*As
          filed with the Securities and Exchange Commission on June 29,
          2007*
  **UNITED
          STATES SECURITIES AND EXCHANGE COMMISSION**
 **WASHINGTON,
          D.C. 20549**
  **FORM
          20-F**
  **(Mark
          One)**
 o
                
                **REGISTRATION
                    STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES
                    EXCHANGE ACT
                    OF 1934**
  **OR**
 þ
                
                **ANNUAL
                    REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
                    ACT OF
                    1934**
  **For
          the fiscal year ended December 31, 2006**
  **OR**
 o
                
                **TRANSITION
                    REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
                    ACT OF
                    1934**
  **OR**
 o
                
                **SHELL
                    COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
                    EXCHANGE
                    ACT OF 1934**
  **Date
          of event requiring this shell company report _____________**
 **For
          the transition period from _________** **to** ****
  **Commission
          file number 1-14660**
  
  (Exact
          name of Registrant as specified in its charter)
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
  (Translation
          of Registrant’s name into English)
  **THE
          PEOPLE’S REPUBLIC OF CHINA**
  (Jurisdiction
          of incorporation or organization)
  ***278
          JI CHANG ROAD***
 ***GUANGZHOU***
  ***PEOPLE’S
          REPUBLIC OF CHINA, 510405***
  (Address
          of principal executive offices)
  Securities
          registered or to be registered pursuant to Section 12(b) of the Act.
 Title
                    of each class
                
                Name
                    of each exchange on which registered*Ordinary
                    H Shares of par value*
                
                *New
                    York Stock Exchange, Inc.**RMB
                    1.00 per share**represented
                    by American**Depositary
                    Shares*
  Securities
          registered or to be registered pursuant to Section 12(g) of the
          Act.
  None
  (Title
          of
          Class)
  (Title
          of
          Class)
 SEC
                    1852 (05-06)
                
                **Persons
                    who respond to the collection of information contained in this
                    form are
                    not required to respond unless the form displays a currently
                    valid OMB
                    control number.**
  Securities
          for which there is a reporting obligation pursuant to Section 15(d) of
          the Act.
  None
  (Title
          of
          Class)
  Indicate
          the number of outstanding shares of each of the issuer’s classes of capital or
          common stock as of the close of the period covered by the annual report.
          2,200,000,000 ordinary Domestic Shares of par value RMB 1.00 per share
          and
          1,174,178,000 ordinary H Shares of par value RMB 1.00 per share and 1,000,000
          ordinary A Shares of par value RMB 1.00 per share were issued and outstanding
          as
          of December 31, 2006.
  Indicate
          by check mark if the registrant is a well-known seasoned issuer, as defined
          in
          Rule 405 of the Securities Act.
  o Yes þ No
  If
          this
          report is an annual or transition report, indicate by check mark if the
          registrant is not required to file reports pursuant to Section 13 or 15(d)
          of
          the Securities Exchange Act of 1934.
  o Yes þ No
  Note
—
          Checking the box above will not relieve any registrant required to file
          reports
          pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
          from
          their obligations under those Sections.
  Indicate
          by check mark whether the registrant (1) has filed all reports required
          to be
          filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
          the
          preceding 12 months (or for such shorter period that the Registrant was
          required
          to file such reports), and (2) has been subject to such filing requirements
          for
          the past 90 days.
  þ Yes o No
  Indicate
          by check mark whether the registrant is a large accelerated filer, an
          accelerated filer, or a non-accelerated filer. See definition of “accelerated
          filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check
          one):
 Large
                    accelerated filero
                
                Accelerated
                    filerþ
                
                Non-accelerated
                    filer o
  Indicate
          by check mark which financial statement item the Registrant has elected
          to
          follow.
  o Item 17 þ Item 18
  If
          this
          is an annual report, indicate by check mark whether the registrant is a
          shell
          company (as defined in Rule 12b-2 of the Exchange Act).
 o Yes þ No
  
  **TABLE
          OF CONTENTS**
 **China
          Southern Airlines Company Limited**
 **Page**Forward-Looking
                      Statements
                  2Introductory
                      Note
                  2Glossary
                      of Airline Industry Terms
                  2**PART
                      I**Item
                      1. Identity of Directors, Senior Management and Advisers
                  4Item
                      2. Offer Statistics and Expected Timetable
                  4Item
                      3. Key Information
                  4Selected
                      Financial Data
                  4Capitalization
                      and Indebtedness
                  8Reasons
                      for the Offer and Use of Proceeds
                  8Risk
                      Factors
                  8Item
                      4. Information on the Company
                  12History
                      and Development of the Company
                  12Capital
                      Expendition
                  13Business
                      Overview
                  13Organizational
                      Structure
                  28Property,
                      Plant and Equipment
                  29Item
                      5. Operating and Financial Review and Prospects
                  30Critical
                      Accounting Policies
                  31Overview
                  32Certain
                      Financial Information and Operating Data by Geographic
                      Region
                  33Operating
                      Results
                  34Additional
                      Information under U.S. GAAP
                  38Liquidity
                      and Capital Resources
                  42Contractual
                      Obligations and Commercial Commitments
                  44Item
                      6. Directors, Senior Management and Employees
                  44Directors
                      and Senior Management
                  44Compensation
                  48Board
                      Practices
                  49
  
  Remuneration
                      Committee
                  50Employees
                  50Share
                      Ownership
                  51Item
                      7. Major Shareholders and Related Party Transactions
                  51Major
                      Shareholders
                  51Related
                      Party Transactions
                  51Interests
                      of Experts and Counsel
                  56Item
                      8. Financial Information
                  56Consolidated
                      Statements and Other Financial Information
                  56Significant
                      Changes
                  56Dividend
                      Information
                  57Item
                      9. The Offer and Listing
                  57Offer
                      and Listing Details
                  57Plan
                      of Distribution
                  58Markets
                  58Selling
                      Shareholders
                  58Dilution
                  58Expenses
                      of the Issue
                  59Item
                      10. Additional Information
                  59Share
                      Capital
                  59Memorandum
                      and Articles of Association
                  59Material
                      Contracts
                  62Exchange
                      Controls
                  64Taxation
                  65
 **Page**Dividends
                      and Paying Agents
                  68Statement
                      by Experts
                  68Documents
                      on Display
                  68Subsidiary
                      Information
                  68Comparison
                      of New York Stock Exchange Corporate Governance Rules and China
                      Corporate
                      Governance Rules for Listed Companies
                  69
  
  Item
                      11. Quantitative and Qualitative Disclosures About Market
                      Risk
                  72Item
                      12. Description of Securities other than Equity Securities
                  73**PART
                      II**Item
                      13. Defaults, Dividend Arrearages and Delinquencies
                  73Item
                      14. Material Modifications to the Rights of Security Holders
                      and Use of
                      Proceeds
                  73Use
                      of Proceeds
                  73**PART
                      III**Item
                      15. Controls and Procedures
                  75Item
                      16. [Reserved]
                  75Item
                      16 A. Audit Committee Financial Expert
                  75Item
                      16 B. Code of Ethics
                  76Item
                      16 C. Principal Accounting Fees and Services
                  76Item
                      16 D. Exemptions from the Listing Standards for Audit
                      Committee
                  76Item
                      16 E. Purchases of Equity Securities By the Issuer and Affiliated
                      Purchasers
                  76**PART
                      IV**Item
                      17. Financial Statements
                  76Item
                      18. Financial Statements
                  76Index
                      to Financial Statements
                  77Item
                      19. Exhibits
                  78Signatures
                  79
 EX-1.1
                      AMENDED
                      ARTICLES OF ASSOCIATION OF CHINA SOUTHERN AIRLINES COMPANY
                      LIMITEDEX-4.1
                        FORM OF DIRECTOR'S SERVICE AGREEMENTEX-4.2
                        FORM OF NON-EXECUTIVE DIRECTOR'S SERVICE AGREEMENTEX-8.1
                        SUBSIDIARIES OF THE COMPANYEX-12.1
                        SECTION 302 CERTIFICATION OF CHAIRMANEX-12.2
                        SECTION 302 CERTIFICATION OF PRESIDENTEX-12.3
                        SECTION 302 CERTIFICATION OF CHIEF FINANCIAL OFFICEREX-13.1
                        SECTION 906 CERTIFICATION OF CHAIRMANEX-13.2
                        SECTION 906 CERTIFICATION OF PRESIDENTEX-13.3
                        SECTION 906 CERTIFICATION OF CHIEF FINANCIAL
                        OFFICER
  
  **FORWARD-LOOKING
          STATEMENTS**
  This
          Annual Report contains forward-looking statements. These statements appear
          in a
          number of different places in this Annual Report. A forward-looking statement
          is
          usually identified by the use in this Annual Report of certain terminology
          such
          as “estimates”, “projects”, “expects”, “intends”, “believes”, “plans”,
“anticipates”, or their negatives or other comparable words. Also look for
          discussions of strategy that involve risks and uncertainties. Forward-looking
          statements include statements regarding the outlook for the Company’s future
          operations, forecasts of future costs and expenditures, evaluation of market
          conditions, the outcome of legal proceedings (if any), the adequacy of
          reserves,
          or other business plans. You are cautioned that such forward-looking statements
          are not guarantees and involve risks, assumptions and uncertainties. The
          Company’s actual results may differ materially from those in the forward-looking
          statements due to risks facing the Company or due to actual facts differing
          from
          the assumptions underlying those forward-looking statements.
  Some
          of
          these risks and assumptions, in addition to those identified under Item
          3, “Key
          Information - Risk Factors,” include:
  ****·
                
                general
                    economic and business conditions, including changes in interest
                    rates;****·
                
                prices
                    and other economic conditions;****·
                
                natural
                    phenomena;****·
                
                actions
                    by government authorities, including changes in government
                    regulations;****·
                
                the
                    Company’s relationship with CSAHC;****·
                
                uncertainties
                    associated with legal proceedings;****·
                
                technological
                    development;****·
                
                future
                    decisions by management in response to changing
                    conditions;****·
                
                the
                    Company’s ability to execute prospective business plans;
                    and****·
                
                misjudgments
                    in the course of preparing forward-looking
                    statements.
  The
          Company advises you that these cautionary remarks expressly qualify in
          their
          entirety all forward-looking statements attributable to the Company, the
          Group
          and persons acting on their behalf.
  **INTRODUCTORY
          NOTE**
  In
          this
          Annual Report, unless the context indicates otherwise, the “Company” means China
          Southern Airlines Company Limited, a joint stock company incorporated in
          China
          on March 25, 1995, the “Group” means the Company and its consolidated
          subsidiaries, and “CSAHC” means China Southern Air Holding Company, the
          Company’s parent company which holds a 50.3% controlling interest in the
          Company.
  References
          to “China” or the “PRC” are to the People’s Republic of China, excluding Hong
          Kong, Macau and Taiwan. References to “Renminbi” or “RMB” are to the currency of
          China, references to “U.S. dollars”, “$” or “US$” are to the currency of the
          United States of America (the “U.S.” or “United States”), and reference to “HK$”
is to the currency of Hong Kong. Reference to the “Chinese Government” is to the
          national government of China. References to “Hong Kong” or “Hong Kong SAR” are
          to the Hong Kong Special Administrative Region of the People’s Republic of
          China. References to “Macau” or “Macau SAR” are to the Macau Special
          Administrative Region of the People’s Republic of China.
  The
          Company presents its consolidated financial statements in Renminbi. The
          consolidated financial statements of the Company for the year ended December
          31,
          2006 (the “Financial Statements”) have been prepared in accordance with
          International Financial Reporting Standards (“IFRS”) promulgated by the
          International Accounting Standards Board. IFRS includes International Accounting
          Standards (“IAS”) and related interpretations. IFRS differs in certain
          significant respects from accounting principles generally accepted in the
          United
          States of America (“U.S. GAAP”). Information relating to the nature and effect
          of such differences is presented in Note 51 to the Financial Statements.
  Solely
          for the convenience of the readers, this Annual Report contains translations
          of
          certain Renminbi amounts into U.S. dollars at the rate of US$1.00 = RMB
          7.8087,
          which is the average of the buying and selling rates as quoted by the People’s
          Bank of China at the close of business on December 31, 2006. No representation
          is made that the Renminbi amounts or U.S. dollar amounts included in this
          Annual
          Report could have been or could be converted into U.S. dollars or Renminbi,
          as
          the case may be, at any particular rate or at all. Any discrepancies in
          the
          tables included herein between the amounts listed and the totals are due
          to
          rounding.
  **GLOSSARY
          OF AIRLINE INDUSTRY TERMS**
  In
          this
          Annual Report, unless the context indicates otherwise, the following terms
          shall
          have the respective meanings set forth below.
  *Capacity
                    Measurements*“available
                    seat kilometers” or “ASKs”
                
                the
                    number of seats made available for sale multiplied by the kilometers
                    flown
  2
  “available
                    ton kilometers” or “ATKs”
                
                the
                    number of tons of capacity available for the transportation of
                    revenue
                    load (passengers and cargo) multiplied by the kilometers
                    flown*Traffic
                    Measurements*“revenue
                    passenger kilometers” or “RPKs”
                
                the
                    number of revenue passengers carried multiplied by the kilometers
                    flown“cargo
                    ton kilometers”
                
                the
                    cargo load in tons multiplied by the kilometers flown“revenue
                    ton kilometers” or “RTKs”
                
                the
                    load (passenger and cargo) in tons multiplied by the kilometers
                    flown*Yield
                    Measurements*“passenger
                    yield”
                
                revenue
                    from passenger operations divided by RPKs“cargo
                    yield”
                
                revenue
                    from cargo operations divided by cargo ton kilometers“average
                    yield”
                
                revenue
                    from airline operations (passenger and cargo) divided by
                    RTKs“ton”
                
                a
                    metric ton, equivalent to 2,204.6 pounds*Load
                    Factors*“passenger
                    load factor”
                
                RPKs
                    expressed as a percentage of ASKs“overall
                    load factor”
                
                RTKs
                    expressed as a percentage of ATKs“breakeven
                    load factor”
                
                the
                    load factor required to equate scheduled traffic revenue with
                    operating
                    costs assuming that total operating surplus is attributable to
                    scheduled
                    traffic operations*Utilization*“utilization
                    rate”
                
                the
                    actual number of flight hours per aircraft per operating
                    day
  3


*Equipment*“rotables”
            
            aircraft
                parts that are ordinarily repaired and reused“expendables”
            
            aircraft
                parts that are ordinarily used up and replaced with new
                parts




**PART
      I**




**ITEM
      1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS.**




Not
      applicable.




**ITEM
      2. OFFER STATISTICS AND EXPECTED TIMETABLE.**




Not
      applicable.




**ITEM
      3. KEY INFORMATION.**




**Selected
      Financial Data**




The
        following tables present selected financial data of the Company as of and
        for
        each of the years in the five-year period ended December 31, 2006. The selected
        data of consolidated statements of operations for each of the years in the
        three-year period ended December 31, 2006 and consolidated balance sheets
        as of
        December 31, 2005 and 2006, presented in IFRS section, have been derived
        from the consolidated financial statements of the Company, including the
        related
        notes, included elsewhere in this Annual Report. The selected IFRS data of
        consolidated statements of operations for the years ended December 31, 2002
        and
        2003 and IFRS consolidated balance sheets of December 31, 2002, 2003 and
        2004
        are derived from the Company’s audited consolidated financial statements that
        are not included in this Annual Report. The
        selected U.S. GAAP data of consolidated statements of operations for each
        of the
        years in the five-year period ended December 31, 2006 and consolidated balance
        sheets as of December 31, 2002, 2003, 2004, 2005 and 2006 are derived from
        the
        Company’s unaudited consolidated financial statements that are not included in
        this Annual Report.




The
      consolidated financial statements of the Company are prepared and presented
      in
      accordance with IFRS.




Under
        IFRS, the purchase method of accounting was applied to account for the
        acquisition of the airline operations and certain related assets of China
        Northern Airlines Company (“CNA”) and Xinjiang Airlines Company (“XJA”)
        (“CNA/XJA Acquisitions”) (details of which are disclosed in “Item 4. Information
        on the Company — History and Development of the Company”) such that at December
        31, 2004 only the acquired assets and liabilities are included in the
        consolidated financial statements. The results of the acquired operations
        and
        their related cash flows was included in the consolidated financial statements
        of the Group beginning January 1, 2005. Under U.S. GAAP, such transaction
        is
        considered to be “a combination of entities under common control”. A combination
        of entities under common control is accounted for in a manner similar to
        a
“pooling-of-interests”. Consequently, the assets and liabilities of CNA and XJA
        are reflected at their U.S. GAAP carrying values and the U.S. GAAP consolidated
        financial statements are restated to include the assets and liabilities of
        CNA
        and XJA, and their results of operations and cash flows for the years ended
        December 31, 2002, 2003 and 2004.




In
        addition, the consolidated financial statements for the year ended December
        31,
        2005 have been revised to reflect the adoption of IAS 16 (amended 2004)
        Property, Plant and Equipment effective January 1, 2005. Please refer to
        Note 45
        to the consolidated financial statements for details.




See
        Note
        51 to the consolidated financial statements for the nature and effect of
        such
        differences and other significant differences related to the Group between
        IFRS
        and U.S. GAAP as of December 31, 2005 and 2006 and for each of the years
        in the
        three-year period ended December 31, 2006 and the condensed consolidated
        financial statements prepared and presented in accordance with U.S. GAAP
        for the
        relevant periods. The following information should be read in conjunction
        with,
        and is qualified in its entirety by, the Financial Statements of the
        Group.




**Year
                  ended December 31,****2002**
              
              **2003**
              
              **2004**
              
              **2005**
              
              **2006**
              
              **2006****RMB**
              
              **RMB**
              
              **RMB**
              
              **RMB**
              
              **RMB**
              
              **US$****(revised)****(in
                  million, except per share data)****Income
                  Statement Data:**IFRS:Operating
                  revenue
              
              
              18,019
              
              
              17,470
              
              
              23,974
              
              
              38,293
              
              
              46,219
              
              
              5,919Operating
                  expenses
              
              
              15,993
              
              
              17,014
              
              
              23,065
              
              
              39,525
              
              
              45,980
              
              
              5,888Operating
                  income/(loss)
              
              
              2,026
              
              
              456
              
              
              909
              
              
              (1,232
              )
              
              239
              
              
              31Interest
                  expense
              
              
              (959
              )
              
              (824
              )
              
              (691
              )
              
              (1,616
              )
              
              (2,070
              )
              
              (265
              )Exchange
                  (loss)/gain, net
              
              
              (176
              )
              
              (164
              )
              
              (59
              )
              
              1,220
              
              
              1,492
              
              
              191Income/(loss)
                  before taxation
              
              
              1,130
              
              
              (521
              )
              
              220
              
              
              (1,780
              )
              
              284
              
              
              36Taxation
                  (expense)/credit
              
              
              (389
              )
              
              334
              
              
              (65
              )
              
              (4
              )
              
              (142
              )
              
              (18
              )Income/(loss)
                  for the year
              
              
              741
              
              
              (187
              )
              
              155
              
              
              (1,784
              )
              
              142
              
              
              18Income/(loss)
                  attributable to :Equity
                  shareholders of the company
              
              
              576
              
              
              (358
              )
              
              (48
              )
              
              (1,786
              )
              
              126
              
              
              16Minority
                  interests
              
              
              165
              
              
              171
              
              
              203
              
              
              2
              
              
              16
              
              
              2Basic
                  and diluted earnings/(loss) per share
              
              
              0.17
              
              
              (0.09
              )
              
              (0.01
              )
              
              (0.41
              )
              
              0.03
              
              
              0.004Basic
                  and diluted earnings/(loss) per ADS
              
              
              8.53
              
              
              (4.68
              )
              
              (0.55
              )
              
              (20.42
              )
              
              1.44
              
              
              0.18Cash
                  dividends declared per share
              
              
              0.02
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              —U.S.
                  GAAP:Traffic
                  revenue
              
              
              24,854
              
              
              24,897
              
              
              33,235
              
              
              37,419
              
              
              45,087
              
              
              5,774Other
                  operating revenue
              
              
              904
              
              
              586
              
              
              930
              
              
              874
              
              
              1,132
              
              
              145Operating
                  income/(loss)
              
              
              1,948
              
              
              366
              
              
              1,877
              
              
              (1,019
              )
              
              706
              
              
              90Interest
                  expense
              
              
              (1,820
              )
              
              (1,604
              )
              
              (1,184
              )
              
              (1,589
              )
              
              (2,070
              )
              
              (265
              )Exchange
                  (loss)/gain, net
              
              
              (327
              )
              
              (381
              )
              
              (124
              )
              
              1,220
              
              
              1,492
              
              
              191Income/(loss)
                  before income taxes and minority interests
              
              
              (145
              )
              
              (1,549
              )
              
              693
              
              
              (1,501
              )
              
              402
              
              
              51Income
                  tax (expense)/benefit
              
              
              (356
              )
              
              536
              
              
              (261
              )
              
              35
              
              
              (170
              )
              
              (22
              )Minority
                  interests
              
              
              (154
              )
              
              (127
              )
              
              (193
              )
              
              (2
              )
              
              (16
              )
              
              (2
              )Net
                  (loss)/income
              
              
              (655
              )
              
              (1,140
              )
              
              239
              
              
              (1,468
              )
              
              216
              
              
              28Basic
                  and diluted (loss)/earnings per share
              
              
              (0.19
              )
              
              (0.30
              )
              
              0.05
              
              
              (0.34
              )
              
              0.05
              
              
              0.006Basic
                  and diluted (loss)/earnings per ADS
              
              
              (9.71
              )
              
              (14.88
              )
              
              2.50
              
              
              (17.00
              )
              
              2.50
              
              
              0.30Cash
                  dividend declared per share
              
              
              0.02
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              —




4




**As
                  of December 31,****2002**
              
              **2003**
              
              **2004**
              
              **2005**
              
              **2006**
              
              **2006****RMB**
              
              **RMB**
              
              **RMB**
              
              **RMB**
              
              **RMB**
              
              **US$****(revised)****(in
                  million)****Balance
                  Sheet Data:**IFRS:Cash
                  and cash equivalents
              
              
              3,771
              
              
              2,080
              
              
              3,083
              
              
              2,901
              
              
              2,264
              
              
              290Other
                  current assets
              
              
              1,835
              
              
              1,922
              
              
              4,286
              
              
              4,320
              
              
              4,419
              
              
              566Property,
                  plant and equipment, net
              
              
              26,921
              
              
              28,536
              
              
              46,841
              
              
              54,339
              
              
              56,347
              
              
              7,216Total
                  assets
              
              
              37,188
              
              
              39,062
              
              
              62,383
              
              
              71,464
              
              
              75,584
              
              
              9,679Notes
                  payable, including current installments of long term notes
                  payable
              
              
              5,241
              
              
              7,097
              
              
              11,518
              
              
              16,223
              
              
              23,822
              
              
              3,051Current
                  installments of obligations under capital leases
              
              
              1,567
              
              
              1,298
              
              
              2,144
              
              
              3,373
              
              
              3,091
              
              
              396Notes
                  payable, excluding current installments
              
              
              5,835
              
              
              4,522
              
              
              11,935
              
              
              12,740
              
              
              10,018
              
              
              1,283Obligations
                  under capital leases, excluding current installments
              
              
              6,632
              
              
              5,543
              
              
              9,599
              
              
              12,459
              
              
              12,307
              
              
              1,576Total
                  equity
              
              
              11,130
              
              
              13,569
              
              
              13,903
              
              
              11,998
              
              
              12,121
              
              
              1,304U.S.
                  GAAP:Cash
                  and cash equivalents
              
              
              4,772
              
              
              2,999
              
              
              3,083
              
              
              2,901
              
              
              2,264
              
              
              290Other
                  current assets
              
              
              3,391
              
              
              3,034
              
              
              4,505
              
              
              4,551
              
              
              4,681
              
              
              599Property,
                  plant and equipment, net
              
              
              40,277
              
              
              41,012
              
              
              46,202
              
              
              53,832
              
              
              55,928
              
              
              7,162Total
                  assets
              
              
              54,860
              
              
              58,610
              
              
              65,144
              
              
              74,479
              
              
              77,877
              
              
              9.973Notes
                  payable, including current portion of long term notes
                  payable
              
              
              10,304
              
              
              8,600
              
              
              11,518
              
              
              13,612
              
              
              19,652
              
              
              2,517Current
                  installments of obligations under capital leases
              
              
              2,591
              
              
              2,368
              
              
              2,106
              
              
              3,401
              
              
              3,119
              
              
              399Notes
                  payable, excluding current portion
              
              
              9,179
              
              
              8,634
              
              
              11,935
              
              
              15,351
              
              
              14,188
              
              
              1,817Obligations
                  under capital leases, excluding current installments
              
              
              13,333
              
              
              13,849
              
              
              11,975
              
              
              14,807
              
              
              14,551
              
              
              1,863Shareholders’
                  equity
              
              
              6,796
              
              
              13,098
              
              
              11,169
              
              
              9,701
              
              
              9,917
              
              
              1,270




Selected
      Operating Data




The
      following selected operating data of the Group for the five years ended December
      31, 2006 have been derived from consolidated financial statements prepared
      in
      accordance with IFRS and other data provided by the Group and have not been
      audited.




5




The
      operating data and the profit analysis and comparison for other years below
      is
      calculated and disclosed in accordance with the statistical standards, which
      have been implemented since January 1, 2001. See “Glossary of Airline Industry
      Terms” at the front of this Annual Report for definitions of certain terms used
      herein.




**Year
                  ended December 31,****2002**
              
              **2003**
              
              **2004**
              
              **2005**
              
              **2006****Capacity**ASK
                    (million)
              
              
              44,245
              
              
              40,867
              
              
              53,769
              
              
              88,361
              
              
              97,059ATK
                    (million)
              
              
              5,915
              
              
              5,921
              
              
              7,446
              
              
              11,509
              
              
              12,656Kilometers
                  flown (thousand)
              
              
              258,379
              
              
              249,068
              
              
              324,827
              
              
              539,844
              
              
              594,957Hours
                  flown (thousand)
              
              
              405
              
              
              385
              
              
              501
              
              
              846
              
              
              931Number
                    of landing and take-offs
              
              
              222,657
              
              
              214,190
              
              
              274,580
              
              
              438,674
              
              
              481,810**Traffic**RPK
                    (million)
              
              
              28,940
              
              
              26,387
              
              
              37,196
              
              
              61,923
              
              
              69,582RTK
                    (million)
              
              
              3,614
              
              
              3,561
              
              
              4,663
              
              
              7,284
              
              
              8,071Passengers
                    carried (thousand)
              
              
              21,493
              
              
              20,470
              
              
              28,207
              
              
              44,119
              
              
              49,206Cargo
                  and mail carried (tons)
              
              
              470,000
              
              
              464,000
              
              
              545,000
              
              
              775,000
              
              
              819,000**Load
                  Factors**Passenger
                    load factor (RPK/ASK) (%)
              
              
              65.4
              
              
              64.6
              
              
              69.2
              
              
              70.1
              
              
              71.7Overall
                  load factor (RTK/ATK) (%)
              
              
              61.1
              
              
              60.1
              
              
              62.6
              
              
              63.3
              
              
              63.8Breakeven
                  load factor (%)
              
              
              55.9
              
              
              61.6
              
              
              61.9
              
              
              67.0
              
              
              65.0




6




**Year
                  ended December 31,****2002**
              
              **2003**
              
              **2004**
              
              **2005**
              
              **2006****Yield**Yield
                    per RPK (RMB)
              
              
              0.54
              
              
              0.57
              
              
              0.57
              
              
              0.55
              
              
              0.60Yield
                  per cargo and mail ton kilometers (RMB)
              
              
              1.73
              
              
              1.62
              
              
              1.67
              
              
              1.75
              
              
              1.89


Yield
                    per RTK (RMB)
              
              
              4.84
              
              
              4.76
              
              
              5.01
              
              
              5.14
              
              
              5.59**Fleet**—
                  Boeing
              
              
              102
              
              
              108
              
              
              137
              
              
              140
              
              
              159—
                  Airbus
              
              
              20
              
              
              24
              
              
              46
              
              
              71
              
              
              103—
                  McDonnell Douglas
              
              
              —
              
              
              —
              
              
              35
              
              
              36
              
              
              36—
                  Others
              
              
              —
              
              
              —
              
              
              13
              
              
              14
              
              
              11Total
                  aircraft in service at period end
              
              
              122
              
              
              132
              
              
              231
              
              
              261
              
              
              309Overall
                  utilization rate (hours per day)
              
              
              9.8
              
              
              8.5
              
              
              9.9
              
              
              9.6
              
              
              9.5**Financial**Operating
                  cost per ASK (RMB)
              
              
              0.36
              
              
              0.42
              
              
              0.43
              
              
              0.45
              
              
              0.47Operating
                  cost per ATK (RMB)
              
              
              2.70
              
              
              2.87
              
              
              3.10
              
              
              3.44
              
              
              3.63




Exchange
      Rate Information




The
      following table sets forth certain information concerning exchange rates, based
      on the noon buying rates in New York City for cable transfers in foreign
      currencies, as certified for customs purposes by the Federal Reserve Bank of
      New
      York (the “Noon Buying Rate”), between Renminbi and U.S. dollars for the five
      most recent financial years.




**Period**
            
            
            **Period
                End**
            
            
            **Average(1)****(RMB
                per US$)**
            
            
            **High**
            
            
            **Low****Annual
              Exchange Rate**2002
            
            
            8.2773
            
            
            8.2773
            
            
            8.2897
            
            
            8.21522003
            
            
            8.2767
            
            
            8.2772
            
            
            8.2800
            
            
            8.27692004
            
            
            8.2765
            
            
            8.2765
            
            
            8.2889
            
            
            8.26412005
            
            
            8.0694
            
            
            8.1825
            
            
            8.2767
            
            
            8.07022006
            
            
            7.8041
            
            
            7.9723
            
            
            8.0702
            
            
            7.8041


(1)
              Determined
                  by averaging the rates on the last business day of each month during
                  the
                  relevant period.


The
        following table sets out the range of high and low exchange rates, based
        on the
        Noon Buying Rate, between Renminbi and U.S. dollars, for the following periods.




**Period**
              
              **High**
              
              **Low****Monthly
                  Exchange Rate**December
                  2006
              
              
              7.8350
              
              
              7.8041January
                  2007
              
              
              7.8127
              
              
              7.7705February
                  2007
              
              
              7.7632
              
              
              7.7410March
                  2007
              
              
              7.7454
              
              
              7.7232April
                  2007
              
              
              7.7345
              
              
              7.7090May
                  2007
              
              
              7.7065
              
              
              7.6463June
                  2007 (up to June 27, 2007)
              
              
              7.6680
              
              
              7.6175




7




Dividend
      Payments




No
      interim dividends were paid during the year ended December 31, 2006. The Board
      of Directors of the Company (“Board of Directors”) has not recommended payment
      of a final dividend in respect of the year ended December 31, 2006.




**Capitalization
      and Indebtedness**




Not
      applicable.




**Reasons
      for the Offer and Use of Proceeds**




Not
      applicable.




**Risk
      Factors**




Risks
      Relating to the Company




*Government
      ownership and control of the Company*




Major
      Chinese airlines are wholly- or majority-owned either by the Chinese Government
      or by provincial or municipal governments in China. CSAHC, an entity
      wholly-owned by the Chinese Government, holds and exercises the rights of
      ownership of all of the Domestic Shares or 50.3% of the equity of the Company.
      The interests of the Chinese Government in the Company and in other Chinese
      airlines may conflict with the interests of the holders of the ADSs, H Shares
      and A Shares. The public policy considerations of the Chinese Government in
      regulating the Chinese commercial aviation industry may also conflict with
      its
      indirect ownership interest in the Company.




*High
      operating leverage and foreign exchange exposure*




The
      airline industry is generally characterized by a high degree of operating
      leverage. In addition, due to high fixed costs, the expenses relating to the
      operation of any flight do not vary proportionately with the number of
      passengers carried, while revenues generated from a flight are directly related
      to the number of passengers carried and the fare structure of such flight.
      Accordingly, a decrease in revenues could result in a proportionately higher
      decrease in net income. Moreover, as the Group has substantial obligations
      denominated in foreign currencies, its results of operations are significantly
      affected by fluctuations in foreign exchange rates, particularly for the U.S.
      dollar and the Japanese yen. The
      Company incurred a net exchange gain of RMB1,220 million and RMB1,492 million
      for 2005 and 2006, respectively, mainly as a result of Reminbi appreciation.
      A
      majority of this exchange gain was unrealized in nature.


*Liquidity*
  As
          of
          December 31, 2006, the Group had net current liabiliies position of RMB32,180
          million which was due to the use of short-term notes payable for the aircraft
          acquisitions and other capital expenditures. The Group’s short-term notes
          payable amounted to RMB23,822 million as at December 31, 2006. The liquiditiy
          of
          the Group primarily depends on its ability to maintain adequate cash inflows
          from operations and to obtain adequate external finance. The Group may
          not be
          able to meet its debt obligations as they fall due and committed future
          capital
          expenditures.


*Potential
      conflicts of interest*




CSAHC
        will continue to be the controlling shareholder of the Company. CSAHC and
        certain of its affiliated companies will continue to provide certain important
        services to the Company, including the import and export of aircraft spare
        parts
        and other flight equipment, advertising
        services, provision of air catering and cabin supplies, pilot training services,
        air ticket selling services, cleaning services, leasing of propertiesand
        financial services. In addition, Mr. Liu Shao Yong, the Chairman of the Board
        of
        Directors, also serves as the General Manager of CSAHC. The interests of
        CSAHC
        may conflict with those of the Company. In addition, any disruption of the
        provision of services by CSAHC’s affiliated companies or a default by CSAHC of
        its obligations owed to the Company could affect the Company’s operations and
        financial conditions. In particular, as part of its cash management system,
        the
        Company periodically places significant amount of demand deposits with China
        Southern Airlines Group Finance Company Limited (“SA Finance”), a PRC authorized
        financial institution controlled by CSAHC and an affiliated company of the
        Company. As a result, the Company’s deposits with SA Finance are subject to the
        risks associated with the business of SA Finance over which the Company does
        not
        exercise control. As of December 31, 2005 and 2006, the Group had short-term
        deposits of RMB 544 million and RMB 629 million, respectively, with SA Finance.




8




Certain
      transactions between the Company and CSAHC or its affiliates (as defined in
      the
      Rules Governing the Listing of Securities on the Stock Exchange of Hong Kong
      Limited (the “Hong Kong Listing Rules”)) will constitute connected transactions
      of the Company under the Hong Kong Listing Rules and, unless exemptions are
      applicable or waivers are granted, will be subject to disclosure requirements
      and/or independent shareholders’ approval in a general meeting.




*Risks
      relating to certain real property*




Although
      systems for registration and transfer of land use rights and related real
      property interests in China have been implemented, such systems do not yet
      comprehensively account for all land and related property interests. The land
      in
      Guangzhou on which the Company’s headquarters and other facilities are located
      and the buildings that the Company uses at its route bases in Wuhan, Haikou
      and
      Zhengzhou are leased by the Company from CSAHC. However, CSAHC lacks adequate
      documentation evidencing CSAHC’s rights to such land and buildings, and, as a
      consequence, the lease agreements between CSAHC and the Company for such land
      have not been registered with the relevant authorities. As a result, such lease
      agreements may not be enforceable. Lack of adequate documentation for land
      use
      rights and ownership of buildings subjects the Company to challenges and claims
      by third parties with respect to the Company’s use of such land and buildings.




The
      Company has been occupying all of the land and buildings described above without
      challenge or claim by third parties. CSAHC has received written assurance from
      the General Administration of Civil Aviation of China (“CAAC”) to the effect
      that CSAHC is entitled to continued use and occupancy of the land and certain
      related buildings and facilities. However, such assurance does not constitute
      formal evidence of CSAHC’s right to occupy such lands, buildings and facilities
      or the right to transfer, mortgage or lease such real property interests. The
      Company cannot predict the magnitude of the adverse effect on its operations
      if
      its use of any one or more of these parcels of land or buildings were
      successfully challenged. CSAHC has agreed to indemnify the Company and Guangzhou
      Aircraft Maintenance Engineering Company Limited (“GAMECO”), the Company’s
      jointly controlled entity, against any loss or damage caused by any challenge
      of, or interference with, the use by the Company and GAMECO of any of their
      respective land and buildings.




*Risks
      associated with Hong Kong and Macau routes*




The
      Company’s Hong Kong regional routes benefit from traffic originating in Taiwan.
      The Company’s Hong Kong regional routes might be materially adversely affected
      if direct flights between Taiwan and Mainland China were permitted in the
      future. In such event, Xiamen Airlines Company Limited (“Xiamen Airlines”), the
      Company’s subsidiary, might apply for route rights for direct flights between
      Taiwan and Mainland China, due partly to the proximity to Taiwan of Fujian
      province, where Xiamen Airlines is based. However, there can be no assurance
      that sufficient routes and flights between destinations in Taiwan and Mainland
      China could be obtained by Xiamen Airlines, if at all, or that adequate yields
      will be generated on these routes and flights.




*Risks associated
      with increased costs from the requirements of Section 404 of the Sarbanes
      Oxley Act of 2002 to evaluate internal controls over financial
      reporting*




Section
      404 of the Sarbanes Oxley Act of 2002 requires that the Company evaluates
      and reports on the effectiveness of internal controls in providing reasonable
      assurance regarding the reliability of Financial Reporting. The initial
      compliance date for management to evaluate and report on internal control over
      financial reporting under Section 404 of the Sarbanes Oxley Act of 2002 for
      Foreign Accelerated Filers is for the financial year ending on or after July
      15,
      2006. The Company has prepared and implemented an internal plan for
      compliance and has completed the process of documenting and testing the system
      of internal controls over financial reporting to provide the basis for this
      report for the year ending December 31, 2006, which is set out in Item 15.
      The
      requirement to provide an auditors’ report on internal controls over financial
      reporting of the Group will apply for the financial year ending December 31,
      2007.




Due
      to
      ongoing evaluation and testing of the Company’s internal controls and the
      uncertainties of the interpretation of these new requirements, the Company
      cannot assure that there will not be significant deficiencies or material
      weaknesses that would be required to be reported. In the event that significant
      deficiencies or material weaknesses are reported, investor perceptions may
      be
      adversely affected and may cause a decline in the market price of our
      stock.




The Company
      has incurred increased costs and has dedicated an increased amount of management
      time and external resources in order to comply with the above legislation by
      the
      end of 2006 and may continue to do so in years to come. The process of
      documenting and testing the Company’s internal controls over financial
      reporting and considering improvements has required the Company to hire
      additional personnel and outside advisory services, resulting in additional
      accounting and consultancy expenses.


*Passive
        Foreign Investment Company*
  Depending
        upon the value of our shares and ADSs and the nature of our assets and income
        over time, we could be classified as a passive foreign investment company,
        or
        PFIC, by the United States Internal Revenue Service, or IRS, for U.S. federal
        income tax purposes. The Company believes that it was not a PFIC for the
        taxable
        year 2006. However, there can be no assurance that the Company will not be
        a
        PFIC for the taxable year 2007 and/or later taxable years, as PFIC status
        is
        re-tested each year and depends on the facts in such year.
 
 The
        Company will be classified as a PFIC in any taxable year if either: (1) the
        average percentage value of its gross assets during the taxable year that
        produce passive income or are held for the production of passive income is
        at
        least 50% of the value of its total gross assets or (2) 75% or more of its
        gross
        income for the taxable year is passive income (such as certain dividends,
        interest or royalties). For purposes of the first test: (1) any cash, cash
        equivalents, and cash invested in short-term, interest bearing, debt
        instruments, or bank deposits that is readily convertible into cash, will
        generally count as producing passive income or held for the production of
        passive income and (2) the average value of the Company’s gross assets is
        calculated based on its market capitalization.
 
 If
        the
        Company were a PFIC, you would generally be subject to additional taxes and
        interest charges on certain “excess” distributions the Company makes and on any
        gain realized on the disposition or deemed disposition of your ADSs, regardless
        of whether the Company continues to be a PFIC in the year in which you receive
        an “excess” distribution or dispose of or are deemed to dispose of your ADSs.
        Distributions in respect of your ADSs during a taxable year would generally
        constitute “excess” distributions if, in the aggregate, they exceed 125% of the
        average amount of distributions in respect of your ADSs over the three preceding
        taxable years or, if shorter, the portion of your holding period before such
        taxable year. For more information on the United States federal income tax
        consequences to you that would result from our classification as a PFIC,
        please
        see Item 10, “Taxation — United States Federal Income Taxation — U.S. Holders —
Passive Foreign Investment Company”.




9




Risks
      Relating to the Chinese Commercial Aviation Industry




*Government
      regulation*




The
      Company’s ability to implement its business strategy will continue to be
      affected by regulations and policies issued or implemented by the CAAC, which
      encompasses substantially all aspects of the Chinese commercial aviation
      industry, including the approval of domestic, Hong Kong regional and
      international route allocation, air fares, aircraft acquisition, jet fuel prices
      and standards for aircraft maintenance, airport operations and air traffic
      control. Such regulations and policies limit the flexibility of the Company
      to
      respond to market conditions, competition or changes in the Company’s cost
      structure. The implementation of specific CAAC policies could from time to
      time
      adversely affect the Company’s operations. The CAAC has confirmed in writing
      that the Company will be treated equally with other Chinese airlines with
      respect to certain matters regulated by the CAAC. Nevertheless, there can be
      no
      assurance that the CAAC will, in all circumstances, apply its regulations and
      policies in a manner that results in equal treatment of all airlines.




*Jet
      fuel supply and costs*




The
      availability and cost of jet fuel have a significant impact on the Group’s
      results of operations. The Group’s jet fuel costs for 2006 accounted for 35.2%
      of its operating expenses. All of the domestic jet fuel requirements of Chinese
      airlines (other than at the Shenzhen, Zhuhai and Sanya airports) must be
      purchased from the exclusive providers, China Aviation Oil Supplies Company
      (“CAOSC”) and Bluesky Oil Supplies Company, companies controlled and supervised
      by the CAAC. Chinese airlines may also purchase their jet fuel requirements
      at
      the Shenzhen, Zhuhai and Sanya airports from joint ventures in which the CAOSC
      is a partner. Jet fuel obtained from the CAOSC’s regional branches is purchased
      at uniform prices throughout China that are determined and adjusted by the
      CAOSC
      from time to time with the approval of the CAAC and the pricing department
      of
      the State Planning Commission based on market conditions and other factors.
      As a
      result, the costs of transportation and storage of jet fuel in all regions
      of
      China are spread among all domestic airlines. Prior to 1994, domestic jet fuel
      prices were generally below international jet fuel prices. Since then, however,
      the domestic jet fuel price from CAOSC has always been higher than international
      jet fuel prices, sometimes creating tension in fuel supply. In addition, jet
      fuel shortages have occurred in China and, on limited occasions before 1993,
      required the Company to delay or cancel flights. Although such shortages have
      not materially affected the Company’s results of operations since 1993, there
      can be no assurance that such shortage will not occur in the future. If such
      shortage occurs in the future and the Company is forced to delay or cancel
      flights due to fuel shortage, its operational reputation among passengers and
      results of operations may suffer.




*Infrastructure
      limitations*




The
      rapid
      increase in air traffic volume in China in recent years has put pressure on
      many
      components of the Chinese commercial aviation industry, including China’s air
      traffic control system, the availability of qualified flight personnel and
      airport facilities. Airlines, such as the Company, which have route networks
      that emphasize short- to medium-haul routes are generally more affected by
      insufficient aviation infrastructure in terms of on-time performance and high
      operating costs due to fuel inefficiencies resulting from the relatively short
      segments flown, as well as the relatively high proportion of time on the ground
      during turnaround. All of these factors may adversely affect the perception
      of
      the service provided by an airline and, consequently, the airline’s operating
      results. In recent years, the CAAC has placed increasing emphasis on the safety
      of Chinese airline operations and has implemented measures aimed at improving
      the safety record of the industry. The ability of the Company to increase
      utilization rates and to provide safe and efficient air transportation in the
      future will depend in part on factors such as the improvement of national air
      traffic control and navigation systems and ground control operations at Chinese
      airports, factors which are beyond the control of the Company.




*Competition*




The
      CAAC’s extensive regulation of the Chinese commercial aviation industry has had
      the effect of managing competition among Chinese airlines. Nevertheless,
      competition has become increasingly intense in recent years due to a number
      of
      factors, including relaxation of certain regulations by the CAAC and an increase
      in the capacity, routes and flights of Chinese airlines. Competition in the
      Chinese commercial aviation industry has led to widespread price-cutting
      practices that do not in all respects comply with applicable regulations. Until
      the interpretation of CAAC regulations limiting such price-cutting has been
      finalized and strictly enforced, discounted tickets from competitors will
      continue to have an adverse effect on the Company’s sales.




The
        Company faces varying degrees of competition on its Hong Kong regional routes
        from certain Chinese airlines and Hong Kong Dragon Airlines Limited and on
        its
        international routes, primarily from non-Chinese airlines, most of which
        have
        significantly longer operating histories, substantially greater financial
        and
        technological resources and greater name recognition than the Company. In
        addition, the public’s perception of the safety and service records of Chinese
        airlines could adversely affect the Company’s ability to compete against its
        Hong Kong regional and international competitors. Many of the Company’s
        international competitors have larger sales networks and participate in
        reservation systems that are more comprehensive and convenient than those
        of the
        Company, or engage in promotional activities, that may enhance their
        ability to attract international passengers.




*Limitation
      on foreign ownership*




Chinese
      Government policies limit foreign ownership in Chinese airlines. Under these
      policies, the percentage ownership of the Company’s total outstanding ordinary
      shares held by investors in Hong Kong and any country outside China (“Foreign
      Investors”) may not in the aggregate exceed 49%. Currently, 26.8% of the total
      outstanding ordinary shares of the Company are held by Foreign Investors. For
      so
      long as the limitation on foreign ownership is in force, the Company will have
      no meaningful access to the international equity capital markets.




10




*Consolidation
      and Restructuring*




In
      2000,
      the CAAC announced a restructuring plan with respect to the PRC aviation
      industry. Pursuant to such restructuring plan, each domestic airline was
      directed to consolidate into one of the three major airline groups in China:
      CSAHC, China National Aviation Holding Company and China Eastern Air Holding
      Group. As approved by the Company’s shareholders in an extraordinary general
      meeting on December 31, 2004, the Company acquired the airline operations and
      certain related assets of CNA and XJA. This consolidation and restructuring
      pursuant to the CAAC restructuring plan may involve uncertainties and risks
      over
      a long period of time, including the following:




****·
            
            failure
                to achieve the anticipated synergies, cost savings or revenue enhancing
                opportunities resulting from the restructuring
                activities;****·
            
            diversion
                of management’s attention from existing business concerns and other
                business opportunities of the Group;****·
            
            difficulty
                in integrating the assets and business of other airlines, including
                its
                employees, corporate culture, managerial systems and processes, business
                information systems and services;****·
            
            difficulty
                in exercising control and supervision over various new operations
                within
                the Group;****·
            
            failure
                to retain key personnel; and****·
            
            increase
                in financial pressure due to assumption of recorded / unrecorded
                liabilities of the acquired
                businesses.




The
      inability to manage additional businesses or integrate successfully the acquired
      businesses without substantial expense, delay or other operational or financial
      problems, or the occurrence of one or more of the events enumerated above,
      could
      materially adversely affect the Group’s financial condition and results of
      operations.




Risks
      relating to the PRC




*Foreign
      exchange risks*




Under
      current Chinese foreign exchange regulations, Renminbi is fully convertible
      for
      current account transactions, but is not freely convertible for capital account
      transactions. Current account foreign exchange transactions can be undertaken
      without prior approval from the relevant Chinese Government agencies by
      producing commercial documents evidencing such transactions, provided that
      they
      are processed through Chinese banks licensed to engage in foreign exchange
      transactions. Conversion from Renminbi into a foreign currency or vice versa
      for
      purposes of capital account transactions requires the prior approval of relevant
      Chinese Government agencies. This restriction on capital account transactions
      could affect the ability of the Company to acquire foreign currency for capital
      expenditures. It could also have a material adverse effect on the Company's
      operations and financial condition, given the Company's substantial foreign
      currency obligations.




The
        value
        of the Renminbi against the US dollar and other foreign currencies may fluctuate
        and is affected by, among other things, changes in China's political and
        economic conditions. On July 21, 2005, the PRC government changed its policy
        of
        pegging the value of the Renminbi to the U.S. dollar so that the Renminbi
        is now
        permitted to fluctuate within a band against a basket of certain foreign
        currencies. On
        May
        18, 2007, the People’s Bank of China announced that the floating band of
        Renminbi would be permitted to rise or fall by as much as 0.5%. The PRC
        government has stated publicly that it intends to further liberalize its
        currency policy, which could result in a further and more significant change
        in
        the value of the Renminbi against the U.S. dollar. As the Company is not
        able to
        hedge effectively against the revaluation of the Renminbi other than by
        retaining its foreign currencies which it receives from its business and
        operational activities to the extent permitted by applicable law, any
        significant revaluation of the Renminbi may have a material adverse effect
        on
        the Company's financial performance, and the value of, and any dividends
        payable
        on, the Company's H Shares and ADSs in foreign currency terms.




*Developing
      legal system*




The
      Chinese legal system is based on written statutes and is a system, unlike common
      law systems, in which decided legal cases have little precedential value. In
      1979, China began to promulgate a more comprehensive system of laws. On December
      29, 1993, the Chinese National People’s Congress promulgated the Company Law,
      which became effective on July 1, 1994. In August 1994, pursuant to the Company
      Law, the PRC State Council issued the PRC Special Regulations on Overseas
      Offering and Listing of Shares by Companies Limited by Shares to regulate joint
      stock companies that offer and list their shares overseas. These laws,
      regulations and legal requirements are relatively recent, and, like other laws,
      regulations and legal requirements applicable in China (including with respect
      to the commercial aviation industry), their interpretation and enforcement
      involve significant uncertainties.


*New
          tax law*
  On
          March
          16, 2007, the Fifth Plenary Session of the Tenth National People’s Congress
          passed the Corporate Income Tax Law of the People’s Republic of China (“new tax
          law”) which will take effect on January 1, 2008. The Company and certain
          subsidiaries of the Group are entitled to preferential income tax rates
          in the
          range of 15% to 27%. From January 1, 2008, the income tax rate of companies
          who
          are currently enjoying preferential income tax rates lower than 25% is
          expected
          to increase to the standard rate of 25% over a five-year transition period.
          However, the new tax law has not set out the details as to how the existing
          preferential tax rate will increase to the standard rate of 25%. It is
          uncertain
          whether the Group will be required to pay higher enterprise income tax
          when the
          implementation guidance of the new tax law is issued.


*Taxation
      of holders of H Shares or ADS by China*




Chinese
      tax law generally provides for the imposition of a withholding tax on dividends
      paid by a Chinese company to a non-Chinese shareholder at a rate of 20%. In
      a
      notice and a letter issued by the State Taxation Bureau of the PRC, however,
      the
      Chinese tax authorities confirmed that the imposition of this withholding tax
      on
      dividends paid by joint stock companies, such as the Company, had been
      suspended. Accordingly, for so long as this imposition is suspended and not
      replaced or supplemented with similar requirements, any future dividends to
      be
      paid by the Company to holders of H Shares or ADS who are foreign individuals
      not resident in China or which are foreign enterprises with no permanent
      establishment in China will not be subject to a Chinese withholding tax. In
      the
      event that the suspension of the withholding tax is lifted, such payments will
      be subject to withholding tax at the 20% rate unless the holder is entitled
      to a
      tax waiver or a lower tax rate under an applicable double-taxation treaty.
      See
      Item 10 “Additional Information — Taxation”.




11




**ITEM
      4. INFORMATION ON THE COMPANY.**




**History
      and Development of the Company**




The
      Company is a joint stock company incorporated in China on March 25, 1995, and
      is
      50.3% owned by CSAHC. The registered address of the Company is Guangzhou
      Economic & Technology Development Zone, People’s Republic of China
      (telephone no: (86)20-8612-4738, website: www.cs-air.com).




On
      March
      13, 2003, the Company obtained an approval certificate from the Ministry of
      Commerce to change to a permanent limited company with foreign investments
      and
      on October 17, 2003 obtained a business license for its new status, as a
      permanent limited company with foreign investments issued by the State
      Administration of Industry and Commerce of the People’s Republic of China.




Pursuant
      to an extraordinary general meeting of shareholders held on May 21, 2002, a
      resolution was passed authorizing the Company to issue not more than
      1,000,000,000 A Shares of par value of RMB1.00 each. The Company issued and
      listed its 1,000,000,000 A Shares with a par value of RMB1.00 each on the
      Shanghai Stock Exchange in July 2003.


Pursuant
          to a sale and purchase agreement dated November 12, 2004 between the Company,
          China Southern Airlines Holding Company, CNA and XJA which was approved
          by the
          Company’s shareholders in an extraordinary general meeting held on December 31,
          2004, the Company acquired the airline operations and certain related assets
          of
          CNA and XJA with effect from December 31, 2004 (the “CNA/XJA Acquisitions”). The
          consideration payable for the CNA/XJA Acquisitions amounting to RMB15,522
          million was determined based on the fair value of the acquired assets.
          Such
          consideration was partly satisfied by assumption of debts and liabilities
          of CNA
          and XJA totaling RMB13,563 million outstanding as of December 31, 2004
          and the
          remaining balance of RMB1,959 million was fully paid in cash during
          2005.
 
 On
          April
          30, 2006, the Company acquired certain assets of CSAHC Hainan Co., Ltd
          (“CSAHC
          Hainan”), a wholly-owned subsidiary of CSAHC, at a total consideration of RMB294
          million, which was partly satisfied by assumption of debts and liabilities
          of
          CSAHC Hainan totaling RMB289 million outstanding as of that date. The remaining
          balance of RMB5 million was settled in cash during 2006.
  **Aircraft
              Acquisitions**
  Pursuant
              to the Airbus Aircraft Acquisition Agreement dated July 6, 2006 between
              the
              Company and Airbus, the Company will acquire 50 Airbus A320 series
              aircraft from
              Airbus. The aggregate
              catalogue price for the Airbus Aircraft is RMB26.526 billion (approximately
              US$3.316 billion). The aggregate consideration for the acquisition
              of the Airbus
              Aircraft is payable by cash in installments and the Airbus Aircraft
              will be
              delivered in stages to the Company during the period commencing from
              2009 to
              2010. ****
  Pursuant to the Boeing Aircraft Acquisition Agreement dated October
              13, 2006
              between the Company and Boeing, the Company will purchase 6 Boeing
              B777F
              freighters from Boeing. The catalogue price of a Boeing B777F freighter
              is
              US$232 million. The aggregate consideration for the acquisition of
              the B777F
              Freighters is partly payable by cash of the Company, and partly by
              financing
              arrangements with banking institutions and the Boeing Aircraft will
              be delivered
              in stages to the Company during the period commencing from November
              2008 to July
              2010.
  Pursuant
              to the Xiamen Aircraft Acquisition Agreement dated October 13, 2006
              between
              Xiamen Airlines and Boeing, Xiamen Airlines will acquire 6 Boeing B737-800
              aircraft from Boeing. The catalogue price of a Boeing B737-800
              aircraft is US$66-US$75 million. Such
              catalogue price includes price for airframe and engine. The aggregate
              consideration for the acquisition of the B737-800 Aircraft is payable
              by cash in
              instalments and the B737-800 Aircraft will be delivered to Xiamen Airlines
              in
              2010.
  The
              acquisition of the Airbus Aircraft, the B777F Freighters and the B737-800
              Aircraft is beneficial to implementation of the Company’s development strategy,
              improvement of the Company’s operating capacity, especially the expansion of
              freight services, It is also believed that the acquisitions will better
              serve
              the passenger with premium services and enhance the core competence
              of the
              Company.


12


**Capital
        Expenditure**
  The
            Group
            had RMB6,631million, RMB11,873 million and RMB 6,403 million capital
            expenditures in 2004, 2005 and 2006, respectively. Of such capital expenditures
            in 2006, RMB 3,759 was financed by capital leases, RMB 2,076 million
            was
            financed by bank borrowings while the remaining RMB 568 million was financed
            by
            internal resources. The capital expenditures were primarily incurred
            on the
            additional investments in aircraft and flight equipment under the Group’s fleet
            expansion plans and Guangzhou new airport, and, to a small extent, additional
            investments in other facilities and buildings for operations.




**Business
      Overview**




General




The
        Group
        provides commercial airline services throughout China, Hong Kong and Macau
        regions, Southeast Asia and other parts of the world. The Group is one of
        the
        three largest Chinese airlines and, as of year end 2006, ranked first in
        terms
        of passengers carried, number of scheduled flights per week, number of hours
        flown and size of route network and aircraft fleet. During the three years
        ended
        December 31, 2006, the Group’s RPKs increased at a compound annual rate of
        36.8%, from 37,196 million in 2004 to 61,923 million in 2005, and to 69,582
        million in 2006, while its capacity, measured in terms of ASKs, increased
        at a
        compound annual rate of 34.4%, from 53,769 million in 2004 to 88,361 million
        in
        2005, and to 97,059 million in 2006. In 2006, the Group carried 49.21
        million passengers and had passenger revenue of RMB 41,549 million (US$5,321
        million).




The
        Group
        conducts a portion of its airline operations through its airline subsidiaries
        namely Xiamen Airlines, Southern Airlines (Group) Shantou Airlines Company
        Limited (“Shantou Airlines”), Guangxi Airlines Company Limited (“Guangxi
        Airlines”), Zhuhai Airlines Company Limited (“Zhuhai Airlines”) and Guizhou
        Airlines Company Limited (“Guizhou Airlines”) (collectively, the “Airline
        Subsidiaries”). In 2006, the Airline Subsidiaries carried 12.90 million
        passengers, had traffic revenue of RMB 8,726 million (US$ 1,118 million)
        and accounted for 26.2% and 19.4 % of the Group’s passengers carried
        and traffic revenue, respectively. Guangxi Airlines become a wholly-owned
        subsidiary of the Group in 2006. All the assets and liabilities of Guangxi
        Airlines were transferred to the Company on December 31,
        2006.




The
      Group
      also provides air cargo and mail services. The cargo and mail revenue of the
      Group increased by 14.5% to RMB3,538 million (US$ 453 million) in 2006 as
      compared with 2005. The Group’s airline operations are fully integrated with its
      airline-related businesses, including aircraft and engine maintenance, flight
      simulation and air catering operations.




As
      of the
      year end 2006, the Group operated 616 routes, of which 501 were domestic, 90
      were international and 25 were to/from Hong Kong and Macau. The Group operates
      the most extensive domestic route network among all Chinese airlines. In 2006,
      the Group operated an average of 9,308 landings and take-offs per week, serving
      152 destinations. Its route network covers commercial centres and rapidly
      developing economic regions in Mainland China.




The
      Group’s corporate headquarters and principal base of operations are located in
      Guangzhou, the capital of Guangdong Province and the largest city in southern
      China. Located in the rapidly developing Pearl River Delta region, Guangzhou
      is
      also the transportation hub of southern China and one of China’s major gateway
      cities. Guangzhou’s significance has increased as the transportation
      infrastructure of Guangdong Province has developed through the construction
      and
      development of expressways, an extensive rail network and the port cities of
      Yantian, Shekou, Chiwan, Mawan, Huangpu and Zhuhai.


In
          December 2005, the Company established a branch company in Beijing and
          has added
          wide-body airplanes to its operation base in Beijing, with the view to
          expanding
          its Beijing aviation business and building another main hub there in addition
          to
          its Guangzhou base. The establishment of Guangzhou and Beijing hubs will
          facilitate strategic refinement and enhancement of its route network operations
          putting the Company in a better position to explore and seize the
          opportunities in the regional aviation market expected to be brought about
          by
          the 2008 Beijing Olympic Games.





In
      2006,
      the Comapny expedited the pace of its expansion into the international market
      by
      entering into an operation agreement to join the SkyTeam Alliance, a strategic
      partnership with foreign airlines. The Company broadened its global market
      coverage and successfully added 18 new international routes, including Lagos
      and
      Tehran, and nine international destinations.




The
      Group’s operations primarily focus on the domestic market. In addition, the
      Group also operates Hong Kong and Macau and international flights. As of year
      end of 2006, the Group had 25 Hong Kong and Macau routes and 90 international
      routes. The Group’s Hong Kong and Macau operations include flights between
      destinations in China and Hong Kong and Macau.




As
        of
        December 31, 2006, the Group operated a fleet of 309 aircraft, consisting
        primarily of Boeing 737 series, 747, 757, 777, Airbus 300, 319, 320, 330,
        McDonnell Douglas 82, 90. The average age of the Group’s fleet was 6.37 years as
        of the year end of 2006.




13




Restructuring
        and Initial Public Offering




As
      part
      of China’s economic reforms in the 1980’s, the PRC State Council directed the
      CAAC to separate its governmental, administrative and regulatory role from
      the
      commercial airline operations that were being conducted by the CAAC and its
      regional administrators. As a result, CSAHC was established on January 26,
      1991
      for the purpose of assuming the airline and airline-related commercial
      operations of the Guangzhou Civil Aviation Administration, one of the six
      regional bureaus of the CAAC. CSAHC was one of the 55 large-scale enterprises
      designated by the Chinese Government to play a leading role in their respective
      industries.




CSAHC
        was
        restructured in 1994 and 1995 in anticipation of the initial public offering
        of
        the Company. The restructuring was effected through the establishment of
        the
        Company and the execution of the Demerger Agreement, dated as of March 25,
        1995,
        as amended (the “Demerger Agreement”), between CSAHC and the Company. Upon the
        restructuring, the Company assumed substantially all of the airline and
        airline-related businesses, assets and liabilities of CSAHC, and CSAHC retained
        its non-airline-related businesses, assets and liabilities. Upon this
        separation, all interests, rights, duties and obligations of CSAHC, whenever
        created or accrued, were divided between the Company and CSAHC based on the
        businesses, assets and liabilities assumed by each of them under the Demerger
        Agreement. Under the Demerger Agreement, CSAHC agreed not to conduct or
        participate or hold any interest in, either directly or indirectly, any
        business, activity or entity in or outside China that competes or is likely
        to
        compete with the commercial interests of the Group, although CSAHC may continue
        to hold and control the affiliates of CSAHC existing on the date of the Demerger
        Agreement and may continue to operate the businesses of such affiliates.




In
      July
      1997, the Company completed a private placement of 32,200,000 H Shares to
      certain limited partnership investment funds affiliated with Goldman Sachs
&
Co. and an initial public offering of 1,141,978,000 H Shares, par value RMB
      1.00
      per share, and listing of the H Shares on The Stock Exchange of Hong Kong
      Limited (the “Hong Kong Stock Exchange”) and American Depositary Shares (“ADSs”,
      each ADS representing 50 H Shares) on the New York Stock Exchange. Prior to
      the
      private placement and the initial public offering, all of the issued and
      outstanding shares of capital stock of the Company, consisting of 2,200,000,000
      Domestic Shares, par value RMB 1.00 per share, were owned by CSAHC, which owns
      and exercises, on behalf of the Chinese Government and under the supervision
      of
      the CAAC, the rights of ownership of the Domestic Shares held by CSAHC. After
      giving effect to the private placement and the initial public offering, CSAHC’s
      continued ownership of the 2,200,000,000 Domestic Shares, represented
      approximately 65.2% of the total share capital of the Company, and will be
      entitled to elect all the directors of the Company and to control the management
      and policies of the Group. Domestic Shares and H Shares are both ordinary shares
      of the Company.




Pursuant
      to an extraordinary general meeting of shareholders held on May 21, 2002, a
      resolution was passed authorizing the Company to issue not more than
      1,000,000,000 A Shares of par value of RMB1.00 each. The Company issued
      1,000,000,000 A Shares with a par value of RMB1.00 each in July 2003 and listed
      these shares on the Shanghai Stock Exchange. Subsequent to the A Share issue,
      the shareholding of CSAHC on the Company was reduced from 65.2% to 50.3%.




Share
          Reform Plan


Pursuant
          to the regulations including the "Guidelines of the State Council for Promoting
          the Reform and Opening-up and Sustained Development of the Capital Market"
          promulgated by the State Council of the PRC and the "Guiding Opinions on
          the
          State Share Reform of the Listed Companies" jointly promulgated by the
          China
          Securities Regulatory Commission (“CSRC”), the State-owned Assets Supervision
          and Administration Commission of the State Council, the Ministry of Finance,
          People's Bank of China and the Ministry of Commerce, and pursuant to the
          operating procedures of share reform proposals, the Company announced the
          Share
          Reform Plan (“Plan”) on April 13, 2007 which was subsequently amended on April
          23, 2007. Under
          the
          Plan, all the 2,200,000,000 non-tradable domestic shares held by CSAHC
          will be
          converted into tradable A shares 36 months after the commencement date
          of the
          Plan. In return, CSAHC will grant 1,400,000,000 put options to those holders
          of
          tradable A shares who are listed in the Shareholders’ register on the record
          date which is May 8, 2007, which will be equivalent to 1.5970 shares for
          every 10 A shares held by the holders of tradable A shares. The rights
          under the
          put options as referred above will be automatically exercised in a European
          way
          on the expiring date in that the exercise ratio will be 2 to 1 (i.e., the
          value
          of the exercise ratio is 0.5), the effective period will be 12 months period,
          the initial exercise price will be RMB7.43, and the put options will be
          paid in
          cash. The
          share
          reform plan was approved in the relevant shareholder’s meeting held on May 17,
          2007.




Traffic




The
      following table sets forth certain statistical information with respect to
      the
      Group’s passenger, cargo and mail traffic for the years indicated.




**Passenger
                carried**
            
            **Cargo
                and Mail Carried (tons)**
            
            **Total
                traffic (tons kilometers)****Increase**
            
            
            
            **Increase**
            
            
            
            **Increase****(decrease)**
            
            
            
            **(decrease)**
            
            
            
            **(decrease)****over**
            
            
            
            **over**
            
            
            
            **over****Total**
            
            **previous
                year**
            
            **Total**
            
            **previous
                year**
            
            **Total**
            
            **previous
                year****Year**
            
            **(in
                million)**
            
            **(%)**
            
            **(in
                thousand)**
            
            **(%)**
            
            **(in
                million)**
            
            **(%)**2002
            
            
            21.49
            
            
            12.4
            
            
            470.0
            
            
            18.1
            
            
            3,614.0
            
            
            19.12003
            
            
            20.47
            
            
            (4.7
            )
            
            464.0
            
            
            (1.3
            )
            
            3,561.0
            
            
            (1.5
            )2004
            
            
            28.21
            
            
            37.8
            
            
            545.0
            
            
            17.5
            
            
            4,663.0
            
            
            30.92005
            
            
            44.12
            
            
            56.4
            
            
            775.0
            
            
            42.2
            
            
            7,284.0
            
            
            56.22006
            
            
            49.21
            
            
            11.6
            
            
            819.0
            
            
            5.4
            
            
            8,071.0
            
            
            10.8






14


Route
          Network




Overview




The
      Group
      operates the most extensive route network among the Chinese airlines. As of
      December 31, 2006, the Group operated 616 routes consisting of 501 domestic
      routes, 25 Hong Kong and Macau routes and 90 international routes. In 2006,
      the
      Group conducted an average of 9,308 landings and take-offs per week, serving
      152
      destinations.




The
      Group
      continually evaluates its network of domestic, Hong Kong and Macau and
      international routes in light of its operating profitability and efficiency.
      The
      Group seeks to coordinate flight schedules with the Airline Subsidiaries on
      shared routes to maximize load factors and utilization rates. The acquisition
      of
      domestic, Hong Kong and Macau and international routes is subject to approval
      of
      the CAAC, and the acquisition of Hong Kong and Macau and international routes
      is
      also subject to the existence and the terms of agreements between the Chinese
      Government and the government of the Hong Kong SAR, the government of Macau
      Special Administrative Region of the People’s Republic of China (“Macau SAR”)
      and the government of the proposed foreign destination.




In
      order
      to expand the Group’s international route network, the Group has entered into
      code-sharing agreements with several international airlines, including Delta
      Airlines, Asiana Airlines, Japan Air System, Vietnam Airlines, Royal Dutch
      Airlines and Garuda Indonesian. Under the code sharing agreements, the
      participating airlines are permitted to sell tickets on certain international
      routes operated by the Group to passengers using the Group’s codes. Similarly,
      the Group is permitted to sell tickets for the other participating airlines
      using its “CZ” code. The code sharing agreements help increase the number of the
      Group’s international sales outlets.




Route
      Bases




In
        addition to its main route bases in Guangzhou and Beijing, the Group maintains
        certain regional route bases in Zhengzhou, Wuhan, Changsha, Shenzhen, Shenyang,
        Changchun, Dalian, Harbin, Urumqi, Haikou, Zhuhai, Xiamen, Fuzhou, Nanning,
        Guilin, Shantou, Guiyang, Sanya and Beihai. Most of its regional route bases
        are
        located in provincial capitals or major commercial centres in the PRC.




The
      Group
      believes that its extensive network of route bases enable it to coordinate
      flights and deploy its aircraft more effectively and to provide more convenient
      connecting flight schedules and access service and maintenance facilities for
      its aircraft. The Group believes that the number and location of these route
      bases may enhance the Group’s ability to obtain the CAAC’s approval of requests
      by the Group to open new routes and provide additional flights between these
      bases and other destinations in China. Current regulations of the CAAC generally
      limit airlines to operations principally conducted from their respective route
      bases.




Domestic
      Routes




The
      Group’s domestic routes network serves substantially all provinces and
      autonomous regions in China, including Guangdong, Fujian, Hubei, Hunan, Hainan,
      Guangxi, Guizhou, Henan, Heilongjiang, Jilin, Liaoning and Xinjiang, and serves
      all four centrally-administered municipalities in China, namely, Beijing,
      Shanghai, Tianjin, and Chongqing. In
      2006,
      the Group’s most profitable domestic routes were between: Guangzhou and Beijing,
      Guangzhou and Shanghai, Shanghai and Guangzhou, Beijing and Guangzhou, Shenzhen
      and Beijing, Shenzhen and Shanghai, Urumqi and Beijing, Beijing and Shenzhen,
      Beijing and Urumqi, and Beijing and Dalian.




Hong
      Kong
      and Macau Routes





The
        Group
        offers scheduled service between Hong Kong and Guangzhou, Kunming, Xiamen,
        Shantou, Beijing, Guilin, Meixian, Haikou, Wuhan, Zhengzhou, Nanning, Changsha,
        Quanzhou and Sanya; and between Macau and Fuzhou, Hangzhou and Xiamen. The
        Group’s Hong Kong and Macau regional routes also include routes between Hong
        Kong and Zhanjiang and Macau and other destinations in China, including Zhang
        Jia Jie and Wu Yi Shan, which the Group operates on a “charter” flight basis, as
        explained below. The Group believes that the routes on which it operates
        these
“charter” flights are among its highest yielding routes, primarily because the
        Group faces limited competition on such routes and is consequently less subject
        to downward pricing pressures. In
        2006,
        the most profitable Hong Kong and Macau routes (other than these “charter”
flights) were between: Hong Kong and Wuhan, Hong Kong and Guangzhou, Guangzhou
        and Hong Kong, Hong Kong and Beijing, Wuhan and Hong Kong and Hong Kong and
        Shantou.




15




The
      Group’s “charter” flights are regularly scheduled flights, but permission to
      operate these flights is subject to monthly review by the CAAC and the Civil
      Aviation Department of the Hong Kong SAR. The CAAC has informally indicated
      that
      it primarily considers market demand and airline capability in granting
      permission for such flights. The Group has been able to maintain all of the
      Hong
      Kong regional routes which it operates on a “charter” flight basis and believes
      that demand on such routes will continue. In 2006, the Group conducted a total
      of 16,949 flights on its Hong Kong and Macau routes, accounting for
      approximately 28.8% of all passengers carried by Chinese airlines on routes
      between Hong Kong or Macau and destinations in China.




International
        Routes




The
      Group
      is the principal Chinese airline connecting the rapidly developing Pearl River
      Delta region of China to Southeast Asia, with 23 routes serving 11 Southeast
      Asian destinations, including Singapore and major cities in Indonesia, Thailand,
      Malaysia, the Philippines, Vietnam and Cambodia. In 2006, the Group’s most
      profitable international routes were: Shenyang-Seoul, Guangzhou-Tokyo,
      Seoul-Dalian, Guangzhou-Los Angeles. The Group believes that, among Chinese
      airlines, it is well-positioned to benefit from the business opportunities
      arising out of increased air traffic and the growing economic relationships
      between China and Southeast Asian countries.




In
        addition to the 23 routes serving 11 Southeast Asian destinations, the Group
        operates 67 other international routes providing scheduled services to Almaty,
        Amsterdam, Baku, Bishkek, Cheju, Cheong Ju City, Dubai, Dushanbe, Fukuoka,
        Hiroshima, Islamabad, Irkutsk, Khabarovsk, Kita Kyushu, Kwangju, Lagos, Los
        Angeles, Melbourne, Moscow, Nagoya, Nigata, Novosibirsk, Osaka, Paris, Pusan,
        Pyongyang, Sapporo, Sendai, Seoul, Sharjah, Sydney, Taegu, Tashkent, Teheran,
        Tokyo and Toyama.




Aircraft
        Fleet




The
      Group’s fleet plan in recent years has emphasized expansion and modernization
      through the acquisition of new aircraft, the acquisition of existing aircraft
      in
      conjunction with our acquisition of CNA and XJA, and the retirement of less
      efficient, older aircraft. As of December 31, 2006, the Group operated a fleet
      of 309 aircraft with an average age of 6.37 years. Most aircraft of the Group
      are Boeing and Airbus aircraft. The Group has the largest fleet among Chinese
      airline companies. Most of the aircraft operated by the Group are leased
      pursuant to various types of leasing arrangements.




The
      following table sets forth certain information regarding the Group’s fleet of
      309 aircraft as of December 31, 2006.




**Model**
            
            **Number
                of**
              **Aircraft**
            
            **Average
                age**
              **(years)**
            
            **Average**
              **Passenger**
              **Capacity**Boeing
                777-200
            
            
            4
            
            
            10.53
            
            
            380Boeing
                777-21B
            
            
            6
            
            
            8.20
            
            
            292Boeing
                757-200
            
            
            34
            
            
            11.58
            
            
            200Boeing
                747F
            
            
            2
            
            
            4.42
            
            
            n/aBoeing
                737-800
            
            
            38
            
            
            2.86
            
            
            167Boeing
                737-700
            
            
            38
            
            
            3.01
            
            
            138Boeing
                737-500
            
            
            8
            
            
            12.57
            
            
            130Boeing
                737-300
            
            
            29
            
            
            12.72
            
            
            145Airbus
                300-600
            
            
            6
            
            
            11.96
            
            
            272Airbus
                319-100
            
            
            27
            
            
            1.66
            
            
            128Airbus
                320-200
            
            
            49
            
            
            4.09
            
            
            158Airbus
                321-200
            
            
            17
            
            
            2.24
            
            
            182Airbus
                330-200
            
            
            4
            
            
            1.72
            
            
            264McDonnell
                Douglas 82
            
            
            23
            
            
            21.54
            
            
            144McDonnell
                Douglas 90
            
            
            13
            
            
            8.85
            
            
            157Embraer
                145 Jet
            
            
            6
            
            
            2.23
            
            
            50ATR-72
            
            
            5
            
            
            8.95
            
            
            72309




During
      2006, the Group continued to expand and modernize its aircraft fleet. The
      Group’s major aircraft transactions included:





In
        2006,
        the Company exercised purchase options of ten Boeing 737-300, three McDonnell
        Douglas 90, seven McDonnell Douglas 82 and three Airbus 300-600 upon expiry
        of the respective lease terms.




16


Six
          Airbus 319-100, ten Airbus 320-200, seven Airbus 321-200, five
          Boeing 737-700, ninteen 737-800 aircraft were acquired under operating
          lease,
          and two Boeing 737-300, nine Boeing 737-500, one Boeing 757-200 aircraft
          under
          operating lease were
          returned during 2006. In addition, nine
          Airbus 320-200, four Boeing 737-700 and four Boeing 737-800
          aircraft acquired in 2006 were financed by a combination of internal funds,
          long-term bank loans and finance lease agreements.




On
        April
        30, 2006, the Company acquired one McDonnell Douglas 82 aircraft through
        the
        acquisition of the assets from CSAHC Hainan, originally operated by the Company
        under a wet lease agreement. The wet lease agreement was discontinued on
        April
        30, 2006.





In August
        2006, the Group exercised its option to change an order from three Boeing
        787
        aircraft to six Boeing 737-700 aircraft in respect of an agreement signed
        on
        August 8, 2005.




In
        July
        2006, the Company entered into a purchase agreement with Airbus SNC to acquire
        ten Airbus 319-100, fifteen Airbus 320-200 and twenty-five Airbus 321-200
        aircraft, scheduled for deliveries in 2009 to 2010.




In
        October 2006, the Company executed the Boeing Aircraft Acquisition Agreement
        for
        the purchase of six Boeing 777F freighters. The freighters will be delivered
        in
        stages to the Company in 2008 to 2010.




In
        October 2006, the Group executed the Boeing Aircraft Acquisition
        Agreement for the purchase of six Boeing 737-800 aircraft, scheduled for
        deliveries in 2010.





In
      2006,
      the Company disposed of three Boeing 757-200 and three Cessna 208B
      aircraft.




Aircraft
      Financing Arrangements




*Overview*




A
      significant portion of the Group’s aircraft is acquired under long-term capital
      or operating leases or long-term mortgage loans with remaining terms to maturity
      ranging from one to twelve years. As of December 31, 2006, 81 of the Group’s 309
      aircraft were operated under capital leases, 123 were operated under operating
      leases, 19 were financed by long-term mortgage loans, while the remaining were
      acquired either with cash proceeds or acquired by exercising the purchase
      options upon expiry of the respective capital leases. The Group’s planned
      acquisition of aircraft in the foreseeable future will generally be made
      pursuant to operating leases or capital leases. The Group’s determination as to
      its acquisition strategy depends on the Group’s evaluation at the time of its
      capacity requirements, anticipated deliveries of aircraft, the Group’s capital
      structure and cash flow, prevailing interest rates and other general market
      conditions.




The
      following table sets forth, as of December 31, 2006, the number of aircraft
      operated by the Group pursuant to capital and operating leases and the remaining
      terms, expressed in years, of such leases.




**Model**
            
            **Capital**
              **Lease**
            
            **Operating**
              **Lease**
            
            **Average**
              **Remaining**
              **Lease
                Term**Boeing
                777-200 and 777-21B
            
            
            6
            
            
            4
            
            
            3.48Boeing
                757-200
            
            
            2
            
            
            14
            
            
            2.29Boeing
                737-700
            
            
            11
            
            
            15
            
            
            6.37Boeing
                737-800
            
            
            —
            
            
            22
            
            
            7.45Boeing
                737-500
            
            
            —
            
            
            8
            
            
            1.81Boeing
                737-300
            
            
            5
            
            
            8
            
            
            1.31Airbus
                300-600
            
            
            —
            
            
            3
            
            
            0.77Airbus
                319-100
            
            
            6
            
            
            21
            
            
            8.42Airbus
                320-200
            
            
            33
            
            
            16
            
            
            6.16Airbus
                321-100
            
            
            6
            
            
            7
            
            
            9.47Airbus
                330-200
            
            
            4
            
            
            —
            
            
            10.28McDonnell
                Douglas 82
            
            
            —
            
            
            5
            
            
            —McDonnell
                Douglas 90
            
            
            8
            
            
            —
            
            
            1.0981
            
            
            123





17




*Capital
      Leases*




As
        of
        December 31, 2006, the Group’s aggregate future minimum lease payments
        (including future finance charges) required under its capital leases were
        RMB
        18,403 million (US$ 2,357 million). As of year end 2006, a majority of the
        Group’s capital leases had original terms ranging from ten to fifteen years from
        the date of delivery of the relevant aircraft, and the remaining terms of
        these
        leases ranged from one to ten years. The Group’s capital leases typically
        cover a significant portion of the relevant aircraft’s useful life and transfer
        the benefits and risks of ownership to the Group. Under its capital leases,
        the
        Group generally has an option to purchase the aircraft at or near the end
        of the
        lease term. As is customary in the case of capital leases, the Group’s
        obligations are secured by the related aircraft, as well as other collateral.




*Operating
      Leases*




As
      of
      December 31, 2006, the Group’s aggregate future minimum lease payments required
      under its operating leases were RMB 21,969 million (US$ 2,813 million). As
      of
      year end 2006, the Group’s operating leases had original terms generally ranging
      from five to fifteen years from the date of delivery of the relevant aircraft,
      and the remaining terms of these leases generally ranged from one to twelve
      years. Pursuant to the terms of the operating leases, the Group is obligated
      to
      make rental payments based on the lease term, with no termination payment
      obligations or purchase option, and the lessor bears the economic benefits
      and
      risks of ownership. Under its operating leases, the Group has no option to
      purchase the aircraft and is required to return the aircraft in the agreed
      condition at the end of the lease term. Although title to the aircraft remains
      with the lessor, the Group is responsible during the lease term for the
      maintenance, servicing, insurance, repair and overhaul of the aircraft.




Pursuant
      to capital or operating leases, the Group is obligated to indemnify the lessors
      against any withholding or similar taxes that may be imposed on the lessors
      by
      taxing authorities in China with regard to payments made pursuant to such
      leases. In accordance with relevant PRC tax regulations, a PRC lessee is liable
      to pay PRC withholding tax in respect of any lease payments regularly made
      to an
      overseas lessor. Depending on the circumstances, this tax is generally imposed
      at a fixed rate ranging from 10% to 20% of the lease payments, or in certain
      cases, the interest components of such payments. Pursuant to an approval
      document from the State Taxation Bureau, lease arrangements executed prior
      to
      September 1, 1999 are exempt from PRC withholding tax. The PRC withholding
      tax
      payable in respect of the operating leases executed after September 1, 1999
      of
      RMB23 million, RMB55 million and RMB60 million during 2004, 2005 and 2006
      respectively, have been included as part of the operating lease charges.




Aircraft
      Flight Equipment




The
      jet
      engines used in the Group’s aircraft fleet are manufactured by General Electric
      Corporation, Rolls-Royce plc, United Technologies International, Inc., CFM
      International, Inc. and International Aviation Engines Corporation. As of year
      end 2006, the Group had 69 spare jet engines for its fleet. The Group determines
      its requirements for jet engines based on all relevant considerations, including
      manufacturers’ recommendations, the performance history of the jet engines and
      the planned utilization of its aircraft. Acquisition of rotables and certain
      of
      the expendables for the Group’s aircraft are generally handled by Southern
      Airlines (Group) Import & Export Trading Corporation (“SAIETC”), a
      subsidiary of CSAHC acting as agent for the Group, in consideration of an agency
      fee. The Group arranges the ordering of aircraft, jet engines and other flight
      equipment for the Airline Subsidiaries and keeps an inventory of rotables and
      expendables for the Airline Subsidiaries.




Aircraft
      Maintenance




A
      major
      part of the maintenance for the Group’s fleet other than overhauls of jet
      engines is performed by GAMECO, a jointly controlled entity established by
      the
      Company, Hutchison Whampoa (“Hutchison”) and South China International Aircraft
      Engineering Company Limited, consistent with the Group’s strategy to achieve
      fully integrated airline operations and to assure continued access to a stable
      source of high quality maintenance services. The remaining part of the
      maintenance for the Group’s fleet other than overhauls of jet engines is
      performed by service providers in China and overseas. GAMECO performs all types
      of maintenance services, ranging from maintenance inspections performed on
      aircraft before, after and between flights (“line maintenance services”) to
      major overhaul performed at specified intervals. GAMECO was the first of three
      aircraft maintenance facilities in China having been certified as a repair
      station by both the CAAC and the FAA. In March 1998, GAMECO received an approval
      certificate from the United Kingdom Civil Aviation Authority for the repair
      and
      maintenance of aircraft and aircraft engines.




The
      Group
      believes that GAMECO performs major maintenance checks on the Group’s aircraft
      within time periods generally consistent with those of large international
      airline maintenance centers. GAMECO’s repair and maintenance capabilities
      include overhaul of more than 90% of the Group’s aircraft. Although rotables for
      the Group’s aircraft are generally imported through SAIETC, a portion of
      expendables and other maintenance materials are directly imported by GAMECO.
      GAMECO also provides line maintenance services to eight other Chinese airlines
      and 17 international airlines. GAMECO provides heavy maintenance services to
      four other Chinese airlines and nine international airlines.




The
        Company and GAMECO had entered into an Aircraft Maintenance and Engineering
        Agreement for the provision of aircraft repair and maintenance services.
        On May
        17, 1996, the Company and GAMECO entered into an agreement regarding the
        fee
        arrangement for the provision of such repair and maintenance services (the
“Fee
        Agreement”). Pursuant to the Fee Agreement and subsequent agreements, GAMECO
        charged the Company for expendables at cost plus 16%, and labour costs at
        US$30
        per hour during 2006. For the year ended December 31, 2006, the amount incurred
        by the Group for such repair and maintenance services was RMB 686 million.




18


Overhauls
          of jet engines are performed by MTU Maintenance Zhuhai Co., Ltd., (“MTU
          Zhuhai”), a jointly controlled entity of the Company and MTU Aero Engines Gmbh,
          and also by overseas qualified service providers in Germany, Malaysia,
          Canada
          and England. For the year ended December 31, 2006, repair fees amounting
          to
          RMB497 million were paid to MTU Zhuhai.




Safety




The
      Group
      endeavors to maintain strict compliance with all laws and regulations applicable
      to flight safety. In addition, the Group has adopted measures to eliminate
      or
      minimize factors that may impair flight safety, including specialized training
      programs and safety manuals. The Air Safety Management Department of the Company
      implements safety-related training programs on an ongoing basis in all of the
      Group’s operations to raise the safety awareness of all employees. As a result,
      overall flight safety has gradually improved. There were no serious incidents
      involving casualty or flight damage throughout the three years ended December
      31, 2006. For minor “incidents” which include various events and conditions
      prescribed by the CAAC which do not involve serious personal injury or material
      damage to flight equipment, the Group has kept the number consistently below
      the
      standard prescribed by the CAAC. For example, the Company’s “flight incident”
ratio was 0.13, 0.13 and 0.065 in 2004, 2005 and 2006, respectively. In
      comparison, CAAC’s published maximum acceptable flight incident ratio was 0.9 in
      2004 and 0.29 in 2005 and 0.7 in 2006. This ratio is defined as the occurrence
      of one incident for every 10,000 hours of flight time.




Jet
        Fuel




Jet
      fuel
      costs typically represent a major component of an airline’s operating expenses.
      The Group’s jet fuel costs for 2006 accounted for 35.2% of the Group’s operating
      expenses. Like all Chinese airlines, the Group is generally required by the
      Chinese Government to purchase its jet fuel requirements from regional branches
      of CAOSC and Bluesky Oil Supplies Company, except at the Shenzhen, Zhuhai and
      Sanya airports which are supplied by Sino-foreign joint ventures in which CAOSC
      is a joint venture partner. CAOSC is a State-owned organization controlled
      and
      supervised by the CAAC that controls the importation and distribution of jet
      fuel throughout China.




Jet
      fuel
      obtained from CAOSC’s regional branches is purchased at uniform prices
      throughout China that are determined and adjusted by CAOSC from time to time
      with the approval of the CAAC and the pricing department of the National
      Development and Reform Commission (“NDRC”) based on market conditions and other
      factors. As a result, the costs of transportation and storage of jet fuel in
      all
      regions of China are spread among all domestic airlines. Jet fuel costs in
      China
      are influenced by costs at State-owned oil refineries and limitations in the
      transportation infrastructure, as well as by insufficient storage facilities
      for
      jet fuel in certain regions of China.




Prior
      to
      1994, domestic jet fuel prices were generally below international jet fuel
      prices. The Chinese Government had gradually increased domestic jet fuel prices
      in order to reflect more accurately the costs of supplying jet fuel in China.
      As
      a result, domestic jet fuel prices have become higher than those in the
      international market since the beginning of 1994.




CAOSC’s
      maximum fuel price in 2006 was RMB6,850 per ton. The average price paid by
      the
      Group in 2006 was RMB 5,838 per ton, which represents a 20.5% increase from
      that
      of 2005.




According
      to the Notice of the National Development and Reform Commission (“NDRC”) and the
      Civil Aviation Administration of China (“CAAC”) on Issues Relating to
      Introduction of the Fuel Surcharge for Domestic Routes, domestic airlines
      imposed fuel surcharges for all the domestic routes (excluding those from the
      mainland PRC to Hong Kong and Macau) with effect from August 1, 2005 (based
      on
      flight time). On February 16, 2006, the NDRC and CAAC released a supplementary
      document on Issues Relating to the Introduction of Fuel Surcharge for Domestic
      Routes, stating that due to the rising jet fuel price, the period of imposition
      of fuel surcharge by airlines was extended. T he
      NDRC
      and CAAC released separate supplementary documents on Issues Relating to the
      Introduction of Fuel Surcharge for Domestic Routes on March 28 and September
      1,
      respectively, thereby adjusting the amount of fuel surcharges in a range of
      RMB20 to RMB60 per passenger for distance, flown less than 800 kilometers,
      and
      in a range of RMB40 to RMB100 for distance, exceeding 800 kilometers, during
      the period temporarily from April 10, 2006 to October 10, 2006. On January
      21,
      2007, the NDRC and CAAC released additional supplementary documents on Issues
      Relating to the Introduction of Fuel Surcharge for Domestic Routes, thereby
      adjusting the amount of fuel surcharges from RMB60 to RMB50 per passenger for
      distance, flown less than 800 kilometers, and from RMB100 to RMB80 for distance
      exceeding 800 kilometers.The introduction of fuel surcharge, and the extension
      of the duration of the same will help relieve, to a certain extent, the burden
      of high jet fuel cost, on the Group.




In
      addition to purchases of jet fuel from CAOSC, the Group is also permitted by
      the
      Chinese Government to purchase a portion of its jet fuel requirements for its
      international flights from foreign fuel suppliers located outside China at
      prevailing international market prices. Jet fuel purchased from such sources
      outside China accounted for approximately 20% of the Group’s total jet fuel
      consumption in 2006.




19




Flight
        Operations




Flight
      operations for the Group’s flights originating in Guangzhou are managed by the
      Company’s flight operations and marketing divisions, which are responsible for
      formulating flight plans and schedules consistent with route and flight
      approvals received from the CAAC. The Company’s flight operations center in
      Guangzhou is responsible for the on-site administration of flights, including
      the dispatch and coordination of flights, deployment of aircraft, ground
      services and crew staffing. In addition, each of the Airline Subsidiaries
      maintains flight operations centers at all servicing airports for on-site
      administration of their flights. The Company’s general dispatch offices are
      responsible for monitoring conditions on the Group’s route network,
      administering the Group’s flight plans, collecting and monitoring navigation
      data and analyzing and monitoring airport conditions.




To
        enhance its management of flight operations, the Group’s computerized flight
        operations control system (SOC) began operation in May 1999. The system utilizes
        advanced computer and telecommunications technology to manage the Group’s
        flights on a centralized, real-time basis. The Group believes that the system
        will assist it to (i) compile flight schedules more efficiently; (ii) increase
        the utilization of aircraft; (iii) allow real-time tracking of all of the
        Group’s flights; and (iv) improve coordination of the Group’s aircraft
        maintenance and ground servicing functions.




Training
      of Pilots and Flight Attendants




The
      Group
      believes that its pilot training program which was established in cooperation
      with the CAAC affiliated Beijing Aeronautics and Aviation University (the
“BAAU”) has significantly improved the quality of the training received by the
      Group’s pilots and has helped maintain the quality of the Group’s staff of
      pilots at a level consistent with the expansion of operations called for by
      the
      Group’s business strategy.




In
        the
        Group’s pilot training program, trainees have two years of theoretical training
        at the BAAU. After successful completion of academic and physical
        examinations, the trainees receive flight training for a period of
        approximately 20 months at China Southern West Australian Flying College
        Pty
        Ltd. (the “Australian Pilot College”), a company that is 65% owned by the
        Company and 35% owned by CSAHC. Each trainee at the Australian Pilot
        College is required to fly at least 230 hours before being awarded a flight
        certificate. Graduates of the BAAU and the Australian Pilot College are hired
        by
        the Group as trainee pilots after passing a CAAC-administered examination
        to
        obtain a pilot license. The total training period for the Group’s trainee pilots
        is approximately five years. About 110 trainee pilots graduated from the
        Australian Pilot College each year.


As
          part
          of the pilot training program, trainee pilots receive their initial training
          in
          the operation of a specific aircraft with Zhuhai Xiang Yi Aviation Technology
          Company Limited (“Zhuhai Xiang Yi), a jointly controlled entity between the
          Company and CAE International Holdings Limited, which also provides training
          to
          pilots from other Chinese airlines. Zhuhai Xiang Yi is equipped with simulators
          for all models of aircraft currently operated by the Group and provides
          flight
          simulation training services to the Group.




The
      Group’s pilots are required to be licensed by the CAAC, which requires an annual
      recertification examination. The Group’s pilots attend courses in simulator
      training twice annually and in simulator emergency procedures annually. The
      Group also conducts regular advanced training courses for captains and captain
      candidates. Pilots advance in rank based on number of hours flown, types of
      aircraft flown and their performance history.




The
      Group
      conducts theoretical and practical training programs for its flight attendants
      at its Flight Attendants Training Center in Guangzhou (the “Guangzhou Training
      Center”). The Guangzhou Training Center is equipped with computerized training
      equipment, as well as simulator cabins for all models of aircraft currently
      operated by the Group. At the Guangzhou Training Center, flight attendants
      of
      the Group receive comprehensive training in areas such as in-flight service,
      emergency evacuation and water rescue.




Ground
        Services




The
        Group
        makes arrangements with airport authorities, other airlines or ground services
        companies for substantially all ground facilities, including jet-ways, waiting
        areas, ticket counters and support services buildings, at each airport that
        it
        serves. The Group pays landing, parking and other fees to such airports,
        including Guangzhou Baiyun Airport. At domestic airports, such fees are
        generally determined by the CAAC.




At
      Guangzhou Baiyun Airport, the Group operates its own passenger check-in, cargo,
      mail and baggage handling, aircraft maintenance and cleaning services. The
      Group
      also provides such services to other airlines that operate
      in Guangzhou Baiyun Airport.




Ground
      services at the airports in Shenzhen, Changsha, Wuhan, Zhengzhou, Haikou,
      Zhuhai, Xiamen, Fuzhou, Guilin, Shantou, Guiyang and Beihai are primarily
      operated directly by the Group. Ground services at the airport in Beijing are
      primarily provided by Beijing Southern Airlines Ground Services Company Limited,
      a jointly controlled entity between the Company and Beijing Aviation Ground
      Services Co. Ltd., since April 2004. Ground services at other airports in China
      are provided to the Group by local airport authorities or local airlines
      pursuant to various service agreements. Ground services and other services
      at
      airports outside China are provided to the Group by foreign services providers
      pursuant to various service agreements with such parties. All such agreements
      of
      the Group are short-term and otherwise on terms that are customary in the
      industry.




20




Air
        Catering




The
      Company owns a 75% equity interest in Guangzhou Nanland Air Catering Company
      Limited (“Nanland”). Nanland provides in-flight meals, snacks, drinks and
      related services for all of the Group’s flights originating in Guangzhou and
      substantially all other flights departing from Guangzhou Baiyun Airport. The
      Group contracts with various air catering suppliers with respect to in-flight
      catering services for flights originating from other airports, generally on
      an
      annual basis and otherwise on terms that are customary in the industry.




Cargo
        and
        Mail





The
      Group
      also provides air cargo and mail services. A significant portion of these
      services are combined with passenger flights services. Currently, the Group
      has
      two Boeing 747-400 freighters mainly servicing four international cargo routes,
      Shenzhen to Shanghai to Anchorage to Chicago, Shenzhen to Anchorage to Chicago,
      Shanghai to Anchorage to Chicago and Shenzhen to Shanghai to Amsterdam.




Currently,
      the Group conducts its cargo business primarily through its cargo division
      in
      Shenzhen.




Sales,
        Reservations and Marketing




*Passenger
      Ticket Sales and Reservations*




The
        Group’s ticket sales and reservations are conducted by or through independent
        sales agents and the Group’s own network of exclusive sales offices as well as
        the CAAC’s sales offices and CSAHC’s affiliates. The Group has sales offices in
        Guangzhou and its other route bases. In addition, the Group maintains regional
        sales offices in other cities in China, including Beijing and Shanghai. The
        Group maintains international sales offices in Almaty, Amsterdam, Baku, Bangkok,
        Bishkek, Cheju, Cheong Ju City, Daejeon, Dubai, Dushanbe, Fukuoka, Hanoi,
        Hiroshima, Ho Chi Minh City, Islamabad, Irkutsk, Jakarta, Khabarovsk, Kita
        Kyushu, Kuala Lumpur, Kwangju, Lagos, Los Angeles, Manila, Melbourne, Moscow,
        Nagoya, Nigata, Novosibirsk, Osaka, Paris, Penang, Phnom Penh, Pusan, Pyongyang,
        Sapporo, Sendai, Seoul, Sharjah, Singapore, Sydney, Taegu, Tashkent, Teheran,
        Tokyo, Toyama and Vladivostok.




In
      Hong
      Kong, ticket sales and reservations services are provided to the Group by China
      National Aviation Corporation and Nanlung Travel Agency Limited (a subsidiary
      of
      CSAHC) for a commission of 6% of the ticket price. The Group also has agency
      agreements with airlines in the Asia-Pacific region, Europe, the United States
      and Africa for the processing of ticket sales and reservations on a reciprocal
      basis. In 2006, approximately 30% of all ticket sales for the Group’s scheduled
      flights were made by the Group’s and CAAC’s network of sales offices and CSAHC’s
      affiliates. The Group also sells tickets and accepts reservations through an
      extensive network of non-exclusive independent sales agents, substantially
      all
      of whom operate in cities throughout China, with the remainder operating
      principally in Hong Kong and other Southeast Asian destinations served by the
      Group. Under the agency agreements with these sales agents, the Group pays
      commissions based on the value of tickets sold. The Group pays independent
      sales
      agents in China a commission of 1.5%-9.0% of the ticket price, and pays
      independent sales agents outside China a commission ranging from 3% - 9% of
      the
      ticket price. Sales agents are typically permitted to withhold their commission
      from the proceeds of ticket sales that are remitted to the Group. In 2006,
      independent sales agents accounted for approximately 70% of the Group’s ticket
      sales for its scheduled flights.




Substantially
      all of the Group’s sales offices and agents in China are linked electronically
      to the CAAC’s computerized ticketing and reservations system, which is in turn
      linked to all domestic airlines for flights throughout China. The Group has
      also
      entered into membership agreements with several international reservation
      systems, including ABACUS in Southeast Asia, SABRE and GALILEO in the United
      States, AMADEUS in Europe and INFINI in Japan. These systems facilitate
      reservations and sales of tickets for the Group’s international flights.




*Cargo*




The
        Group’s cargo and mail services are promoted through its own cargo divisions and
        independent cargo agents both within and outside China that track available
        space among all airlines. In particular, the Group employs a number of cargo
        agents in the Pearl River delta region. The Group generally pays such agents
        a
        commission of 4% - 5% of the relevant cargo freight rate for domestic and
        international services.




*Promotional
      and Marketing Activities*




The
      Group
      engages in regular promotional and marketing activities in an effort to increase
      its market share. The Group’s promotional and marketing activities for domestic
      routes emphasize safety, passenger comfort and the frequency of the Group’s
      flights. The Group’s promotional and marketing activities for international and
      Hong Kong and Macau regional passengers emphasize the Group’s quality of
      service, extensive route network in China and greater frequency of flights
      relative to other Chinese airlines. In addition, the Group also promotes and
      markets its Hong Kong and Macau regional and international routes on the basis
      of price.




21




The
      Group
      has been seeking to increase its name recognition by offering new services
      to
      passengers. For example, the Group was the first Chinese airline to provide
      off-airport check-in services. The Group also offers transfer and baggage
“through-handling” services to passengers connecting to other airlines,
      including passengers connecting in Hong Kong for flights to Taiwan.




To
      enhance relationships with its passengers, the Group has launched two frequent
      flyer programs, namely the “China Southern Airlines Sky Pearl Club”, and the
“Egret Mileage Plus”. By the end of 2006, the Group had approximately 4,608,000
      members under these programs.




Regulation




The
      Chinese commercial aviation industry is subject to a high degree of regulation
      and oversight by the CAAC. Regulations and policies issued or implemented by
      the
      CAAC encompass substantially all aspects of airline operations, including the
      approval of domestic, Hong Kong and Macau and international route allocation,
      published air fares, aircraft acquisition, jet fuel prices and standards for
      aircraft maintenance, airport operations and air traffic control. The Civil
      Aviation Law, which became effective in March 1996, provides a framework for
      regulation of many of these aspects of commercial aviation activities. Although
      China’s airlines operate under the supervision and regulation of the CAAC, they
      are accorded an increasingly significant degree of operational autonomy,
      including with respect to the application for domestic, Hong Kong and Macau
      and
      international routes, the allocation of aircraft among routes, the purchase
      of
      flight equipment, the pricing of air fares within a certain range, the training
      and supervision of personnel and their day-to-day operations.




As
      an
      airline providing services on international routes, the Group is also subject
      to
      a variety of bilateral civil air transport agreements that provide for the
      exchange of air traffic rights between China and various other countries. In
      addition, China is a contracting state, as well as a permanent member, of the
      International Civil Aviation Organization (the “ICAO”), an agency of the United
      Nations established in 1947 to assist in the planning and development of
      international air transport, and is a party to many other international aviation
      conventions. The ICAO establishes technical standards for the international
      aviation industry. The Group believes that it, in all material respects,
      complies with all such technical standards.




*Route
      Rights*




*Domestic
      Routes* .
      The
      right of any Chinese airline to carry passengers or cargo on any domestic route
      must be obtained from the CAAC. Non-Chinese airlines are not permitted to
      provide domestic air service between destinations in China. The CAAC’s policy is
      to assign a domestic route to the Chinese airline that is best suited to serve
      the route based, in part, on the location of the airline’s main or regional base
      at the point of origin. Under current regulations, airlines are generally
      expected to operate mainly from their route bases, and flights within a
      particular region are expected to be served by airlines based in that region.
      The Group believes that these regulatory parameters benefit airlines, such
      as
      the Group, that have a large number of regional route bases. The CAAC also
      considers other factors that may make a particular airline suitable to operate
      a
      domestic route, including the applicant’s general operating authority,
      compliance with pricing regulations and regulations applicable to safety and
      service quality, market demand, the ability of the applicant in terms of its
      existing routes, and airport facilities and related support services.




The
        CAAC
        considers market conditions for a domestic route in determining whether the
        route should be allocated to one or more airlines. The CAAC requires the
        passenger load factor on a particular route to reach 75% before additional
        flights may be put on that route. Airlines serving the route are given
        priority for such additional flights, and only if such airlines cannot operate
        more flights will the CAAC permit another airline to commence service.




*Hong
      Kong and Macau Routes* .
      Hong
      Kong and Macau routes and landing rights are derived from agreements between
      the
      Chinese Government and the government of the Hong Kong SAR, and between the
      Chinese Government and the government of Macau SAR. Such rights are allocated
      by
      the CAAC among the four Chinese airlines permitted to fly to Hong Kong or Macau.
      The Group understands that the criteria for determining whether a Hong Kong
      and
      Macau route will be allocated to a particular airline include market demand,
      the
      ability of the airline to service the route and the appropriateness of the
      airline’s aircraft for such route.




A
      number
      of Hong Kong routes are operated by Chinese airlines on a “charter” flight
      basis. Permission to operate these flights is in theory subject to monthly
      review by the CAAC and the Hong Kong Civil Aviation Department. The CAAC has
      informally indicated that it primarily considers market demand and airline
      capability in granting permission for such flights.




*International
      Routes* .
      International route rights, as well as the corresponding landing rights, are
      derived from air services agreements negotiated between the Chinese Government,
      through the CAAC, and the government of the relevant foreign country. Each
      government grants to the other the right to designate one or more domestic
      airlines to operate scheduled service between certain destinations within each
      of such countries. Upon entering into an air services agreement, the CAAC
      determines the airline to be awarded such routes based on various criteria,
      including the availability of appropriate aircraft, flight and management
      personnel, safety record, the overall size of the airline, financial condition
      and sufficiency of assets to bear civil liabilities in international air
      services. These route rights may be terminated by the CAAC under special
      circumstances.




The
      criteria for determining whether an international route will be allocated to
      a
      second airline generally include (i) the terms of the relevant bilateral civil
      aviation agreement; (ii) consistency with overall national plans and the
      national interest and the enhancement of reasonable competition; and (iii)
      whether the international airports to be used are sufficient for the aircraft
      flown and employ security measures consistent with international standards.




22




In
      addition, if the relevant bilateral civil aviation agreement permits more than
      one Chinese airline to operate a particular international route, the CAAC will
      only permit a second airline to operate on such route if the number of
      passengers carried annually exceeds 100,000 and if there is a minimum average
      load factor of 68% for routes with at least five weekly flights by Chinese
      airlines, or 80% for routes with four or fewer weekly flights by Chinese
      airlines.




*Air
      Fare Pricing Policy*




Pursuant
      to “Pricing Reform of Domestic Civil Aviation” as approved by the State Council
      of the PRC effective on April 20, 2004, prices on domestic routes now fluctuate
      freely within a predetermined range. Instead of direct supervision by setting
      prices of air tickets through a local price bureau, the government now provides
      guidance on domestic flights and domestic civil aviation is controlled by the
      government indirectly. Market-oriented pricing policy was introduced and pricing
      system has been adjusted as a result of the above pricing reform.




Published
      air fares of Chinese airlines for the Hong Kong and Macau routes are determined
      by the CAAC and the relevant civil aviation authorities in Hong Kong or Macau,
      subject to consultation between the relevant Chinese airlines and Hong Kong
      or
      Macau airlines. Airlines may offer discounts on flights on their Hong Kong
      regional routes.




Published
      air fares of Chinese airlines for international routes are determined through
      consultation between the relevant Chinese airlines and foreign airlines in
      accordance with the civil aviation agreements between the Chinese Government
      and
      the relevant foreign government, taking into account the international air
      fare
      standards established through the International Air Transport Association.
      All
      air fares for international routes must be approved by the CAAC. Discounting
      of
      published international air fares is permitted.




*Acquisition
      of Aircraft and Flight Equipment*




The
      CAAC
      requires all Chinese airlines to acquire their aircraft through China Aviation
      Supplies Import and Export Corporation (“CASC”), an entity controlled by the
      CAAC. If a Chinese airline plans to acquire an aircraft, the airline must first
      seek approval from the CAAC and NDRC. The airline must, as a condition of
      approval, provide specific acquisition plans, which are subject to modification
      by the CAAC and NDRC. If the CAAC and NDRC approve an aircraft acquisition,
      the
      airline negotiates the terms of the acquisition with the manufacturer together
      with CASC because CASC possesses the license required to import or export
      aircraft, and CASC receives a commission in respect thereof. Most Chinese
      airlines are also required to acquire their aircraft engines, spare parts and
      other flight equipment through CASC. The Company and a few other Chinese
      airlines are permitted to import jet engines and other flight equipment for
      their own use without the participation of CASC. In the case of the Company,
      SAIETC acts as its import agent and is paid an agency fee for its services.




*Jet
      Fuel Supply and Pricing*




CAOSC
      and
      Bluesky Oil Supplies Company, companies controlled and supervised by the CAAC,
      are the only jet fuel supply companies in China, with the exception of the
      joint
      venture jet fuel supply companies that supply the Shenzhen, Zhuhai and Sanya
      airports, in each of which CAOSC is a partner. Airlines are generally not
      permitted to buy jet fuel from other suppliers in their domestic operations,
      since the direct import of jet fuel for domestic purposes is prohibited. As
      a
      result, all Chinese airlines purchase their domestic jet fuel supply
      requirements (other than in respect of their Shenzhen, Zhuhai or Sanya
      operations) from the seven regional branches of CAOSC. Jet fuel obtained from
      such regional branches is purchased at uniform prices throughout China that
      are
      determined and adjusted by CAOSC from time to time with the approval of the
      CAAC
      and the pricing department of the NDRC based on market conditions and other
      factors.




*Safety*




The
      CAAC
      has made the improvement of air traffic safety in China a high priority and
      is
      responsible for the establishment of operational safety, maintenance and
      training standards for all Chinese airlines. The Chinese airlines are required
      to provide monthly flight safety reports to the CAAC, including reports of
      flight or other incidents or accidents and other safety related problems
      involving such airline’s aircraft occurring during the relevant reporting
      period. The CAAC periodically conducts safety inspections on individual
      airlines.




The
      CAAC
      oversees the standards of all Chinese airline pilots through its operation
      of
      the CAAC Aviation College. The CAAC Aviation College is a monitoring unit
      located in Tianjin which implements a uniform pilot certification process
      applicable to all Chinese airline pilots and is responsible for the issuance,
      renewal, suspension and cancellation of pilot licenses. Every pilot is required
      to pass CAAC-administered examinations before obtaining a pilot license and
      is
      subject to an annual recertification examination.




All
      aircraft operated by Chinese airlines, other than a limited number of leased
      aircraft registered in foreign countries, are required to be registered with
      the
      CAAC. All aircraft operated by Chinese airlines must have a valid certificate
      of
      airworthiness, which is issued annually by the CAAC. In addition, maintenance
      permits are issued to a Chinese airline only after its maintenance capabilities
      have been examined and assessed by the CAAC. Such maintenance permits are
      renewed annually. All aircraft operated by Chinese airlines may be maintained
      and repaired only by CAAC-certified maintenance facilities, whether located
      within or outside China. Aircraft maintenance personnel must be certified by
      the
      CAAC before assuming aircraft maintenance posts.




23




*Security*




The
      CAAC
      establishes and supervises the implementation of security standards and
      regulations for the Chinese commercial aviation industry. Such standards and
      regulations are based on Chinese laws, as well as standards developed by
      international commercial aviation organizations. Each airline and airport in
      China is required to submit to the CAAC an aviation security handbook describing
      specific security procedures established by such airline or airport for the
      day-to-day operations of commercial aviation and procedures for staff training
      on security. Such security procedures must be based on relevant CAAC regulations
      and international commercial aviation treaties. Chinese airports and airlines
      that operate international routes must also adopt security measures in
      accordance with the requirements of the relevant international agreements.




*Noise
      and Environmental Regulation*




All
      airlines in China must comply with the noise and environmental regulations
      of
      the PRC State Environmental Protection Agency. Applicable regulations of the
      CAAC permit Chinese airports to refuse take-off and landing rights to any
      aircraft that does not comply with noise regulations.




*Chinese
      Airport Policy*




The
      CAAC
      supervises and regulates all civilian airports in China. The local government
      of
      the PRC manages the administration of most civilian airports in China, including
      the Guangzhou Baiyun Airport as of 2006, with limited exceptions. Airports
      in
      China are also subject to regulation and ongoing review by the CAAC, which
      determines take-off and landing charges, as well as charges for the use of
      airports and airport services.




*Competition*




The
      CAAC’s extensive regulation of the Chinese commercial aviation industry has had
      the effect of managing competition among Chinese airlines. Nevertheless,
      competition has become increasingly intense in recent years due to a number
      of
      factors, including relaxation of certain regulations by the CAAC, an increase
      in
      the number of Chinese airlines and an increase in the capacity, routes and
      flights of Chinese airlines.




In
      the
      Chinese aviation industry, the three dominant airlines are the Group, Air China
      and China Eastern Airlines (“China Eastern”). In 2006, these three airlines
      together controlled approximately 72.48% of the commercial aviation market
      in
      China as measured by passengers carried.




Most
      major Chinese airlines have in recent years significantly expanded their fleets,
      while at the same time passenger traffic has not increased proportionately.
      This
      has resulted in a reduction in the passenger load factors for most Chinese
      airlines. As a result, Chinese airlines are required to be more competitive
      with
      respect to, for example, quality of service, including ticketing and
      reservations, in-flight services, flight scheduling and timeliness.




The
      Group
      expects that competition in China’s commercial aviation industry will continue
      to be intense. The Group will also face increasing competition from alternative
      means of transport, such as highway and rail, as China’s transportation
      infrastructure improves.




Relative
      to other Chinese airlines, however, the Group believes that it possesses certain
      competitive advantages. The Group has the most extensive route network and
      the
      largest number of regional route bases among Chinese airlines, which the Group
      believes places it in a favorable position in the route allocation process.
      The
      Group also has the largest aircraft fleet of any Chinese airline, which,
      together with the Group’s planned aircraft acquisitions, will permit the Group
      to expand its operations and to improve the deployment of the aircraft in its
      fleet. The Group also believes that its dominant presence in the populous and
      economically developed southern and central regions of China provides it with
      a
      competitive advantage in attracting new customers and that its fully integrated
      flight training, aircraft and engine maintenance, and air catering operations
      enable it to achieve and maintain high quality service to its customers.




The
      following table sets forth the Group’s market share of passengers carried, cargo
      and mail carried and total traffic of Chinese airlines for the years indicated.


**Passenger
                    carried**
                
                **Cargo
                    and Mail Carried (tons)**
                
                **Total
                    traffic (ton kilometers)****Industry**
                
                **Group’s**
                
                **Industry**
                
                **Group’s**
                
                **Industry**
                
                **Group’s****Total**
                
                **Share**
                
                **Total**
                
                **Share**
                
                **Total**
                
                **Share****Year**
                
                **(in
                    million)**
                
                **(%
                    of total)**
                
                **(in
                    thousand)**
                
                **(%
                    of total)**
                
                **(in
                    billion)**
                
                **(%
                    of total)**2000
                
                
                67.2
                
                
                24.9
                
                
                1,967
                
                
                22.5
                
                
                12.3
                
                
                20.02001
                
                
                75.2
                
                
                25.4
                
                
                1,709
                
                
                23.3
                
                
                14.1
                
                
                21.52002
                
                
                85.9
                
                
                25.0
                
                
                2,021
                
                
                23.3
                
                
                16.5
                
                
                21.92003
                
                
                87.6
                
                
                23.4
                
                
                2,190
                
                
                21.2
                
                
                17.1
                
                
                20.82004
                
                
                121.2
                
                
                23.3
                
                
                2,770
                
                
                19.7
                
                
                23.1
                
                
                20.22005
                
                
                138.3
                
                
                31.8
                
                
                3,067
                
                
                25.3
                
                
                26.1
                
                
                27.92006
                
                
                159.7
                
                
                30.8
                
                
                3,494
                
                
                23.4
                
                
                30.6
                
                
                26.4




24




*Domestic
      Routes*




The
      Group
      competes against its domestic competitors primarily on the basis of flight
      schedule, route network, quality of service, safety, type and age of aircraft
      and, to a lesser extent and until recently, price. The Group competes against
      10
      other Chinese airlines in its various domestic route markets. Of these
      competitors, the largest are two airlines owned or controlled by the Chinese
      Government, and the remaining eight airlines are operated by or under the
      control of various Chinese provincial or municipal governments.




The
      following table sets forth the Group’s market share of the passengers carried,
      cargo and mail carried on departing flights and total departing flights at
      the
      ten busiest airports in China, based on passenger volume, in 2006.


**Cargo
                    and Mail****Passenger
                    carried**
                
                **Carried**
                
                **Departing
                    flight****Airport**
                
                **(%
                    of total)**
                
                **(%
                    of total)**
                
                **(%
                    of total)**Beijing
                
                
                18.6%
                
                
                13.2%
                
                
                17.6%Shanghai
                    Pudong
                
                
                9.2%
                
                
                4.4%
                
                
                9.6%Guangzhou
                
                
                53.1%
                
                
                42.1%
                
                
                53.6%Shanghai
                    Hongqiao
                
                
                18.7%
                
                
                19.9%
                
                
                17.7%Shenzhen
                
                
                30.8%
                
                
                26.3%
                
                
                29.9%Chengdu
                
                
                13.7%
                
                
                15.8%
                
                
                11.7%Kunming
                
                
                18.4%
                
                
                18.9%
                
                
                17.3%Hangzhou
                
                
                37.5%
                
                
                32.9%
                
                
                35.6%Xian
                
                
                15.3%
                
                
                18.0%
                
                
                13.8%Chongqing
                
                
                21.3%
                
                
                24.9%
                
                
                19.0%




The
      following table sets forth the Group’s market share of the passengers carried,
      cargo and mail carried on departing flights and total departing flights at
      eight
      busiest airports in southern and central China (excluding Guangzhou and
      Shenzhen, which are included in the table above), based on passenger volume,
      in
      2006.


**Cargo
                    and Mail****Passenger
                    carried**
                
                **Carried**
                
                **Departing
                    flight****Airport**
                
                **(%
                    of total )**
                
                **(%
                    of total)**
                
                **(%
                    of total)**Changsha
                
                
                29.1%
                
                
                33.6%
                
                
                25.2%Wuhan
                    Tianhe
                
                
                51.4%
                
                
                68.9%
                
                
                50.7%Guilin
                
                
                38.3%
                
                
                41.1%
                
                
                35.2%Sanya
                
                
                41.1%
                
                
                41.1%
                
                
                40.7%Zhengzhou
                
                
                41.2%
                
                
                31.1%
                
                
                41.9%Nanning
                
                
                65.2%
                
                
                67.1%
                
                
                56.1%Zhang
                    Jia Jie
                
                
                38.4%
                
                
                40.4%
                
                
                33.2%Shantou
                
                
                30.7%
                
                
                35.5%
                
                
                33.5%





25




*Hong
      Kong and Macau Routes*




The
      Group
      dominates the routes operated by Chinese airlines between Hong Kong and Macau
      and China. In 2006, the Group operated an average of more than 16,949 “charter”
and other scheduled flights per week between China and Hong Kong or Macau,
      accounting for approximately 28.8% of the total number of passengers carried
      by
      all Chinese airlines on the Hong Kong and Macau routes. The Group believes
      that
      the routes on which it operates “charter” flights are among its highest yielding
      routes, primarily because the Group faces limited competition on such routes
      and
      is consequently less subject to downward pricing pressures. Dragon Air, which
      is
      a Hong Kong-based airline, competes with the Group on many of the Group’s Hong
      Kong and Macau routes.




Air
      Macau
      Group Ltd. (“Air Macau”), a Macau-based airline, started to operate routes in
      1996 between Macau and China, to destinations such as Beijing, Shanghai, Xiamen
      and Wuhan. Air Macau also operates routes between Macau and Taiwan, including
      flights which allow passengers to travel between Taiwan and China through Macau.
      The air fares on some of Air Macau’s routes are significantly less than air
      fares on comparable routes of the Group. Air Macau’s routes provide an
      alternative to, and compete with, the Group’s Hong Kong and Macau routes for
      passengers travelling between Taiwan and China.




*International
      Routes*




The
      Group
      competes with Air China, China Eastern and many well-established foreign
      airlines on its international routes. Most of these international competitors
      have significantly longer operating histories, substantially greater financial
      and technological resources and greater name recognition than the Group. In
      addition, the public’s perception of the safety and service records of Chinese
      airlines may adversely affect the Group’s ability to compete against its Hong
      Kong and Macau and international competitors. Many of the Group’s international
      competitors have larger sales networks and participate in reservation systems
      that are more comprehensive and convenient than those of the Group, or engage
      in
      promotional activities that may enhance their ability to attract international
      passengers.




Air
        China
        has the most extensive international route network among Chinese airlines.
        Beijing, the hub of Air China’s operations, has been the destination for most
        international flights to China. The Group competes against, among other
        airlines, Thai Airways International, Singapore Airlines, Malaysian Airlines
        System, Air China and China Eastern on flights to Southeast Asian destinations.
        In the case of its European routes, the Group’s competitors include Air France —
KLM. The Group faces competition on its international routes from Air China
        and
        China Eastern, each of which operates several routes between destinations
        in
        China and the United States, as well as international airlines that fly to
        Los
        Angeles from Hong Kong. The Group competes in the international market primarily
        on the basis of safety, price, timeliness and convenience of scheduling.




*Airline
      Subsidiaries*




The
        Airline Subsidiaries are joint ventures established by the Company and local
        companies in the provinces or special economic zones where the Airline
        Subsidiaries are based and are engaged in providing airline and related
        services. Except for Guangxi Airlines, of which the Company owns a 100% equity
        interest, the Company owns a 60% equity interest in each of the remaining
        Airline Subsidiaries.




As
        of
        December 31, 2006, Xiamen Airlines operated under its own “MF” code a fleet of
        41 aircraft on 85 domestic routes, 11 international route and six Hong Kong
        and
        Macau routes. In 2006, Xiamen Airlines carried a total of about 7.78 million
        passengers, or approximately 15.8% of the passengers carried by the Group
        in
        that year, and had RMB5,982 million in traffic revenue.




As
        of
        December 31, 2006, Shantou Airlines operated under the Group’s “CZ” code eight
        aircraft on 12 domestic routes, one international route and one Hong Kong
        and
        Macau route. In 2006, Shantou Airlines carried a total of about 1.39 million
        passengers, or 2.8% of the passengers carried by the Group in that year.
        Total traffic revenue of Shantou Airlines for the year ended December 31,
        2006 was RMB1,042 million.




As
        of
        December 31, 2006, routes previously operated by Guangxi Airlines under the
“CZ”
code nine aircraft on 33 domestic routes, one international routes and two
        Hong
        Kong and Macau routes were transferred to the Company. In 2006, Guangxi Airlines
        carried a total of about 1.55 million passengers, or 3.1% of the total number
        of
        passengers carried by the Group in that year. Total traffic revenue of
        Guangxi Airlines for the year ended December 31, 2006 was RMB706
        million.




As
        of
        December 31, 2006, Zhuhai Airlines operated under the “CZ” code five aircraft on
        nine domestic routes. In 2006, Zhuhai Airlines carried a total of about 868,700
        passengers, or approximately 1.8% of the total number of passengers carried
        by
        the Group in that year. Total traffic revenue of Zhuhai Airlines for the
        year ended December 31, 2006 was RMB780 million.




As
        of
        December 31, 2006, Guizhou Airlines operated under the “CZ” code seven aircraft
        on 20 domestic routes. In 2006, Guizhou Airlines carried a total of about
        1.35
        million passengers, or approximately 2.7% of the total number of passengers
        carried by the Group in 2006. Total traffic revenue of Guizhou Airlines was
        approximately RMB982 million for the year ended December 31, 2006.




26




Insurance




The
      CAAC
      maintains fleet and legal liability insurance on behalf of the Group and all
      other Chinese airlines with the People’s Insurance Company of China (“PICC”)
      under the PICC master policy. The Group maintains aviation hull all risks,
      spares and airline liability insurance, aircraft hull all risks and spare
      engines deductible insurance, aviation hull war and allied perils policy of
      the
      type and in the amount customary in the Chinese aviation industry.




Under
      Chinese law, civil liability of Chinese airlines for injuries suffered by
      passengers on domestic flights is limited to RMB400,000 (approximately
      US$51,225) per passenger. Under the Convention for the Unification of Certain
      Rules Relating to International Transportation by Air of 1929 (as amended by
      the
      protocol of 1955, the “Warsaw Convention”), unless a separate agreement has been
      entered into between China and a specific country, civil liability for injuries
      suffered by passengers on international flights is limited to US$122,000 per
      passenger. The Group believes that it maintains adequate insurance coverage
      for
      the maximum civil liability that can be imposed in respect of injuries to
      passengers under Chinese law, the Warsaw Convention or any separate agreement
      applicable to the Group.




The
      CAAC
      allocates insurance premiums payable in respect of the PICC master policy to
      each participating airline based on the value of the airline’s insured aircraft
      or, in the case of leased aircraft, based on the amount required by the terms
      of
      the lease. Insurance claims made by any participating airline may cause the
      premiums paid by the Group under the PICC master policy to increase. PICC’s
      practice has been to reinsure a substantial portion of its aircraft insurance
      business through reinsurance brokers on the London reinsurance market.




Intellectual
        Property




The
      Group’s businesses and operations, other than the businesses and operations of
      Xiamen Airlines, are conducted under the names “China Southern” and “China
      Southern Airlines” in both English and Chinese. The Group uses as its logo a
      stylized rendition of a kapok plant. Xiamen Airlines conducts its businesses
      and
      operations under the name of “Xiamen Airlines” in English and Chinese and uses
      its own logo depicting a stylized rendition of an egret.




The
      names
“China Southern” and “China Southern Airlines” contain Chinese words of common
      usage and are therefore not eligible for registration as tradenames under
      current Chinese law. The kapok logo is a trademark registered in China and
      recorded with the International Air Transport Association (“IATA”), the rights
      to which are owned by CSAHC. The Company and CSAHC have entered into a trademark
      license agreement (the “Trademark License Agreement”), pursuant to which CSAHC
      has licensed to the Group the right to use the names “China Southern” and “China
      Southern Airlines” in both English and Chinese and granted the Company a 10-year
      renewable license from 1997 to use the kapok logo on a world-wide basis. CSAHC
      has retained the right to use the kapok logo in connection with its non-airline
      related businesses conducted as of the date of the Trademark License Agreement
      and to permit its affiliates that do not compete, directly or indirectly, with
      the Group to use the kapok logo. Xiamen Airlines owns all rights to its egret
      logo, which is a trademark registered in China, and recorded with the IATA.




The
      Company owns all rights to three trademarks, being SKY PEARL CLUB, the logo
      relating to Easy Cargo 5000 and “SKY PEARL CARD” which are registered in China,
      and recorded with Trademark Office of the State Administration for Industry
      and
      Commerce. Zhuhai Airlines Company Limited owns all rights to the airline logo
      which is registered with the Trademark Office of the State Administration for
      Industry and Commerce.




27


**Organizational
      Structure**




The
      following chart illustrates the corporate structure of the Group as of year
      end
      2006 and the aggregate effective equity interest of the Company in each of
      its
      principal subsidiaries, affiliated companies and jointly controlled entities.









Note
      a:
      Another 26% ownership interest is held by CSA’s subsidiaries.




The
      particulars of the Company’s principal subsidiaries as of December 31, 2006 are
      as follows:


**Name
                    of company**
                
                **Place
                        and date of** **establishment** **/operation**
                
                **Proportion
                      of ownership** **interest
                    held by the Company**Guangxi
                    Airlines Company Limited
                
                PRC
                    April 28, 1994
                
                100Southern
                    Airlines (Group) Shantou Airlines Company Limited
                
                PRC
                    July 20, 1993
                
                60Zhuhai
                    Airlines Company Limited
                
                PRC
                    May 8, 1995
                
                60Xiamen
                    Airlines Company Limited
                
                PRC
                    August 11, 1984
                
                60Guizhou
                    Airlines Company Limited
                
                PRC
                    November 12, 1991
                
                60Guangzhou
                    Air Cargo Company Limited
                
                PRC
                    March 31, 2004
                
                70Guangzhou
                    Nanland Air Catering Company Limited
                
                PRC
                    November 21, 1989
                
                75China
                    Southern West Australian Flying College Pty Ltd.
                
                Australia
                    January 26, 1971
                
                65Guangzhou
                    Baiyun International Logistic Company Ltd
                
                PRC
                    July 23, 2002
                
                61Xinjiang
                    Civil Aviation Property Management Limited
                
                PRC
                    February 12, 2002
                
                51.8




28




The
      particulars of the Group’s principal affiliated companies and jointly controlled
      entity as of December 31, 2006 are as follows:


**Proportion
                    of ownership****Place
                    and date of**
                
                **interest
                    held by****establishment**
                
                **Group****Name
                    of company**
                
                **/operation**
                
                **effective
                    interest**
                
                **The
                    Company**
                
                **Subsidiaries**Guangzhou
                    Aircraft Maintenance Engineering Company Limited
                
                
                PRC
                    October 28, 1989
                
                
                50
                
                
                50
                
                
                —China
                    Southern Airlines Group Finance Company Limited
                
                
                PRC
                    June 28, 1995
                
                
                34
                
                
                21.1
                
                
                12.9Sichuan
                    Airlines Corporation Limited
                
                
                PRC
                    August 28, 2002
                
                
                39
                
                
                39
                
                
                —China
                    Postal Airlines Limited
                
                
                PRC
                    November 25, 1996
                
                
                49
                
                
                49
                
                
                —MTU
                    Maintenance Zhuhai Co. Ltd
                
                
                PRC
                    April 6, 2001
                
                
                50
                
                
                50
                
                
                —Zhuhai
                    Xiang Yi Aviation Technology Company Limited
                
                
                PRC
                    July 10, 2002
                
                
                51
                
                
                51
                
                
                —Beijing
                    Southern Airlines Ground Service Company Limited
                
                
                PRC
                    April 1, 2004
                
                
                50
                
                
                50
                
                
                —




**Property,
      Plant and Equipment**




For
      a
      discussion of the Group’s aircraft, see Item 4, “Information on the Company —
History and development of the Company — Aircraft Acquisitions.”




The
      Group’s headquarters in Guangzhou occupy an area of approximately 90,606 square
      meters of land and a total gross floor area of approximately 516,712 square
      meters. The Group leases from CSAHC the land in Guangzhou on which the Group’s
      headquarters and other facilities are located. The Group also leases from CSAHC
      certain buildings at the Wuhan and Haikou and Zengzhou airports.




29




The
      Company’s principal properties are located at its headquarters site and at its
      route bases. The following table sets forth certain information with respect
      to
      the Company’s properties at its headquarters in Guangzhou and certain route
      bases as of the date hereof.


**Land****(in
                    square meters)**
                
                
                **Buildings****(in
                    square meters)****Owned**
                
                
                **Leased**
                
                
                **Owned**
                
                
                **Leased**Guangzhou
                
                
                9,797
                
                
                80,809
                
                
                514,957
                
                
                1,755Shenzhen
                
                
                208,740
                
                
                —
                
                
                54,093
                
                
                —Zhuhai
                
                
                170,062
                
                
                —
                
                
                18,791
                
                
                —Changsha
                
                
                138,949
                
                
                —
                
                
                47,190
                
                
                —Zhengzhou
                
                
                290,841
                
                
                —
                
                
                60,582
                
                
                —Haikou
                
                
                5,265
                
                
                —
                
                
                63,570
                
                
                19,633Wuhan
                
                
                —
                
                
                31,061
                
                
                17,335
                
                
                22,831Nanyang
                
                
                —
                
                
                —
                
                
                12,156
                
                
                60,003Sanya
                
                
                106,680
                
                
                —
                
                
                16,968
                
                
                —Shenyang
                
                
                —
                
                
                134,356
                
                
                79,626
                
                
                94,661Dalian
                
                
                —
                
                
                14,403
                
                
                17,250
                
                
                37,134Jilin
                
                
                —
                
                
                160,106
                
                
                33,656
                
                
                25,220Harbin
                
                
                —
                
                
                293,648
                
                
                36,925
                
                
                3,457Xinjiang
                
                
                —
                
                
                548,556
                
                
                177,710
                
                
                13,829




The
        following table sets forth certain information with respect to the properties
        of
        the Airline Subsidiaries as of the date hereof.


**Land****(in
                  square meters)**
              
              
              **Buildings****(in
                  square meters)****Owned**
              
              
              **Leased**
              
              
              **Owned**
              
              
              **Leased**Xiamen
              
              
              451,121
              
              
              —
              
              
              355,038
              
              
              12,509Shantou
              
              
              36,931
              
              
              55,407
              
              
              40,624
              
              
              —Zhuhai
              
              
              68,186
              
              
              —
              
              
              54,398
              
              
              2,135Guilin
              
              
              72,563
              
              
              —
              
              
              73,379
              
              
              139Guizhou
              
              
              259,879
              
              
              —
              
              
              93,390
              
              
              3,533




As
      systems for registration and transfer of land use rights and related real
      property interests in China have been implemented relatively recently, such
      systems do not yet comprehensively account for all land and related property
      interests. The land in Guangzhou on which the Group’s headquarters and other
      facilities are located and the buildings that the Group uses at its route base
      in Wuhan and Haikou are leased by the Company from CSAHC. However, CSAHC lacks
      adequate documentation evidencing CSAHC’s rights to such land and buildings,
      and, as a consequence, the lease agreements between CSAHC and the Company for
      such land may not be registered with the relevant authorities. Lack of
      registration may affect the validity of such lease agreements. There are certain
      other parcels of land and buildings owned or used by the Group that lack
      adequate documentation. Lack of adequate documentation for land use rights
      and
      ownership of buildings may impair the ability of the Group to dispose of or
      mortgage such land use rights and buildings.




**ITEM
      5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS.**




The
      following discussion and analysis should be read in conjunction with the
      Financial Statements of the Group contained elsewhere in this Annual Report.
      The
      Group maintains its books and accounts in accordance with PRC Accounting Rules
      and Regulations (“PRC GAAP”) and prepares its financial statements in accordance
      with both PRC GAAP and IFRS. The Financial Statements contained elsewhere in
      this Annual Report have been prepared in accordance with IFRS. IFRS differs
      in
      certain significant respects from U.S. GAAP. Information relating to the nature
      and effect of such differences is presented in Note 51 to the Financial
      Statements.


The
          consolidated financial statements for the year ended December 31, 2005
          have been
          revised to reflect the adoption of IAS 16 (amended 2004) Property, Plant
          and
          Equipment (“revised policy”) effective January 1, 2005. The effect of adoption
          of the revised policy was not reflected in the 2005 Annual Report as management
          determined the impact to the 2005 consolidated financial statements was
          immaterial. Further details are set out in Note 45 to the consolidated
          financial
          statements.




30




**Critical
      Accounting Policies**




The
        discussion and analysis of the Group’s financial condition and results of
        operations are based upon the consolidated financial statements, which have
        been
        prepared in accordance with IFRS. The preparation of such consolidated financial
        statements requires the Group to make estimates and judgments that affect
        the
        reported amount of assets and liabilities, revenues and expenses, and related
        disclosure of contingent assets and liabilities at the date of the consolidated
        financial statements. Actual results may differ from these estimates under
        different assumptions or conditions.
  Critical
        accounting policies are defined as those that are reflective of significant
        judgments and uncertainties, and potentially result in materially different
        results under different assumptions and conditions. Our principal accounting
        policies are set forth in Note 2 to the consolidated financial statements.
        The
        Group believes that the following critical accounting policies involve the
        most
        significant judgments and estimates used in the preparation of our financial
        statements.
  *Impairment
        for long-lived assets*
  If
        circumstances indicate that the net book value of a long-lived asset may
        not be
        recoverable, this asset may be considered “impaired”, and an impairment loss may
        be recognized in accordance with IAS 36 “Impairment of Assets”. The carrying
        amounts of long-lived assets are reviewed periodically in order to assess
        whether the recoverable amounts have declined below the carrying amounts.
        These
        assets are tested for impairment whenever events or changes in circumstances
        indicate that their recorded carrying amounts may not be recoverable. When
        such
        a decline has occurred, the carrying amount is reduced to recoverable amount.
        The recoverable amount is the greater of the net selling price and the value
        in
        use. In determining the value in use, expected cash flows generated by the
        asset
        are discounted to their present value, which requires significant judgment
        relating to level of traffic revenue and amount of operating costs. The Group
        uses all readily available information in determining an amount that is a
        reasonable approximation of recoverable amount, including estimates based
        on
        reasonable and supportable assumptions and projections of traffic revenue
        and
        amount of operating costs.
  *Depreciation*
  Property,
        plant and equipment are depreciated on a straight-line basis over their
        estimated useful lives, after taking into account the estimated residual
        value.
        The Group reviews the estimated useful lives of the assets regularly in order
        to
        determine the amount of depreciation expense to be recorded during any reporting
        period. The useful lives are based on the Group’s historical experience with
        similar assets and taking into account anticipated technological changes.
        The
        depreciation expense for future periods is adjusted if there are significant
        changes from previous estimates.
  *Impairment
        of trade receivables*
  The
        Group
        maintains an impairment loss for doubtful accounts for estimated losses
        resulting from the inability of the debtors to make required payments. The
        Group
        bases the estimates of future cash flows on the ageing of the trade receivables
        balance, debtors’ credit-worthiness, and historical write-off experience. If the
        financial condition of the debtors were to deteriorate, actual write-offs
        would
        be higher than estimated.




31




**Overview**




As
      a
      result of the continuous growth in demand in the airline market and
      acquisitions, of airline operations, the Group’s business benefited from an
      increase of transport capacity, passenger volume and cargo and mail carried. On
      the
      other hand, the Group has also strengthened its cost control strategy,
      particularly on saving jet fuel cost and repairs and maintenance expenses.
      Together with improving allocation of transport capacity between peak and non
      peak season, expanding the profitable routes and enhancing the ticket revenue
      management system, the revenue and the operation efficiency of the Group
      improved in 2006.




Nevertheless,
      the Group is facing pressure on its operations due to continuing increases
      of
      jet fuel costs and intensified competition.




Since
        July 21, 2005, the PRC Government has begun to adopt a managed floating exchange
        rate system based on market supply and demand of currencies, which is subject
        to
        adjustments with reference to a basket of currencies. The exchange rate of
        Renminbi would no longer be pegged to the U.S. dollar only and a more flexible
        exchange rate system was established. The exchange rate of U.S. dollar and
        RMB
        was at USD1.00: RMB8.11. Because the Group finances its aircraft acquisitions
        mainly through capital leases or bank loans in U.S. dollars, and there are
        a substantial amount of transactions and obligations denominated in U.S.
        dollars
        in relation to its global purchases of jet fuel, lease and purchase of aviation
        equipment as well as major repairs, in addition to the landing fees of its
        international flights in the airports of other countries, the Group benefited
        from the RMB appreciation. RMB appreciation has brought a one-off exchange
        gain
        to the Group and reduced its operating costs which are denominated in foreign
        currencies. However, RMB appreciation also presents the Group with a challenge
        in price competition in international route operations.




According
        to the Notice of NDRC and CAAC on Issues Relating to Introduction of the
        Fuel
        Surcharge for Domestic Routes, domestic airlines imposed fuel surcharges
        for all
        the domestic routes (excluding those from the mainland PRC to Hong Kong and
        Macau) with effect from August 1, 2005 (based on flight time). On February
        16,
        2006, the NDRC and CAAC released a supplementary document on Issues Relating
        to
        the Introduction of Fuel Surcharge for Domestic Routes, stating that due
        to the
        rising jet fuel price, the period of imposition of fuel surcharge by airlines
        was extended. On March 28, 2006, the NDRC and CAAC released another
        supplementary document on Issues Relating to the Introduction of Fuel Surcharge
        for Domestic Routes, thereby adjusting the amount of fuel surcharges from
        RMB20
        to RMB30 per passenger for distances flown less than 800 kilometers, and
        from
        RMB40 to RMB60 for distances exceeding 800 kilometers, during the period
        temporarily from April 10, 2006 to October 10, 2006. The introduction of
        fuel
        surcharge and the extension of the duration of the same helped relieve, to
        a
        certain extent, the burden of high jet fuel cost on the Group. NDRC and CAAC approved
        of the raise to the passenger fuel surcharge for domestic routes to help
        relieve
        the soaring jet fuel cost for the period in 2006.




The
      Group’s operating revenue is substantially dependent on the passenger and cargo
      traffic volume carried, which is subject to seasonal and other changes in
      traffic patterns, the availability of appropriate time slots for the Group’s
      flights and alternative routes, the degree of competition from other airlines
      and alternate means of transportation, as well as other factors that may
      influence passenger travel demand and cargo and mail volume. In particular,
      the
      Group’s airline revenue is generally higher in the second and third quarters
      than in the first and fourth quarters.




Like
      most
      airlines, the Group is subject to a high degree of financial and operating
      leverage. A significant percentage of the Group’s operating expenses are fixed
      costs that do not vary proportionally based on the Group’s yields or the load
      factors. These fixed costs include depreciation expense, jet fuel costs, landing
      and navigation fees, financing costs, operating lease payments, aircraft
      maintenance costs and labor for flight crew, cabin crew and ground personnel.
      Thus, a minor change in the Group’s yields or load factors would have a material
      effect on the Group’s results of operations. In addition, certain of these
      expenses, primarily financing costs and operating lease payments, labor costs
      and depreciation do not vary based on the number of flights flown. Thus, the
      Group’s operating results can also be substantially affected by minor changes in
      aircraft utilization rates. The Group is and will continue to be highly
      leveraged with substantial obligations denominated in foreign currencies and,
      accordingly, the results of its operations are significantly affected by
      fluctuations in foreign exchange rates, particularly for the U.S. dollar and
      the
      Japanese yen. The Group recognized a net exchange gain of RMB1,220 million
      and
      RMB1,492 million in 2005 and 2006, respectively. These amounts represented
      mainly unrealized exchange differences resulting from the retranslation of
      the
      foreign currency borrowings.




32




A
      number
      of other external variables, including political and economic conditions in
      China, tend to have a major impact on the Group’s performance. The Group’s
      financial performance is also significantly affected by factors arising from
      operating in a regulated industry. As substantially all aspects of the Group’s
      airline operations are regulated by the PRC government, the Group’s operating
      revenues and expenses are directly affected by the PRC government’s policies
      with respect to domestic air fares, jet fuel prices and landing and navigation
      fees, among others. The nature and extent of airline competition and the ability
      of Chinese airlines to expand are also affected by CAAC’s control over route
      allocations. Any changes in the PRC government’s regulatory policies, or any
      implementation of such policies could have a significant impact on the Group’s
      future operations and its ability to implement its operating strategy.




**Certain
      Financial Information and Operating Data by Geographic
      Region**




The
      following table sets forth certain financial information and operating data
      by
      geographic region for the years ended December 31, 2004, 2005 and 2006:




**Year
                ended**
              **December
                31,**
            
            **2005
                vs. 2004**
              **%
                increase/**
            
            **2006
                vs. 2005**
              **%
                increase/****2004**
            
            **2005**
            
            **2006**
            
            **(decrease)**
            
            **(decrease)****Traffic**RPK
                (million)
              Domestic
            
            
            29,121
            
            
            51,472
            
            
            58,128
            
            
            76.8
            
            
            12.9Hong
                Kong and Macau
            
            
            1,203
            
            
            1,549
            
            
            1,541
            
            
            28.8
            
            
            (0.5
            )International
            
            
            6,872
            
            
            8,902
            
            
            9,913
            
            
            29.5
            
            
            11.4Total
            
            
            37,196
            
            
            61,923
            
            
            69,582
            
            
            66.5
            
            
            12.4RTK
                (million)Domestic
            
            
            3,206
            
            
            5,571
            
            
            6,226
            
            
            73.8
            
            
            11.8Hong
                Kong and Macau
            
            
            120
            
            
            159
            
            
            156
            
            
            32.5
            
            
            (1.9
            )International
            
            
            1,337
            
            
            1,554
            
            
            1,689
            
            
            16.2
            
            
            8.7Total
            
            
            4,663
            
            
            7,284
            
            
            8,071
            
            
            56.2
            
            
            10.8Passengers
                carried (thousand)Domestic
            
            
            25,002
            
            
            39,545
            
            
            44,225
            
            
            58.2
            
            
            11.8Hong
                Kong and Macau
            
            
            1,394
            
            
            1,556
            
            
            1,545
            
            
            11.6
            
            
            (0.7
            )International
            
            
            1,811
            
            
            3,018
            
            
            3,436
            
            
            66.6
            
            
            13.9Total
            
            
            28,207
            
            
            44,119
            
            
            49,206
            
            
            56.4
            
            
            11.5Cargo
                and mail carried (thousand tons)Domestic
            
            
            442
            
            
            639
            
            
            674
            
            
            44.6
            
            
            5.5Hong
                Kong and Macau
            
            
            15
            
            
            19
            
            
            16
            
            
            26.7
            
            
            (15.7
            )International
            
            
            88
            
            
            117
            
            
            129
            
            
            33.0
            
            
            10.4Total
            
            
            545
            
            
            775
            
            
            819
            
            
            42.2
            
            
            5.7





**Year
                  ended**
                **December
                  31,**
              
              **2005
                  vs. 2004**
                **%
                  increase/**
              
              **2006
                  vs. 2005**
                **%
                  increase/****2004**
              
              **2005**
              
              **2006**
              
              **(decrease)**
              
              **(decrease)****Capacity**ASK
                  (million)
                Domestic
              
              
              41,330
              
              
              72,107
              
              
              79,773
              
              
              74.5
              
              
              10.6Hong
                  Kong and Macau
              
              
              1,896
              
              
              2,656
              
              
              2,459
              
              
              40.1
              
              
              (7.4
              )International
              
              
              10,543
              
              
              13,598
              
              
              14,827
              
              
              29.0
              
              
              9.0Total
              
              
              53,769
              
              
              88,361
              
              
              97,059
              
              
              64.3
              
              
              9.8ATK
                  (million)
                Domestic
              
              
              4,773
              
              
              8,352
              
              
              9,311
              
              
              75.0
              
              
              11.5Hong
                  Kong and Macau
              
              
              211
              
              
              315
              
              
              289
              
              
              49.3
              
              
              (8.3
              )International
              
              
              2,462
              
              
              2,842
              
              
              3,056
              
              
              15.4
              
              
              7.5Total
              
              
              7,446
              
              
              11,509
              
              
              12,656
              
              
              54.6
              
              
              10.0**Load
                  Factors**Passenger
                  load factor (RPK/ASK) (%)Domestic
              
              
              70.5
              
              
              71.4
              
              
              72.9
              
              
              1.3
              
              
              2.1Hong
                  Kong and Macau
              
              
              63.4
              
              
              58.3
              
              
              62.7
              
              
              (8.0
              )
              
              7.5International
              
              
              65.2
              
              
              65.5
              
              
              66.9
              
              
              0.5
              
              
              2.1Overall
              
              
              69.2
              
              
              70.1
              
              
              71.7
              
              
              1.3
              
              
              2.3Overall
                  load factor (RTK/ATK) (%)Domestic
              
              
              67.2
              
              
              66.7
              
              
              66.9
              
              
              (0.7
              )
              
              0.3Hong
                  Kong and Macau
              
              
              56.9
              
              
              50.4
              
              
              53.8
              
              
              (11.4
              )
              
              7.1International
              
              
              54.3
              
              
              54.7
              
              
              55.3
              
              
              0.7
              
              
              1.1Overall
              
              
              62.6
              
              
              63.3
              
              
              63.8
              
              
              1.1
              
              
              0.8**Yield**Yield
                  per RPK (RMB)Domestic
              
              
              0.58
              
              
              0.55
              
              
              0.59
              
              
              (5.2
              )
              
              7.8Hong
                  Kong and Macau
              
              
              0.92
              
              
              0.77
              
              
              0.80
              
              
              (16.3
              )
              
              3.8International
              
              
              0.46
              
              
              0.56
              
              
              0.62
              
              
              21.7
              
              
              10.7Overall
              
              
              0.57
              
              
              0.55
              
              
              0.60
              
              
              (3.5
              )
              
              9.1Yield
                  per RTK (RMB)Domestic
              
              
              5.53
              
              
              5.30
              
              
              5.74
              
              
              (4.2
              )
              
              8.3Hong
                  Kong and Macau
              
              
              9.83
              
              
              8.18
              
              
              8.52
              
              
              (16.8
              )
              
              4.2International
              
              
              3.31
              
              
              4.24
              
              
              4.77
              
              
              28.1
              
              
              12.5Overall
              
              
              5.01
              
              
              5.14
              
              
              5.59
              
              
              2.6
              
              
              8.8**Financial-IFRS**Passenger
                  revenue (RMB million)Domestic
              
              
              16,869
              
              
              28,182
              
              
              34,174
              
              
              67.1
              
              
              21.3Hong
                  Kong and Macau
              
              
              1,104
              
              
              1,194
              
              
              1,230
              
              
              8.2
              
              
              3.0International
              
              
              3,127
              
              
              4,952
              
              
              6,145
              
              
              58.4
              
              
              24.1Total
              
              
              21,100
              
              
              34,328
              
              
              41,549
              
              
              62.7
              
              
              21.0Cargo
                  and mail revenue (RMB million)
              
              
              2,244
              
              
              3,091
              
              
              3,538
              
              
              37.7
              
              
              14.5**Financial-****U.S.
                  GAAP**Passenger
                  revenue (RMB million)Domestic
              
              
              24,773
              
              
              28,182
              
              
              34,174
              
              
              13.8
              
              
              21.3Hong
                  Kong and Macau
              
              
              1,151
              
              
              1,194
              
              
              1,230
              
              
              3.7
              
              
              3.0International
              
              
              4,519
              
              
              4,952
              
              
              6,145
              
              
              9.6
              
              
              24.1Total
              
              
              30,443
              
              
              34,328
              
              
              41,549
              
              
              12.8
              
              
              21.0Cargo
                  and mail revenue (RMB million)
              
              
              2,792
              
              
              3,091
              
              
              3,538
              
              
              10.7
              
              
              14.5




33




**Operating
      Results**




The
      historical results of operations discussed below may not be indicative of the
      Group’s future operating performance. In addition to the factors discussed under
      “Overview” above, the Group’s future operations will be affected by, among other
      things, changes in the aviation market, the cost of jet fuel, aircraft
      acquisition and leasing costs, aircraft maintenance expenses, take-off and
      landing charges, wages, salaries and benefits and other operating expenses,
      foreign exchange rates and the rates of income taxes paid.




34




2006
      Compared with 2005




The
      profit for 2006 attributable to equity shareholders of the Company was RMB126
      million, as compared to a loss of RMB1,786 million for 2005. The scale of
      operations increased as a result of continued growth in China’s economy and
      strong demand in air transportation. The Group’s operating revenue increased by
      RMB7,926 million or 20.7% from RMB38,293 million in 2005 to RMB46,219 million
      in
      2006. Passenger load factor increased by 1.6 percentage points from 70.1% in
      2005 to 71.7% in 2006. Passenger yield (in passenger revenue per RPK) increased
      by 9.1% to RMB 0.60. Average yield (in traffic revenue per RTK) increased by
      8.8% from RMB 5.14 in 2005 to RMB 5.59 in 2006. Operating expenses increased
      by
      RMB 6,455 million or 16.3% from RMB39,525 million in 2005 to RMB45,980 million
      in 2006. As a result of improved passenger load factor and average yield,
      operating profit was RMB239 million in 2006 as compared to an operating loss
      of
      RMB1,232 million in 2005. The Group’s net non-operating income was RMB45 million
      in 2006 as compared to a net non-operating expense of RMB548 million in 2005.
      The improvement in non-operating results was mainly attributable to
      the increase in exchange gain of RMB272 million, an increase in share of
      results of associates and jointly controlled entities of RMB369 million and
      an
      increase in gain on disposal of property, plant and equipment of RMB367 million.
      The
      increase in net operating income was partly offset by the increase in interest
      expense of RMB 454 million.




*Operating
        revenue*




Substantially
      all of the Group’s operating revenue is attributable to airline and airline
      related operations. Traffic revenue accounted for 97.6% and 97.7% of total
      operating revenue in 2006 and 2005, respectively. Passenger revenue and, cargo
      and mail revenue accounted for 92.2% and 7.8%, respectively, of total traffic
      revenue in 2006. The other operating revenue is mainly derived from commission
      income, income from general aviation operations, fees charged for ground
      services rendered to other Chinese airlines and air catering services.




The
      increase in operating revenue was primarily due to a 21.0% rise in passenger
      revenue from RMB34,328 million in 2005 to RMB41,549 million in 2006 resulting
      from increased traffic volume. The total number of passengers carried increased
      by 11.5 % to 49.21 million passengers in 2006.




Passenger
        yield increased slightly by RMB0.05. RPKs increased by 12.4% from 61,923
        million
        in 2005 to 69,582 million in 2006, primarily as a result of the increase
        in
        passengers carried.




Domestic
        passenger revenue, which accounted for 82.2% of the total passenger revenue
        in
        2006, increased by 21.3% from RMB28,182 million in 2005 to RMB34,174 million
        in
        2006. Domestic passenger traffic in RPKs increased by 12.9%, mainly due to
        an
        increase in passengers carried. Domestic passenger yield increased from RMB0.55
        in 2005 to RMB 0.59 in 2006.




Hong
        Kong
        and Macau passenger revenue, which accounted for 3.0% of total passenger
        revenue, increased by 3.0% from RMB1,194 million in 2005 to RMB1,230 million
        in
        2006. For Hong Kong and Macau flights, passenger traffic in RPKs decreased
        slightly by 0.5%, while passenger capacity in ASKs decreased by 7.4%, resulting
        in a 4.4 percentage point increase in passenger load factor from 2005. Passenger
        yield increased from RMB0.77 in 2005 to RMB0.80 in 2006 mainly due to higher
        ticket price as
        a
        result of soaring jet fuel cost .




International
      passenger revenue, which accounted for 14.8 % of total passenger revenue,
      increased by 24.1% from RMB 4,952 million in 2005 to RMB6,145 million in 2006.
      For international flights, passenger traffic in RPKs increased by 11.4%, while
      passenger capacity in ASKs increased by 9.0%, resulting in a 1.4 percentage
      point rise in passenger load factor from 2005. Passenger yield increased by
      10.7% from RMB0.56 in 2005 to RMB0.62 in 2006 mainly due to the continued growth
      of demand in international flights in the PRC.




Cargo
      and
      mail revenue, which accounted for 7.8% of the Group’s total traffic revenue and
      7.7% of total operating revenue, increased by 14.5% from RMB3,091 million in
      2005 to RMB3,538 million in 2006. The increase was attributable to the
      increasing traffic demand.




Other
      operating revenue increased by 29.5 % from RMB874 million in 2005 to RMB1,132
      million in 2006. The increase was primarily due to the general growth in income
      from various auxiliary operations.




*Operating
      expenses*




Total
      operating expenses in 2006 amounted to RMB45,980 million, representing an
      increase of 16.3% or RMB6,455 million over 2005, primarily due to the total
      effect of increases in jet fuel costs, maintenance expenses and aircraft and
      traffic servicing expenses. Total operating expenses as a percentage of total
      operating revenue decreased from 103.2 % in 2005 to 99.5% in 2006.




Flight
      operations expenses, which accounted for 53.6% of total operating expenses,
      increased by 27.2% from RMB19,394 million in 2005 to RMB24,667 million in 2006,
      primarily as a result of increases in jet fuel costs, operating lease payments,
      catering expenses and labour costs for flight personnel. Jet fuel costs, which
      accounted for 65.6% of flight operations expenses, increased by 35.7 % from
      RMB11,929 million in 2005 to RMB16,193 million in 2006 mainly as a result of
      increased fuel prices and fuel consumption. Operating lease payments increased
      by 21.2 % from RMB2,497 million in 2005 to RMB3,027 million in 2006 primarily
      due to the additional rental payments for new aircraft under operating leases.
      Catering expenses increased by 4.0% from RMB1,196 million in 2005 to RMB1,244
      million in 2006 due to the increase in number of passengers carried. Labour
      costs for flight personnel increased by 5.9% from RMB1,619 million in 2005
      to
      RMB1,714 million in 2006, largely due to the increase in flying hours and
      allowance standard. CAAC  Infrastructure
      Development Fund Contributions increased by 15.2% from RMB978 million in 2005
      to
      RMB1,127 million in 2006.




35




Maintenance
        expenses which accounted for 8.9% of total operating expenses, increased
        by 0.6%
        from RMB4,051 million in 2005 to RMB4,077 million in 2006.




Aircraft
      and traffic servicing expenses, which accounted for 13.5% of total operating
      expenses, increased by 8.0% from RMB 5,759 million in 2005 to RMB6,219 million
      in 2006. The increase primarily resulted from a 6.7 % rise in landing and
      navigation fees from RMB4,891 million in 2005 to RMB5,220 million in 2006,
      due
      to an increase in the number of landings and takeoffs.




Promotional
      and marketing expenses, which accounted for 6.1% of total operating expenses,
      increased by 1.1% from RMB2,780 million in 2005 to RMB2,811 million in 2006.




General
      and administrative expenses, which accounted for 6.8% of the total operating
      expenses, increased by 27.8% from RMB2,457 million in 2005 to RMB3,140 million
      in 2006. This was mainly attributable to increased scale of operations and
      a
      provision for early retirement benefits of RMB 392 million in 2006.




Depreciation
      and amortisation, which accounted for 10.8% of total operating expenses,
      increased by 1.2% from RMB4,905 million in 2005 to RMB4,966 million in 2006,
      mainly resulting from the additional depreciation charge on aircraft delivered
      in 2005 and 2006.




*Operating
      profit/(loss)*




The
      Group
      recorded an operating profit of RMB239 million in 2006 as compared to an
      operating loss of RMB1,232 million in 2005. The gain was mainly due to an
      increase in operating revenue by RMB7,926 million or 20.7% in 2006 while
      operating expenses increased by RMB6,455 million or 16.3% in the same period.




*Non-operating
      income/(expenses)*




Interest
      expense increased by 28.1% from RMB1,616 million in 2005 to RMB2,070 million
      in
      2006, mainly due to the increase in loans and lease obligations and changes
      in
      interest rates. Interest income decreased by 25.5% from RMB55 million in 2005
      to
      RMB41 million in 2006, mainly attributable to the decrease in average bank
      balances in 2006.




Net
      exchange gain increased
      by 22.3% from RMB1,220 million in 2005 to RMB1,492 million in 2006, mainly
      resulting from Renminbi appreciation during 2006. Such amount mainly represents
      unrealised translation gain on re-translation of foreign currency denominated
      liabilities at the end of fiscal year.





Net
      gain
      on disposal of property, plant and equipment was RMB335 million in 2006 as
      compared to a net loss on disposal of property, plant and equipment of RMB32
      million in 2005. The gain in 2006 was mainly due to the disposal of three Boeing
      757-200 aircrafts to independent third parties.




*Taxation*





Income
      tax expense increased from RMB4 million in 2005 to RMB142 million in 2006.
      This
      is mainly attributable to the improved financial performance of the Group and
      the
      increase in non-deductible salaries and welfare.




2005
      Compared with 2004




The
      Group
      recorded a net loss of RMB1,786 million attributable to equity shareholders
      for
      2005, as compared to a net loss of RMB48 million attributable to equity
      shareholders for 2004. The loss was mainly due to the increased in scale of
      operations as a result of the acquisition of the airline operations and related
      assets of CNA and XJA on December 31, 2004. The
      Group’s operating revenue increased by RMB 14,319 million or 59.7% from
      RMB23,974 million in 2004 to RMB38,293 million in 2005. Passenger load factor
      increased by 0.9 percentage point from 69.2% in 2004 to 70.1% in 2005. Passenger
      yield (in passenger revenue per RPK) decreased slightly by 3.5% to RMB0.55.
      Average yield (in traffic revenue per RTK) increased by 2.6% from RMB5.01 in
      2004 to RMB5.14 in 2005. Operating expenses increased by RMB16,460 million
      or
      71.4% from RMB23,065 million in 2004 to RMB39,525 million in 2005. As operating
      revenue increased less than operating expenses, operating profit decreased
      by
      235.5% from operating profit of RMB909 million in 2004 to operating loss of
      RMB1,232 million in 2005. The Group’s net non-operating expenses decreased by
      20.5%, from RMB689 million in 2004 to RMB548 million in 2005, mainly
      attributable to the
      combined effect of the increase in exchange gain of RMB1,279 million, increase
      in interest expense of RMB925 million and a decrease in share of results of
      associates of RMB295 million.




*Operating
      revenue*




Substantially
      all of the Group’s operating revenue is attributable to airline and airline
      related operations. Traffic revenue in 2005 and 2004 accounted for 97.7% and
      97.4%, respectively, of total operating revenue. Passenger revenue, cargo and
      mail revenue accounted for 91.7% and 8.3%, respectively, of total traffic
      revenue in 2005. The balance of the Group’s operating revenue is derived from
      commission income, income from general aviation operations, fees charged for
      ground services rendered to other Chinese airlines and air catering services.




36




Operating
        revenue increased by 59.7% from RMB23,974 million in 2004 to RMB38,293 million
        in 2005. This increase was primarily due to a 62.7% increase in passenger
        revenue from RMB21,100 million in 2004 to RMB34,328 million in 2005 resulting
        from increased traffic volume. Due to the continued growth in domestic economic
        conditions, the aviation traffic volume in China attained a new high record
        in
        2005. The total number of passengers carried increased by 56.4% to 44.12
        million
        passengers and the ASKs increased by 64.3% to 88,361 million in 2005. The
        increase in 2005 compared to 2004 was attributable to the general increasing
        traffic demand in the PRC airline market and deliveries of 108 aircraft during
        2005 which lead to an increase in passenger capacity of 68.1%. Passenger
        yield
        decreased slightly by RMB0.02. RPKs increased by 66.5% from RMB37,196 million
        in
        2004 to RMB61,923 million in 2005, primarily as a result of an increase in
        passengers carried.




Domestic
        passenger revenue, which accounted for 82.1% of the total passenger revenue
        in
        2005, increased by 67.1% from RMB16,869 million in 2004 to RMB28,182 million
        in
        2005. Domestic passenger traffic in RPKs increased by 76.8%, mainly due to
        an
        increase in passengers carried. Passenger yield decreased slightly by RMB0.02
        to
        RMB0.55 in 2005.




Hong
      Kong
      and Macau passenger revenue, which accounted for 3.5% of total passenger
      revenue, increased by 8.2% from RMB1,104 million in 2004 to RMB1,194 million
      in
      2005. For Hong Kong and Macau flights, passenger traffic in RPKs increased
      by
      28.8%, while passenger capacity in ASKs increased by 40.1%, resulting in a
      5.1
      percentage point decrease in passenger load factor from 2004. Passenger yield
      decreased from RMB0.92 in 2004 to RMB0.77 in 2005 mainly due to intensified
      competition among airlines.




International
      passenger revenue, which accounted for 14.4% of total passenger revenue,
      increased by 58.4% from RMB 3,127 million in 2004 to RMB4,952 million in 2005.
      For international flights, passenger traffic in RPKs increased by 29.5%, while
      passenger capacity in ASKs increased by 29.0%, resulting in a 0.3 percentage
      point increase in passenger load factor from 2004. Passenger yield increased
      by
      21.7% from RMB0.46 in 2004 to RMB0.56 in 2005 mainly resulted from higher ticket
      price and the increase in traffic derived from short haul routes which generally
      had a higher yield than long haul routes.




Cargo
      and
      mail revenue, which accounted for 8.3% of the Group’s total traffic revenue and
      8.1% of total operating revenue, increased by 37.7% from RMB2,224 million in
      2004 to RMB3,091 million in 2005. The increase was attributable to the increased
      in traffic demand.




Other
      operating revenue increased by 38.7% from RMB630 million in 2004 to RMB874
      million in 2005. The increase was primarily due to the general growth in income
      from various auxiliary operations.




*Operating
      expenses*




Total
      operating expenses in 2005 amounted to RMB39,525 million, representing an
      increase of 71.4% or RMB16,460 million over 2004, primarily due to the combined
      effect of increases in jet fuel costs, maintenance expenses and aircraft and
      traffic servicing expenses. Total operating expenses as a percentage of total
      operating revenue increased from 96.2% in 2004 to 103.2% in 2005.




Flight
        operations expenses, which accounted for 49.1% of total operating expenses,
        increased by 86.2% from RMB10,418 million in 2004 to RMB19,394 million in
        2005,
        primarily as a result of increases in jet fuel costs, operating lease payments,
        catering expenses, labour costs for flight personnel. Jet fuel costs, which
        accounted for 61.5% of flight operations expenses, increased by 97.2% from
        RMB
        6,050 million in 2004 to RMB11,929 million in 2005 mainly as a result of
        increased fuel prices and fuel consumption. Operating lease payments increased
        by 50.0% from RMB1,665 million in 2004 to RMB2,497 million in 2005, primarily
        due to the additional rental payments for new aircraft under operating leases.
        Catering expenses increased by 69.6% from RMB705 million in 2004 to RMB1,196
        million in 2005, primarily due to increased passenger carried. Aircraft
        insurance costs decreased by 43.2% from RMB185 million in 2004 to RMB105
        million
        in 2005, primarily because of a decrease in insurance premiums in 2005. Labour
        costs for flight personnel increased by 57.8% from RMB1,026 million in 2004
        to
        RMB1,619 million in 2005, largely due to the increase in flying hours and
        allowance standard.




Maintenance
        expenses which accounted for 10.2% of total operating expenses, increased
        by
        17.1% from RMB3,459 million in 2004 to RMB4,051 million in 2005. The increase
        was primarily attributable to the fleet expansion in recent years.




Aircraft
        and traffic servicing expenses, which accounted for 14.6% of total operating
        expenses, increased by 64.4% from RMB3,503 million in 2004 to RMB5,759 million
        in 2005. The increase primarily resulted from 51.8% increase in landing and
        navigation fees from RMB3,222 million in 2004 to RMB4,891 million in 2005,
        due
        to an increase in number of landing and takeoffs.




Promotional
      and marketing expenses, which accounted for 7.0% of total operating expenses,
      increased by 43.3% from RMB1,940 million in 2004 to RMB2,780 million in 2005. The
      increase was mainly resulted from the increase in sales volume, resulting in
      a
      41.5% increase in sales commission expenses from RMB1,062 million in 2004 to
      RMB1,503 million in 2005.




General
      and administrative expenses, which accounted for 6.2% of the total operating
      expenses, increased by 85.7% from RMB1,323 million in 2004 to RMB2,457 million
      in 2005. This was mainly attributable to increased scale of operations.




Depreciation
        and amortisation, which accounted for 12.4% of total operating expenses,
        increased by 103.3% from RMB 2,413 million in 2004 to RMB4,905 million in
        2005.
        This increase was primarily as a result of the additional depreciation charge
        on
        aircraft delivered in 2004 and 2005.




37




*Operating
        (loss) / profit*




The
        Group
        recored an operating loss of RMB1,232 million in 2005 as compared to an
        operating profit of RMB909 million in 2004. This was mainly because an
        increase in operating revenue by RMB14,319 million or 59.7% in 2005 while
        operating expenses increased by RMB16,460 million or 71.4% in the same
        period.




*Non-operating
      income/(expenses)*




Interest
      expense increased by 133.9% from RMB691 million in 2004 to RMB1,616 million
      in
      2005, mainly due to the increase in loans, lease obligations and interest rate.




Interest
      income increased by 150.0% from RMB22 million in 2004 to RMB55 million in 2005.
      It was mainly attributable to an increase in interest rate.





During
      2005, the Group recorded a net exchange gain of RMB1,220 million (2004:
      Net exchange loss of RMB59 million) mainly resulted from Renminbi appreciation
      since July 2005. Such amount represents mainly unrealised translation exchange
      gain, resulting from exchange gains on translated year end foreign currency
      denominated liabilities, rather than foreign exchange transactions incurred
      during the year.




*Taxation*





In
      2005,
      the Group recorded an income tax expenses of RMB4 million resulting from
      recognition of RMB159 million deferred tax assets in respect of a portion of
      tax
      losses. In 2004, income tax expenses of RMB65 miilion were
      recorded.




**Additional
      information under U.S. GAAP**




2006
      Compared with 2005




The net
      income for 2006 is RMB216 million, as compared to a loss of RMB1,468
      million for 2005. The scale of operations increased as a result of continued
      growth in China’s economy and strong demand in air transportation. The Group’s
      operating revenue increased by RMB7,926 million or 20.7% from RMB38,293 million
      in 2005 to RMB46,219 million in 2006. Passenger load factor increased by 1.6
      percentage points from 70.1% in 2005 to 71.7% in 2006. Passenger yield (in
      passenger revenue per RPK) increased by 9.1% to RMB0.60. Average yield (in
      traffic revenue per RTK) increased by 8.8% from RMB5.14 in 2005 to RMB5.59
      in
      2006. Operating expenses increased by RMB 6,201 million or 15.8% from RMB39,312
      million in 2005 to RMB45,513 million in 2006. As
      a
      result of improved passenger load factor and average yield, operating profit
      was
      RMB706 million in 2006 as compared to an operating loss of RMB1,019 million
      in
      2005. The Group’s net non-operating expense decreased by RMB178 million or 36.9%
      from RMB482 million in 2005 to RMB304 million in 2006. The decrease was mainly
      attributable to the combined effect of increase in exchange gain of RMB272
      million, increase in interest expense of RMB481 million, increase in share
      of
      results of affiliated companies and jointly controlled entities of RMB348
      million.




*Operating
        revenue*




Substantially
        all of the Group’s operating revenue is attributable to airline and airline
        related operations. Traffic revenue accounted for 97.6 % and 97.7 % of total
        operating revenue in 2006 and 2005 respectively. Passenger revenue and, cargo
        and mail revenue accounted for 92.2% and 7.8% of total traffic revenue in
        2006
        respectively. The other operating revenue is mainly derived from commission
        income, income from general aviation operations, fees charged for ground
        services rendered to other Chinese airlines and air catering services.




The
      increase in opearating revenue was primarily due to a 21.0% rise in passenger
      revenue from RMB 34,328 million in 2005 to RMB41,549 million in 2006 resulting
      from increased traffic volume. The total number of passengers carried increased
      by 11.5% to 49.21 million passengers. RPKs increased by 12.4% from RMB61,923
      million in 2005 to RMB69,582 million in 2006, primarily as a result of the
      increase in passengers carried. Passenger yield increased by RMB0.05.




Domestic
        passenger revenue, which accounted for 82.2% of the total passenger revenue
        in
        2006, increased by 21.3% from RMB28,182 million in 2005 to RMB34,174 million
        in
        2006. Domestic passenger traffic in RPKs increased by 12.9%, mainly due to
        an
        increase in passengers carried. Domestic passenger yield increased from RMB0.55
        to RMB0.59 in 2006.




38




Hong
      Kong
      and Macau passenger revenue, which accounted for 3.0% of total passenger
      revenue, increased by 3.0% from RMB1,194 million in 2005 to RMB1,230 million
      in
      2006. For Hong Kong and Macau flights, passenger traffic in RPKs decreased
      slightly by 0.5%, while passenger capacity in ASKs decreased by 7.4%, resulting
      in a 4.4 percentage point increase in passenger load factor from 2005. Passenger
      yield increased from RMB0.77 in 2005 to RMB0.80 in 2006 mainly due to higher
      ticket price as a result of soaring jet fuel cost.




International
      passenger revenue, which accounted for 14.8% of total passenger revenue,
      increased by 24.1% from RMB4,952 million in 2005 to RMB6,145 million in 2006.
      For international flights, passenger traffic in RPKs increased by 11.4%, while
      passenger capacity in ASKs increased by 9.0%, resulting in a 1.4 percentage
      point rise in passenger load factor from 2005. Passenger yield increased by
      10.7% from RMB0.56 in 2005 to RMB0.62 in 2006 mainly resulting
      from the continued growth in demand for international flights in PRC .




Cargo
      and
      mail revenue, which accounted for 7.8% of the Group’s total traffic revenue and
      7.7% of total operating revenue, increased by 14.5% from RMB3,091 million in
      2005 to RMB3,538 million in 2006. The increase was attributable to the increased
      in traffic demand.




Other
      operating revenue increased by 29.5% from RMB874 million in 2005 to RMB1,132
      million in 2006. The increase was primarily due to the general
      growth in income from various auxiliary operations .




*Operating
      expenses*




Total
      operating expenses in 2006 amounted to RMB45,513 million, representing an
      increase of 15.8% or RMB6,201 million over 2005, primarily due to the total
      effect of increases in jet fuel costs, maintenance expenses and aircraft and
      traffic servicing expenses. Total operating expenses as a percentage of total
      operating revenue decreased from 102.7% in 2005 to 98.5% in 2006.




Flight
        operations expenses, which accounted for 54.0% of total operating expenses,
        increased by 28.1% from RMB19,183 million in 2005 to RMB24,574 million in
        2006,
        primarily as a result of increases in jet fuel costs, operating lease payments,
        catering expenses and labour costs for flight personnel. Jet fuel costs,
        which
        accounted for 65.9% of flight operations expenses, increased by 35.7% from
        RMB11,929 million in 2005 to RMB16,193 million in 2006 mainly as a result
        of
        increased fuel prices and fuel consumption. Operating lease payments increased
        by 34.5% from RMB2,375 million in 2005 to RMB3,194 million in 2006 primarily
        due
        to the additional rental payments for new aircraft under operating leases.
        Catering expenses increased by 4.0% from RMB1,196 million in 2005 to RMB1,244
        million in 2006 due to the increase in number of passengers carried. Labour
        costs for flight personnel increased by 5.9% from RMB1,619 million in 2005
        to
        RMB1,714 million in 2006, largely due to the increase in flying hours and
        allowance standard. CAAC
        Infrastructure Development Fund Contributions increased by 15.2% from RMB978
        million in 2005 to RMB1,127 million in 2006.




Maintenance
        expenses which accounted for 9.0% of total operating expenses, increased
        by 0.6%
        from RMB4,051 million in 2005 to RMB4,077 million in 2006.




Aircraft
        and traffic servicing expenses, which accounted for 13.7% of total operating
        expenses, increased by 8.0% from RMB 5,759 million in 2005 to RMB6,219 million
        in 2006. The increase primarily resulted from a 6.7% rise in landing and
        navigation fees from RMB4,891 million in 2005 to RMB5,220 million in 2006,
        due
        to an increase in number of landing and takeoffs.




Promotional
        and marketing expenses, which accounted for 6.2% of total operating expenses,
        increased by 1.1% from RMB2,780 million in 2005 to RMB2,811 million in 2006.




General
        and administrative expenses, which accounted for 6.2% of the total operating
        expenses, increased by 14.2% from RMB2,457 million in 2005 to RMB2,805 million
        in 2006. This was mainly attributable to increased scale of operations and
        retirement benefits in 2006.




Depreciation
        and amortisation, which accounted for 10.8% of total operating expenses,
        increased by 1.1% from RMB4,871 million in 2005 to RMB4,927 million in 2006,
        mainly resulting from the additional depreciation charge on aircraft delivered
        in 2005 and 2006.




*Operating
      income/(loss)*




The
      Group
      recorded an operating income of RMB706 million in 2006 as compared to an
      operating loss of RMB1,019 million in 2005. It was mainly due to the operating
      revenue increased by RMB7,926 million or 20.7% in 2006 while operating expenses
      increased by RMB6,201 million or 15.8% in the same period.




*Non-operating
      income/(expenses)*




Interest
      expense increased by 30.3% from RMB1,589 million in 2005 to RMB2,070 million
      in
      2006, mainly due to the increase in loans and interest rate. Interest income
      decreased by 25.5% from RMB55 million in 2005 to RMB41 million in 2006, mainly
      attributable to the decrease in average bank balances in 2006.




Net
      exchange gain increased
      by 22.3% from RMB1,220 million in 2005 to RMB1,492 million in 2006, mainly
      resulting from Renminbi appreciation during 2006. Such amount mainly represents
      unrealised translation gain on re-translation of foreign currency denominated
      liabilities at the end of the year.




39




*Taxation*





Income
      tax expense for the year amounted to RMB170 million as compared to an income
      tax
      benefit of RMB35 million in 2005. This is mainly attributable to the improved
      financial performance of the Group.




2005
      Compared with 2004




The
        Group
        recorded a loss of RMB1,468 million attributable to equity shareholders for
        2005, as compared to a income of RMB239 million attributable to equity
        shareholders for 2004. The loss was mainly due to the increased in scale of
        operations as a result of acquisition of the airline operations and related
        assets of CNA and XJA on December 31, 2004. The
        Group’s operating revenue increased by RMB4,128 million or 12.1% from RMB34,165
        million in 2004 to RMB38,293 million in 2005. Passenger load factor increased
        by
        0.9 percentage point from 69.2% in 2004 to 70.1% in 2005. Passenger yield
        (in
        passenger revenue per RPK) decreased by 3.5% to RMB0.55. Average yield (in
        traffic revenue per RTK) increased by 2.6% from RMB5.01 in 2004 to RMB5.14
        in
        2005. Operating expenses increased by RMB7,024 million or 21.8% from RMB32,288
        million in 2004 to RMB39,312 million in 2005. As operating revenue increased
        smaller than operating expenses, operating income decreased by 154.3% from
        operating profit of RMB1,877 million in 2004 to operating loss of RMB1,019
        million in 2005. The Group’s net non-operating expenses decreased by 59.3%, from
        RMB1,184 million in 2004 to RMB482 million in 2005, mainly attributable to the
        combined effect of increase in exchange gain of RMB1,344 million, increase
        in
        interest expense of RMB405 million and a decrease in share of results of
        associates of RMB295 million.




*Operating
        revenue*




Substantially
      all of the Group’s operating revenue is attributable to airline and airline
      related operations. Traffic revenue in 2005 and 2004 accounted for 97.7% and
      97.3% respectively of total operating revenue. Passenger revenue and cargo
      and
      mail revenue accounted for 91.7% and 8.3% respectively of total traffic revenue
      in 2005. Passenger revenue and cargo and mail revenue accounted for 91.6% and
      8.4% respectively of total traffic revenue in 2004. The balance of the Group’s
      operating revenue is derived from commission income, income from general
      aviation operations, fees charged for ground services rendered to other Chinese
      airlines and air catering services.




Operating
      revenue increased by 12.1% from RMB34,165 million in 2004 to RMB38,293 million
      in 2005. This increase was primarily due to a 12.8% increase in passenger
      revenue from RMB30,443 million in 2004 to RMB34,328 million in 2005 resulting
      from increased traffic volume. The total number of passengers carried increased
      by 14.0% to 44.12 million passengers in 2005 and the ASKs
      increased by 14.3% to 88,361 million in 2005. The increase in 2005 compared
      to
      2004 was attributable to the general increasing traffic demand in the PRC
      airline market and deliveries of 30 aircraft during 2005 which caused an
      increase in passenger capacity of 12.4%.  RPKs
      increased by 16.3% from 53,233 million in 2004 to RMB61,923 million in 2005,
      primarily as a result of an increase in passengers carried. Passenger yield
      decreased by RMB0.02 to RMB0.55.




Domestic
      passenger revenue, which accounted for 82.1% of the total passenger revenue
      in
      2005, increased by 13.8% from RMB24,773 million in 2004 to RMB28,182 million
      in
      2005. Domestic passenger traffic in RPKs increased by 17.8%, mainly due to
      an
      increase in passengers carried. Domestic passenger yield decreased by RMB0.02
      to
      RMB0.55 in 2005.




Hong
      Kong
      and Macau passenger revenue, which accounted for 3.5% of total passenger
      revenue, increased by 3.7% from RMB1,151 million in 2004 to RMB1,194 million
      in
      2005. For Hong Kong and Macau regional flights, passenger traffic in RPKs
      increased by 18.5%, while passenger capacity in ASKs increased by 26.5%,
      resulting in a 4.0 percentage point decrease in passenger load factor from
      2004.
      Passenger yield decreased from RMB0.88 in 2004 to RMB0.77 in 2005 mainly due
      to
      intensified competition among airlines.




International
      passenger revenue, which accounted for 14.4% of total passenger revenue,
      increased by 9.6% from RMB4,519 million in 2004 to RMB4,952 million in 2005.
      For
      international flights, passenger traffic in RPKs increased by 8.3%, while
      passenger capacity in ASKs increased by 5.4%, resulting in a 1.8 percentage
      point rise in passenger load factor from 2004. Passenger yield increased by
      1.1% from
      RMB0.55 in 2004 to RMB0.56 in 2005 mainly resulted from higher ticket price
      and
      the increases in traffic derived from short haul routes which generally had
      a
      higher yield than long haul routes.




Cargo
      and
      mail revenue, which accounted for 8.3% of the Group’s total traffic revenue and
      8.1% of total operating revenue, increased by 10.7% from RMB2,792 million in
      2004 to RMB3,091 million in 2005. The increase was attributable to the
      increasing traffic demand.




Other
      operating revenue decreased by 6.0% from RMB930 million in 2004 to RMB874
      million in 2005. The decrease was primarily due to the reduced scale of other
      operations.




*Operating
      expenses*




Substantially
      all of the Group’s operating expenses result from its airline operations. The
      vast majority of such expenses relate directly to flight operations, aircraft
      and traffic servicing, aircraft repair and maintenance and to depreciation
      and
      amortisation in respect of aircraft and flight equipment. Expenses associated
      directly with the Group’s flight operations (collectively, “flight operations
      expenses”) include fuel costs, operating lease payments, catering expenses,
      aircraft insurance, flight personnel payroll and welfare and training expenses.
      Expenses associated directly with repairs and maintenance in respect of the
      Group’s aircraft (collectively, “repairs and maintenance expenses”) include
      repairs and maintenance and overhaul charges, the costs of consumables and
      other
      maintenance materials and labour costs for maintenance personnel. Expenses
      associated directly with the Group’s aircraft and traffic servicing operations
      (collectively “aircraft and traffic servicing expenses”) include landing and
      navigation fees, rental payments and charges in respect of terminal and other
      ground facilities and labour costs for ground personnel. The balance of the
      Group’s operating expenses result from promotional and marketing activities
      (collectively, “promotional and marketing expenses”) such as sales commissions,
      fees for use of the CAAC’s reservation system, ticket-printing and sales office
      expenses, advertising and promotional expenses, and from general and
      administrative expenses, such as administrative salaries and welfare and other
      personnel benefits and office expenses and from asset impairment charges.




40




Total
      operating expenses in 2005 amounted to RMB39,312 million, representing an
      increase of 21.8% or RMB7,024 million over 2004, primarily due to the combined
      effect of increases in jet fuel costs, maintenance expenses and aircraft and
      traffic servicing expenses. Total operating expenses as a percentage of total
      operating revenue increased from 94.5% in 2004 to 102.7% in 2005.




Flight
        operations expenses, which accounted for 48.8% of total operating expenses,
        increased by 27.8% from RMB15,016 million in 2004 to RMB19,183 million in
        2005,
        primarily as a result of increases in jet fuel costs, operating lease payments,
        catering expenses and labour costs for flight personnel. Jet fuel costs,
        which accounted for 62.2% of flight operations expenses, increased by 39.4%
        from
        RMB8,555 million in 2004 to RMB11,929 million in 2005 mainly as a result
        of
        increased fuel prices and fuel consumption. Operating lease payments increased
        by 12.4% from RMB2,109 million in 2004 to RMB2,375 million in 2005, primarily
        due to the additional rental payments for new aircraft under operating leases.
        Catering expenses increased by 21.2% from RMB987 million in 2004 to RMB1,196
        million in 2005, primarily due to an increase in number of passengers carried.
        Aircraft insurance costs decreased by 60.8% from RMB268 million in 2004 to
        RMB105 million in 2005, primarily because of a decrease in insurance premiums
        in
        2005. Labour costs for flight personnel increased by 4.8% from RMB1,545 million
        in 2004 to RMB1,619 million in 2005, largely due to the increase in flying
        hours
        and allowance standard.




Maintenance
        expenses which accounted for 10.3% of total operating expenses, decreased
        by
        11.5% from RMB4,578 million in 2004 to RMB4,051 million in 2005. The
        decrease was mainly due to certain major overhaul costs capitalized during
        the
        year.




Aircraft
        and traffic servicing expenses, which accounted for 14.6% of total operating
        expenses, increased by 20.3% from RMB4,789 million in 2004 to RMB5,759 million
        in 2005. The increase primarily resulted from a 10.0% rise in landing and
        navigation fees from RMB4,447 million in 2004 to RMB4,891 million in 2005,
        as a
        result of an increase in number of landing and takeoffs.




Promotional
        and marketing expenses, which accounted for 7.1% of total operating expenses,
        increased by 6.7% from RMB2,606 million in 2004 to RMB2,780 million in 2005. The
        increase was mainly due to the increase in sales volume, resulting in a 17.0%
        increase in sales commission expenses from RMB1,285 million in 2004 to RMB1,503
        million in 2005.




General
        and administrative expenses, which accounted for 6.3% of the total operating
        expenses, increased by 39.7% from RMB1,759 million in 2004 to RMB2,457 million
        in 2005. This was mainly attributable to increased scale of operations.




Depreciation
        and amortisation, which accounted for 12.4% of total operating expenses,
        increased by 38.3% from RMB3,523 million in 2004 to RMB4,871 million in 2005.
        This increase was primarily a result of the the
        additional depreciation charge on aircraft delivered in 2004 and 2005 and
        depreciation charge on capitalized major overhaul costs.




*Operating
        (loss)/income*





The
      Group
      recorded an operating loss of RMB1,019 million in 2005 as
      compared to an operating profit of RMB1,877 million in 2004. The loss was mainly
      due to an operating revenue increase of RMB4,128 million or 12.1% in 2005 and
      an
      operating expense increase of RMB7,024 million or 21.8% in the same
      period.




*Non-operating
      income/(expenses)*





Interest
      expense increased by 34.2% from RMB1,184 million in 2004 to RMB1,589 million
      in
      2005, mainly due to the increase in loans and lease obligations and interest
      rate.





Interest
      income increased by 66.7% from RMB33 million in 2004 to RMB55 million in 2005,
      mainly attributable to the increase of interest rate.




41




The
      Group
      recorded a net exchange gain of RMB1,220 million in 2005, compared to a net
      exchange loss of RMB124 million in 2004, mainly resulting from Renminbi
      appreciation in July 2005. Such amount represents mainly unrealised translation
      exchange gain, resulting from exchange gains on translated year end foreign
      currency denominated liabilities, rather than foreign exchange transactions
      incurred during the year.




*Taxation*





Income
      tax benefit for the year amounted to RMB35 million and the actual effective
      tax
      rate was 3% in 2005 while the Group’s enacted tax rate was 15%. The difference
      is mainly due to a portion of tax loss with a deferred tax effect of RMB135
      million not recognized, as well as the effect of change in the enacted income
      tax rate applicable to airline operations of CNA and XJA of RMB79 million.
      In
      2004, income tax expense of RMB261 million was recorded and actual effective
      tax
      rate was 38% while the Group’s enacted tax rate in 2004 was 15%. The difference
      is mainly due to the effect of the change in enacted income tax rate applicable
      to airline operations of CNA and XJA of RMB99 million, rate differential on
      airline operations of CNA and XJA of RMB43 million and non-deductible expenses
      of RMB37 million.




**Liquidity
      and Capital Resources**




Prior
      to
      the initial public offering of the Company, the Group met its working capital
      and capital expenditure requirements through cash from its operations, the
      proceeds of certain long-term and short-term bank loans, capital lease financing
      and rebates available under certain of the Group’s aircraft leases.




In
        July
        1997, the Company received net proceeds of RMB5,459 million from its initial
        public offering. A majority part of these net proceeds was utilized to finance
        the Group’s working capital and capital expenditure requirements. In July 2003,
        the Company issued 1,000,000,000 A Shares with a par value of RMB1.00 each
        at
        issue price of RMB2.70 by way of a public offering to natural persons and
        institutional investors in the PRC. The proceeds received by the Company
        of
        RMB2,641 million, net of the issuance costs of RMB59,233, have been used
        for the purchase of Boeing 737-800 aircraft in accordance with the disclosure
        in
        the Prospectus for Offering of the A Shares.




As
      of
      December 31, 2006, the Group had banking facilities with several PRC commercial
      banks for providing loan finance up to an approximate amount of RMB49,041
      million to the Group. As of December 31, 2006, an approximate amount of
      RMB28,295 million was utilized. As of December 31, 2005 and 2006, the Group’s
      cash and cash equivalents totaled RMB2,901 million and RMB2,264 million,
      respectively.




Net
        cash
        inflows from operating activities in 2004, 2005 and 2006 were RMB3,574 million,
        RMB4,417 million and RMB2,217 million, respectively. Cash
        from
        operations was RMB4,533 million, RMB6,001 million and RMB4,641 million in
        2004,
        2005 and 2006 respectively. The increase in cash from operations in 2005
        was due
        to the delay in payment of liabilitieis. Interest expense increasd from RMB754
        million in 2004, to RMB1,616 million in 2005 and further to RMB2,419 million
        in
        2006 as a result of the increased borrowings during the
        years.




Net
        cash
        used in investing activities in 2004, 2005 and 2006 was RMB8,824 million,
        RMB8,547 million and RMB5,404 million, respectively. Cash capital expenditures
        in 2004, 2005 and 2006 were RMB6,631 million, RMB5,473 million and RMB2,566
        million, respectively, reflecting predominantly additional investments in
        aircraft and flight equipment under the Group’s fleet expansion plans and
        Guangzhou new airport, and, to a small extent, additional investments in
        other
        facilities and buildings for operations.




Financing
        activities resulted in net cash inflows of RMB6,231 million, RMB3,992 million
        and RMB2,550 million in 2004, 2005 and 2006, respectively. Net
        cash
        from new notes payable and repayments amounted to RMB7,447 million, RMB6,045
        million and RMB5,870 in 2004, 2005 and 2006, respectively. The additional
        cash
        is for capital expenditures and general working capital. Repayment of capital
        leases in 2004, 2005 and 2006 was RMB1,272 million, RMB2,050 million and
        RMB3,313 milion, respectively, resulting from the aircraft acquisitions under
        capital leases.




As
        of
        December 31, 2006, the Group’s aggregate long-term debt and obligations under
        capital leases totaled RMB29,330 million. In 2007, 2008, 2009, 2010, 2011
        and thereafter, amounts payable under such debt and obligations will be RMB7,005
        million, RMB5,786 million, RMB3,853 million, RMB1,831 million, RMB6,474 million
        and RMB4,381 million respectively. Such borrowings were denominated, to a
        larger
        extent, in United States dollars and, to a smaller extent, in Japanese yen
        and
        Hong Kong dollars, with a significant portion being fixed interest rate
        borrowings. In the normal course of business, the Group is exposed to
        fluctuations in foreign currencies. The Group’s exposure to foreign currencies
        primarily results from its foreign currency debts. Depreciation or appreciation
        of the Renminbi against foreign currencies affects the Group’s results
        significantly because the Group’s foreign currency payments generally exceed its
        foreign currency receipts. The Group is not able to hedge its foreign currency
        exposure effectively other than by retaining its foreign currency denominated
        earnings and receipts to the extent permitted by the State Administration
        of
        Foreign Exchange, or subject to certain restrictive conditions, entering
        into
        forward foreign exchange contracts with authorised PRC banks.




As
      of
      December 31, 2006, the Group’s short term bank debt was RMB19,908 million. The
      Group’s weighted average interest rate on short-term bank notes payable was
      5.77% per annum as of December 31, 2006. The primary use of the proceeds of
      the
      Group’s short-term debt is to finance working capital needs. The Group has
      generally been able to arrange short-term bank loans with domestic banks in
      China as necessary and believes it can continue to obtain them based on its
      well-established relationships with various lenders.




42




Through
        May 31, 2007, the Group refinanced certain short-term bank debts of RMB4,170
        million. The refinanced bank debts are unsecured, bear interest at
        floating rates ranging from 3-month LIBOR/6-month LIBOR +0.50%
        to
        0.55% per annum  and
        are
        repayable one year from their respective refinanced dates. In addition, the
        Group entered into new short term bank debts agreement totalling RMB6,435
        million subsequent to December 31, 2006. These
        new
        short-term bank debts are unsecured and bear interest at floating rates ranging
        from 3-month/6-month/12-month LIBOR + 0.45% to 0.55% per annum with are
        repayable from five months to one year from their
        respective origination dates .




As
        of
        December 31, 2006, the Group had obligations under operating leases totaling
        RMB21,969 million, predominately for aircraft. Of such amount, RMB3,077 million,
        RMB2,965 million, RMB2,775 million, RMB2,613 million, RMB2,493 million and
        RMB8,046 million, respectively, is due in 2007, 2008, 2009, 2010, 2011 and
        thereafter.





As
        of
        December 31, 2006, the Group had a working capital deficit of RMB32,180 million,
        as compared to a working capital deficit of RMB25,907 million as of December
        31,
        2005. Historically, the Group operated in a negative working capital position,
        relying on cash inflow from operating activities and short-term bank debt
        refinancings to meet its short-term liquidity and working capital needs.
        The
        increase in the Group’s working capital deficit from 2005 to 2006 was mainly
        because the Group sought increased short-term debts to finance its aircraft
        acquisitions. Upon deliveries of the aircraft, the Group continued to seek
        renewal of its short-term debts instead of replacing such debts with long-term
        debts, as the interest rates for short-term debts are lower. In
        2007
        and thereafter, the liquidity of the Group is primarily dependent on its
        ability
        to maintain adequate cash inflows from operations and to obtain adequate
        external financing to meet both its debt obligations as they fall due and
        committed future capital expenditures. At December 31, 2006, the Group entered
        into loan financing agreements with several PRC banks to provide financing
        up to
        RMB49,041 million during 2007, of which approximately RMB28,295
        million was utilized. Subsequent to December 31, 2006 and up to May 31,
        2007, the Group entered into additional loan financing agreements to obtain
        financing up to RMB5,045 million during 2007. The directors of the Company
        believe that sufficient financing will be available to the
        Group.




As
      the
      Group is subject to a high degree of operating leverage, a minor decrease in
      the
      Group’s yield and/or load factor could result in a significant decrease in its
      operating revenue and hence its operating cashflows. This could arise in such
      circumstances as where competition between Chinese airlines increases or where
      PRC aviation demand decreases. Similarly, a minor increase in the jet fuel
      prices, particularly in the domestic market, could result in a significant
      increase in the Group’s operating expenses and hence a significant decrease in
      its operating cashflows. This could be caused by fluctuations in supply and
      demand in international oil market. Currently, the Group’s existing debt and
      lease facilities do not contain any financial covenants. Nevertheless, as the
      Group is subject to a high degree of financial leverage, an adverse change
      in
      the Group’s operating cashflows could adversely affect its financial health and
      hence weaken its ability to obtain additional debt and lease facilities and
      to
      renew its short-term debt facilities as they fall due.





As
        of
        December 31, 2006, the Group had capital commitments as
        follows:


2007
              
              2008
              
              2009
              
              2010
              
              2011
              
              Total(RMB
                  million)Acquision
                  of aircraft and related equipment
              
              
              12,299
              
              
              22,572
              
              
              17,483
              
              
              14,232
              
              
              295
              
              
              66,881Others
              
              
              945
              
              
              328
              
              
              261
              
              
              145
              
              
              145
              
              
              1,82413,244
              
              
              22,900
              
              
              17,744
              
              
              14,377
              
              
              440
              
              
              68,705





Others
        mainly represent airport and office facilities and equipment, overhaul and
        maintenance bases and training facilities.





As
      of
      December 31, 2006, the Group undertook to make a capital contribution of
      approximately RMB83 million to a jointly controlled entity.




As
      of
      December 31, 2006, the cash and cash equivalents of the Group totaled RMB2,264
      million. Of such balance, 15.0% was denominated in foreign currencies.




The
        Group
        expects that the cash from operations and short-term and long-term bank
        borrowings will be sufficient to meet its cash requirements in the foreseeable
        future.




43


**Contractual
        Obligations and Commercial Commitments**
  The
        following table sets forth the Group’s obligations and commitments to make
        future payments under contracts and under contingent commitments as of December
        31, 2006.




**As
                    of December 31,
                    2006**
                  **Payment
                    due by period**
                
                **As
                    of December 31, 2005****Total**
                
                **less
                    than1 year**
                
                **1-3years**
                
                **3-5years**
                
                **After
                    5years**
                
                **Total****(RMB
                    million)****Contractual
                    obligations**Short-term
                    debt
                
                
                **19,908**
                
                
                19,908
                
                
                —
                
                
                —
                
                
                —
                
                
                14,346Long-term
                    debt
                
                
                **13,932**
                
                
                3,914
                
                
                5,205
                
                
                2,314
                
                
                2,499
                
                
                14,617Capital
                    lease obligations
                
                
                **15,398**
                
                
                3,091
                
                
                4,434
                
                
                5,991
                
                
                1,882
                
                
                15,832**Total
                    contractual obligations**
                
                
                **49,238**
                
                
                **26,913**
                
                
                **9,639**
                
                
                **8,305**
                
                
                **4,381**
                
                
                **44,795****Other
                    commercial commitments**Operating
                    lease commitments
                
                
                **21,969**
                
                
                3,077
                
                
                5,740
                
                
                5,106
                
                
                8,046
                
                
                24,594Aircraft
                    purchase commitments (Note 1)
                
                
                **66,881**
                
                
                12,299
                
                
                40,055
                
                
                14,527
                
                
                —
                
                
                45,628Capital
                    committments in respect of investments in the Guangzhou new
                    airport
                
                
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                840Other
                    capital commitments
                
                
                **1,824**
                
                
                945
                
                
                589
                
                
                290
                
                
                —
                
                
                1,335Investing
                    commitments
                
                
                **83**
                
                
                83
                
                
                —
                
                
                —
                
                
                —
                
                
                83**Total
                    commercial obligations**
                
                
                **90,757**
                
                
                **16,404**
                
                
                **46,384**
                
                
                **19,923**
                
                
                **8,046**
                
                
                **72,480****Estimated
                    future interest payments on short term debt and long term
                    debt**Fixed
                    rates
                
                
                **3,374**
                
                
                774
                
                
                1,071
                
                
                1,184
                
                
                345
                
                
                3,056Variable
                    rates
                
                
                **3,075**
                
                
                1,230
                
                
                829
                
                
                545
                
                
                471
                
                
                2,171**6,449**
                
                
                **2,004**
                
                
                **1,900**
                
                
                **1,729**
                
                
                **816**
                
                
                **5,227**




Note
        1
        Amounts shown are net of previously paid purchase deposits.





**ITEM
      6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES.**




**Directors,
      Senior Management and Employees**




The
      following table sets forth certain information concerning directors
      (“Directors”), senior management (“Senior Management”) and supervisors
      (“Supervisors”) of the Company in 2006. There were certain changes in the
      Company’s Directors, Senior Management and Supervisors subsequent to December
      31, 2006, details of which are set forth below.




**Name**
            
            **Position**
            
            **Gender**
            
            **Age**Liu
                Shao Yong
            
            Chairman
                of the Board
            
            Male
            
            49Li
                Wen Xin (1)
            
            Director
            
            Male
            
            57Wang
                Quan Hua
            
            Director
            
            Male
            
            53Zhao
                Liu An
            
            Director
            
            Male
            
            59Si
                Xian Min
            
            Director,
                President
            
            Male
            
            50Tan
                Wan Geng (2)
            
            Director,
                Vice President
            
            Male
            
            43Xu
                Jie Bo
            
            Director,
                Chief Financial Officer and Vice President
            
            Male
            
            42Chen
                Zhen You (2)
            
            Director
            
            Male
            
            55Peter
                Lok
            
            Independent
                Non-executive Director
            
            Male
            
            71Wei
                Ming Hai
            
            Independent
                Non-executive Director
            
            Male
            
            43Wang
                Zhi
            
            Independent
                Non-executive Director
            
            Male
            
            65Sui
                Guang Jun
            
            Independent
                Non-executive Director
            
            Male
            
            46Sun
                Xiao Yi
            
            Chairman
                of the Supervisory Committee
            
            Male
            
            53Yang
                Guang Hua
            
            Supervisor
            
            Male
            
            54Yang
                Yi Hua
            
            Supervisor
            
            Female
            
            47Yuan
                Xin An
            
            Vice
                President
            
            Male
            
            50Hao
                Jian Hua
            
            Vice
                President
            
            Male
            
            56He
                Zong Kai
            
            Vice
                President
            
            Male
            
            56Liu
                Qian
            
            Chief
                Pilot
            
            Male
            
            41Dong
                Su Guang(3)
            
            Chief
                Engineer
            
            Male
            
            53Su
                Liang
            
            Company
                Secretary
            
            Male
            
            45Chen
                Wei Hua
            
            General
                Counsel
            
            Male
            
            41


(1)
              The
                  appointment of Li Wen Xin as the Director of the Company was approved
                  at
                  the first extraordinary general meeting 2006 of the Company held
                  on
                  December 28, 2006.(2)
              The
                  appointments of Tan Wan Geng and Chen Zhen You as the Directors
                  of the
                  Company were approved at 2005 annual general meeting of the Company
                  held
                  on June 15, 2006.
  (3)
                The
                    appointment of Dong Su Guang as the chief engineer of the Company
                    was
                    approved on April 8, 2006.


44




**BOARD
      OF DIRECTORS**




**Mr.
        Liu Shao Yong** is
        the
        chairman of the Board. He is a qualified class one pilot. He joined the Company
        in November 2004. Mr. Liu graduated from China Civil Aviation Flying College
        and
        obtained an EMBA from Tsinghua University in 2005. He joined the civil aviation
        industry in 1978. He held the positions of Captain of the Flying Squadron
        of
        China General Aviation Corporation and was appointed as the Deputy General
        Manager of China General Aviation Corporation, Deputy Director of Shanxi
        Provincial Civil Aviation Administration, General Manager of the Shanxi branch
        of China Eastern Airlines Corporation Limited and the Chief of the Flying
        Model
        Division of the Civil Aviation Administration of China. He served as the
        General
        Manager of China Eastern Airlines Corporation Limited and was appointed as
        the
        Vice Minister of Civil Aviation Administration of China. Since August 2004,
        Mr.
        Liu has served as the General Manager of China Southern Air Holding Company.
        Mr.
        Liu became the chairman of the Board on November 29, 2004.




**Mr.
      Li Wen Xin** is
      currently a Director of the Company. Mr. Li was a graduate majoring in economic
      management. He is a senior expert of political science. Mr. Li joined the civil
      aviation industry in 1969. He was the secretary to the disciplinary committee,
      deputy secretary of the party committee and vice general manager of China
      General Aviation Corporation successively between 1991 and 1998. He was
      appointed the party secretary and vice general manager of the Shanxi branch
      of
      China Eastern Airlines Corporation Limited in February 1998. He became the
      vice
      party secretary and secretary to the disciplinary committee of China Eastern
      Air
      Holding Company in June 2000. In September 2002, he was appointed the party
      secretary and vice president of China Eastern Air Holding Company. Between
      June
      2000 and September 2006, he was the chairman of the supervisory committee of
      China Eastern Airlines Corporation Limited. He has been the party secretary
      and
      vice president of China Southern Air Holding Company since September 2006.
      Save
      as disclosed above, Mr. Li is not connected with any Directors, Senior
      Management, substantial shareholders or Supervisors of the Company.




45




**Mr.
      Wang Quan Hua** is
      currently a Director of the Company and Vice President of CSAHC and became
      the
      employee of the Company in March 1995 after the establishment of the Company.
      Mr. Wang graduated from the Economic Management Department of Central Communist
      Party College. Mr. Wang began his career in civil aviation in 1972, and
      successively served as the Director of Planning Department of Guangzhou Civil
      Aviation Administration, the Office Director of China Southern Airlines Shenzhen
      Co., the Director of the Planning and Operation Division of CSAHC, the President
      of Strategy and Development Department of China Southern Airlines Company
      Limited and the Vice President of CSAHC. Mr. Wang became a Director of the
      Company on May 13, 2003.




**Mr.
      Zhao Liu An** is
      a
      Director of the Company and the Vice President of CSAHC. Mr. Zhao joined the
      Company in May 2003. Mr. Zhao began his career in civil aviation in 1966, and
      successively served as the Director of Flight Meteorology and Flight Safety
      Monitoring Division, Director of Science Education Division, the Director of
      Flying Model Division of Urumqi Civil Aviation Administration, Captain of the
      Ninth Squadron of the Civil Aviation Administration, the Vice President and
      President of Urumqi Civil Aviation Administration and Xinjiang Airlines. Mr.
      Zhao became a Director of the Company on May 13, 2003.




**Mr.
      Si Xian Min** is
      a
      Director and President of the Company. Mr. Si graduated from No. 14 Aviation
      College as an aircraft piloting major with an associate degree. Mr. Si, a
      professional political tutor, began his career in civil aviation in 1975. He
      held positions as Director of the political division of China Southern Airlines
      Henan Branch, Party Secretary and Vice President of Guizhou Airlines, Deputy
      Party Secretary of China Southern Airlines Company Limited, Secretary of the
      Disciplinary Department of China Southern Airlines Company Limited and Party
      Secretary of China Northern Airlines and has been the President of the Company
      since October 2004. Mr. Si became a Director of the Company on December 31,
      2004.




**Mr.
      Tan Wan Geng** is
      a
      Director, Vice President and Secretary of the CPC Committee. Mr. Tan is an
      engineer graduated from Economic Geography Department in Sun Yat-sen University,
      with major in regional economy, with qualification of post graduate degree,
      and
      a master's degree in economics. Mr. Tan has previously served as the Head of
      the
      Infrastructure Department and Director of Human Resources Department of the
      Beijing Aircraft Maintenance and Engineering Corporation from 1990 to 1996,
      the
      Deputy Director of Human Resources Division (Personnel and Education Division)
      in the General Administration of Civil Aviation of China from 1996 to 2000,
      and
      has been the Director General and Secretary of Chinese Communist Party Committee
      of Northeastern Regional Civil Aviation Administration from December 2000 to
      January 2006. He has been the Vice President of the Company since January 2006.
      Save as disclosed above, Mr. Tan is not connected with any of the Directors,
      Senior Management, substantial shareholders or Supervisors of the
      Company.




**Mr.
      Xu Jie Bo** is
      a
      Director, Vice President and Chief Financial Officer of the Company. Mr. Xu
      joined the Company in July 1998. He graduated from the Management Department
      of
      Tianjin University and was subsequently awarded a master's degree in business
      administration from Hong Kong Baptist University. A qualified senior accountant
      by profession, Mr. Xu started his career in August 1986 and worked as Supervisor
      of the Financial Management Office for Infrastructure Projects of Guangzhou
      Civil Aviation Administration. In December 1992, he took up the posts of Deputy
      Director and Director of the Financial Department of Central and Southern China
      Civil Aviation Administration. In July 1998, he became General Manager of the
      Financial Department and Chief Financial Officer of the Company. Currently,
      he
      is a Director and the Vice President and Chief Financial Officer of the Company.
      He is also a Director of Guizhou Airlines Company Limited, Vice Chairman of
      Sichuan Airlines Corporation Limited, and Vice Chairman of Xiamen Airlines
      Company Limited. Mr. Xu became a Director of the Company on April 16,
      2001.




**Mr.
      Chen Zhen You** is
      a
      Director and Chairman of the Labour Union of the Company, graduated from South
      China Normal University with a bachelor’s degree in English. Mr. Chen, an
      economist, holds an MBA from Murdoch University in Australia. He worked as
      the
      Vice Director of the Office of International Affairs of Guangzhou Civil Aviation
      Administration, Vice Director of the Office of Overseas Business of the Company
      and General Manager of the Department of Foreign Affairs of the Company from
      1991 to 2001. From 2001 to 2005, he was the Office Director of CSAHC and the
      Director of the Planning and Investment Department of China Southern Air Holding
      Company. He has been a member of the Party Committee and Chairman of the Labour
      Union of the Company since February 2005. Save as disclosed above, Mr. Chen
      is
      not connected with any of the Directors, Senior Management, substantial
      shareholders or Supervisors of the Company.




**Mr.
      Peter Lok** has
      been
      an Independent Non-Executive Director of the Company since April 16, 2001.
      He is
      also a veteran in the civil aviation industry. Mr. Lok joined the Civil Aviation
      Department of Hong Kong in 1956 and became its Assistant Director in 1982,
      Deputy Director in 1988, and Director from 1990 to 1996. From 1997 to 2000,
      Mr.
      Lok was an advisor and president of Hong Kong Commercial Airlines Center. Mr.
      Lok has sat on various Committees such as the Evaluation Committees for the
      Design of Shanghai’s Pudong Airport, Committee for China’s Zhuhai Aviation and
      Spaceflight Fair, Evaluation Committees for the IATA Eagle Award. He is also
      independent director of several listed airline companies.




**Mr.
      Wei Ming Hai** has
      been
      an Independent Non-Executive Director of the Company since April 16, 2001.
      Professor Wei has worked in Jiangxi Provincial Accounting Association, and
      he
      started working in Zhongshan University from 1991. In 1993 he became the
      chairman of the Accounting Department in the School of Management of Zhongshan
      University. In 1996 he became the Deputy Dean of the School of Management in
      Zhongshan University. In January 2000, he became Dean of the School of
      Management in Zhongshan University. Since 1998, Professor Wei has been a
      doctorate advisor for Accounting Information and Investment Analysis. Professor
      Wei is also on the board of directors of China Accountants Association, Vice
      Chairman of Accountants Association of Guangdong Province, Vice Chairman of
      Auditors Association of Guangzhou, Executive Member of the Research Institute
      of
      Financial Costs for Young and Middle-aged Accountants and member of American
      Accounting Association. Professor Wei holds a Ph.D degree in economics and
      has
      an MBA degree from Tulane University in the United States of America. He has
      published over seven academic books or textbooks, and over 80 academic papers.




46




**Mr.
      Wang Zhi** has
      been
      an Independent Non-Executive Director of the Company since May 2003. Mr. Wang
      graduated from the Aircraft Design Department of Harbin Institute of Technology.
      Mr. Wang began his career in 1965, and has successively served as the Director
      and Senior Engineer of Aeronautics Research Institute of China, the Vice
      Director and Vice secretary of the First Research Institute of Civil Aviation,
      the Vice Director and Director of the Planning Bureau of CAAC and the Director
      of the Planning Technology System Reform Department and the Planning Technology
      Department of CAAC. Mr. Wang is also a professor at several universities.




**Mr.
      Sui Guang Jun** has
      been
      an Independent Non-Executive Director of the Company since May 2003. Mr. Sui
      graduated from the Economic Department of Jinan University and obtained a
      master's degree. Mr. Sui obtained a doctor degree in the Management of
      Organizations of Jinan University. He has successively served as the Vice
      Director of the Research Institute of Hong Kong and Macao Economies, the Dean
      of
      corporate administration department of Jinan University and the Chief of the
      Post-doc Committee of Applied Economics and the Dean of Management College
      in
      Jinan University. Mr. Sui is currently the Deputy Vice Chancellor of Guangdong
      University of Foreign Studies.




The
      independent non-executive Directors of the Company are nominated by the Board
      of
      Directors, and their appointment must be approved by the shareholders of the
      Company in a general meeting. The executive Directors of the Company are
      nominated by CSAHC, the controlling shareholder of the Company, and their
      appointment must be approved by the shareholders of the Company in a general
      meeting.




**SUPERVISORY
      COMMITTEE**




As
      required by the Company Law and the Articles of Association, the Company has
      a
      supervisory committee (the “Supervisory Committee”) which is primarily
      responsible for the supervision of Senior Management of the Company, including
      the Board of Directors, executive officers and other senior management
      personnel, to ensure that they act in the interests of the Company, its
      shareholders and employees, as well as in compliance with applicable law. The
      Supervisory Committee consists of three Supervisors. Two of the Supervisors
      are
      shareholder representatives appointed by shareholders, and one Supervisor is
      a
      representative of the Company’s employees. The Supervisors serve terms of three
      years and may serve consecutive terms.




**Mr.
      Sun Xiao Yi** is
      a
      member of Party Committee and head of Discipline Supervision Team of China
      Southern Air Holding Company. Mr. Sun graduated from the Civil Aviation
      University of China with a degree in Economics and Administration and is
      currently a postgraduate law student of Central Communist Party College. Mr.
      Sun
      is a senior expert of Political Science and Economics with an associate degree.
      Mr. Sun has successively served as Vice Party Secretary of the Hubei branch
      of
      the Company, Party Secretary of the Flight Operations Department of the Company,
      and Vice Party Secretary of China Southern Air Holding Company. Mr. Sun became
      a
      Supervisor on June 16, 2004.




**Mr.
      Yang Guang Hua** is
      the
      Vice Party Secretary and Discipline Supervision Secretary of the Company. Mr.
      Yang is an engineer with university qualification. Mr. Yang has successively
      served as Deputy General Manager of the Hunan branch of the Company, General
      Manager of Southern Airlines (Group) Zhuhai Helicopters Company Limited, General
      Manager of the Hunan branch of the Company, and Deputy General Manager of the
      Company. Mr. Yang became a Supervisor on June 16, 2004.




**Ms.
      Yang Yi Hua** is
      the
      General Manager of the Audit Department of the Company. Ms. Yang is an
      internationally qualified internal auditor. She has successively served as
      Deputy Manager of the Clearance and Settlement Office of the Financial Division
      of the Guangzhou Civil Aviation Administration, Manager of the Financial Office
      of the Company’s Financial Division, and Deputy General Manager of the Company’s
      Audit Department. She has been the President of Xiamen Airlines since September
      2005. Ms. Yang became a Supervisor on June 16, 2004.




**SENIOR
      ADMINISTRATIVE OFFICERS**




**Mr.
      Yuan Xin An** is
      a Vice
      President of the Company. He graduated from the Air Engineering College. Mr.
      Yuan has over 25 years of experience in the Chinese aviation industry. He has
      been the Manager of Quality Assurance and Deputy Controller of Quality Control
      of Guangzhou Aircraft Maintenance Engineering Company Limited, Deputy General
      Manager of the Aircraft Engineering Department of the Company, and Vice
      President of Guangzhou Aircraft Maintenance Engineering Company Limited. Mr.
      Yuan became the Chief Engineer of the Company in 2000, and a Vice President
      of
      the Company in April 2002.




**Mr.
      Hao Jian Hua** is
      currently the Vice President of the Company. He completed his pilot training
      at
      the CAAC Advanced Flying College. Mr. Hao has held positions as Captain, then
      Deputy Chief Captain, and subsequently Chief Captain of the Sixth Squadron
      of
      the Civil Aviation Administration during the period from 1989 to 1994. He then
      became a Deputy General Manager, from 1994 to 1998, and the General Manager,
      from 1998 to 1999, of the Flying Aviation Department of the Company. He became
      a
      Vice President of the Company in July 2003.




47




**Mr.
      He Zong Kai** is
      a Vice
      President of the Company who graduated from Bejing Foreign Language Institute
      with a major degree in French, is a senior economist. Mr. He served as the
      Deputy Manager of the Operation Department of the Company, Manager of Passenger
      Transportation Department, Head of Seats Arrangement Department, Vice General
      Manager of the Marketing Department and General Manager of the Ground Services
      Department. He assumed the offices of the President and Deputy Party Secretary
      of Hubei branch of the Company since 2003 and became a Vice President of the
      Company in March 2005.




**Mr.
      Liu Qian** is
      the
      Chief Pilot of the Company who graduated from China Civil Aviation Flying
      College with specialty in aircraft piloting. Mr. Liu served the Civil Aviation
      Administration of China as assistant researcher of the piloting skills
      supervision division of the piloting standards department, as assistant
      researcher of the operation supervision division of the piloting standards
      department, as assistant researcher of the freight transportation piloting
      standards division of the piloting standards department, and as the Deputy
      Head
      of the Piloting Standards Division of the Piloting Standards Department. He
      assumed the offices of the Deputy Chief Pilot and Chief Pilot of the Company
      in
      November 2004.




**Mr.
        Dong Su Guang** is the
        Chief Engineer of the Company. Mr. Dong graduated from Northwestern Industry
        University major in aircraft design. He is an engineer with University
        qualification. He served as General Manager of Aircraft Engineering Department
        of the Company from May 2002 and Deputy General Manager of Guangzhou Aircraft
        Maintaining and Engineering Co., Ltd. Since April 2006, Mr. Dong has been
        the
        General Manager of Aircraft Engineering Department and Chief Engineer of
        the
        Company.




**Mr.
      Su Liang** is
      currently holding the position as Company Secretary. He was a graduate of the
      Cranfield College of Aeronautics, University of Cranfield, United Kingdom,
      specialising in Air Transport Management Engineering. Mr. Su is a holder of
      a
      master's degree. During the period from 1998 to 1999, Mr. Su held the position
      as Deputy Manager of the Flight Operations Department, China Southern Airlines
      Shenzhen Co. and from 1999 to 2000, he was the Manager of the Planning and
      Administration Department of China Southern Airlines Shenzhen Co. Mr. Su was
      in
      charge of the international cargo project of the Company, responsible for the
      planning and development of the Company’s North American cargo business. Mr. Su
      became the Company Secretary on June 26, 2000.




**Mr.
      Chen Wei Hua** is
      the
      Chief Legal Adviser to the Company. Mr. Chen graduated from the school of law
      of
      Peking University. He is a qualified solicitor and a qualified corporate legal
      counsellor. Mr. Chen joined the Civil Aviation Administration of China in 1998.
      He then joined the CSAHC in January 1991. From 1997 to 2003, he served as Vice
      Director and Director of the Legal Affairs Office of the Company. Currently,
      he
      is President of the Legal Department of the Company. Since December 2003, Mr.
      Chen has been the Chief Legal Adviser to the Company. He is also a Director
      of
      Xiamen Airlines Company Limited.




**Compensation**




A
        total
        of RMB402,000 has been paid to independent non-executive Directors for the
        year
        ended December 31, 2006. The aggregate compensation paid by the Company to
        all
        Directors (excluding non-executive Directors), Supervisors and Senior Management
        for 2006 was RMB6,638,000. For the year ended December 31, 2006, the
        Company paid an aggregate of approximately RMB220,000 on behalf of its
        executive Directors, Supervisors and Senior Management pursuant to the SA
        Pension Scheme and the retirement plans operated by various municipal
        governments in which the Company participates.




Details
      of Directors’ and Supervisors’ emoluments for the year ended December 31, 2006
      are set out below:





**Note**
            
            **Directors’
                fees**
            
            **Salaries,
                allowances and benefits in kind**
            
            **Discretionary
                bonus**
            
            **Retirement
                scheme contributions**
            
            **Total****RMB’000**
            
            **RMB’000**
            
            **RMB’000**
            
            **RMB’000**
            
            **RMB’000***Executive
                directors*Liu
                Shao Yong
            
            
            (i
            )
            
            -
            
            
            472
            
            
            -
            
            
            14
            
            
            486Li
                Wen Xin
            
            
            
            
            
            -
            
            
            87
            
            
            -
            
            
            3
            
            
            90Wang
                Quan Hua
            
            
            
            
            
            -
            
            
            374
            
            
            -
            
            
            14
            
            
            388Zhao
                Liu An
            
            
            (i
            )
            
            -
            
            
            374
            
            
            -
            
            
            14
            
            
            388Si
                Xian Min
            
            
            
            
            
            -
            
            
            442
            
            
            -
            
            
            13
            
            
            455Tan
                Wan Geng
            
            
            
            
            
            -
            
            
            271
            
            
            -
            
            
            11
            
            
            282Xu
                Jie Bo
            
            
            
            
            
            -
            
            
            357
            
            
            -
            
            
            13
            
            
            370Chen
                Zhen You
            
            
            
            
            
            -
            
            
            253
            
            
            -
            
            
            13
            
            
            266Zhou
                Yong Qian
            
            
            
            
            
            -
            
            
            146
            
            
            -
            
            
            3
            
            
            149*Supervisors*Sun
                Xiao Yi
            
            
            
            
            
            -
            
            
            374
            
            
            -
            
            
            14
            
            
            388Yang
                Guang Hua
            
            
            
            
            
            -
            
            
            374
            
            
            50
            
            
            13
            
            
            437Yang
                Yi Hua
            
            
            
            
            
            -
            
            
            220
            
            
            -
            
            
            13
            
            
            233*Independent
                non-executive directors*Peter
                Lok
            
            
            
            
            
            102
            
            
            -
            
            
            -
            
            
            -
            
            
            102Wei
                Ming Hai
            
            
            
            
            
            100
            
            
            -
            
            
            -
            
            
            -
            
            
            100Wang
                Zhi
            
            
            
            
            
            100
            
            
            -
            
            
            -
            
            
            -
            
            
            100Sui
                Guang Jun
            
            
            
            
            
            100
            
            
            -
            
            
            -
            
            
            -
            
            
            100402
            
            
            3,744
            
            
            50
            
            
            138
            
            
            4,334




48




Notes:




(i)
              The
                  above amounts included the salaries paid to these Directors as
                  pilots of
                  the Company.




**Board
      Practices**




Each
      Directors’ service contract with the Company or any of its subsidiaries provides
      prorated monthly salary upon termination of employment in accordance with his
      contract. The Director is entitled to paid leave in accordance with his
      contract. The term of office of a Director is three years. The term of office
      of
      the current Directors will end in 2007. A Director may serve consecutive terms
      upon re-election.




Audit
      Committee




The
      audit
      committee is appointed by the Board of Directors and consists of three
      independent non-executive Directors. The current members of the audit committee
      are Wei Ming Hai, Wang Zhi and Sui Guang Jun. Wei Ming Hai is the chairman
      of
      the audit committee. The term of office of each member is three years. The
      term
      of office of the current members will end in 2007. A member may serve
      consecutive terms upon re-election. At least once a year, the committee is
      required to meet with the Company’s external auditors without any executive
      members of the Board in attendance. The quorum necessary for the transaction
      of
      any business is two committee members. The Audit Committee held nine meetings
      in
      2006, which were attended by all members. The external auditors or the Chief
      Financial Officer of the Company may request a meeting of the audit committee.




The
      audit
      committee selects and engages, on behalf of the Company, external auditors
      to
      audit the Company’s annual financial statements and considers questions
      regarding the audit fees and the resignation or dismissal of the external
      auditors. The audit committee also reviews and approves the planned scope of
      the
      Company’s annual audit. In addition, the audit committee reviews the annual and
      interim financial statements, the preliminary announcement of results and any
      other announcement regarding the Company’s results or other financial
      information to be made public, before submission to the Board of Directors.
      Moreover, the committee discusses problems arising from the audit and reviews
      the external auditors’ management letter and management’s response. Furthermore,
      the audit committee reviews the effectiveness of the system of internal
      financial controls from information provided by the Executive Directorate and
      management of the Company and ensures adherence to the Company’s control
      policies so that the Company’s assets are safeguarded and financial records are
      complete and accurate. The audit committee meets regularly with the Company’s
      senior officers from the finance department, the internal audit department
      and
      the external auditors to consider the Company’s financial reporting, the nature
      and scope of audit review and the effectiveness of the systems of internal
      control. The audit committee also reviews any significant transactions that
      are
      not in the ordinary course of business.




The
      Company has an internal audit department which reviews procedures in all major
      financial and operational activities. This department is led by the head of
      internal audit who is directly responsible to the Chairman of the Board and
      submits regular reports to the audit committee.




49




Remuneration
      Committee




The
      remuneration committee is comprised of three members. Currently, the
      remuneration committee is chaired by independent non-executive Director Sui
      Guang Jun with independent non-executive Director Wei Ming Hai and executive
      Director Wang Quan Hua as members. The term of office of each member is three
      years. The term of office of the current members will end in 2007. A member
      may
      serve consecutive terms upon re-election. The remuneration committee met once
      in
      2006, which meeting was attended by all members. In addition, the remuneration
      committee also meets as and when required to consider remuneration related
      matters.




The
      responsibilities of the remuneration committee are to approve the remuneration
      packages of Directors and Senior Management of the Group, and the Company’s
“preliminary proposals on annual emoluments of the directors and senior
      management of the Group”. The remuneration committee is also responsible for
      assessing performance of executive Directors and approving the terms of
      executive Directors’ service contracts.




**Employees**




As
        of
        December 31, 2006, the Group had 45,575 employees, including 3,480
        pilots, 6,644 flight attendants, 5,912 maintenance
        personnel, 4,706 sales and marketing personnel, 14,686 administrative
        and other personnel and 10,147 temporary employees. All of the Group’s
        pilots, flight attendants, maintenance personnel, administrative personnel
        and
        sales and marketing personnel are contract employees, and most of the Group’s
        ancillary service workers are temporary employees. Contract employees are
        hired
        by the Group pursuant to renewable employment contracts with terms ranging
        from
        three to five years. Temporary employees generally are hired by the Group
        pursuant to at-will employment contracts or employment contracts with a term
        of
        one year.




The
      Company’s employees are members of a trade union organized under the auspices of
      the All-China’s Federation of Trade Unions, which is established in accordance
      with the Trade Union Law of China. A representative of the Company labor union
      currently serves on the Supervisory Committee of the Company. Each of the
      Company’s subsidiaries has its own trade union. The Group has not experienced
      any strikes, slowdowns or labor disputes that have interfered with its
      operations, and the Group believes that its relations with its employees are
      good.




All
        employees of the Group receive cash remuneration and certain non-cash benefits.
        Cash remuneration consists of salaries, bonuses and cash subsidies provided
        by
        the Group. Salaries are determined in accordance with the national basic
        wage
        standards. The total amount of wages payable by the Group to its employees
        is
        subject to a maximum limit based on the profitability of the Group and other
        factors. Bonuses are based on the profitability of the Group. Cash subsidies
        are
        intended as a form of cost-of-living adjustment. In addition to cash
        compensation, the Group’s contract employees receive certain non-cash benefits,
        including housing, education and health services, and the Group’s temporary
        employees receive limited health services, but not housing or education.




Retirement
      And Housing Benefits




Employees
      of the Group participate in several defined contribution retirement schemes
      organised separately by PRC municipal governments in regions where the major
      operations of the Group are located. The Group is required to contribute to
      these schemes at the rates ranging from 10% to 23% of salary costs including
      certain allowances. A member of the retirement schemes is entitled to pension
      benefits equal to a fixed proportion of the salary at the retirement date.
      The
      retirement benefit obligations of all existing and future retired staff of
      the
      Group are assumed by these schemes.




In
        addition, the Group has established a supplementary defined contribution
        retirement scheme in accordance with relevant regulations in the PRC. In
        this
        connection, employees of the Group participate in a supplementary defined
        contribution retirement scheme whereby the Group is required to make
        contributions not exceeding one-twelfth of the prior year’s total
        salaries.
 In
            2006,
            the Group implemented an early retirement plan for eligible employees.
            Employees
            at certain positions reaching a predetermined age are eligible for the
            plan. The
            approved employees are entitled to a fixed percentage of salaries and
            bonus on a
            monthly or yearly basis from the early retirement date to the normal
            retirement age.


Furthermore,
      pursuant to the comprehensive services agreement (the “Services Agreement”)
      dated May 22, 1997 between the Company and CSAHC, CSAHC provided quarters to
      eligible employees of the Group. In return, the Group paid a fixed annual fee
      of
      RMB85 million to CSAHC for a ten year period from 1995 to 2004. The agreement
      expired by December 31, 2004 and no further payment was made in 2005.




Pursuant
        to an additional staff housing benefit scheme effective September 2002, the
        Group agreed to pay lump sum housing allowances to certain employees who
        have
        not received quarters from CSAHC or the Group according to the relevant PRC
        housing reform policy, for subsidising their purchases of houses. An employee
        who quits prior to the end of the vesting benefit period is required to pay
        back
        a portion of the lump sum housing benefits determined on a pro-rata basis
        of the
        vesting benefit period. The Group has the right to effect a charge on the
        employee’s house and to enforce repayment through selling the house in the event
        of default in repayment. Any shortfall in repayment would be charged against
        income statement. As of December 31, 2006, the Company and the Group had
        made
        payments totalling RMB170 million under the scheme and recorded its remaining
        contractual liabilities totalling RMB90 million as accrued expenses on the
        balance sheet. Housing allowances are payable when applications are received
        from eligible employees.




Workers’
      Compensation




There
      is
      no workers’ compensation or other similar compensation scheme under the Chinese
      labor and employment system. As required by Chinese law, however, the Group,
      subject to certain conditions and limitations, pays for the medical expenses
      of
      any contract employee who suffer a work-related illness, injury or disability
      and continues to pay the full salary of, and provides all standard cash
      subsidies to, such employee during the term of such illness, injury or
      disability. The Group also pays for certain medical expenses of its temporary
      employees.




50




**Share
      Ownership**




As
      of the
      date of this Annual Report, no Director, Senior Management or Supervisor of
      the
      Company is a beneficial owner of any shares of the Company’s capital stock. As
      of the date of this Annual Report, no arrangement has been put in place
      involving issue or grant of options or shares or securities of the Company
      to
      any of the Director, Senior Management, Supervisor or employees of the Company.




**ITEM
      7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS.**




**Major
      Shareholders**




Share
      Capital Structure




As
        of May
        31, 2007, the total share capital of the Company was divided into 4,374,178,000
        shares, of which approximately 50.30% (2,200,000,000 domestic shares) was
        held
        by CSAHC, approximately 26.84% (1,174,178,000 H shares) was held by Hong
        Kong
        and overseas shareholders and approximately 22.86% (1,000,000,000 A shares)
        was
        held by domestic shareholders. CSAHC owns 50.30% of the total share capital
        of
        the Company, therefore it is entitled to exercise all the rights of a
        controlling shareholder, including the election of executive
        Directors.




Substantial
      Shareholders




As
      of May
      31, 2007, the following shareholders had an interest of 5% or more in the
      Company’s shares:




**Name**
              
              **Number
                  of Shares**
              
              **Approximate**
                      **Percentage**
                      **of
                        the Total**
                      **Number
                        of Shares**CSAHC
              
              
              2,200,000,000
                  domestic shares
              
              
              50.30
              %HKSCC
                  Nominees Limited
              
              
              1,156,215,998
                  H shares
              
              
              26.43
              %




The
      table
      below sets forth, as of May 31, 2007, the following entities hold 5% or more
      of
      the total number of H shares issued by the Company.




**Name**
              
              **Number
                  of H Shares**
              
              **Approximate**
                        **Percentage
                          of**
                        **the
                          Total**
                        **Number
                          of H**
                        **Shares**HKSCC
                  Nominees Limited
              
              
              1,156,215,998
              
              
              98.47
              %




Domestic
      shares and H shares have identical voting rights.




**Related
      Party Transactions**




The
      Company enters into transactions from time to time with CSAHC and its
      affiliates. For a description of such transactions, see Note 37 to the Financial
      Statements. In particular, the following arrangements, which the Company
      believes are material to its operations, have been made between the Company
      and
      CSAHC and its affiliates. The Company believes that these arrangements have
      been
      entered into by the Group in the ordinary course of business and in accordance
      with the agreements governing such transactions.




Arrangements
      with CSAHC




*Trademark
      License Agreement*




The
        Company and CSAHC entered into a ten year trademark license agreement dated
        May
        22, 1997 pursuant to which CSAHC acknowledges that the Company has the right
        to
        use the name “China Southern” and “China Southern Airlines” in both Chinese and
        English, and grants the Company a renewable royalty free license to use the
        kapok logo on a worldwide basis in connection with the Company’s airline and
        airline-related businesses. As
        CSAHC
        did not give a written notice of termination three months before the
        expiration of the agreement, the agreement is automatically renewed for another
        ten year term.





51




*Leases*




The
        Company as lessee and CSAHC as lessor have entered into the following lease
        agreements:






The
        Company and CSAHC entered into an indemnification agreement dated May 22,
        1997
        in which CSAHC has agreed to indemnify the Company against any loss or damage
        caused by or arising from any challenge of, or interference with, the Company’s
        right to use certain land and buildings.




The
        Company and CSAHC entered into a lease agreement dated November 12, 2004,
        under
        which CSAHC leases to the Company certain lands by leasing the land use rights
        of such lands to the Company. These lands had been administratively allocated
        to XJA and CNA for the purposes of their civil aviation and related
        businesses. Subsequently, CSAHC was authorised to deal with the land use
        rights
        of such lands, including leasing, but not transferring, such land use rights.
        Total area of the lands leased is 1,182,297 square meters, and the locations
        of
        such lands are in Urumqi, Shenyang, Dalian and Harbin. The lease is for a
        fixed
        term of three years, commencing from the effective date of the lease, and
        is
        renewable, subject to compliance with the relevant requirements of the Hong
        Kong
        Listing Rules by the Company, by an application in writing by the Company
        to the
        lessor three months before the end of the fixed term. The rent for the land
        use
        rights of the designated lands under lease agreement is RMB22,298,000 per
        year,
        payable in arrear by cheque, in cash or by bank transfer on or before the
        10th
        day of each calendar month, and was determined after arm’s length negotiations
        between the parties. The maximum aggregate annual limit (“Cap”) for the lease
        agreement is set at RMB22,298,000 per year. The lease agreement was approved
        by
        the shareholders of the Company at the second extraordinary general meeting
        on
        December 31, 2004.


The
          Company, CSAHC and CNA entered into a lease agreement dated November 12,
          2004,
          under which CSAHC and CNA lease to the Company certain buildings, facilities
          and
          other infrastructure related to the civil aviation businesses of CNA situated
          at
          various locations in Shenyang, Dalian, Jilin, Harbin, Chaoyang and Russia.
          The
          lease is for a fixed term of three years, commencing from the date of the
          lease,
          and is renewable, subject to compliance with the relevant requirements
          of the
          Hong Kong Listing Rules by the Company, by an application in writing by
          the
          Company to the lessor three months before the end of the fixed term. The
          consideration for the lease agreement is RMB43,758,000 per year, payable
          in
          arrear by cheque, in cash or by bank transfer on or before the 10th day
          of each
          calendar month, and is determined after arm’s length negotiation between the
          parties. The Cap for the lease agreement is set at RMB43,758,000 per year.
          The
          lease agreement was approved by the shareholders of the Company at the
          2nd
          extraordinary general meeting on December 31, 2004.
  The
          Company, CSAHC and XJA entered into a lease agreement dated November 12,
          2004,
          under which CSAHC and XJA lease to the Company certain buildings, facilities
          and
          other infrastructure related to the civil aviation businesses of XJA situated
          in
          Xinjiang and Russia. The lease is for a fixed term of three years, commencing
          from the effective date of the lease, and is renewable, subject to compliance
          with the relevant requirements of the Hong Kong Listing Rules by the Company,
          by
          an application in writing by the Company to the lessor three months before
          the
          end of the fixed term. The consideration for the lease agreement is RMB5,798,000
          per year, payable in arrear by cheque, in cash or by bank transfer on or
          before
          the 10th day of each calendar month, and is determined after arm’s length
          negotiation between the parties. The Cap for the lease agreement is set
          at
          RMB5,798,000 per year. The lease agreement was approved by the shareholders
          of
          the Company at the 2nd extraordinary general meeting on December 31, 2004.


T he
        Company and CSAHC entered into a lease agreement dated December 19, 2006
        (“Lease
        Agreement”). The Lease Agreement supersedes and replaces the lease agreements
        entered into between the Company and CSAHC dated May 22, 1997, in which CSAHC
        leased to the Company certain parcels of land and office premises used at Guangzhou
        Baiyun Airport, Haikou Airport and Tianhe Airport ,
        and the
        lease agreement entered into between the Company and CSAHC dated May 15,
        2001,
        in which CSAHC leased to the Company certain parcels of land, properties,
        and
        civil aviation structures and facilities at various locations at Hengyang,
        Jingzhou (previously known as “Shashi”) and Nanyang for a term of 5 years.
  The
        Lease
        Agreement takes effect retrospectively on January 1, 2006, and is valid for
        a
        term of three years. Under the Lease Agreement, the annual rents payable
        for the
        years 2006, 2007 and 2008 are RMB27,543,606.01, RMB28,657,966.99 and
        RMB29,828,046.01, respectively. The rent is payable in advance semiannually
        by
        the Company wholly out of its internal funds.




Sale
      of
      Properties




The
        Company and CSAHC entered into a properties sale agreement (the “Properties Sale
        Agreement”), dated
        December 28, 2006, according to which the Company would sell to CSAHC the
        properties with a total area of 12,008.09 square meters including the 757
        aircraft supplies depot, 737 aircraftsupplies depot, 777 aircraft supplies
        depot, Building no. 143 aircraft supplies depot, Building No. 144 aircraft
        supplies depot and a new engine depot located within the vicinity of old
        Guangzhou Baiyun Airport (the “Properties”).





The
        consideration payable under the Properties Sale Agreement is RMB23,347,170.60.
        The net book value of the Properties is RMB19,886,352.67 as of June 30, 2006.
        The consideration was determined after arm’s length negotiations by the Company
        and CSAHC, with consideration given also to the existing conditions of the
        Properties and relevant assets valuation report. The Properties, situated
        at the
        old Guangzhou Baiyun Airport, are not used by the Company since the moving
        of
        the Company’s business and operations to the new Guangzhou Baiyun Airport. The
        Properties are part of the assets transferred by CSAHC to the Company pursuant
        to the Demerger agreement dated March 25, 1995 (as amended). Under the De-merger
        Agreement, CSAHC has agreed to indemnify the Company against claims, liabilities
        and expenses incurred by it relating to the business, assets held or assumed
        by
        the Company pursuant to the Demerger Agreement, including the
        Properties .




52






Arrangements
      with CSAHC’s Affiliates




*Southern
        Airlines (Groups) Import and Export Trading
        Company ("SAIETC"), a wholly owned subsidiary of CSAHC*


The
        Company and SAIETC entered into an Import and Export Agency Framework Agreement
        dated January 1, 2006 for the import and export of aircraft, flight equipment,
        special vehicles for airline use, communication and navigation facilities,
        and
        training facilities. The Import and Export Agency Framework Agreement is
        valid
        for a term of three years, commencing from the date of agreement, subject
        to
        compliance with the relevant provisions of the Hong Kong Listing Rules by
        the
        Company. Both parties agreed that the agency fee for import and export shall
        be
        determined after arm’s length negotiation and shall not be higher than the
        market rate. The annual cap for such agreement shall be RMB80,000,000 per
        annum.
        The independent non-executive Directors of the Company have approved the
        Import
        and Export Agency Framework Agreement.
 
 For
        the
        year ended December 31, 2006, the commission expense paid by the Group in
        respect of the import and export of the above equipment was
        RMB28,872,000.
  *Southern
        Airlines Culture and Media Co., Ltd. (“SACM”), which is 50% owned by the Company
        and 50% owned by CSAHC*
 
 The
        Company and Southern Airlines Advertising Company (“SAAC”) entered into a new
        Advertising Agency Agreement dated January 1, 2006. SAAC and SACM entered
        into
        an acquisition agreement in 2006 whereby SACM acquired and merged with SAAC
        and
        assumed the rights, obligations and business of SAAC.
 
 The
          Advertising Agency Agreement is valid for a term of three years commencing
          from
          the date of the agreement. Under the agreement, SACM will produce advertisement
          script, graphic and music for the Company with the copyright of such products
          belonging to the Company, subject to compliance with the relevant provisions
          of
          the Hong Kong Listing Rules. The parties have determined the various rates
          for
          providing advertising services after negotiations on a fair and equitable
          basis,
          which are not higher than the market rates for similar advertising services.
          The
          cap for the advertising agency fee shall be RMB30,000,000 for 2006. The
          independent non-executive Directors of the Company have approved such
          Advertising Agency Agreement.
 
 For
        the
        year ended December 31, 2006, the amount incurred by the Group to SACM was
        RMB3,707,000.




53


*China
          Southern Airlines Group Finance Company Limited (“SA Finance”) which is 66%
          owned by CSAHC, 21% owned by the Company and 13% owned in aggregate by
          four
          subsidiaries of the Company*
 
 The
            Company entered into a Financial Agreement (“Financial Agreement”) dated May 22,
            1997 with SA Finance for the provision of financial services such as
            deposit and
            loan facilities, credit facilities, financial guarantees and credit references
            for a term commencing from May 22, 1997 to May 22, 2000. The agreement
            was
            extended for six years to May 22, 2006. In order to comply with the new
            requirements under the Listing Rules, the Company was required to enter
            into
            separate agreement with SA Finance and comply with other provisions of
            the
            Listing Rules, so that SA Finance could continue to provide deposit of
            money
            service and other financial services to the Company. Therefore, the Company
            and
            SA Finance entered into a new Financial Agreement on December
            31, 2004, commencing from that date for a period of three years, and is
            renewable, subject to compliance with the relevant requirements of the
            Hong Kong Listing Rules by the Company, by an application in writing
            by the
            Company not less than 30 days before the end of the fixed
            term.
 
 As
            the
            new Financial Agreement constitutes a discloseable and non-exempt
            continuing connected transaction under Rule 14A.35 of the Listing Rules
            and
            requires the Company to comply with the reporting and announcement requirement
            and the independent shareholders’ approval requirement under Rule 14A.48 of the
            Listing Rules. The independent shareholders of the Company approved the
            Financial Agreement at the second extraordinary general meeting of the
            Company
            held on December 31, 2004.
 
 Under
          such agreement, SA Finance agrees to provide to the Company the following
          financial services:
 
 •
                  accept
                      deposit of money from the Company at interest rates not lower
                      than those
                      set by the People’s Bank of China for the same term of deposit. SA Finance
                      will in turn deposit the whole of such sums of money with certain
                      banks
                      including Bank of Agriculture, Bank of Communications, China
                      Construction
                      Bank and Industrial and Commercial Bank of China. The maximum limit
                      for amount of money deposit under the Financial Agreement is
                      RMB1
                      billion;
 
 •
                  make
                      loans to the Company subject to the entering into of separate
                      loan
                      agreements, which will set out the maximum cap and terms and
                      conditions of
                      the loans, upon application by the Company during the term
                      of the
                      Financial Agreement. The Company will comply with the Hong
                      Kong Listing Rules when entering into such separate written
                      agreements. SA Finance shall not charge interest rates higher
                      than those
                      set by the People’s Bank of China for similar loans. The total amount of
                      outstanding loans extended by SA Finance to the Company must
                      not exceed
                      the sum of SA Finance’s shareholders’ equity, capital reserves and money
                      deposit received from other parties (except the Company);
                      and
 
 •
                  provide
                      credit facilities, financial guarantees, credit references,
                      and other
                      financial services subject to the entering into of separate
                      agreements,
                      which will set out the Cap and terms and conditions of such
                      services, upon
                      request by the Company during the term of the new Financial
                      Agreement. The Company will comply with the Hong Kong, Listing
                      Rules when
                      entering into such separate written
                      agreements.
 
 As
          of
          December 31, 2006, the Group’s deposits placed with SA Finance amounted to
          RMB629,366,000, which bore interest at the rate of 0.72% during the
          year.
 As
              of
              December 31, 2006, loans from SA Finance to the Group amounted up to
              RMB300,000,000 which bore interest at rates ranging from 5.02% to 5.26%
              per
              annum during the year.
 
 *Shenzhen
          Air Catering Company Limited, which is 33% owned by CSAHC, and 67% owned
          by two* *independent
          third parties*
 
 The
            Company and Shenzhen Air Catering Company Limited entered into an agreement
            dated May 23, 1997 for the sale and purchase of in-flight meals for flights
            originating or stopping at the airport in Shenzhen. Pursuant to such
            agreement,
            Shenzhen Air Catering Company Limited will supply in-flight meals to
            the Group
            from time to time during the term from May 23, 1997 to May 23, 1998.
            The parties
            have mutually agreed that the agreement can be renewed automatically.
            In order
            to comply with the various requirements under the Hong Kong Listing Rules,
            the Company intends to enter into negotiation with Shenzhen Air Catering
            Company
            Limited to revise the agreement. The Company will comply with its obligations
            under the Hong Kong Listing Rules upon execution of the revised
            agreement.


54


For
        the
        year ended December 31, 2006, the amount incurred by the Group to Shenzhen
        Air
        Catering Company Limited for the provision of in-flight meals was approximately
        RMB56,204,000.
 
 *China
        Southern West Australian Flying College Pty Ltd (the “Australian Pilot
        College”), which is 65% owned by the Company and 35% owned by
        CSAHC*
 
 CSAHC
          and
          the Australian Pilot College entered into an agreement dated October 7,
          1993 for
          the provision of pilot training in Australia to the cadet pilots of CSAHC
          (the
“Training Agreement”). The Training Agreement will remain in force unless
          terminated by either party upon 90 days’ prior written notice to the other
          party. Pursuant to the Demerger Agreement, the Company has assumed all
          the
          interests, rights and obligations of CSAHC under the Training Agreement.
          In
          order to comply with the various requirements under the Hong Kong Listing
          Rules, the Company intends to enter into negotiation with Australian Pilot
          College to revise the Training Agreement. The Company will comply with
          its
          obligations under the Listing Rules upon execution of the revised
          agreement.
 
 For
        the
        year ended December 31, 2006, the amount paid by the Group to the Australian
        Pilot College for training services was RMB95,124,000.
 
 *Southern
        Airlines (Group) Economic Development Company, which is 61% owned by CSAHC
        and
        39% owned by an independent third party*
 
 The
        Company and Southern Airlines (Group) Economic Development Company entered
        into
        an agreement dated May 22, 1997 for the provision of drinks, snacks, liquor,
        souvenirs and other products for a term extending from May 22, 1997 to May
        22,
        2007.
 
 For
        the
        year ended December 31, 2006, the amount paid by the Group to Southern Airlines
        (Group) Economic Development Company for the provision of drinks, snacks,
        liquor, souvenirs and other products was RMB85,849,000.
 
 *Ticket
        sales arrangements*
 
 The
          Group
          has entered into Ticket Agency Agreements for the sale of the Group’s air
          tickets with several subsidiaries of CSAHC (the “Agents”). The Agents charge
          commission on the basis of the rates stipulated by the CAAC and International
          Air Transport Association (“IATA”). The Agents charge a commission in the amount
          of 3% of the ticket price for domestic tickets and 3% to 6% of the ticket
          price
          for Hong Kong and Macau/international tickets. The Group has other air
          ticket
          sales agents in China
          who
          also charge commission at the same rates. The Agents also act as air ticket
          sales agents for other Chinese airlines and charge the same rates of commission
          to such other airlines as those charged to the Group.
 
 The
        Company and China Southern Airlines Group Passenger and Cargo Agent Company
        Limited (“PCACL”), a wholly-owned subsidiary of CSAHC, have entered into a new
        ticket agency framework agreement and a new airfreight forwarding agency
        framework dated January 1, 2006 (“Two Sales Agency Framework
        Agreements”).
 
 The
          Two
          Sales Agency Framework Agreements are valid for a term of three years commencing
          from the date of the agreements, subject to the compliance of relevant
          provisions under the Hong Kong Listing Rules. The parties agreed that the
          agency fee shall be determined after arm’s length negotiation and shall not be
          higher than the market rate. The annual cap under each of the Two Sales
          Agency
          Framework Agreements is set at RMB10,000,000 per annum. The independent
          non-executive Directors of the Company have approved these Two Sales Agency
          Framework Agreement.
 
 For
          the
          year ended December 31, 2006, the aggregate amount of ticket sales of
          the Company conducted through the Agents was RMB701,441,000.
 
 *China
        Southern Airlines Group Air Catering Company Limited (the “Catering Company”), a
        wholly owned subsidiary of CSAHC*
 
 The
        Company and the Catering Company entered into a catering agreement dated
        November 12, 2004 (“Catering Agreement”) under which the Catering Company would
        supply: (1) in-flight meals in accordance with the menus of in-flight meals
        to
        be agreed with the Company from time to time, and in such quantity as the
        Company shall advise the Catering Company in advance; and (2) catering services
        for different flights of the Company (including normal, additional, chartered
        and temporary flights) originating or stopping at the domestic airports,
        mainly
        in northern China and the Xinjiang regions where the Catering Company provides
        catering services.
 
 The
        Catering Agreement is for a fixed term of three years, commencing from the
        date
        of the agreement. The parties have agreed, after arm’s length negotiation, on
        the price of each type of in-flight meal and the service charges for each
        type
        of aircraft. The prices of in-flight meals and the service charges are not
        higher than the market rate of comparable in-flight meals and service charges.
        The Catering Company will issue an invoice listing out the quantity of in-flight
        meals supplied, the agreed unit price and the total price payable for each
        of
        the Company flights it provides service for. The cap for the Catering Agreement
        is set at RMB220,000,000 per year.
 
 For
        the
        year ended December 31, 2006, the Company paid an in-flight meals charge
        of
        RMB138,084,000 pursuant to the Catering Agreement.




55


*China
        Southern Airlines Group Travel Development Company Limited (“CSA Travel”), a
        wholly owned subsidiary of CSAHC*
 
 The
          Company and CSA Travel entered into a Framework Agreement on Lease, Operation
          and Management (“Framework Agreement on Lease and Operation”) dated January 1,
          2006 regarding hotel leasing and providing relevant service for a fixed
          term of
          three years. According to this agreement, the Company will lease certain
          hotels
          or certain divisions of these hotels to CSA Travel for it to operate, and
          the
          Company is entitled to employ CSA Travel to provide property cleaning or
          ticket
          agent service according to business development, which is subject to separate
          agreement according to the Framework Agreement on Lease and Operation.
          The
          relevant fee was determined at an arm’s length between both parties and the
          price shall not be higher than the market rate. The annual cap for the
          Framework
          Agreement on Lease and Operation is set at RMB6,000,000 per annum. The
          Framework
          Agreement on Lease and Operation has been approved by the independent
          non-executive Directors of the Company.
 
 *Guangzhou
        China Southern Airlines Property Management Company Limited (the “GCSAPMC”),
        which is 90% owned by CSAHC and 10% owned by the Company’s
        Union*
 
 The
          Company and GCSAPMC entered into a Framework Agreement for the Engagement
          of
          Property Management (“Property Management Framework Agreement”) dated January 1,
          2006 in respect of engaging GCSAPMC to provide property management and
          improvement service with a term of three years from the date of this agreement.
          Pursuant to the agreement, the Company has appointed GCSAPMC to provide
          management and maintenance services for the Company’s headquarters in Guangzhou
          and to provide maintenance and management services for the 110KV transformer
          substation to ensure the ideal working conditions of the Company’s production
          and office facilities and physical environment, and the normal operation
          of
          equipment. The fee charging schedule (or charge standard) shall be determined
          at
          an arm’s length between both parties, and will not be higher than the fee
          charging schedule of independent third parties in similar industry. The
          annual
          cap for the Property Management Framework
          Agreement Framework Agreement is set at RMB47,010,000 per annum. The Property
          Management Framework Agreement has been approved by the independent
          non-executive Directors of the Company.
  For
        the
        year ended December 31, 2006, the Company paid the property management and
        maintenance fee of RMB26,402,000 pursuant to the Property Management Framework
        Agreement.
  Please
        also see note 37 to our consolidated financial
        statements included elsewhere in this Form 20-F.




**Interests
      of Experts and Counsel**




Not
      applicable.




**ITEM
      8. FINANCIAL INFORMATION.**




**Consolidated
      Statements and Other Financial Information**




See
“Item
      18. Financial Statements” for financial statements filed as part of this Annual
      Report.




**Significant
      Changes**




No
      significant changes have occurred since the date of the financial statements
      provided in Item 18 below.


**Legal
          Proceedings**
 
 From
          time
          to time, we may be subject to various claims and legal actions arising
          in the
          ordinary course of business. In May 2007, we received the court summons
          from the
          High People’s Court of Guangdong Province with respect to the contractual
          dispute lawsuit filed against us by Taiwan J & P International Tours Co.,
          Ltd. and Taiwan China Southern Aviation Travel Co., Ltd. (the
          "Plaintiffs").
  In
          August
          2004, we entered into a cooperation agreement with the Plaintiffs and,
          in
          September 2004, Nan Lung Travel & Express (H.K.) Ltd., our Hong Kong sales
          agent, entered into an air ticket sales agency agreement with the Plaintiffs.
          T he
          performance of both agreements has been completed. The Plaintiffs, however,
          have
          filed a lawsuit against us for liquidated damages for breach of the provisions
          on air ticket sales commissions and other payments under those two agreements.
          The amount of the claim is approximately RMB107 million. We are currently
          in the
          process of retaining legal counsel and will actively defend ourselves.
 
 Although
          the proceeding is still at an early stage, we believe it will not have
          any
          material effect on the business operations and financial position of the
          Company.




56




**Dividend
      Information**




No
      interim dividend was paid during the year ended December 31, 2006. The Board
      of
      Directors does not recommend the payment of a final dividend in respect of
      the
      year ended December 31, 2006.




**ITEM
      9. THE OFFER AND LISTING.**




**Offer
      and Listing Details**




The
      principal trading market for the Company’s H Shares is the Hong Kong Stock
      Exchange, and the Company’s trading code is “1055”. The ADSs, each representing
      50 H Shares, are evidenced by ADRs issued by The Bank of New York as the
      Depositary for the ADRs, and are listed on the New York Stock Exchange under
      the
      symbol “ZNH”.




In
      July
      2003, the Company issued and listed 1,000,000,000 A shares on the Shanghai
      Stock
      Exchange with trading code of “600029”. The 2,200,000,000 Domestic Shares held
      by CSAHC are not listed on any stock exchange and are essentially not
      transferrable by CSAHC.




Set
      forth
      below for the periods indicated are the high and low sales prices of H Shares
      on
      the Hong Kong Stock Exchange, ADSs on the New York Stock Exchange and A Shares
      on the Shanghai Stock Exchange.




**The
                    Hong Kong**
                  **Stock
                    Exchange**
                  **Price
                    per H Share**
                  **(HK$)**
                
                **The
                    New York**
                  **Stock
                    Exchange**
                  **Price
                    per ADS**
                  **(US$)**
                
                **The
                    Shanghai**
                  **Stock
                    Exchange**
                  **Price
                    per A Share**
                  **(RMB)****High**
                
                **Low**
                
                **High**
                
                **Low**
                
                **High**
                
                **Low***Annual
                    Market Prices**Fiscal
                    Year ended December 31, 2002*
                
                
                3.60
                
                
                1.50
                
                
                22.25
                
                
                10.35
                
                
                N/A
                
                
                N/A*Fiscal
                    Year ended December 31, 2003*
                
                
                3.50
                
                
                1.46
                
                
                22.78
                
                
                9.53
                
                
                5.34
                
                
                3.75*Fiscal
                    Year ended December 31, 2004*
                
                
                4.68
                
                
                2.47
                
                
                29.73
                
                
                15.95
                
                
                6.87
                
                
                3.96*Fiscal
                    Year ended December 31, 2005*
                
                
                2.22
                
                
                2.17
                
                
                14.25
                
                
                14.20
                
                
                2.68
                
                
                2.62*Fiscal
                    Year ended December 31, 2006*
                
                
                3.42
                
                
                1.60
                
                
                22.43
                
                
                14.00
                
                
                4.09
                
                
                2.24*Quarterly
                    Market Prices**Fiscal
                    Year ended December 31, 2005**First
                    Quarter*
                
                
                3.10
                
                
                2.47
                
                
                19.93
                
                
                16.10
                
                
                5.30
                
                
                3.56Second
                    Quarter
                
                
                2.72
                
                
                2.20
                
                
                17.33
                
                
                14.72
                
                
                4.02
                
                
                2.95Third
                    Quarter
                
                
                2.20
                
                
                2.03
                
                
                16.86
                
                
                13.50
                
                
                3.00
                
                
                2.35Fourth
                    Quarter
                
                
                2.40
                
                
                1.83
                
                
                15.45
                
                
                11.68
                
                
                2.77
                
                
                2.23*Fiscal
                    Year ended December 31, 2006**First
                    Quarter*
                
                
                2.45
                
                
                2.18
                
                
                15.82
                
                
                14.00
                
                
                2.97
                
                
                2.48Second
                    Quarter
                
                
                2.30
                
                
                1.66
                
                
                14.96
                
                
                10.82
                
                
                2.92
                
                
                2.24Third
                    Quarter
                
                
                2.25
                
                
                1.60
                
                
                14.86
                
                
                10.51
                
                
                2.94
                
                
                2.27Fourth
                    Quarter
                
                
                3.42
                
                
                2.29
                
                
                22.43
                
                
                14.06
                
                
                4.09
                
                
                2.95Monthly
                    Market PricesDecember
                    2006
                
                
                3.16
                
                
                2.83
                
                
                20.45
                
                
                18.31
                
                
                4.09
                
                
                3.66January
                    2007
                
                
                4.22
                
                
                3.25
                
                
                26.82
                
                
                21.48
                
                
                6.26
                
                
                4.26February
                    2007
                
                
                4.02
                
                
                3.48
                
                
                25.86
                
                
                21.70
                
                
                6.12
                
                
                4.93March
                    2007
                
                
                3.74
                
                
                3.29
                
                
                23.83
                
                
                20.81
                
                
                7.43
                
                
                5.43April
                    2007
                
                
                3.72
                
                
                3.44
                
                
                23.98
                
                
                22.10
                
                
                9.03
                
                
                7.80May
                    2007
                
                
                4.98
                
                
                3.37
                
                
                31.29
                
                
                21.94
                
                
                9.48
                
                
                9.48June
                    2007 (up to June 27, 2007)
                
                
                5.59
                
                
                4.20
                
                
                35.64
                
                
                27.53
                
                
                9.48
                
                
                8.31




57




**Plan
      of Distribution**




Not
      applicable.




**Markets**




See
      “Offer and Listing Details” above.




**Selling
      Shareholders**




Not
      applicable.




**Dilution**




Not
      applicable.




58




**Expenses
      of the Issue**




Not
      applicable.




**ITEM
      10. ADDITIONAL INFORMATION.**




**Share
      Capital**




Not
      applicable.




**Memorandum
      and Articles of Association**




The
      following is a summary of certain provisions of our articles of association.
      As
      this is a summary, it does not contain all the information that may be important
      to you. You and your advisors should read the text of our articles of
      association for further information.




The
      Company is registered with and has obtained a business license from the State
      Administration Bureau of Industry and Commerce of the People’s Republic of China
      on March 25, 1995. The Company’s business license number is 1000001001760.




On
      March
      13, 2003, the Company obtained an approval certificate from the Ministry of
      Commerce to change to a permanent limited company with foreign investments
      and
      obtained the business license (Qi Gu Guo Zi Di No. 000995) on October 17, 2003
      issued by the State Administration of Industry and Commerce of the People’s
      Republic of China.


Other
        Senior Administrative Officers




Objects
      and Purpose


Pursuant
        to the Article 18 of the Articles of Association, the scope of business of
        the
        Company includes: (I) provision of scheduled and non-scheduled domestic,
        regional and international air transportation services for passengers, cargo,
        mail and luggage; (II) undertaking general aviation services;
        (III) provision of aircraft repair and maintenance services; (IV) acting
        as
        agent for other domestic and international airlines; (V) provision of air
        catering services; (VI) provision of hotel business; (VII) acting as sale
        agent
        for aircraft leasing and aviation accident insurance; and (VIII) engaging
        in
        other airline or airline-related business, including advertising for such
        services. (subject to approved of  State Administration of Industry and
        Commerce).


Directors




Pursuant
      to Article 244 of the Articles of Association, where a Director of the
      Company is in any way, directly or indirectly, materially interested in a
      contract, transaction or arrangement or proposed contract, transaction or
      arrangement with the Company, (other than his contract of service with the
      Company), he shall declare the nature and extent of his interests to the Board
      of Directors at the earliest opportunity, whether or not the contract,
      transaction or arrangement or proposal is otherwise subject to the approval
      of
      the Board of Directors.




Pursuant
      to Article 174 of the Articles of Association, where a Director is interested
      in
      any resolution proposed at a board meeting, such Director shall not be present
      and shall not have a right to vote. Such Director shall not be counted in the
      quorum of the relevant meeting.




Pursuant
      to Article 252 of the Articles of Association, the Company shall, with the
      prior approval of shareholders in general meeting, enter into a contract in
      writing with a Director wherein his emoluments are stipulated. The aforesaid
      emoluments include, emoluments in respect of his service as Director, Supervisor
      or senior administrative officer of the Company or any subsidiary of the
      Company; emoluments in respect of the provision of other services in connection
      with the management of the affairs of the Company and any of its subsidiaries;
      and payment by way of compensation for loss of office, or as consideration
      for
      or in connection with his retirement from office.




Pursuant
      to Article 162(6) of the Articles of Association, the Board of Directors has
      the
      power to formulate proposals for increases or reductions in the Company’s
      registered capital and the issue of debentures of the Company; such resolutions
      must be passed by more than two-thirds of all the Directors.




There
      is
      no mandatory retirement age for the Directors of the Company. The Directors
      of
      the Company are not required to hold shares of the Company.




Ordinary
      Shares




Pursuant
      to Article 26 of the Articles of Association **,** subject
      to the approval of the securities authority of the State Council, the Company
      may issue and offer shares to domestic investors or foreign investors for
      subscription. Foreign investors are those investors of foreign countries and
      regions of Hong Kong, Macau and Taiwan who subscribe for shares issued by the
      Company. Domestic investors are those investors within the territory of the
      PRC
      (excluding investors of the regions referred to in the preceding sentence)
      who
      subscribe for shares issued by the Company.




59




Pursuant
      to Article 27 of the Articles of Association **,**s hares
      issued by the Company to domestic investors for subscription in Renminbi shall
      be referred to as “Domestic-Invested Shares”. Shares issued by the Company to
      foreign investors for subscription in foreign currencies shall be referred
      to as
“Foreign-Invested Shares”. Foreign-Invested Shares which are listed overseas are
      called “Overseas-Listed Foreign-Invested Shares”. The foreign currencies mean
      the legal currencies (apart from Renminbi) of other countries or districts
      which
      are recognized by the foreign exchange control authority of the state and can
      be
      used to pay the Company for the share price.




Pursuant
      to Article 28 of the Articles of Association **,** Domestic-Invested
      Shares issued by the Company shall be called “A Shares”. Overseas-Listed
      Foreign-Invested Shares issued by the Company and listed in Hong Kong shall
      be
      called “H Shares”. H Shares are shares which have been admitted for listing on
      The Stock Exchange of Hong Kong Limited, the par value of which is denominated
      in Renminbi and which are subscribed for and traded in Hong Kong dollars. H
      Shares can also be listed on a stock exchange in the United States of America
      in
      the form of American depositary receipts.




The
      Company has issued a total of 4,374,178,000 ordinary shares, of which (a)
      2,200,000,000 are Domestic Shares held by CSAHC, (b) 1,174,178,000 are H Shares
      held by Hong Kong and overseas shareholders and (c) 1,000,000,000 are A Shares
      held by PRC shareholders.




Pursuant
      to Article 62 of the Articles of Association, the ordinary shareholders of
      the Company shall enjoy the following rights:




(1)
            the
                right to attend or appoint a proxy to attend shareholders’ general
                meetings and to vote thereat;(2)
            the
                right to dividends and other distributions in proportion to the number
                of
                shares held;


(3)
            the
                right of supervisory management over the Company’s business operations,
                and the right to present proposals or
                enquiries;




(4)
            the
                right to transfer, donate or pledge his shares in accordance with
                laws,
                administrative regulations and provisions of these Articles of
                Association;




(5)
            the
                right of knowledge and decision making power with respect to important
                matters of the Company in accordance with laws, administrative regulations
                and these Articles of Association;




(6)
            the
                right to obtain relevant information in accordance with the provisions
                of
                these Articles of Association,
                including:




(i)
      the
      right to obtain a copy of these Articles of Association, subject to payment
      of
      the cost of such copy;




(ii)
        the
        right to inspect and copy, subject to payment of a reasonable charge;




(a)
      all
      parts of the register of shareholders;




(b)
      personal particulars of each of the Company’s directors, supervisors, president
      and other senior administrative officers, including:




(aa)
      present name and alias and any former name or alias;




(bb)
      principal address (residence);




(cc)
      nationality;




(dd)
      primary and all other part-time occupations and duties;




(ee)
      identification documents and their relevant numbers;




(c)
      state
      of the Company’s share capital;




(d)
      reports showing the aggregate par value, quantity, highest and lowest price
      paid
      in respect of each class of shares repurchased by the Company since the end
      of
      last accounting year and the aggregate amount paid by the Company for this
      purpose;




(e)
      minutes of shareholders’ general meetings; and




(f)
      interim and annual reports of the Company.




(7)
            
            in
                the event of the termination or liquidation of the Company, to participate
                in the distribution of surplus assets of the Company in accordance
                with
                the number of shares held; and(8)
            
            other
                rights conferred by laws, administrative regulations and these articles
                of
                association.




Pursuant
      to Article 55 of the Articles of Association, the ordinary shareholders of
      the
      Company shall assume the following obligations:




(1)
            
            to
                abide by these Articles of
                Association;




(2)
            
            to
                pay subscription monies according to the number of shares subscribed
                and
                the method of subscription;(3)
            
            no
                right to return shares to the Company unless laws and regulations
                provide
                otherwise; and




60




(4)
            
            other
                obligations imposed by laws, administrative regulations and these
                articles
                of association.




Shareholders
      are not liable to make any further contribution to the share capital other
      than
      as agreed by the subscriber of the relevant shares on subscription.




Action
      necessary to change rights of shareholders




Pursuant
      to Article 112 of the Articles of Association, shareholders who hold different
      classes of shares are shareholders of different classes.




The
      holders of the Domestic-Invested Shares and holders of Overseas-Listed
      Foreign-Invested Shares shall be deemed to be shareholders of different classes.




Pursuant
      to Article 113 of the Articles of Association, rights conferred on any class
      of
      shareholders in the capacity of shareholders (“class rights”) may not be varied
      or abrogated unless approved by a special resolution of shareholders in general
      meeting and by holders of shares of that class at a separate meeting conducted
      in accordance with Articles 115 to 119.




Pursuant
      to Article 115 of the Articles of Association, **s** hareholders
      of the affected class, whether or not otherwise having the right to vote at
      shareholders’ general meetings, shall nevertheless have the right to vote at
      class meetings in respect of matters concerning sub-paragraphs (2) to (8),
      (11)
      and (12) of Article 114, but interested shareholder(s) shall not be entitled
      to
      vote at class meetings. “Interested shareholder(s)” is:




(1)
            
            in
                the case of a repurchase of shares by offers to all shareholders
                or public
                dealing on a stock exchange under Article 31, a “controlling shareholder”
                within the meaning of Article 57;




(2)
            
            in
                the case of a repurchase of share by an off-market contract under
                Article
                31, a holder of the shares to which the proposed contract relates;
                and




(3)
            
            in
                the case of a restructuring of the Company, a shareholder within
                a class
                who bears less than a proportionate obligation imposed on that class
                under
                the proposed restructuring or who has an interest in the proposed
                restructuring different from the interest of shareholders of that
                class.




Pursuant
      to Article 116 of the Articles of Association, resolutions of a class of
      shareholders shall be passed by votes representing more than two-thirds of
      the
      voting rights of shareholders of that class represented at the relevant meeting
      who, according to Article 115, are entitled to vote at class meetings.




Pursuant
      to Article 117 of the Articles of Association, written notice of a class meeting
      shall be given forty-five days before the date of the class meeting to notify
      all of the shareholders in the share register of the class of the matters to
      be
      considered, the date and the place of the class meeting. A shareholder who
      intends to attend the class meeting shall deliver his written reply concerning
      attendance at the class meeting to the Company twenty days before the date
      of
      the class meeting.




If
      the
      number of shares carrying voting rights at the meeting represented by the
      shareholders who intend to attend the class meeting reaches more than one half
      of the voting shares at the class meeting, the Company may hold the class
      meeting; if not, the Company shall within five (5) days notify the shareholders
      again by public notice of the matters to be considered, the date and the place
      for the class meeting. The Company may then hold the class meeting after such
      publication of notice.




Pursuant
      to Article 118 of the Articles of Association, notice of class meetings need
      only be served on shareholders entitled to vote thereat.




Meeting
      of any class of shareholders shall be conducted in a manner as similar as
      possible to that of general meetings of shareholders. The provisions of these
      Articles of Association relating to the manner to conduct any shareholders’
general meeting shall apply to any meeting of a class of shareholders.




Pursuant
      to Article 119 of the Articles of Association, the special procedures for voting
      at any meeting of a class of shareholders shall not apply to the following
      circumstances:




(1)
            
            where
                the Company issues, upon the approval by special resolution of its
                shareholders in general meeting, either separately or concurrently
                once
                every twelve months, not more than 20 percent of each of its existing
                issued Domestic-Invested Shares and Overseas-Listed Foreign-Invested
                Shares; and




(2)
            
            where
                the Company’s plan to issue Domestic-Invested Shares and Overseas-Listed
                Foreign-Invested Shares at the time of its establishment is carried
                out
                within fifteen months from the date of approval of the Securities
                Committee of the State Council.




Meetings
      of shareholders




Shareholders’
      general meetings is the organ of authority of the Company and shall exercise
      its
      functions and powers, among other things, to decide on the Company’s operational
      policies and investment plans, to elect and replace directors and decide on
      matters relating to the remuneration of directors, to examine and approve
      reports of the board of directors, etc.




61




There
      are
      two types of shareholders’ general meetings: annual general meetings and
      extraordinary general meetings. Shareholders’ general meetings shall be convened
      by the Board of Directors. Annual general meetings are held once every year
      and
      within six months from the end of the preceding financial year.




Under
      any
      of the following circumstances, the Board of Directors shall convene an
      extraordinary general meeting within two months:




(1)
            
            when
                the number of Directors is less than the number of Directors required
                by
                the Company Law or two thirds of the number of Directors specified
                in the
                Articles of Association;




(2)
            
            when
                the unrecovered losses of the Company amount to one third of the
                total
                amount of its share capital;




(3)
            
            when
                shareholder(s) holding 10 percent or more of the Company’s issued and
                outstanding shares carrying voting rights request(s) in writing the
                convening of an extraordinary general meeting;(4)
            
            when
                deemed necessary by the Board of Directors or as requested by the
                Supervisory Committee.




When
      the
      Company convenes a shareholders’ general meeting, written notice of the meeting
      shall be given forty five days before the date of the meeting to notify all
      of
      the shareholders in the share register of the matters to be considered and
      the
      date and the place of the meeting. A shareholder who intends to attend the
      meeting shall deliver his written reply concerning the attendance of the meeting
      to the Company twenty days before the date of the meeting.




The
      Company shall, based on the written replies received twenty days before the
      date
      of the shareholders’ general meeting from the shareholders, calculate the number
      of voting shares represented by the shareholders who intend to attend the
      meeting. If the number of voting shares represented by the shareholders who
      intend to attend the meeting reaches one half or more of the Company’s total
      voting shares, the Company may hold the meeting; if not, then the Company shall
      within five days notify the shareholders again by public notice of the matters
      to be considered, the place and date for, the meeting. The Company may then
      hold
      the meeting after such publication of notice.




Limitation
      on right to own securities




The
      PRC
      Special Regulations on Overseas Offering and the Listing of Shares by Companies
      Limited by Share (the “Special Regulations”) and the Mandatory Provisions for
      Articles of Association of Companies to be Listed Overseas (the “Mandatory
      Provisions”) provide for different classes of shares to be subscribed for and
      traded by local and overseas investors respectively. Shares which can be traded
      by overseas investors must be in registered form and while denominated in
      Renminbi, they are traded in foreign currency with dividends payable in foreign
      currency. Local investors are prohibited from dealing in such shares.




Merger,
      acquisition or corporate restructuring




Pursuant
      to Article 221 of the Articles of Association, in the event of the merger or
      division of the Company, a plan shall be presented by the Company’s Board of
      Directors and shall be approved in shareholders’ general meeting and the
      relevant examining and approving formalities shall be processed as required
      by
      law. A shareholder who objects to the plan of merger or division shall have
      the
      right to demand the Company or the shareholders who consent to the plan of
      merger or division to acquire that dissenting shareholder’s shareholding at a
      fair price. The contents of the resolution of merger or division of the Company
      shall be made into special documents for shareholders’ inspection. Such special
      documents shall be sent by mail to holders of Overseas-Listed Foreign-Invested
      Shares.




The
      Articles of Association do not contain any provisions governing the ownership
      threshold above which shareholder ownership must be disclosed.




**Material
      Contracts**




The
      Company has not entered into any material contracts other than in the ordinary
      course of business and other than those described in this Item 10, Item 4,
      “Information on the Company” or elsewhere in this annual report on Form 20-F.




62




(a)
            
            A
                framework agreement on lease and operation dated January 1, 2006
                between
                the Company and China Southern Airlines Group Travel Development
                Company
                Limited (the “CSA Travel”), a wholly owned subsidiary of CSAHC, pursuant
                to which the Company leases certain hotels belonging to it to CSA
                Travel
                for operation and management for a period of three years. The
                consideration for the framework agreement on lease and operation
                is based
                on the rent payable and fees for operation and management of the
                hotels,
                and is capped at RMB6 million per year. It became effective on April
                25,
                2006 and has been approved by the Directors of the
                Company.(b)
            
            An
                advertising agency agreement dated January 1, 2006 between the Company
                and
                SAAC, a related party that is 45% owned by the Company and 55% owned
                by
                CSAHC, pursuant to which the SAAC produces advertisement script,
                graphic
                and music for the Company with the copyright of such products belonging
                to
                the Company for a period of three years. The consideration for the
                advertising agency agreement is based on the fees payable for advertising
                services to be provided, and is capped at RMB30 million per year.
                It
                became effective on April 25, 2006 has been approved by the Directors
                of
                the Company.(c)
            
            A
                property management framework agreement dated January 1, 2006 between
                the
                Company and Guangzhou China Southern Airlines Property Management
                Company
                Limited (the “GCSAPMC”), a related party that is 90% owned by CSAHC and
                10% owned by the Company’s union, pursuant to which the GCSAPMC provides
                property management and improvement services for certain properties
                of the
                Company for a period of three years. The consideration for the property
                management framework agreement is based on the fees payable for management
                and maintenance services to be provided, and is capped at RMB47,010,000
                per year. It became effective on April 25, 2006 has been approved
                by the
                Directors of the Company.




63




(d)
            
            An
                acquisition agreement dated April 1, 2006 between the Company and
                CSAHC
                Hainan Co., Ltd. (the “Hainan Co., Ltd.”), a subsidiary of CSAHC, pursuant
                to which the Company has agreed to acquire and Hainan Co., Ltd. has
                agreed
                to sell the assets and liabilities in relation to the airline operations
                of Hainan Co., Ltd. The total consideration payable by the Company,
                including the assets to be acquired and the liabilities to be assumed
                by
                the Company, was RMB5,150,000. It became effective upon approval
                by the
                Directors of the Company on April 18, 2006.(e)
            
            An
                agency agreement for sale of freight and passenger services dated
                May 16,
                2006 between the Company and Nan Lung Travel & Express (Hong Kong)
                Ltd. (“Nanlung”), a wholly owned subsidiary of CSAHC, pursuant to which
                Nanlung acts as agent in the Company’s sales and account settlement and
                the ground operations of the Company’s flights in Hong Kong region for a
                period of one year. The consideration for the agency agreement is
                based on
                the fees payable for ticket sale and other services to be provided,
                and is
                capped at RMB60 million for the entire term of the agency agreement.
                It
                became effective on May 16, 2006 and was approved by the Directors
                of the
                Company on December 24, 2005.(f)
            
            An
                Airbus Aircraft Acquisition Agreement dated July 6, 2006 between
                the
                Company and Airbus, the Company would acquire 50 Airbus A320 series
                aircraft from Airbus. Theaggregate
                catalogue price for the Airbus Aircraft is RMB26.526 billion
                (approximately US$3.316 billion). The aggregate consideration for
                the
                acquisition of the Airbus Aircraft is payable by cash in installments
                and
                the Airbus Aircraft will be delivered in stages to the Company during
                the
                period commencing from 2009 to 2010.(g)
            
            A
                Boeing Aircraft Acquisition Agreement dated October 13, 2006 between
                the
                Company and Boeing, the Company would purchase 6 Boeing B777F freighters
                from Boeing. The catalogue price of a Boeing B777F freighter is US$232
                million. The aggregate consideration for the acquisition of the B777F
                Freighters is partly payable by cash of the Company, and partly by
                financing arrangements with banking institutions and the Boeing Aircraft
                will be delivered in stages to the Company during the period commencing
                from November 2008 to July 2010.




(h)
              
              A
                  Xiamen Aircraft Acquisition Agreement dated October 13, 2006 between
                  Xiamen Airlines and Boeing, Xiamen Airlines would acquire six Boeing
                  B737-800 aircraft from Boeing. The
                  catalogue price of a Boeing B737-800 aircraft is US$66-US$75 million.Such
                  catalogue price includes price for airframe and engine. The aggregate
                  consideration for the acquisition of the B737-800 Aircraft is payable
                  by
                  cash in installments and the B737-800 Aircraft will be delivered
                  to Xiamen
                  Airlines in 2010.




(i)
              
              A
                  lease agreement dated December 19, 2006 entered into between the
                  Company
                  and CSAHC (“Lease Agreement”). The Lease Agreement takes effect
                  retrospectively on January 1, 2006, and is valid for a term of
                  3 years.
                  Under the Lease Agreement, the annual rents payable for the year
                  2006,
                  2007 and 2008 are RMB27,543,606.01, RMB28,657,966.99 and RMB29,828,046.01
                  respectively. Each year, the rent is payable in advance semiannually
                  by
                  the Company wholly out of its internal funds.




**Exchange
      Controls**




Under
        current Chinese foreign exchange regulations, Renminbi is fully convertible
        for
        current account transactions, but is not freely convertible for capital account
        transactions. Current account foreign currency transactions can be
        undertaken without prior approval from the relevant Chinese Government agencies
        by producing commercial documents evidencing such transactions, provided
        that
        they are processed through Chinese banks licensed to engage in
        foreign currency transactions. Conversion from Renminbi into a foreign
        currency or vice versa for purposes of capital account transactions requires
        prior approvals of relevant Chinese Government agencies. This restriction
        on
        capital account transactions could affect the ability of the Company to acquire
        foreign currency for capital expenditures.




The
        Company is generally required by law to sell all its foreign currency
        revenues to Chinese banks. The Company may purchase foreign currency
        directly from Chinese banks for any current account transactions, such as
        trade
        transactions in its usual and normal course of business, including acquisition
        of aircraft, jet fuel and flight equipment (such acquisition requires approvals
        from the relevant Chinese Government agencies). Payment of dividends by the
        Company to holders of the Company’s H Shares and ADSs is also considered a
        current account transaction under Chinese law. Therefore, there is no legal
        restriction on the conversion of Renminbi into foreign currency for the
        purpose of paying dividends to such holders of H Shares and ADSs. In addition,
        the Company’s Articles of Association require the Company to pay dividends to
        holders of the Company’s H Shares and ADSs in foreign currency.




On
      July
      21, 2005, the PRC government changed its policy of pegging the value of the
      Renminbi to the U.S. dollar so that the Renminbi is now permitted to fluctuate
      within a band against a basket of certain foreign currencies. On May 18, 2007,
      the People’s Bank of China announced that the floating band of Renminbi would be
      permitted to rise or fall by as much as 0.5%. The PRC government has stated
      publicly that it intends to further liberalize its currency policy, which could
      result in a further and more significant change in the value of the Renminbi
      against the U.S. dollar. Any significant revaluation of the Renminbi may have
      a
      material adverse effect on the Company's financial performance, and the value
      of, and any dividends payable on, the Company's H Shares and ADSs in foreign
      currency terms.




64




Other
      Limitations




There
      are
      no limitations on the right of non-resident or foreign owners to hold or vote
      H
      Shares or ADSs imposed by Chinese law or by the Articles of Association or
      other
      constituent documents of the Company. However, under current Chinese law,
      foreign ownership of the Company may not exceed 49%.




**Taxation**




**Chinese
      Taxation**




The
      following is a general summary of certain Chinese tax consequences of the
      acquisition, ownership and disposition of H Shares and ADSs. This summary is
      based upon tax laws of China as in effect on the date of this Annual Report,
      including the income tax treaty between the United States and China (the
“U.S.-PRC Tax Treaty”), all of which are subject to change or different
      interpretation.




In
      general, for Chinese tax purposes, holders of ADSs will be treated as the owners
      of the H Shares represented by those ADSs, and exchanges of H Shares for ADSs,
      and ADSs for H Shares, will not be subject to taxation under the laws of China.




This
      summary does not purport to address all material tax consequences for holders
      or
      prospective purchasers of H Shares or ADSs, and does not take into account
      the
      specific circumstances of such investors. Investors should consult their own
      tax
      advisors as to Chinese or other tax consequences of the acquisition, ownership
      and disposition of H Shares or ADSs.


In
          March
          2007, the National People’s Congress of China enacted a new Enterprise Income
          Tax Law, which will become effective on January 1, 2008. The new tax law
          would impose a unified income tax rate of 25.0% on all domestic enterprises
          and
          foreign-invested enterprise unless they qualify under certain limited
          exceptions. The new tax law provides for a five-year transition period
          for FIEs,
          during which they are permitted to continue to enjoy their existing preferential
          tax treatment until such treatment expires in accordance with its current
          terms.
          The implementation guidance as to how the existing preferential tax rate
          will
          increase to the standard rate of 25% is not yet issued.




Dividends




Chinese
      tax law generally provides for the imposition of a withholding tax on dividends
      paid by a Chinese company to a non-Chinese shareholder at a rate of 20%.
      However, the Chinese tax authorities have temporarily suspended imposition
      of
      this withholding tax. Accordingly, dividends paid by the Company to holders
      of H
      Shares or ADSs who are foreign individuals not resident in China or which are
      foreign enterprises with no permanent establishment in China will currently
      not
      be subject to Chinese withholding tax. In the event that the suspension of
      the
      withholding tax is lifted, such payments will be subject to withholding tax
      at
      the 20% rate unless the holder is entitled to a tax waiver or a lower tax rate
      under an applicable double-taxation treaty.




China
      currently has double-taxation treaties with a number of countries, including
      Australia, Canada, France, Germany, Japan, Malaysia, the Netherlands, Singapore,
      the United Kingdom and the United States. Under the U.S.-PRC Tax Treaty, China
      may tax a dividend paid by the Company to a U.S. holder up to a maximum of
      10%
      of the gross amount of such dividend.




Capital
      Gains from Transfer or Disposition of Shares




Chinese
      tax law generally provides that an individual who transfers or otherwise
      disposes of a company’s shares of capital stock is subject to a 20% capital
      gains tax. Currently, foreign enterprises and all individuals are temporarily
      exempt from capital gains tax on transfers of shares of capital stock of joint
      stock companies, such as the Company. Should such temporary exemption be
      discontinued, such holders may be subject to a 20% capital gains tax unless
      reduced by an applicable double-taxation treaty. Under the U.S.-PRC Tax Treaty,
      for example, China may only impose a 20% capital gains tax from the sale or
      other disposition by a U.S. holder of H Shares or ADSs representing an interest
      in the Company of 25% or more.




Stamp
      Duty




Transfers
      of shares of capital stock of a company are not subject to Chinese stamp duty
      if
      the transfer does not take place within China (excluding Hong Kong, Macau and
      Taiwan).




**United
      States Federal Income Taxation**




This
      discussion describes the material U.S. federal income tax consequences of the
      purchase, ownership and disposition of the Company’s ADSs. This discussion does
      not address any aspect of U.S. federal gift or estate tax, or the state, local
      or foreign tax consequences of an investment in the Company’s ADSs. This
      discussion applies to you only if you hold and beneficially own the Company’s
      ADSs as capital assets for tax purposes. This discussion does not apply to
      you
      if you are a member of a class of holders subject to special rules, such as:




**•**
            
            dealers
                in securities or currencies;**•**
            
            traders
                in securities that elect to use a mark-to-market method of accounting
                for
                securities holdings;**•**
            
            banks
                or other financial institutions;**•**
            
            insurance
                companies;




65




**•**
            
            tax-exempt
                organizations;**•**
            
            partnerships
                and other entities treated as partnerships for U.S. federal income
                tax
                purposes or persons holding ADSs through any such
                entities;**•**
            
            persons
                that hold ADSs as part of a hedge, straddle, constructive sale, conversion
                transaction or other integrated investment;**•**
            
            U.S.
                Holders (as defined below) whose functional currency for tax purposes
                is
                not the U.S. dollar;**•**
            
            persons
                liable for alternative minimum tax; or**•**
            
            persons
                who actually or constructively own 10% or more of the total combined
                voting power of all classes of the Company’s shares (including ADSs)
                entitled to vote.




This
      discussion is based on the U.S. Internal Revenue Code of 1986, as amended,
      which
      is referred to in this discussion as the Code, its legislative history, existing
      and proposed regulations promulgated thereunder, published rulings and court
      decisions, all as currently in effect. These laws are subject to change,
      possibly on a retroactive basis. In addition, this discussion relies on the
      assumptions regarding the value of the Company’s shares and the nature of its
      business over time. Finally, this discussion is based in part upon the
      representations of the depositary and the assumption that each obligation in
      the
      deposit agreement and any related agreement will be performed in accordance
      with
      its terms. For U.S. federal income tax purposes, as a holder of ADSs, you are
      treated as the owner of the underlying ordinary shares represented by such
      ADSs.




You
      should consult your own tax advisor concerning the particular U.S. federal
      income tax consequences to you of the purchase, ownership and disposition of
      the
      Company’s ADSs, as well as the consequences to you arising under the laws of any
      other taxing jurisdiction.




For
      purposes of the U.S. federal income tax discussion below, you are a “U.S.
      Holder” if you beneficially own ADSs and are:




**•**
            
            a
                citizen or resident of the United States for U.S. federal income
                tax
                purposes;**•**
            
            a
                corporation, or other entity taxable as a corporation, that was created
                or
                organized in or under the laws of the United States or any political
                subdivision thereof;**•**
            
            an
                estate the income of which is subject to U.S. federal income tax
                regardless of its source; or**•**
            
            a
                trust if (a) a court within the United States is able to exercise
                primary
                supervision over its administration and one or more U.S. persons
                have the
                authority to control all substantial decisions of the trust, or (b)
                the
                trust has a valid election in effect to be treated as a U.S.
                person.




If
      you
      are not a U.S. person, please refer to the discussion below under “Non-U.S.
      Holders.”




For
      U.S.
      federal income tax purposes, income earned through a foreign or domestic
      partnership or other flow-through entity is attributed to its owners.
      Accordingly, if a partnership or other flow-through entity holds ADSs, the
      tax
      treatment of the holder will generally depend on the status of the partner
      or
      other owner and the activities of the partnership or other flow-through entity.




U.S.
      Holders




*Dividends
      on ADSs*




Subject
      to the “Passive Foreign Investment Company” discussion below, if the Company
      makes distributions and you are a U.S. Holder, the gross amount of any
      distributions you receive on your ADSs will generally be treated as dividend
      income if the distributions are made from the Company’s current or accumulated
      earnings and profits, calculated according to U.S. federal income tax
      principles. Dividends will generally be subject to U.S. federal income tax
      as
      ordinary income on the day you actually or constructively receive such income.
      However, if you are an individual and have held your ADSs for a sufficient
      period of time, dividend distributions on the Company’s ADSs will generally
      constitute qualified dividend income taxed at a preferential rate (generally
      15%
      for dividend distributions before January 1, 2009) as long as the Company’s ADSs
      continue to be readily tradable on the New York Stock Exchange and certain
      other
      conditions apply. You should consult your own tax adviser as to the rate of
      tax
      that will apply to you with respect to dividend distributions, if any, you
      receive from us.




Distributions
      on the Company’s ADSs, if any, will generally be taxed to you as dividend
      distributions for U.S. tax purposes. Even if you are a corporation, you will
      not
      be entitled to claim a dividends-received deduction with respect to
      distributions you receive from the Company. Dividends generally will constitute
      foreign source passive income for U.S. foreign tax credit limitation purposes.




66




*Sales
      and other dispositions of ADSs*




Subject
      to the “Passive Foreign Investment Company” discussion below, when you sell or
      otherwise dispose of the Company’s ADSs, you will generally recognize capital
      gain or loss in an amount equal to the difference between the amount realized
      on
      the sale or other disposition and your adjusted tax basis in the ADSs, both
      as
      determined in U.S. dollars. Your adjusted tax basis will generally equal the
      amount you paid for the ADSs. Any gain or loss you recognize will be long-term
      capital gain or loss if your holding period in the Company’s ADSs is more than
      one year at the time of disposition. If you are an individual, any such
      long-term capital gain will be taxed at preferential rates. Your ability to
      deduct capital losses will be subject to various limitations.




*Passive
      Foreign Investment Company*




If
      the
      Company were a Passive Foreign Investment Company (“PFIC”) in any taxable
      year in which you hold the Company’s ADSs, as a U.S. Holder, you would generally
      be subject to adverse U.S. tax consequences, in the form of increased tax
      liabilities and special U.S. tax reporting requirements.




The
      Company will be classified as a PFIC in any taxable year if either: (1) the
      average percentage value of its gross assets during the taxable year that
      produce passive income or are held for the production of passive income is
      at
      least 50% of the value of its total gross assets; or (2) 75% or more of its
      gross income for the taxable year is passive income (such as certain dividends,
      interest or royalties). For purposes of the first test: (1) any cash, cash
      equivalents, and cash invested in short-term, interest bearing, debt
      instruments, or bank deposits that is readily convertible into cash, will
      generally count as producing passive income or held for the production of
      passive income; and (2) the average value of the Company’s gross assets is
      calculated based on its market capitalization.




The
      Company believes that it was not a PFIC for the taxable year 2006. However,
      there can be no assurance that the Company will not be a PFIC for the taxable
      year 2007 and/or later taxable years, as PFIC status is re-tested each year
      and
      depends on the facts in such year. For example, the Company would be a PFIC
      for
      the taxable year 2006 if the sum of its average market capitalization, which
      is
      its share price multiplied by the total amount of its outstanding shares, and
      its liabilities over that taxable year is not more than twice the value of
      its
      cash, cash equivalents, and other assets that are readily converted into cash.




If
      the
      Company were a PFIC, you would generally be subject to additional taxes and
      interest charges on certain “excess” distributions the Company makes and on any
      gain realized on the disposition or deemed disposition of your ADSs, regardless
      of whether the Company continues to be a PFIC in the year in which you receive
      an “excess” distribution or dispose of or are deemed to dispose of your ADSs.
      Distributions in respect of your ADSs during a taxable year would generally
      constitute “excess” distributions if, in the aggregate, they exceed 125% of the
      average amount of distributions in respect of your ADSs over the three preceding
      taxable years or, if shorter, the portion of your holding period before such
      taxable year.




To
      compute the tax on “excess” distributions or any gain, (1) the “excess”
distribution or the gain would be allocated ratably to each day in your holding
      period, (2) the amount allocated to the current year and any tax year before
      the
      Company became a PFIC would be taxed as ordinary income in the current year,
      (3)
      the amount allocated to other taxable years would be taxable at the highest
      applicable marginal rate in effect for that year, and (4) an interest charge
      at
      the rate for underpayment of taxes for any period described under (3) above
      would be imposed with respect to any portion of the “excess” distribution or
      gain that is allocated to such period. In addition, if the Company were a PFIC,
      no distribution that you receive from the Company would qualify for taxation
      at
      the preferential rate discussed in the “Dividends on ADSs” section above.




If
      the
      Company were a PFIC in any year, as a U.S. Holder, you would be required to
      make
      an annual return on IRS Form 8621 regarding your ADSs. However, the Company
      does
      not intend to generate, or share with you, information that you might need
      to
      properly complete IRS Form 8621. You should consult with your own tax adviser
      regarding reporting requirements with regard to your ADSs.




If
      the
      Company were a PFIC in any year, you would generally be able to avoid the
“excess” distribution rules described above by making a timely so-called
“mark-to-market” election with respect to your ADSs provided the Company’s ADSs
      are “marketable”. The Company’s ADSs will be “marketable” as long as they remain
      regularly traded on a national securities exchange, such as the New York Stock
      Exchange. If you made this election in a timely fashion, you would generally
      recognize as ordinary income or ordinary loss the difference between the fair
      market value of your ADSs on the first day of any taxable year and their value
      on the last day of that taxable year. Any ordinary income resulting from this
      election would generally be taxed at ordinary income rates and would not be
      eligible for the reduced rate of tax applicable to qualified dividend income.
      Any ordinary losses would be limited to the extent of the net amount of
      previously included income as a result of the mark-to-market election, if any.
      Your basis in the ADSs would be adjusted to reflect any such income or loss.
      You
      should consult with your own tax adviser regarding potential advantages and
      disadvantages to you of making a “mark-to-market” election with respect to your
      ADSs. Separately, if the Company were a PFIC in any year, you would be able
      to
      avoid the “excess” distribution rules by making a timely election to treat us as
      a so-called “Qualified Electing Fund” or “QEF.” You would then generally be
      required to include in gross income for any taxable year (1) as ordinary income,
      your pro rata share of the Company’s ordinary earnings for the taxable year, and
      (2) as long-term capital gain, your pro rata share of the Company’s net capital
      gain for the taxable year. However, the Company does not intend to provide
      you
      with the information you would need to make or maintain a “QEF” election and you
      will, therefore, not be able to make or maintain such an election with respect
      to your ADSs.




67




Non-U.S.
      Holders




If
        you
        beneficially own ADSs and are not a U.S. Holder for U.S. federal income tax
        purposes (a “Non-U.S. Holder”), you generally will not be subject to U.S.
        federal income tax or withholding tax on dividends received from the
        Company with respect to ADSs unless that income is considered effectively
        connected with your conduct of a U.S. trade or business and, if an applicable
        income tax treaty so requires as a condition for you to be subject to U.S.
        federal income tax with respect to income from your ADSs, such dividends
        are
        attributable to a permanent establishment that you maintain in the United
        States. You generally will not be subject to U.S. federal income tax, including
        withholding tax, on any gain realized upon the sale or exchange of ADSs,
        unless:




**•**
            
            that
                gain is effectively connected with the conduct of a U.S. trade or
                business
                and, if an applicable income tax treaty so requires as a condition
                for you
                to be subject to U.S. federal income tax with respect to income from
                your
                ADSs, such gain is attributable to a permanent establishment that
                you
                maintain in the United States; or**•**
            
            you
                are a nonresident alien individual and are present in the United
                States
                for at least 183 days in the taxable year of the sale or other disposition
                and either (1) your gain is attributable to an office or other fixed
                place
                of business that you maintain in the United States or (2) you have
                a tax
                home in the United States.




If
      you
      are engaged in a U.S. trade or business, unless an applicable tax treaty
      provides otherwise, the income from your ADSs, including dividends and the
      gain
      from the disposition of the Company’s ADSs, that is effectively connected with
      the conduct of that trade or business will generally be subject to the rules
      applicable to U.S. Holders discussed above. In addition, if you are a
      corporation, you may be subject to an additional branch profits tax at a rate
      of
      30% or any lower rate under an applicable tax treaty.




**U.S.
      information reporting and backup withholding rules**




In
        general, dividend payments with respect to the ADSs and the proceeds received
        on
        the sale or other disposition of those ADSs may be subject to information
        reporting to the IRS and to backup withholding (currently imposed at a rate
        of
        28%). Backup withholding will not apply, however, if you (1) are a corporation
        or come within certain other exempt categories and, when required, can
        demonstrate that fact or (2) provide a taxpayer identification number, certify
        as to no loss of exemption from backup withholding and otherwise comply with
        the
        applicable backup withholding rules. To establish your status as an exempt
        person, you will generally be required to provide certification on IRS Form
        W-9,
        W-8BEN or W-8ECI, as applicable. Any amounts withheld from payments to you
        under
        the backup withholding rules will be allowed as a refund or a credit against
        your U.S. federal income tax liability, provided that you furnish the required
        information to the IRS.




HOLDERS
      OF THE COMPANY’S ADSS SHOULD CONSULT WITH THEIR OWN TAX ADVISORS REGARDING THE
      APPLICATION OF THE U.S. FEDERAL INCOME TAX LAWS TO THEIR PARTICULAR SITUATIONS
      AS WELL AS ANY TAX CONSEQUENCES RESULTING FROM PURCHASING, HOLDING OR DISPOSING
      OF THE ADSS, INCLUDING THE APPLICABILITY AND EFFECT OF THE TAX LAWS OF ANY
      STATE, LOCAL OR FOREIGN JURISDICTION AND INCLUDING ESTATE, GIFT, AND INHERITANCE
      LAWS.




**Dividends
      and Paying Agents**




Not
      applicable.




**Statement
      by Experts**




Not
      applicable.




**Documents
      on Display**




The
      Company has filed this Annual Report on Form 20-F with the Securities and
      Exchange Commission under the Securities Exchange Act of 1934, as amended.
      Statements made in this Annual Report as to the contents of any document
      referred to are not necessarily complete. With respect to each such document
      filed as an exhibit to this Annual Report, reference is made to the exhibit
      for
      a more complete description of the matter involved, and each such statement
      shall be deemed qualified in its entirety by such reference.




The
      Company is subject to the informational requirements of the Exchange Act and
      file reports and other information with the Securities and Exchange Commission.
      Reports and other information which the Company filed with the Securities and
      Exchange Commission, including this Annual Report on Form 20-F, may be inspected
      and copied at the public reference room of the Securities and Exchange
      Commission at 450 Fifth Street N.W. Washington D.C. 20549.




You
      can
      also obtain copies of this Annual Report on Form 20-F by mail from the Public
      Reference Section of the Securities and Exchange Commission, 450 Fifth Street,
      N.W., Washington D.C. 20549, at prescribed rates. Additionally, copies of this
      material may be obtained from the Securities and Exchange Commission’s Internet
      site at http://www.sec.gov. The Commission’s telephone number is 1-800-SEC-0330.




**Subsidiary
      Information**




Not
      applicable.




68




**Comparison
      of New York Stock Exchange Corporate Governance Rules and China Corporate
      Governance Rules for Listed Companies**




Under
      the
      amended Corporate Governance Rules of New York Stock Exchange (NYSE), foreign
      issuers (including the Company) listed on the NYSE are required to disclose
      a
      summary of the significant differences between their domestic corporate
      governance rules and NYSE corporate governance rules that would apply to a
      U.S.
      domestic issuer. A summary of such differences is listed below:




**NYSE
                corporate governance rules**
            
            **Corporate
                governance rules applicable to the domestically listed companies
                in China
                and the Company’s governance practices****Director
                Independence**
              A
                listed company must have a majority of independent directors on its
                board
                of directors. No director qualifies as “independent” unless the board of
                directors affirmatively determines that the director has no material
                relationship with the listed company (either directly or as a partner,
                shareholder or officer of an organization that has a relationship
                with the
                company). In addition, a director must meet certain standards to
                be deemed
                independent. For example, a director is not independent if the director
                is, or has been within the last three years, an employee of the listed
                company, or if the director has received, during any twelve-month
                period
                within the last three years, more than US$100,000 in direct compensation
                from the listed company.
            
            **Director
                Independence**
              Any
                listed company must establish an independent director system and
                set forth
                specific requirements for the qualification of independent directors.
                An
                independent director shall not hold any other position in the listed
                company other than being a director and shall not be influenced by
                the
                main shareholders or the controlling persons of the listed company,
                or by
                any other entities or persons with whom the listed company has a
                significant relationship.
              
              *The
                Company’s governance practices*
              The
                Company has complied with the relevant Chinese corporate governance
                rules
                and has implemented internal rules governing the independence and
                responsibilities of independent directors. The Company determines
                the
                independence of independent directors every year.The
                non-management directors of each listed company must meet at regularly
                scheduled executive sessions without management.
            
            No
                similar requirements.




**Nominating/Corporate
                Governance Committee**
              Listed
                companies must have a nominating/corporate governance committee composed
                entirely of independent directors.
              
              The
                nominating/corporate governance committee must have a written charter
                that
                addresses the committee’s purposes and responsibilities which, at minimum,
                must be to: search for eligible people for the board of directors,
                select
                and nominate directors for the next session of the shareholders’ annual
                meeting, study and propose corporate governance guidelines, supervise
                the
                evaluation of the board of directors and management, and evaluate
                the
                performance of the committee every year.
            
            **Nominating/Corporate
                Governance Committee**
              The
                board of directors of a listed company may, through the resolution
                of the
                shareholders’ meeting, establish a nominating committee composed entirely
                of directors, of which the independent directors shall be the majority
                and
                the convener.
              
              *The
                Company’s governance practices*
              The
                Company has not established a nominating committee. The independent
                non-executive Directors of the Company are nominated by the Board
                of
                Directors, and their appointment must be approved by the shareholders
                of
                the Company in a general meeting. The executive Directors of the
                Company
                are nominated by CSAHC, the controlling shareholder of the Company,
                and
                their appointment must be approved by the shareholders of the Company
                in a
                general meeting.**Compensation
                Committee**
              Listed
                companies must have a compensation committee composed entirely of
                independent directors.
            
            **Compensation
                Committee**
              The
                board of directors of a listed company can, through the resolution
                of
                shareholders’ meeting, have a compensation and evaluation committee
                composed entirely of directors, of whom the independent directors
                are the
                majority and act as the convener.




69




*The
              Company’s governance practices*
              The
                Company has established a remuneration committee consisting of three
                members. The remuneration committee is chaired by independent
                non-executive Director Sui Guang Jun with independent non-executive
                Director Wei Ming Hai and executive Director Wang Quan Hua as
                members.The
                written charter of the compensation committee must state, at least,
                the
                following purposes and responsibilities:
              (1)
                review and approve the corporate goals associated with CEO’s compensation,
                evaluate the performance of the CEO in fulfilling these goals, and
                based
                on such evaluation determine and approve the CEO’s compensation level;
              (2)
                make recommendations to the board with respect to non-CEO executive
                officer compensation, and incentive-compensation and equity-based
                plans
                that are subject to board approval;
              (3)
                produce a committee report on executive compensation as required
                by the
                SEC to be included in the annual proxy statement or annual report
                filed
                with the SEC.
              The
                charter must also include the requirement for an annual performance
                evaluation of the compensation committee.
            
            The
                responsibilities are similar to those stipulated by the NYSE rules,
                but
                the committee is not required to produce a report on the executive
                compensation or make an annual performance evaluation of the committee.
                The responsibilities of the remuneration committee are to approve
                the
                remuneration packages of Directors and senior management of the Group,
                and
                the Company’s “preliminary proposals on annual emoluments of the directors
                and senior management of the Group”. The remuneration committee is also
                responsible for assessing performance of executive director and approving
                the terms of executive directors’ service contracts.**Audit
                Committee**
              Listed
                companies must have an audit committee that satisfies the requirements
                of
                Rule 10A-3 of Exchange Act. It must have a minimum of three members,
                and
                all audit committee members must satisfy the requirements for independence
                set forth in Section 303A.02 of NYSE Corporate Governance Rules as
                well as
                the requirements of Rule 10A-3b (1) of the Exchange Act.
            
            **Audit
                Committee**
              The
                board of directors of a listed company can, through the resolution
                of the
                shareholders’ meeting, establish an audit committee composed entirely of
                directors, of which the independent directors are the majority and
                act as
                the convener, and, at minimum, one independent director is an accounting
                professional.




The
                written charter of the audit committee must specify that the purpose
                of
                the audit committee is to assist the board oversight of the integrity
                of
                financial statements, the company’s compliance with legal and regulatory
                requirements, qualifications and independence of independent auditors
                and
                the performance of the listed company’s internal audit function and
                independent auditors.
              The
                written charter must also require the audit committee to prepare
                an audit
                committee report as required by the SEC to be included in the listed
                company’s annual proxy statement as well as an annual performance
                evaluation of the audit committee.
            
            The
                responsibilities of the audit committee are similar to those stipulated
                by
                the NYSE rules, but according to the domestic practices, the Company
                is
                not required to make an annual performance evaluation of the audit
                committee and the audit committee is not required to prepare an audit
                report to be included in the Company’s annual proxy
                statement.
              
              *The
                Company’s governance practices*
              The
                Board of Directors of the Company has established an audit committee
                that
                satisfies relevant domestic requirements and the audit committee
                has a
                written charter.Each
                listed company must have an internal audit department.
            
            China
                has a similar regulatory provision, and the Company has an internal
                audit
                department.Shareholders
                must be given the opportunity to vote on equity-compensation plans
                and
                material revisions thereto, except for employment incentive plans,
                certain
                awards and plans in the context of mergers and acquisitions.
            
            The
                relevant regulations of China require the board of directors to propose
                plans and types of director compensation for the shareholders’ meeting to
                approve. The compensation plan of executive officers is subject to
                approval by the board and announced at the shareholders’ meeting and
                disclosed to the public upon the approval of the board of directors.
                The
                approval of director compensation and compensation plan of executive
                officers of the Company satisfies relevant domestic
                requirements.




70




**Corporate
                Governance Guidelines**
              Listed
                companies must adopt and disclose corporate governance guidelines,
                involving director qualification standards, director compensation,
                director continuing education, annual performance evaluation of the
                board
                of directors, etc.
            
            **Corporate
                Governance Guidelines**
              China
                Securities Regulatory Commission (“CSRC”) has issued the Corporate
                Governance Rules, with which the Company has complied.**Code
                of Ethics for Directors, Officers and Employees**
              Listed
                companies must adopt and disclose a code of business conduct and
                ethics
                for directors, officers and employees, and promptly disclose any
                waivers
                of the code for directors or executive officers.
            
            **Code
                of Ethics for Directors, Officers and Employees**
              China
                does not have such requirement for a code for ethics. But, the directors
                and officers must perform their legal responsibilities in accordance
                with
                the Company Law of PRC, relative requirements of CSRC and Mandatory
                Provisions to the Charter of Companies Listed
                Overseas.




*The
                Company’s governance practices*
              The
                Company does not have, in form, a code of ethics that applies to
                the
                president, chief financial officer and principal accounting officer,
                or
                collectively, the senior corporate officers. The senior executive
                officers, all of whom currently serve as our directors, are subject
                to the
                director service contracts that they have with the Company. Under
                the
                director service contracts, the directors, including the senior corporate
                officers, agree that each director owes a fiduciary and diligence
                obligation to the Company and that no director shall engage in any
                activities in competition with the Company’s business or carry any
                activities detrimental to the interests of the Company. Each of the
                directors, including the senior corporate officers, also agreed to
                perform
                their respective duties as directors and senior officers in accordance
                with the Company Law of the PRC, relevant rules and regulations
                promulgated by China Securities Regulatory Commission and the Mandatory
                Provisions of Articles of Association of Overseas Listed
                Companies.Each
                listed company CEO must certify to the NYSE each year that he or
                she is
                not aware of any violation by the company of NYSE corporate governance
                listing standards and he or she must promptly notify the NYSE on
                writing
                of any material non-compliance with any applicable provisions of
                Section
                303A.
            
            No
                similar requirements.




71




**ITEM
      11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
      RISK.**




The
      Group
      is subject to market risks due to fluctuations in interest rates. The majority
      of the Group’s borrowing is in the form of long-term fixed-rate and
      variable-rate debts with original maturities ranging from two to fifteen years.
      Fluctuations in interest rates can lead to significant fluctuations in the
      fair
      value of such debt instruments. From time to time, the Group may enter into
      interest rate swaps designed to mitigate exposure relating to interest rate
      risks. No such contract was outstanding as of December 31, 2006.




The
      Group
      is also exposed to foreign currency risk as a result of its aircraft and flight
      equipment being sourced from overseas suppliers. Specifically, the Group’s
      foreign currency exposure relates primarily to its foreign currency long-term
      debts used to finance such capital expenditures and its capital commitments.
      Subject to certain restrictive conditions imposed by the State Administration
      of
      Foreign Exchange, the Group may, from time to time, enter into forward foreign
      exchange contracts to mitigate its foreign currency exposures. No such contract
      was outstanding as of December 31, 2006.




As
      of
      December 31, 2006, the Group operated a total of 151 aircraft under operating
      and capital leases at rates that are substantially fixed. Such leases expose
      the
      Group to market risks; however, in accordance with Item 305 of Regulation S-K,
      such leases have been excluded from the following market risk tables.
      Commitments under operating and capital leases are disclosed in Note 28 to
      the
      Financial Statements.




The
      following table provides information regarding the Group’s material interest
      rate sensitive financial instruments as of December 31, 2006 and 2005:





**As
                  of December 31, 2006**
              
              **As
                  of December 31, 2005****Expected
                  maturity date****2007**
              
              **2008**
              
              **2009**
              
              **2010**
              
              **2011**
              
              **Thereafter**
              
              **Total**
                **recorded**
                **amount**
              
              **Fairvalue(2)**
              
              **Total**
                **recorded**
                **amount**
              
              **Fair
                  value(2)**DebtFixed-rate
                  notes payableIn
                  US$
              
              
              **430**
              
              
              **293**
              
              
              **257**
              
              
              **208**
              
              
              **90**
              
              
              **585**
              
              
              **1,863**
              
              
              **1,861**
              
              
              2,252
              
              
              2,464Average
                  interest rate
              
              
              **5.94**
              **%**
              
              **5.91**
              **%**
              
              **5.95**
              **%**
              
              **6.01**
              **%**
              
              **5.74**
              **%**
              
              **5.74**
              **%**
              
              ****Variable-rate
                  notes payableIn
                  US$
              
              
              **17,442**
              
              
              **6,414**
              
              
              **1,841**
              
              
              **432**
              
              
              **1,485**
              
              
              **1,886**
              
              
              **29,500**
              
              
              **29,500**
              
              
              15,327
              
              
              15,327Average
                  interest rate
              
              
              **5.85**
              **%**
              
              **5.77**
              **%**
              
              **5.70**
              **%**
              
              **5.11**
              **%**
              
              **5.71**
              **%**
              
              **5.53**
              **%**In
                  HKD
              
              
              **1,651**
              
              
              **4**
              
              
              **4**
              
              
              **4**
              
              
              **4**
              
              
              **-**
              
              
              **1,667**
              
              
              **1,667**
              
              
              3,327
              
              
              3,327Average
                  interest rate
              
              
              **4.34**
              **%**
              
              **-**
              
              
              **-**
              
              
              **-**
              
              
              **-**
              
              
              **-**In
                  RMB
              
              
              **532**
              
              
              **52**
              
              
              **122**
              
              
              **100**
              
              
              **-**
              
              
              **3**
              
              
              **809**
              
              
              **809**
              
              
              2,547
              
              
              2,547Average
                  interest rate
              
              
              **5.22**
              **%**
              
              **5.50**
              **%**
              
              **5.50**
              **%**
              
              **5.51**
              **%**
              
              **-**
              
              
              **-**




(1)
            These
                interest rates are calculated based on the year end
                indices.(2)
            Fair
                value of debt instruments was estimated based on the interest rates
                applicable to similar debt instruments as of December 31, 2006 and
                2005.




72




The
      following table provides information regarding the Group’s material foreign
      currency sensitive financial instruments and capital commitments as of December
      31, 2006 and 2005:




**As
                of December 31, 2006**
            
            **As
                of December 31, 2005****Expected
                maturity date****2007**
            
            **2008**
            
            **2009**
            
            **2010**
            
            **2011**
            
            **Thereafter**
            
            **Total**
              **recorded**
              **amount**
            
            **Fairvalue(2)**
            
            **Total**
              **recorded**
              **amount**
            
            **Fairvalue(2)**DebtFixed-rate
                notes payable In US$
            
            
            **430**
            
            
            **293**
            
            
            **257**
            
            
            **208**
            
            
            **90**
            
            
            **585**
            
            
            **1,863**
            
            
            **1,861**
            
            
            2,414
            
            
            2,440Average
                interest rate
            
            
            **5.94**
            **%**
            
            **5.91**
            **%**
            
            **5.95**
            **%**
            
            **6.01**
            **%**
            
            **5.74**
            **%**
            
            **5.74**
            **%**Variable-rate
                notes payable in US$
            
            
            **17,442**
            
            
            **6,414**
            
            
            **1,841**
            
            
            **432**
            
            
            **1,485**
            
            
            **1,886**
            
            
            **29,500**
            
            
            **29,500**
            
            
            23,474
            
            
            23,474Average
                interest rate
            
            
            **5.85**
            **%**
            
            **5.77**
            **%**
            
            **5.70**
            **%**
            
            **5.11**
            **%**
            
            **5.71**
            **%**
            
            **5.22**
            **%**In
                HKD
            
            
            **1,651**
            
            
            **4**
            
            
            **4**
            
            
            **4**
            
            
            **4**
            
            
            **-**
            
            
            **1,667**
            
            
            **1,667**
            
            
            1,895
            
            
            1,895Average
                interest rate
            
            
            **4.34**
            **%**
            
            **-**
            
            
            **-**
            
            
            **-**
            
            
            **-**
            
            
            **-**
            
            
            **-**Capital
                commitment in US$
            
            
            **12,299**
            
            
            **22,572**
            
            
            **17,483**
            
            
            **14,232**
            
            
            **295**
            
            
            **—**
            
            
            **66,881**
            
            
            **66,881**
            
            
            45,628
            
            
            45,628




(1)
            These
                interest rates are calculated based on the year end
                indices.(2)
            Fair
                value of debt instruments was estimated based on the floating interest
                rates applicable to similar debt instruments as of December 31, 2006
                and
                2005.




**ITEM
      12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES.**




Not
      applicable.




**PART
      II**




**ITEM
      13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES.**




None.




**ITEM
      14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF
      PROCEEDS.**




There
      were no material modifications affecting the rights of securities holders made
      during the fiscal year ended December 31, 2006.




**Use
      of Proceeds**




(1)
            
            Effective
                date of the Securities Act registration statement for which the use
                of
                proceeds information is being disclosed:July
                23, 1997.
              
              SEC
                file number assigned to such registration statement:
                333-7114.(2)
            
            The
                offering commenced on July 23, 1997.(3)
            
            The
                offering was not terminated prior to the sale of any securities registered
                under the registration statement.




(4)
            
            (i)
                The offering was not terminated prior to the sale of all securities
                registered under the registration
                statement.




73




(ii)
            
            Name
                of the managing underwriter: Goldman Sachs (Asia) L.L.C. (global
                coordinator).(iii)
            
            and
                (iv)




**Title
                        of each class of securities
                        registered**
              
              **Amount****registered(1)**
              
              **Aggregate**
                        **price
                          of**
                        **offering**
                        **amount**
                        **registered(2)**
              
              **Amount****sold(3)**
              
              **Aggregate**
                        **offering**
                        **price
                          of**
                        **amount**
                        **sold(4)**Ordinary
                  H Shares of par value RMB 1.00 per share represented by American
                  Depositary Shares
              
              
              861,823,000
                  shares
              
              
              US$528,469,864
              
              
              851,501,000
                  shares
              
              
              US$522,140,413




Notes:




(1)
            The
                amount does not include 322,677,000 H Shares (some of which in the
                form of
                ADSs) which have not been registered with the SEC, of which 290,477,000
                H
                Shares were sold to certain corporate investors in Hong Kong as part
                of
                the global offering of the Company in July 1997 and 32,200,000 H
                Shares
                were sold to certain limited partnership investment funds affiliated
                with
                Goldman, Sachs & Co. in a private placement in June 1997 prior to the
                Company’s global offering.






(2)
            Assumes
                that all H Shares were sold in the form of ADSs. The price to public
                for
                each ADS is US$30.66. Each ADS represents 50 H Shares.(3)
            The
                amount does not include 322,677,000 H Shares referred to in note
                (1)
                above.(4)
            The
                amount does not include US$197,865,536 which represents the proceeds
                from
                the sale of 322,677,000 H Shares referred to in note (1) above. If
                the
                latter amount is included, the aggregate amount of proceeds to the
                Company
                would be US$720,005,950. In addition, the aggregate amount is calculated
                on the assumption that all H Shares were sold in the form of ADSs.
                Based
                on the actual sale of H Shares and ADSs, the aggregate amount of
                proceeds
                to the Company was US$719,494,700. The issue price per H Share was
                HK$4.70.




(v)




Underwriting
                discounts and commissions
            
            US$
            36,593,000Finder’s
                fees
            
            
            —Expenses
                paid to or for underwriters
            
            US$
            2,958,000Other
                expenses
            
            US$
            21,411,000Total
                expenses
            
            US$
            60,962,000




Note:
            
            No
                direct or indirect payments were made to directors, officers, general
                partners of the Company or their associates, or to persons owning
                ten
                percent or more of any class of equity securities of the Company,
                or to
                affiliates of the Company. All payments were made to third
                parties.




(vi)
      Net
      offering proceeds to the Company after deducting the total expenses in item
      (4)(v) above:




US$658,532,700


Note:
            
            The
                amount is calculated on the basis of the actual aggregate amount
                of
                proceeds to the Company, and includes the proceeds from the sale
                of
                322,677,000 H Shares referred to in note (1) of item (4)(iv)
                above.




74




(vii)
      As
      of December 31, 2006, the net offering proceeds to the Company was used up
      as
      follows:




Construction
                of plant, building and facilities
            
            US$
            41.9
                millionPurchase
                and installation of machinery and equipment
            
            US$
            394.6
                millionPurchase
                of real estate
            
            
            —Acquisition
                of other business(es)
            
            
            —Repayment
                of indebtedness
            
            US$
            192.4
                millionWorking
                Capital
            
            US$
            29.6
                million




Note:
            
            No
                direct or indirect payments were made to directors, officers, general
                partners of the Company or their associates, or to persons owning
                ten
                percent or more of any class of equity securities of the Company,
                or to
                affiliates of the Company. All payments were made to third
                parties.




(viii)
      The uses of proceeds do not represent a material change in the use of proceeds
      described in the prospectus.




**PART
      III**




**ITEM
      15. CONTROLS AND PROCEDURES.**




*Disclosure
        controls and procedures*
  Our
        president and chief financial officer have evaluated the effectiveness of
        our
        disclosure controls and procedures (as defined in the Exchange Act Rules
        13a-15(e) or 15d-15(e)), and concluded that, based on their evaluation, our
        disclosure controls and procedures are effective as of the end of the period
        covered by this Annual Report to ensure that material information required
        to be
        included in this Annual Report would be made known to them by others on a
        timely
        basis.
  *Management’s
        annual report on internal control over financial reporting*
  Our
        management is responsible for establishing and maintaining adequate internal
        control over financial reporting.  The management of the Company has
        assessed the effectiveness of internal control over financial reporting based
        on
        the Internal Control - Integrated Framework issued by the Committee of
        Sponsoring Organizations of the Treadway Commission ("COSO").
  The major
        existing internal control deficiencies are  (1)  lack of
        independent risk management department; (2) lack of employee’s code of conduct
        handbook , and (3) lack of valuation standard for work performed
        by the Audit Committee and its members as of December 31, 2006. Our
        management, however, believes that none of these internal control deficiencies
        are identified as material weakness or has had a material effect on our
        financial condition or results of operations or caused our financial statements
        as of and for the year ended December 31, 2006 to contain a material
        misstatement.
  The
        management’s assessment of internal controls over financial reporting was not
        subject to auditor attestation as of December, 31 2006 pursuant to temporary
        rules of the Securities and Exchange Commission.  Accordingly, this Annual
        Report does not include an attestation report by our independent registered
        public accounting firm regarding internal control over financial
        reporting.
  *Changes
        in internal control over financial reporting*
  During
        the year ended December 31, 2006, there have been no changes in our internal
        control over financial reporting that have materially affected, or are
        reasonably likely to materially affect, our internal control over financial
        reporting.




**ITEM
      16. [RESERVED]**




**ITEM
      16A. AUDIT COMMITTEE FINANCIAL EXPERT.**




The
      Board
      of Directors has determined that Mr. Wei Ming Hai qualifies as an audit
      committee financial expert in accordance with the terms of Item 16. A of Form
      20-F. Mr. Hai satisfies as an “independent director” within the meaning of NYSE
      Manual Section 303A and meets the criteria for independence set forth in Section
      10A(m)(3) of the US Securities Exchange Act of 1934, as amended, or the Exchange
      Act, and Rule 10A-3under the Exchange Act. See
“Item 6 Directors, Senior Management and Employees — Directors and Senior
      Management”.




75


**ITEM
      16B. CODE OF ETHICS.**




As
      of the
      date of this Annual Report, the Company does not have, in form, a code of ethics
      that applies to the president, chief financial officer and principal accounting
      officer, or collectively, the senior corporate officers. The senior executive
      officers, all of whom currently serve as our Directors, are subject to the
      director service contracts that they have with the Company. Under the director
      service contracts, the Directors, including the senior corporate officers,
      agree
      that each Director owes a fiduciary and diligence obligation to the Company
      and
      that no such Director shall engage in any activities in competition with the
      Company’s business or carry out any activities detrimental to the interests of
      the Company. Each of the Directors, including the senior corporate officers,
      also agreed to perform their respective duties as directors and senior officers
      in accordance with the Company Law of the PRC, relevant rules and regulations
      promulgated by China Securities Regulatory Commission and the Mandatory
      Provisions of Articles of Association of Overseas Listed Companies.




**ITEM
      16C. PRINCIPAL ACCOUNTING FEES AND SERVICES.**




The
      following table sets forth the aggregate audit fees, audit-related fees, tax
      fees of the Company’s principal accountants and all other fees billed for
      products and services provided by the Company’s principal accountants other than
      the audit fees, audit-related fees and tax fees for each of the fiscal years
      2005 and 2006:


**Audit
                    Fees**
                
                **Audit-Related
                    Fees**
                
                **Tax
                    Fees**
                
                **Other
                    Fees**2005
                
                
                RMB13.9
                    million
                
                
                RMB5.8
                    million
                
                
                RMB0.11
                    million
                
                
                -2006
                
                
                RMB8.5
                    million
                
                
                RMB4.0
                    million
                
                
                RMB0.47
                    million
                
                
                RMB3.7
                    million




*Audit-related
      fees*




Review
                  of the Group’s 2006 interim financial report prepared under
                  IFRS.




*Tax
      fees*




Services
      provided primarily consist of tax compliance services.


*Other fees*
 Provison
                      ofSarbanes
                      Oxley Act of 2002advisory
                      services.
  Before
              our principal accountant were engaged by the Company or our subsidiaries
              to
              render the audit or non audit services, the engagements have been approved
              by
              our audit committee.


**ITEM
      16D. Exemptions from the Listing Standards for Audit
      Committee**




Not
      applicable.




**ITEM
      16E. PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED
      PURCHASERS.**




The
      Company and its affiliated companies have not purchased any issued common shares
      of the Company during 2006 and up to the date of this Annual Report.




**PART
      IV**




**ITEM
      17. FINANCIAL STATEMENTS.**




Not
      applicable.




**ITEM
      18. FINANCIAL STATEMENTS.**




76


**CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 ****
 **INDEX
          TO CONSOLIDATED FINANCIAL STATEMENTS**
  PageReport
                    of Independent Registered Public Accounting Firm
                
                F-1Consolidated
                    Statements of Operationsfor
                    the years ended December 31, 2004, 2005 and 2006
                
                F-2Consolidated
                    Balance Sheets as of December 31, 2005 and 2006
                
                F-3Consolidated
                    Statements of Changes in Shareholders’ Equityfor
                    the years ended December 31, 2004, 2005 and 2006
                
                F-5Consolidated
                    Statements of Cash Flowsfor
                    the years ended December 31, 2004, 2005 and 2006
                
                F-6Notes
                    to Consolidated Financial Statements
                
                F-8
 
 
  **REPORT
          OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM**
  The
          Board
          of Directors and Shareholders of
 China
          Southern Airlines Company Limited
 
 We
          have
          audited the accompanying consolidated balance sheets of China Southern
          Airlines
          Company Limited (the “Company”) and its subsidiaries (the “Group”) as of
          December 31, 2005 and 2006, and the related consolidated statements of
          operations, changes in shareholders’ equity and cash flows for each of the years
          in the three-year period ended December 31, 2006, all expressed in Renminbi.
          These consolidated financial statements are the responsibility of the Company’s
          management. Our responsibility is to express an opinion on these consolidated
          financial statements based on our audits.
 
 We
          conducted our audits in accordance with the standards of the Public Company
          Accounting Oversight Board (United States). Those standards require that
          we plan
          and perform the audit to obtain reasonable assurance about 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. We believe that our audits provide a
          reasonable basis for our opinion.
 
 In
          our
          opinion, the consolidated financial statements referred to above present
          fairly,
          in all material respects, the financial position of China Southern Airlines
          Company Limited and its subsidiaries as of December 31, 2005 and 2006,
          and the
          results of their operations and their cash flows for each of the years
          in the
          three-year period ended December 31, 2006 in conformity with International
          Financial Reporting Standards promulgated by the International Accounting
          Standards Board.
 
 International
          Financial Reporting Standards vary in certain significant respects from
          accounting principles generally accepted in the United States of America.
          Information relating to the nature and effect of such differences is presented
          in Note 51 to the consolidated financial statements.
  /s/
            KPMG
 Hong
          Kong, China
 April
            16,
            2007, except as to Note 44(a)(ii), (c) and (d), which are as of May 31,
            2007
  F-1
 
 **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **CONSOLIDATED
          STATEMENTS OF OPERATIONS**
 **For
          the years ended December 31, 2004, 2005 and 2006**
 
 **(Amounts
          in millions, except per share data)**
 **Note**
                    
                    **2004**
                    
                    **2005**
                    
                    **2006****RMB**
                    
                    **RMB**
                    
                    **RMB**(Note
                        45)Operating
                        revenueTraffic
                        revenue
                    
                    
                    3
                    
                    
                    23,344
                    
                    
                    37,419
                    
                    
                    45,087Other
                        operating revenue
                    
                    
                    3
                    
                    
                    630
                    
                    
                    874
                    
                    
                    1,132Total
                        operating revenue
                    
                    
                    
                    
                    
                    23,974
                    
                    
                    38,293
                    
                    
                    46,219Operating
                        expensesFlight
                        operations
                    
                    
                    4
                    
                    
                    10,418
                    
                    
                    19,394
                    
                    
                    24,667Maintenance
                    
                    
                    5
                    
                    
                    3,459
                    
                    
                    4,051
                    
                    
                    4,077Aircraft
                        and traffic servicing
                    
                    
                    6
                    
                    
                    3,503
                    
                    
                    5,759
                    
                    
                    6,219Promotion
                        and sales
                    
                    
                    7
                    
                    
                    1,940
                    
                    
                    2,780
                    
                    
                    2,811General
                        and administrative
                    
                    
                    8
                    
                    
                    1,323
                    
                    
                    2,457
                    
                    
                    3,140Depreciation
                        and amortization
                    
                    
                    9
                    
                    
                    2,413
                    
                    
                    4,905
                    
                    
                    4,966Others
                    
                    
                    
                    
                    
                    9
                    
                    
                    179
                    
                    
                    100Total
                        operating expenses
                    
                    
                    
                    
                    
                    23,065
                    
                    
                    39,525
                    
                    
                    45,980Operating
                        income/(loss)
                    
                    
                    
                    
                    
                    909
                    
                    
                    (1,232
                    )
                    
                    239Non-operating
                        income/(expenses)Interest
                        income
                    
                    
                    
                    
                    
                    22
                    
                    
                    55
                    
                    
                    41Interest
                        expense
                    
                    
                    11
                    
                    
                    (691
                    )
                    
                    (1,616
                    )
                    
                    (2,070
                    )Equity
                        income/(loss) of affiliated companies
                    
                    
                    22
                    
                    
                    10
                    
                    
                    (285
                    )
                    
                    5Equity
                        (loss)/income of jointlycontrolled
                        entities
                    
                    
                    23
                    
                    
                    (16
                    )
                    
                    36
                    
                    
                    115Loss
                        on derivative financial instruments, net
                    
                    
                    
                    
                    
                    -
                    
                    
                    -
                    
                    
                    (19
                    )(Loss)/gain
                        on sale of property,plant
                        and equipment
                    
                    
                    12
                    
                    
                    (1
                    )
                    
                    (32
                    )
                    
                    335Exchange
                        (loss)/gain, net
                    
                    
                    
                    
                    
                    (59
                    )
                    
                    1,220
                    
                    
                    1,492Others,
                        net
                    
                    
                    
                    
                    
                    46
                    
                    
                    74
                    
                    
                    146Total
                        net non-operating (expenses)/income
                    
                    
                    
                    
                    
                    (689
                    )
                    
                    (548
                    )
                    
                    45Income/(loss)
                        before taxation
                    
                    
                    
                    
                    
                    220
                    
                    
                    (1,780
                    )
                    
                    284Income
                        tax expense
                    
                    
                    13
                    
                    
                    (65
                    )
                    
                    (4
                    )
                    
                    (142
                    )Income/(loss)
                        for the year
                    
                    
                    
                    
                    
                    155
                    
                    
                    (1,784
                    )
                    
                    142Attributable
                        toEquity
                        shareholders of the Company
                    
                    
                    
                    
                    
                    (48
                    )
                    
                    (1,786
                    )
                    
                    126Minority
                        interests
                    
                    
                    
                    
                    
                    203
                    
                    
                    2
                    
                    
                    16Net
                        income/(loss)
                    
                    
                    
                    
                    
                    155
                    
                    
                    (1,784
                    )
                    
                    142(Loss)/earnings
                        per shareBasic
                    
                    
                    15
                    
                    
                    (0.01
                    )
                    
                    (0.41
                    )
                    
                    0.03Diluted
                    
                    
                    15
                    
                    
                    (0.01
                    )
                    
                    (0.41
                    )
                    
                    0.03
 See
          accompanying notes to consolidated financial statements.
  F-2
 
 **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **CONSOLIDATED
          BALANCE SHEETS**
 **As
          of December 31, 2005 and 2006**
 
 **(Amounts
          in millions)**
 
 **Note**
                    
                    **2005**
                    
                    **2006****RMB**
                    
                    **RMB**(Note
                        45)**ASSETS**CURRENT
                        ASSETSCash
                        and cash equivalents
                    
                    
                    16
                    
                    
                    2,901
                    
                    
                    2,264Trade
                        receivables
                    
                    
                    17
                    
                    
                    1,518
                    
                    
                    1,512Inventories
                    
                    
                    18
                    
                    
                    1,382
                    
                    
                    1,315Other
                        receivables
                    
                    
                    19
                    
                    
                    956
                    
                    
                    879Prepaid
                        expenses and other current assets
                    
                    
                    
                    
                    
                    380
                    
                    
                    585Amounts
                        due from related companies
                    
                    
                    30
                    
                    
                    84
                    
                    
                    128Total
                        current assets
                    
                    
                    
                    
                    
                    7,221
                    
                    
                    6,683NON-CURRENT
                        ASSETSProperty,
                        plant and equipment, net
                    
                    
                    20
                    
                    
                    54,339
                    
                    
                    56,347Construction
                        in progress
                    
                    
                    21
                    
                    
                    674
                    
                    
                    951Lease
                        prepayments
                    
                    
                    
                    
                    
                    333
                    
                    
                    441Interest
                        in affiliated companies
                    
                    
                    22
                    
                    
                    142
                    
                    
                    149Interest
                        in jointly controlled entities
                    
                    
                    23
                    
                    
                    805
                    
                    
                    870Other
                        investments in equity securities
                    
                    
                    24
                    
                    
                    320
                    
                    
                    330Lease
                        and equipment deposits
                    
                    
                    
                    
                    
                    7,265
                    
                    
                    9,458Deferred
                        tax assets
                    
                    
                    25
                    
                    
                    63
                    
                    
                    95Other
                        assets
                    
                    
                    26
                    
                    
                    302
                    
                    
                    260Total
                        non-current assets
                    
                    
                    
                    
                    
                    64,243
                    
                    
                    68,901TOTAL
                        ASSETS
                    
                    
                    
                    
                    
                    71,464
                    
                    
                    75,584**LIABILITIES
                        AND SHAREHOLDERS' EQUITY**CURRENT
                        LIABILITIESFinancial
                        liabilities
                    
                    
                    
                    
                    
                    -
                    
                    
                    26Notes
                        payable, including current installments of long-termnotes
                        payable
                    
                    
                    27
                    
                    
                    16,223
                    
                    
                    23,822Current
                        installments of obligations under capital leases
                    
                    
                    28
                    
                    
                    3,373
                    
                    
                    3,091Trade
                        and bills payables
                    
                    
                    29
                    
                    
                    3,929
                    
                    
                    1,909Sales
                        in advance of carriage
                    
                    
                    
                    
                    
                    1,413
                    
                    
                    1,436Taxes
                        payable
                    
                    
                    
                    
                    
                    28
                    
                    
                    126Amounts
                        due to related companies
                    
                    
                    30
                    
                    
                    116
                    
                    
                    254Accrued
                        expenses
                    
                    
                    31
                    
                    
                    4,250
                    
                    
                    4,942Other
                        liabilities
                    
                    
                    32
                    
                    
                    3,796
                    
                    
                    3,257Total
                        current liabilities
                    
                    
                    
                    
                    
                    33,128
                    
                    
                    38,863
 F-3
 
 **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **CONSOLIDATED
            BALANCE SHEETS - (Continued)**
 **As
          of December 31, 2005 and 2006**
 
 **(Amounts
          in millions)**
 
 **Note**
                  
                  **2005**
                  
                  **2006****RMB**
                  
                  **RMB**(Note
                      45)NON-CURRENT
                      LIABILITIESNotes
                      payable, excluding current installments
                  
                  
                  27
                  
                  
                  12,740
                  
                  
                  10,018Obligations
                      under capital leases, excludingcurrent
                      installments
                  
                  
                  28
                  
                  
                  12,459
                  
                  
                  12,307Provision
                      for major overhauls
                  
                  
                  33
                  
                  
                  301
                  
                  
                  805Provision
                      for early retirement benefits
                  
                  
                  34
                  
                  
                  -
                  
                  
                  306Deferred
                      tax liabilities
                  
                  
                  25
                  
                  
                  342
                  
                  
                  372Deferred
                      credits
                  
                  
                  
                  
                  
                  496
                  
                  
                  792Total
                      non-current liabilities
                  
                  
                  
                  
                  
                  26,338
                  
                  
                  24,600TOTAL
                      LIABILITIES
                  
                  
                  
                  
                  
                  59,466
                  
                  
                  63,463SHAREHOLDERS'
                      EQUITYEquity
                      attributable to equity shareholders of the Company
                  
                  
                  35,
                      36
                  
                  
                  10,062
                  
                  
                  10,188Minority
                      interests
                  
                  
                  
                  
                  
                  1,936
                  
                  
                  1,933Total
                      shareholders' equity
                  
                  
                  
                  
                  
                  11,998
                  
                  
                  12,121TOTAL
                      LIABILITIES AND TOTAL SHAREHOLDERS' EQUITY
                  
                  
                  
                  
                  
                  71,464
                  
                  
                  75,584
  See
          accompanying notes to consolidated financial statements.
  F-4
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **CONSOLIDATED
          STATEMENTS**
 **OF
          CHANGES IN SHAREHOLDERS’ EQUITY**
 **For
          the years ended December 31, 2004, 2005 and 2006**
 
 **(Amounts
          in millions)**
 **Attributable
                      to equity shareholders of the Company****Retained****earnings/****Share**
                  
                  **Share**
                  
                  **Other**
                  
                  **(accumulated**
                  
                  
                  
                  **Minority**
                  
                  **Total****capital**
                  
                  **premium**
                  
                  **reserves**
                  
                  **losses)**
                  
                  **Total**
                  
                  **interests**
                  
                  **equity****RMB**
                  
                  **RMB**
                  
                  **RMB**
                  
                  **RMB**
                  
                  **RMB**
                  
                  **RMB**
                  
                  **RMB***(Note)*At
                      January 1, 2004
                  
                  
                  4,374
                  
                  
                  5,325
                  
                  
                  611
                  
                  
                  1,586
                  
                  
                  11,896
                  
                  
                  1,673
                  
                  
                  13,569(Loss)/income
                      for the year
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  (48
                  )
                  
                  (48
                  )
                  
                  203
                  
                  
                  155Appropriations
                      to reserves
                  
                  
                  -
                  
                  
                  -
                  
                  
                  61
                  
                  
                  (61
                  )
                  
                  -
                  
                  
                  -
                  
                  
                  -Capital
                      contributions
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  -from
                      minority shareholders
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  71
                  
                  
                  71Distributions
                      to minority
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  -shareholders
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  (15
                  )
                  
                  (15
                  )Through
                      the CNA/XJAAcquisitions
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  123
                  
                  
                  123At
                      December 31, 2004
                  
                  
                  4,374
                  
                  
                  5,325
                  
                  
                  672
                  
                  
                  1,477
                  
                  
                  11,848
                  
                  
                  2,055
                  
                  
                  13,903(Loss)/income
                      for the year (Note 45)
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  (1,786
                  )
                  
                  (1,786
                  )
                  
                  2
                  
                  
                  (1,784
                  )Appropriations
                      to reserves
                  
                  
                  -
                  
                  
                  -
                  
                  
                  19
                  
                  
                  (19
                  )
                  
                  -
                  
                  
                  -
                  
                  
                  -Capital
                      contributionsfrom
                      minority shareholders
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  17
                  
                  
                  17Acquisition
                      of equity interestheld
                      by minority shareholders
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  (118
                  )
                  
                  (118
                  )Distributions
                      to minorityshareholders
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  (20
                  )
                  
                  (20
                  )At
                      December 31, 2005
                  
                  
                  4,374
                  
                  
                  5,325
                  
                  
                  691
                  
                  
                  (328
                  )
                  
                  10,062
                  
                  
                  1,936
                  
                  
                  11,998Income
                      for the year
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  126
                  
                  
                  126
                  
                  
                  16
                  
                  
                  142Appropriations
                      to reserves
                  
                  
                  -
                  
                  
                  -
                  
                  
                  41
                  
                  
                  (41
                  )
                  
                  -
                  
                  
                  -
                  
                  
                  -Acquisition
                      of equity interestheld
                      by minority shareholders
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  (12
                  )
                  
                  (12
                  )Distributions
                      to minorityshareholders
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  (7
                  )
                  
                  (7
                  )At
                      December 31, 2006
                  
                  
                  4,374
                  
                  
                  5,325
                  
                  
                  732
                  
                  
                  (243
                  )
                  
                  10,188
                  
                  
                  1,933
                  
                  
                  12,121
  See
            accompanying notes to consolidated financial statements.
 
 Note:
                Other
                    reserves represent statutory surplus reserve, statutory public
                    welfare
                    fund and discretionary surplus reserve. Details are set out in
                    Note
                    36.
 
 F-5
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **CONSOLIDATED
          STATEMENTS OF CASH FLOWS**
 **For
          the years ended December 31, 2004, 2005 and 2006**
 
 **(Amounts
          in millions)**
 **Note**
                    
                    **2004**
                    
                    **2005**
                    
                    **2006****RMB**
                    
                    **RMB**
                    
                    **RMB**(Note
                        45)Income/(loss)
                        before taxation
                    
                    
                    
                    
                    
                    220
                    
                    
                    (1,780
                    )
                    
                    284Adjustments
                        to reconcile income/(loss) before taxationto
                        cash inflows from operationsDepreciation
                        of property, plant and equipment
                    
                    
                    
                    
                    
                    2,363
                    
                    
                    4,885
                    
                    
                    4,994Other
                        amortization
                    
                    
                    
                    
                    
                    50
                    
                    
                    40
                    
                    
                    33Amortization
                        of deferred credits
                    
                    
                    
                    
                    
                    (4
                    )
                    
                    (78
                    )
                    
                    (61
                    )Equity
                        (loss)/income of affiliated companies
                    
                    
                    
                    
                    
                    (10
                    )
                    
                    285
                    
                    
                    (5
                    )Equity
                        income/(loss) of jointly controlled entities
                    
                    
                    
                    
                    
                    16
                    
                    
                    (36
                    )
                    
                    (115
                    )Loss/(gain)
                        on sale of property, plant and equipment
                    
                    
                    
                    
                    
                    1
                    
                    
                    32
                    
                    
                    (335
                    )Interest
                        income
                    
                    
                    
                    
                    
                    (22
                    )
                    
                    (55
                    )
                    
                    (41
                    )Interest
                        expense
                    
                    
                    
                    
                    
                    691
                    
                    
                    1,616
                    
                    
                    2,070Loss
                        on derivative financial instruments, net
                    
                    
                    
                    
                    
                    -
                    
                    
                    -
                    
                    
                    19Net
                        realized and unrealized gain on equity securitiesheld
                        for trading
                    
                    
                    
                    
                    
                    (15
                    )
                    
                    (6
                    )
                    
                    -Dividend
                        income from other investments in equity securities
                    
                    
                    
                    
                    
                    -
                    
                    
                    -
                    
                    
                    (7
                    )Non-cash
                        exchange loss/(gain), net
                    
                    
                    
                    
                    
                    20
                    
                    
                    (1,120
                    )
                    
                    (1,492
                    )(Increase)/decrease
                        in inventories
                    
                    
                    
                    
                    
                    (29
                    )
                    
                    46
                    
                    
                    95(Increase)/decrease
                        in trade receivables
                    
                    
                    
                    
                    
                    (218
                    )
                    
                    (315
                    )
                    
                    36(Increase)/decrease
                        in other receivables
                    
                    
                    
                    
                    
                    (166
                    )
                    
                    (236
                    )
                    
                    152Increase
                        in prepaid expenses and other current assets
                    
                    
                    
                    
                    
                    (31
                    )
                    
                    (2
                    )
                    
                    (205
                    )Increase
                        in deferred expenditure
                    
                    
                    
                    
                    
                    (2
                    )
                    
                    -
                    
                    
                    -(Decrease)/increase
                        in net amounts due from/(to)related
                        companies
                    
                    
                    
                    
                    
                    (586
                    )
                    
                    (493
                    )
                    
                    113(Decrease)/increase
                        in trade and bills payables
                    
                    
                    
                    
                    
                    (30
                    )
                    
                    2,239
                    
                    
                    (2,048
                    )Increase
                        in sales in advance of carriage
                    
                    
                    
                    
                    
                    408
                    
                    
                    539
                    
                    
                    23Increase/(decrease)
                        in accrued expenses
                    
                    
                    
                    
                    
                    541
                    
                    
                    (399
                    )
                    
                    568Increase/(decrease)
                        in other liabilities
                    
                    
                    
                    
                    
                    1,223
                    
                    
                    822
                    
                    
                    (247
                    )Increase
                        in provision for major overhauls
                    
                    
                    
                    
                    
                    113
                    
                    
                    17
                    
                    
                    504Increase
                        in provision for early retirement benefits
                    
                    
                    
                    
                    
                    -
                    
                    
                    -
                    
                    
                    306Cash
                        in flows from operations
                    
                    
                    
                    
                    
                    4,533
                    
                    
                    6,001
                    
                    
                    4,641Interest
                        received
                    
                    
                    
                    
                    
                    22
                    
                    
                    55
                    
                    
                    41Interest
                        paid
                    
                    
                    
                    
                    
                    (754
                    )
                    
                    (1,616
                    )
                    
                    (2,419
                    )Income
                        tax paid
                    
                    
                    
                    
                    
                    (227
                    )
                    
                    (23
                    )
                    
                    (46
                    )Net
                        cash inflows from operating activities
                    
                    
                    
                    
                    
                    3,574
                    
                    
                    4,417
                    
                    
                    2,217
  F-6
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **CONSOLIDATED
            STATEMENTS OF CASH FLOWS - (Continued)**
 **For
          the years ended December 31, 2004, 2005 and 2006**
 
 **(Amounts
          in millions)**
 **Note**
                    
                    **2004**
                    
                    **2005**
                    
                    **2006****RMB**
                    
                    **RMB**
                    
                    **RMB**(Note
                        45)Investing
                        activitiesProceeds
                        from sale of property, plant and equipment
                    
                    
                    
                    
                    
                    47
                    
                    
                    238
                    
                    
                    492Proceeds
                        from sale of other investments
                    
                    
                    
                    
                    
                    -
                    
                    
                    689
                    
                    
                    -Net
                        cash settlement of derivative financial instruments
                    
                    
                    
                    
                    
                    -
                    
                    
                    -
                    
                    
                    7Increase
                        in deferred credits
                    
                    
                    
                    
                    
                    -
                    
                    
                    57
                    
                    
                    -Dividends
                        received from affiliated companies
                    
                    
                    
                    
                    
                    12
                    
                    
                    2
                    
                    
                    33Dividends
                        received from jointly controlled entities
                    
                    
                    
                    
                    
                    5
                    
                    
                    39
                    
                    
                    50Dividends
                        received from other non-current assets
                    
                    
                    
                    
                    
                    -
                    
                    
                    4
                    
                    
                    7Dividends
                        received from equity securities held for trading
                    
                    
                    
                    
                    
                    13
                    
                    
                    -
                    
                    
                    -Decrease/(increase)
                        in other non-current assets
                    
                    
                    
                    
                    
                    (9
                    )
                    
                    4
                    
                    
                    16Payment
                        for the CNA/XJA Acquisitions
                    
                    
                    
                    
                    
                    -
                    
                    
                    (1,959
                    )
                    
                    -Payment
                        for acquisition of equity interest held byminority
                        shareholders
                    
                    
                    
                    
                    
                    -
                    
                    
                    (118
                    )
                    
                    (12
                    )Payment
                        of lease and equipment deposits
                    
                    
                    
                    
                    
                    (3,151
                    )
                    
                    (6,649
                    )
                    
                    (5,464
                    )Refund
                        of lease and equipment deposits
                    
                    
                    
                    
                    
                    1,253
                    
                    
                    4,619
                    
                    
                    2,031Capital
                        expenditures
                    
                    
                    
                    
                    
                    (6,631
                    )
                    
                    (5,473
                    )
                    
                    (2,566
                    )Purchase
                        of other investments
                    
                    
                    
                    
                    
                    (680
                    )
                    
                    -
                    
                    
                    -Investments
                        in affiliated companies
                    
                    
                    
                    
                    
                    (9
                    )
                    
                    -
                    
                    
                    (31
                    )Investments
                        in jointly controlled entities
                    
                    
                    
                    
                    
                    (72
                    )
                    
                    -
                    
                    
                    -Effect
                        of the CNA/XJA Acquisitions
                    
                    
                    40(b)
                    
                    
                    398
                    
                    
                    -
                    
                    
                    -Effect
                        of acquisition of CSAHC Hainan
                    
                    
                    40(c)
                    
                    
                    -
                    
                    
                    -
                    
                    
                    33Net
                        cash used in investing activities
                    
                    
                    
                    
                    
                    (8,824
                    )
                    
                    (8,547
                    )
                    
                    (5,404
                    )Net
                        cash outflows before financing activities
                    
                    
                    
                    
                    
                    (5,250
                    )
                    
                    (4,130
                    )
                    
                    (3,187
                    )Financing
                        activities:Proceeds
                        from notes payable
                    
                    
                    
                    
                    
                    14,555
                    
                    
                    18,238
                    
                    
                    24,983Repayment
                        of notes payable
                    
                    
                    
                    
                    
                    (7,108
                    )
                    
                    (12,193
                    )
                    
                    (19,113
                    )Repayment
                        of principal under capital lease obligations
                    
                    
                    
                    
                    
                    (1,272
                    )
                    
                    (2,050
                    )
                    
                    (3,313
                    )Capital
                        contributions received from minority shareholders
                    
                    
                    
                    
                    
                    71
                    
                    
                    17
                    
                    
                    -Dividends
                        paid to minority shareholders
                    
                    
                    
                    
                    
                    (15
                    )
                    
                    (20
                    )
                    
                    (7
                    )Net
                        cash inflows from financing activities
                    
                    
                    
                    
                    
                    6,231
                    
                    
                    3,992
                    
                    
                    2,550Increase/(decrease)
                        in cash and cash equivalents
                    
                    
                    
                    
                    
                    981
                    
                    
                    (138
                    )
                    
                    (637
                    )Cash
                        and cash equivalents at January 1
                    
                    
                    
                    
                    
                    2,080
                    
                    
                    3,083
                    
                    
                    2,901Effect
                        of foreign exchange rate changes
                    
                    
                    
                    
                    
                    22
                    
                    
                    (44
                    )
                    
                    -Cash
                        and cash equivalents at December 31
                    
                    
                    
                    
                    
                    3,083
                    
                    
                    2,901
                    
                    
                    2,264
  See
          accompanying notes to consolidated financial statements.
 
 F-7
 **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **1.
          BASIS OF PRESENTATION**
 
 China
          Southern Airlines Company Limited (the “Company”) and its subsidiaries (the
“Group”) are principally engaged in the provision of domestic, Hong Kong and
          Macau and international passenger, cargo and mail airline services.
 
 The
          Company was established in the People’s Republic of China (the “PRC” or “China”)
          on March 25, 1995 as a joint stock limited company as part of the reorganization
          (the “Reorganization”) of the Company’s holding company, China Southern Air
          Holding Company (“CSAHC”). CSAHC is a state-owned enterprise under the
          supervision of the PRC central government.
 
 The
          Company’s H Shares and American Depositary Shares (“ADS”) (each ADS representing
          50 H Shares) have been listed on The Stock Exchange of Hong Kong Limited
          and the
          New York Stock Exchange, respectively since July 1997. In July 2003, the
          Company
          issued 1,000,000,000 A Shares which are listed on the Shanghai Stock
          Exchange.
 
 **2.
          PRINCIPAL ACCOUNTING POLICIES**
 
 **(a)
          Statement of compliance**
 
 These
          consolidated financial statements have been prepared in accordance with
          all
          applicable International Financial Reporting Standards (“IFRSs”), which
          collective term includes all applicable individual International Financial
          Reporting Standards, International Accounting Standards (“IASs”) and
          Interpretations promulgated by the International Accounting Standards Board
          (the
“IASB”).
 
 The
          IASB
          has issued certain new and revised IFRSs that are first effective or available
          for early adoption for the current accounting period of the Group and the
          Company. The following summarizes the accounting policies of the Group
          after
          these developments to the extent that they are relevant to the Group.
 
 Information
          relating to the nature and effect of the significant differences between
          IFRSs
          and accounting principles generally accepted in the United States of America
          (‘‘U.S. GAAP’’) are set forth in Note 51.
  F-8
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **(b)
          Basis of preparation of the consolidated financial statements**
 
 At
          December 31, 2006, the Group’s current liabilities exceeded its current assets
          by RMB32,180, which includes current installments of notes payable of RMB23,822.
          In preparing the consolidated financial statements, the directors have
          considered the Group’s sources of liquidity and believe that adequate funding is
          available to fulfill the Group’s short term obligations and capital expenditure
          requirements. Accordingly, the consolidated financial statements have been
          prepared on a basis that the Group will be able to continue as a going
          concern.
          Further details are set out in Note 41(a).
 
 The
          consolidated financial statements for the year ended December 31, 2006
          comprise
          the Company and its subsidiaries and the Group’s interest in affiliated
          companies and jointly controlled entities.
 
 The
          measurement basis used in the preparation of the consolidated financial
          statements is the historical cost basis except that the following assets
          and
          liabilities are stated at their fair value as explained in the accounting
          policies set out below:
  ·
                  Certain
                      property, plant and equipment (Note 2(h));
  ·
                  Certain
                      assets held under capital leases (Note 2(j)); and
  ·
                  Derivative
                      financial instruments (Note
                      2(g)).
 
 The
          preparation of the consolidated financial statements in conformity with
          IFRSs
          requires management to make judgments, estimates and assumptions that affect
          the
          application of policies and reported amounts of assets and liabilities,
          income
          and expenses. The estimates and associated assumptions are based on historical
          experience and various other factors that are believed to be reasonable
          under
          the circumstances, the results of which form the basis of making the judgments
          about carrying values of assets and liabilities that are not readily apparent
          from other sources. Actual results may differ from these estimates.
 
 The
          estimates and underlying assumptions are reviewed on an ongoing basis.
          Revisions
          to accounting estimates are recognized in the period in which the estimate
          is
          revised if the revision affects only that period, or in the period of the
          revision and future periods if the revision affects both current and future
          periods.
 
 Judgments
          made by management in the application of IFRSs that have significant effect
          on
          the consolidated financial statements and estimates with a significant
          risk of
          material adjustment in the next year are discussed in Note 47.
  F-9
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **(c)
          Subsidiaries and minority interests**
 
 Subsidiaries
          are entities controlled by the Group. Control exists when the Group has
          the
          power to govern the financial and operating policies of an entity so as
          to
          obtain benefits from its activities. In assessing control, potential voting
          rights that presently are exercisable are taken into account.
 
 An
          investment in a subsidiary is consolidated into the consolidated financial
          statements from the date that control commences until the date that control
          ceases. Intra-group balances and transactions and any unrealized income
          arising
          from intra-group transactions are eliminated in full in preparing the
          consolidated financial statements. Unrealized losses resulting from intra-group
          transactions are eliminated in the same way as unrealized gains but only
          to the
          extent that there is no evidence of impairment.
 
 Minority
          interests represent the portion of the net assets of subsidiaries attributable
          to interests that are not owned by the Company, whether directly or indirectly
          through subsidiaries, and in respect of which the Group has not agreed
          any
          additional terms with the holders of those interests which would result
          in the
          Group as a whole having a contractual obligation in respect of those interests
          that meets the definition of a financial liability. Minority interests
          are
          presented in the consolidated balance sheet within equity, separately from
          equity attributable to the equity shareholders of the Company. Minority
          interests in the results of the Group are presented on the face of the
          consolidated statement of operations as an allocation of the total income
          or
          loss for the year between minority interests and the equity shareholders
          of the
          Company.
 
 Where
          losses applicable to the minority exceed the minority’s interest in the equity
          of a subsidiary, the excess, and any further losses applicable to the minority,
          are charged against the Group’s interest except to the extent that the minority
          has a binding obligation to, and is able to, make additional investment
          to cover
          the losses. If the subsidiary subsequently reports income, the Group’s interest
          is allocated all such income until the minority’s share of losses previously
          absorbed by the Group has been recovered.
 
 Loans
          from holders of minority interests and other contractual obligations towards
          these holders are presented as financial liabilities in the consolidated
          balance
          sheet in accordance with Notes 2(o) or (p) depending on the nature of the
          liability.
 
 **(d)
          Affiliated companies and jointly controlled entities**
 
 An
          affiliated company is an entity in which the Group or the Company has
          significant influence, but not control or joint control, over its management,
          including participation in the financial and operating policies.
 
 A
          jointly
          controlled entity is an entity which operates under a contractual arrangement
          between the Group or Company and other parties, where the contractual
          arrangement establishes that the Group or Company and one or more of the
          other
          parties share joint control over the economic activities of the
          entity.
  F-10
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
              TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 An
          investment in an affiliated company or a jointly controlled entity is accounted
          for in the consolidated financial statements under the equity method and
          is
          initially recorded at cost and adjusted thereafter for the post acquisition
          change in the Group’s share of the affiliated company’s or the jointly
          controlled entity’s net assets. The consolidated statement of operations
          includes the Group’s share of the post-acquisition, post-tax results of the
          affiliated companies and jointly controlled entities for the year, including
          any
          impairment loss on goodwill relating to the investment in affiliated companies
          and jointly controlled entities recognized for the year (Notes 2(e) and
          (l)).
 
 When
          the
          Group’s share of losses exceeds its interest in the affiliated company or the
          jointly controlled entity, the Group’s interest is reduced to nil and
          recognition of further losses is discontinued except to the extent that
          the
          Group has incurred legal or constructive obligations or made payments on
          behalf
          of the affiliated company or the jointly controlled entity. For this purpose,
          the Group’s interest in the affiliated company or the jointly controlled entity
          is the carrying amount of the investment under the equity method together
          with
          the Group’s long-term interests that in substance form part of the Group’s net
          investment in the affiliated company or the jointly controlled
          entity.
 
 Unrealized
          income and losses arising from transactions between the Group and its affiliated
          company and jointly controlled entities are eliminated to the extent of
          the
          Group’s interest in the affiliated company or jointly controlled entity, except
          where unrealized losses provide evidence of an impairment of the asset
          transferred, in which case they are recognized immediately in income or
          loss.
  **(e)
          Goodwill**
 
 Goodwill
          represents the excess of the cost of a business combination or an investment
          in
          an affiliated company or a jointly controlled entity over the Group’s interest
          in the net fair value of the acquiree’s identifiable assets, liabilities and
          contingent liabilities.
 
 Goodwill
          is stated at cost less accumulated impairment losses. Goodwill is allocated
          to
          cash-generating units and is tested annually for impairment (Note 2(l)).
          In
          respect of affiliated companies or jointly controlled entities, the carrying
          amount of goodwill is included in the carrying amount of the interest in
          the
          affiliated company or jointly controlled entity.
 
 Any
          excess of the Group’s interest in the net fair value of the acquiree’s
          identifiable assets, liabilities and contingent liabilities over the cost
          of a
          business combination or an investment in an affiliated company or a jointly
          controlled entity is recognized immediately in income or loss.
 
 On
          disposal of a cash generating unit, an affiliated company or a jointly
          controlled entity during the year, any attributable amount of purchased
          goodwill
          is included in the calculation of the gain or loss on disposal.
  F-11
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **(f)
          Other investments in equity securities**
 
 The
          policy for investments in equity securities, other than investments in
          subsidiaries, affiliated companies and jointly controlled entities, are
          as
          follows:
 
 Investments
          in equity securities are initially stated at cost, which is their transaction
          price unless fair value can be more reliably estimated using valuation
          techniques whose variables include only data from observable markets. Cost
          includes attributable transaction costs.
 
 The
          Group’s other investments in equity securities represent unlisted equity
          securities of companies established in the PRC. They do not have a quoted
          market
          price in an active market and whose fair value cannot be reliably measured.
          Accordingly, they are recognized in the balance sheet at cost less impairment
          losses (Note 2(l)).
 
 Investments
          are recognized / derecognized on the date the Group commits to purchase
          / sell
          the investments or they expire.
 
 **(g)
          Derivative financial instruments**
 
 Derivative
          financial instruments are recognized at fair value. At each balance sheet
          date
          the fair value is remeasured. The gain or loss on remeasurement to fair
          value is
          charged immediately to income or loss.
 
 **(h)
          Property, plant and equipment**
 
 Items
          of
          property, plant and equipment are initially stated at cost, less accumulated
          depreciation and impairment losses (Note 2(l)). The cost of an item of
          property,
          plant and equipment comprises its purchase price and any directly attributable
          costs of bringing the asset to working condition and location for its intended
          use and the initial estimate, where relevant, of the costs of dismantling
          and
          removing the items and restoring the site on which they are located.
 
 Subsequent
          to the revaluation of the Group’s property, plant and equipment as at December
          31, 1996 (Note 20(b)), which was based on depreciated replacement costs,
          certain
          of the Group’s property, plant and equipment are carried at revalued amount,
          being the fair value at the date of the revaluation less any subsequent
          accumulated depreciation.
 
 Revaluations
          are performed with sufficient regularity to ensure that the carrying amount
          of
          these assets does not differ materially from that which would be determined
          using fair value at the balance sheet date.
  F-12
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  Changes
          arising on the revaluation of property, plant and equipment are generally
          dealt
          with in reserves. The only exceptions are as follows:
 
 ·  When
            a
            deficit arises on revaluation, it will be charged to income or loss to
            the
            extent that it exceeds the amount held in the reserve in respect of that
            same
            asset immediately prior to the revaluation; and
 
 ·  When
            a
            surplus arises on revaluation, it will be credited to income or loss
            to the
            extent that a deficit on revaluation in respect of that same asset had
            previously been charged to income or loss.
 
 The
          cost
          of self-constructed items of property, plant and equipment includes the
          cost of
          materials, the initial estimate, where relevant, of the costs of dismantling
          and
          removing the items and restoring the site on which they are located, and
          an
          appropriate proportion of production overheads and borrowing costs (Note
          2(y)).
 
 Gains
          or
          losses arising from the retirement or disposal of an item of property,
          plant and
          equipment are determined as the difference between the net disposal proceeds
          and
          the carrying amount of the item and are recognized in income or loss on
          the date
          of retirement or disposal. Any related revaluation surplus is transferred
          from
          the revaluation reserve to retained earnings.
 
 Depreciation
          is calculated to write off the cost or valuation of items of property,
          plant and
          equipment, less their estimated residual value, if any, using the straight
          line
          method over their estimated useful lives as follows:
 Buildings
                    15
                        to 40 yearsOwned
                        and leased aircraft
                    15
                        to 20 yearsOther
                        flight equipmentJet
                        engines
                    15
                        to 20 yearsOthers,
                        including rotable spares
                    8
                        to 15 yearsMachinery
                        and equipment
                    5
                        to 10 yearsVehicles
                    6
                        years
 
 Where
          parts of an item of property, plant and equipment have different useful
          lives,
          the cost or valuation of the item is allocated on a reasonable basis between
          the
          parts and each part is depreciated separately. Both the useful life of
          an asset
          and its residual value, if any, are reviewed annually.
  F-13
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **(i)
          Construction in progress**
 
 Construction
          in progress represents office buildings, various infrastructure projects
          under
          construction and equipment pending installation, and is stated at cost
          less
          impairment losses (Note 2(l)). Capitalisation of these costs ceases and
          the
          construction in progress is transferred to property, plant and equipment
          when
          the asset is substantially ready for its intended use, notwithstanding
          any delay
          in the issue of the relevant commissioning certificates by the relevant
          PRC
          authorities.
 
 No
          depreciation is provided in respect of construction in progress.
 
 **(j)
          Leased assets**
 
 An
          arrangement, comprising a transaction or a series of transactions, is or
          contains a lease if the Group determines that the arrangement conveys a
          right to
          use a specific asset or assets for an agreed period of time in return for
          a
          payment or a series of payments. Such a determination is made based on
          an
          evaluation of the substance of the arrangement and is regardless of whether
          the
          arrangement takes the legal form of a lease.
 
 (i)
          Classification of assets leased to the Group
 
 Assets
          that are held by the Group under leases which transfer to the Group
          substantially all the risks and rewards of ownership are classified as
          being
          held under capital leases. Leases which do not transfer substantially all
          the
          risks and rewards of ownership to the Group are classified as operating
          leases,
          except for land held for own use under an operating lease, the fair value
          of
          which cannot be measured separately from the fair value of a building situated
          thereon at the inception of the lease, is accounted for as being under
          a capital
          lease, unless the building is also clearly held under an operating lease.
          For
          these purposes, the inception of the lease is the time that the lease was
          first
          entered into by the Group, or taken over from the previous lessee.
  (ii)
          Assets acquired under capital leases
 
 Where
          the
          Group acquires the use of assets under capital leases, the amounts representing
          the fair value of the leased asset, or, if lower, the present value of
          the
          minimum lease payments, of such assets are included in property, plant
          and
          equipment and the corresponding liabilities, net of finance charges, are
          recorded as obligations under capital leases. Depreciation is provided
          at rates
          which write off the cost or valuation of the assets over the term of the
          relevant lease or, where it is likely the Group will obtain ownership of
          the
          asset, the life of the asset, as set out in Note 2(h). Impairment losses
          are
          accounted for in accordance with the accounting policy as set out in Note
          2(l).
          Finance charges implicit in the lease payments are charged to income or
          loss
          over the period of the leases so as to produce an approximately constant
          periodic rate of charge on the remaining balance of the obligations for
          each
          accounting period.
  F-14
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  (iii)
          Operating lease charges
 
 Where
          the
          Group has the use of assets held under operating leases, payments made
          under the
          leases are charged to income or loss in equal instalments over the accounting
          periods covered by the lease term, except where an alternative basis is
          more
          representative of the pattern of benefits to be derived from the leased
          asset.
          Lease incentives received are recognized in income or loss as an integral
          part
          of the aggregate net lease payments made.
 
 The
          cost
          of acquiring land held under operating lease is amortized on a straight-line
          basis over the respective periods of lease terms which ranged from 30 to
          70
          years.
 
 (iv)
          Sale
          and leaseback transactions
 
 Gains
          or
          losses on sale and leaseback transactions which result in capital leases
          are
          deferred and amortized over the terms of the related leases. Gains or losses
          on
          other aircraft sale and leaseback transactions which result in operating
          leases
          are recognized immediately if the transactions are established at fair
          value.
          Any difference between the sales price and the fair value is deferred and
          amortized over the period the assets are expected to be used.
 
 **(k)
          Deferred expenditure**
 
 Custom
          duties and other direct costs in relation to modifying, introducing and
          certifying certain operating leased aircraft are deferred and amortized
          over the
          terms of the related leases.
 
 Lump
          sum
          housing benefits payable to employees of the Group are deferred and amortized
          on
          a straight line basis over a period of 10 years, which represents the benefit
          vesting period of the employees.
 
 Deferred
          expenditure is stated at cost less impairment losses (Note 2(l)).
 
 **(l)
          Impairment of assets**
 
 (i)
          Impairment of investments in equity securities and other
          receivables
 
 Investments
          in equity securities and other current and non-current receivables that
          are
          stated at cost or amortized cost are reviewed at each balance sheet date
          to
          determine whether there is objective evidence of impairment. If any such
          evidence exists, any impairment loss is determined and recognized as
          follows:
 · For
            unquoted equity securities carried at cost, the impairment loss is measured
            as
            the difference between the carrying amount of the financial asset and
            the
            estimated future cash flows, discounted at the current market rate of
            return for
            a similar financial asset where the effect of discounting is material.
            Impairment losses for equity securities are not reversed.
 
 F-15
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
              TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  · For
            trade
            and other current receivables and other financial assets carried at amortized
            cost, the impairment loss is measured as the difference between the asset’s
            carrying amount and the present value of estimated future cash flows,
            discounted
            at the financial asset’s original effective interest rate (i.e. the effective
            interest rate computed at initial recognition of these assets), where
            the effect
            of discounting is material
 
 If
          in a
          subsequent period the amount of an impairment loss decreases and the decrease
          can be linked objectively to an event occurring after the impairment loss
          was
          recognized, the impairment loss is reversed through income or loss. A reversal
          of an impairment loss shall not result in the asset’s carrying amount exceeding
          that which would have been determined had no impairment loss been recognized
          in
          prior years.
 
 (ii)
          Impairment of other assets
 
 Internal
          and external sources of information are reviewed at each balance sheet
          date to
          identify indications that the following assets may be impaired or, except
          in the
          case of goodwill, an impairment loss previously recognized no longer exists
          or
          may have decreased:
  ·
                  Property,
                      plant and equipment carried at cost less accumulated
                      depreciation;
 ·
                  Construction
                      in progress;
 ·
                  Lease
                      and equipment deposits;
 ·
                  Lease
                      prepayments;
 ·
                  Deferred
                      expenditure;
 ·
                  Investments
                      in subsidiaries, affiliated companies and jointly controlled
                      entities;
                      and
 ·
                  Goodwill.
 
 If
          any
          such indication exists, the asset’s recoverable amount is estimated. For
          goodwill, the recoverable amount is estimated annually whether or not there
          is
          any indication of impairment.
 ·
                  Calculation
                      of recoverable amount
 
 The
          recoverable amount of an asset is the greater of its net selling price
          and the
          value in use. In assessing value in use, the estimated future cash flows
          are
          discounted to their present value using a pre-tax discount rate that reflects
          current market assessments of time value of money and the risks specific
          to the
          asset. Where an asset does not generate cash inflows largely independent
          of
          those from other assets, the recoverable amount is determined for the smallest
          group of assets that generates cash inflows independently (i.e. a
          cash-generating unit).
  F-16
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  ·
                  Recognition
                      of impairment losses
 
 An
          impairment loss is recognized in income or loss whenever the carrying amount
          of
          an asset, or the cash-generating unit to which it belongs, exceeds its
          recoverable amount. Impairment losses recognized in respect of cash-generating
          units are allocated first to reduce the carrying amount of any goodwill
          allocated to the cash-generating unit (or group of units) and then, to
          reduce
          the carrying amount of the other assets in the unit (or group of units)
          on a pro
          rata basis, except that the carrying value of an asset will not be reduced
          below
          its individual fair value less costs to sell, or value in use, if
          determinable.
 ·
                  Reversals
                      of impairment losses
 
 In
          respect of assets other than goodwill, an impairment loss is reversed if
          there
          has been a favourable change in the estimates used to determine the recoverable
          amount. An impairment loss in respect of goodwill is not reversed.
 
 A
          reversal of an impairment loss is limited to the asset’s carrying amount that
          would have been determined had no impairment loss been recognized in prior
          years. Reversals of impairment losses are credited to income or loss in
          the year
          in which the reversals are recognized.
 
 **(m)
          Inventories**
 
 Inventories,
          which consist primarily of expendable spare parts and supplies, are stated
          at
          cost less any applicable provision for obsolescence, and are charged to
          income
          or loss when used in operations. Cost represents the average unit cost.
 
 Inventories
          held for disposal are carried at the lower of cost and net realisable value.
          Net
          realisable value is the estimated selling price in the ordinary course
          of
          business less the estimated costs of completion and the estimated costs
          necessary to make the sale.
  **(n)
          Trade and other receivables**
 
 Trade
          and
          other receivables are initially recognized at fair value and thereafter
          stated
          at amortized cost less impairment losses for bad and doubtful debts (Note
          2(l)),
          except where the effect of discounting would be immaterial. In such cases,
          the
          receivables are stated at cost less impairment losses for bad and doubtful
          debts
          (Note 2(l)).
 
 **(o)
          Interest-bearing borrowings**
 
 Interest-bearing
          borrowings are recognized initially at fair value less attributable transaction
          costs. Subsequent to initial recognition, interest-bearing borrowings are
          stated
          at amortized cost with any difference between the amount initially recognized
          and redemption value being recognized in income or loss over the period
          of the
          borrowings, together with any interest and fees payable, using the effective
          interest method.
  F-17
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **(p)
          Trade and other payables**
 
 Trade
          and
          other payables are initially recognized at fair value and thereafter stated
          at
          amortized cost unless the effect of discounting would be immaterial, in
          which
          case they are stated at cost.
 
 **(q)
          Cash and cash equivalents**
 
 Cash
          and
          cash equivalents comprise cash at bank and on hand, demand deposits with
          banks
          and other financial institutions having been within three months of maturity
          at
          acquisition. Bank overdrafts that are repayable on demand and form an integral
          part of the Group’s cash management are also included as a component of cash and
          cash equivalents for the purpose of the consolidated statement of cash
          flows.
 
 **(r)
          Financial guarantees issued, provisions and contingent
          liabilities**
 
 (i)
          Financial guarantees issued
 
 Financial
          guarantees are contracts that require the issuer (i.e. the guarantor) to
          make
          specified payments to reimburse the beneficiary of the guarantee (the “holder”)
          for a loss the holder incurs because a specified debtor fails to make payment
          when due in accordance with the terms of a debt instrument.
 
 Where
          the
          Group issues a financial guarantee, the fair value of the guarantee (being
          the
          transaction price, unless the fair value can otherwise be reliably estimated)
          is
          initially recognized as deferred income within trade and other payables.
          Where
          consideration is received or receivable for the issuance of the guarantee,
          the
          consideration is recognized in accordance with the Group’s policies applicable
          to that category of asset. Where no such consideration is received or
          receivable, an immediate expense is recognized in income or loss on initial
          recognition of any deferred income.
 
 The
          amount of the guarantee initially recognized as deferred income is amortized
          in
          income or loss over the term of the guarantee as income from financial
          guarantees issued. In addition, provisions are recognized in accordance
          with
          note 2(r)(ii) if and when (i) it becomes probable that the holder of the
          guarantee will call upon the Group under the guarantee, and (ii) the amount
          of
          that claim on the Group is expected to exceed the amount currently carried
          in
          trade and other payables in respect of that guarantee i.e. the amount initially
          recognized, less accumulated amortization.
 
 (ii)
          Provisions and contingent liabilities
 
 Provisions
          are recognized for liabilities of uncertain timing or amount when the Group
          or
          the Company has a present legal or constructive obligation as a result
          of a past
          event, and it is probable that an outflow of economic benefits will be
          required
          to settle the obligations and a reliable estimate can be made. Where the
          time
          value of money is material, provisions are stated at the present value
          of the
          expenditures expected to settle the obligation.
  F-18
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
              TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 Where
          it
          is not probable that an outflow of economic benefits will be required,
          or the
          amount cannot be estimated reliably, the obligation is disclosed as a contingent
          liability, unless the probability of outflow of economic benefits is remote.
          Possible obligations, whose existence will only be confirmed by the occurrence
          or non-occurrence of one or more future events are also disclosed as contingent
          liabilities unless the probability of outflow of economic benefits is
          remote.
  **(s)
          Defeasance of long-term liabilities**
 
 Where
          long-term liabilities have been defeased by the placement of security deposits,
          those liabilities and deposits (and income and charge arising therefrom)
          are
          netted off in order to reflect the overall commercial effect of the
          arrangements. Such netting off has been effected where a right is held
          by the
          Group to insist on net settlement of the liability and deposit including
          in all
          situations of default and where that right is assured beyond doubt.
 
 **(t)
          Deferred credits**
 
 In
          connection with the acquisitions or operating leases of certain aircraft
          and
          engines, the Group receives various credits. Such credits are deferred
          until the
          aircraft and engines are delivered, at which time they are either applied
          as a
          reduction of the cost of acquiring the aircraft and engines, resulting
          in a
          reduction of future depreciation, or amortized as a reduction of rental
          expense
          for aircraft and engines under operating leases.
 
 **(u)
          Income tax**
 
 Income
          tax for the year comprises current and movements in deferred tax assets
          and
          liabilities. Current tax and movements in deferred tax assets and liabilities
          are recognized in income or loss except to the extent that they relate
          to items
          recognized directly in equity, in which case they are recognized in
          equity.
 
 Current
          tax is the expected tax payable on the taxable income for the year, using
          tax
          rates enacted or substantively enacted at the balance sheet date, and any
          adjustment to tax payable in respect of previous years.
 
 Deferred
          tax assets and liabilities arise from deductible and taxable temporary
          differences respectively, being the differences between the carrying amounts
          of
          assets and liabilities for financial reporting purposes and their tax bases.
          Deferred tax assets also arise from unused tax losses and unused tax
          credits.
  F-19
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  Apart
          from certain limited exceptions, all deferred tax liabilities, and all
          deferred
          tax assets to the extent that it is probable that future taxable income
          will be
          available against which the asset can be utilized, are recognized. Future
          taxable income that may support the recognition of deferred tax assets
          arising
          from deductible temporary differences include those that will arise from
          the
          reversal of existing taxable temporary differences, provided those differences
          relate to the same taxation authority and the same taxable entity, and
          are
          expected to reverse either in the same period as the expected reversal
          of the
          deductible temporary difference or in periods into which a tax loss arising
          from
          the deferred tax asset can be carried back or forward. The same criteria
          are
          adopted when determining whether existing taxable temporary differences
          support
          the recognition of deferred tax assets arising from unused tax losses and
          credits, that is, those differences are taken into account if they relate
          to the
          same taxation authority and the same taxable entity, and are expected to
          reverse
          in a period, or periods, in which the tax loss or credit can be
          utilized.
 
 The
          limited exception to the recognition of deferred tax assets and liabilities
          are
          those temporary differences arising from goodwill not deductible for tax
          purposes, the initial recognition of assets or liabilities that affect
          neither
          accounting nor taxable income (provided they are not part of a business
          combination), and temporary differences relating to investments in subsidiaries
          to the extent that, in the case of taxable differences, the Group controls
          the
          timing of the reversal and it is probable that the differences will not
          reverse
          in the foreseeable future, or in the case of deductible differences, unless
          it
          is probable that they will reverse in the future.
 
 The
          amount of deferred tax recognized is measured based on the expected manner
          of
          realisation or settlement of the carrying amount of the assets and liabilities,
          using tax rates enacted or substantively enacted at the balance sheet date.
          Deferred tax assets and liabilities are not discounted.
 
 The
          carrying amount of a deferred tax asset is reviewed at each balance sheet
          date
          and is reduced to the extent that it is no longer probable that sufficient
          taxable income will be available to allow the related tax benefit to be
          utilized. Any such reduction is reversed to the extent that it becomes
          probable
          that sufficient taxable income will be available.
 
 Current
          tax balances and deferred tax balances, and movements therein, are presented
          separately from each other and are not offset. Current tax assets are offset
          against current tax liabilities, and deferred tax assets against deferred
          tax
          liabilities, if the Company or the Group has the legally enforceable right
          to
          set off current tax assets against current tax liabilities and the following
          additional conditions are met:
 ·
                  in
                      the case of current tax assets and liabilities, the Company
                      or the Group
                      intends either to settle on a net basis, or to realise the
                      asset and
                      settle the liability simultaneously;
                      or
  F-20
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
              TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  ·
 
 -
                  the
                      same taxable entity; or
 
 -
                  different
                      taxable entities, which, in each future period in which significant
                      amounts of deferred tax liabilities or assets are expected
                      to be settled
                      or recovered, intend to realise the current tax assets and
                      settle the
                      current tax liabilities on a net basis or realise and settle
                      simultaneously.
 
 **(v)
          Revenue recognition**
 
 Provided
          it is probable that the economic benefits will flow to the Group and the
          revenue
          and costs, if applicable, can be measured reliably, revenue is recognized
          in
          income or loss as follows:
 
 (i)
          Passenger, cargo and mail revenues are recognized when the transportation
          is
          provided. Ticket sales for transportation not yet provided are included
          in
          current liabilities as sales in advance of carriage. Revenues from
          airline-related business are recognized when services are rendered. Revenue
          is
          stated net of sales tax.
 
 (ii)
          Rental income receivable under operating leases is recognized in income
          or loss
          in equal instalments over the periods covered by the lease term, except
          where an
          alternative basis is more representative of the pattern of benefits to
          be
          derived from the use of the leased asset. Lease incentives granted are
          recognized in income or loss as an integral part of the aggregate net lease
          payments receivables.
  (iii)
          Dividend income is recognized when the shareholder’s right to receive payment is
          established.
 
 (iv)
            Government grants are recognized in the balance sheet initially when
            there is
            reasonable assurance that they will be received and that the Group will
            comply
            with the conditions attaching to them. Grants that compensate the Group
            for
            expenses incurred are recognized as revenue in income or loss on a systematic
            basis in the same periods in which the expenses are incurred. Grants
            that
            compensate the Group for the cost of an asset are deducted in arriving
            at the
            carrying amount of the asset and consequently are recognized in income
            or loss
            over the useful life of the asset.
  (v)
            Interest income is recognized as it accrues using the effective interest
            method.
 
 **(w)
          Traffic commissions**
 
 Traffic
          commissions are expensed in income or loss when the transportation is provided
          and the related revenue is recognized. Traffic commissions for transportation
          not yet provided are recorded on the balance sheet as a prepaid
          expense.
  F-21
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **(x)
          Maintenance and overhaul costs**
 
 Routine
          maintenance, repairs and overhauls are charged to income or loss as and
          when
          incurred.
 
 In
          respect of owned and capital leased aircraft, components within the aircraft
          subject to replacement during major overhauls are depreciated over the
          average
          expected life between major overhauls. When each major overhaul is performed,
          its cost is recognized in the carrying amount of property, plant and equipment
          and is depreciated over the estimated period between major overhauls. Any
          remaining carrying amount of cost of previous major overhaul is derecognized
          and
          charged to income or loss.
 
 In
          respect of aircraft held under operating leases, the Group has responsibility
          to
          fulfil certain return conditions under relevant lease agreements. In order
          to
          fulfil these return conditions, major overhauls are required to be conducted
          on
          a regular basis. Accordingly, estimated costs of major overhauls are accrued
          and
          charged to income or loss over the estimated period between overhauls.
          After the
          aircraft has completed its last overhaul cycle prior to being returned,
          expected
          cost of overhaul to be incurred at the end of the lease is estimated and
          accrued
          over the remaining period of the lease. Differences between the estimated
          costs
          and the actual costs of overhauls are charged to income or loss in the
          period
          when the overhaul is performed.
 
 **(y)
          Borrowing costs**
 
 Borrowing
          costs are expensed in income or loss in the period in which they are incurred,
          except to the extent that they are capitalized as being directly attributable
          to
          the acquisition or construction of an asset which necessarily takes a
          substantial period of time to get ready for its intended use.
 
 The
          capitalization of borrowing costs as part of the cost of a qualifying asset
          commences when expenditure for the asset is being incurred, borrowing costs
          are
          being incurred and activities that are necessary to prepare the asset for
          its
          intended use are in progress. Capitalization of borrowing costs is suspended
          or
          ceases when substantially all the activities necessary to prepare the qualifying
          asset for its intended use are interrupted or complete.
 
 **(z)
          Short term employee benefits and contributions to defined contribution
          retirement schemes**
 
 Salaries,
          annual bonuses and contributions to defined contribution retirement schemes
          are
          accrued in the year in which the associated services are rendered by employees.
          Where payment or settlement is deferred and the effect would be material,
          these
          amounts are stated at their present values.
  F-22
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **(aa)
          Termination benefits**
 
 Termination
          benefits are recognized when, and only when, the group demonstrably commits
          itself to terminate employment or to provide benefits as a result of voluntary
          redundancy by having a detailed formal plan which is without realistic
          possibility of withdrawal.
 
 **(bb)
          Frequent flyer award programmes**
 
 The
          Group
          maintains two frequent flyer award programmes, namely, the China Southern
          Airlines Sky Pearl Club and the Egret Mileage Plus, which provide travel
          awards
          to members based on accumulated mileage. The estimated incremental cost
          to
          provide free travel is recognized as an expense and accrued as a current
          liability as members accumulate mileage. As members redeem awards or their
          entitlements expire, the incremental cost liability is reduced accordingly
          to
          reflect the acquittal of the outstanding obligations.
 
 Revenue
          from mileage sales to third parties under the frequent flyer award programmes
          is
          recognized when the related transportation services are provided.
 
 **(cc)
          Translation of foreign currencies**
 
 Foreign
          currencies transactions during the year are translated into Renminbi at
          the
          applicable rates of exchange quoted by the PBOC prevailing on the transaction
          dates. Monetary assets and liabilities denominated in foreign currencies
          are
          translated into Renminbi at the PBOC exchange rates prevailing on the balance
          sheet date. Exchange gains and losses are recognized in income or loss.
 
 Non-monetary
          assets and liabilities that are measured in terms of historical cost in
          a
          foreign currency are translated into Renminbi at the PBOC exchange rates
          prevailing on the transaction dates. Non-monetary assets and liabilities
          denominated in foreign currencies that are stated at fair value are translated
          into Renminbi at the PBOC exchange rates prevailing on the dates the fair
          value
          was determined.
 
 **(dd)
          Related parties**
 
 For
          the
          purposes of these consolidated financial statements, a party is considered
          to be
          related to the Group if:
 
 (i)
          the
          party has the ability, directly or indirectly through one or more
          intermediaries, to control the Group or exercise significant influence
          over the
          Group in making financial and operating policy decisions, or has joint
          control
          over the Group;
 
 (ii)
          the
          Group and the party are subject to common control;
 
 (iii)
          the
          party is an affiliated company of the Group or a joint venture in which
          the
          Group is a venturer;
  F-23
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
              TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 (iv)
          the
          party is a member of key management personnel of the Group or the Group’s
          parent, or a close family member of such an individual, or is an entity
          under
          the control, joint control or significant influence of such
          individuals;
 
 (v)
          the
          party is a close family member of a party referred in (i) or is an entity
          under
          the control, joint control or significant influence of such individuals;
          or
 
 (vi)
          the
          party is a post-employment benefit plan which is for the benefit of employees
          of
          the Group or of any entity that is a related party of the Group.
 
 Close
          family members of an individual are those family members who may be expected
          to
          influence, or be influenced by, that individual in their dealings with
          the
          entity.
 
 **(ee)
          Segmental reporting**
 
 A
          segment
          is a distinguishable component of the Group that is engaged either in providing
          products or services (business segment), or in providing products or services
          within a particular economic environment (geographical segment), which
          is
          subject to risks and rewards that are different from those of other
          segments.
 
 In
          accordance with the Group’s internal financial reporting system, the Group has
          chosen business segment information as the primary reporting format and
          geographical segment information as the secondary reporting format for
          the
          purposes of these consolidated financial statements.
  F-24
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
              TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 **3.
          TURNOVER**
  Turnover
          comprises revenues from airline and airline-related business and is stated
          net
          of sales tax. An analysis of turnover is as follows:
 **Year
                        ended December 31,****2004**
                    
                    **2005**
                    
                    **2006****RMB**
                    
                    **RMB**
                    
                    **RMB**Traffic
                        revenuePassenger
                    
                    
                    21,100
                    
                    
                    34,328
                    
                    
                    41,549Cargo
                        and mail
                    
                    
                    2,244
                    
                    
                    3,091
                    
                    
                    3,53823,344
                    
                    
                    37,419
                    
                    
                    45,087Other
                        operating revenueCommission
                        income
                    
                    
                    203
                    
                    
                    237
                    
                    
                    238General
                        aviation income
                    
                    
                    55
                    
                    
                    77
                    
                    
                    91Ground
                        services income
                    
                    
                    146
                    
                    
                    195
                    
                    
                    184Air
                        catering income
                    
                    
                    53
                    
                    
                    25
                    
                    
                    50Rental
                        income
                    
                    
                    45
                    
                    
                    69
                    
                    
                    107Aircraft
                        lease income
                    
                    
                    11
                    
                    
                    1
                    
                    
                    -Others
                    
                    
                    117
                    
                    
                    270
                    
                    
                    462630
                    
                    
                    874
                    
                    
                    1,13223,974
                    
                    
                    38,293
                    
                    
                    46,219
 Pursuant
          to various sales tax rules and regulations, the Group is required to pay
          sales
          tax to national and local tax authorities at the rate of approximately
          3% of the
          traffic revenue in respect of domestic flights and outbound international,
          Hong
          Kong and Macau flights. Sales tax incurred by the Group during the years
          ended
          December 31, 2004, 2005 and 2006, netted off against revenue, amounted
          to RMB
          716, RMB1,111 and RMB1,300, respectively.
  F-25
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **4.
          FLIGHT OPERATIONS EXPENSES**
 **Year
                      ended December 31,****2004**
                  
                  **2005**
                  
                  **2006****RMB**
                  
                  **RMB**
                  
                  **RMB**Jet
                      fuel costs
                  
                  
                  6,050
                  
                  
                  11,929
                  
                  
                  16,193Operating
                      lease rentals-
                      Aircraft and flight equipment
                  
                  
                  1,665
                  
                  
                  2,497
                  
                  
                  3,027-
                      Land and buildings
                  
                  
                  109
                  
                  
                  302
                  
                  
                  260Air
                      catering expenses
                  
                  
                  705
                  
                  
                  1,196
                  
                  
                  1,244Aircraft
                      insurance
                  
                  
                  185
                  
                  
                  283
                  
                  
                  274Flight
                      personnel payroll and welfare
                  
                  
                  1,026
                  
                  
                  1,619
                  
                  
                  1,714Training
                      expenses
                  
                  
                  183
                  
                  
                  373
                  
                  
                  419CAAC
                      Infrastructure DevelopmentFund
                      contributions
                  
                  
                  466
                  
                  
                  978
                  
                  
                  1,127Others
                  
                  
                  29
                  
                  
                  217
                  
                  
                  40910,418
                  
                  
                  19,394
                  
                  
                  24,667
 
 **5.
          MAINTENANCE EXPENSES**
 **Year
                      ended December 31,****2004**
                  
                  **2005**
                  
                  **2006****RMB**
                  
                  **RMB**
                  
                  **RMB**Repairing
                      and maintenance charges (Note 45)
                  
                  
                  3,247
                  
                  
                  3,615
                  
                  
                  3,663Maintenance
                      materials
                  
                  
                  212
                  
                  
                  436
                  
                  
                  4143,459
                  
                  
                  4,051
                  
                  
                  4,077
  **6.
          AIRCRAFT AND TRAFFIC SERVICING EXPENSES**
 **Year
                      ended December 31,****2004**
                  
                  **2005**
                  
                  **2006****RMB**
                  
                  **RMB**
                  
                  **RMB**Landing
                      and navigation fees
                  
                  
                  3,222
                  
                  
                  4,891
                  
                  
                  5,220Ground
                      service charges
                  
                  
                  281
                  
                  
                  868
                  
                  
                  9993,503
                  
                  
                  5,759
                  
                  
                  6,219
  F-26
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **7.
          PROMOTION AND SALES EXPENSES**
 **Year
                      ended December 31,****2004**
                  
                  **2005**
                  
                  **2006****RMB**
                  
                  **RMB**
                  
                  **RMB**Sales
                      commissions
                  
                  
                  1,062
                  
                  
                  1,503
                  
                  
                  1,489Ticket
                      office expenses
                  
                  
                  552
                  
                  
                  659
                  
                  
                  689Computer
                      reservation services
                  
                  
                  233
                  
                  
                  417
                  
                  
                  439Advertising
                      and promotion
                  
                  
                  36
                  
                  
                  32
                  
                  
                  43Others
                  
                  
                  57
                  
                  
                  169
                  
                  
                  1511,940
                  
                  
                  2,780
                  
                  
                  2,811
  **8.
          GENERAL AND ADMINISTRATIVE EXPENSES**
 **Year
                        ended December 31,****2004**
                    
                    **2005**
                    
                    **2006****RMB**
                    
                    **RMB**
                    
                    **RMB**General
                        corporate expenses
                    
                    
                    1,260
                    
                    
                    2,408
                    
                    
                    3,098Impairment
                          losses for trade and other receivables
                    
                    
                    27
                    
                    
                    -
                    
                    
                    -Auditors'
                        remuneration
                    
                    
                    11
                    
                    
                    12
                    
                    
                    13Other
                        taxes and levies
                    
                    
                    25
                    
                    
                    37
                    
                    
                    291,323
                    
                    
                    2,457
                    
                    
                    3,140
  F-27
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **9.
          DEPRECIATION AND AMORTIZATION**
 **Year
                      ended December 31,****2004**
                  
                  **2005**
                  
                  **2006****RMB**
                  
                  **RMB**
                  
                  **RMB**Depreciation
                      (Note 45)-
                      Owned assets
                  
                  
                  1,891
                  
                  
                  3,459
                  
                  
                  3,657-
                      Assets acquired under capital leases
                  
                  
                  472
                  
                  
                  1,426
                  
                  
                  1,337Amortization
                      of deferred credits
                  
                  
                  -
                  
                  
                  (20
                  )
                  
                  (61
                  )Other
                      amortization
                  
                  
                  50
                  
                  
                  40
                  
                  
                  332,413
                  
                  
                  4,905
                  
                  
                  4,966
  **10.
          STAFF COSTS**
 **Year
                      ended December 31,****2004**
                  
                  **2005**
                  
                  **2006****RMB**
                  
                  **RMB**
                  
                  **RMB**Salaries,
                      wages and welfare
                  
                  
                  2,260
                  
                  
                  3,515
                  
                  
                  3,854Retirement
                      schemes contributions
                  
                  
                  168
                  
                  
                  472
                  
                  
                  584Early
                      retirement benefits (Note 34)
                  
                  
                  -
                  
                  
                  -
                  
                  
                  3922,428
                  
                  
                  3,987
                  
                  
                  4,830
 Staff
          costs relating to flight operations, maintenance, aircraft and traffic
          servicing, promotion and sales and general and administrative expenses
          are also
          included in the respective total amounts disclosed separately in Notes
          4 to 8
          above.
  F-28
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
              TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **11.
          INTEREST EXPENSE**
 **Year
                        ended December 31,****2004**
                    
                    **2005**
                    
                    **2006****RMB**
                    
                    **RMB**
                    
                    **RMB**Interest
                        on bank and other notes payable whollyrepayable
                        within five years
                    
                    
                    221
                    
                    
                    995
                    
                    
                    1,675Interest
                        on other notes payable
                    
                    
                    156
                    
                    
                    93
                    
                    
                    138Finance
                        charges on obligations under capital leases
                    
                    
                    348
                    
                    
                    626
                    
                    
                    716Less:
                        borrowing costs capitalized
                    
                    
                    (34
                    )
                    
                    (98
                    )
                    
                    (459
                    )691
                    
                    
                    1,616
                    
                    
                    2,070
  The
          borrowing costs have been capitalized at rates ranging from 1.51% to 3.48%
          per
          annum, 4.14% to 5.27% per annum and 5.29% to 5.61% per annum for the years
          ended
          December 31, 2004, 2005 and 2006, respectively.
 
 **12.
          (LOSS)/GAIN ON SALE OF PROPERTY, PLANT AND EQUIPMENT, NET**
 **Year
                      ended December 31,****2004**
                  
                  **2005**
                  
                  **2006****RMB**
                  
                  **RMB**
                  
                  **RMB**Aircraft
                      and spare engines
                  
                  
                  -
                  
                  
                  -
                  
                  
                  329Other
                      property, plant and equipment
                  
                  
                  (1
                  )
                  
                  (32
                  )
                  
                  6(1
                  )
                  
                  (32
                  )
                  
                  335
 
 During
          the year, the Group recognized a RMB329 gain on sale of three Boeing 757-200
          aircraft to independent third parties, being the excess of the sale proceeds
          over the carrying amounts of the assets and related selling costs.
 
 F-29
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
              TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **13.
          INCOME TAX EXPENSE**
 
 (a)
          Income tax expense in the consolidated statement of operations
 **Year
                      ended December 31,****2004**
                  
                  **2005**
                  
                  **2006****RMB**
                  
                  **RMB**
                  
                  **RMB**PRC
                      income tax-
                      provision for the year
                  
                  
                  176
                  
                  
                  12
                  
                  
                  160-
                      over-provision in prior year
                  
                  
                  -
                  
                  
                  -
                  
                  
                  (16
                  )176
                  
                  
                  12
                  
                  
                  144Deferred
                      tax (Notes 25, 45)
                  
                  
                  (111
                  )
                  
                  (8
                  )
                  
                  (2
                  )65
                  
                  
                  4
                  
                  
                  142
 The
          statutory income tax rate in the PRC is 33%.
 
 The
          Company is taxed at the preferential rate of 15%, 15% and 18% during the
          years
          ended December 31, 2004, 2005 and 2006, except for certain branches which
          are
          taxed at following rates:
 2006
                    
                    
                    15%
                        or 33%2005
                    
                    
                    33%2004
                    
                    
                    33%
  The
          subsidiaries of the Group are taxed at rates ranging from 15% to 33%.
 
 F-30
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
              TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  (b)
          Reconciliation between tax expense and accounting income/(loss) at applicable
          tax rates
 **Year
                        ended December 31,****2004**
                    
                    **2005**
                    
                    **2006****RMB**
                    
                    **RMB**
                    
                    **RMB**Income/(loss)
                        before tax
                    
                    220
                    
                    (1,780)
                    
                    284Expected
                        tax on income/(loss) before tax, calculatedat
                        15%, 15% and 18% for the years endedDecember
                        2004, 2005 and 2006 respectively
                    
                    
                    33
                    
                    
                    (267
                    )
                    
                    51Adjustments
                        for tax effect of:Rate
                        differential on subsidiaries/branches
                    
                    
                    3
                    
                    
                    7
                    
                    
                    (20
                    )Non-deductible
                        expensesSalaries
                        and welfare
                    
                    
                    25
                    
                    
                    71
                    
                    
                    114Other
                    
                    
                    4
                    
                    
                    11
                    
                    
                    17Non-taxable
                        income
                    
                    
                    -
                    
                    
                    (8
                    )
                    
                    -Change
                        in tax rate of the Company and itscertain
                        branches from 15% to 18%
                    
                    
                    -
                    
                    
                    -
                    
                    
                    (21
                    )Share
                        of results of affiliated companiesand
                        jointly controlled entities
                    
                    
                    (1
                    )
                    
                    37
                    
                    
                    (22
                    )Unutilised
                        tax losses
                    
                    
                    -
                    
                    
                    135
                    
                    
                    39Over-provision
                        in prior year
                    
                    
                    -
                    
                    
                    -
                    
                    
                    (16
                    )Others
                    
                    
                    1
                    
                    
                    18
                    
                    
                    -Actual
                        tax expense
                    
                    
                    65
                    
                    
                    4
                    
                    
                    142
 
 All
          but
          an insignificant amount of income/(loss) before taxation is from domestic
          sources.
 
 **14.
          DIVIDENDS**
 
 No
          interim dividend was paid during the years ended December 31, 2004, 2005
          and
          2006.
 
 The
          board
          of directors of the Company does not recommend the payment of a final dividend
          in respect of the year ended December 31, 2006. No final dividend was paid
          in
          respect of the years ended December 31, 2004 and 2005.
 
 **15.
          (LOSS)/EARNINGS PER SHARE**
 
 The
          calculation of basic (loss)/earnings per share for the years ended December
          31,
          2004, 2005 and 2006 is based on the (loss)/earnings attributable to equity
          shareholders of the Company of RMB(48), RMB(1,786) and RMB126, respectively,
          and
          the weighted average number of shares in issue of 4,374,000,000 in each
          of the
          three years.
 
 The
          amounts of diluted (loss)/earnings per share are the same as basic
          (loss)/earnings per share as there were no dilutive potential ordinary
          shares in
          existence during the years ended December 31, 2004, 2005 and 2006.
 
 F-31
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **16.
          CASH AND CASH EQUIVALENTS**
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Deposits
                      with banks
                  
                  
                  23
                  
                  
                  26Cash
                      at bank and in hand
                  
                  
                  2,878
                  
                  
                  2,2382,901
                  
                  
                  2,264
  Southern
          Airlines Group Finance Company Limited (“SA Finance”) is a PRC authorized
          financial institution controlled by CSAHC and is an affiliated company
          of the
          Group. In accordance with the financial agreement dated May 22, 1997 and
          subsequently revised on December 31, 2004 between the Company and SA Finance,
          all the Group’s deposits accepted by SA Finance were simultaneously placed with
          several designated major PRC banks by SA Finance. As of December 31, 2005
          and
          2006, the Group’s deposits with SA Finance amounted to RMB544 and RMB629,
          respectively (Note 37(d)).
 
 Included
          in cash and cash equivalents are the following amounts denominated in a
          currency
          other than the functional currency of the entity to which they
          relate:
 **December
                      31,****2005**
                  
                  **2006**United
                      States Dollars
                  US$24
                  
                  US$16Japanese
                      Yen
                  JPY1,161
                  
                  JPY1,006
  **17.
          TRADE RECEIVABLES**
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Trade
                      receivables
                  
                  
                  1,562
                  
                  
                  1,552Less:
                      Impairment losses for bad and doubtful accounts
                  
                  
                  (44
                  )
                  
                  (40
                  )1,518
                  
                  
                  1,512
 
 Credit
          terms granted by the Group to sales agents and other customers generally
          range
          from one to three months. An ageing analysis of trade receivables, net
          of
          impairment losses for bad and doubtful accounts, is set out below:
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Within
                      1 month
                  
                  
                  1,366
                  
                  
                  1,355More
                      than 1 month but less than 3 months
                  
                  
                  137
                  
                  
                  131More
                      than 3 months but less than 12 months
                  
                  
                  14
                  
                  
                  24More
                      than 12 months
                  
                  
                  1
                  
                  
                  21,518
                  
                  
                  1,512
  F-32
 
 **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
   As
            of
            December 31, 2005 and 2006, the Group had an amount due from a fellow
            subsidiary
            of RMB42 and RMBNil, respectively, which was included in trade
            receivables.
 
 All
            of
            the trade receivables are expected to be recovered within one
            year.
 
 Included
            in trade receivables are the following amounts denominated in a currency
            other
            than the functional currency of the entity to which they
            relate:
 **December
                      31,****2005**
                  
                  **2006**United
                      States Dollars
                  US$15
                  
                  US$19
  Movements
          in impairment losses for bad and doubtful accounts comprise:
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**At
                      January 1
                  
                  
                  92
                  
                  
                  44Bad
                      and doubtful accounts written off
                  
                  
                  (48
                  )
                  
                  (4
                  )At
                      December 31
                  
                  
                  44
                  
                  
                  40
  F-33
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
              TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **18.
          INVENTORIES**
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Expendable
                      spare parts and maintenance materials
                  
                  
                  1,241
                  
                  
                  1,236Other
                      supplies
                  
                  
                  141
                  
                  
                  791,382
                  
                  
                  1,315
  The
          analysis of the amount of inventories recognized as an expense is as
          follows:
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Consumption
                  
                  
                  720
                  
                  
                  694Write-down
                      of inventories
                  
                  
                  209
                  
                  
                  161929
                  
                  
                  855
  Inventories
          were written down as a result of a plan to phase out certain old model
          aircraft
          in the coming years.
 
 **19.
          OTHER RECEIVABLES**
 **December
                        31,****2005**
                    
                    **2006****RMB**
                    
                    **RMB**Manufacturers'
                        credit
                    
                    
                    417
                    
                    
                    448Amount
                            due from Zhangyuan Airlines Company Limited ("Zhongyuan
                            Airlines")
                    
                    
                    98
                    
                    
                    -Deposit
                        and prepayment
                    
                    
                    65
                    
                    
                    85Others
                    
                    
                    376
                    
                    
                    346956
                    
                    
                    879
  The
          amount due from Zhongyuan Airlines of RMB98 at December 31, 2005 was fully
          settled during 2006 by a transfer of certain properties of Zhongyuan Airlines
          to
          the Group.
  F-34
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
              TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 
 **20.
          PROPERTY, PLANT AND EQUIPMENT, NET**
 **Aircraft****Held**
                        **under
                          capital**
                    
                    **Other
                            flight**
                          **equipment,**
                          **including**
                          **rotable**
                    
                    **Machinery,**
                            **equipment**
                            **and****Buildings**
                    
                    **Owned**
                    
                    **leases**
                    
                    **spares**
                    
                    **vehicles**
                    
                    **Total****RMB**
                    
                    **RMB**
                    
                    **RMB**
                    
                    **RMB**
                    
                    **RMB**
                    
                    **RMB****Cost
                      or valuation:**At
                        January 1, 2005
                    
                    
                    6,988
                    
                    
                    27,134
                    
                    
                    14,529
                    
                    
                    9,044
                    
                    
                    2,599
                    
                    
                    60,294Exchange
                      adjustments
                    
                    
                    (6
                    )
                    
                    -
                    
                    
                    -
                    
                    
                    -
                    
                    
                    (14
                    )
                    
                    (20
                    )Additions
                    
                    
                    64
                    
                    
                    1,937
                    
                    
                    8,494
                    
                    
                    1,416
                    
                    
                    307
                    
                    
                    12,218Transfer
                        from construction in
                        progress
                    
                    
                    513
                    
                    
                    -
                    
                    
                    -
                    
                    
                    -
                    
                    
                    56
                    
                    
                    569Transfer
                      to inventories
                    
                    
                    -
                    
                    
                    -
                    
                    
                    -
                    
                    
                    (126
                    )
                    
                    -
                    
                    
                    (126
                    )Disposals
                    
                    
                    (256
                    )
                    
                    (66
                    )
                    
                    (314
                    )
                    
                    (287
                    )
                    
                    (81
                    )
                    
                    (1,004
                    )At
                      December 31, 2005
                    
                    
                    7,303
                    
                    
                    29,005
                    
                    
                    22,709
                    
                    
                    10,047
                    
                    
                    2,867
                    
                    
                    71,931Representing:Cost
                    
                    
                    6,948
                    
                    
                    22,776
                    
                    
                    18,369
                    
                    
                    7,873
                    
                    
                    2,383
                    
                    
                    58,349Valuation
                      - 1996 (Note (b))
                    
                    
                    355
                    
                    
                    6,229
                    
                    
                    4,340
                    
                    
                    2,174
                    
                    
                    484
                    
                    
                    13,5827,303
                    
                    
                    29,005
                    
                    
                    22,709
                    
                    
                    10,047
                    
                    
                    2,867
                    
                    
                    71,931At
                      January 1, 2006
                    
                    
                    7,303
                    
                    
                    29,005
                    
                    
                    22,709
                    
                    
                    10,047
                    
                    
                    2,867
                    
                    
                    71,931Additions
                    
                    
                    -
                    
                    
                    1,476
                    
                    
                    4,487
                    
                    
                    769
                    
                    
                    339
                    
                    
                    7,071Transfer
                        from construction in
                        progress
                    
                    
                    516
                    
                    
                    -
                    
                    
                    96
                    
                    
                    12
                    
                    
                    46
                    
                    
                    670Acquired
                        from CSAHC Hainan
                        (Note 40(c))
                    
                    
                    34
                    
                    
                    39
                    
                    
                    -
                    
                    
                    41
                    
                    
                    17
                    
                    
                    131Reclassification
                        on exercise of
                        purchase option
                    
                    
                    -
                    
                    
                    3,273
                    
                    
                    (3,273
                    )
                    
                    -
                    
                    
                    -
                    
                    
                    -Reclassification
                    
                    
                    (172
                    )
                    
                    -
                    
                    
                    -
                    
                    
                    -
                    
                    
                    172
                    
                    
                    -Disposals
                    
                    
                    (780
                    )
                    
                    (580
                    )
                    
                    (204
                    )
                    
                    (575
                    )
                    
                    (133
                    )
                    
                    (2,272
                    )At
                      December 31, 2006
                    
                    
                    6,901
                    
                    
                    33,213
                    
                    
                    23,815
                    
                    
                    10,294
                    
                    
                    3,308
                    
                    
                    77,531Representing:Cost
                    
                    
                    6,546
                    
                    
                    27,420
                    
                    
                    19,475
                    
                    
                    8,120
                    
                    
                    2,824
                    
                    
                    64,385Valuation
                      - 1996 (Note (b))
                    
                    
                    355
                    
                    
                    5,793
                    
                    
                    4,340
                    
                    
                    2,174
                    
                    
                    484
                    
                    
                    13,1466,901
                    
                    
                    33,213
                    
                    
                    23,815
                    
                    
                    10,294
                    
                    
                    3,308
                    
                    
                    77,531
 F-35
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
              TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **Aircraft****Buildings**
                    
                    **Owned**
                    
                    **Held**
                          **under
                            capital**
                          **leases**
                    
                    **Other
                              flight**
                            **equipment,**
                            **including**
                            **rotable**
                            **spares**
                    
                    **Machinery,**
                            **equipment**
                            **and**
                            **vehicles**
                    
                    **Total****RMB**
                    
                    **RMB**
                    
                    **RMB**
                    
                    **RMB**
                    
                    **RMB**
                    
                    **RMB****Accumulated
                      depreciation:**At
                      January 1, 2005
                    
                    
                    757
                    
                    
                    4,331
                    
                    
                    2,894
                    
                    
                    4,137
                    
                    
                    1,334
                    
                    
                    13,453Exchange
                      adjustments
                    
                    
                    (1
                    )
                    
                    -
                    
                    
                    -
                    
                    
                    -
                    
                    
                    (11
                    )
                    
                    (12
                    )Charge
                      for the year
                    
                    
                    227
                    
                    
                    1,679
                    
                    
                    1,406
                    
                    
                    1,155
                    
                    
                    418
                    
                    
                    4,885Disposals
                    
                    
                    (74
                    )
                    
                    (66
                    )
                    
                    (314
                    )
                    
                    (225
                    )
                    
                    (55
                    )
                    
                    (734
                    )At
                      December 31, 2005
                    
                    
                    909
                    
                    
                    5,944
                    
                    
                    3,986
                    
                    
                    5,067
                    
                    
                    1,686
                    
                    
                    17,592At
                      January 1, 2006
                    
                    
                    909
                    
                    
                    5,944
                    
                    
                    3,986
                    
                    
                    5,067
                    
                    
                    1,686
                    
                    
                    17,592Charge
                      for the year
                    
                    
                    248
                    
                    
                    1,917
                    
                    
                    1,337
                    
                    
                    1,041
                    
                    
                    451
                    
                    
                    4,994Reclassification
                        on exercise
                        of purchase option
                    
                    
                    -
                    
                    
                    1,034
                    
                    
                    (1,034
                    )
                    
                    -
                    
                    
                    -
                    
                    
                    -Reclassification
                    
                    
                    (41
                    )
                    
                    -
                    
                    
                    -
                    
                    
                    -
                    
                    
                    41
                    
                    
                    -Disposals
                    
                    
                    (56
                    )
                    
                    (510
                    )
                    
                    (204
                    )
                    
                    (513
                    )
                    
                    (119
                    )
                    
                    (1,402
                    )At
                      December 31, 2006
                    
                    
                    1,060
                    
                    
                    8,385
                    
                    
                    4,085
                    
                    
                    5,595
                    
                    
                    2,059
                    
                    
                    21,184**Net
                      book value:**At
                      December 31, 2005
                    
                    
                    6,394
                    
                    
                    23,061
                    
                    
                    18,723
                    
                    
                    4,980
                    
                    
                    1,181
                    
                    
                    54,339At
                      December 31, 2006
                    
                    
                    5,841
                    
                    
                    24,828
                    
                    
                    19,730
                    
                    
                    4,699
                    
                    
                    1,249
                    
                    
                    56,347
  (a)
          Substantially all of the Group’s buildings are located in the PRC. The Group was
          formally granted the rights to use the twenty-one parcels of land in Guangzhou,
          Shenzhen, Zhuhai, Beihai, Changsha, Shantou, Haikou, Zhengzhou, Guiyang
          and
          Wuhan by the relevant PRC authorities for periods of 30 to 70 years, which
          expire between 2020 and 2068. For other land in the PRC on which the Group’s
          buildings are erected, the Group was formally granted the rights to use
          such
          land for periods of one to three years pursuant to various lease agreements
          between the Company and CSAHC. In this connection, rental payments totalling
          RMB2, RMB24 and RMB22 were paid to CSAHC for each of the years ended December
          31, 2004, 2005 and 2006, respectively in respect of these leases.
 
 (b)
          In
          compliance with the PRC rules and regulations governing initial public
          offering
          of shares by PRC joint stock limited companies, the property, plant and
          equipment of the Group as of December 31, 1996 were revalued. This revaluation
          was conducted by Guangzhou Assets Appraisal Corp., a firm of independent
          valuers
          registered in the PRC, on a depreciated replacement cost basis, and approved
          by
          the China State-owned Assets Administration Bureau.
 
 F-36
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  Subsequent
          to the 1996 revaluation, the property, plant and equipment of the Group
          are
          carried at revalued amount, being the fair value at the date of the revaluation
          less any subsequent accumulated depreciation. Revaluation is performed
          periodically to ensure that the carrying amount does not differ materially
          from
          that which would be determined using fair value at the balance sheet date.
          Based
          on a revaluation performed as of September 30, 2005, by Savills Valuation
&
Professional Services Limited, a firm of independent valuers, on a depreciated
          replacement cost basis, the carrying value of property, plant and equipment
          did
          not differ materially from their fair value.
 
 At
          December 31, 2006, the carrying amount of such revalued property, plant
          and
          equipment approximated the historical carrying value of such assets had
          they
          been stated at cost less accumulated depreciation and impairment
          losses.
 
 (c)
          As of
          December 31, 2005 and 2006, certain aircraft of the Group with an aggregate
          carrying amount of approximately RMB30,408 and RMB30,075, respectively,
          were
          mortgaged under certain notes payable and lease agreements (Notes 27 and
          28).
 
 (d)
            The
            Group leased out certain flight training facilities and buildings to
            a jointly
            controlled entity. The leases typically run for an initial period of
            one to
            three years, with an option to renew the lease after that date at which
            time all
            terms are renegotiated. None of the leases includes contingent rentals.
            In this
            connection, rental income totaling RMB31, RMB31 and RMB35, respectively,
            was
            received by the Group in respect of the leases during the years ended
            December
            31, 2004, 2005 and 2006 (Note 37(c)(xi)).
 
 The
          Group’s total future minimum lease payments under non-cancellable operating
          leases were receivable within one year and amounted to RMB35.
 
 The
          cost
          and accumulated depreciation of the relevant properties leased out by the
          Group
          under the operating leases amounted to RMB237 and RMB84 as of December
          31, 2005,
          and RMB221 and RMB94 as of December 31, 2006, respectively. Depreciation
          of the
          relevant properties recognized during each of the years ended December
          31, 2004,
          2005 and 2006 totaled RMB15, RMB15 and RMB21, respectively.
  F-37
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
              TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  (e)
          The
          Group entered into two separate arrangements (the “Arrangements”) with certain
          independent third parties during each of 2002 and 2003. Under each of the
          Arrangements, the Group sold an aircraft and then immediately leased back
          the
          aircraft for an agreed period. The lease payment obligations, with
          pre-determined net present value, are to be satisfied solely out of the
          sale
          proceeds and such amount has been placed irrevocably by the Group in form
          of
          deposits and debt securities in favor of the lessor. The Group has an option
          to
          purchase the aircraft at a pre-determined date and an agreed purchase price
          to
          be satisfied by the balances of the deposits and debt securities outstanding
          at
          that date. In the event that the lease agreement is early terminated by
          the
          Group, the Group is liable to pay a pre-determined penalty to the lessor.
          Provided that the Group complies with the lease agreements, the Group is
          entitled to the continued possession and operation of the aircraft. Since
          the
          Group retains substantially all risks and rewards incident to ownership
          of the
          aircraft and enjoys substantially the same rights to their use as before
          the
          Arrangements, no adjustment has been made to the property, plant and equipment.
          As of December 31, 2005 and 2006, the net present value of the lease commitments
          and the corresponding defeased deposits and debt securities amounted to
          RMB2,376
          and RMB2,272, respectively.
 
 (f)
          As
          agreed with the companies having operations at Guangzhou Baiyun International
          Airport, the allocation of common facilities at the airport was revised
          during
          2006. As a result, certain property, plant and equipment of the Group at
          Guangzhou Baiyun International Airport with a carrying amount of RMB539
          were
          transferred out during the year.
 
 (g)
          As of
          December 31, 2006 and up to the date of approval of these consolidated
          financial
          statements, the Group is in the process of applying for the land use right
          certificates and property title certificates in respect of the properties
          located in the Guangzhou Baiyun International Airport, in which the Group
          has
          interests and for which such certificates have not been granted. As of
          December
          31, 2005 and 2006, carrying value of such properties of the Group amounted
          to
          RMB2,316 and RMB1,586, respectively. The directors of the Company are of
          the
          opinion that the use of and the conduct of operating activities at the
          properties referred to above are not affected by the fact that the Group
          has not
          yet obtained the relevant land use right certificates and property title
          certificates.
 
 **21.
          CONSTRUCTION IN PROGRESS**
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**At
                      January 1
                  
                  
                  565
                  
                  
                  674Additions
                  
                  
                  678
                  
                  
                  947Transfer
                      to property, plant and equipment
                  
                  
                  (569
                  )
                  
                  (670
                  )At
                      December 31
                  
                  
                  674
                  
                  
                  951
  The
          construction in progress as of December 31, 2006 mainly related to projects
          at
          the Guangzhou, Jilin and Fuzhou airports, Shenzhen cargo centre and Beijing
          branch.
  F-38
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
              TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 **22.
          INTEREST IN AFFILIATED COMPANIES**
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Share
                      of net assets
                  
                  
                  142
                  
                  
                  149
  Details
          of the Group’s principal affiliated companies are set out in Note 50, all of
          which are unlisted corporate entities.
  Summary
            of financial information on affiliated companies:
 **100
                        Percent**
                    
                    **Group’s
                        effective
                        interest****December
                        31,**
                    
                    **December
                        31,****2004**
                    
                    **2005**
                    
                    **2006**
                    
                    **2004**
                    
                    **2005**
                    
                    **2006****RMB**
                    
                    **RMB**
                    
                    **RMB**
                    
                    **RMB**
                    
                    **RMB**
                    
                    **RMB**Non-current
                        assets
                    
                    
                    
                    
                    
                    5,334
                    
                    
                    6,042
                    
                    
                    
                    
                    
                    2,081
                    
                    
                    2,319Current
                        assets
                    
                    
                    
                    
                    
                    2,275
                    
                    
                    2,281
                    
                    
                    
                    
                    
                    455
                    
                    
                    502Non-current
                        liabilities
                    
                    
                    
                    
                    
                    (3,897
                    )
                    
                    (3,525
                    )
                    
                    
                    
                    
                    (1,520
                    )
                    
                    (1,372
                    )Current
                        liabilities
                    
                    
                    
                    
                    
                    (3,318
                    )
                    
                    (4,110
                    )
                    
                    
                    
                    
                    (874
                    )
                    
                    (1,300
                    )Net
                        assets
                    
                    
                    
                    
                    
                    394
                    
                    
                    688
                    
                    
                    
                    
                    
                    142
                    
                    
                    149Revenues
                    
                    
                    2,676
                    
                    
                    3,314
                    
                    
                    4,485
                    
                    
                    1,042
                    
                    
                    1,318
                    
                    
                    1,727Expenses
                    
                    
                    (2,638
                    )
                    
                    (3,837
                    )
                    
                    (4,487
                    )
                    
                    (1,032
                    )
                    
                    (1,603
                    )
                    
                    (1,722
                    )Income/(loss)
                        for the year
                    
                    
                    38
                    
                    
                    (523
                    )
                    
                    (2
                    )
                    
                    10
                    
                    
                    (285
                    )
                    
                    5
  F-39
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **23.
          INTEREST IN JOINTLY CONTROLLED ENTITIES**
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Share
                      of net assets
                  
                  
                  805
                  
                  
                  870
  Details
          of the Group’s principal jointly controlled entities are set out in Note 49, all
          of which are unlisted corporate entities.
  Summary
            of financial information on jointly controlled entities:
 **Group's
                      effective interest****December
                      31,****2004**
                  
                  **2005**
                  
                  **2006****RMB**
                  
                  **RMB**
                  
                  **RMB**Non-current
                      assets
                  
                  
                  
                  
                  
                  920
                  
                  
                  925Current
                      assets
                  
                  
                  
                  
                  
                  877
                  
                  
                  1,111Non-current
                      liabilities
                  
                  
                  
                  
                  
                  (369
                  )
                  
                  (335
                  )Current
                      liabilities
                  
                  
                  
                  
                  
                  (623
                  )
                  
                  (831
                  )Net
                      assets
                  
                  
                  
                  
                  
                  805
                  
                  
                  870Revenues
                  
                  
                  762
                  
                  
                  1,115
                  
                  
                  1,464Expenses
                  
                  
                  (778
                  )
                  
                  (1,079
                  )
                  
                  (1,349
                  )(Loss)/income
                      for the year
                  
                  
                  (16
                  )
                  
                  36
                  
                  
                  115
  **24.
          OTHER INVESTMENTS IN EQUITY SECURITIES**
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Unlisted
                      equity securities, at cost
                  
                  
                  320
                  
                  
                  330
  Net
            realized and unrealized gain on trading securities of the Group amounted
            to
            RMB15, RMB6 and RMBNil during the years ended December 31, 2004, 2005
            and 2006,
            respectively.
 
 Dividend
            income from unlisted securities of the Group amounted to RMB14, RMB4
            and RMB7
            during the years ended December 31, 2004, 2005 and 2006,
            respectively.
  F-40
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **25.
          DEFERRED TAX ASSETS/(LIABILITIES)**
 
 Movements
          of net deferred tax liabilities are as follows:
 **December
                        31,****2005**
                    
                    **2006****RMB**
                    
                    **RMB**(Note
                        45)At
                        January 1
                    
                    
                    (287
                    )
                    
                    (279
                    )Credited
                        to consolidated statement of operations (Note 13)
                    
                    
                    8
                    
                    
                    2At
                        December 31
                    
                    
                    (279
                    )
                    
                    (277
                    )
  The
          deferred tax assets/(liabilities) as of December 31, 2005 and 2006 were
          made up
          of the following tax effects:
 **December
                        31,****2005**
                    
                    **2006****RMB**
                    
                    **RMB**(Note
                        45)Deferred
                        tax assets:Tax
                        losses
                    
                    
                    159
                    
                    
                    -Repair
                        charges capitalized
                    
                    
                    275
                    
                    
                    203Accrued
                        expenses
                    
                    
                    175
                    
                    
                    465Others
                    
                    
                    29
                    
                    
                    38Total
                        deferred tax assets
                    
                    
                    638
                    
                    
                    706Deferred
                        tax liabilities:Accrued
                        expenses
                    
                    
                    (58
                    )
                    
                    (105
                    )Depreciation
                          allowances in excessof
                          the related depreciation
                    
                    
                    (843
                    )
                    
                    (878
                    )Others
                    
                    
                    (16
                    )
                    
                    -Total
                        deferred tax liabilities
                    
                    
                    (917
                    )
                    
                    (983
                    )(279
                    )
                    
                    (277
                    )Net
                            deferred tax asset recognized on the consolidated balance
                            sheet
                    
                    
                    63
                    
                    
                    95Net
                            deferred tax liability recognized on the consolidated
                            balance
                            sheet
                    
                    
                    (342
                    )
                    
                    (372
                    )(279
                    )
                    
                    (277
                    )
 F-41
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
              TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Gross
                      amount of unused tax lossesExpected
                      to be utilized
                  
                  
                  891
                  
                  
                  -Not
                      expected to be utilized
                  
                  
                  710
                  
                  
                  4231,601
                  
                  
                  423
 
 Tax
          losses in the PRC are available for carry forward to set off future PRC
          assessable income for a maximum period of five years. Of the RMB423 tax
          losses
          as of December 31, 2006, approximately RMB33, RMB44, RMB87, RMB130 and
          RMB129
          will expire in 2007, 2008, 2009, 2010 and 2011 respectively. In accordance
          with
          accounting policy set out in Note 2(u), the Group had not recognized deferred
          tax asset in respect of these unused tax losses as it was determined by
          management that it is not probable that future taxable income against which
          the
          losses can be utilized will be available before they expire.
 
 **26.
          OTHER ASSETS**
  As
          of
          December 31, 2005 and 2006, other assets of the Group include lump sum
          housing
          benefits of RMB171 and RMB145, respectively. Further details are set out
          in Note
          38.
  Movements
          of lump sum housing benefits are as follows:
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**At
                      January 1
                  
                  
                  197
                  
                  
                  171Amortization
                      for the year
                  
                  
                  (26
                  )
                  
                  (26
                  )At
                      December 31
                  
                  
                  171
                  
                  
                  145
  F-42
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
          TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **27.
          DEBT**
  (a)
            As of
            December 31, 2006, bank and other notes payable are analyzed as
            follows:
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Short-term
                      notes payable
                  
                  
                  14,346
                  
                  
                  19,908Current
                      installments of long-term notes payable
                  
                  
                  1,877
                  
                  
                  3,91416,223
                  
                  
                  23,822Non-current
                      installments of long-term notes payable
                  
                  
                  12,740
                  
                  
                  10,01828,963
                  
                  
                  33,840*Representing:*Bank
                      notes payable
                  
                  
                  28,960
                  
                  
                  33,818Other
                      notes payable
                  
                  
                  3
                  
                  
                  2228,963
                  
                  
                  33,840
  (b)
          As of
          December 31, 2005 and 2006, the Group’s weighted average interest rates on
          short-term notes payable were 4.83% per annum and 5.77% per annum,
          respectively.
  F-43
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
          TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  (c)
          Details of bank and other notes payable with original maturity over one
          year are
          as follows:
 **December
                        31,****2005**
                    
                    **2006****RMB**
                    
                    **RMB****Renminbi
                        denominated notes payable**Non-interest
                        bearing loan from a municipal government authority
                    
                    
                    3
                    
                    
                    3Floating
                        interest rates ranging from 5.10% to 5.51% per annumas
                        of December 31, 2006, with maturities through 2010
                    
                    
                    877
                    
                    
                    325**United
                        States Dollars denominated notes payable**Fixed
                        interest rates ranging from 4.43% to 7.48% per annumas
                        of December 31, 2006, with maturities through 2015
                    
                    
                    2,414
                    
                    
                    1,863Floating
                        interest rates ranging from 3-month LIBOR+
                        0.65% to 0.90% per annum as of December 31, 2006,with
                        maturities through 2009
                    
                    
                    3,610
                    
                    
                    1,727Floating
                        interest rates ranging from 6-month LIBOR+
                        0.30% to 1.20% per annum as of December 31, 2006,with
                        maturities through 2016
                    
                    
                    7,713
                    
                    
                    9,995**Hong
                        Kong Dollars denominated notes payable**Non-interest
                        bearing loan from a minority shareholder repayablewithin
                        five years (Note 37(g))
                    
                    
                    -
                    
                    
                    1914,617
                    
                    
                    13,932Less:
                        current installments classified as current liabilities
                    
                    
                    (1,877
                    )
                    
                    (3,914
                    )12,740
                    
                    
                    10,018
  (d)
          As of
          December 31, 2005 and 2006, bank and other notes payable of the Group totaling
          RMB8,116 and RMB8,726, respectively, were secured by mortgages over certain
          of
          the Group’s aircraft with carrying amount of RMB11,735 and RMB10,345,
          respectively.
 
 F-44
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
          TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  (e)
          As of
          December 31, 2005 and 2006, certain bank and other notes payable were guaranteed
          by the following parties:
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB****Guarantors**Industrial
                      Commercial Bank of China
                  
                  
                  111
                  
                  
                  79Export-Import
                      Bank of the United States
                  
                  
                  1,171
                  
                  
                  828Bank
                      of China
                  
                  
                  155
                  
                  
                  74CSAHC
                  
                  
                  1,908
                  
                  
                  1,484Shenzhen
                      Yingshun Investment Development Company Limited
                  
                  
                  22
                  
                  
                  22SA
                      Finance
                  
                  
                  7
                  
                  
                  5Industrial
                      Bank Co.,Ltd
                  
                  
                  -
                  
                  
                  483,374
                  
                  
                  2,540
 
 (f)
          As of
          December 31, 2005 and 2006, loans to the Group from SA Finance amounted
          to
          RMB300 (Note 37(d)).
 
 (g)
          As of
          December 31, 2006, the Group had banking facilities with several PRC commercial
          banks for providing financing up to approximately RMB49,041, of which
          approximately RMB28,295 was utilized.
 
 (h)
          The
          aggregate annual maturities of long-term notes payable for each of the
          five
          years subsequent to December 31, 2006 and thereafter are as
          follows:
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB****Year
                      ending December 31,**2006
                  
                  
                  1,877
                  
                  
                  -2007
                  
                  
                  4,316
                  
                  
                  3,9142008
                  
                  
                  2,156
                  
                  
                  2,9862009
                  
                  
                  1,435
                  
                  
                  2,2192010
                  
                  
                  660
                  
                  
                  7402011
                  
                  
                  -
                  
                  
                  1,574Thereafter
                  
                  
                  4,173
                  
                  
                  2,49914,617
                  
                  
                  13,932
 F-45
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  (i)
          Included in bank and other notes payable are the following amounts denominated
          in a currency other than the functional currency of the entity to which
          they
          relate:
 **December
                      31,****2005**
                  
                  **2006**United
                      States Dollars
                  US$3,208
                  
                  US$4,016Hong
                      Kong Dollars
                  HK$1,821
                  
                  HK$1,659
  **28.**  **LEASE
          OBLIGATIONS**
  **(a)
          Capital leases**
  The
          Group
          has commitments under capital lease agreements in respect of aircraft and
          related equipment. The majority of these leases have terms of 10 to 15
          years
          expiring during the years 2007 to 2016. As of December 31, 2006, future
          payments
          under these capital leases are as follows:
 **December
                        31, 2005**
                    
                    **December
                        31, 2006****Payments**
                    
                    ***Interest**
                    
                    **Obligations**
                    
                    **Payments**
                    
                    ***Interest**
                    
                    **Obligations****RMB**
                    
                    **RMB**
                    
                    **RMB**
                    
                    **RMB**
                    
                    **RMB**
                    
                    **RMB****Year
                        ending December 31,**2006
                    
                    
                    4,030
                    
                    
                    657
                    
                    
                    3,373
                    
                    
                    —
                    
                    
                    —
                    
                    
                    —2007
                    
                    
                    3,423
                    
                    
                    493
                    
                    
                    2,930
                    
                    
                    3,769
                    
                    
                    678
                    
                    
                    3,0912008
                    
                    
                    3,016
                    
                    
                    408
                    
                    
                    2,608
                    
                    
                    3,330
                    
                    
                    530
                    
                    
                    2,8002009
                    
                    
                    1,684
                    
                    
                    307
                    
                    
                    1,377
                    
                    
                    2,049
                    
                    
                    415
                    
                    
                    1,6342010
                    
                    
                    1,050
                    
                    
                    238
                    
                    
                    812
                    
                    
                    1,442
                    
                    
                    351
                    
                    
                    1,0912011
                    
                    
                    -
                    
                    
                    -
                    
                    
                    -
                    
                    
                    5,663
                    
                    
                    763
                    
                    
                    4,900Thereafter
                    
                    
                    5,412
                    
                    
                    680
                    
                    
                    4,732
                    
                    
                    2,150
                    
                    
                    268
                    
                    
                    1,88218,615
                    
                    
                    2,783
                    
                    
                    15,832
                    
                    
                    18,403
                    
                    
                    3,005
                    
                    
                    15,398Less:
                        current instalments of obligationsunder
                        capital leases
                    
                    
                    
                    
                    
                    
                    
                    
                    (3,373
                    )
                    
                    
                    
                    
                    
                    
                    
                    (3,091
                    )12,459
                    
                    
                    
                    
                    
                    
                    
                    
                    12,307Average
                        interest rates
                    
                    
                    1.44%
                      to 8.01
                    %
                    
                    per
                        annum
                    
                    
                    
                    
                    
                    2.21%
                      to 8.01%
                    per
                        annum
 
 Under
          the
          terms of the leases, the Group has an option to purchase, at or near the
          end of
          the lease term, certain aircraft and flight equipment at either fair market
          value or a percentage of the respective lessor’s defined cost.
  F-46
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 Security,
          including charges over the assets concerned and relevant insurance policies,
          is
          provided to the lessors. As of December 31, 2005 and 2006, certain of the
          Group’s aircraft with carrying amount of RMB18,723 and RMB19,730, respectively
          were mortgaged to secure finance lease obligations RMB15,832 and RMB15,398,
          respectively.
 
 Included
          in obligations under capital leases are the following amounts denominated
          in a
          currency other than the functional currency of the entity to which they
          relate:
 **December
                      31,****2005**
                  
                  **2006**United
                      States Dollars
                  
                  US$1,556
                  
                  US$1,674Japanese
                      Yen
                  
                  JPY47,795
                  
                  JPY35,400
 
 **(b)
          Operating leases**
  As
          of
          December 31, 2006, the total future minimum lease payments under non-cancellable
          aircraft and flight equipment operating leases are as follows:
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB****Year
                      ending December 31,**2006
                  
                  
                  3,340
                  
                  
                  -2007
                  
                  
                  2,881
                  
                  
                  3,0772008
                  
                  
                  2,785
                  
                  
                  2,9652009
                  
                  
                  2,609
                  
                  
                  2,7752010
                  
                  
                  2,523
                  
                  
                  2,6132011
                  
                  
                  -
                  
                  
                  2,493Thereafter
                  
                  
                  10,456
                  
                  
                  8,046Total
                      minimum lease payments
                  
                  
                  24,594
                  
                  
                  21,969
 F-47
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **29.
          TRADE AND BILLS PAYABLES**
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Trade
                      payables
                  
                  
                  3,033
                  
                  
                  1,909Bills
                      payable
                  
                  
                  896
                  
                  
                  -3,929
                  
                  
                  1,909
 
 The
          following is the ageing analysis of trade and bills payables:
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Within
                      1 month or on demand
                  
                  
                  2,000
                  
                  
                  1,125More
                      than 1 month but less than 3 months
                  
                  
                  1,225
                  
                  
                  448More
                      than 3 months but less than 6 months
                  
                  
                  704
                  
                  
                  3363,929
                  
                  
                  1,909
 
 As
          of
          December 31, 2005 and 2006, the Group had an amount due to a fellow subsidiary
          of RMB859 and RMB11, respectively, which was included in trade and bills
          payables.
  All
          of
          the trade and bills payables are expected to be settled within one
          year.
 
 Included
          in trade and bills payables are the following amounts denominated in a
          currency
          other than the functional currency of the entity to which they
          relate:
 **December
                        31,****2005**
                    
                    **2006**United
                        States Dollars
                    
                    US$147
                    
                    US$61
  F-48
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **30.
          AMOUNTS DUE FROM/TO RELATED COMPANIES**
  **(a)
          Amounts due from related companies**
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**CSAHC
                      and its affiliates
                  
                  
                  -
                  
                  
                  4An
                      affiliated company
                  
                  
                  -
                  
                  
                  2Jointly
                      controlled entities
                  
                  
                  84
                  
                  
                  12284
                  
                  
                  128
 
 The
          amounts due from related companies were unsecured, interest free and have
          no
          fixed terms of repayment.
 
 All
          of
          the amounts due from related companies are expected to be recovered within
          one
          year.
  **(b)
          Amounts due to related companies**
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**CSAHC
                      and its affiliates
                  
                  
                  12
                  
                  
                  167An
                      affiliated company
                  
                  
                  5
                  
                  
                  -Jointly
                      controlled entities
                  
                  
                  99
                  
                  
                  87116
                  
                  
                  254
  The
          amounts due to related companies were unsecured, interest free and have
          no fixed
          terms of repayment.
  F-49
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **31.
          ACCRUED EXPENSES**
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Jet
                      fuel costs
                  
                  
                  686
                  
                  
                  1,020Operating
                      lease charges
                  
                  
                  86
                  
                  
                  -Air
                      catering expenses
                  
                  
                  132
                  
                  
                  153Salaries
                      and welfare
                  
                  
                  193
                  
                  
                  346Lump
                      sum housing benefits payable
                  
                  
                  92
                  
                  
                  -Repairs
                      and maintenance
                  
                  
                  996
                  
                  
                  1,281Provision
                      for major overhauls (Note 33)
                  
                  
                  151
                  
                  
                  255Provision
                      for early retirement benefits (Note 34)
                  
                  
                  -
                  
                  
                  86Landing
                      and navigation fees
                  
                  
                  1,129
                  
                  
                  1,168Computer
                      reservation services
                  
                  
                  190
                  
                  
                  66Interest
                      expense
                  
                  
                  338
                  
                  
                  448Duties
                      and levies
                  
                  
                  12
                  
                  
                  -Property
                      management fee
                  
                  
                  37
                  
                  
                  -Others
                  
                  
                  208
                  
                  
                  1194,250
                  
                  
                  4,942
  F-50
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **32.
          OTHER LIABILITIES**
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**CAAC
                      Infrastructure Development fund
                  
                  
                  177
                  
                  
                  189Airport
                      construction surcharge
                  
                  
                  542
                  
                  
                  404Airport
                      tax
                  
                  
                  198
                  
                  
                  288Construction
                      cost payable
                  
                  
                  793
                  
                  
                  130Advance
                      payment on chartered flights
                  
                  
                  104
                  
                  
                  100Sales
                      agent deposits
                  
                  
                  198
                  
                  
                  221Other
                      tax payable
                  
                  
                  441
                  
                  
                  494Lump
                      sum housing benefits payable
                  
                  
                  -
                  
                  
                  90Others
                  
                  
                  1,343
                  
                  
                  1,3413,796
                  
                  
                  3,257
  **33.
          PROVISION FOR MAJOR OVERHAULS**
 
 Details
          of provision for major overhauls in respect of aircraft held under operating
          leases are as follows:
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**At
                      January 1
                  
                  
                  359
                  
                  
                  452Provision
                      for the year
                  
                  
                  129
                  
                  
                  683Provision
                      utilized during the year
                  
                  
                  (36
                  )
                  
                  (75
                  )At
                      December 31
                  
                  
                  452
                  
                  
                  1,060Less:
                      current portion included in accrued expenses (Note 31)
                  
                  
                  (151
                  )
                  
                  (255
                  )301
                  
                  
                  805
 F-51
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **34.
          PROVISION FOR EARLY RETIREMENT BENEFITS**
 
 Details
          of provision for early retirement benefits in respect of obligations to
          early
          retired employees are as follows:
 **December
                      31,****2006****RMB**At
                      January 1
                  
                  
                  -Provision
                      for the year (Note 10)
                  
                  
                  392At
                      December 31
                  
                  
                  392Less:
                      current portion included in accrued expenses (Note 31)
                  
                  
                  (86
                  )306
 
 During
          2006, the Group implemented an early retirement plan for certain employees.
          The
          benefits of the early retirement plan are calculated based on factors including
          the remaining number of years of services from the date of early retirement
          to
          the normal retirement date and the salary amount on the date of early retirement
          of the employees. The present value of the future cash flows expected to
          be
          required to settle the obligations is recognized as provision for early
          retirement benefits.
  **35.
          SHARE CAPITAL**
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Registered,
                      issued and paid up capital:2,200,000,000
                      domestic state-owned shares of RMB1.00 each
                  
                  
                  2,200
                  
                  
                  2,2001,174,178,000
                      H shares of RMB1.00 each
                  
                  
                  1,174
                  
                  
                  1,1741,000,000,000
                      A shares of RMB1.00 each
                  
                  
                  1,000
                  
                  
                  1,0004,374
                  
                  
                  4,374
  All
          the
          domestic state-owned, H and A shares rank pari passu in all material
          respects.
  F-52
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
          TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **36.
          RESERVES**
 **December
                        31,****2005**
                    
                    **2006****RMB**
                    
                    **RMB****Share
                        premium**At
                        January 1 and December 31
                    
                    
                    5,325
                    
                    
                    5,325**Statutory
                        surplus reserve**(Note
                        (a))At
                        January 1
                    
                    
                    402
                    
                    
                    410Transfer
                        from retained earnings/(accumulated losses)
                    
                    
                    8
                    
                    
                    12Transfer
                        from statutory public welfare fund
                    
                    
                    -
                    
                    
                    198At
                        December 31
                    
                    
                    410
                    
                    
                    620**Statutory
                        public welfare fund**(Note
                        (b))At
                        January 1
                    
                    
                    193
                    
                    
                    198Transfer
                        from retained earnings/(accumulated losses)
                    
                    
                    5
                    
                    
                    -Transfer
                        to statutory public welfare fund
                    
                    
                    -
                    
                    
                    (198
                    )At
                        December 31
                    
                    
                    198
                    
                    
                    -**Discretionary
                        surplus reserve**(Note
                        (c))At
                        January 1
                    
                    
                    77
                    
                    
                    83Transfer
                        from retained earnings/(accumulated losses)
                    
                    
                    6
                    
                    
                    29At
                        December 31
                    
                    
                    83
                    
                    
                    112**Retained
                        earnings/(accumulated losses)**(Note
                        (d))At
                        January 1
                    
                    
                    1,477
                    
                    
                    (328
                    )(Loss)/profit
                        for the year
                    
                    
                    (1,786
                    )
                    
                    126Appropriations
                        to reserves
                    
                    
                    (19
                    )
                    
                    (41
                    )At
                        December 31
                    
                    
                    (328
                    )
                    
                    (243
                    )**Total**
                    
                    
                    5,688
                    
                    
                    5,814
  
 (a)
          According to the PRC Company Law and the Articles of Association of the
          Company
          and certain of its subsidiaries, the Company and the relevant subsidiaries
          are
          required to transfer 10% of their annual net income after taxation, as
          determined under relevant PRC accounting rules and regulations, to a statutory
          surplus reserve until the reserve balance reaches 50% of the registered
          capital.
          The transfer to this reserve must be made before distribution of a dividend
          to
          shareholders when there are retained earnings at the financial year
          end.
  F-53
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
          TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  Statutory
          surplus reserve can be used to offset prior years’ losses, if any, and may be
          converted into share capital by the issue of new shares to shareholders
          in
          proportion to their existing shareholding or by increasing the par value
          of the
          shares currently held by them, provided that the balance after such issue
          is not
          less than 25% of the registered capital.
 
 (b)
          According to the PRC Company Law and the Articles of Association of the
          Company
          and certain of its subsidiaries, the Company and the relevant subsidiaries
          are
          required to transfer between 5% to 10% of their annual net income after
          taxation, as determined under PRC accounting rules and regulations, to
          the
          statutory public welfare fund. This fund can only be utilized on capital
          items
          for the collective benefits of the Company’s and the relevant subsidiaries’
employees such as the construction of dormitories, canteen and other staff
          welfare facilities. This fund is non-distributable other than in liquidation.
          The transfer to this fund must be made before distribution of a dividend
          to
          shareholders and is subject to respective shareholders’ approval.
 
 According
          to the revised PRC Company Law effective January 1, 2006, appropriation
          to the
          statutory public welfare fund is no longer required and the balance of
          statutory
          public welfare fund as of December 31, 2005 was transferred to statutory
          surplus
          reserve.
 
 (c)
          The
          appropriation of this reserve is subject to shareholders’ approval. The usage of
          this reserve is similar to that of statutory surplus reserve.
 
 (d)
          Dividend distributions may be proposed at the discretion of the Company’s board
          of directors, after consideration of the transfers referred to above and
          making
          up cumulative prior years’ losses. Pursuant to the Articles of Association of
          the Company, the net income of the Company for the purpose of dividend
          distribution is deemed to be the lesser of (i) net income determined in
          accordance with the PRC accounting rules and regulations, and (ii) the
          net
          income determined in accordance with IFRSs; or if the financial statements
          of
          the Company are not prepared in accordance with IFRSs, the accounting standards
          of one of the countries in which its shares are listed. As of December
          31, 2005
          and 2006, the Company did not have any distributable reserves.
 
 As
          of
          December 31, 2005 and 2006, the accumulated losses of the Group included
          RMB243
          and RMB251, respectively, of undistributed earnings of companies which
          are 50%
          or less owned by the Group and accounted for under the equity
          method.
  F-54
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **37.
          RELATED PARTY TRANSACTIONS**
 
 **(a)
          Key management personnel remuneration**
 
 Remuneration
          for key management personnel of the Group is as follows:
 **December
                      31,****2004**
                  
                  **2005**
                  
                  **2006****RMB**
                  
                  **RMB**
                  
                  **RMB**Short-term
                      employees benefits
                  
                  
                  6.75
                  
                  
                  5.93
                  
                  
                  6.64Post-employment
                      benefits
                  
                  
                  0.18
                  
                  
                  0.22
                  
                  
                  0.226.93
                  
                  
                  6.15
                  
                  
                  6.86Directors
                      and supervisors
                  
                  
                  4.68
                  
                  
                  3.46
                  
                  
                  4.34Senior
                      management
                  
                  
                  2.25
                  
                  
                  2.69
                  
                  
                  2.526.93
                  
                  
                  6.15
                  
                  
                  6.86
  Total
          remuneration is included in “staff costs” (Note 10).
 
 **(b)
          Contribution to post-employment benefit plans**
 
 The
          Group
          participates in various defined contribution retirement plans organized
          by
          municipal and provincial governments for its staff. Details of the Group’s
          employee benefits plan are disclosed in Note 38.
  F-55
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
          TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **(c)
          Transactions with CSAHC and its affiliates (the “CSAHC Group”), and the
          affiliated companies and jointly controlled entities of the Group**
 
 The
          Group
          obtained various operational services provided by the CSAHC Group and the
          affiliated companies and jointly controlled entities of the Group during
          the
          normal course of its business.
  Details
          of the significant transactions carried out by the Group are as
          follows:
 **December
                      31,****Note**
                  
                  **2004**
                  
                  **2005**
                  
                  **2006****RMB**
                  
                  **RMB**
                  
                  **RMB****Expenses
                      paid to the CSAHC Group**Handling
                      charges
                  
                  
                  (i)
                  
                  
                  33
                  
                  
                  32
                  
                  
                  29Air
                      catering supplies
                  
                  
                  (ii)
                  
                  
                  170
                  
                  
                  173
                  
                  
                  194Commission
                      expense
                  
                  
                  (iii)
                  
                  
                  2
                  
                  
                  26
                  
                  
                  43Sundry
                      aviation supplies
                  
                  
                  (iv)
                  
                  
                  66
                  
                  
                  88
                  
                  
                  86Lease
                      charges for aircraft
                  
                  
                  (v)
                  
                  
                  -
                  
                  
                  10
                  
                  
                  3Lease
                      charges for land and buildings
                  
                  
                  (vi)
                  
                  
                  18
                  
                  
                  90
                  
                  
                  99Property
                      management fee
                  
                  
                  (vii)
                  
                  
                  -
                  
                  
                  28
                  
                  
                  26Housing
                      benefits
                  
                  
                  (viii)
                  
                  
                  85
                  
                  
                  -
                  
                  
                  -**Expenses
                      paid to jointly controlled entities**Ground
                      service expenses
                  
                  
                  (ix)
                  
                  
                  -
                  
                  
                  32
                  
                  
                  43Repairing
                      charges
                  
                  
                  (x)
                  
                  
                  1,159
                  
                  
                  1,118
                  
                  
                  1,183Flight
                      simulation service charges
                  
                  
                  (xi)
                  
                  
                  100
                  
                  
                  126
                  
                  
                  133**Income
                      received from jointly controlled entities**Rental
                      income
                  
                  
                  (xi)
                  
                  
                  31
                  
                  
                  31
                  
                  
                  35**Others**CNA/XJA
                      Acquisitions
                  
                  
                  (xii)
                  
                  
                  15,522
                  
                  
                  -
                  
                  
                  -Operating
                      expenses recharged to relatedcompanies
                  
                  
                  (xiii)
                  
                  
                  65
                  
                  
                  -
                  
                  
                  -Acquisition
                      of CSAHC Hainan
                  
                  
                  (xiv)
                  
                  
                  -
                  
                  
                  -
                  
                  
                  5Disposal
                      of properties to the CSAHC Group
                  
                  
                  (xv)
                  
                  
                  -
                  
                  
                  -
                  
                  
                  23
  F-56
 
 **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
          TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  (i)
          The
          Group acquires aircraft, flight equipment and other airline-related facilities
          through Southern Airlines (Group) Import and Export Trading Company (“SAIETC”),
          a wholly-owned subsidiary of CSAHC.
 
 (ii)
          The
          Group purchases certain inflight meals and related services from Shenzhen
          Air
          Catering Company Limited, and Southern Airlines (Group) Catering Co., Ltd
          which
          are an affiliated company and a wholly owned subsidiary of CSAHC,
          respectively.
 
 (iii)
          Commission is earned by certain subsidiaries of CSAHC in connection with
          the air
          tickets sold by them on behalf of the Group. Commission is calculated based
          on a
          fixed rates ranging from 3% to 6% on the ticket value.
 
 (iv)
          Certain sundry aviation supplies are purchased from Southern Airlines (Group)
          Economic Development Company (“SAGEDC”), a subsidiary of CSAHC.
 
 (v)
          The
          Group leased an aircraft from China Southern Airlines (Group) Hainan Co.,
          Ltd
          (“CSAHC Hainan”), a wholly-owned subsidiary of CSAHC. The lease was terminated
          on April 30, 2006.
 
 (vi)
          The
          Group leases certain land and buildings in the PRC from CSAHC.
 
 (vii)
          Guangzhou China Southern Airlines Property Management Co., Ltd, a subsidiary
          of
          CSAHC, provides property management services to the Group.
 
 (viii)
          The Group paid a fixed annual fee of RMB85 to CSAHC from 1995 to 2004 in
          respect
          of the provision of quarters to the eligible employees of the Group (Note
          38).
          No such payment was made in 2005 and 2006.
 
 (ix)
          Beijing Ground Services Co., Ltd, a jointly controlled entity of the Group,
          provides airport ground services to the Group.
 
 (x)
          Guangzhou Aircraft Maintenance Engineering Company Limited and MTU Maintenance
          Zhuhai Co., Ltd, jointly controlled entities of the Group, provide comprehensive
          maintenance services to the Group.
 
 (xi)
          Zhuhai Xiang Yi, a jointly controlled entity of the Group, provides flight
          simulation services to the Group. In addition, the Group entered into operating
          lease agreements to lease certain flight training facilities and buildings
          to
          Zhuhai Xiang Yi.
 
 (xii)
          On
          December 31, 2004, the Group acquired the airline operations and certain
          related
          assets of China Northern Airlines Company (“CNA”) and Xinjiang Airlines Company
          (“XJA”) at a total consideration of RMB15,522 (the “CNA/XJA Acquisitions”). CNA
          and XJA are wholly owned subsidiaries of CSAHC. The consideration was partly
          satisfied by assumption of debts and liabilities of CNA and XJA totalling
          RMB13,563 outstanding as of that date. The remaining consideration of RMB1,959
          was fully paid in cash during 2005.
  F-57
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
          TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  (xiii)
          In
          2004, the Group provided administrative services to CNA and XJA. Operating
          expenses amounted to RMB65 were recharged to CNA and XJA on a cost
          basis.
 
 (xiv)
          On
          April 30, 2006, the Company acquired certain assets of CSAHC Hainan at
          a total
          consideration of RMB294, which was partly satisfied by assumption of liabilities
          of CSAHC Hainan totaling RMB289 outstanding as at that date. The remaining
          balance of RMB5 had been settled in cash during the year (Note
          40(c)).
 
 (xv)
          On
          December 28, 2006, the Company disposed of certain properties to CSAHC
          at a
          consideration of RMB23.
 
 In
          addition to the above, certain subsidiaries of CSAHC also provided hotel
          and
          other services to the Group during the year. The total amount involved
          is not
          material to the results of the Group for the year.
 
 Details
          of amounts due from/to the CSAHC Group, and the affiliated companies and
          jointly
          controlled entities of the Group:
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB****Receivables:**The
                      CSAHC Group
                  
                  
                  42
                  
                  
                  4An
                      affiliated company
                  
                  
                  -
                  
                  
                  2Jointly
                      controlled entities
                  
                  
                  84
                  
                  
                  122**Payables:**The
                      CSAHC Group
                  
                  
                  871
                  
                  
                  178An
                      affiliated company
                  
                  
                  5
                  
                  
                  -Jointly
                      controlled entities
                  
                  
                  99
                  
                  
                  87
 
 The
          amounts due from/to the CSAHC Group, the affiliated company and jointly
          controlled entities of the Group are unsecured, interest free and have
          no fixed
          terms of repayment.
  F-58
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
          TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **(d)
          Notes payable to and deposits placed with SA Finance**
 
 (i)
          Notes
          payable to SA Finance
 
 As
          of
          December 31, 2005 and 2006, notes payable to SA Finance by the Group amounted
          to
          RMB300. The notes payable are unsecured and repayable within one year.
 
 Interest
          expense paid on such notes payable amounted to RMB3, RMB37 and RMB16 during
          the
          years ended December 31, 2004, 2005 and 2006, respectively. The interest
          rates
          of the notes payable was at 4.78% per annum during the year ended December
          31,
          2004, ranged from 3.30% to 5.02% per annum during the year ended December
          31,
          2005, and 5.02% to 5.26% per annum during the ended December 31, 2006,
          respectively.
 
 The
          loans
          are guaranteed by CSAHC (included in the amount as disclosed in Note 37
          (e)
          below).
 
 (ii)
          Deposits placed with SA Finance
 
 As
          of
          December 31, 2005 and 2006, the Group’s deposits with SA Finance amounted to
          RMB544 and RMB629, respectively. The applicable interest rates are determined
          in
          accordance with the rates published by the PBOC.
 
 Interest
          income received on such deposits amounted to RMB4, RMB3 and RMB5 during
          the
          years ended December 31, 2004, 2005 and 2006, respectively.
  **(e)
          Guarantees from CSAHC and SA Finance**
 
 Certain
          bank loans of the Group were guaranteed by the following related
          parties:
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**CSAHC
                  
                  
                  1,908
                  
                  
                  1,484SA
                      Finance
                  
                  
                  7
                  
                  
                  5
  F-59
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
          TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  **(f)
          Transactions with other state-controlled enterprises**
 
 The
          Company is a state-controlled entity and operates in an economic regime
          currently dominated by entities directly or indirectly controlled by the
          PRC
          government (“state-controlled entities”) through its government authorities,
          agencies, affiliations and other organizations.
 
 Other
          than those transactions with the CSAHC Group, and the affiliated companies
          and
          jointly controlled entities of the Group as disclosed in Notes 37(c), (d)
          and
          (e) above, the Group conducts transactions with other state-controlled
          entities
          which include but are not limited to the following:
 
 ·
                Transportation
                    services
 ·
                Leasing
                    arrangements
 ·
                Purchase
                    of equipment, materials and spare parts
 ·
                Ancillary
                    and social services; and
 ·
                Financial
                    services arrangement.
 
 These
          transactions are conducted in the ordinary course of the Group’s business on
          terms comparable to those with other entities that are not state-controlled.
          The
          Group has established its pricing strategy, buying and approval process
          for
          purchases and sales of products and services. Such buying, pricing strategy
          and
          approval processes do not depend on whether the counterparties are
          state-controlled entities or not.
 
 Having
          considered the potential for transactions to be impacted by related party
          relationships, the Group’s pricing strategy, buying and approval processes, and
          what information would be necessary for an understanding of the potential
          effect
          of the relationship on the consolidated financial statements, the directors
          of
          the Company are of the opinion that the following transactions with other
          state-controlled entities require disclosure:
  (i)
          The
          Group’s transactions with other state-controlled entities, including
          state-controlled banks in the PRC
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Jet
                      fuel cost
                  
                  
                  9,592
                  
                  
                  13,054Interest
                      income
                  
                  
                  48
                  
                  
                  33Interest
                      expenses
                  
                  
                  694
                  
                  
                  1,405
 F-60
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
          TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  (ii)
          The
          Group’s balances with other state-controlled entities, including
          state-controlled banks in the PRC
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Cash
                      and deposits at bank
                  
                  
                  2,001
                  
                  
                  1,434Short-term
                      bank notes payable andcurrent
                      installments of long-term bank notes payable
                  
                  
                  14,319
                  
                  
                  21,209Non-current
                      instalments of long-term bank notes payable
                  
                  
                  10,175
                  
                  
                  8,223
 
 (iii)
          Guarantees from other state-controlled entities, including state-controlled
          banks in the PRC
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Guarantees
                      on certain bank notes payable of the Group
                  
                  
                  266
                  
                  
                  201
 
 **(g)
          Loan from a minority shareholder**
 
 During
          2006, the Group obtained a loan from a minority shareholder amounting to
          RMB19.
          The loan is unsecured, interest free and repayable within five
          years.
  **38.**  **RETIREMENT
          AND HOUSING BENEFITS**
 
 Employees
          of the Group participate in several defined contribution retirement schemes
          organized separately by PRC municipal governments in regions where the
          major
          operations of the Group are located. The Group is required to contribute
          to
          these schemes at the rates ranging from 14% to 20% during the year ended
          December 31, 2004, 9% to 20% during the year ended December 31, 2005, and
          10% to
          23% during the year ended December 31, 2006, respectively, of salary costs
          including certain allowances. A member of the retirement schemes is entitled
          to
          pension benefits equal to a fixed proportion of the salary at the retirement
          date. The retirement benefit obligations of all existing and future retired
          staff of the Group are assumed by these schemes.
 
 In
          addition, the Group has established a supplementary defined contribution
          retirement scheme for the benefit of employees in accordance with relevant
          regulations in the PRC. In this connection, employees of the Group participate
          in a supplementary defined contribution retirement scheme whereby the Group
          is
          required to make contributions not exceeding one-twelfth of the prior year’s
          total salaries.
  F-61
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 Furthermore,
          pursuant to the comprehensive services agreement dated May 22, 1997 between
          the
          Company and CSAHC, CSAHC provided quarters to eligible employees of the
          Group.
          In return, the Group paid a fixed annual fee of RMB85 to CSAHC for a ten-year
          period from 1995 to 2004. The agreement expired by December 31, 2004 and
          no
          further payment was made in 2005 and 2006.
 
 The
          Group
          has no obligation for the payment of pension benefits beyond the contributions
          described above.
 
 Pursuant
          to an additional staff housing benefit scheme effective September 2002,
          the
          Group agreed to pay lump sum housing allowances to certain employees who
          have
          not received quarters from CSAHC or the Group according to the relevant
          PRC
          housing reform policy, for subsidizing their purchases of houses. An employee
          who quits prior to the end of the vesting benefit period is required to
          pay back
          a portion of the lump sum housing benefits determined on a pro-rata basis
          of the
          benefit vesting period. The Group has the right to effect a charge on the
          employee’s house and to enforce repayment through selling the house in the event
          of default in repayment. Any shortfall in repayment would be charged against
          income or loss. During the years ended December 31, 2004, 2005 and 2006,
          the
          Group had made payments totaling RMB22, RMB16 and RMB2, respectively, under
          the
          scheme and recorded its remaining contractual liabilities totaling RMB108,
          RMB92
          and RMB90, respectively, as at the respective consolidated balance sheet.
          Housing allowances are payable when applications are received from eligible
          employees.
  **39.
          SEGMENTAL INFORMATION**
 
 The
          Group
          operates principally as a single business segment for the provision of
          air
          transportation services. The analysis of turnover and operating income/(loss)
          by
          geographical segment is based on the following criteria:
 
 (i)
          Traffic revenue from domestic services within the PRC (excluding Hong Kong
          and
          Macau) is attributed to the domestic operation. Traffic revenue from
          inbound/outbound services between the PRC and Hong Kong/Macau, and the
          PRC and
          overseas destinations is attributed to the Hong Kong and Macau operation
          and
          international operation respectively.
 
 (ii)
          Other revenue from ticket selling, general aviation and ground services,
          air
          catering and other miscellaneous services is attributed on the basis of
          where
          the services are performed.
  F-62
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **Domestic**
                    
                    **Hong
                        Kong and Macau**
                    
                    **International***
                    
                    **Total****RMB**
                    
                    **RMB**
                    
                    **RMB**
                    
                    **RMB****2004**Traffic
                        revenue
                    
                    
                    17,742
                    
                    
                    1,180
                    
                    
                    4,422
                    
                    
                    23,344Other
                        operating revenue
                    
                    
                    630
                    
                    
                    -
                    
                    
                    -
                    
                    
                    630Turnover
                    
                    
                    18,372
                    
                    
                    1,180
                    
                    
                    4,422
                    
                    
                    23,974Operating
                        income/(loss)
                    
                    
                    650
                    
                    
                    67
                    
                    
                    192
                    
                    
                    909Depreciation
                        and amortization
                    
                    
                    1,876
                    
                    
                    99
                    
                    
                    438
                    
                    
                    2,413Significant
                        non-cash items other than depreciation and amortization:Impairment
                          losses for trade andother
                          receivables
                    
                    
                    27
                    
                    
                    -
                    
                    
                    -
                    
                    
                    27**2005**Traffic
                        revenue
                    
                    
                    29,533
                    
                    
                    1,298
                    
                    
                    6,588
                    
                    
                    37,419Other
                        operating revenue
                    
                    
                    874
                    
                    
                    -
                    
                    
                    -
                    
                    
                    874Turnover
                    
                    
                    30,407
                    
                    
                    1,298
                    
                    
                    6,588
                    
                    
                    38,293Operating
                        loss
                    
                    
                    (282
                    )
                    
                    (97
                    )
                    
                    (926
                    )
                    
                    (1,305
                    )Depreciation
                        and amortization
                    
                    
                    4,128
                    
                    
                    139
                    
                    
                    638
                    
                    
                    4,905Significant
                        non-cash items other than depreciation and amortization:Write-down
                        of inventories
                    
                    
                    209
                    
                    
                    -
                    
                    
                    -
                    
                    
                    209**2006**Traffic
                        revenue
                    
                    
                    35,707
                    
                    
                    1,329
                    
                    
                    8,051
                    
                    
                    45,087Other
                        operating revenue
                    
                    
                    1,132
                    
                    
                    -
                    
                    
                    -
                    
                    
                    1,132Turnover
                    
                    
                    36,839
                    
                    
                    1,329
                    
                    
                    8,051
                    
                    
                    46,219Operating
                        income/(loss)
                    
                    
                    925
                    
                    
                    4
                    
                    
                    (617
                    )
                    
                    312Depreciation
                        and amortization
                    
                    
                    4,138
                    
                    
                    132
                    
                    
                    696
                    
                    
                    4,966Significant
                        non-cash items other than depreciation and amortization:Write-down
                        of inventories
                    
                    
                    161
                    
                    
                    -
                    
                    
                    -
                    
                    
                    161
  *  Asian
          market accounted for approximately 67%, 74% and 64% of the Group’s total
          international traffic revenue for the years ended December 31, 2004, 2005
          and
          2006, respectively. The remaining portion was mainly derived from the Group’s
          flights to/from European, North American and Australian regions.
  F-63
 
 **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
          TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
   The
          major
          revenue-earning assets of the Group are its aircraft fleet, all of which
          are
          registered in the PRC. Since the Group’s aircraft fleet is employed flexibly
          across its route network, there is no suitable basis of allocating such
          assets
          to geographic segments. Most of the Group’s non-aircraft assets are located in
          the PRC.
 
 **40.
          NON-CASH TRANSACTIONS**
 
 **(a)
          Acquisitions of aircraft**
 
 During
          the year ended December 31, 2004, 2005 and 2006, aircraft acquired under
          capital
          leases amounted to RMBNil, RMB6,938 and RMB3,759, respectively.
  **(b)
          Effect of the CNA/XJA Acquisitions**
 **Year
                        ended****December
                        31,****2004****RMB**Assets
                        acquired:Property,
                        plant and equipment, net
                    
                    
                    12,980Inventories
                    
                    
                    729Trade
                        receivables
                    
                    
                    314Cash
                        and cash equivalents
                    
                    
                    398Other
                        assets
                    
                    
                    1,10115,522Liabilities
                        assumed:Notes
                        payable
                    
                    
                    4,587Obligations
                        under capital leases
                    
                    
                    6,125Trade
                        payables
                    
                    
                    343Accrued
                        expenses
                    
                    
                    1,475Other
                        liabilities
                    
                    
                    1,03313,563Net
                        identifiable assets and liabilities
                    
                    
                    1,959Cash
                            consideration payable and not yet settled at December
                            31,
                            2004
                    
                    
                    1,959Net
                            cash inflow from acquisitions - cash and cash equivalents
                            acquired
                    
                    
                    398
 F-64
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
          TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  Had
          the
          CNA/XJA Acquisitions been effected on January 1, 2004, results of operations
          of
          the Group for the year ended December 31, 2004 would have been as follows:
 **The
                      Group**
                  
                  **Results
                      of****(without
                      effect**
                  
                  **airline****of
                      CNA/XJA**
                  
                  **operations****Acquisitions)**
                  
                  **of
                      CNA/XJA**
                  
                  **Combined****RMB**
                  
                  **RMB**
                  
                  **RMB**Turnover
                  
                  
                  23,974
                  
                  
                  10,057
                  
                  
                  34,031Income
                      for the year
                  
                  
                  155
                  
                  
                  170
                  
                  
                  325
  **(c)
          Effect of the acquisition of CSAHC Hainan**
 
 On
          April
          30, 2006, the Group acquired certain assets of CSAHC Hainan at a total
          consideration of RMB294, which was partly satisfied by assumption of liabilities
          of CSAHC Hainan totaling RMB289 outstanding as at that date. Details are
          as
          follows:
 **Year
                      ended****December
                      31,****2006****RMB**Assets
                      acquired:Property,
                      plant and equipment, net
                  
                  
                  131Lease
                      prepayment
                  
                  
                  35Inventories
                  
                  
                  28Trade
                      receivables
                  
                  
                  30Cash
                      and cash equivalents
                  
                  
                  38Other
                      receivables
                  
                  
                  32294Liabilities
                      assumed:Trade
                      payables
                  
                  
                  28Accrued
                      expenses
                  
                  
                  14Other
                      liabilities
                  
                  
                  247289
  F-65
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **Year
                      ended****December
                      31,****2006****RMB**Net
                      identifiable assets and liabilities
                  
                  
                  5Satisfied
                      by:Cash
                  
                  
                  5Analysis
                      of the net inflow of cash and cash equivalents in respect of
                      the
                      acquisition:Cash
                      consideration
                  
                  
                  (5
                  )Cash
                      and cash equivalents acquired
                  
                  
                  38Cash
                      and cash equivalents acquired
                  
                  
                  33
  **41.
          FINANCIAL INSTRUMENTS**
 
 Exposure
          to liquidity, interest rate, currency, jet fuel price risk credit risks
          arises
          in the normal course of the Group’s business. These risks are limited by the
          Group’s financial management policies and practices described
          below.
 
 **(a)
          Liquidity risk**
 
 As
          of
          December 31, 2006, the Group’s current liabilities exceeded its current assets
          by RMB32,180. For the year ended December 31, 2006, the Group recorded
          a net
          cash inflow from operating activities of RMB2,217, a net cash outflow from
          investing activities of RMB5,404 and a net cash inflow from financing activities
          of RMB2,550, resulting in a net decrease in cash and cash equivalents of
          RMB637.
 
 In
            2007
            and thereafter, the liquidity of the Group is primarily dependent on
            its ability
            to maintain adequate cash inflows from operations and to obtain adequate
            external finance to meet its debt obligations as they fall due and committed
            future capital expenditures. At December 31, 2006, the Group entered
            into loan
            financing agreements with several PRC banks to provide financing up to
            RMB49,041
            during 2007, of which approximately RMB28,295 was utilized. Subsequent
            to
            December 31, 2006, the Group entered into additional loan financing agreements
            to obtain financing up to RMB5,045 during 2007. The directors of the
            Company
            believe that sufficient financing will be available to the
            Group.
  F-66
  **CHINA
          SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
          SUBSIDIARIES**
 
 **NOTES
          TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
          in millions, except share data)**
  The
          directors of the Company have carried out a detailed review of the cash
          flow
          forecast of the Group for the twelve months ending December 31, 2007. Based
          on
          such forecast, the directors have determined that adequate liquidity exists
          to
          finance the working capital and capital expenditure requirements of the
          Group
          during that period. In preparing the cash flow forecast, the directors
          have
          considered historical cash requirements of the Group as well as other key
          factors, including the availability of the above-mentioned notes payable
          finance
          which may impact the operations of the Group during the next twelve-month
          period. The directors are of the opinion that the assumptions and sensitivities
          which are included in the cash flow forecast are reasonable. However, as
          with
          all assumptions in regard to future events, these are subject to inherent
          limitations and uncertainties and some or all of these assumptions may
          not be
          realized.
 
 **(b)
          Interest rate risk**
 
 The
          interest rates and maturity information of the Group’s bank and other notes
          payable, and maturity information of the Group’s capital leases obligations are
          disclosed in Notes 27 and 28, respectively.
 
 **(c)
          Foreign currency risk**
 
 The
          Renminbi is not freely convertible into foreign currencies. All foreign
          exchange
          transactions involving Renminbi must take place either through the PBOC
          or other
          institutions authorized to buy and sell foreign exchange or at a swap
          center.
 
 The
          Group
          has significant exposure to foreign currency as substantially all of the
          Group’s
          lease obligations and notes payable are denominated in foreign currencies,
          principally US dollars, and to a lesser extent, Japanese Yen. Depreciation
          or
          appreciation of the Renminbi against foreign currencies affects the Group’s
          results significantly because the Group’s foreign currency payments generally
          exceed its foreign currency receipts. The Group is not able to hedge its
          foreign
          currency exposure effectively other than by retaining its foreign currency
          denominated earnings and receipts to the extent permitted by the State
          Administration of Foreign Exchange, or subject to certain restrictive
          conditions, entering into forward foreign exchange contracts with authorized
          PRC
          banks.
 
 The
          exchange rate of Renminbi to US dollar was set by the PBOC and had fluctuated
          within a narrow band prior to July 21, 2005. Since then, a managed floating
          exchange rate regime based on market supply and demand with reference to
          a
          basket of foreign currencies has been used and US dollar exchange rate
          has
          gradually declined against the Renminbi.
  F-67
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 **(d)
          Jet fuel price risk**
 
 The
          Group
          allows for the judicious use of approved derivative instruments such as
          swaps
          and options with approved counter-parties and within approved limits to
          manage
          the risk of surge of jet fuel price. In addition, counter-party credit
          risk is
          generally restricted to any gains on changes in fair value at any time,
          and not
          the principal amount of the instrument. Therefore, the possibility of material
          loss arising in the event of non-performance by counter-party is considered
          to
          be unlikely.
 
 The
          fair
          values of derivative financial instruments of the Group at the balance
          sheet
          date are as follows:
  **December
                      31,****2005**
                  
                  **2006****Assets**
                  
                  **Liabilities**
                  
                  **Assets**
                  
                  **Liabilities****RMB**
                  
                  **RMB**
                  
                  **RMB**
                  
                  **RMB**Fuel
                      option contracts
                  
                  
                  -
                  
                  
                  -
                  
                  
                  -
                  
                  
                  26
  As
          of
          December 31, 2006, the Group had outstanding fuel option contracts to buy
          approximately 6,150,000 barrels of crude oil at prices ranging from US$55
          to
          US$79 per barrel. On the other hand, the Group sold fuel put option contracts
          to
          approved counter-parties and had outstanding option contracts at December
          31,
          2006 of approximately 12,300,000 barrels of crude oil at prices ranging
          from
          US$43 to US$60 per barrel. All contracts will expire between 2007 and
          2008.
 
 **(e)
          Credit risk**
 
 Substantially
          all of the Group’s cash and cash equivalents are deposited with PRC financial
          institutions, which management believes are of high credit quality.
 
 A
          significant portion of the Group’s air tickets are sold by agents participating
          in the Billing and Settlement Plan (“BSP”), a clearing scheme between airlines
          and sales agents organized by International Air Transportation Association
          which
          has insignificant credit risk to the Group. As of December 31, 2005 and
          2006,
          the balance due from BSP agents amounted to RMB782 and RMB863, respectively.
          The
          credit risk exposure to BSP and the remaining trade receivables balance
          has been
          monitored by the Group on an ongoing basis and the impairment losses for
          bad and
          doubtful debts have been within management’s expectations.
  F-68
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **(f)
          Fair value**
 
 (i)
          All
          financial instruments are carried at amounts not materially different from
          their
          fair values as of December 31, 2005 and 2006.
 
 The
          following methods and assumptions were used to estimate the fair value
          for each
          class of financial instruments:
 
 ·
                Cash
                    and cash equivalents, trade receivables, other receivables and
                    other
                    current assets, trade and bills payables, taxes payable and other
                    liabilities.
 
 The
          carrying values approximate their fair values because of the short maturities
          of
          these instruments.
 
 ·
                Financial
                    liabilities
 
 The
          fair
          values of fuel option contracts are determined based on dealer price quotations
          and options pricing model without any deduction for transaction
          costs.
 
 ·
                Bank
                    and other notes payable
 
 The
          fair
          value has been estimated by applying a discounted cash flow approach using
          interest rates available to the Group for similar indebtedness.
 
 Fair
          value estimates are made at a specific point in time and based on relevant
          market information about the financial instruments. These estimates are
          subjective in nature and involve uncertainties and matters of significant
          judgment and therefore cannot be determined with precision. Changes in
          assumptions could significantly affect the estimates.
 
 (ii)
          The
          economic characteristics of the Group’s capital leases vary from lease to lease.
          It is impractical to compare such leases with those prevailing in the market
          within the constraints of timeliness and cost for the purpose of estimating
          the
          fair value of such leases.
 
 (iii)
          Other non-current investments represent unlisted equity securities of companies
          established in the PRC. There is no quoted market price for such equity
          securities and accordingly a reasonable estimate of the fair value could
          not be
          measured reliably.
 
 (iv)
          Amounts due from/to related companies are unsecured, interest-free and
          have no
          fixed terms of repayment. Given these terms, it is not meaningful to disclose
          fair values of these balances.
  F-69
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **42.
          COMMITMENTS**
  **(a)
          Capital commitments**
  At
          December 31, 2006, the Group had capital commitments as follows:
  **December
                        31,****2005**
                    
                    **2006****RMB**
                    
                    **RMB**Commitments
                        in respect of aircraft and flight equipment-
                        authorized and contracted for
                    
                    
                    45,628
                    
                    
                    66,881Other
                        commitments-
                        authorized and contracted for
                    
                    
                    90
                    
                    
                    420-
                        authorized but not contracted for
                    
                    
                    2,085
                    
                    
                    1,4042,175
                    
                    
                    1,82447,803
                    
                    
                    68,705
  As
          of
          December 31, 2006, the Group had on order 130 aircraft and certain flight
          equipment, scheduled for deliveries in 2007 to 2011. Deposits of RMB8,692
          have
          been made towards the purchase of these aircraft and related equipment.
          As of
          December 31, 2006, the approximate total future payments, including estimated
          amounts for price escalation through anticipated delivery dates for these
          aircraft and flight equipment are as follows:
 **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**2006
                  
                  
                  7,341
                  
                  
                  -2007
                  
                  
                  8,945
                  
                  
                  12,2992008
                  
                  
                  14,354
                  
                  
                  22,5722009
                  
                  
                  5,300
                  
                  
                  17,4832010
                  
                  
                  9,688
                  
                  
                  14,2322011
                  
                  
                  -
                  
                  
                  29545,628
                  
                  
                  66,881
  F-70
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 As
          of
          December 31, 2006, the Group’s attributable share of the capital commitments of
          jointly controlled entities was as follows:
  **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**Authorized
                      but not contracted for
                  
                  
                  74
                  
                  
                  1
  **(b)
          Investing commitments**
  At
          December 31, 2006, the Group committed to make capital contributions in
          respect
          of:
  **December
                      31,****2005**
                  
                  **2006****RMB**
                  
                  **RMB**A
                      jointly controlled entity
                  
                  
                  83
                  
                  
                  83
  **43.
          CONTINGENCIES**
  The
          Group
          leases from CSAHC certain land in Guangzhou and certain land and buildings
          in
          Wuhan, Haikou and Zhengzhou. The Group has a significant investment in
          buildings
          and other leasehold improvements located on such land. However, such land
          in
          Guangzhou and such land and buildings in Wuhan, Haikou and Zhengzhou lack
          adequate documentation evidencing CSAHC’s rights thereto.
  The
          Group
          cannot predict the magnitude of the effect on its financial condition or
          results
          of operations to the extent that their uses of one or more of the above
          parcels
          of land or the related facilities were successfully challenged. Pursuant
          to an
          indemnification agreement dated May 22, 1997 entered into between CSAHC
          and the
          Company, CSAHC has agreed to indemnify the Group against any loss or damage
          caused by any challenge or interference with the Group’s use of any of its land
          and buildings.
  F-71
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 **44.
          NON-ADJUSTING POST BALANCE SHEET EVENTS**
 
 **(a)
          Notes payable refinanced/obtained subsequent to December 31,
          2006**
 
 (i)
          During January 1, 2007 to April 16, 2007
 
 From
            January 1, 2007 to April 16, 2007, the Group refinanced certain short-term
            notes
            payable of RMB4,170. The refinanced bank notes payable are unsecured,
            bear
            interest at floating rates ranging from 3-month/6-month LIBOR +0.50%
            to 0.55%
            per annum and are repayable within one year from their respective refinanced
            dates.
 
 In
            addition, the Group entered into new notes payable totaling RMB3,234
            subsequent
            to December 31, 2006 and up to April 16, 2007. These new notes payable
            are
            unsecured and bear interest at floating rates ranging from
            3-month/6-month/12-month LIBOR +0.45% to 0.55% per annum and are repayable
            within five months to one year from their respective origination
            dates.
 
 (ii)
          During April 17, 2007 to May 31, 2007
  From
            April 17, 2007 to May 31, 2007, the Group entered into additional new
            notes
            payable totaling RMB3,201. These additional new notes payable are unsecured,
            bear interest at floating rate of 6-month LIBOR + 0.45% to 0.55% per
            annum and
            repayable within six months to one year from their respective origination
            dates.
 
 **(b)
          New tax law**
 
 On
          March
          16, 2007, the Fifth Plenary Session of the Tenth National People’s Congress
          passed the Corporate Income Tax Law of the People’s Republic of China (“new tax
          law”) which will take effect on January 1, 2008. The Company and certain
          subsidiaries of the Group are entitled to preferential income tax rates
          in the
          range of 15% to 27%. From January 1, 2008, the income tax rate of companies
          who
          are currently enjoying preferential income tax rates lower than 25% is
          expected
          to increase to the standard rate of 25% over a five-year transition period.
          However, the new tax law has not set out the details as to how the existing
          preferential tax rate will increase to the standard rate of 25%. Consequently,
          the Group is not able to make an estimate of the expected financial effect
          of
          the new tax law on its deferred tax assets and liabilities. The expected
          financial effect of the new tax law, if any, will be reflected in the Company’s
          2007 consolidated financial statements. The enactment of the new tax law
          is not
          expected to have any financial effect on the amounts accrued in the consolidated
          balance sheet in respect of current tax payable.
  F-72
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 **(c)
          Share reform**
  On
          April
          13, 2007, the Company issued a notice to holders of the listed and circulating
          A
          Shares (“Circulating A Shares”) to convene a relevant shareholders’ meeting on
          May 17, 2007 (“Relevant Shareholders’ Meeting”) for the purpose of seeking
          shareholders’ approval of the proposal for converting all the Company’s unlisted
          and non-circulating shares (“Non-circulating Shares”) to Circulating A Shares
          (“Share Reform Proposal”). CSAHC is the only holder of the Non-circulating
          Shares.
 
 As
          disclosed in the announcement dated April 13, 2007 and subsequently revised
          on
          23 April, 2007, the consideration payable as proposed by CSAHC to the holders
          of
          Circulating A Shares in connection with the Share Reform Proposal is a
          total of
          1,400,000,000 put warrants of the Company’s shares (“Put Warrants”). The holders
          of the Circulating A Shares registered on the shareholders’ register on May 8,
          2007 will be granted 14 Put Warrants for every 10 A Shares held by such
          shareholders, equivalent to 1.5970 shares for every 10 A Shares. The exercise
          ratio is two warrants to one share and the initial exercise price of the
          Put
          Warrant is RMB7.43. The rights of the Put Warrants (European style) are
          exercisable by the holders during the last five trading days of the warrant
          period which is twelve months. CSAHC will announce the exercise method
          of rights
          under the Put Warrants within six months after the listing of the Put
          Warrants.
 
 CSAHC
          undertakes that it will not trade or transfer any of the Company’s shares it
          holds for a thirty-six-month period commencing from the effective date
          of the
          Share Reform Proposal (“Lock-up Period”). After expiration of the Lock-up
          Period, CSAHC may sell the Non-circulating Shares through trading on the
          Shanghai Stock Exchange, and the number of shares it will sell within the
          12-month period and 24-month period will not exceed 5% and 10%, respectively,
          of
          the total number of shares held by CSAHC. The shares subject to restriction
          as
          mentioned above do not include those shares purchased by CSAHC upon the
          exercise
          of rights under the Put Warrants after the implementation of the share
          reform
          plan.
 
 In
          accordance with the provisions of “Provisional Measures of the Shanghai Stock
          Exchange for Warrants” and the relevant requirements of the Shanghai Stock
          Exchange, CSAHC will place deposits to China Securities Depository and
          Clearing
          Corporation Limited Shanghai Branch as a performance bond for the Put
          Warrants.
 
 CSAHC
          also undertakes that at the annual shareholders meetings of the Company
          in
          respect of 2007 through 2009, CSAHC will propose that the dividends of
          the
          Company be distributed in cash and will vote in favor of such distribution
          plan
          so that the average annual percentage of dividend to be distributed in
          cash in
          respect of 2007 through 2009 will not be lower than 50% of the total income
          distributable to the equity shareholders in these three years.
 
 The
          share
          reform plan was approved in the Relevant Shareholders’ Meeting held on May, 17
          2007.
 **(d)
              Litigation**
 A
              writ of
              summons was issued on May 30, 2007 by certain sales agents in Taiwan
              (the
“plaintiffs”) against the Company for the alleged breach of certain terms and
              conditions of a cooperative agreement (the “cooperative agreement”). The
              plaintiffs have made a claim against the Company for a total sum of
              approximately RMB107 in respect of the alleged non-payment of sales
              commission
              on air tickets sold in Taiwan, annual bonus and interest on late payment
              during
              the period from September 1, 2004 to August 31, 2006. The plaintiffs
              have also
              claimed against the Company for an unspecified compensation for early
              termination of the cooperative agreement. Both the plaintiffs and the
              Company
              are required to present the evidence to the Court on July 25, 2007
              and the first
              hearing will be held on July 30, 2007.
 
 The
              directors consider that, given the nature of the claims and the preliminary
              status of the proceedings, it is not possible to estimate the eventual
              outcome
              of the claims, with reasonable certainty at this stage. However, the
              directors
              are of the opinion that the claims are without merit and have instructed
              its
              legal advisor to defend the claims vigorously. The directors consider
              that the
              outstanding claim should have no material adverse effect on the financial
              position of the Group.
 F-73
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **45.
          COMPARATIVE FIGURES**
 
 IAS
          16
          (amended 2004) Property, Plant and Equipment (“revised policy”) is effective on
          January 1, 2005. Under the revised policy, overhaul cost is capitalized
          in the
          carrying amount of property, plant and equipment when the major overhaul
          is
          performed. Any remaining carrying amount of the cost of the previous inspection
          is derecognized. The effect of adoption of the revised policy was not reflected
          in the 2005 consolidated financial statements as management determined
          the
          impact to the consolidated financial statements was immaterial.
 For
            the
            purpose of the preparation of the 2006 consolidated financial statements,
            the
            following comparative figures for the year ended December 31, 2005 have
            been
            corrected for immaterial errors to reflect the impact of the prospective
            adoption of the revised policy on January 1, 2005:
  **As
                        originally reported**
                    
                    **Adjustments**
                    
                    **As
                        adjusted****RMB**
                    
                    **RMB**
                    
                    **RMB****Statement
                        of operations line items:**Maintenance
                    
                    
                    4,589
                    
                    
                    (538
                    )
                    
                    4,051Depreciation
                        and amortization
                    
                    
                    4,440
                    
                    
                    465
                    
                    
                    4,905Income
                        tax expense
                    
                    
                    7
                    
                    
                    (11
                    )
                    
                    (4
                    )Loss
                        for the year
                    
                    
                    (1,846
                    )
                    
                    62
                    
                    
                    (1,784
                    )Basic
                        and diluted loss per share
                    
                    
                    (0.42
                    )
                    
                    0.01
                    
                    
                    (0.41
                    )**Balance
                        sheet line items:**Property,
                        plant and equipment, net
                    
                    
                    54,266
                    
                    
                    73
                    
                    
                    54,339Deferred
                        tax assets
                    
                    
                    74
                    
                    
                    (11
                    )
                    
                    63Total
                        assets
                    
                    
                    71,402
                    
                    
                    62
                    
                    
                    71,464Accumulated
                        losses
                    
                    
                    (390
                    )
                    
                    62
                    
                    
                    (328
                    )Total
                        equity
                    
                    
                    11,936
                    
                    
                    62
                    
                    
                    11,998
 
 **46.
          IMMEDIATE AND ULTIMATE CONTROLLING PARTY**
 
 As
          of
          December 31, 2006, the directors of the Company consider the parent and
          ultimate
          holding company of the Group to be CSAHC, a state-owned enterprise established
          in the PRC. This entity does not produce financial statements available
          for
          public use.
 
 **47.
          ACCOUNTING ESTIMATES AND JUDGMENTS**
 
 The
          Groups’ financial position and results of operations are sensitive to accounting
          methods, assumptions and estimates that underlie the preparation of the
          consolidated financial statements. The Group bases the assumptions and
          estimates
          on historical experience and on various other assumptions that the Group
          believes to be reasonable and which form the basis for making judgments
          about
          matters that are not readily apparent from other sources. On an on-going
          basis,
          management evaluates its estimates. Actual results may differ from those
          estimates as facts, circumstances and conditions change.
 
 The
          selection of critical accounting policies, the judgments and other uncertainties
          affecting application of those policies and the sensitivity of reported
          results
          to changes in condition and assumptions are factors to be considered when
          reviewing the consolidated financial statements. The principal accounting
          policies are set forth in Note 2. The Group believes the following critical
          accounting policies involve the most significant judgments and estimates
          used in
          the preparation of the consolidated financial statements.
  F-74
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 **Impairment
          of long-lived assets**
  If
          circumstances indicate that the net book value of a long-lived asset may
          not be
          recoverable, this asset may be considered “impaired”, and an impairment loss may
          be recognized in accordance with IAS 36 “Impairment of Assets”. The carrying
          amounts of long-lived assets are reviewed periodically in order to assess
          whether the recoverable amounts have declined below the carrying amounts.
          These
          assets are tested for impairment whenever events or changes in circumstances
          indicate that their recorded carrying amounts may not be recoverable. When
          such
          a decline has occurred, the carrying amount is reduced to recoverable amount.
          The recoverable amount is the greater of the net selling price and the
          value in
          use. In determining the value in use, expected cash flows generated by
          the asset
          are discounted to their present value, which requires significant judgment
          relating to level of traffic revenue and amount of operating costs. The
          Group
          uses all readily available information in determining an amount that is
          a
          reasonable approximation of recoverable amount, including estimates based
          on a
          reasonable and supportable assumptions and projections of traffic revenue
          and
          amount of operating costs.
 
 **Depreciation**
 
 Property,
          plant and equipment are depreciated on a straight-line basis over the estimated
          useful lives, after taking into account the estimated residual value. The
          Group
          reviews the estimated useful lives of the assets regularly in order to
          determine
          the amount of depreciation expense to be recorded during any reporting
          period.
          The useful lives are based on the Group’s historical experience with similar
          assets and taking into account anticipated technological changes. The
          depreciation expense for future periods is adjusted if there are significant
          changes from previous estimates.
 
 **Impairment
          of trade receivables**
 
 The
          Group
          maintains an impairment loss for doubtful accounts for estimated losses
          resulting from the inability of the debtors to make required payments.
          The Group
          bases the estimates of future cash flows on the ageing of the trade receivables
          balance, debtors’ credit-worthiness, and historical write-off experience. If the
          financial condition of the debtors were to deteriorate, actual write-offs
          would
          be higher than estimated.
  F-75
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **48.
          POSSIBLE IMPACT OF AMENDMENTS, NEW STANDARDS AND INTERPRETATION ISSUED
          BUT NOT
          YET EFFECTIVE FOR THE YEAR ENDED DECEMBER 31, 2006**
 
 Up
          to the
          date of issue of these consolidated financial statements, the IASB has
          issued a
          number of amendments, new standards and interpretations which are not yet
          effective for the year ended December 31, 2006 and which have not been
          adopted
          in these consolidated financial statements.
 
 The
          Group
          is in the process of making an assessment of what the impact of these
          amendments, new standards and new interpretations is expected to be in
          the
          period of initial application. So far it has concluded that the adoption
          of them
          is unlikely to have a significant impact on the Group’s results of operations
          and financial position.
 
 In
          addition, the following developments may result in new or amended disclosures
          in
          the consolidated financial statements:
 
 **Effective
                      for accounting periods beginning on or after**IFRS
                      7, Financial instruments: disclosure
                  
                  January
                      1, 2007Amendments
                      to IAS 1, Presentation of financial statements
                    -
                      capital disclosures
                  
                  January
                      1, 2007
  F-76
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 **49.
          SUBSIDIARIES**
  The
          particulars of the Group’s principal subsidiaries as of December 31, 2006 are as
          follows:
  Name
                    of company
                
                Place
                    of establishment / operation
                
                Registered
                    capital
                
                Proportion
                    of ownership interest held by the Company
                
                Principal
                    activitiesGuangxi
                    Airlines Company Limited (a)
                
                PRC
                
                RMB170,900,000
                
                100%
                
                AirlineSouthern
                    Airlines (Group) Shantou Airlines Company Limited (a)
                
                PRC
                
                RMB280,000,000
                
                60%
                
                AirlineZhuhai
                    Airlines Company Limited (a)
                
                PRC
                
                RMB250,000,000
                
                60%
                
                AirlineXiamen
                    Airlines Company Limited (a)
                
                PRC
                
                RMB700,000,000
                
                60%
                
                AirlineGuizhou
                    Airlines Company Limited (a)
                
                PRC
                
                RMB80,000,000
                
                60%
                
                AirlineGuangzhou
                    Air Cargo Company Limited (a)
                
                PRC
                
                RMB238,000,000
                
                70%
                
                Cargo
                    servicesGuangzhou
                    Baiyun International Logistic Company Limited (a)
                
                PRC
                
                RMB50,000,000
                
                61%
                
                Logistics
                    operationsGuangzhou
                    Nanland Air Catering Company Limited (b)
                
                PRC
                
                RMB120,000,000
                
                75%
                
                Air
                    cateringChina
                    Southern West Australian Flying College Pty Limited
                
                Australia
                
                AUD100,000
                
                65%
                
                Pilot
                    training servicesXinjiang
                    Civil Aviation Property Management Limited (a)
                
                PRC
                
                RMB251,332,832
                
                51.8%
                
                Property
                    management
 
 (a)
          These
          subsidiaries are PRC limited liability companies.
 
 (b)
          This
          subsidiary is Sino-foreign equity joint venture company established in
          the
          PRC.
  F-77
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **50.
          AFFILIATED COMPANIES AND JOINTLY CONTROLLED ENTITIES**
  The
          particulars of the Group’s principal affiliated companies and jointly controlled
          entities as of December 31, 2006 are as follows:
  Proportion
                        of ownership interest held byName
                      of company
                    
                    
                    Place
                        of establishment/
                        operation
                    
                    
                    Group’s
                        effective interest
                    
                    
                    The
                        Company
                    
                    
                    subsidiaries
                    
                    
                    Principal
                        activitiesGuangzhou
                        Aircraft Maintenance Engineering CompanyLimited
                        (a),(b)
                    
                    
                    PRC
                    
                    
                    50%
                    
                    
                    50%
                    
                    
                    -
                    
                    
                    Provision
                        of aircraft repair and maintenance servicesChina
                        Southern Airlines Group Finance Company Limited
                    
                    
                    PRC
                    
                    
                    34%
                    
                    
                    21.1%
                    
                    
                    12.9%
                    
                    
                    Provision
                        of financial servicesSichuan
                        Airlines Corporation Limited
                    
                    
                    PRC
                    
                    
                    39%
                    
                    
                    39%
                    
                    
                    -
                    
                    
                    AirlineMTU
                        Maintenance Zhuhai Co. Ltd (a)
                    
                    
                    PRC
                    
                    
                    50%
                    
                    
                    50%
                    
                    
                    -
                    
                    
                    Provision
                        of engine repair and maintenance servicesChina
                        Postal Cargo Airlines Limited (a)
                    
                    
                    PRC
                    
                    
                    49%
                    
                    
                    49%
                    
                    
                    -
                    
                    
                    AirlineZhuhai
                        Xiang Yi Aviation Technology Company Limited (a)
                    
                    
                    PRC
                    
                    
                    51%
                    
                    
                    51%
                    
                    
                    -
                    
                    
                    Provision
                        of flight simulation servicesBeijing
                        Southern Airlines Ground Services Company Limited (a)
                    
                    
                    PRC
                    
                    
                    50%
                    
                    
                    50%
                    
                    
                    -
                    
                    
                    Provision
                        of airport ground services
  
 (a)
          These
          are jointly controlled entities.
 
 (b)
          This
          jointly controlled entity is PRC joint ventures which have limited life
          pursuant
          to the PRC law.
  F-78
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 **51.
          SIGNIFICANT DIFFERENCES BETWEEN IFRS AND U.S. GAAP**
 
 The
          Group’s accounting policies conform with IFRSs which differ in certain
          significant respects from U.S. GAAP. Information relating to the nature
          and
          effect of such differences is set out below.
 
 **(a)
          CNA/XJA Acquisitions**
 
 As
          disclosed in Note 37(c) to the consolidated financial statements prepared
          under
          IFRSs, the Group acquired the airline operations and certain related assets
          and
          liabilities of CNA and XJA with effect from December 31, 2004. Under IFRSs,
          the
          purchase method of accounting was applied to such business combination
          such that
          at December 31, 2004 only the acquired assets and assumed liabilities are
          included in the consolidated financial statements of the Group. The results
          of
          the acquired operations and their related cash flows were included in the
          consolidated financial statement of the Group beginning January 1,
          2005.
 
 Under
          U.S. GAAP, such transaction is considered to be “a combination of entities under
          common control”. A combination of entities under common control is accounted for
          in a manner similar to a “pooling-of-interests”. Consequently, the assets and
          liabilities of CNA and XJA are reflected at their historical net asset
          carrying
          values and the U.S. GAAP consolidated financial statements of the Group
          are
          restated to include the historical carrying values of assets and liabilities
          of
          CNA and XJA, and their results of operations and cash flows for all the
          periods
          presented.
 
 **(b)
          Sale and leaseback accounting**
 
 Under
          IFRSs, gains on sale and leaseback transactions where the subsequent lease
          is an
          operating lease are recognized as income immediately, if the transactions
          are
          established at fair value. Differences between the sale price and fair
          value are
          deferred and amortized over the period for which the assets are expected
          to be
          used. Under U.S. GAAP, such gains are deferred and amortized over the term
          of
          the lease.
 
 **(c)
          Lease arrangements**
 
 As
          disclosed in Note 20 to the consolidated financial statements, during 2002
          and
          2003, the Group entered into two separate arrangements with certain independent
          third parties under which the Group sold aircraft and then immediately
          leased
          back the aircraft for a pre-determined period.
 
 As
          a
          result of the lease arrangements, the Group received a net cash benefit
          of RMB52
          and RMB69 in 2002 and 2003, respectively, which were recognized as income
          under
          IFRSs. Under U.S. GAAP, such benefits are deferred and amortized over the
          minimum lease period.
 
 In
          addition, under the lease arrangements, the commitments by the Group to
          make
          long-term lease payments are defeased by the placement of security deposits.
          As
          such, under IFRSs, such commitments and deposits are not recognized on
          the
          consolidated balance sheets. Under U.S. GAAP, such commitments and deposits
          amounting to RMB2,376 and RMB2,272 as of December 31, 2005 and 2006,
          respectively, would be recognized on the consolidated balance sheets, as
          such
          commitments are not deemed as extinguished by the placement of security
          deposits.
  F-79
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **(d)
          Capitalized interest**
 
 Under
          IFRSs, the Group capitalizes interest costs to the extent the related borrowings
          are directly attributable to the acquisition or construction of an
          asset.
 
 Under
          U.S. GAAP, if average accumulated expenditures for the asset exceed the
          amounts
          of new borrowings associated with the asset, additional interest costs
          capitalized are based on the weighted average interest rate applicable
          to other
          borrowings of the entity.
 
 **(e)
          Revaluation of property, plant and equipment**
 
 In
          connection with the Reorganization in 1996, the property, plant and equipment
          of
          the Group were revalued as of December 31, 1996 (see Notes 2 and 20 to
          the
          consolidated financial statements). Such revaluation resulted in an increase
          in
          shareholders’ equity with respect to the increase in carrying amount of certain
          property, plant and equipment above their historical cost bases, while
          a charge
          to the consolidated statement of operations was recorded with respect to
          the
          reduction in carrying amount of certain property, plant and equipment below
          their historical cost bases. In addition, the revalued property, plant
          and
          equipment amounts serve as the tax bases of property, plant and equipment
          for
          years beginning in 1997. Accordingly, the revaluation eliminated certain
          of the
          temporary differences which gave rise to a deferred tax asset as of December
          31,
          1996. Such tax asset was offset against the revaluation surplus.
  Under
          U.S. GAAP, property, plant and equipment are stated at their historical
          cost
          unless an impairment loss has been recorded. An impairment loss on property,
          plant and equipment is recorded under U.S. GAAP if the carrying amount
          of such
          asset exceeds its future undiscounted cash flows, excluding finance costs.
          The
          future undiscounted cash flows, excluding finance costs, of the Group’s
          property, plant and equipment whose carrying amount was reduced in connection
          with the Reorganization, exceed their historical cost carrying amount and,
          therefore, impairment of such assets is not appropriate under U.S. GAAP.
          Accordingly, the revaluation reserve recorded directly to shareholders’ equity
          and the charge recorded under IFRSs in 1996 and the additional depreciation
          charges recorded as a result of the Reorganization are reversed for U.S.
          GAAP
          purposes.
 
 However,
          as a result of the tax deductibility of the net revaluation reserve, a
          deferred
          tax asset related to the reversal of the net revaluation reserve is created
          under U.S. GAAP with a corresponding increase in shareholders’ equity as of
          December 31, 1996. Such deferred tax asset will be reversed upon depreciation
          of
          the net revaluation surplus included in the property, plant and equipment
          beginning 1997.
 
 The
          net
          revaluation surplus was fully depreciated and the related deferred tax
          asset
          recorded was fully reversed in 2004.
  F-80
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 **(f)
          Investments in affiliated company and jointly controlled
          entity**
 
 During
          2002, the Group invested in an affiliated company and a jointly controlled
          entity, which were PRC state-owned enterprises. Under IFRSs, such investments
          are initially recorded on a fair value basis at the cost of purchases borne
          by
          the Group. In the consolidated statements of income, the equity share of
          results
          of the investees are measured based on the fair value of underlying net
          assets
          determined on the dates of acquisitions.
 
 Under
          U.S. GAAP, such transactions are considered to be “combinations of businesses
          under common control”. Consequently, such investments are initially recorded at
          the Group’s equity share of net assets of the investees determined on a
          historical cost basis. The differences between such amounts and the cost
          of
          purchases are reflected as movements in the shareholders’ equity. In the
          consolidated statement of operations, the equity share of results of the
          investees are measured based on the historical cost basis.
 
 **(g)
          Minority interests**
 
 Under
          IFRSs, minority interests at the balance sheet date are presented in the
          consolidated balance sheet within equity, separately from the equity
          attributable to the equity shareholders of the Company, and minority interests
          in the results of the Group for the year are presented in the consolidated
          statement of operations as an allocation of the total net income/(loss)
          for the
          year between the minority interests and the equity shareholders of the
          Company.
          Under U.S. GAAP, minority interests at the balance sheet date are presented
          in
          the consolidated balance sheet either as liabilities or separately from
          liabilities and equity. Minority interests in the results of the Group
          for the
          year are also separately presented in the consolidated statement of operations as a
          component of net income/(loss).
  F-81
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  **(h)
          Financial statements presentation and disclosure**
  (i)
          (Loss)/gain on sale of property, plant and equipment
 
 In
          the
          consolidated statement of operations presented under IFRSs, (loss)/gain
          on sale
          of property, plant and equipment is classified under “Non-operating
          income/(expenses)”. Under U.S. GAAP, such (loss)/gain is classified under
“Operating expenses - General and administrative”.
 
 (ii)
          Classification of short-term obligations expected to be refinanced
 
 As
            described in Note 44(a)(i) to the consolidated financial statements prepared
            under IFRSs, the short-term notes payable included certain notes payable
            of
            RMB4,170 which were refinanced subsequent to December 31, 2006. The maturity
            of
            these notes payable is extended for twelve months to a date after December
            31,
            2007.
 
 Under
            U.S. GAAP, such short-term obligations which were refinanced on a long-term
            basis after the balance sheet date but before issuance of financial statements
            are classified as non-current liabilities. Consequently, under U.S. GAAP,
            short-term notes payable and consolidated net current liabilities at
            December
            31, 2006 would be RMB19,652 and RMB28,010, respectively.
 
 (iii)
          Presentation of dividends received in the consolidated statement of cash
          flows
 
 In
          the
          consolidated statement of cash flows presented under IFRSs, dividends received
          are classified within investing activities. Under U.S. GAAP, such dividends
          received are classified within operating activities.
 
 (iv)
          Presentation of cash flows from purchases, sales and maturities of trading
          securities in the consolidated statement of cash flows
 
 In
          the
          consolidated statements of cash flows presented under IFRSs, cash flows
          from
          purchases, sales and maturities of trading securities are classified within
          investing activities. Under U.S. GAAP, such cash flows are classified within
          operating activities.
 
 (v)
          Deferred tax assets/liabilities
 
 As
          disclosed in Note 25 to the consolidated financial statements, deferred
          tax
          assets are presented on a net basis under IFRSs. Under U.S. GAAP, the gross
          amounts of such deferred tax assets and any applicable valuation allowances
          are
          separately disclosed.
 
 In
          addition, deferred tax liabilities and assets should be classified as
          non-current when a classified balance sheet is presented under IFRSs. Under
          U.S.
          GAAP, an enterprise shall separate deferred tax liabilities and assets
          into a
          current amount and a non-current amount based on the classification of
          the
          related asset or liability for financial reporting.
  F-82
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 The
          U.S.
          GAAP presentation of deferred tax assets/(liabilities) as of December 31,
          2005
          and 2006 are as follows:
  **December
                        31,****2005**
                    
                    **2006****RMB**
                    
                    **RMB**Deferred
                        tax assets:Tax
                        losses
                    
                    
                    347
                    
                    
                    153Repair
                        charges capitalized
                    
                    
                    264
                    
                    
                    203Accrued
                        expenses
                    
                    
                    175
                    
                    
                    465Others
                    
                    
                    29
                    
                    
                    38Total
                        deferred tax assets
                    
                    
                    815
                    
                    
                    859Less:
                        valuation allowance
                    
                    
                    (188
                    )
                    
                    (153
                    )627
                    
                    
                    706Deferred
                        tax liabilities:Accrued
                        expenses
                    
                    
                    58
                    
                    
                    105Depreciation
                        allowances in excess of the related depreciation
                    
                    
                    832
                    
                    
                    878Others
                    
                    
                    16
                    
                    
                    -Total
                        deferred tax liabilities
                    
                    
                    906
                    
                    
                    983(279
                    )
                    
                    (277
                    )Representing:Deferred
                        tax assets - current portion
                    
                    
                    60
                    
                    
                    234Deferred
                        tax assets - non-current portion
                    
                    
                    3
                    
                    
                    -Deferred
                        tax liabilities - current portion
                    
                    
                    (57
                    )
                    
                    (43
                    )Deferred
                        tax liabilities - non-current portion
                    
                    
                    (285
                    )
                    
                    (468
                    )(279
                    )
                    
                    (277
                    )
 The
          valuation allowance was RMB53 as of January 1, 2004. During the years ended
          December 31, 2004, 2005 and 2006, the valuation allowance increased by
          RMBNil,
          RMB135 and decreased by RMB35, respectively.
  F-83
  **CHINA
              SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
              SUBSIDIARIES**
 
 **NOTES
              TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
              in millions, except share data)**
 **(i)
          Recently issued accounting standards**
 
 (i)
          SAB
          108
 
 In
            September 2006, the Securities and Exchange Commission issued Staff Accounting
            Bulletin No. 108 (“SAB 108”) which addresses how the effects of prior-year
            uncorrected misstatements should be considered when quantifying misstatements
            in
            current-year financial statements. SAB 108 requires registrants to quantify
            misstatements using both the balance-sheet and income-statement approaches
            and
            to evaluate whether either approach results in quantifying an error that
            is
            material in light of relevant quantitative and qualitative factors. SAB
            108 is
            effective for fiscal years ending after November 15, 2006. The adoption
            of SAB
            108 in 2006 did not have any impact on the Group’s consolidated financial
            statements.
 
 (ii)
          SFAS
          No. 157
 
 In
          September 2006, the FASB issued SFAS No. 157 “Fair Value Measurements” which
          defines fair value, provides a framework for measuring fair value, and
          expands
          the disclosures required for fair value measurements. SFAS No. 157 applies
          to
          other accounting pronouncements that require fair value measurements and
          does
          not require any new fair value measurements. SFAS No. 157 is effective
          for
          fiscal years beginning after November 15, 2007. Currently, the Group does
          not
          expect the adoption of SFAS No. 157 will have a material impact on its
          consolidation financial statements.
 
 (iii)
          FIN
          No. 48
 
 In
            June
            2006, the FASB issued FASB Interpretation No. 48 “Accounting for Uncertainty in
            Income Taxes - an interpretation of SFAS No. 109” (“FIN 48”). FIN 48 requires
            that the Group recognizes in the consolidated financial statements the
            impact of
            a tax position, if that position is more likely than not of being sustained
            upon
            examination, based on the technical merits of the position. FIN 48 will
            be
            effective for the first fiscal year beginning after December 15, 2006.
            The Group
            is currently evaluating the impact of adopting FIN48 on its results of
            operations and financial position.
 
 (iv)
          FSP
          AUG AIR-1
 
 In
          September 2006, the FASB issued FASB Staff Position No. AUG AIR-1, “Accounting
          for Planned Major Maintenance Activities” (“FSP AUG AIR-1”). This guidance
          prohibits the use of the accrue-in-advance method of accounting for planned
          major overhaul activities because an obligation has not occurred and therefore
          a
          liability should not be recognized. FSP AUG AIR-1 will be effective for
          the
          first fiscal year beginning after December 15, 2006. The Group is in the
          process
          of assessing the impact of adopting FSP AUG AIR-1 on its results of operations
          and financial position.
  F-84
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  In
          respect of aircraft held under operating leases, major overhauls are required
          to
          be performed on the aircraft during the period of the leases (“regular major
          overhauls”) and upon return of the aircraft. The Group’s current policy under
          both IFRSs and U.S. GAAP is to accrue for estimated costs of regular major
          overhauls over the estimated period between overhauls in respect of these
          aircraft. After the aircraft has completed its last regular major overhaul,
          the
          expected cost of overhaul to be incurred at the end of the lease is estimated
          and accrued over the remaining period of the lease. As a result of FSP
          AUG
          AIR-1, the Group intends to change its policy under U.S. GAAP to the direct
          expense method for accounting for the regular major overhauls in respect
          of
          these aircraft. Accordingly, the Group anticipates that due to the prohibition
          by FSP AUG AIR-1 of accrual of cost of major overhauls before the maintenance
          is
          performed, under U.S. GAAP the provision of RMB219 at December 31, 2006
          will be
          reversed upon adoption of FSP AUG AIR-1 through a prior period
          adjustment.
 
 Effect
          on
          net income/(loss) of significant differences between IFRSs and U.S. GAAP
          is as
          follows:
  **Reference**
                    
                    
                    **Year
                        ended December 31,****in
                        Note**
                    
                    
                    **2004**
                    
                    
                    **2005**
                    
                    
                    **2006****above**
                    
                    
                    **RMB**
                    
                    
                    **RMB**
                    
                    
                    **RMB**(Loss)/income
                        attributable to the equity shareholdersof
                        the Company under IFRSs
                    
                    
                    
                    
                    
                    (48
                    )
                    
                    (1,786
                    )
                    
                    126U.S.
                        GAAP adjustments:Net
                        income before tax attributable toacquisition
                        of airlines operations ofCNA
                        and XJA
                    
                    
                    (a
                    )
                    
                    354
                    
                    
                    159
                    
                    
                    74Sale
                        and leaseback accounting
                    
                    
                    (b
                    )
                    
                    115
                    
                    
                    115
                    
                    
                    86Lease
                        arrangements
                    
                    
                    (c
                    )
                    
                    7
                    
                    
                    7
                    
                    
                    7Capitalized
                        interest
                    
                    
                    (d
                    )
                    
                    (13
                    )
                    
                    (9
                    )
                    
                    (35
                    )Reversal
                        of additional depreciation arising fromrevaluation
                        of property, plant and equipment
                    
                    
                    (e
                    )
                    
                    13
                    
                    
                    -
                    
                    
                    -Investments
                        in affiliated company andjointly
                        controlled entity
                    
                    
                    (f
                    )
                    
                    7
                    
                    
                    7
                    
                    
                    (14
                    )Deferred
                        tax effects-
                        current year
                    
                    
                    
                    
                    
                    (16
                    )
                    
                    (17
                    )
                    
                    (11
                    )-
                        effect on the change in the Company's income tax rate
                    
                    
                    
                    
                    
                    -
                    
                    
                    -
                    
                    
                    1-
                        tax effect of acquisition of airlineoperations
                        of CNA and XJA
                    
                    
                    
                    
                    
                    (81
                    )
                    
                    (23
                    )
                    
                    (25
                    )-
                        effect on the change in income tax rate applicableto
                        airline operations of CNA and XJA
                    
                    
                    
                    
                    
                    (99
                    )
                    
                    79
                    
                    
                    7Net
                        income/(loss) under U.S. GAAP
                    
                    
                    
                    
                    
                    239
                    
                    
                    (1,468
                    )
                    
                    216Basic
                        and diluted earnings/(loss) per share under U.S. GAAP
                    
                    
                    
                    
                    
                    0.05
                    
                    
                    (0.34
                    )
                    
                    0.05Basic
                        and diluted earnings/(loss) per ADS under U.S. GAAP *
                    
                    
                    
                    
                    
                    2.50
                    
                    
                    (17.00
                    )
                    
                    2.50
  *Basic
                      earnings/(loss) per ADS is calculated on the basis that one
                      ADS is
                      equivalent to 50 H shares.
  F-85
  **CHINA
                SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
                SUBSIDIARIES**
 
 **NOTES
                TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
                in millions, except share data)**
  Effect
                  on
                  shareholders’ equity of significant differences between IFRSs and U.S. GAAP is
                  as follows:
  **Reference**
                      
                      **December
                          31,****in
                          Note**
                      
                      **2005**
                      
                      **2006****above**
                      
                      **RMB**
                      
                      **RMB**Total
                          shareholders' equity under IFRSs
                      
                      
                      
                      
                      
                      11,998
                      
                      
                      12,121U.S.
                          GAAP adjustments:Shareholders'
                          equity effect attributableto
                          airline operations of CNA and XJA
                      
                      
                      (a
                      )
                      
                      (372
                      )
                      
                      (298
                      )Sale
                          and leaseback accounting
                      
                      
                      (b
                      )
                      
                      (242
                      )
                      
                      (156
                      )Lease
                          arrangements
                      
                      
                      (c
                      )
                      
                      (100
                      )
                      
                      (93
                      )Capitalized
                          interest
                      
                      
                      (d
                      )
                      
                      326
                      
                      
                      291Investments
                          in affiliated company andjointly
                          controlled entity
                      
                      
                      (f
                      )
                      
                      (97
                      )
                      
                      (111
                      )Deferred
                          tax asset effect on acquisition of airlinesoperations
                          of CNA and XJA
                      
                      
                      
                      
                      
                      122
                      
                      
                      104Deferred
                          tax effects
                      
                      
                      
                      
                      
                      2
                      
                      
                      (8
                      )Minority
                          interest
                      
                      
                      (g
                      )
                      
                      (1,936
                      )
                      
                      (1,933
                      )Net
                          shareholders' equity under U.S. GAAP
                      
                      
                      
                      
                      
                      9,701
                      
                      
                      9,917
  Movement
          of changes in total shareholders’ equity under U.S. GAAP is as
          follows:
 **RMB**Shareholders'
                        equity at January 1, 2004
                    
                    
                    13,098Net
                        income
                    
                    
                    239Net
                        assets distributed to CSAHC (note a)
                    
                    
                    (28
                    )Elimination
                        of net deferred tax assets (note b)
                    
                    
                    (181
                    )Distributions
                        to CSAHC
                    
                    
                    (1,959
                    )Shareholders'
                        equity at December 31, 2004
                    
                    
                    11,169Net
                        loss
                    
                    
                    (1,468
                    )Shareholders'
                        equity at December 31, 2005
                    
                    
                    9,701Net
                        income
                    
                    
                    216Shareholders'
                        equity at December 31, 2006
                    
                    
                    9,917
 Notes:
  (a)
          In
          connection with the CNA/XJA Acquisitions, certain assets and liabilities
          of CNA
          and XJA which were not to be acquired by the Company were transferred during
          2004 to CSAHC, the owner of CNA and XJA.
 
 (b)
          As a
          result of the CNA/XJA Acquisitions, the tax losses attributable to the
          airline
          operations of CNA and XJA are no longer available for utilization against
          future
          taxable income of such operations. Accordingly, the deferred tax assets
          arising
          from such tax losses and related valuation allowance were eliminated against
          equity.
 
 F-86
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  The
          following are condensed consolidated statement of operations, cash flows
          and
          changes in total shareholders’ equity under U.S. GAAP for the year ended
          December 31, 2004 and additional financial information restated to reflect
          the
          impact of the effects of the combination of CNA and XJA and the Group in
          a
          manner similar to a pooling of interests prepared on a U.S. GAAP basis.
          As the
          CNA/XJA Acquisitions were completed on December 31, 2004, condensed consolidated
          balance sheets under U.S. GAAP at December 31, 2005 and 2006 and condensed
          consolidated statements of income, cash flows and changes in total shareholders’
equity under U.S. GAAP for each of the years ended December 31, 2005 and
          2006
          are not presented in these consolidated financial statements.
 
 ***Condensed
          consolidated statement of operations***
  **Year
                        ended****December
                        31, 2004****RMB**Operating
                        revenueTraffic
                        revenue
                    
                    
                    33,235Other
                        operating revenue
                    
                    
                    930Total
                        operating revenue
                    
                    
                    34,165Operating
                        expensesFlight
                        operations
                    
                    
                    15,016Maintenance
                    
                    
                    4,578Aircraft
                        and traffic servicing
                    
                    
                    4,789Promotion
                        and sales
                    
                    
                    2,606General
                        and administrative
                    
                    
                    1,759Depreciation
                        and amortization
                    
                    
                    3,523Others
                    
                    
                    17Total
                        operating expenses
                    
                    
                    32,288Operating
                        income
                    
                    
                    1,877Non-operating
                        income/(expenses):Interest
                        income
                    
                    
                    33Interest
                        expense
                    
                    
                    (1,184
                    )Equity
                        income of affiliated companies
                    
                    
                    15Equity
                        loss of jointly controlled entities
                    
                    
                    (14
                    )Exchange
                        loss, net
                    
                    
                    (124
                    )Others,
                        net
                    
                    
                    90Total
                        net non-operating expenses
                    
                    
                    (1,184
                    )Income
                        before taxation
                    
                    
                    693Income
                        tax expense
                    
                    
                    (261
                    )Income
                        for the year
                    
                    
                    432Attributable
                        toEquity
                        shareholders of the Company
                    
                    
                    239Minority
                        interests
                    
                    
                    193Net
                        income
                    
                    
                    432
  F-87
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
              in millions, except share data)**
 ***Condensed
          consolidated statement of cash flows***
 
 The
          Group
          applies IAS 7 “Cash Flow Statements”. Its objectives and principles are similar
          to those set out in Statement of Financial Accounting Standards No. 95,
          “Statement of Cash Flows” (“SFAS 95”) for U.S. GAAP. The principal differences
          between the standards relate to classification. Dividend received classified
          as
          investing activities under IAS 7 are classified as operating activities
          under
          SFAS 95. Summarized cash flows data by operating, investing and financing
          activities in accordance with SFAS 95 are as follows:
 **Year
                        ended****December
                        31, 2004****RMB**Net
                        cash inflow/(outflow) fromOperating
                        activities
                    
                    
                    5,419Investing
                        activities
                    
                    
                    (9,507
                    )Financing
                        activities
                    
                    
                    4,172Increase
                        in cash and cash equivalents
                    
                    
                    84Cash
                        and cash equivalents at January 1
                    
                    
                    2,999Cash
                        and cash equivalents at December 31
                    
                    
                    3,083
 
 F-88
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  The
          following additional financial statement disclosures are required under
          U.S.
          GAAP and are presented on a U.S. GAAP basis.
 
 ***Operating
          revenue***
 **Year
                        ended****December
                        31, 2004****RMB****Traffic
                        revenue**Passenger
                    
                    
                    30,443Cargo
                        and mail
                    
                    
                    2,79233,235**Other
                        operating revenue**Commission
                        income
                    
                    
                    227General
                        aviation income
                    
                    
                    55Ground
                        services income
                    
                    
                    202Air
                        catering income
                    
                    
                    53Rental
                        income
                    
                    
                    45Aircraft
                        lease income
                    
                    
                    145Maintenance
                        services income
                    
                    
                    23Utility
                        services income
                    
                    
                    28Other
                    
                    
                    152930**Total
                        operating revenue**
                    
                    
                    34,165
 F-89
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 ***Income
          tax***
 
 The
          Company was subject to PRC income tax at 15% for the year ended December
          31,
          2004.
  The
          airline operations of CNA and XJA were subject to PRC income tax at 33%
          during
          the year ended December 30, 2004. As a result of the CNA/XJA Acquisitions
          having
          been effective December 31, 2004, the airline operations of CNA and XJA
          have
          become divisions of the Company and were subject to PRC income tax at the
          applicable rate of 15% at December 31, 2004.
 
 Taxation
          (expense)/benefit consisted of:
 **Year
                        ended****December
                        31, 2004****RMB**PRC
                        income tax
                    
                    
                    (259
                    )Deferred
                        tax-
                        current year
                    
                    
                    97-
                        adjustment for change in applicable tax rate forairline
                        operations of CNA and XJA
                    
                    
                    (99
                    )(261
                    )Additional
                        income tax was allocated as follows:Shareholders'
                        equity, for elimination of deferred tax assets of theairline
                        operations of CNA and XJA no longer available
                    
                    
                    (181
                    )
  F-90
 **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
  Actual
          taxation amount in the consolidated statement of operations for the year
          ended
          December 31, 2004 differed from the amounts computed by applying the PRC
          income
          tax rate of 15% to income before taxation as a result of the
          following:
  **Year
                        ended****December
                        31, 2004****RMB**Expected
                        PRC expense
                    
                    
                    (104
                    )Adjustments:Effect
                        of change in the income tax rate applicable tothe
                        airline operations of CNA and XJA
                    
                    
                    (99
                    )Rate
                        differential on subsidiaries
                    
                    
                    3Rate
                        differential on airline operations of CNA and XJA
                    
                    
                    (43
                    )Non-deductible
                        expenses
                    
                    
                    (37
                    )Increase
                        in deferred tax valuation allowance
                    
                    
                    (4
                    )Non-taxable
                        income
                    
                    
                    17Effect
                        of share of results of affiliated companies andjointly
                        controlled entities
                    
                    
                    12Others,
                        net
                    
                    
                    (6
                    )(261
                    )
  All
          but
          an insignificant amount of income before taxation is from domestic
          sources.
  ***Related
          party transactions***
 
 In
          addition to the material related party transactions disclosed in Note 37,
          the
          Group and the airline operations of CNA and XJA had entered into the following
          material related party transactions.
 
 (a)
          For
          the year ended December 31, 2004, repairing charges of RMB1,159 was incurred
          by
          the Group and the airline operations of CNA and XJA in connection with
          aircraft
          repair and maintenance services rendered by GAMECO and MTU Zhuhai. GAMECO
          and
          MTU Zhuhai are jointly controlled entities of the Company.
 
 (b)
          Operating lease charges of RMB82 were paid by the Group and the airline
          operations of CNA and XJA to CSAHC under lease arrangement for certain
          land and
          buildings in the PRC for the year ended December 31, 2004.
 
 (c)
          Aircraft lease income of RMB111 for the year ended December 31, 2004, represents
          rental receivables in respect of short term leasing of aircraft by the
          Group and
          the airline operations of CNA and XJA to certain airlines controlled by
          the
          CSAHC.
 
 F-91
  **CHINA
            SOUTHERN AIRLINES COMPANY LIMITED**
 **AND
            SUBSIDIARIES**
 
 **NOTES
            TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)**
 **(Amounts
            in millions, except share data)**
 ***Post-retirement
          benefit***
 
 Employees
          of the Group and the airline operations of CNA and XJA participate in several
          defined contribution retirement schemes organized separately by PRC municipal
          governments in regions where the major operations of the Group and the
          airline
          operations of CNA and XJA are located. The Group and the airline operations
          of
          CNA and XJA are required to contribute to these schemes at certain rates
          of
          salary costs including certain allowances. A member of the retirement schemes
          is
          entitled to pension benefits equal to a fixed proportion of the salary
          at the
          retirement date. The retirement benefit obligations of all the existing
          and
          future retired staff are assumed by these schemes. Contributions to the
          retirement schemes are charged to consolidated statements of income as
          and when
          incurred. Contributions to the retirement schemes amounted to RMB243 during
          the
          year ended December 31, 2004.
 
 F-92


**ITEM
      19. EXHIBITS.**




**Exhibit
                  No.**
              
              **Description
                  of Exhibit**1.1
              
              Amended
                  Articles of Association of China Southern Airlines Company
                  Limited4.1
              
              Form
                  of Director’s Service Agreement(Incorporated
                  by reference to the Exhibit 4.1 to our Form 20-F (File No. 001-14660)
                  for
                  the year ended December 31, 2005 filed with the Securities and
                  Exchange
                  Commission on June 30, 2006)4.2
              
              Form
                  of Non-Executive Director’s Service (Incorporated
                  by reference to the Exhibit 4.2 to our Form 20-F (File No. 001-14660)
                  for
                  the year ended December 31, 2005 filed with the Securities and
                  Exchange
                  Commission on June 30, 2006)8.1
              
              Subsidiaries
                  ofChina
                  Southern Airlines Company Limited10.1
              
              Airbus
                  Aircraft Acquisition Agreement entered into betweenChina
                  Southern Airlines Company Limitedand Airbus dated July 6, 2006 (Incorporated
                  by reference to the Exhibit 99.1 to our Form 6-K (File No. 001-14660)
                  filed with the Securities and Exchange Commission on July 11,
                  2006)10.2
              
              Boeing
                  Aircraft Acquisition Agreemententered
                  into betweenChina
                  Southern Airlines Company LimitedandBoeing
                  dated October 13, 2006(Incorporated
                  by reference to the Exhibit 99.1 to our Form 6-K (File No. 001-14660)
                  filed with the Securities and Exchange Commission on October 17,
                  2006)10.3
              
              Xiamen
                  Aircraft Acquisition Agreement entered into between Xiamen Airlines
                  and
                  Boeing dated October 13, 2006(Incorporated
                  by reference to the Exhibit 99.1 to our Form 6-K (File No. 001-14660)
                  filed with the Securities and Exchange Commission on October 17,
                  2006)12.1
              
              Section
                  302 Certification of Chairman12.2
              
              Section
                  302 Certification of President12.3
              
              Section
                  302 Certification of Chief Financial Officer13.1
              
              Section
                  906 Certification of Chairman13.2
              
              Section
                  906 Certification of President13.3
              
              Section
                  906 Certification of Chief Financial
                  Officer




78




**SIGNATURES**




The
      registrant hereby certifies that it meets all of the requirements for filing
      on
      Form 20-F and that it has duly caused and authorized the undersigned to sign
      this annual report on its behalf.




CHINA
              SOUTHERN AIRLINES COMPANY LIMITED/s/
                Liu Shao YongName:
                Liu Shao YongTitle:
                Chairman of the Board of Directors




Date:
      June 29, 2007




79


**EXHIBIT
      INDEX**




**Exhibit
                  No.**
              
              **Description
                  of Exhibit**1.1
              
              Amended
                  Articles of Association of China Southern Airlines Company
                  Limited4.1
              
              Form
                  of Director’s Service Agreement (Incorporated
                  by reference to the Exhibit 4.1 to our Form 20-F (File No. 001-14660)
                  for
                  the year ended December 31, 2005 filed with the Securities and
                  Exchange
                  Commission on June 30, 2006)4.2
              
              Form
                  of Non-Executive Director’s Service Agreement (Incorporated
                  by reference to the Exhibit 4.2 to our Form 20-F (File No. 001-14660)
                  for
                  the year ended December 31, 2005 filed with the Securities and
                  Exchange
                  Commission on June 30, 2006)8.1
              
              Subsidiaries
                  ofChina
                  Southern Airlines Company Limited10.1
              
              Airbus
                  Aircraft Acquisition Agreement entered into betweenChina
                  Southern Airlines Company Limitedand Airbus dated July 6, 2006 (Incorporated
                  by reference to the Exhibit 99.1 to our Form 6-K (File No. 001-14660)
                  filed with the Securities and Exchange Commission on July 11,
                  2006)10.2
              
              Boeing
                  Aircraft Acquisition Agreemententered
                  into betweenChina
                  Southern Airlines Company LimitedandBoeing
                  dated October 13, 2006(Incorporated
                  by reference to the Exhibit 99.1 to our Form 6-K (File No. 001-14660)
                  filed with the Securities and Exchange Commission on October 17,
                  2006)10.3
              
              Xiamen
                  Aircraft Acquisition Agreement entered into between Xiamen Airlines
                  and
                  Boeing dated October 13, 2006(Incorporated
                  by reference to the Exhibit 99.1 to our Form 6-K (File No. 001-14660)
                  filed with the Securities and Exchange Commission on October 17,
                  2006)12.1
              
              Section
                  302 Certification of Chairman12.2
              
              Section
                  302 Certification of President12.3
              
              Section
                  302 Certification of Chief Financial Officer13.1
              
              Section
                  906 Certification of Chairman13.2
              
              Section
                  906 Certification of President13.3
              
              Section
                  906 Certification of Chief Financial
                  Officer




80