Summary of GULFSTREAM INTERNATIONAL GROUP INC

Item 7.

Management's Discussion and Analysis of Financial Condition and Results of Operations

You should read the following discussion of our financial condition and results of operations in conjunction with the audited financial statements and the notes to those statements included elsewhere in this Form 10-K. The discussion and analysis throughout this report contains certain forward-looking terminology such as "believes," "anticipates," "will," and "intends" or comparable terminology. Such statements are subject to certain risks and uncertainties that could cause actual results to differ materially from those projected. Potential purchasers and current holders of the Company's securities are cautioned not to place undue reliance on such forward-looking statements, which are qualified in their entirety by the cautions and risks described herein. See "Forward-Looking Statements" at the front of this report. You should specifically consider the various risk factors identified in this Form 10-K that could cause actual results to differ materially from those anticipated in these forward-looking statements.

Overview

We operate a scheduled airline, scheduled and on-demand charter services and a flight training academy for commercial pilots.

Our most significant market opportunity relates to the fact that we currently operate in and have targeted future expansion in unserved and underserved short haul markets, which is a growing opportunity for two principal reasons. Many smaller markets are being abandoned by major carriers, as they shift their focus increasingly to international markets and away from domestic markets and hubs. In addition, many smaller markets are also being abandoned by regional airlines, as they continue to gravitate toward larger jet aircraft in the 70-100 seat range, and away from smaller turboprop aircraft. As a result, we will continue to seek opportunities to grow in the expanding number of smaller underserved or unserved markets that are suitable for our fleet of small-capacity aircraft.

Our most significant challenges relate to:

volatility in the price of aircraft fuel, which accounts for 30.6% of our airline operating expenses;

a deteriorating economic environment; and

securing cost-effective maintenance resources, as the average age of our aircraft fleet increases.

Each of our business components is briefly described below.

Airline

We began providing air charter service in 1988, and have provided scheduled passenger service in Florida and the Bahamas since 1990. We signed our first major code share agreement with United Airlines in 1994. In 1997, Gulfstream entered into a cooperative alliance and code share agreement with Continental and has since operated as a Continental Connection carrier. We also have code share agreements with United, Northwest, and Copa Airlines. We estimate that over 60% of our revenue is derived from local "point to point" traffic within Florida and the Bahamas, with connecting traffic from our code-share partners and other carriers destined primarily for the Bahamas making up the balance. Continental is our largest connecting partner, with passengers connecting to and from Continental flights providing approximately 20% of our revenue. Revenue generated by the airline is classified in our statement of operations as Airline Passenger Revenue.

During September and October 2008, Gulfstream inaugurated service to five communities from Continental Airline's hub in Cleveland, Ohio under the Department of Transportation's Essential Air Service Program, including service to Bradford, Franklin and Dubois in Pennsylvania, as well as Jamestown, New York and Lewisburg, West Virginia. In addition, Gulfstream has taken the opportunity to provide service to routes abandoned by other airlines by utilizing our more efficient turboprop airplanes to replace jet carriers. As such, Gulfstream reallocated capacity within its core Florida and Bahamas route system to proven markets where competitors have reduced or eliminated service.

Cuba and Other Charter Revenue

Gulfstream Air Charter, Inc. ("GAC"), a related company which is owned by Thomas L. Cooper, operates charter flights between Miami and Havana. GAC is licensed by the Office of Foreign Assets Control of the U.S. Department of the Treasury as a carrier and travel service provider for charter air transportation between designated U.S. and Cuban airports.

Pursuant to a services agreement between Gulfstream and GAC dated August 8, 2003 and amended on March 14, 2006, Gulfstream provides use of its aircraft, flight crews, the Gulfstream name, insurance, and service personnel, including passenger, ground handling, security, and administrative. Gulfstream also maintains the financial records for GAC. Pursuant to the March 14, 2006 amended agreement, Gulfstream receives 75% of the operating profit generated by GAC's Cuban charter operation. Prior to March 14, 2006, Gulfstream received all of the operating profit generated up to a cumulative total of $1 million, and then 75% thereafter.

Prior to January 1, 2008, operating profit earned under the services agreement had been reported in the statement of operations as Academy, charter and other revenue. The Company had evaluated the applicability of Financial Standards Accounting Board ("FASB") Interpretation No. 46 (revised December 2003), Consolidation of Variable Interest Entities, ("FIN 46") to the accounting by the Company of the services agreement between its wholly-owned subsidiary, Gulfstream, and the Cuba charter business operated by GAC. The Company had concluded that compliance with the consolidation or disclosure requirements of FIN 46 as it relates to the Cuba charter business would not materially impact the consolidated financial statements of the Company for periods prior to January 1, 2008.

The Company evaluated the applicability of FIN 46 to its results of operations for periods after January 1, 2008. As a result of the increasing significance of the Cuba charter business to our overall performance, we have consolidated the results of the Cuba charter business as a variable interest entity effective January 1, 2008.

In addition to the Cuba revenue described above, our charter revenues are principally derived from on-demand charter services, sub-service flying for other scheduled airlines and a 15-year agreement with a government subcontractor, subject to two-year renewals, to operate daily flights between West Palm Beach and Andros Town, Bahamas. Revenue and related expenses associated with Gulfstream's charter activity are reported gross as charter revenue and within the appropriate expense categories of the Company's statement of income.

Academy

The Academy offers training programs for pilots holding commercial multi-engine instrument certifications and at least 190 hours of flying time. Pilots with these ratings are qualified to fly commercial airplanes, but are often unable to find positions with airlines without additional training and flying time. The Academy enhances its students' career prospects by providing them with the training and experience necessary to obtain pilot positions with commercial airlines. The Academy enrolled 80 and 64 students in 2007 and 2008, respectively, virtually all of whom were hired by airlines after graduation, including those hired by Gulfstream. The Academy's revenues are included as Academy, Charter and Other Revenue in our statement of income, and its expenses are included as general and administrative expenses.

Current Developments

For the Company, 2008 was very much a transition year. Late 2007 and early 2008 were characterized by an unprecedented rise in fuel prices, extraordinary engine maintenance expenses on our fleet of Embraer Brasilia aircraft and a rapidly weakening economy. In January 2008, we adopted a revised business plan to avoid a liquidity shortfall, and by the end of 2008 we had achieved the following major objectives:

Sold our fleet of eight Embraer Brasilia aircraft for net proceeds of $5.1 million, after debt repayment;

Redeployed aircraft to profitable routes, both within our traditional markets and to destinations serviced from Cleveland, Ohio;

Secured $6.1 million of additional debt capital during the third quarter;

Restructured past-due and future creditor obligations exceeding $7 million in December 2008;

Increased average fares and initiated excess baggage fees to counter the rising price of jet fuel;

Reduced the complexity of our operations by moving to one fleet type; and

Implemented substantial capacity-related and structural cost reductions throughout the organization.

During the third and fourth quarters of 2008, we completed the sale of our fleet of eight Embraer Brasilia aircraft. As a result of these sales, we raised cash of approximately $5.1 million, net of expenses and the repayment of $7.2 million of senior bank debt. In conjunction with the sale of our fleet of eight Embraer Brasilia aircraft, we also restructured our route network, resulting in a 35-40% reduction in our flight capacity (available seat miles), and the elimination of city pairs that were no longer profitable with the extraordinary rise in jet fuel prices through July 2008. We also redeployed aircraft to profitable routes by initiating service in September and October 2008 between

Continental Airline's Cleveland hub and five smaller cities in Pennsylvania, New York and West Virginia as a result of Essential Air Service routes awarded by the Department of Transportation.

We also secured additional capital during the third quarter through the issuance of a $5.1 million senior secured debenture to an institutional lender, as well as the issuance of a $1.0 million unsecured debenture to an entity in which members of the Company's Board of Directors own a minority interest. The net proceeds from these debt financings were approximately $5.0 million and were used to repay $754,000 of principal and interest outstanding under the Company's revolving credit line, with the balance being used for general corporate purposes.

The final major step to improve our liquidity involved the restructuring of over $7.0 million in creditor obligations owed primarily to Raytheon Aircraft Credit Corporation ("RACC"), our principal aircraft lessor, and Pratt & Whitney Canada ("P&WC"), our engine maintenance vendor. On December 19, 2008, we entered into a restructuring agreement (the "Agreement") with RACC, as well as an amended engine maintenance agreement with P&WC (the "P&WC Agreement"). If we did not complete this multiple-party restructuring, RACC may have declared us in default with respect to our aircraft leases and demanded return of the aircraft, or P&WC may have withheld further engine maintenance services.

The latter half of 2008 was primarily characterized by substantial reductions in capacity and a corresponding decrease in operating costs. The rate of overall cost reductions during the year was not as immediate as our capacity-related revenue reductions, because of the complexities and delays associated with introducing extensive schedule changes, implementing price increases and completing staff reductions and retraining procedures. As a result, our unit operating cost (cost per available seat mile) remained higher than our unit revenue (revenue per available seat mile) throughout most of 2008. Our unit operating costs during 2008 included an unprecedented rise in fuel prices causing an annual increase in fuel cost per available seat mile of 49.8% compared to 2007.

The following factors are expected to have a significant influence on the improvement we expect in our 2009 operating performance compared with our 2008 results:

The price of jet fuel declined dramatically, at a rate even faster than it had escalated, after peaking in July 2008. The price of jet fuel is now lower than it was a year ago. The weakened global economic fundamentals seem to be a stabilizing influence with respect to avoiding the extreme fuel price volatility experienced during 2008, at least for the foreseeable future;

The sale of our Embraer fleet of eight aircraft will result in lower engine maintenance costs in 2009, and will also reduce the complexity and cost associated with flying two different aircraft types;

We reduced our lift capacity (ASMs, or available seat miles) by 35-40% in October 2008 to enable us to balance our capacity to reduced demand resulting from a declining economy;

We substantially increased our average ticket prices;

We redeployed assets to profitable routes by initiating service in September 2008 between Continental Airline's Cleveland hub and five smaller cities in Pennsylvania, New York and West Virginia in conjunction with Essential Air Service routes awarded by the Department of Transportation. This revenue source, which is subsidized by the Department of Transportation, is relatively stable especially in a declining economic environment;

We added excess baggage fees, consistent with practices adopted throughout virtually the entire airline industry;

We implemented substantial capacity-related and structural cost reductions during 2008; and

Our cash flow from operations in 2009 and thereafter will benefit from the realization of net operating loss tax carry forwards available in 2009 and subsequent years.

Throughout 2008, we faced substantial internal and external operating and liquidity challenges. We responded by selling assets, raising additional capital, and restructuring creditor obligations. We believe we are now positioned to benefit from the fundamental improvements that were implemented or occurred during 2008, which include lower and more stable jet fuel prices; higher average fares and increased fees for excess baggage; substantially reduced lift capacity to equate to the decline in demand; structural cost reductions throughout the organization; and the cost efficiency of a single aircraft fleet. Based on these factors, we expect to be able to fund our operations and obligations for the foreseeable future from cash flow generated through operations. However, given the risk of a further weakening in the global and domestic economy and the potential for continued volatility in the price of jet fuel, we can make no assurance that we will be able to fund our operations and obligations from internal cash flow generation in the long term.

Results of Operations

Comparative Years Ended December 31, 2007 and 2008

As a result of the increasing significance of the Cuba charter business to our overall performance, we have consolidated the results of the Cuba charter business as a variable interest entity for the year ended December 31, 2008 pursuant to the requirements of FASB Interpretation No. 46 (revised December 2003), Consolidation of Variable Interest Entities. For the year ended December 31, 2008, gross revenue and operating expenses are included in the Consolidated Statement of Operations, and the operating profit of the Cuba charter business is included in consolidated net income. Conversely, for year ended December 31, 2007, the operating profit of the Cuba charter business was included as a component of Revenue, and gross revenue and operating expenses were excluded from the Consolidated Statement of Operations.

The following table sets forth our financial results for the years 2007 and 2008.

                                             Year Ended December 31,        Percent
                                               2007             2008         Change
                                              (In thousands, except
                                                 per share data)
      Revenue
      Airline passenger revenue            $    104,230       $  91,039        -12.7 %
      Academy, charter and other revenue          8,066          14,217         76.3 %
      Total Revenue                             112,296         105,256         -6.3 %

      Operating Expenses
      Flight operations                          13,794          13,177         -4.5 %
      Aircraft fuel                              25,774          30,350         17.8 %
      Aircraft rent                               6,430           5,593        -13.0 %
      Maintenance                                24,574          24,478         -0.4 %
      Passenger service                          23,312          21,759         -6.7 %
      Promotion & sales                           7,782           6,623        -14.9 %
      General and administrative                  7,325           7,110         -2.9 %
      Depreciation and amortization               3,761           2,754        -26.8 %
      Loss on sale of equipment                      --           4,754           --
      Goodwill impairment                         2,391           2,703         13.0 %
      Operating Expenses                        115,143         119,301          3.6 %
      Loss from operations                       (2,847 )       (14,045 )      393.3 %

      Non-Operating Income and (Expense)
      Interest expense                           (1,146 )        (1,306 )       14.0 %
      Loss on extinguishment of debt               (174 )            --       -100.0 %
      Other income                                  227              43        -81.1 %
      Non-Operating Income and (Expense)         (1,093 )        (1,263 )       15.6 %
      Loss before taxes                          (3,940 )       (15,308 )      288.5 %
      Benefit for income taxes                     (834 )          (509 )      -39.0 %
      Net loss                             $     (3,106 )     $ (14,799 )      376.5 %

Operating Statistics. The following table sets forth our major operational statistics and the percentage-of-change for the years identified below.

                                                  Year Ended December 31,        Percent
                                                    2007             2008         Change
 Annual Operating Statistics (unaudited):
 Available seat miles (000's) (1)                    289,297         227,386        -21.4 %
 Revenue passenger miles (000's) (2)                 169,687         127,092        -25.1 %
 Revenue passengers carried                          858,031         629,563        -26.6 %
 Departures flown                                     70,222          56,598        -19.4 %
 Passenger load factor (3)                              58.7 %          55.9 %       -4.8 %
 Average yield per revenue passenger mile (4)   $      0.614       $   0.716         16.6 %
 Revenue per available seat miles (5)           $      0.360       $   0.400         11.1 %
 Operating costs per available seat mile (6)    $      0.385       $   0.511         32.8 %
 Fuel cost per available passenger miles (9)    $      0.089       $   0.133         49.8 %
 Average passenger fare (7)                     $     121.48       $  144.61         19.0 %
 Average passenger trip length (miles) (8)               198             202          2.1 %
 Aircraft in service (end of period)                      35              23        -34.3 %
 Fuel cost per gallon (incl taxes)              $       2.32       $    3.36         44.8 %


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"Available seat miles" or "ASMs" represent the number of seats available for passengers in scheduled flights multiplied by the number of scheduled miles those seats are flown.

"Revenue passenger miles" or "RPMs" represent the number of miles flown by revenue passengers.

"Passenger load factor" represents the percentage of seats filled by revenue passengers and is calculated by dividing revenue passenger miles by available seat miles.

"Average yield per revenue passenger mile" represents the average passenger revenue received for each mile a revenue passenger is carried.

"Revenue per available seat mile" or "RASM" represents the average total operating revenue received for each available seat mile.

"Operating cost per available seat mile" represents operating expenses divided by available seat miles.

"Average passenger fare" represents passenger revenue divided by the number of revenue passengers carried.

"Average passenger trip length" represents revenue passenger miles divided by the number of revenue passengers carried.

"Fuel cost per available seat mile" represents fuel cost divided by the number of available seat miles.

Net Income. The consolidated net loss for the year ended December 31, 2008 was $14.8 million compared to a net loss of $3.1 million for the year ended December 31, 2007. Our net loss in 2008 was affected by three significant non-cash charges; (1) a pre-tax $4.8 million non-recurring charge related to the sale of our fleet of eight Embraer aircraft; (2) a goodwill impairment pre-tax charge of $2.7 million related to the Academy; and (3) a valuation allowance of $4.0 million related to the write-down of deferred tax assets.

In terms of operations, our net loss in 2008 was also significantly affected by the unprecedented rise in fuel prices during 2008, as well as increased maintenance expenses related to engine overhaul expenses for our Embraer aircraft.

Our consolidated net loss for 2007 was $3.1 million and included a goodwill impairment pre-tax charge of $2.4 million related to the Academy.

Operating Income. The consolidated operating loss for 2008 was $14.0 million compared to an operating loss of $2.8 million for 2007. The following table identifies the operating profit impact of each of our respective operating components, including, for 2008, a pre-tax $4.8 million non-recurring charge related to the sale of our fleet of eight Embraer aircraft and a goodwill impairment pre-tax charge of $2.7 million related to the Academy. In 2007, we recognized a goodwill impairment pre-tax charge of $2.4 million related to the Academy.

                                                  Year Ended December 31,
          (In thousands)                            2007             2008
          Airline and charter                          3,101          (6,944 )
          Academy                                     (2,422 )        (3,063 )
          Total income (loss) from operations            679         (10,007 )
          Less: General and administrative             3,526           4,038
          Consolidated loss from operations           (2,847 )       (14,045 )

The operating loss of the Airline and charter operation in 2008 was $6.9 million compared to an operating profit of $3.1 million in 2007. The year over year decline in profitability resulted primarily from the unprecedented rise in fuel prices during 2008, increased maintenance expenses related to engine overhaul expenses for our Embraer aircraft, and the loss on sale of the aircraft, which were sold during the second half of 2008.

Loss on Sale of Property and Equipment. During the third and fourth quarters of 2008, we completed the sale of our fleet of eight Embraer Brasilia aircraft for a total gross purchase price of $12.8 million. As a result of these sales, we raised cash of approximately $5.1 million, net of expenses and the repayment of $7.2 million of senior bank debt during July 2008. As a result of these transactions, the Company recognized a pre-tax loss of $4.8 million during 2008.

Impairment Charge. We review for the impairment of identifiable intangible assets at least annually or whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable in accordance with the provisions of SFAS No. 142, "Goodwill and Other Intangible Assets". Goodwill of $5,094,000 was recorded in connection with the acquisition of the Academy and consisted of the excess of cost over the fair value of net assets acquired.

Operating profits and cash flows of the Academy in 2007 were lower than expected due to the negative impact on enrollment caused by an industry-wide pilot shortage and the resulting lowered hiring minimums required by many regional airlines. Therefore, an impairment charge of $2.391 million was recognized in the Consolidated Statement of Operations for the year ended December 31, 2007.

Operating profits and cash flows of the Academy in 2008 were lower than expected due to the negative impact on student enrollment caused by industry-wide capacity reductions and pilot furloughs due to high fuel prices and a declining economy. Given these circumstances, the remaining goodwill value was eliminated by recognition of an impairment charge of $2.7 million in the Consolidated Statement of Operations for the year ended December 31, 2008.

Revenues. Consolidated revenue decreased 6.3% to $105.3 million in 2008 from $112.3 million in 2007. The overall revenue decrease was due principally to a 21.4 % capacity reduction in 2008 that led to a 15.1% decline in passenger revenue during 2008, offset by the inclusion of $8.0 million of charter revenue during 2008 resulting from the consolidation of our Cuba charter business as a variable interest entity effective January 1, 2008. During 2007, only the operating profit from the Cuba charter business was included as Charter and other revenue. The following table identifies the revenue contribution from each of our operating components.

                                            Year Ended December 31,        Percent
       (In thousands)                         2007             2008         Change
        Revenue
       Airline passenger revenue          $    104,230       $  88,527        -15.1 %
       Essential Air Service                       --            2,512          --
       Charter and other revenue                 5,345           5,215         -2.4 %
       Cuba charter                                836           7,987        855.4 %
       Academy                                   3,768           2,712        -28.0 %
       Intercompany revenue elimination         (1,883 )        (1,697 )       -9.9 %
       Total Revenue                      $    112,296       $ 105,256         -6.3 %

Airline Passenger Revenue. Airline passenger revenue decreased 15.1% for 2008 compared to 2007. This decrease was primarily attributable to a 26.6% decrease in the number of passengers carried, partially offset by a 19.0% increase in average fares.

We reduced our available seat mile capacity for 2008 by 21.4% compared to 2007. Our average passenger fare increased during 2008 to $144.61 from $121.48 during 2007. Increased fares and excess baggage fees helped to offset higher fuel prices. They also contributed, along with capacity reductions, to a decline in the number of passengers flown.

Charter, Cuba Operations and Other Revenue. Revenue from charter and other revenue decreased 2.4% to $5.2 million for 2008 from $5.3 million for 2007. Revenue from Cuba charter operations was $8.0 million for 2008 compared to $0.8 million for 2007. This overall increase was due primarily to a change in accounting treatment effective January 1, 2008 relating to the consolidation of the Cuba charter business as a variable interest entity. The change resulted in . . .