As filed with the Securities and Exchange Commission on April 28, 2016

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

_______________

FORM 20-F

_______________

¨            REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE ACT OF 1934

OR

x           ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2015

OR

¨            TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

OR

¨            SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file number 001-32221

Gol Linhas Aéreas Inteligentes S.A.

(Exact name of Registrant as specified in its charter)

Gol Intelligent Airlines Inc.

(Translation of Registrant’s name into English)

_________________

The Federative Republic of Brazil

(Jurisdiction of incorporation or organization)
Edmar Prado Lopes Neto
+55 11 5098-7872
Fax: +55 11 5098-2341
E-mail: ri@golnaweb.com.br
Praça Comandante Linneu Gomes, S/N Portaria 3,
Jardim Aeroporto
04626-020 São Paulo, São Paulo
Federative Republic of Brazil
(+55 11 2128-4700)

(Name, Telephone, E-mail and/or Facsimile number and Address of Company Contact Person)

___________________________________________

Securities registered or to be registered pursuant to Section 12(b) of the Act.

* Not for trading purposes, but only in connection with the trading on the New York Stock Exchange of American Depositary Shares representing those preferred 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:
7.50% Senior Notes Due 2017

___________________________________________

The number of outstanding shares of each class of stock of Gol Linhas Aéreas Inteligentes S.A. as of December 31, 2015:

5,035,037,140                                                      Shares of Common Stock

 203,383,968                                                        Shares of Preferred Stock

Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ¨ No x

If this is an annual or transition report, indicate by check mark if the Registrant is not required to file pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934. Yes ¨ No x

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 ¨

Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit and post such files). Yes ¨ No ¨

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.

Indicate by check mark which basis of accounting the Registrant has used to prepare the financial statements included in this filing:

If “Other” has been checked in response to the previous question, indicate by check mark which financial statement item the Registrant has elected to follow.

Item 17 ¨ Item 18 ¨

If this is an annual report, indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

Presentation of Financial and Other Data

The consolidated financial statements included in this annual report have been prepared in accordance with International Financial Reporting Standards (IFRS), issued by the International Accounting Standards Board (IASB), in reais.

We have translated some of the real amounts contained in this annual report into U.S. dollars. The rate used to translate such amounts in respect of the year ended December 31, 2015 was R$3.9048 to US$1.00, which was the commercial rate for the purchase of U.S. dollars in effect on December 31, 2015, as reported by the Central Bank. The U.S. dollar equivalent information presented in this annual report is provided solely for the convenience of investors and should not be construed as implying that the real amounts represent, or could have been or could be converted into, U.S. dollars at the above rate. See “Exchange Rates” for more detailed information regarding the Brazilian foreign exchange system and historical data on the exchange rate of the real against the U.S. dollar.

In this annual report, we use the terms “the Registrant” to refer to Gol Linhas Aéreas Inteligentes S.A., and “Gol”, “Company”, “we,” “us” and “our” to refer to the Registrant and its consolidated subsidiaries together, except where the context requires otherwise. The term VRG refers to VRG Linhas Aéreas S.A., a wholly owned subsidiary of the Registrant. References to “preferred shares” and “ADSs” refer to non-voting preferred shares of the Registrant and American depositary shares representing those preferred shares, respectively, except where the context requires otherwise.

The phrase “Brazilian government” refers to the federal government of the Federative Republic of Brazil, and the term “Central Bank” refers to the Banco Central do Brasil, or the Central Bank. The term “Brazil” refers to the Federative Republic of Brazil. The terms “U.S. dollar” and “U.S. dollars” and the symbol “US$” refer to the legal currency of the United States. The terms “real” and “reais” and the symbol “R$” refer to the legal currency of Brazil. “IFRS” refers to the international financial reporting standards as issued by the International Accounting Standards Board, or IASB. We make statements in this annual report about our competitive position and market share in, and the market size of, the Brazilian and international airline industry. We have made these statements on the basis of statistics and other information from third party sources, governmental agencies or industry or general publications that we believe are reliable. Although we have no reason to believe any of this information or these reports are inaccurate in any material respect, we have not verified the competitive position, market share and market size or market growth data provided by third parties or by industry or general publications. All industry and market data contained in this annual report is based upon the latest publicly available information as of the date of this annual report.

Certain figures included in this annual report have been rounded. Accordingly, figures shown as totals in certain tables may not be an arithmetic sum of the figures that precede them.

This annual report contains terms relating to operating performance in the airline industry that are defined as follows:

·         “Aircraft utilization” represents the average number of block-hours operated per day per aircraft for the total aircraft fleet.

·         “Available seat kilometers” or “ASK” represents the aircraft seating capacity multiplied by the number of kilometers flown.

·         “Average stage length” represents the average number of kilometers flown per flight.

·         “Block-hours” refers to the elapsed time between an aircraft’s leaving an airport gate and arriving at an airport gate.

·         “Breakeven load factor” is the passenger load factor that will result in passenger revenues being equal to operating expenses.

·         “Load factor” represents the percentage of aircraft seating capacity that is actually utilized (calculated by dividing revenue passenger kilometers by available seat kilometers).

·         “Operating expense per available seat kilometer” or “CASK” represents operating expenses divided by available seat kilometers.

·         “Operating expense excluding fuel expense per available seat kilometer” or “CASK - ex fuel” represents operating expenses less fuel expense divided by available seat kilometers.

·         “Operating revenue per available seat kilometer” or “RASK” represents operating revenue divided by available seat kilometers.

·         “Passenger revenue per available seat kilometer” or “PRASK” represents passenger revenue divided by available seat kilometers.

·         “Revenue passengers” represents the total number of paying passengers flown on all flight segments.

·         “Revenue passenger kilometers” or “RPK” represents the numbers of kilometers flown by revenue passengers.

·         “Yield per passenger kilometer” or “yield” represents the average amount one passenger pays to fly one kilometer.

Cautionary Statements about Forward-Looking Statements

This annual report includes forward-looking statements, principally under the captions “Risk Factors,” “Operating and Financial Review and Prospects” and “Business Overview.” We have based these forward-looking statements largely on our current beliefs, expectations and projections about future events and financial trends affecting us. Many important factors, in addition to those discussed elsewhere in this annual report, could cause our actual results to differ substantially from those anticipated in our forward-looking statements, including, among other things:

·         general economic, political and business conditions in Brazil and in other South American and Caribbean markets we serve;

·         the effects of global financial markets and economic crises;

·         management’s expectations and estimates concerning our future financial performance and financing plans and programs;

·         our level of fixed obligations;

·         our capital expenditure plans;

·         our ability to obtain financing on acceptable terms;

·         inflation and fluctuations in the exchange rate of the real;

·         existing and future governmental regulations, including air traffic capacity controls;

·         increases in fuel costs, maintenance costs and insurance premiums;

·         changes in market prices, customer demand and preferences, and competitive conditions;

·         cyclical and seasonal fluctuations in our operating results;

·         defects or mechanical problems with our aircraft;

·         our ability to successfully implement our strategy;

·         developments in the Brazilian civil aviation infrastructure, including air traffic control, airspace and airport infrastructure, and

·         the risk factors discussed under “Risk Factors.”

The words “believe,” “may,” “will,” “aim,” “estimate,” “continue,” “anticipate,” “intend,” “expect” and similar words are intended to identify forward-looking statements. Forward-looking statements include information concerning our possible or assumed future results of operations, business strategies, financing plans, competitive position, industry environment, potential growth opportunities, and the effects of future regulation and the effects of competition. Forward-looking statements speak only as of the date they were made, and we undertake no obligation to update publicly or to revise any forward-looking statements after we distribute this annual report because of new information, future events or other factors. In light of the risks and uncertainties described above, the forward-looking events and circumstances discussed in this annual report might not occur and are not guarantees of future performance.

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

A.      Selected Financial Data

We present in this section the following summary financial data:

·         Summary financial information derived from our audited consolidated financial statements included herein as of December 31, 2015 and 2014 and for the years ended December 31, 2015, 2014 and 2013; and

·         Summary financial information derived from our audited consolidated financial statements not included herein as of and for the years ended December 31, 2012 and 2011.

The following tables present summary historical consolidated financial and operating data for us for each of the periods indicated. Solely for the convenience of the reader, real amounts as of and for the year ended December 31, 2015 have been translated into U.S. dollars at the commercial market rate in effect on December 31, 2015 as reported by the Central Bank of R$3.9048 to US$1.00.

Summary Financial Information

Summary Operational Data

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(1)   Adjusted to reflect that the one to 35 stock split of our common shares on March 23, 2015 and that since that date our preferred shares are entitled to receive dividends per share in an amount 35 times the amount of dividends per share paid to holders of our common shares in order to account for the split of our common shares. Our preferred shares are not entitled to any fixed dividend preferences. See “Item 9. The Offer and Listing–C. Markets–Corporate Governance Practices” for further details.

(2)   Adjusted to reflect the change of the ratio of our ADSs to preferred shares in February 2016 from one ADS to one preferred share to one ADS to ten preferred shares. See “Item 12. Description of Securities other than Equity Securities–A. American Depositary Shares–ADR Ratio Change.”

(3)   Operating margin represents operating income (loss) before financial results and income taxes divided by operating revenue.

(4)   Information regarding revenue passengers, aircraft utilization, average fare, departures, departures per day, average stage length, average number of operating aircraft, fuel liters consumed, percentage of sales through website and percentage of sales through website and call center include data for Webjet as from October 1, 2011.

(5)   Source: National Civil Aviation Agency (Agência Nacional de Aviação Civil), or ANAC.

(6)   Considering sales through our website and API (application programming interface) systems.

Exchange Rates

Brazil’s foreign exchange system allows the purchase and sale of currency and the international transfer of reais by any person or legal entity, regardless of amount, subject to certain regulatory procedures.

The Brazilian currency has during the last decades experienced frequent and substantial variations in relation to the U.S. dollar and other foreign currencies. The exchange rate of the real was R$1.566 per US$1.00 in August 2008. Primarily as a result of the crisis in the global financial markets, the real depreciated 31.9% against the U.S. dollar and reached R$2.337 per US$1.00 at year end 2008. In 2009 and 2010, the real appreciated against the U.S. dollar and reached R$1.666 per US$1.00 at year end 2010. During 2011 the real depreciated and, on December 31, 2011, the exchange rate was R$1.876 per US$1.00. From 2012 through 2015, the real continued to depreciate and on December 31, 2012, 2013, 2014, and 2015, the exchange rate was R$2.044, R$2.343, R$2.656 and R$3.905 per US$1.00.

The Central Bank has intervened occasionally to combat instability in foreign exchange rates. We cannot predict whether the Central Bank or the Brazilian government will continue to allow the real to float freely or will intervene in the exchange rate market through a currency band system or otherwise.

The following tables present the selling rate, expressed in reais to the U.S. dollar (R$/US$), for the periods indicated:

_________

Source: Central Bank

(1) Represents the average of the exchange rates on the last day of each month during the period.

(2) Average of the lowest and highest rates in the month.

B.      Capitalization and Indebtedness

Not applicable.

C.      Reasons for the Offer and Use of Proceeds

Not applicable.

D.      Risk Factors

An investment in the ADSs or our preferred shares involves a high degree of risk. You should carefully consider the risks described below before making an investment decision. Our business, financial condition and results of operations could be materially and adversely affected by any of these risks. The trading price of the ADSs could decline due to any of these risks or other factors, and you may lose all or part of your investment. The risks described below are those that we currently believe may materially affect us.

Risks Relating to Brazil

The Brazilian government has exercised, and continues to exercise, significant influence over the Brazilian economy. This involvement, as well as Brazilian political and economic conditions, could adversely affect us and the trading price of our ADSs and our preferred shares.

The Brazilian federal government has frequently intervened in the Brazilian economy and occasionally has made drastic changes in policy and regulations. The Brazilian federal government’s actions to control inflation and affect other policies and regulations have often involved, among other measures, increases in interest rates, changes in tax policies, price controls, currency devaluations, capital controls and limits on imports. Our business, financial condition, results of operations and the trading price of the preferred shares and the ADSs may be adversely affected by changes in policy or regulations at the federal, state or municipal level involving or affecting factors such as:

·         interest rates;

·         currency fluctuations;

·         monetary policies;

·         inflation;

·         liquidity of capital and lending markets;

·         tax policies;

·         labor regulations;

·         energy and water shortages and rationing;

·         exchange rates and exchange controls and restrictions on remittances abroad, such as those that were briefly imposed in 1989 and early 1990; and

·         other political, social and economic developments in or affecting Brazil.

Uncertainty over whether the Brazilian federal government will implement changes in policy or regulation affecting these or other factors in the future may contribute to economic uncertainty in Brazil and to heightened volatility in the Brazilian securities markets and securities issued abroad by Brazilian companies. These and other future developments in the Brazilian economy and governmental policies may adversely affect us and our business and results of operations and may adversely affect the trading price of our preferred shares and ADSs.

In addition and as a consequence to the above mentioned, since 2011, Brazil has been experiencing an economic slowdown. The Gross Domestic Product, or GDP, growth (contraction) rates were (3.8)% in 2015, 0.1% in 2014, 2.7% in 2013, 1.8% in 2012 and 3.9% in 2011, compared to a GDP growth of 7.5% in 2010. In 2016, analysts project that the Brazilian GDP will contract 3.7%, according to the Focus Report published by the Brazilian Central Bank on April 1, 2016.

Our results of operations and financial condition have been, and will continue to be, affected by the growth rate of the Brazilian GDP. We cannot assure you that the GDP will increase or remain stable. Developments in the Brazilian economy may affect Brazil’s growth rates and, consequently, the use of our products and services.

Political instability may adversely affect our business and results of operations and the price of our preferred shares.

Brazil’s political environment has historically influenced, and continues to influence, the performance of the country’s economy. Political crises have affected and continue to affect investor confidence and of the general public, which resulted in economic deceleration and heightened volatility in the securities issued by Brazilian companies.

Currently, Brazilian markets are experiencing heightened volatility due to the uncertainties derived from the ongoing Lava Jato investigation, being conducted by the Office of the Brazilian Federal Prosecutor, and its impact on the Brazilian economy and political environment. Members of the Brazilian federal government and of the legislative branch, as well as senior officers of large state-owned companies have faced allegations of corruption. These senior officials allegedly accepted bribes by means of kickbacks on contracts granted by the government to several infrastructure, oil and gas and construction companies. The profits of these kickbacks allegedly financed the political campaigns of political parties of the current federal government coalition that were unaccounted for or not publicly disclosed, as well as served to personal enrichment of the recipients of the bribery scheme.

As a result, a number of senior politicians, including congressman and officers of the major state-owned companies in Brazil resigned or have been arrested. Currently, senior elected officials and other public officials in Brazil are being investigated for allegations of unethical and illegal conduct identified during the Lava Jato investigation.

The potential outcome of these investigations is uncertain, but they have already had an adverse impact on the image and reputation of the implicated companies, and on the general market perception of the Brazilian economy. We cannot predict whether such allegations will lead to further political and economic instability or whether new allegations against government officials will arise in the future. In addition, we cannot predict the outcome of any such allegations nor their effect on the Brazilian economy.

The development of such unethical conduct cases could adversely affect the Brazilian economy and, consequently, our business, financial condition and results of operations.

Developments and the perception of risk in other countries, including the United States and emerging market countries, may adversely affect the market price of Brazilian securities, including the ADSs and our preferred shares.

The market value of securities of Brazilian issuers is affected by economic and market conditions in other countries, including the United States, the European Union and emerging market countries. Although economic conditions in those countries may differ significantly from economic conditions in Brazil, investor’s reactions to developments in other countries may have an adverse effect on the market value of securities of Brazilian issuers. Crisis in the United States, the European Union or emerging market countries may diminish investor interest in securities of Brazilian issuers, including ours. This could adversely affect the trading price of the ADSs or our preferred shares, and could also make it more difficult for us to gain access to the capital markets and finance our operations on acceptable terms, or at all.

Government efforts to combat inflation may hinder the growth of the Brazilian economy and could harm us.

Historically, Brazil has experienced high inflation rates. Inflation and certain actions taken by the Central Bank to curb it have had significant negative effects on the Brazilian economy. After the implementation of the Plano Real in 1994, the annual rate of inflation in Brazil decreased significantly, as measured by the National Broad Consumer Price Index (Índice Nacional de Preços ao Consumidor Amplo), or IPCA. Inflation measured by the IPCA index was 5.9%, 6.4%, and 10.7% in 2013, 2014 and 2015, respectively and the tendency is increasing inflation for 2016. The inflation rate for the General Market Prices Index (Índice Geral de Preços de Mercado), or IGP-M, was 5.5%, 3.7% and 10.5% in 2013, 2014 and 2015, respectively.

Between 2004 and 2010, the Central Bank’s Special System for Settlement and Custody (Sistema Especial de Liquidação e Custódia) rate, or SELIC rate, which is the base interest rate for the Brazilian banking system, varied between 19.8% and 8.6%. On December 31, 2013, 2014 and 2015, the SELIC rate was 10.0%, 11.75% and 14.25%, respectively.

Inflation and the Brazilian government’s measures to fight it, principally through the Central Bank, have had and may have significant effects on the Brazilian economy and us. Tight monetary policies with high interest rates have restricted and may restrict Brazil’s growth and the availability of credit. Conversely, more lenient government and Central Bank policies and interest rate decreases have triggered and may trigger increases in inflation, and, consequently, growth volatility and the need for sudden and significant interest rate increases, which could negatively affect us and increase our indebtedness. In addition, we may not be able to adjust the fares we charge our customers to offset the effects of inflation on our cost structure.

Risks Relating to Us and the Brazilian Airline Industry

Exchange rate instability may materially and adversely affect us and the market price of the ADSs and our preferred shares.

The Brazilian currency has, during the last decades, experienced frequent and substantial variations in relation to the U.S. dollar and other foreign currencies. For example, the real was valued at R$1.67 per US$1.00 in August 2008. Following the onset of the crisis in the global financial markets, the real depreciated 31.9% against the U.S. dollar and reached R$2.34 per US$1.00 at the end of 2008. In 2010, the real appreciated against the U.S. dollar, reaching R$1.661 per US$1.00 at the end of 2010. Since 2011, the real depreciated against the U.S. dollar, reaching R$3.905 per US$1.00 at the end of 2015 with a 47.0% devaluation in 2015. As of April 26, 2016, the real reached R$3.530 per US$1.00. There can be no assurance that the real would not depreciate further against the U.S. dollar.

Depreciation of the real against the U.S. dollar creates inflationary pressures in Brazil and causes increases in interest rates, which negatively affects the growth of the Brazilian economy as a whole, curtails access to foreign financial markets and may prompt government intervention, including recessionary governmental policies. Depreciation of the real against the U.S. dollar has also, as in the context of an economic slowdown, led to decreased consumer spending, deflationary pressures and reduced growth of the economy as a whole. On the other hand, appreciation of the real relative to the U.S. dollar and other foreign currencies could lead to a deterioration of the Brazilian foreign exchange current accounts, as well as dampen export-driven growth. Depending on the circumstances, either depreciation or appreciation of the real could materially and adversely affect us.

Nearly 88.5% of our passenger revenue and other revenue are denominated in reais and a significant part of our operating expenses, such as fuel, aircraft and engine maintenance services, aircraft rent payments and aircraft insurance, are denominated in, or linked to, U.S. dollars. For the year ended December 31, 2015, 50.3% of our operating expenses were either denominated in or linked to the U.S. dollar. For the year ended December 31, 2015 our aircraft rent increased in reais 30.3%, to R$1,100.1 million in 2015 from R$844.6 million in 2014, principally driven by the 41.6% average depreciation of the real as compared to the U.S. dollar in 2015. In addition, the purchase price of the Boeing 737 aircraft is denominated in U.S. dollars. At December 31, 2015, R$8,028.0 million (or 86.3% of our indebtedness) was denominated in U.S. dollars, an increase of 71.9% in reais as compared to R$4,670.0 million at December 31, 2014, principally driven by the 47.0% depreciation of the real against the U.S. dollar. At the same date, we had a total of R$7,749.0 million in U.S. dollar-denominated future operating lease payment obligations, an increase of 61.6% in reais as compared to R$4,794.8 million at December 31, 2014, due to the same reason. In 2015, exchange rate variation in our financial expenses had a net increase of 419.7%, to R$2,267.0 million, when compared with 2014.

We are also required to maintain U.S. dollar-denominated deposits and maintenance reserve deposits under the terms of some of our aircraft operating leases. We may incur substantial additional amounts of U.S. dollar-denominated operating leases or financial obligations and U.S. dollar-denominated indebtedness and be subject to fuel cost increases linked to the U.S. dollar. While in the past we have generally adjusted our fares in response to, and to alleviate the effect of, depreciation of the real and increases in the price of jet fuel (which is priced in U.S. dollars) and have entered into hedging arrangements to protect us against the short-term effects of such developments, there can be no assurance we will be able to continue to do so. In addition, there is no economically viable hedging alternative for medium- and long-term depreciation of the real.

Depreciation of the real also reduces the U.S. dollar value of distributions and dividends on the ADSs and the U.S. dollar equivalent of the market price of our preferred shares and, as a result, the ADSs.

We may not be able to maintain adequate liquidity and our cash flows from operations and financings may not be sufficient to meet our current obligations unless we are able to successfully restructure certain of our contractual obligations and commitments.

While our cash flows from operations and financings have been sufficient to meet our current operating expenses, lease obligations and debt service requirements to date, our liquidity, cash flows from operations and financings may be negatively impacted by the exchange rate environment and the effects of continued negative economic conditions in Brazil on demand for air travel. These factors have materially and adversely impacted our liquidity and we expect this trend to continue. Recent cost cutting measures, such as capacity reduction, may not be sufficient to offset these effects or improve our liquidity.

We have recently announced our intention to restructure (i) our existing indebtedness from the issuance of notes and bank loans and (ii) certain of our aircraft lease obligations and key suppliers. If we are unable to successfully restructure these contractual obligations and commitments, we may not be able to maintain adequate liquidity and our cash flows from operations and financings may not be sufficient to meet these obligations.

     There can be no assurance that we will be successful in effecting all or any of the measures outlined above. Unfavorable events arising with respect to negotiations with creditors, key lessors and vendors could give rise to covenant and payment defaults, including the failure to maintain specified financial ratios, under the terms of our material operating and finance leases and indebtedness. In the absence of obtaining additional capital through asset sales, consensual restructuring of debt and lease terms and/or similar measures, we may be unable to remedy such defaults and may experience additional defaults in the future, including as a result of cross-defaults. Our operating and finance leases are subject to termination in the event of default, and our indebtedness may be accelerated in the event of continuing default. Certain lenders could foreclose on our assets securing their indebtedness, including certain of our aircraft and shares in Smiles.

As a result of significant losses since 2011 our financial condition has been materially weakened. Consequently, our ability to obtain debt and equity financing has been materially weakened

Significant losses since 2011 have materially weakened our financial condition. We had net losses of R$751.5 million in 2011, R$1,513 million in 2012, R$724.6 million in 2013, R$1,117.3 million in 2014 and R$4,291.2 million in 2015. These losses were mainly a factor of items that we do not control, such as the depreciation of the real against the U.S. dollar, which affects a significant part of our operating expenses and our debt that is significantly denominated in U.S. dollars, and losses in fuel hedge due to volatility in international fuel prices. As a result of these losses, as of December 31, 2015, we had a negative equity of R$4,322.4 million, compared to R$333.0 million as of December 31, 2014.

The significant losses since 2011 and our substantial indebtedness have further increased our leverage, which resulted in decreases in our credit ratings. Since the end of 2012, Fitch Ratings, Moody’s and S&P have decreased our credit ratings from B, B3 and B, respectively, to CCC-, Caa1 and CCC-, respectively, as of the date of this annual report. Credit ratings affect the cost and other terms upon which we are able to obtain funding. Credit rating agencies regularly evaluate us and their ratings of our long-term debt are based on a number of factors, including our financial strength. We cannot assure you that credit rating agencies will not downgrade our credit ratings any further, even absent new losses.

In light of our current credit ratings, negative shareholders’ equity and leverage ratio, our ability to obtain debt and equity financing has been materially weakened, which makes us more vulnerable to unexpected events or to the deterioration of the operating environment (such as a significant increase in operating expenses).

The airline industry is particularly sensitive to changes in economic conditions and continued negative economic conditions would likely continue to adversely affect us and our ability to obtain financing on acceptable terms.

Our operations and the airline industry in general are particularly sensitive to changes in economic conditions. Unfavorable economic conditions in Brazil, as demonstrated by a low or negative GDP growth since 2012, a constrained credit market and increased business operating costs have reduced spending on both leisure and business travel as well as cargo transportation. The slowdown in Brazilian economy and political instability has adversely affected industries with significant spending in travel, including government, oil and gas, mining and construction. In addition to decreases in load factors, reduced spending on business travel also affects the quality of demand, as we are able to sell less higher yield tickets, which negatively affected our results of operation in 2015, a trend that has continued in the first months of 2016.  Unfavorable economic conditions can also affect our ability to raise fares to counteract increased fuel, labor and other costs. Any of these factors may negatively affect us.

Unfavorable economic conditions, a significant decline in demand for air travel or continued instability of the credit and capital markets could also result in pressure on our debt costs, operating results and financial condition and would affect our growth and investment plans. These factors could also negatively affect our ability to obtain financing on acceptable terms and our liquidity generally.

Substantial fluctuations in fuel costs or the unavailability of fuel would harm us.

Historically, international and local fuel prices have been subject to wide price fluctuations based on geopolitical issues and supply and demand. The price of West Texas Intermediate crude oil, a benchmark widely used for crude oil prices that is measured in barrels and quoted in U.S. dollars, which at times in 2007 and 2008 were at historically high levels, affects our fuel costs, which constitute a significant portion of our total operating expenses, accounting for 40.2% and 33.2% of our operating expenses for the years ended December 31, 2014 and 2015, respectively. Fuel availability is also subject to periods of market surplus and shortage and is affected by demand for both home heating oil and gasoline. In the event of an international or local fuel supply shortage, our fuel prices would likely increase. Although we enter into hedging arrangements to reduce our exposure to fuel price fluctuations and have historically passed on the majority of fuel price increases by adjusting our fare structure, the price and availability of fuel cannot be predicted with any degree of certainty. Our hedging activities and fares adjustments may not be sufficient to protect us fully from fuel price increases.

Substantially all of our fuel is supplied by one source, Petrobras Distribuidora S.A., or Petrobras Distribuidora. If Petrobras Distribuidora is unable or unwilling to continue to supply fuel to us at the times and in the quantities that we require we may not be able to find a suitable replacement or to purchase fuel at the same cost, in which case we would be adversely affected. See “Item 4. Information on the Company–B. Business Overview–Airline Business–Fuel and Hedge.”

Changes to the Brazilian civil aviation regulatory framework, including rules regarding slots distribution, fare restrictions and fees associated with civil aviation, may adversely affect us.

Brazilian aviation authorities monitor and influence the developments in Brazil’s airline market. For example, in airports regulated by the Brazilian Airport Infrastructure Company (Empresa Brasileira de Infraestrutura Aeroportuária), or INFRAERO, INFRAERO addressed overcapacity by establishing strict criteria that must be met before new routes or additional flight frequencies are awarded. INFRAERO’s policies as well as those of other aviation supervisory authorities have in the past, and may continue to, negatively affect our operations.

For example, in July 2014, ANAC published new rules governing the allocation of slots at the main Brazilian airports, which consider operational efficiency (on-time performance and regularity) as the main criteria for the allocation of slots. Under these rules on-time performance and regularity are assessed in two annual seasons, following the IATA summer and winter calendars, between April and September and between October and March.

The minimum on-time performance and regularity targets for each series of slots in a season are 80% and 90%, respectively, at Congonhas airport (São Paulo) and 75% and 80%, respectively, for all other main airports. Airlines will forfeit any series of slots that operate below the minimum criteria in a season. Forfeited slots are redistributed 50% to new entrants, which includes airlines that operate fewer than 5 slots in the relevant airport in the given weekday, and 50% to all airlines operating in the relevant airport based on their share of slots. For the first allocation period at Congonhas, from November 2014 to March 2015, new entrants includes all airlines with less than 12% of the slots.

In October 2014, ANAC distributed new slots at Congonhas airport, in light of increased runway capacity, exclusively to airlines with less than 12% of the slots. Azul and Avianca were awarded 26 and 17 slots, respectively.

With the new allocation of slots at Congonhas airport as a result of the October 2014 distribution and the 2015 on-time performance redistributions, we and LATAM each have 43% and 44%, respectively, of the slots in terms of takeoffs and landings at Congonhas airport, after having held 47% and 48%, respectively, before October 2014, while Avianca’s slots increased from 5% to 8% and Azul’s increased from 0% to 5%.

Another example, in January 2015 Brazil approved a law allowing the government to grant subsidies for flights departing from or arriving at regional airports. Regional airports include any airports with fewer than 600,000 passengers per year, increased to 800,000 passengers per year in the Amazon region. The subsidy is still subject to further regulation before it may be implemented and is limited to certain airport fees and transportation costs for the lesser of 60 passengers per flight or 50% of the seats in a given flight, except in the Amazon region where the only limit is up to 60 passengers.

These and other changes to the Brazilian civil aviation regulatory framework could increase our costs and change the competitive dynamics of our industry and may adversely affect our operations, see “−We operate in a highly competitive industry.

Technical and operational problems in the Brazilian civil aviation infrastructure, including air traffic control systems, airspace and airport infrastructure may have a material adverse effect on us.

We are dependent on improvements in the coordination and development of Brazilian airspace control and airport infrastructure, which, mainly due to the large growth in civil aviation in Brazil in recent years, require substantial improvements and government investments. This dependence was underlined by the need for additional infrastructure investments for the World Cup in 2014 and for the upcoming Summer Olympics in 2016 in Brazil.

If the measures taken and investments made by the Brazilian government and regulatory authorities do not prove sufficient or effective, air traffic control, airspace management and sector coordination-related difficulties might reoccur or worsen, which might have a material adverse effect on us.

Slots at Congonhas Airport in São Paulo, the most important airport for our operations, are fully utilized. The Santos-Dumont airport in Rio de Janeiro, a highly utilized airport with half-hourly shuttle flights between São Paulo and Rio de Janeiro, has certain slot restrictions. Several other Brazilian airports, for example the Brasília, Campinas, Salvador, Confins and São Paulo (Guarulhos) international airports, have limited the number of slots per day due to infrastructural limitations at these airports. Any condition that would prevent or delay our access to airports or routes that are vital to our strategy or our inability to maintain our existing slots, and obtain additional slots, could materially adversely affect our operations. In addition, we cannot assure that any investments will be made by the Brazilian government in the Brazilian aviation infrastructure to permit a capacity increase at busy airports and consequently additional concessions for new slots to airlines.

We have significant recurring aircraft lease costs, and we will incur significantly more fixed costs that could hinder our ability to meet our strategic goals.

We have significant costs, relating primarily to leases for our aircraft and engines. As of December 31, 2015, we had commitments of R$58,886.5 million to purchase additional Boeing 737-800 Next Generation aircraft, based on aircraft list prices, although the actual price payable by us for the aircraft should be lower due to supplier discounts. We expect that we will incur additional fixed obligations and debt as we take delivery of the new aircraft and other equipment to implement our strategy.

Having significant fixed payment obligations could:

·         limit our ability to obtain additional financing to support expansion plans and for working capital and other purposes;

·         divert substantial cash flow from our operations to service our fixed obligations under aircraft operating leases and aircraft purchase commitments;

·         if interest rates increase, require us to incur significantly more lease or interest expense than we currently do; and

·         limit our ability to react to changes in our business, the airline industry and general economic conditions.

Our ability to make scheduled payments on our fixed obligations, will depend on our operating performance and cash flow, which will in turn depend on prevailing economic and political conditions and financial, competitive, regulatory, business and other factors, many of which are beyond our control. In addition, our ability to raise our fares to compensate for an increase in our fixed costs may be limited by competition and regulatory factors.

We operate in a highly competitive industry.

We face intense competition on domestic routes in Brazil from existing scheduled airlines, charter airlines and potential new entrants in our market. Competition from other airlines has a relatively greater impact on us when compared to our competitors because we have a greater proportion of flights connecting Brazil’s busiest airports, where competition is more intense. In contrast, some of our competitors have a greater percentage of flights connecting less busy airports, where there is no or only reduced competition.

In addition to competition among scheduled airlines and charter operators, the Brazilian airline industry faces competition from ground transportation alternatives, such as interstate buses. We may also face competition from international airlines as they introduce and expand flights between Brazil, other South American and Caribbean destinations. In addition, the Brazilian government and regulators could give preference to new entrants when granting new and current slots in Brazilian airports, for example, as recently occurred with respect to the new slots in the Congonhas airport.

Existing and potential new competitors may be stronger than us. They have in the past and may again undercut our fares or increase capacity on their routes in an effort to increase their market share of business traffic (high value-added customers). In any such event, we cannot assure you that our level of fares or passenger traffic would not be adversely affected.

Further consolidation in the Brazilian and global airline industry framework may adversely affect us.

As a result of the competitive environment there may be further consolidation in the Brazilian and global airline industry, whether by means of acquisitions, joint ventures, partnerships or strategic alliances. We cannot predict the effects of further consolidation on the industry. To the extent we act as consolidators, we may not be able to successfully integrate the business and operations of companies acquired, governmental approvals may be delayed, costs of integration and fleet renovation may be greater than anticipated, synergies may not meet our expectations, our costs may increase and our operational efficiency may be reduced, all of which would negatively affect us.

If we do not act as a consolidator, our competitors may increase their scale, diversity and financial strength, which would negatively affect us. Consolidation in the airline industry and changes in international alliances will continue to affect the competitive landscape in the industry and may result in the formation of airlines and alliances with increased financial resources, more extensive global networks and reduced cost structures.

We rely on one supplier for our aircraft and engines.

One of the key elements of our current business strategy is to save costs by operating a standardized aircraft fleet. After extensive research and analysis, we chose the Boeing 737-700/800 Next Generation aircraft and CFM 56-7B engines from CFM International. We expect to continue to rely on Boeing and CFM International into the foreseeable future and have made a purchase order for 60 Boeing 737 Max-7/8 aircraft (the newest generation of our current aircraft and still under development), to be delivered starting 2018. If either Boeing or CFM International were unable to perform its contractual obligations, we would have to find another supplier for a similar type of aircraft or engines.

If we had to lease or purchase aircraft from another supplier, we could lose the benefits we derive from our current fleet composition. We cannot assure you that any replacement aircraft would have the same operating advantages as the Boeing 737-700/800 Next Generation aircraft or that we could lease or purchase engines that would be as reliable and efficient as the CFM engines. This may be the case for instance with the Boeing 737 Max-7/8 aircraft. We will also incur substantial transition costs, including costs associated with retraining our employees, replacing our manuals and adapting our facilities. Our operations could also be disrupted by the failure or inability of Boeing or CFM International to provide sufficient parts or related support services on a timely basis.

We would also be significantly harmed if a design defect or mechanical problem with the Boeing 737-700/800 Next Generation aircraft or the CFM engines used on our aircraft was discovered, causing our aircraft to be grounded while any such defect or problem is being corrected, assuming it could be corrected at all. The use of our aircraft could be suspended or restricted by ANAC in the event of any actual or perceived mechanical, design or other problems while ANAC conducts an investigation. Our business would also be significantly harmed if the public avoids flying on our aircraft due to an adverse perception of the Boeing 737-700/800 Next Generation aircraft or the CFM engines because of safety concerns or other problems, whether real or perceived, or in the event of an accident involving Boeing 737-700/800 Next Generation aircraft or the CFM engines.

We have made purchase orders for new aircraft that is still being developed, any project delays or operational difficulties would adversely affect our operational costs and results of operations.

In 2012, Boeing and CFM released new aircraft and engines, the Boeing 737 Max-7/8 and LEAP-1B, to replace the Boeing 737-700/800 Next Generation. Any project delays or operational difficulties with this new aircraft and engines could create an adverse perception about our fleet, cancelations and decrease in the number of orders, therefore adversely affecting us.

In addition, when these aircraft and engines are delivered and operational, it could cause the market value of our other aircraft and engines to decrease, which would negatively affect the value of our assets and could result in us recording impairment charges.

We rely heavily on automated systems to operate our business, and any failure of these systems could harm us.

We depend on automated systems to operate our business, including our computerized airline ticket sales system, our telecommunication systems, our scheduling system and our website. Our website and ticket sales system must accommodate a high volume of traffic and deliver important flight information. Substantial or repeated website, ticket sales, scheduling or telecommunication systems failures could reduce the attractiveness of our services and could cause our customers to purchase tickets from another airline. Any disruption in these systems or their underlying infrastructure could result in the loss of important data, increase our expenses and generally harm us.

We rely on maintaining a high daily aircraft utilization rate to increase our revenues and reduce our costs.

One of the key elements of our business strategy is to maintain a high daily aircraft utilization rate. High daily aircraft utilization allows us to generate more revenue from our aircraft and dilute our fixed costs, and is achieved in part by operating with quick turnaround times at airports so we can fly more hours on average in a day. Our rate of aircraft utilization could be adversely affected by a number of different factors that are beyond our control, including, among others, air traffic and airport congestion, adverse weather conditions and delays by third-party service providers relating to matters such as fueling and ground handling.

Our reputation, operations and financial results could be harmed by events out of our control.

Accidents or incidents involving our aircraft could involve significant claims by injured passengers and others, as well as significant costs related to the repair or replacement of a damaged aircraft and its temporary or permanent loss from service. We are required by ANAC and lessors of our aircraft under our operating lease agreements to carry liability insurance. Although we believe we currently maintain liability insurance in amounts and of the type generally consistent with industry practice, the amount of such coverage may not be adequate and we may be forced to bear substantial losses in the event of an accident. Substantial claims resulting from an accident in excess of our related insurance coverage would harm us. Moreover, any accident or incident involving our aircraft, even if fully insured, or an accident or incident involving Boeing 737 Next Generation aircraft or the aircraft of any major airline could cause negative public perceptions about us or the air transport system, which would harm us.

We may also be affected by other events that affect travel behavior, such as the potential of epidemics or acts of terrorism. These events are out of our control and may affect us even if occurring in markets where we do not operate and/or in connection with other airlines. For example, in the second quarter of 2009 an outbreak of the H1N1 virus had an adverse impact on global air travel and on our operations to and from Argentina. Any outbreak of a disease that affects travel behavior, such as the recent outbreak of the zika virus in Brazil and other Latin American countries, could have a material adverse impact on us and the worldwide airline industry. Outbreaks of disease could also result in quarantines of our personnel or an inability to access facilities or our aircraft, which could adversely affect our operations.

Natural disasters may affect and disrupt our operations. For example, in 2011, a volcanic eruption in Chile had a prolonged adverse effect on air travel, halting flights in Argentina, Chile, Uruguay and the southern part of Brazil for several days. As a result, our operations to and from these regions were temporarily disrupted. Any natural disaster that affects air travel in the regions in which we operate could have a material adverse impact on us.

Our controlling shareholder has the ability to direct our business and affairs and its interests could conflict with yours.

Our controlling shareholder has the power to, among other things, elect a majority of our directors and determine the outcome of any action requiring shareholder approval, including transactions with related parties, corporate reorganizations, dispositions, and the timing and payment of any future dividends, subject to minimum dividend payment requirements imposed under Law No. 6,404 of December 15, 1976, as amended, or the Brazilian corporation law. Although you are entitled to tag-along rights in connection with a change of control of our company and you will have specific protections in connection with transactions between our controlling shareholder and related parties, our controlling shareholder may have an interest in pursuing acquisitions, dispositions, financings or similar transactions that could conflict with your interests as a holder of the ADSs or our preferred shares. After the amendments to our by-laws on March 23, 2015, our controlling shareholder may continue to direct our business and affairs even after significantly reducing its ownership interest, which is currently equivalent to 61.3% of the economic interests in us. A difference in economic exposure may intensify conflicts of interests between our controlling shareholder and you. See “Item 9. The Offer and Listing–C. Markets–Corporate Governance Practices.”

Risks Relating to the ADSs and Our Preferred Shares

The relative volatility and illiquidity of the Brazilian securities markets, and securities issued by airlines in particular, may substantially limit your ability to sell the preferred shares underlying the ADSs at the price and time you desire. Recent decreases in our market capitalization have increased volatility in the trading price of our preferred shares and ADSs.

Investing in securities that trade in emerging markets, such as Brazil, often involves greater risk than investing in securities of issuers in the United States, and such investments are generally considered to be more speculative in nature. The Brazilian securities market is substantially smaller, less liquid, more concentrated and can be more volatile than major securities markets in the United States. Accordingly, although you are entitled to withdraw the preferred shares underlying the ADSs from the depositary at any time, your ability to sell the preferred shares underlying the ADSs at a price and time at which you wish to do so may be substantially limited. There is also significantly greater concentration in the Brazilian securities market than in major securities markets in the United States. The ten largest companies in terms of market capitalization represented 51.5% of the aggregate market capitalization of the BM&FBOVESPA S.A. Bolsa de Valores, Mercadorias & Futuros (“BM&FBOVESPA”) as of December 31, 2015.

Furthermore, in recent years our market capitalization has decreased and as a result it has increased volatility in the trading price of our preferred shares and ADSs. Any further decreases in our market capitalization may further increase volatility. As a result of the decrease in the trading price of our ADSs and in order to comply with the continued listing standards of the NYSE, since February 26, 2016 our ADSs represent 10 preferred shares, as opposed to one preferred share per ADS prior to such date, which may further reduce the liquidity of our ADSs.

In addition, the trading price of shares of companies in the worldwide airline industry are relatively volatile and investors’ perception of the market value of these shares, including our ADSs and preferred shares, may also be negatively impacted with additional volatility and decreases in the price of our ADSs and preferred shares.

Holders of the ADSs and our preferred shares may not receive any dividends.

According to our by-laws, we must pay our shareholders at least 25.0% of our annual net income as dividends, as determined and adjusted under Brazilian corporation law. The adjusted net income may be capitalized, used to absorb losses or otherwise appropriated as allowed under the Brazilian corporation law and may not be available to be paid as dividends. We may not pay dividends to our shareholders in any particular fiscal year if our board of directors determines that such distributions would be inadvisable in view of our financial condition.

If you surrender your ADSs and withdraw preferred shares, you risk losing the ability to remit foreign currency abroad and certain Brazilian tax advantages.

As an ADS holder, you benefit from the electronic foreign capital registration obtained by the custodian for our preferred shares underlying the ADSs in Brazil, which permits the custodian to convert dividends and other distributions with respect to the preferred shares into non-Brazilian currency and remit the proceeds abroad. If you surrender your ADSs and withdraw preferred shares, you will be entitled to continue to rely on the custodian’s electronic foreign capital registration for only five business days from the date of withdrawal. Thereafter, upon the disposition of or distributions relating to the preferred shares, you will not be able to remit abroad non-Brazilian currency unless you obtain your own electronic foreign capital registration.

If you attempt to obtain your own electronic foreign capital registration, you may incur expenses or suffer delays in the application process, which could delay your ability to receive dividends or distributions relating to our preferred shares or the return of your capital in a timely manner. The depositary’s electronic foreign capital registration may also be adversely affected by future legislative changes.

Holders of ADSs may be unable to exercise preemptive rights with respect to our preferred shares.

We may not be able to offer our preferred shares to “U.S. Holders” of ADSs pursuant to preemptive rights granted to holders of our preferred shares in connection with any future issuance of our preferred shares unless a registration statement under the Securities Act is effective with respect to such preferred shares and preemptive rights, or an exemption from the registration requirements of the Securities Act is available. We are not obligated to file a registration statement relating to preemptive rights with respect to our preferred shares, and we cannot assure you that we will file any such registration statement. If such a registration statement is not filed and an exemption from registration does not exist, Citibank, N.A., as depositary, will attempt to sell the preemptive rights, and you will be entitled to receive the proceeds of such sale. However, these preemptive rights will expire if the depositary does not sell them, and U.S. Holders of ADSs will not realize any value from the granting of such preemptive rights.

ITEM 4.       Information on the Company

A.      History and Development of the Company

General

We were formed on March 12, 2004 as a sociedade por ações, a stock corporation, duly incorporated under the laws of Brazil for an unlimited term. Our material assets consist of shares of VRG, shares of Smiles, four offshore subsidiaries, cash and cash equivalents and short-term investments. Our principal executive offices are located at Praça Comandante Linneu Gomes, S/N, Portaria 3, Jardim Aeroporto, CEP: 04626-020, São Paulo, SP, Brazil and the telephone number of our investor relations department is +55 11 2128-4700. Our website is www.voegol.com.br and investor information may be found on our website under www.voegol.com.br/ir. Information contained on our website is not incorporated by reference herein, and will not be considered a part of this annual report.

Capital Expenditures

For a description of our capital expenditures, see below “Item 5. Operating and Financial Review and Prospects—Liquidity and Capital Resources.”

B.      Business Overview

We are one of the largest low-cost carriers in the world, according to the International Air Transport Association, or IATA, in terms of passengers transported in 2015, and the largest low-cost carrier in Latin America. We provide frequent service on routes connecting all of Brazil’s major cities and from Brazil to major cities in South America and selected tourist destinations in the Caribbean.

Since the beginning of our operations in 2001, our affordable, reliable and simple service, and our focus on markets that were either underserved or did not have a lower-fare alternative, have led to a strong awareness of our brand and a rapid increase in our market share. We were the first company to successfully introduce low-cost carrier industry practices and technologies in Latin America. We have a young and standardized operating fleet of 7.7 years Boeing 737-700/800s, or Boeing 737 aircraft and our convenient flight routes offer the highest number of daily departures among airlines in Latin America. We have also since 2001 offered our air cargo services, Gollog.

 Beginning in 2012, we increased our focus on business passengers (high value-added customers), diversifying our revenue base from leisure passengers. Our strategy is to increase our share in this market while at the same time consolidating our leadership in flight routes. We also intend to expand the Smiles loyalty program, one of the largest loyalty programs in Latin America with over 11 million members as of December 31, 2015, and a number of attractive ancillary businesses, such as our air cargo services, or Gollog. Passenger transportation revenues represented 87.8% and ancillary revenues represented 12.2% of our net revenue of R$9,778.0 million in 2015.

As of March 31, 2016, we offered approximately 860 daily flights to 65 frequent destinations connecting the most important cities in Brazil as well as key destinations in Argentina, Bolivia, Chile, Paraguay, Uruguay, and the Caribbean. We strategically focus on the Brazilian and South American markets.

Our Competitive Strengths

We Have a Leading Market Position Based on Slots at the Most Important Airports in Brazil. Since 2007, we have been the carrier with the most flights connecting the busiest airports in Brazil: Congonhas and Guarulhos (São Paulo), Santos Dumont and Galeão (Rio de Janeiro), Juscelino Kubitschek (Brasília), Confins (Belo Horizonte), Magalhães (Salvador), Salgado Filho (Porto Alegre), Gilberto Freyre (Recife) and Afonso Pena (Curitiba). Routes between these airports are among the most profitable routes in our markets, with strong yields achieved mostly from business travelers.

We Keep Our Operating Costs Low. Our operating expense per available seat kilometer (CASK), ex-fuel, for 2015 was R$13.38 cents. We believe that our CASK for 2015, adjusted for the average number of kilometers flown per flight, or adjusted by stage length, was one of the lowest among global peers, based upon our analysis of data collected from publicly available information. Our business model is based on innovation and best practices adopted to improve our operating efficiency, including:

·         Operation of a young and standardized fleet. At December 31, 2015, our operating fleet of 142 Boeing 737 aircraft was one of Latin America’s largest and youngest fleets, with an average age of 7.7 years. Advanced technology present or installed in our newer aircraft has reduced fuel consumption and helped improve our operating margins. We plan to keep our operating fleet of Boeing 737 aircraft, until the arrival of our newly ordered Boeing 737 Max-7/8 aircraft (the newest generation of our current aircraft), which we expect will be delivered beginning in 2018. A standardized fleet reduces inventory costs, as it requires fewer spare parts, and eliminates the need to train our pilots to operate different aircraft types. It also simplifies our maintenance and operations processes.

·         State of the art maintenance. We carry out heavy maintenance on our Boeing 737 aircraft internally at our IOSA (IATA Operational Safety Audit) certified Aircraft Maintenance Center at the Tancredo Neves International Airport located in Confins, in the State of Minas Gerais. Since April 2012, our Aircraft Maintenance Center has also been certified by ANAC to provide conventional and electrostatic painting, weighing and recalibration services for aircraft owned or operated by other airlines.

·         We have one of the largest e-commerce platforms in Brazil. Our effective use of technology helps to keep our costs low and our operations highly scalable and efficient. Our distribution channels are streamlined and convenient, allowing our customers to interact with us via the internet. In 2015, we booked 80.8% of our ticket sales through a combination of our website and application programming interface, or API, 3.7% through our call center and 15.5% through Global Distribution Systems, or GDS.

We Are Majority Shareholders of Smiles, an Operator of One of the Largest Loyalty Programs in Latin America. With the acquisition of VRG in April 2007, we also acquired the Smiles loyalty program, which is available to all our passengers and which we consider a strong relationship-building tool that represents a sustainable competitive advantage. The Smiles loyalty program has partnerships, including hotel chains, car rental companies, restaurants, insurance companies, publishers and schools and also forms the basis for partnerships with some of Brazil and South America’s largest banks and credit card companies. The Smiles loyalty program had over 11 million members at December 31, 2015. See “Smiles Loyalty Program.”

We Have Strong Brand Recognition. We believe that the Gol brand has become synonymous with innovation and value in the airline industry. Our customers identify Gol as being safe, accessible, friendly, fair, intelligent and reliable and distinguish Gol in Brazil’s domestic airline industry on the basis of its modern and simplified approach to air travel services. Brand and product diversification from Smiles, Gollog and Gol+Conforto products enhance our brand recognition across a diverse set of customers in various businesses and represent an important tool for us.

We Have High Corporate Governance Standards and Proven Management. We have three independent board members, one of whom is nominated by Delta Air Lines Inc., or Delta, pursuant to our partnership agreement. Our top managers have broad experience in many sectors of the Brazilian economy, including air and ground transportation, telecommunications and consumer products. This experience has helped us to develop the most effective elements of our low-cost model; and we expect these competitive advantages will help us further penetrate the Brazilian middle-class market, as well as the business passenger market, and generate ancillary revenues. On March 23, 2015, our shareholders approved certain amendments to our by-laws to improve corporate governance and strengthen the alignment of interest among common and preferred shareholders. Please see “Item 9. The Offer and Listing–C. Markets–Corporate Governance Practices” for further details.  

Our Strategies

Our strategy is based on four main strategic pillars: increase passenger revenue, expand ancillary revenues, further reduce costs and improve our financial resilience. In order to implement our strategies we intend to:

Capitalize on Our Strong Market Position in Brazil and Latin America. We intend to increase penetration across all traveler segments by capitalizing on our strong market position, our widespread brand recognition, the greatest number of business routes and highest frequencies between the most important airports in Brazil, our consolidated flight network and the Smiles loyalty program. We will focus on Brazilian operations and selected South American destinations. In addition, we believe that the airline industry may experience further consolidation and therefore believe that establishing partnerships and alliances with other airlines will be a key factor to our success. In this environment we intend to play a leading role in the Latin American airline industry and to strengthen our position as a long-term player in the industry.

Improve Operating Efficiency. Reducing our operating expense per available seat kilometer (CASK) and adjusting capacity are key to improving our profitability. We aim to maintain our position as one of the lowest cost airlines in the world. We intend to adjust our strategy to focus on more profitable routes and to maintain the young and fuel-efficient fleet while maintaining high utilization rates. Our aircraft utilization rate was 11.3 block-hours per day in 2015, as compared to 11.5 block-hours per day in 2014 and to 11.2 block-hours per day in 2013.

We seek to reduce our CASK by utilizing our aircraft efficiently, concentrating on minimizing our turnaround times at airports and maintaining a high number of daily flights per aircraft. We will continue to utilize technological innovations wherever possible to reduce our distribution costs and improve our operating efficiency.

Maintain an Adequate Cash Position. We currently seek to maintain an adequate cash position and to lengthen the maturity profile of our financial liabilities, avoiding the concentration of significant debt maturities over the next two years.

Increased Focus on Business Travelers. We intend to maintain our high on-time performance, 93% and 95% in 2014 and 2015, respectively, and regularity, 93% and 91.9% in 2014 and 2015, respectively, both key elements in impacting business traveler airline choice. We offer higher-rate fares that allow flexibility to reschedule or cancel tickets with little advance notice and no additional costs, higher mileage multiplier in the Smiles loyalty program, and our new and exclusive Gol+ Gol+Conforto on São Paulo-Rio de Janeiro shuttle flights. Gol+ seats offer additional legroom and Gol+Conforto seats, which include additional legroom and recline, are located in first rows where the middle seat is not sold and are found in aircraft specifically configured for this specific route, with a higher share of business travelers. Between 2014 and 2015 the number of business travelers on our flights decreased by 7.2% and in 2015 we were the leader in tickets sold to business travelers in domestic flights.

Strengthen the Smiles Loyalty Program. We intend to further strengthen the Smiles loyalty program by increasing interaction with members and adding perceived value to its members through the following initiatives:

·         Separate entity. In 2013, we segregated the Smiles loyalty program activities into a distinct company, Smiles, with a management team fully dedicated to pursuing all business opportunities arising from the growth of this market in Brazil. In May 2013, Smiles concluded its R$1.1 billion initial public offering. Smiles had 94 full time employees as of December 31, 2015, compared to 91 as of December 31, 2014.

·         New Products. Since 2013, we have continuously launched products that are now within the Smiles loyalty program structure. In 2013, we launched (i) Clube Smiles, a benefits club, whereby, for a R$30.00 monthly fee, members receive 1,000 miles a month plus a one-year extension of their mileage expiration date as well as other benefits, such as early access to Smiles promotions; (ii) option to purchase and reactivate miles; and (iii) the option to transfer miles. In 2014, we launched (i) the loyalty partnership with Localiza, Brazil’s largest car rental company; (ii) a website specifically designed for mobile devices, the first in Brazil, which allows customers to redeem airline tickets; (iii) ticket reservations for three days, free of charge for Clube Smiles customers; and (iv) new frequent flyer program agreements with Aerolíneas Argentinas, Aeromexico, Etihad, TAP Airlines and Alitalia. In 2015, we launched (i) new Clube Smiles categories, which allow customers to earn up to 5,000 miles monthly; (ii) a partnership with Connexions Loyalty which allows customers to redeem miles for hotel stays in more than 140,000 locations worldwide; (iii) redemption of airport fees with miles, (iv) a redemption partnership with Royal Caribbean; and (v) frequent flyer agreements with Air Canada, Copa Airlines and Korean Air.

·         Partnerships. Existing and new partnerships with large international airlines, in the form of frequent flyer program arrangements, financial institutions, retail chain-stores, car rental and insurance companies, among others, are offered to Smiles loyalty program members with more opportunities to earn and redeem miles.

Expand Our Industry Partnerships. We believe we have the best platform to expand our customer base in the markets in which we operate through partnerships. We intend to strengthen our existing industry partnerships and enter into new ones, including with large international airlines in the form of codeshare arrangements to further increase our international feeder network, load factor and profitability.

As of December 31, 2015, we had eleven codeshare agreements with: Delta, Air France-KLM, Aeromexico, Aerolíneas Argentinas, Etihad Airways, Qatar Airways, TAP, Alitalia, Korean Air, Copa Airlines, Air Canada and 77 interline agreements.

Further Innovate, Establish and Increase Our Ancillary Revenue Businesses. Our ancillary revenues are derived from Gollog, ticket change fees, excess baggage charges and other services. We expect further growth in these businesses, which will provide us with additional revenue at low incremental cost by:

·         Focusing on express delivery services. Through Gollog, our cargo transportation service, we make efficient use of extra capacity in our aircraft by carrying cargo. On April 15, 2015, we opened a new cargo terminal at Congonhas airport. The new terminal is part of our strategy to expand Gollog’s service network, providing more efficiency and convenience to our customers.

·         Continuously innovating and introducing new products to the Brazilian market. We have a strong track record of innovation and introduction of new business practices in Brazil. For example, in June 2009, we were the first airline to introduce the sale of beverages and food on board (buy on board) in Brazil, generating ancillary revenue without increasing our cost structure or fare price. As of December 31, 2014, we offered buy on board service on all of our flights. More recently in 2013, we introduced the sale of the new Gol+Conforto seats, which are available free of charge for Smiles Diamond and Delta Air Lines Elite customers, and to customers for an additional fee, as part of our Gol+ product. Gol+Conforto seats are currently available on all our flights. Expanding Gol+ from our shuttle routes to our entire flight network is part of our standardization process, which generates revenue and increases efficiency gains.

Recent Developments

We have in recent years faced a challenging scenario, which has negatively affected our results, liquidity and capital structure. This scenario included: slowdown of the Brazilian economy, sharp devaluation of the real, decrease in demand, industry overcapacity, operating cost increases, ratings decline and accumulative losses.

Repeated efforts over the last years to address certain effects of this scenario were not sufficient, so we embarked in the past year on a series of initiatives to comprehensively address our liquidity and capital structure concerns.

The initiatives in the second half of 2015 and first months of 2016 include:

·         Equity infusion. In September  2015, Volluto, our controlling shareholder, made an equity investment in us of R$283.9 million. Concurrently, Delta purchased additional capital stock for R$177.3 million;

·         Delta financing support. Working closely with Delta, in August 2015, we entered into an unsecured term loan of US$300 million, fully guaranteed by Delta. Being able to offer this guarantee allowed us to secure this financing on amounts and on terms that most likely would not have been available to us otherwise. Our obligation to reimburse Delta if its guarantee is called upon is secured by a pledge to Delta of our shares in Smiles;

·         Fleet reduction. In early 2016, we returned five aircraft under finance leases, two of them outright and the other three under sale and leaseback agreements, and sold our rights to three aircraft deliveries from Boeing in 2016, which originally would have replaced outgoing fleet  aircraft; and

·         Operating cost reductions. We implemented various operating cost-saving initiatives, including overhead reductions, introduction of part-time employees to offset reduced demand during low seasons and renegotiations with suppliers.

In the last several months we embarked on additional initiatives:

·         Advance ticket sales. On February 26, 2016 VRG entered into a miles and tickets purchase agreement with Smiles, totaling up to R$1.0 billion, providing for advance ticket sales to Smiles in various tranches through June 30, 2017. The first tranche, of R$376.0 million, was disbursed by Smiles in February 2016 and the remaining tranches are conditioned upon certain other additional cost-savings;

·         Route network changes. In March 2016, we changed our route network to focus on more profitable routes; we expect to reduce by year-end the number of take-offs and seats by 15% to 18% and the number of ASKs by 5% to 8%. As a result of this change, we suspended flights to eight destinations and expect to reduce our fleet by approximately 15% by year-end;

·         Supplier negotiations. We began discussions with key suppliers to reduce our costs and adjust to the new network and fleet profiles. For example, in the first quarter of 2016 we revised our delivery schedule with Boeing so that we will not receive any new aircraft until mid-2018; and

·     Capital structure improvements. We engaged PJT Partners to advise us in connection with measures to strengthen our capital structure and liquidity and to improve the profile of our debt. Additionally, PJT is advising us in connection with our U.S. dollar denominated unsecured bonds.

These initiatives are part of our new business plan. However, we cannot assure you that we will be successful in implementing any or all of the initiatives above or that these will be sufficient to address our current financial condition.

Airline Business

Routes and Schedules

Our operating model is a highly integrated, multiple-hub route network that is different from the point-to-point model used by other low-cost carriers worldwide. The high level of integration of flights at selected airports permits us to offer frequent, non-stop flights at low fares between Brazil’s most important economic centers and ample interconnections through our network linking city pairs through a combination of two or more flights with little connecting or stop-over time. Our network also allows us to increase our load factor on our strongest city pair routes by using the airports in those cities to connect our customers to their final destinations. This strategy increases our load factor by attracting customers traveling to secondary markets who prefer to pay lower fares even if this means making one or more stops before reaching their final destination. Our operating model allows us to build our flight routes to add destinations to cities that would not, individually, be economically viable to serve in the traditional point-to-point model, but that are feasible to serve when simply added as additional points on our multiple-stop route network. We do this by offering low-fare, off-peak, minimum stay or night (red-eye) flights to lower-traffic destinations, which can be the first or last stops on our routes, allowing us to increase our aircraft utilization and generate additional revenues. By offering international flights to destinations in South America and the Caribbean (using our current Boeing 737 aircraft), with stops integrated in our network, we create opportunities for incremental traffic, feeding our network and increasing our overall load factor and our competitive advantage and supporting our strategy of expanding our network and stimulating demand for our services. For further information see “Item 4. Information on the Company–B. Business Overview–Recent Developments.”

We have been adding more routes to Caribbean destinations, which we expect will give us additional growth opportunities in the Brazilian and international markets. In addition, we consider expanding to potential new destinations in Latin America in regions with medium density, represented by airports with a population of up to one million within a 200 km radius.

As of March 31, 2016, we offered over 860 daily flights to 65 destinations connecting the most important cities in Brazil as well as the main destinations in Argentina, Bolivia, Chile, Paraguay, Uruguay and the Caribbean region.

Services

Passenger Transportation

We recognize that we must offer excellent services to our corporate and leisure customers. We pay particular attention to the details that help to make for a pleasant, complication-free flying experience, including:

·         ticketless travel;

·         convenient online sales, check-in, seat assignment and flight change and cancellation services;

·         high frequency of flights between Brazil’s most important airports;

·         low cancellation and high on time performance rates of our flights;

·         high on-time performance rates on our flights;

·         online flight status service;

·         web-enabled cell phone ticket sales and check-in;

·         self-check-in at kiosks at designated airports;

·         designated female lavatories;

·         friendly and efficient in-flight service;

·         modern aircraft interiors;

·         quick turnaround times at airport gates;

·         free or discounted shuttle services between airports and drop-off zones on certain routes;

·         buy on board services on certain flights;

·         mobile check-in and boarding pass (100% paperless boarding);

·         smartphone application for check-in, electronic boarding pass and Smiles account management;

·         More space between seats and greater comfort (GOL+ Comforto in the domestic flights and GOL Premium Class in the international flights); and

·         in-flight entertainment and wi-fi access (available from May 2016).

In general, flight revenues, passenger demand and profitability reach peak levels during the January and July vacation periods and in the final two weeks of December, during the Christmas holiday season. Conversely, we often witness a decrease in load factor during the week in which annual carnival celebrations take place in Brazil. Given our high proportion of fixed costs, this seasonality is likely to cause our results of operations to vary from quarter to quarter.

Ancillary Revenues and Gollog Cargo Transportation

Ancillary revenues include revenues from our Gollog services as well as baggage excess and ticket change fees. Buy on board and travel insurance fees are also becoming an increasingly important part of this revenue. Further development and growth of our Gollog services is a key part of our strategy to increase ancillary revenue and serves 3,192 cities in Brazil and more than 47 countries and 90 foreign destinations through international partnerships.

We are constantly evaluating opportunities to generate additional ancillary revenue such as sales of travel insurance, marketing activities and other services which may help us to better capitalize on the large number of passengers on our flights and the high volumes of customers using our website.

We have an integrated Smiles and Gollog platform in our air travel portal for the convenience of our customers.

We make efficient use of extra capacity in our aircraft by carrying cargo, through Gollog. Gollog’s success is the result of the unique service we offer to the market: the Electronic Air Waybill that can be completed online. The Gollog system provides online access to air waybills and allows customers to track their shipment from any computer with Internet access. Our 65 destinations throughout Brazil, South America and the Caribbean provide access to multiple locations in each region. With our capacity of approximately 860 daily flights, operated by 142 Boeing 737-700/800 aircraft, in addition to a fleet of approximately 400 vehicles, we can guarantee quick and reliable delivery.

Our express delivery products – Gollog VOO CERTO, Gollog EXPRESS, Gollog ECOMMERCE and Gollog DOC – were developed to meet the growing demand for door-to-door deliveries, defined deadlines and additional optional services. We intend to intensify our efforts in the express delivery services by further strengthening our logistics capability, mainly by expanding our ground distribution network and further intensifying our commercial efforts.

Aircraft Fleet

On December 31, 2015, we had an operational fleet of 142 aircraft, of which two were in redelivery process, and a total fleet of 144 aircraft.

The following table sets forth the composition of our fleet at the dates indicated:

______________

(1) Two aircraft are not operational as they are in the process of being returned under their respective leases.

(2) All B737-300 aircraft result from the acquisition of Webjet. See “—Non-operating Fleet” below.

As of December 31, 2015, of our total 144 aircraft: 98 were under operating leases and 46 were under finance leases.

As of December 31, 2015, our operating leases had an average remaining term of 71.8 months and original total terms of up to 142.8  months from the date of delivery of the relevant aircraft.

As of December 31, 2015, our finance leases had an average remaining term of 60.7 months and we had purchase options for 40 of our aircraft under finance leases.

We believe that leasing our aircraft fleet provides us with flexibility to adjust our fleet size. We make monthly rental payments, some of which are based on floating rates, but we are not required to make termination payments at the end of our leases. Under our operating lease agreements, we do not have purchase options and for some of our lease agreements we are required to maintain maintenance reserve deposits and to return the aircraft and engine in the agreed condition at the end of the lease term. Title to the aircraft remains with the lessor. We are responsible for the maintenance, servicing, insurance, repair and overhaul of the aircraft during the term of the lease.

In 2015, we received eight aircraft based on operating lease contracts. We returned five aircraft under operating leases and one aircraft under finance lease contracts.

Operating Fleet

The average age of our operating fleet of 144 Boeing 737-700/800 aircraft as of December 31, 2015, was 7.7 years. The average daily utilization rate of our operating fleet in 2015 was 11.3 block hours as compared to 11.5 block hours in 2014.

Each Boeing 737 aircraft in our fleet is powered by two CFM International Model CFM 56-7B22 engines or two CFM International Model CFM 56-7B24 engines. All Boeing 737-800 NG Short-Field Performance are equipped with an upgrade thrust plug in each engine, which allows it to operate as a CFM 56-7B27/B3 engine with 27,000 lbs.

The Boeing 737-700 Next Generation and Boeing 737-800 Next Generation aircraft currently comprising our fleet are fuel-efficient and very reliable. They suit our cost efficient operations well for the following reasons:

·         they have comparatively standardized maintenance routines;

·         they require just one type of standardized training for our crews;

·         they use an average of 7% less fuel than other aircraft of comparable size, according to Boeing; and

·         they have one of the lowest operating costs in their class.

In addition to being cost-efficient, the Boeing 737-700/800 Next Generation aircraft are equipped with advanced technology that promotes flight stability, providing a more comfortable flying experience for our customers. We use a single type of aircraft to preserve the simplicity of our operations and the introduction of any new aircraft type to our fleet will only be done if, after careful consideration, we determine that such a step will reduce our operating costs. As such, we plan to continue keeping our operating fleet of Boeing 737-700/800 aircraft, until the arrival of our newly ordered Boeing 737 Max-7/8 aircraft (the newest generation of our current aircraft) which we expect will be delivered starting 2018.

Most of our Boeing 737-800 Next Generation aircraft are equipped with blended winglets and all Boeing 737-800 Next Generation aircraft from our purchase order will be equipped with winglets, which reduce our fuel and maintenance costs. Our experience with the new winglets has shown operating fuel consumption reductions from 3% to 5%. In addition, the winglets improve airplane performance during take-off and landing on short runways. The new Boeing 737-800 NG aircraft will be delivered with short-field performance (SFP) with technical modifications that we expect to significantly improve flight performance, the ability to operate non-stop flights, reduce noise during take-off and enable us to fly with our Boeing 737-800 Next Generation aircraft to the airport of Santos Dumont in Rio de Janeiro, an important link to the most important routes in Brazil.

All of our new aircraft are equipped with the new Sky Interior standard.

Non-operating Fleet

As of December 31, 2015, we had a non-operating fleet composed of two aircraft from our operating fleet were in redelivery process.

Fleet Plan

The following table sets forth our year-end projected operating fleet through 2020:

* Includes SFP aircraft (Short Field Performance)

The fleet plan includes the arrival of new Boeing 737-MAX aircraft, which are expected to arrive in 2018. We will revise this fleet plan according to our expectations for the growth potential in the markets in which we operate.

Sales and Distribution

Our customers can purchase tickets directly from us through a number of different channels, such as our website including our Booking Web Services (BWS), our call center, at airport ticket counters and, to a lesser extent, GDS.

Our low-cost low-fare business model utilizes website ticket sales as its main distribution channel, especially in the local market. For the year ended December 31, 2015, 80.8% of our passenger revenue, whether directly from the customer or through travel agents, were booked online, making us a global leader in this area. In the same period, 3,7% of our passenger revenue were booked through call centers, airport sales counters, and our BWS and 15.5% of our total sales were made through the GDS.

Our customers can purchase tickets indirectly through travel agents, who are a widely-used travel service resource in Brazil and South America, Europe, North America and other regions. For the year ended December 31, 2015, travel agents provide us with approximately 11,000 distribution outlets throughout these regions.

GDS allows us access to a large number of tourism professionals who are able to sell our tickets to customers throughout the globe and enables us to enter into interline agreements with other airlines to offer more flights and connection options to our passengers and add incremental international passenger traffic, especially to our international network.

In December 2013, we reformulated our sales website in order to make online purchases easier and faster. Our customers can now filter searches by price, check flight status and register travel companions as favorites. Additionally, customers who purchase their flights online with fewer than 7 days before departure will have their check-in done automatically.

Partnerships and Alliances

General

Our strong market positioning enables us to successfully negotiate a number of arranged partnerships with supplementary major carriers worldwide, mostly in the form of codeshare agreements and interline agreements. Additional passenger inflows generated by these strategic partnerships help improve revenues at low incremental costs.

As of December 31, 2015, we had eleven codeshare agreements with: Delta, Air France-KLM, Aeromexico, Aerolíneas Argentinas, Alitalia, Etihad Airways, Qatar Airways, TAP, Korean Air, Copa Airlines, Air Canada and 77 interline agreements. In addition, we celebrated a frequent flyer program agreement with Aerolíneas Argentinas in 2014.

An interline agreement is a commercial agreement between individual airlines to handle passengers traveling on itineraries that require multiple airlines. This type of agreement allows passengers to utilize a single ticket and to check their baggage through to the passengers’ final destination. Interline agreements differ from codeshare agreements in that codeshare agreements usually refer to numbering a flight with the airline’s code (abbreviation) even though the flight is operated by another airline. These agreements provide for better marketing and customer recognition of the links between the airlines.

Delta Investment and Commercial Agreements

On December 7, 2011 our controlling shareholder and Delta entered into an investment agreement providing for the sale of 8,300,455 preferred shares in the form of ADSs owned by our controlling shareholder to Delta at a price per share equivalent to R$22.00, or the Delta Investment. Our controlling shareholder used the entire net proceeds from the sale of preferred shares to Delta to subscribe for new common and preferred shares in a rights offering issued by us at the same price per share paid by Delta.

Our controlling shareholder further agreed to elect a Delta representative to our board of directors as long as Delta holds at least 50% of the ADSs acquired in the investment, among other conditions.

In the context of the Delta Investment, we entered into a long-term commercial agreement with Delta that included exclusivity provisions designed to strengthen the operational cooperation and synergies between the two companies, including:

·         an increase in the scope of the codeshare agreement (flight sharing). We have our own code in all Delta flights between Brazil and the United States. In addition, Delta continues to increase the use of codeshare in our flights in Brazil, South America, the United States and the Caribbean. This increases the number of flight options for passengers of both airlines, expanding our geographical reach;

·         optimization of flight connections and cargo and passenger transport services through the operations working group among the nearly 400 destinations in over 62 countries served by Gol and Delta;

·         the increase in passenger comfort by aligning services and benefits for members of both the Smiles and SkyMiles mileage programs, for example, making it possible to earn and redeem miles and get free access to GOL+Conforto seats, among other advantages;

·         joint commercial and promotional activities, encouraging both airlines’ sales forces to cooperate in Brazil, the United States and other countries, including joint sponsorship of events such as Rock in Rio; and

·         the exploration of synergies in passenger services, maintenance, VIP lounges and logistical support, including Delta task force in revenue management and maintenance, the use of Smiles lounge by Delta Elite passengers and the use of the SkyClub by Smiles Diamond passengers.

We, our controlling shareholder, Fundo de Investimentos em Participações Volluto (“Volluto”), and Delta in 2015 entered into the following transactions:

·         equity investments in Gol of approximately R$283.9 million and approximately R$177.3 million by Volluto and Delta, respectively (collectively, the “Equity Investment”),

·         an unsecured term loan of US$300 million borrowed by Gol LuxCo and guaranteed by Delta, and

·         an extension and expansion of Gol’s commercial cooperation arrangements with Delta.

The transactions above are intended to allow Gol and Delta to continue to benefit from their strategic partnership and to significantly enhance Gol’s financial position and liquidity.

Equity Investment

On September 4, 2015, Gol’s board of directors approved a capital increase in the amount of R$461.3 million, at a subscription price of R$7.20 reais per share.

Pursuant to an Investment Agreement entered into among Volluto, Gol and Delta with respect to the capital increase:

·         Volluto (1) invested R$283.9 and subscribed for approximately 62% of the new shares of Gol in the capital increase, and (2) assigned to Delta its preemptive rights to subscribe for any shares not subscribed for by other Gol shareholders in the capital increase.

·         Delta (1) exercised its preemptive rights to subscribe for approximately 2.9% of the new shares in the capital increase and (2) exercised the preemptive rights assigned to it by Volluto, for an aggregate investment of R$177.3 million.

All holders of Gol’s preferred shares, except for holders of preferred shares in the form of American Depositary Receipts, were entitled to exercise their preemptive rights to subscribe for a portion of the newly issued shares proportionate to their existing shareholdings, pursuant to our by-laws.

Term Loan Guaranteed by Delta

On August 31, 2015, Delta guaranteed a US$300 million Term Loan borrowed by Gol LuxCo from third party lenders. The Term Loan was made under a credit and guaranty agreement (the “Credit and Guaranty Agreement”) among Gol LuxCo, as borrower, Gol, the Lessee and the other guarantors thereunder (collectively, the “Term Loan Guarantors”) and the lenders party thereto (the “Third Party Lenders”).

Under the terms of the Credit and Guaranty Agreement, Gol LuxCo’s obligations thereunder are guaranteed by the Term Loan Guarantors. Pursuant to a separate guaranty agreement, Delta provided to the administrative agent under the Credit and Guaranty Agreement, and the lenders under the Credit and Guaranty Agreement, a backstop guarantee of Gol LuxCo’s and the Term Loan Guarantors’ respective obligations under the Credit and Guaranty Agreement (the “Delta Guaranty”). The reimbursement obligations to Delta in connection with the Delta Guaranty, which are guaranteed by Gol and VRG, are secured by a first priority security interest in favor of Delta in a portion of the shares of Smiles held by Gol.

The Term Loan bears interest at a rate of 6.50% per annum, payable semi-annually. The Term Loan matures at August 31, 2020 and is not secured by any property of Gol LuxCo or the Term Loan Guarantors.

Extension of Commercial Arrangements with Delta

Gol and Delta also agreed to extend the term of their existing strategic, long-term commercial cooperation agreements with exclusivity provisions designed to strengthen the cooperation and synergies between the two companies, and to extend their commercial arrangements relating to aircraft maintenance services.

In addition, we have also entered into an strategic MRO partnership agreement with Delta TechOps, This agreement also provides for our rendering of maintenance services to Delta aircraft with extended ground time in Brazil. See “–Maintenance.”

Air France-KLM

On February 19, 2014, we entered into an exclusive long term strategic partnership for commercial cooperation with Air France-KLM. Under this agreement, Air France-KLM made payments of US$33 million and has committed to make additional payments of US$15 million for the purpose of enhancing our codesharing, connectivity and joint sale activities as well as other benefits for our customers, including the integration and improvement of products and services for our frequent flyer programs. As part of this agreement, Air France-KLM also invested US$52 million in the acquisition of a number of our newly issued preferred shares, equivalent to 1.5% of our capital stock, at an issuance price equivalent to US$12.23 per share.

The agreement further provides for the creation of an alliance committee, comprised of at least one representative of Air France-KLM, at least two members of our board of directors and at least one representative of Delta.

Pricing

Brazilian airlines are permitted to establish their own domestic fares without previous government approval. Airlines are free to offer price discounts or follow other promotion activities. Airlines must submit, 30 days after the end of each month, a file containing fares sold and quantity of passengers for each fare amount, for all markets. This file lists regular fares and excludes all contracted, corporate and private fares. The objective is to monitor the average market prices. The same procedure applies for international fares. The only difference is that all fares sold for interline itineraries are also excluded from the file sent to ANAC.

Yield Management

Yield management involves the use of historical data and statistical forecasting models to produce knowledge about our markets and guidance on how to compete to maximize our operating revenue. Yield management forms the backbone of our revenue generation strategy and is strongly linked to our route and schedule planning and our sales and distribution methods. Our yield management practices enable us to react quickly in response to market changes. For example, our yield management systems are instrumental in helping us to identify the flight times and routes for which we offer promotions. By offering lower fares for seats that our yield management indicates would otherwise remain unsold, we capture additional revenue and also stimulate customer demand.

Maintenance

According to ANAC regulation, we are directly responsible for the execution and control of all maintenance services performed on our aircraft. The maintenance performed on our aircraft can be divided into two general categories: line and heavy maintenance. Line maintenance consists of routine, scheduled maintenance checks on our aircraft, including pre-flight, daily and overnight checks and any diagnostics and routine repairs. All of our line maintenance is performed by our own highly experienced technicians at our line maintenance service bases throughout Brazil and South America. We believe that our practice of performing daily preventative maintenance helps to maintain a high aircraft utilization rate and reduces maintenance costs. Heavy maintenance consists of more complex inspections and servicing of the aircraft that cannot be accomplished overnight. Heavy maintenance checks are performed following a pre-scheduled agenda of major overhauls defined by the aircraft’s manufacturer, based on the number of hours and flights flown by the aircraft. In addition, engine maintenance services are rendered in different MRO facilities. We do not believe that our high aircraft utilization rate will necessarily result in the need to make more frequent repairs to our aircraft, given the durability of the aircraft type in our fleet. Our aircraft are covered by warranties that have an average term of 48 months for products and parts and 12 years for structural components. The warranties on the aircraft we received in 2014 and 2015 under our firm purchase order with Boeing will start expiring in 2018 and 2019, respectively.

We internalized heavy maintenance on our Boeing 737 aircraft in our Aircraft Maintenance Center at the Tancredo Neves International Airport in Confins, in the State of Minas Gerais. We use this facility for airframe heavy checks, line maintenance, aircraft painting and aircraft interior refurbishment. We have three hangars at our Aircraft Maintenance Center, with a capacity to perform maintenance on 6 aircraft simultaneously and painting services on one additional aircraft. We also have room to build another hangar, if needed.

We have entered into two strategic MRO partnership agreements in order to provide overhaul service for our CFM 56-7 engines, maintenance for parts and components on our fleet of Boeing 737 NG aircraft and also, consulting services related to maintenance workflow planning, materials and facility optimization and tooling support:

·         with Delta TechOps, the maintenance division of Delta, for maintenance of 50% CFM 56-7 engines. Delta TechOps will also assist us with our efforts to secure FAA certification. This agreement also provides for our rendering of maintenance services to Delta aircraft with extended ground time in Brazil.

·         with MTU in order to provide MRO services to the remaining 50% of our CFM 56-7 engines as well as maintenance of engine parts and components of our Boeing 737 NG aircraft.

We have been certified by ANAC under Brazilian Aeronautical Certification Regulations to perform heavy maintenance services for third parties. We have used this certification as a source for ancillary revenues, since our construction of an additional maintenance facility was completed.

Fuel and Hedging

Our fuel costs totaled R$3,301.4 million in 2015, representing 33.2% of our operating costs and expenses for the year. In 2015, we purchased substantially all of our fuel from Petrobras Distribuidora, a retail subsidiary of Petrobras, principally under an into-plane contract under which the supplier supplies fuel and also fills our aircraft tanks. In addition to Petrobras, there are two other large fuel suppliers in Brazil. In 2015, fuel prices under our contracts were re-set every 30 days and were composed of a variable and a fixed component. The variable component is defined by the refinery and follows international crude oil price fluctuations and the real/U.S. dollar exchange rate. The fixed component is a spread charged by the supplier and is usually a fixed cost per liter during the term of the contract. We currently operate a tankering program under which we fill the fuel tanks of our aircraft in regions where fuel prices are lower. We also provide our pilots with training in fuel management techniques, such as carefully selecting flight altitudes to optimize fuel efficiency.

The following chart summarizes our fuel consumption and costs for the periods indicated:

We continuously invest in initiatives to reduce fuel consumption. We started using Aircraft Communications Addressing and Reporting System, or ACARS, in 2010. ACARS is a system that permits real-time digital transmission, via satellite, of important flight data between aircraft and our bases, allowing routes and flight times to be automatically updated. We decided to increase ACARS coverage and create the CCD (Digital Communications Center) within the Operational Control area, which started operating in May 2011. We had installed ACARS in 135 aircraft by the end of 2015. The Center is responsible for monitoring aircraft in real time, as well as streamlining operations and managing various flight data. We also started using GPS Landing System in January 2010 and we fully implemented the system in all our fleet at the end of 2014. This system reduces fuel consumption during take-off and landing, increases precision and safety.

Fuel costs are extremely volatile, as they are subject to many global economic and geopolitical factors that we can neither control nor accurately predict. Because international prices for jet fuel are denominated in U.S. dollars, our fuel costs, though payable in reais, are subject not only to price fluctuations but also to exchange rate fluctuations. We maintain a fuel hedging program, based upon policies which define volume, price targets and instruments, under which we enter into fuel and currency hedging agreements with various counterparties providing for price protection in connection with the purchase of fuel. Our hedging positions cover short and long-term periods, and are adjusted weekly or more frequently as conditions require. Our hedging practices are executed by our internal risk management committee and overseen by the risk policies committee of our board of directors. The risk policies committee, which may be comprised of members of our board of directors, external consultants, and senior management, meets monthly or more often, if called, and its main responsibilities are to assess the effectiveness of our hedging policies, recommend amendments when and where appropriate and establish its views regarding fuel price trends. We use risk management instruments that have a high correlation with the underlying assets so as to reduce our exposure. We require that all of our risk management instruments be liquid so as to allow us to make position adjustments and have prices that are widely disclosed. We also avoid concentration of credit and product risk. We have not otherwise entered into arrangements to guarantee our supply of fuel and we cannot provide assurance that our hedging program is sufficient to protect us against significant increases in the price of fuel. We also use non-derivative instruments as alternative hedge conferring an additional average protection through fixed price fuel transactions for future delivery negotiated with our main fuel supplier. 

We have adopted a financial instruments policy in order to protect us against market price fluctuations of fuel, foreign exchange and interest rates that can adversely affect our operations. We use Brent and heating oil zero cost collar derivative contracts as protection instruments for our fuel hedge operations. At the end of the fourth quarter of 2014, we opted to settle all our contracted put options in order to limit the downside risk given the substantial decrease in oil prices at the end of the period, only maintaining our exposure to call options.

As of December 31, 2015, we had hedged 31.7% of our fuel exposure in the next three months, which was composed of non-derivative instruments. A total of 17.1% of the next six months and 8.5% for the year were hedged by non-derivative instruments.

Safety and Security

Our most important priority is the safety of our passengers and employees. We maintain our aircraft in strict accordance with manufacturer specifications and all applicable safety regulations, and perform routine line maintenance every day. Our pilots have extensive experience, with flight captains having more than 10,000 hours of career flight time, and we conduct ongoing courses, extensive flight simulation training and seminars addressing the latest developments in safety and security issues. We closely follow the standards established by ANAC’s Air Accident Prevention Program and we have installed the Flight Operations Quality Assurance System, which maximizes proactive prevention of incidents through the systematic analysis of the flight data recorder system. All of our aircraft are also equipped with Maintenance Operations Quality Assurance, a troubleshooting program that monitors performance and aircraft engine trends. The Brazilian civil aviation market follows the highest recognized safety standards in the world. We are also an active member of the Flight Safety Foundation, a foundation for the exchange of information about flight safety.

Environmental Sustainability

Since 2010, we prepare Annual Sustainability Reports based on Global Reporting Initiative (GRI) guidelines, an international standard for reporting economic, social and environmental performance. By adopting these parameters, we are reinforcing our accountability with various stakeholders through added transparency and credibility.

We also constantly invest in becoming more environmentally sustainable and have recently implemented the following actions:

·         Expansion of our Aircraft Maintenance Center at the Tancredo Neves International Airport located in Confins, in the State of Minas Gerais: we have reduced costs by decreasing the necessity of flying our aircraft overseas to be serviced. We also treat all of the effluents generated in our facilities and are committed to the reuse of water. The Maintenance Center was designed to comply with environmental responsibility requirements and all of the conditions imposed by the environmental licenses and current legislation.

·         We were the first Brazilian airline selected to join the Sustainable Aviation Fuel Users Group (SAFUG), an international aviation biofuel research group, and we participate in biofuel feasibility tests. On October 23, 2013, we flew the first commercial flight with biofuel in Brazil, from Congonhas to Brasília, which emitted approximately 0.5 tons less CO2.

·         We have a partnership agreement with the Fuel and Carbon Services Division of GE Aviation, which envisages the creation of studies and systems to reduce fossil fuel consumption and greenhouse gas emissions.

Insurance

We maintain passenger liability insurance in an amount consistent with industry practice and we insure our aircraft against losses and damages on an “all risks” basis. We have obtained all insurance coverage required by the terms of our leasing agreements. We believe our insurance coverage is consistent with airline industry standards in Brazil and is appropriate to protect us from material loss in light of the activities we conduct. No assurance can be given, however, that the amount of insurance we carry will be sufficient to protect us from material loss.

Competition

Domestic

Airlines in Brazil compete primarily on the basis of routes, fare levels, frequency of flights, capacity, airport operating rights and presence, reliability of services, brand recognition, frequent flyer programs and customer service.

Our main competitors in Brazil are LATAM Airlines Group, or LATAM, Azul Linhas Aéreas, or Azul, and Avianca Brasil, or Avianca. LATAM is the result of a June 2012 merger between TAM Airlines of Brazil and LAN Airlines of Chile, and is a full-service scheduled carrier offering flights on domestic routes and international routes. Azul is a low-cost regional domestic carrier, which acquired another regional carrier, Trip, in 2012. Avianca was founded in Colombia, and licensed its brand in Brazil in 2010. We also face domestic competition from other domestic scheduled carriers, regional airlines and charter airlines, which mainly have regional networks.

As the growth in the Brazilian airline sector evolves, we may face increased competition from our primary competitors and charter airlines as well as other entrants into the market that reduce their fares to attract new passengers in some of our markets.

The following table sets forth the historical market shares on domestic routes, based on revenue passenger kilometers, of the significant airlines in Brazil for each of the periods indicated:

_______________

Source: ANAC

(1)     On October 3, 2011, we acquired Webjet.

(2)     Known as TAM Airlines prior to its June 2012 merger with LAN Airlines of Chile.

(3)     In May 2012, Azul acquired Trip.

Since February 2012, the Brazilian government increased parking fees at the busiest airports, as compared to less busy airports, and at peak hours, which benefitted secondary hubs and off-peak flights in light of the differences in fees for the airlines that chose to operate in these airports or at these times. Currently, landing fees are fixed, based on the category of the airport and whether the flight is domestic or international. Navigation fees are also fixed, but consider the area overflown and whether the flight is domestic or international.

Domestically, we also face competition from ground transportation alternatives, primarily interstate bus companies. Given the absence of meaningful passenger rail services in Brazil, travel by bus has traditionally been the only low-cost option for long-distance travel for a significant portion of Brazil’s population. We believe that our low-cost business model has given us flexibility in setting our fares to stimulate demand for air travel among passengers who in the past have traveled long distances primarily by bus. In particular, the highly competitive fares we have offered for travel on our night flights, which have often been comparable to bus fares for the same destinations, have had the effect of providing direct competition for interstate bus companies on these routes.

In January 2015 Brazil approved a law allowing the government to grant subsidies for flights departing from or arriving at regional airports. Regional airports include any airports with fewer than 600,000 passengers per year, increased to 800,000 passengers per year in the Amazon region. The subsidy is still subject to further regulation before it may be implemented and is limited to certain airport fees and transportation costs for the lesser of 60 passengers per flight or 50% of the seats in a given flight, except in the Amazon region where the only limit is up to 60 passengers.

International

As we expand our international services in South America and the Caribbean, our pool of competitors will increase and we will face competition from Brazilian and South American airlines that are already established in the international market and that participate in strategic alliances and codeshare arrangements. In addition, non-Brazilian airlines may decide to enter or increase their schedules in the market for routes between Brazil and other South American and Caribbean destinations. Also, we resumed flights to Santiago, Chile, in July 2014.

In 2010, ANAC approved the deregulation of international airfares for flights departing from Brazil to the United States and Europe, gradually removing the prior minimum fares. In addition, in 2010, CONAC approved the continuity of bilateral agreements providing for open skies policies with other South American countries and a new open skies policy with the United States. The agreement with the United States was signed by the parties, however is necessary to be ratified by the Brazilian Congress, to be ready to operate. A similar agreement with Europe is still in its early stages. These new regulations should increase the number of passengers in South America and grow our market. To the extent that our presence and/or the presence of our partner, Delta, increase in the South American market, this will contribute to our business. On the other hand, to the extent competition increases in the expanded South American market and we and/or Delta loose significant market share, we may be adversely affected.

Smiles Loyalty Program

Segregation of the Smiles Loyalty Program

On December 21, 2012, we approved the segregation of the activities related to the Smiles loyalty program, or the Smiles loyalty program, previously managed by us, and which began to be conducted by Smiles. On May 2, 2013, Smiles concluded its IPO in which it issued a number of common shares equivalent to 43% of its total capital for R$1.1 billion. The proceeds of this IPO were used for the purchase by Smiles of advanced tickets from us at a conditional discount rate equivalent to between 140% and 150% of the Interbank Deposit Certificate (Certificados de Depósito Interbancário), or CDI rate, which corresponded to a 12.49% per year discount.

General Atlantic Investment Agreement

On April 5, 2013, we entered into an investment agreement with General Atlantic Service Company LLC., or General Atlantic, providing for an investment by General Atlantic in Smiles. Under this agreement, G.A. Smiles Participações S.A., or G.A. Smiles, an affiliate of General Atlantic, purchased in the IPO a number of Smiles common shares equivalent to R$400.0 million, or 15.8% of Smiles total capital.

In connection with G.A. Smiles’ investment, on April 23, 2013, we entered into a shareholders agreement granting G.A. Smiles the right to appoint one member of Smiles’ board of directors and certain veto rights regarding: amendments to the Operational Agreement or the Miles and Tickets Purchase Agreement, which set the terms and conditions for our relationship with Smiles, certain related party transactions in excess of R$2.0 million, and certain advance ticket purchases.

In April 2013, we granted G.A. Smiles an option, exercisable within 12 months of the IPO (as of May 2, 2013), to purchase from us an additional number of Smiles common shares equivalent to 20% of G.A. Smiles’ initial investment, at the same price per share set in the IPO as adjusted by the CDI rate. On February 27, 2014, General Atlantic exercised this option and purchased a total amount of 3,443,476 common shares, or 2.8% of Smiles’ total capital stock, for R$80 million.

In April 2015, we executed an amendment to the shareholders’ agreement with General Atlantic, modifying the duration and conditions for its termination. One hypothesis of termination of the agreement was General Atlantic coming to hold an equity interest of less than 7.5%. This threshold has been modified to 2.5%, with the added specification that the agreement shall only be terminated 12 months after the date on which General Atlantic comes to hold an equity interest of less than 2.5%.

On May 26, 2015, G.A. announced that they had fully divested from Smiles and initiated the 12 months term for the termination of the shareholders’ agreement. From May 26, 2016, the shareholders’ agreement will no longer be valid.

Merger of G.A. Smiles Participações S.A. into Smiles

On December 31, 2013, G.A. Smiles Participações S.A., or G.A. Smiles, merged into Smiles. The equity interest previously held by G.A. Smiles on Smiles was transferred to G.A. Smiles’ sole shareholder, G.A. Brasil Fundo do Investimento em Participações.

Overview

Smiles is one of the largest coalition loyalty programs in Brazil, with over 11 million members as of December 31, 2015. Its business model is based on developing a pure coalition loyalty program consisting of a single platform for accumulating and redeeming miles through a broad network of commercial and financial partners.

The Smiles loyalty program was originally launched by Varig in 1994 as a frequent flyer program and was acquired by us in 2007, together with other assets of the Varig business. Beginning in 2008, the Smiles loyalty program, which had been essentially inactive for years, underwent a complete restructuring and revitalization and, since then, the program has gained significant market share. The Smiles loyalty program has been transformed from a stand-alone program into an independent coalition loyalty program.

Currently, Smiles loyalty program allows members to accumulate miles through: (1) flights with Gol and our international partners, (2) all the significant Brazilian commercial banks that issue credit cards, including through co-branded cards issued by Bradesco and Banco do Brasil, (3) a broad network of  retail partners, including Localiza, the largest car rental agency in Brazil, Accor Hotels (Le Club), a global hotel chain, among others, (4) direct purchases of miles by customers and (5) purchase of miles and benefits through Clube Smiles (or Smiles Club). We are Smiles’ primary redemption partner but members may also redeem miles for products and services from commercial partners.

The agreements that govern our commercial relationship with Smiles allow unrestricted access to seats on our flights.

Products and Services

Smiles’ main business is the sale of miles. Its commercial partners purchase miles to distribute to Smiles members when members purchase products or services from these partners. Members accumulate miles, which are redeemed in exchange for rewards, which in turn are acquired from Gol and other commercial partners.

Smiles earns revenue mainly by (1) selling miles to its commercial partners and (2) providing loyalty program management services to commercial partners, including our loyalty program.

To become eligible to earn miles, individuals enroll in the Smiles loyalty program through its website. Members have a single account for accumulating and redeeming miles, and are not currently required to transfer miles or pay additional redemption fees.

A Smiles loyalty program account permits members to accumulate miles by purchasing products or using services offered by its commercial partners. Members may redeem and convert their miles into travel or non-travel rewards. Our current policy is to cancel all miles in member accounts when they expire, which varies from three to five years, with promotional miles that can expire in shorter periods.

Miles Redemption

Travel rewards represented the majority of redemptions as of December 31, 2015. However, with the option of redeeming miles through Smiles Shopping, a platform through which redemption commercial partners offer a variety of reward products, we expect that the proportion of redemptions for products other than airline travel may increase.

Miles Sales to Members, Smiles Club and Smiles and Money

Smiles was the first Brazilian loyalty program to sell miles directly to members to allow them to add miles to their account balances in order to facilitate redemption of higher value rewards. Currently, members may purchase miles through its website. Miles purchases are automatically credited to member accounts and can later be used for reward tickets or reward products through Smiles Shopping.

Smiles and Money allows members to redeem rewards using a combination of miles and money. We believe that Smiles and Money and miles sales encourage member engagement, as it expands access to rewards.

Smiles Club is a benefit club eligible for all members, through which customers receive a typical amount of 1,000 miles with access to promotions in advance, compared to non-club members. Customers who join the club pay a monthly fee for the miles received.

Commercial Partners

As of the date of this annual report, the Smiles network of commercial partners is composed of airlines, financial institutions, travel agencies, hotels, car rental agencies, gas stations, bookstores, media companies, drugstores, restaurants and parking lot operators, among others.

• Airlines. We are Smiles’ most important commercial partner in terms of miles and rewards volumes. We purchase miles from Smiles to distribute to our passengers. Additionally, Smiles offers redemptions with our airline partners, which are currently Delta, Alitalia, Aerolineas Argentinas, Aeromexico, Air France-KLM, Etihad, Qatar Airways, TAP Airlines, Korean Air, Copa Airlines and Air Canada.
• Financial Institutions. Smiles has commercial partnership agreements with all significant Brazilian commercial banks, including  more than 80% of the largest Brazilian commercial banks in terms of total assets as of December 31, 2015, according to the Central Bank. Smiles sells miles to these commercial partners, which distribute them proportionately to credit card spending by cardholders who are Smiles loyalty program members. Smiles also sells miles for co-branded credit cards issued by Bradesco and Banco do Brasil.
• Travel Companies, Hotels and Car Rental Agencies. Currently, Smiles has partnership agreements with well-known domestic and international travel companies, hotels and car rental companies. These partners include Accor Hotels, Hilton HHonors Marriott International, Starwood Hotels and Resorts Worldwide Inc, Othon Hotels, Sheraton Hotels, Atlantica Hotels International (Brasil) Ltda, and Sauípe S.A. (a tourism complex in Brazil). This network allows Smiles loyalty program members to accumulate miles at a variety of locations worldwide and throughout the course of their trips.
• Brazilian Retailers and Distributors. Smiles has commercial agreements with important Brazilian retailers, including Polishop (a domestic electronics and merchandise retailer), the newspapers Jornal o Globo and Jornal Valor Econômico, Fastshop Electronics (a premium electronics retailer), Editora Abril S.A. (one of the largest Brazilian publishing companies), Ri Happy (a toy online retailer), Centauro (a sports clothing and equipment retail chain) and Magazine Luiza (the largest online retailer in Brazil).

Competition

Smiles faces the following types of competition in Brazil: (i) frequent flyer programs, (ii) the loyalty programs of financial institutions and similar entities and (iii) other loyalty programs in general. The first group includes Multiplus, the current market leader, and other players such as the Tudo Azul program and Avianca’s Programa Amigo. The second group includes a variety of large financial institutions and similar entities that have their own loyalty programs, such as the SuperBônus Program of Banco Santander (Brasil) S.A., the Bradesco Loyalty Card Program of Banco Bradesco S.A., the Sempre Presente Program of Banco Itaú Unibanco S.A., the American Express Membership Rewards Program and Livelo, a joint venture program between Banco do Brasil and Banco Bradesco. The majority of these programs allow members to transfer accumulated reward points to programs like the Smiles loyalty program. The third group of competitors includes companies such as Dotz and Netpoints, among others.

If foreign loyalty programs such as Aeroplan or Air Miles enter the Brazilian market, Smiles may face additional competition. However, entry of foreign loyalty programs would also present new opportunities for commercial partnerships.

Agreements with Smiles

Operating Agreement

On December 28, 2012, we entered into an operating agreement with Smiles, or the Operating Agreement, that establishes the terms and conditions of our relationship. This agreement went into effect on January 1, 2013, when Smiles began to manage and operate the Smiles loyalty program.

The Operating Agreement established the terms of the transfer of Smiles loyalty program management to Smiles. In the context of the transfer, we divided reward costs as follows: the cost of rewards redeemed with legacy miles (i.e., those earned through December 31, 2012) is supported by us, while the cost of rewards redeemed with new miles (i.e., those earned beginning January 1, 2013) is supported by Smiles.

Pursuant to the Operating Agreement, the Smiles program will be our sole loyalty program. We are currently Smiles’ sole partner in the air transportation industry in Brazil, but Smiles is free to establish new partnerships in this industry with our prior authorization. We may require Smiles to enter into a partnership agreement with new partners in the air transportation industry or with a global alliance of airlines in the event we become a party to one.

We have a preference to enter into partnerships in certain segments, such as travel agencies (including on-line travel agencies), rental cars and travel insurance. However, Smiles may establish partnerships in these industries with our prior authorization.

Outside of the air transportation industry and certain segments in the travel industry, Smiles does not need to inform or request our authorization to establish partnerships. We may establish partnerships outside the air transportation industry as long as such partnerships do not involve miles or benefits accumulation in a frequent flyer program other than the Smiles loyalty program.

The 20-year Operating Agreement will be automatically renewed for successive five-year periods if neither party objects at least two years prior to its expiration. If a party is given notice of non-renewal, it may terminate the Operating Agreement early by providing written notification to the other party six months prior to the termination date.

We pay Smiles a monthly fee for managing our frequent flyer program. This fee will be adjusted on each anniversary of the Operating Agreement in accordance with our gross monthly miles purchases. For 2014 and 2015, the management fee was 6.0% of gross miles sales. From 2016 on, this fee may range between 3.5% and 6.0%, depending on our gross miles purchases.

2012 Miles and Tickets Purchase Agreement

On December 28, 2012, we entered into a miles and tickets purchase agreement with Smiles, or the Miles and Tickets Purchase Agreement, that establishes the terms and conditions of our purchases of miles and our sales of tickets.

In order to govern pricing and availability of reward tickets and satisfy customer demand, the agreement establishes three seating classes: standard, commercial and promotional for ticketing purposes.

• Standard seats: Pricing will take into account the variation of the economic cost of the fare over the last 12 months and the characteristics of each route. The economic cost is equivalent to the sum of (i) the opportunity cost of not selling a ticket to a traveler when the flight is full – or displacement; (ii) the opportunity cost of a passenger redeeming a reward ticket who would have purchased the ticket using cash, had he or she not had available miles – or dilution; and (iii) the direct cost that we incur in transporting an additional passenger on a given flight – or marginal cost. The availability of standard seating on planes is limited and controlled by us, although Smiles is assured a minimum aggregate number of standard seats out of total seats on all flights.
• Commercial seats: Pricing is subject to the same price and/or discount applied by us to third parties (subject to the conditions and characteristics of each product). The availability of commercial seats on flights is unrestricted, but limited to the capacity of the flight, pursuant to applicable restrictions.
• Promotional seats: Pricing is determined by an established discount table agreed upon by us and Smiles on a case-by-case basis, which may be revised, suspended or revoked at any time at our discretion. There is no minimum availability obligation for promotional seats.

The price that we pay for miles will be calculated based on the economic cost specified above, minus a portion of the breakage rate, which is the expected percentage of miles that will expire without being redeemed.

Pursuant to the Miles and Tickets Purchase Agreement, any material change to our miles accumulation policy must be discussed in advance by a loyalty committee whose members will be appointed by Smiles and us, proportionally. Smiles must notify us of material changes to miles redemption policy relating to reward tickets and hold discussions of such changes in the loyalty committee. The loyalty committee will be an advisory committee with no decision-making power.

Smiles may sell miles directly to its customers, subject to certain limits on miles sold per client and per period, minimum prices and the length of redemption periods.

The 20-year Miles and Tickets Purchase Agreement will be automatically renewed for successive five-year periods if neither party objects at least two years prior to its expiration. If a party is given notice of non-renewal, it may terminate the agreement early by providing written notification to the other party six months prior to the termination date.

The parties will annually review the contract’s compliance conditions according to certain parameters established in the agreement, and may amend these conditions in order to reestablish the originally agreed-upon economic balance. In extraordinary circumstances, the parties may also amend the agreement in the event of significant changes to (i) the economic cost of flights (including changes in the average occupancy rate of our flights or ticket prices); (ii) our destinations; or (iii) applicable law or regulation.

On December 30, 2015, we, along with Smiles and VRG, made adjustments in the prices of standard airline tickets and miles sold for VRG, representing an increase of 3.0% and 3.2%, respectively, based on the composition of the airline tickets issued in the preceding period.

2016 Miles and Tickets Purchase Agreement

On February 26, 2016, VRG entered into an advance air ticket sale agreement with Smiles, totaling up to R$1.0 billion in advance ticket sales.

This advance purchase will consist of various tranches through June 30, 2017. The first tranche was disbursed by Smiles in February 2016 in the amount of R$376.0 million.

The remaining tranches are conditioned upon certain measures to strengthen VRG’s liquidity, including the ones described below, but not limited to:

• The reduction in the number of landings and take-offs by at least 6%;
• The suspension of seven destinations operated on December 31, 2015;
• The return of five aircraft  under finance leases;
• The change in the delivery schedule of new aircraft  between 2016 and 2017 from 15 to one; and
• Certain Smiles’ minimum liquidity conditions.

The payments made by Smiles will be governed by the agreements already existing between VRG and Smiles, with certain changes. The advances by Smiles will be remunerated at a minimum rate of 132% of the CDI, which may be increased according to market conditions at each payment date. In addition, Smiles will benefit from some measures to strengthen its competitiveness. 

We cannot ensure that we will be able to take all the measures to fulfill the conditions to the disbursements under this advance purchase, which, to some extent, depend on third parties. In addition, we cannot ensure the exact timing for the remaining tranches.

Back Office Services Agreement

On December 28, 2012, we entered into a back office services agreement with Smiles, or the Back Office Services Agreement, that contains the terms, conditions and levels of certain services to be provided to Smiles by us. These services will be provided in connection with certain back office activities including controllership, accounting, internal controls and auditing, finance, information technology, call center, human resources, inventory and legal matters. The amount recognized by Smiles as expenses in 2015 and 2014 totaled R$24.3 million and R$19.8 million, respectively.

The three-year Back Office Services Agreement will be automatically renewed for successive three-year periods if neither party objects 12 months prior to its expiration. Smiles may terminate portions of the Back Office Services Agreement at any time by providing prior written notice to us.

Corporate Governance

On June 10, 2013, Smiles’ by-laws were amended to provide that certain related party transactions will require the approval of an independent committee or all members of its board of directors. These related party transactions include: amendments to the Operational Agreement or the Miles and Tickets Purchase Agreement and certain advance ticket purchases, among other transactions.

Industry Overview

According to the International Air Transport Association, or IATA, Brazil is the fourth largest domestic aviation market in the world and, according to ANAC, there were 96 million domestic enplanements and 8 million international enplanements on Brazilian carriers in Brazil (which excludes international carriers) in 2015, out of a total population of over 204 million, according to the Brazilian Institute of Geography and Statistics (Instituto Brasileiro de Geografia e Estatística), or IBGE. In contrast, according to the U.S. Department of Transportation, the United States had 700 million domestic enplanements and 105 million international enplanements in 2015, out of a total population of over 323 million, based on the latest United States census estimates.

The business travel segment is the largest component of Brazilian air transportation demand and the most profitable in the market. According to company data, business travel represented around 58% of the total demand for domestic air travel in 2015, which we believe is significantly higher than the business travel portion of domestic air travel in the global aviation sector. According to the latest data collected by ANAC, flights between Rio de Janeiro and São Paulo accounted for 4% of all domestic passengers in 2014. The ten busiest routes accounted for 61.7% of all domestic air passengers in 2014, while the ten busiest airports accounted for 69.1% in 2014

In light of economic growth, the consumer domestic market (A, B and C classes) has significantly increased in the last years. According to ANAC, there were 96 million passengers in 2015 in line with 2014. Due to increased passenger volume, in addition to the World Cup in 2014 and the upcoming Summer Olympic Games (2016) in Brazil, domestic airport infrastructure has required substantial improvements.

In 2009, CONAC proposed to the Brazilian government a change to the regulatory limit of foreign ownership in Brazilian airline companies from 20% to 49% or higher. In March 2016 the Brazilian government issued a Provisional Measure increasing this limit to 49%. Although the reduced limit is current valid, if the Provisional Measure is not converted into law by July 2016, the prior limit will be reinstated.

In August 2011, the Brazilian government privatized the Natal airport, which construction was completed in mid-2014. In February 2012, the Brazilian government privatized the Guarulhos, Brasília and Campinas international airports, which will be operated by the winners of the privatization auction for periods of 20 to 30 years. In November 2013, the Brazilian government privatized Galeão (Rio de Janeiro) and Confins (Belo Horizonte) airports. Other airports are also expected to be privatized.

Brazilian Civil Aviation Market Evolution

Since 1970, Brazil has for the most part experienced stable growth in revenue passenger kilometers. From 1970 to 2009, domestic revenue passenger kilometers grew at a compound annual rate of 8.9%. In the past 40 years, the domestic market generally experienced year-over-year growth in revenue passenger kilometers except in times of significant economic or political distress, such as the petroleum crisis in the 1970s, the Brazilian sovereign debt crisis in the early 1980s and the economic and political distress in Brazil in the early 1990s.

From 2011 to 2015, the compound annual growth rate in industry passenger traffic, in terms of domestic revenue passenger kilometers, was 3.75%, versus a compound annual growth rate in available industry domestic capacity, in terms of available seat kilometers, of 0.46%. Domestic industry load factor, calculated as revenue passenger kilometers divided by available seat kilometers, averaged 79.8% over the same period. In 2015, Brazil was the fourth largest market in domestic revenue passenger kilometers. The table below shows the figures of domestic industry passenger traffic and available capacity for the periods indicated:

________________

Source: ANAC, Dados Comparativos Avançados.

The 2015 traffic figures reflect the industry’s current trend of controlling domestic supply through the main airlines, in response to the new cost level, as well as the sluggish growth of Brazil’s economy.

Regulation of the Brazilian Civil Aviation Market

The Brazilian Aviation Authorities and Regulation Overview

Air transportation services are considered a public service and are subject to extensive regulation and monitoring by CONAC and ANAC. Air transportation services are also regulated by the Brazilian Federal Constitution and the Brazilian Aeronautical Code. The Brazilian civil air transportation system is controlled by several authorities. ANAC is responsible for the regulation of the airlines; and the Department of Air Space Control (Departamento de Controle do Espaço Aéreo), or DECEA, is responsible for airspace control.

The following chart illustrates the main regulatory bodies, their responsibilities and reporting lines within the Brazilian governmental structure.

In March 2011, the Civil Aviation Secretary (Secretaria de Aviação Civil), or SAC, was created to supervise civil aviation in Brazil. SAC oversees ANAC and INFRAERO and reports directly to the Brazilian President. SAC is also responsible for implementation of the airport infrastructure concession plan and the development of strategic planning for civil aviation.

In August 2011, the National Commission of Airport Authorities (Comissão Nacional de Autoridades Aeroportuárias), or CONAERO, was created as a commission of SAC to coordinate the different entities and public agencies related to airports. This commission shall have a normative role in the search for efficiency and security in airports operations.