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MarketScreener Homepage  >  Equities  >  Hong Kong Stock Exchange  >  AviChina Industry & Technology Company Limited    2357   CNE1000001Y8

AVICHINA INDUSTRY & TECHNOLOGY COMPANY LIMITED

(2357)
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MAJOR AND CONNECTED TRANSACTIONS:PROPOSED ACQUISITION OF THE TARGET EQUITY AND PROPOSED ISSUANCE OF CONSIDERATION SHARES UNDER THE SPECIFIC MANDATE

01/03/2020 | 03:22am EST

THIS CIRCULAR IS IMPORTANT AND REQUIRES YOUR IMMEDIATE ATTENTION

If you are in any doubt about any of the contents of this circular or as to what action to take in relation to this circular, you should consult your licensed securities dealer, bank manager, solicitor, professional accountant or other professional adviser.

If you have sold or transferred all your shares in AviChina Industry & Technology Company Limited, you should at once hand this circular and the enclosed proxy form and reply slip to the purchaser(s) or the transferee(s) or to the bank, licensed securities dealer or other agent through whom the sale or transfer was effected for transmission to the purchaser(s) or the transferee(s).

Hong Kong Exchanges and Clearing Limited and The Stock Exchange of Hong Kong Limited take no responsibility for the contents of this circular, make no representation as to its accuracy or completeness and expressly disclaim any liability whatsoever for any loss howsoever arising from or in reliance upon the whole or any part of the contents of this circular.

The circular is for information purposes only and does not constitute an invitation or offer to acquire, purchase or subscribe for the securities of the Company.

AviChina Industry & Technology Company Limited*

(A joint stock limited company incorporated in the People's Republic of China with limited liability)

(Stock Code: 2357)

MAJOR AND CONNECTED TRANSACTIONS:

PROPOSED ACQUISITION OF THE TARGET EQUITY AND PROPOSED

ISSUANCE OF CONSIDERATION SHARES UNDER THE SPECIFIC

MANDATE

Financial Adviser to the Company

Independent financial adviser to the Independent Board Committee and the Independent Shareholders

SOMERLEY CAPITAL LIMITED

A letter from the Board is set out on pages 5 to 25 of this circular. A letter from the Independent Board Committee is set out on page 26 of this circular. A letter from Somerley to the Independent Board Committee and the Independent Shareholders is set out on pages 27 to 53 of this circular.

A notice convening the EGM of AviChina Industry & Technology Company Limited to be held at 9:00 a.m. on Thursday, 13 February 2020 at Avic Hotel, No. 10 Yi, Central East Third Ring Road, Chaoyang District, Beijing, the People's Republic of China is set out on pages EGM-1 to EGM-3 of this circular.

A reply slip and a form of proxy for use at the EGM are enclosed and are also published on the website of the Hong Kong Stock Exchange (www.hkexnews.hk). Shareholders who intend to attend the EGM shall complete and return the reply slip in accordance with the instructions printed thereon on or before Thursday, 23 January 2020. Shareholders who intend to appoint a proxy to attend the EGM shall complete and return the enclosed form of proxy in accordance with the instructions printed thereon not less than 24 hours before the time fixed for the holding of EGM or any adjournment thereof (as the case may be). Completion and return of the form of proxy will not preclude you from attending the EGM or any adjournment thereof (as the case may be) and voting in person if you so wish.

6 January 2020

* For identification purpose only

CONTENTS

Page

Definitions . . . .

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

1

Letter from the Board . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

5

Letter from the Independent Board Committee . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

26

Letter from Somerley . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

27

Appendix I

-

Financial Information of the Group . . . . . . . . . . . . . . . . . . . . . . . . . . .

I-1

Appendix II

-

Accountants' Report of the Target Group . . . . . . . . . . . . . . . . . . . . . .

II-1

Appendix III

-

Management Discussion and Analysis on the Target Group . . . . . . . . .

III-1

Appendix IV

-

Unaudited Pro Forma Financial Information of the Enlarged Group . . .

IV-1

Appendix V

-

General Information . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

V-1

Notice of EGM . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . EGM-1

- i -

DEFINITIONS

In this circular, unless the context otherwise requires, the following expressions shall have the following meanings:

"Articles of Association"

the articles of association of the Company

"associate"

has the same meaning as defined in the Listing Rules

"AVIC"

Aviation Industry Corporation of China, Ltd.* (中國航空工業集團

有限公司), the controlling Shareholder of the Company holding

56.04% equity interest in the Company directly and indirectly as at

the Latest Practicable Date

"AVIC Helicopter"

AVIC Helicopter Co., Ltd.* (中航直升機有限責任公司), a limited

liability company incorporated in the PRC and a subsidiary of

AVIC as at the Latest Practicable Date

"AVICOPTER"

AVICOPTER PLC.*(中航直升機股份有限公司), a joint stock

limited liability company whose A shares are listed on the

Shanghai Stock Exchange, being held as to 34.77% by the

Company directly and indirectly as at the Latest Practicable Date

"Board"

the board of directors of the Company

"Changhe Aircraft"

Changhe Aircraft Industries (Group) Co., Ltd.* (昌河飛機工業(集

團)有限責任公司), a limited liability company incorporated in the

PRC and a subsidiary of AVIC as at the Latest Practicable Date

"Company"

AviChina Industry & Technology Company Limited* (中國航空科

技工業股份有限公司), a joint stock limited liability company

incorporated in the PRC, whose H Shares are listed on the Hong

Kong Stock Exchange

"Completion Date"

the date on which all the conditions precedent of completion under

the Equity Acquisition and Share Issuance Agreement are satisfied

or waived (if applicable), or other date as agreed by the parties in

writing

"connected person(s)"

has the same meaning as defined in the Listing Rules

"Consideration Shares"

the Domestic Shares to be issued by the Company to the

Transferors under the Equity Acquisition and Share Issuance

Agreement as the consideration of the Proposed Acquisition,

which have been confirmed by relevant regulatory authorities in

the PRC and each party to the Equity Acquisition and Share

Issuance Agreement

- 1 -

DEFINITIONS

"Director(s)"

the director(s) of the Company

"Domestic Share(s)"

the domestic share(s) to be issued by the Company and subscribed

for in RMB, with a nominal value of RMB1.00 each

"EGM"

the extraordinary general meeting of the Company to be held at

9:00 a.m. on Thursday, 13 February 2020 at Avic Hotel, No. 10 Yi,

Central East Third Ring Road, Chaoyang District, Beijing, the PRC

for the purpose of considering and, if thought fit, approving, among

other things, the Equity Acquisition and Share Issuance Agreement

and the transactions contemplated thereunder (including the grant of

the Specific Mandate)

"Enlarged Group"

the Group as enlarged by the Target Group upon completion of the

Proposed Acquisition under the Equity Acquisition and Share

Issuance Agreement

"Equity Acquisition and Share

the equity acquisition and share issuance agreement dated 28

Issuance Agreement"

November 2019 entered into between the Company, AVIC and

Tianjin Free Trade Zone Investment in relation to the Proposed

Acquisition and Proposed Issuance

"Group"

the Company and its subsidiaries

"H Share(s)"

the overseas-listed foreign invested share(s) in the Company's share

capital, with a nominal value of RMB1.00 each, which are listed on

the Hong Kong Stock Exchange and traded in HK$

"Harbin Aircraft"

Harbin Aircraft Industry Group Co., Ltd.* (哈爾濱飛機工業集團有

限責任公司), a limited liability company incorporated in the PRC

and a subsidiary of AVIC as at the Latest Practicable Date

"HK$"

Hong Kong dollars

"Hong Kong"

the Hong Kong Special Administrative Region of the PRC

"Hong Kong Stock Exchange"

The Stock Exchange of Hong Kong Limited

"IFRS"

International Financial Reporting Standards

"Independent Board Committee"

an independent committee of the Board comprising all independent

non-executive Directors, namely, Mr. Liu Renhuai, Mr. Liu Weiwu

and Mr. Wang Jianxin, to advise the Independent Shareholders in

respect of the Equity Acquisition and Share Issuance Agreement

and the transactions contemplated thereunder (including the grant of

the Specific Mandate)

- 2 -

DEFINITIONS

"Independent Financial Adviser" or

Somerley Capital Limited, a corporation licensed to carry out type

"Somerley"

1 (dealing in securities) and type 6 (advising on corporate finance)

regulated activities under the SFO, to advise the Independent Board

Committee and Independent Shareholders in respect of the

connected transactions contemplated under the Equity Acquisition

and Share Issuance Agreement

"Independent Shareholders"

Shareholders (other than AVIC and its associates) who are not

required to abstain from voting on the resolution to be proposed at

the EGM to approve the Equity Acquisition and Share Issuance

Agreement and the transactions contemplated thereunder (including

the grant of the Specific Mandate)

"Issue Price"

the issue price of the Consideration Shares

"Latest Practicable Date"

30 December 2019, being the latest practicable date prior to the

printing of this circular for ascertaining certain information

contained therein

"Listing Rules"

the Rules Governing the Listing of Securities on The Stock

Exchange of Hong Kong Limited (as amended from time to time)

"PRC"

the People's Republic of China

"Proposed Acquisition"

the proposed acquisition of the Target Equity by the Company from

the Transferors pursuant to the Equity Acquisition and Share

Issuance Agreement, the consideration for which is to be settled by

the issuance of the Consideration Shares to the Transferors

"Proposed Issuance"

the issuance of Consideration Shares by the Company to the

Transferors as the consideration for the Proposed Acquisition

pursuant to the Equity Acquisition and Share Issuance Agreement

"RMB"

Renminbi, the lawful currency of the PRC

"SFO"

the Securities and Futures Ordinance (Chapter 571 of the Laws of

Hong Kong) (as amended from time to time)

"Share(s)"

the share(s) of the Company

"Shareholders"

the shareholders of the Company

"Specific Mandate"

the specific mandate in relation to the Proposed Issuance to be

sought at the EGM

"subsidiary(ies)"

has the same meaning ascribed thereto under the Listing Rules

- 3 -

DEFINITIONS

"Target Group"

AVIC Helicopter and its subsidiaries (including Harbin Aircraft and

Changhe Aircraft)

"Target Equity"

68.75%

and 31.25% equity interests in AVIC Helicopter held by

AVIC and Tianjin Free Trade Zone Investment, respectively,

10.21%

equity interests in Harbin Aircraft held by AVIC and

47.96%

equity interests in Changhe Aircraft held by AVIC

"Tianjin Free Trade Zone

Tianjin Free Trade Zone Investment Company Limited* (天津保稅

Investment"

區投資有限公司), a limited liability company incorporated in the

PRC

"Transferor(s)"

AVIC and/or Tianjin Free Trade Zone Investment

"USD"

United States dollars, the lawful currency of the United States

"Valuation Benchmark Date"

being 30 September 2018

"%"

per cent

  • For identification purpose only.

For the purpose of this circular, unless otherwise indicated, the exchange rate at RMB1 = HK$1.107 has been used, where applicable, for the purpose of illustration only and not constitute a representation that any amount have been, could have been or may be exchanged.

- 4 -

LETTER FROM THE BOARD

AviChina Industry & Technology Company Limited*

(A joint stock limited company incorporated in the People's Republic of China with limited liability)

(Stock Code: 2357)

Executive Directors:

Registered Office:

Mr. Chen Yuanxian

2nd floor, Building 27

Mr. Wang Xuejun

No. 26 Xihuan South Street

Beijing Economic Technological

Non-executive Directors:

Development Area

Mr. Yan Lingxi

Beijing, PRC

Mr. Lian Dawei

Mr. Xu Gang

Place of business in Hong Kong:

Unit 2202A, 22th Floor

Independent non-executive Directors:

Fairmont House

Mr. Liu Renhuai

8 Cotton Tree Drive

Mr. Liu Weiwu

Central

Mr. Wang Jianxin

Hong Kong

6 January 2020

To the Shareholders:

Dear Sir or Madam,

MAJOR AND CONNECTED TRANSACTIONS:

PROPOSED ACQUISITION OF THE TARGET EQUITY AND PROPOSED

ISSUANCE OF CONSIDERATION SHARES UNDER THE SPECIFIC

MANDATE

  1. INTRODUCTION

References are made to the announcements of the Company dated 12 October 2018, 13 October 2019, 28 November 2019 and 27 December 2019 in relation to, among other things, the proposed acquisition of 100% equity interests of AVIC Helicopter, delay in despatch of circular and closure of register of members.

The purpose of this circular is to provide you with, among other things, information relating to the following resolution to be considered and, if appropriate, approved at the EGM:

  1. details relating to the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder (including the grant of the Specific Mandate);

- 5 -

LETTER FROM THE BOARD

    1. a letter of recommendation from the Independent Board Committee on the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder (including the grant of the Specific Mandate);
    2. a letter of advice from Somerley on the connected transactions contemplated under the Equity Acquisition and Share Issuance Agreement to the Independent Shareholders and the Independent Board Committee; and
    3. notice of the EGM.
  1. EQUITY ACQUISITION AND SHARE ISSUANCE AGREEMENT
    B.1 Introduction

On 12 October 2018, the Company, AVIC and Tianjin Free Trade Zone Investment entered into a share transfer framework agreement. On 28 November 2019, the Company entered into the Equity Acquisition and Share Issuance Agreement with AVIC and Tianjin Free Trade Zone Investment, pursuant to which, the Company conditionally agreed to acquire (i) 68.75% and 31.25% equity interests in AVIC Helicopter held by AVIC and Tianjin Free Trade Zone Investment, respectively; (ii) 10.21% equity interests in Harbin Aircraft held by AVIC; and (iii) 47.96% equity interests in Changhe Aircraft held by AVIC, at a total consideration of approximately RMB5,687,537,050.94 (equivalent to approximately HK$6,296,103,515.39). Upon completion of the Proposed Acquisition, each of AVIC Helicopter, Harbin Aircraft and Changhe Aircraft will become a wholly-owned subsidiary of the Company.

B.2 Equity Acquisition and Share Issuance Agreement

The major terms of the Equity Acquisition and Share Issuance Agreement are summarized as follows:

Date

28 November 2019 (after trading hours)

Parties

(1)

the Company, as the purchaser of the Target Equity and the

issuer of the Consideration Shares;

(2)

AVIC and Tianjin Free Trade Zone Investment, each as the

seller of the Target Equity and the subscriber for the

Consideration Shares.

Target Equity

(1)

68.75% and 31.25% equity interests in AVIC Helicopter held by

AVIC and Tianjin Free Trade Zone Investment, respectively;

(2)

10.21% equity interests in Harbin Aircraft held by AVIC; and

(3)

47.96% equity interests in Changhe Aircraft held by AVIC.

- 6 -

LETTER FROM THE BOARD

Consideration

The total consideration for the Target Equity is approximately

R M B 5 , 6 8 7 , 5 3 7 , 0 5 0 . 9 4 ( e q u i v a l e n t t o a p p r o x i m a t e l y

HK$6,296,103,515.39), among which:

  1. in respect of acquisition of 100% equity interests in AVIC Helicopter, the total consideration is approximately RMB4,951,877,168.61 (equivalent to approximately HK$5,481,728,025.65) comprising the consideration to be paid by the Company to AVIC and Tianjin Free Trade Zone Investment of RMB4,005,250,762.69 (equivalent to approximately HK$4,433,812,594.30) and RMB946,626,405.92 (equivalent to approximately HK$1,047,915,431.35), respectively;
  2. in respect of acquisition of 10.21% equity interests in Harbin Aircraft, the consideration to be paid by the Company to AVIC is approximately RMB147,654,910.06 (equivalent to approximately HK$163,453,985.44); and
  3. in respect of acquisition of 47.96% equity interests in Changhe Aircraft, the consideration to be paid by the Company to AVIC is approximately RMB588,004,972.27 (equivalent to approximately HK$650,921,504.30).

- 7 -

LETTER FROM THE BOARD

The above consideration is determined upon arm's length negotiations between the parties with reference to various factors, namely (a) the financial position of the Target Group, such as its net assets value, operating revenue and net profit, details of which please refer to the accountants' report of the Target Group as set out in Appendix II, (b) the historical performance of the Target Group during the past three years, including its research and development progress in relation to its core products, its business operation and financial performance in the recent three years, details of which please refer to the management discussion and analysis on the Target Group as set out in Appendix III,

  1. the future business outlook and potential of the Target Group after taking into account the current situation, development stage and future trend of defense equipment industry, (d) the economic and industrial situation, including the external macro economy, the future growth in China's economy and the development in the defense equipment industry, and (e) the valuation results of the Target Equity as set out in the valuation reports prepared by a qualified and independent PRC valuer using asset-based approach as at the Valuation Benchmark Date, a summary of which is set out in section B.8 below. Having considered the above factors (including the review of the accountants' report and valuation reports of the Target Group) and the benefits of the Proposed Acquisition as elaborated in Section B.5 below, upon commercial negotiation with the Transferors, the Company agreed on the total consideration for the Target Equity.

Consideration

The above consideration will be settled by the Company through

Shares

issuance of the Consideration Shares.

In light of the absolute amount of the consideration is very large (i.e.

over RMB5 billion), the Company explored the most appropriate way

to finance the Proposed Acquisition. The payment in cash from the

Group's own funds may place pressure on the Group's cash flow, and

debt financing from external institutions would bring additional finance

costs and the Group's gearing ratio would be increased accordingly.

Meanwhile, the issuance of the Consideration Shares can save finance

costs and has no negative impact on the Group's cash flow. Therefore,

the Directors are of the view that the issuance of Consideration Shares

to the Transferors as consideration to the Proposed Acquisition is fair

and reasonable.

- 8 -

LETTER FROM THE BOARD

Pursuant to the Specific Provisions on Overseas Issuance and Listing of Shares by Joint Stock Limited Liability Companies issued by the State Council* (國務院關於股份有限公司境外募集股份及上市的特 別規定) ("Specific Provisions"), overseas listed foreign invested shares refer to shares which are issued by joint stock limited liability companies to overseas investors and are listed overseas. As each of AVIC and Tianjin Free Trade Zone Investment are domestic entities, the shares to be issued by the Company to AVIC and Tianjin Free Trade Zone Investment does not fall under the definition of overseas listed foreign invested shares (i.e. H shares). Therefore, as confirmed by the PRC regulatory authorities and each party to the Equity Acquisition and Share Issuance Agreement, the Company determined to settle the consideration for the Proposed Acquisition through issuance of Domestic Shares. The Company considers that the Proposed Issuance of Domestic Shares for the Proposed Acquisition will not incur higher acquisition costs as compared to the issuance of H Shares since both of them are ordinary shares whose rights and obligations are substantially the same unless those specified in the Articles of Association.

Based on the prior consultation with the PRC regulatory authorities and the PRC legal advisers of the Company, taking the above into account, the Board considers that the Proposed Issuance of the Domestic Shares to the Transferors for consideration of the Proposed Acquisition is in compliance with the Articles of Association and the relevant PRC laws and regulations (including the Specific Provisions).

Given that H Shares are tradeable on the Hong Kong Stock Exchange, taking into account the benefits of H share full circulation of the Company, the Company and the Transferors wish to convert the Consideration Shares (i.e. the Domestic Shares) into H Shares in the future. Such conversion is subject to approval by the PRC regulatory authorities and application by the Transferors and no concrete conversion plan has been formulated for the time being.

Issue Price

The parties to the Equity Acquisition and Share Issuance Agreement agreed that the Issue Price of the Consideration Shares is HK$4.19 per Consideration Share (when the Consideration Shares are H Shares) or RMB3.79 (equivalent to approximately HK$4.19) per Consideration Share (when the Consideration Shares are Domestic Shares).

- 9 -

LETTER FROM THE BOARD

As confirmed by relevant regulatory authorities in the PRC and each party to the Equity Acquisition and Share Issuance Agreement, the consideration for the Proposed Acquisition is proposed to be settled by issuance of the Domestic Shares to AVIC and Tianjin Free Trade Zone Investment.

The Issue Price is determined by the parties after arm's length negotiations and with reference to the recent average closing prices of H Share on the Hong Kong Stock Exchange prior to signing the Equity Acquisition and Share Issuance Agreement.

The Issue Price per Consideration Share represents:

  1. a premium of approximately 19.71% over the closing price of HK$3.50 per H Share on the Hong Kong Stock Exchange on the date of the Equity Acquisition and Share Issuance Agreement (the "Agreement Date");
  2. a premium of approximately 18.83% over the average closing price of HK$3.53 per H Share on the Hong Kong Stock Exchange for five (5) trading days prior to and including the Agreement Date;
  3. a premium of approximately 16.36% over the average closing price of HK$3.60 per H Share on the Hong Kong Stock Exchange for twenty (20) trading days prior to and including the Agreement Date; and
  4. a premium of approximately 19.03% over the closing price of HK$3.52 per H Share on the Hong Kong Stock Exchange on the Latest Practicable Date.

Note: The comparison of value above is provided for investors' convenience and for reference only. The Company's Domestic Shares, to be issued and allotted as the Consideration Shares, are non-listed Shares.

- 10 -

LETTER FROM THE BOARD

Number of Consideration Shares

Based on the consideration of the Target Equity and the Issue Price as elaborated above, the total number of the Consideration Shares is 1,500,669,406, representing 24.03% of the total issued share capital of the Company as at the Latest Practicable Date and 19.37% of the total issued share capital of the Company as enlarged by the Proposed Issuance (assuming there is no other change in the share capital of the Company).

The respective number of the Consideration Shares to be issued and allotted to AVIC and Tianjin Free Trade Zone Investment is as follows:

  1. for AVIC: 1,250,899,906, representing 20.03% of the total issued share capital of the Company as at the Latest Practicable Date and 16.15% of the total issued share capital of the Company as enlarged by the Proposed Issuance (assuming there is no other change in the share capital of the Company); and
  2. for Tianjin Free Trade Zone Investment: 249,769,500, representing 4.00% of the total issued share capital of the Company as at the Latest Practicable Date and 3.22% of the total issued share capital of the Company as enlarged by the Proposed Issuance (assuming there is no other change in the share capital of the Company).

Ranking of the Consideration Shares to be issued

The Consideration Shares shall rank pari passu in all respect among themselves and with the existing Shares of the same class (if any) pursuant to the Articles of Association.

Effectiveness of The Equity Acquisition and Share Issuance Agreement shall become

the Agreement effective upon satisfaction of all the following conditions:

  1. the Equity Acquisition and Share Issuance Agreement has been duly executed by each party;
  2. all the pre-approvals in relation to the transactions under the Equity Acquisition and Share Issuance Agreement have been obtained from the relevant governmental authorities by each party according to laws;

- 11 -

LETTER FROM THE BOARD

(3)

the Equity Acquisition and Share Issuance Agreement has been

approved by the internal decision authorities (including the

board (or executive director(s)) and the shareholders

(shareholders' meeting)) of each Transferor; and

(4)

the Equity Acquisition and Share Issuance Agreement and the

transactions thereunder (including the Proposed Acquisition and

the Proposed Issuance) have been approved by the Board and

the Independent Shareholders of the Company.

As at the Latest Practicable Date, all conditions precedent have been

satisfied other than the Independent Shareholders' approval as

mentioned in condition (4).

Completion

The completion of the Proposed Acquisition and the Proposed Issuance

shall take place on the Completion Date upon satisfaction (or waiver, if

applicable) of the following conditions precedent:

(1)

the transfer of 100% equity interests in AVIC Helicopter has

been approved by the shareholders' meeting of AVIC

Helicopter;

(2)

the transfer of 10.21% equity interests in Harbin Aircraft has

been approved by the shareholders' meeting of Harbin Aircraft;

(3)

the transfer of 47.96% equity interests in Changhe Aircraft has

been approved by the shareholders' meeting of Changhe

Aircraft;

(4)

the consent, authorization and approval (if required) of any third

party (including but not limited to financial creditors) in relation

to the transfer of the Target Equity have been obtained, and

there is no pledge, freeze or any third party rights over the

Target Equity that may restrict or impede the implementation of

the Equity Acquisition and Share Issuance Agreement;

(5)

each party's warranties given on the date of the Equity

Acquisition and Share Issuance Agreement shall remain true

and accurate, and shall not be misleading in all material respects

on the Completion Date with reference to the facts and

circumstances of the Target Equity/the Consideration Shares

(as the case may be);

(6)

all relevant legal documents for the transactions under the

Equity Acquisition and Share Issuance Agreement have been

completed to the satisfaction of all parties;

- 12 -

LETTER FROM THE BOARD

(7)

the Target Group has completed the divestment of relevant

business involved in Special Management Measures for

Admittance of Foreign Investment (Negative List), including

but not limited to the exclusion in the business scope involving

such business;

(8)

certain subsidiaries and/or branches of the Target Group have

improved procedures in relation to the change of industrial and

commercial registration or cancellation of registration to the

satisfaction of the Company;

(9)

subject to compliance with the relevant laws and regulations and

the rules of the stock exchanges by AVIC Helicopter, the

registration procedures for the transfer of 6% equity interests in

AVICOPTER held by AVIC Helicopter to Tianjin Binjiang

Helicopter Co., Ltd.* (天津濱江直升機有限責任公司) have

been completed;

(10)

the ownership of the assets (including land and real estate) of

the Target Group has been further improved as required to the

satisfaction of the Company; and

(11)

there is no occurrence of any matters in accordance with the

Equity Acquisition and Share Issuance Agreement which will

trigger the termination of the Equity Acquisition and Share

Issuance Agreement.

Except for conditions precedent (8) and (10) (which can be waived by

the Company), the above conditions precedent cannot be waived.

Transitional

The Company shall be entitled to the accumulated undistributed profit

Period

of the Target Group as of the Valuation Benchmark Date and during

Arrangement

the period from the Valuation Benchmark Date to the Completion

Date. The existing shareholders of the Target Group shall be entitled to

the profit of the Target Group (paid or unpaid) generated before the

Valuation Benchmark Date and declared during the period from the

Valuation Benchmark Date to the Agreement Date in proportion to

respective equity interest in the Target Group, on the assumption that the Target Group and the Transferors have fully disclosed such distribution to the Company timely in good faith and such distribution is reflected in the accountants' report and valuation report of the Target Group accordingly.

- 13 -

LETTER FROM THE BOARD

B.3 Specific Mandate

The Consideration Shares will be issued pursuant to the Specific Mandate to be sought from the Independent Shareholders at the EGM.

The Company has not engaged in any other fund raising activities involving issuance of the Company's equity securities in the past 12 months immediately prior to the Latest Practicable Date.

B.4 Effects on shareholding structure upon completion of the Proposed Acquisition and

Proposed Issuance

As at the Latest Practicable Date, the Company had a registered share capital of RMB6,245,121,836 divided into 6,245,121,836 H Shares with a nominal value of RMB1.00 each, which is fully paid up.

The table below sets out the shareholding structure of the Company as at the Latest Practicable Date and immediately upon completion of the Proposed Issuance (assuming that there is no other change in the issued share capital and shareholding structure of the Company from the Latest Practicable Date to the Completion Date):

As at the Latest Practicable Date

Immediately upon completion of the Proposed Issuance

Approximate %

Approximate %

to the total

to the total

issued share

issued share

Number of

capital of the

Number of

capital of the

Shareholder

Class of Shares

Shares

Company

Class of Shares

Shares

Company

AVIC Note 1

H Shares

3,499,531,569

56.04

H Shares

3,499,531,569

45.18

Domestic Shares

1,250,899,906

16.15

Airbus Group

H Shares

312,255,827

5.00

H Shares

312,255,827

4.03

Tianjin Free Trade

-

0

0.00

Domestic Shares

249,769,500

3.22

Zone Investment

Note 2

Other Shareholders

H Shares

2,433,334,440

38.96

H Shares

2,433,334,440

31.41

Subtotal-H Shares

6,245,121,836

80.63

Subtotal-Domestic

1,500,669,406

19.37

Shares

Total issued Shares

H Shares

6,245,121,836

100

Total

7,745,791,242

100

Note 3

Note:

1. As at the Latest Practicable Date, among the 3,499,531,569 H Shares currently held by AVIC, 3,297,780,902 H Shares were directly held by it as a beneficial owner, 183,404,667 H Shares were held through AVIC Airborne Systems Company Limited, and 18,346,000 H Shares were held through China

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LETTER FROM THE BOARD

Aviation Industry (Hong Kong) Company Limited, each being its wholly-owned subsidiary. Immediately upon completion of the Proposed Issuance, except for the above 3,499,531,569 H Shares, AVIC will also hold 1,250,899,906 Domestic Shares.

  1. Immediately upon completion of the Proposed Issuance, Tianjin Free Trade Zone Investment will hold 249,769,500 Domestic Shares.
  2. As at the Latest Practicable Date, the total issued Shares refer to 6,245,121,836 H Shares of the Company in issue. Immediately upon completion of the Proposed Issuance, the total issued Shares include 6,245,121,836 H Shares and 1,500,669,406 Domestic Shares of the Company in issue.

The diagram below sets out the simplified shareholding structure of the Target Group and the parties as at the Latest Practicable Date and the Completion Date:

As at the Latest Practicable Date:

Tianjin Free Trade Zone

AVIC

Investment

56.04%

the Company

31.25%

68.75%

AVIC Helicopter

10.21%

89.79%

52.04%

47.96%

Harbin Aircraft

Changhe Aircraft

- 15 -

LETTER FROM THE BOARD

As at the Completion Date:

Tianjin Free Trade Zone

AVIC

Investment

3.22%

61.33%

the Company

100%

AVIC Helicopter

10.21%

47.96%

89.79%

52.04%

Harbin Aircraft

Changhe Aircraft

Completion of the Proposed Acquisition will not result in a change of control of the Company. In addition, the Company is expected to satisfy the public float requirement upon completion of the Proposed Acquisition.

B.5 Reasons for and benefits of the Proposed Acquisition and Proposed Issuance

According to the overall development strategy of the Company, the Company will enhance its capability in aviation products development and system protection in an all-round way, expand defense products business, improve the helicopter industry chain, strengthen the overall competitiveness of civil aviation products, and innovate and expand the general aviation industry. With an aim to build an aviation power in the new era in all respects, the Company was dedicated to becoming a flagship company to provide high-tech aviation products and services universally applied for military and civil purposes, continued to promote the development of aviation industry, and realized growth in both revenue and profit.

The acquisition of AVIC Helicopter will make the helicopter products industry chain of the Company more complete and help the Company to further expand its defense equipment product line, which is in line with the development strategy plan of the Company. On one hand, the Proposed Acquisition will optimize the industrial layout of the Company's aviation manufacturing business and make the aviation business industrial chain of the Company more complete, thus improving its operation stability. On the other hand, the Proposed Acquisition is conducive to the sharing of the infrastructure between the Target Group and the Group, optimizing resource allocation, and enhancing market competitiveness. Therefore, the Proposed Acquisition will continuously create effective supplemental and synergistic effects to the Company.

Moreover, the Proposed Acquisition will reduce the connected transactions between the Company and the Target Group and enhance operational independence of the Group. The Proposed Acquisition can enhance the overall financial performance of the Company. With the synergy and

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LETTER FROM THE BOARD

economics of scale continuously taking effect, the income level and profitability of the Company will be promoted, thus enhancing the market position and competitiveness of the Group in the aviation industry.

The terms of the Equity Acquisition and Share Issuance Agreement are agreed by the parties after arm's length negotiations and made upon normal commercial terms. The Directors (including the independent non-executive Directors) are of the view that the terms of the Equity Acquisition and Share Issuance Agreement are fair and reasonable, and are in the interests of the Company and the Shareholders as a whole, although it is not conducted in the ordinary or usual course of business of the Group due to its nature.

Each of Mr. Chen Yuanxian and Mr. Yan Lingxi, the Directors, who are the vice general manager and a department chief of AVIC, respectively, had abstained from voting on the relevant Board resolution approving the Equity Acquisition and Share Issuance Agreement in accordance with the Company Law of the PRC and the Listing Rules. Save for disclosed above, none of the other Directors has or is deemed to have a material interest in the transactions under the Equity Acquisition and Share Issuance Agreement.

B.6 Financial effects of the Proposed Acquisition

Upon completion of the Proposed Acquisition, each of AVIC Helicopter, Harbin Aircraft and Changhe Aircraft will become a wholly-owned subsidiary of the Company.

Assets and Liabilities

As of 30 June 2019, the Group's unaudited consolidated total assets and total liabilities amounted to approximately RMB86,414 million and approximately RMB50,523 million, respectively. As set out in Appendix IV to this circular, assuming the Proposed Acquisition had taken place on 30 June 2019, the unaudited pro forma combined total assets of the Enlarged Group would increase to approximately RMB107,093 million and the unaudited pro forma combined total liabilities of the Enlarged Group would increase to approximately RMB69,551 million.

Further details of the financial effects of the Proposed Acquisition on the Group's assets and liabilities and the basis of preparation of the unaudited pro forma financial information are set out in Appendix IV to this circular.

Earnings

Upon completion of the Proposed Acquisition, the financial results of the Target Group will be consolidated into the Enlarged Group's consolidated accounts. Based on the accountants' report of the Target Group as set out in Appendix II, the profit before taxation of the Target Group for the year 2018 was approximately RMB384.82 million. For the avoidance of doubt, the actual effect on earnings will depend on the future financial performance of the Target Group.

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LETTER FROM THE BOARD

B.7 Information on Target Group

AVIC Helicopter is a limited liability company incorporated in the PRC and is a subsidiary of AVIC as at the Latest Practicable Date. It is mainly engaged in research and development, production, sales and maintenance of helicopters, other aircrafts and aviation components.

Harbin Aircraft is a limited liability company incorporated in the PRC and is a subsidiary of AVIC as at the Latest Practicable Date. It is owned as to 89.79% by AVIC Helicopter and 10.21% by AVIC. It is mainly engaged in research and development, manufacture and sales of multiple helicopters and general aircraft.

Changhe Aircraft is a limited liability company incorporated in the PRC and is a subsidiary of AVIC as at the Latest Practicable Date. It is owned as to 52.04% by AVIC Helicopter and 47.96% by AVIC. It is mainly engaged in research and development, manufacture and sales of helicopters and aviation parts.

Each of Harbin Aircraft and Changhe Aircraft is a subsidiary of AVIC Helicopter. According to IFRS, the audited consolidated net profits (before and after taxation and extraordinary items) of the Target Equity for the three years ended 31 December 2016, 31 December 2017 and 31 December

2018 and nine months ended 30 September 2019 are set out below:

For the nine

For the year

For the year

For the year

months

ended 31

ended 31

ended 31

ended 30

December

December

December

September

2016

2017

2018

2019

(RMB)

(RMB)

(RMB)

(RMB)

(million)

(million)

(million)

(million)

Net profit before taxation

and extraordinary items

282.00

431.17

391.18

695.33

Net profit after taxation

and extraordinary items

239.42

364.14

318.16

603.25

The audited book value of the net assets of the Target Equity as at 30 September 2019 prepared in accordance with IFRS was approximately RMB2,962.71 million. The appraised value of the Target Equity as at the Valuation Benchmark Date was approximately RMB5,687.54 million as set out in the valuation report using asset-based approach.

The original costs for the Target Equity represent the amount invested by AVIC and Tianjin Free Trade Zone Investment in the Target Equity over the years. The Directors are of the view that the original costs invested by AVIC and Tianjin Free Trade Zone Investment in AVIC Helicopter, Harbin Aircraft and Changhe Aircraft are not directly related to the determination of the consideration for the Proposed Acquisition.

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LETTER FROM THE BOARD

Further details of the financial information of the Target Group are set out in Appendix II to this circular.

B.8 Summary of valuation reports

The valuation reports were prepared in accordance with the valuation standards published by the China Appraisal Society (中國資產評估協會) and comply with the Administrative Rules on the Valuation of State-owned Assets (國有資產評估管理辦法) issued by the State Council of PRC (中國 國務院). The asset-based approach was adopted by the valuer with reference to the operation situation and assets composition of the Target Group in accordance with the aforementioned valuation standards.

Set out below is a summary of certain information contained in the valuation reports of the Target Equity.

  1. General assumptions
    1. The entity subject to the valuation continues operation after the Valuation Benchmark Date;
    2. There is no material change in the political, economic and social environment of the country and region where the entity subject to the valuation is located after the Valuation Benchmark Date;
    3. There is no material change in national macroeconomic policies, industrial policies and regional development policies after the Valuation Benchmark Date;
    4. There is no material change in the interest rates, exchange rates, tax bases and tax rates, and policy-based levies related to the entity subject to the valuation after the Valuation Benchmark Date;
    5. The management of the entity subject to the valuation is responsible, stable and capable of performing its duties after the Valuation Benchmark Date;
    6. The entity subject to the valuation fully complies with all relevant laws and regulations; and
    7. There is no force majeure that will have a significant adverse impact on the entity subject to the valuation after the Valuation Benchmark Date.
  2. Special assumptions
    1. The accounting policies adopted by the entity subject to the valuation after the Valuation Benchmark Date are consistent with the accounting policies adopted in the preparation of the valuation report in all the material aspects;

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LETTER FROM THE BOARD

  1. The management method and management level of the entity subject to the valuation after the Valuation Benchmark Date is consistent with the current situation;
  2. The entity subject to the valuation will obtain its cash flow at the end of the year;
  3. The products or services of the entity subject to the valuation maintain the current market competitiveness after the Valuation Benchmark Date; and
  4. The research and development capability and technological advancement of the entity subject to the valuation remain at the current level after the Valuation Benchmark Date.

3. Breakdown of valuation results

  1. AVIC Helicopter

Unit: RMB

Item

Current assets

357,434,399

Non-current assets

Long-term equity investment

4,847,777,692

Fixed assets

621,360

Construction in progress

Intangible assets

12,066,627

Less: Total liabilities

266,022,909

4,951,877,169

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LETTER FROM THE BOARD

  1. Harbin Aircraft

Unit: RMB

Item

Current assets

3,170,944,472

Non-current assets

Available-for-sale financial assets

1,415,487,364

Long-term equity investment

7,945,120

Fixed assets (including investment properties of

RMB85,242,381)

1,183,938,013

Construction in progress

257,483,614

Intangible assets (including investment properties of

RMB37,807,000 and land use rights of

RMB673,722,900)

817,393,285

Other assets

505,172,433

Less: Total liabilities

5,911,532,575

1,446,831,726

(c)

Changhe Aircraft

Unit: RMB

Item

Current assets

16,544,064,936

Non-current assets

Long-term equity investment

23,418,460

Fixed assets

2,104,717,098

Construction in progress

194,012,983

Intangible assets (including land use rights of

RMB247,601,900)

333,923,075

Other assets

728,052,808

Less: Total liabilities

18,702,185,471

1,226,003,889

4. Basis of adopting asset-based approach in the valuation reports

There are three basic approaches for valuation, namely market approach, income approach and asset-based approach.

The market approach is not applicable for the valuation of the Target Equity due to the lack of similar market transaction comparable.

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LETTER FROM THE BOARD

The income approach is not appropriate for the valuation of the Target Equity since the income approach is based on assessing the value of the target of evaluation by capitalising or discounting the anticipated income and, in this connection, the valuer considered that the projection on expected discounted future revenue and/or cash inflows from the Target Group require numerous assumptions and there may be a difference between the actual operation situation of the Target Group in the future and the projection.

Since (i) full financial information and asset management information of the Target Group is available, and the sources of data and information related to asset reacquisition costs are sufficient; (ii) the asset reacquisition costs of the Target Group, which is the basis of the asset-based approach, are inherently related to its current market price, the valuer is of the view that the valuation results of the Target Group under the asset-based approach are reliable and determined to adopt such approach.

5. Valuation Benchmark Date

The Directors are of the view that it is fair and reasonable to determine the consideration with reference to, among other things, the valuation results of the Target Equity as set out in the valuation reports prepared by a qualified and independent PRC valuer using asset-based approach as at the Valuation Benchmark Date, on the basis set out below:

  1. The scope of valuation subject (including the assets and businesses) in the valuation reports as at the Valuation Benchmark Date is substantial the same as the current scope of the underlying assets of the Target Group. There has been no material change in the underlying assets of the Target Group since the Valuation Benchmark Date and therefore, the value of the Target Equity could be objectively reflected in the valuation reports;
  2. Based on the accountants' report of the Target Group as set out in Appendix II, since the Valuation Benchmark Date, the Target Group has been operating as normal and continuously making profits. No adverse events incurring a decrease in net assets of the Target Group have occurred. On the contrary, the net assets of the Target Group have increased after the Valuation Benchmark Date;
  3. The value of the 19.03% equity interest in AVICOPTER jointly held by AVIC Helicopter and Harbin Aircraft is the key factor affecting the value of the Target Equity. AVICOPTER is a listed company on the Shanghai Stock Exchange and the value held by AVIC Helicopter and Harbin Aircraft in AVICOPTER is linked to the share price of AVICOPTER. As at the Agreement Date, the closing price of the A shares of AVICOPTER represents an increase compared to that as at the Valuation Benchmark Date.

In summary, the consideration determined with reference to, among other things, the valuation results of the Target Equity as set out in the valuation reports prepared by a qualified and independent PRC valuer using asset-based approach as at the Valuation Benchmark Date

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LETTER FROM THE BOARD

as agreed by the parties of the Equity Acquisition and Share Issuance Agreement does not incur higher acquisition costs to the Company and thus the Directors consider it is fair and reasonable to the Company.

B.9 Implications under the Listing Rules

As the highest of the applicable size test percentage ratios in relation to the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder exceeds 25% but is less than 75%, the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder constitute major transactions under Chapter 14 of the Listing Rules, and are subject to the reporting, announcement and Shareholders' approval requirements.

As at the Latest Practicable Date, AVIC is the controlling Shareholder of the Company, and thus it is a connected person of the Company. The Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder are connected transactions of the Company under the Listing Rules. Therefore, the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder also are subject to the reporting, announcement and Independent Shareholders' approval requirements under Chapter 14A of the Listing Rules.

B.10 Information on the parties

Information on the Company

The Company is a joint stock limited liability company incorporated in the PRC, whose H Shares are listed on the Hong Kong Stock Exchange. The Company is mainly engaged in the research, development, manufacture and sales of aviation products, and relevant engineering services.

Information on AVIC

AVIC is held and controlled by the State Council of the PRC, and is mainly engaged in the development and manufacture of aviation products and non-aviation products. AVIC is the controlling Shareholder of the Company, holding 56.04% equity interest in the Company directly and indirectly as at the Latest Practicable Date.

Information on Tianjin Free Trade Zone Investment

Tianjin Free Trade Zone Investment is a limited liability company incorporated in the PRC. It is an important investment and financing platform for Tianjin Free Trade Zone, and is mainly engaged in investment and financing activities to promote regional development and construction and economic restructuring. Tianjin Free Trade Zone Investment is wholly owned by Tianjin Free Trade Zone Investment Holding Group Co., Ltd* (天津保稅區投資控股集團 有限公司), a state-owned enterprise incorporated in the PRC.

- 23 -

LETTER FROM THE BOARD

  1. EGM

The EGM will be held at 9:00 a.m. on Thursday, 13 February 2020 at Avic Hotel, No. 10 Yi, Central East Third Ring Road, Chaoyang District, Beijing, the PRC. The notice of the EGM is set out on pages EGM-1 to EGM-3 of this circular.

A reply slip and a form of proxy for use at the EGM are also enclosed. Shareholders who intend to attend the EGM shall complete and return the reply slip in accordance with the instructions printed thereon on or before Thursday, 23 January 2020. Shareholders who intend to appoint a proxy to attend the EGM shall complete and return the enclosed form of proxy in accordance with the instructions printed thereon as soon as possible and in any event no later than 24 hours before the time fixed for the holding of EGM or any adjournment thereof (as the case may be). Completion and return of the form of proxy will not preclude you from attending and voting in person at the EGM or any adjournment thereof (as the case may be).

As at the Latest Practicable Date, AVIC is a controlling Shareholder of the Company, holding directly and indirectly 3,499,531,569 H Shares in the Company, representing 56.04% equity interest in the Company. AVIC and its associate(s), if any, will abstain from voting at the EGM in respect of the special resolution to be proposed in relation to the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder (including the grant of the Specific Mandate).

To the best knowledge of the Directors after having made all reasonable enquiries, apart from AVIC and its associates, holding 3,499,531,569 H Shares in the Company, no other Shareholder has a material interest in the transactions contemplated under the Equity Acquisition and Share Issuance Agreement and therefore no other Shareholder will be required to abstain from voting at the EGM in respect of the special resolution to be proposed in relation to the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder (including the grant of the Specific Mandate).

Pursuant to Rule 13.39(4) of the Listing Rules, all votes at the EGM will be taken by poll. The Company will announce the results of the poll in accordance with the Listing Rules following the EGM.

  1. RECOMMENDATION

Your attention is drawn to (i) the letter from the Independent Board Committee set out on page 26 of this circular which contains the recommendation of the Independent Board Committee containing its opinion and recommendations on the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder (including the grant of the Specific Mandate); (ii) the letter from Somerley, the Independent Financial Adviser, set out on pages 27 to 53 of this circular which contains its advice on the connected transactions contemplated under the Equity Acquisition and Share Issuance Agreement to the Independent Board Committee and the Independent Shareholders; and (iii) additional information set out in the appendices to this circular.

The Directors and the Independent Board Committee, having taken into account the advice of Somerley, consider that the special resolution as set out in the notice of the EGM, in relation to the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder (including the grant of the Specific Mandate) is fair and reasonable and in the interests of the Company and the Shareholders as

- 24 -

LETTER FROM THE BOARD

a whole, although it is not conducted in the ordinary or usual course of business of the Group due to its nature. Accordingly, the Directors and the Independent Board Committee recommend the Independent Shareholders to vote in favour of the special resolution to be proposed at the EGM.

As the completion of the Proposed Acquisition and the Proposed Issuance is subject to the fulfilment of conditions precedent of the Equity Acquisition and Share Issuance Agreement, and may or may not proceed, Shareholders and potential investors are advised to exercise caution when dealing in the H Shares of the Company.

Yours faithfully,

By Order of the Board

AviChina Industry & Technology Company Limited*

Chen Yuanxian

Chairman

* For identification purpose only

- 25 -

LETTER FROM THE INDEPENDENT BOARD COMMITTEE

AviChina Industry & Technology Company Limited*

(A joint stock limited company incorporated in the People's Republic of China with limited liability)

(Stock Code: 2357)

6 January 2020

To the Independent Shareholders

Dear Sir or Madam,

We refer to the circular (the "Circular") of the Company dated 6 January 2020 despatched to the Shareholders of which this letter forms a part. Unless the context requires otherwise, capitalised terms and expressions used in this letter shall have the same meanings as those defined in the Circular.

We have been appointed to advise the Independent Shareholders on whether the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder (including the grant of the Specific Mandate) are fair and reasonable and in the interests of the Company and the Shareholders as a whole. Somerley has been appointed to advise the Independent Board Committee and Independent Shareholders in respect of the abovementioned matters.

We wish to draw your attention to the letter from the Board set out on pages 5 to 25 of the Circular and the letter from Somerley set out on pages 27 to 53 of the Circular.

Having considered the advice given by Somerley, we are of the opinion that the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder (including the grant of the Specific Mandate) are on normal commercial terms, are in the interests of the Company and the Shareholders as a whole and the terms of which are fair and reasonable so far as the Independent Shareholders are concerned, although it is not conducted in the ordinary or usual course of business of the Group due to its nature. Accordingly, we recommend the Independent Shareholders to vote in favour of the special resolution to be proposed at the EGM.

Yours faithfully,

For and on behalf of the Independent Board Committee

AviChina Industry & Technology Company Limited*

Liu Renhuai,

Liu Weiwu,

Wang Jianxin

Independent Non-executive Directors

* For identification purpose only

- 26 -

LETTER FROM SOMERLEY

The following is the letter of advice from Somerley Capital Limited to the Independent Board Committee and the Independent Shareholders, which has been prepared for the purpose of inclusion in this circular.

SOMERLEY CAPITAL LIMITED

20th Floor

China Building

29 Queen's Road Central

Hong Kong

6 January 2020

To: the Independent Board Committee and the Independent Shareholders

Dear Sirs,

MAJOR AND CONNECTED TRANSACTIONS:

PROPOSED ACQUISITION OF THE TARGET EQUITY AND

PROPOSED ISSUANCE OF CONSIDERATION SHARES

UNDER THE SPECIFIC MANDATE

INTRODUCTION

We refer to our appointment to advise the Independent Board Committee and the Independent Shareholders in relation to the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder. Details of the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder are set out in the circular of the Company dated 6 January 2020 (the "Circular"), of which this letter forms part. Unless otherwise defined, capitalised terms used in this letter shall have the same meanings as those defined in the Circular.

On 28 November 2019, the Company entered into the Equity Acquisition and Share Issuance Agreement with AVIC and Tianjin Free Trade Zone Investment, pursuant to which the Company has conditionally agreed to acquire the Target Equity at a total consideration of RMB5,687,537,050.94 (equivalent to approximately HK$6,296,103,515.39, which will be settled by the Company through issuance of the Consideration Shares. As confirmed by relevant regulatory authorities in the PRC and each party to the Equity Acquisition and Share Issuance Agreement, the consideration for the Proposed Acquisition is proposed to be settled by issuance of the Domestic Shares to AVIC and Tianjin Free Trade Zone Investment. The Consideration Shares will be issued pursuant to the Specific Mandate to be sought from the Independent Shareholders at the EGM.

As the highest of the applicable size test percentage ratios in relation to the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder exceeds 25% but is less than 100%, the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder constitute major transactions of the Company. In addition, AVIC is the controlling Shareholder, and thus a connected person, of the Company. The Equity Acquisition and Share Issuance Agreement and the

- 27 -

LETTER FROM SOMERLEY

transactions contemplated thereunder with AVIC are also connected transactions of the Company under Chapter 14A of the Listing Rules. Accordingly, the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder are subject to the reporting, announcement and the Shareholders' approval requirements under the Listing Rules.

The Independent Board Committee comprising all independent non-executive Directors, namely Mr. Liu Renhuai, Mr. Liu Weiwu and Mr. Wang Jianxin, has been formed to advise the Independent Shareholders in relation to the connected transactions contemplated under the Equity Acquisition and Share Issuance Agreement. We, Somerley Capital Limited, have been appointed as the independent financial adviser to advise the Independent Board Committee and the Independent Shareholders in the same regard.

As at the Latest Practicable Date, Somerley Capital Limited does not have any relationships or interests with the Company that could reasonably be regarded as a hindrance to the independence of Somerley Capital Limited as defined under Rule 13.84 of the Listing Rules to act as the independent financial adviser to the Independent Board Committee and the Independent Shareholders in respect of the Equity Acquisition and Share Issuance Agreement. In the past two years, except for the independent financial adviser engagement in relation to the continuing connected transactions, details of which were set out in the circular of the Company dated 16 November 2017, there has been no other engagement between the Company and Somerley Capital Limited. We do not consider that the past engagement as independent financial adviser gives rise to any conflict for Somerley Capital Limited to act as the independent financial adviser in respect of the Equity Acquisition and Share Issuance Agreement. Apart from normal professional fees paid in respect of the past engagement or payable to us in connection with this appointment as the independent financial adviser in respect of the Equity Acquisition and Share Issuance Agreement, no arrangement exists whereby we will receive any fees or benefits from the Company.

In formulating our advice, we have reviewed, among other things, the Equity Acquisition and Share Issuance Agreement, the annual reports of the Company for each of the two years ended 31 December 2017 and 2018 (the "Annual Reports"), the interim report of the Company for the six months ended 30 June 2019, the valuation reports (the "Valuation Reports") of AVIC Helicopter, Harbin Aircraft and Changhe Aircraft prepared by a qualified and independent PRC valuer (the "PRC Valuer"), and the information as set out in the Circular (including, among other things, the financial information of the Group and the Target Group as contained in Appendix I to Appendix IV to the Circular). We have also discussed the businesses and future prospects of the Group with the management of the Group (the "Management"). We have relied on the information and facts supplied, and the opinions expressed, by the Directors and the Management, and have assumed that they are true, accurate and complete in all material aspects at the time they were made and will remain so up to the time of the EGM. We have also sought and received confirmation from the Directors that all material relevant information has been supplied to us and that no material facts have been omitted or withheld from the information supplied and opinions expressed to us. We have no reason to doubt the truth or accuracy of the information provided to us, or to believe that any material information has been omitted or withheld. We have relied on such information and consider that the information we have received is sufficient for us to reach our opinion and recommendation as set out in this letter. However, we have not conducted any independent investigation into the business and affairs of the Group, AVIC, Tianjin Free Trade Zone Investment and their respective associates, nor have we carried out any independent verification of the information supplied.

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LETTER FROM SOMERLEY

PRINCIPAL FACTORS AND REASONS CONSIDERED

In arriving at our opinion and recommendation on the terms of the Equity Acquisition and Share Issuance Agreement, we have taken into account the following principal factors and reasons:

1. Reasons for and benefits of the Proposed Acquisition and the Proposed Issuance

The Group is mainly engaged in the development, manufacture, sales and upgrade of defense products and civil aviation products such as provision of helicopters, trainer aircraft, general-purpose aircraft and regional jets for domestic and overseas customers, and the co-development and manufacture of aviation products with foreign aviation product manufacturers. Major business sectors of the Group include helicopter business, trainer business, general aviation business, aviation parts and components business and aviation engineering service business.

According to the overall development strategy of the Company, the Company aims to enhance its capability in aviation products development and system protection in an all-round way, expand defense products business, improve the helicopter industry chain, strengthen the overall competitiveness of civil aviation products, and innovate and expand the general aviation industry. With an aim to build an aviation power in the new era in all respects, the Company is dedicated to becoming a flagship company to provide high-tech aviation products and services universally applied for military and civil purposes, promoting the development of aviation industry, and realising growth in both revenue and profit.

The proposed acquisition of AVIC Helicopter was first announced in October 2018. The aviation aircraft business of the Group continued to grow in 2018 with an increase in revenue of approximately 5.8% as compared to 2017, which included the revenue from helicopter business with an annual growth of approximately 14.5% in 2018. Such business segment continued to expand and the acquisition of AVIC Helicopter is consistent with the Group's strategy to further expand its helicopter business. As set out in the 2019 interim report of the Company, the helicopter business of the Group has achieved steady development and satisfactory results with further extension of application scope of certain aircraft models and completion of certain tests required by Civil Aviation Administration of China for certain aircraft models, laying foundations for obtaining production certificate and delivery to customers. The positive development is also demonstrated by the 2019 interim results of the Group, showing that the revenue of the aviation entire aircraft segment has increased by approximately 40.6% as compared to the same period in 2018, which was mainly attributable to the sales volume increase in helicopters and trainers. The performance of helicopter business in the first half of 2019 further strengthens the needs of acquisition of AVIC Helicopter for expansion in the industry.

Upon completion of the Proposed Acquisition, each of AVIC Helicopter, Harbin Aircraft and Changhe Aircraft will become a wholly-owned subsidiary of the Company. As set out in the 2019 interim report of the Company, the Company will continue to carry out integration of aviation industrial chain. The acquisition of AVIC Helicopter will make the helicopter products industry chain of the Group more complete and help the Group to further expand its defense equipment product line, which is in line with the development strategy plan of the Group's helicopter industry. On one hand, the Proposed Acquisition will optimise the industrial layout of the Group's aviation manufacturing business and make the aviation business industrial chain of the Group more complete, thus improving its operation stability. On the other hand, the Proposed Acquisition is conducive to the sharing of the infrastructure between the Target Group and the

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LETTER FROM SOMERLEY

Group, optimising resource allocation, and enhancing market competitiveness. Therefore, the Proposed Acquisition will continuously create effective supplemental and synergistic effects to the Group and also reduce the connected transactions between the Company and the Target Group, enhancing operational independence of the Group. Based on the accountants' report of the Target Group as set out in Appendix II to the Circular, the Target Group has a profit-making track record in 2016 to 2018 and for the nine months ended 30 September 2019. The profits of the Group are likely to be enhanced after the Proposed Acquisition given the positive financial performance of the Target Group. As such, the Directors are of the view that the Proposed Acquisition can improve the income level and profitability of the Group by promoting industrial synergy and operational efficiency, enhancing the market position and competitiveness of the Group in the aviation industry.

According to the 2019 interim report of the Company, the Group generated net cash outflow for the six months ended 30 June 2019. The level of cash and cash equivalents has decreased from approximately RMB12.1 billion as at 31 December 2018 to approximately RMB8.2 billion as at 30 June 2019. Given the recent change in cash position of the Group and the amount of consideration for the Proposed Acquisition, it is reasonable for the Group to reserve sufficient cash for daily operation uses and consider other ways of settlement of the consideration such as debt financing and equity financing. In relation to debt financing, bank borrowings would create additional interest burden for the Group and increase the gearing ratio significantly. As set out in the 2019 interim report of the Company, substantial amount of bank and other borrowings are repayable in 2019 or 2020. Given the latest financial position of the Group and potential finance costs, the Proposed Issuance may be more appropriate for the Group to settle a substantial amount of consideration under the Proposed Acquisition.

The terms of the Equity Acquisition and Share Issuance Agreement are agreed by the parties after arm's length negotiations and made upon normal commercial terms. In view of the above, the Directors are of the view that the terms of the Equity Acquisition and Share Issuance Agreement are fair and reasonable, and are in the interests of the Company and the Shareholders as a whole, although it is not conducted in the ordinary or usual course of business of the Group due to its nature.

Given that (i) the Group's helicopter business has been expanding in 2018 and first half of 2019, the Proposed Acquisition can further expand its existing business in the industry and is in line with the Group's development strategy within the industry; (ii) the potential synergistic effects on the Group by optimising the resource allocation with the Target Group and enhancing operational independence after the Proposed Acquisition; (iii) the Target Group has been profit-making in recent years and therefore the Proposed Acquisition can enhance the income level and profitability of the Group; and (iv) the Proposed Issuance is a better alternative in settling the consideration, we concur with the Directors' view that the transactions contemplated under the Equity Acquisition and Share Issuance Agreement, while not in the ordinary and usual course of business of the Group, are in the interests of the Company and the Shareholders as a whole.

2. Background and financial information of the Target Group

The diagram below sets out the simplified shareholding structure of the Target Group as at the Latest Practicable Date and the Completion Date:

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LETTER FROM SOMERLEY

As at the Latest Practicable Date:

Tianjin Free Trade Zone

AVIC

Investment

56.04%

The Company

31.25%

68.75%

AVIC Helicopter

The

Target

10.21%

47.96%

89.79%

52.04%

Group

Harbin Aircraft

Changhe Aircraft

Interests in other

Interests in other

Interests in other

companies

companies

companies

As at the Completion Date:

Tianjin Free Trade Zone

Investment

AVIC

3.22%61.33%

The Company

100%

The

AVIC Helicopter

Target

10.21%

47.96%

Group

89.79%

52.04%

Harbin Aircraft

Changhe Aircraft

Interests in other

Interests in other

Interests in other

companies

companies

companies

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LETTER FROM SOMERLEY

AVIC Helicopter, through its subsidiaries, is mainly engaged in research and development, production, sales and maintenance of helicopters, other aircrafts and aviation components. Harbin Aircraft is mainly engaged in research and development, manufacture and sales of multiple helicopters and general aircraft. Changhe Aircraft is mainly engaged in research and manufacture of helicopters and aviation parts. Each of Harbin Aircraft and Changhe Aircraft is a subsidiary of AVIC Helicopter.

Upon completion of the Equity Acquisition and Share Issuance Agreement, among others, AVIC Helicopter, Harbin Aircraft and Changhe Aircraft will become wholly-owned subsidiaries of the Company.

Financial information of the Target Group

We have reviewed and discussed with the Management the financial information of the Target Group. The accountants' report and the management discussion and analysis on the Target Group are set out in Appendix II and Appendix III to the Circular respectively. Set out below is a summary of the consolidated statements of profit or loss of the Target Group for each of the three years ended 31 December 2016, 2017 and 2018, and for the nine months ended 30 September 2018 and 2019 respectively.

Nine months

ended 30

September

Year ended 31 December

2019

2018

2018

2017

2016

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Unaudited)

(Audited)

(Audited)

(Audited)

Revenue

8,166,026

8,789,969

14,159,069

10,659,979

12,894,329

Cost of sales

(7,789,879)

(8,396,263)

(13,571,666)

(10,159,898)

(11,992,752)

Gross profit

376,147

393,706

587,403

500,081

901,577

Other income and gains, net

469,228

168,576

206,133

305,187

57,482

Selling and distribution expenses

(2,127)

(4,346)

(5,668)

(1,567)

(3,975)

Administrative expenses

(335,285)

(361,295)

(610,121)

(495,287)

(744,736)

Impairment loss (recognised)/

reversed

(2,071)

46,304

51,349

1,777

(55,257)

Operating profit

505,892

242,945

229,096

310,191

155,091

Finance income, net

109,350

5,967

51,908

20,207

34,316

Share of profits of associates

78,403

61,712

103,814

96,287

93,165

Profit before tax

693,645

310,624

384,818

426,685

282,572

Income tax expenses

(92,083)

(58,117)

(73,025)

(67,034)

(42,579)

Profit for the period/year

601,562

252,507

311,793

359,651

239,993

Profit attributable to equity

holders of AVIC Helicopter

475,901

253,773

324,452

359,122

236,436

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LETTER FROM SOMERLEY

Revenue

The Target Group generates revenue from two main segments, namely (i) sale of aviation entire aircraft and parts, and (ii) provision of aviation maintenance service, primarily including daily maintenance services and specific re-modelling services of aircraft. In general, revenue of the Target Group dropped in 2017 and recovered with a higher level in 2018, while the revenue level decreased for the nine months ended 30 September 2019 as compared to the corresponding period in 2018. For each of the three years ended 31 December 2016, 2017 and 2018, the Target Group recorded revenue of approximately RMB12,894.3 million, RMB10,660.0 million and RMB14,159.1 million, respectively. For the nine months ended 30 September 2019, the Target Group recorded revenue of approximately RMB8,166.0 million.

Revenue decreased by approximately 17.3% for the year ended 31 December 2017 as compared with the year ended 31 December 2016, and increased by approximately 32.8% for the year ended 31 December 2018 as compared to 2017, at a level higher than that in 2016. For the nine months ended 30 September 2019, revenue decreased by approximately 7.1% as compared to the same period in 2018, mainly due to the decrease in revenue from trading of aviation entire aircraft and parts. The movement in revenue during the periods is mainly due to the fluctuation in the number of orders received from the specific clients of the Target Group over the respective periods.

Profit attributable to equity holders of AVIC Helicopter

For the nine months ended 30 September 2019, the Target Group recorded net profit of approximately RMB601.6 million, representing an increase of approximately 138.2% as compared to the same period in 2018, primarily due to the gain on disposal of certain interests in an associate of approximately RMB362.4 million, while no such gain was recorded during the nine months ended 30 September 2018. As advised by the Management, the Target Group redeemed 17,684,300 shares in AVICOPTER through exchange-traded funds in 2019, representing approximately 3% equity interests in AVICOPTER, resulting in a gain of approximately RMB362.4 million recorded during the nine months ended 30 September 2019. The increase in profit was also due to the increase in finance income during the period. As advised by the Management, there was an increased bank balance resulting from higher level of operating cash in 2019, together with the maturity of certain deposits in 2019, leading to higher finance income recorded during the period.

The Target Group recorded net profit of approximately RMB240.0 million, RMB359.7 million and RMB311.8 million for each of the three years ended 31 December 2016, 2017 and 2018, respectively. The significant increase of the profit after tax for the year ended 31 December 2017 was mainly attributable to the significant increase in other income and gains resulting from the disposal of certain interests in an associate, i.e. AVICOPTER, during the year to further support the Target Group's daily operation and management, and the decrease in administrative expenses incurred during the year, mainly due to the decrease in the research and development expenses. In 2018, the profit went down by approximately 13.3% as compared to 2017 with a significant decrease in level of gain on disposal of associates recognised, such decline in profit was partially offset by the reversal of provision made in prior year for the financial guarantee to a fellow subsidiary of the Target Company due to the completion of liquidation progress with recovery of bank loan guarantee by proceeds on sales of assets during 2018.

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LETTER FROM SOMERLEY

As advised by the Management, the profit attributable to equity holders of AVIC Helicopter demonstrated a smaller proportion of profit for the nine months ended 30 September 2019, mainly represented by the 47.96% and 10.21% equity interests in Changhe Aircraft and Harbin Aircraft respectively owned by AVIC. We have discussed with the Management and noted from the accountants' report of the Target Group set out in Appendix II to the Circular that there was an increase in equity interest held by non-controlling interests as at 31 December 2018, which was resulted from the capital increase by AVIC in Harbin Aircraft and Changhe Aircraft. As such, the non-controlling interests in Harbin Aircraft and Changhe Aircraft increased, thus a larger proportion of the profits from Harbin Aircraft and Changhe Aircraft were accounted as profit attributable to non- controlling interests. As the Proposed Acquisition involves acquisition of the remaining interests in Harbin Aircraft and Changhe Aircraft held by AVIC as well, after the completion of the Proposed Acquisition, profits from Harbin Aircraft and Changhe Aircraft will be fully attributable to owners of the Company.

Set out below is a summary of the consolidated statements of financial position of the Target Group as at 31 December 2016, 2017, 2018 and 30 September 2019.

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LETTER FROM SOMERLEY

As at

As at

As at

As at

30 September

31 December

31 December

31 December

2019

2018

2017

2016

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Audited)

NON-CURRENT ASSETS

Property, plant and equipment

3,156,180

3,183,558

3,325,486

3,019,912

Investment properties

58,885

61,157

70,395

75,700

Land use rights

335,879

340,706

345,826

352,900

Other intangible assets

9,846

12,058

14,926

17,450

Investments in associates

2,076,150

2,383,978

2,308,796

2,459,506

Deferred tax assets

4,617

4,068

4,172

4,218

Prepayments, deposits and other

receivables

868,446

735,925

679,616

415,903

Total non-current assets

6,510,003

6,721,450

6,749,217

6,345,589

CURRENT ASSETS

Inventories

7,593,892

3,453,053

2,103,186

1,612,835

Accounts and notes receivables

378,398

1,070,357

363,090

1,185,818

Prepayments, deposits and other

receivables

7,862,345

10,443,132

11,811,883

9,604,147

Financial assets at fair value

through profit or loss/held for

trading

734,331

-

-

-

Pledged deposits

230,750

188,691

258,522

330,007

Cash and cash equivalents

7,217,186

6,557,561

2,665,490

6,038,762

Total current assets

24,016,902

21,712,794

17,202,171

18,771,569

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LETTER FROM SOMERLEY

As at

As at

As at

As at

30 September

31 December

31 December

31 December

2019

2018

2017

2016

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Audited)

CURRENT LIABILITIES

Accounts and notes payables

2,584,869

2,613,755

1,983,912

2,705,520

Other payables and accruals

1,630,261

2,043,155

2,390,619

2,394,509

Interest-bearing bank and other

borrowings

369,500

524,800

702,800

233,800

Contract liabilities

20,824,487

19,107,366

15,521,407

16,304,984

Tax payable

37,841

13,377

55,482

32,030

Total current liabilities

25,446,958

24,302,453

20,654,220

21,670,843

Net current liabilities

(1,430,056)

(2,589,659)

(3,452,049)

(2,899,274)

NON-CURRENT LIABILITIES

Interest-bearing bank and other

borrowings

525,000

505,000

345,000

1,028,000

Deferred income from government

grants

58,545

62,832

63,511

62,894

Deferred tax liabilities

2,265

-

-

-

Other payables and accruals

771,750

779,900

747,880

878,220

Total non-current liabilities

1,357,560

1,347,732

1,156,391

1,969,114

Net assets

3,722,387

2,784,059

2,140,777

1,477,201

EQUITY

Equity attributable to equity

holders of AVIC Helicopter

2,567,633

2,091,800

1,384,892

933,287

Non-controlling interests

1,154,754

692,259

755,885

543,914

TOTAL EQUITY

3,722,387

2,784,059

2,140,777

1,477,201

As shown in the table above, the non-current assets of the Target Group mainly consist of property, plant and equipment and investments in associates. The current assets of the Target Group mainly consist of inventories, prepayments, deposits and other receivables and cash and cash equivalents. The liabilities of the Target Group mainly consist of contract liabilities, accounts and notes payables, and other payables and accruals.

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LETTER FROM SOMERLEY

As at 31 December 2016, 2017 and 2018 and 30 September 2019, (i) the total assets of the Target Group amounted to approximately RMB25,117.2 million, RMB23,951.4 million, RMB28,434.2 million and RMB30,526.9 million respectively; and (ii) the total liabilities of the Target Group amounted to approximately RMB23,640.0 million, RMB21,810.6 million, RMB25,650.2 million and RMB26,804.5 million respectively. The overall increase in total assets over the years was mainly due to the increase in inventories with the growth in revenue, and higher level of cash and cash equivalents, while the increased level of liabilities is mainly due to higher level of contract liabilities which are related to consideration received from customers for goods or services that are yet to be transferred to customers, due to an increased number of orders received. The Target Group has net current liabilities of approximately RMB1,430.1 million as at 30 September 2019, primarily due to a significant amount of balance of contract liabilities arising from prepayments received from specific customers over the review periods.

As at 31 December 2016, 2017, 2018 and 30 September 2019, the Target Group had pledged deposits and cash and cash equivalents of approximately RMB6,368.8 million, RMB2,924.0 million, RMB6,746.3 million and RMB7,447.9 million, respectively, and has generated healthy net cash from operations in 2018 and for the nine months ended 30 September 2019. Interest-bearing bank and other borrowings have reduced over the period from approximately RMB1,261.8 million as at 31 December 2016 to approximately RMB894.5 million as at 30 September 2019.

As at 31 December 2016, 2017 and 2018, and 30 September 2019, the equity attributable to equity holders of AVIC Helicopter was approximately RMB933.3 million, RMB1,384.9 million, RMB2,091.8 million and RMB2,567.6 million, respectively. Such increase is mainly due to the profits generated by the Target Group during the above periods.

3. Principal terms of the Equity Acquisition and Share Issuance Agreement

On 28 November 2019 (after trading hours), the Company (as the purchaser of the Target Equity) and AVIC and Tianjin Free Trade Zone Investment (each as the seller of the Target Equity) entered into the Equity Acquisition and Share Issuance Agreement. Set out below are the principal terms of the Equity Acquisition and Share Issuance Agreement. Further details of the Equity Acquisition and Share Issuance Agreement are set out in the "Letter from the Board" contained in the Circular.

  1. Subject matter

Pursuant to the Equity Acquisition and Share Issuance Agreement, (a) the Company conditionally agreed to acquire and AVIC and Tianjin Free Trade Zone Investment conditionally agreed to sell 68.75% and 31.25% equity interests in AVIC Helicopter, respectively; (b) the Company conditionally agreed to acquire and AVIC conditionally agreed to sell 10.21% equity interests in Harbin Aircraft; and (c) the Company conditionally agreed to acquire and AVIC conditionally agreed to sell 47.96% equity interests in Changhe Aircraft.

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LETTER FROM SOMERLEY

  1. Consideration

The total consideration for the Target Equity is RMB5,687,537,050.94 (equivalent to approximately HK$6,296,103,515.39), among which:

  1. in respect of acquisition of 100% equity interests in AVIC Helicopter, the total consideration is RMB4,951,877,168 . 61 (equivalent to approximately HK$5,481,728,025.65) comprising the consideration to be paid by the Company to AVIC and Tianjin Free Trade Zone Investment of RMB4,005,250,762.69 (equivalent to approximately HK$4,433,812,594.30) and RMB946,626,405.92 (equivalent to approximately HK$1,047,915,431.35), respectively;
  2. in respect of acquisition of 10.21% equity interests in Harbin Aircraft, the consideration to be paid by the Company to AVIC is RMB147,654,910.06 (equivalent to approximately HK$163,453,985.44); and
  3. in respect of acquisition of 47.96% equity interests in Changhe Aircraft, the consideration to be paid by the Company to AVIC is RMB588,004,972.27 (equivalent to approximately HK$650,921,504.30).

As set out in the "Letter from the Board" contained in the Circular, the above consideration is determined upon arm's length negotiations between the parties with reference to various factors including but not limited to (i) the financial position of the Group and historical financial performance of the Target Group during the past three years; (ii) the future business outlook and potential of the Target Group after taking into account the current situation, development stage and future trend of defense equipment industry; (iii) the economic and industrial situation including the external macro economy, the future growth in China's economy and the development in the defense equipment industry; and (iv) valuation results of the Target Equity as set out in the Valuation Reports prepared by the PRC Valuer using asset-based approach as at the Valuation Benchmark Date. Further analysis on the consideration for the Target Equity is set out in the section headed "4. Evaluation of the consideration" of this letter below.

  1. Consideration Shares

The consideration for the Target Equity will be settled by the Company through issuance of the Consideration Shares with an issue price of HK$4.19 per Consideration Share (when the Consideration Shares are H Shares) or RMB3.79 (equivalent to approximately HK$4.19) per Consideration Share (when the Consideration Shares are Domestic Shares). The total number of the Consideration Shares is 1,500,669,406, representing approximately 24.03% of the total issued share capital of the Company as at the Latest Practicable Date and approximately 19.37% of the total issued share capital of the Company as enlarged by the Proposed Issuance (assuming there is no other change in the share capital of the Company).

Prior to the completion of the Proposed Issuance, should there be any ex-rights or ex-dividends event of the Company including distribution of dividends, bonus issue and conversion of capital reserve into share capital, etc., the Issue Price shall be adjusted in accordance with relevant laws and

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LETTER FROM SOMERLEY

regulations, and the number of Consideration Shares will be adjusted accordingly. The Consideration Shares shall rank pari passu in all respect among themselves and with the existing Shares of the same class (if any) pursuant to the Articles of Association. Further analysis on the Issue Price is set out in the section headed "5. Issue Price of the Consideration Shares" of this letter below.

  1. Conditions precedent and completion

The Equity Acquisition and Share Issuance Agreement shall become effective upon, among other things, the Equity Acquisition and Share Issuance Agreement and the transactions thereunder (including the Proposed Acquisition and the Proposed Issuance) being approved by the Board and the Independent Shareholders of the Company.

The completion of the Proposed Acquisition and the Proposed Issuance shall take place on the Completion Date upon satisfaction (or waiver, if applicable) of a number of conditions precedent as set out in the "Letter from the Board" contained in the Circular, including, among other things, the following:

  1. the transfer of the relevant Target Equity has been approved at the shareholders' meeting of AVIC Helicopter, Harbin Aircraft and Changhe Aircraft;
  2. all relevant legal documents for the transactions under the Equity Acquisition and Share Issuance Agreement have been completed to the satisfaction of all parties; and
  3. subject to compliance with the relevant laws and regulations and the rules of the stock exchanges by AVIC Helicopter, the registration procedures for the transfer of 6% equity interests in AVICOPTER held by AVIC Helicopter to Tianjin Binjiang Helicopter Co., Ltd. (天津濱江直升機有限責任公司) have been completed.

As at the Latest Practicable Date, condition 1 has been fulfilled, other conditions for completion remain to be fulfilled or waived (as applicable).

  1. Transitional period arrangement

The Company shall be entitled to the accumulated undistributed profit of the Target Group as of the Valuation Benchmark Date (i.e. 30 September 2018) and during the period from the Valuation Benchmark Date to the Completion Date. The existing shareholders of the Target Group shall be entitled to the profit of the Target Group (paid or unpaid) generated before the Valuation Benchmark Date and declared during the period from the Valuation Benchmark Date to the Agreement Date in proportion to respective equity interest in the Target Group, on the assumption that the Target Group and the Transferors have fully disclosed such distribution to the Company timely in good faith and such distribution is reflected in the accountants' report and valuation report of the Target Group accordingly.

We understand from the Management and noted from the accountants' report as set out in Appendix II to the Circular that no dividend has been declared for the three years ended 31 December 2016, 2017 and 2018, and for the nine months ended 30 September 2019, and the Target Group has

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LETTER FROM SOMERLEY

been profit-making during the three years ended 31 December 2018 and nine months ended 30 September 2019. It is considered that the transitional period arrangement is appropriate in safeguarding the interests of the Company and the Shareholders as a whole.

4. Evaluation of the consideration

The total consideration for the Target Equity is RMB5,687,537,050.94 (equivalent to approximately HK$6,296,103,515.39), which will be settled by the Company through issuance of the Consideration Shares. As set out in the "Letter from the Board" contained in the Circular, the consideration was arrived after arm's length negotiation between relevant parties by reference to (among others) the valuations of the Target Equity prepared by the PRC Valuer using asset-based approach. Details are set out below:

AVIC

Harbin

Changhe

RMB

Helicopter

Aircraft

Aircraft

Approximate

Approximate

Approximate

Appraised value of 100% equity

interest as at the Valuation

Benchmark Date

4,951,877,169

1,446,831,726

1,226,003,889

Percentage of equity interest acquired

100%

10.21%

47.96%

Appraised value of portion of equity

interest acquired

4,951,877,169

147,721,519

587,991,465

Consideration

4,951,877,169

147,654,910

588,004,972

Variance

-

66,609

13,507

%

-

0.05%

0.002%

The Valuation Reports were prepared in accordance with the valuation standards published by the China Appraisal Society and comply with the Administrative Rules on the Valuation of State-owned Assets issued by the State Council of the PRC. We have reviewed the Valuation Reports, a summary of which is set out in the section headed "B.8 Summary of valuation reports" in the "Letter from the Board" contained in the Circular, and have discussed with the PRC Valuer regarding the valuations of AVIC Helicopter, Harbin Aircraft and Changhe Aircraft (the "Target Companies") with details set out below.

Scope of work and qualifications of the PRC Valuer

The PRC Valuer was engaged to prepare the Valuation Reports which set out independent valuations on the market value of 100% equity interest in each of AVIC Helicopter, Harbin Aircraft and Changhe Aircraft as at the Valuation Benchmark Date as reference for the Proposed Acquisition. We have discussed the expertise of the PRC Valuer with its relevant staff members. We understand that the PRC Valuer is certified with the relevant PRC qualifications required to perform this valuation exercise and the signing persons of the Valuation Reports have over seven years' industry experience in conducting valuation exercises. We have also reviewed the summary of terms of the

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LETTER FROM SOMERLEY

PRC Valuer's engagement letter and noted that the purpose of the PRC valuation is to provide an opinion of value of the Target Companies. The summary also contains standard valuation scopes that are typical of company valuations carried out by independent valuers.

In the course of our review, we have discussed with the PRC Valuer the methodologies, bases and assumptions adopted in the Valuation Reports.

Valuation methodologies

Based on our discussion with the PRC Valuer and review of the Valuation Reports, it is noted that the final valuation of equity of each of AVIC Helicopter, Harbin Aviation and Changhe Aircraft was based on the asset-based approach. We understand that the PRC Valuer has considered the three commonly used valuation approaches for valuation of a company, namely the asset-based approach, the market approach and the income approach. The PRC Valuer considers that the market approach is not applicable in valuing the Target Companies as it is difficult to identify closely comparable companies/transactions with sufficient details needed for valuation purpose. We understand from the PRC Valuer that income approach is not considered appropriate for determining the final valuation of AVIC Helicopter, mainly due to the fact that it is an investment holding company and its income is mainly generated from investment from Harbin Aircraft and Changhe Aircraft, where income approach is not considered appropriate as explained below. As for Harbin Aircraft and Changhe Aircraft, the PRC Valuer considered the income approach is not appropriate for determining the final valuation mainly due to their industrial and operating environment, which is sensitive to the aviation industry strategic development. Such development plans are usually highly confidential and therefore it is rather difficult to predict the future operating cash flows of the Target Companies accurately.

The asset-based approach is essentially a combination of valuation methodologies used to derive the value of a target entity by appraising the value of the various assets and liabilities based on the balance sheet of the target entity at the Valuation Benchmark Date. The asset-based approach is based on a judgment of the amount of investment needed to re-build an enterprise identical to the target entity on the Valuation Benchmark Date. In particular, the value is arrived at by summing up the appraised values of each asset component forming the enterprise and then deducting the appraised values of its liabilities. We understand from the PRC Valuer that the asset-based approach is considered appropriate for determining the final valuation of the Target Companies as there were reliable records of the assets and liabilities of the Target Companies and sufficient information could be obtained for the purpose of performing the valuation based on asset-based approach. Valuation methodologies of different assets and liabilities of the Target Companies under the asset-based approach are discussed below. Based on our review of the financial information and our discussion with the PRC Valuer, we are not aware of any unusual asset or liability items which cannot be valued using the assets-based approach. Based on the above, and taking into account our discussions with the PRC Valuer regarding their selection of valuation approach as set out above, we consider that the use of assets-based approach in valuing the Target Companies to be reasonable.

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LETTER FROM SOMERLEY

Valuation assumptions

We have reviewed the Valuation Reports and discussed with the PRC Valuer in respect of the key assumptions adopted for performing the valuations under asset-based approach. The key assumptions of the valuations, in general, are set out as follows:

  • there will be consistent management, operation and accounting policies being adopted by the subject company;
  • there will be no significant change to existing relevant laws, regulations and policies, the country's macroeconomic conditions, political, economic and social environment in the regions where the subject company operates;
  • the interest rates, exchange rates, tax rates and regulatory charges have no significant change;
  • the subject company is an ongoing business and operates continuously;
  • the management of the subject company is conscientious and capable to maintain normal business operation of the subject company;
  • the subject company is fully complying with all relevant laws and regulations; and
  • no other force majeure or unforeseen factors occur which would have significant adverse impact on the business of the subject company.

We understand from the PRC Valuer that these assumptions are commonly adopted in other valuations of similar assets and there is no unusual assumption which has been adopted when valuing the Target Companies. We also consider the assumptions adopted in the Valuation Reports are general in nature and are not aware of any material facts which lead us to doubt the assumptions adopted by the PRC Valuer.

Details of valuation

We have discussed with the PRC Valuer their valuation methodologies to value different assets and liabilities of the Target Companies under the asset-based approach. We note that the PRC Valuer has applied consistent methodologies when valuing similar assets and liabilities of the Target Companies. Further details are set out below.

Assets

For cash and bank deposits, they are valued based on the carrying value after verification procedures including (a) physical count of cash; (b) checking to underlying books and records against bank statements; and (c) obtaining bank confirmations. For bills receivables, they are valued based on the carrying value after checking to the underlying books and records. For trade and other receivables, they are valued taking into account their recoverability which was assessed by

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LETTER FROM SOMERLEY

investigating the underlying repayment records, arranging confirmations in respect of certain amounts, and ageing analysis. Inventories are mainly valued with reference to their market prices and other reasonable costs after verification procedures including (a) checking to underlying books and records; and (b) inventory count. For work-in-progress inventories, due to confidentiality issue involved, no inventory count was performed and hence the inventories are valued at book values after checking to underlying books and records. For available-for-sale financial assets or investments which are listed on any stock exchange, they are valued based on the higher of the average share prices on the relevant stock exchange or the net asset value per share. The long-term investments represent investments in equity interests of other companies, which are either valued based on asset-based approach or based on the net asset value on the books of the underlying companies.

For buildings, machinery and equipment and motor vehicles, they are valued based on replacement costs, and adjusted for the newness rate. Replacement costs of buildings are assessed by considering construction cost, preparation costs and other expenses, cost of capital after value-added taxes. Replacement costs of machinery and equipment include purchase prices, transportation costs, installation and testing fees, foundation costs, preparation costs, other expenses and cost of capital. Replacement costs of motor vehicles include purchase prices, the vehicle purchase tax and other expenses (such as testing and licensing fees). Purchase prices of the machinery and equipment and motor vehicles were obtained after procedures such as obtaining quotations and checking to latest market transactions of similar products. Newness rates were determined based on the physical conditions, years of usage and estimated remaining life of the subject assets after physical inspection. Construction in progress is also valued based on replacement cost method and taking into account the degree of obsolescence if there are any indications of material obsolescence and wear and tear. For land use rights held by the target companies as at the Valuation Benchmark Date, they are valued with reference to transaction prices of other similar land, replacement costs and benchmark land prices (adjusted by various factors including but not limited to number of years of land use rights, land development status and plot ratio). Intangible assets such as patents and technology know-how, they are valued using income approach by capitalising the future economic benefits to be generated by the products manufactured based on such patents and technology know-how. Other intangible assets, including self-developed and purchased software, are valued based on either the replacement costs or market approach after checking to the latest market transactions. Other non-current assets mainly include long-term prepayments which are valued at book value after assessing the recoverability of such payments.

Liabilities

For liabilities, they are valued based on the carrying values of the actual liabilities payable by the subject company as at the Valuation Benchmark Date. Valuation procedures include checking to the underlying records and documents and verifying the existence of the amount of liabilities.

We understand from the PRC Valuer that the above valuation methodologies used in valuing the Target Companies under the asset-based approach are commonly used in the industry and are based on commonly adopted valuation basis. The PRC Valuer has also made reference to their internal database and market data when performing the valuations. Physical inspection was carried out by the PRC Valuer and no abnormalities were noted. Based on our discussions with the PRC Valuer

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LETTER FROM SOMERLEY

and our understanding of its work conducted, we consider that the above methodologies are reasonable approaches in establishing the appraised value of each of AVIC Helicopter, Harbin Aircraft and Changhe Aircraft.

Based on our discussion with the PRC Valuer, we understand that the increase in values of the Target Companies (as compared to their respective net book values) is mainly due to the increased valuation from the investments in AVICOPTER by AVIC Helicopter. The valuation of land use rights and properties held by Harbin Aircraft also leads to a higher valuation as those assets have been recorded at costs long time ago and replacement costs of these assets represent a higher valuation.

It is noted that the Valuation Benchmark Date, i.e. 30 September 2018, is over one year ago. We understand from the Management that the Valuation Reports were prepared for the purpose of the Proposed Acquisition, the preparation of which has been started back in October 2018 according to the announcement of the Company dated 12 October 2018. As stated in the "Letter from the Board" contained in the Circular, the scope of valuation as at the Valuation Benchmark Date is substantially the same as the current scope of the underlying assets of the Target Group and there has been no material change in the underlying assets of the Target Group since the Valuation Benchmark Date. The Management is not aware of any adverse events incurring a decrease in net assets of the Target Group having occurred.

We have discussed with the Management and reviewed the accountants' report on the Target Group as set out in Appendix II to the Circular, and understand that there has been no material adverse change in the financial performance and financial position of the Target Group after the Valuation Benchmark Date up to 30 September 2019, in particular, the Target Group recognised a net profit of approximately RMB601.6 million for the nine months ended 30 September 2019 and recorded an increase in net assets as at 30 September 2019 as compared to 31 December 2018. It is also disclosed in the "Letter from the Board" contained in the Circular that the value of equity interest in AVICOPTER is the key factor affecting the value of the Target Equity. As the valuation of the equity interest in AVICOPTER held by AVIC Helicopter and Harbin Aircraft is principally based on the market price of the A shares of AVICOPTER on the Shanghai Stock Exchange and a general increase in the closing price of the A shares of AVICOPTER is noted since the Valuation Benchmark Date, the valuation of equity interest in AVICOPTER as at the Valuation Benchmark Date is not likely to be over-valued. Given the above, we consider that the reference to the Valuation Reports in determining the consideration remains reasonable.

Conclusion

Having discussed with the PRC Valuer and reviewed with them the reasons for adopting the various valuation methodologies, the bases and assumptions used for valuing the Target Equity and the valuation results, we are of the opinion that the chosen valuation methodologies, bases and assumptions in establishing the appraised value as at the Valuation Benchmark Date are in line with the industry practice. In assessing the fairness of the consideration, we consider it is appropriate to refer to the independent valuations conducted by the PRC Valuer in respect of the appraised value of the Target Equity.

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LETTER FROM SOMERLEY

Since the consideration for each of AVIC Helicopter, Harbin Aircraft and Changhe Aircraft is approximately the same as the value of the relevant proportion of the equity interests being acquired, with variance less than 0.1%. On this basis, we are of the view that the consideration for the Target Equity is fair and reasonable so far as the Company and the Independent Shareholders are concerned.

5. Issue Price of the Consideration Shares

  1. Comparison of the Issue Price to market price

1,500,669,406 Consideration Shares will be issued at the Issue Price of HK$4.19 per Consideration Share (when the Consideration Shares are H shares) or RMB3.79 (equivalent to approximately HK$4.19) per Consideration Share (when the Consideration Shares are Domestic Shares). As disclosed in the "Letter from the Board" contained in the Circular, as confirmed by relevant regulatory authorities in the PRC and each party to the Equity Acquisition and Share Issuance Agreement, the consideration for the Proposed Acquisition is proposed to be settled by issuance of the Domestic Shares. The Issue Price represents:

  1. a premium of approximately 19.71% over the closing price of HK$3.50 per H Share on the Hong Kong Stock Exchange on the date of the Equity Acquisition and Share Issuance Agreement (the "Agreement Date");
  2. a premium of approximately 18.83% over the average closing price of approximately HK$3.53 per H Share on the Hong Kong Stock Exchange for 5 trading days prior to and including the Agreement Date;
  3. a premium of approximately 16.36% over the average closing price of approximately HK$3.60 per H Share on the Hong Kong Stock Exchange for 20 trading days prior to and including the Agreement Date;
  4. a premium of approximately 19.03% over the closing price of HK$3.52 per H Share on the Hong Kong Stock Exchange on the Latest Practicable Date; and
  5. a premium of approximately 36.58% over the unaudited net asset value ("NAV") attributable to the Shareholders of approximately RMB2.77 per H Share (equivalent to approximately HK$3.07 per H Share) as at 30 June 2019, calculated based on the NAV attributable to equity holders of the Company of approximately RMB17,306.3 million (equivalent to approximately HK$19,158.1 million based on the exchange rate of HK$1: RMB0.9033 for illustrative purposes) and 6,245,121,836 Shares in issue as at 30 June 2019.

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LETTER FROM SOMERLEY

  1. H Share closing price

Source: Bloomberg

We have reviewed the H Share closing price movement from 1 January 2018 up to the Latest Practicable Date (the "Review Period"). As shown in the chart above, the H Shares closed between HK$3.45 and HK$5.94 per H Share during the Review Period, with an average closing price of approximately HK$4.62 per H Share.

The H Share closing price showed an increasing trend in the first quarter of 2018. The H Share closing price then fluctuated between HK$4.43 and HK$5.75 per H share from April 2018 up to 12 October 2018. The Company published an inside information announcement on 12 October 2018 in relation to the potential acquisition of AVIC Helicopter from AVIC and Tianjin Free Trade Zone Investment by the Company, and the H Share closing price increased by approximately 7.6% on the next trading day after the release of such announcement. On 14 November 2018, an inside information announcement regarding the potential asset swap where the Group proposes to swap some of its components manufacturing business and assets for the relevant defense products business and assets of a subsidiary of AVIC. The H Share closing price increased further afterwards and reached a high of HK$5.94 per H Share on 19 November 2018. After that, the H Share closing price showed a declining trend in the remaining period of 2018 and closed at HK$4.92 per H Share on 31 December 2018.

In 2019, after a general upward trend for the H Share closing prices in January and February, the H Share closing prices demonstrated a general downward trend since March 2019. The Company released its 2018 annual results on 20 March 2019. Despite an increase in profit for 2019, the H Share closing price did not bounce back and continued the downward trend. On 23 August 2019, the Company published its 2019 interim results announcement showing an improvement in performance, the H Share closing price went up for a short period of time subsequently until mid-September 2019. The H Share closing price showed a further decline from mid-September 2019 onwards and closed at HK$3.50 on the Agreement Date. The H Share price remained below the Issue Price since 17 September 2019.

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LETTER FROM SOMERLEY

The announcement of the Proposed Acquisition and the Proposed Issuance (the "Announcement") was published on 28 November 2019. After the publication of the Announcement, the closing price of H Shares increased from HK$3.50 per H Share on 28 November 2019 (the Agreement Date) to HK$3.57 per H Share on 29 November 2019 (the first trading day after the publication of the Announcement), representing an increase of 2%. From the date immediately after publication of the Announcement to the Latest Practicable Date, the closing price of the H Shares was within a range of HK$3.45 to HK$3.68 per H Share. The H Shares closed at HK$3.52 per H Share as at the Latest Practicable Date.

  1. Comparable issues

To further assess the fairness and reasonableness of the Issue Price, we have performed a comparable analysis by searching the website of the Hong Kong Stock Exchange on a best effort basis, identifying companies listed on the Main Board of the Hong Kong Stock Exchange which announced issues of consideration shares to vendors for acquisition(s) during the period from 1 June 2019 up to and including the Agreement Date (the "Comparable Issues"), excluding transactions where whitewash waiver application is involved, or where the consideration shares involve shares of subsidiaries of issuers. We consider such list an exhaustive list of relevant comparable issues of consideration shares based on the said criteria above.

Despite the subject companies constituting the Comparable Issues may have different principal activities, market capitalisation, profitability and financial position as compared with those of the Company, different reasons for their respective acquisitions and issuing consideration shares, and the type or class of consideration shares involved may be different, we would still consider, in light of our selection criteria, capturing recent issues of consideration shares by listed companies to vendor(s) for acquiring assets/companies under similar market conditions and sentiments can provide us with a general reference on the recent market trend of the premium/discount of issue prices of consideration shares (being shares of the listed companies) over/to the market prices of the relevant shares for this type of transaction on the equity capital market in Hong Kong. Based on the aforesaid, despite the large range of discount/premium represented by the respective issue price under the Comparable Issues, we regard the Comparable Issues meaningful and representative samples for assessing the fairness and reasonableness of the Issue Price.

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LETTER FROM SOMERLEY

Premium/(discount) of issue price over/(to)

average closing

average closing

share price for

share price for

the last 5

the last 20

trading days

trading days

closing share

prior to and

prior to and

price as at the

including the

including the

date of the

date of the

date of the

Date of

relevant

relevant

relevant

announcement

Company name and stock code

agreement

agreement

agreement

%

%

%

(approximate)

(approximate)

(approximate)

10

June 2019

Affluent Partners Holdings Limited (stock code:

(8.1)

(7.7)

1.3

1466)

11

June 2019

Mayer Holdings Limited (stock code: 1116)

(21.6)

(19.2)

(18.3)

8 July 2019

Hao Tian Development Group Limited (stock code:

11.6

11.2

12.1

474)

10

July 2019

Pan Asia Environmental Protection Group Limited

9.9

13.2

6.3

(stock code: 556)

12

July 2019

Hao Tian International Construction Investment

(9.4)

(9.4)

(11.8)

Group Limited (stock code: 1341)

15

July 2019

China Xinhua Education Group Limited (stock code:

50.4

48.6

48.3

2779)

19

July 2019

China Agroforestry Low-Carbon Holdings Limited

(10.0)

12.5

(39.3)

(stock code: 1069)

8 August 2019

Major Holdings Limited (stock code: 1389)

5.9

4.0

(1.9)

15

August 2019

We Solutions Limited (stock code: 860)

38.7

29.4

35.5

10

September

Manfield Chemical Holdings Limited (stock code:

(25.6)

(25.5)

(26.3)

2019

1561)

18

September

United Strength Power Holdings Limited (stock

(23.1)

(12.9)

(8.5)

2019

code: 2337)

27

September

Zhaojin Mining Industry Company Limited (stock

(1.2)

(5.2)

(6.0)

2019

code: 1818) (Note 1)

31

October 2019

We Solutions Limited (stock code: 860) (Note 2)

9.5

7.4

9.7

Mean (simple average)

2.1

3.6

(0.1)

Median

(1.2)

4.0

(1.9)

Minimum

(25.6)

(25.5)

(39.3)

Maximum

50.4

48.6

48.3

The Consideration Shares

19.7

18.8

16.4

Source: Bloomberg, relevant announcements and information published on the Hong Kong Stock Exchange's

website

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LETTER FROM SOMERLEY

Notes:

  1. As disclosed in the relevant announcement, domestic shares would be issued as consideration shares for the acquisition with an issue price of RMB8.09 per share, which is equivalent to HK$8.96 per share. Comparison between the issue price and the market prices was based on the equivalent value of HK$8.96 per share and market prices of H shares of Zhaojin Mining Industry Company Limited.
  2. As disclosed in the relevant announcement, issue price of the consideration shares will be the higher of the then average market prices by the time of issuance or HK$0.52 per share. The above analysis has been based on the issue price of HK$0.52 per share for illustrative purpose.

As set out in the table above, the Issue Price represents (a) a premium of approximately 19.71% over the closing price of the H Shares on the Agreement Date; (b) a premium of approximately 18.83% over the average closing price of the H Shares for 5 trading days prior to and including the Agreement Date; and (c) a premium of approximately 16.36% over the average closing price of the H Shares for 20 trading days prior to and including the Agreement Date. These premia are (i) higher than the average and median of premium/discount of those under the Comparable Issues for all of the periods as illustrated above; and (ii) within the respective range of the premium/discount of the Comparable Issues for all of the periods as illustrated above.

Having taken into account that (i) the Issue Price represents a premium of approximately 36.58% of the latest NAV per H Share; and (ii) the premium represented by the Issue Price ranging from approximately 16.4% to 19.7% over closing prices of the H Shares in different periods prior to and including the Agreement Date are more favourable as compared with those of the Comparable Issues, we are of the view that the Issue Price is reasonable and is in line with the market practice.

Overall assessment

Taking into account the terms of the Equity Acquisition and Share Issuance Agreement, the evaluation of the consideration and the Issue Price analysis as set out in the sections headed "3. Principal terms of the Equity Acquisition and Share Issuance Agreement", "4. Evaluation of the consideration" and "5. Issue Price of the Consideration Shares" of this letter above respectively, we consider the terms of the Equity Acquisition and Share Issuance Agreement are fair and reasonable and on normal commercial terms so far as the Independent Shareholders are concerned.

6. Financial effects of the Proposed Acquisition and the Proposed Issuance

Set out below are the financial effects of the Proposed Acquisition and the Proposed Issuance to the Group. The unaudited pro forma financial information of the Enlarged Group as set out in Appendix IV to the Circular illustrates the effects of the Proposed Acquisition and the Proposed Issuance on the Group's financial position.

  1. Equity attributable to the Shareholders

As of 30 June 2019, the net assets attributable to owners of the Company was approximately RMB17,306 million. According to the unaudited pro forma financial information of the Enlarged Group set out in Appendix IV to the Circular, the unaudited pro forma net assets of the Enlarged

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LETTER FROM SOMERLEY

Group attributable to equity holders of the Company would increase to approximately RMB21,010 million assuming completion of the Proposed Acquisition and Proposed Issuance had taken place. The NAV per Share would decrease slightly from approximately RMB2.77 per Share as at 30 June 2019 to approximately RMB2.71 per Share assuming the Proposed Acquisition and the Proposed Issuance had taken place on 30 June 2019.

  1. Gearing and liquidity

As of 30 June 2019, the gearing ratio (defined as total borrowings and convertible bonds divided by total assets) of the Group was approximately 15.28% as disclosed in the 2019 interim report. According to the unaudited pro forma financial information of the Enlarged Group set out in Appendix IV to the Circular, the gearing ratio of the Enlarged Group as if the Proposed Acquisition had taken place on 30 June 2019 would have decreased to approximately 13.17%, mainly as a result of the asset enhancement as mentioned in the sub-section headed "(i) Equity attributable to the Shareholders" above.

The Group had pledged deposits, term deposits and cash and cash equivalents of approximately RMB10,613 million as at 30 June 2019. According to the unaudited pro forma financial information of the Enlarged Group set out in Appendix IV to the Circular, the pledged deposits, term deposits and cash and cash equivalents would have increased to approximately RMB18,042 million as if the Proposed Acquisition had taken place on 30 June 2019. We consider the decrease in gearing ratio is in the interests of the Company and the Shareholders.

  1. Earnings

Upon completion of the Proposed Acquisition, the Target Companies will become wholly owned subsidiaries of the Company and the results of the Target Group will be consolidated into that of the Group. As the Target Group has been profit-making for the three years ended 31 December 2018 and nine months ended 30 September 2019 as set out in Appendix II to the Circular, it is expected that the earnings of the Enlarged Group will be enhanced after the completion of the Proposed Acquisition and the Proposed Issuance.

  1. Dilution

The Consideration Shares represent approximately 24.03% of the total issued share capital of the Company as at the Latest Practicable Date and approximately 19.37% of the total issued share capital of the Company as enlarged by the Proposed Issuance (assuming there is no other change in the share capital of the Company).

The following table illustrates the shareholding structure of the Company (i) as at the Latest Practicable Date; and (ii) immediately upon completion of the Proposed Issuance (assuming there is no other change in the share capital and shareholding structure of the Company from the Latest Practicable Date to the Completion Date).

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LETTER FROM SOMERLEY

As at the

Immediately upon completion

Latest Practicable Date

of the Proposed Issuance

Number of

Number of

Shares

%

Shares

%

(Note)

(Note)

AVIC

- H Shares

3,499,531,569

56.04

3,499,531,569

45.18

- Domestic Shares

-

-

1,250,899,906

16.15

Airbus Group

- H Shares

312,255,827

5.00

312,255,827

4.03

Tianjin Free Trade

Zone Investment

- Domestic Shares

-

-

249,769,500

3.22

Other Shareholders

- H Shares

2,433,334,440

38.96

2,433,334,440

31.41

Total

6,245,121,836

100

7,745,791,242

100

Note: The percentages may not add up to 100% due to rounding.

As demonstrated from the table above, the existing public Shareholders' shareholdings (including Airbus Group) will be diluted from approximately 43.96% as at the Latest Practicable Date to approximately 35.44% immediately upon completion of the Proposed Issuance. Given (i) the aforementioned potential benefits of the Proposed Acquisition to the Group as set out in the section headed "1. Reasons for and benefits of the Proposed Acquisition and the Proposed Issuance" of this letter; (ii) the financial effects on the Group upon completion of the Proposed Acquisition as set out in sub-sections of this section above; and (iii) the terms of the Equity Acquisition and Share Issuance Agreement are fair and reasonable and on normal commercial terms so far as the Independent Shareholders are concerned as set out in the sub-section headed "Overall assessment" under the section headed "5. Issue Price of the Consideration Shares" of this letter above, we are of the view that the potential dilution is acceptable.

DISCUSSION AND ANALYSIS

1. Reasons for the Equity Acquisition and Share Issuance Agreement

The Group's helicopter business has been expanding in 2018 and first half of 2019, the Proposed Acquisition can further expand its existing business in the industry with an increase in the scope of business, it is also likely to create industrial synergy and promote operational independence. The Proposed Acquisition is considered to be in line with the development strategy plan of the Group in the helicopter industry. Also, the Target Group has been profit-making in recent years and therefore the Proposed Acquisition can enhance

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LETTER FROM SOMERLEY

the income level and profitability of the Group. Given the latest financial position of the Group, it is reasonable for the Company to settle the consideration through the issuance of the Consideration Shares. We concur with the Director's view that the transactions contemplated under the Equity Acquisition and Share Issuance Agreement are in the interests of the Company and the Shareholders as a whole.

2. Consideration

The Consideration was determined after arm's length negotiations between the parties with reference to various factors including but not limited to the financial position of the Group and historical financial performance of the Target Group, future business outlook and potential of the Target Group, economic and industrial situation, and valuation results of the Target Equity as set out in the Valuation Reports prepared by the PRC Valuer as at the Valuation Benchmark Date.

We have discussed with the PRC Valuer regarding the valuations, including the scope of work, qualifications of the PRC Valuer, valuation approach, valuation assumptions and details of the valuation, and are of the view that the methodologies adopted by the PRC Valuer are reasonable. The consideration for each of AVIC Helicopter, Harbin Aircraft and Changhe Aircraft is based on the value of the relevant proportion of equity interests to be acquired. On this basis, we consider such considerations to be fair and reasonable.

3. Settlement of the consideration

The Consideration will be settled by the issue of Consideration Shares at the Issue Price. The Issue Price of HK$4.19 per Share (i) represents a premium of approximately 36.58% over the latest published NAV per H Share; and (ii) represents a premium ranging from approximately 16.4% to 19.7% over closing prices of the H Shares in different periods prior to and including the Agreement Date, which are more favourable as compared with those of the Comparable Issues. We consider the Issue Price is reasonable and in line with the market practice.

4. Financial effects

The net assets attributable to owners of the Company would increase after completion of the Proposed Acquisition, with a decrease in gearing ratio but a slight decrease in the NAV per Share assuming the Proposed Acquisition had taken place on 30 June 2019. Upon completion of the Proposed Acquisition, the Target Companies will become wholly owned subsidiaries of the Company and the results of the Target Group will be consolidated into that of the Group. Given the financial performance of the Target Group in recent years, it is expected that the earnings of the Enlarged Group will be enhanced after the completion of the Proposed Acquisition.

5. Decrease in public Shareholders' percentage shareholding

Public Shareholders' shareholding is expected to be diluted from approximately 43.96% as at the Latest Practicable Date to approximately 35.44% immediately after completion of the Proposed Issuance. The dilution is itself an unattractive feature, but in our view should be assessed in the context of the transactions contemplated under the Equity Acquisition and Share Issuance Agreement as a whole, which we consider the potential dilution effect is acceptable.

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LETTER FROM SOMERLEY

OPINION AND RECOMMENDATION

Taking into account the above principal factors and reasons, we consider that the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder are on normal commercial terms and are fair and reasonable so far as the Independent Shareholders are concerned. We also consider that the Proposed Acquisition, although not in the ordinary and usual course of business of the Company, is in the interests of the Company and the Shareholders as a whole. Accordingly, we advise the Independent Board Committee to recommend, and we ourselves recommend, the Independent Shareholders to vote in favour of the resolution(s) in relation to the Equity Acquisition and Share Issuance Agreement and the transactions contemplated thereunder to be proposed at the EGM.

Yours faithfully,

for and on behalf of

SOMERLEY CAPITAL LIMITED

Clifford Cheng

Director

Mr. Clifford Cheng is a licensed person registered with the Securities and Futures Commission and a responsible officer of Somerley Capital Limited, which is licensed under the SFO to carry out Type 1 (dealing in securities) and Type 6 (advising on corporate finance) regulated activities. He has over nine years of experience in the corporate finance industry.

For illustration purposes, RMB is converted into HK$ at RMB1 = HK$1.107 in this letter.

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APPENDIX I

FINANCIAL INFORMATION OF THE GROUP

1. FINANCIAL INFORMATION OF THE GROUP

The unaudited consolidated financial statements of the Company for the six months ended 30 June

2019 and the audited consolidated financial statements of the Company for the three years ended 31 December 2018 together with the relevant notes to the financial statements of the Company can be found on pages 16 to 60 of the interim report of the Company for the six months ended 30 June 2019, pages 97 to 244 of the annual report of the Company for the year ended 31 December 2018, pages 97 to 218 of the annual report of the Company for the year ended 31 December 2017 and pages 85 to 193 of the annual report of the Company for the year ended 31 December 2016.

Please also see below the hyperlinks to the interim report for the six months ended 30 June 2019 and the annual reports for the three years ended 31 December 2018, respectively.

https://www1.hkexnews.hk/listedco/listconews/sehk/2019/0919/2019091900299.pdf

https://www1.hkexnews.hk/listedco/listconews/sehk/2019/0409/ltn20190409401.pdf

https://www1.hkexnews.hk/listedco/listconews/sehk/2018/0410/ltn20180410325.pdf

https://www1.hkexnews.hk/listedco/listconews/sehk/2017/0412/ltn20170412283.pdf

2. STATEMENT OF INDEBTEDNESS

Borrowings

As at 31 October 2019, being the latest practicable date for the purpose of this statement of indebtedness prior to the printing of this circular, the Enlarged Group had outstanding borrowings of approximately RMB12,007,509,000, comprising secured borrowings of RMB496,068,000 and unsecured borrowings of approximately RMB11,511,441,000. Included in the outstanding secured borrowings, amount of approximately RMB69,500,000, RMB339,100,000 and RMB67,468,000 were secured by account receivables, a future receivable right and buildings of subsidiaries of the Enlarged Group respectively. The remaining outstanding secured borrowings was secured by shares of a shareholder of the Enlarged Group and guaranteed by a subsidiary of the Enlarged Group. Unsecured borrowings of approximately RMB1,762,890,000 are guaranteed by certain subsidiaries of the Enlarged Group and a third party.

Corporate bond

As at 31 October 2019, being the latest practicable date for the purpose of this statement of indebtedness prior to the printing of this circular, the Enlarged Group had outstanding corporate bond of approximately RMB2,103,961,000.

- I-1 -

APPENDIX I

FINANCIAL INFORMATION OF THE GROUP

Lease liabilities

As at 31 October 2019, being the latest practicable date for the purpose of this statement of indebtedness prior to the printing of this circular, the Enlarged Group had outstanding lease liabilities of approximately RMB612,542,000, including secured leases liabilities of approximately RMB376,985,000 and unsecured leases liabilities of approximately RMB235,557,000. The outstanding secured lease payment of approximately RMB150,000,000 are secured by the land use right and guaranteed by a subsidiary of the Enlarged Group and the remaining of approximately RMB226,985,000 are secured by the plant and equipments and are not covered by any guarantees.

Contingent liabilities and guarantee

As at 31 October 2019, the Enlarged Group had issued guarantee in respect of banking facilities amounting to approximately RMB387,460,000 granted to fellow subsidiaries.

Pledge of assets

As at 31 October 2019, the Enlarged Group's secured bank and other borrowings, lease liabilities and banking facilities were secured by the Enlarged Group's accounts receivables, other receivables, plant and equipments and land use right.

Save as aforesaid and apart from intra-group liabilities and normal accounts and notes payable in the ordinary course of business of the Enlarged Group, the Enlarged Group did not have any outstanding indebtedness in respect of any mortgages, charges or debentures, loan capital, bank loans and overdrafts, loans, debt securities or other similar indebtedness, or hire purchase commitments, lease commitments, guarantees or other material contingent liabilities as at the close of business on the Latest Practicable Date.

The Directors have confirmed that there has not been any material change in the indebtedness or the contingent liabilities of the Enlarged Group since the Latest Practicable Date.

3. SUFFICIENCY OF WORKING CAPITAL

As at the Latest Practicable Date, after due enquiry and taking into account the Proposed Acquisition, the Directors are of the opinion that the Enlarged Group will have sufficient working capital for its present requirement, that is for at least the next 12 months from the date of publication of this circular.

4. FINANCIAL AND TRADING PROSPECTS

For the six months ended 30 June 2019, the revenue of the aviation entire aircraft segment of the Group amounted to RMB6,350 million, representing an increase of 40.61% as compared with that in the corresponding period of last year, which was mainly attributable to the sales volume increase in helicopters and trainers. The revenue of the aviation entire aircraft segment accounted for 35.36% of the total revenue of the Group. The revenue of the aviation parts and components segment of the Group amounted to RMB9,116 million, representing an increase of 22.10% as compared with that in the corresponding period of last year, which was mainly attributable to the revenue increase in avionics business. The revenue of the aviation parts

- I-2 -

APPENDIX I

FINANCIAL INFORMATION OF THE GROUP

and components segment accounted for 50.76% of the total revenue of the Group. The revenue of the aviation engineering services segment of the Group amounted to RMB2,492 million, representing an increase of 1.01% as compared with that in the corresponding period of last year. The revenue of the aviation engineering services segment accounted for 13.88% of the total revenue of the Group.

The segment results of the aviation entire aircraft segment of the Group amounted to RMB265 million, representing an increase of RMB88 million or 49.72% as compared with that of RMB177 million in the corresponding period of last year. The increase was mainly attributable to the increase of revenue from the aviation entire aircraft business. The segment results of the aviation parts and components segment of the Group amounted to RMB1,279 million, representing an increase of RMB145 million or 12.79% as compared with that of RMB1,134 million in the corresponding period of last year, which was mainly attributable to the increase of gross profit driven by the increase of revenue from the avionics business. The segment results of the aviation engineering services segment of the Group amounted to RMB148 million, representing an increase of RMB8 million or 5.71% as compared with that of RMB140 million in the corresponding period of last year.

During the second half of 2019, each of the aviation entire aircraft segment, the aviation parts and components segment and the aviation engineering services segment of the Group continues to operate normally and develop steadily. In the second half of 2019, in face of complicated international situations, formidable tasks of reform and development and maintaining stability, the Company will aim at becoming a flagship company providing high-tech aviation products and services universally applied for military and civil purposes, speed up the pace and efficiency of connection and conversion with capital, improve and manifest the corporate value. The Company will continue to carry out integration of aviation industrial chain, complete the asset swap of Jiangxi Hongdu Aviation Industry Co., Ltd.* (江西洪都航空工業股份有 限公司) ("Hongdu Aviation"), and proceed with the helicopter business reorganization. The Proposed Acquisition of AVIC Helicopter is in line with the development strategy plan of the Company's helicopter industry. Upon completion of the Proposed Acquisition, the entire helicopter business chain of the Company will be more complete, further promoting the development of the helicopter business of the Company. The Proposed Acquisition can optimize the asset structure of the Company, and enhance the income level and profitability of the Company. The Company will implement innovation-driven strategy, so as to enhance the technical innovation capability in high-end technology. Aiming at strategic emerging industries, the Company will actively carry out investment, financing and equity operation by seizing opportunities in industrial investment and utilizing the industrial investment platform. The Company will endeavor to improve the level of corporate governance to world-class standard.

- I-3 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

6 January 2020

The Board of Directors

AviChina Industry & Technology Company Limited 2nd Floor,

Building 27,

No.26 Xihuan South Street,

Beijing Economic Technological Development Area, Beijing,

The PRC

INTRODUCTION

We report on the historical financial information of AVIC Helicopter Co., Ltd.* (中航直升機有限責 任公司) (the "Target Company") and its subsidiaries (together, the "Target Group") set out on pages II-4 to II-98, which comprises the consolidated statements of financial position as at 31 December 2016, 2017 and 2018 and 30 September 2019, and the consolidated statements of profit or loss and other comprehensive income, the consolidated statements of changes in equity and the consolidated statements of cash flows of the Target Group for the three years ended 31 December 2018 and the nine months ended 30 September 2019 (the "Relevant Periods") and a summary of significant accounting policies and other explanatory information (together, the "Historical Financial Information"). The Historical Financial Information of the Target Group set out on pages II-4 to II-98 forms an integral part of this report, which has been prepared for inclusion in the circular of AviChina Industry & Technology Company Limited (the "Company") dated 6 January 2020 (the "Circular") in connection with the proposed acquisition of the Target Company by the Company (the "Proposed Acquisition").

DIRECTORS' RESPONSIBILITIES FOR HISTORICAL FINANCIAL INFORMATION

The directors of the Target Company are responsible for the preparation of Historical Financial Information that gives a true and fair view in accordance with the basis of preparation and presentation set out in Note 2 to the Historical Financial Information, and for such internal control as the directors of the Target Company determine is necessary to enable the preparation of Historical Financial Information of the Target Group that is free from material misstatement, whether due to fraud or error.

REPORTING ACCOUNTANTS' RESPONSIBILITY

Our responsibility is to express an opinion on the Historical Financial Information and to report our opinion to you. We conducted our work in accordance with Hong Kong Standard on Investment Circular Reporting Engagements 200 "Accountants' Report on Historical Financial Information in Investment Circulars" issued by the Hong Kong Institute of Certified Public Accountants (the "HKICPA"). This standard requires that we comply with ethical standards and plan and perform our work to obtain reasonable assurance about whether the Historical Financial Information is free from material misstatement.

* For identification only

- II-1 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Our work involved performing procedures to obtain evidence about the amounts and disclosures in the Historical Financial Information. The procedures selected depend on the reporting accountants' judgement, including the assessment of risks of material misstatement of the Historical Financial Information, whether due to fraud or error. In making those risk assessments, the reporting accountants consider internal control relevant to the entity's preparation of the Historical Financial Information that gives a true and fair view in accordance with the basis of preparation and presentation set out in Note 2 to the Historical Financial Information in order to design procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity's internal control. Our work also included evaluating the appropriateness of accounting policies used and the reasonableness of accounting estimates made by the directors of the Target Company, as well as evaluating the overall presentation of the Historical Financial Information.

We believe that the evidence we have obtained is sufficient and appropriate to provide a basis for our opinion.

OPINION

In our opinion the Historical Financial Information gives, for the purpose of the accountants' report, a true and fair view of the consolidated financial position of the Target Group as at 31 December 2016, 2017 and 2018 and 30 September 2019 and its consolidated financial performance and its consolidated cash flows for the Relevant Periods in accordance with the basis of preparation and presentation set out in Note 2 to the Historical Financial Information.

REVIEW OF STUB PERIOD COMPARATIVE FINANCIAL INFORMATION

We have reviewed the stub period comparative financial information of the Target Group which comprises the consolidated statement of profit or loss and other comprehensive income, the consolidated statement of changes in equity and the consolidated statement of cash flows for the nine months ended 30 September 2018 and other explanatory information (the "Stub Period Comparative Financial Information"). The directors of the Target Company are responsible for the preparation and presentation of the Stub Period Comparative Financial Information in accordance with the basis of preparation and presentation set out in Note 2 to the Historical Financial Information. Our responsibility is to express a conclusion on the Stub Period Comparative Financial Information based on our review. We conducted our review in accordance with Hong Kong Standard on Review Engagements 2410 "Review of Interim Financial Information Performed by the Independent Auditor of the Entity" issued by the HKICPA. A review consists of making inquiries, primarily of persons responsible for financial and accounting matters, and applying analytical and other review procedure. A review is substantially less in scope than an audit conducted in accordance with Hong Kong Standards on Auditing and consequently does not enable us to obtain assurance that we would become aware of all significant matters that might be identified in an audit. Accordingly, we do not express an audit opinion.

Based on our review, nothing has come to our attention that causes us to believe that the Stub Period Comparative Financial Information, for the purpose of the accountants' report, is not prepared, in all material respects, in accordance with the basis of preparation and presentation set out in Note 2 to the Historical Financial Information.

- II-2 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

REPORT ON MATTERS UNDER THE RULES GOVERNING THE LISTING OF SECURITIES ON THE STOCK EXCHANGE OF HONG KONG LIMITED AND THE COMPANIES (WINDING UP AND MISCELLANEOUS PROVISIONS) ORDINANCE

ADJUSTMENTS

In preparing the Historical Financial Information, no adjustments to the Underlying Financial Statements as defined below have been made.

DIVIDEND

We refer to Note 13 to the Historical Financial Information which states that no dividends have been declared and paid by the Target Company in respect of the Relevant Periods.

  1. HISTORICAL FINANCIAL INFORMATION
    Preparation of Historical Financial Information

Set out below is the Historical Financial Information which forms an integral part of this accountants' report.

The consolidated financial statements of the Target Group for the Relevant Periods, on which the Historical Financial Information was based, were prepared in accordance with the International Financial Reporting Standards issued by the International Accounting Standards Board ("IASB") and were audited by us in accordance with Hong Kong Standards on Auditing issued by the HKICPA (the "Underlying Financial Statements").

The Historical Financial Information is presented in Renminbi ("RMB") and all values are rounded to the nearest thousand (RMB'000) except when otherwise indicated.

- II-3 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Consolidated Statements of Profit or Loss and Other Comprehensive Income

Nine months

Year ended 31 December

ended 30 September

NOTES

2016

2017

2018

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Unaudited)

(Audited)

Revenue

6

12,894,329

10,659,979

14,159,069

8,789,969

8,166,026

Cost of sales

(11,992,752)

(10,159,898)

(13,571,666)

(8,396,263)

(7,789,879)

Gross profit

901,577

500,081

587,403

393,706

376,147

Other income and gains

7

59,201

308,966

207,475

169,958

470,414

Other expenses

(1,719)

(3,779)

(1,342)

(1,382)

(1,186)

Other income and gains, net

57,482

305,187

206,133

168,576

469,228

Selling and distribution expenses

(3,975)

(1,567)

(5,668)

(4,346)

(2,127)

Administrative expenses

(744,736)

(495,287)

(610,121)

(361,295)

(335,285)

Impairment loss (recognised) reversed

(55,257)

1,777

51,349

46,304

(2,071)

Operating profit

155,091

310,191

229,096

242,945

505,892

Finance income

70,733

74,076

109,060

47,465

147,794

Finance costs

(36,417)

(53,869)

(57,152)

(41,498)

(38,444)

Finance income, net

9

34,316

20,207

51,908

5,967

109,350

Share of profits of associates

18

93,165

96,287

103,814

61,712

78,403

Profit before tax

8

282,572

426,685

384,818

310,624

693,645

Income tax expenses

12

(42,579)

(67,034)

(73,025)

(58,117)

(92,083)

Profit for the year/period

239,993

359,651

311,793

252,507

601,562

Attributable to:

Equity holders of the Target Company

236,436

359,122

324,452

253,773

475,901

Non-controlling interests

3,557

529

(12,659)

(1,266)

125,661

239,993

359,651

311,793

252,507

601,562

- II-4 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Nine months

Year ended 31 December

ended 30 September

2016

2017

2018

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Unaudited)

(Audited)

Profit for the year/period

239,993

359,651

311,793

252,507

601,562

Other comprehensive income (loss)

Gain (loss) on a defined benefit scheme

150

90,060

(55,479)

(20,120)

(370)

Share of other comprehensive income of

associates

(1,741)

3,176

66

-

(186)

Other comprehensive (loss) income not to

be reclassified to profit or loss in

subsequent periods

(1,591)

93,236

(55,413)

(20,120)

(556)

Other comprehensive income (loss) for the

year/period

(1,591)

93,236

(55,413)

(20,120)

(556)

Total comprehensive income for the year/

period

238,402

452,887

256,380

232,387

601,006

Attributable to:

Equity holders of the Target Company

234,856

451,605

283,595

233,816

475,417

Non-controlling interests

3,546

1,282

(27,215)

(1,429)

125,589

238,402

452,887

256,380

232,387

601,006

- II-5 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Consolidated Statements of Financial Position

As at

As at 31 December

30 September

NOTES

2016

2017

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Audited)

Non-current assets

Property, plant and equipment

14

3,019,912

3,325,486

3,183,558

3,156,180

Investment properties

15

75,700

70,395

61,157

58,885

Land use rights

16

352,900

345,826

340,706

335,879

Other intangible assets

17

17,450

14,926

12,058

9,846

Investments in associates

18

2,459,506

2,308,796

2,383,978

2,076,150

Deferred tax assets

19

4,218

4,172

4,068

4,617

Prepayments, deposits and other

receivables

22

415,903

679,616

735,925

868,446

Total non-current assets

6,345,589

6,749,217

6,721,450

6,510,003

Current assets

Inventories

20

1,612,835

2,103,186

3,453,053

7,593,892

Accounts and notes receivables

21

1,185,818

363,090

1,070,357

378,398

Prepayments, deposits and other

receivables

22

9,604,147

11,811,883

10,443,132

7,862,345

Financial assets at fair value through

profit or loss

24

-

-

-

734,331

Pledged deposits

25

330,007

258,522

188,691

230,750

Cash and cash equivalents

25

6,038,762

2,665,490

6,557,561

7,217,186

Total current assets

18,771,569

17,202,171

21,712,794

24,016,902

Total assets

25,117,158

23,951,388

28,434,244

30,526,905

Current liabilities

Accounts and notes payables

26

2,705,520

1,983,912

2,613,755

2,584,869

Other payables and accruals

27

2,394,509

2,390,619

2,043,155

1,630,261

Interest-bearing bank and other

borrowings

28

233,800

702,800

524,800

369,500

Contract liabilities

23

16,304,984

15,521,407

19,107,366

20,824,487

Tax payable

32,030

55,482

13,377

37,841

Total current liabilities

21,670,843

20,654,220

24,302,453

25,446,958

- II-6 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

As at

As at 31 December

30 September

NOTES

2016

2017

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Audited)

Net current liabilities

(2,899,274)

(3,452,049)

(2,589,659)

(1,430,056)

Total assets less current liabilities

3,446,315

3,297,168

4,131,791

5,079,947

Non-current liabilities

Interest-bearing bank and other

borrowings

28

1,028,000

345,000

505,000

525,000

Deferred income from government

grants

29

62,894

63,511

62,832

58,545

Deferred tax liabilities

19

-

-

-

2,265

Other payables and accruals

27

878,220

747,880

779,900

771,750

Total non-current liabilities

1,969,114

1,156,391

1,347,732

1,357,560

Total liabilities

23,639,957

21,810,611

25,650,185

26,804,518

Net assets

1,477,201

2,140,777

2,784,059

3,722,387

Equity

Equity attributable to equity holders

of the Target Company

Share capital

30

5,610,332

5,610,332

5,610,332

5,610,332

Reserves

31

(4,677,045)

(4,225,440)

(3,518,532)

(3,042,699)

933,287

1,384,892

2,091,800

2,567,633

Non-controlling interests

543,914

755,885

692,259

1,154,754

Total equity

1,477,201

2,140,777

2,784,059

3,722,387

- II-7 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Consolidated Statements of Changes in Equity

Attributable to equity holders of the Target Company

Non-

Share

Capital

Fair value

Other

Accumulated

controlling

capital

reserve

reserve

reserves

losses

Subtotal

interests

Total

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

As at 1 January 2016

5,610,332

884,511

-

97,699

(5,894,111)

698,431

481,627

1,180,058

Profit for the year

-

-

-

-

236,436

236,436

3,557

239,993

Other comprehensive loss

for the year

-

-

(1,580)

-

-

(1,580)

(11)

(1,591)

Total comprehensive income for the year

-

-

(1,580)

-

236,436

234,856

3,546

238,402

Capital injection in cash by non-controlling

shareholders of subsidiaries

-

-

-

-

-

-

6,125

6,125

Contribution from non-controlling

shareholders (Note(a))

-

-

-

-

-

-

52,616

52,616

Appropriation

-

-

-

24,910

(24,910)

-

-

-

As at 31 December 2016 (Audited)

5,610,332

884,511*

(1,580)*

122,609*

(5,682,585)*

933,287

543,914

1,477,201

  • These reserve accounts comprise the consolidated deficit reserve of RMB4,677,045,000 in the consolidated statement of financial position for the year ended 31 December 2016.

- II-8 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Attributable to equity holders of the Target Company

Non-

Share

Capital

Fair value

Other

Accumulated

controlling

capital

reserve

reserve

reserves

losses

Subtotal

interests

Total

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

As at 31 December 2016 and

1 January 2017 (Audited)

5,610,332

884,511

(1,580)

122,609

(5,682,585)

933,287

543,914

1,477,201

Profit for the year

-

-

-

-

359,122

359,122

529

359,651

Other comprehensive income for the year

-

-

92,483

-

-

92,483

753

93,236

Total comprehensive income for the year

-

-

92,483

-

359,122

451,605

1,282

452,887

Contribution from non-controlling

shareholders (Note(a))

-

-

-

-

-

-

210,689

210,689

Appropriation

-

-

-

27,185

(27,185)

-

-

-

As at 31 December 2017 (Audited)

5,610,332

884,511*

90,903*

149,794*

(5,350,648)*

1,384,892

755,885

2,140,777

  • These reserve accounts comprise the consolidated deficit reserve of RMB4,225,440,000 in the consolidated statement of financial position for the year ended 31 December 2017.

- II-9 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Attributable to equity holders of the Target Company

Non-

Share

Capital

Fair value

Other

Accumulated

controlling

capital

reserve

reserve

reserves

losses

Subtotal

interests

Total

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

As at 31 December 2017 and

1 January 2018 (Audited)

5,610,332

884,511

90,903

149,794

(5,350,648)

1,384,892

755,885

2,140,777

Profit for the year

-

-

-

-

324,452

324,452

(12,659)

311,793

Other comprehensive (loss) income for the

year

-

-

(40,857)

-

-

(40,857)

(14,556)

(55,413)

Total comprehensive income for the year

-

-

(40,857)

-

324,452

283,595

(27,215)

256,380

Deemed disposal of interest in subsidiaries

without changing of control***

-

524,749

(22,819)

(53,718)

-

448,212

(448,212)

-

Acquisition of additional interest of

subsidiaries without changing of control**

-

(24,899)

-

-

-

(24,899)

2,751

(22,148)

Contribution from non-controlling

shareholders (Note(a))

-

-

-

-

-

-

409,050

409,050

Appropriation

-

-

24,119

(24,119)

-

-

-

As at 31 December 2018 (Audited)

5,610,332

1,384,361*

27,227*

120,195*

(5,050,315)*

2,091,800

692,259

2,784,059

  • These reserve accounts comprise the consolidated deficit reserve of RMB3,518,532,000 in the consolidated statement of financial position for the year ended 31 December 2018.
  • The amount represent the acquisition of 2.11% of 哈爾濱飛機工業集團有限責任公司 equity interest at a cash consideration of RMB22,148,000. The transaction is considered as equity transaction. The difference between the consideration and carrying amount of net assets attributable to additional interest are recognised in capital reserve.

- II-10 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Attributable to equity holders of the Target Company

Non-

Share

Capital

Fair value

Other

Accumulated

controlling

capital

reserve

reserve

reserves

losses

Subtotal

interests

Total

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

As at 31 December 2017 and

1 January 2018 (Audited)

5,610,332

884,511

90,903

149,794

(5,350,648)

1,384,892

755,885

2,140,777

Profit for the period

-

-

-

-

253,773

253,773

(1,266)

252,507

Other comprehensive loss for the period

-

-

(19,957)

-

-

(19,957)

(163)

(20,120)

Total comprehensive (loss) income for the

period

-

-

(19,957)

-

253,773

233,816

(1,429)

232,387

Deemed disposal of interest in subsidiaries

without changing of control***

-

524,749

(22,819)

(53,718)

-

448,212

(448,212)

-

Acquisition of additional interest of

subsidiaries without changing of control**

-

(24,899)

-

-

-

(24,899)

2,751

(22,148)

Appropriation

-

-

-

20,921

(20,921)

-

-

-

As at 30 September 2018 (Unaudited)

5,610,332

1,384,361*

48,127*

116,997*

(5,117,796)*

2,042,021

308,995

2,351,016

  • These reserve accounts comprise the consolidated deficit reserve of RMB3,568,311,000 in the consolidated statement of financial position for the nine months ended 30 September 2018.
  • The amount represent the acquisition of 2.11% equity interest of 哈爾濱飛機工業集團有限責任公司 equity interest at a cash consideration of RMB22,148,000. The transaction is considered as equity transaction. The difference between the consideration and carrying amount of non-controlling interest net assets attribute to the addition interest are recognised in capital reserve.
  • The subsidiaries which have net liabilities, issued registered shares to non-controlling interest. The transaction constituted a deemed disposal by the Target company of its approximately 47.96% equity interest of 昌河飛機 工業(集團)有限公司without losing control. The differences between the contribution and the net liabilities attribute to the company disposal are recognised in capital reserve.

- II-11 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Non-

Share

Capital

Fair value

Other

Accumulated

controlling

capital

reserve

reserve

reserves

losses

Subtotal

interests

Total

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

As at 31 December 2018 and

1 January 2019 (Audited)

5,610,332

1,384,361

27,227

120,195

(5,050,315)

2,091,800

692,259

2,784,059

Profit for the period

-

-

-

-

475,901

475,901

125,661

601,562

Other comprehensive (loss) income for the

period

-

-

(484)

-

-

(484)

(72)

(556)

Total comprehensive income for the period

-

-

(484)

-

475,901

475,417

125,589

601,006

Acquisition of additional interest of

subsidiaries without changing of control**

-

416

-

-

-

416

(5,539)

(5,123)

Contribution from non-controlling

shareholders (Note(a))

-

-

-

-

-

-

342,445

342,445

Appropriation

-

-

-

16,702

(16,702)

-

-

-

As at 30 September 2019 (Audited)

5,610,332

1,384,777*

26,743*

136,897*

(4,591,116)*

2,567,633

1,154,754

3,722,387

  • These reserve accounts comprise the consolidated deficit reserve of RMB3,042,699,000 in the consolidated statement of financial position for the nine months ended 30 September 2019.
  • The amount represent the acquisition of 40% equity interest of 哈爾濱哈飛航空維修工程有限公司at a cash consideration of RMB5,123,000. The transaction is considered as equity transaction. The difference between the consideration and carrying amount of net assets attributable to additional interest are recognised in capital reserve.

Note (a):

Contribution from non-controlling shareholders mainly represented the state-owned interests in infrastructure projects upon completion.

- II-12 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Consolidated Statements of Cash Flows

Year ended 31 December

Nine months ended 30 September

2016

2017

2018

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Unaudited)

(Audited)

CASH FLOWS FROM OPERATING ACTIVITIES

Profit before tax

282,572

426,685

384,818

310,624

693,645

Adjustments for:

Interest expense

36,417

53,869

57,152

41,498

38,444

Share of profits of associates

(93,165)

(96,287)

(103,814)

(61,712)

(78,403)

Interest income

(70,733)

(74,076)

(109,060)

(47,465)

(147,794)

Loss (gain) on disposal of property, plant and equipment

930

2,138

(2,050)

363

393

Gain on disposal of investments in associates

-

(257,775)

(510)

-

(362,353)

Gain on disposal of financial assets at fair value through profit

or loss

-

-

(86)

-

(570)

Fair value gain on financial assets at fair value through profit

or loss

-

-

-

-

(15,111)

Depreciation on investment properties

3,370

3,310

3,494

3,013

2,289

Depreciation on property, plant and equipment

285,895

362,962

410,698

294,679

307,221

Amortisation of other intangible assets

2,907

2,924

2,868

2,264

2,212

Amortisation of land use rights

14,636

9,844

9,908

7,202

8,094

Impairment (reversal) of accounts receivables and prepayments,

deposits and other receivables

55,257

(1,777)

(51,349)

(46,304)

2,071

Release of deferred income arising from government grant

(40,625)

(28,224)

(25,478)

(1,391)

(41,194)

Reversal of provision

-

-

(120,904)

(120,904)

(21,233)

Operating cash flows before movements in working capital

477,461

403,593

455,687

381,867

387,711

Increase in inventories

(68,942)

(490,351)

(1,349,867)

(609,412)

(4,140,839)

(Increase)/decrease in accounts and notes receivables

(938,370)

824,110

(706,913)

(77,257)

689,888

Decrease/(increase) in prepayments, deposits and other receivables

3,575,076

(2,501,926)

1,483,975

1,409,094

2,409,888

Increase/(decrease) in accounts and notes payables

1,404,058

(721,608)

629,843

(47,629)

(28,885)

(Decrease)/increase in contract liabilities

(2,545,206)

(783,577)

3,585,959

3,125,746

1,717,121

(Decrease)/increase in other payables and accruals

(1,988,209)

(44,882)

(250,783)

180,383

(71,256)

(Increase)/decrease in pledged deposits

(78,813)

71,485

69,831

(131,219)

(42,059)

Decrease in financial assets at fair value through profit and loss

-

-

86

-

570

Cash (used in)/generated from operations

(162,945)

(3,243,156)

3,917,818

4,231,573

922,139

Interest received

70,733

74,076

109,060

47,465

147,794

Interest paid

(33,310)

(53,857)

(57,022)

(44,617)

(24,924)

Income tax paid

(64,389)

(43,536)

(115,026)

(66,034)

(65,903)

NET CASH FLOWS (USED IN) FROM OPERATING

ACTIVITIES

(189,911)

(3,266,473)

3,854,830

4,168,387

979,106

- II-13 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Year ended 31 December

Nine months ended 30 September

2016

2017

2018

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Unaudited)

(Audited)

CASH FLOWS FROM INVESTING ACTIVITIES

Purchase of property, plant and equipment

(1,031,019)

(492,190)

(274,934)

(229,734)

(296,455)

Purchase of land use rights

(20)

-

-

-

(3,269)

Purchase of other intangible assets

(722)

(400)

-

-

-

Government grant for purchase of property, plant and equipment

32,578

29,541

25,433

4,320

36,907

Proceeds from disposal of property, plant and equipment

92,035

63,202

296,782

-

54,581

Disposal of investments in associates

-

478,666

3,060

-

-

Dividend received from associates

31,581

28,382

27,048

27,048

29,178

NET CASH FLOWS (USED IN) FROM INVESTING

ACTIVITIES

(875,567)

107,201

77,389

(198,366)

(179,058)

CASH FLOWS FROM FINANCING ACTIVITIES

Proceeds from borrowings

1,359,800

695,800

914,800

309,800

24,500

Repayments of borrowings

(1,426,000)

(909,800)

(932,800)

(169,800)

(159,800)

Capital injection by non-controlling shareholders of subsidiaries

6,125

-

-

-

-

Payments for acquisition of additional interests in subsidiaries

-

-

(22,148)

(22,148)

(5,123)

NET CASH FLOWS (USED IN) FROM FINANCING

ACTIVITIES

(60,075)

(214,000)

(40,148)

117,852

(140,423)

NET (DECREASE) INCREASE IN CASH AND CASH

EQUIVALENTS

(1,125,553)

(3,373,272)

3,892,071

4,087,873

659,625

CASH AND CASH EQUIVALENTS AT 1 JANUARY

7,164,315

6,038,762

2,665,490

2,665,490

6,557,561

CASH AND CASH EQUIVALENTS AT 31 DECEMBER/30

SEPTEMBER

6,038,762

2,665,490

6,557,561

6,753,363

7,217,186

ANALYSIS OF BALANCES OF CASH AND CASH

EQUIVALENTS:

Cash and bank balances

6,368,769

2,924,012

6,746,252

7,143,103

7,447,936

Less: Pledged deposits

(330,007)

(258,522)

(188,691)

(389,740)

(230,750)

Cash and cash equivalents as stated in consolidated statements of

cash flows

6,038,762

2,665,490

6,557,561

6,753,363

7,217,186

- II-14 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

  1. NOTES TO THE HISTORICAL FINANCIAL INFORMATION OF THE TARGET GROUP
    1. CORPORATE AND GROUP INFORMATION

Avichina Helicopter Co., Ltd.* (中航直升機有限責任公司) (the "Target Company") is a limited liability company incorporated in the People's Republic of China (the "PRC"). The address of its registered office is天津自貿試 驗區(空港經濟區)西三道166A3-198.

The Target Company and its subsidiaries (collectively refer to the "Target Group") are principally engaged in trading of aviation entire aircraft and aviation parts and components and rendering of aviation maintenance services in Mainland China.

The directors of the Target Company considered that the immediate and ultimate holding company as at the date of this report is Aviation Industry Corporation of China, which is a state-owned enterprise under the control of the State Council of the PRC government.

The financial statements are presented in Renminbi ("RMB"), which is the same as the functional currency of the Target Company and its subsidiaries. RMB is the currency of the primary economic environment in which the Target Company and its subsidiaries operate.

2. GROUP REORGANISATION AND BASIC OF PRESENTATION

For the purpose of the proposed acquisition, the Target Company is undergoing a group reorganisation to rationale the structure of the Target Group pursuant to the acquisition agreement, to exclude non-aviation business which will be transferred to and held by the ultimate holding company after completion of the proposed reorganisation. Accordingly, the Target Group resulting from the reorganisation is regarded as a continuation of the Aviation Business. As at the reporting period and the date of this report, the reorganisation is not yet completed. For the purpose of this report, the Historical Financial Information of the Target Group has been prepared on the basis as if the reorganisation completed throughout the Relevant Periods.

The consolidated statements of profit or loss and other comprehensive income, the consolidated statements of changes in equity and the consolidated statements of cash flows for the Relevant Periods have been prepared to present the results and cash flows of the companies now comprising the Target Group as if the current group structure upon completion of the proposed reorganisation had been in existence throughout the Relevant Periods or since their respective dates of incorporation or establishment, where this is a shorter period. The consolidated statements of financial position of the Target Group as at the reporting date of Relevant Periods have been prepared to present the assets and liabilities of the companies comprising the Target Group as if the current group structure had been in existence as at the respective dates.

Notwithstanding that the Target Group have relatively net current liabilities of approximately RMB1,430,056,000 as at 30 September 2019, the consolidated financial statements have been prepared on a going concern basis as in the opinion of the directors of the Target Company, the Target Group should be able to maintain itself as a going concern in the next twelve months from 30 September 2019 by taking into consideration that the directors of the Target Company anticipate that the Group will generate positive cash flows from its operations. The directors of the Target Company consider that the Target Group will have sufficient working capital to meet its financial obligations when they fall due for the next twelve months from 30 September 2019.

Accordingly, the directors of the Target Group are of the opinion that it is appropriate to prepare these consolidated financial statements for the period ended 30 September 2019 on a going concern basis. The consolidated financial statements do not include any adjustments relating to the carrying amount and reclassification of assets and liabilities that might be necessary should the Target Group be unable to continue as a going concern.

* For identification only

- II-15 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

3. APPLICATION OF INTERNATIONAL FINANCIAL REPORTING STANDARDS ("IFRS(S)")

For the purpose of preparing and presenting the Historical Financial Information, the Target Group has consistently adopted all the IFRSs, which include IFRSs, Accounting Standards ("IASs"), amendments and interpretations ("Int(s)") which are effective for the Target Group's financial year beginning on 1 January 2019, including IFRS 15 "Revenue from Contracts with Customers" and IFRS 9 "Financial Instruments", throughout the Relevant Period, except that the Target Group adopted IFRS 16 "Leases" ("IFRS 16") on 1 January 2019 and adopted IAS 17 "Leases" ("IAS 17") during the years ended 31 December 2016, 2017 and 2018.

IFRS 16 "Leases"

IFRS 16 introduces new or amended requirements with respect to lease accounting. It introduces significant changes to the lessee accounting by removing the distinction between operating lease and finance lease and requiring the recognition of right-of-use asset and a lease liability for all leases, except for short-term leases and leases of low value assets. In contrast to lessee accounting, the requirements for lessor accounting have remained largely unchanged. Details of these new accounting policies are described in Note 4. The Target Group has applied IFRS 16 Leases retrospectively with the cumulative effect of initial application as an adjustment to the opening balance of equity, where appropriate, at 1 January 2019, and has not restated comparatives for Relevant Period as permitted under the specific transitional provisions in the standard. Accordingly, the Historical Financial Information as at and for the years ended 31 December 2016, 2017 and 2018 was prepared under IAS 17 Leases.

On transition to IFRS 16, the Target Group elected to apply the practical expedient to grandfather the assessment of which arrangements are, or contain, leases. It applied IFRS 16 only to contracts that were previously identified as leases. Contracts that were not identified as leases under IAS 17 and IFRIC-Int 4 were not reassessed. Therefore, the definition of a lease under IFRS 16 has been applied only to contracts entered into or changed on or after 1 January 2019.

The major impacts of the adoption of IFRS 16 are described below.

The Target Group as lessee

The major impacts of the adoption of IFRS 16 on the Target Group's consolidated financial statements are described below:

The Target Group leases a number of properties and leasehold land located in PRC.

All lease entered by the Target Group expect those in relation to leasehold properties located in PRC as lessee as at 1 January 2019 was lease with remaining lease term less than 12 months. Therefore, there is no impact on the opening balance of equity and all financial line items. Regarding to leasehold land located in PRC except those classified as investment properties, they were classified as prepaid lease payment under IAS 17 and included in land use rights, which is identified as right of use asset under IFRS 16.

Under IFRS 16, the Target Group is required to account for all leasehold properties including, leasehold land portion as investment properties when these properties are held to earn rental income and/or for capital appreciation ("leasehold investment properties") and include separately in investment properties. The adoption of IFRS 16 does not have a significant impact on the Group's financial statement as the Group previously elected to apply IAS 40, "Investment properties", to account for all of its leasehold properties that were held for investment purpose as at 31 December 2018. Consequently, these leasehold investment properties continue to be carried at cost value and recognised as investment properties.

- II-16 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Practical expedients applied

On the date of initial application of IFRS 16, the Target Group has used the following practical expedients permitted by the standard:

  • Not to reassess whether a contract is, or contains a lease at the date of initial application. Instead, for contracts entered into before the transition date the Target Group relied on its assessment made applying IAS 17 and IFRIC-Int 4 Determining whether an Arrangement contains a Lease;
  • The accounting for operating leases with a remaining lease term of less than 12 months as at 1 January 2019 as short-term leases; and
  • The exclusion of initial direct costs for the measurement of the right-of-use asset at the date of initial application.

The Target Group as lessor

The Target Group leases some of the properties during the Relevant Periods. The accounting policies applicable to the Target Group as lessor are not different from those under IAS 17.

New and amendments to IFRSs issued but not yet effective

At the date of this report, the following new and amendment to IFRSs have been issued but are not yet effective. The Target Group has not early applied these new and amendment to IFRSs:

IFRS 17

Insurance Contracts2

Amendments to IFRS 3

Definition of a Business3

Amendments to IFRS 10 and IAS 28

Sale or Contribution of Assets between an Investor and

its Associate or Joint Venture4

Amendments to IAS 1 and IAS 8

Definition of Material1

  1. Effective for annual periods beginning on or after 1 January 2020
  2. Effective for annual periods beginning on or after 1 January 2021
  3. Effective for business combinations and asset acquisition for which the acquisition date is after the beginning of the first annual reporting period beginning on or after 1 January 2020.
  4. Effective dates not yet been determined.

The directors of the Target Company anticipate that the application of the above new and amendments to IFRSs will have no material impact on the results and the consolidated financial position of the Target Group.

4. SIGNIFICANT ACCOUNTING POLICIES

The consolidated financial statements have been prepared in accordance with IFRSs issued by the IASB.

The consolidated financial statements have been prepared on the historical cost basis.

Historical cost is generally based on the fair value of the consideration given in exchange for goods and services.

- II-17 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants in the principal (or most advantageous) market at the measurement date under current market conditions (i.e. an exit price) regardless of whether that price is directly observable or estimated using another valuation technique. Details of fair value measurement are explained in the accounting policies set out below.

The principal accounting policies are set out below.

Basis of consolidation

The consolidated financial statements include the financial statements of the Target Company and its subsidiaries. A subsidiary is an entity (including a structured entity), directly or indirectly, controlled by the Target Company. Control is achieved when the Target Group is exposed, or has rights, to variable returns from its involvement with the investee and has the ability to affect those returns through its power over the investee (i.e., existing rights that give the Target Group the current ability to direct the relevant activities of the investee).

When the Target Company has, directly or indirectly, less than a majority of the voting or similar rights of an investee, the Target Group considers all relevant facts and circumstances in assessing whether it has power over an investee, including:

  1. The contractual arrangement with the other vote holders of the investee;
  2. Rights arising from other contractual arrangements; and
  3. The Target Group's voting rights and potential voting rights.

The financial statements of the subsidiaries are prepared for the same reporting period as the Target Company, using consistent accounting policies. The results of subsidiaries are consolidated from the date on which the Target Group obtains control, and continue to be consolidated until the date that such control ceases.

Profit or loss and each component of other comprehensive income are attributed to the equity holders of the Target Company and to the non-controlling interests, even if this results in the non-controlling interests having a deficit balance. All intra-group assets and liabilities, equity, income, expenses and cash flows relating to transactions between members of the Target Group are eliminated in full on consolidation.

The Target Group reassesses whether or not it controls an investee if facts and circumstances indicate that there are changes to one or more of the three elements of control described above. A change in the ownership interest of a subsidiary, without a loss of control, is accounted for as an equity transaction.

If the Target Group loses control over a subsidiary, it derecognises (i) the assets (including goodwill) and liabilities of the subsidiary, (ii) the carrying amount of any non-controlling interest and (iii) the cumulative translation differences recorded in equity; and recognises (i) the fair value of the consideration received, (ii) the fair value of any investment retained and (iii) any resulting surplus or deficit in profit or loss. The Target Group's share of components previously recognised in other comprehensive income is reclassified to profit or loss or retained profits, as appropriate, on the same basis as would be required if the Target Group had directly disposed of the related assets or liabilities.

Investments in associates

An associate is an entity in which the Target Group has a long-term interest of the equity voting rights which it is in a position to exercise significant influence. Significant influence is the power to participate in the financial and operating policy decisions of the investee, but is not control or joint control over those policies.

- II-18 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

The Target Group's investments in associates are stated in the consolidated statement of financial position at the Target Group's share of net assets under the equity method of accounting, less any impairment losses.

The Target Group's share of the post-acquisition results and other comprehensive income of associates are included in the consolidated statement of profit or loss and other comprehensive income. In addition, when there has been a change recognised directly in the equity of the associate or the Target Group recognises its share of any changes, when applicable, in the consolidated statement of changes in equity. Unrealised gains and losses resulting from transactions between the Target Group and its associates are eliminated to the extent of the Target Group's investments in the associates or joint ventures, except where unrealised losses provide evidence of an impairment of the assets transferred.

Fair value measurement

The Target Group measures its financial instruments at fair value at the end of each reporting period. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The fair value measurement is based on the presumption that the transaction to sell the asset or transfer the liability takes place either in the principal market for the asset or liability, or in the absence of a principal market, in the most advantageous market for the asset or liability. The principal or the most advantageous market must be accessible by the Target Group. The fair value of an asset or a liability is measured using the assumptions that market participants would use when pricing the asset or liability, assuming that market participants act in their economic best interest.

The Target Group uses valuation techniques that are appropriate in the circumstances and for which sufficient data are available to measure fair value, maximising the use of relevant observable inputs and minimising the use of unobservable inputs.

All assets and liabilities for which fair value is measured or disclosed in the consolidated financial statements are categorised within the fair value hierarchy, described as follows, based on the lowest level input that is significant to the fair value measurement as a whole:

Level 1

-

based on quoted market prices (unadjusted) in active markets for identical assets

or liabilities

Level 2

-

based on valuation techniques for which the lowest level input that is significant

to the fair value measurement is observable, either directly or indirectly

Level 3

-

based on valuation techniques for which the lowest level input that is significant

to the fair value measurement is unobservable

For assets and liabilities that are recognised in the consolidated financial statements on a recurring basis, the Target Group determines whether transfers have occurred between levels in the hierarchy by reassessing categorisation (based on the lowest level input that is significant to the fair value measurement as a whole) at the end of each reporting period.

Impairment of non-financial assets

Where an indication of impairment exists, or when annual impairment testing for an asset is required (other than inventories, deferred tax assets and financial assets), the asset's recoverable amount is estimated. An asset's recoverable amount is the higher of the asset's or cash-generating unit's value in use and its fair value less costs of disposal, and is determined for an individual asset, unless the asset does not generate cash inflows that are largely independent of those from other assets or groups of assets, in which case the recoverable amount is determined for the cash-generating unit to which the asset belongs.

- II-19 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

An impairment loss is recognised only if the carrying amount of an asset exceeds its recoverable amount. In assessing value in use, the estimated future cash flows are discounted to their present value using a pre-tax discount rate that reflects current market assessments of the time value of money and the risks specific to the asset. An impairment loss is charged to profit or loss in the period in which it arises in those expense categories consistent with the function of the impaired asset.

An assessment is made at the end of each reporting period as to whether there is an indication that previously recognised impairment losses may no longer exist or may have decreased. If such an indication exists, the recoverable amount is estimated. A previously recognised impairment loss of an asset is reversed only if there has been a change in the estimates used to determine the recoverable amount of that asset, but not to an amount higher than the carrying amount that would have been determined (net of any depreciation/ amortisation) had no impairment loss been recognised for the asset in prior years. A reversal of such an impairment loss is credited to the consolidated statement of profit or loss in which it arises, unless the asset is carried at a revalued amount, in which case the reversal of the impairment loss is accounted for in accordance with the relevant accounting policy for that revalued asset.

Related parties

A party is considered to be related to the Target Group if:

  1. the party is a person or a close member of that person's family and that person
    1. has control or joint control over the Target Group;
    2. has significant influence over the Target Group; or
    3. is a member of the key management personnel of the Target Group or of a parent of the Target Group;

or

  1. the party is an entity where any of the following conditions applies:
    1. the entity and the Target Group are members of the same group;
    2. one entity is an associate or joint venture of the other entity (or of a parent, subsidiary or fellow subsidiary of the other entity);
    3. the entity and the Target Group are joint ventures of the same third party;
    4. one entity is a joint venture of a third entity and the other entity is an associate of the third entity;
    5. the entity is a post-employment benefit plan for the benefit of employees of either the Target Group or an entity related to the Target Group;
    6. the entity is controlled or jointly controlled by a person identified in (a);
    7. a person identified in (a)(i) has significant influence over the entity or is a member of the key management personnel of the entity (or of a parent of the entity); and
    8. the entity, or any member of a group of which it is a part, provides key management services to the Target Group or to the parent of the Target Group.

- II-20 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Property, plant and equipment and depreciation

Property, plant and equipment, other than construction in progress, are stated at cost less accumulated depreciation and any impairment losses. The cost of an item of property, plant and equipment comprises its purchase price and any directly attributable costs of bringing the asset to its working condition and location for its intended use.

Expenditure incurred after items of property, plant and equipment have been put into operation, such as repairs and maintenance, is normally charged to the consolidated statement of profit or loss in the period in which it is incurred. In situations where the recognition criteria are satisfied, the expenditure for a major inspection is capitalised in the carrying amount of the asset as a replacement. Where significant parts of property, plant and equipment are required to be replaced at intervals, the Target Group recognises such parts as individual assets with specific useful lives and depreciates them accordingly.

Depreciation is calculated on the straight-line basis to write off the cost of each item of property, plant and equipment to its residual value over its estimated useful life as follows:

Buildings

20

- 30

years

Plant and equipment

5

- 10

years

Furniture, fixtures, other equipment and motor vehicles

3 - 5

years

Where parts of an item of property, plant and equipment have different useful lives, the cost of that item is allocated on a reasonable basis among the parts and each part is depreciated separately. Residual values, useful lives and the depreciation method are reviewed, and adjusted if appropriate, at least at each financial year end.

An item of property, plant and equipment including any significant part initially recognised is derecognised upon disposal or when no future economic benefits are expected from its use or disposal. Any gain or loss on disposal or retirement recognised in the consolidated statement of profit or loss in the year the asset is derecognised is the difference between the net sales proceeds and the carrying amount of the relevant asset.

Construction in progress represents as property, plant and equipment under construction, which is stated at cost less any impairment losses, and is not depreciated. Cost comprises the direct costs of construction and capitalised borrowing costs on related borrowed funds during the period of construction. Construction in progress is reclassified to the appropriate category of property, plant and equipment when completed and ready for use.

Investment properties

Investment properties are interests in land and buildings (including the leasehold interest under an operating lease for a property which would otherwise meet the definition of an investment property) held to earn rental income and/or for capital appreciation, rather than for use in the production or supply of goods or services or for administrative purposes; or for sale in the ordinary course of business. Such properties are measured at cost, including related transaction costs, less accumulated depreciation and accumulated impairment losses, if any.

Land use rights

Land use rights represent prepayment for leases and they are stated at cost less accumulated amortisation and accumulated impairment losses. Cost represents consideration paid for the rights to use the land on which various plants and buildings are situated.

- II-21 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Amortisation of land use rights is calculated on a straight-line basis over the lease term of the land use

rights.

Intangible assets

Intangible assets acquired separately are measured on initial recognition at cost. The useful lives of intangible assets are assessed to be either finite or indefinite. Intangible assets with finite lives are subsequently amortised over the useful economic life and assessed for impairment whenever there is an indication that the intangible asset may be impaired. The amortisation period and the amortisation method for an intangible asset with a finite useful life are reviewed at least at each financial year end.

Technology know-how

Technology know-how is initially recognised at cost. Technology know-how that has a definite useful life is carried at cost less accumulated amortisation and accumulated impairment losses, if any. Amortisation is calculated using the straight-line method to allocate the cost of technology know-how over its estimated useful life of 10 years.

Leases

Under IAS 17 "Lease" (before 1 January 2019)

Leases that transfer substantially all the rewards and risks of ownership of assets to the Target Group, other than legal title, are accounted for as finance leases. At the inception of a finance lease, the cost of the leased asset is capitalised at the present value of the minimum lease payments and recorded together with the obligation, excluding the interest element, to reflect the purchase and financing. Assets held under capitalised finance leases are included in property, plant and equipment, and depreciated over the shorter of the lease terms and the estimated useful lives of the assets. The finance costs of such leases are charged to the consolidated statement of profit or loss so as to provide a constant periodic rate of charge over the lease terms.

Assets acquired through hire purchase contracts of a financing nature are accounted for as finance leases, but are depreciated over their estimated useful lives.

Leases where substantially all the rewards and risks of ownership of assets remain with the lessor are accounted for as operating leases. Where the Target Group is the lessor, assets leased by the Target Group under operating leases are included in non-current assets, and rentals receivable under the operating leases are credited to the consolidated statement of profit or loss on the straight-line basis over the lease terms. Where the Target Group is the lessee, rentals payable under operating leases net of any incentives received from the lessor are charged to the consolidated statement of profit or loss on the straight-line basis over the lease terms.

Under IFRS 16 "Lease" (on or after 1 January 2019)

Definition of a lease

Under IFRS 16, a contract is, or contains, a lease if the contract conveys a right to control the use of an identified asset for a period of time in exchange for consideration.

The Target Group as lessee

The Target Group assesses whether a contract is or contains a lease, at inception of the contract. The Target Group recognises a right-of-use asset and a corresponding lease liability with respect to all lease arrangements in which it is the lessee, except for short-term leases (defined as leases with a lease term of 12

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ACCOUNTANTS' REPORT OF THE TARGET GROUP

months or less) and leases of low value assets. For these leases, the Target Group recognises the lease payments as an operating expense on a straight-line basis over the term of the lease unless another systematic basis is more representative of the time pattern in which economic benefits from the leased assets are consumed.

Lease liability

At the commencement date, the Target Group measures lease liability at the present value of the lease payments that are not paid at that date. The lease payments are discounted by using the interest rate implicit in the lease. If this rate cannot be readily determined, the Target Group uses its incremental borrowing rate.

Lease payments included in the measurement of the lease liability comprise:

  • fixed lease payments (including in-substance fixed payments), less any lease incentives receivable;
  • variable lease payments that depend on an index or rate, initially measured using the index or rate at the commencement date; and
  • the amount expected to be payable by the lessee under residual value guarantees.

The lease liability is presented as a separate line in the consolidated statement of financial position.

The lease liability is subsequently measured by increasing the carrying amount to reflect interest on the lease liability (using the effective interest method) and by reducing the carrying amount to reflect the lease payments made.

Lease liability is remeasured (and with a corresponding adjustment to the related right-of-use asset) whenever:

  • the lease term has changed or there is a change in the assessment of exercise of a purchase option, in which case the lease liability is remeasured by discounting the revised lease payments using revised discount rate.
  • the lease payments change due to changes in an index or rate or a change in expected payment under a guaranteed residual value, in which cases the lease liability is remeasured by discounting the revised lease payments using the initial discount rate (unless the lease payments change is due to a change in a floating interest rate, in which case a revised discount rate is used).
  • lease contract is modified and the lease modification is not accounted for as a separate lease, in which case the lease liability is remeasured by discounting the revised lease payments using a revised discount rate.

Right-of-use assets

The right-of-use assets comprise the initial measurement of the corresponding lease liability, lease payments made at or before the commencement date and any initial direct costs, less lease incentives received.

Whenever the Target Group incurs an obligation for costs to dismantle and remove a leased asset, restore the site on which it is located or restore the underlying asset to the condition required by the terms and conditions of the lease, provision is recognised and measured under IAS 37 "Provision, Contingent Liabilities and Contingent Assets". The costs are included in the related right-of-use asset, unless those costs are incurred to produce inventories.

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Right-of-use assets are subsequently measured at cost less accumulated depreciation and impairment losses. They are depreciated over the shorter period of lease term and useful life of the underlying asset. If a lease transfers ownership of the underlying asset or the cost of the right-of-use asset reflects that the Target Group expects to exercise a purchase option, the related right-of use asset is depreciated over the useful life of the underlying asset. The depreciation starts at the commencement date of the lease.

The Target Group presents right-of-use assets except those classified as investment properties as a separate line item "Land use rights" on the consolidated statement of financial position.

The Target Group applies IAS 36 to determine whether a right-of-use asset is impaired and accounts for any identified impairment loss as described in the "Impairment of non financial asset".

Financial instruments

Financial assets and financial liabilities are recognised in the consolidated statement of financial position when a group entity becomes a party to the contractual provisions of the instrument.

Financial assets and financial liabilities are initially measured at fair value. Transaction costs that are directly attributable to the acquisition or issue of financial assets and financial liabilities (other than financial assets or financial liabilities at fair value through profit or loss) are added to or deducted from the fair value of the financial assets or financial liabilities, as appropriate, on initial recognition. Transaction costs directly attributable to the acquisition of financial assets or financial liabilities at fair value through profit or loss are recognised immediately in profit or loss.

Financial assets

All regular way purchases or sales of financial assets are recognised and derecognised on a trade date basis. Regular way purchases or sales are purchases or sales of financial assets that require delivery of assets within the time frame established by regulation or convention in the marketplace.

All recognised financial assets are subsequently measured in their entirety at either amortised cost or fair value, depending on the classification of the financial assets. Financial assets are classified, at initial recognition, as subsequently measured at amortised cost

The classification of financial assets at initial recognition depends on the financial asset's contractual cash flow characteristics and the Target Group's business model for managing them.

Equity instruments designated as at FVTOCI

On initial recognition, the Target Group may make an irrevocable election (on an instrument-by- instrument basis) to designate investments in equity instruments as at FVTOCI. Designation at FVTOCI is not permitted if the equity investment is held for trading or if it is contingent consideration recognised by an acquirer in a business combination.

Investments in equity instruments at FVTOCI are initially measured at fair value plus transaction costs. Subsequently, they are measured at fair value with gains and losses arising from changes in fair value recognised in other comprehensive income and accumulated in the investment revaluation reserve. The cumulative gain or loss will not be reclassified to profit or loss on disposal of the equity investments; instead, they will be transferred to retained earnings.

Dividends on these investments in equity instruments are recognised in profit or loss when the Target Group's right to receive the dividends is established, unless the dividends clearly represent a recovery of part of the cost of the investment. Dividends are included in the 'investment and other income' line item in profit or loss.

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ACCOUNTANTS' REPORT OF THE TARGET GROUP

Financial assets at FVTPL

Financial assets that do not meet the criteria for being measured at amortised cost or FVTOCI are measured at FVTPL. Specifically:

  • Investments in equity instruments are classified as at FVTPL, unless the Target Group designates an equity investment that is neither held for trading nor a contingent consideration arising from a business combination as at FVTOCI on initial recognition.
  • Debt instruments that do not meet the amortised cost criteria or the FVTOCI criteria are classified as at FVTPL. In addition, debt instruments that meet either the amortised cost criteria or the FVTOCI criteria may be designated as at FVTPL upon initial recognition if such designation eliminates or significantly reduces a measurement or recognition inconsistency that would arise from measuring assets or liabilities or recognising the gains and losses on them on different bases.

Financial assets at FVTPL are measured at fair value at the end of each reporting period, with any fair value gains or losses recognised in profit or loss to the extent they are not part of a designated hedging relationship. The net gain or loss recognised in profit or loss excludes any dividend or interest earned on the financial asset and is included in the other incomes line item. Fair value is determined in the manner described in note 36.

Impairment of financial assets

For financial instruments, the Target Group measures the loss allowance equal to 12-month expected credit loss ("ECL"), unless when there has a significant increase in credit risk since initial recognition, the Target Group recognises lifetime ECL. The assessment of whether lifetime ECL should be recognised is based on significant increase in the likelihood or risk of a default occurring since initial recognition. The expected credit losses on financial assets subject to lifetime ECL are estimated using a provision matrix based on the Target Group's historical credit loss experience, adjusted for factors that are specific to the debtors, general economic conditions and an assessment of both the current as well as the forecast direction of conditions at the reporting date, including time value of money where appropriate.

Significant increase in credit risk

In assessing whether the credit risk on a financial instrument has increased significantly since initial recognition, the Target Group compares the risk of a default occurring on the financial instrument as at the reporting date with the risk of a default occurring on the financial instrument as at the date of initial recognition. In making this assessment, the Target Group considers both quantitative and qualitative information that is reasonable and supportable, including historical experience and forward-looking information that is available without undue cost or effort. Forward-looking information considered includes the future prospects of the industries in which the Target Group's debtors operate, obtained from financial analysts, governmental bodies and relevant think-tanks, as well as consideration of various external sources of actual and forecast economic information that relate to the Target Group's operations.

Irrespective of the outcome of the above assessment, the Target Group presumes that the credit risk on a financial asset has increased significantly since initial recognition when contractual payments are more than 30 days past due, unless the Target Group has reasonable and supportable information that demonstrates otherwise.

Despite the foregoing, the Target Group assumes that the credit risk on a financial instrument has not increased significantly since initial recognition if the financial instrument is determined to have low credit risk at the reporting date. A financial instrument is determined to have low credit risk if i) the financial instrument has a low risk of default, ii) the borrower has a strong capacity to meet its contractual cash flow obligations in

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ACCOUNTANTS' REPORT OF THE TARGET GROUP

the near term, and iii) adverse changes in economic and business conditions in the longer term may, but will not necessarily, reduce the ability of the borrower to fulfill its contractual cash flow obligations. The Target Group considers a financial asset to have low credit risk when the asset has external credit rating of 'investment grade' in accordance with the globally understood definition or if an external rating is not available, the asset has an internal rating of 'performing'. Performing means that the counterparty has a strong financial position and there is no past due amounts.

For financial guarantee contracts, the date that the Target Group becomes a party to the irrevocable commitment is considered to be the date of initial recognition for the purposes of assessing the financial instrument for impairment. In assessing whether there has been a significant increase in the credit risk since initial recognition of a financial guarantee contract, the Target Group considers the changes in the risk that the specified debtor will default on the contract.

The Target Group regularly monitors the effectiveness of the criteria used to identify whether there has been a significant increase in credit risk and revises them as appropriate to ensure that the criteria are capable of identifying significant increase in credit risk before the amount becomes past due.

Definition of default

The Target Group considers the following as constituting an event of default for internal credit risk management purposes as historical experience indicates that receivables that meet either of the following criteria are generally not recoverable:

  • when there is a breach of financial covenants by the debtor; or
  • information developed internally or obtained from external sources indicates that the debtor is unlikely to pay its creditors, including the Target Group, in full (without taking into account any collaterals held by the Target Group).

The Target Group considers that default has occurred when a financial asset is more than 12 months past due unless the Target Group has reasonable and supportable information to demonstrate that a more lagging default criterion is more appropriate.

Credit-impaired financial assets

A financial asset is credit-impaired when one or more events that have a detrimental impact on the estimated future cash flows of that financial asset have occurred. Evidence that a financial asset is credit- impaired includes observable data about the following events:

significant financial difficulty of the issuer or the borrower;

  • a breach of contract, such as a default or past due event;
  • the lender(s) of the borrower, for economic or contractual reasons relating to the borrower's financial difficulty, having granted to the borrower a concession(s) that the lender(s) would not otherwise consider;
  • it is becoming probable that the borrower will enter bankruptcy or other financial reorganisation; or
  • the disappearance of an active market for that financial asset because of financial difficulties.

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ACCOUNTANTS' REPORT OF THE TARGET GROUP

Write-off policy

The Target Group writes off a financial asset when there is information indicating that the debtor is in severe financial difficulty and there is no realistic prospect of recovery, e.g. when the counterparty has been placed under liquidation or has entered into bankruptcy proceedings, or in the case of accounts receivables, when the amounts are over 12 months past due, whichever occurs sooner. Financial assets written off may still be subject to enforcement activities under the Target Group's recovery procedures, taking into account legal advice where appropriate. Any recoveries made are recognised in profit or loss.

Measurement and recognition of expected credit losses

The measurement of expected credit losses is a function of the probability of default, loss given default (i.e. the magnitude of the loss if there is a default) and the exposure at default. The assessment of the probability of default and loss given default is based on historical data adjusted by forward-looking information. As for the exposure at default, for financial assets, this is represented by the assets' gross carrying amount at the reporting date; for financial guarantee contracts, the exposure includes the amount drawn down as at the reporting date, together with any additional amounts expected to be drawn down in the future by default date determined based on historical trend, the Target Group's understanding of the specific future financing needs of the debtors, and other relevant forward-looking information.

For financial assets, the expected credit loss is estimated as the difference between all contractual cash flows that are due to the Target Group in accordance with the contract and all the cash flows that the Target Group expects to receive, discounted at the original effective interest rate. For a lease receivable, the cash flows used for determining the expected credit losses is consistent with the cash flows used in measuring the lease receivable in accordance with IAS 17 Leases.

For a financial guarantee contract, as the Target Group is required to make payments only in the event of a default by the debtor in accordance with the terms of the instrument that is guaranteed, the expected loss allowance is the expected payments to reimburse the holder for a credit loss that it incurs less any amounts that the Target Group expects to receive from the holder, the debtor or any other party.

If the Target Group has measured the loss allowance for a financial instrument at an amount equal to lifetime ECL in the previous reporting period, but determines at the current reporting date that the conditions for lifetime ECL are no longer met, the Target Group measures the loss allowance at an amount equal to 12- month ECL at the current reporting date, except for assets for which simplified approach was used.

The Target Group recognises an impairment gain or loss in profit or loss for all financial instruments with a corresponding adjustment to their carrying amount through a loss allowance account for which the loss allowance is recognised in other comprehensive income and accumulated in the investment revaluation reserve, and does not reduce the carrying amount of the financial asset in the consolidated statement of financial position.

Derecognition of financial assets

The Target Group derecognises a financial asset only when the contractual rights to the cash flows from the asset expire, or when it transfers the financial asset and substantially all the risks and rewards of ownership of the asset to another party. If the Target Group neither transfers nor retains substantially all the risks and rewards of ownership and continues to control the transferred asset, the Target Group recognises its retained interest in the asset and an associated liability for amounts it may have to pay. If the Target Group retains substantially all the risks and rewards of ownership of a transferred financial asset, the Target Group continues to recognise the financial asset and also recognises a collateralised borrowing for the proceeds received.

On derecognition of a financial asset measured at amortised cost, the difference between the asset's carrying amount and the sum of the consideration received and receivable is recognised in profit or loss.

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ACCOUNTANTS' REPORT OF THE TARGET GROUP

Financial liabilities and equity instruments

Classification as debt or equity

Debt and equity instruments issued by a group entity are classified as either financial liabilities or as equity in accordance with the substance of the contractual arrangements and the definitions of a financial liability and an equity instrument.

Equity instruments

An equity instrument is any contract that evidences a residual interest in the assets of an entity after deducting all of its liabilities. Equity instruments issued by a group entity are recognised at the proceeds received, net of direct issue costs.

Repurchase of the Target Company's own equity instruments is recognised and deducted directly in equity. No gain or loss is recognised in profit or loss on the purchase, sale, issue or cancellation of the Target Company's own equity instruments.

Offsetting of financial instruments

Financial assets and financial liabilities are offset and the net amount is reported in the consolidated statement of financial position if there is a currently enforceable legal right to offset the recognised amounts and there is an intention to settle on a net basis, or to realise the assets and settle the liabilities simultaneously.

Inventories

Inventories are stated at the lower of cost and net realisable value. Cost is determined by the weighted average method and, in the case of work in progress and finished goods, comprises direct materials, direct labour and an appropriate proportion of overheads. Net realisable value is based on estimated selling prices less any estimated costs to be incurred to completion and disposal.

Cash and cash equivalents

For the purpose of the consolidated statement of cash flows, cash and cash equivalents comprise cash on hand and demand deposits, and short-term highly liquid investments that are readily convertible into known amounts of cash, are subject to an insignificant risk of changes in value, and have a short maturity of generally within three months when acquired, less bank overdrafts which are repayable on demand and form an integral part of the Target Group cash management.

For the purpose of the consolidated statement of financial position, cash and cash equivalents comprise cash on hand and at banks, including term deposits, and assets similar in nature to cash, which are not restricted as to use.

Provisions

A provision is recognised when a present obligation (legal or constructive) has arisen as a result of a past event and it is probable that a future outflow of resources will be required to settle the obligation, provided that a reliable estimate can be made of the amount of the obligation.

When the effect of discounting is material, the amount recognised for a provision is the present value at the end of the reporting period of the future expenditures expected to be required to settle the obligation. The increase in the discounted present value amount arising from the passage of time is included in finance costs in the consolidated statement of profit or loss.

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ACCOUNTANTS' REPORT OF THE TARGET GROUP

Income tax

Income tax comprises current and deferred tax. Income tax relating to items recognised outside profit or loss is recognised outside profit or loss, either in other comprehensive income or directly in equity.

Current tax assets and liabilities for the current and prior periods are measured at the amount expected to be recovered from or paid to the taxation authorities, based on tax rates (and tax laws) that have been enacted or substantively enacted by the end of the reporting period, taking into consideration interpretations and practices prevailing in the country in which the Target Group operates.

Deferred tax is provided, using the liability method, on all temporary differences at the end of the reporting period between the tax bases of assets and liabilities and their carrying amounts for financial reporting purposes.

Deferred tax liabilities are recognised for all taxable temporary differences.

Deferred tax assets are recognised for all deductible temporary differences, the carry forward of unused tax credits and any unused tax losses. Deferred tax assets are recognised to the extent that it is probable that taxable profit will be available against which the deductible temporary differences, the carryforward of unused tax credits and unused tax losses can be utilised, except:

The carrying amount of deferred tax assets is reviewed at the end of each reporting period and reduced to the extent that it is no longer probable that sufficient taxable profit will be available to allow all or part of the deferred tax asset to be utilised. Unrecognised deferred tax assets are reassessed at the end of each reporting period and are recognised to the extent that it has become probable that sufficient taxable profit will be available to allow all or part of the deferred tax asset to be recovered.

Deferred tax assets and liabilities are measured at the tax rates that are expected to apply to the period when the asset is realised or the liability is settled, based on tax rates (and tax laws) that have been enacted or substantively enacted by the end of the reporting period.

Deferred tax assets and deferred tax liabilities are offset if a legally enforceable right to set off current tax assets against current tax liabilities and the deferred taxes relate to the same taxable entity and the same taxation authority.

Government grants

Government grants are recognised at their fair value where there is reasonable assurance that the grant will be received and all attached conditions will be complied with. When the grant relates to an expense item, it is recognised as income on a systematic basis over the periods that the costs, which it is intended to compensate, are expensed.

Where the grant relates to an asset, the fair value is credited to a deferred income account and it is released to the consolidated statement of profit or loss over the expected useful life of the related asset by equal annual instalments or deducted from the carrying amount of the asset and released to the consolidated statement of profit or loss by way of a reduced depreciation charge.

Revenue recognition

Revenue is recognised to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. Specifically, the Target Group uses a 5-step approach to revenue recognition:

• Step 1: Identify the contract(s) with a customer

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ACCOUNTANTS' REPORT OF THE TARGET GROUP

  • Step 2: Identify the performance obligations in the contract
  • Step 3: Determine the transaction price
  • Step 4: Allocate the transaction price to the performance obligations in the contract
  • Step 5: Recognise revenue when (or as) the entity satisfies a performance obligation.

The Target Group recognised revenue when (or as) a performance obligation is satisfied, i.e. when "control" of the goods or services underlying the particular performance obligation is transferred to customers.

A performance obligation represents a good or service (or a bundle of goods or services) that is district or a series of distinct goods or services that are substantially same.

Control is transferred over time and revenue is recognised over time by reference to the progress towards complete satisfaction of the relevant performance obligation if one of the following criteria is met:

  • The customer simultaneously receives and consumes the benefits provided by the Target Group's performance as the Target Group performs;
  • The Target Group's performance creates and enhances an asset that the customer controls as the asset is created and enhanced; or
  • The Target Group' performance does not create an asset with an alternative use to the Target Group and the Target Group has an enforceable right to payment for performance completed to date.

Otherwise, revenue is recognised at a point in time when the customer obtains control of the distinct goods or service.

Revenue is measured based on the consideration specified in a contract with a customer, excludes amounts collected on behalf of third parties, discounts and sales related taxes.

Contract liabilities

A contract liability represents the Target Group's obligation to transfer goods or services to a customer for which the Target Group has received consideration from the customer. A contract liability would also be recognised if the Target Group has an unconditional right to receive consideration before the Target Group recognises the related revenue. In such cases, a corresponding receivable would also be recognised.

For a single contract with the customer, either a net contract asset or a net contract liability is presented. For multiple contracts, contract assets and contract liabilities of unrelated contracts are not presented on a net basis.

The Target Group recognised revenue from the following major sources:

  • Trading of aviation entire aircraft and parts
  • Rendering of aviation maintenance services

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APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Revenue is recognised when or as the Target Group satisfies a performance obligation by transferring a promised good or service (i.e. an asset) to a customer. An asset is transferred when (or as) the customer obtains control of that asset. Depending on the terms of the contract and the laws that apply to the contract, control of the asset may transfer over time or at a point in time. Control of the asset is transferred over time if the Target Group's performance:

  • provides all of the benefits received and consumed simultaneously by the customer; or
  • creates and enhances an asset that the customer controls as the Target Group performs; or
  • do not create an asset with an alternative use to the Target Group and the Target Group has an enforceable right to payment for performance completed to date.

For each performance obligation satisfied at a point in time, revenue is recognised when the customer obtains control of a promised asset and the Target Group has present right to payment and the collection of the consideration is probable. To determine the point in time at which a customer obtains control of a promised asset, the Target Group considers the following indicators:

  • The entity has a present right to payment for the asset
  • The customer has legal title to the asset
  • The entity has transferred physical possession of the asset
  • The customer has the significant risks and rewards of ownership of the asset
  • The customer has accepted the asset

Rental income

Rental income from operating leases is recognised on a straight-line basis over the lease terms.

Interest income

Interest income is recognised on an accrual basis using the effective interest method by applying the rate that exactly discounts the estimated future cash receipts over the expected life of the financial instrument or a shorter period, when appropriate, to the net carrying amount of the financial asset.

Other employee benefits

Pension scheme

The employees of the Target Company and its subsidiaries which operate in Mainland China are required to participate in a central pension scheme operated by the local municipal government. These companies are required to contribute a certain percentage of their payroll costs to the central pension scheme. The contributions are charged to consolidated statement of profit or loss as they become payable in accordance with the rules of the central pension scheme.

Housing benefits

All full-time employees of the Target Group are entitled to participate in various government-sponsored housing funds. The Target Group contributes on a monthly basis to these funds based on certain percentages of the salaries of the employees. The Target Group's liability in respect of these funds is limited to the contributions payable in each period.

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ACCOUNTANTS' REPORT OF THE TARGET GROUP

Termination benefits

The Target Group has recognised the termination benefit obligations as a liability. The Target Group's obligations are determined using actuarial valuations, which rely on various assumptions and conditions. The assumptions used in actuarial valuation reports include discount rates, future salary increases, mortality rates, the growth rate of the benefits and other factors. The deviation from the actual result and the actuary result will affect the accuracy of related accounting estimates. Even though management is of the view that the above assumptions are reasonable, any changes in condition of assumptions will still affect the liability amount of supplementary employee retirement benefit obligations. All assumptions are reviewed at each reporting date.

Borrowing costs

Borrowing costs directly attributable to the acquisition, construction or production of qualifying assets, i.e., assets that necessarily take a substantial period of time to get ready for their intended use or sale, are capitalised as part of the cost of those assets. The capitalisation of such borrowing costs ceases when the assets are substantially ready for their intended use or sale. Investment income earned on the temporary investment of specific borrowings pending their expenditure on qualifying assets is deducted from the borrowing costs capitalised. All other borrowing costs are expensed in the period in which they are incurred. Borrowing costs consist of interest and other costs that an entity incurs in connection with the borrowing of funds.

Dividends

Final dividends are recognised as a liability when they are approved by the shareholders in a general meeting.

Foreign currencies

These consolidated financial statements are presented in RMB, which is the Target Company functional currency. Each entity in the Target Group determines its own functional currency and items included in the financial statements of each entity are measured using that functional currency. Foreign currency transactions recorded by the entities in the Target Group are initially recorded using their respective functional currency rates prevailing at the dates of the transactions. Monetary assets and liabilities denominated in foreign currencies are translated at the functional currency rates of exchange ruling at the end of the reporting period. Differences arising on settlement or translation of monetary items are recognised in the consolidated statement of profit or loss.

Non-monetary items that are measured in terms of historical cost in a foreign currency are translated using the exchange rates at the dates of the initial transactions. Non-monetary items measured at fair value in a foreign currency are translated using the exchange rates at the date when the fair value was determined. The gain or loss arising on translation of a non-monetary item measured at fair value is treated in line with the recognition of the gain or loss on change in fair value of the item (i.e., translation difference on the item whose fair value gain or loss is recognised in other comprehensive income or profit or loss is also recognised in other comprehensive income or profit or loss, respectively).

5. CRITICAL ACCOUNTING JUDGEMENTS AND KEY SOURCES OF ESTIMATION UNCERTAINTY

In the application of the Target Group's accounting policies, which are described in note 4, the Target Group's directors are required to make judgements, estimates and assumptions about amounts of assets, liabilities, revenue and expenses reported and disclosures made in the financial statements. The estimates and associated assumptions are based on historical experience and other factors that are considered to be relevant. Actual results may differ from these estimates.

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ACCOUNTANTS' REPORT OF THE TARGET GROUP

The estimates and underlying assumptions are reviewed on an on-going basis. Revisions to accounting estimates are recognised in the period in which the estimate is revised if the revision affects only that period, or in the period of the revision and future periods if the revision affects both current and future periods.

Critical judgements in applying accounting policies

The followings are the key assumptions concerning the futures and other key sources of estimation uncertainty at the end of the reporting period, that have a significant risk of resulting in a material adjustment to the carrying amounts of assets and liabilities within the next financial year.

Classification between investment properties and owner-occupied properties

The Target Group determines whether a property qualifies as an investment property, and has developed criteria in making that judgement. Investment property is a property held to earn rentals or for capital appreciation or both. Therefore, the Target Group considers whether a property generates cash flows largely independently of the other assets held by the Target Group. Some properties comprise a portion that is held to earn rentals or for capital appreciation and another portion that is held for use in the production or supply of goods or services or for administrative purposes. If these portions could be sold separately or leased out separately under a finance lease, the Target Group accounts for the portions separately. If the portions could not be sold separately, the property is an investment property only if an insignificant portion is held for use in the production or supply of goods or services or for administrative purposes. Judgement is made on an individual property basis to determine whether ancillary services are so significant that a property does not qualify as an investment property.

Estimation uncertainty

The key assumptions concerning the future and other key sources of estimation uncertainty at the end of the reporting period, that have a significant risk of causing a material adjustment to the carrying amounts of assets and liabilities within the next financial year, are described below.

Impairment of non-financial assets

The Target Group assesses whether there are any indicators of impairment for all non-financial assets at the end of each reporting period. Non-financial assets are tested for impairment when there are indicators that the carrying amounts may not be recoverable. Impairment exists when the carrying value of an asset or a cash- generating unit exceeds its recoverable amount, which is the higher of its fair value less costs to disposal and its value in use. The calculation of the fair value less costs of disposal is based on available data from binding sales transactions in an arm's length transaction of similar assets or observable market prices less incremental costs for disposing of the asset. When value in use calculations are undertaken, management must estimate the expected future cash flows from the asset or cash-generating unit and choose a suitable discount rate in order to calculate the present value of those cash flows.

Depreciation and amortisation

The Target Group's management determines the estimated useful lives and related depreciation/ amortisation charges for the property, plant and equipment, investment properties, land use rights and intangible assets with reference to the estimated periods that the Target Group intends to derive future economic benefits from the use of these assets. Management will revise the depreciation and amortisation charges where useful lives are different to previously estimated, or it will write off or write down technically obsolete or non- strategic assets that have been abandoned or sold.

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ACCOUNTANTS' REPORT OF THE TARGET GROUP

Impairment allowances on financial assets

The measurement of impairment allowances under IFRS 9 across financial assets, including deposits and other receivables, contract assets, accounts and notes receivables and are based on assumptions about ECL which requires judgement, in particular, the estimation of the amount and timing of future cash flows and collateral values when determining impairment allowances and the assessment of a significant increase in credit risk. These estimates are driven by a number of factors, changes in which can result in different levels of allowances.

At each reporting date, the Target Group assesses whether there has been a significant increase in credit risk for exposures since initial recognition by comparing the risk of default occurring over the expected life between the reporting date and the date of initial recognition. The Target Group considers reasonable and supportable information that is relevant and available without undue cost or effort for this purpose. This includes quantitative and qualitative information and also, forward-looking analysis.

Impairment of inventories

Management estimates the net realisable value for raw material, work-in progress and finished goods based primarily on the latest invoice prices and current market conditions. The Target Group carries out an inventory review on a product-by-product basis at the end of each reporting period and will write down obsolete and slow-moving items in inventories to net realisable value.

6. REVENUE AND SEGMENT INFORMATION

Revenue comprises income from sales of aviation products and rendering of services, net of sales related taxes and discounts during the year/period.

The following is an analysis of the Target Company's revenue during the Relevant Periods and nine months ended 30 September 2018.

Nine months

Year ended 31 December

ended 30 September

2016

2017

2018

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Unaudited)

(Audited)

Disaggregation of revenue by

type of revenue

Sales of goods

12,806,504

10,593,607

14,052,116

8,745,816

8,080,043

Rendering of services

87,825

66,372

106,953

44,153

85,983

12,894,329

10,659,979

14,159,069

8,789,969

8,166,026

All revenue is recognised at a point in time throughout Relevant Periods.

Transaction price allocated to the remaining performance obligations

During the three years ended 31 December 2016, 2017, 2018 and nine months ended 30 September 2018 and 2019, the aggregate amount of transaction price allocated to the performance obligations that are unsatisfied (or partially satisfied) are approximately RMB30,054,077,000, RMB25,129,113,000, RMB17,019,451,000, RMB22,704,823,000 and RMB27,481,003,000 respectively. The amounts represent revenue expected to be recognised in the future from sales contracts. The Target Group will recognise this revenue as the service is performed or the goods are delivered, which is expected to occur during the year ending:

- II-34 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Nine months

Year ended 31 December

ended 30 September

2016

2017

2018

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Unaudited)

(Audited)

2017

8,621,844

N/A

N/A

N/A

N/A

2018

5,977,860

9,535,590

N/A

3,426,775

N/A

2019

4,604,533

4,743,683

5,638,251

6,237,441

6,804,713

2020

6,907,840

6,907,840

6,907,840

8,102,553

10,219,480

2021

3,942,000

3,942,000

4,473,360

4,938,054

10,456,810

30,054,077

25,129,113

17,019,451

22,704,823

27,481,003

The above amounts do not include variable consideration which is constrained.

The chief operating decision-maker has been identified as the executive directors who review The Target Group's internal reporting in order to assess performance and allocate resources. Management has determined the operating segments based on these reports.

The executive directors classify the business into two reportable segments:

  • Trading of aviation entire aircraft and parts; and
  • Rendering of aviation maintenance services.

The revenue from external parties reported to the executive directors is measured in a manner consistent with that in the consolidated statement of profit or loss. Segment results are defined based on profit before tax excluding interest income, finance costs, corporate and other unallocated expenses.

The Target Group is domiciled in the PRC from where most of its revenue from external customers is derived and in where all of its assets are located.

- II-35 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Rendering of

Trading of

aviation

aviation entire

maintenance

aircraft and parts

services

Total

RMB'000

RMB'000

RMB'000

Year ended 31 December 2016

Segment Revenue

Sales to external customers

12,810,706

115,213

12,925,919

Intersegment sales

(31,590)

12,894,329

Segment profit

301,661

66,884

368,545

Interest income

70,733

Corporate and other unallocated

expenses

(120,289)

Finance costs

(36,417)

Profit before tax

282,572

Rendering of

Trading of

aviation

aviation entire

maintenance

aircraft and parts

services

Total

RMB'000

RMB'000

RMB'000

Year ended 31 December 2017

Segment Revenue

Sales to external customers

10,597,345

62,634

10,659,979

Intersegment sales

-

10,659,979

Segment profit

393,849

94,547

488,396

Interest income

74,076

Corporate and other unallocated

expenses

(81,918)

Finance costs

(53,869)

Profit before tax

426,685

- II-36 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Rendering of

Trading of

aviation

aviation entire

maintenance

aircraft and parts

services

Total

RMB'000

RMB'000

RMB'000

Year ended 31 December 2018

Segment Revenue

Sales to external customers

14,062,778

106,953

14,169,731

Intersegment sales

(10,662)

14,159,069

Segment profit

256,402

217,741

474,143

Interest income

109,060

Corporate and other unallocated

expenses

(141,233)

Finance costs

(57,152)

Profit before tax

384,818

Rendering of

Trading of

aviation

aviation entire

maintenance

aircraft and parts

services

Total

RMB'000

RMB'000

RMB'000

Period ended 30 September 2018

(unaudited)

Segment Revenue

Sales to external customers

8,750,690

41,187

8,791,877

Intersegment sales

(1,908)

Revenue - external sales

8,789,969

Segment profit

243,603

190,587

434,190

Interest income

47,465

Corporate and other unallocated

expenses

(129,533)

Finance costs

(41,498)

Profit before tax

310,624

- II-37 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Rendering of

Trading of

aviation

aviation entire

maintenance

aircraft and parts

services

Total

RMB'000

RMB'000

RMB'000

Period ended 30 September 2019

Segment Revenue

Sales to external customers

8,088,094

77,932

8,166,026

Intersegment sales

-

8,166,026

Segment profit

535,443

80,252

615,695

Interest income

147,794

Corporate and other unallocated

expenses

(31,400)

Finance costs

(38,444)

Profit before tax

693,645

Segment assets and liabilities

The following is an analysis of the Target Group's assets and liabilities by reportable and operating segment:

Segment assets

At 30

At 31 December

September

2016

2017

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

Trading of aviation entire aircraft and aviation

parts and components

23,057,280

21,864,670

26,283,625

28,424,999

Rendering of aviation maintenance services

2,079,813

2,124,969

2,887,524

2,194,266

Total segment assets

25,137,093

23,989,639

29,171,149

30,619,265

Elimination of intersegment receivables

(19,935)

(38,251)

(736,905)

(92,360)

Total assets

25,117,158

23,951,388

28,434,244

30,526,905

- II-38 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Segment liabilities

At 30

At 31 December

September

2016

2017

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

Trading of aviation entire aircraft and aviation

parts and components

23,174,409

21,345,413

25,299,892

26,559,505

Rendering of aviation maintenance services

485,483

503,449

1,087,198

337,373

Total segment liabilities

23,659,892

21,848,862

26,387,090

26,896,878

Elimination of intersegment payables

(19,935)

(38,251)

(736,905)

(92,360)

Total liabilities

23,639,957

21,810,611

25,650,185

26,804,518

Other segment information

Trading of aviation

Rendering of

entire aircraft and

aviation

aviation parts and

maintenance

components

services

Total

RMB'000

RMB'000

RMB'000

Year ended 31 December 2016

Share of profits of:

Associates

37,040

56,125

93,165

Impairment losses recognised in the statement

of profit or loss

3,383

51,874

55,257

Depreciation and amortisation

302,205

4,603

306,808

Investments in associates

929,263

1,530,243

2,459,506

Capital expenditure*

1,044,865

3,369

1,048,234

  • Capital expenditure consists of additions to property, plant and equipment, investment properties, land use rights and intangible assets.

- II-39 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Trading of aviation

Rendering of

entire aircraft and

aviation

aviation parts and

maintenance

components

services

Total

RMB'000

RMB'000

RMB'000

Year ended 31 December 2017

Share of profits of:

Associates

38,090

58,197

96,287

Impairment losses (reversed) recognised

(190)

(1,587)

(1,777)

Depreciation and amortisation

374,399

4,641

379,040

Investments in associates

735,554

1,573,242

2,308,796

Capital expenditure*

732,509

2,541

735,050

Trading of aviation

Rendering of

entire aircraft and

aviation

aviation parts and

maintenance

components

services

Total

RMB'000

RMB'000

RMB'000

Year ended 31 December 2018

Share of profits of:

Associates

35,480

68,334

103,814

Impairment losses (reversed) recognised

(51,359)

10

(51,349)

Depreciation and amortisation

421,968

5,000

426,968

Investments in associates

759,915

1,624,063

2,383,978

Capital expenditure*

557,455

5,091

562,546

  • Capital expenditure consists of additions to property, plant and equipment, investment properties, land use rights and intangible assets.

Trading of aviation

Rendering of

entire aircraft and

aviation

aviation parts and

maintenance

components

services

Total

RMB'000

RMB'000

RMB'000

Period ended 30 September 2018 (unaudited)

Share of profits of:

Associates

22,568

39,144

61,712

Impairment losses (reversed) recognised

(46,314)

10

(46,304)

Depreciation and amortisation

301,157

6,001

307,158

Investments in associates

749,531

1,594,829

2,344,360

Capital expenditure*

320,541

325

320,866

- II-40 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Trading of aviation

Rendering of

entire aircraft and

aviation

aviation parts and

maintenance

components

services

Total

RMB'000

RMB'000

RMB'000

Period ended 30 September 2019

Share of profits of:

Associates

26,686

51,717

78,403

Impairment losses recognised

2,071

-

2,071

Depreciation and amortisation

315,458

4,358

319,816

Investments in associates

419,960

1,656,190

2,076,150

Capital expenditure*

333,032

5,069

338,101

  • Capital expenditure consists of additions to property, plant and equipment, investment properties, land use rights and intangible assets.

Information about major customers

Revenue from customers of the corresponding year contributing over 10% of the total revenue of the Target Group is as follow:

Nine months

Year ended 31 March

ended 30 September

2016

2017

2018

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Unaudited)

(Audited)

Company A1

5,976,450

6,703,554

8,231,080

5,783,409

5,904,958

Company B1

1,454,112

N/A2

N/A2

971,172

832,433

Company C1

3,758,028

N/A2

2,132,009

N/A2

N/A2

Company D1

N/A2

1,531,140

N/A2

N/A2

N/A2

Company E1

N/A2

N/A

N/A2

902,069

N/A2

  1. Revenue from Trading of aviation entire aircraft.
  2. The corresponding revenue did not contribute over 10% of the total revenue of the Target Group.

- II-41 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

7. OTHER INCOME AND GAINS

Nine months

Year ended 31 December

ended 30 September

2016

2017

2018

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Unaudited)

(Audited)

Other income from contracts with

customers

Income from sale of materials

13,937

14,766

37,410

36,215

2,249

Cost from sale of materials

(12,304)

(12,499)

(33,749)

(31,256)

(2,172)

Profit from sale of materials

1,633

2,267

3,661

4,959

77

Income from rendering of other

services

38,705

28,955

61,453

39,044

56,617

Total other income from contracts

with customers

40,338

31,222

65,114

44,003

56,694

Other income from other sources

Net rental income

5,049

13,408

14,329

1,843

10,206

45,387

44,630

79,443

45,846

66,900

Other income from contracts with

customers

Gains

Fair value gain on financial assets

through profit or loss

-

-

-

-

15,111

Foreign exchange gains, net

-

-

2,179

1,044

867

Gain on disposal of:

Interests in associates

-

257,775

510

-

362,353

Financial assets through profit or

loss

-

-

86

-

570

Property, plant and equipment

-

-

2,050

-

-

Reversal of provision made in prior

year (note 27)

-

-

120,904

120,904

21,233

Others

13,814

6,561

2,303

2,164

3,380

13,814

264,336

128,032

124,112

403,514

Other income and gains

59,201

308,966

207,475

169,958

470,414

- II-42 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

8. PROFIT BEFORE TAX

The Target Group's profit before tax is arrived at after charging (crediting):

Nine months

Year ended 31 December

ended 30 September

2016

2017

2018

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Unaudited)

(Audited)

Cost of inventories sold

11,925,036

10,101,537

13,470,412

8,364,106

7,527,668

Depreciation:

Investment properties

3,370

3,310

3,494

3,013

2,289

Property, plant and equipment

285,895

362,962

410,698

294,679

307,221

Amortisation:

Land use rights

14,636

9,844

9,908

7,202

8,094

Intangible assets

2,907

2,924

2,868

2,264

2,212

Research and development costs:

Current year expenditure

1,216,777

1,525,287

1,737,170

943,355

513,155

Less: Government grants

released*

(820,216)

(1,347,622)

(1,425,704)

(858,554)

(379,817)

396,561

177,665

311,466

84,801

133,338

  • Various government grants have been received for setting up research activities in Mainland China. The government grants received have been deducted from the research and development costs to which they relate. Government grants received for which related expenditure has not yet been undertaken are included in deferred income in the consolidated statement of financial position. There are no unfulfilled conditions or contingencies relating to these grants.

The Target Group's profit before tax is arrived at after charging (crediting):

Nine months

Year ended 31 December

ended 30 September

2016

2017

2018

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Unaudited)

(Audited)

Auditors' remuneration

971

1,335

983

720

732

Employee benefit expense

(including directors' and

supervisors' remuneration):

Wages, salaries, housing

benefits and other allowances

53,347

39,382

50,366

19,692

69,337

Pension scheme contributions

65,130

62,800

56,030

48,260

28,270

Foreign exchange (gains) loss, net

11

781

(2,179)

(1,044)

(867)

Minimum lease payment in

respect of rental premises

35,093

28,499

33,304

21,140

19,095

Loss on disposal of property,

plant and equipment

930

2,138

-

363

393

- II-43 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

9. FINANCE INCOME, NET

Nine months

Year ended 31 December

ended 30 September

2016

2017

2018

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Unaudited)

(Audited)

Finance income

Bank interest income

70,733

74,076

109,060

47,465

147,794

Finance costs

Interest on bank borrowings and

other borrowings

42,009

61,250

56,247

40,739

41,909

Less: Interest capitalised

(6,783)

(7,945)

-

-

(4,001)

Other financial costs

1,191

564

905

759

536

36,417

53,869

57,152

41,498

38,444

Finance income, net

34,316

20,207

51,908

5,967

109,350

The interests were capitalised in construction in progress with bank borrowing interest rate of 4.13%-5.75%,4.13%-5.75%, nil, 4.75% and nil respectively throughout the Relevant Periods and during nine months ended 30 September 2018.

10. DIRECTORS' AND SUPERVISORS' REMUNERATION

The emoluments paid or payable to each of the directors were as follows:

Nine months

Year ended 31 December

ended 30 September

2016

2017

2018

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Unaudited)

(Audited)

Salaries and allowances*

-

-

-

-

514

  • The salaries of certain directors were born by ultimate holding company of the Target Company.

- II-44 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

  1. Executive director and non-executive directors

Salaries and

Performance

Pension scheme

Total

Fees

allowances

related bonuses

contributions

remuneration

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

31 December 2016

Executive director:

Ji Lingfeng

-

-

-

-

-

Non-executive directors:

Yu Feng

-

-

-

-

-

Zhao Xuesen

-

-

-

-

-

Lv Jie

-

-

-

-

-

Hu Xiaofeng

-

-

-

-

-

Luo Linsen

-

-

-

-

-

Liu Hui

-

-

-

-

-

Pei Jiali

-

-

-

-

-

Tian Xueying

-

-

-

-

-

-

-

-

-

-

Salaries and

Performance

Pension scheme

Total

Fees

allowances

related bonuses

contributions

remuneration

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

31 December 2017

Executive director:

Ji Lingfeng

-

-

-

-

-

Non-executive directors:

Yu Feng2

-

-

-

-

-

Zhao Xuesen

-

-

-

-

-

Lv Jie

-

-

-

-

-

Hu Xiaofeng2

-

-

-

-

-

Luo Linsen2

-

-

-

-

-

Liu Hui2

-

-

-

-

-

Pei Jiali4

-

-

-

-

-

Tian Xueying2

-

-

-

-

-

Zhang Xian2

-

-

-

-

-

DuJuan

-

-

-

-

-

Qu Jingwen2

-

-

-

-

-

Li Xueqin2

-

-

-

-

-

-

-

-

-

-

- II-45 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Salaries and

Performance

Pension scheme

Total

Fees

allowances

related bonuses

contributions

remuneration

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

31 December 2018

Executive director:

Ji Lingfeng

-

-

-

-

-

Non-executive directors:

Qu Jingwen

-

-

-

-

-

Zhao Xuesen

-

-

-

-

-

Lv Jie

-

-

-

-

-

Li Xueqin

-

-

-

-

-

Du Juan

-

-

-

-

-

Yang Baojun4

-

-

-

-

-

Pei Jiali4

-

-

-

-

-

Zhang Xian5

-

-

-

-

-

-

-

-

-

-

Salaries and

Performance

Pension scheme

Total

Fees

allowances

related bonuses

contributions

remuneration

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

30 September 2018 (unaudited)

Executive director:

Ji Lingfeng

-

-

-

-

-

Non-executive directors:

Qu Jingwen

-

-

-

-

-

Zhao Xuesen

-

-

-

-

-

Lv Jie

-

-

-

-

-

Li Xueqin

-

-

-

-

-

Du Juan

-

-

-

-

-

Pei Jiali

-

-

-

-

-

Zhang Xian

-

-

-

-

-

-

-

-

-

-

- II-46 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Salaries and

Performance

Pension scheme

Total

Fees

allowances

related bonuses

contributions

remuneration

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

30 September 2019

Executive director:

Ji Lingfeng

-

-

-

-

-

Non-executive directors:

Qu Jingwen

-

-

-

-

-

Zhao Xuesen

-

-

-

-

-

Lv Jie

-

-

-

-

-

Li Xueqin

-

-

-

-

-

Chang Hongliang5

-

-

-

-

-

Du Juan

-

-

-

-

-

Zhang Xian5

-

-

-

-

-

Yang Baojun

-

514

-

-

514

-

514

-

-

514

(b)

Supervisors

Salaries and

Performance

Pension scheme

Total

Fees

allowances

related bonuses

contributions

remuneration

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

31 December 2016

Supervisors:

Ni Xianping

-

-

-

-

-

Chen Guanjun

-

-

-

-

-

Han Xiaoyang

-

-

-

-

-

Yin Honghai1

-

-

-

-

-

Zhao Weihua

-

-

-

-

-

Yang Zijiang

-

-

-

-

-

Yan Wei1

-

-

-

-

-

-

-

-

-

-

- II-47 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Salaries and

Performance

Pension scheme

Total

Fees

allowances

related bonuses

contributions

remuneration

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

31 December 2017

Supervisors:

Ni Xianping3

-

-

-

-

-

Chen Guanjun3

-

-

-

-

-

Han Xiaoyang3

-

-

-

-

-

Zhao Weihua

-

-

-

-

-

Yang Zijiang

-

-

-

-

-

Yan Wei1

-

-

-

-

-

Hu Xiaofeng3

-

-

-

-

-

Xu Peihui3

-

-

-

-

-

Hong Bo3

-

-

-

-

-

-

-

-

-

-

Salaries and

Performance

Pension scheme

Total

Fees

allowances

related bonuses

contributions

remuneration

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

31 December 2018

Supervisors:

Zhao Weihua

-

-

-

-

-

Yang Zijiang

-

-

-

-

-

Yan Wei

-

-

-

-

-

Hu Xiaofeng

-

-

-

-

-

Xu Peihui

-

-

-

-

-

Hong Bo

-

-

-

-

-

-

-

-

-

-

Salaries and

Performance

Pension scheme

Total

Fees

allowances

related bonuses

contributions

remuneration

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

30 September 2018 (unaudited)

Supervisors:

Zhao Weihua

-

-

-

-

-

Yang Zijiang

-

-

-

-

-

Yan Wei

-

-

-

-

-

Hu Xiaofeng

-

-

-

-

-

Xu Peihui

-

-

-

-

-

Hong Bo

-

-

-

-

-

-

-

-

-

-

- II-48 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

Salaries and

Performance

Pension scheme

Total

Fees

allowances

related bonuses

contributions

remuneration

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

30 September 2019

Supervisors:

Zhao Weihua

-

-

-

-

-

Yang Zijiang

-

-

-

-

-

Yan Wei1

-

-

-

-

-

Hu Xiaofeng6

-

-

-

-

-

Xu Peihui

-

-

-

-

-

Zhang Yanqun6

-

-

-

-

-

Hong Bo

-

-

-

-

-

-

-

-

-

-

1

2

On 15 December 2016, Yan Wei was appointed as the new supervisor of the Target Company; Yin Honghai was resigned as supervisor of the Target Company.

On 2 June 2017, Qu Jingwen, Li Xueqin, Zhang Xian and Du Juan were appointed as the new non-executive directors of the Target Company; Yu Feng, Hu Xiaofeng, Luo Linsen, Liu Hui and Tian Xueying were resigned as the non- executive directors of the Target Company.

3 On 2 June 2017, Hu Xiaofeng, Xu Peihui and Hong Bo were appointed as the new supervisors of the Target Company; Ni Xianping, Chen Guanjun and Han Xiaoyang were resigned as the supervisors of the Target Company.

4

5

On 31 October 2018, Yang Baojun was appointed as the new non-executive director of the Target Company; Pei Jiali was resigned as the non-executive director of the Target Company.

On 9 May 2019, Chang Hongliang was appointed as the new non-executive director of the Target Company; Zhang Xian was resigned as the non-executive director of the Target Company.

6 On 30 August 2019, Zhang Yanqun was appointed as the new supervisors of the Target Company; Hu Xiaofeng was resigned as the supervisors of the Target Company.

- II-49 -

APPENDIX II

ACCOUNTANTS' REPORT OF THE TARGET GROUP

11. FIVE HIGHEST PAID EMPLOYEES

For the year ended 31 December 2016, 2017 and 2018 and nine months ended 30 September 2018, the five individuals whose remuneration were highest in the Target Group did not include any directors of the Target Company whose remuneration are set out in Note 10 above. For the period ended 30 September 2019, one was the director of the Target Company whose emoluments are set out in Note 10 above. The emoluments of the remaining individuals are as follows:

Nine months ended

Year ended 31 December

30 September

2016

2017

2018

2018

2019

RMB'000

RMB'000

RMB'000

RMB'000

RMB'000

(Audited)

(Audited)

(Audited)

(Unaudited)

(Audited)

Salaries and allowances

1,901

1,811

2,470

2,092

1,875

The number of non-director and non-chief executive highest paid employees whose remuneration fell within the following bands is as follows:

Number of employees

Nine months ended

Year ended 31 December