ITEM 4.  INFORMATION ON THE COMPANY

A.           History and Development of the Company

General

TAM S.A. is a holding company founded in May 1997 under the name CIT — Companhia de Investimentos em Transportes for the specific purpose of participating in, managing and consolidating shareholdings in airlines.  In November 1997, we implemented a corporate restructuring that increased CIT — Companhia de Investimentos em Transportes' stake in TAM Taxi Aéreo Marília S.A. ("TAM Marília"), a sociedade anônima de capital fecahdo organized under the laws of Brazil.  We also changed our corporate name to TAM — Companhia de Investimentos em Transportes .  In September 2002, we again changed our corporate name to TAM S.A.  We currently hold ownership interests in TAM Linhas Aéreas, TAM Mercosur, TP Franchising Ltda ("TP Franchising"), a company organized under the laws of Brazil, and Multiplus S.A ("Multiplus"), a company organized under the laws of Brazil.  TAM Linhas Aéreas holds an ownership interest in TAM Viagens, TAM Capital, TAM Capital 2, TAM Financial 1 and TAM Financial 2.

TAM S.A. is a sociedade anônima de capital aberto organized and operating under the Brazilian law.  Our headquarters are located at Avenida Jurandir, 856, Lote 4, 1º andar, CEP 04072‑000, São Paulo, SP, Brazil.  Our telephone number is +55 11 5582 9715.

TAM Marília was founded in January 1961 in the interior of the state of São Paulo, where the late Captain Rolim Amaro worked as a pilot.  In 1971, Captain Rolim Amaro became an executive partner and minority shareholder of TAM Marília.  TAM Transportes Aéreos Regionais ("TAM Regionais") was founded in May 1976 and was TAM Marília's first scheduled airline, with 67% of its capital stock held by Captain Rolim Amaro.  In 1978, Captain Rolim Amaro became the major shareholder of TAM Marília, holding 98% of its capital stock.

In 1986, Captain Rolim Amaro incorporated TAM Linhas Aéreas, launching its operations through Brasil‑Central Linha Aérea Regional S.A. (which was created to operate in the country's northern and central‑western regions).  In the same year, Brasil‑Central Linha Aérea Regional S.A. was granted a concession to operate at Guarulhos International Airport and became TAM Transportes Aéreos Meridionais S.A. , Brazil's second largest domestic airline.

In 1993, we launched the TAM Loyalty Program (the first airline loyalty program in Brazil) in order to incentivize existing customers to fly with us more oftenand to attract new customers.  In 1998, we inaugurated our first international flight between São Paulo and Miami.  In 1999, we initiated flights to Paris through a codeshare agreement with Air France.

In 1998, we acquired Itapemirim Transportes Aéreos Regionais (whose corporate name was changed to Interexpress Transportes Aéreos Regionais S.A. , or "Interexpress Transportes Aéreos Regionais") and then acquired Helisul Linhas Aéreas S.A. (whose corporate name was changed to TAM Express S.A., or "TAM Express").

In 1999, TAM Express and Interexpress Transportes Aéreos Regionais merged into TAM Linhas Aéreas, resulting in greater integration, operational efficiency and a consequent reduction in expenses.  As a continuation of this restructuring process, and as a result of the need to unify our regional, national and international operations, TAM Transportes Aéreos Meridionais S.A. was merged into TAM Linhas Aéreas in November 2000.

On February 6, 2003, we signed a protocol of understanding with Varig S.A. ("Varig") for code sharing operations as a preliminary stage in a possible merger between the two companies.  This was primarily intended to eliminate overlapping flights and to rationalize supply in the market.  As a result of signing this protocol of understanding, we were able to reorganize our aircraft fleet, negotiate the return of 19 Fokker 100 aircraft and reduce our operating expenses.

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On February 15, 2005, as it became clear that the proposed merger would not take place, both parties (Varig and TAM S.A. submitted detailed plan to the Conselho Administrativo de Defesa Econômica, or CADE, to cancel the codeshare arrangement.  On February 23, 2005, the codeshare agreement was cancelled (with the approval of the CADE) and all of our codeshare operations with Varig had to be terminated by May 24, 2005.  We ceased all codeshare operations with Varig on May 2, 2005.

On June 17, 2005, we completed our initial equity offering of preferred shares, offering a total of 30,190,000 preferred shares to institutional investors in the United States and institutional and other investors elsewhere.  On July 19, 2005, we and the selling shareholders in the equity offering issued a further 281,600 preferred shares pursuant to an over‑allotment option granted to the underwriters in that offering.

On March 15, 2006, we completed a follow‑on equity offering of preferred shares in Brazil and our initial public offering of ADSs in the United States and elsewhere outside Brazil.  This offering of preferred shares and ADSs was registered with the SEC and the ADSs are listed on the New York Stock Exchange.  We became a reporting company under the Securities Exchange Act of 1934, or the Exchange Act.  We offered 2,660,103 ADSs and 2,339,897 preferred shares, while the selling shareholders in that offering sold 21,209,462 ADSs and 9,408,636 preferred shares.  On April 11, 2006, we and the selling shareholders in that offering sold an additional 1,103,000 ADSs pursuant to an over‑allotment option granted to the underwriters in that offering.

TAM Mercosur operates scheduled air transportation operations and is headquartered in Asunción, Paraguay.  TAM Mercosur, which operates in Paraguay, Argentina, Brazil, Chile, Uruguay and Bolivia, was founded in March 1993 under the name Líneas Aéreas Paraguayas S.A. (LAPSA) and all of its capital stock was initially held by the government of Paraguay.  The Paraguayan government currently holds 5.02% of TAM Mercosur's capital stock.  In January 1997, LAPSA's corporate name was changed to Transportes Aéreos del Mercosur S.A.  In September 2003, upon approval of TransAmérica's dissolution and liquidation, we acquired all shares of TAM Mercosur held at the time by TransAmérica (which consisted of 94.98% of its capital stock).  In the year ended December 31, 2009, TAM Mercosur's net operating revenues represented 1.9% of our total consolidated net operating revenues. 

TAM Viagens is a limited company ( sociedade limitada ) and tourism operator controlled by TAM Linhas Aéreas.  Through TAM Viagens, we package and sell tourism travel and corporate events in Brazil and abroad.

In October 2009, we founded Multiplus, a network of loyalty programs that allows TAM customers to accrue loyalty points from a wide array of product and service providers.  On February 5, 2010, Multiplus conducted an initial public offering of its common shares, which reduced our ownership in Multiplus from 100% to 73%.  See "Item 4 — Information on the Company — B.  Business Overview — Competitive Advantages" and "Item 4 — Information on the Company — C.  Organizational Structure".

In 2007, TAM Linhas Aéreas incorporated TAM Capital as a wholly‑owned subsidiary, organized under the laws of the Cayman Islands, for the purpose of issuing U.S.$300 million 7.375% senior guaranteed notes due 2017 on April 25, 2007.  On December 18, 2007 we completed an exchange offer pursuant to which holders of 99.2% of the notes issued on April 25, 2007 exchanged their notes for new notes that were registered under the Securities Act of 1933, as amended, and otherwise carried identical terms.

In 2007, TAM Linhas Aéreas incorporated TAM Financial 1, a wholly‑owned subsidiary organized under the laws of the Cayman Islands, for the purpose of raising funds for pre‑delivery payments of four Boeing 777 aircraft.  In that same year, TAM Linhas Aéreas also incorporated TAM Financial 2, a wholly‑owned subsidiary organized under the laws of the Cayman Islands, whose main activities include aircraft acquisition and financing.

In 2008, we began operating the Boeing 777-300ER, our largest passenger capacity aircraft.  The Boeing 777‑300ER currently transports up to 365 passengers on our routes connecting Brazil, Germany, England and Chile.  These Boeing aircraft were financed by a structured deal with a financial guarantee from the Export‑Import Bank of the United States ("Ex‑Im Bank") and included the participation of four international financial institutions: Calyon, Natixis, Private Export Funding Corporation (Pefco) and Société Générale.  In that same year, we finalized the phase‑out program of the Fokker 100 (100‑seat aircraft) from our fleet and returned our MD‑11s, older and less efficient aircraft that we had used to operate some of our long haul routes. 

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In 2009, TAM Linhas Aéreas incorporated TAM Capital 2, a wholly‑owned subsidiary organized under the laws of the Cayman Islands, for the purpose of issuing U.S.$300 million 9.5% senior guaranteed notes due 2020 on October 22, 2009.

On May 13, 2010, TAM became a full member of the Star Alliance, the largest global alliance in commercial aviation based on the number of members and geographical coverage.  During 2008, our integration into the Star Alliance began with experts from TAM, its mentor in the alliance, United, and the Star Alliance, teaming up to ensure we met the requirements for the alliance.  These requirements include, for example, compatibility with StarNet, the Star Alliance's IT backbone, implementing common guidelines for dealing with passengers and the accumulation and redemption of loyalty program points.  As a result of our successful integration, we now share products and services in the 1,167 airports and 181 countries in which the Star Alliance operates.  Star Alliance services include baggage check‑in to final destinations, easier connections and the convenience of more than 980 VIP lounges.  Another benefit for our passengers is the integration of all Star Alliance member companies' frequent flier programs, which makes accumulating points easier, provides more redemption options and gives priority for service and boarding.

Capital Investments

During 2009, we invested R$334 million in fixed assets, primarily due to aircraft acquisition and replacement parts for our fleet, and R$135 in intangible assets.  During 2008, we invested R$637 million in fixed assets for the same reasons, aircraft acquisition and replacement parts for our fleet, and R$133 million in intangible assets.  During 2007, we invested R$311 million in fixed assets primarily for replacement parts for our fleet and R$37 million in intangible assets.

For more information on our capital investments, see below "Item 5 — Operating and Financial Review and Prospects — B.  Liquidity and Capital Resources".

B.           Business Overview

Overview

We provide scheduled air transportation in both the domestic market and the international market through our operating subsidiaries, TAM Linhas Aéreas and TAM Mercosur, and since March 2010 through Pantanal Linhas Aéreas S.A. ("Pantanal").  According to data provided by ANAC, we are the leading airline in the domestic market, with a 43.1% market share as of December 2009 and a 50.3% and 48.8% market share as of December 2008 and December 2007, respectively, as measured in RPKs.  We offer flights throughout Brazil.  Of all Brazilian airlines, we serve, together with our commercial partners, the largest number of destinations in Brazil.  We operate scheduled passenger and cargo air transport routes to 42 cities, and through regional alliances with other airlines, we serve an additional 40 domestic destinations.  We also directly serve 18 international destinations and provide connections to other destinations through commercial agreements with United Airlines, Lufthansa, TAP, LAN and other airlines.  We offer convenience to our passengers by offering frequent and direct flights to and from all major domestic airports at competitive prices.  In 2009, we transported approximately 25.8 million passengers on domestic flights and approximately 4.6 million passengers on international flights, compared to 25.6 million passengers and 4.5 million passengers, respectively, in 2008, and approximately 24.2 million passengers and 3.7 million passengers, respectively, in 2007.  In 2009, we averaged 781 take-offs per day, compared to an average of 751 take‑offs per day and 734 take‑offs per day in 2008 and 2007, respectively.  In order to meet domestic demand, we primarily cater to the business market, but also operate in the leisure and cargo markets, which complement our primary operations and allow us to maximize the use of our aircraft.

At December 31, 2009, we operated with a fleet of 132 aircraft, consisting primarily of Airbus models A340, A330, A321, A320 and A319, as well as Boeing models B777 and B767, and we had 24,282 employees.  As of the same date, TAM Linhas Aéreas consisted of 132 aircraft, as set forth in the table below, including 3 Airbus A320 subleased to TAM Mercosur.

Since our incorporation, we believe that we have demonstrated a history of sustained growth and a proven ability to adapt to developments in the civil aviation industry in Brazil and around the world.  According to IATA, Brazil is the fourth largest domestic aviation market in the world (in number of scheduled passengers transported) and has one of the busiest shuttle services in the world (São Paulo – Rio de Janeiro).

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We believe that we have a strong corporate culture, grounded by principles set forth by our founder, Captain Rolim Adolfo Amaro, that permeates all levels of our company and continues to guide the day‑to‑day activities of our management.  In order to ensure that we act in accordance with best practices and provide value‑added service to our passengers, we seek to embed our culture in our employee training, and believe that our entire staff is a product of this practice.  Our mission is to be the people's favorite airline company, through joy, creativity, respect and responsibility, and we consistently transmit this mission statement to our employees.

Our vision is to make our customers happy by working with a "spirit of serving".  We seek to achieve this goal by offering comprehensive service that gives passengers superior value for their money.  We are able to do this by continuing to reduce expenses and by improving the return on capital invested.

Competitive Advantages

We believe that our principal competitive advantages are:

·                      Value‑added service at competitive prices.  We believe that we offer the best combination in the domestic market of a network of destinations and frequent flights, with value‑added service, high on‑time rates and competitive prices, based on:

·                      broad domestic network of destinations :  our own domestic network serves 42 destinations in Brazil, many of which are direct flights, offering greater convenience to our clients.  Through our regional alliances with Passaredo Transportes Aéreas Ltda . (Passaredo), Linhas Aéreas S.A. (Total Linhas), Trip Transporte Aéreo Regional do Interior Paulista Ltda. (Trip Transporte) and NHT Linhas Aéreas Ltda (NHT), our network extends to a further 40 destinations in Brazil;

·                      convenient schedules with high on‑time arrival rates :   we always work to maintain a high percentage of on‑time flights, in order to offer the best service possible;

·                      efficient network of international destinations and supporting domestic service :   we currently serve 18 international destinations (ten in South America, three in North America and five in Europe) that are in high demand by the Brazilian public.  We also serve various other destinations in North America, Europe, and other continents through agreements with several international carriers;

·                      special services :   we have developed special services to meet specific demands and optimize the use of our aircraft, such as night and holiday flights offered at promotional rates.

·                      Focus on cost management .  We are an airline with low operating expenses.  In 2003, we initiated the implementation of a restructuring project that initiated a cultural change within us, making our employees aware of cost management.  We continuously seek opportunities to reduce expenses focusing our efforts on reducing operating, commercial and administrative expenses.  Our overall CASK increased from R$16.17 in 2007 to R$17.44 in 2008 and decreased to R$14.83 in 2009 and our CASK excluding fuel decreased from R$10.84 in 2007 to R$10.56 in 2008 and increased to R$10.59 in 2009.  Some of our principal cost savings arise from:

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·                      efficient use of our aircraft :   we maintained the average load factor of our aircraft and the daily average block hours per aircraft by optimizing our network of destinations and our fleet.  In 2009, the average load factor of our aircraft was 68.2% and the block hours per aircraft was 11.8 hours, compared to 71.0% and 12.5 hours in 2008 and 70.4% and 12.6 hours in 2007;

·                      modern and flexible fleet :   we have one of the newest fleets in the domestic market, with an average age of 6 years at December 31, 2009.  Our use of a modern fleet allows us to reduce operating and maintenance expenses.  We primarily operate Airbus narrow‑bodied aircraft in the domestic and South American markets and Airbus and Boeing wide‑bodied aircraft in the long haul routes, providing us with the flexibility required to serve routes of different passenger densities.  We believe that all of our aircraft are equipped with the most advanced equipment and technology, ensuring greater reliability, comfort and safety.  In 2009, we substituted three A320 with new aircraft and added one A319 and two A321 to our fleet;

·                      proprietary maintenance team :   we have our own maintenance team trained to serve all aircraft in our fleet quickly and at a labor expenses we believe is lower than that of our competitors.  We also have our own maintenance center in the city of São Carlos (in the interior of the state of São Paulo) which performs all hull maintenance on our aircraft and also provides maintenance services for other airlines.  By using our own maintenance center, we have been able to reduce the maintenance time of our aircraft and, consequently, obtain more efficient use of our aircraft; and

·                      use of technology in operating processes :   at the end of 2009, we implemented the Amadeus Altéa platform, which is used by other Star Alliance members and which helped us reach a new level of web sales, largely because the related FlexPricer Amadeus search engine provides a more customer-friendly method for finding and purchasing tickets by presenting fare and date comparisons.

·                      Innovative services and products combined with a strong brand and our "espírito de servir" (spirit of serving) .  Our corporate culture is based on providing value‑added services to our passengers.  We consistently seek to make travel a more convenient and comfortable experience for our passengers and believe that we have successfully positioned our brand so as to associate it with superior service, aircraft and technologically‑advanced operations.  We strive to be a company that is focused on our passengers, translating our "spirit of service" into all operations, and we believe this is evidenced by:

·                      high on‑time arrival rates and frequent flights;

·                      a modern fleet equipped with interiors specifically designed to afford greater comfort to our passengers, such as a wider middle seat (one of the widest middle seats of all the Airbus model aircraft);

·                      a polite approach to our passengers, including a courteous flight crew and attendants and our red carpet welcoming to all passengers at airports and aircraft;

·                      video and audio entertainment on domestic flights, in addition to offering free in‑flight meals and magazines;

·                      TAM Loyalty Program.  We were the first airline in Brazil to offer a loyalty program, and there are currently over 6.6 million members in the TAM Loyalty Program.  We regard our loyalty program as a strong relationship tool and believe that it is the most flexible loyalty program in the market because it imposes no restrictions on flights or the number of seats available when members are redeeming accumulated points in the domestic or South American market.  Members may accumulate points quickly and easily by flying on TAM or partner airlines, making purchases through TAM Loyalty Program-affiliated credit cards or using services and products at partner establishments.  In addition, the TAM Loyalty Program strengthens lines of communications with our passengers.

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·                      Multiplus Fidelidade .  In 2009, we launched a new program designed to create an even broader network in which customers can earn TAM Loyalty Program points.  Multiplus Fidelidade is an expansion of our loyalty program concept and acts as a tool to assist in the integration of partner companies into our loyalty network.  We believe our expanded network helps to capture and retain customers and increase sales.  Multiplus Fidelidade is a coalition of loyalty programs that permits the accrual of points for redemption for products or services with different partners.  We believe this program is a source of value generation and we have a team dedicated to its development.

·                      An experienced management team and motivated professionals .

To further our mission, we hire and retain motivated professionals.  We consider the talent, skill and dedication of our employees as a key competitive edge.  We are focused on keeping our employees satisfied and motivated by providing them with ongoing professional development, ensuring their safety and adopting a people‑oriented approach to management.  In our recruiting and selection process we deliberately look for employees with the potential to fit the "TAM" profile.  People hired attend an orientation to educate them about our corporate history, the founder's principles, and our fundamental values, mission and culture.  Management also invests in our employees through the Commander Rolim Amaro Training Academy, and providing opportunities for internal transfers.

Some of our key motivational tools include:

"Employee of the Month" and "Employees of the Year" programs; breakfasts with team managers; graduation ceremonies for flight attendants; a Quality of Life program; barbecues for technical crews and the TAM Ethics Channel, a program that allows employees to write comments, suggestions or concerns about us in confidence and receive answers on an individual basis.

In addition to these motivational tools, we have an internal webcast which is a new way to guarantee that our strategic information is communicated to all employees across the world.  Employees can access these webcast sessions via the internet or intranet.

Our compensation policy for executives is variable.  For all other levels the compensation policy is profit sharing, reflecting employee needs and the market, within the bounds of current legislation and the terms and conditions of the Airline Ground Crew and Pilots Union's collective labor agreements.

Strategy

Our strategic goal is to maintain our strong position in the domestic and international passenger markets and to attain high levels of profitability in both markets.  We will seek to pursue this goal by offering comprehensive service that delivers superior value to our passengers as we work to reduce expenses and increase our return on invested capital.  To reach these objectives, our strategies are:

·                      Continue providing superior customer service.  One of our key strategies is to offer differentiated and high‑quality service.  Relying on a strong and reliable network, we consistently seek to make travel more convenient and comfortable for our passengers and to perfect our service and strengthen our commitment to passengers.

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·                      Increase revenue and profitability and serve a greater number of passengers at a competitive price.  We will seek to continue to provide what we believe is a service that delivers the best value to our customers in the domestic market, offering more convenient and higher quality services at competitive prices.  Our goal is to increase revenues, as well as profitability, through:

·                      expansion of business traveller market :   consolidating and expanding our traditional passenger base of business travellers, who we believe represent more than 75% of demand for our domestic flights, through measures focusing on business travellers and sales channels that traditionally serve that market;

·                      growth in our tourism and leisure travel operations :   we believe that the tourism and leisure markets are complementary to our core market of business travellers.  In order to use our fleet more efficiently, our strategy involves capturing additional demand in the tourism and leisure market through specific promotions for flying at off-peak hours during the day, besides holidays and local events (for example, festivals and city anniversaries, among others) using our scheduled operations.  We also serve leisure travelers by (i) the operation of charter flights, and (ii) the sale of tourism packages through TAM Viagens (an indirect subsidiary controlled by TAM Linhas Aéreas).  TAM Viagens recorded a gross revenue of R$446 million, R$412 million and R$166 million at December 31, 2009 2008 and 2007, respectively, representing approximately 4.4%, 3.8% and 2.0% of our consolidated revenues for the same periods.  We believe that through our subsidiary TAM Viagens, we also own the second-largest tourism and leisure travel operator in the country;

·                      selective expansion in international markets :   in the last three years, our international operations have consistently grown as a percentage of our total revenues.  In the year ended December 31, 2009, international flights represented 40.2% of our ASKs.  Our strategy involves maintaining our leadership in the international market and selectively identifying new international destinations to serve our customers; and

·                      expansion of our cargo business :   we have focused on greater utilization of cargo space in our aircraft to develop our cargo business line, while maintaining our commitment to further improve service to our passengers.  Our cargo transportation business line represented R$936 million or 9.2% of our consolidated gross revenues at December 31, 2009, compared to R$1,009 million or 9.3% of our consolidated gross revenues at December 31, 2008 and R$777 million or 9.2% of our consolidated gross revenues at December 31, 2007.

·                      Reduce our operating expenses, optimize the use of our fleet and streamline our processes.  We believe that successfully implement of our strategy we need to reduce expenses and improve how we invest.  We are pursuing this strategy by:

·                      maintaining a standardized, efficient and flexible fleet :   we will continue to optimize the size of our fleet, in order to keep maintenance and operating expenses for our fleet at a low level.  In 2006, we announced our decision to phase out our entire fleet of Fokker 100 aircraft by mid‑2008 and we met that target.  As a result of this decision, we have been exclusively using Airbus A320 family aircraft in the domestic market since mid‑2008.  We maintain a high aircraft utilization and to maintain a flexible fleet with aircraft capable of easily adapting to the differing levels of demand from route to route; and

·                      increasing productivity by redesigning operational processes and using technology :   since the implementation of our restructuring project in 2003, we have applied a cost reduction policy aimed at increasing our productivity through new information technology tools, redesigning operational processes and redeployment of labor and outsourcing activities which are not related to our core strategy.  We also hope to obtain economies of scale by increased growth in our operations.

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Sales and Distribution

We are continuously developing direct and indirect distribution channels for air fare ticket sales.  We plan to increase direct sales (which at December 31, 2009 represented approximately 27.8% of our total ticket sales) by targeting the leisure market and by making it easier for our passengers to purchase tickets, principally through the internet and our call center.  We were the first airline in Latin America to sell tickets on the internet.  Through our website, registered users may purchase tickets online, receive customer service, make reservations up to one hour before departure and access information relating to the TAM Loyalty Program.  As part of our plan to increase direct sales through the internet, in 2006 we launched a new "fare profile" system for sales of domestic tickets.  We offer five fare profiles, " Promo ," " Light ," " Flex ," " Max " and " Top ."  We launched a marketing campaign highlighting this new fare profile system at the time of launch and recorded an increase of approximately 40% in direct sales in the month after introduction.  Likewise, in 2009, we launched a marketing campaign which focused on promoting the TAM Loyalty Program, our large network, courteous on board services and price competitiveness.  After launching that campaign, in November 2009, we migrated our reservation platform to Amadeus Altéa, which we believe offers greater conveniences to our passengers.  In 2009, 78.4% of our sales were through travel agencies and 21.6% were through direct channels, of which 13.8% were through the internet.

Our call center allows passengers an alternative means to make reservations and purchase tickets.  Our call center is available 24 hours a day.  We also sell tickets through our network of stores located in the main cities of Brazil and each airport from which we operate.

Indirect sales are those made through corporate travel agencies, agencies with registrations and pre‑approved credit and travel operators.  Currently, there are approximately 5,000 travel agencies authorized to sell our tickets in Brazil.

We use our proprietary e ‑TAM portal to integrate our entire sales chain, from the time of reservation to passenger boarding, consolidating indirect sales in our Brazilian distribution chain.  Data obtained from the e ‑TAM portal allows us to offer a set of customized services, based on the "one‑to‑one" concept.  In the last 12 months of operation, 99.4% of indirect channel reservations made in Brazil were made through the e ‑TAM portal.

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We believe that more than 75% of our passenger traffic consists of business travelers and employees of large and medium‑sized companies with whom we have travel agreements.  To further develop our business relationship with our corporate clients, we have signed agreements with hotel chains and car rental companies to offer our customers complete corporate transportation and accommodation packages.  Our advertisements run primarily in media vehicles such as internet sites, radio spots, local newspaper advertisements, magazines and outdoor billboards.

Pricing Policy, Revenue and Yield Management

In general, prices charged in the Brazilian domestic market by airlines are freely set by the airlines, with ANAC responsible for monitoring the prices.  No discounts greater than 65% of the total price may be granted without ANAC's approval five days in advance of the date such discounts will be offered to consumers.  Brazilian airlines are freely able to set their prices.  See "Item 4.  Information on the Company — B.  Business Overview — Regulation of the Brazilian Civil Aviation Industry — Rights to Operate Air Routes — Prices."

We believe that our current pricing policy is dynamic.  Focusing on maximizing profitability, we aim to define particular niches within the market to better serve projected demand.  Pricing availability is based on traffic projections and is accompanied by closely monitored performance indicators.  Our pricing policy focuses specifically on our indirect distribution channels (GDS system and e ‑TAM portal) and direct channels (our website, reservation call center and stores).

We seek to achieve the greatest possible competitiveness for each origin/destination in relation to the competition, keeping in mind at all times our product's added value in terms of flight frequency, schedules, the TAM Loyalty Program and our on‑time record.

We continuously analyze market opportunities with the intention of stimulating demand for specific routes and periods.  Lower prices are offered for one‑time promotions (such as national or regional holidays) and as incentives to take flights at particular times (such as night flights).  These prices generally carry restrictions, such as the requirement to purchase a round‑trip, a minimum stay at the destination, or the requirement that the ticket be issued within 24 hours, and generally do not earn points for the TAM Loyalty Program.

The price a passenger is willing to pay may vary depending upon factors such as destination, month of the year, day of the week and departure schedule.  Revenue and yield management is the process by which (based on historical data and statistical projection models) airlines establish the number of seats to be offered for each price category over time, in order to maximize total operating revenue for each flight.  We believe that efficient yield management is the key to success in the air transportation market in Brazil and abroad.

We believe that we have an efficient and accurate system for collecting data on reservations, departures and revenue.  The system also monitors levels of overbooking and recommends discounts for future departures.  Data relating to reservations and departure is collected daily, forming reservation profiles for each flight and allowing specific recommendations from flight to flight.  The system allows our analysts to ascertain whether flights are above or below historic reservation levels and decide whether to close the discount classes or offer more space for passengers who generate higher revenues.  Accordingly, our yield management practices allow us to anticipate and react quickly to market changes.

We currently have a team of analysts dedicated to revenue and price management.  These professionals are divided by market sector and have particular knowledge of specific routes in order to better understand features which are specific to each route (such as holidays, high and low season, peak schedules and days and the competitive environment).

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Air Transportation Operations

Passenger transportation

Scheduled domestic operations

We currently operate an average of 709 daily flights to 42 destinations in Brazil.  Through our regional alliances with Passaredo, Trip Transporte, and NHT we serve an additional 40 domestic destinations.

Passenger traffic in the domestic market represented approximately 53.9% of our gross revenues in 2009, 56.4% of our revenues in 2008 and 58.0% in 2007.  Our RPKs in the domestic market increased 6.4% in 2009, 10.6% in 2008 and 12.5% in 2007.  The RPKs in the total domestic market increased 17.7% in 2009, 7.4% in 2008 and 11.9% in 2007.

In 2009, according to data provided by INFRAERO, we recorded the highest number of passengers transported in 22 of the 42 airports we serve.  The table below sets forth the airports we serve in Brazil, our average number of departures per day at those airports and the number of passengers who took our flights in 2009:

(1)       Figures relate to departures on TAM aircraft only.

(2)       Figures relate to TAM Issued tickets (and include departures on non‑TAM aircraft).

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Scheduled international operations

We operate an average of 72 daily international flights to Buenos Aires, Santiago, Asunción, Montevideo, Lima, Ciudad del Este, Santa Cruz de la Sierra, Cochabamba, Caracas, La Paz, Miami, Orlando, New York, London, Paris, Frankfurt, Madrid and Milan.  We have codeshare agreements with LAN Group, Pluna, United Airlines, Air Canada, TAP, Lufthansa, Air China and Swiss International, allowing our passengers to make connections to destinations throughout the world, in addition to other services, such as simplified check‑in, luggage shipping and access to VIP lounges.  We offer the ability to earn and redeem points through the TAM Loyalty Program, the Star Alliance and our partner airlines. 

International scheduled passenger traffic represented 26.4% of our gross revenue in 2009, 25.9% in 2008 and 25.5% in 2007.  Our RPKs from international flights grew 12.5% in 2009, 40.2% in 2008 and 70.6% in 2007, successive increases that have resulted primarily from increased capacity on selected routes that presented substantial traffic throughout the year.  The RPKs of Brazilian carriers in the total international market decreased 0.6% in 2009, compared to an increase of 25.7% in 2008 and a decrease of 5.1% in 2007.  Our share of the international market operated by Brazilian carriers was 86.5%, 75.2% and 67.5% in 2009, 2008 and 2007, respectively, successive increases that have resulted primarily from a decrease in Varig's long haul international flights as result of its liquidation.

Cargo transportation operations

We also earn revenues through cargo transportation operations.  These operations represented 9.2% of our gross revenue in 2009 and 2008 and 9.3% in 2007.  TAM Cargo is our freight business unit, reporting directly to our Commercial and Planning Vice President.  We do not operate exclusive cargo aircraft; however, we sell the empty space available in the belly of passenger aircraft, both in domestic and international markets.

We are continuously improving our cargo terminal operating structures, products and processes, resulting in faster receipt of packages and better branding.  In 2009, we implemented a new cost saving and advanced tracking system, which allows shippers to track in detail and in real-time the entire path of their freight.  We intend to meet our customers' needs by growing our operations, both by increasing the freight of small packages, which have higher yields, and in large volume freight, such as industrials and perishable cargo.

In the international cargo segment, we are continuously improving our management systems, resulting in quicker processing and better revenue monitoring.  These improvements help us analyze market behavior to enhance our accuracy and decision making with respect to the shipments.  We are entering into Special Prorate Agreements (SPA) with several airline companies, allowing us to send shipments worldwide, increasing volumes sold and TAM Cargo's brand awareness.

Travel and tourism operations

We also have a travel and tourism operation, TAM Viagens.  In 2009, 2008 and 2007, this business represented 4.4%, 3.8% and 2.0% of our total revenues respectively.  TAM Viagens offers complete packages including air tickets, ground transportation, hotels, tours and several tourism services.  Nowadays, it is one of the largest tour operators in Brazil and has 72 of its own stores, which deals with about 5,000 agencies all over the country, offering products to more than 600 tourist destinations.

Our main objective is to attract passengers flying for tourism and leisure purposes to occupy seats that would otherwise be empty during certain flights, either off‑peak flights, or flights during low season – as the Brazilian market has the characteristic of being predominantly composed by business passengers that fly during specific periods of the day.  Our tour operator also has fundamental importance in promoting and selling tickets for newly launched flights.  We have commercial offices in the U.S. and Argentina, where we focus our sales efforts on promoting trips to Brazil.

In 2009, we promoted a codeshare agreement with the TAM Loyalty Program, accepting points for the sales of packages.  In 2009, we also started the process of opening TAM Viagens franchise stores, and we hope to open more than 100 additional stores through 2012.  Under this model, the franchisee is responsible for all operational expenses, including the store opening.  As a result, each additional TAM Viagens franchise store increases the reach of our operations at no additional cost, further improving our margins.

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Marketing

TAM Loyalty Program

The TAM Loyalty Program was the first loyalty program launched by a Brazilian airline and represents a key element in our marketing strategy.  We believe our program is the most flexible in the market because it imposes no restrictions on flights or the number of seats available when members are redeeming accumulated points.  The TAM Loyalty Program has more than 6.6 million members and approximately 9.7 million free flights have been distributed since its creation in 1993.  Beginning in 2009, we launched Multiplus Fidelidade, a loyalty network that integrates the TAM Loyalty Program and allows our members to accumulate points, not just by flying with TAM, but also by flying with partner airlines, making purchases through TAM Loyalty Program‑affiliated credit cards or using services and products at partner establishments.  Multiplus Fidelidade is described below.  Itaú Unibanco offers credit cards that allow holders to earn TAM Loyalty Program points, and credit cards are available in both MasterCard and Visa designations.  These cards are available in four tiers (white, blue, red and black) and qualification for a particular tier is based on miles flown.  The rate at which points accumulate varies depending on membership tier.  The white card is the base level of membership and cardholders accrue points each time they fly.  Blue and red cardholders receive progressively greater benefits and increased points for miles flown, allowing the holders to accrue redeemable points for free travel more quickly.  We launched the black card in 2009 to create additional benefits and conveniences for our most frequent flyers, such as granting black cardholders access to a dedicated customer service group to help meet all of their needs.

Points earned by TAM Loyalty Program members must be redeemed for air tickets and partners’ products within two years, and historically approximately 31% of points expire without being redeemed.  This two year period for redemption limits the growth in liabilities arising from the TAM Loyalty Program, assuming a stable trend in relation to the number of passengers we carry.  See "Item 5.  Operating and Financial Review and Prospects — A. Operating Results — Critical Accounting Estimates and Judgments — Revenue Recognition".

Multiplus Fidelidade

In 2009, we launched Multiplus Fidelidade, a program designed to create a broader network in which our customers can earn points through the TAM Loyalty Program.  Multiplus Fidelidade is a coalition of loyalty programs that permits the accrual of points for redemption from products and services offered by many different partner companies, not just ours.  We believe this expanded network helps to capture and retain customers and increase sales.  It is attractive to our less frequent flyers because it allows them to accrue loyalty points in many ways besides flying.  We believe Multiplus Fidelidade is a source of value generation and we have a team dedicated to its development.

Communications with our passengers

Our "Talk to the President" initiative was introduced to encourage passengers to give us suggestions, compliments and complaints.  The Talk to the President initiative devotes some of our employees to receiving and forwarding thousands of pieces of correspondence each month, including response cards, faxes, e‑mails and telephone calls.  Our 0800 123 000 hotline number works 24 hours a day, 7 days a week.  Once an issue is raised by a passenger, we survey, research and analyze the issue, and seek to keep the customer informed as to our progress, pending resolution of an issue or implementation of a suggestion.  In 2009, the Talk to the President initiative generated 350,000 responses from our passengers (including suggestions, compliments and complaints), compared to 179,564 in 2008 and 180,000 in 2007.  The Talk to the President initiative is also accessible to our customers at 12 of the foreign airports in which we operate.

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Fleet

General

Our fleet policy focuses on achieving the highest levels of safety, quality, efficient scheduling and high on‑time arrival rates, as well as rationalizing maintenance expenses.  Currently, our fleet consists of advanced technology jet aircraft, yielding cost benefits that allow us to achieve high results in efficiency indices and safety standard qualifications.  See "— Safety."

The two Airbus "families" operating in our fleet are the A330‑200 and the A340‑500 aircraft (wide‑bodied aircraft used for long‑distance flights), and the A321, A320‑200 and A319‑100 aircraft (narrow‑bodied aircraft used for medium and short‑distance flights).  The aircraft in these families differ by number of seats, allowing us flexibility when making commercial decisions regarding passenger demand for flights.  The A321, A320 and A319 models are considered to be among the most comfortable aircraft operating in Brazil in their category, with the ability to operate at low cost on routes with up to five hours of flying time.  They are also the only Brazilian narrow‑bodied fleet to have fly‑by‑wire flight controls, with computers receiving and analyzing each pilot command, making flights more accurate and efficient.  Airbus family aircraft also have the benefit of standardized maintenance and operations, allowing pilots and technicians to fly and work on different models after minimum additional training.  All our aircraft are equipped with the best and most advanced equipment and software options offered by the manufacturer, giving us what we believe is one of the most advanced aircraft fleets in the world.

We have constant data communication capability between each of our aircraft and all of our departments on the ground, even when flying.  For these communications, we developed a proprietary system, called DMS (Datalink Management System), that allows us to manage all information sent in real time by the ACARS (Aircraft Communication Addressing and Reporting System) installed in our fleet.  Using the aircraft DMS, pilots may send text messages to any of our sectors.  The messages are transmitted via satellite and appear on the DMS user screen in real time.  In addition to communicating with the pilot, these resources also allow remote online monitoring of aviation systems, such as computer functions, landing and departure times, fuel consumption and engine performance parameters.  As a result, any operating variance may be analyzed by our maintenance technicians even before an aircraft arrives at its destination.  This technology yields savings in maintenance costs and also significantly improves our efficiency and safety.

The quality of our technical services is regularly audited by Brazilian and international authorities, manufacturers and insurance companies.  Our codeshare agreements with United Airlines and Lufthansa also require that we meet the maintenance and safety compliance requirements of the competent international aviation authorities.

The advantages of our modern technology, combined with our excellent operating and maintenance standards for our aircraft, yield high equipment utilization rates with reliability levels ("technical dispatch capacity") above the industry average for all equipment we operate.  Our fleet maintains a high technical dispatch capacity index according to IATA standards.  This index measures the on‑time departure capacity of aircraft without taking into consideration external factors such as bad weather.  In 2009, we had an average fleet operational reliability index of 98.6% (compared to 98.8% and 98.6% in 2008 and 2007, respectively) for our fleet in operation, the reference point used in auditing our technical services.  Aircraft, engine and equipment manufacturers audit our data according to IATA's unified standard.

TAM Linhas Aéreas has RBHA (Brazilian Aviation Approval Regulation) certifications 121 and 145 for maintenance operations and services.  It also has an EASA 145 certification for maintenance services, which are performed at the São Carlos maintenance center in São Paulo.

In 1998, we received a U.S. Federal Aviation Regulation (FAR 129) operating certification, and in 1999, we received a European certification from the Direction Générale de L'Aviation Civile — DGAC , allowing us to begin operating scheduled commercial flights to European and U.S. cities.  In addition to the destinations in which we now operate scheduled flights, such as Miami, New York, Orlando, Paris, London, Madrid, Milan and Frankfurt, these certifications also permit us to apply to operate additional scheduled flights to cities such as Washington, Indianapolis, Lisbon, Barcelona, Zurich, Amsterdam, and Moscow.

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All of these certifications, obtained as a result of our modern maintenance facilities and the high technical quality of our maintenance, rank us among the top airlines in global aviation standards.  Since 2000, we have had the Extended Twin Engine Operations (ETOPS) certification of 180 minutes for Airbus A330 model aircraft, proving that we are in compliance with the most stringent global aviation standards in this respect.  We also have state-of-the-art equipment in Brazil, such as the Future Air Navigation Systems (FANS), which increases safety in congested air space and achieves fuel savings by using more direct routes.

The following table illustrates our fleet composition over the last three years:

TAM Mercosur's fleet consists of 3 Airbus A320 aircraft (sub‑leased from TAM Linhas Aéreas).

The average age of the TAM Linhas Aéreas fleet is one of the lowest in global aviation: 4.8 years for Airbus A319/320/321 model aircraft, and 6.5 years for Airbus A330/340 model aircraft.  With 132 aircraft in operation, the overall average age of our fleet was 6.0 years at the end of 2009.

The following table sets forth the historical and projected development of our operational fleet at December 31 in each of the years indicated:

(1)       Our fleet projection is based on the following:  we currently have firm orders with Airbus for 51 Airbus aircraft (47 aircraft narrow body family A320 and four A330) for delivery through 2013. In addition, we have firm orders for 22 Airbus A350XWB models 800 and 900, with options for 10 more, with delivery between 2014 and 2018.  We currently have firm orders placed with Boeing for six B777-300ER aircraft, of which four are expected to be delivered in 2012 and two in 2013.  In 2010, we made firm orders with Airbus for an additional 20 Airbus A320 family to be delivered in 2014 and 2015, and converted 5 of our 10 A350 options existing at December 31, 2009 into firm orders with deliveries through 2018.

We phased out our entire fleet of Fokker 100 aircraft in 2008, at which point we started operating only Airbus A320 family aircraft in the domestic market.

In November 2006, we entered into an agreement with Airbus pursuant to which we agreed to lease 31 A319/A320/A321 family aircraft, with 20 additional options and six A330 aircraft, with four additional options.  On January 2008, the options under the 2006 agreement were converted into firm orders.  In February 2007, we entered into an agreement with Boeing pursuant to which we agreed to lease four Boeing 777 aircraft, with an additional four options that were converted to firm orders in 2008, when we also signed a firm order for two additional aircraft.  In July 2007, we entered into an agreement with Airbus pursuant to which we agreed to lease 20 Airbus A319/A320/A321 aircraft.  In December 2007, we entered into an agreement with Airbus pursuant to which we agreed to lease 22 Airbus A350‑900 aircraft, plus 10 options.  In 2010, we converted five of those 10 A350 options into firm orders, and we made firm orders with Airbus to purchase an additional 20 A320 aircraft.

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The following table shows the average usage rates of our aircraft, in hours per day, during the periods indicated:

Leasing agreements

We currently lease all of our aircraft (using long‑term lease agreements) through TAM Linhas Aéreas.  Leasing gives us greater flexibility because it allows us to change the composition of our fleet relatively quickly in the event that we need to do so.

Of our total fleet of 132 aircraft at the end of 2009, 128 of our aircraft are subject to operating leases and 4 to finance leases.  However, in order to comply with accounting policies, 62 other lease contracts are classified as finance leases.

Operating leases require us to make periodic payments, but do not include aircraft purchase options at the end of the agreement.  The payments are denominated in U.S. dollars and the majority of these payments are subject to interest based on LIBOR.  Pursuant to the terms of these agreements, aircraft are returned under agreed conditions at the end of the lease.  The lessor retains ownership of the aircraft.  We are responsible for maintaining and contracting insurance for the aircraft during the leasing period. 

Finance leases are capitalized at the lease's commencement at the lower of the fair value of the leased property and the present value of the minimum lease payments.  Each lease payment is allocated between liability and finance charges.  The corresponding lease obligations, net of finance charges, are recorded as financial liabilities.  The interest due on the finance lease is recorded on the income statement over the lease period to produce a constant interest rate on the remaining balance of the financial liability.

Maintenance

We rigorously follow the maintenance plans proposed by the aircraft manufacturers and approved by the competent Brazilian and international aviation authorities.  Accordingly, maintenance carried out on our aircraft may be divided into three general categories: (i) line maintenance, (ii) heavy maintenance and (iii) component repair and overhaul.  Line maintenance includes daily inspections and minor corrective actions, along with "A" checks, all of which are performed between flights or overnight and do not require changes to our scheduled operations.

Heavy maintenance includes more complex aircraft inspections, including aircraft modifications and corrective actions, and may require removal of aircraft from operations during periods ranging from four days to four weeks, depending on the complexity of the maintenance.

Engine maintenance contracts cover all significant engine maintenance activities.  We pay for services rendered pursuant to our engine maintenance contracts on an as‑incurred basis.  The basis on which maintenance expenses are considered incurred is dependent on the nature of the services provided under our engine maintenance contracts:

·                      contracts under which amounts are payable to the maintenance provider, and are recognized in the income statement, based on actual maintenance activities performed by the maintenance providers.  The expenses incurred reflect the actual time required to perform maintenance and the material costs used in the maintenance activities.  These maintenance contracts are referred to as "time and materials" contracts; and

·                      contracts under which maintenance expenses are payable to the maintenance provider based on hours flown.  These maintenance contracts are referred to as "power by the hour" contracts.  We accrue a liability and record an expense for maintenance under these contracts on the basis of hours flown.  These payments are made to maintenance providers when the engines undergo a maintenance shop visit based on an agreed hourly rate.  Our "power by the hour" contracts also provide for a relatively small administrative fee that is paid and expensed monthly (this fee represents less than 5% of amounts paid under all of our "power by the hour" contracts considered together).

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We have entered into a number of agreements with suppliers and service providers in order to assist with our maintenance requirements, of which the following are material:

·                      a general terms agreement between TAM Linhas Aéreas and GE Engine Services Distribution, L.L.C., or GE, dated May 7, 2001, pursuant to which TAM Linhas Aéreas has agreed to purchase certain spare engines and support equipment for both the spare engines it has purchased from GE and certain engines that have already been installed on its operating fleet.  The agreement also provides that GE may provide non‑standard maintenance training courses upon request of TAM Linhas Aéreas.  The agreement provides that GE will charge for any such courses on an "as incurred" basis.  The agreement has no fixed termination date;

·                      an engine maintenance agreement between TAM Linhas Aéreas and MTU Motoren‑und Turbinen‑Union München GmbH, or MTU, dated September 14, 2000, or the TAY Agreement, pursuant to which MTU has agreed to provide certain maintenance, refurbishment, repair and modification services with respect to approximately 105 aircraft engines.  This agreement was amended by means of a novation and amendment between TAM Linhas Aéreas and Rolls‑Royce Brazil Ltda.  or Rolls‑Royce, dated November 8, 2001, pursuant to which Rolls‑Royce replaced MTU as contract counterparty.  The agreement provides that Rolls‑Royce may subcontract services to be performed and that it will not be held liable for damages to or losses of TAM Linhas Aéreas or third parties due to the performance of the services contracted under the agreement, unless caused by willful misconduct or negligence of Rolls‑Royce.  The agreement provides that service orders placed by TAM Linhas Aéreas are to be charged based on a fixed rate specified for each type of service and subject to an escalation formula.  TAM Linhas Aéreas is required to make payments based on actual services performed.  This agreement terminates on June 30, 2015;

·                      an engine maintenance agreement between TAM Linhas Aéreas and MTU Maintenance Hannover GmbH, or MTU Hannover, dated September 14, 2000, pursuant to which MTU Hannover has agreed to provide certain maintenance, refurbishment, repair and modification services with respect to certain V2500‑A5 engines.  The agreement provides that MTU Hannover may subcontract to third parties and that MTU Hannover will not be held liable for damages to or losses of TAM Linhas Aéreas or third parties due to the performance or non‑performance of the services contracted, unless caused by willful misconduct or negligence of MTU Hannover.  The agreement provides that service orders placed by TAM Linhas Aéreas will be charged on actual services performed, based on hourly rates for engine/module repair work and on a fixed price for test runs, including fuel and oil, subject to an escalation formula.  This agreement terminates on June 30, 2014; and

·                      an engine maintenance agreement between TAM Linhas Aéreas and United Technologies Inc., Pratt and Whitney Division, or Pratt and Whitney, dated September 14, 2000, pursuant to which Pratt and Whitney has agreed to perform maintenance, modification and/or overhaul of engines, engine modules and their parts and components.  Pratt and Whitney has a limited exclusivity right for maintenance services of engines and modules pursuant to the terms of this agreement.  This exclusivity provision requires TAM Linhas Aéreas to obtain prior written authorization from Pratt and Whitney before sending the equipment to another maintenance service supplier, with an exception in the case of delay or non‑performance of services by Pratt and Whitney.  The services to be provided by Pratt and Whitney are charged based on a fixed rate specified for each type of service, subject to an escalation formula.  TAM Linhas Aéreas is required to make payments based on actual services performed.  This agreement terminates on September 14, 2010.

We are certified to conduct maintenance on each type of aircraft in our fleet.  Line maintenance is performed at all bases at which we operate, but mainly at the airports in São Paulo, Congonhas and Guarulhos.  We also conduct heavy maintenance and component repair and overhaul at our main maintenance center in São Carlos, which is 250 kilometers northwest of São Paulo.  The São Carlos maintenance center is approximately 4.6 million square meters in size and is fully certified by ANAC, EASA, FAA and other Latin American aeronautical authorities to perform maintenance on most of our fleet, including the Airbus A330, A320, A318, A319 and A321, Boeing 767 and Fokker 100, as well as over 2,500 different aeronautical components and parts for Fokker 100 and several parts for all Airbus aircraft and many of our Boeing aircraft.  Our maintenance center completed its ANAC 145 certification for Boeing 767 aircraft at the end of 2008, and the first inspections began in 2009.  Our maintenance center currently has over 700 direct employees (for core maintenance activities) and approximately 300 indirect employees (providing support functions, such as security, facility maintenance and cleaning).  Line maintenance and supply chain activities include approximately 100 additional employees.

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All maintenance that is conducted in‑house presents significant cost savings and strategic advantages.  As we are qualified to perform most line maintenance, heavy maintenance and component repair and overhaul services, we substantially reduce the need to send aircraft and parts overseas, decreasing downtimes and avoiding the costs of aircraft ferry-flights, parts logistics and import‑export taxes.  For those parts requiring maintenance at costs that are not economically efficient, due to complexity or low volume repairs, we have implemented, where possible, long‑term, optimized maintenance agreements with engine manufacturers.

As required by our codeshare agreements with several airlines, including Lufthansa, United, TAP, Air Canada and LAN, we have the IATA Operational Safety Audits (IOSA) maintenance certification.  Further, our maintenance division also has required certifications from each country in which we fly our aircraft (for example, the FAR 129 certification required by the United States).

In addition to the manufacturers (Airbus, Boeing, Rolls Royce, GE, Pratt & Whitney) training, we train our engineers and technicians at our own training center, which is fully certified under ANAC 147, and which uses the same equipment and software that the manufacturers use.  We refer to our training center as the "TAM Service Academy".

Besides maintenance on our own aircraft, we also perform maintenance for third party aircraft and flight components within the ranges of our certifications.  We are party to several line maintenance support contracts, pursuant to which we provide maintenance on Airbus aircraft, as well as heavy and component support for Brazilian and foreign airlines.  We also have a total care maintenance contract for the President of Brazil's A319 ACJ.  Our maintenance services are consistently growing, helping us to dilute our fixed expenses, as well as increase our revenues.

A significant part of our aircraft and vehicle maintenance expenses are indexed to the U.S. dollar.  For a description and analysis of the effect of exchange rate variations on our income, including fleet maintenance expenses, see "Item 11.  Quantitative and Qualitative Disclosures about Market Risk — Exchange rate risk."

Fuel

Fuel is the largest component of our operating expenses, representing 28.6% of our operating expenses in 2009.

Fuel consumed in Brazil represents approximately 80% of our total consumption and is acquired through the following distributors: Air BP Petrobrás and Shell (formerly Cosan and Esso).  We purchase fuel abroad from Air BP, Exxon Mobil, J&D Oil Field, Shell, Morgan Stanley, Repsol YPF and World Fuel Services.  Supply contracts for fuel in Brazil are normally made for a two to three year period and current contracts expire at the end of 2010.  Supply contracts at our international bases normally have a term of one or two years.  The great majority of our fuel is purchased under "into‑plane" terms, meaning that the supplier is responsible for delivering the fuel directly into the tanks of our aircraft.  The fuel prices in the contracts we sign normally consist of three components: (i) the price from the refinery, (ii) the supplier differential and (iii) airport or logistics fees and taxes.  The price of fuel from the refinery is subject to international market variations in the price of oil and refineries' margins.  The supplier differential is the portion charged by the supplier, which consists of a fixed amount per volume negotiated and committed to be charged during the contractual period, and reflects the cost of distribution, storage, and delivery, as well as a profit margin.  Airport taxes and fees vary by airport.  We have a department responsible for negotiating fuel purchase contracts and, as a result of the high volumes of fuel we purchase, we believe that we are normally able to obtain more favorable terms than our competitors.

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To reduce our exposure to international fuel price and exchange rate variations, in 2006 we began to enter into arrangements intended to hedge a minimum of 30% and a maximum of 80% of our projected fuel consumption for up to a rolling 24‑month period.  Due to new market and macroeconomic conditions, we decided to modify this policy.  We now plan to hedge our fuel requirements over rolling 24-month periods with between 20% and 60% of our future fuel requirements hedged over the first 12 months, and 10% to 60% hedged over the second 12 months.  For a description and analysis of the effect of volatility in fuel prices on our income, see "Item 11.  Quantitative and Qualitative Disclosures about Market Risk — Risks relating to variations in the price of oil." Another important cost reduction initiative involving fuel is our "fuel tanker" program, pursuant to which we refuel aircraft in regions where fuel prices are relatively low.  This initiative has more of an effect in Brazil, where the local taxes for each state cause significant variances in final fuel price.  We have also formed a multidisciplinary work group, involving each of our departments responsible for fuel, engineering, control, operations, dispatching and financing, to develop other measures to reduce spending and fuel consumption by our fleet.

Safety

We adopt the highest safety standards in the world.  We comply with Brazilian and foreign aviation regulations, including those issued by the ICAO (International Civil Aviation Organization), the FAA – Federal Aviation Administration (U.S. aviation authority) and the EASA – European Aviation Safety Agency (EASA).  As an international air company, we are a member of the IATA, and sit on the Regional Flight Safety Committee (RCG).  We are also a member of the Flight Safety Foundation (the largest nongovernmental organization for flight safety) and the Flight Safety Committee (a committee comprised of all Brazilian airlines).

Our priority is to provide safe air transportation.  Our founder, Commander Rolim Amaro, passed down one of our key corporate mottos:  "Safety comes first to the client."  We are extremely devoted to flight safety.  We adopt modern certification  and system standards; for example:

·                      In 2002, we were the first Brazilian company to implement the FOQA (Flight Operations Quality Assurance) system, a system used for the systemic analysis of flights and the prevention of operating failures that may affect the safety of a flight, which subsequently became a benchmark for other Brazilian companies;

·                      In 2004, the European Union Aviation Authority granted us the EASA 145 certification for our aircraft maintenance and repair facility located in São Carlos and we have been recertified annually since then;

·                      In July 2006, we became a member of the United Kingdom Flight Safety Committee (UKFSC), an association of organizations and professionals dedicated to improving flight safety standards in commercial aviation in the United Kingdom.  In 2006, we also became a member of the Steering Committee of the Emergency Response and Planning Task Force (ERPTF) of IATA;

·                      In 2007, we were the first company in Latin America to implement the AQD (Aviation Quality Database) system for safety database management, which analyzes operating risks and implements the SMS (Safety Management System) in conformity with Brazilian and foreign regulations;

·                      In January 2010, we ratified the IOSA certification that IATA granted us in 2007 and validated in 2008.  The IOSA certification is the most complete and recognized international operational safety certificate.  The IOSA certification requires an independent evaluation system focused on the operational management and control systems of air companies.  The IOSA audit encompasses over 940 requirements related to operational safety, such as management system, flight operations, operational dispatch, ramp operations, airports, maintenance, cargoes, operational safety and training for each area associated with operations.  With IOSA registration renewal, we met a pre-requisite for joining the Star Alliance; and

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·                      In 2009, the U.S. aviation authority (FAA) granted us the FAR 145 certification for our aircraft maintenance and repair facility located in São Carlos.

Brazilian civil aviation follows the highest safety standards in the world.  Brazil is classified as a Category 1 country in terms of the flight safety standards established by ICAO.  Category 1 is the highest.

Insurance

We maintain insurance policies as required by law and the terms of our aircraft leasing agreements.  The scope of these policies includes all risk coverage for aircraft hulls, including war risks and third party legal liability for passengers, cargo, baggage and injuries to third parties on the ground.  Our current policies, which will be in force through December 19, 2010, follow practices adopted by the international civil aviation industry.

We have also contracted for asset insurance against the risk of theft, fire, flood, electrical damage and similar events for equipment and buildings we own or for which we are responsible, including airport areas where we have operations.  Similarly, we have contracted for vehicle insurance against the risk of robbery, theft, fire and civil liability against third parties for all vehicles we own or for which we are responsible.

We have also contracted for liability insurance in respect of our directors and officers and the existing policy is due to expire on May 7, 2011.

Information Technology

We invest significantly in information technology systems that enhance our operating processes, allow us to provide higher quality services to our passengers, grant us greater flexibility and increase the speed of our operations.

In 2004, we introduced the e ‑TAM portal, a tool that integrates our entire sales chain, from the time of reservation to passenger boarding.  Moreover, data obtained from the e ‑TAM portal allows us to offer our passengers a set of customized services.  The great majority of our domestic reservations made in Brazil are made through the portal environment.  The use of the e ‑TAM portal allows us to reduce the cost of reservations and ticket issuance by consolidating the GDSs previously used for almost all our reservations.  Currently, GDS is used more for international tickets issued in Brazil and for tickets issued abroad.

We were the first Brazilian airline to develop and install self‑service check‑in kiosks in airports.  With over 150 units in Brazil's major airports, the kiosks allow passengers who purchase e ‑tickets to check‑in and select their seat in less than ten seconds, reducing lines in the check‑in halls and on board the aircraft.  In 2007, 2008 and 2009 approximately 2,009,900, 5,888,474 and 6,220,208 passengers, respectively, checked in through the self‑service kiosks.

In October 2003, we signed a general services agreement with Sabre Travel International Limited, pursuant to which we were granted a license (relating to the provision of maintenance services) for electronic reservation technology and database backup.  This agreement was intended to remain in force for ten years, unless early terminated by either party.  In March 2009, we announced that we were exercising our right to early terminate the contract and the contract was early terminated in March 2010.

In July 2009, we signed an agreement with Amadeus IT Group SA, pursuant to which we were granted a license to operate our core processes using their software.  This agreement shall expire ten years from the date we began to use the Amadeus platform, November 15, 2009, unless terminated early in accordance with the termination clause.

The TAM Loyalty Program and "special services" system are also important tools for obtaining profile information on our passengers.  The TAM Loyalty Program allows us to monitor the activity of passengers registered with the program, recording information on each passenger flight in addition to personal information and preferences (such as preferred seat, special meal requests and other data obtained through our contacts or customer surveys).  The "special services" system allows the crew to input data on preferences of our passengers directly to our database.  This data is also used to study passengers, offer promotions and new services and define our advertising message.

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Our DOV‑line tracing system monitors all aircraft baggage and cargo, following the location of items inside the aircraft, for proper weight balancing.  A balanced aircraft is critical for a safe flight and has the added benefit of reducing fuel consumption.  The DOV‑line tracing system also manages crew distribution.

Seasonality

The Brazilian passenger air transportation market is subject to seasonality, as there is always higher demand for air transportation services in the second half of the year.  However, this seasonality is partially mitigated by the fact that we have a higher concentration of business travel than the market average (and business travel is less sensitive to seasonality).  Our other operations do not vary significantly as a result of seasonality.

Competition

Domestic

Airlines in Brazil compete primarily in terms of routes, price, flight frequency, service reliability, brand recognition and benefits offered to passengers, such as loyalty programs and customer service.  We believe our market leadership and the TAM Loyalty Program enhance our competitive performance in many of these areas.

Our competitors, both actual and potential, include Brazilian airlines, airlines operating on regional air routes and new participants in the market who operate primarily on regional transportation networks.  Our principal competitor is Gol.  In previous years, Varig had been one of our major competitors.  However, Varig filed for bankruptcy protection in Brazil and the United States in June 2005.  Varig's assets and operations were sold to various investors over the course of 2006 and, on December 14, 2006, Varig ceased operations altogether.  On December 15, 2006, a new company, VRG Linhas Aéreas S.A., initiated operations on some of the routes previously used by Varig.  On March 24, 2007, Gol announced that it had entered into an agreement to acquire VRG Linhas Aéreas S.A.  In compliance with applicable CADE requirements, Gol and Varig operated as separate airlines until CADE's final approval of the acquisition on June 25, 2008.  On October 19, 2008, the route networks of both companies were integrated.

To a much less degree, we also face competition from a number of significantly smaller airlines operating in the domestic market.  In 2009, 17 different airlines together shared the 13% of the domestic market that is not served by TAM and Gol (who together share approximately 87% of the domestic market).

ANAC's resolution provides that 80% of new airport slots are distributed to existing airlines, with these slots being divided evenly (without regard to market shares).  New slots are only available to airlines that have a history of punctuality, no pending proceedings with ANAC and a positive shareholders' equity.  The remaining 20% of slots are available to new entrants.  See "— Regulation of the Brazilian Civil Aviation Industry — Rights to Operate Air Routes — Policy on slots."

The graph below shows the history of market participation on domestic routes, calculated by reference to RPKs, for the major Brazilian airlines, for the periods indicated (based on data provided by ANAC):

Source :  ANAC.

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We also face competition, albeit to a lesser degree, from land transportation companies such as road transport companies.

International

The international market is substantially more competitive than the domestic market.  In the international market, there are many international airlines that are larger than us and more experienced.  To ensure sustained market competitiveness, airlines are dependent on partnerships and codeshare agreements in the international market.

With respect to international flights, airlines compete primarily on the basis of routes, services, price and mileage and frequent flyer programs.  We offer 72 daily international flights to Buenos Aires, Santiago, Asunción, Montevideo, La Paz, Ciudad del Este, Santa Cruz de la Sierra, Cochabamba, Punta del Este, Caracas, Lima, Miami, New York, Orlando, London, Paris, Frankfurt, Madrid and Milan.  We have codeshare agreements with LAN Group, Pluna, United Airlines, Air Canada, TAP, Lufthansa, BMI, Air China, and Swiss International, allowing our passengers to make connections throughout the world, in addition to other services such as simplified check-in, luggage shipping and access to VIP lounges.  We also have inter-airline agreements allowing us to offer our passengers a wide range of destinations around the world.  On October 7, 2008, we publicly announced that we were joining the Star Alliance, the largest global alliance in commercial aviation.  We became a full member of the Star Alliance on May 13, 2010.

In the international market, our main competition is from major international airlines that serve the markets in which we operate.  Our average international market share in 2009 was 86.5% (measured by RPK).  According to ANAC, Brazilian airlines were responsible for approximately 34% of international passengers transported in 2008, with the remainder offered by non‑Brazilian airlines.  We believe that in 2009, Brazilian airlines transported 36% of those passengers to and from Brazil.  The graph below shows the history of market participation on international routes, calculated by reference to RPKs, among only the Brazilian airlines, for the periods indicated (based on data provided by ANAC):

Source :  ANAC.

Overview of the Industry

General

According to IATA, Brazil is the fourth largest domestic aviation market in the world (in number of scheduled passengers transported), covering a vast area (greater than the continental United States) with a population of approximately 191.5 million people  in 2009 (according to the Brazilian Geography and Statistics Institute – Instituto Brasileiro de Geografia e Estatística , or IBGE).  We believe that the São Paulo — Rio de Janeiro shuttle route is one of the busiest shuttle routes in the world.  According to ANAC, more than 3 million passengers were transported on this route in 2008.  Growth of the Brazilian commercial aviation industry is closely related to growth of Brazilian GDP.  According to ANAC, the Brazilian commercial aviation industry transported more than 50 million passengers in the domestic market in 2008.

Brazilian civil aviation follows the highest established standards of flight safety in the world.  Brazil is classified as Category 1 under the flight safety standards established by the ICAO, the same classification as the United States and Canada.

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