##### Table of Contents



As filed with the Securities and
Exchange Commission on June 30, 2005   SECURITIES AND EXCHANGE COMMISSION
 Washington, D.C. 20549
 
 FORM 20-F
 o
    
    REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE ACT OF 1934  ORx
    
    ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal
year ended December 31, 2004 ORo
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934Commission file number: 1-14660 (CHINA SOUTHERN AIRLINES COMPANY LIMITED LOGO)
 (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 RMB1.00 per share
    
    New York Stock Exchange, Inc.represented by American Depositary Shares Securities registered or to be registered pursuant to Section 12(g) of
the Act: None Securities for which there is a reporting obligation pursuant to
Section 15(d) of the Act: None 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
RMB1.00 per share and 1,174,178,000 ordinary H Shares of par value RMB1.00
per share and 1,000,000 ordinary A Shares of par value RMB1.00
per share were issued and outstanding as of December 31, 2004. 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. Yes  x  No  o Indicate
by check mark which financial statement item the Registrant
has elected to follow. Item 17  o  Item 18  x




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TABLE OF CONTENTS China Southern Airlines Company Limited PageForward-Looking Statements
    
    
    1Introductory Note
    
    
    1Glossary of Airline Industry Terms
    
    
    2PART IItem 1.     Identity of Directors, Senior Management and Advisers
    
    
    3Item 2.     Offer Statistics and Expected Timetable
    
    
    3Item 3.     Key Information
    
    
    3Selected Financial Data
    
    
    3Capitalization and Indebtedness
    
    
    6Reasons for the Offer and Use of Proceeds
    
    
    6Risk Factors
    
    
    7Item 4.     Information on the Company
    
    
    11History and Development of the Company
    
    
    11CNA/XJA AcquisitionsBusiness Overview
    
    
    12Organizational Structure
    
    
    33Property, Plant and Equipment
    
    
    35Item 5.     Operating and Financial Review and Prospects
    
    
    36Critical Accounting Policies
    
    
    36Overview
    
    
    37Certain Financial Information and Operating Data by
Geographic Region
    
    
    39Operating Results
    
    
    41Additional Information under U.S. GAAPLiquidity and Capital Resources
    
    
    48Contractual Obligations and Commercial Commitments
    
    
    50Item 6.    
Directors, Senior Management and Employees
    
    
    51Directors
and Senior Management
    
    
    51Compensation
    
    
    56 i




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PageBoard
Practices
    
    
    56Remuneration CommitteeEmployees
    
    
    57Share Ownership
    
    
    58Item 7.     Major Shareholders and Related Party Transactions
    
    
    58Major Shareholders
    
    
    59Related Party Transactions
    
    
    59Interests of Experts and CounselItem 8.     Financial Information
    
    
    64Consolidated Statements and Other Financial Information
    
    
    64Significant Changes
    
    
    64Legal Proceedings Dividend InformationItem 9.     The Offer and Listing
    
    
    65Offer and Listing Details
    
    
    66Plan of Distribution
    
    
    66Markets
    
    
    67Selling Shareholders
    
    
    67Dilution
    
    
    67Expenses of the Issue
    
    
    67Item 10.     Additional Information
    
    
    67Share Capital
    
    
    67Memorandum and Articles of Association
    
    
    67Material Contracts
    
    
    71Exchange Controls
    
    
    73Taxation
    
    
    73Dividends and Paying Agents
    
    
    74Statement by Experts
    
    
    74Documents on Display
    
    
    74Subsidiary Information
    
    
    74Comparison
of New York Stock Exchange Corporate Governance Rules and China Corporate Governance Rules for Listed Companies
    
    
    75Item 11.     Quantitative and Qualitative Disclosures About Market Risk
    
    
    79Item 12.     Description of Securities other than Equity Securities
    
    
    80 ii




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PagePART IIItem 13.     Defaults, Dividend Arrearages and Delinquencies
    
    
    80Item 14.     Material Modifications to the Rights of Security Holders
and Use of Proceeds
    
    
    80Use of ProceedsPART IIIItem 15.    
Controls and Procedures
    
    
    82Item 16.     [Reserved]
    
    
    82Item 16
A.     Audit Committee Financial Expert
    
    
    82Item 16
B.     Code of Ethics
    
    
    82Item 16
C.     Principal Accounting Fees and Services
    
    
    82Exemptions from the Listing Standards for Audit CommitteeItem 16
D.     Purchases of Equity Securities By the
Issuer and Affiliated Purchasers
    
    
    83PART IVItem 17.     Financial Statements
    
    
    83Item 18.     Financial Statements
    
    
    83Index to Financial Statements
    
    
    82Item 19.     Exhibits
    
    
    84Signatures
    
    
    85EX-4.1 FORM OF DIRECTOR'S SERVICE AGREEMENTEX-4.2 FORM OF NON-EXECUTIVE DIRECTOR'S SERVICE AGREEMENTEX-8 SUBSIDIARIES OF THE COMPANYEX-12.1 SECTION 302 CERTIFICATION OF CHAIRMANEX-12.2 SECTION 302 CERTIFICATION OF PRESIDENTEX-12.3 SECTION 302 CERTIFICATION OF CFOEX-13.1 SECTION 906 CERTIFICATION OF CHAIRMANEX-13.2 SECTION 906 CERTIFICATION OF PRESIDENTEX-13.3 SECTION 906 CERTIFICATION OF CFO iii




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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 regulation;

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 as of December 31, 2003 and 2004 (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 34 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 = RMB8.2765, 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, 2004. 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. 1




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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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 flownTraffic 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 flownYield 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 poundsLoad 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 operationsUtilizationutilization rate
    
    the actual number of flight hours per aircraft per operating dayEquipmentrotables
    
    aircraft parts that are ordinarily repaired and reusedexpendables
    
    aircraft parts that are ordinarily used up and replaced with new parts
 2




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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, 2004. The selected data of consolidated statements of operations for each of the years in
the three-year period ended December 31, 2004 and consolidated balance sheets as of
December 31, 2003 and 2004 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, 2000 and 2001 and IFRS consolidated balance sheets of December 31,
2000, 2001 and 2002 are derived from the Companys audited 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 will be 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 all periods presented. See Note 34 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, 2003 and 2004 and
for each of the years in the three-year period ended
December 31, 2004 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 31,2000
    
    
    2001
    
    
    2002
    
    
    2003
    
    
    2004
    
    
    2004RMB
    
    
    RMB
    
    
    RMB
    
    
    RMB
    
    
    RMB
    
    
    US$(in million, except per share data)Income Statement Data:IFRS:Operating revenue
    
    
    15,178
    
    
    
    16,880
    
    
    
    18,019
    
    
    
    17,470
    
    
    
    23,974
    
    
    
    2,897Operating expenses
    
    
    13,996
    
    
    
    15,479
    
    
    
    15,993
    
    
    
    17,014
    
    
    
    23,065
    
    
    
    2,787Operating income
    
    
    1,182
    
    
    
    1,401
    
    
    
    2,026
    
    
    
    456
    
    
    
    909
    
    
    
    110Equity income
of affiliated companies
    
    
    46
    
    
    
    53
    
    
    
    37
    
    
    
    48
    
    
    
    12
    
    
    
    1Equity loss of jointly
controlled entities
    
    
    
    
    
    
    (4
    )
    
    
    (3
    )
    
    
    (39
    )
    
    
    (5
    )
    
    
    (1
    )Gain/(loss) on sale of
property, plant and equipment
    
    
    373
    
    
    
    (56
    )
    
    
    171
    
    
    
    (22
    )
    
    
    (1
    )
    
    
    Interest expense
    
    
    (1,074
    )
    
    
    (934
    )
    
    
    (959
    )
    
    
    (824
    )
    
    
    (691
    )
    
    
    (84
    )Exchange gain/(loss), net
    
    
    318
    
    
    
    297
    
    
    
    (176
    )
    
    
    (164
    )
    
    
    (59
    )
    
    
    (7
    )Other, net
    
    
    86
    
    
    
    38
    
    
    
    43
    
    
    
    34
    
    
    
    68
    
    
    
    9Income/(loss) before taxation
and minority interest
    
    
    931
    
    
    
    795
    
    
    
    1,139
    
    
    
    (511
    )
    
    
    233
    
    
    
    28Taxation
(expense)/credit
    
    
    (339
    )
    
    
    (320
    )
    
    
    (398
    )
    
    
    324
    
    
    
    (78
    )
    
    
    (9
    )Minority interests
    
    
    (90
    )
    
    
    (135
    )
    
    
    (165
    )
    
    
    (171
    )
    
    
    (203
    )
    
    
    (25
    )Net income/(loss)
    
    
    502
    
    
    
    340
    
    
    
    576
    
    
    
    (358
    )
    
    
    (48
    )
    
    
    (6
    )Basic earnings/(loss)
per share
    
    
    0.15
    
    
    
    0.10
    
    
    
    0.17
    
    
    
    (0.09
    )
    
    
    (0.01
    )
    
    
    (0.001
    )Basic earnings/(loss)
per ADS
    
    
    7.44
    
    
    
    5.04
    
    
    
    8.53
    
    
    
    (4.68
    )
    
    
    (0.55
    )
    
    
    (0.07
    )Cash
dividends declared per share
    
    
    
    
    
    
    
    
    
    
    0.02
    
    
    
    
    
    
    
    
    
    
    
    U.S. GAAP:Traffic revenue
    
    
    21,859
    
    
    
    23,615
    
    
    
    24,854
    
    
    
    24,897
    
    
    
    33,235
    
    
    
    4,016Other operating revenue
    
    
    1,083
    
    
    
    657
    
    
    
    904
    
    
    
    586
    
    
    
    930
    
    
    
    112Operating income
    
    
    1,462
    
    
    
    1,584
    
    
    
    1,948
    
    
    
    366
    
    
    
    1,877
    
    
    
    227Equity income of affiliated companies
    
    
    46
    
    
    
    73
    
    
    
    45
    
    
    
    53
    
    
    
    17
    
    
    
    2Equity loss of jointly controlled entities
    
    
    
    
    
    
    (20
    )
    
    
    (12
    )
    
    
    (37
    )
    
    
    (3
    )
    
    
    Interest expense
    
    
    (1,970
    )
    
    
    (1,800
    )
    
    
    (1,820
    )
    
    
    (1,604
    )
    
    
    (1,184
    )
    
    
    (143
    )Foreign currency exchange gain/(loss), net
    
    
    554
    
    
    
    532
    
    
    
    (327
    )
    
    
    (381
    )
    
    
    (124
    )
    
    
    (15
    )Other, net
    
    
    153
    
    
    
    106
    
    
    
    30
    
    
    
    64
    
    
    
    123
    
    
    
    15Income/(loss) before income taxes and minority interest
    
    
    245
    
    
    
    475
    
    
    
    (136
    )
    
    
    (1,539
    )
    
    
    706
    
    
    
    85Income tax (expense)/benefit
    
    
    (309
    )
    
    
    (408
    )
    
    
    (365
    )
    
    
    526
    
    
    
    (274
    )
    
    
    (33
    )Minority interests
    
    
    (53
    )
    
    
    (97
    )
    
    
    (154
    )
    
    
    (127
    )
    
    
    (193
    )
    
    
    (23
    )Net (loss)/income
    
    
    (117
    )
    
    
    (30
    )
    
    
    (655
    )
    
    
    (1,140
    )
    
    
    239
    
    
    
    29Basic (loss)/earnings per share
    
    
    (0.034
    )
    
    
    (0.009
    )
    
    
    (0.194
    )
    
    
    (0.298
    )
    
    
    0.055
    
    
    
    0.007Basic (loss)/earnings per ADS
    
    
    (1.684
    )
    
    
    (0.432
    )
    
    
    (9.706
    )
    
    
    (14.876
    )
    
    
    2.732
    
    
    
    0.331Cash dividend declared per share
    
    
    
    
    
    
    
    
    
    
    0.02
    
    
    
    
    
    
    
    
    
    
    
     3




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December 31,2000
    
    
    2001
    
    
    2002
    
    
    2003
    
    
    2004
    
    
    2004RMB
    
    
    RMB
    
    
    RMB
    
    
    RMB
    
    
    RMB
    
    
    US$(in million)Balance Sheet Data:IFRS:Cash and cash equivalents
    
    
    4,198
    
    
    
    2,818
    
    
    
    3,771
    
    
    
    2,080
    
    
    
    3,083
    
    
    
    373Other current assets
    
    
    1,692
    
    
    
    1,561
    
    
    
    1,835
    
    
    
    1,922
    
    
    
    4,182
    
    
    
    505Property,
plant and equipment, net
    
    
    23,282
    
    
    
    22,352
    
    
    
    26,921
    
    
    
    28,536
    
    
    
    46,841
    
    
    
    5,660Total assets
    
    
    30,924
    
    
    
    30,653
    
    
    
    37,188
    
    
    
    39,062
    
    
    
    62,228
    
    
    
    7,519Notes payable, including current
installments of long term notes payable
    
    
    783
    
    
    
    2,178
    
    
    
    5,241
    
    
    
    7,097
    
    
    
    11,518
    
    
    
    1,392Current installments of obligations
under capital leases
    
    
    1,776
    
    
    
    1,452
    
    
    
    1,567
    
    
    
    1,298
    
    
    
    2,144
    
    
    
    259Notes payable, excluding
current installments
    
    
    3,789
    
    
    
    3,628
    
    
    
    5,835
    
    
    
    4,522
    
    
    
    11,935
    
    
    
    1,442Obligations under capital leases,
excluding current installments
    
    
    9,416
    
    
    
    7,692
    
    
    
    6,632
    
    
    
    5,543
    
    
    
    9,599
    
    
    
    1,160Shareholders equity
    
    
    8,881
    
    
    
    9,222
    
    
    
    9,613
    
    
    
    11,896
    
    
    
    11,848
    
    
    
    1,432U.S. GAAP:Cash and cash equivalents
    
    
    5,763
    
    
    
    4,384
    
    
    
    4,772
    
    
    
    2,999
    
    
    
    3,083
    
    
    
    373Other current assets
    
    
    3,196
    
    
    
    3,065
    
    
    
    3,391
    
    
    
    3,034
    
    
    
    4,401
    
    
    
    532Property, plant and equipment, net
    
    
    35,546
    
    
    
    35,676
    
    
    
    40,277
    
    
    
    41,012
    
    
    
    46,202
    
    
    
    5,582Total assets
    
    
    48,684
    
    
    
    48,456
    
    
    
    54,860
    
    
    
    58,610
    
    
    
    65,040
    
    
    
    7,858Notes payable, including current portion of long term notes payable
    
    
    3,965
    
    
    
    5,359
    
    
    
    10,304
    
    
    
    8,600
    
    
    
    11,518
    
    
    
    1,392Current installments of obligations under capital leases
    
    
    2,752
    
    
    
    2,428
    
    
    
    2,591
    
    
    
    2,368
    
    
    
    2,106
    
    
    
    254Notes payable, excluding current portion
    
    
    9,017
    
    
    
    8,856
    
    
    
    9,179
    
    
    
    8,634
    
    
    
    11,935
    
    
    
    1,442Obligations under capital leases, excluding current installments
    
    
    15,891
    
    
    
    14,167
    
    
    
    13,333
    
    
    
    13,849
    
    
    
    11,975
    
    
    
    1,447Shareholders equity
    
    
    7,432
    
    
    
    7,315
    
    
    
    6,796
    
    
    
    13,098
    
    
    
    11,169
    
    
    
    1,349
 Selected Operating Data The following selected operating data of the Group for the five years ended December
31, 2004 have been derived from consolidated financial statements prepared in accordance with
IFRS and other data provided by the Group and have not been audited. The operating data and the profit analysis and comparison for other years below is
calculated and disclosed in accordance with the statistical
standards, which has 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 31,2000
    
    
    2001
    
    
    2002
    
    
    2003
    
    
    2004CapacityASK (million) Domestic
    
    
    28,345
    
    
    
    31,393
    
    
    
    33,753
    
    
    
    32,590
    
    
    
    41,330 Hong Kong regional
    
    
    1,744
    
    
    
    1,690
    
    
    
    1,746
    
    
    
    1,347
    
    
    
    1,896 International
    
    
    5,742
    
    
    
    6,981
    
    
    
    8,746
    
    
    
    6,930
    
    
    
    10,543Total
    
    
    35,831
    
    
    
    40,064
    
    
    
    44,245
    
    
    
    40,867
    
    
    
    53,769ATK (million) Domestic
    
    
    3,322
    
    
    
    3,622
    
    
    
    3,924
    
    
    
    3,772
    
    
    
    4,773 Hong Kong regional
    
    
    198
    
    
    
    185
    
    
    
    193
    
    
    
    150
    
    
    
    211 International
    
    
    1,087
    
    
    
    1,317
    
    
    
    1,798
    
    
    
    1,999
    
    
    
    2,462Total
    
    
    4,607
    
    
    
    5,124
    
    
    
    5,915
    
    
    
    5,921
    
    
    
    7,446Kilometers flown (thousand)
    
    
    209,431
    
    
    
    234,051
    
    
    
    258,379
    
    
    
    249,068
    
    
    
    324,827Hours flown (thousand)
    
    
    326
    
    
    
    365
    
    
    
    405
    
    
    
    385
    
    
    
    501Number of landing and take-offs Domestic
    
    
    165,726
    
    
    
    183,651
    
    
    
    194,776
    
    
    
    191,460
    
    
    
    243,410 Hong Kong regional
    
    
    14,255
    
    
    
    13,712
    
    
    
    13,891
    
    
    
    11,400
    
    
    
    15,380 International
    
    
    8,861
    
    
    
    10,698
    
    
    
    13,990
    
    
    
    11,330
    
    
    
    15,790Total
    
    
    188,842
    
    
    
    208,061
    
    
    
    222,657
    
    
    
    214,190
    
    
    
    274,580TrafficRPK (million) Domestic
    
    
    16,974
    
    
    
    19,447
    
    
    
    22,092
    
    
    
    21,294
    
    
    
    29,121 Hong Kong regional
    
    
    1,074
    
    
    
    1,060
    
    
    
    1,081
    
    
    
    778
    
    
    
    1,203 International
    
    
    3,605
    
    
    
    4,550
    
    
    
    5,767
    
    
    
    4,315
    
    
    
    6,872Total
    
    
    21,653
    
    
    
    25,057
    
    
    
    28,940
    
    
    
    26,387
    
    
    
    37,196RTK (million) Domestic
    
    
    1,941
    
    
    
    2,217
    
    
    
    2,532
    
    
    
    2,424
    
    
    
    3,206 Hong Kong regional
    
    
    107
    
    
    
    105
    
    
    
    108
    
    
    
    78
    
    
    
    120 International
    
    
    565
    
    
    
    712
    
    
    
    974
    
    
    
    1,059
    
    
    
    1,337Total
    
    
    2,613
    
    
    
    3,034
    
    
    
    3,614
    
    
    
    3,561
    
    
    
    4,663Passengers
carried (thousand) Domestic
    
    
    14,450
    
    
    
    16,499
    
    
    
    18,535
    
    
    
    18,259
    
    
    
    25,002 Hong
Kong regional
    
    
    1,444
    
    
    
    1,409
    
    
    
    1,369
    
    
    
    1,019
    
    
    
    1,394
International
    
    
    957
    
    
    
    1,213
    
    
    
    1,589
    
    
    
    1,192
    
    
    
    1,811Total
    
    
    16,851
    
    
    
    19,121
    
    
    
    21,493
    
    
    
    20,470
    
    
    
    28,207Cargo and mail carried (tons)
    
    
    353,000
    
    
    
    398,000
    
    
    
    470,000
    
    
    
    464,000
    
    
    
    545,000Load FactorsPassenger load factor (RPK/ASK) (%) Domestic
    
    
    59.9
    
    
    
    61.9
    
    
    
    65.5
    
    
    
    65.3
    
    
    
    70.5 Hong Kong regional
    
    
    61.6
    
    
    
    62.7
    
    
    
    61.9
    
    
    
    57.8
    
    
    
    63.4 International
    
    
    62.8
    
    
    
    65.2
    
    
    
    65.9
    
    
    
    62.3
    
    
    
    65.2Total
    
    
    60.4
    
    
    
    62.5
    
    
    
    65.4
    
    
    
    64.6
    
    
    
    69.2Overall load factor (RTK/ATK) (%) Domestic
    
    
    58.4
    
    
    
    61.2
    
    
    
    64.5
    
    
    
    64.2
    
    
    
    67.2 Hong Kong regional
    
    
    54.0
    
    
    
    56.8
    
    
    
    55.8
    
    
    
    52.2
    
    
    
    56.9 International
    
    
    52.0
    
    
    
    54.1
    
    
    
    54.2
    
    
    
    53.0
    
    
    
    54.3Total
    
    
    56.7
    
    
    
    59.2
    
    
    
    61.1
    
    
    
    60.1
    
    
    
    62.6Breakeven load factor (%)
    
    
    54.0
    
    
    
    55.6
    
    
    
    55.9
    
    
    
    61.6
    
    
    
    61.9
 4




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##### Table of Contents



Year ended December 31,2000
    
    
    2001
    
    
    2002
    
    
    2003
    
    
    2004YieldYield per RPK (RMB) Domestic
    
    
    0.62
    
    
    
    0.62
    
    
    
    0.55
    
    
    
    0.57
    
    
    
    0.58 Hong Kong regional
    
    
    1.06
    
    
    
    1.06
    
    
    
    0.98
    
    
    
    0.96
    
    
    
    0.92 International
    
    
    0.43
    
    
    
    0.41
    
    
    
    0.42
    
    
    
    0.47
    
    
    
    0.46Total
    
    
    0.61
    
    
    
    0.60
    
    
    
    0.54
    
    
    
    0.57
    
    
    
    0.57Yield per cargo and mail ton kilometers (RMB)
    
    
    2.13
    
    
    
    1.76
    
    
    
    1.73
    
    
    
    1.62
    
    
    
    1.67Yield per RTK (RMB) Domestic
    
    
    5.90
    
    
    
    5.83
    
    
    
    5.21
    
    
    
    5.40
    
    
    
    5.53 Hong Kong regional
    
    
    11.19
    
    
    
    11.26
    
    
    
    10.36
    
    
    
    10.35
    
    
    
    9.83 International
    
    
    3.63
    
    
    
    3.31
    
    
    
    3.25
    
    
    
    2.90
    
    
    
    3.31Total
    
    
    5.63
    
    
    
    5.43
    
    
    
    4.84
    
    
    
    4.76
    
    
    
    5.01Fleet Boeing
    
    
    89
    
    
    
    91
    
    
    
    102
    
    
    
    108
    
    
    
    137 Airbus
    
    
    20
    
    
    
    20
    
    
    
    20
    
    
    
    24
    
    
    
    46 McDonnell Douglas
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    35 Others
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    13Total aircraft in service at period end
    
    
    109
    
    
    
    111
    
    
    
    122
    
    
    
    132
    
    
    
    231Overall utilization rate (hours per day)
    
    
    8.7
    
    
    
    9.1
    
    
    
    9.8
    
    
    
    8.5
    
    
    
    9.9FinancialOperating cost per ASK (RMB)
    
    
    0.39
    
    
    
    0.39
    
    
    
    0.36
    
    
    
    0.42
    
    
    
    0.43Operating cost per ATK (RMB)
    
    
    3.04
    
    
    
    3.02
    
    
    
    2.70
    
    
    
    2.87
    
    
    
    3.10
 5




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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. Average(1)Period
    
    Period End
    
    
    (RMB per US$)
    
    
    High
    
    
    LowAnnual Exchange Rate2000
    
    
    8.2781
    
    
    
    8.2784
    
    
    
    8.2799
    
    
    
    8.27682001
    
    
    8.2766
    
    
    
    8.2766
    
    
    
    8.2910
    
    
    
    8.26422002
    
    
    8.2773
    
    
    
    8.2773
    
    
    
    8.2897
    
    
    
    8.21522003
    
    
    8.2767
    
    
    
    8.2772
    
    
    
    8.2800
    
    
    
    8.27692004
    
    
    8.2765
    
    
    
    8.2765
    
    
    
    8.2889
    
    
    
    8.2641
 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
    
    
    LowMonthly Exchange RateDecember 2004
    
    
    8.2889
    
    
    
    8.2641January 2005
    
    
    8.2889
    
    
    
    8.2641February 2005
    
    
    8.2889
    
    
    
    8.2641March 2005
    
    
    8.2889
    
    
    
    8.2641April 2005
    
    
    8.2889
    
    
    
    8.2641May 2005
    
    
    8.2889
    
    
    
    8.2641June 2005 (up to June 21, 2005)
    
    
    8.2889
    
    
    
    8.2641
   (1)
    
    Determined by averaging the rates on the last business day of each month during the
relevant period. Dividend Payments No
interim dividends were paid during the year ended December 31, 2004. 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, 2004. 
 Capitalization and Indebtedness Not applicable. 
 Reasons for the Offer and Use of Proceeds Not applicable. 6




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Risk Factors Risks Relating to the Company Government ownership and control of the Company All 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 loss of
RMB164 million and RMB59 million for 2003 and 2004, respectively, mainly as a result of Japanese Yen
fluctuations. A majority of these exchange losses were unrealized in nature. 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, housing
services and 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 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, 2003 and 2004, the Group had short-term deposits of RMB366 million and RMB406 million,
respectively, with SA Finance. 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. 7




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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
buildings and other facilities are located and the buildings that
the Company uses at its route base 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 regional 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 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 2004 accounted for 26.2% 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, 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. 8




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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, which factors 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, if it occurs, of CAAC
regulations limiting or prohibiting 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, such as International Alliance programs, 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 is held by Foreign
Investors. For so long as the limitation on foreign ownership is in
forrce, the Company will have no meaningful
access to the international equity capital markets. 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 is
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.
These 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. 9




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Risks relating to the PRC Foreign exchange risks Renminbi is not a freely convertible currency, and the Companys ability to obtain or retain
foreign currencies is subject to regulation in China. Limitations on the availability of foreign
exchange could have a material adverse effect on the Companys operations and financial condition,
particularly in light of the Companys substantial foreign currency obligations. The value of Renminbi is subject to changes in Chinese Government policies and depends to a
large extent on Chinas domestic and international economic and political developments, as well as
supply and demand in the local market. Since 1994, the official exchange rate for the conversion
of Renminbi to US dollars has been stable. There can be no assurance, however, that such rates
will not be volatile or that there will be no further devaluation of the Renminbi against the
foreign currencies in which the Companys obligations are denominated, principally the US dollar
and the Japanese Yen. Based on the Companys foreign currency denominated obligations as of
December 31, 2004, a 1% change in the exchange rate between the Renminbi and the US dollar, or
between the Renminbi and Japanese Yen, would have resulted in an unrealized gain or loss of RMB260
million (US$31 million). As the Company is not able to hedge effectively against the devaluation of
the Renminbi other than by retaining its foreign exchange-denominated earnings and receipts to the
extent permitted by applicable law, any future devaluation in the Renminbi could adversely affect
the Companys results of operations and financial condition. The Companys results of operations
and financial condition may also be affected by changes in the value of currencies other than the
Renminbi in which the Companys earnings and obligations are denominated. 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. 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. 10




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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). During 2002, the Company entered into an Interest Transfer and Capital Injection Agreement
with China State Post Bureau, Shanghai Municipal Post Office, Post Office of the Inner Mongolian
Autonomous Region and China Philately Corporation, pursuant to which
the Company contributed RMB150
million (or US$18.12 million) in cash to acquire a 49% equity interest in China
Postal Airlines, Ltd. The China State Post Bureau holds the remaining 51%. In addition, the Company
paid RMB136.5 million (equivalent to approximately US$16.5 million) to acquire 39% interest in
Sichuan Airlines Corporation Limited to further expand its market shares in South-western China.
The Group also jointly established a new 51%: 49% joint venture, namely Zhuhai Xiang Yi Aviation
Technology Company Limited, the first sino-foreign joint venture company engaging in aviation
training services in the PRC, with CAE. The registered capital of the
joint venture company is US$29.8 million. 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. On October 17, 2003, the Companys registered address was moved to Guangzhou Economic &
Technology Development Zone. In accordance with the Rules and Regulations for Implementation of
Income Tax for Foreign Investment Enterprises and Foreign Enterprises of the PRC and a taxation
approval document Guangzhou Municipal State Tax Bureau Suo De Shui Zi Que 020043, the Company is
entitled to enjoy the preferential tax policy implemented in the Guangzhou Economic & Technology
Development Zone effective October 1, 2003. As a result, the Companys income tax rate has been
changed from 33% to 15% beginning from that date. 11




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##### Table of Contents



Instabilities in the world economy and in global politics continued to drive up the prices of
aviation fuel in the international market. As a result, fuel costs rose substantially, accounting for more than 30% of the operating costs of the Group. The Group,
without compromising flight safety, adopted various technical measures, including the preparation of precise flight plans and minimisation of turnaround time, so as to reduce
fuel consumption. However, as an airline in China, the options available to the Group were limited in this respect. As such, the high aviation fuel price exerted
immense pressure on the operating expenses of the Group. The Group has revamped its marketing management by designating an accountability system to each
of its sales managers. These measures have encouraged the operating
and marketing team of the Group to be more proactive and vigilant of the difficulties faced by the Group, thereby maximising the total revenue of the Group to the
greatest possible extent. In addition, the commencement of operation of the new Guangzhou Baiyun International Airport, the main hub of the Group, provides a wider
platform of development for the operations of the Company. Moreover, the Group has successfully secured the exclusive right to use Terminal No. 1 of the Beijing Capital
International Airport, making a substantial step in carrying out the strategy of the Group to improve its flight routes network. Flight safety is a perennial concern to airlines. In this regard, the Group is committed to flight
safety by strengthening internal safety checks, pilot training and aircraft maintenance. As a result, the Group was awarded the Golden Roc Cup, the highest award for flight
safety in the Chinese civil aviation industry, for the fourth time in 2004. The acquisition of the airline operations of CNA and XJA was approved at the general meeting of the Company held on December 31, 2004. Such acquisition provides a robust platform for the Group to consolidate its market
leadership and financial results. It also brought in various benefits to the Group by expanding its flight service network, fleet size and transport capacity, as well
as lowering costs and improving overall efficiency. Given the
investment incentive policies such as Go West and
Revitalising the Old Industrial Bases in the North-eastern Region promulgated by the Chinese government, the economy in the western and north-eastern regions of
China is expected to grow at a rapid pace in the coming decades, which in turn provides substantial growth potential for the Group. Ultimately, the acquisition will strengthen
the Groups position as the largest airline in China and will create positive value to its investors. At present, the management of the Group focuses on harnessing the expanded
business capacity and operation scale of the Group, and on enhancing its overall management standards through an integration of corporate culture, innovation and development,
thereby realising the ultimate goal of the Groups reorganisation. Pursuant
to Pricing Reform of Domestic Civil Aviation as approved by the State Council of China 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 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. The Group had RMB6,351 million, RMB4,707 million and RMB6,631 million capital expenditures in
2002, 2003 and 2004 respectively. Of such capital expenditures in 2004, RMB5,017 million were
financed by bank borrowings while the remaining RMB1,614 million were 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 building for operations. 
 CNA/XJA Acquisitions 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 is required to be
satisfied in cash by December 31, 2005. The CNA/XJA Acquisitions have significantly expanded the fleet size and
flight service network as well as the market share of the Group. Presently,
the Group is implementing various measures to harnessing the expanded flight
capacity and operations and integrating the business cultures and goals of the
acquired operations with those of the Group. 
 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 2004, 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, 2004, the Groups RPKs increased at a compound annual rate of 13.4%, from 28,940 million in 2002 to 37,196 million in 2004, while its
capacity, measured in terms of ASKs, increased at a compound annual rate of 10.2%,
from 44,245 million in 2002 to 53,769 million in 2004. In 2004, the Group
carried 28.21 million passengers and had passenger revenue of RMB21,100 million (US$2,550 million).
Net loss for 2004 was RMB48 million (US$6 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 2004, the Airline Subsidiaries carried 10.5
million passengers and had operating revenue of RMB7,436
million (US$898 million) and accounted for 37.3% and 31.9%
of the Groups passengers carried and operating revenue, respectively. The Group also provides air cargo and mail services. The cargo and mail revenue of the Group
increased by 14.8% to RMB2,244 million (US$271 million) in 2004 as compared with 2003. 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 of 2004, the Group operated 542 routes, of which 434 were domestic, 85 were
international and 23 were Hong Kong regional. The Group operates the most extensive domestic route
network among all Chinese airlines. In 2004, the Group operated an average of 5,280 landings and
take-offs per week, serving 143 destinations. Its route network covers commercial centres or
rapidly developing economic regions in Mainland China. The Groups corporate headquarters and principal base of operations are located in Guangzhou,
which is 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 addition to its main route base in Guangzhou, the Group also
maintains eighteen regional route bases in Zhengzhou, Wuhan,
Changsha, Shenzhen, Shenyang, Changchun, Dalian, Harbin, Urumqi,
Haikou, Zhuhai, Xiamen,
Fuzhou, Guilin, Beihai, Shantou, Sanya and Guiyang. All of these regional route bases are located
in provincial capitals or major commercial centers in China. The Groups operations primarily focus on the domestic market.
In addition, the Group also
operates Hong Kong regional and international flights. As of year end of 2004, the Group had 23
Hong Kong regional routes and 85 international routes. The Groups Hong Kong regional operations
include flights between destinations in China and Hong Kong and Macau. The Groups international
operations include scheduled services to Tokyo, Osaka, Amsterdam,
Sharjah, Los Angeles, Fukuoka, Seoul, Sydney, Dubai, Paris and 11 Southeast Asian destinations. The Group operates the most extensive
Southeast Asian route network among Chinese airlines. 12




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##### Table of Contents



As
of December 31, 2004, the Group operated a fleet of 231 aircraft, consisting primarily of
Boeing 737-300, 737-500, 737-700, 737-800, 747-400, 757-200, 777-200, Airbus 320-200 and 319-100,
McDonnell Douglas 82 and 90, Cessna 208B, ATR-72 and Embraer 145 aircraft. The average age of the
Groups fleet was 7.47 years as of the year end of 2004. 13




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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 and non-airline-related businesses, assets and liabilities, and the non-business 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%. 14




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##### Table of Contents



Traffic The following table sets forth
certain statistical information with respect to the Groups
passenger and 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
    
    
    
    
    
    
    overYear
    
    Total
    
    
    previous year
    
    
    Total
    
    
    previous year
    
    
    Total
    
    
    previous year(in million)
    
    
    (%)
    
    
    (in thousand)
    
    
    (%)
    
    
    (in million)
    
    
    (%)2000
    
    
    16.85
    
    
    
    11.5
    
    
    
    353.0
    
    
    
    (9.7
    )
    
    
    2,613.0
    
    
    
    30.52001
    
    
    19.12
    
    
    
    13.5
    
    
    
    398.0
    
    
    
    12.7
    
    
    
    3,034.0
    
    
    
    16.12002
    
    
    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
    
    
    
    30.9
 Route Network Overview The
Group operates the most extensive route network among the Chinese
airlines. As of December 31, 2004, the Group operated 542 routes consisting of 434 domestic routes, 23 Hong Kong regional routes
and 85 international routes. In 2004, the Group conducted an average of 5,280 landings and take-offs per week, serving 143 destinations. The Group continually evaluates its network of domestic, Hong Kong regional 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 regional and international routes is subject to
approval of the CAAC, and the acquisition of Hong Kong regional 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 base in Guangzhou, the Group maintains
eighteen regional route bases
in Zhengzhou, Wuhan, Changsha, Shenzhen, Shenyang, Changchun, Dalian, Harbin, Urumqi, Haikou,
Zhuhai, Xiamen, Fuzhou, 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 enables 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. The Chinese Government approved a new Guangzhou airport project, which commenced
construction in 2000 and completed in August 2004. The commencement of operation of the new Guangzhou Baiyun International Airport which is the main
hub of the Group, provides a wider platform of development for the operations of the Company.

     Moreover, the Group has successfully secured the exclusive right to use Terminal No. 1 of the
Beijing Capital International Airport, marking a substantial step in carrying out the strategy of
the Group to improve its flight routes network. 15




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##### Table of Contents



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 2004, the Groups most profitable domestic routes
were the routes between Guangzhou and Beijing, Shenzhen and Shanghai, Guangzhou
and Shanghai, Beijing and Guangzhou, Shenzhen and Beijing, Shanghai and
Guangzhou, Shanghai and Shenzhen, Beijing and Shenzhen, Guangzhou and Chengdu,
and among Guangzhou, Dalian and Harbin. Hong
Kong and Macau Regional 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 regional routes also include routes between Hong
Kong or 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 2004, the most profitable Hong Kong regional
routes (other than these charter flights) were those
between Hong Kong and each of Guangzhou, Beijing, Wuhan, Kunming, Haikou,
and Zhengzhou. 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 2004, the Group conducted a total of 15,380 flights on its
Hong Kong regional routes, accounting for approximately 29.7% 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 27 routes
serving 11 Southeast Asian destinations, including Singapore and major cities
in Indonesia, Thailand, Malaysia, the Philippines, Vietnam and Laos. In 2004,
the Groups most profitable international routes were those between Guangzhou
and Ho Chi Minh City, Guangzhou and Bangkok. 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 27 routes serving 11 Southeast Asian destinations, the
Group operates 17 other international routes providing scheduled
services to Amsterdam, Sharjah, Osaka, Tokyo, Fukuoka, Seoul, Los Angeles, Sydney,
Melbourne, Dubai and Paris. 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, 2004, the Group operated a fleet of 231 aircraft with an average age
of 7.47 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. 16




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##### Table of Contents



The following table sets forth certain information regarding the Groups fleet of 231 aircraft
as of December 31, 2004. AverageNumber of
    
    
    Average age
    
    
    PassengerModel
    
    Aircraft
    
    
    (years)
    
    
    CapacityBoeing 777-200
    
    
    5
    
    
    
    8.53
    
    
    
    380Boeing 777-21B
    
    
    5
    
    
    
    6.20
    
    
    
    292Boeing 757-200
    
    
    38
    
    
    
    11.56
    
    
    
    200Boeing 747F
    
    
    2
    
    
    
    2.42
    
    
    
    n/aBoeing 737-800
    
    
    12
    
    
    
    1.86
    
    
    
    167Boeing 737-700
    
    
    17
    
    
    
    2.42
    
    
    
    138Boeing 737-500
    
    
    18
    
    
    
    12.09
    
    
    
    132Boeing 737-300
    
    
    38
    
    
    
    10.96
    
    
    
    145Boeing 737-300QC
    
    
    2
    
    
    
    15.97
    
    
    
    128Airbus 300-600
    
    
    6
    
    
    
    9.86
    
    
    
    274Airbus 319-100
    
    
    8
    
    
    
    1.43
    
    
    
    128Airbus 320-200
    
    
    24
    
    
    
    5.09
    
    
    
    158Airbus 321-100
    
    
    8
    
    
    
    2.72
    
    
    
    185McDonnell Douglas 82
    
    
    22
    
    
    
    13.54
    
    
    
    147McDonnell Douglas 90
    
    
    13
    
    
    
    6.88
    
    
    
    157Embraer 145 Jet
    
    
    5
    
    
    
    0.20
    
    
    
    50Cessna 208B
    
    
    3
    
    
    
    2.50
    
    
    
    14ATR-72
    
    
    5
    
    
    
    7.02
    
    
    
    72231
 During 2004, the Group continued to expand and modernize its aircraft fleet. In 2004, the
Groups major aircraft transactions included:  

The addition of one B777-200 and four Airbus 320 aircraft
under operating lease;

The acquisition of two Boeing 757-200 aircraft, eight
Boeing 737-700 and five Embraer 145 Jet financed by a
combination of internal funds and long term bank loans; and

The acquisition of seventy eight aircraft including
seventeen Boeing, eighteen Airbus, thirty five McDonnell
Douglas, three Cessna 208B and five ATR72 aircraft through the
acquisition of the airline operations and certain related
assets of China Northern Airlines Company and Xinjiang
Airlines Company which was approved by the Companys
shareholders in an extraordinary general meeting on December
31, 2004. In January 2005, the Company, as a lessee, entered into an agreement with an independent
lessor for operating leases of nine Boeing 737-800 aircraft for a term of seven years with total future lease payments totalling approximately
RMB1,721 million, scheduled for deliveries in 2005 and 2006. In January 2005, China Aviation Supplies Import and Export Corporation, as a sole importing
agent, entered into, on behalf of several PRC airlines including the Group, a general purchase
agreement with the Boeing Company for the import of Boeing B7E7 aircraft. The Company, being one of
the ultimate users for thirteen of the Boeing B7E7 aircraft, endorsed the general purchase
agreement. The Company is currently in negotiation with the Boeing Company regarding the purchase
agreements on such aircraft. In March 2005, the Company, as a lessee, entered into another agreement with an independent
lessor for operating leases of a total of twenty-five aircraft comprising five Boeing 737-700
aircraft, five Boeing 737-800 aircraft, five Airbus 320-200 aircraft and ten Airbus 321-200
aircraft with scheduled deliveries in 2006 and 2007. The term of the lease ranges from ten to
twelve years with total future lease payments totalling approximately RMB8,243 million. In April 2005, the Company entered into a purchase agreement with Airbus SNC for the purchase
of five Airbus A380 aircraft, scheduled for deliveries in 2007 to 2010. 17




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##### Table of Contents



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 nine years.
As of December 31, 2004, 47 of the Groups 231 aircraft were operated under capital leases, 84 were
operated under operating leases, 53 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 financed by long-term
mortgaged loans. 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, 2004, the number of aircraft operated by
the Group pursuant to capital and operating leases and the remaining terms, expressed in years, of
such leases. 18




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##### Table of Contents



AverageCapital
    
    
    Operating
    
    
    RemainingModel
    
    Lease
    
    
    Lease
    
    
    Lease TermBoeing 777-200 and 777-21B
    
    
    5
    
    
    
    4
    
    
    
    5.63Boeing 757-200
    
    
    
    
    
    
    15
    
    
    
    4.23Boeing 737-700
    
    
    
    
    
    
    8
    
    
    
    5.22Boeing 737-500
    
    
    
    
    
    
    18
    
    
    
    1.91Boeing 737-300
    
    
    4
    
    
    
    12
    
    
    
    2.23Boeing 737-300QC
    
    
    
    
    
    
    2
    
    
    
    4.00Airbus 300-600
    
    
    6
    
    
    

    
    
    
    
    2.20Airbus 319-100
    
    
    
    
    
    
    8
    
    
    
    9.02Airbus 320-200
    
    
    18
    
    
    
    6
    
    
    
    3.72Airbus 321-100
    
    
    4
    
    
    
    
    
    
    
    7.24McDonnell Douglas 82
    
    
    
    
    
    
    11
    
    
    
    3.06McDonnell Douglas 90
    
    
    10
    
    
    
    
    
    
    
    2.6947
    
    
    
    84
 Capital Leases As of December 31, 2004, the Groups aggregate future minimum lease payments (including future
finance charges) required under its capital leases were RMB13,055 million (US$1,577 million). As of
year end 2004, 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 nine 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 a 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, 2004, the Groups aggregate future minimum lease payments required under
its operating leases were RMB12,750 million (US$1,541 million). As of year end 2004, the Groups
operating leases had original terms generally ranging from eight to ten years from the date of
delivery of the relevant aircraft, and the remaining terms of these leases generally ranged from
one to ten 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 RMB14 million, RMB8 million and
RMB23 million during 2002, 2003 and 2004 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 2004, the
Group had 67 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. Rotables and certain of the expendables
for the Groups aircraft are generally purchased 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. 19




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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 9 other Chinese airlines
and 13 international airlines. GAMECO provides heavy maintenance services to 5
other Chinese airlines and 9 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 17 May, 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 15%, and labour costs at US$30.0 per hour during 2004.  For the year ended December 31,
2004, the amount incurred by the Group for such repair and maintenance services was
RMB659,850,000. Overhauls of jet engines are performed by overseas qualified service providers in Germany,
Malaysia, Canada and England. Starting from 2003, MTU Maintenance Zhuhai Co., Ltd., (MTU Zhuhai)
a jointly controlled entity of the Company and MTU Aero Engines Gmbh., also performed overhauls of
certain jet engines for the Group. For the year ended
December 31, 2004, repair fees amounting to RMB499
million were paid to MTU Zhuhai. 20




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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 was no serious incidents involving
casualty or flight damage throughout the three years ended December 31, 2004. 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
0.42, 0.13 and 0.13 in 2002, 2003 and 2004, respectively. In comparison, CAACs
published maximum acceptable flight incident ratio was 1.5 in 2002
and 1.3 in 2003 and 0.9 in 2004. This ratio is defined as the occurrence of one incident for every 10,000 hours
of flight time. As a result, the Group was awarded the Golden Roc Cup, the highest award for flight safety in the PRC civil aviation industry, for the fourth time in 2004. Jet Fuel Jet fuel costs typically represent a major component of an airlines operating expenses. The
Groups jet fuel costs for 2004 accounted for 26.2% 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. With the WTO entry, the jet fuel price in China will probably be trimmed by the market force to be in
line with the international market. CAOSCs maximum fuel price in 2004 was RMB4,190 per ton. The average price paid by
the Group in 2004 was RMB3,772 per ton, which represents a 22.7% increase
from that of 2003. To address the problem of high jet fuel prices since 2000, CAAC has announced a policy
permitting airlines to impose a fuel surcharge on passengers carried by their domestic and Hong
Kong regional flights for the purpose of offsetting the effect of rising jet fuel prices. Such
surcharges have been imposed by the Group since November 1, 2000 at the prescribed rates set by the
CAAC. 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 26.15% of the
Groups total jet fuel consumption in 2004. 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, realtime 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. 21




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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, students 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 student 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. Prior to January 2003, as part of the pilot training program, the Group also operated a flight
simulator training center in Zhuhai, Guangdong Province (the Zhuhai Training Center), which was
equipped with simulators for all models of aircraft currently operated by the Group. Trainee pilots
received their initial training in the operation of a specific aircraft at the Zhuhai Training
Center, which also provided training to pilots from other Chinese airlines. Such flight simulation
training has been shifted to Zhuhai Xiang Yi Aviation Technology Company Limited (Zhuhai Xiang
Yi), a jointly controlled entity between the Company and CAE International Holdings Limited, since
January 2003. Zhuhai Xiang Yi currently leases the flight simulation facilities of Zhuhai Training
Center from 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. 22




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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 Baiyun International Airport in Guangzhou. At domestic airports, such fees are generally
determined by the CAAC. At
new Baiyun International Airport in Guangzhou, 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 new Baiyun International 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 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. Air Catering The Company owns a 51% 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 new Baiyun
International 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. 23




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Cargo and Mail The Group also provides air cargo and mail services. A significant portion of
these services is combined with passenger flights services. Currently, the Group also has two Boeing
747-400 freighters servicing three international cargo routes, Shenzhen to Chicago and Belgium and
Shanghai to Amsterdam. Currently, the Group conducts its cargo business primarily through its cargo division in
Shenzhen. To further tap into the growing cargo market, the Group has commenced the construction of
a cargo centre in the Guangzhou new airport in 2004, at a budgeted cost of Rmb254 million. 24




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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 Bangkok, Manila, Hanoi, Ho Chi
Minh City, Singapore, Kuala Lumpur, Penang, Jakarta and Phnom Penh in Southeast Asia, as well as in
Osaka, Fukuoka, Tokyo, Seoul, Amsterdam, Los Angeles, Sydney, Melbourne and Sharjah. 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 3%  9% 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 2004, 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 3% of the ticket price, and pays independent sales agents outside China a
commission ranging from 5% to 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
2004, 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% and 5% of the relevant cargo freight rate for domestic and
international services, respectively. 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 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 regional and
international routes on the basis of price. 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 2004, the Group had approximately 3,500,000 members under these programs. 25




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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
regional and international route allocation, published airfares, 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 regional
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 added 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 Regional Routes. Hong Kong
regional 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. 26




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The Group understands that the criteria for determining whether a Hong Kong regional 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 regional 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. 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 20 April, 2004, prices on domestic routes now fluctuate freely within a
predetermined range. Instead of direct supervision by setting prices of air tickets through
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 regional 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. 27




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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 importer 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. 28




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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 new Baiyun International
Airport as of 2004, 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 2004, these three airlines together controlled
approximately 58.05% 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. 29




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##### Table of Contents



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. Total trafficPassenger carried
    
    
    Cargo and Mail Carried (tons)
    
    
    (ton kilometers)Industry
    
    
    Groups
    
    
    Industry
    
    
    Groups
    
    
    Industry
    
    
    GroupsYear
    
    Total
    
    
    Share
    
    
    Total
    
    
    Share
    
    
    Total
    
    
    Share(in million)
    
    
    (% of total)
    
    
    (in thousand)
    
    
    (% of total)
    
    
    (in billion)
    
    
    (% of total)1998
    
    
    57.5
    
    
    
    26.2
    
    
    
    1,401
    
    
    
    24.9
    
    
    
    9.3
    
    
    
    20.41999
    
    
    60.9
    
    
    
    24.8
    
    
    
    1,704
    
    
    
    22.9
    
    
    
    10.6
    
    
    
    18.92000
    
    
    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
    
    
    121.23
    
    
    
    23.27
    
    
    
    2,770
    
    
    
    19.68
    
    
    
    23.1
    
    
    
    20.19
 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 2004. Cargo and MailPassenger carried
    
    
    Carried
    
    
    Departing flightAirport
    
    (% of total)
    
    
    (% of total)
    
    
    (% of total)Beijing
    
    
    12.10
    
    
    
    15.13
    
    
    
    9.97Shanghai Pudong
    
    
    7.26
    
    
    
    6.19
    
    
    
    6.83Guangzhou
    
    
    50.57
    
    
    
    43.11
    
    
    
    49.10Shanghai Hongqiao
    
    
    14.16
    
    
    
    10.79
    
    
    
    13.69Shenzhen
    
    
    27.74
    
    
    
    26.31
    
    
    
    24.77Chengdu
    
    
    10.97
    
    
    
    14.57
    
    
    
    8.90Kunming
    
    
    20.12
    
    
    
    14.12
    
    
    
    14.57Haikou
    
    
    26.11
    
    
    
    26.40
    
    
    
    21.43Xian
    
    
    8.91
    
    
    
    13.32
    
    
    
    5.80Hangzhou
    
    
    27.89
    
    
    
    20.63
    
    
    
    19.58
 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 8 busiest airports in southern
and central China (excluding Guangzhou,
Shenzhen and Haikou, which are included in the table above), based on
passenger volume, in 2004. Cargo and MailPassenger carried
    
    
    Carried
    
    
    Departing flightAirport
    
    (% of total )
    
    
    (% of total)
    
    
    (% of total)Wuhan Tianhe
    
    
    46.62
    
    
    
    47.22
    
    
    
    39.32Changsha
    
    
    52.90
    
    
    
    49.46
    
    
    
    28.77Guilin
    
    
    39.72
    
    
    
    24.89
    
    
    
    32.84Zhengzhou
    
    
    68.17
    
    
    
    73.62
    
    
    
    49.83Sanya
    
    
    28.41
    
    
    
    11.06
    
    
    
    30.09Nanning
    
    
    44.90
    
    
    
    34.68
    
    
    
    33.49Zhang Jia Jie
    
    
    33.87
    
    
    
    26.35
    
    
    
    28.36Shantou
    
    
    81.85
    
    
    
    70.65
    
    
    
    65.87
 30




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Hong Kong Regional Routes The Group dominates the routes operated by Chinese airlines between Hong Kong and Macau and
China. In 2004, the Group operated an average of more than 15,380 charter and other
scheduled flights per week between China and Hong Kong or Macau, accounting for approximately
29.7% of the total number of passengers carried by all Chinese airlines on the Hong Kong
regional 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 regional routes. Air Macau Group Ltd. (Air Macau), a Macau-based airline, started to operate routes in 1996
between Macau and China, including 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 regional 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 regional 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 route 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. The Company owns 60% equity interest in each of the Airline
Subsidiaries. As of December 31, 2004, Xiamen Airlines operated under its own MF code a fleet of 29
aircraft on 71 domestic routes, 8 international route and 5 Hong Kong regional routes. In 2004, Xiamen Airlines carried a total of about 6.23 million passengers, or approximately 22.1% of the passengers carried by the
Group in that year, and had RMB4,448 million in operating revenue. As of December 31, 2004, Shantou Airlines operated under the Groups CZ code 7 aircraft on
16 domestic routes, 1 international route and 1 Hong Kong regional route. In 2004, Shantou
Airlines carried a total of about 1.08 million passengers, or 3.8% of the
passengers carried by the Group in that year. Total operating revenue of Shantou Airlines for the
year ended December 31, 2004 was RMB808 million. As
of December 31, 2004, Guangxi Airlines operated under the
CZ code 6 aircraft on 14 domestic routes, 4 international routes and 3 Hong Kong regional
routes. In 2004, Guangxi Airlines carried a total of about 1.12 million passengers, or 4.0% of the total number of passengers carried by the Group in that year. Total operating revenue of Guangxi Airlines for the year ended December 31, 2004 was RMB789 million. 31




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##### Table of Contents



As
of December 31, 2004, Zhuhai Airlines operated under the
CZ code 5 aircraft on 11 domestic routes. In 2004, Zhuhai Airlines carried a
total of about 741,000
passengers, or approximately 2.6% of the total number of passengers carried by the
Group in that year. Total operating revenue of Zhuhai Airlines for the year ended December 31, 2004
was RMB558 million. As
of December 31, 2004, Guizhou Airlines operated under the
CZ code 6 aircraft on 16 domestic routes. In 2004, Guizhou Airlines carried
a total of about 1.36 million
passengers, or approximately 4.8% of the total number of passengers carried by the
Group in 2004. Total operating revenue of Guizhou Airlines was
approximately RMB833
million for the year ended December 31, 2004. 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 RMB 70,000 (approximately US$8,455) 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$20,000 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. 32




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##### Table of Contents



Organizational Structure The following chart illustrates
the corporate structure of the Group as of year end 2004 and
the aggregate effective equity interest of the Company in each of its principal subsidiaries,
affiliated companies and jointly controlled entities. (CHART) 33




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##### Table of Contents



The particulars of the Companys principal subsidiaries as of December 31, 2004 are as
follows: Attributable equityPlace and date of
    
    interest to the Companyestablishment
    
    Direct
    
    
    IndirectName of company
    
    /operation
    
    %
    
    
    %Guangxi Airlines Company Limited
    
    PRCApril 28, 1994
    
    
    60
    
    
    
    Southern Airlines Group Shantou
    
    PRCAirlines Company Limited
    
    July 20, 1993
    
    
    60
    
    
    
    Zhuhai Airlines Company Limited
    
    PRCMay 8, 1995
    
    
    60
    
    
    
    Xiamen Airlines Company Limited
    
    PRCAugust 11, 1984
    
    
    60
    
    
    
    Guizhou Airlines Company Limited
    
    PRCNovember 12, 1991
    
    
    60
    
    
    
    Guangzhou Nanland Air Catering
    
    PRCCompany Limited
    
    November 21, 1989
    
    
    51
    
    
    
    China Southern West Australian
    
    AustraliaFlying College Pty Ltd.
    
    January 26, 1971
    
    
    65
    
    
    
    Guangzhou Baiyun International
    
    PRCLogistic Company Ltd
    
    July 23, 2002
    
    
    61
    
    
    
    
 Affiliated Companies and Jointly Controlled Entities The particulars of the Groups principal affiliated companies and jointly controlled entity as
of December 31, 2004 are as follows: Attributable equityPlace and date of
    
    interest to the Companyestablishment
    
    Direct
    
    
    IndirectName of company
    
    /operation
    
    %
    
    
    %Guangzhou Aircraft Maintenance
    
    PRCEngineering Company Limited
    
    October 28, 1989
    
    
    50
    
    
    
    Southern Airlines Group
    
    PRCFinance Company Limited
    
    June 28, 1995
    
    
    32
    
    
    
    15.42Sichuan Airlines Corporation
    
    PRCLimited
    
    August 28, 2002
    
    
    39
    
    
    
    China Postal Airlines Limited
    
    PRCNovember 25, 1996
    
    
    49
    
    
    
    MTU Maintenance Zhuhai Co. Ltd
    
    PRCApril 6, 2001
    
    
    50
    
    
    
    Zhuhai Xiang Yi Aviation
    
    PRCTechnology Company Limited
    
    July 10, 2002
    
    
    51
    
    
    
    
 34




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##### Table of Contents



Certain of the Companys subsidiaries, affiliated companies and jointly controlled
entities are PRC joint ventures which have limited duration pursuant to PRC law. 
 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 Fleet. The Groups headquarters in Guangzhou occupy an area of approximately 149,000 square meters of
land and a total gross floor area of approximately 149,000 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, Haikou and Zhengzhou airports. 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
    
    
    Buildings(in square meters)
    
    
    (in square meters)Owned
    
    
    Leased
    
    
    Owned
    
    
    LeasedGuangzhou
    
    
    
    
    
    
    80,809
    
    
    
    503,957
    
    
    
    1,755Shenzhen
    
    
    208,740
    
    
    
    
    
    
    
    35,174
    
    
    
    Zhuhai
    
    
    170,062
    
    
    
    
    
    
    
    18,791
    
    
    
    Changsha
    
    
    138,949
    
    
    
    
    
    
    
    47,190
    
    
    
    Zhengzhou
    
    
    290,841
    
    
    
    
    
    
    
    60,582
    
    
    
    Haikou
    
    
    5,265
    
    
    
    
    
    
    
    59,543
    
    
    
    19,633Wuhan
    
    
    
    
    
    
    31,061
    
    
    
    17,335
    
    
    
    Nanyang
    
    
    
    
    
    
    
    
    
    
    12,156
    
    
    
    
 The following table sets forth certain information with respect to the properties of the
Airline Subsidiaries as of the date hereof. Land
    
    
    Buildings(in square meters)
    
    
    (in square meters)Owned
    
    
    Leased
    
    
    Owned
    
    
    LeasedXiamen
    
    
    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, 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 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. The Group has been occupying all of the land and buildings described above without challenge.
CSAHC has received written assurance from the CAAC to the effect that CSAHC is entitled to
continued use and occupancy of the land in Guangzhou. The Group understands that the CAAC is basing
its conclusion on an agreement among certain governmental authorities relating to such land. CSAHC
has agreed to indemnify the Group against any loss or damage caused by any challenge of, or
interference with, the use by the Group of any of their respective land and buildings. 35




---



##### Table of Contents



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 34 to the Financial Statements. 
 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. The Group believes that its critical accounting policies are limited to
those described below. For a detailed discussion on the application of these and other accounting
policies, see Note 2 to the Financial Statements. Revenue Recognition The Group records sales of passenger, cargo and mail tickets as Sales in advance of
carriage, a current liability, on the consolidated balance sheet. Passenger, cargo and mail
revenues are recognized and the related current liability is reduced when the transportation is
provided. Sales in advance of carriage therefore represents ticket sold for future travel dates and
estimated future refunds and exchanges of tickets sold for past travel dates. The Groups balance
of sales in advance of carriage as of December 31, 2004 was RMB874 million. 36




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##### Table of Contents



Property, plant and equipment The Group have approximately RMB46,841 million fixed assets as of December 31, 2004. In
addition to the original cost of these assets, their recorded value is impacted by a number of
policy elections, including the estimation of useful lives and residual values and when necessary,
impairment charges. There were no significant changes to the original estimated useful lives or residual values of the
property, plant and equipment of the Group during 2002, 2003 and 2004. The Group records aircraft at acquisition cost. Depreciable life is determined through
economic analysis, reviewing existing fleet plans, recommendations from manufacturers and comparing
estimated lives to other airlines that operate similar fleets. Residual values are estimated based
on our historical experience with regards to the sale of aircraft and are established in
conjunction with the estimated useful lives of the aircraft. Residual values are based on current
dollars when the aircraft are acquired and typically reflect asset values that have not reached the
end of their physical life. Both depreciable lives and residual values are reviewed periodically to
recognize changes in our fleet plan and changes in conditions. In addition, the Group evaluates fixed assets used in operations for impairment. Under IFRS, if
circumstances indicate that the net book value of an 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 amount of impairment loss is the difference between the carrying amount
of the asset and its recoverable amount. The recoverable amount is the greater of the net selling
price and the value in use. In determining the value in use, the Group utilizes certain
assumptions, including, but not limited to: (i) estimated fair market value of the assets, and (ii)
estimated future cash flows expected to be generated by these assets, which are based on additional
assumptions such as asset utilization, length of service the asset will be used in the Groups
operations and estimated residual values. The Group will use all readily available information in
determining an amount that is a reasonable approximation of recoverable amounts, including
estimates based on industry trends and reference to market rates and transactions. Changes to the
above estimates may have a material effect on the Groups Financial Statements. As of December 31,
2004, based on the result of evaluation, the Group considered that no impairment is required. Under U.S. GAAP, property, plant, and equipment of the Group are reviewed for impairment whenever
events or changes in circumstances indicate that the carrying amount of an asset may not be
recoverable. Recoverability of assets to be held and used is measured by a comparison of the
carrying amount of an asset to estimated undiscounted future cash flows expected to be generated by
the asset. If the carrying amount of an asset exceeds its estimated future cash flows, an
impairment charge is recognized by the amount by which the carrying amount of the asset exceeds the
fair value of the asset. During 2002 and 2003, the impairment losses of RMB347 million and RMB510
million respectively were recognised on certain aircraft of CNA. 
 Overview From the fast growing economy in the PRC, growth in airline market has been carried on which
was commenced in second half of 2003. The Groups business was benefited from the increasing
traffic demand in which both the passenger volume and passenger load factor were improved.
Nevertheless, the Group is facing pressure on its operation was due to the seasonal effects and the
increase in jet fuel cost. 37




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##### Table of Contents



The continuing political tension in the Middle East led to high fuel prices which in turn
caused an increase in the Groups jet fuel cost. The Group has implemented various measures to
control the increase in operating expenses. 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 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. 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 is 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 loss of RMB164 million
and RMB59 million in 2003 and 2004, respectively. These amounts represented mainly unrealized
exchange differences resulting from the retranslation of the foreign currency borrowings. 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 airfares,
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. 38




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##### Table of Contents



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, 2002, 2003 and 2004: Year ended

    
    2003 vs. 2002
    
    
    2004 vs. 2003December 31,
    

    
    % increase/
    
    
    % increase/2002
    
    
    2003
    
    
    2004
    
    
    (decrease)
    
    
    (decrease)TrafficRPK (million)Domestic
    
    
    22,092
    
    
    
    21,294
    
    
    
    29,121
    
    
    
    (3.6
    )
    
    
    36.8Hong Kong regional
    
    
    1,081
    
    
    
    778
    
    
    
    1,203
    
    
    
    (28.0
    )
    
    
    54.6International
    
    
    5,767
    
    
    
    4,315
    
    
    
    6,872
    
    
    
    (25.2
    )
    
    
    59.3Total
    
    
    28,940
    
    
    
    26,387
    
    
    
    37,196
    
    
    
    (8.8
    )
    
    
    41.0RTK (million)Domestic
    
    
    2,532
    
    
    
    2,424
    
    
    
    3,206
    
    
    
    (4.3
    )
    
    
    32.3Hong Kong regional
    
    
    108
    
    
    
    78
    
    
    
    120
    
    
    
    (27.8
    )
    
    
    53.8International
    
    
    974
    
    
    
    1,059
    
    
    
    1,337
    
    
    
    8.7
    
    
    
    26.3Total
    
    
    3,614
    
    
    
    3,561
    
    
    
    4,663
    
    
    
    (1.5
    )
    
    
    30.9Passengers carried (thousand)Domestic
    
    
    18,535
    
    
    
    18,259
    
    
    
    25,002
    
    
    
    (1.5
    )
    
    
    36.9Hong Kong regional
    
    
    1,369
    
    
    
    1,019
    
    
    
    1,394
    
    
    
    (25.6
    )
    
    
    36.8International
    
    
    1,589
    
    
    
    1,192
    
    
    
    1,811
    
    
    
    (25.0
    )
    
    
    51.9Total
    
    
    21,493
    
    
    
    20,470
    
    
    
    28,207
    
    
    
    (4.8
    )
    
    
    37.8Cargo and mail carried (thousand tons)Domestic
    
    
    404
    
    
    
    379
    
    
    
    442
    
    
    
    (6.2
    )
    
    
    16.6Hong Kong regional
    
    
    14
    
    
    
    12
    
    
    
    15
    
    
    
    (14.3
    )
    
    
    25.0International
    
    
    52
    
    
    
    73
    
    
    
    88
    
    
    
    40.4
    
    
    
    20.5Total
    
    
    470
    
    
    
    464
    
    
    
    545
    
    
    
    (1.3
    )
    
    
    17.5
 39




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##### Table of Contents



Year ended

    
    2003 vs. 2002
    
    
    2004 vs. 2003December 31,
    

    
    % increase/
    
    
    % increase/2002
    
    
    2003
    
    
    2004
    
    
    (decrease)
    
    
    (decrease)CapacityASK (million)Domestic
    
    
    33,753
    
    
    
    32,590
    
    
    
    41,330
    
    
    
    (3.4
    )
    
    
    26.8Hong Kong regional
    
    
    1,746
    
    
    
    1,347
    
    
    
    1,896
    
    
    
    (22.9
    )
    
    
    40.8International
    
    
    8,746
    
    
    
    6,930
    
    
    
    10,543
    
    
    
    (20.8
    )
    
    
    52.1Total
    
    
    44,245
    
    
    
    40,867
    
    
    
    53,769
    
    
    
    (7.6
    )
    
    
    31.6ATK (million)Domestic
    
    
    3,924
    
    
    
    3,772
    
    
    
    4,773
    
    
    
    (3.9
    )
    
    
    26.5Hong Kong regional
    
    
    193
    
    
    
    150
    
    
    
    211
    
    
    
    (22.3
    )
    
    
    40.7International
    
    
    1,798
    
    
    
    1,999
    
    
    
    2,462
    
    
    
    11.2
    
    
    
    23.2Total
    
    
    5,915
    
    
    
    5,921
    
    
    
    7,446
    
    
    
    0.1
    
    
    
    25.8Load FactorsPassenger load factor (RPK/ASK) (%)Domestic
    
    
    65.5
    
    
    
    65.3
    
    
    
    70.5
    
    
    
    (0.3
    )
    
    
    8.0Hong Kong regional
    
    
    61.9
    
    
    
    57.8
    
    
    
    63.4
    
    
    
    (6.6
    )
    
    
    9.7International
    
    
    65.9
    
    
    
    62.3
    
    
    
    65.2
    
    
    
    (5.5
    )
    
    
    4.7Overall
    
    
    65.4
    
    
    
    64.6
    
    
    
    69.2
    
    
    
    (1.2
    )
    
    
    7.1Overall load factor (RTK/ATK) (%)Domestic
    
    
    64.5
    
    
    
    64.2
    
    
    
    67.2
    
    
    
    (0.5
    )
    
    
    4.7Hong Kong regional
    
    
    55.8
    
    
    
    52.2
    
    
    
    56.9
    
    
    
    (6.5
    )
    
    
    9.0International
    
    
    54.2
    
    
    
    53.0
    
    
    
    54.3
    
    
    
    (2.2
    )
    
    
    2.5Overall
    
    
    61.1
    
    
    
    60.1
    
    
    
    62.6
    
    
    
    (1.6
    )
    
    
    4.2YieldYield per RPK (RMB)Domestic
    
    
    0.55
    
    
    
    0.57
    
    
    
    0.58
    
    
    
    3.6
    
    
    
    1.8Hong Kong regional
    
    
    0.98
    
    
    
    0.96
    
    
    
    0.92
    
    
    
    (2.0
    )
    
    
    (4.2
    )International
    
    
    0.42
    
    
    
    0.47
    
    
    
    0.46
    
    
    
    11.9
    
    
    
    (2.1
    )Overall
    
    
    0.54
    
    
    
    0.57
    
    
    
    0.57
    
    
    
    5.6
    
    
    
    Yield per RTK (RMB)Domestic
    
    
    5.21
    
    
    
    5.40
    
    
    
    5.53
    
    
    
    3.6
    
    
    
    2.4Hong Kong regional
    
    
    10.36
    
    
    
    10.35
    
    
    
    9.83
    
    
    
    (0.1
    )
    
    
    (5.0
    )International
    
    
    3.25
    
    
    
    2.90
    
    
    
    3.31
    
    
    
    (10.8
    )
    
    
    14.1Overall
    
    
    4.84
    
    
    
    4.76
    
    
    
    5.01
    
    
    
    (1.7
    )
    
    
    5.3FinancialIFRSPassenger revenue (RMB million)Domestic
    
    
    12,234
    
    
    
    12,242
    
    
    
    16,869
    
    
    
    0.1
    
    
    
    37.8Hong Kong regional
    
    
    1,055
    
    
    
    750
    
    
    
    1,104
    
    
    
    (28.9
    )
    
    
    47.2International
    
    
    2,407
    
    
    
    2,018
    
    
    
    3,127
    
    
    
    (16.2
    )
    
    
    55.0Total
    
    
    15,696
    
    
    
    15,010
    
    
    
    21,100
    
    
    
    (4.4
    )
    
    
    40.6Cargo and mail revenue (RMB million)
    
    
    1,786
    
    
    
    1,955
    
    
    
    2,244
    
    
    
    9.5
    
    
    
    14.8U.S. GAAPPassenger revenue (RMB million)Domestic
    
    
    18,145
    
    
    
    18,679
    
    
    
    24,773
    
    
    
    2.9
    
    
    
    32.6Hong Kong regional
    
    
    1,144
    
    
    
    781
    
    
    
    1,151
    
    
    
    (31.7
    )
    
    
    47.4International
    
    
    3,277
    
    
    
    2,978
    
    
    
    4,519
    
    
    
    (9.1
    )
    
    
    51.7Total
    
    
    22,566
    
    
    
    22,438
    
    
    
    30,443
    
    
    
    (0.6
    )
    
    
    35.7Cargo and mail revenue (RMB million)
    
    
    2,288
    
    
    
    2,459
    
    
    
    2,792
    
    
    
    7.5
    
    
    
    13.5
 40




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##### Table of Contents



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. 2004 Compared with 2003 The Group recorded a net loss of RMB48 million for 2004, as compared to a net loss of RMB358
million for 2003. The Groups operating revenue increased by RMB6,504 million or 37.2% from
RMB17,470 million in 2003 to RMB23,974 million in 2004. Passenger load factor increased by 4.6
percentage point from 64.6% in 2003 to 69.2% in 2004. Passenger yield (in passenger revenue per
RPK) remain steady and at RMB0.57 in both years. Average yield (in traffic revenue per RTK)
increased by 5.3% from RMB4.76 in 2003 to RMB5.01 in 2004. Operating expenses increased by RMB6,051
million or 35.6% from RMB17,014 million in 2003 to RMB23,065 million in 2004. As operating revenue
increased more than operating expenses, operating profit increased by 99.3% from RMB456 million in
2003 to RMB909 million in 2004. The Groups net non-operating expenses decreased by 30.1%, from
RMB967 million in 2003 to RMB676 million in 2004, mainly attributable to a decrease in unfavourable
movement in foreign exchange differences of RMB105 million and a decrease in interest expense of
RMB133 million. Overall, the Group recorded a net loss of RMB48 million in 2004, as compared to a
net loss of RMB358 million in 2003. Operating revenue Substantially all of the Groups operating revenue is attributable to airline and airline related
operations. Traffic revenue in 2004 and 2003 accounted for 97.4% and 97.1% respectively of total
operating revenue. Passenger revenue and, cargo and mail revenue accounted for 90.4% and 9.6%
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 37.2% from RMB17,470 million in 2003 to RMB23,974 million in 2004.
This increase was primarily due to a 40.6% rise in passenger revenue from RMB15,010 million in 2003
to RMB21,100 million in 2004 resulting from increased traffic volume. The total number of
passengers carried increased by 37.8% to 28.2 million passengers in 2004. RPKs increased by 41.0%
from 26,387 million in 2003 to RMB37,196 million in 2004, primarily as
a result of an increase in passengers carried. Passenger yield remained constant at RMB0.57. Domestic passenger revenue, which accounted for 79.9% of the total passenger revenue in 2004,
increased by 37.8% from RMB12,242 million in 2003 to RMB16,869 million in 2004. Domestic passenger
traffic in RPKs increased by 36.8%, mainly due to an increase in passengers carried. Passenger
yield remained steady in 2004 and at RMB0.58. Hong Kong passenger revenue, which accounted for 5.3% of total passenger revenue, increased by
47.2% from RMB750 million in 2003 to RMB1,104 million in 2004. For Hong Kong regional flights,
passenger traffic in RPKs increased by 54.6%, while passenger capacity in ASKs increased by 40.8%,
resulting in a 5.6 percentage point increase in passenger load factor from 2003. Passenger yield
decreased from RMB0.96 in 2003 to RMB0.92 in 2004 mainly due to intensified competition among
airlines. International passenger revenue, which accounted for 14.8% of total passenger revenue, increased by
55.0% from RMB2,018 million in 2003 to RMB3,127 million in 2004. For international flights,
passenger traffic in RPKs increased by 59.3%, while passenger capacity in ASKs increased by 52.1%,
resulting in a 2.9 percentage point rise in passenger load factor from 2003. Passenger yield
decreased by 2.1% from RMB0.47 in 2003 to RMB0.46 in 2004 mainly resulted from the increases in
traffic derived from long haul routes which generally had a lower yield than short haul routes. Cargo and mail revenue, which accounted for 9.6% of the Groups total traffic revenue and 9.4% of
total operating revenue, increased by 14.8% from RMB1,955 million in 2003 to RMB2,244 million in
2004. The increase was attributable to the increasing traffic demand. Other operating revenue increased by 24.8% from RMB505 million in 2003 to RMB630 million in 2004.
The increase was primarily due to the general growth in income from various auxiliary operations. 41




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##### Table of Contents



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. Total operating expenses in 2004 amounted to RMB23,065 million, representing an increase of 35.6%
or RMB6,051 million over 2003, 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 decreased from 97.4% in 2003 to 96.2% in 2004. Flight operations expenses, which accounted for 45.2% of total operating expenses, increased by
47.4% from RMB7,070 million in 2003 to RMB10,418 million in 2004, primarily as a result of
increases in jet fuel costs, operating lease payments, catering expenses, labour costs for flight
personnel and inclusion of CAAC Infrastructure Development Fund of RMB466 million in operating
expenses which is an usage charge since 2004 but was a turnover-based levy and deducted against the
traffic revenue in 2003. Jet fuel costs, which accounted for 58.1% of flight operations expenses,
increased by 56.5% from RMB3,867 million in 2003 to RMB6,050 million in 2004 mainly as a result of
increased fuel prices and fuel consumption. Operating lease payments increased by 8.4% from
RMB1,536 million in 2003 to RMB1,665 million in 2004, primarily due to the additional rental
payments for new aircraft under operating leases. Catering expenses increased by 38.2% from RMB510
million in 2003 to RMB705 million in 2004, primarily due to increased passenger carried. Aircraft
insurance costs decreased by 5.6% from RMB196 million in 2003 to RMB185 million in 2004, primarily
because of a decrease in insurance premiums prescribed by the PRC insurance company. Labour costs
for flight personnel increased by 40.9% from RMB728 million in 2003 to RMB1,026 million in 2004,
largely due to the increase in flying hours. Maintenance expenses which accounted for 15.0% of total operating expenses, increased by 33.6% from
RMB2,589 million in 2003 to RMB3,459 million in 2004. The increase was primarily attributable to an
32.9% increase in aircraft overhaul charges from RMB2,377 million in 2003 to RMB3,158 million in
2004, as resulted from fleet expansion in recent years. 42




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##### Table of Contents



Aircraft and traffic servicing expenses, which accounted for 15.2% of total operating expenses,
increased by 26.6% from RMB2,767 million in 2003 to RMB3,503 million in 2004. The increase
primarily resulted from an 25.7% rise in landing and navigation fees from RMB2,563 million in 2003
to RMB3,222 million in 2004, due to an increase in number of landing and takeoffs. Promotional and marketing expenses, which accounted for 8.4% of total operating expenses, increased
by 31.1% from RMB1,480 million in 2003 to RMB1,940 million in 2004. The increase was due to 44.4%
increase in labour costs from RMB225 million in 2003 to RMB325 million in 2004, as more payments of
performance bonus were made because of the increased traffic volume. General and administrative expenses, which accounted for 5.7% of the total operating expenses,
increased by 25.6% from RMB1,053 million in 2003 to RMB1,323 million in 2004. This was mainly
attributable to increased scale of operations. Depreciation and amortisation, which accounted for 10.5% of total operating expenses, increased by
18.4% from RMB2,038 million in 2003 to RMB2,413 million in 2004. This increase was primarily as a
result of the additions of aircraft during 2004. Operating profit Operating profit increased by 99.3% from RMB456 million in 2003 to RMB909 million in 2004. This was
mainly because operating revenue increased by RMB6,504 million or 37.2% from 2003 and operating
expenses increased by RMB6,051 million or 35.6% over the same period. Non-operating income/(expenses) Interest expense decreased by 16.1% from RMB824 million in 2003 to RMB691 million in 2004, mainly
reflecting the combined effect of scheduled debt repayments and the replacement of certain RMB
denominated bank loans of higher interest rates with US$ denominated bank loans of lower interest
rates. Interest income increased by 69.2% from RMB13 million in 2003 to RMB22 million in 2004. This was
mainly attributable to an increase in average cash balances. During 2004, the Group recorded a net exchange loss of RMB59 million (2003:RMB164 million) mainly
from its Japanese yen denominated borrowings as a result of the Japanese yen appreciation. Such
amount comprised mostly unrealised translational exchange loss. 43




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##### Table of Contents



Taxation On October 17, 2003, the Companys registered address was moved to Guangzhou Economic & Technology
Development Zone, Guangzhou, China. In accordance with the Rules and Regulations for Implementation
of Income Tax for Foreign Investment Enterprises and Foreign Enterprises of the PRC and a taxation
approval document Guangzhou Municipal State Tax Bureau Suo De Shui Zi Que 020043, the Company is
entitled to enjoy the preferential tax policy implemented in the Guangzhou Economic & Technology
Development Zone effective from October 1, 2003. As a result, the Companys income tax rate has
been changed from 33% to 15% beginning from that date. In 2003, the Group recorded an income tax credit of RMB324 million resulting from reduction in net
deferred taxation liability balance of RMB392 million. In 2004, income tax expense of RMB78 million was
recorded. Minority interests Minority interests increased by 18.7% from RMB171 million in 2003 to RMB203 million in 2004,
primarily reflecting the increased net profits earned by certain of the Groups airline
subsidiaries for the year. 2003 Compared with 2002 The Group recorded a net loss of RMB358 million for 2003, as compared to a net income of
RMB576 million for 2002. The Groups operating revenue decreased by RMB549 million or 3.0% from
RMB18,019 million in 2002 to RMB17,470 million in 2003. Passenger load factor decreased by 0.8
percentage point from 65.4% in 2002 to 64.6% in 2003. Passenger yield (in passenger revenue per
RPK) increased by 5.6% from RMB0.54 in 2002 to RMB0.57 in 2003. Average yield (in traffic revenue
per RTK) decreased by 1.7% from RMB4.84 in 2002 to RMB4.76 in 2003. Operating expenses increased by
RMB1,021 million or 6.4% from RMB15,993 million in 2002 to RMB17,014 million in 2003. As operating
revenue decreased while operating expenses increased, operating profit decreased by 77.5% from
RMB2,026 million in 2002 to RMB456 million in 2003. The Groups net non-operating expenses
increased by 9.1%, from RMB887 million in 2002 to RMB967 million in 2003, mainly due to a decrease
in gain on disposal of fixed assets of RMB193 million, partly offset by a decrease in interest
expense of RMB135 million. Overall, the Group recorded a net loss of RMB358 million in 2003, as
compared to a net profit of RMB576 million in 2002. 44




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##### Table of Contents



Operating Revenue Substantially all of the Groups operating revenue is attributable to airline operations.
Traffic revenue in 2003 and 2002 accounted for 97.1% and 97.0% respectively of total operating
revenue. Passenger revenue and, cargo and mail revenue accounted for 88.5% and 11.5% respectively
of total traffic revenue in 2003. The balance of the Groups operating revenue is derived from
commission income, income from general aviation operations, fees charged for ground services and
for air catering services and net income from lease arrangements. Operating revenue decreased by 3.0% from RMB18,019 million in 2002 to RMB17,470 million in
2003. This decrease was primarily due to a 4.4% fall in passenger revenue from RMB15,696 million in
2002 to RMB15,010 million in 2003 resulting from lower traffic volume caused by SARS. The total
number of passengers carried decreased by 4.8% to 20.5 million passengers in 2003. RPKs decreased
by 8.8% from 28,940 million in 2002 to 26,387 million in 2003, primarily as a result of a decrease
in passengers carried. However, passenger yield increased by 5.6% from RMB0.54 in 2002 to RMB0.57
in 2003, mainly as the result of the exemption of CAAC Infrastructure Development Fund and sales
tax during the period from May 1, 2003 to December 31, 2003. Domestic passenger revenue, which accounted for 81.6% of the total passenger revenue in 2003,
increased slightly by 0.1% from RMB12,234 million in 2002 to RMB12,242 million in 2003. Domestic
passenger traffic in RPKs decreased by 3.6%, mainly due to a decrease in passengers carried.
Passenger yield, however, increased from RMB0.55 in 2002 to RMB0.57 in 2003, mainly as the result
of the aforesaid exemption of CAAC Infrastructure Development Fund and sales tax. Hong Kong passenger revenue, which accounted for 5.0% of total passenger revenue, decreased by
28.9% from RMB1,055 million in 2002 to RMB750 million in 2003. For Hong Kong flights, passenger
traffic in RPKs decreased by 28.0%, while passenger capacity in ASKs decreased by 22.9%, resulting
in a 4.1 percentage point decrease in passenger load factor from 2002. Passenger yield decreased
from RMB0.98 in 2002 to RMB0.96 in 2003 mainly due to slack in traffic volume. International passenger revenue, which accounted for 13.4% of total passenger revenue,
decreased by 16.2% from RMB2,407 million in 2002 to RMB2,018 million in 2003. For international
flights, passenger traffic in RPKs decreased by 25.2%, while passenger capacity in ASKs decreased
by 20.8%, resulting in a 3.6 percentage point fall in passenger load factor from 2002. Passenger
yield increased by 11.9% from RMB0.42 in 2002 to RMB0.47 in 2003 mainly as the result of the
aforesaid exemption of CAAC Infrastructure Development Fund and sales tax. Cargo and mail revenue, which accounted for 11.5% of the Groups total traffic revenue and
11.1% of total operating revenue, increased by 9.5% from
RMB1,786 million in 2002 to RMB1,955 million in 2003. The increase was primarily due to the
full year effect of the opening of two international cargo routes to Los Angeles of the United
States of America and Leige of Belgium in late 2002. Other operating revenue decreased by 6.0% from RMB537 million in 2002 to RMB505 million in
2003. The decrease was primarily due to a decrease in aircraft short-term lease income of RMB46
million. 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. Total operating expenses in 2003 amounted to RMB17,014 million, representing an increase of
6.4% or RMB1,021 million over 2002, 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 88.8% in 2002 to 97.4% in 2003. 45




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##### Table of Contents



Flight operations expenses, which accounted for 41.6% of total operating expenses, increased
by 5.0% from RMB6,733 million in 2002 to RMB7,070 million in 2003, primarily as a result of
increases in jet fuel costs and operating lease payments, partly offset by a decrease in catering
expenses. Jet fuel costs, which accounted for 54.7% of flight operations expenses, increased by
9.9% from RMB3,519 million in 2002 to RMB3,867 million in 2003 mainly as a result of increased jet
fuel prices. Operating lease payments increased by 8.4% from
RMB1,417 million in 2002 to RMB1,536 million in 2003, primarily due to the full year effect of
the addition of new operating leases in respect of four Boeing 757-200 aircraft in late 2002 and
four Airbus 319-100 aircraft and three Boeing 737-700 aircraft during 2003. Catering expenses
decreased by 18.4% from RMB625 million in 2002 to RMB510 million in 2003, primarily reflecting a
tighter cost controls exercised by the Group. Aircraft insurance costs decreased by 23.4% from
RMB256 million in 2002 to RMB196 million in 2003, primarily because of a reduction in the rate of
aircraft insurance premiums prescribed by the PRC insurance company. Labor costs for flight
personnel decreased by 6.8% from RMB781 million in 2002 to RMB728 million in 2003, largely due to a
decrease in flight hours. Maintenance expenses which accounted for 15.2% of total operating expenses, increased by 11.0%
from RMB2,333 million in 2002 to RMB2,589 million in 2003. The increase was primarily attributable
to an 11.3% increase in aircraft maintenance and repair charges from RMB2,135 million in 2002 to
RMB2,377 million in 2003, mainly as the result of the effect of fleet expansion in recent years. Aircraft and traffic servicing expenses, which accounted for 16.3% of total operating
expenses, increased by 10.2% from RMB2,511 million in 2002 to RMB2,767 million in 2003. The
increase primarily resulted from an 8.9% rise in landing and navigation fees from RMB2,354 million
in 2002 to RMB2,563 million in 2003, due to an increase in the charge rate for domestic landing and
navigation fees effective September 2002. Promotional and marketing expenses, which accounted for 8.7% of total operating expenses,
decreased by 1.3% from RMB1,500 million in 2002 to RMB1,480 million in 2003. The decrease was due
to 9.3% decrease in labor costs from RMB248 million in 2002 to RMB225 million in 2003, as fewer
bonuses were given because of reduced sales volume in 2003. General and administrative expenses, which accounted for 6.2% of the total operating expenses,
decreased slightly by 0.7% from RMB1,060 million in 2002 to RMB1,053 million in 2003. This was
mainly due to a decrease in scale of operations during SARS period. Depreciation and amortization, which accounted for 12.0% of total operating expenses,
increased by 10.8% from RMB1,840 million in 2002 to RMB2,038 million in 2003. This increase was
primarily as a result of the addition of aircraft during 2003. 46




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Operating Income Operating income decreased by 77.5% from RMB2,026 million in 2002 to RMB456 million in 2003.
This was mainly because operating revenue decreased
by RMB549 million or 3.0% from 2002 while operating expenses increased by RMB1,021 million or
6.4% over the same period. Non-operating Income/(Expenses) Interest expense decreased by 14.1% from RMB959 million in 2002 to RMB824 million in 2003,
mainly reflecting the combined effect of scheduled debt repayments and the replacement of certain
RMB denominated bank loans with US$ denominated bank loans with lower interest rates. Interest income decreased by 75.2% from RMB53 million in 2002 to RMB13 million in 2003. This
was mainly attributable to a decrease in average cash balances. The Group recorded a net loss on sale of fixed assets of RMB22 million in 2003, mainly
resulting from retirement of two old Boeing 737- 200 aircraft. During 2003, the Group recorded a net exchange loss of RMB164 million predominantly due to its
Japanese yen denominated borrowings as a result of the Japanese yen appreciation. Such amount
comprised mostly unrealized translation loss. Taxation On October 17, 2003, the Companys registered address was moved to Guangzhou Economic &
Technology Development Zone. In accordance with the Rules and Regulations for Implementation of
Income Tax for Foreign Investment Enterprises and Foreign Enterprises of the PRC and a taxation
approval document Guangzhou Municipal State Tax Bureau Suo De Shui Zi Que 020043, the Company is
entitled to enjoy the preferential tax policy implemented in the Guangzhou Economic & Technology
Development Zone effective from October 1, 2003. As a result, the Companys income tax rate has
been changed from 33% to 15% beginning from that date. The Group recorded an income tax credit of RMB324 million for 2003 compared to an income tax
expense of RMB398 million for 2002. As a result of the reduction in income tax rate, the Companys
net deferred taxation liability balance brought forward from December 31, 2002 of RMB507 million
was reduced by RMB392 million and a net deferred tax credit of RMB392 million was recognized in
2003 for such reduction in income tax rate accordingly. Minority Interests Minority interests increased by 3.6% from RMB165 million in 2002 to RMB171 million in 2003,
primarily reflecting the net income earned by certain of the Groups airline subsidiaries for the
year. 
 Additional information under U.S. GAAP 2004 Compared with 2003 The Groups operating revenue increased by RMB8,682 million or 34.1%
from RMB25,483 million in 2003 to RMB34,165 million in 2004. Such growth was primarily
attributable to growth in volume of passenger traffic carried by the Group as a result of the
recovery of the Groups traffic operations from SARS and flight capacity. Operating expenses increased by RMB7,171
million or 28.6% from RMB25,117 million in 2003 to RMB32,288 million in 2004. As operating revenue increased more than operating expenses, operating profit increased
by 412.8% from RMB366 million in 2003 to RMB1,877 million in 2004. The Groups net non-operating
expenses decreased by 38.5%, from RMB1,905 million in 2003 to RMB1,171 million in 2004, primarily
attributable to a decrease in unfavourable movement in foreign exchange differences of RMB257
million and a decrease in interest expense of RMB420 million. Overall, the Group recorded a net
income of RMB239 million in 2004, as compared to a net loss of RMB1,140 million in 2003. Operating revenue Substantially all of the Groups operating revenue is attributable to airline and airline
related operations. Traffic revenue in 2004 and 2003 accounted for 97.3% and 97.7% respectively of
total operating revenue. 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 34.1% from RMB25,483 million in 2003 to RMB34,165 million in
2004. This increase was primarily due to a 35.7% rise in passenger revenue from RMB22,438 million
in 2003 to RMB30,443 million in 2004 resulting from increased traffic volume. The total number of
passengers carried increased by 33.0% to 38.7 million passengers in 2004. RPKs increased by 34.3%
from 39,626 million in 2003 to RMB53,233 million in 2004, primarily as a result of an increase in
passengers carried. Passenger yield increased to RMB0.57. Domestic passenger revenue, which accounted for 81.4% of the total passenger revenue in 2004,
increased by 32.6% from RMB18,679 million in 2003 to RMB24,773 million in 2004. Domestic passenger
traffic in RPKs increased by 30.6%, mainly due to an increase in passengers carried. Passenger
yield increased to RMB0.57 in 2004. Hong Kong passenger revenue, which accounted for 3.8% of total passenger revenue, increased by
47.4% from RMB781 million in 2003 to RMB1,151 million in 2004. For Hong Kong regional flights,
passenger traffic in RPKs increased by 68.0%, while passenger capacity in ASKs increased by 55.8%,
resulting in a 4.5 percentage point increase in passenger load factor from 2003. Passenger yield
decreased from RMB1.00 in 2003 to RMB0.88 in 2004 mainly due to intensified competition among
airlines. International passenger revenue, which accounted for 14.8% of total passenger revenue,
increased by 51.7% from RMB2,978 million in 2003 to RMB4,519 million in 2004. For international
flights, passenger traffic in RPKs increased by 52.8%, while passenger capacity in ASKs increased by 44.1%, resulting in a 3.6 percentage point rise in passenger
load factor from 2003. Passenger yield remained steady in 2004 and at RMB0.55. Cargo and mail revenue, which accounted for 8.4% of the Groups total traffic revenue and 8.2%
of total operating revenue, increased by 13.5% from RMB2,459 million in 2003 to RMB2,792 million in
2004. The increase was attributable to the increasing traffic demand. Other operating revenue increased by 58.7% from RMB586 million in 2003 to RMB930 million in
2004. The increase was primarily due to the general growth in income from various auxiliary
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. Total operating expenses in 2004 amounted to RMB32,288 million, representing an increase of
28.6% or RMB7,171 million over 2003, primarily due to the combined effect of increases in jet fuel
costs, maintenance expenses and aircraft and traffic servicing expenses. In addition, in 2003, the Group recorded an asset impairment charge
of RMB510 million on certain aircraft of CNA. The Group did not incur any asset impairment charges on its
aircraft in 2004. Total operating expenses
as a percentage of total operating revenue decreased from 98.6% in 2003 to 94.5% in 2004. Flight operations expenses, which accounted for 46.5% of total operating expenses, increased
by 45.1% from RMB10,351 million in 2003 to RMB15,016 million in 2004, primarily as a result of
increases in jet fuel costs, operating lease payments, catering expenses, labour costs for flight
personnel and inclusion of CAAC Infrastructure Development Fund of RMB632 million in operating
expenses which is an usage charge since 2004 but was a turnover-based levy and deducted against the
traffic revenue in 2003. Jet fuel costs, which accounted for 57.0% of flight operations expenses,
increased by 51.1% from RMB5,662 million in 2003 to RMB8,555 million in 2004 mainly as a result of
increased fuel prices and fuel consumption. Operating lease payments increased by 16.6% from
RMB1,808 million in 2003 to RMB2,109 million in 2004, primarily due to the additional rental
payments for new aircraft under operating leases. Catering expenses increased by 30.9% from RMB754
million in 2003 to RMB987 million in 2004, primarily due to increase in number of passengers carried. Aircraft
insurance costs decreased by 7.9% from RMB291 million in 2003 to RMB268 million in 2004, primarily
because of a decrease in insurance premiums prescribed by the PRC insurance company. Labour costs
for flight personnel increased by 37.2% from RMB1,126 million in 2003 to RMB1,545 million in 2004,
largely due to the increase in flying hours. Maintenance expenses which accounted for 14.2% of total operating expenses, increased by 18.1%
from RMB3,878 million in 2003 to RMB4,578 million in 2004. The increase was primarily attributable
to a 16.7% increase in aircraft overhaul charges from RMB2,913 million in 2003 to RMB3,399 million
in 2004, which was resulted from fleet expansion in recent years. Aircraft and traffic servicing expenses, which accounted for 14.8% of total operating
expenses, increased by 25.9% from RMB3,803 million in 2003 to RMB4,789 million in 2004. The
increase was primarily resulted from an 25.7% rise in landing and navigation fees from RMB3,539 million
in 2003 to RMB4,447 million in 2004, and an increase in number of landing and takeoffs. Promotional and marketing expenses, which accounted for 8.1% of total operating expenses,
increased by 27.6% from RMB2,043 million in 2003 to RMB2,606 million in 2004. The increase was due
to 40.0% increase in labour costs from RMB305 million in 2003 to RMB427 million in 2004, as more
payments of performance bonus were made because of the increased traffic volume. General and administrative expenses, which accounted for 5.4% of the total operating expenses,
increased by 25.9% from RMB1,397 million in 2003 to RMB1,759 million in 2004. This was mainly
attributable to increased scale of operations. Depreciation and amortisation, which accounted for 11.0% of total operating expenses,
increased by 15.8% from RMB3,042 million in 2003 to RMB3,523 million in 2004. This increase was
primarily a result of the additions of aircraft during 2004. Operating income Operating income increased by 412.8% from RMB366 million in 2003 to RMB1,877 million in 2004.
This was mainly because operating revenue increased by RMB8,682 million or 34.1% from 2003 and
operating expenses increased by RMB7,171 million or 28.6% over the same period. Non-operating income/(expenses) Interest expense decreased by 26.2% from RMB1,604 million in 2003 to RMB1,184 million in 2004,
mainly reflecting the combined effect of scheduled debt repayments and the replacement of certain
RMB denominated bank loans of higher interest rates with US$ denominated bank loans of lower
interest rates. Interest income increased by 22.2% from RMB27 million in 2003 to RMB33 million in 2004. This
was mainly attributable to an increase in average cash balances. During 2004, the Group recorded a net exchange loss of RMB124 million (2003: RMB381 million)
mainly from its Japanese yen denominated borrowings as a result of the Japanese yen appreciation.
Such amount comprised mostly unrealised translational exchange loss. Taxation On 17 October, 2003, the Companys registered address was moved to Guangzhou Economic &
Technology Development Zone, Guangzhou, China. In accordance with the Rules and Regulations for
Implementation of Income Tax for Foreign Investment Enterprises and Foreign Enterprises of the PRC
and a taxation approval document Guangzhou Municipal State Tax Bureau Suo De Shui Zi Que 020043, the Company is entitled to enjoy the preferential
tax policy implemented in the Guangzhou Economic & Technology Development Zone effective from 1
October, 2003. As a result, the Companys income tax rate has been changed from 33% to 15%
beginning from that date. In 2003, the Group recorded an income tax credit of RMB526 million
resulting from a reduction in net deferred taxation liability balance of RMB341 million. The airline operations of CNA and XJA were subject to PRC income tax at 33% during 2003 and up
to 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 are subject to
PRC income tax at the applicable rate of 15% beginning that date. Consequently, the airline operations of CNA and XJA
recorded an income tax credit of RMB99 million. Overall, net income tax expenses of the airline operations of
CNA and XJA amounted to RMB274 million for 2004. Minority interests Minority interests increased by 52.0% from RMB127 million in 2003 to RMB193 million in 2004,
primarily reflecting the increased net profits earned by certain of the Groups airline
subsidiaries for the year. 2003 Compared with 2002 The Groups operating revenue slightly decreased by RMB275 million or 1.1%
from RMB25,758 million in 2002 to RMB25,483 million in 2003. The Groups traffic operations were
badly hit by the outbreak of SARS during 2003 which reduced the traffic revenue of the Group during
the affected period from April to July 2003. Operating expenses increased by RMB1,307 million or
5.5% from RMB23,810 million in 2002 to RMB25,117 million in 2003. As operating revenue
decreased while operating expenses increased, operating profit decreased by 81.2% from RMB1,948
million in 2002 to RMB366 million in 2003. The Groups net non-operating expenses decreased by
8.6%, from RMB2,084 million in 2002 to RMB1,905 million in 2003, mainly due to a decrease in
interest expense of RMB 216 million, partly offset by an increase in foreign exchange loss of RMB54
million. Overall, the Group recorded a net loss of RMB1,140 million in 2003, as compared to a net
loss of RMB655 million in 2002. Operating Revenue Substantially all of the Groups operating revenue is attributable to airline operations.
Traffic revenue in 2003 and 2002 accounted for 97.7% and 96.5% respectively of total operating
revenue. Passenger revenue and, cargo and mail revenue accounted for 90.1% and 9.9% respectively of
total traffic revenue in 2003. The balance of the Groups operating revenue is derived from
commission income, income from general aviation operations, fees charged for ground services and
for air catering services and net income from lease arrangements. Operating revenue decreased by 1.1% from RMB25,758 million in 2002 to RMB25,483 million in
2003. This decrease was primarily due to a 0.6% fall in passenger revenue from RMB22,566 million in
2002 to RMB22,438 million in 2003 resulting from lower traffic volume caused by SARS. The total
number of passengers carried decreased by 1.4% to 20.5 million passengers in 2003. RPKs decreased
by 4.8% from 41,642 million in 2002 to 39,626 million in 2003, primarily as a result of a decrease
in number of passengers carried. However, passenger yield increased by 5.6% from RMB0.54 in 2002 to RMB0.57
in 2003, mainly as the result of the exemption of CAAC Infrastructure Development Fund and sales tax
during the period from May 1, 2003 to December 31, 2003. Domestic passenger revenue, which accounted for 83.2% of the total passenger revenue in 2003,
increased slightly by 2.9% from RMB18,145 million in 2002 to RMB18,679 million in 2003. Domestic
passenger traffic in RPKs decreased by 0.6%, mainly due to a decrease in passengers carried.
Passenger yield, however, increased from RMB0.54 in 2002 to RMB0.56 in 2003, mainly as the result
of the aforesaid exemption of CAAC Infrastructure Development Fund and sales tax. Hong Kong passenger revenue, which accounted for 3.5% of total passenger revenue, decreased by
31.7% from RMB1,144 million in 2002 to RMB781 million in 2003. For Hong Kong flights, passenger
traffic in RPKs decreased by 28.0%, while passenger capacity in ASKs decreased by 22.9%, resulting
in a 4.1 percentage point decrease in passenger load factor from 2002. Passenger yield decreased
from RMB1.06 in 2002 to RMB1.00 in 2003 mainly due to slack in traffic volume. International passenger revenue, which accounted for 13.3% of total passenger revenue,
decreased by 9.1% from RMB3,277 million in 2002 to RMB2,978 million in 2003. For international
flights, passenger traffic in RPKs decreased by 22.1%, while passenger capacity in ASKs decreased
by 17.8%, resulting in a 3.2 percentage point fall in passenger load factor from 2002. Passenger
yield increased by 17.0% from RMB0.47 in 2002 to RMB0.55 in 2003 mainly as the result of the
aforesaid exemption of CAAC Infrastructure Development Fund and sales tax. Cargo and mail revenue, which accounted for 9.9% of the Groups total traffic revenue and 9.6%
of total operating revenue, increased by 7.4% from RMB2,289 million in 2002 to RMB2,459 million in
2003. The increase was primarily due to the full year effect of the opening of two international
cargo routes to Los Angeles of the United States of America and Leige of Belgium in late 2002. Other operating revenue decreased by 35.2% from RMB904 million in 2002 to RMB586 million in
2003. The decrease was primarily due to a decrease in aircraft short-term lease income of RMB130
million and the inclusion of the gain on the disposal of property, plant and equipment of RMB194
million in 2002. 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 assets
impairment charges. Total operating expenses in 2003 amounted to RMB25,117 million, representing an increase of
5.5% or RMB1,307 million over 2002, 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 92.4% in 2002 to 98.6% in 2003. Flight operations expenses, which accounted for 41.2% of total operating expenses, increased
by 2.9% from RMB10,062 million in 2002 to RMB10,351 million in 2003, primarily as a result of
increases in jet fuel costs and operating lease payments, partly offset by a decrease in catering
expenses. Jet fuel costs, which accounted for 54.7% of flight operations expenses, increased by
8.3% from RMB5,228 million in 2002 to RMB5,662 million in 2003 mainly as a result of increased jet
fuel prices. Operating lease payments increased by 8.6% from RMB1,665 million in 2002 to RMB1,808
million in 2003, primarily due to the full year effect of the addition of new operating leases in
respect of four Boeing 757-200 aircraft in late 2002 and four
Airbus 319-100 aircraft and three
Boeing 737-700 aircraft during 2003. Catering expenses decreased by 16.7% from RMB906 million in
2002 to RMB754 million in 2003, primarily reflecting a tighter cost controls exercised by the
Group. Aircraft insurance costs decreased by 19.6% from RMB362 million in 2002 to RMB291 million in
2003, primarily because of a reduction in the rate of aircraft insurance premiums prescribed by the
PRC insurance company. Labor costs for flight personnel decreased by 5.8% from RMB1,195 million in
2002 to RMB1,126 million in 2003, largely due to a decrease in flight hours. Maintenance expenses which accounted for 15.4% of total operating expenses, increased by 9.9%
from RMB3,530 million in 2002 to RMB3,878 million in 2003. The increase was primarily attributable
to a 9.6% increase in aircraft maintenance and repair charges from RMB2,657 million in 2002 to
RMB2,913 million in 2003, which was result of the effect of fleet expansion in recent years. Aircraft and traffic servicing expenses, which accounted for 15.1% of total operating
expenses, increased by 10.8% from RMB3,433 million in 2002 to RMB3,803 million in 2003. The
increase was primarily resulted from a 9.6% rise in landing and navigation fees from RMB3,228 million
in 2002 to RMB3,539 million in 2003, and an increase in the charge rate for domestic landing and
navigation fees effective September 2002. Promotional and marketing expenses, which accounted for 8.1% of total operating expenses,
decreased by 0.4% from RMB2,034 million in 2002 to RMB2,043 million in 2003. The decrease was due
to a 5.3% decrease in labor costs from RMB322 million in 2002 to RMB305 million in 2003, as fewer
bonuses were given because of reduced sales volume in 2003. General and administrative expenses, which accounted for 5.6% of the total operating expenses,
increased slightly by 1.5% from RMB1,377 million in 2002 to RMB1,397 million in 2003. This was
mainly due to a decrease in scale of operations during SARS period. Depreciation and amortization, which accounted for 12.1% of total operating expenses,
increased by 6.2% from RMB2,864 million in 2002 to RMB3,042 million in 2003. This increase was
primarily as a result of the additions of aircraft during 2003. Asset impairment charges accounted for 2.0% of total operating expenses, amounted to RMB510
million in 2003. During 2003, the Group recorded an asset impairment charge of RMB510 million on twenty-three McDonnell Douglas 82 aircraft operated by CNA. During
2002, the Group incurred an asset impairment charge of RMB347 million on four McDonnell Douglas 82 aircraft, eleven McDonnell Douglas 90 aircraft and six Airbus 300-600
aircraft operated by CNA. These asset impairment charges were recorded as a result of the carrying amount of the individual aircraft exceeding their corresponding estimated
future cash flows. These asset impairment charges were recognized by the amount by which the carrying amount of the individual aircraft exceeded their corresponding fair value. Operating Income Operating income decreased by 81.2% from RMB1,948 million in 2002 to RMB366 million in 2003.
This was mainly because operating revenue decreased by RMB275 million or 1.1% from 2002 while
operating expenses increased by RMB1,307 million or 5.5% over the same period. Non-operating Income/(Expenses) Interest expense decreased by 11.9% from RMB1,820 million in 2002 to RMB1,604 million in 2003,
mainly reflecting the combined effect of scheduled debt repayments and the replacement of certain
RMB denominated bank loans with US$ denominated bank loans with lower interest rates. Interest income decreased by 67.1% from RMB82 million in 2002 to RMB27 million in 2003. This
was mainly attributable to a decrease in average cash balances. During 2003, the Group recorded a net exchange loss of RMB381 million predominantly due to its
Japanese yen denominated borrowings as a result of the Japanese yen appreciation. Such amount
comprised mostly unrealized translation loss. Taxation On October 17, 2003, the Companys registered address was moved to Guangzhou Economic &
Technology Development Zone. In accordance with the Rules and Regulations for Implementation of
Income Tax for Foreign Investment Enterprises and Foreign Enterprises of the PRC and a taxation
approval document Guangzhou Municipal State Tax Bureau Suo De Shui Zi Que 020043, the Company is
entitled to enjoy the preferential tax policy implemented in the Guangzhou Economic & Technology
Development Zone effective from October 1, 2003. As a result, the Companys income tax rate has
been changed from 33% to 15% beginning from that date. The Group recorded an income tax credit of RMB526 million for 2003 compared to an income tax
expense of RMB365 million for 2002. As a result of the reduction in income tax rate, the Companys
net deferred taxation liability balance brought forward from December 31, 2002 of RMB625 million
was reduced by RMB341 million and a net deferred tax credit of RMB341 million was recognized in
2003 for such reduction in income tax rate accordingly. Minority Interests Minority interests decreased by 17.5% from RMB154 million in 2002 to RMB127 million in 2003,
primarily reflecting the net income earned by certain of the Groups airline subsidiaries for the
year. 47




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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, net of the issuance
costs of RMB59,233, amounted to RMB2,641 million and 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, 2004, the Group had banking facilities with several PRC commercial banks for
providing loan finance up to an approximate amount of RMB35,750 million to the Group. As of
December 31, 2004, an approximate amount of RMB11,525 million was utilized. As of December 31, 2003
and 2004, the Groups cash and cash equivalents totaled RMB2,080 million and RMB3,083 million,
respectively. Net cash inflows from operating activities in 2002, 2003 and 2004 were RMB3,698 million,
RMB2,129 million and RMB3,596 million, respectively. Net cash used in investing activities in 2002, 2003 and 2004 was RMB5,895 million, RMB5,434
million and RMB8,824 million, respectively. Cash capital expenditures in 2002, 2003 and 2004 were
RMB6,351 million, RMB4,707 million and RMB6,631 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 RMB3,150 million, RMB1,615 million and
RMB6,231 million in 2002, 2003 and 2004, respectively. As of December 31, 2004, the Groups aggregate long-term debt and obligations under capital
leases totaled RMB25,271 million. Based on such amount, in 2005, 2006, 2007, 2008, 2009 and
thereafter, amounts payable under such debt and obligations will be RMB3,737 million, RMB4,489
million, RMB6,705 million, RMB3,608 million, RMB2,154 million and RMB4,578 million. Such borrowings
were denominated, to a larger extent, in United States dollars
and, to a smaller extent, in
Japanese yen, 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 was primarily as a result of 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, 2004, the Groups short term bank debt was RMB9,925 million with interest
rates ranging from 1.40% to 5.31%. The Groups weighted average interest rate on short-term bank
notes payable was 1.60% as of December 31, 2004. 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. As of December 31, 2004, the Group had obligations under operating leases totaling RMB12,750
million, predominately for aircraft. Of such amount, RMB1,761 million, RMB1,622 million, RMB1,562 million, RMB5,259 million, RMB764 million and
RMB1,782 million respectively was due in 2005, 2006, 2007, 2008, 2009 and thereafter. 48




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As of December 31, 2004, the Group had a working capital deficit of RMB18,855 million, as
compared to a working capital deficit of RMB10,792 million as of December 31, 2003. 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 2003 to 2004 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.
The liquidity of the Group in the future will primarily be dependent on its ability to maintain
adequate cash inflow from operations to meet its debt obligations as they become due and, on its
ability to obtain adequate external financing to meet its committed future capital expenditures.
The Group has obtained firm commitments from its principal banker to renew its short-term bank
loans outstanding at December 31, 2004 when they fall due during 2005. In relation to its future
capital commitments and other financing requirements, the Group has already entered into loan
financing agreements with several PRC banks to provide loan finance up to an approximate amount of
RMB24,225 million during
2005 and thereafter. 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 those in 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, 2004, the Group had capital commitments in 2005, 2006 and 2007 of
approximately RMB10,167 million, RMB3,049
million and RMB84 million, respectively. Of such
amounts, RMB8,748 million in 2005, RMB2,996 million in 2006
and RMB32 million in 2007 are related to the
acquisition of aircraft and related flight equipment, and RMB824
million in 2005 is related to the Groups facilities and equipment to be constructed and installed at the
Guangzhou new airport. The remaining
amounts of RMB595 million in 2005 and RMB105 million in 2006 are related to the Groups other
airport and office facilities and equipment, overhaul and maintenance bases and training
facilities. As of December 31, 2004, the Group undertook to make a capital contribution of approximately
RMB83 million to jointly controlled entities. As of December 31, 2004, the cash and cash equivalents of the Group totaled RMB3,083 million.
Of such balance, 24.2% was denominated in foreign currencies. No interim dividend was paid during the year ended December 31, 2004. The Board of Directors
does not recommend the payment of a final dividend in respect of the year ended December 31, 2004. The Group expects that the Groups cash from operations and short-term and long-term bank
borrowings will be sufficient to meet its cash requirements in the foreseeable future. 49




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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, 2004. As of December 31, 2004Payment due by periodless thanTotal
    
    
    1 year
    
    
    1-3 years
    
    
    4-5 years
    
    
    After 5 years(RMB million)Contractual obligationsShort-term debt
    
    
    9,925
    
    
    
    9,925
    
    
    
    
    
    
    
    
    
    
    
    Long-term debt
    
    
    13,528
    
    
    
    1,593
    
    
    
    5,766
    
    
    
    2,283
    
    
    
    3,886Capital lease obligations
    
    
    11,743
    
    
    
    2,144
    
    
    
    5,428
    
    
    
    3,479
    
    
    
    692Cash payable for CNA/XJA Acquisitions
    
    
    1,959
    
    
    
    1,959
    
    
    
    
    
    
    
    
    
    
    
    Total contractual obligations
    
    
    37,155
    
    
    
    15,621
    
    
    
    11,194
    
    
    
    5,762
    
    
    
    4,578Other commercial commitmentsOperating lease commitments
    
    
    12,750
    
    
    
    1,761
    
    
    
    3,184
    
    
    
    6,023
    
    
    
    1,782Aircraft purchase commitments (Note 1)
    
    
    11,776
    
    
    
    8,748
    
    
    
    3,028
    
    
    
    
    
    
    
    Capital commitments in respect of
investments in the Guangzhou
new airport
    
    
    824
    
    
    
    824
    
    
    
    
    
    
    
    
    
    
    
    Other capital commitments
    
    
    700
    
    
    
    595
    
    
    
    105
    
    
    
    
    
    
    
    Investing commitments
    
    
    83
    
    
    
    83
    
    
    
    
    
    
    
    
    
    
    
    Total commercial obligations
    
    
    26,133
    
    
    
    12,011
    
    
    
    6,317
    
    
    
    6,023
    
    
    
    1,782
   Note 1 Amounts shown are net of previously paid purchase deposits. 50




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ITEM 6. DIRECTORS, SENIOR
MANAGEMENT AND EMPLOYEES. 
 Directors and Senior Management The following table sets forth certain information concerning directors (Directors), senior
management (Senior Management) and supervisors (Supervisors) of the Company in 2004. There were
certain changes in the Companys Directors, Senior Management and Supervisors subsequent to
December 31, 2004, details of which are set forth below. Name
    
    Age
    
    PositionLiu Shao Yong
    
    
    46
    
    
    Chairman of the Board of DirectorsLiu Ming Qi
    
    
    61
    
    
    Vice Chairman of the Board of DirectorsPeng An Fa
    
    
    57
    
    
    DirectorWang Quan Hua
    
    
    51
    
    
    DirectorZhao Liu An
    
    
    57
    
    
    DirectorZhou Yong Qian
    
    
    60
    
    
    DirectorSi Xian Min
    
    
    47
    
    
    Directors; PresidentZhou Yong Jin
    
    
    62
    
    
    DirectorXu Jie Bo
    
    
    40
    
    
    Director; Chief Financial Officer; Vice PresidentWu Rong Nan
    
    
    63
    
    
    DirectorSimon To
    
    
    54
    
    
    Independent Non-Executive DirectorPeter Lok
    
    
    69
    
    
    Independent Non-Executive DirectorWei Ming Hai
    
    
    41
    
    
    Independent Non-Executive DirectorWang Zhi
    
    
    63
    
    
    Independent Non-Executive DirectorSui Guang Jun
    
    
    44
    
    
    Independent Non-Executive DirectorSun Xiao Yi
    
    
    51
    
    
    Chairman of the Supervisory CommitteeYang Guang Hua
    
    
    52
    
    
    SupervisorYang Yi Hua
    
    
    45
    
    
    SupervisorLi Kun
    
    
    45
    
    
    Vice PresidentYuan Xin An
    
    
    48
    
    
    Vice President; Chief EngineerZheng En Ren
    
    
    60
    
    
    Vice PresidentHao Jian Hua
    
    
    55
    
    
    Vice PresidentRen Ji Dong
    
    
    40
    
    
    Vice PresidentHe Zong Kai
    
    
    53
    
    
    Vice PresidentLiu Qian
    
    
    40
    
    
    Chief PilotSu Liang
    
    
    43
    
    
    Company SecretaryChen Wei Hua
    
    
    38
    
    
    General Counsel
 On June 16, 2004, the appointment of Sun Xiao Yi, Yang Guang Hua and Yang Yi Hua as
Supervisors and the resignation of Liang Hua Fu, Gan Yu Hua and Li Qi Hong as Supervisors were
approved at the annual general meeting of the shareholders of the Company. On the same date, the
Supervisory Committee of the Company elected Sun Xiao Yi as the Chairman of the Supervisory
Committee of the Company. On October 8, 2004, the resignation of Yan Zhi Qing as the Chairman of the Board of Directors
of the Company was approved by the Board of Directors. On October 28, 2004, the Board of Directors resolved to appoint Si Xian Min as the President
of the Company and to accept the resignation of Wang Chang Shun as the President of the Company. On November 29, 2004, the appointment of Liu Shao Yong as a Director, and the resignation of
Yan Zhi Qing for age reason were approved at the first extraordinary general meeting of the
shareholders of the Company. On the same date, the Board of Directors of the Company elected Liu
Shao Yong as the Chairman of the Board of Directors of the Company. 51




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On December 31, 2004, the appointment of Si Xian Min as a Director, and the resignation of
Wang Chang Shun as a Director were approved at the second extraordinary general meeting of the
shareholders of the Company. On March 29, 2005, the Board of Directors resolved to appoint Ren Ji Dong and He Zong Kai as
Vice Presidents of the Company, and to remove Jiang Ping as a Vice President of the Company. Mr. Liu
Shao Yongis the Chairman of the Board of Directors. He joined the Company since
November 2004. Mr. Liu graduated from China Civil Aviation Flying College and 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 obtained a post-graduate degree in International Trading from
Tianjin Institute of Finance and Economics in 1999. He is a qualified class one pilot. Save as
disclosed above, Mr. Liu is not connected with any Directors, senior management, substantial
shareholders or Supervisors of the Company. Mr. Liu Ming Qiis the Vice Chairman of the Board of Directors of the Company and joined the
Company since May 2003. Mr. Liu graduated from South China Normal University and obtained a
masters degree in economics from Fudan University. Mr. Liu is currently the Party Secretary and
the Vice President of CSAHC. Mr. Liu began his career in 1968, and has successively served as the
Municipal Secretary and Mayor of Sanya city of Hainan province, the Vice Governor of Hainan
province, the Vice Director of Hong Kong and Macao Affairs office of the State Council and the Vice
Director of Macao Liaison Office of the Central Government. Save as disclosed above, Mr. Liu is not
connected with any Directors, senior management, substantial shareholders or Supervisors of the Company. Mr. Peng An Fais currently a Director of the Company and the Vice President of CSAHC and
became the employee of the Company since March 1995 after the establishment of the Company. Mr.
Peng graduated from the pilot department of China Civil Aviation Flying College and the department
of Chinese language and literature of South China Normal University. Mr. Peng began his career in
civil aviation in 1969, and successively served as the Pilot Director, Vice Party Secretary and
Party Secretary of the Sixth Squadron of the Civil Aviation Administration. In July 1994, Mr. Peng
held office as the Party Secretary of the Flight Operations Department of China Southern Airlines.
In March 1998, Mr. Peng served as the President and Vice Secretary of China Southern Airlines
Shenzhen Co. From August 2001 to October 2002, Mr. Peng served as the Vice President of CSAHC. Mr.
Peng is concurrently the Vice Chairman of Shenzhen Air Catering Co., Ltd and CATIC (Hong Kong).
Save as disclosed above, Mr. Peng is not connected with any Directors, senior management,
substantial shareholders or Supervisors of the Company. Mr. Wang Quan Huais currently a Director of the Company and Vice President of CSAHC and
became the employee of the Company since 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. Save as disclosed above, Mr. Wang is not connected with any Directors, senior
management, substantial shareholders or Supervisors of the Company. Mr. Zhao Liu Anis a Director of the Company and the Vice President of CSAHC. Mr. Zhao joined
the Company since 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. Save as
disclosed above, Mr. Zhao is not connected with any Directors, senior management, substantial
shareholders or Supervisors of the Company. Mr. Zhou Yong Qianis currently a Director of the Company and the Vice President of CSAHC and
the President of China Northern Airlines. Mr. Zhou joined the Company since May 2003. Mr. Zhou
graduated from Nanjing Institute of Meteorology. Mr. Zhou began his career in civil aviation in
1990, and successively served as Minister of the Organization Division of the Northeastern Civil
Aviation Administration, Vice Secretary of Shenyang Taoxian International Airport, Vice Secretary
of the Northeastern Civil Aviation Administration and the President of China Northern Airlines.
Save as disclosed above, Mr. Zhou is not connected with any Directors, senior management, substantial shareholders or Supervisors of the Company. 52




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Mr. Si Xian Minis 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, he 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. Save as disclosed above, Mr. Si is not connected with any Directors,
senior management, substantial shareholders or Supervisors of the Company. Mr. Zhou Yong Jinis a Director of the Company. He joined the CSAHC in January 1991 and became
an employee of the Company upon its establishment in March 1995, and has successively served as a
Director of the Propaganda Department of the CSAHC, Party Secretary of the Transportation
Department (Guangzhou) of the Company, and Party Secretary of the Companys Shenzhen branch. He
served as Chairman of the Labour Union of the Company. Save as disclosed above, Mr. Zhou is not
connected with any Directors, senior management, substantial shareholders or Supervisors of the
Company. Mr. Xu Jie Bois 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 with a master 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 Assistant General Manager 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. Save as disclosed above, Mr. Xu is not connected with any of the Directors, senior
management, substantial shareholders or Supervisors of the Company. Mr. Wu Rong Nanis a Director of the Company. He joined CSAHC in January 1991 and became an
employee of the Company upon its establishment in March 1995. Mr. Wu is an air traffic control
engineer. He was once employed as the Director of Flight Operations of the Guangzhou Civil Aviation
Administration and has been President of Xiamen Airlines since 1986. Mr. Wu is not connected with
any Directors, senior management, substantial shareholders or Supervisors of the
Company. Mr. Simon Tohas been an Independent Non-Executive Director of the Company since June 1999.
Mr. To is currently the Managing Director of Hutchison Whampoa (China) Limited, and also serves as
director of several companies in Hong Kong and Foreign-invested companies in China. Mr. To has
managed investment projects in China since early 1980s and is familiar with the laws and
regulations of Hong Kong and China. Mr. To graduated from the Stanford University with a Master
degree in Business Administration. Mr. To is not connected with any Directors, senior management, substantial shareholders or Supervisors of the Company. Mr. Peter Lokhas been an Independent Non-Executive Director of the Company since June 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. Lok is not connected with any Directors, senior management, substantial shareholders or Supervisors of the Company. Mr. Wei Ming Haihas been an Independent Non-Executive Director of the Company since June
2001. He is a Professor and Dean of the School of Management of Zhongshan University. 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, 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 ten academic books or textbooks, and over 60 academic papers. Mr. Wei is not
connected with any Directors, senior management, substantial shareholders or Supervisors of the Company. 53




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Mr. Wang Zhihas 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 professor in several universities. Mr. Wang is not connected with any
Directors, senior management, substantial shareholders or Supervisors of the Company. Mr. Sui Guang Junhas 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
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 and the Dean of Corporate Administration Department of Jinan University. Mr. Sui is
currently the Chief of the Post-doc Committee of Applied Economics and the Dean of Management
College in Jinan University. Mr. Sui is not connected with any Directors, senior management, substantial shareholders or Supervisors of the Company. 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 the applicable laws. The Supervisory
Committee consists of three Supervisors. Two of the Supervisors are shareholders representatives
appointed by shareholders of the Company, and the remaining Supervisor is a representative of the
Companys employees. The Supervisors serve terms of three years and may serve consecutive terms. Mr. Sun Xiao Yiis a member of Party Committee and head of Discipline Supervision Team of
China Southern Air Holding Company. 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. Save as disclosed above, Mr. Sun is not
connected with any Directors, senior management, substantial shareholders or Supervisors of the
Company. Mr. Yang Guang Huais 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. Save as disclosed above, Mr. Yang is not connected with any
Directors, senior management, substantial shareholders or Supervisors of the Company. Ms. Yang Yi Huais 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. Save as disclosed above, Ms. Yang is not connected with any Directors, senior
management, substantial shareholders or Supervisors of the Company. 54




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All Directors and Supervisors of the Company have entered into service contracts with the
Company for a term of three years commencing on June 16, 2004 (except that the service contract of
Mr. Liu Shao Yong and Mr. Si Xian Min which commenced from November 29, 2004 and December 31, 2004
respectively will expire at the end of the term for the current session of the Board). Except for
such service contracts, none of the Directors or Supervisors of the Company has entered or proposed
to enter into any service contracts with the Company or its subsidiaries. None of the Directors or
Supervisors has entered into any service contracts with the Company which is not determinable by
the Company within one year without payment of compensation, other than statutory compensation. SENIOR ADMINISTRATIVE OFFICERS Mr. Li Kunis a Managing Vice President of the Company. He graduated from the CAAC Management
Institute specializing in Air Transport Management. Mr. Li was the General Manager of the Thailand
Office, China Southern Airlines from 1993 to 1995. He became the General Manager of Transportation
Department of the Company from 1998 to 2000. Mr Li has been holding the position as a Vice
President of the Company since 2000. Mr. Yuan Xin Anis a Vice President and Chief Engineer 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 has become the Chief Engineer of the Company since 2000, and
he has been appointed as a Vice President of the Company from April 2002. Mr. Zheng En Renis a Vice President of the Company. He graduated from the CAAC Advanced
Flying College and possesses the qualification as a First Class Pilot. Mr. Zheng has over 40 years
of experience in the Chinese aviation industry. He served as the Captain of the Sixth Squadron of
the Civil Aviation Administration, Chairman of the Labour Union and Deputy Chief Captain. During
the period from 1996 to 1999, he held the position as President of Southern Airlines (Group)
Shantou Airlines Company Limited. Mr. Zheng was an Assistant to the President of the Company from
1999 to April 2002. He has been appointed as a Vice President of the Company from April 2002. Mr. Hao Jian Huais currently the Vice President of the Company. He completed his piloting 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 has been
the Vice President of the Company since 31 July, 2003. Mr. Ren Ji Dongis a Vice President of the Company who graduated from the College of Energy
and Power Engineering Department of Nanjing University of Aeronautics and Astronautics with a major
degree in motor design, is a senior engineer. Mr. Ren assumed various offices in the aircraft
maintenance workshop of Xinjiang Airlines Company, including Head of Workshop, Deputy Director of
Workshop and President of the Engineering Department. Mr. Ren served as the Deputy Director of
Urumqi Civil Aviation Administration and Vice President of Xinjiang Airlines Company. He was the
Vice President of Xinjiang Airlines from 2002 to 2004. Mr. Ren has assumed the offices of the Party
Secretary and Vice President of the Urumqi branch of the Company since 2004. Mr. He Zong Kaiis 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. Mr. Liu Qianis 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 has assumed the offices of the Deputy Chief Pilot and Chief Pilot
of the Company since November 2004. 55




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Mr. Su Liangis 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 master 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. From 2000 to date, Mr. Su is the Company Secretary. Mr. Chen Wei Huais the Chief
Company Counsel 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. None of the senior administrative officers
above is connected with any Directors, senior management, substantial shareholders or Supervisors of the Company. 
 Compensation RMB255,000 has been paid to independent non-executive Directors for the year
ended December 31, 2004. The aggregate compensation paid by the Company to all Directors (excluding
non-executive Directors), Supervisors and senior management for 2004 was RMB6.8 million. For the year ended December 31, 2004, the Company accrued an aggregate of approximately
RMB145,000 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. 
 Board Practices Directors service contracts with the Company or any of its subsidiaries provide prorated
monthly salary upon termination of employment in accordance with his contract. The Director is
entitled to paid leave in accordance with his contract. Audit Committee The audit committee is appointed by the Board of Directors and consists of five independent
non-executive Directors. The current members of the audit committee are Mr. Simon To, Mr. Peter
Lok, Mr. Wei Ming Hai, Mr. Wang Zhi and Mr. Sui Guang Jun. At least once a year, the committee is
required to meet with the 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
committee will normally meet four times a year. 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 that the financial records are complete and accurate. The audit committee meets regularly with
the Companys senior financial, internal audit 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. 56




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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. 
 Remuneration Committee The Remuneration Committee comprises 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 Remuneration Committee met once in 2004
which 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. 
 Employees As
of December 31, 2004, the Group had 18,221 employees, including 1,995
pilots, 3,231 flight attendants, 2,679 maintenance personnel,
2,194 sales and marketing personnel and 8,122 administrative
personnel. All of the Groups pilots, flight attendants, technical personnel, management 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.
CSAHC provides certain services in respect of these benefits to the Groups employees in
consideration of certain fees and other charges. 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
14% to 20% 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 was selected as one of the pilot enterprises to establish a
supplementary defined contribution retirement scheme for the benefit of employees. In this
connection, employees of the Group participate in a supplementary defined contribution retirement
scheme whereby the Group is required to make defined contributions at a rate of 4.5% of total
salaries. The Group has no obligation for the payment of pension benefits beyond the contributions described above. Contributions to the retirement schemes are
charged to the income statement as and when incurred. 57




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Furthermore, pursuant to the comprehensive services agreement (the Services Agreement) dated
May 22, 1997 between the Company and CSAHC, CSAHC agrees to provide adequate quarters to eligible
employees of the Group as and when required. In return, the Group agrees to pay a fixed annual fee
of RMB85 million to CSAHC for a ten-year period effective January 1, 1995. 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 housing. Such expenditure has been deferred and amortised on a straight line basis
over a period of 10 years, which represents the vesting benefit period of the employees. 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 at December 31, 2004, the Group already made payments totalling RMB191
million under the scheme and recorded its remaining contractual liabilities totalling RMB69 million
as accrued expenses on its 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 suffers 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. 
 Share Ownership Except as disclosed herein, 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. % to the
    
    
    % to the% to the
    
    
    total
    
    
    totaltotal
    
    
    issued
    
    
    issuedThe
    
    
    
    
    
    
    
    
    
    
    issued
    
    
    domestic
    
    
    shareCompany/
    
    
    
    
    
    
    Number
    
    
    H shares
    
    
    shares
    
    
    capitalassociated
    
    
    Types of
    
    Type of
    
    of shares
    
    
    of the
    
    
    of the
    
    
    of the
    
    
    ShortName
    
    corporation
    
    
    interest
    
    shares
    
    held
    
    
    Company
    
    
    Company
    
    
    Company
    
    
    positionSimon To
    
    the Company
    
    Interest of spouse (Note 1)
    
    H Shares
    
    
    100,0000
    
    
    
    0.009
    %
    
    
    
    
    
    
    0.002
    %
    
    
    
   Note 1:
    
    The spouse of Mr. Simon To is the owner of these 100,000 H Shares
of the Company and accordingly, Mr. Simon To, is taken to be
interested in these 100,000 H Shares by virtue of the Securities and Futures Ordinance.
 
 ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS. 58




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Major Shareholders Share Capital Structure As of December 31, 2004, the total share capital of the Company was 4,374,178,000 shares, of
which approximately 50.3% (2,200,000,000 domestic shares) is held by CSAHC, approximately 26.84%
(1,174,178,000 H shares) is held by Hong Kong and overseas shareholders and approximately 22.86%
(1,000,000,000 A shares) is held by domestic shareholders. Substantial Shareholders As of December 31, 2004, the following shareholders had an interest of 5% or more in the
Companys shares: ApproximatePercentageof the TotalName
    
    Number of Shares
    
    Number of SharesCSAHC
    
    2,200,000,000 domestic shares
    
    
    50.30
    %HKSCC Nominees
Limited
    
    1,151,953,998 H shares
    
    
    26.34
    %
 The table below sets forth, as of December 31, 2004, the following entities hold 5% or more of
the total number of H shares issued by the Company. ApproximatePercentage ofthe TotalNumber of HName
    
    Number of H Shares
    
    SharesHKSCC Nominees
Limited
    
    1,151,953,998
    
    
    98.11
    %
 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 26 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 and usual course of its business,
on either normal commercial terms or terms no less favourable than terms available to or from
independent third parties that are fair and reasonable so far as the shareholders are concerned. Arrangements with CSAHC Trademark License Agreement The Company and CSAHC have entered into the Trademark License Agreement dated May 22, 1997,
pursuant to which CSAHC has acknowledged that the Group has the right to use the name China
Southern and China Southern Airlines in both Chinese and English, and has granted to the Company
a 10-year renewable license to use the kapok logo on a world-wide basis in connection with its
airline-related businesses. 59




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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. Unless CSAHC gives written notice of termination three months before the expiration of
the 10-year term of the agreement, the agreement will be automatically extended for another 10-year
term. Leases The Company as lessee and CSAHC as lessor have entered into the following lease agreements: The Company and CSAHC have entered into a land lease agreement dated May 22, 1997, in respect
of the land used by the Company within Baiyun International Airport. The total rental payment is
RMB2.7 million per year. The term of the lease is five years commencing April 1, 1997, and is
renewable by the Company thereafter. The Company and CSAHC have separately entered into four lease agreements dated May 22, 1997,
in respect of office premises located at the east wing of the Guangzhou Railway Station on
Guangzhou Huanshi Dong Road, office premises at Haikou Airport, office premises in Haikou City, and
office premises at Tianhe Airport in Wuhan, Hubei Province. The aggregate rental payment under the
four leases is RMB12.6 million per year. The original term of each lease is one year and is
renewable annually by the Company thereafter. The Company and CSAHC have 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 authorized
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 metres, 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 designed lands under lease agreement is RMB22,298,033 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 RMB22,298,033 per year. Comprehensive Services and Employee Benefits The Company and CSAHC have entered into a comprehensive services agreement dated May 22, 1997,
pursuant to which CSAHC agrees to provide adequate quarters to eligible employees of the Group as
and when required. In return, the Group agrees to pay a fixed annual fee of RMB85 million to CSAHC
for a ten-year period effective January 1, 1995. Arrangements with CSAHC and CSAHCs Affiliates Sale and Purchase Agreement The Company, CSAHC, CNA, a wholly owned
subsidiary of CSAHC, and XJA, a wholly owned subsidiary
of CSAHC, entered into a sale and purchase agreement (the Sale and Purchase Agreement) dated
November 12, 2004, pursuant to which the Company agreed to acquire, and CSAHC, CNA and XJA agreed to sell certain airlines and airlines-related operations, assets and
properties of CNA, XJA and their respective subsidiaries, which
included aircraft, engines, spare parts, aviation equipment and facilities, properties, office
facilities, and other fixed, current and intangible assets. In addition, the Company will also
assume all indebtedness in the aggregate sum of RMB13,438,191,000 owed by XJA,
CNA and their respective subsidiaries in connection with their civil aviation
business. The total consideration, including the assumption of the debts under the Sale and
Purchase Agreement was RMB15,397,524,000. 60




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Leases 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
lease agreement is RMB41,993,318 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 RMB41,993,318 per year. 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 lease agreement is RMB5,797,909 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 RMB5,797,909 per year. Arrangements with CSAHCs Affiliates Southern Airlines (Group) Import and Export Trading Company (SAIETC), a wholly-owned
subsidiary of CSAHC The Company and SAIETC have entered into an agreement dated May 22, 1997, for the import and
export of aircraft, flight equipment, special vehicles for airline use, communication and
navigation facilities, and training facilities for a term extending from May 22, 1997 to May 22,
2000 which was subsequently extended to May 22, 2006 by mutual agreement between the parties. The
parties have mutually agreed that the agreement can be extended automatically. For the year ended December 31, 2004, the amount incurred by the Group for the import and
export of the above equipment was RMB1,117 million, inclusive of agency commission of 1.5% above
the contract prices paid to SAIETC. Southern Airlines Advertising Company (SAAC), which is 45% owned by the Company and 55%
owned by CSAHC In August 2002, the Company entered into a takeover agreement with CSAHC. As a result, the
Company owns 90% and CSAHC owns 10% of SAAC. On 3 September, 2004, CSAHC increased its shareholdings from 10% to 55% by the creation of
RMB3 million authorized share capital from RMB2 million. Such capital injection from CSAHC diluted
the Companys shareholdings of SAAC from 90% to 45%. The Company and SAAC have entered into an agreement dated May 22, 1997, for the provision of
advertising services for a term extending from May 22, 1997 to May 22, 2000. The agreement has been
extended to May 22, 2006. For the year ended December 31, 2004, the amount incurred by the Group to SAAC for advertising
services was RMB1.2 million. Southern Airlines Group Finance Company Limited (SA Finance), which is 42% owned by CSAHC,
32% owned by the Company, 26% owned by five subsidiaries of the Company The Company has entered into a 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 extending from May 22, 1997 to May 22, 2000. As agreed by the parties, the
agreement has been extended for six years to May 22, 2006. In order to comply with the new
requirements under the Hong Kong Listing Rules, so that SA Finance can continue to provide deposit of money
service and other financial services (subject to execution of separate agreements and further
compliance with the Hong Kong Listing Rules), the Company and SA Finance entered into a new
financial agreement on November 12, 2004, commencing from that date for a period of three years,
and is renewable, subject to compliance with the requirements of the relevant 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. 61




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Under such agreement, (a) all funds that the Company deposits with SA Finance will be
deposited by SA Finance with the Commercial and Industrial Bank of China, Bank of Communications,
Bank of Agriculture, China Construction Bank, or other banks of similar creditworthiness; (b) SA
Finance will not at any time have outstanding loans in excess of the amount representing the
aggregate of (i) deposits received from entities other than the Company, (ii) SA Finances
shareholders equity and (iii) capital reserves; and (c) SA Finance will 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, terms and conditions of such services, upon
request by the Company during the term of the financial agreement, and the Company will comply with
the Hong Kong Listing Rules when entering into such separate written agreements. The Company is not subject to any extra charges for depositing money with
SA Finance. For the other financial services provided by SA Finance under the
financial agreement, the Company is liable to pay SA Finance the standard
charging rates set by the Peoples Bank of China. The PRC commercial banks also
charge similar charging rates set by the Peoples Bank of China. The Company
will make payment for such interest, fees and commissions in accordance with
the payment terms of the separate agreements for the provision of loans or
other financial services as might be entered into between the Company and SA
Finance. The Cap for the provision of deposit service under the financial agreement
is set at RMB1 billion per year. The Company usually receives interest on its
money deposited with SA Finance at rates which are more favourable than the
benchmark interest rates set by the Peoples Bank of China, usually in the
range between the benchmark interest rates set by the Peoples Bank of China
and the inter-bank offer rates of interest. This arrangement allows the Company
to achieve a more efficient use of its  current capital, since the Company can
enjoy better interest rates on depositing its current capital with SA Finance
than the benchmark rates of interest set by the Peoples Bank of China that the
PRC commercial banks can offer to the Company. Subject to the entering into of further separate agreements, the Company
can borrow from SA Finance at interest rates not higher than those set by the
Peoples Bank of China for similar loans. In addition, the Company is not
precluded under the financial agreement to borrow money from other PRC
commercial banks where the terms and conditions are favourable. The Company can
also enjoy the convenience of other financial services at the rates of fees and
commissions set by the Peoples Bank of China, which are comparable to the
rates charged by PRC commercial banks for similar services. As of December 31, 2004, the Groups deposits placed with SA Finance amounting to RMB406.0
million, which earned interest at the rate of 0.62%  1.62% per annum. 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 have 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 would 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 agreed that the agreement can be extended automatically. For the year ended December 31, 2004, the amount paid by the Group to Shenzhen Air Catering
Company Limited for the provision of in-flight meals was approximately RMB50.2 million. GAMECO, which is 50% owned by the Company and 50% owned by an independent third party The Company and GAMECO have 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 15%, and labor costs at US$30.0
per hour during 2004. For the year ended December 31, 2004, the amount incurred by the Company for such repair and
maintenance services was RMB659.9 million. The 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. For the year ended December 31, 2004, the amount paid by the Group to the Australian Pilot
College for training services was RMB79.4 million. Southern Airlines (Group) Economic Development Company (SAGEDC), which is 61% owned by CSAHC
and 39% owned by an independent third party. The Company and SAGEDC have 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. 62




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For the year ended December 31, 2004, 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 RMB65.6 million. Ticket sales arrangements The Company 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 a commission, at a rate
prescribed by the CAAC and the International Air Transport Association, for each air ticket sold in
the amount of 3% of the ticket price for domestic tickets and 5%  12% of the ticket price for Hong
Kong regional/international tickets, respectively. In addition to the Agents, the Company has other
air ticket sales agents in China who 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 Company. For the year ended December 31, 2004, the aggregate amount of ticket sales of the Group
conducted through the Agents was RMB32.0 million. 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
under which the Catering Company would supply (a) 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 (b) 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 meals 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 flight it
provides service. The Cap for the Catering Agreement is set at RMB220 million per year. In-flight Meals Arrangement with Northern Airlines, a wholly owned subsidiary of CSAHC Following the announcement of the consolidation and restructuring among CSAHC, CNA and XJA on October 11, 2002 (the Consolidation and Restructuring),
CNA has become a wholly owned subsidiary of CSAHC and a connected person of the
Company under the Hong Kong Listing Rules. The following agreements have been terminated following
the acquisition of the core operational assets of CNA and XJA on
December 31, 2004. Guangzhou Nanland air Catering Company Limited (Nanland), which is 51% owned by the Company
and 49% owned by an independent third party, has been providing and will provide in-flight meals to
CNA. Pursuant to an agreement dated June 23, 2000, Nanland has been providing
in-flight meals to CNA from time to time for a period of one year. The agreement will
then be automatically renewed annually. For the year ended December 31, 2004, the amount paid by
CNA to Nanland for the provision of in-flight means was approximately RMB5,221,000. Pursuant to an agreement dated October 30, 2001, CNA has been providing and will
continue to provide in-flight meals to the Group from time to time for a period of one year. The
agreement will then be automatically renewed annually. For the year ended December 31, 2004, the
amount paid by the Group to CNA for the provision of in-flight meals was
approximately RMB3,303,000. Ticket Sales Arrangement with Northern Airlines, a wholly owned subsidiary of CSAHC Following the announcement of the Consolidation and Restructuring, CNA has
become a wholly owned subsidiary of CSAHC and a connected person of the Company under the Hong Kong
Listing Rules. The following agreement has been terminated following the acquisition of the core
operational assets of CNA and XJA on December 31, 2004. In accordance with the relevant requirement and industry practice, the Group has entered into
ticket agency arrangement with CNA for the sale of the Groups air tickets by
CNA and for the sale of CNA air tickets by the Group. The selling party
charges a commission in the amount of 3% of the ticket price for domestic tickets and 5% to 12% of
the ticket price for Hong Kong regional and international tickets. These commission rates are based
on the rates stipulated by the CAAC and IATA. The amount of commission paid by CNA to
the Group for the year ended December 31, 2004 was approximately RMB160,848,000. The amount of
commission paid by the Group to CNA for the year ended December 31, 2004 was
approximately RMB13,074,000. The amounts payable under the above aforesaid transactions are based on the rates stipulated
by the CAAC and IATA. In-flight Meals Arrangement with Xinjiang Airlines, a wholly owned subsidiary of CSAHC Following the announcement of the Consolidation and Restructuring, XJA has
become a wholly owned subsidiary of CSAHC and a connected person of the Company under the Hong Kong
Listing Rules. The following agreements have been terminated following the acquisition of the core
operational assets of CNA and XJA on December 31, 2004. Pursuant to an agreement dated March 24, 2001, Nanland has been providing and will continue to
provide in-flight meals to XJA from time to time for a period of one year. The
agreement will then be automatically renewed annually. For the year ended December 31, 2004, the
amount paid by XJA to Nanland for the provision of in-flight meals was approximately
RMB2,326,000. Pursuant to an agreement dated September 20, 1999, XJA has been providing and
will provide in-flight meals to the Group for a period of one year. The agreement will then be
automatically extended annually. The amount paid by the Group to XJA for the provision of in-flight meals for the
year ended December 31, 2004 was approximately RMB2,298,050. Ticket Sales Arrangement with Xinjiang Airlines, a wholly owned subsidiary of CSAHC Following the announcement of the Consolidation and Restructuring, XJA has
become a wholly owned subsidiary of CSAHC and a connected person of the Company under the Hong Kong
Listing Rules. The following agreement has been terminated following the acquisition of the core
operational assets of CNA and XJA on December 31, 2004. The Group has entered into ticket agency arrangement with XJA for the sale of
the Groups air tickets by XJA and for the sale of XJA air tickets by
the Group. The selling party charges a commission in the amount of 3% of the ticket price for
domestic tickets and 5% to 12% of the ticket price for Hong Kong regional and international
tickets. These commission sales are based on the rates stipulated by the CAAC and IATA. The amount
of commission paid by XJA to the Group for the year ended December 31, 2004 was
approximately RMB78,207,000. The amount of commission paid by the Group to XJA for
the year ended December 31, 2004 was approximately RMB7,585,000. The amounts payable under the above aforesaid transactions are based on the rates stipulated
by the CAAC and IATA. 
 Interests of Experts and Counsel Not applicable. 63




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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 The Company is currently involved in a civil litigation (Hong Kong High Court Action No. 515
of 2001) (Litigation). According to the writ of summons for the Litigation, New Link Consultants
Limited, the plaintiff, claimed against the Group (as one of the defendants to the Litigation) on
the basis of certain evidence proving that United Aero-Supplies System of China, Limited (UASSC)
entered into an agreement with the defendants for exclusive purchase of aviation equipment
consigned to UASSC for sale. As the defendants failed to perform the agreement, UASSC should have
the right to compensation. Since UASSC is in the course of its winding up proceedings, all the
rights and benefits of UASSC in connection with the claim have been transferred to the plaintiff.
The Company, as one of the defendants to the Litigation, is being claimed for unspecified damages
for breach of the agreement. The Company has filed an objection in respect of the jurisdiction of
the court, and has requested the court to transfer the case to the PRC for trial. On 3 May, 2004,
the court made an award in favor of the Company for the transfer to the PRC, against which the
plaintiff has filed an appeal. Based on the opinion given by the
Companys legal advisors, the directors of the Company consider that
it is not probable that the Company will have an unfavorable outcome
from the claim and that a provision for such claim and/or the
associated legal costs is not required. Other than the above legal proceeding, the Company is not party to any material legal
proceedings. Dividend Information No interim dividend was paid during the year ended December 31, 2004. The Board of Directors
does not recommend the payment of a final dividend in respect of the year ended December 31, 2004. 64




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ITEM 9. THE OFFER AND
LISTING. 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. As of the date of this Annual Report, 2005, approximately
103,159,000 of the Companys H Shares in the form of 2,063,180 ADSs were held in the U.S. by approximately 38 record holders in the
U.S., including the Depository Trust Company. 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. 65




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The Stock Exchange
    
    
    The New York
    
    
    The Shanghaiof Hong Kong
    
    
    Stock Exchange
    
    
    Stock ExchangePrice per H Share
    
    
    Price per ADS
    
    
    Price per A Share(HK$)
    
    
    (US$)
    
    
    (RMB)High
    
    
    Low
    
    
    High
    
    
    Low
    
    
    High
    
    
    LowAnnual Market PricesFiscal Year ended
December 31, 1999
    
    
    2.25
    
    
    
    0.61
    
    
    
    13.94
    
    
    
    3.88
    
    
    
    N/A
    
    
    
    N/AFiscal Year ended
December 31, 2000
    
    
    2.93
    
    
    
    1.02
    
    
    
    18.38
    
    
    
    6.06
    
    
    
    N/A
    
    
    
    N/AFiscal Year ended
December 31, 2001
    
    
    2.95
    
    
    
    1.35
    
    
    
    18.10
    
    
    
    8.00
    
    
    
    N/A
    
    
    
    N/AFiscal Year ended
December 31, 2002
    
    
    3.60
    
    
    
    1.50
    
    
    
    22.25
    
    
    
    10.35
    
    
    
    N/A
    
    
    
    N/AFiscal Year ended
December 31, 2003
    
    
    3.50
    
    
    
    1.46
    
    
    
    22.78
    
    
    
    9.53
    
    
    
    5.34
    
    
    
    3.75Fiscal Year ended
December 31, 2004
    
    
    4.68
    
    
    
    2.47
    
    
    
    29.73
    
    
    
    15.95
    
    
    
    6.87
    
    
    
    3.96Quarterly Market PricesFiscal Year ended
December 31, 2001First Quarter
    
    
    2.70
    
    
    
    1.83
    
    
    
    17.38
    
    
    
    12.22
    
    
    
    N/A
    
    
    
    N/ASecond Quarter
    
    
    2.95
    
    
    
    1.89
    
    
    
    18.10
    
    
    
    12.00
    
    
    
    N/A
    
    
    
    N/AThird Quarter
    
    
    2.53
    
    
    
    1.35
    
    
    
    16.50
    
    
    
    8.00
    
    
    
    N/A
    
    
    
    N/AFourth Quarter
    
    
    2.42
    
    
    
    1.66
    
    
    
    15.25
    
    
    
    9.8
    
    
    
    N/A
    
    
    
    N/AFiscal Year ended
December 31, 2002First Quarter
    
    
    2.83
    
    
    
    2.22
    
    
    
    17.63
    
    
    
    14.80
    
    
    
    N/A
    
    
    
    N/ASecond Quarter
    
    
    3.42
    
    
    
    2.33
    
    
    
    21.74
    
    
    
    14.95
    
    
    
    N/A
    
    
    
    N/AThird Quarter
    
    
    3.60
    
    
    
    1.89
    
    
    
    22.25
    
    
    
    12.00
    
    
    
    N/A
    
    
    
    N/AFourth Quarter
    
    
    2.42
    
    
    
    1.50
    
    
    
    15.00
    
    
    
    10.35
    
    
    
    N/A
    
    
    
    N/AFiscal Year ended
December 31, 2003First Quarter
    
    
    2.62
    
    
    
    1.71
    
    
    
    16.50
    
    
    
    11.75
    
    
    
    N/A
    
    
    
    N/ASecond Quarter
    
    
    2.40
    
    
    
    1.46
    
    
    
    14.85
    
    
    
    9.53
    
    
    
    N/A
    
    
    
    N/AThird Quarter
    
    
    2.88
    
    
    
    2.03
    
    
    
    18.59
    
    
    
    13.25
    
    
    
    4.15
    
    
    
    3.75Fourth Quarter
    
    
    3.50
    
    
    
    2.50
    
    
    
    22.78
    
    
    
    16.76
    
    
    
    5.34
    
    
    
    3.86Fiscal Year ended
December 31, 2004First Quarter
    
    
    4.68
    
    
    
    3.20
    
    
    
    29.73
    
    
    
    20.91
    
    
    
    6.87
    
    
    
    4.95Second Quarter
    
    
    3.90
    
    
    
    2.47
    
    
    
    24.89
    
    
    
    15.95
    
    
    
    6.24
    
    
    
    4.14Third Quarter
    
    
    3.17
    
    
    
    2.47
    
    
    
    20.17
    
    
    
    16.00
    
    
    
    5.19
    
    
    
    4.16Fourth Quarter
    
    
    3.53
    
    
    
    2.55
    
    
    
    22.74
    
    
    
    16.71
    
    
    
    5.40
    
    
    
    3.96Monthly Market PricesJanuary 2005
    
    
    3.10
    
    
    
    2.65
    
    
    
    19.93
    
    
    
    17.19
    
    
    
    5.30
    
    
    
    4.28February 2005
    
    
    2.92
    
    
    
    2.75
    
    
    
    18.72
    
    
    
    17.81
    
    
    
    4.81
    
    
    
    4.30March 2005
    
    
    2.90
    
    
    
    2.47
    
    
    
    18.35
    
    
    
    16.10
    
    
    
    4.62
    
    
    
    3.56April 2005
    
    
    2.67
    
    
    
    2.20
    
    
    
    17.03
    
    
    
    14.72
    
    
    
    4.02
    
    
    
    3.11May 2005
    
    
    2.72
    
    
    
    2.50
    
    
    
    17.33
    
    
    
    16.26
    
    
    
    3.70
    
    
    
    3.24June 2005
    
    
    2.67
    
    
    
    2.50
    
    
    
    16.98
    
    
    
    16.25
    
    
    
    3.46
    
    
    
    2.95
 
 Offer and Listing details Not applicable. 
 Plan of Distribution 66




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Not applicable. 
 Markets Not applicable. 
 Selling Shareholders Not applicable. 
 Dilution Not applicable. 
 Expenses of the Issue Not applicable. 
 ITEM 10. ADDITIONAL INFORMATION. 
 Share Capital Not applicable. 
 Memorandum and Articles of Association 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. Director Pursuant to Article 13 of the Articles of Association, the business purposes of the Company
are: (i) to absorb domestic and foreign capital; (ii) to assist in developing the aviation industry
of China; (iii) to promote the development of the national economy of China; (iv) to utilize
corporate incentive mechanisms of privatization; (v) to draw on the advanced management expertise
of other domestic and foreign companies; (vi) to continuously improve the management of the
Company; (vii) to enhance the market competitiveness of the Company; (viii) to generate economic
and social benefits for the Company; and (ix) to generate steady income
for the Companys shareholders. Pursuant to Article 14 of the Articles of Association, the scope of
business of the Company shall be consistent with and subject to the scope of business approved by
the relevant supervisory department of the State. 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 and (vi) engaging
in other airline or airline-related business, including advertising for such services. Pursuant to Article 154 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 therefor is otherwise subject to the approval of the board of directors. Pursuant to Article 108 of the Articles of Association, where a director is interested in any
resolution 67




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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 162 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 102(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 19 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. Pursuant to Article 20 of the Articles of Association,Shares 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 21 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
domestic shares are held by CSAHC, (b) 1,174,178,000 H shares are held by Hong Kong and overseas
shareholders and
(c) 1,000,000,000 A shares are held by the PRC shareholders. Pursuant to Article 54 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; 68




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(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;(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;(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;(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 92 of the Articles of Association, those 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. 69




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Pursuant to Article 93 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 95 to 99. Pursuant to Article 95 of the Articles of Association, shareholders 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 94, 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;(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 96 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 95, are entitled to vote
at class meetings. Pursuant to Article 97 of the Articles of Association, written notice of a class meeting shall
be given forty-five (45) 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 (20) 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 98 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 99 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 per cent of each of its
existing issued Domestic-Invested Shares and Overseas-Listed
Foreign-Invested Shares;(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 (15) 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. 70




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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 (6) 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 (2) 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 per cent 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 (45) 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 (20) days before the date of the meeting. The Company shall, based on the written replies received twenty (20) 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 (5) 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 193 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  (a)
    
    A sale and purchase agreement (the Sale and
Purchase Agreement) dated November 12, 2004 between the Company, CSAHC, CNA, a wholly
owned subsidiary of CSAHC, and XJA, a wholly
owned subsidiary of CSAHC, pursuant to which the Company agreed to acquire, and CSAHC,
CNA and XJA agreed to sell certain airlines and airlines-related
operations, assets and properties of CNA, XJA and their respective
subsidiaries, which included aircraft, engines, spare parts, aviation equipment and
facilities, properties, office facilities, and other fixed, current and intangible assets. In
addition, the Company will also assume all indebtedness in the aggregate sum of
RMB13,438,191,000 owed by XJA, CNA and their respective
subsidiaries in connection with their civil aviation business. The total consideration,
including the assumption of the debts under the Sale and Purchase Agreement was
RMB15,397,524,000. It became effective upon approval by the shareholders of the Company on
December 31, 2004. 71




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(b)
    
    A lease agreement (the Lease Agreement 1) dated November 12, 2004 between the Company,
CSAHC and CNA, pursuant to which CSAHC and CNA lease to the
Company certain buildings, facilities and other infrastructure related to the civil aviation
business of CNA situated at various locations in Shenyang, Dalian, Jilin,
Harbin, Chaoyang and Russia for a period of three years. The consideration for Lease Agreement
1 is RMB41,993,318.44 per year. It became effective upon approval by the shareholders of the
Company on December 31, 2004.  (c)
    
    A lease agreement (the Lease Agreement 2) dated November 12, 2004 between the Company,
CSAHC and XJA, pursuant to which CSAHC and XJA lease to the
Company certain buildings, facilities and other infrastructure related to the civil aviation
business of XJA situated at Xinjiang and Russia for a period of three years. The
consideration for Lease Agreement 2 is RMB5,797,908.61 per year. It became effective upon
approval by the shareholders of the Company on December 31, 2004.  (d)
    
    A lease agreement (the Lease Agreement 3) dated November 12, 2004 between the Company and
CSAHC, pursuant to which CSAHC leases to the Company certain lands situated in Urumqi,
Shenyang, Dalian and Harbin, by leasing the land use rights of such lands to the Company for a
period of three years. The consideration for Lease Agreement 3 is RMB22,298,033 per year. It
became effective upon approval by the shareholders of the Company on December 31, 2004.  (e)
    
    A catering agreement (the Catering Agreement) dated November 12, 2004 between the Company
and China Southern Airlines Group Air Catering Company Limited (the Catering Company), a
wholly owned subsidiary of CSAHC, pursuant to which the Catering Company supplies in-flight
meal and catering services to the flights of the Company originating or stopping at the
domestic airports, mainly in Northern China and Xinjiang regions where the Catering Company
provides catering services for a period of three years. The consideration for the catering
agreement is based on the price of each type of in-flight meals and the service price for each
type of aircraft, and is capped at RMB220 million per year. It became effective upon approval
by the shareholders of the Company on December 31, 2004.  (f)
    
    A financial agreement (the Financial Agreement) dated November 12, 2004, between the
Company and Southern Airlines Group Finance Company Limited (SA Finance), a connected person
of the Company which is 42% owned by CSAHC, 32% owned by the Company and 26% owned in
aggregate by five subsidiaries of the Company. The Financial Agreement commenced from November
12, 2004 for a period of three years, and is renewable, subject to compliance with the
requirements of the relevant 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. Under the Financial Agreement,
SA Finance provides deposit of money service and, subject to the execution of further agreements with the Company, other financial
services like loan facilities, credit facilities, financial guarantees and credit references
to the Company. The Company is not subject to any extra charges for depositing money with SA
Finance. For the other financial services provided by SA Finance under the financial
agreement, the Company is liable to pay SA Finance the standard charging rates set by the
Peoples Bank of China. The PRC commercial banks also charge similar charging rates set by
the Peoples Bank of China. The Company will make payment for such interest, fees and
commissions in accordance with the payment terms of the separate agreements for the provision
of loans or other financial services as might be entered into between the Company and SA
Finance. It became effective upon approval by the shareholders of the Company on December 31,
2004.  (g)
    
    An aircraft acquisition agreement dated April 21, 2005 pursuant to which the Company and
Southern Airlines (Group) Import and Export Trading Company agreed to acquire and Airbus SNC
agreed to sell five new A380 aircraft. 72




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(h)
    
    An aircraft acquisition agreement dated April 29, 2005 pursuant to which the Company and
Xiamen Airlines Company Limited have agreed to acquire and The Boeing Company has agreed to
sell the 12 new B737-700 aircraft and 33 new B737-800 aircraft. 
 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. Conversion
from Renminbi into a foreign currency or vice versa for purposes of capital account transactions
requires prior approvals of relevant Chinese Government agencies. The Company is generally required by law to sell all its foreign exchange revenues to Chinese
banks at the exchange rates published by Chinese banks on each business day, which rates may
deviate only within a very narrow range from the official rate published daily by the Peoples Bank
of China, Chinas central bank. The Company may purchase foreign exchange directly from Chinese banks for any current account
transactions, such as trade transactions in its normal course of business, including acquisition of
aircraft and flight equipment (such acquisition requires approvals from relevant Chinese Government
agencies). Payment of dividends by the Company to holders of the Companys H Shares and ADSs is
considered a current account transaction under Chinese law. Therefore, there is no legal
restriction on the conversion of Renminbi into foreign exchange 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 exchange. 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 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. 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. 73




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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). 
 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. 74




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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.
    
    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
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.
 75




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##### Table of Contents



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
has not established a nominating 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.
    
    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 CommitteeListed companies must have a
compensation committee composed
entirely of independent directors.
    
    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. 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 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.
 76




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The written charter of the compensation committee must
state, at least, the following purposes and
responsibilities:
    
    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.
 (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.
 Audit CommitteeListed 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.
    
    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.
 77




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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 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 Board of Directors of the Company has
established an audit committee that satisfies
relevant domestic requirements and the audit
committee has a written charter.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.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.
 Corporate governance guidelinesListed 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.
    
    China Securities Regulatory
Commission (CSRC) has issued the Corporate Governance Rules, with
which the Company has complied.Code of ethics for directors, officers and employeesListed 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.
    
    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.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.
 78




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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 borrowings is in the form of long-term fixed- 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, 2004. 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, 2004. As
of December 31, 2004, the Group operated a total of 131 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
18 to the Financial Statements. The following table provides information regarding the Groups material interest rate
sensitive financial instruments as of December 31, 2004 and 2003: As of December 31, 2004
    
    

As
of December 31, 2003Expected maturity dateTotal
    
    
    
    
    
    
    Totalrecorded
    
    
    
    
    
    
    recorded2005
    
    
    2006
    
    
    2006
    
    
    2008
    
    
    2009
    
    
    Thereafter
    
    
    amount
    
    
    Fair value(2)
    
    
    amount
    
    
    Fair value(2)DebtFixed-rate notes payableIn US$
    
    
    767
    
    
    
    445
    
    
    
    402
    
    
    
    251
    
    
    
    205
    
    
    
    182
    
    
    
    2,252
    
    
    
    2,464
    
    
    
    2,627
    
    
    
    2,915Average interest rate
    
    
    6.09
    %
    
    
    6.52
    %
    
    
    6.41
    %
    
    
    6.41
    %
    
    
    6.41
    %
    
    
    6.82
    %
    
    
    6.09
    %
    
    
    
    
    
    
    6.79
    %
    
    
    Variable-rate notes payableIn US$
    
    
    6,421
    
    
    
    905
    
    
    
    3,557
    
    
    
    777
    
    
    
    996
    
    
    
    2,671
    
    
    
    15,327
    
    
    
    15,327
    
    
    
    8,372
    
    
    
    8,372Average interest rate
    
    
    2.26
    %
    
    
    2.60
    %
    
    
    2.60
    %
    
    
    2.60
    %
    
    
    2.60
    %
    
    
    2.26
    %
    
    
    2.40
    %
    
    
    
    
    
    
    1.63
    %
    
    
    In HKD
    
    
    3,327
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    3,327
    
    
    
    3,327
    
    
    
    
    
    
    
    Average interest rate
    
    
    1.42
    %
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1.42
    %
    
    
    
    
    
    
    
    
    
    
    In RMB
    
    
    1,003
    
    
    
    276
    
    
    
    181
    
    
    
    27
    
    
    
    27
    
    
    
    1,033
    
    
    
    2,547
    
    
    
    2,547
    
    
    
    620
    
    
    
    620Average interest rate
    
    
    5.13
    %
    
    
    5.65
    %
    
    
    5.20
    %
    
    
    5.02
    %
    
    
    5.02
    %
    
    
    5.20
    %
    
    
    5.04
    %
    
    
    
    
    
    
    4.46
    %
    
    
    
   (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, 2004 and 2003. The following table provides information regarding the Groups material foreign currency
sensitive financial instruments and capital commitments as of December 31, 2004 and 2003: 79




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As of December 31, 2004
    
    
    As of December 31, 2003Expected maturity dateTotal
    
    
    
    
    
    
    Totalrecorded
    
    
    
    
    
    
    recorded2004
    
    
    2005
    
    
    2006
    
    
    2007
    
    
    2008
    
    
    Thereafter
    
    
    amount
    
    
    Fair value(2)
    
    
    amount
    
    
    Fair value(2)DebtFixed-rate notes payable In US$
    
    
    767
    
    
    
    445
    
    
    
    402
    
    
    
    251
    
    
    
    205
    
    
    
    182
    
    
    
    2,252
    
    
    
    2,464
    
    
    
    2,627
    
    
    
    2,915Average interest rate
    
    
    6.09
    %
    
    
    6.52
    %
    
    
    6.41
    %
    
    
    6.41
    %
    
    
    6.41
    %
    
    
    6.82
    %
    
    
    6.09
    %
    
    
    
    
    
    
    6.79
    %
    
    
    Variable-rate notes payable in US$
    
    
    6,421
    
    
    
    905
    
    
    
    3,557
    
    
    
    777
    
    
    
    996
    
    
    
    2,671
    
    
    
    15,327
    
    
    
    15,327
    
    
    
    8,372
    
    
    
    8,372Average interest rate
    
    
    2.26
    %
    
    
    2.60
    %
    
    
    2.60
    %
    
    
    2.60
    %
    
    
    2.60
    %
    
    
    2.26
    %
    
    
    2.40
    %
    
    
    
    
    
    
    1.63
    %
    
    
    In HKD
    
    
    3,327
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    3,327
    
    
    
    3,327
    
    
    
    
    
    
    
    Average interest rate
    
    
    1.42
    %
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1.42
    %
    
    
    
    
    
    
    
    
    
    
    Capital commitment in US$
    
    
    8,748
    
    
    
    2,996
    
    
    
    32
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    11,776
    
    
    
    11,776
    
    
    
    10,615
    
    
    
    10,615
   (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, 2003 and 2004. 
 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, 2004. 
 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.(ii)

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

and (iv) Aggregate
    
    
    
    
    
    
    Aggregateprice of
    
    
    
    
    
    
    offeringTitle of each
    
    
    
    
    
    offering
    
    
    
    
    
    
    price ofclass of
    
    Amount
    
    
    amount
    
    
    Amount
    
    
    amountsecurities registered
    
    registered(1)
    
    
    registered(2)
    
    
    sold(3)
    
    
    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
 80




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##### Table of Contents



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. (vii) As of December 31, 2004, 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. 81




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##### Table of Contents



PART III 
 ITEM 15. 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. There has been no significant
change in our internal controls over financial reporting during the period covered by this Annual
Report that has materially affected, or is 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. See Item 6 Directors,
Senior Management and Employees  Directors and Senior Management. 
 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 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 2003 and 2004: Audit Fees
    
    
    Audit-Related Fees
    
    
    Tax Fees
    
    
    Other Fees2003
    
    
    RMB8.2 million
    
    
    
    RMB7.0 million
    
    
    
    RMB0.17 million
    
    
    
    RMB1.1 million2004
    
    
    RMB8.9 million
    
    
    
    RMB6.6 million
    
    
    
    RMB0.11 million
    
    
    
    
 82




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##### Table of Contents



Audit-related fees Services provided primarily consist of the following:  a)

Review of the Groups 2004 interim financial report prepared under IFRS; andb)

In connection with the Companys acquisition of the airline operations and related
assets of China Northern Airlines Company and Xinjiang Airlines
Company;     Audit of the financial
statements of China Northern Airlines Company and Xinjiang Airlines
Company;     Issuance of comfort letter on
profit forecast;     Issuance of comfort letter on
working capital forecast; and     Issuance of report on
statement of indebtedness. Tax fees Services provided primarily consist of tax compliance services. Others Services provided primarily consist of services to assist the Group in documenting its
internal controls over financial reporting and provide observations and recommendations. Before our principal accountants were engaged by the Company to render audit or non-audit
services, the engagement has been approved by our audit committee. 
 Exemptions from the Listing Standards for Audit Committee Not applicable. 
 ITEM 16D. 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 2004 and up to the date of this Annual Report. 
 PART IV 
 ITEM 17. FINANCIAL STATEMENTS. Not applicable. 
 ITEM 18. FINANCIAL STATEMENTS. 
 Index to Financial Statements PageCONSOLIDATED FINANCIAL STATEMENTS OF
CHINA SOUTHERN AIRLINES COMPANY LIMITEDReport of Independent Registered Public Accounting Firm
    
    
    F-1Consolidated Statements of Operations for the years
ended December 31, 2002, 2003 and 2004
    
    
    F-2Consolidated Balance Sheets as of December 31, 2003 and 2004
    
    
    F-3Consolidated Statements of Cash Flows for the years
ended December 31, 2002, 2003 and 2004
    
    
    F-4Consolidated Statements of Changes in Shareholders Equity for the years
ended December 31, 2002, 2003 and 2004
    
    
    F-5Notes to Consolidated Financial Statements
    
    
    F-6
 83




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##### Table of Contents



ITEM 19. EXHIBITS. Exhibit No.
    
    Description of Exhibit4.1
    
    
    Form of Directors Service Agreement is
incorporated by reference
in Exhibit 4(c).1 of Form 20-F for the year of 2004.4.2
    
    
    Form of Non-Executive Directors Service Agreement is
incorporated by reference in Exhibit 4(c).2 of Form 20-F for the
year of 2004.8
    
    
    Subsidiaries of the Company12.1
    
    
    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
 84




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##### Table of Contents



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 COMPANYLIMITED/s/ Liu Shao YongName:
    Liu Shao YongTitle:
    Chairman of the Board of Directors Date: June 30, 2005 85




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES INDEX TO CONSOLIDATED FINANCIAL STATEMENTS PageReport of Independent Registered Public Accounting Firm
    
    
    F-1Consolidated Statements of Operations
for the years ended December 31, 2002, 2003 and 2004
    
    
    F-2Consolidated
Balance Sheets as of December 31, 2003 and 2004
    
    
    F-3Consolidated Statements of Cash Flows
for the years ended December 31, 2002, 2003 and 2004
    
    
    F-4Consolidated Statements of Changes in Shareholders Equity
for the years ended December 31, 2002, 2003 and 2004
    
    
    F-5Notes
to Consolidated Financial Statements
    
    
    F-6




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##### Table of Contents



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 and its subsidiaries as of December 31, 2003 and 2004, and the related
consolidated statements of operations, cash flows and changes in shareholders equity for each of
the years in the three-year period ended December 31, 2004, 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, 2003 and 2004, and the results of their operations and their cash
flows for each of the years in the three-year period ended December 31, 2004 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 34 to the consolidated financial
statements. The accompanying consolidated financial statements as of and for the year ended December 31,
2004 have been translated into United States dollars solely for the convenience of the reader. We
have audited the translation, and in our opinion, the consolidated financial statements expressed
in Renminbi have been translated into United States dollars on the basis set forth in Note 1 to
the consolidated financial statements. KPMG
Hong Kong
April 25, 2005 F-1




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES 
 CONSOLIDATED STATEMENTS OF OPERATIONS
For the years ended December 31, 2002, 2003 and 2004 (Amounts in millions, except per share data) Note
    
    2002
    
    
    2003
    
    
    2004
    
    
    2004RMB
    
    
    RMB
    
    
    RMB
    
    
    U.S. dollarsOperating revenue:Traffic revenue
    
    3
    
    
    17,482
    
    
    
    16,965
    
    
    
    23,344
    
    
    
    2,821Other operating revenue
    
    4,26
    
    
    537
    
    
    
    505
    
    
    
    630
    
    
    
    76Total operating revenue
    
    
    
    
    18,019
    
    
    
    17,470
    
    
    
    23,974
    
    
    
    2,897Operating expenses:Flight operations
    
    5, 26
    
    
    6,733
    
    
    
    7,070
    
    
    
    10,418
    
    
    
    1,259Maintenance
    
    6, 26
    
    
    2,333
    
    
    
    2,589
    
    
    
    3,459
    
    
    
    418Aircraft and traffic servicing
    
    7, 26
    
    
    2,511
    
    
    
    2,767
    
    
    
    3,503
    
    
    
    423Promotion and sales
    
    8, 26
    
    
    1,500
    
    
    
    1,480
    
    
    
    1,940
    
    
    
    234General and administrative
    
    9
    
    
    1,060
    
    
    
    1,053
    
    
    
    1,323
    
    
    
    160Depreciation and amortization
    
    
    
    
    1,840
    
    
    
    2,038
    
    
    
    2,413
    
    
    
    292Other
    
    
    
    
    16
    
    
    
    17
    
    
    
    9
    
    
    
    1Total operating expenses
    
    
    
    
    15,993
    
    
    
    17,014
    
    
    
    23,065
    
    
    
    2,787Operating income
    
    
    
    
    2,026
    
    
    
    456
    
    
    
    909
    
    
    
    110Non-operating income/(expenses):Interest income
    
    26
    
    
    52
    
    
    
    13
    
    
    
    22
    
    
    
    3Interest expense
    
    17, 26
    
    
    (959
    )
    
    
    (824
    )
    
    
    (691
    )
    
    
    (84
    )Equity income of affiliated companies
    
    
    
    
    37
    
    
    
    48
    
    
    
    12
    
    
    
    1Equity loss of jointly controlled entities
    
    
    
    
    (3
    )
    
    
    (39
    )
    
    
    (5
    )
    
    
    (1
    )Gain/(loss) on sales of property,
plant and equipment
    
    14, 25
    
    
    171
    
    
    
    (22
    )
    
    
    (1
    )
    
    
    Exchange loss, net
    
    
    
    
    (176
    )
    
    
    (164
    )
    
    
    (59
    )
    
    
    (7
    )Other, net
    
    
    
    
    (9
    )
    
    
    21
    
    
    
    46
    
    
    
    6Total net non-operating expenses
    
    
    
    
    (887
    )
    
    
    (967
    )
    
    
    (676
    )
    
    
    (82
    )Income/(loss) before taxation and minority interests
    
    
    
    
    1,139
    
    
    
    (511
    )
    
    
    233
    
    
    
    28Taxation (expense)/credit
    
    10
    
    
    (398
    )
    
    
    324
    
    
    
    (78
    )
    
    
    (9
    )Income/(loss) before minority interests
    
    
    
    
    741
    
    
    
    (187
    )
    
    
    155
    
    
    
    19Minority interests
    
    
    
    
    (165
    )
    
    
    (171
    )
    
    
    (203
    )
    
    
    (25
    )Net income/(loss)
    
    
    
    
    576
    
    
    
    (358
    )
    
    
    (48
    )
    
    
    (6
    )Basic earnings/(loss) per share
    
    2(ab)
    
    
    0.17
    
    
    
    (0.09
    )
    
    
    (0.01
    )
    
    
    (0.001
    )
 See accompanying notes to consolidated financial statements. F-2




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES 
 CONSOLIDATED BALANCE SHEETS
As of December 31, 2003 and 2004 (Amounts in millions) Note
    
    2003
    
    
    2004
    
    
    2004RMB
    
    
    RMB
    
    
    U.S. dollarsASSETSCURRENT ASSETSCash and cash equivalents
    
    11
    
    
    2,080
    
    
    
    3,083
    
    
    
    373Trade receivables
    
    12
    
    
    834
    
    
    
    1,203
    
    
    
    145Other receivables
    
    
    
    
    296
    
    
    
    616
    
    
    
    74Inventories
    
    
    
    
    544
    
    
    
    1,302
    
    
    
    157Prepaid expenses and other current assets
    
    
    
    
    248
    
    
    
    378
    
    
    
    46Short term investments
    
    13
    
    
    
    
    
    
    683
    
    
    
    83Total current assets
    
    
    
    
    4,002
    
    
    
    7,265
    
    
    
    878NON-CURRENT ASSETSProperty, plant and equipment, net
    
    14
    
    
    28,536
    
    
    
    46,841
    
    
    
    5,660Construction in progress
    
    15
    
    
    1,630
    
    
    
    565
    
    
    
    68Lease prepayments
    
    
    
    
    349
    
    
    
    346
    
    
    
    42Investments
    
    16
    
    
    1,357
    
    
    
    1,483
    
    
    
    179Lease and equipment deposits
    
    
    
    
    2,933
    
    
    
    5,397
    
    
    
    652Other assets
    
    
    
    
    255
    
    
    
    331
    
    
    
    40Total non-current assets
    
    
    
    
    35,060
    
    
    
    54,963
    
    
    
    6,641TOTAL ASSETS
    
    
    
    
    39,062
    
    
    
    62,228
    
    
    
    7,519LIABILITIES AND SHAREHOLDERS EQUITYCURRENT LIABILITIESNotes payable, including current installments of long-term
notes payable
    
    17
    
    
    7,097
    
    
    
    11,518
    
    
    
    1,392Current installments of obligations under capital leases
    
    18
    
    
    1,298
    
    
    
    2,144
    
    
    
    259Accounts payables
    
    
    
    
    928
    
    
    
    1,554
    
    
    
    188Bills payable
    
    
    
    
    438
    
    
    
    136
    
    
    
    16Sales in advance of carriage
    
    
    
    
    466
    
    
    
    874
    
    
    
    106Taxes payable
    
    
    
    
    90
    
    
    
    39
    
    
    
    5Amounts due to related companies
    
    26
    
    
    929
    
    
    
    2,330
    
    
    
    282Accrued expenses
    
    19
    
    
    2,528
    
    
    
    4,551
    
    
    
    549Other liabilities
    
    
    
    
    1,020
    
    
    
    2,974
    
    
    
    359Total current liabilities
    
    
    
    
    14,794
    
    
    
    26,120
    
    
    
    3,156NON-CURRENT LIABILITIESNotes payable, excluding current installments
    
    17
    
    
    4,522
    
    
    
    11,935
    
    
    
    1,442Obligations under capital leases, excluding
current installments
    
    18
    
    
    5,543
    
    
    
    9,599
    
    
    
    1,160Provision for major overhauls
    
    6
    
    
    189
    
    
    
    284
    
    
    
    34Deferred credits
    
    20
    
    
    47
    
    
    
    100
    
    
    
    12Deferred tax liabilities
    
    21
    
    
    398
    
    
    
    287
    
    
    
    35Total non-current liabilities
    
    
    
    
    10,699
    
    
    
    22,205
    
    
    
    2,683TOTAL LIABILITIES
    
    
    
    
    25,493
    
    
    
    48,325
    
    
    
    5,839MINORITY INTERESTS
    
    
    
    
    1,673
    
    
    
    2,055
    
    
    
    248SHAREHOLDERS EQUITY
    
    22,23
    
    
    11,896
    
    
    
    11,848
    
    
    
    1,432TOTAL LIABILITIES AND SHAREHOLDERS EQUITY
    
    
    
    
    39,062
    
    
    
    62,228
    
    
    
    7,519
 See accompanying notes to consolidated financial statements. F-3




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES 
 CONSOLIDATED STATEMENTS OF CASH FLOWS
For the years ended December 31, 2002, 2003 and 2004 (Amounts in millions) Note
    
    2002
    
    
    2003
    
    
    2004
    
    
    2004RMB
    
    
    RMB
    
    
    RMB
    
    
    U.S. dollarsCash inflows from operations
    
    29(a)
    
    
    4,763
    
    
    
    3,075
    
    
    
    4,555
    
    
    
    550Interest received
    
    
    
    
    53
    
    
    
    13
    
    
    
    22
    
    
    
    3Interest paid
    
    
    
    
    (1,051
    )
    
    
    (924
    )
    
    
    (754
    )
    
    
    (91
    )Income tax paid
    
    
    
    
    (67
    )
    
    
    (35
    )
    
    
    (227
    )
    
    
    (27
    )Net cash inflows from operating activities
    
    
    
    
    3,698
    
    
    
    2,129
    
    
    
    3,596
    
    
    
    435Investing activities:Proceeds from disposal of aircraft
    
    
    
    
    778
    
    
    
    29
    
    
    
    
    
    
    
    Proceeds from disposal of other
property, plant and equipment
    
    
    
    
    47
    
    
    
    28
    
    
    
    47
    
    
    
    6Dividends received from affiliated companies
    
    
    
    
    3
    
    
    
    
    
    
    
    12
    
    
    
    1Dividends received from jointly controlled entities
    
    
    
    
    
    
    
    
    
    
    
    
    5
    
    
    
    1Dividends received from equity securities held for trading
    
    
    
    
    
    
    
    
    
    
    
    
    13
    
    
    
    2(Increase)/decrease in other assets
    
    
    
    
    (1
    )
    
    
    6
    
    
    
    (9
    )
    
    
    (1
    )Payment of lease and equipment deposits
    
    
    
    
    (1,999
    )
    
    
    (1,852
    )
    
    
    (3,151
    )
    
    
    (381
    )Refund of lease and equipment deposits
    
    
    
    
    2,117
    
    
    
    1,066
    
    
    
    1,253
    
    
    
    151Capital expenditures
    
    
    
    
    (6,351
    )
    
    
    (4,707
    )
    
    
    (6,631
    )
    
    
    (801
    )Purchase of investments in equity securities
    
    
    
    
    (7
    )
    
    
    (1
    )
    
    
    (680
    )
    
    
    (82
    )Investments in affiliated companies
    
    
    
    
    (136
    )
    
    
    
    
    
    
    (9
    )
    
    
    (1
    )Investments in jointly controlled entities
    
    
    
    
    (296
    )
    
    
    (3
    )
    
    
    (72
    )
    
    
    (9
    )Governmental subsidy for safety related capital
expenditures
    
    
    
    
    40
    
    
    
    
    
    
    
    
    
    
    
    Effect of acquisition, net of cash and cash equivalents
acquired
    
    29(c)
    
    
    (90
    )
    
    
    
    
    
    
    398
    
    
    
    48Net cash used in investing activities
    
    
    
    
    (5,895
    )
    
    
    (5,434
    )
    
    
    (8,824
    )
    
    
    (1,066
    )Net cash outflows before financing activities
    
    
    
    
    (2,197
    )
    
    
    (3,305
    )
    
    
    (5,228
    )
    
    
    (631
    )Financing activities:Proceeds from A Shares issue, net of issuance costs
    
    
    
    
    
    
    
    
    2,641
    
    
    
    
    
    
    
    Proceeds from bank notes payable
    
    
    
    
    6,997
    
    
    
    8,914
    
    
    
    14,555
    
    
    
    1,759Repayment of bank notes payable
    
    
    
    
    (2,194
    )
    
    
    (8,371
    )
    
    
    (7,108
    )
    
    
    (859
    )Repayment of principal under capital lease
obligations
    
    
    
    
    (1,546
    )
    
    
    (1,555
    )
    
    
    (1,272
    )
    
    
    (154
    )Minority shareholders contributions
    
    
    
    
    10
    
    
    
    1
    
    
    
    71
    
    
    
    9Dividends paid to shareholders
    
    
    
    
    (68
    )
    
    
    
    
    
    
    
    
    
    
    Dividends paid to minority shareholders
    
    
    
    
    (49
    )
    
    
    (15
    )
    
    
    (15
    )
    
    
    (1
    )Net cash inflows from financing
activities
    
    
    
    
    3,150
    
    
    
    1,615
    
    
    
    6,231
    
    
    
    754Increase/(decrease) in cash and cash equivalents
    
    
    
    
    953
    
    
    
    (1,690
    )
    
    
    1,003
    
    
    
    123Cash and cash equivalents at beginning of year
    
    
    
    
    2,817
    
    
    
    3,770
    
    
    
    2,080
    
    
    
    250Cash and cash equivalents at end of year
    
    
    
    
    3,770
    
    
    
    2,080
    
    
    
    3,083
    
    
    
    373
 See accompanying notes to consolidated financial statements. F-4




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES 
 CONSOLIDATED STATEMENTS
OF CHANGES IN SHAREHOLDERS EQUITY
For the years ended December 31, 2002, 2003 and 2004 (Amounts in millions) Share
    
    
    Share
    
    
    Other
    
    
    RetainedNote
    
    capital
    
    
    premium
    
    
    reserves
    
    
    profits
    
    
    TotalRMB
    
    
    RMB
    
    
    RMB
    
    
    RMB
    
    
    RMBShareholders equity at December 31, 2002
    
    
    
    
    3,374
    
    
    
    3,684
    
    
    
    586
    
    
    
    1,969
    
    
    
    9,613Issue of A Shares
    
    22
    
    
    1,000
    
    
    
    1,641
    
    
    
    
    
    
    
    
    
    
    
    2,641Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (358
    )
    
    
    (358
    )Appropriations to reserves
    
    
    
    
    
    
    
    
    
    
    
    
    25
    
    
    
    (25
    )
    
    
    Shareholders equity at December 31, 2003
    
    
    
    
    4,374
    
    
    
    5,325
    
    
    
    611
    
    
    
    1,586
    
    
    
    11,896Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (48
    )
    
    
    (48
    )Appropriations to reserves
    
    
    
    
    
    
    
    
    
    
    
    
    61
    
    
    
    (61
    )
    
    
    Shareholders equity at December 31, 2004
    
    
    
    
    4,374
    
    
    
    5,325
    
    
    
    672
    
    
    
    1,477
    
    
    
    11,848Shareholders equity at December 31, 2004
in U.S. dollars
    
    
    
    
    529
    
    
    
    643
    
    
    
    81
    
    
    
    179
    
    
    
    1,432
 See accompanying notes to consolidated financial statements. F-5




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES 
 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(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 regional and international
passenger, and cargo and mail airline services, with flights operating primarily from the new
Guangzhou Baiyun International Airport, which is both the main hub of the Groups route network
and the location of its corporate headquarters. The Company was established in the Peoples Republic of China (the PRC, China or the
State) 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 (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 (A Shares) which are listed on the Shanghai Stock Exchange. Pursuant to a sale and purchase agreement dated November 12, 2004 between the Company, CSAHC,
China Northern Airlines Company (CNA) and Xinjiang Airlines Company (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 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 outstanding as of December 31, 2004 and the remaining balance of RMB1,959 is
required to be satisfied in cash by December 31, 2005 (Note 26). As the above acquisitions were completed on December 31, 2004, they have no impact on the
Companys consolidated income statement for the year ended December 31, 2004. Further details of the CNA/XJA Acquisitions are set out in Note 29 to the consolidated
financial statements. The consolidated financial statements have been prepared in Renminbi (RMB), the national
currency of the PRC. Solely for the convenience of readers, the 2004 financial statements have
been translated into United States dollars at the rate of US$1.00 = RMB 8.2765, the rate quoted by
the Peoples Bank of China on December 31, 2004. No representation is made that the RMB amounts
could have been, or could be, converted into United States dollars (US$) at that rate or at any
other certain rate on December 31, 2004 or at any other certain date. F-6




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CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) 2. PRINCIPAL ACCOUNTING POLICIES (a) Statement of compliance The consolidated 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. Information relating to the nature and effect of the significant differences between IFRS and
accounting principles generally accepted in the United States of America (U.S. GAAP) are set
forth in Note 34. (b) Basis of preparation The consolidated financial statements are prepared on the historical cost basis as modified by
the revaluation of certain property, plant and equipment (Note 14). The preparation of financial statements in conformity with IFRS requires management to make
judgements, 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 judgements 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. The accounting policies set out below have been applied consistently by the Group and are
consistent with those used in previous years. (c) Basis of consolidation The consolidated financial statements include the financial statements of the Company and all
of its subsidiaries (see Note 30 for details of the Companys principal subsidiaries) made up to
December 31, each year. A subsidiary is an entity controlled by the Company. Control exists when
the Company has the power, directly or indirectly, 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 or convertible are taken into account. The financial
statements of subsidiaries are included in the consolidated financial statements from the date
that control effectively commences until the date that control ceases. The results of subsidiaries are included in the consolidated statements of operations, and the
share attributable to minority shareholders is deducted from or added to the consolidated income
after taxation. Losses attributable to minority shareholders of partly owned subsidiaries F-7




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CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) are accounted for based on the respective equity owned by the minority shareholders up to the
amount of the capital contribution and reserves attributable to the minority shareholders.
Thereafter, all further losses are assumed by the Company. Intra-group balances and transactions, and any unrealized profits 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 income, but only to the extent that there is no evidence of impairment. (d) Cash and cash equivalents Cash and cash equivalents consist of cash in hand and balances with banks and other financial
institutions with an original maturity within three months. For the purposes of the consolidated
statements of cash flows, cash and cash equivalents are presented net of bank overdrafts, if any. (e) Trade and other receivables Trade and other receivables are stated at cost less allowance for doubtful accounts.
Allowance for doubtful accounts are established based on evaluation of the recoverability of these
accounts at the balance sheet date. In establishing such allowance, the Group considers various
factors including its historical write-off experience and industry economic trend. Past due
balances over a specific period and balances over a specific amount are reviewed individually for
collectibility. All other balances are reviewed on a pooled basis. (f) Inventories Inventories, which consist primarily of expendable spare parts and supplies, are stated at
cost less any applicable provision for obsolescence, and are expensed when used in operations.
Cost represents the average unit cost. Inventories held for disposal are stated at the lower of
cost and net realizable value. Net realizable value represents estimated resale price. (g) Other investments Financial instruments held for trading are classified as current assets and are stated at fair
value, with any resultant gain or loss recognized in the consolidated statements of operations. Where the Group has the positive intent and ability to hold bonds to maturity, they are stated
at amortized cost less impairment losses (see accounting policy m). Other financial instruments are stated at cost less impairment losses (see accounting policy
m). Other financial instruments represent unquoted available-for-sale 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 made without incurring excessive
costs. F-8




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CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) (h) Property, plant and equipment and depreciation (i) Owned assets An item of property, plant and equipment is initially recorded at cost less accumulated
depreciation (see (iv) below) and impairment losses (see accounting policy m). The cost of an
asset comprises its purchase price and any directly attributable costs of bringing the asset to
working condition and location for its intended use. Subsequent to the revaluation (see Note 14),
which was based on depreciated replacement costs, property, plant and equipment are carried at
revalued amount, being the fair value at the date of the revaluation less any subsequent
accumulated depreciation and impairment losses. Revaluations are 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. Gains or losses arising from the retirement or disposal of an item of property, plant and
equipment are determined as the difference between the estimated net disposal proceeds and the
carrying amount of the asset and are recognized in the consolidated statements of operations on
the date of retirement or disposal. Any related revaluation surplus is transferred from the
revaluation reserve to retained profits. (ii) Leased assets Leases in terms of which the Group assumes substantially all the risks and rewards of
ownership are classified as capital leases. Flight equipment acquired by way of capital leases is stated at an amount equal to lower of
its fair value and the present value of minimum lease payments at inception of the lease, less
accumulated depreciation and impairment losses (see accounting policy m) and the corresponding
liabilities, net of finance charges are recorded as obligations under capital leases. Subsequent
to the revaluation (see Note 14), which was based on depreciated replacement costs, leased assets
are carried at revalued amount, being the fair value at the date of the revaluation less any
subsequent accumulated depreciation and impairment losses. Revaluations are 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. The finance charge is allocated to each period during the lease term so as to produce a
constant periodic rate of interest on the remaining balance of the liability. Contingent rentals
are written off as an expense of the period in which they are incurred. Gains or losses on aircraft 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 are recognized immediately if the transactions are
established at fair value. Any difference between the sales price over fair value is deferred and
amortized over the period the assets are expected to be used. F-9




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CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) Payments made under operating leases are recognized in the consolidated
statements of operations on a straight-line basis over the terms of the leases. Lease
incentives received are recognized in the consolidated statements of operations as an integral
part of the total lease expense. (iii) Subsequent costs The Group recognizes in the carrying amounts of an item of property, plant and equipment the
cost of replacing part of such an item when that cost is incurred if it is probable that the
future economic benefits embodied with the item will flow to the Group and the cost of the item
can be measured reliably. All other costs are recognized in the consolidated statements of
operations as an expense as incurred. (iv) Depreciation Depreciation is calculated to write off the cost or revalued amount of items of property,
plant and equipment over their estimated useful lives on a straight line basis, after taking into
account their residual values, as follows: Depreciable life
    
    
    Residual valueBuildings
    
    
    15 to 40 years
    
    
    NilOwned and leased aircraft
    
    
    8 to 15 years
    
    
    28.75%Other flight equipment- Jet engines
    
    
    8 to 15 years
    
    
    3%- Others, including rotable spares
    
    
    8 to 15 years
    
    
    NilMachinery and equipment
    
    
    5 to 10 years
    
    
    3%Vehicles
    
    6 years
    
    3%
 Depreciation for leased assets is provided at rates which write off the cost of the assets in
equal annual amounts 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 above. (i) Construction in progress Construction in progress represents office buildings, various infrastructure projects under
construction and equipment pending installation, and is stated at cost. Cost comprises direct
costs of construction as well as interest charges during the periods of construction and
installation. Capitalization 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 delays in the issue of the relevant commissioning certificates
by the relevant PRC authorities. (j) Lease prepayments Lease prepayments represent the purchase costs of land use rights and are amortized on a
straight line basis over the period of land use rights. F-10




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CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) (k) Affiliated company and jointly controlled entity An affiliated company is an entity in which the Group has significant influence, but not
control, over its the financial and operating policies. The consolidated financial statements
include the Groups share of the total recognized gains and losses of associates on an equity
accounted basis, from the date that significant influence commences until the date that
significant influence ceases. When the Groups share of losses exceeds its interest in an
affiliated company, the Groups carrying amount 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 an affiliated company. A jointly controlled entity is an entity over whose activities the Group has joint control,
established by contractual agreement. The consolidated financial statements include the Groups
share of the total recognized gains and losses of jointly controlled entities on an equity
accounted basis, from the date that joint control commences until the date that joint control
ceases. When the Groups share of losses exceeds its interest in a jointly controlled entity, the
Groups carrying amount 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 a jointly controlled entity. Unrealized income arising from transactions with affiliated companies and jointly controlled
entities are eliminated to the extent of the Groups interest in the entity. Unrealized losses are
eliminated in the same way as unrealized income, but only to the extent that there is no evidence
of impairment. In the consolidated balance sheets, the investments in affiliated companies and jointly
controlled entities are stated at the Groups attributable share of net assets. (l) 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 vesting benefit period of the
employees. F-11




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CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) (m) Impairment loss The carrying amounts of the Groups assets, other than inventories (see accounting policy f),
trade and other receivables (see accounting policy e) and deferred tax assets (see accounting
policy r) 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 the 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 future cash flows generated by the asset are discounted to their
present value. The amount of the reduction is recognized as an expense in the consolidated
statements of operations. The Group assesses at each balance sheet date whether there is any indication that an
impairment loss recognized for an asset in prior years may no longer exist. An impairment loss is
reversed if there has been a favorable change in the estimates used to determine the recoverable
amount. A subsequent increase in the recoverable amount of an asset, when the circumstances and
events that led to the write-down or write-off cease to exist, is recognized as income. The
reversal is reduced by the amount that would have been recognized as depreciation had the
write-down or write-off not occurred. (n) 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 cost and redemption value being recognized in the
consolidated statements of operations over the period of the borrowings on an effective interest
basis. (o) Provisions A provision is recognized in the consolidated balance sheets when the Group has a 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. If the effect is material,
provisions are determined by discounting the expected future cash flows at a pre-tax rate that
reflects current market assessments of the time value of money and, where appropriate, the risks
specific to the liability. (p) 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. F-12




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CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) (q) Deferred credits In connection with the acquisition or operating lease 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. (r) Deferred taxation Deferred tax is provided using the balance sheet liability method on all temporary
differences between the carrying amounts for financial reporting purposes and the amounts used for
taxation purposes, except differences relating to the initial recognition of assets or liabilities
which affect neither accounting nor taxable income/loss. The tax value of losses expected to be available for utilization against future taxable
income is recognized as a deferred tax asset and offset against the deferred tax liability
attributable to the same legal tax unit and jurisdiction. Net deferred tax assets are reduced to
the extent that it is no longer probable that the related tax benefit will be realized. (s) Revenue recognition (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. In addition, prior to May 1, 2003, revenue was
stated net of the contributions to the Civil Aviation Administration of China (CAAC)
Infrastructure Development Fund. (ii) Interest income is recognized on a time proportion basis according to the outstanding
principal and the applicable interest rate. (iii) Dividend income is recognized when the Groups right to receive payment is established. (iv) Operating lease income is recognized on a straight line basis over the terms of the
respective leases. (t) Traffic commissions Traffic commissions are expensed when the transportation is provided and the related revenue
is recognized. Traffic commissions for transportation not yet provided are recorded on the
consolidated balance sheets as a prepaid expense. F-13




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CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) (u) Maintenance and overhaul costs Routine maintenance and repairs, and overhauls in respect of owned aircraft and aircraft held
under capital leases are expensed in the consolidated statements of operations as and when
incurred. In respect of aircraft held under operating leases, a provision is made over the lease
term for the estimated cost of overhauls required to be performed on the related aircraft prior to
their return to the lessors. (v) Borrowing costs Borrowing costs are expensed in the consolidated statements of operations as and when
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
expenditures for the asset are 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 ceases when substantially all the activities necessary to prepare the qualifying
asset for its intended use are complete. (w) Retirement benefits Contributions to retirement schemes and additional retirement benefits paid to retired
employees are charged to the consolidated statements of operations as and when incurred (Note 25). (x) Frequent flyer award programs The Group maintains two frequent flyer award programs, 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 programs is
recognized when the related transportation services are provided. (y) Translation of foreign currencies Transactions in foreign currencies are translated into Renminbi at the applicable rates of
exchange quoted by the Peoples Bank of China (PBOC rates) prevailing on the transaction dates.
Monetary assets and liabilities denominated in foreign currencies at the balance sheet date are
translated into Renminbi at the PBOC rates at the balance sheet date. Non-monetary assets and
liabilities that are measured in terms of historical cost in a foreign currency are translated
into Renminbi at the PBOC rates prevailing on the transaction dates. F-14




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CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) (z) Related parties For the purposes of these consolidated financial statements, parties are considered to be
related to the Group if the Group has the ability, directly or indirectly, to control the party or
exercise significant influence over the party in making financial and operating decisions, or vice
versa, or where the Group and the party are subject to common control or common significant
influence. Related parties may be individuals or entities. (aa) 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. (ab) Basic earnings/(loss) per share Basic earnings/(loss) per share for the years ended December 31, 2002, 2003 and 2004 have
been computed by dividing net income/(loss) of RMB576, RMB(358), and RMB(48) respectively, by the
weighted average number of shares in issue of 3,374,178,000 in 2002, 3,831,712,000 in 2003, and
4,374,178,000 in 2004, respectively. The amount of diluted earnings/(loss) per share is not presented as there were no dilutive
potential ordinary shares in existence during the years ended December 31, 2002, 2003 and 2004. F-15




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CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) 3. TRAFFIC REVENUE Traffic revenue is stated net of sales tax. In addition, traffic revenue for the year ended
December 31, 2002 and four-month period ended April 30, 2003 was stated net of contributions to
the CAAC Infrastructure Development Fund. An analysis of traffic revenue is as follows: Year ended December 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBPassenger
    
    
    15,696
    
    
    
    15,010
    
    
    
    21,100Cargo and mail
    
    
    1,786
    
    
    
    1,955
    
    
    
    2,24417,482
    
    
    
    16,965
    
    
    
    23,344
 Pursuant to various PRC 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 regional flights during the
years ended December 31, 2002, 2003 and 2004, except for the period from May 1, 2003 to December
31, 2003 when passenger revenue was exempted from sales tax. Sales tax incurred by the Group for
the years ended December 31, 2002, 2003 and 2004, netted off against revenue, amounted to RMB558,
RMB206, and RMB716 respectively. In addition, the Group is required to pay contributions to the CAAC Infrastructure
Development Fund. Prior to May 1, 2003, contributions to CAAC Infrastructure Development Fund were
payable at 5% and 2% respectively of the domestic and international/Hong Kong regional traffic
revenue. For the period from May 1, 2003 to March 31, 2004, the Group was exempted from paying any
contributions. Effective from April 1, 2004, contributions to the CAAC Infrastructure Development
Fund are payable based on the traffic capacity deployed by the Group on its routes. The
contributions now form part of the flight operations expenses and amounted to RMB466 million for
the year ended December 31, 2004. The contributions for the years ended December 31, 2002 and
2003 amounted to RMB798 and RMB251, respectively were netted off against traffic revenue. Pursuant to approval documents issued by the CAAC, the Group imposes a fuel surcharge on
passengers carried by its domestic and Hong Kong regional flights at certain prescribed rates on
ticket fares. The fuel surcharge forms part of the traffic revenue of the Group. For the years
ended December 31, 2002, 2003 and 2004, the fuel surcharge revenue of the Group totaled
approximately RMB554, RMB740 and RMB348, respectively. F-16




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CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) 4. OTHER OPERATING REVENUE Year ended December 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBCommission income
    
    
    138
    
    
    
    140
    
    
    
    203General aviation income
    
    
    68
    
    
    
    40
    
    
    
    55Ground services income
    
    
    79
    
    
    
    99
    
    
    
    146Air catering income
    
    
    38
    
    
    
    31
    
    
    
    53Net income from lease arrangements (Note 14)
    
    
    52
    
    
    
    69
    
    
    
    Rental income
    
    
    
    
    
    
    40
    
    
    
    45Aircraft lease income
    
    
    47
    
    
    
    
    
    
    
    11Other
    
    
    115
    
    
    
    86
    
    
    
    117537
    
    
    
    505
    
    
    
    630
 5. FLIGHT OPERATIONS EXPENSES Year ended December 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBFuel costs
    
    
    3,519
    
    
    
    3,867
    
    
    
    6,050Operating lease rentals
    
    
    1,417
    
    
    
    1,536
    
    
    
    1,665Air catering expenses
    
    
    625
    
    
    
    510
    
    
    
    705Aircraft insurance
    
    
    256
    
    
    
    196
    
    
    
    185Flight personnel payroll and welfare
    
    
    781
    
    
    
    728
    
    
    
    1,026Training expenses
    
    
    39
    
    
    
    123
    
    
    
    183CAAC Infrastructure Development fund
    
    
    
    
    
    
    
    
    
    
    466Other
    
    
    96
    
    
    
    110
    
    
    
    1386,733
    
    
    
    7,070
    
    
    
    10,418
 F-17




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CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) 6. MAINTENANCE EXPENSES Year ended December 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBRepairing and maintenance charges
    
    
    1,842
    
    
    
    2,077
    
    
    
    2,734Maintenance materials
    
    
    292
    
    
    
    300
    
    
    
    422Labor costs
    
    
    130
    
    
    
    139
    
    
    
    227Other
    
    
    69
    
    
    
    73
    
    
    
    762,333
    
    
    
    2,589
    
    
    
    3,459
 Details of provision for major overhauls in respect of aircraft held under operating leases
are as follows: Year ended December 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBBalance at beginning of year
    
    
    187
    
    
    
    194
    
    
    
    200Additional amount provided
    
    
    49
    
    
    
    68
    
    
    
    89Through the CNA/XJA Acquisitions
    
    
    
    
    
    
    
    
    
    
    70Amount utilized
    
    
    (42
    )
    
    
    (62
    )
    
    
    Balance at end of year
    
    
    194
    
    
    
    200
    
    
    
    359
 Balance of provision for major overhauls at December 31, 2003 and 2004 consisted of: December 31,2003
    
    
    2004RMB
    
    
    RMBCurrent portion (included in accrued expenses) (Note 19)
    
    
    11
    
    
    
    75Non-current portion
    
    
    189
    
    
    
    284200
    
    
    
    359
 F-18




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CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) 7. AIRCRAFT AND TRAFFIC SERVICING EXPENSES Year ended December 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBLanding and navigation fees
    
    
    2,353
    
    
    
    2,562
    
    
    
    3,222Ground service charges
    
    
    158
    
    
    
    205
    
    
    
    2812,511
    
    
    
    2,767
    
    
    
    3,503
 8. PROMOTION AND SALES EXPENSES Year ended December 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBSales commissions
    
    
    750
    
    
    
    757
    
    
    
    1,062Ticket office expenses
    
    
    516
    
    
    
    504
    
    
    
    552Computer reservation services
    
    
    175
    
    
    
    175
    
    
    
    233Advertising and promotion
    
    
    31
    
    
    
    24
    
    
    
    36Other
    
    
    28
    
    
    
    20
    
    
    
    571,500
    
    
    
    1,480
    
    
    
    1,940
 9. GENERAL AND ADMINISTRATIVE EXPENSES Year ended December 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBGeneral corporate expenses
    
    
    659
    
    
    
    680
    
    
    
    696Salaries and welfare
    
    
    380
    
    
    
    339
    
    
    
    575Provision for doubtful accounts (Note 33)
    
    
    1
    
    
    
    12
    
    
    
    27Other taxes and levies
    
    
    20
    
    
    
    22
    
    
    
    251,060
    
    
    
    1,053
    
    
    
    1,323
 F-19




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) 10. TAXATION EXPENSE/(CREDIT) On October 17, 2003, the Companys registered address was moved to Guangzhou Economic &
Technology Development Zone. In accordance with the Rules and Regulations for Implementation of
Income Tax for Foreign Investment Enterprises and Foreign Enterprises of the PRC and a taxation
approval document Guangzhou Municipal State Tax Bureau Suo De Shui Zi Que 020043, the Company is
entitled to enjoy the preferential tax policy implemented in the Guangzhou Economic & Technology
Development Zone effective October 1, 2003. As a result, the Companys income tax rate has been
changed from 33% to 15% beginning from that date. As a result of the reduction in income tax rate, the Companys net deferred tax liability
balance at January 1, 2003 of RMB507 was reduced by RMB392. Accordingly, a net deferred tax credit
of RMB392 was recognized in the consolidated statement of operations for the year ended December
31, 2003. In respect of the Groups overseas airline activities, the Group has either obtained
exemptions from overseas taxation pursuant to the bilateral aviation agreements between the
overseas governments and the PRC government, or has sustained tax losses in these overseas
jurisdictions. Accordingly, no provision for overseas tax has been made for the years ended
December 31, 2002, 2003 and 2004. Taxation expense/(credit) consisted of: Year ended December 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBPRC income tax:Company and subsidiaries
    
    
    72
    
    
    
    47
    
    
    
    176Affiliated companies
    
    
    9
    
    
    
    3
    
    
    
    2Jointly controlled entities
    
    
    
    
    
    
    7
    
    
    
    1181
    
    
    
    57
    
    
    
    189Deferred tax (Note 21)- current year
    
    
    317
    
    
    
    11
    
    
    
    (111
    )- adjustment for change in enacted tax rate
    
    
    
    
    
    
    (392
    )
    
    
    398
    
    
    
    (324
    )
    
    
    78
 F-20




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##### Table of Contents



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 statements of operations for the years ended
December 31, 2002, 2003 and 2004 differed from the amounts computed by applying the PRC income tax
rate of 33%, 15% and 15%, respectively, to income/(loss) before taxation and minority interests as
a result of the following: Year ended December 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBExpected PRC taxation expense/(credit)
    
    
    376
    
    
    
    (77
    )
    
    
    35Adjustments:Gains on sale and leaseback transactions and
their amortization
    
    
    (1
    )
    
    
    
    
    
    
    Effect on change in income tax rate
on deferred taxation
    
    
    
    
    
    
    (392
    )
    
    
    Rate differential on subsidiaries
    
    
    (60
    )
    
    
    5
    
    
    
    Non-deductible expenses
    
    
    61
    
    
    
    80
    
    
    
    40Unrecognized tax losses
    
    
    
    
    
    
    22
    
    
    
    Expired tax losses
    
    
    
    
    
    
    34
    
    
    
    Other, net
    
    
    22
    
    
    
    4
    
    
    
    3398
    
    
    
    (324
    )
    
    
    78
 All but an insignificant amount of income/(loss) before taxation is from domestic sources. 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 Tax Bureau, lease arrangements executed prior to September 1,
1999 were exempted from PRC withholding tax. The PRC withholding tax payable by the Group for the years ended December 31, 2002, 2003 and
2004 of RMB14, RMB8 and RMB23, respectively, in respect of the operating leases executed after
September 1, 1999 has been included as part of the operating lease rentals. F-21




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) 11. CASH AND CASH EQUIVALENTS As of December 31, 2003 and 2004, cash and cash equivalents comprise cash at bank and in hand
and deposits with Southern Airlines Group Finance Company Limited (SA Finance), a PRC authorized
financial institution controlled by CSAHC and an affiliated company of the Group. In accordance
with the financial agreement dated May 22, 1997 between the Company and SA Finance, all the
Groups deposits accepted by SA Finance as of December 31, 2003 and 2004 were simultaneously
placed with several designated major PRC banks by SA Finance. As of December 31, 2003 and 2004,
the Groups deposits with SA Finance amounted to RMB366 and RMB406, respectively (Note 26). 12. TRADE RECEIVABLES December 31,2003
    
    
    2004RMB
    
    
    RMBTrade receivables, principally traffic
    
    
    904
    
    
    
    1,295Less: Allowance for doubtful accounts (Note 33)
    
    
    70
    
    
    
    92834
    
    
    
    1,203
 13. SHORT TERM INVESTMENTS December 31,2003
    
    
    2004RMB
    
    
    RMBEquity securities held for trading
    
    
    
    
    
    
    523Debt security held-to-maturity
    
    
    
    
    
    
    160
    
    
    
    683
 Net realized gains on equity securities held for trading during the year ended December 31,
2003 and 2004 were RMB Nil and RMB 13, respectively, and are included in consolidated statement of
operations. Net unrealized gains on equity securities held for trading during the year ended
December 31, 2003 and 2004 were RMB Nil and RMB 3, respectively, and are included in consolidated
statement of operations. F-22




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) The amortized cost, gross unrealized holding gains, gross unrealized holding losses, and fair
value of debt security held-to-maturity as of December 31, 2003 and 2004 were as follows: Gross
    
    
    Grossunrealized
    
    
    unrealizedAmortized
    
    
    holding
    
    
    holdingcost
    
    
    gains
    
    
    losses
    
    
    Fair valueRMB
    
    
    RMB
    
    
    RMB
    
    
    RMBAs of December 31, 2003Debt security held-to-maturity
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    As of December 31, 2004Debt security held-to-maturity
    
    
    160
    
    
    
    
    
    
    
    
    
    
    
    160
 F-23




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) 14. PROPERTY, PLANT AND EQUIPMENT, NET Other flightAircraft
    
    
    equipment,
    
    
    Machinery,Held under
    
    
    including
    
    
    equipmentfinance
    
    
    rotable
    
    
    andBuildings
    
    
    Owned
    
    
    leases
    
    
    spares
    
    
    vehicles
    
    
    TotalCost or valuation:At 1 January 2004
    
    
    3,288
    
    
    
    17,222
    
    
    
    10,463
    
    
    
    6,842
    
    
    
    1,930
    
    
    
    39,745Exchange adjustments
    
    
    5
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    12
    
    
    
    17Reclassification on exercise
of purchase options
    
    
    
    
    
    
    550
    
    
    
    (550
    )
    
    
    
    
    
    
    
    
    
    
    Additions
    
    
    336
    
    
    
    4,156
    
    
    
    
    
    
    
    525
    
    
    
    5
    
    
    
    5,022Transferred from
construction
in progress
    
    
    2,472
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    235
    
    
    
    2,707Through the CNA/XJA Acquisitions
    
    
    915
    
    
    
    5,206
    
    
    
    4,616
    
    
    
    1,753
    
    
    
    490
    
    
    
    12,980Disposals
    
    
    (28
    )
    
    
    
    
    
    
    
    
    
    
    (76
    )
    
    
    (73
    )
    
    
    (177
    )At 31 December 2004
    
    
    6,988
    
    
    
    27,134
    
    
    
    14,529
    
    
    
    9,044
    
    
    
    2,599
    
    
    
    60,294Representing:Cost
    
    
    6,633
    
    
    
    20,905
    
    
    
    10,189
    
    
    
    6,870
    
    
    
    2,115
    
    
    
    46,712Valuation  1996
    
    
    355
    
    
    
    6,229
    
    
    
    4,340
    
    
    
    2,174
    
    
    
    484
    
    
    
    13,5826,988
    
    
    
    27,134
    
    
    
    14,529
    
    
    
    9,044
    
    
    
    2,599
    
    
    
    60,294Accumulated depreciation:At 1 January 2004
    
    
    594
    
    
    
    3,192
    
    
    
    2,605
    
    
    
    3,644
    
    
    
    1,174
    
    
    
    11,209Exchange adjustments
    
    
    1
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    9
    
    
    
    10Reclassification on exercise
of purchase options
    
    
    
    
    
    
    183
    
    
    
    (183
    )
    
    
    
    
    
    
    
    
    
    
    Charge for the year
    
    
    179
    
    
    
    956
    
    
    
    472
    
    
    
    544
    
    
    
    212
    
    
    
    2,363Written back on disposal
    
    
    (17
    )
    
    
    
    
    
    
    
    
    
    
    (51
    )
    
    
    (61
    )
    
    
    (129
    )At 31 December 2004
    
    
    757
    
    
    
    4,331
    
    
    
    2,894
    
    
    
    4,137
    
    
    
    1,334
    
    
    
    13,453Net book value:At 31 December 2004
    
    
    6,231
    
    
    
    22,803
    
    
    
    11,635
    
    
    
    4,907
    
    
    
    1,265
    
    
    
    46,841At 31 December 2003
    
    
    2,694
    
    
    
    14,030
    
    
    
    7,858
    
    
    
    3,198
    
    
    
    756
    
    
    
    28,536
 F-24




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) 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 five years commencing in the second quarter of 1997 pursuant to various lease
agreements between the Group and CSAHC. The leases with initial one-year term are automatically
renewable for another one-year period unless the Group gives appropriate notice of termination. In
this connection, rental payments totaling RMB15, RMB15 and RMB18 were paid to CSAHC for each of the
years ended December 31, 2002, 2003 and 2004 respectively in respect of these leases (Note 24). The Group is obligated under various capital leases for aircraft that expire at various dates
during the next nine years. The gross amount of aircraft and related accumulated amortization
recorded under capital leases are as follows: December 31,2003
    
    
    2004RMB
    
    
    RMBAircraft
    
    
    10,463
    
    
    
    14,529Less: Accumulated amortization
    
    
    2,605
    
    
    
    2,8947,858
    
    
    
    11,635
 As of December 31, 2003 and 2004, certain aircraft of the Group with an aggregate carrying
amount of approximately RMB6,718 and RMB11,927, respectively, were mortgaged under certain loan
agreements (Note 17). 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. In accordance with IAS 16 Property, Plant and Equipment, subsequent to the 1996 revaluation,
which was based on replacement costs, 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 and impairment losses. 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. In accordance with the revaluation performed by the directors in
respect of property, plant and equipment held by the Group as of December 31, 2000, the carrying
amounts of property, plant and equipment did not differ materially from their respective fair
value. F-25




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) The effect of the above revaluation was to increase annual depreciation charges of the Group
by approximately RMB33, RMB33 and RMB13, respectively, for 2002, 2003 and 2004. During 2002, pursuant to certain sale and leaseback arrangements, the Group sold four Boeing
757-200 aircraft, to independent third parties and then entered into operating leases with such
parties to lease back the aircraft for a period of eight to nine years. The Group recognized a
gain of RMB199, being the excess of the sale proceeds which approximated the aircrafts fair value
on the date of disposal over the aircrafts net book value and related disposal costs. During
2003, the Group incurred a loss of RMB20 on early retirement of two old Boeing 737-200 aircraft.
Such gain/loss was included under the sub-item Gain/(loss) on sale of property, plant and
equipment under Non-operating income/(expenses) in the consolidated statements of operations. In 2003, the Group entered into operating lease arrangements to lease certain flight training
facilities and buildings to Zhuhai Xiang Yi Aviation Technology Company Limited (Zhuhai Xiang
Yi), a jointly controlled entity of the Group. The leases with initial one-year term are
automatically renewable for another one year unless either party gives appropriate notice of
termination. In this connection, rental income totaling RMB34 was received by the Group for each
of the years ended December 31, 2003 and 2004 in respect of the leases. As of December 31, 2004,
the cost and accumulated depreciation of the relevant property, plant and equipment totaled RMB787
and RMB514, respectively. Depreciation of relevant property, plant and equipment recognized for
each of the year ended December 31, 2003 and 2004 amounted to RMB55. As of December 31, 2004, the
Groups rental receivable in respect of the leases due in 2005 amounted to RMB34. During 2002, the Group entered into arrangements to lease several of its aircraft to
independent third parties. The terms of such leases generally range from one to twelve months. 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 favour of the lessors. 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, 2003 and 2004, the net present value of the lease commitments and the
corresponding defeased deposits and debt securities amounted to RMB2,409 and RMB
2,462, respectively. As a result of the Arrangements, the Group received net cash benefits of
RMB52 and RMB69 in 2002 and 2003, respectively, which have been recognized as income for the
respective years. F-26




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) As of December 31, 2004 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 new airport,
Guangzhou Baiyun International Airport, in which the Group has interests and for which such
certificates have not been granted. As of December 31, 2004, carrying value of such properties of
the Group amounted to RMB2,477. 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. 15. CONSTRUCTION IN PROGRESS As of December 31, 2003 and 2004, included in construction in progress was an amount of
RMB1,446 and RMB319, respectively, in relation to the construction of facilities in the Guangzhou
new airport. 16. INVESTMENTS December 31,2003
    
    
    2004RMB
    
    
    RMBShare of net assets in affiliated companies
    
    
    422
    
    
    
    429Share of net assets in jointly controlled entities
    
    
    731
    
    
    
    782Other investments, at cost
    
    
    204
    
    
    
    2721,357
    
    
    
    1,483
 Details of the Groups principal affiliated companies and jointly controlled entities are set
out in Note 30. F-27




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) 17. DEBT Short-term notes payable December 31,2003
    
    
    2004RMB
    
    
    RMBShort-term notes payable
    
    
    6,409
    
    
    
    9,925
 As of December 31, 2003 and 2004, borrowings under short-term notes payable of the Group
totaling RMB130 and RMB411, respectively, were guaranteed by CSAHC. In addition, as of December
31, 2003, borrowings under short-term notes payable of the Group totaling RMB63 and RMB21 were
guaranteed by Guangzhou Baiyun International Airport Company Limited and Shenzhen Yingshun
Investment Development Company Limited, respectively. These notes payable were fully repaid in
2004. Borrowings under short-term notes payable are used primarily to finance working capital needs
and are repayable in full on the respective due dates with interest rates ranging from 1.17% to
5.31%. The Groups weighted average interest rate on short-term notes payable was 1.76% and 1.60%,
respectively, as of December 31, 2003 and 2004. F-28




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) Long-term notes payable December 31,Interest rate and final maturity
    
    2003
    
    
    2004RMB
    
    
    RMBRenminbi denominated notes payable:Fixed interest rates ranging from 4.80%
to 6.03% per annum as of December 31, 2004,
with maturities through 2009.
    
    
    
    
    
    
    1,628Floating interest rates ranging from 4.94%
to 5.76% per annum as of December 31, 2004,
with maturities through 2004.
    
    
    76
    
    
    
    1,217Non-interest bearing loan from a municipal
government authority, repayable in 2005.
    
    
    3
    
    
    
    3U.S. dollar denominated notes payable:Fixed interest rates ranging from 2.18%
to 8.35% per annum as of December 31, 2004,
with maturities through 2014.
    
    
    2,626
    
    
    
    2,676Floating interest rates ranging from 6 months LIBOR
+ 0.3% to 1.20% per annum as of December 31, 2004,
with maturities through 2014.
    
    
    2,505
    
    
    
    6,578Floating interest rates ranging from 3 months LIBOR
+ 0.65% to 0.90% per annum as of December 31, 2004,
with maturities through 2011.
    
    
    
    
    
    
    1,4265,210
    
    
    
    13,528Less: current installments
    
    
    (688
    )
    
    
    (1,593
    )4,522
    
    
    
    11,935
 As of December 31, 2003 and 2004, borrowings under long-term notes payable of the Group
totaling RMB2,565 and RMB2,172, respectively, were guaranteed by certain financial institutions and
secured by the mortgages over certain of the Groups aircraft. In addition, as of December 31, 2003
and 2004, borrowings under long-term notes payable of the Group totaling RMB229 and RMB2,041,
respectively, were guaranteed by CSAHC and RMB10 and RMB9, respectively, were guaranteed by SA
Finance. As of December 31, 2004, the Group had banking facilities with several PRC commercial banks
for providing loan finance up to an approximate amount of RMB35,750. As of December 31, 2004, an
approximate amount of RMB11,525 was utilized. The aggregate annual maturities of long-term notes payable for each of the five years
subsequent to December 31, 2004 and thereafter are as follows: F-29




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) RMBYear ending December 31,2005
    
    
    1,5932006
    
    
    1,6262007
    
    
    4,1392008
    
    
    1,0552009
    
    
    1,228Thereafter
    
    
    3,88713,528
 Interest expense, net of the amounts capitalized, represents: Year ended December 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBInterest incurred
    
    
    1,023
    
    
    
    907
    
    
    
    725Interest capitalized
    
    
    (64
    )
    
    
    (83
    )
    
    
    (34
    )Interest expense
    
    
    959
    
    
    
    824
    
    
    
    691
 Interest rates per annum at which borrowing costs were capitalized were 5.70%, 1.62% to
5.46%, and 1.51% to 3.48% respectively, for the years ended December 31, 2002, 2003 and 2004. F-30




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) 18. LEASE OBLIGATIONS Capital leases As of December 31, 2004, the Group leased 47 aircraft under capital leases. The majority of
these leases have terms of 10 to 15 years, and expiry dates range from 2005 through 2013. As of December 31, 2004, future payments under these capital leases, which were 67% and 33%,
respectively, denominated in U.S. dollars and Japanese yen, are as follows: Payments
    
    
    *Interest
    
    
    ObligationsRMB
    
    
    RMB
    
    
    RMBYear ending December 31,2005
    
    
    2,580
    
    
    
    436
    
    
    
    2,1442006
    
    
    3,213
    
    
    
    350
    
    
    
    2,8632007
    
    
    2,844
    
    
    
    279
    
    
    
    2,5652008
    
    
    2,699
    
    
    
    146
    
    
    
    2,5532009
    
    
    997
    
    
    
    71
    
    
    
    926Thereafter
    
    
    722
    
    
    
    30
    
    
    
    69213,055
    
    
    
    1,312
    
    
    
    11,743Less: current instalments of obligations under capital leases
    
    
    (2,144
    )9,599
 
 *
    
    Interest rates ranged from 1.92% to 8.48% Under the terms of the leases, the Group has an option to purchase, at or near the end
of the lease term, certain aircraft at fair market value and others at either fair market value or
a percentage of the respective lessors defined cost of the aircraft. Security, including charges over the assets concerned and relevant insurance policies, is
provided to the lessors. In addition to the assets mortgaged as security under certain loan agreements (Note 14),
certain of the Groups aircraft with an aggregate carrying amount of RMB7,858 and RMB11,635,
respectively, as of December 31, 2003 and 2004 were mortgaged to secure facilities with financial
institutions granted to lessors totaling RMB6,841 and RMB11,743, respectively, on these dates. F-31




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) Operating leases As of December 31, 2004, future minimum lease payments under non-cancellable aircraft and
flight equipment operating leases were as follows (principally denominated in U.S. dollars): RMBYear ending December 31,2005
    
    
    1,7612006
    
    
    1,6222007
    
    
    1,5622008
    
    
    5,2592009
    
    
    764Thereafter
    
    
    1,782Total minimum lease payments
    
    
    12,750
 Amounts charged to rental expenses for operating leases for the years ended December 31, 2002,
2003 and 2004 totaled RMB1,348, RMB1,409 and RMB1,475, respectively. All of the Groups obligations under capital and operating leases are guaranteed by financial
institutions. 19. ACCRUED EXPENSES December 31,2003
    
    
    2004RMB
    
    
    RMBLanding and navigation fees
    
    
    826
    
    
    
    1,331Duties and levies
    
    
    337
    
    
    
    71Fuel
    
    
    255
    
    
    
    743Interest
    
    
    158
    
    
    
    240Lease charges
    
    
    18
    
    
    
    29Accrued salaries, wages and benefits
    
    
    197
    
    
    
    349Repairs and maintenance
    
    
    287
    
    
    
    976Seat reservation
    
    
    55
    
    
    
    195Air catering
    
    
    114
    
    
    
    192Current portion of provision for major overhauls (Note 6)
    
    
    11
    
    
    
    75Lump sum housing benefits payable (Note 25)
    
    
    129
    
    
    
    69Other
    
    
    141
    
    
    
    2812,528
    
    
    
    4,551
 F-32




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CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) 20. DEFERRED CREDITS December 31,2003
    
    
    2004RMB
    
    
    RMBOperating lease rebates
    
    
    7
    
    
    
    39Governmental subsidy for safety related capital expenditures
    
    
    40
    
    
    
    40Capital lease rebates
    
    
    
    
    
    
    2147
    
    
    
    100Movements during the year are as follows:Balance at beginning of year
    
    
    48
    
    
    
    47Additions through the CNA/XJA Acquisitions
    
    
    
    
    
    
    56Transferred to consolidated statements of operations
    
    
    (1
    )
    
    
    (3
    )Balance at end of year
    
    
    47
    
    
    
    100
 Operating lease rebates Pursuant to certain aircraft operating lease arrangements, the Group received cash rebates
from the lessors. Such rebates have been deferred and amortized over the terms of the respective
leases. Governmental subsidy for safety related capital expenditures During 2002, the Group received governmental subsidy for safety related capital expenditures
amounting to RMB40 for enhancing future flight protection and safety standards. Such governmental
subsidy is to be amortized over the depreciable lives of the related property, plant and
equipment. Capital lease rebates Pursuant to certain aircraft capital lease arrangements, the Group received cash rebates upon
the inception of the respective leases. The benefits are initially deferred and amortized over the
terms of the respective leases to reduce the future capital lease charges. F-33




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CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) 21. DEFERRED TAX LIABILITIES Movements in net deferred tax liabilities are as follows: December 31,2003
    
    
    2004RMB
    
    
    RMBBalance at beginning of year
    
    
    (779
    )
    
    
    (398
    )Transferred to consolidated statements
of operations (Note 10) current year
    
    
    (11
    )
    
    
    111 adjustment for change in income tax rate
    
    
    392
    
    
    
    Balance at end of year
    
    
    (398
    )
    
    
    (287
    )
 The net deferred tax (liabilities)/assets as of December 31, 2003 and 2004 were made up of
the following taxation effects: December 31,2003
    
    
    2004RMB
    
    
    RMBDeferred tax assets:Tax losses
    
    
    223
    
    
    
    39Repair charges capitalized
    
    
    261
    
    
    
    254Accrued expenses
    
    
    107
    
    
    
    275Other
    
    
    9
    
    
    
    21Total deferred tax assets
    
    
    600
    
    
    
    589Deferred tax liabilities:Accrued expenses
    
    
    81
    
    
    
    75Depreciation of property, plant and equipment
    
    
    848
    
    
    
    752Other
    
    
    69
    
    
    
    49Total deferred tax liabilities
    
    
    998
    
    
    
    876Net deferred tax liabilities
    
    
    (398
    )
    
    
    (287
    )
 F-34




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CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) As of December 31, 2004, the Group had tax losses for PRC income tax purposes totaling
approximately RMB260. Such tax losses are available for carry forward to set-off against future
PRC assessable income for a maximum period of five years. Of these tax losses, approximately
RMB33, RMB42 and RMB185 will expire after December 31, 2007, 2008 and 2009, respectively. As of
December 31, 2004, the Group recorded a deferred tax asset of RMB39 for such tax losses. As of December 31, 2004, the Group had tax losses of approximately RMB303 available for
offset against future assessable profits arising from Hong Kong profits, if any, over an
indefinite period. The Group has not recognized a deferred tax asset in respect of such tax
losses as it would not be probable that future taxable profits will be available against which the
taxable losses can be utilized. 22. SHARE CAPITAL December 31,2003
    
    
    2004RMB
    
    
    RMBRegistered capital:2,200,000,000 domestic shares of RMB 1.00 each
    
    
    2,200
    
    
    
    2,2001,174,178,000 H shares of RMB 1.00 each
    
    
    1,174
    
    
    
    1,1741,000,000,000 A share of RMB1.00 each
    
    
    1,000
    
    
    
    1,0004,374
    
    
    
    4,374Issued and paid up capital:2,200,000,000 domestic shares of RMB 1.00 each
    
    
    2,200
    
    
    
    2,2001,174,178,000 H shares of RMB 1.00 each
    
    
    1,174
    
    
    
    1,1741,000,000,000 A share of RMB1.00 each
    
    
    1,000
    
    
    
    1,0004,374
    
    
    
    4,374
 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 share premium received by the Company, net of the issuance costs of RMB59, amounted
to RMB1,641 and was credited to share premium account. All the domestic, H and A shares rank pari passu in all material respects. As of December 31, 2003 and 2004, the retained earnings of the Group included RMB112 and
RMB81, respectively, of undistributed earnings of companies which are 50% or less owned by the
Group and accounted for under the equity method. F-35




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CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) 23. OTHER RESERVES December 31,2003
    
    
    2004RMB
    
    
    RMBStatutory surplus reserve (Note (a))Balance at beginning of year
    
    
    337
    
    
    
    361Transferred from consolidated statements of operations
    
    
    24
    
    
    
    41Balance at end of year
    
    
    361
    
    
    
    402Statutory public welfare fund (Note (b))Balance at beginning of year
    
    
    172
    
    
    
    173Transferred from consolidated statements of operations
    
    
    1
    
    
    
    20Balance at end of year
    
    
    173
    
    
    
    193Discretionary surplus reserve (Note (c))Balance at beginning of year and at end of year
    
    
    77
    
    
    
    77Total
    
    
    611
    
    
    
    672
 
 Notes: (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 incomes after taxation, as determined under relevant PRC accounting
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. 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. F-36




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CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) (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
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. (c) 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, if any. Pursuant to 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 regulations, and (ii) the net income determined in
accordance with IFRS; or if the financial statements of the Company are not prepared in accordance
with IFRS, the accounting standards of one of the countries in which its shares are listed (Note
28). 24. COMMITMENTS AND CONTINGENCIES Pursuant to the Reorganisation of CSAHC effected in 1995 (Note 1), the Company assumed the
airline and airline-related businesses together with the relevant assets and liabilities from
CSAHC. The Company has been advised by its PRC lawyers that, except for liabilities constituting or
arising out of or relating to the businesses assumed by the Company in the Reorganisation, no other
liabilities were assumed by the Company, and the Company is not jointly and severally liable for
other debts and obligations incurred by CSAHC prior to the Reorganisation. There are not, however,
any definitive PRC regulations or other pronouncements confirming such conclusion. 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. With respect to the facilities in Guangzhou, CSAHC has received written assurance from the
CAAC to the effect that CSAHC is entitled to continued use and occupancy of the land in Guangzhou.
The Group understands that the CAAC is basing its conclusion on an agreement among certain
government authorities relating to such land. Such assurance does not constitute formal evidence
of CSAHCs right to transfer, mortgage or lease such real property interests. 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 these parcels of land or the related facilities were
successfully challenged. 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-37




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CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) The Company is involved in a civil litigation (Hong Kong High Court Action No. 515 of 2001)
(Litigation) which commenced in 2003. According to the writ of summons for the Litigation, New
Link Consultants Limited, the plaintiff claimed unspecified damages against the Group (as one of
the defendants to the Litigation) for breach of the agreement on the basis of certain evidence
proving that United Aero-Supplies System of China, Limited (UASSC) entered into an agreement with
the defendants for exclusive purchase of aviation equipment consigned to UASSC for sale and, that
as the defendants failed to perform the agreement, UASSC should have the right to compensation.
Since UASSC is in the course of winding up proceedings, all the rights and benefits of UASSC in
connection with the claim have been transferred to the plaintiff. Based on the opinion given by the
Companys legal advisors, the directors of the Company consider that it is not probable that the
Company will have an unfavorable outcome from the claim and that a provision for such claim and/or
the associated legal costs is not required. As of December 31, 2004, the Group had on order five Boeing 737-700 aircraft, six Airbus
319-100 aircraft, fifteen Airbus 320-200 aircraft, two Airbus 321-200 aircraft, four Airbus
330-200 aircraft, one Embraer ERJ-145 aircraft and certain flight equipment, scheduled for
deliveries in 2005 to 2007. Deposits of RMB4,640 have been made towards the purchase of these
aircraft and related equipment. As of December 31, 2004, the approximate total future payments,
including estimated amounts for price escalation through anticipated delivery dates for these
aircraft and related equipment totaled approximately RMB 11,776. As of December 31, 2004, additional capital expenditures of approximately RMB1,524 have been
authorized, of which approximately RMB242 have been committed, for the Groups principal
facilities. Such expenditures comprised mainly RMB824 for facilities and equipment at the
Guangzhou new airport and RMB700 for other airport and office facilities and equipment, overhaul
and maintenance bases and training centers. As of December 31, 2004, the Group was committed to make capital contributions of
approximately RMB83 to its jointly controlled entities. 25. 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% (2003: 14% to 19%) 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. Contributions to the retirement schemes are charged to
consolidated statements of operations as and when incurred. Contributions to the retirement
schemes amounted to RMB112, RMB131 and RMB143, respectively, during 2002, 2003 and 2004. F-38




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CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) In addition, the Group was selected as one of the pilot enterprises to establish a
supplementary defined contribution retirement scheme for the benefit of employees. In this
connection, employees of the Group participate in a supplementary defined contribution retirement
scheme whereby the Group is required to make defined contributions at a rate of 4.5% of total
salaries. The Group has no obligation for the payment of pension benefits beyond the contributions
described above. Contributions to the retirement schemes are charged to consolidated statements of
operations as and when incurred. Contributions to the retirement schemes amounted to RMB19, RMB19
and RMB25, respectively, during 2002, 2003 and 2004. Furthermore, pursuant to the comprehensive services agreement (the Services Agreement) dated
May 22, 1997 between the Company and CSAHC, CSAHC agrees to provide adequate quarters to eligible
employees of the Group as and when required. In return, the Group agrees to pay a fixed annual fee
of RMB85 to CSAHC for a ten-year period effective January 1, 1995. During 2002, the Group provided additional quarters at its own expense to certain employees
who are not eligible for quarters pursuant to the Services Agreement. These quarters were provided
to the employees in accordance with the relevant PRC housing reform policy. In 2002, the Group
recognized a loss of RMB18, being the excess of the cost of these quarters over the considerations
received by the Group from the employees, under the sub-item Gain/(loss) on sale of property,
plant and equipment under Non-operating income/(expenses) in the consolidated statements of
operations. Subsequently, 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 housing. Such expenditure has been deferred and amortized on a
straight line basis over a period of 10 years, which represents the vesting benefit period of the
employees. 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 consolidated statements of operations. As of December 31, 2004,
the Group already made payments totaling RMB191 under the scheme and recorded its remaining
contractual liabilities totaling RMB69 as accrued expenses on its consolidated balance sheet (Note
19). Housing allowances are payable when applications are received from eligible employees. 26. RELATED PARTY TRANSACTIONS The Group obtained various operational and financial services provided by CSAHC and its
affiliates, and the Groups affiliated companies and jointly controlled entities during the normal
course of its business. In the past, CSAHC was under the direct control of the CAAC. However, such
control has been shifted to the China State-owned Assets Administration Bureau since early 2003.
Consequently, transactions with the CAAC and its affiliates beginning from 2003 are no longer
presented as related party transactions of the Group. The principal related party transactions are
described as follows: F-39




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) Allocation of routes and air fares Both domestic and international routes on which the Group and other PRC airlines offer
scheduled services are allocated by the CAAC. International air fares are subject to bilateral agreements between the CAAC, acting on behalf
of the PRC government, and other governments. Domestic air fares are regulated jointly by the CAAC
and the PRC Price Administrative Bureau. Procurement of aircraft, flight equipment and other airline-related facilities Certain PRC airlines, including the Group, were granted permission to acquire aircraft, flight
equipment and other airline-related facilities directly from manufacturers subject to the approval
of their fleet expansion plans by the relevant PRC government authorities. 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. Total purchases amounted to RMB584, RMB1,155 and RMB1,177, respectively, for 2002, 2003
and 2004. Handling fees totaling RMB36, RMB27 and RMB33, respectively, were paid to SAIETC for
2002, 2003 and 2004. Jet fuel supplies Jet fuel is subject to allocation in the PRC. The Group is required to purchase jet fuel
domestically from the China Aviation Oil Supply Company and Lan Tian Oil Supply Company, companies
controlled by the CAAC, at prices set by such suppliers in conjunction with the CAAC and other PRC
government authorities. During the periods presented, such prices exceeded the international
market prices. The cost of jet fuel purchased by the Group in accordance with such allocation was
RMB2,374 for 2002. The remainder of the Groups jet fuel was purchased from domestic markets and,
to a lesser extent, from international markets. Aircraft insurance Aviation insurance covering hull, war and passenger liability risk is arranged by the CAAC on
behalf of all PRC airlines with the Peoples Insurance (Property) Company of China (PICC) under a
master policy. PICC reinsures a substantial portion of its aircraft insurance business through the
international reinsurance market. Insurance premiums are allocated to each individual PRC airline
by the CAAC based on the value of the airlines aircraft and after taking into account the claims
history of the airline. Insurance premiums of RMB256 were incurred by the Group for 2002. F-40




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) Financial arrangements The Groups obligations under various lease and bank loan arrangements in connection with
aircraft acquisitions are secured by guarantees provided by certain PRC financial institutions
which obtained back-to-back guarantees from the CAAC. Guarantee fees of RMB1 were paid to these
financial institutions for 2002. Interest income is received from deposits with SA Finance. The applicable interest rate is
determined in accordance with the deposit rate published by the Peoples Bank of China. Interest
income totaling RMB11, RMB3 and RMB4, respectively, was earned by the Group on such deposits during
2002, 2003 and 2004 (Note 11). During 2003, CSAHC made short-term advances to the Group. These advances were unsecured,
interest free and fully repaid in 2004. Airline-related services The Group, jointly with other PRC airlines, participates in the CAACs computer reservation
system, under which the Group purchases computer reservation services from the CAAC at rates
determined based on the utilization of the system. Service fees paid by the Group to the CAAC for
2002 totaled RMB107. The Group utilizes the passenger departure and cargo handling computer systems installed by
the CAAC at certain PRC airports. Service fees are levied by the CAAC based on the utilization of
these systems. Service fees of RMB62 were by the Group to the CAAC for 2002. The Group is required to pay landing and navigation fees to various PRC airports in respect of
take-off and landing slots allocated to the Group and other ancillary services provided. Fees are
payable by the Group based on the scale rates published by the CAAC. Landing and navigation fees
of RMB1,668 were paid to various PRC airports for 2002. The Group purchases certain inflight meals and related services from Shenzhen Air Catering
Company Limited, a cooperative joint venture established in the PRC, in respect of which CSAHC is
entitled to 33% of its income after tax. Such purchases amounted to RMB29, RMB28 and RMB50,
respectively, during 2002, 2003 and 2004. 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 rate ranging from 1.5%
to 12% on the ticket value. Commission expenses incurred by the Group in respect of tickets sold
by certain subsidiaries of CSAHC totaled RMB17, RMB5 and RMB2, respectively, during 2002, 2003 and
2004. F-41




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) Commission is earned by the CAACs sales offices and various PRC airlines in connection with
the air tickets sold by them on behalf of the Group. Commission is calculated based on a fixed
rate ranging from 1.5% to 12% on the ticket value. Commission expenses incurred by the Group in
respect of tickets sold by the CAACs sales offices and various PRC airlines amounted RMB465 for
2002. Commission income received from other PRC airlines in connection with air tickets sold by
the Group, calculated based on a fixed rate ranging from 3% to 9% on the ticket value, totaled
RMB82 for 2002. Ground service fees are received from other PRC airlines in respect of ground services
provided by the Group and Baiyun International Airport Group at Guangzhou Baiyun International
Airport. The Group was entitled to 50% of the service fees. The Groups share of ground service
fees received totaled RMB40 for 2002. The Group has a 50% equity interest in both Guangzhou Aircraft Maintenance Engineering Company
Limited (GAMECO) and MTU Maintenance Zhuhai Co., Ltd (MTU Zhuhai), which provide comprehensive
maintenance services to the Group. Maintenance fees totaling RMB592, RMB693 and RMB1,159,
respectively, were incurred by the Group for services provided by GAMECO and MTU Zhuhai during
2002, 2003 and 2004. Certain sundry aviation supplies are purchased from Southern Airlines (Group) Economic
Development Company (SAGEDC), a subsidiary of CSAHC. Supplies totaling RMB101, RMB43 and RMB66,
respectively, were purchased by the Group from SAGEDC during 2002, 2003 and 2004. The Group has a 51% equity interest in Zhuhai Xiang Yi, which provides flight simulation
services to the Group. Flight simulation service charges totaling RMB101 and RMB100 were incurred
by the Group for services provided by Zhuhai Xiang Yi during 2003 and 2004 respectively. In
addition, the Group entered into operating lease agreements to lease certain flight training
facilities and buildings to Zhuhai Xiang Yi. Rental income received by the Group amounted to RMB34
each during 2003 and 2004 (Note 14). Advertising services Advertising services are provided by Southern Airlines Advertising Company (SA Advertising).
SA Advertising was a subsidiary of CSAHC up to July 2002. In August 2002, the Group acquired 90%
equity interest in SA Advertising from CSAHC. Expenses totaling RMB3 were incurred by the Group for
services provided by SA Advertising for 2002. Wet lease rentals During 2002 and 2003, wet lease rentals totaling RMB26 and RMB36 respectively, were paid to
Xinjiang Airlines Company, a subsidiary of CSAHC, pursuant to a wet lease agreement in respect of a
Boeing 757-200 aircraft effective October 2002. The wet lease agreement was terminated in April
2003. F-42




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) During the period from August to October 2002, the Group received wet lease rentals totaling
RMB28 from wet leasing of an Airbus 320-200 aircraft to Sichuan Airlines Corporation Limited, an
affiliated company of the Group. Refund of medical benefit payments Prior to January 1, 2002, the Group paid a fixed annual fee to CSAHC in return for CSAHC
providing medical benefit, transportation subsidies and other welfare facilities to the retirees of
the Group. Such arrangement was terminated on January 1, 2002. During 2003, CSAHC refunded RMB58
to the Group which represented the difference between the aggregate fixed annual fees received from the Group and the aggregate cost of services incurred by CSAHC
under the above agreement. Acquisition of aircraft and related spare parts and vehicles During 2002, the Group acquired five Boeing 737-300/37K aircraft and related spare parts and
certain vehicles from Zhongyuan Airlines, a subsidiary of CSAHC, at a consideration of
approximately RMB1,097. The consideration was satisfied by cash of approximately RMB132 together
with an assumption by the Group of Zhongyuan Airlines debts of approximately RMB965. In addition,
the Group obtained reimbursements of wet lease rentals totaling RMB150 which it paid to Zhongyuan
Airlines during the period from July 1, 2001 to December 31, 2001. Such reimbursements receivable
were applied to reduce the cash payable for the acquired assets. Acquisition of subsidiaries In August 2002, the Group acquired 90% equity interest in each of Guangzhou Aviation Hotel,
Southern Airlines Advertising Company and South China International Aviation & Travel Services
Company from CSAHC at an aggregate cash consideration of approximately RMB108. Such consideration
is determined by reference to the valuation reports prepared by Guangzhou Zhongtian Valuation
Company Limited, a firm of independent valuers registered in the PRC. These acquisitions are not
considered significant in the context of the Group. Acquisition of airline business related assets and liabilities As disclosed in Note 1 to the consolidated financial statements, on December 31, 2004, the
Group acquired the airline operations and certain related assets of CNA and XJA at a total
consideration of RMB15,522, which was partly satisfied by assumption of debts and liabilities of
CNA and XJA totaling RMB13,563 outstanding as of that date. The remaining consideration payable of
RMB1,959 is required to be satisfied in cash by December 31, 2005. F-43




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) Amounts due to related companies Amounts due to related companies, which represent balance with CSAHC and its affiliates, and
the Groups affiliated companies and jointly controlled entities, are unsecured, non-interest
bearing and repayable within one year. The balance as of December 31, 2002 also included balances
with the CAAC and its affiliates. Balances with other State-owned enterprises are excluded from
this caption, as other State-owned enterprises are not considered related parties of the Group. The
balance as of December 31, 2004 also included the above-mentioned cash consideration payable for
the CNA/XJA Acquisitions of RMB1,959 (Note 1). In addition to the above, certain business undertakings 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. The directors of the Company are of the opinion that the above transactions with related
parties were entered into in the normal course of business and on normal commercial terms or in
accordance with the agreements governing such transactions. 27. FAIR VALUE OF FINANCIAL INSTRUMENTS AND CONCENTRATIONS OF RISK Financial assets of the Group include cash and cash equivalents, trade receivables, other
receivables and short-term investments. Financial liabilities of the Group include notes payables,
amounts due to related companies, accounts payables, bills payable, other liabilities and taxes
payable. Liquidity risk As of December 31, 2003 and 2004, the Groups net current liabilities amounted to RMB10,792
and RMB18,855, respectively. For the years ended December 31, 2002, 2003 and 2004, the Group
recorded a net cash inflow from operating activities of RMB3,698, RMB2,129 and RMB3,596,
respectively, a net cash outflow from investing activities and financing activities of RMB2,745,
RMB3,819 and RMB2,593, respectively, and an increase/(decrease) in cash and cash equivalents of
RMB953, RMB(1,690) and RMB1,003, respectively. In 2005 and thereafter, the liquidity of the Group is primarily dependent on its ability to
maintain adequate cash inflow from operations to meet its debt obligations as they fall due, and on
its ability to obtain adequate external finance to meet its committed future capital expenditures.
The Group has obtained firm commitments from its principal bankers to renew its short-term bank
loans outstanding at December 31, 2004 when they fall due during 2005. In relation to its future
capital commitments and other financing requirements, the Group has already entered into loan
financing agreements with several PRC banks to provide loan finance up to an approximate amount of
RMB24,225 during 2005 and thereafter. The directors of the Company believe that such financing will
be available to the Group. F-44




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND 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, 2005. 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 loan 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. Business risk The Group conducts its principal operations in the PRC and accordingly is subject to special
considerations and significant risks not typically associated with investments in equity securities
of the United States of America and Western European companies. These include risks associated
with, among others, the political, economic and legal environment, influence of the CAAC over many
aspects of its operations, and competition, in the passenger, cargo and mail airline services
industry. Interest rate risk The interest rates and maturity information of the Groups notes payable and obligations under
capital leases of the Group are disclosed in Notes 17 and 18, respectively. Foreign currency risk 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 (SAFE), or
subject to certain restrictive conditions, entering into forward foreign exchange contracts with
authorized PRC banks. Credit risk Substantially all of the Groups cash and cash equivalents are deposited with PRC financial
institutions. 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. As of December 31, 2003 and 2004, the balance due
from BSP amounted to RMB446 and RMB411, respectively. F-45




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) Self insurance risk The Group maintains a limited amount of property insurance in respect of certain personal and
real property. Fair value The carrying amounts and estimated fair values of significant financial assets and liabilities
as of December 31, 2003 and 2004 are set out below. December 31,2003
    
    
    2004Carrying
    
    
    Fair
    
    
    Carrying
    
    
    Fairamount
    
    
    value
    
    
    amount
    
    
    valueRMB
    
    
    RMB
    
    
    RMB
    
    
    RMBCash and cash equivalents
    
    
    2,080
    
    
    
    2,080
    
    
    
    3,083
    
    
    
    3,083Trade receivables
    
    
    834
    
    
    
    834
    
    
    
    1,203
    
    
    
    1,203Other receivables
    
    
    296
    
    
    
    296
    
    
    
    616
    
    
    
    616Short term investments
    
    
    
    
    
    
    
    
    
    
    683
    
    
    
    683Notes payables
    
    
    11,619
    
    
    
    11,907
    
    
    
    23,453
    
    
    
    23,665Amounts due to related companies
    
    
    929
    
    
    
    929
    
    
    
    2,330
    
    
    
    2,330Accounts payables
    
    
    928
    
    
    
    928
    
    
    
    1,554
    
    
    
    1,554Bills payable
    
    
    438
    
    
    
    438
    
    
    
    136
    
    
    
    136Other liabilities
    
    
    1,020
    
    
    
    1,020
    
    
    
    2,974
    
    
    
    2,974Taxes payable
    
    
    90
    
    
    
    90
    
    
    
    39
    
    
    
    39
 The following methods and assumptions were used to estimate the fair value for each class of
financial instrument:  (i)
    
    Cash and cash equivalents, trade receivables, other receivables, short-term investments,
amounts due to related companies, accounts payables, bills payable, other liabilities and
taxes payable The carrying values approximate fair value because of the short maturities of these
instruments. F-46




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) (ii) 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. Other investments represents unquoted available-for-sale 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. 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. 28. FOREIGN CURRENCY EXCHANGE The Renminbi is not freely convertible into foreign currencies. All foreign exchange
transactions involving Renminbi must take place either through the Peoples Bank of China or other
institutions authorized to buy and sell foreign exchange or at a swap center. The Group currently maintains bank accounts in currencies other than the Renminbi to engage in
foreign exchange transactions. The amount of foreign exchange that can be retained by the Group
under this system is determined by the SAFE based on the Groups expected payment obligations in
foreign currencies for lease and debt payments and for dividends. Any amounts of foreign exchange
that the Group receives in excess of such amount must be converted into Renminbi at the rate
prevailing in the PRC inter-bank market. The Group will have access to foreign currency through
the inter-bank system, subject to the approval of the SAFE, to satisfy its foreign exchange
requirements where these exceed the amount of foreign exchange that the Group has retained. The Articles of Association of the Company require cash dividends be declared in Renminbi and
paid to holders of the H shares in Hong Kong dollars at the average closing exchange rate for Hong
Kong dollars as announced by the Peoples Bank of China for the calendar week preceding the date
of the dividend declaration. To the extent that the Company is unable to pay dividends in foreign
currency out of its own resources, it will have to obtain foreign currency through the swap
centers and PRC banks. Hong Kong dollar dividend payments will be converted by the depositary and
distributed to holders of American Depositary Shares in United States dollars. F-47




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) 29. RECONCILIATION AND SUPPLEMENTARY STATEMENTS OF CASH FLOWS INFORMATION  (a)
    
    The reconciliation of income/(loss) before taxation and minority interests to cash inflows
from operations is as follows: Year ended December 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBIncome/(loss) before taxation and minority interests
    
    
    1,139
    
    
    
    (511
    )
    
    
    233Adjustments to reconcile income/(loss) before taxation
and minority interests to cash inflows from operations:Depreciation and amortization of property, plant and equipment
    
    
    1,839
    
    
    
    1,998
    
    
    
    2,363Other amortization
    
    
    10
    
    
    
    40
    
    
    
    50Amortization of deferred credits
    
    
    (7
    )
    
    
    (2
    )
    
    
    (4
    )Equity income of affiliated companies
    
    
    (37
    )
    
    
    (48
    )
    
    
    (12
    )Equity loss of jointly controlled entities
    
    
    3
    
    
    
    39
    
    
    
    5(Gain)/loss on sale of aircraft
    
    
    (199
    )
    
    
    20
    
    
    
    Loss on sale of other property, plant and equipment
    
    
    29
    
    
    
    2
    
    
    
    1Interest income
    
    
    (53
    )
    
    
    (13
    )
    
    
    (22
    )Net realised and unrealised gain on equity securities
held for trading
    
    
    
    
    
    
    
    
    
    
    (15
    )Interest expense
    
    
    959
    
    
    
    824
    
    
    
    725Non-cash exchange loss, net
    
    
    175
    
    
    
    177
    
    
    
    42Increase in trade receivables
    
    
    (111
    )
    
    
    (162
    )
    
    
    (218
    )(Increase)/decrease in other receivables
    
    
    (166
    )
    
    
    77
    
    
    
    (166
    )Increase in deferred expenditure
    
    
    
    
    
    
    
    
    
    
    (2
    )(Increase)/decrease in inventories
    
    
    (76
    )
    
    
    2
    
    
    
    (29
    )Decrease/(increase) in prepaid expenses
and other current assets
    
    
    124
    
    
    
    (6
    )
    
    
    (31
    )(Decrease)/increase in accounts payables
    
    
    (62
    )
    
    
    396
    
    
    
    344Increase/(decrease) in bills payable
    
    
    1,300
    
    
    
    (862
    )
    
    
    (374
    )Increase in sales in advance of carriage
    
    
    20
    
    
    
    76
    
    
    
    408(Decrease)/increase in amounts due to related companies
    
    
    (193
    )
    
    
    404
    
    
    
    (586
    )Increase in accrued expenses
    
    
    86
    
    
    
    203
    
    
    
    507(Decrease)/increase in other liabilities
    
    
    (33
    )
    
    
    373
    
    
    
    1,223Increase in provision for major overhauls
    
    
    16
    
    
    
    48
    
    
    
    113Cash inflows from operations
    
    
    4,763
    
    
    
    3,075
    
    
    
    4,555
 (b) Disclosure of non-cash investing and financing activities: During 2002, the Group assumed from Zhongyuan Airlines debts totaling RMB965 in partial
satisfaction of the consideration payable for acquisition of five Boeing 737-300/37K aircraft and
other assets from Zhongyuan Airlines (Note 26). F-48




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) During 2004, the Group acquired the airline operation and related assets of CNA and XJA at a
total consideration of RMB15,522, which was partially satisfied by assumption of debts and
liabilities of CNA and XJA totaling RMB13,563 outstanding as of
December 31, 2004 (Note 1). (c) Effect of acquisition: Year ended December 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBNet assets acquired:Property, plant and equipment
    
    
    97
    
    
    
    
    
    
    
    12,980Cash and cash equivalents
    
    
    17
    
    
    
    
    
    
    
    398Trade receivables
    
    
    21
    
    
    
    
    
    
    
    314Inventories
    
    
    
    
    
    
    
    
    
    
    729Other
    
    
    
    
    
    
    
    
    
    
    1,101135
    
    
    
    
    
    
    
    15,522Notes payable
    
    
    
    
    
    
    
    
    
    
    4,587Obligations under capital leases
    
    
    
    
    
    
    
    
    
    
    6,125Accounts payables
    
    
    4
    
    
    
    
    
    
    
    343Accrued expenses and other liabilities
    
    
    11
    
    
    
    
    
    
    
    1,475Other
    
    
    
    
    
    
    
    
    
    
    1,03315
    
    
    
    
    
    
    
    13,563Net assets value
    
    
    120
    
    
    
    
    
    
    
    1,959Minority interests share of net assets value
    
    
    12
    
    
    
    
    
    
    
    Net assets value acquired by the Group
    
    
    108
    
    
    
    
    
    
    
    1,959Consideration paid
    
    
    108
    
    
    
    
    
    
    
    Cash and cash equivalents acquired
    
    
    18
    
    
    
    
    
    
    
    398Net cash outflow/(inflow) from acquisition
    
    
    90
    
    
    
    
    
    
    
    (398
    )
 F-49




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) 30. PRINCIPAL SUBSIDIARIES, AFFILIATED COMPANIES AND JOINTLY CONTROLLED ENTITIES Details of the Companys principal subsidiaries, affiliated companies and jointly controlled
entities as of December 31, 2004 are as follows: AttributablePlace of
    
    equity interestestablishment
    
    Direct
    
    Indirect
    
    PrincipalName of company
    
    /operation
    
    %
    
    %
    
    activitiesSubsidiariesGuangxi Airlines Company Limited
    
    PRC
    
    
    60
    
    
    
    
    
    
    AirlineSouthern Airlines (Group) Shantou
Airlines Company Limited
    
    PRC
    
    
    60
    
    
    
    
    
    
    AirlineZhuhai Airlines Company Limited
    
    PRC
    
    
    60
    
    
    
    
    
    
    AirlineGuizhou Airlines Company Limited
    
    PRC
    
    
    60
    
    
    
    
    
    
    AirlineXiamen Airlines Company Limited
    
    PRC
    
    
    60
    
    
    
    
    
    
    AirlineGuangzhou Air Cargo Company
Limited
    
    PRC
    
    
    70
    
    
    
    
    
    
    Cargo servicesGuangzhou Baiyun International
Logistics Company Limited
    
    PRC
    
    
    61
    
    
    
    
    
    
    Logistics operationsGuangzhou Nanland Air Catering
Company Limited
    
    PRC
    
    
    51
    
    
    
    
    
    
    Air cateringAffiliated companiesSouthern Airlines Group Finance
Company Limited
    
    PRC
    
    
    32
    
    
    
    15.42
    
    
    Provision of financial
servicesSichuan Airlines Corporation Limited
    
    PRC
    
    
    39
    
    
    
    
    
    
    AirlineJointly controlled entitiesGuangzhou Aircraft Maintenance
Engineering Company Limited (Note)
    
    PRC
    
    
    50
    
    
    
    
    
    
    Provision of aircraft repair
and maintenance servicesMTU Maintenance Zhuhai Co. Ltd.
    
    PRC
    
    
    50
    
    
    
    
    
    
    Provision of engine repair and maintenance servicesChina Postal Airlines Limited
    
    PRC
    
    
    49
    
    
    
    
    
    
    AirlineZhuhai Xiang Yi Aviation Technology
Company Limited
    
    PRC
    
    
    51
    
    
    
    
    
    
    Provision of flight
simulation training
services
 Certain of the Companys subsidiaries, affiliated companies and jointly controlled
entities are PRC joint ventures which have limited lives pursuant to PRC law. F-50




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) 31. 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 by geographical segment is
based on the following criteria: (i) Traffic revenue from domestic services within the PRC (excluding Hong Kong) is attributed to
the domestic operation. Traffic revenue from inbound/outbound services between the PRC and Hong
Kong, and the PRC and overseas destinations is attributed to the Hong Kong regional 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. Hong KongDomestic
    
    
    regional
    
    
    International*
    
    
    TotalRMB
    
    
    RMB
    
    
    RMB
    
    
    RMBYear ended December 31,
2002Traffic revenue
    
    
    13,198
    
    
    
    1,119
    
    
    
    3,165
    
    
    
    17,482Other revenue
    
    
    485
    
    
    
    
    
    
    
    52
    
    
    
    53713,683
    
    
    
    1,119
    
    
    
    3,217
    
    
    
    18,019Operating income
    
    
    1,615
    
    
    
    193
    
    
    
    218
    
    
    
    2,026Year ended December 31,
2003Traffic revenue
    
    
    13,087
    
    
    
    808
    
    
    
    3,070
    
    
    
    16,965Other revenue
    
    
    436
    
    
    
    
    
    
    
    69
    
    
    
    50513,523
    
    
    
    808
    
    
    
    3,139
    
    
    
    17,470Operating income / (loss)
    
    
    440
    
    
    
    (29
    )
    
    
    45
    
    
    
    456Year ended December 31,
2004Traffic revenue
    
    
    17,742
    
    
    
    1,180
    
    
    
    4,422
    
    
    
    23,344Other revenue
    
    
    630
    
    
    
    
    
    
    
    
    
    
    
    63018,372
    
    
    
    1,180
    
    
    
    4,422
    
    
    
    23,974Operating income
    
    
    650
    
    
    
    67
    
    
    
    192
    
    
    
    909
 
 *
    
    Asian market accounted for approximately 70%, 70% and 67%, respectively, of
the Groups total international traffic revenue for the years ended December 31,
2002, 2003 and 2004. The remaining portion was mainly derived from the Groups
flights to/from European and North American regions. F-51




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##### Table of Contents



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, most 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.
Substantially all of the Groups non-aircraft identifiable assets are located in PRC. F-52




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) 32. SUBSEQUENT EVENTS In January 2005, the Group, as a lessee, entered into an agreement with an independent lessor
for operating leases of nine Boeing 737-800 aircraft for a term of seven years with total future
lease payments totalling approximately RMB1,721, scheduled for deliveries in 2005 and 2006. In January 2005, China Aviation Supplies Import and Export Corporation, as a sole importing
agent, entered into, on behalf of several PRC airlines including the Group, a general purchase
agreement with the Boeing Company for the import of Boeing B7E7 aircraft. The Group, being one of
the ultimate users for thirteen of the Boeing B7E7 aircraft, endorsed the general purchase
agreement. The Group is currently in negotiation with the Boeing Company regarding the purchase
agreements on such aircraft. In March 2005, the Group, as a lessee, entered into another agreement with an independent
lessor for operating leases of a total of twenty-five aircraft comprising five Boeing 737-700
aircraft, five Boeing 737-800 aircraft, five Airbus 320-200 aircraft and ten Airbus 321-200
aircraft with scheduled deliveries in 2006 and 2007. The term of the lease ranges from ten to
twelve years with total future lease payments totalling approximately RMB8,243. In April 2005, the Group entered into a purchase agreement with Airbus SNC for the purchase of
five Airbus A380 aircraft, scheduled for deliveries in 2007 to 2010. 33. SUPPLEMENTARY INFORMATION Movements in allowance for doubtful accounts comprise: Year ended December 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBBalance at beginning of year
    
    
    59
    
    
    
    60
    
    
    
    70Provision for doubtful accounts (Note 9)
    
    
    1
    
    
    
    12
    
    
    
    27Through the
CNA/XJA acquisitions
    
    
    
    
    
    
    
    
    
    
    44Doubtful accounts written-off
    
    
    
    
    
    
    (2
    )
    
    
    (49
    )Balance at end of year (Note 12)
    
    
    60
    
    
    
    70
    
    
    
    92
 F-53




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CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) 34. SIGNIFICANT DIFFERENCES BETWEEN IFRS AND U.S. GAAP The Groups accounting policies conform with IFRS 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 1 to the consolidated financial statements prepared under IFRS, the Group
acquired the airline operations and certain related assets and liabilities of CNA and XJA with
effect from December 31, 2004. Under IFRS, the purchase method of accounting was applied to such
business combination such that at December 31, 2004 only the acquired assets and liabilities are
included in the consolidated financial statements of the Group. The results of the acquired
operations and their related cash flows will be 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 U.S. GAAP carrying values and the U.S. GAAP consolidated financial statements of the Group
are restated to include the 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 IFRS, 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 14 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. F-54




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) As a result of the arrangements, the Group received a net cash benefit of RMB52 and RMB69 in 2002 and
2003, respectively, which were recognized as income under IFRS. 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 IFRS, such
commitments and deposits are not recognized on the consolidated balance sheets. Under U.S. GAAP,
such commitments and deposits amounting to RMB2,409 and RMB2,462 as of December 31, 2003 and 2004,
respectively, would be recognized on the consolidated balance sheets, as such commitments are not
deemed as extinguished by the placement of security deposits. (d) Capitalized interest Under IFRS, 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, interest costs capitalized are determined based on specific borrowings
related to the acquisition or construction of an asset, if an entitys financing plans associate a
specific new borrowing with a qualifying asset. If average accumulated expenditures for the asset
exceed the amounts of specific 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 1 and 14 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 IFRS in 1996 and the additional depreciation
charges recorded in the eight years ended December 31, 2004, as a result of the Reorganization are
reversed for U.S. GAAP purposes. F-55




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CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) 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. F-56




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND 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 IFRS, such investments are initially recorded on a
fair value basis at the cost of purchases borne by the Group. In the consolidated statements of
operations, 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 statements of operations, the equity share of results of the investees are measured
based on the historical cost basis. (g) Acquisition of other subsidiaries from CSAHC During 2002, the Group acquired 90% equity interest in certain subsidiaries from CSAHC. Under
IFRS, the purchase method of accounting was applied to such business combination such that as from
the date of combination, the results of the acquired subsidiaries and their assets and liabilities
are included in the consolidated financial statements of the Group. Under U.S. GAAP, such transaction is considered to be a combination of entities under common
control. As described in Note 34(a), a combination of entities under common control is accounted
for in a manner similar to a pooling-of-interests. The effect of this difference in accounting
was not material to the years presented. (h) Provision for major overhauls As disclosed in Notes 2(u) and 6 to the consolidated financial statements prepared under IFRS,
in respect of aircraft held under operating leases, a provision is made over the lease term for the
estimated cost of overhauls required to be performed on the related aircraft prior to their return
to the lessors. Under U.S. GAAP, a liability is recorded at the outset of the operating leases for the fair
value of contractual obligations to perform the overhauls and a deferred asset is recorded for the
corresponding amount, which is amortized over the term of the operating lease. The carrying
amounts of such liability and asset amounted to approximately RMB570 and RMB370 respectively as of
December 31, 2003 and RMB749 and RMB390 respectively as of December 31, 2004. The effect of above difference on the net income/(loss) and shareholders equity reported
under U.S. GAAP was not material to the years presented. F-57




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) (i) Financial statements presentation and disclosure In the consolidated statements of operations presented under IFRS, (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 income/(expenses)  General and
administrative. As disclosed in Note 21 to the consolidated financial statements, deferred tax assets are
presented on a net basis under IFRS. Under U.S. GAAP, the gross amounts of such deferred tax assets
and any applicable valuation allowances are separately disclosed. As of December 31, 2003 and
2004, the amount of the deferred tax asset valuation allowances approximated RMB741 and RMB53,
respectively. (j) New accounting pronouncements FASB No. 123R In December 2004, the FASB issued FASB Statement No. 123 (revised 2004), Share-Based Payment,
which addresses the accounting for transactions in which an entity exchanges its equity instruments
for goods or services, with a primary focus on transactions in which an entity obtains employee
services in share-based payment transactions. This new pronouncement replaces the existing
requirements under FASB No. 123 and APB Opinion No. 25, Accounting for Stock Issued to Employees,
and will be effective for financial statements on January 1, 2006. The Group currently does not
offer any share-based compensation to its employees. FASB No. 151 In December 2004, the FASB issued FASB Statement No.151, Inventory Costs. This statement
clarifies the accounting for abnormal amounts of idle facility expense, freight, handling costs,
and wasted material (spoilage) which will be recognized as current-period charges. In addition, the
Statement requires that allocation of fixed production overheads to the costs of conversion be
based on the normal capacity of the production facilities. This Statement will be effective for
inventory costs incurred during fiscal years beginning after January 1, 2006. The Group does not
expect the initial adoption of FASB No. 151 will have a material impact on its consolidated
financial statements. FASB No. 153 In December 2004, the FASB issued FASB Statement No. 153, Exchanges of Nonmonetary Assets,
which eliminates an exception in APB 29 for nonmonetary exchanges of similar productive assets and
replaces it with a general exception for exchanges of nonmonetary assets that do not have
commercial substance. This Statement will be effective for nonmonetary asset exchanges occurring on
or after January 1, 2006. F-58




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) Effect on net income/(loss) of significant differences between IFRS and U.S. GAAP is as
follows: Reference
    
    
    Year ended December 31,in Note
    
    
    2002
    
    
    2003
    
    
    2004
    
    
    2004above
    
    
    RMB
    
    
    RMB
    
    
    RMB
    
    
    U.S. dollars(restated)
    
    
    (restated)Net income/(loss) under IFRS
    
    
    
    
    
    
    576
    
    
    
    (358
    )
    
    
    (48
    )
    
    
    (6
    )U.S. GAAP adjustments:Net (loss)/income before tax attributable
to airline operations of CNA and XJA
    
    
    (a)
    
    
    
    (1,114
    )
    
    
    (1,042
    )
    
    
    354
    
    
    
    43Sale and leaseback accounting
    
    
    (b)
    
    
    
    (101
    )
    
    
    115
    
    
    
    115
    
    
    
    14Lease arrangements
    
    
    (c)
    
    
    
    (50
    )
    
    
    (64
    )
    
    
    7
    
    
    
    1Capitalized interest
    
    
    (d)
    
    
    
    (31
    )
    
    
    (33
    )
    
    
    (13
    )
    
    
    (2
    )Reversal of additional depreciation
arising from revaluation of property,
plant and equipment
    
    
    (e)
    
    
    
    33
    
    
    
    33
    
    
    
    13
    
    
    
    2Investments in affiliated company and jointly
controlled entity
    
    
    (f)
    
    
    
    (1
    )
    
    
    7
    
    
    
    7
    
    
    
    1Deferred tax effects current year
    
    
    
    
    
    
    48
    
    
    
    (8
    )
    
    
    (16
    )
    
    
    (2
    ) effect on change in the Companys
income tax rate
    
    
    
    
    
    
    
    
    
    
    (51
    )
    
    
    
    
    
    
     tax effect of acquisitions of
airline operations of CNA and XJA
operations of CNA and XJA
    
    
    
    
    
    
    (15
    )
    
    
    261
    
    
    
    (81
    )
    
    
    (10
    ) effect on change in income tax
rate applicable to airline operations
of CNA and XJA
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (99
    )
    
    
    (12
    )Net (loss)/income under U.S. GAAP
    
    
    
    
    
    
    (655
    )
    
    
    (1,140
    )
    
    
    239
    
    
    
    29Basic (loss)/earnings per share under U.S. GAAP
    
    
    
    
    
    
    (0.194
    )
    
    
    (0.298
    )
    
    
    0.055
    
    
    
    0.007Basic (loss)/earnings per ADS under U.S. GAAP*
    
    
    
    
    
    
    (9.706
    )
    
    
    (14.876
    )
    
    
    2.732
    
    
    
    0.331
 
 *
    
    Basic (loss)/earnings per ADS is calculated on the basis that one ADS is equivalent to 50 H shares. F-59




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##### Table of Contents



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 IFRS and U.S. GAAP is
as follows: Reference
    
    
    December 31,in Note
    
    
    2003
    
    
    2004
    
    
    2004above
    
    
    RMB
    
    
    RMB
    
    
    U.S. Dollars(restated)Shareholders equity under IFRS
    
    
    
    
    
    
    11,896
    
    
    
    11,848
    
    
    
    1,432U.S. GAAP adjustments:Shareholders equity before tax effect attributable
to airline operations of CNA and XJA
    
    
    (a)
    
    
    
    1,347
    
    
    
    (531
    )
    
    
    (64
    )Sale and leaseback accounting
    
    
    (b)
    
    
    
    (472
    )
    
    
    (357
    )
    
    
    (43
    )Lease arrangements
    
    
    (c)
    
    
    
    (114
    )
    
    
    (107
    )
    
    
    (13
    )Capitalized interest
    
    
    (d)
    
    
    
    348
    
    
    
    335
    
    
    
    40Revaluation of property, plant and equipment,
net of depreciation
    
    
    (e)
    
    
    
    (13
    )
    
    
    
    
    
    
    Investments in affiliated company
and jointly controlled entity
    
    
    (f)
    
    
    
    (111
    )
    
    
    (104
    )
    
    
    (13
    )Deferred tax effect on airline
operations of CNA and XJA
    
    
    
    
    
    
    182
    
    
    
    66
    
    
    
    8Deferred tax effects
    
    
    
    
    
    
    35
    
    
    
    19
    
    
    
    2Shareholders equity under U.S. GAAP
    
    
    
    
    
    
    13,098
    
    
    
    11,169
    
    
    
    1,349
 F-60




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) As a result of the Group and the airline operations of CNA and XJA acquired on December
31, 2004 being under common control, the condensed financial information of the Group under U.S.
GAAP for the years have been restated to reflect the combination of CNA and XJA and the Group in a
manner similar to a pooling of interests. Consequently the assets and liabilities of CNA and XJA
are reflected at their historical carrying values and the consolidated financial statements have
been restated to include the financial statements of CNA and XJA for all periods presented. The following are condensed consolidated balance sheets of the Group as of December 31, 2003
and 2004, and the related condensed consolidated statements of operations, cash flows and changes
in total shareholders equity for each of the years in the three-year period ended December 31,
2004, prepared on a U.S. GAAP basis. Condensed consolidated statements of operations F-61




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) 2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBOperating revenue:Traffic revenue
    
    
    24,854
    
    
    
    24,897
    
    
    
    33,235Other operating revenue
    
    
    904
    
    
    
    586
    
    
    
    930Total operating revenue
    
    
    25,758
    
    
    
    25,483
    
    
    
    34,165Operating expenses:Flight operations
    
    
    10,062
    
    
    
    10,351
    
    
    
    15,016Maintenance
    
    
    3,530
    
    
    
    3,878
    
    
    
    4,578Aircraft and traffic servicing
    
    
    3,433
    
    
    
    3,803
    
    
    
    4,789Promotion and sales
    
    
    2,034
    
    
    
    2,043
    
    
    
    2,606General and administrative
    
    
    1,377
    
    
    
    1,397
    
    
    
    1,759Depreciation and amortization
    
    
    2,864
    
    
    
    3,042
    
    
    
    3,523Asset impairment charges
    
    
    347
    
    
    
    510
    
    
    
    Other
    
    
    163
    
    
    
    93
    
    
    
    17Total operating expenses
    
    
    23,810
    
    
    
    25,117
    
    
    
    32,288Operating income
    
    
    1,948
    
    
    
    366
    
    
    
    1,877Non-operating income/(expenses):Interest income
    
    
    82
    
    
    
    27
    
    
    
    33Interest expense
    
    
    (1,820
    )
    
    
    (1,604
    )
    
    
    (1,184
    )Equity income of affiliated companies
    
    
    45
    
    
    
    53
    
    
    
    17Equity loss of jointly controlled entities
    
    
    (12
    )
    
    
    (37
    )
    
    
    (3
    )Investment income
    
    
    
    
    
    
    
    
    
    
    5Foreign currency exchange loss, net
    
    
    (327
    )
    
    
    (381
    )
    
    
    (124
    )Other, net
    
    
    (52
    )
    
    
    37
    
    
    
    85Total net non-operating expenses
    
    
    (2,084
    )
    
    
    (1,905
    )
    
    
    (1,171
    )(Loss)/income before income taxes and minority interests
    
    
    (136
    )
    
    
    (1,539
    )
    
    
    706Income tax (expense)/benefit
    
    
    (365
    )
    
    
    526
    
    
    
    (274
    )(Loss)/income before minority interests
    
    
    (501
    )
    
    
    (1,013
    )
    
    
    432Minority interests
    
    
    (154
    )
    
    
    (127
    )
    
    
    (193
    )Net (loss)/income
    
    
    (655
    )
    
    
    (1,140
    )
    
    
    239
 F-62




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) Condensed consolidated balance sheets 2003
    
    
    2004RMB
    
    
    RMBASSETSCURRENT ASSETSCash and cash equivalents
    
    
    2,999
    
    
    
    3,083Trade receivables
    
    
    943
    
    
    
    1,203Other receivables
    
    
    521
    
    
    
    616Deferred tax assets
    
    
    137
    
    
    
    271Inventories
    
    
    1,138
    
    
    
    1,250Prepaid expenses and other current assets
    
    
    295
    
    
    
    378Short term investments
    
    
    
    
    
    
    683TOTAL CURRENT ASSETS
    
    
    6,033
    
    
    
    7,484PROPERTY, PLANT AND EQUIPMENT, NET
    
    
    41,012
    
    
    
    46,202CONSTRUCTION IN PROGRESS
    
    
    2,196
    
    
    
    1,049LEASE PREPAYMENTS
    
    
    349
    
    
    
    346INVESTMENTS
    
    
    1,314
    
    
    
    1,379LEASE AND EQUIPMENT DEPOSITS
    
    
    6,731
    
    
    
    7,859DEFERRED TAX ASSETS
    
    
    332
    
    
    
    OTHER ASSETS
    
    
    643
    
    
    
    721TOTAL ASSETS
    
    
    58,610
    
    
    
    65,040LIABILITIES AND SHAREHOLDERS EQUITYCURRENT LIABILITIESNotes payable, including current installments of long-term
notes payable
    
    
    8,600
    
    
    
    11,518Current installments of obligations under capital leases
    
    
    2,368
    
    
    
    2,106Accounts payable
    
    
    1,144
    
    
    
    1,554Bills payable
    
    
    438
    
    
    
    136Sales in advance of carriage
    
    
    663
    
    
    
    874Taxes payable
    
    
    92
    
    
    
    39Deferred tax liabilities
    
    
    91
    
    
    
    71Amounts due to related companies
    
    
    511
    
    
    
    2,330Accrued expenses
    
    
    3,890
    
    
    
    4,551Other liabilities
    
    
    1,496
    
    
    
    2,974TOTAL CURRENT LIABILITIES
    
    
    19,293
    
    
    
    26,153NOTES PAYABLE, EXCLUDING CURRENT INSTALLMENTS
    
    
    8,634
    
    
    
    11,935OBLIGATIONS UNDER CAPITAL LEASES, EXCLUDING
CURRENT INSTALLMENTS
    
    
    13,849
    
    
    
    11,975PROVISION FOR MAJOR OVERHAULS
    
    
    742
    
    
    
    674DEFERRED CREDITS
    
    
    851
    
    
    
    693DEFERRED TAX LIABILITIES
    
    
    389
    
    
    
    402TOTAL LIABILITIES
    
    
    43,758
    
    
    
    51,832MINORITY INTERESTS
    
    
    1,754
    
    
    
    2,039SHAREHOLDERS EQUITY
    
    
    13,098
    
    
    
    11,169TOTAL LIABILITIES AND SHAREHOLDERS EQUITY
    
    
    58,610
    
    
    
    65,040
 F-63




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) Condensed consolidated statements 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: 2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBNet cash inflow/(outflow) fromOperating activities
    
    
    4,364
    
    
    
    2,965
    
    
    
    5,419Investing activities
    
    
    (6,204
    )
    
    
    (7,558
    )
    
    
    (9,507
    )Financing activities
    
    
    2,230
    
    
    
    2,820
    
    
    
    4,172Increase/(decrease) in cash and cash equivalents
    
    
    390
    
    
    
    (1,773
    )
    
    
    84Cash and cash equivalents at beginning of year
    
    
    4,382
    
    
    
    4,772
    
    
    
    2,999Cash and cash equivalents at end of year
    
    
    4,772
    
    
    
    2,999
    
    
    
    3,083
 Condensed consolidated statements of changes in total shareholders equity F-64




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) TotalRMBShareholders equity at December 31, 2001
    
    
    7,315Net loss
    
    
    (655
    )Dividend paid
    
    
    (67
    )Distributions to CSAHC
    
    
    (89
    )Contributions from CSAHC
    
    
    292Shareholders equity at December 31, 2002
    
    
    6,796Issue of A shares
    
    
    2,641Net loss
    
    
    (1,140
    )Net liabilities assumed by CSAHC (note a)
    
    
    4,552Recognition of deferred tax assets (note b)
    
    
    246Contributions from CSAHC
    
    
    3Shareholders equity at December 31, 2003
    
    
    13,098Net profit
    
    
    239Net assets distributed to CSAHC (note a)
    
    
    (28
    )Elimination of net deferred tax assets (note c)
    
    
    (181
    )Distributions to CSAHC
    
    
    (1,959
    )Shareholders equity at December 31, 2004
    
    
    11,169
 F-65




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data)  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 to CSAHC, the owner of CNA and
XJA during 2003 and 2004.(b)
    
    In connection with the CNA/XJA Acquisitions, the property, plant and equipment of CNA and XJA
were revalued as of December 31, 2003 according to the relevant PRC rules and regulations.
The revalued amount serves as the tax base for future years. Such revaluation are not recorded
under U.S. GAAP. However, a deferred tax asset is recognized for the tax deductibility of the
resulting net revaluation surpluses with a corresponding credit to the equity under U.S. GAAP.(c)
    
    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 was eliminated against equity. F-66




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND 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 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBTraffic revenuePassenger
    
    
    22,565
    
    
    
    22,438
    
    
    
    30,443Cargo and mail
    
    
    2,289
    
    
    
    2,459
    
    
    
    2,79224,854
    
    
    
    24,897
    
    
    
    33,235Other operating revenueCommission income
    
    
    167
    
    
    
    157
    
    
    
    227General aviation income
    
    
    68
    
    
    
    40
    
    
    
    55Ground services income
    
    
    95
    
    
    
    123
    
    
    
    202Air catering income
    
    
    38
    
    
    
    31
    
    
    
    53Rental income
    
    
    
    
    
    
    40
    
    
    
    45Aircraft lease income
    
    
    166
    
    
    
    36
    
    
    
    145Gain on disposal of property,
plant and equipment
    
    
    194
    
    
    
    
    
    
    
    Maintenance services income
    
    
    22
    
    
    
    30
    
    
    
    23Income on transfer of
surplus pilot trainees
    
    
    10
    
    
    
    
    
    
    
    Utility services income
    
    
    
    
    
    
    14
    
    
    
    28Other
    
    
    144
    
    
    
    115
    
    
    
    152904
    
    
    
    586
    
    
    
    930Total operating revenue
    
    
    25,758
    
    
    
    25,483
    
    
    
    34,165
 F-67




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##### Table of Contents



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 33% for the year ended December 31, 2002 and
period ended September 30, 2003. The Company is subject to PRC income tax at 15% beginning October
1, 2003. The airline operations of CNA and XJA were subject to PRC income tax at 33% during 2002,
2003 and up to 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
are subject to PRC income tax at the applicable rate of 15% beginning that date. Taxation (expense)/benefit consisted of: Year ended December 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBPRC income tax:Company and subsidiaries
    
    
    (72
    )
    
    
    (47
    )
    
    
    (259
    )Affiliated companies
    
    
    (9
    )
    
    
    (3
    )
    
    
    (2
    )Jointly controlled entities
    
    
    
    
    
    
    (7
    )
    
    
    (11
    )(81
    )
    
    
    (57
    )
    
    
    (272
    )Deferred tax- current year
    
    
    (284
    )
    
    
    242
    
    
    
    97- adjustment for change in
the Companys enacted tax rate
    
    
    
    
    
    
    341
    
    
    
    - adjustment for change in applicable tax rate
for airline operations of CNA and XJA
    
    
    
    
    
    
    
    
    
    
    (99
    )(365
    )
    
    
    526
    
    
    
    (274
    )Additional
income taxes were allocated as followsShareholders
equity, for deferred tax asset recognized in connection with the tax
deductibilityresulting from net revaluation surpluses
    
    
    
    
    
    
    246
    
    
    
    Shareholders
equity, for elimination of deferred tax assets of the airline
operations of CNA and XJA no longer available
    
    
    
    
    
    
    
    
    
    
    (181
    )
    
    
    
    246
    
    
    
    (181
    )
 F-68




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##### Table of Contents



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 statements of operations for the years ended
December 31, 2002, 2003 and 2004 differed from the amounts computed by applying the PRC income tax
rate of 33%, 15% and 15%, respectively, to income/(loss) before taxation and minority interests as
a result of the following: Year ended December 31,2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBExpected PRC taxation (expense)/benefit
    
    
    45
    
    
    
    231
    
    
    
    (105
    )Adjustments:Effect of change in the Companys income
tax rate
    
    
    
    
    
    
    341
    
    
    
    Effect of change in the income tax rate
applicable to
the airline operations of CNA and XJA
    
    
    
    
    
    
    
    
    
    
    (99
    )Rate differential on subsidiaries
    
    
    60
    
    
    
    (5
    )
    
    
    Rate differential on airline operations
of CNA and XJA
    
    
    
    
    
    
    196
    
    
    
    (43
    )Non-deductible expenses
    
    
    (155
    )
    
    
    (90
    )
    
    
    (37
    )Increase in deferred tax valuation allowance
    
    
    (296
    )
    
    
    (110
    )
    
    
    (4
    )Expired tax losses
    
    
    
    
    
    
    (34
    )
    
    
    Non-taxable income
    
    
    
    
    
    
    
    
    
    
    17Other, net
    
    
    (19
    )
    
    
    (3
    )
    
    
    (3
    )(365
    )
    
    
    526
    
    
    
    (274
    )
 All but an insignificant amount of income/(loss) before taxation is from domestic sources. F-69




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITEDAND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)(Amounts in millions, except share data) The net deferred tax (liabilities)/assets as of December 31, 2003 and 2004 were made up of
the following taxation effects: December 31,2003
    
    
    2004RMB
    
    
    RMBDeferred tax assets:Tax losses
    
    
    1,192
    
    
    
    92Repair charges capitalized
    
    
    261
    
    
    
    254Accrued expenses
    
    
    107
    
    
    
    275Gains on sale and leaseback transactions
    
    
    88
    
    
    
    69Property, plant and equipment
    
    
    148
    
    
    
    89Inventories
    
    
    25
    
    
    
    Other
    
    
    9
    
    
    
    21Total deferred tax assets
    
    
    1,830
    
    
    
    800Valuation allowance
    
    
    (741
    )
    
    
    (53
    )1,089
    
    
    
    747Deferred tax liabilities:Accrued expenses
    
    
    (81
    )
    
    
    (75
    )Property, plant and equipment
    
    
    (945
    )
    
    
    (825
    )Inventories
    
    
    (5
    )
    
    
    Other
    
    
    (69
    )
    
    
    (49
    )Total deferred tax liabilities
    
    
    (1,100
    )
    
    
    (949
    )Net deferred tax (liabilities)/assets
    
    
    (11
    )
    
    
    (202
    )Representing:Net deferred tax assets  current portion
    
    
    137
    
    
    
    271Net deferred tax assets  non-current portion
    
    
    332
    
    
    
    Net deferred tax liabilities  current portion
    
    
    (91
    )
    
    
    (71
    )Net deferred tax liabilities  non-current portion
    
    
    (389
    )
    
    
    (402
    )(11
    )
    
    
    (202
    )
 F-70




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) In assessing the realizability of deferred tax assets, management considers whether it is more
likely than not that some portion or all of the deferred tax assets will not be realized. The
ultimate realization of deferred tax assets is dependent upon the generation of future taxable
profits during the periods in which those temporary differences become deductible and tax loss
utilized. Management considers the scheduled reversal of deferred tax liabilities and projected
future taxable profits in making this assessment. Based upon the projections for future taxable
profits over the periods in which the deferred tax assets are deductible, management believes it is
more likely than not that the Group will realize the benefits of these deductible differences and
tax losses. The amount of the deferred tax assets considered realizable, however, could be reduced
in the near term if estimates of future taxable profits during the carry forward period are
reduced. The valuation allowance was RMB335 at January 1, 2002. During the years ended December 31,
2002, 2003 and 2004, the valuation allowance increased/(decreased) by RMB296, RMB110 and RMB(688),
respectively. During 2004, the decrease in valuation allowance of RMB688 included a write-off of
valuation allowance of RMB692 upon the CNA/XJA Acquisitions. Property, plant and equipment, net December 31,2003
    
    
    2004RMB
    
    
    RMBBuildings
    
    
    4,120
    
    
    
    7,136Aircraft owned
    
    
    23,824
    
    
    
    27,208 held under capital leases
    
    
    22,312
    
    
    
    21,388Other flight equipment, including rotable spares
    
    
    12,069
    
    
    
    10,301Machinery, equipment and vehicles
    
    
    1,327
    
    
    
    3,22263,652
    
    
    
    69,255Less: Accumulated depreciation and amortization
    
    
    22,640
    
    
    
    23,05341,012
    
    
    
    46,202
 F-71




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) Capital leases The Company is obligated under capital leases covering certain aircraft that expire at
various dates during the next twenty-two years. At December 31, 2003 and 2004, the gross amount of
aircraft and related accumulated amortization recorded under capital leases were as follows: December 31,2003
    
    
    2004RMB
    
    
    RMBCost
    
    
    22,312
    
    
    
    21,388Less: Accumulated depreciation and amortization
    
    
    6,804
    
    
    
    7,13615,508
    
    
    
    14,252
 As of December 31, 2004, future payments under these capital leases, which were 73% and 27%,
respectively, denominated in U.S. dollars and Japanese yen, are as follows: Payments
    
    
    *Interest
    
    
    ObligationsRMB
    
    
    RMB
    
    
    RMBYear ending December 31,2005
    
    
    2,755
    
    
    
    649
    
    
    
    2,1062006
    
    
    3,395
    
    
    
    537
    
    
    
    2,8582007
    
    
    3,026
    
    
    
    437
    
    
    
    2,5892008
    
    
    2,850
    
    
    
    295
    
    
    
    2,5552009
    
    
    1,200
    
    
    
    236
    
    
    
    964Thereafter
    
    
    4,600
    
    
    
    1,591
    
    
    
    3,00917,826
    
    
    
    3,745
    
    
    
    14,081Less: current instalments
of obligations under capital leases
    
    
    
    
    
    
    
    
    
    
    (2,106
    )11,975
 
 *
    
    Interest rates ranged from 1.92% to 8.48% F-72




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) Related party transactions Note
    
    2002
    
    
    2003
    
    
    2004RMB
    
    
    RMB
    
    
    RMBExpensesPaid to CSAHC and its affiliatesHandling charges
    
    (a)
    
    
    40
    
    
    
    27
    
    
    
    33Air-catering expenses
    
    
    
    
    29
    
    
    
    28
    
    
    
    50Sundry aviation supplies
    
    
    
    
    101
    
    
    
    43
    
    
    
    66Commission expenses
    
    
    
    
    17
    
    
    
    5
    
    
    
    2Operating lease charges for land and buildings
    
    (c)
    
    
    15
    
    
    
    15
    
    
    
    82Paid to affiliates and jointly controlled entitiesMaintenance fees
    
    (b)
    
    
    592
    
    
    
    701
    
    
    
    1,159Flight simulation service charges
    
    
    
    
    
    
    
    
    104
    
    
    
    100Paid to CAAC and its affiliatesCommission expenses
    
    
    
    
    541
    
    
    
    
    
    
    
    Jet fuel supplies
    
    
    
    
    3,989
    
    
    
    
    
    
    
    Aircraft insurance
    
    
    
    
    361
    
    
    
    
    
    
    
    Guarantee fee
    
    
    
    
    1
    
    
    
    
    
    
    
    Ticket reservation service charges
    
    
    
    
    185
    
    
    
    
    
    
    
    Passenger departure and cargo handling charges
    
    
    
    
    90
    
    
    
    
    
    
    
    Aircraft and traffic service charges
    
    
    
    
    2,377
    
    
    
    
    
    
    
    Advertising service charges
    
    
    
    
    3
    
    
    
    
    
    
    
    Interest expense
    
    
    
    
    8
    
    
    
    
    
    
    
    IncomeReceived from CSAHC, its affiliates and other related partiesInterest income
    
    
    
    
    11
    
    
    
    3
    
    
    
    4Aircraft lease income
    
    (d)
    
    
    28
    
    
    
    
    
    
    
    111Received from CAAC and its affiliatesCommission income
    
    
    
    
    107
    
    
    
    
    
    
    
    Ground service fee income
    
    
    
    
    53
    
    
    
    
    
    
    
    Maintenance service income
    
    
    
    
    22
    
    
    
    
    
    
    
    Aircraft lease income
    
    
    
    
    62
    
    
    
    
    
    
    
    OthersAcquisition of aircraft and related spare parts and vehicles
    
    
    
    
    1,097
    
    
    
    
    
    
    
    Short term advances from CSAHC
    
    
    
    
    
    
    
    
    166
    
    
    
    Refund of medical benefit payments
    
    
    
    
    
    
    
    
    
    
    
    
    58
 F-73




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##### Table of Contents



CHINA SOUTHERN AIRLINES COMPANY LIMITED
AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  (Continued)
(Amounts in millions, except share data) Notes: The Group obtained various operational and financial services provided by CSAHC and its affiliates,
and the Groups affiliated companies and jointly controlled entities during the normal course of its business. In the past, CSAHC was under the direct control of the CAAC. However, such control has been shifted to the China
State-owned Assets Administration Bureau since early 2003. Consequently, transactions with the CAAC
and its affiliates beginning from 2003 are no longer presented as related party transactions of the
Group.  (a)
    
    Handling charges represent fees payable to Southern Airlines (Group) Import and Export
Trading Company, a wholly owned subsidiary of CSAHC, in connection with the procurement of
aircraft and flight equipment on the behalf of the Group and the airline operations of CNA
and XJA. Handling charges are calculated based on a fixed percentage of the purchase value
and other charges.(b)
    
    Repairing charges represent fees incurred by the Group and the airline operations of XJA in
connection with aircraft repair and maintenance services rendered by Guangzhou Aircraft
Maintenance Engineering Company Limited (GAMECO) and MTU Maintenance Zhuhai Co., Ltd. (MTU
Zhuhai). GAMECO and MTU Zhuhai are jointly controlled entities of the Company.(c)
    
    Operating lease charges 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. The operating lease
charges are determined based on prevailing market price.(d)
    
    Aircraft lease income 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 CAAC. 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 the rates
ranging from 14% to 20% 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 operations as and when incurred. Contributions to the retirement
schemes amounted to RMB184, RMB231 and RMB243, respectively, during 2002, 2003 and 2004. F-74




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##### Table of Contents



EXHIBIT INDEX Exhibit No.
    
    Description of Exhibit4.1
    
    
    Form of Directors Service Agreement is
incorporated by reference
in Exhibit 4(c).1 of Form 20-F for the year of 2004.4.2
    
    
    Form of Non-Executive Directors Service Agreement is
incorporated by reference in Exhibit 4(c).2 of Form 20-F for the
year of 2004.8
    
    
    Subsidiaries of the Company12.1
    
    
    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