. The fair value of stock options granted is
recognized as a charge to salary and wage expense over the applicable vesting
period, with an offset to contributed surplus. When stock options are
exercised, the consideration paid by employees, together with the amount in
contributed surplus, is credited to share capital.

The Corporation also has share appreciation plans, described in note 12.
Compensation costs are accrued up until the first date of redemption at the
amount by which the market value of the shares exceeds the value specified
under the plan. Any subsequent change in the market value of the shares is
recording in income thereafter.

s) Financial Instruments and Hedging Activities

The Corporation manages its exposure to changes in interest rates, foreign
exchange rates and jet fuel prices through the use of various derivative
financial instruments. The Corporation formally documents all relationships
between hedging instruments and hedged items, as well as its risk management
objective and strategy for undertaking various hedge transactions. The
Corporation assesses the effectiveness, both at the inception of the hedging
relationship and throughout its term, of the derivative used at offsetting
changes in fair value or cash flows of the hedged item. Realized and unrealized
gains or losses associated with derivative instruments used in a hedging
relationship, which have been terminated or cease to be effective prior to
maturity, are deferred and recognized in income in the period in which the
hedged transaction is recognized. When an anticipated transaction that is being
hedged by a

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

36



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##### 



derivative instrument is no longer expected to occur at the
time or in the amount as when identified at the inception of the hedging
relationship, any deferred amounts related to the derivative instrument are
taken into income.

The Corporation manages its foreign exchange exposure on long-term debt
and anticipated transactions, as appropriate, through the use of options,
forward contracts and cross currency swaps with unrelated creditworthy third
parties. Foreign exchange translation gains and losses are accrued and offset
gains and losses resulting from the underlying hedged transaction. Premiums and
discounts are amortized over the term of the contracts.

The Corporation enters into interest rate swap agreements to manage its
exposure to changes in interest rates on long-term debt, as appropriate. Net
receipts or payments under the Corporations swap agreements are accrued as
adjustments to interest expense.

The Corporation enters into fuel hedging arrangements through the use of
derivative financial instruments to manage its exposure to jet fuel price
volatility. Resulting gains and losses are recorded as adjustments to fuel
expense, using the settlement method, as fuel is purchased. Premiums and
discounts are amortized over the term of the contracts.

The Corporation may designate a hedging relationship, using an anticipated
transaction as the hedging item, and apply hedge accounting when it is probable
that the anticipated transaction will occur at both the time and in the amount
expected. In 2002, the Corporation designated a portion of future net foreign
currency revenue streams as a hedge against a majority of the subordinated
perpetual debt. Translation gains and losses on subordinated perpetual debt
that is hedged by future net foreign currency revenue streams is deferred to be
offset against the exchange gain or loss on the revenue transactions resulting
from the revenue transaction being recorded at the exchange rates in effect on
inception of the hedge.

Consistent with the delay in the effective date of the new Canadian
Institute of Chartered Accountants Accounting Guideline 13  Hedging
Relationships to fiscal years beginning after July 1, 2003, the Corporation has
delayed the adoption of this guideline to January 1, 2004. The new guideline
will require an entity to identify and document the nature of a hedging
relationship at the inception of the hedge. It also will require an entity to
test the hedging relationship for effectiveness both at the inception of the
hedge and throughout its term. The Corporation continues to review the
potential future impact this guideline will have on its financial position and
results of operations.

t) Route Rights and Slot Purchase Costs

Indefinite life route rights and slot purchase costs that will be used on an
ongoing basis are carried at cost and not amortized. Indefinite life route
rights and slot purchase costs are subject to annual impairment tests. The fair
value of indefinite life route rights and slot purchase costs, and any
impairment of that value, is assessed by reference to cash flows. Any
impairment would be
recognized as an expense in the period of impairment. Route rights and slot
purchase costs with a fixed expiry are amortized over the term of the contract.

As described in note 2(d), effective January 1, 2002, the Corporation
prospectively adopted CICA 3062.

u) Non-recurring Labour

Non-recurring labour expenses, in the year 2002, represent costs for completing
the collective agreement between the Corporation and the Canadian Union of
Public Employees (CUPE), representing Air Canada s 8000 flight attendants.
The total expense has been recorded in 2002 and the payments will be made over
a three year period. The ratification of the CUPE agreement formally concludes
the integration of Air Canada and Canadian Airlines.

v) Deferred Financing Costs

Included in deferred charges are deferred financing costs, including bond
discounts and lease transaction fees, which are amortized on a straight-line
basis over the term of the related obligation.

w) Aircraft lease payments in excess of or less than rent expense

Total aircraft operating lease rentals over the lease term are amortized to
operating expense on a straight-line basis. Included in deferred charges and
deferred credits is the difference between the straight line aircraft rent
expense and the payments as stipulated under the lease agreement. Aircraft rent
expense also includes an accrual for any expected deficiency under a residual
value guarantee, if required.

x) Comparative Figures

Certain comparative figures have been reclassified to conform with the
financial statement presentation adopted in the current year.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

37



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##### 



3. PROPERTY AND
EQUIPMENT

|                                          |  |      |       |      |  |   |       | 
|----------------------------------------- |  | ---- | ----- | ---- |  | - | ----- | 
|                                          |  | 2002 |       | 2001
|                                          |  |      |       |     
|Cost                                      |  |      |       |      |  |   |       | 
|Flight equipment                          |  | $    | 2,533 |      |  | $ | 2,833 | 
|Other property and equipment              |  |      | 1,874 |      |  |   | 1,753 | 
|                                          |  |      |       |      |  |   |       | 
|                                          |  |      | 4,407 |      |  |   | 4,586 | 
|                                          |  |      |       |      |  |   |       | 
|Accumulated depreciation and amortization |  |      |       |      |  |   |       | 
|Flight equipment                          |  |      | 1,288 |      |  |   | 1,252 | 
|Other property and equipment              |  |      | 1,091 |      |  |   | 986   | 
|                                          |  |      |       |      |  |   |       | 
|                                          |  |      | 2,379 |      |  |   | 2,238 | 
|                                          |  |      |       |      |  |   |       | 
|                                          |  |      | 2,028 |      |  |   | 2,348 | 
|Progress payments                         |  |      | 251   |      |  |   | 482   | 
|                                          |  |      |       |      |  |   |       | 
|Property and equipment at net book value  |  | $    | 2,279 |      |  | $ | 2,830 | 
|                                          |  |      |       |      |  |   |       | 

Included in flight equipment are nine aircraft under capital leases
(2001 - nine) with a cost of $401 (2001 - $401) less accumulated depreciation
of $91 (2001 - $53) for a net book value of $310 (2001 - $348). Included in
other property and equipment is computer equipment and facilities under
capital leases with a cost of $104 (2001 - $50) less accumulated depreciation
of $10 (2001 - $2) for a net book value of $94 (2001 - $48).

Interest capitalized during the year amounted to $25 using an average
interest rate of 8.1% (2001 $39 at 8.3%).

As at
December 31, 2002, flight equipment included 20 DC-9s
(2001 - 23), three B747-200s (2001 - three), three
B767-200s (2001 - three),
four B737 (2001 - three) and 28 F28 aircraft (2001 - eight) which are retired
from active service with a net book value of $46 (2001 - $79) which
approximates net recoverable value.

4. DEFERRED CHARGES

|                                                      |  |      |       |      |  |   |       | 
|----------------------------------------------------- |  | ---- | ----- | ---- |  | - | ----- | 
|                                                      |  | 2002 |       | 2001
|                                                      |  |      |       |     
|Aircraft lease payments in excess of rent expense
(1) |  | $    | 1,489 |      |  | $ | 1,408 | 
|Financing costs                                       |  |      | 135   |      |  |   | 148   | 
|Foreign exchange hedges                               |  |      | 105   |      |  |   |      | 
|Aircraft introduction costs                           |  |      | 21    |      |  |   | 23    | 
|Other                                                 |  |      | 31    |      |  |   | 40    | 
|                                                      |  |      |       |      |  |   |       | 
|Deferred charges                                      |  | $    | 1,781 |      |  | $ | 1,619 | 
|                                                      |  |      |       |      |  |   |       | 



|(1) |  | In 2002, the Corporation completed a transaction whereby lease
rebates of $150 ($145 net of transaction fees) were recovered from
16 aircraft operating leases. The rebates were made possible due to
a decline in interest rates since the inception of these leases and
accelerates the rebates that would have otherwise been received at
the end of the lease. While increasing current liquidity, this
transaction may have the adverse impact of increasing aircraft rent
expense in the future.
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

5. OTHER ASSETS

|                                                     |  |      |       |      |  |   |       | 
|---------------------------------------------------- |  | ---- | ----- | ---- |  | - | ----- | 
|                                                     |  | 2002 |       | 2001
|                                                     |  |      |       |     
|Prepaid
pension asset (Note 16)                      |  | $    | 562   |      |  | $ | 670   | 
|Security and other deposits                          |  |      | 228   |      |  |   | 192   | 
|Notes
and other long-term receivables(1)             |  |      | 126   |      |  |   | 147   | 
|Indefinite life route rights and slot purchase
costs |  |      | 84    |      |  |   | 84    | 
|Directors
and Officers Trust(2)                    |  |      | 30    |      |  |   | 10    | 
|Other                                                |  |      | 41    |      |  |   | 43    | 
|                                                     |  |      |       |      |  |   |       | 
|Other assets                                         |  | $    | 1,071 |      |  | $ | 1,146 | 
|                                                     |  |      |       |      |  |   |       | 



|(1) |  | Notes receivable in the amount of $126 bear interest at a weighted
average rate of 11.2% (2001 - 11.1%) and mature 2005 through 2010. The carrying value of
notes
receivable approximates fair value.
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|(2) |  | The Directors and Officers Trust represents restricted funds
placed in trust for the use
of the Directors and Officers of the Corporation under certain circumstances.                             

6. NON-OPERATING INCOME
(EXPENSE)

|                                                            |  |      |      |      |  |   |      |  
|----------------------------------------------------------- |  | ---- | ---- | ---- |  | - | ---- | -
|                                                            |  | 2002 |      | 2001
|                                                            |  |      |      |     
|Net interest expense                                        |  |      |      |      |  |   |      |  
|Interest income                                             |  | $    | 44   |      |  | $ | 38   |  
|Interest expense                                            |  |      | (290 | )    |  |   | (352 | )
|Interest capitalized                                        |  |      | 25   |      |  |   | 39   |  
|                                                            |  |      |      |      |  |   |      |  
|Total                                                       |  |      | (221 | )    |  |   | (275 | )
|                                                            |  |      |      |      |  |   |      |  
|Gain (loss) on sale of
and provision on assets              |  |      |      |      |  |   |      |  
|Gain on sale of investments                                 |  |      | 9    |      |  |   | 11   |  
|Gain on sale of assets to Greater
Toronto Airport Authority |  |      |     |      |  |   | 73   |  
|Provision for loss on aircraft
and inventory                |  |      | (32  | )    |  |   | (176 | )
|Other                                                       |  |      | (19  | )    |  |   | 7    |  
|                                                            |  |      |      |      |  |   |      |  
|Total                                                       |  |      | (42  | )    |  |   | (85  | )
|                                                            |  |      |      |      |  |   |      |  
|Other                                                       |  |      |      |      |  |   |      |  
|Gain on purchase of debt                                    |  |      | 118  |      |  |   | 52   |  
|Government of Canada assistance                             |  |      | (37  | )    |  |   | 105  |  
|Financing and other                                         |  |      | 16   |      |  |   | (31  | )
|                                                            |  |      |      |      |  |   |      |  
|Total                                                       |  |      | 97   |      |  |   | 126  |  
|                                                            |  |      |      |      |  |   |      |  
|Total                                                       |  | $    | (166 | )    |  | $ | (234 | )
|                                                            |  |      |      |      |  |   |      |  

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

38



---



##### 



Provision for Loss on Aircraft and Inventory

In 2002 the Corporation recorded provisions of $32 related to non-operating
aircraft and spare parts. Similarly in 2001 the Corporation recorded provisions
of $176 related to aircraft and spare parts and future payments on leased
aircraft. The provisions in 2001 were recorded on both non-operating aircraft
and on aircraft planned to be removed from active service. These provisions are
based on managements best estimate of the net recoverable value of aircraft
and spare parts and on undiscounted projected obligations for lease agreements.

Government of Canada Assistance

In 2001 the Government of Canada announced a program to provide compensation to
Canadian air carriers for losses resulting from the closure of Canadas
airspace following the terrorist attacks in the United States on September 11,
2001. Losses that occurred from September 11th through September 16th
attributable to the closure of Canadian airspace were considered for
compensation under this program. In 2001 the Corporation recorded $105
representing the amount expected to be realized from its claim under this
compensation program.

The Corporations claim was subject to review by the Government of
Canada. In 2002 the Corporation recorded a $37 charge to income as the
Government disallowed a portion of its claim.

7. LONG-TERM AND SUBORDINATED PERPETUAL DEBT AND CAPITAL LEASE OBLIGATIONS

|                                                                        |  |                |                 |                   |  |      |     |      |        |  |  |   |       |   |  |   |       |   | 
|----------------------------------------------------------------------- |  | -------------- | --------------- | ----------------- |  | ---- | --- | ---- | ------ |  |  | - | ----- | - |  | - | ----- | - | 
|                                                                        |  | Final Maturity |                 | Interest Rate (%) |  | 2002 |     | 2001
|                                                                        |  |                |                 |                   |  |      |     |     
|US
dollar debt (a)                                                      |  |                | 2005 - 2015     |                   |  |      | 2.1 | -    | $10.25 |  |  | $ | 1,339 |   |  | $ | 1,472 |  
|Canadian dollar debt (b)                                                |  |                | 2003 - 2009     |                   |  |      | 5.0 | -    | 10.00  |  |  |   | 980   |   |  |   | 1,152 |  
|Euro debt (c)                                                           |  |                | 2005 - 2011     |                   |  |      | 6.6 | -    | 10.25  |  |  |   | 486   |   |  |   | 444   |  
|Swiss
franc debt (d)                                                    |  |                | 2002            |                   |  |      |    |      |        |  |  |   |      |   |  |   | 178   |  
|Japanese
yen notes (e)                                                  |  |                | 2007            |                   |  |      | 1.9 |      |        |  |  |   | 94    |   |  |   | 104   |  
|                                                                        |  |                |                 |                   |  |      |     |      |        |  |  |   |       |   |  |   |       |  
|                                                                        |  |                |                 |                   |  |      |     |      |        |  |  |   | 2,899 |   |  |   | 3,350 |  
|                                                                        |  |                |                 |                   |  |      |     |      |        |  |  |   |       |   |  |   |       |  
|Convertible
subordinated debentures (note 8)                            |  |                |                 |                   |  |      |     |      |        |  |  |   | 131   |   |  |   | 129   |  
|Subordinated
perpetual debt (note 9)                                    |  |                |                 |                   |  |      |     |      |        |  |  |   | 1,193 |   |  |   | 1,172 |  
|Capital
lease obligations (f)                                           |  |                | 2003   -   2028 |                   |  |      | 3.0 | -    | 11.8   |  |  |   | 464   |   |  |   | 460   |  
|                                                                        |  |                |                 |                   |  |      |     |      |        |  |  |   |       |   |  |   |       |  
|                                                                        |  |                |                 |                   |  |      |     |      |        |  |  |   | 4,687 |   |  |   | 5,111 |  
|                                                                        |  |                |                 |                   |  |      |     |      |        |  |  |   |       |   |  |   |       |  
|Current portion of long-term debt                                       |  |                |                 |                   |  |      |     |      |        |  |  |   | (373  | ) |  |   | (531  | )
|                                                                        |  |                |                 |                   |  |      |     |      |        |  |  |   |       |   |  |   |       |  
|Long-term and subordinated perpetual debt
and capital lease obligations |  |                |                 |                   |  |      |     |      |        |  |  | $ | 4,314 |   |  | $ | 4,580 |  
|                                                                        |  |                |                 |                   |  |      |     |      |        |  |  |   |       |   |  |   |       |  

All debt is unsecured with the exception of subsidiaries debt totalling $131
(2001 - $78), which is secured by certain of their assets, and capital lease
obligations totalling $464 (2001 - $460).

Interest paid on long-term and subordinated debt and capital lease
obligations in 2002 was $283 (2001 - $303) at a weighted average interest rate
of 8.2% (2001 - 8.4%). By currency, the weighted average interest rate for 2002
is broken down as follows: Canadian dollar debt  7.4%; US
dollar debt  8.3%;
Euro debt 11.2%; Swiss franc debt  8.3% and Japanese yen debt
 7.0%.

Principal repayment requirements for the next five years are as follows:

|                                    |  |      |     |      |  |      |     |      |  |      |     |  |  |   |     |  |  |   |     | 
|----------------------------------- |  | ---- | --- | ---- |  | ---- | --- | ---- |  | ---- | --- |  |  | - | --- |  |  | - | --- | 
|                                    |  | 2003 |     | 2004 |  | 2005 |     | 2006 |  | 2007
|                                    |  |      |     |      |  |      |     |      |  |     
|Long-term debt                      |  | $    | 277 |      |  | $    | 591 |      |  | $    | 300 |  |  | $ | 563 |  |  | $ | 306 | 
|Capital lease
principal obligations |  | $    | 96  |      |  | $    | 87  |      |  | $    | 37  |  |  | $ | 57  |  |  | $ | 84  | 



|a) |  | As at December 31, 2002, US dollar debt totalled US$848, of which US$415
is at floating interest rates based on US dollar LIBOR. Approximately 5%
of the 2003 interest rate exposure on the floating rate US dollar debt is
hedged by short-term interest rate contracts. US$848 debt is comprised of
the following:
|-- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | US$138 borrowing maturing in 2005 redeemable on any
interest payment date.                                                                                                                                                                                                                                                                                                                                                                             
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | US$154 borrowing maturing in 2007 redeemable on any
interest payment date.                                                                                                                                                                                                                                                                                                                                                                             
|
| |  |  | US$51 borrowing maturing in 2008 redeemable in whole
or in part any time, with an indemnity.                                                                                                                                                                                                                                                                                                                                                           
|
| |  |  | US$175 borrowing maturing in 2009 redeemable in whole
or in part at any time.                                                                                                                                                                                                                                                                                                                                                                          
|
| |  |  | US$280 borrowing maturing in 2011 redeemable in whole
or in part at any time, with an indemnity. The Corporation
has entered into a cross currency swap with an unrelated
creditworthy third party, which effectively converts the
borrowing with a fixed rate of interest into a Japanese yen
borrowing with rates of interest varying over time and
a variable settlement amount. This cross currency swap
is in place for the term of the borrowing.
|
| |  |  | US$50 borrowing maturing in 2015 redeemable on any
interest payment date.                                                                                                                                                                                                                                                                                                                                                                              

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

39



---



##### 





|b) |  | As at December 31, 2002, Canadian dollar debt totalled $980
and is comprised of the following:
|-- |  | ----------------------------------------------------------------------------------------------



| |  |  | $175 borrowing maturing in 2004                                                            
| | - |  | -------------------------------------------------------------------------------------------
|
| |  |  | $248 borrowing maturing in 2006                                                            
|
| |  |  | $204 borrowing maturing in 2007 redeemable in whole or
in part any time, with an indemnity.

These borrowings have fixed rates of interest.

A committed and unsecured revolving credit facility at a floating interest
rate with a group of financial institutions in Canada. As at December 31, 2002,
the facility is fully drawn at $300. The availability of funds under the
facility declines progressively until maturity in 2004, with $62 due in 2003
and the remainder in 2004. These repayments under the credit facility are also
included in the five year debt repayment schedule above.

Various other Canadian dollar denominated subsidiary debt totalling $53,
of which $8 is at floating interest rates.



|c) |  | As at December 31, 2002, fixed rate Euro debt totalled
310 EUR and is comprised of the following:
|-- |  | -------------------------------------------------------------------------------------------------



| |  |  | 85 EUR borrowing maturing in 2011 redeemable in whole
or in part any time, with an indemnity.                                                                                                                                                         
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | 130 EUR borrowing maturing in 2006.                                                                                                                                                                                                                   
|
| |  |  | 95 EUR borrowing maturing in 2005. The Corporation has
entered into an arrangement, with unrelated creditworthy
third parties, related to this debt effectively converting 95
EUR fixed rate debt into Canadian floating rate debt until
January 2005.



|d) |  | Swiss franc debt matured and was repaid in 2002.                                                                                                                                                                                                                                                  
|-- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|  
|e) |  | As at December 31, 2002, Japanese yen debt was comprised of
7,143 JPY notes to be repaid in equal semi-annual installments
ending October 2007. The interest rate on the notes was reset
in 2002 based on interest rate indices. These notes are
redeemable in whole on any interest payment date.
|  
|f) |  | Included in capital lease obligations are computer equipment,
facilities and a total of nine aircraft. Capital lease obligations
total $464 (C$219, US$135, and 2,404 Japanese yen). Future
minimum lease payments are $685, which includes $221 of
interest.                                     

8. CONVERTIBLE SUBORDINATED
DEBENTURES

In December 1999, the Corporation issued $150 convertible subordinated
debentures which have an annual interest rate of 7.25%, payable quarterly, and
are convertible at $16.00, at the holders option, into Air Canada common
shares and Class A non-voting common shares (Class A shares) at any time up
to and including maturity in December 2009. This equals a rate of 6.25 shares
per $100.00 principal amount of convertible subordinated debentures. There are
no principal payments until maturity in 2009.

The Corporation can force conversion into common shares and Class A shares
at any time following the seventh anniversary of the issue if the weighted
average closing price of the shares of the Corporation for the 20 trading days
prior to the date of the redemption provides the holder an internal rate of
return of at least 12% for the period commencing from the date of issuance of
the convertible subordinated debentures and ending on the redemption date. The
internal rate of return calculation includes interest payments made by the
Corporation under the convertible subordinated debentures and the excess of the
weighted average closing price above $16.00.

$131 of the convertible subordinated debentures, representing the present
value of interest and principal payments to December 2009, is classified as
long-term debt. An amount of $25, representing the value of the conversion
option, is classified as share capital. Over the life of this instrument, the
$131 will be increased to $150 to provide an annual interest expense equal to
the then market interest rate of similar debt instruments of 10%.

These debentures rank subordinate to all obligations and debt, excluding
subordinated perpetual debt.

9. SUBORDINATED PERPETUAL DEBT

|                                                                               |  |      |       |      |  |   |       | 
|------------------------------------------------------------------------------ |  | ---- | ----- | ---- |  | - | ----- | 
|                                                                               |  | 2002 |       | 2001
|                                                                               |  |      |       |     
|34,000 (2001 45,000) Japanese yen
at 2.60% until 2004                          |  |      |       |      |  |   |       | 
|Callable
in 2004 and every fifth year thereafter at par (a)                    |  | $    | 452   |      |  | $ | 547   | 
|300 Swiss francs at 6.25%                                                      |  |      |       |      |  |   |       | 
|Callable in 2006 and every fifth year
thereafter at 102% of par                |  |      | 343   |      |  |   | 288   | 
|200 Swiss francs at 5.75%                                                      |  |      |       |      |  |   |       | 
|Callable at
102% of par in 2004 and every fifth year thereafter at 102% of
par |  |      | 228   |      |  |   | 192   | 
|102 Euro at 5.5%                                                               |  |      |       |      |  |   |       | 
|Callable until March 2003 and every third year
thereafter at par (b)           |  |      | 170   |      |  |   | 145   | 
|                                                                               |  |      |       |      |  |   |       | 
|Subordinated perpetual debt                                                    |  | $    | 1,193 |      |  | $ | 1,172 | 
|                                                                               |  |      |       |      |  |   |       | 

As described in note 2f), the Corporation retroactively adopted, with
restatement of prior periods, the amendments to CICA 1650  Foreign Currency
Translation. Prior to the adoption of the amendments to CICA 1650, the effect
of foreign exchange on subordinated perpetual debt was not recorded in income
but offset against the debt.

The maturity of this subordinated perpetual debt is only upon the
liquidation, if ever, of the Corporation. Principal and interest payments on
the debt are unsecured and are subordinated to the prior payment in full of all
indebtedness for borrowed money.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

40



---



##### 





|a) |  | The interest rate on the yen subordinated perpetual debt is 2.60% until
2004 and will be reset for each subsequent five-year reset period based
upon a capped spread over the Japanese long-term prime lending rate. In
2002, through a subscription arrangement with a major financial
institution, the Corporation purchased from certain syndicate loan members
their rights to 7,500 JPY in this borrowing. Together with 1999 through
2001 purchases, the Corporation now holds the rights to 22,500 JPY in this
borrowing. In addition, in 2002 the Corporation repurchased and cancelled
3,500 JPY in this borrowing. A gain of $92 was recorded in 2002 on these
repurchases of yen subordinated perpetual debt.
|-- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|  
|   |  | The Corporation has entered into an interest rate swap effectively fixing
the next interest rate reset for 15% of the outstanding principal at
interest rates similar to that currently being paid.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|  
|b) |  | The interest rate on the Euro subordinated perpetual bonds is 5.5% until
March, 2003 and will be reset for each subsequent three-year reset
period based upon an index of German unsecured domestic debt.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               

10. OTHER LONG-TERM LIABILITIES

|                               |  |      |       |      |  |   |       | 
|------------------------------ |  | ---- | ----- | ---- |  | - | ----- | 
|                               |  | 2002 |       | 2001
|                               |  |      |       |     
|Employee Future Benefits       |  | $    | 835   |      |  | $ | 737   | 
|Loyalty Program                |  |      | 384   |      |  |   | 377   | 
|Long-term employee liabilities |  |      | 108   |      |  |   | 78    | 
|Other                          |  |      | 78    |      |  |   | 87    | 
|                               |  |      |       |      |  |   |       | 
|Other long-term liabilities    |  | $    | 1,405 |      |  | $ | 1,279 | 
|                               |  |      |       |      |  |   |       | 

11. DEFERRED CREDITS

|                                                                              |  |      |       |      |  |   |       | 
|----------------------------------------------------------------------------- |  | ---- | ----- | ---- |  | - | ----- | 
|                                                                              |  | 2002 |       | 2001
|                                                                              |  |      |       |     
|Gain on sale and leaseback of assets                                          |  | $    | 786   |      |  | $ | 799   | 
|Aircraft rent expense in excess of lease payments                             |  |      | 327   |      |  |   | 333   | 
|Contributions received in exchange for extensions
of commercial agreements(1) |  |      | 241   |      |  |   | 275   | 
|Other                                                                         |  |      | 7     |      |  |   | 9     | 
|                                                                              |  |      |       |      |  |   |       | 
|Deferred credits                                                              |  | $    | 1,361 |      |  | $ | 1,416 | 
|                                                                              |  |      |       |      |  |   |       | 



|(1) |  | Contributions received in exchange for extensions of commercial
agreements relate to the Star Alliance contract as described in note 12
and a contract extension with the Canadian Imperial Bank of Commerce
(CIBC), an Aeroplan program partner. The CIBC agreement provides for
events of termination related to a material breach of the terms of the
agreement. If there should occur a termination of this agreement for any
reason other than as a result of a failure by CIBC to fulfill its
obligations, Air Canada will reimburse to CIBC the remaining future value
of the contribution received in exchange for the contract extension,
including interest at 6%.
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

12. SHARE CAPITAL AND OTHER EQUITY

The authorized capital of the Corporation consists of an unlimited number of
common shares, Class A non-voting common shares (Class A shares), Class A
preferred shares issuable in series and Class B preferred shares issuable in
series. The Corporations Articles of Incorporation under provisions of the
Canada Business Corporations Act include a limit on aggregate non-resident
ownership of common shares or other voting shares of 25%. On February 2, 2002,
Bill C-38 was proclaimed in force removing the previously existing limit on
individual ownership of voting shares in Air Canada.

In 1999, the Corporation issued 10 million Class A Convertible
Participating Non-Voting Preferred Shares, Series 1 (Series 1 preferred
shares) to Expo Investment Partnership, L.P., a partnership formed by UAL
Corporation (UAL) and Deutsche Lufthansa AC
(Lufthansa), two of Air CanadaS Star Alliance partners. These shares are entitled to receive dividends
equal to the amount paid to holders of the Corporations common shares. The
shares are not redeemable by the Corporation prior to December 31, 2009, unless
either of the partners ceases to be a participant in the Star Alliance and as a
result the Corporation terminates its Alliance Agreement or either partner is
in breach of any Alliance Agreement which leads to the Corporation terminating
its Alliance Agreement. On or after December 31, 2009, the Corporation may
redeem the shares for $25.00 per share plus declared and unpaid dividends and a
gross-up for dividends and deemed dividends. The holder of the Preferred Shares
has the option to require the Corporation to redeem the Preferred Shares at
$25.00 per share (plus a premium of 1% in the event there is a change of
control of the Corporation and a gross-up for dividends and deemed dividends)
if: the Corporation breaches an Alliance Agreement in a manner which does or
could reasonably be expected to have a material impact; a breach of certain
covenants occurs; a change of control of the Corporation occurs that does or is
reasonably expected to have a material impact; or the Corporation refuses to
extend the Alliance Agreements after they expire at any time on or after
December 31, 2009. The holder may convert each preferred share at any time into
a) 1.0417 Class A shares for $24.00 or b) an equal number of Class A
Convertible Participating Non-Voting Preferred Shares, Series 2, which are
transferable to third parties but do not contain certain of the covenants
described above. The holder is entitled to receive, in priority to common and
Class A shares, $25.00 per share plus any declared and unpaid dividends in the
event of liquidation of the Corporation. In the event the Corporation breaches
its obligations under the Alliance Agreements in a manner material and adverse
to the revenues of UAL or Lufthansa and the Alliance Agreements are terminated,
the Corporation has agreed to pay liquidated damages in amounts declining over
a ten year period from $250 to $37.

In 1999, the Corporation issued 4.7 million warrants for an ascribed value
of $10. The warrants will expire in October 2004 and each warrant is
convertible into one Class A share at an exercise price of $24.00.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

41



---



##### 



The issued capital consists of common shares, Class A shares and Series 1
preferred shares. The changes during 2001 and 2002 in the outstanding number of
common and Class A shares and their aggregate stated value during those years
are as follows:

|                                                             |  |      |     |      |  |   |     | 
|------------------------------------------------------------ |  | ---- | --- | ---- |  | - | --- | 
|                                                             |  | 2002 |     | 2001
|                                                             |  |      |     |     
|Share Capital and Other Equity
Summary (net of issue costs): |  |      |     |      |  |   |     | 
|Common shares                                                |  | $    | 521 |      |  | $ | 521 | 
|Class A shares                                               |  |      | 296 |      |  |   | 296 | 
|Series 1 preferred shares                                    |  |      | 125 |      |  |   | 125 | 
|Warrants                                                     |  |      | 10  |      |  |   | 10  | 
|Convertible subordinated debenture
conversion option         |  |      | 25  |      |  |   | 25  | 
|                                                             |  |      |     |      |  |   |     | 
|Total                                                        |  | $    | 977 |      |  | $ | 977 | 
|                                                             |  |      |     |      |  |   |     | 

|                                 |  |               |        |                |  |              |     |        |  |  |        |  |  |   |     | 
|-------------------------------- |  | ------------- | ------ | -------------- |  | ------------ | --- | ------ |  |  | ------ |  |  | - | --- | 
|                                 |  | Common Shares |        | Class A Shares
|                                 |  | Number (000)  |        | Amount         |  | Number (000) |     | Amount
|                                 |  |               |        |                |  |              |     |       
|December 31, 2000                |  |               | 79,051 |                |  | $            | 521 |        |  |  | 41,109 |  |  | $ | 296 | 
|Share purchase options exercised |  |               | 13     |                |  |              |    |        |  |  | 6      |  |  |   |    | 
|                                 |  |               |        |                |  |              |     |        |  |  |        |  |  |   |     | 
|December 31, 2001                |  |               | 79,064 |                |  | $            | 521 |        |  |  | 41,115 |  |  | $ | 296 | 
|Share purchase options exercised |  |               | 6      |                |  |              |    |        |  |  |       |  |  |   |    | 
|                                 |  |               |        |                |  |              |     |        |  |  |        |  |  |   |     | 
|December 31, 2002                |  |               | 79,070 |                |  | $            | 521 |        |  |  | 41,115 |  |  | $ | 296 | 
|                                 |  |               |        |                |  |              |     |        |  |  |        |  |  |   |     | 

Stock Option Plan

The details of the Corporations share option plan, under which eligible
employees are granted options to purchase common shares and Class A shares, at
a price not less than the market value of the shares at the date of granting,
are as follows:

|                   |  |             |       |              |  |                |      |          |  |             |                 |             |  |        |       |  |  |             |       |  |  |   |       |  |  |  |           | 
|------------------ |  | ----------- | ----- | ------------ |  | -------------- | ---- | -------- |  | ----------- | --------------- | ----------- |  | ------ | ----- |  |  | ----------- | ----- |  |  | - | ----- |  |  |  | --------- | 
|                   |  |             |       |              |  | Weighted       |      |          |  |             |                 | Outstanding |  |        |       |  |  | Exercisable |       |  |  |  
|                   |  |             |       |              |  | Average        |      |          |  |             |                 | Weighted    |  |        |       |  |  | Weighted    |       |  |  |  
|                   |  |             |       |              |  | Remaining      |      |          |  |             |                 | Average     |  |        |       |  |  | Average     |       |  |  |  
|                   |  | Total       |       | Contractual  |  | Range of       |      | Exercise |  | Total       |                 | Exercise    |  | Expiry
|                   |  | Outstanding |       | Life (Years) |  | Exercise Price |      | Price    |  | Exercisable |                 | Price       |  | Dates 
|                   |  |             |       |              |  |                |      |          |  |             |                 |             |  |       
|Common             |  |             |       |              |  |                |      |          |  |             |                 |             |  |        |       |  |  |             |       |  |  |   |       |  |  |  |           | 
|                   |  |             | 1,867 |              |  |                | 5.97 |          |  | $           | 2.79 -  $  6.99 |             |  | $      | 6.20  |  |  |             | 1,382 |  |  | $ | 6.15  |  |  |  | 2003-2012 | 
|                   |  |             | 2,879 |              |  |                | 7.64 |          |  | $           | 7.00 -  $  9.99 |             |  | $      | 8.74  |  |  |             | 1,001 |  |  | $ | 8.47  |  |  |  | 2005-2011 | 
|                   |  |             | 2,310 |              |  |                | 6.71 |          |  | $           | 10.00 - $12.99  |             |  | $      | 10.57 |  |  |             | 1,361 |  |  | $ | 10.90 |  |  |  | 2008-2010 | 
|                   |  |             | 395   |              |  |                | 7.23 |          |  | $           | 13.00 - $19.67  |             |  | $      | 16.24 |  |  |             | 198   |  |  | $ | 16.24 |  |  |  | 2010      | 
|                   |  |             |       |              |  |                |      |          |  |             |                 |             |  |        |       |  |  |             |       |  |  |   |       |  |  | 
|                   |  |             | 7,451 |              |  |                |      |          |  |             |                 |             |  |        |       |  |  |             | 3,942 |  |  |   |       |  |  |  |           | 
|                   |  |             |       |              |  |                |      |          |  |             |                 |             |  |        |       |  |  |             |       |  |  |   |       |  |  | 
|Class A
Non-Voting |  |             |       |              |  |                |      |          |  |             |                 |             |  |        |       |  |  |             |       |  |  |   |       |  |  |  |           | 
|                   |  |             | 732   |              |  |                | 7.24 |          |  | $           | 2.79 -  $  4.99 |             |  | $      | 4.29  |  |  |             | 299   |  |  | $ | 4.54  |  |  |  | 2003-2012 | 
|                   |  |             | 430   |              |  |                | 6.04 |          |  | $           | 5.00 -  $  6.99 |             |  | $      | 5.62  |  |  |             | 298   |  |  | $ | 5.73  |  |  |  | 2004-2012 | 
|                   |  |             | 841   |              |  |                | 7.12 |          |  | $           | 7.00 -  $  7.99 |             |  | $      | 7.25  |  |  |             | 368   |  |  | $ | 7.32  |  |  |  | 2005-2011 | 
|                   |  |             | 331   |              |  |                | 5.80 |          |  | $           | 8.00 - $12.49   |             |  | $      | 11.10 |  |  |             | 273   |  |  | $ | 11.48 |  |  |  | 2008-2010 | 
|                   |  |             |       |              |  |                |      |          |  |             |                 |             |  |        |       |  |  |             |       |  |  |   |       |  |  | 
|                   |  |             | 2,334 |              |  |                |      |          |  |             |                 |             |  |        |       |  |  |             | 1,238 |  |  |   |       |  |  |  |           | 
|                   |  |             |       |              |  |                |      |          |  |             |                 |             |  |        |       |  |  |             |       |  |  |   |       |  |  | 

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

42



---



##### 



A summary of recent option activities is as follows:

|                  |  |              |       |             |  |                  |       |             |  |  |       |                  |  |  |      | 
|----------------- |  | ------------ | ----- | ----------- |  | ---------------- | ----- | ----------- |  |  | ----- | ---------------- |  |  | ---- | 
|                  |  | 2002         |       | 2001       
|                  |  |              |       |            
|                  |  |              |       |             |  | Weighted Average |       |             |  |  |       | Weighted Average
|                  |  | Shares (000) |       | Share Price |  | Shares (000)     |       | Share Price
|                  |  |              |       |             |  |                  |       |            
|Common            |  |              |       |             |  |                  |       |             |  |  |       |                  |  |  |      | 
|Beginning of year |  |              | 7,500 |             |  |                  | 9.14  |             |  |  | 4,931 |                  |  |  | 9.24 | 
|Granted           |  |              | 100   |             |  |                  | 6.38  |             |  |  | 2,640 |                  |  |  | 8.93 | 
|Exercised         |  |              | (6    | )           |  |                  | 3.38  |             |  |  | (13   | )                |  |  | 6.60 | 
|Forfeited         |  |              | (143  | )           |  |                  | 11.03 |             |  |  | (58   | )                |  |  | 9.03 | 
|                  |  |              |       |             |  |                  |       |             |  |  |       |                  |  |  |      | 
|End of year       |  |              | 7,451 |             |  |                  | 9.07  |             |  |  | 7,500 |                  |  |  | 9.14 | 
|Class A shares    |  |              |       |             |  |                  |       |             |  |  |       |                  |  |  |      | 
|Beginning of year |  |              | 1,959 |             |  |                  | 7.06  |             |  |  | 1,258 |                  |  |  | 7.10 | 
|Granted           |  |              | 375   |             |  |                  | 3.99  |             |  |  | 707   |                  |  |  | 6.97 | 
|Exercised         |  |              |      |             |  |                  |      |             |  |  | (6    | )                |  |  | 5.51 | 
|Forfeited         |  |              |      |             |  |                  |      |             |  |  |      |                  |  |  |     | 
|                  |  |              |       |             |  |                  |       |             |  |  |       |                  |  |  |      | 
|End of year       |  |              | 2,334 |             |  |                  | 6.57  |             |  |  | 1,959 |                  |  |  | 7.06 | 
|                  |  |              |       |             |  |                  |       |             |  |  |       |                  |  |  |      | 

All options are exercisable on the basis of 25% of the options granted per
year on a cumulative basis, beginning after one year and expiring after ten
years.

As disclosed in note 2(r), the Corporation elected the fair value method
of accounting for the Corporations stock option plan. The fair value of
options issued in 2002 was $1. The charge to compensation expense for stock
options issued since January 1, 2002 is less than $1. None of the options
issued since January 1, 2002 have been exercised.

The weighted average grant date fair value of options issued in 2002 has
been estimated at $2.86 using the Black-Scholes option-pricing model. This fair
value is based on a weighted average risk-free rate of 5.07%, weighted average
expected stock price volatility of 86% and a weighted average expected life of
5 years.

As CICA 3870 is applied prospectively such that the fair value method of
accounting has not been applied to prior years, the charge for the current year
may not be representative of the charge that will be taken in future years.

Shareholder Rights Plan

The Shareholder Rights Plan, which expired on May 14, 2002 at the 2001 annual
shareholders meeting, was not readopted.

Share Appreciation Plans

|                       |  |             |       |              |  |        |       |        |  |   |      |  |  |            |  | 
|---------------------- |  | ----------- | ----- | ------------ |  | ------ | ----- | ------ |  | - | ---- |  |  | ---------- |  | 
|                       |  |             |       | Units        |  |        |       |        |  |   |      | 
|                       |  | Total units |       | exerciseable |  |        |       |        |  |   |      | 
|                       |  | under the   |       | at Dec. 31,  |  | Strike |       | Expiry
|                       |  | plan (000)  |       | 2000 (000)   |  | Price  |       | Dates 
|                       |  |             |       |              |  |        |       |       
|Pilots
(1)             |  |             | 4,000 |              |  |        | 2,817 |        |  | $ | 7.50 |  |  | Sept. 2003
|Management
and ATS (2) |  |             | 1,500 |              |  |        | 766   |        |  | $ | 6.09 |  |  | Sept. 2004
|Management(3)          |  |             | 750   |              |  |        |      |        |  | $ | 6.47 |  |  | Sept. 2004
|Management
and ATS (4) |  |             | 304   |              |  |        |      |        |  | $ | 5.07 |  |  | Jan. 2007 

The Corporation has the following four share appreciation plans:



|1. |  | Pilots: This plan was entered into in September 1998. All
remaining units outstanding are exercisable. The net earnings
impact of this program in 2002 was nominal (nominal in 2001).                                                                                              
|-- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|  
|2. |  | Management and Administrative
and Technical Support group:
This plan was entered into in February 1999. All remaining units
outstanding are exercisable. The net earnings impact of this program in 2002 was nominal ($1 favourable in 2001).                                      
|  
|3. |  | Management: This plan was entered into in September 2001.
0.5 million units remain to be issued under the plan with
0.250 million units exercisable in each of September 2003
and September 2004. The net earnings impact of this program
in 2002 was nominal (no expense in 2001).
|  
|4. |  | Management and Administrative
and Technical Support group:
This plan was entered into in January 2002 with the units issued
as of that date. The units issued become exercisable one year
after issuance. The net earnings impact of this program in 2002
was nominal.             

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

43



---



##### 



13. EARNINGS PER
SHARE

The following table outlines the calculation of basic and diluted loss per
share (in millions, except per share amounts):

|                                                          |  |      |       |      |  |   |        |  
|--------------------------------------------------------- |  | ---- | ----- | ---- |  | - | ------ | -
|Year ended December 31                                    |  | 2002 |       | 2001
|                                                          |  |      |       |     
|NUMERATOR                                                 |  |      |       |      |  |   |        |  
|Numerator for basic
earnings per share:                   |  |      |       |      |  |   |        |  
|Loss from continuing operations                           |  | $    | (828  | )    |  | $ | (1,315 | )
|Effect
of potential dilutive securities:                  |  |      |       |      |  |   |        |  
|After tax income from convertible subordinated
debentures |  |      | 11    |      |  |   | 11     |  
|Add back anti-dilutive impact                             |  |      | (11   | )    |  |   | (11    | )
|                                                          |  |      |       |      |  |   |        |  
|Adjusted loss for diluted earnings per share              |  | $    | (828  | )    |  | $ | (1,315 | )
|                                                          |  |      |       |      |  |   |        |  
|DENOMINATOR                                               |  |      |       |      |  |   |        |  
|Denominator for basic
earnings per share:                 |  |      |       |      |  |   |        |  
|Weighted-average shares                                   |  |      | 120   |      |  |   | 120    |  
|Effect of potential
dilutive securities:                  |  |      |       |      |  |   |        |  
|Class A non-voting preferred shares                       |  |      | 10    |      |  |   | 10     |  
|Convertible subordinated debentures                       |  |      | 9     |      |  |   | 9      |  
|Stock options                                             |  |      | 1     |      |  |   | 2      |  
|                                                          |  |      |       |      |  |   |        |  
|                                                          |  |      | 20    |      |  |   | 21     |  
|                                                          |  |      |       |      |  |   |        |  
|Add back anti-dilutive impact                             |  |      | (20   | )    |  |   | (21    | )
|                                                          |  |      |       |      |  |   |        |  
|Denominator for diluted earnings per share:               |  |      |       |      |  |   |        |  
|Adjusted weighted-average shares                          |  |      | 120   |      |  |   | 120    |  
|                                                          |  |      |       |      |  |   |        |  
|Basic
and diluted loss per share                          |  | $    | (6.89 | )    |  | $ | (10.95 | )
|                                                          |  |      |       |      |  |   |        |  

The effect of potential dilutive securities were not included in the
calculation of diluted earnings per share in 2002 and 2001 as the result would
be anti-dilutive.

The dilutive effect of outstanding warrants and stock options on earnings
per share is based on the application of the treasury stock method. Under the
treasury stock method, the proceeds from the exercise of such securities are
assumed to be used to purchase common shares and Class A shares.

For the year ended December 31, 2002, the following securities were not
included in the calculation of dilutive potential common shares as the exercise
price exceeded the average trading value of the shares: 7,216,357 options for
common shares with an exercise price between $5.99 - $19.67; 2,240,569 options
for Class A shares with an exercise price between $3.33 - $12.49; and 4,700,000
warrants with an exercise price of $24.00.

For the year ended December 31, 2001, the following securities were not
included in the calculation of dilutive potential common shares as the exercise
price exceeded the average trading value of the shares: 7,486,409 options for
common shares with an exercise price between $4.72 - $19.67; 1,958,969 options
for Class A shares with an exercise price between $2.79 - $12.49; and 4,700,000
warrants with an exercise price of $24.00.

The effect of potential dilutive securities on cash flow per share from
operations is calculated on the same basis.

14. FUTURE INCOME
TAXES

Significant components of the Corporations future tax assets and
liabilities as at December 31, 2002 are as follows:

|                                                       |  |      |       |      |  |   |       | 
|------------------------------------------------------ |  | ---- | ----- | ---- |  | - | ----- | 
|                                                       |  | 2002 |       | 2001
|                                                       |  |      |       |     
|Future tax assets                                      |  |      |       |      |  |   |       | 
|Non-capital loss carry forwards                        |  | $    | 443   |      |  | $ | 374   | 
|Loyalty program deferred revenue                       |  |      | 18    |      |  |   | 28    | 
|Deferred gains on sale and leaseback of assets         |  |      | 253   |      |  |   | 261   | 
|Post-employment obligations                            |  |      | 68    |      |  |   | 10    | 
|Accounting provisions not currently deductible for
tax |  |      | 254   |      |  |   | 217   | 
|Unrealized foreign exchange losses                     |  |      | 78    |      |  |   | 107   | 
|Net other                                              |  |      |      |      |  |   | 26    | 
|                                                       |  |      |       |      |  |   |       | 
|Total future tax assets                                |  | $    | 1,114 |      |  | $ | 1,023 | 
|                                                       |  |      |       |      |  |   |       | 
|Future
tax liabilities                                 |  |      |       |      |  |   |       | 
|Tax depreciation in excess
of book depreciation        |  |      | 50    |      |  |   | 88    | 
|Net other                                              |  |      | 48    |      |  |   |      | 
|                                                       |  |      |       |      |  |   |       | 
|Total future tax liabilities                           |  |      | 98    |      |  |   | 88    | 
|                                                       |  |      |       |      |  |   |       | 
|Net future tax assets                                  |  |      | 1,016 |      |  |   | 935   | 
|Less valuation allowance                               |  |      | 1,044 |      |  |   | 591   | 
|                                                       |  |      |       |      |  |   |       | 
|Net recorded future
income tax asset (liability)       |  | $    | (28   | )    |  | $ | 344   | 
|                                                       |  |      |       |      |  |   |       | 

In the fourth quarter 2002, consistent with the economic uncertainty in
the airline industry as discussed in note 1, an additional valuation allowance
of $400 was recorded to reduce Air Canadas unconsolidated future income tax
asset to zero. Similarly, in the third quarter 2001, the Corporation recorded a
valuation allowance of $453 against the value of the future income tax asset.
Since the third quarter 2001, the future income tax recoveries have been offset
by a valuation allowance. Air Canadas subsidiaries continue to tax affect
results of operations where appropriate. As at December 31, 2002 the valuation
allowance amounts to $1,044. The unrecognized tax benefit remains available for
use in the future. The restructuring process as described in note 1 may
potentially result in utilizing a portion of the tax benefit as a consequence
of the reduction or elimination of liabilities.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

44



---



##### 



The reconciliation of income tax attributable to continuing operations,
computed at the statutory tax rates, to income tax expense is as follows:

|                                                                        |  |      |      |      |  |   |      |  
|----------------------------------------------------------------------- |  | ---- | ---- | ---- |  | - | ---- | -
|                                                                        |  | 2002 |      | 2001
|                                                                        |  |      |      |     
|Provision (recovery) based on combined federal and provincial
tax rates |  | $    | (167 | )    |  | $ | (403 | )
|Non-taxable portion of capital gains                                    |  |      | 16   |      |  |   | (63  | )
|Large corporations tax                                                  |  |      | 12   |      |  |   | 7    |  
|Non-deductible expenses                                                 |  |      | 10   |      |  |   | 23   |  
|Effect of tax rate changes on future income taxes                       |  |      | 9    |      |  |   | 33   |  
|Effect
of declining tax rates in future years                           |  |      | 40   |      |  |   | 132  |  
|Other                                                                   |  |      | 11   |      |  |   | 31   |  
|                                                                        |  |      |      |      |  |   |      |  
|                                                                        |  |      | (69  | )    |  |   | (240 | )
|                                                                        |  |      |      |      |  |   |      |  
|Valuation allowance  recovery offset                                   |  |      | 53   |      |  |   | 117  |  
|Valuation
allowance  asset write-off                                   |  |      | 400  |      |  |   | 453  |  
|                                                                        |  |      |      |      |  |   |      |  
|                                                                        |  |      | 453  |      |  |   | 570  |  
|                                                                        |  |      |      |      |  |   |      |  
|Provision for income taxes                                              |  | $    | 384  |      |  | $ | 330  |  
|                                                                        |  |      |      |      |  |   |      |  

Significant components of the provision for (recovery of) income taxes
attributable to continuing operations are as follows:

|                                                            |  |      |     |      |  |   |      |  
|----------------------------------------------------------- |  | ---- | --- | ---- |  | - | ---- | -
|                                                            |  | 2002 |     | 2001
|                                                            |  |      |     |     
|Current tax expense                                         |  | $    | 12  |      |  | $ | 7    |  
|Future income tax benefit relating to
temporary differences |  |      | (90 | )    |  |   | (280 | )
|Future income tax expense from tax rate
reductions          |  |      | 9   |      |  |   | 33   |  
|Valuation allowance                                         |  |      | 453 |      |  |   | 570  |  
|                                                            |  |      |     |      |  |   |      |  
|Income
tax expense                                          |  | $    | 384 |      |  | $ | 330  |  
|                                                            |  |      |     |      |  |   |      |  

The following are the tax loss expiry dates:

|               |  |            |       | 
|-------------- |  | ---------- | ----- | 
|Year of expiry |  | Tax losses
|               |  |           
|2003           |  | $          | 10    | 
|2004           |  |            | 119   | 
|2005           |  |            | 17    | 
|2006           |  |            | 65    | 
|2007           |  |            | 104   | 
|2008           |  |            | 896   | 
|2009           |  |            | 144   | 
|               |  |            |       | 
|               |  | $          | 1,355 | 

Income taxes paid in 2002 were $7 (2001 $6 refund).

15. COMMITMENTS

The Corporation has commitments to purchase, along with spare engines, two
Airbus A321 and two Airbus A340-500 in 2003 and three Airbus A340-600 in 2004.
Payments under the commitments, totalling $970, are payable in 2003 in the
amount of $448 and 2004 in the amount of $522. As at December 31, 2002 the
Corporation has received financing commitments of $940 for these aircraft
deliveries (refer to note 21). Other purchase commitments in 2003 for property,
ground equipment and spare parts, amount to approximately $101.

The Corporation has also committed to leasing, under operating leases,
aircraft on a long-term basis to be delivered as follows: two Airbus A319 and
six Airbus A320 in 2003 and three Airbus A320 in 2004 (refer to note 21). Total
lease payments over the full term of the leases will be approximately $730 and
are payable as follows:

|           |      |   |     |    | 
|---------- | ---- | - | --- | -- | 
|           | 2003 |   | $   | 28 | 
|           | 2004 |   |     | 68 | 
|           | 2005 |   |     | 75 | 
|           | 2006 |   |     | 61 | 
|           | 2007 |   |     | 50 | 
|Thereafter |      |   | 448 |   
|           |      |   |     |   
|           |      | $ | 730 |   

Future minimum lease payments under existing operating leases of aircraft
and other property amount to $7,697 (2001 $7,591) using year-end exchange
rates.

|           |      |   |                  |       |                  |   |     |     | 
|---------- | ---- | - | ---------------- | ----- | ---------------- | - | --- | --- | 
|           |      |   | Operating Leases |       | Other Property  
|           |      |   | of Aircraft      |       | Operating Leases
|           |      |   |                  |       |                 
|           | 2003 |   | $                | 1,397 |                  |   | $   | 111 | 
|           | 2004 |   |                  | 1,286 |                  |   |     | 86  | 
|           | 2005 |   |                  | 1,100 |                  |   |     | 78  | 
|           | 2006 |   |                  | 1,023 |                  |   |     | 70  | 
|           | 2007 |   |                  | 444   |                  |   |     | 65  | 
|Thereafter |      |   | 1,880            |       |                  |   | 157 |    
|           |      |   |                  |       |                  |   |     |    
|           |      | $ | 7,130            |       |                  | $ | 567 |    

Operating lease commitments include currency swaps to convert a
significant portion of US dollar lease rentals into Canadian dollar lease
rentals for five Canadair Regional Jet operating leases until lease
terminations in 2007 and to convert a significant portion of Canadian dollar
lease rentals into US dollar lease rentals for three Airbus A330 operating
leases until January, 2010. These currency swaps, with unrelated creditworthy
third parties, were put in place on the inception of the leases and have a fair
value at December 31, 2002 of $14 (2001 $12) in favour of unrelated
creditworthy third parties, taking into account foreign exchange rates in
effect at that time.

The Corporation has entered into certain interest rate swaps with an
unrelated creditworthy third party in order to manage the interest rate
exposure on the leasing of two Boeing 767-300 aircraft. The fair value of
these interest rate swaps at December 31, 2002 was $24 in favour of the
Corporation (2001 $1 in favour of the unrelated creditworthy third party).

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

45



---



##### 



16. PENSION AND OTHER BENEFIT
PLANS

The Corporation and its subsidiaries maintain several defined benefit
and defined contribution plans providing pension, other retirement and
post-employment benefits to its employees. The Corporation is the
administrator and sponsoring employer of a number of pension plans
registered under the Pension Benefits Standard Act, 1985 (Canada). In
addition, the Corporation maintains a number of supplementary pension
plans, which are not registered. For disclosure purposes, the
Corporation is distinguishing the registered plans from the
supplemental plans. Information about the Corporation s defined
benefit plans, in aggregate, is as follows:

|                                               |  |                   |        |                    |  |                |       |      |  |      |      |      |  |   |      |   |  |   |      |   |  |   |      |  
|---------------------------------------------- |  | ----------------- | ------ | ------------------ |  | -------------- | ----- | ---- |  | ---- | ---- | ---- |  | - | ---- | - |  | - | ---- | - |  | - | ---- | -
|                                               |  | Pension
Benefits |        | Pension
Benefits  |  |                |       |      |  |      |      |     
|                                               |  | Registered Plans  |        | Supplemental Plans |  | Other Benefits
|                                               |  | 2002              |        | 2001               |  | 2002           |       | 2001 |  | 2002 |      | 2001
|                                               |  |                   |        |                    |  |                |       |      |  |      |      |     
|Change in benefit obligation                   |  |                   |        |                    |  |                |       |      |  |      |      |      |  |   |      |   |  |   |      |   |  |   |      |  
|Benefit obligation at beginning of year        |  | $                 | 8,700  |                    |  | $              | 7,995 |      |  | $    | 561  |      |  | $ | 484  |   |  | $ | 565  |   |  | $ | 479  |  
|CAIL acquisition                               |  |                   |       |                    |  |                |      |      |  |      |     |      |  |   |      |   |  |   |      |   |  |   |     |  
|Service cost                                   |  |                   | 160    |                    |  |                | 152   |      |  |      | 18   |      |  |   | 11   |   |  |   | 56   |   |  |   | 50   |  
|Interest cost                                  |  |                   | 559    |                    |  |                | 539   |      |  |      | 42   |      |  |   | 33   |   |  |   | 39   |   |  |   | 35   |  
|Plan participants contributions               |  |                   | 109    |                    |  |                | 104   |      |  |      | 6    |      |  |   | 6    |   |  |   |     |   |  |   |     |  
|Amendments                                     |  |                   | 59     |                    |  |                | 16    |      |  |      | 71   |      |  |   | 1    |   |  |   | 1    |   |  |   | 5    |  
|Benefits paid                                  |  |                   | (418   | )                  |  |                | (390  | )    |  |      | (17  | )    |  |   | (14  | ) |  |   | (49  | ) |  |   | (45  | )
|Actuarial (gain) loss                          |  |                   | (31    | )                  |  |                | 257   |      |  |      | 5    |      |  |   | 40   |   |  |   | 61   |   |  |   | 36   |  
|Special termination benefits                   |  |                   |       |                    |  |                | 8     |      |  |      |     |      |  |   |     |   |  |   |     |   |  |   |     |  
|Impact of curtailment                          |  |                   |       |                    |  |                | 1     |      |  |      |     |      |  |   |     |   |  |   |     |   |  |   |     |  
|Foreign exchange                               |  |                   | 26     |                    |  |                | 18    |      |  |      |     |      |  |   |     |   |  |   |     |   |  |   | 5    |  
|                                               |  |                   |        |                    |  |                |       |      |  |      |      |      |  |   |      |   |  |   |      |   |  |   |      |  
|Benefit obligation at end of year              |  |                   | 9,164  |                    |  |                | 8,700 |      |  |      | 686  |      |  |   | 561  |   |  |   | 673  |   |  |   | 565  |  
|                                               |  |                   |        |                    |  |                |       |      |  |      |      |      |  |   |      |   |  |   |      |   |  |   |      |  
|Change in plan assets                          |  |                   |        |                    |  |                |       |      |  |      |      |      |  |   |      |   |  |   |      |   |  |   |      |  
|Fair value of plan assets at beginning
of year |  |                   | 8,859  |                    |  |                | 9,211 |      |  |      | 49   |      |  |   | 17   |   |  |   | 27   |   |  |   | 33   |  
|Actual return on plan assets                   |  |                   | (572   | )                  |  |                | (92   | )    |  |      | (5   | )    |  |   | 1    |   |  |   | (1   | ) |  |   | (1   | )
|Employer contribution                          |  |                   | 12     |                    |  |                |      |      |  |      | 35   |      |  |   | 39   |   |  |   | 37   |   |  |   | 40   |  
|Plan participants contributions               |  |                   | 109    |                    |  |                | 104   |      |  |      | 6    |      |  |   | 6    |   |  |   |     |   |  |   |     |  
|Benefits paid                                  |  |                   | (418   | )                  |  |                | (390  | )    |  |      | (17  | )    |  |   | (14  | ) |  |   | (49  | ) |  |   | (45  | )
|Foreign exchange                               |  |                   | 19     |                    |  |                | 26    |      |  |      |     |      |  |   |     |   |  |   |     |   |  |   |     |  
|                                               |  |                   |        |                    |  |                |       |      |  |      |      |      |  |   |      |   |  |   |      |   |  |   |      |  
|Fair value of plan assets at end of year       |  |                   | 8,009  |                    |  |                | 8,859 |      |  |      | 68   |      |  |   | 49   |   |  |   | 14   |   |  |   | 27   |  
|                                               |  |                   |        |                    |  |                |       |      |  |      |      |      |  |   |      |   |  |   |      |   |  |   |      |  
|Funded status                                  |  |                   | (1,155 | )                  |  |                | 159   |      |  |      | (618 | )    |  |   | (512 | ) |  |   | (659 | ) |  |   | (538 | )
|Unrecognized net actuarial (gain) loss         |  |                   | 1,063  |                    |  |                | (150  | )    |  |      | 123  |      |  |   | 114  |   |  |   | 131  |   |  |   | 70   |  
|Unrecognized prior service cost                |  |                   | 673    |                    |  |                | 699   |      |  |      | 165  |      |  |   | 111  |   |  |   | 23   |   |  |   | 28   |  
|Unrecognized net transition obligation         |  |                   | (28    | )                  |  |                | (48   | )    |  |      |     |      |  |   |     |   |  |   |     |   |  |   |     |  
|                                               |  |                   |        |                    |  |                |       |      |  |      |      |      |  |   |      |   |  |   |      |   |  |   |      |  
|Prepaid (accrued) benefit cost                 |  | $                 | 553    |                    |  | $              | 660   |      |  | $    | (330 | )    |  | $ | (287 | ) |  | $ | (505 | ) |  | $ | (440 | )
|                                               |  |                   |        |                    |  |                |       |      |  |      |      |      |  |   |      |   |  |   |      |   |  |   |      |  
|Weighted average assumptions as of
December 31 |  |                   |        |                    |  |                |       |      |  |      |      |      |  |   |      |   |  |   |      |   |  |   |      |  
|Discount rate on obligation                    |  |                   | 6.50   | %                  |  |                | 6.50  | %    |  |      | 6.50 | %    |  |   | 6.50 | % |  |   | 6.50 | % |  |   | 6.50 | %
|Expected return on plan assets                 |  |                   | 8.00   | %                  |  |                | 8.00  | %    |  |      | 8.00 | %    |  |   | 8.00 | % |  |   | 8.00 | % |  |   | 8.00 | %
|Rate of compensation increase                  |  |                   | 4.25   | %                  |  |                | 4.25  | %    |  |      | 4.25 | %    |  |   | 4.25 | % |  |   |      |   |  |   |      |  
|                                               |  |                   |        |                    |  |                |       |      |  |      |      |      |  |   |      |   |  |   |      |   |  |   |      |  

Included in the above accrued benefit obligation and fair value of plan assets at December 31 are
the following amounts in respect of only those plans that are not fully funded:

|                           |  |                   |        |                    |  |                     |       |      |  |      |      |      |  |   |      |   |  |   |      |   |  |   |      |  
|-------------------------- |  | ----------------- | ------ | ------------------ |  | ------------------- | ----- | ---- |  | ---- | ---- | ---- |  | - | ---- | - |  | - | ---- | - |  | - | ---- | -
|                           |  | Pension Benefits |        | Pension Benefits  |  |                     |       |      |  |      |      |     
|                           |  | Registered Plans  |        | Supplemental Plans |  | Other
Benefit Plans
|                           |  | 2002              |        | 2001               |  | 2002                |       | 2001 |  | 2002 |      | 2001
|                           |  |                   |        |                    |  |                     |       |      |  |      |      |     
|Accrued benefit obligation |  | $                 | 9,164  |                    |  | $                   | 1,488 |      |  | $    | 686  |      |  | $ | 561  |   |  | $ | 673  |   |  | $ | 565  |  
|Fair value                 |  |                   | 8,009  |                    |  |                     | 1,362 |      |  |      | 68   |      |  |   | 49   |   |  |   | 14   |   |  |   | 27   |  
|Funded status              |  | $                 | (1,155 | )                  |  | $                   | (126  | )    |  | $    | (618 | )    |  | $ | (512 | ) |  | $ | (659 | ) |  | $ | (538 | )

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

46





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##### 



The Corporations net defined benefit plan expense is as follows:

|                                          |  |                   |      |                    |  |                |      |      |  |      |    |      |  |   |    |   |  |   |     |   |  |   |    |  
|----------------------------------------- |  | ----------------- | ---- | ------------------ |  | -------------- | ---- | ---- |  | ---- | -- | ---- |  | - | -- | - |  | - | --- | - |  | - | -- | -
|                                          |  | Pension
Benefits |      | Pension
Benefits  |  |                |      |      |  |      |    |     
|                                          |  | Registered Plans  |      | Supplemental Plans |  | Other Benefits
|                                          |  | 2002              |      | 2001               |  | 2002           |      | 2001 |  | 2002 |    | 2001
|                                          |  |                   |      |                    |  |                |      |      |  |      |    |     
|Net
benefit plan expense                  |  |                   |      |                    |  |                |      |      |  |      |    |      |  |   |    |   |  |   |     |   |  |   |    |  
|Current service cost                      |  | $                 | 160  |                    |  | $              | 152  |      |  | $    | 18 |      |  | $ | 11 |   |  | $ | 56  |   |  | $ | 50 |  
|Interest cost                             |  |                   | 559  |                    |  |                | 539  |      |  |      | 42 |      |  |   | 33 |   |  |   | 40  |   |  |   | 35 |  
|Expected return on plan assets            |  |                   | (684 | )                  |  |                | (660 | )    |  |      | (2 | )    |  |   | (1 | ) |  |   | (2  | ) |  |   | (2 | )
|Amortization of prior service cost        |  |                   | 86   |                    |  |                | 82   |      |  |      | 16 |      |  |   | 12 |   |  |   | 6   |   |  |   | 5  |  
|Amortization of net transition obligation |  |                   | (21  | )                  |  |                | (21  | )    |  |      |   |      |  |   |   |   |  |   |    |   |  |   |   |  
|Amortization of experience (gains) losses |  |                   | 11   |                    |  |                | 20   |      |  |      | 5  |      |  |   | 3  |   |  |   | 3   |   |  |   |   |  
|Special termination benefits              |  |                   |     |                    |  |                | 8    |      |  |      |   |      |  |   |   |   |  |   |    |   |  |   |   |  
|Impact of curtailment/settlement          |  |                   |     |                    |  |                | 1    |      |  |      |   |      |  |   |   |   |  |   |    |   |  |   |   |  
|Decrease in valuation allowance           |  |                   |     |                    |  |                | (23  | )    |  |      |   |      |  |   |   |   |  |   |    |   |  |   |   |  
|                                          |  |                   |      |                    |  |                |      |      |  |      |    |      |  |   |    |   |  |   |     |   |  |   |    |  
|                                          |  | $                 | 111  |                    |  | $              | 98   |      |  | $    | 79 |      |  | $ | 58 |   |  | $ | 103 |   |  | $ | 88 |  
|                                          |  |                   |      |                    |  |                |      |      |  |      |    |      |  |   |    |   |  |   |     |   |  |   |    |  

The expense for the Corporations defined contribution plan is $7
(2001 $6).

Sensitivity analysis on the Corporations 2002 pension expense based on
different actuarial assumptions with respect to discount rate and expected
return on plan assets is as follows:

|                                                                                  |  |                  |    | 
|--------------------------------------------------------------------------------- |  | ---------------- | -- | 
|                                                                                  |  | Increase in 2002
|                                                                                  |  | Pension Expense 
|                                                                                  |  |                 
|Impact of .25% decrease in discount
rate on obligation assumption                 |  |                  | 10 | 
|Impact of .25% decrease in the long-term
rate of return on plan assets assumption |  |                  | 16 | 

Assumed health care cost trend rates have a significant effect on the
amounts reported for the health care plans. A 10.75% annual rate of increase in
the per capital cost of covered health care benefits was assumed for 2002 (2001
9.75%). The rate is assumed to decrease gradually to 5% by 2011. A one
percentage point increase in assumed health care cost trend rates would have
increased the service and interest costs by $4 and the obligation by $20. A one
percentage point decrease in assumed health care cost trend rates would have
decreased the service and interest costs by $4 and the obligation by $26.

17. FINANCIAL INSTRUMENTS AND RISK
MANAGEMENT (REFER TO NOTE 21)

The Corporation manages its exposure to changes in interest rates, foreign
exchange rates and jet fuel prices through the use of various derivative
financial instruments. Senior management is responsible for setting acceptable
levels of risk and reviewing risk management activities as necessary. The
Corporation uses derivative financial instruments only for risk management
purposes, not for generating trading profits.

Credit Exposure of Derivatives

The Corporations theoretical risk in the derivative financial instruments
described below is the cost of replacing the contracts at current market rates
in the event of default by any of the counterparties. However, the Corporation
does not anticipate such default as it only transacts with unrelated
creditworthy third parties, and the relative market positions with each
unrelated creditworthy third party are monitored to ensure an adequate
diversification of risk.

Interest Rate Risk Management

The Corporation has entered into interest rate swap agreements in order to
manage the interest rate exposure associated with certain long-term debt
obligations. The notional amounts of the swaps do not represent amounts
exchanged between parties and are not a measure of the Corporations
exposure resulting from the use of swaps. The amounts exchanged are based on
interest rates applied to the notional amounts. The aggregate fair value of
these agreements as at December 31, 2002 was $9 (2001 $6) in favour of
unrelated creditworthy third parties, taking into account interest rates in
effect at the time of the valuation.

The Corporation has also entered into various forward interest rate
agreements, with maturities of less than one year, to manage the risks
associated with interest rate movement on US and Canadian floating rate
debt. The notional amounts of the agreements do not represent amounts exchanged
between parties and are not a measure of the Corporations exposure
resulting from the use of the agreements. The amounts exchanged are based on
interest rates applied to the notional amounts. The aggregate fair value of
these agreements as at December 31, 2002 was less than $1 (2001 $2) in favour
of unrelated creditworthy third parties. The Corporation also has interest rate
swaps related to aircraft financing commitments (note 15).

Foreign Exchange Risk Management

The Corporation has entered into certain foreign exchange contracts, with
maturities of less than one year, to manage the risks

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

47





---



##### 



associated with foreign currency exchange rates. As at December 31, 2002 the
aggregate face amount of such contracts was approximately $315 (2001 $570). The
related fair market value of these contracts at December 31, 2002 was $23 (2001
$9) in favour of the Corporation.

In 2002 the Corporation designated future foreign currency surplus cash
flows in Euro, Swiss francs and Japanese yen as an accounting hedge against
foreign exchange fluctuations of subordinated perpetual debt. In 2001 and 2002,
the Corporation generated sufficient net surplus cash flows in Euro, Japanese
yen and Swiss francs to cover debt servicing requirements in these currencies.

The Corporation has also entered into cross currency swap agreements. The
fair value of these agreements at December 31, 2002 was $101 (2001 $59) in
favour of the Corporation and nil (2001 $24) in favour of unrelated
creditworthy third parties. These hedging contracts settle at the maturity date
of the related debt.

Fuel Price Risk Management

The Corporation enters into contracts with certain financial intermediaries,
not exceeding two years, to manage its exposure to jet fuel price volatility.
Gains and losses resulting from fuel hedging transactions are recognized as a
component of fuel expense. As at December 31, 2002 the Corporation had
effectively hedged approximately 14% of its projected 2003 fuel requirements.
As at December 31, 2002 the fair value of fuel contracts was $23 in favour of
the Corporation (2001 $38 in favour of unrelated creditworthy third parties).

Concentration of Credit Risk

The Corporation does not believe it is subject to any significant concentration
of credit risk. Cash and short-term investments are in place with major
financial institutions, Canadian governments and major corporations. Accounts
receivable are generally the result of sales of tickets to individuals through
geographically dispersed travel agents, corporate outlets, or other airlines,
often through the use of major credit cards.

Statement of Financial Position
Financial Instruments - Fair Values

The carrying amounts reported in the consolidated statement of financial
position for cash and short-term investments, accounts receivable and accounts
payable approximate fair values due to the immediate or short-term maturities
of these financial instruments.

The fair value of long-term debt, including the current portion, and
subordinated perpetual debt is based on rates currently available to the
Corporation for debt with similar terms and maturities. The fair value of
long-term and subordinated perpetual debt and capital lease obligations as at
December 31, 2002 was $2,888 (2001 $3,276) compared with carrying values of
$4,687 (2001 $5,111).

18. CONTINGENCIES

Various lawsuits and claims are pending by and against the Corporation and
provisions have been included in current liabilities where appropriate. It is
the opinion of management supported by counsel that final determination of
these claims will not have a material adverse effect on the financial position
or the results of the Corporation.

Under certain aircraft lease agreements, the Corporation may be required
to provide residual value support not exceeding $633 (2001 $631). Independent
appraisals as at December 31, 2002 have indicated it is unlikely the
Corporation will be required to provide this support beyond amounts for which
provisions are being reflected in the Corporations accounts. The
Corporation retains a residual value interest in these leased aircraft through
purchase options.

19. SEGMENT INFORMATION

For passenger, the allocation to service is determined based on flight
destination. Cargo revenues are not allocated by service as the amounts are not
significant. Non-transportation revenues are almost exclusively attributable to
Canada.

|                                 |  |      |       |      |  |         |       |  |  |  |     |  
|-------------------------------- |  | ---- | ----- | ---- |  | ------- | ----- |  |  |  | --- | -
|Year ended December 31           |  | 2002 |       | 2001 |  | %Change
|                                 |  |      |       |      |  |        
|TRANSPORTATION REVENUE           |  |      |       |      |  |         |       |  |  |  |     |  
|Passenger                        |  |      |       |      |  |         |       |  |  |  |     |  
|Canada - Mainline                |  | $    | 2,845 |      |  | $       | 2,737 |  |  |  | 4   |  
|Canada
- Regional                |  |      | 690   |      |  |         | 845   |  |  |  | (18 | )
|                                 |  |      |       |      |  |         |       |  |  |  |     |  
|                                 |  |      | 3,535 |      |  |         | 3,582 |  |  |  | (1  | )
|US Transborder - Mainline        |  |      | 1,775 |      |  |         | 1,931 |  |  |  | (8  | )
|US Transborder - Regional        |  |      | 170   |      |  |         | 187   |  |  |  | (9  | )
|                                 |  |      |       |      |  |         |       |  |  |  |     |  
|                                 |  |      | 1,945 |      |  |         | 2,118 |  |  |  | (8  | )
|Atlantic - Mainline              |  |      | 1,556 |      |  |         | 1,398 |  |  |  | 11  |  
|Pacific - Mainline               |  |      | 802   |      |  |         | 723   |  |  |  | 11  |  
|Other International - Mainline   |  |      | 352   |      |  |         | 302   |  |  |  | 17  |  
|                                 |  |      |       |      |  |         |       |  |  |  |     |  
|Passenger revenue                |  |      | 8,190 |      |  |         | 8,123 |  |  |  | 1   |  
|Cargo revenue                    |  |      | 585   |      |  |         | 578   |  |  |  | 1   |  
|                                 |  |      |       |      |  |         |       |  |  |  |     |  
|Total transportation revenue     |  |      | 8,775 |      |  |         | 8,701 |  |  |  | 1   |  
|                                 |  |      |       |      |  |         |       |  |  |  |     |  
|NON-TRANSPORTATION REVENUE       |  |      |       |      |  |         |       |  |  |  |     |  
|Aeroplan                         |  |      | 309   |      |  |         | 230   |  |  |  | 34  |  
|Technical Services               |  |      | 239   |      |  |         | 224   |  |  |  | 7   |  
|Other                            |  |      | 503   |      |  |         | 456   |  |  |  | 10  |  
|                                 |  |      |       |      |  |         |       |  |  |  |     |  
|Total non-transportation revenue |  |      | 1,051 |      |  |         | 910   |  |  |  | 15  |  
|                                 |  |      |       |      |  |         |       |  |  |  |     |  
|Total operating revenue          |  | $    | 9,826 |      |  | $       | 9,611 |  |  |  | 2   |  
|                                 |  |      |       |      |  |         |       |  |  |  |     |  

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

48





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##### 



Property and equipment

Air Canada is a Canadian based domestic and international carrier and while the
Corporations flight equipment is used on various routes internationally,
for purposes of segment reporting, the Corporation attributes the location of
flight equipment to Canada. As a consequence, substantially all of the
Corporations property and equipment and goodwill are related to operations
in Canada.

20. UNITED STATES GENERALLY
ACCEPTED ACCOUNTING PRINCIPLES

The consolidated financial statements have been prepared in accordance with
generally accepted accounting principles in Canada (Canadian GAAP) which differ
in certain respects from accounting principles generally accepted in the United
States (US GAAP). The following represents the principle differences affecting
net income, the statement of financial position and shareholders equity. It
does not include all the disclosures required by US GAAP.

Consolidated Statement of Operations

|                                                                                              |  |      |      |      |  |   |        |  
|--------------------------------------------------------------------------------------------- |  | ---- | ---- | ---- |  | - | ------ | -
|                                                                                              |  | 2002 |      | 2001
|                                                                                              |  |      |      |     
|Loss for the year in accordance with Canadian
GAAP                                            |  | $    | (828 | )    |  | $ | (1,315 | )
|Convertible debentures                                                                        |  |      | 2    |      |  |   | 2      |  
|Pension costs                                                                                 |  |      | 7    |      |  |   | 2      |  
|Goodwill amortization                                                                         |  |      |     |      |  |   | 8      |  
|Pre-operating costs                                                                           |  |      | (11  | )    |  |   |       |  
|Employee severance costs                                                                      |  |      | (54  | )    |  |   | (73    | )
|Aircraft introduction costs                                                                   |  |      | 2    |      |  |   | (17    | )
|Derivative instruments and revenue hedging                                                    |  |      | 32   |      |  |   | (13    | )
|Cumulative adjustment related derivative
instruments adjustment                               |  |      |     |      |  |   | (46    | )
|Aircraft lease adjustment                                                                     |  |      | 9    |      |  |   | (13    | )
|Current year income adjustments before the
following                                          |  |      | (13  | )    |  |   | (150   | )
|Income tax recovery (provision)                                                               |  |      |     |      |  |   | (57    | )
|Current year income adjustments                                                               |  |      | (13  | )    |  |   | (207   | )
|Loss for the year in accordance with US GAAP                                                  |  |      | (841 | )    |  |   | (1,522 | )
|                                                                                              |  |      |      |      |  |   |        |  
|Minimum pension liability adjustment                                                          |  |      | (155 | )    |  |   | (21    | )
|Unrealized loss on available-for-sale
securities (2001   net of tax of $5)                   |  |      |     |      |  |   | (10    | )
|Cumulative adjustment related to derivative
instruments adjustment (2001  net of tax of
$20) |  |      |     |      |  |   | (30    | )
|Derivative instruments (2001  net of tax of
$13)                                             |  |      |     |      |  |   | 20     |  
|                                                                                              |  |      |      |      |  |   |        |  
|Comprehensive loss for the year in accordance
with US GAAP                                    |  | $    | (996 | )    |  | $ | (1,563 | )
|                                                                                              |  |      |      |      |  |   |        |  

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

49





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##### 



Consolidated Statement of Financial Position

|                                                  |  |      |        |      |  |   |        |  
|------------------------------------------------- |  | ---- | ------ | ---- |  | - | ------ | -
|                                                  |  | 2002 |        | 2001
|                                                  |  |      |        |     
|Property and equipment                            |  |      |        |      |  |   |        |  
|Balance under Canadian GAAP                       |  | $    | 2,279  |      |  | $ | 2,830  |  
|Aircraft lease adjustment                         |  |      | 378    |      |  |   | 399    |  
|                                                  |  |      |        |      |  |   |        |  
|Balance under US GAAP                             |  | $    | 2,657  |      |  | $ | 3,229  |  
|                                                  |  |      |        |      |  |   |        |  
|Deferred charges                                  |  |      |        |      |  |   |        |  
|Balance under Canadian GAAP                       |  | $    | 1,781  |      |  | $ | 1,619  |  
|Aircraft lease adjustment                         |  |      | (167   | )    |  |   | (153   | )
|Adjustment for derivative instruments             |  |      | 32     |      |  |   | (15    | )
|Adjustment for revenue hedging                    |  |      | (151   | )    |  |   |       |  
|Aircraft introduction costs                       |  |      | (21    | )    |  |   | (23    | )
|Pre-operating costs                               |  |      | (11    | )    |  |   |       |  
|                                                  |  |      |        |      |  |   |        |  
|Balance under US GAAP                             |  | $    | 1,463  |      |  | $ | 1,428  |  
|                                                  |  |      |        |      |  |   |        |  
|Goodwill                                          |  |      |        |      |  |   |        |  
|Balance under Canadian GAAP                       |  | $    | 510    |      |  | $ | 510    |  
|CAIL pension adjustment                           |  |      | (75    | )    |  |   | (75    | )
|Employee severance costs                          |  |      | (100   | )    |  |   | (100   | )
|Amortization adjustment                           |  |      | 9      |      |  |   | 9      |  
|CAIL equity accounting adjustment                 |  |      | (124   | )    |  |   | (124   | )
|                                                  |  |      |        |      |  |   |        |  
|Balance under US GAAP                             |  | $    | 220    |      |  | $ | 220    |  
|                                                  |  |      |        |      |  |   |        |  
|Other assets                                      |  |      |        |      |  |   |        |  
|Balance under Canadian GAAP                       |  | $    | 1,071  |      |  | $ | 1,146  |  
|Adjustment for derivative instruments             |  |      | 145    |      |  |   | 80     |  
|Adjustment for pension costs                      |  |      | 780    |      |  |   | 111    |  
|CAIL pension adjustment                           |  |      | 156    |      |  |   | 138    |  
|                                                  |  |      |        |      |  |   |        |  
|Balance under US GAAP                             |  | $    | 2,152  |      |  | $ | 1,475  |  
|                                                  |  |      |        |      |  |   |        |  
|Accounts payable and accrued liabilities          |  |      |        |      |  |   |        |  
|Balance under Canadian GAAP                       |  | $    | 1,713  |      |  | $ | 1,857  |  
|Adjustment for derivative instruments             |  |      | 10     |      |  |   | 60     |  
|Employee severance costs                          |  |      |       |      |  |   | (54    | )
|                                                  |  |      |        |      |  |   |        |  
|Balance under US GAAP                             |  | $    | 1,723  |      |  | $ | 1,863  |  
|                                                  |  |      |        |      |  |   |        |  
|Long-term and subordinated perpetual debt         |  |      |        |      |  |   |        |  
|Balance under Canadian GAAP                       |  | $    | 4,314  |      |  | $ | 4,580  |  
|Aircraft lease adjustment                         |  |      | 300    |      |  |   | 344    |  
|Adjustment for derivative instruments             |  |      | 31     |      |  |   | 7      |  
|Reclassification of convertible debentures        |  |      | 19     |      |  |   | 21     |  
|                                                  |  |      |        |      |  |   |        |  
|Balance under US GAAP                             |  | $    | 4,664  |      |  | $ | 4,952  |  
|                                                  |  |      |        |      |  |   |        |  
|Other long-term liabilities                       |  |      |        |      |  |   |        |  
|Balance under Canadian GAAP                       |  | $    | 1,405  |      |  | $ | 1,279  |  
|Adjustment for derivative instruments             |  |      | 40     |      |  |   | 74     |  
|Adjustment for pension costs                      |  |      | 980    |      |  |   | 156    |  
|                                                  |  |      |        |      |  |   |        |  
|Balance under US GAAP                             |  | $    | 2,425  |      |  | $ | 1,509  |  
|                                                  |  |      |        |      |  |   |        |  
|Shareholders equity                              |  |      |        |      |  |   |        |  
|Balance under Canadian GAAP                       |  | $    | (2,288 | )    |  | $ | (1,460 | )
|Reclassification of convertible debentures        |  |      | (25    | )    |  |   | (25    | )
|Current year income adjustments                   |  |      | (13    | )    |  |   | (207   | )
|                                                  |  |      |        |      |  |   |        |  
|Current year adjustments for comprehensive
income |  |      |        |      |  |   |        |  
|Pension costs                                     |  |      | (155   | )    |  |   | (21    | )
|Available-for-sale securities                     |  |      |       |      |  |   | (10    | )
|Derivative instruments adjustment                 |  |      |       |      |  |   | (10    | )
|                                                  |  |      |        |      |  |   |        |  
|Cumulative prior year adjustments for             |  |      |        |      |  |   |        |  
|Derivatives                                       |  |      | (59    | )    |  |   |       |  
|Aircraft lease adjustment                         |  |      | (98    | )    |  |   | (85    | )
|Pension costs                                     |  |      | 8      |      |  |   | 6      |  
|Convertible securities                            |  |      | 4      |      |  |   | 2      |  
|CAIL equity accounting adjustment                 |  |      | (124   | )    |  |   | (124   | )
|Employee severance costs                          |  |      | (119   | )    |  |   | (46    | )
|Goodwill amortization adjustment                  |  |      | 9      |      |  |   | 1      |  
|Aircraft introductory costs                       |  |      | (23    | )    |  |   | (6     | )
|Future income tax                                 |  |      | 128    |      |  |   | 160    |  
|                                                  |  |      |        |      |  |   |        |  
|Comprehensive income                              |  |      |        |      |  |   |        |  
|Pension costs                                     |  |      | (45    | )    |  |   | (11    | )
|Derivatives                                       |  |      | (17    | )    |  |   |       |  
|Available-for-sale securities                     |  |      |       |      |  |   | 15     |  
|                                                  |  |      |        |      |  |   |        |  
|Balance under US GAAP                             |  | $    | (2,817 | )    |  | $ | (1,821 | )
|                                                  |  |      |        |      |  |   |        |  

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

50





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##### 



Restatement of 2001 US CAAP Results

During the year, there were certain balances that were restated in the US GAAP
reconciliation as a result of differences noted and additional guidance being
provided. The Corporation has determined that these restatements are not
material to the financial statements. The US GAAP information related to
Pension Costs, Derivative Financial Instruments, Lease Accounting and Goodwill
as at and for the year ended December 31, 2001 has been restated. The $11
impact of these restatements on the loss in 2001 as disclosed in the
consolidated statement of operations is not material.

Convertible Securities

Under Canadian GAAP, proceeds from the issue of convertible securities are
split between long-term debt and shareholders equity, resulting in a debt
discount that is amortized to expense over the term of the debt. Under US GAAP,
convertible securities are treated as long-term debt in their entirety.

Goodwill Amortization and Employee Severance Costs

Under Canadian GAAP in effect on the purchase date, liabilities assumed on the
purchase of a business may include benefits to be paid to employees for their
voluntary termination provided certain criteria are met. The treatment of these
costs as an assumed liability results in an increase in goodwill recognized on
the acquisition. Under US GAAP, a liability and expense for such benefits is
required to be expensed by the acquirer in the period employees accept the
offer rather than as an adjustment of goodwill. In the current year, there is
no GAAP difference as goodwill is no longer amortized for both Canadian and US
GAAP.

Under Canadian GAAP, investments accounted for by the cost method are not
restated retroactively to the equity method when the investor acquires control
of the business and thus consolidates the investment. US GAAP requires this
restatement. As a result of the retroactive application of the equity method
under US GAAP in 2000, goodwill and related amortization expense reported for
the acquisition under Canadian GAAP differs from that reported for US GAAP.

Aircraft Introduction Costs

Under Canadian GAAP, aircraft introduction costs are deferred and amortized.
Under US GAAP, these costs are expensed as incurred.

Available-for-sale Securities

Under Canadian GAAP, portfolio investments are accounted for using the cost
method and gains or losses are recognized in the period in which the investment
is sold. Under US GAAP, portfolio investments classified as available-for-sale
securities are carried at market values with unrealized gains or losses
included in comprehensive income and as a separate component of shareholders
equity. Realized gains or losses are recognized in the period in which the
investment is sold.

Derivative Financial Instruments

Under Canadian GAAP, the nature and fair value of derivative instruments are
disclosed. The Corporation also applies hedge
accounting to derivative financial instruments and anticipated transactions
identified as hedging items as explained in note 2s).

Effective in 2001 under US GAAP, all derivatives are recorded on the
balance sheet at fair value. Opening adjustments are recorded as a cumulative
adjustment to income for fair value hedges and as a cumulative adjustment to
other comprehensive income for cash flow hedges. As opening January 1, 2001
cash flow hedges are settled, the amount recorded in other comprehensive income
is allocated to income. Going forward, the Corporation has elected not to
designate any derivatives as hedging instruments for US GAAP purposes and as
such, changes in the fair value of all derivative instruments are recorded in
income.

As described in note 2s), under Canadian GAAP, the Corporation may
designate a hedging relationship, using certain anticipated transactions as the
hedging item. Under US GAAP, only derivatives can be designated as hedges.

Lease Accounting

Under Canadian GAAP, certain of the Corporations aircraft leases are
accounted for as operating leases. Under US GAAP, these aircraft would be
accounted for as if they were owned, with the assets, liabilities, expenses and
cash flows related to these aircraft reported as such in the Corporations
financial statements.

Income Taxes

The income tax recovery (provision) adjustment includes the income tax effect
of the above US GAAP/Canadian GAAP adjustments. It also reflects that under
Canadian GAAP, the liability method of accounting for income taxes requires
that accumulated tax balances be adjusted to reflect substantively enacted
changes in future tax rates and regulations. Under US GAAP, tax balances are
calculated using currently enacted tax rates and regulations. Consistent with
the accounting policy under Canadian GAAP, a valuation allowance has been
recorded under US GAAP (note 14).

Extraordinary Gains

Included in net income is gains on the purchase and amendment of debt of $118
(2001 $52) that for US GAAP reporting purposes is classified as an
extraordinary gain. Under US GAAP the calculation of earnings per share is
disclosed before extraordinary gains.

The requirement to disclose the earnings
per share impact of extraordinary gains related to debt settlements is
eliminated effective for fiscal years beginning after May 15, 2002. This change
will require retroactive restatement of earnings per share information for the
year ended December 31, 2003.

Employee Future Benefits

Beginning in 2000, under Canadian GAAP, CICA #3461 was applied in a manner that
produced recognized and unrecognized amounts for employee future benefit plans
the same as those determined by the application of US GAAP with the exception
of the recognition of a minimum pension liability adjustment. In addition,
under US GAAP, pension valuation allowances are not permitted.

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

51





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##### 



Pre-operating Costs

Under Canadian GAAP, eligible pre-operating costs are deferred and amortized.
Under US GAAP, these costs are expensed as incurred.

Comprehensive Income

Under US GAAP, comprehensive income must be reported which is defined as
all changes in equity other than those resulting from investments by owners
and distributions to owners. Cumulative comprehensive income (loss) as at
December 31, 2002 was $(197) (2001 $(42)).

Provision for Loss on Aircraft and Inventory

Under Canadian GAAP, provision for loss on aircraft and inventory are permitted
to be classified as non-operating. Under US GAAP, provision for loss on
aircraft and inventory are classified as operating. Accordingly, under US GAAP,
the operating loss would be increased by $32 (2001-$176).

Under Canadian GAAP, an impairment loss is recorded at the amount by which
the carrying amount exceeds net recoverable amount. In US GAAP, the impairment
loss for assets that do not meet the held for sale criteria is recorded at the
amount by which the carrying amount exceeds fair value. The aircraft, as
described in note 3, which are removed from active service, do not meet the
held for sale criteria as, under current market conditions, sale within one
year is uncertain. For these assets for which impairment losses were recorded
in 2002, there is no significant difference between fair value and net
recoverable amount.

Accounting for Costs Associated with Exit or Disposal Activities

In 2002, the Financial Accounting Standards Board issued Statements of
Financial Accounting Standards No. 146, Accounting for Costs Associated with
Exit or Disposal Activities (SFAS 146). This Statement requires that a
liability for a cost associated with an exit or disposal activity be recognized
at fair value when the liability is incurred. Prior to SFAS 146, a liability
for costs associated with an exit or disposal activity was recognized as of the
date of the commitment to an exit plan. The provisions of SFAS 146 are
effective for exit or disposal activities that are initiated after December 31,
2002. The adoption of SFAS 146 will affect the timing and recognition of
certain costs associated with future exit or disposal activities.

Consolidation of Variable Interest Entities

In January 2003, the US Financial Accounting Standards Board issued Financial
Interpretation Number 46  Consolidation of Variable Interest Entities (FIN
46). The guidance in Fin 46 is consistent with the newAcG-15 as described in
note 2. In the US, FIN 46 is effective for all new variable interest entities
created or acquired after January 31, 2003. For variable interest entities
created or acquired prior to February 1, 2003, the provisions of FIN 46 must be
applied for the first interim or annual period beginning after June 15, 2003.
The Corporation continues to evaluate the potential future impact this
guideline will have
on its financial position and results of operations under both Canadian and
US GAAP.

Guarantors Accounting and Disclosure Requirements for Guarantees

In 2002, the Financial Accounting Standards Board issued Financial
Interpretation Number 45  Guarantor s Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of
Others (FIN 45). FIN 45 requires disclosure about obligations under certain
guarantees issued by the Corporation. It also requires the recognition of a
liability at the inception of a guarantee based on the fair value of the
obligation. The recognition requirements are effective for guarantees issued
after December 31, 2002 and are not expected to have a material effect on the
Corporation s US GAAP consolidated statement of operations.

Earnings per Share

|                                                                                                   |  |      |       |      |  |   |        |  
|-------------------------------------------------------------------------------------------------- |  | ---- | ----- | ---- |  | - | ------ | -
|                                                                                                   |  | 2002 |       | 2001
|                                                                                                   |  |      |       |     
|Loss per common share before
cumulative accounting change
and extraordinary item                   |  | $    | (7.98 | )    |  | $ | (12.71 | )
|Impact of:                                                                                         |  |      |       |      |  |   |        |  
|Derivative instruments
adjustment                                                                  |  |      |      |      |  |   | (0.38  | )
|Impact of
extraordinary item                                                                       |  |      | 0.98  |      |  |   | 0.43   |  
|                                                                                                   |  |      |       |      |  |   |        |  
|Loss per common share                                                                              |  | $    | (7.00 | )    |  | $ | (12.66 | )
|Loss per common share assuming
dilution before cumulative
accounting change and
extraordinary item |  | $    | (7.98 | )    |  | $ | (12.71 | )
|Impact of:                                                                                         |  |      |       |      |  |   |        |  
|Derivative instruments adjustment                                                                  |  |      |      |      |  |   | (0.38  | )
|Impact of extraordinary item                                                                       |  |      | 0.98  |      |  |   | 0.43   |  
|                                                                                                   |  |      |       |      |  |   |        |  
|Loss per common share assuming
dilution                                                            |  | $    | (7.00 | )    |  | $ | (12.66 | )
|                                                                                                   |  |      |       |      |  |   |        |  

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

52





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##### 



21. SUBSEQUENT EVENTS

Aeroplan

On January 27, 2003, the Corporation announced that it had entered into an
agreement to sell a 35% interest in Aeroplan Limited Partnership, a wholly
owned subsidiary of Air Canada, for approximately $245. The transaction was
subject to due diligence, completion of final documentation and certain other
closing conditions. Originally expected to close at the end of the first
quarter, on March 11, 2003 the Corporation announced that it had agreed to
extend the deadline by which closing was to occur to April 30, 2003, and
subsequently extended to May 31,2003.

Due mainly to the impact of the CCAA as described in note 1, the
transaction, as originally announced, will be subject to a restructuring of the
terms and, dependent upon a successful restructuring of the terms, is expected
to close upon the Corporation s emergence from CCAA.

Japanese Yen Perpetual Debt Amendment

Due mainly to the impact of the CCAA, the previously announced transaction
regarding the replacement of 20 billion JPY of the Corporations
subordinated perpetual debt with a 20 billion JPY term loan will not be
completed.

Workforce Reduction

During the first quarter, Air Canada announced its intention to reduce its
workforce by 3,600. This workforce reduction was to reduce the Corporations
non-unionized workforce by 20% and the unionized workforce by 10%. Subsequent
to this announcement, and in conjunction with the CCAA filing, the Corporation
is undertaking a restructuring, which may increase the workforce reductions
over those previously announced. The Corporation continues to plan for the
implementation of this workforce reduction and termination costs, if any, will
be recorded once the plan is final and communicated to the affected employee
groups.

The Corporation continues its discussions with unions representing
employees at the mainline and regional carriers. The Corporation has outlined
to union leadership a revised labour cost reduction target of $770, before the
impact of pension and benefit program changes. On May 9, 2003 the Court
directed and ordered that Air Canada, Jazz and ZIP and their respective unions
commence meetings on May 12 with a Court appointed Facilitator in an effort to
conclude discussions by May 21, 2003.

Ancillary Impacts of CCAA

Associated with the restructuring and the CCAA filing as described in note 1,
the Applicants are reviewing the operational, commercial, financial and
corporate structure of the Corporation and will propose a plan of
reorganization. Certain disclosures in these notes contain forward looking
information that may no longer be applicable and the status of which will be
determined by the outcome of the restructuring process under the CCAA. Amongst
other things, this uncertainty applies to disclosures
regarding commitments to purchase aircraft and other purchase commitments, the
status of the lease deposits and aircraft lease payments in excess of rent
expense, the funding requirements of the Corporation s pension plans and the
status of the Corporation s outstanding derivative hedging instruments. In
addition, financing commitments related to aircraft deliveries may no longer be
available. Financing commitments related to the sale and leaseback of cargo
facility related equipment is no longer available.

Pension Plans

On March 21,2003, the Office of the Superintendent of Financial Institutions
(OSFI) issued a Temporary Direction instructing Air Canada to make
contributions in excess of the minimum required under the regulations and
legislation. Specifically, Air Canada was requested to remit an amount
approximately equal to the contribution holidays taken in 2002, and to cease
taking contribution holidays.

On April 1, 2003, Air Canada filed an application in Court for protection
from its creditors under the Companies Creditors Arrangement Act (CCAA).
The Court order currently in effect allows Air Canada to cease making
contributions to funded pension plans, pending further order of the Court.
Pension benefit payments from the registered pension plans continue to be paid.

Following these events, Air Canada conducted an update on the financial
position of its pension plans as of January 1, 2003 to determine the funded
status of its pension plans. Due to the impact of the negative stock market
returns and declining interest rates, the financial update reports revealed
solvency deficits equal to approximately $1,300 for all domestic registered
pension plans on a combined basis.

The Company intends to discuss the future of the pension plans with its
stakeholders. It is uncertain at this time what the outcome of these
discussions will be. The funding requirements as well as the accounting
implications vis-a-vis the pension plans will largely depend on the outcome of
these discussions.

Operating Environment

A weak revenue environment intensified in April primarily as a result of the
devastating impact of the rapid acceleration of the SARS outbreak, not only on
Asian routes but on the Airline s entire network and in particular its main
hub in Toronto. This environment is translating into reduced forward bookings
and as a result, on May 13, 2003, the Corporation announced immediate and
aggressive actions to reduce operating costs until such time as traffic levels
stabilize. These actions include significant capacity reductions amounting to
17 percent on a year over year basis mainly on Asian and Transborder routes
which will result in the grounding of approximately 40 aircraft in Air Canada
and its subsidiary, Jazz.

[AIR CANADA LOGO]

Air Canada  2002 Management Discussion & Analysis of Results / 2002 Financial
Statements & Notes

53