Israel information technology report q3 2014

... International Page 32 Israel Information Technology Report Q3 2014 of the Ministry of Finance and has many of the same goals as Digital Israel However, Carmel Avner, Israel' s first chief information officer... Page 36 Israel Information Technology Report Q3 2014 Vendor Performance Israel PC Browsing Traffic By OS (%) And Y-o-Y Change (pps) The Israeli PC market has undergone significant April 2014 changes... 43 Israel Information Technology Report Q3 2014 IT Services Market 2011-2018 15,000 15 10,000 10 5,000 0 2011 2012 2013e 2014f 2015f 2016f 2017f 2018f Israel - Services sales, ILSmn (LHS) Israel

Q3 2014 www.businessmonitor.com ISRAEL INFORMATION TECHNOLOGY REPORT INCLUDES 5-YEAR FORECASTS TO 2018 ISSN 1752-4245 Published by:Business Monitor International Israel Information Technology Report Q3 2014 INCLUDES 5-YEAR FORECASTS TO 2018 Part of BMI’s Industry Report & Forecasts Series Published by: Business Monitor International Copy deadline: May 2014 Business Monitor International Senator House 85 Queen Victoria Street London EC4V 4AB United Kingdom Tel: +44 (0) 20 7248 0468 Fax: +44 (0) 20 7248 0467 Email: subs@businessmonitor.com Web: http://www.businessmonitor.com © 2014 Business Monitor International All rights reserved. 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All information is provided without warranty, and Business Monitor International makes no representation of warranty of any kind as to the accuracy or completeness of any information hereto contained. Israel Information Technology Report Q3 2014 CONTENTS BMI Industry View ............................................................................................................... 7 SWOT .................................................................................................................................... 9 IT SWOT .................................................................................................................................................. 9 Wireline SWOT ....................................................................................................................................... 11 Political ................................................................................................................................................. 12 Economic ............................................................................................................................................... 13 Business Environment .............................................................................................................................. 14 Industry Forecast .............................................................................................................. 15 IT Market ............................................................................................................................................... 15 Table: IT Industry - Historical Data And Forecasts (loccur mn) (Israel 2011-2018) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15 Broadband ............................................................................................................................................. 20 Internet ................................................................................................................................................ 20 Table: Telecoms Sector - Wireline - Historical Data & Forecasts (Israel 2011-2018) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20 Macroeconomic Forecasts ............................................................................................... 22 Table: Israel - Economic Activity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27 Industry Risk Reward Ratings .......................................................................................... 28 Table: Middle East And Africa RRRs - Q3 2014 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31 Market Overview ............................................................................................................... 32 Hardware ............................................................................................................................................. 32 Software ............................................................................................................................................... 38 Services ................................................................................................................................................ 42 Industry Trends And Developments ................................................................................ 46 Regulatory Development .................................................................................................. 50 Table: IT Regulatory Authorities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 50 Table: Government Initiatives . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53 Competitive Landscape .................................................................................................... 54 International Companies ......................................................................................................................... 54 Table: Intel . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 54 Local Companies ................................................................................................................................... 55 Table: Amdocs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 55 Table: Check Point . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 56 Table: Imperva . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 57 Table: Retalix . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 58 Company Profile ................................................................................................................ 59 Ness ...................................................................................................................................................... 59 © Business Monitor International Page 4 Israel Information Technology Report Q3 2014 Matrix ................................................................................................................................................... 64 Regional Overview ............................................................................................................ 68 Table: OSN Recent Content Developments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 69 Demographic Forecast ..................................................................................................... 73 Demographic Outlook .............................................................................................................................. 73 Table: Israel's Population By Age Group, 1990-2020 ('000) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 74 Table: Israel's Population By Age Group, 1990-2020 (% of total) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 75 Table: Israel's Key Population Ratios, 1990-2020 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 76 Table: Israel's Rural/Urban Population Split, 1990-2020 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 76 Methodology ...................................................................................................................... 77 Industry Forecast Methodology ................................................................................................................ 77 Sources ................................................................................................................................................ 78 Risk/Reward Ratings Methodology ............................................................................................................ 79 Table: It Risk/Reward Ratings Indicators . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 80 Table: Weighting Of Components . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 81 © Business Monitor International Page 5 Israel Information Technology Report Q3 2014 BMI Industry View BMI View: Israel's IT market is the most developed in the Middle East with a rich ecosystem of major global investors, start-ups and universities engaged in cutting edge research. These features compensate for the relatively small and mature market that drags growth rates below those of many other MEA markets. We forecast IT spending to reach ILS23.4bn in 2014, with the software and services segments outperforming hardware sales. We forecast IT spending to continue growing throughout our five-year forecast period to 2018, accelerating in the later years as GDP and private consumption growth recover from government austerity measures imposed in 2013. The market will increasingly be driven by software and services in key sectors such as government, defence and financial services, resulting in IT services accounting for 36.8% of overall market spending by 2018. Headline Expenditure Projections Computer Hardware Sales: ILS9.55bn in 2013, rising 2% in local currency terms to ILS9.75bn in 2014. We expect a return to growth in 2014 to be driven by the launch of 4G mobile networks and ongoing migration to the Windows 8 OS. Software Sales: ILS5.1bn in 2013, increasing 4.5% y-o-y to ILS5.3bn in 2014. Enterprise software spending will be the main growth driver as device and data proliferation will result in increased spending on customer relationship management (CRM), databases and business intelligence. IT Services Sales: We expect IT services sales will continue to outperform the rest of the IT market, increasing from ILS7.9bn in 2013 to ILS8.3bn in 2014. Cyber security services will outperform in terms of growth, but it will be stable sectors such as government and defence that continue to account for the majority of spending. Key Trends And Developments ■ The growing emphasis of many multinational IT vendors on software and services revenues has led several of them to direct more investment in R&D at the Israeli market. Israel's strong reputation as a hotbed for innovative software development has made Israeli companies popular takeover targets for multinationals. In April 2014, IBM announced the launch of its Alpha Zone technology accelerator in Tel Aviv, which will recruit start-ups to grow technologies across several areas, including big data, cloud, mobile, security and the Internet of Things. Meanwhile, in the month before US-based Palo Alto Networks confirmed the acquisition of privately held, Tel Aviv-based cyber security firm Cyvera. The financial terms of the acquisition were not confirmed, but industry experts expect the total value of the transaction was around USD200mn. © Business Monitor International Page 7 Israel Information Technology Report Q3 2014 ■ In April 2014 Israeli economic minister Naftali Bennett stated that Intel plans to invest around USD6bn to upgrade its Kiryat Gat chip plant. At the time of writing the company had not yet officially confirmed the investment, but the development is in line with talks between the government and Intel in January 2014 on its investment plan for the country over the coming decade. According to media reports, the Ministry of Economy's Investment Center is poised to offer Intel a grant of 5% of the company's investment, approximately ILS750mn. © Business Monitor International Page 8 Israel Information Technology Report Q3 2014 SWOT IT SWOT SWOT Strengths ■ Home to the most well developed economy and IT market in the region with major local IT companies based in the country, a highly educated, linguistically skilled workforce, and relatively low labour costs compared with developed markets. ■ Strong defence and government spending provides base for IT demand. ■ Strong political support, with the government having implemented many policies to aid in the development, success and expansion of the IT sector. ■ Investment in FTTH and wireless data networks provide basis for cloud computing growth and internet of things expansion. Weaknesses ■ The recession at the beginning of the 2000s focussed customers on the bottom line, with enhanced services and customer market power adding to pressure on pricing and margins. Opportunities ■ Digital divide, with just 30% of bottom-income group having home internet access. ■ Cyber security threats should attract increased spending on safeguards as the concerns of government and enterprises escalate. ■ Growing demand for tablets and other mobile computing devices such as hybrids and ultrabooks. ■ Despite the financial crisis, the financial services sector, which accounts for around 15% of spending, will have to spend on compliance with new Israeli Securities Authority regulations, introduced in the wake of the economic crisis. ■ Defence and government projects should be less sensitive to fiscal retrenchment, with a major datacentre project under way for the Israel Defense Force. ■ Outsourcing, Software-as-a-Service (SaaS) and applications management likely to grow fastest out of IT services, with particular opportunities in financial sector. © Business Monitor International Page 9 Israel Information Technology Report Q3 2014 SWOT - Continued Threats ■ Opportunities for partnership/investment in Israel's lively local IT company sector. ■ Government austerity measures will dampen consumer and business spending. ■ Other factors may affect business confidence, notably the security situation. ■ The weaker local currency, and aggressive pricing, may continue to constrain growth and put pressure on margins. © Business Monitor International Page 10 Israel Information Technology Report Q3 2014 Wireline SWOT SWOT Strengths ■ Well developed internet/broadband sector compared with regional peers. ■ Fixed-line liberalisation has led to increased competition and the erosion of incumbent market share. ■ Incumbent operator Bezeq faces strong completion from HOT Telecom, which has recently entered the mobile market. Weaknesses Opportunities ■ Internet infrastructure is currently controlled by Bezeq and HOT Telecom. ■ Regulator has been slow to license new services eg WiMAX wireless broadband. ■ VoIP licensing and triple-play for Bezeq placed on hold could hinder prospects. ■ Introduction of LLU will give alternative operators access to Bezeq's network and should stimulate much greater competition. ■ Regulator is proposing a 76% reduction in fixed line interconnection fees; this could stimulate increased service usage. ■ The ViaEurpoa-led consortium building a fibre network over the Israel Electric Corporation (IEC) infrastructure would provide competition for Bezeq and HOT, and ultimately boost growth in the market. Threats ■ Continued reduction of internet tariffs could have devastating effect on revenues. ■ Fixed broadband growth is slowing as mobile broadband services become increasingly popular. ■ Operators, Bezeq in particular, have resisted the introduction of number portability, which could lead to a price war and thus drive down mobile revenues. © Business Monitor International Page 11 Israel Information Technology Report Q3 2014 Political SWOT Analysis Strengths ■ Despite corruption allegations against some officials and members of parliament, government members are still some of the most accountable in the region. ■ Elections are for the most part free and transparent, ensuring that a broad spectrum of political views is represented within government. Weaknesses ■ The protracted conflict with the Palestinians means there are persistent security risks. Strategies to minimise or end the conflict are domestically divisive, with tensions between Israel and Hamas set to remain elevated. ■ Frequent change to the composition of the coalition government often leads to policies becoming fragmented or significantly diluted. Opportunities ■ With the civil war in Syria continuing, risks of a spill over into Israel are ever-present. ■ A warming of relations with Greece has given Israel the ability to engage in military exercises over a larger geographic area. Threats ■ The victory of Hamas in the 2006 Palestinian elections, its subsequent takeover of the Gaza Strip and Israel's military incursion into the territory in December 2008/January 2009 have added to uncertainty. Despite ongoing peace talks, finding a lasting solution continues to pose a dilemma for Israel. ■ Continued home-building in some West Bank settlements antagonises the Palestinians and stands in the way of the peace process. © Business Monitor International Page 12 Israel Information Technology Report Q3 2014 Economic SWOT Analysis Strengths ■ The policy framework has stabilised in recent years, and recent austerity measures will help to keep the fiscal deficit under control over the coming years. ■ The workforce is highly educated and skilled. ■ The country's close ties with the US provide it with substantial financial assistance for economic and military ends. Weaknesses ■ The main downside risk to the economy is the security situation. A sharp deterioration can have an immediate impact on domestic confidence, tourism receipts, the exchange rate and foreign investment. ■ The economy is highly exposed to that of the US and Europe in terms of exports and investment. Opportunities ■ In the long term, relatively elevated levels of employment will underpin private consumption growth. ■ Israel produces more technology start-up companies than any other country in the world except the US. ■ The discovery of large offshore gas deposit will bring an influx in foreign investment and is expected to serve the country's energy needs for decades. Threats ■ Appreciatory pressures on the Israeli shekel risk damaging the country's exports. That said, risks will remain contained by the Bank of Israel's commitment to intervene in the forex market to stem excessive appreciation of the unit. ■ Competition from emerging Chinese and Indian producers of high-tech goods and polished diamonds could undermine demand for Israeli exports. © Business Monitor International Page 13 Israel Information Technology Report Q3 2014 Business Environment SWOT Analysis Strengths ■ The business environment is supported by sound infrastructure and communication networks, as well as transparent legislation. ■ The banking system is one of the most sophisticated in the region, and offers a wide range of both consumer and commercial credit products. Weaknesses ■ Historic political instability increases the risk premium of investment in Israel. ■ Some limits on repatriation of capital exist and there are constraints on foreign investment in the high-tech sector. Opportunities ■ The beginning of offshore exploration will increase foreign direct investment in the country. Threats ■ Strike action has proved extremely disruptive to the business environment in 2011, and could regain strength in 2014. ■ The parliament approved a plan to increase the country's oil and gas royalties, which could reduce energy profits in the future. © Business Monitor International Page 14 Israel Information Technology Report Q3 2014 Industry Forecast IT Market Table: IT Industry - Historical Data And Forecasts (loccur mn) (Israel 2011-2018) Country 2011 2012 2013e 2017f 2018f 20435.7 22299.5 22576.0 23354.8 24607.9 26490.5 27698.4 28895.0 Israel IT market value, ILSmn Israel IT market value, % of GDP 2.3 2.4 2.3 Israel Computer hardware sales, ILSmn 8877.3 9560.8 Israel Personal computer sales, ILSmn 7208.4 Israel Software sales, ILSmn Israel Services sales, ILSmn 2014f 2.3 2015f 2.3 2016f 2.3 2.3 2.2 9550.3 9745.0 10124.7 10743.3 11233.0 11718.2 7839.9 7907.6 8068.9 8383.2 8895.4 9301.0 9702.7 4540.8 5004.4 5117.3 5346.7 5689.8 6186.3 6369.6 6541.6 7017.6 7734.2 7908.4 8263.1 8793.5 9560.9 10095.8 10635.2 e/f - BMI estimate/forecast. Source: BMI We continue to hold the view that the Israeli IT market will experience only limited growth over the medium term and will decline as a percentage of GDP. This is a product of saturation of the hardware and software/services market and price competition between vendors, which will hold down the overall value of the market. Nevertheless, Israel remains at the forefront of development of security services and continues to attract investment in research and development centres from global IT firms. We believe the IT market reached a value of ILS22.6bn in 2013, equal to around US$6.3bn. Despite our expectations of relatively weak growth in 2013 and 2014, we maintain an optimistic outlook for Israel's IT market over the long term. Israel remains a robust IT market with plenty of development across industrial, government, defence and financial services spending. Our five-year CAGR sees growth around 5.1% in Israeli new shekel terms for the period from 2014-2018. We expect IT services will be the fastest growing segment of the IT market, narrowly ahead of software, with both growing fast relative to hardware. In terms of key verticals, the financial services sector is important, boosted by compliance requirements with the new regulations introduced in the wake of the economic crisis in 2008-2009. Defence and government will also continue to maintain the market's sustained importance to the overall economy, with security an important source of growth. The nature of sales will change, however, as business becomes increasingly important and the hardware segment © Business Monitor International Page 15 Israel Information Technology Report Q3 2014 contributes comparatively less to the market's overall growth. Given Israel's relatively rich tech skills resource base, many organisations prefer to conduct software development in-house. 2014 Outlook Industry Trends - IT Market We project real GDP growth of 3.2% in Israel in 2011-2018 2014, then forecast slow but steady acceleration in GDP growth throughout our forecast period, reaching 5.1% in 2018. BMI's Country Risk team 40,000 2.5 2.4 30,000 does not expect consumer confidence to drop sharply in 2014, but forecast relatively weak expansion of 2.3 20,000 2.2 private consumption growth at 3.2% in 2014, mainly 10,000 2.1 as a result of the implementation of austerity measures by the government. Although there is now 2 0 2011 2012 2013e 2014f 2015f 2016f 2017f 2018f a reduced likelihood of an attack on Syria and Iran, political risk in Israel is still high, as the chances of IT market value, ILSmn (LHS) IT market value, % of GDP (RHS) renewed conflict with Hamas and Hizbullah remain significant. e/f = BMI estimate/forecast. Source: BMI While government austerity and political instability has weighed on Israel's economic outlook, we believe there will nonetheless be opportunities for vendors in the IT market. One such opportunity is in the provision of cyber and information security products and services. This is a growth area in IT markets globally, but there is a particularly large opportunity in Israel where regional political tensions and the uptick in cyber attacks in 2012 and 2013, affecting Israel, UAE and Saudi Arabia, have concentrated the minds of government and enterprise decision makers on investments to protect their IT systems. Other areas where we expect to see growth include business intelligence and cloud computing, with the latter likely to gain traction among SMEs as a lower cost alternative to bespoke systems. Meanwhile sales of hardware and software will receive a boost from Windows-8 driven upgrades and computer purchases previously delayed as a result of the economic situation. The move to mobility and new form factors such as tablets, hybrids and ultrabooks will help to drive demand in the consumer segment, while to some extent undermining demand for traditional notebooks. Meanwhile, despite the challenging trading conditions, vendors have reported a continued flow of IT projects, with large tenders from the Israeli ministries of finance and defence and the Israel Electric © Business Monitor International Page 16 Israel Information Technology Report Q3 2014 Company. Following the global financial crisis, vendors reported demand had revived in the key financial services vertical, with new projects including an US$11mn IT outsourcing tender by the First International Bank of Israel. Healthcare, the public sector and utilities were also generating new projects or significant contract extensions. Market Drivers The Israeli IT market has several supportive fundamentals that should keep it in positive territory during BMI's five-year forecast period to 2018. Although household computer penetration of around 75% offers only limited potential for growth derived from first time buyers, there are several factors pushing multiple device ownership. Innovation in form factors, including tablets and hybrids will push sales of personal devices. Meanwhile, investments by telecoms operators to expand the reach of high capacity wireless and wireline broadband services will catalyse demand for personal devices. Spending will continue to move away from desktops as more consumers acquire personal devices such as tablets - which may also cut into spending on notebooks. Per capita IT spending is expected to rise from ILS2,986 in 2014 to ILS3,496 by 2018. However, spending will fail to keep pace with GDP growth in Israel as the economy becomes less heavily weighted towards the high-tech sector following gas exploration and growth in other sectors. Some key IT spending verticals will however keep pace, for instance defence and financial services, which are somewhat insulated from economic vicissitudes. Vendors will target projects across a range of sectors from government to financial services, telecoms and utilities. Regulatory compliance will continue to necessitate IT spending by banks and the financial services sector, which accounts for about 15% of Israeli IT spending. Another 50% of IT spending is accounted for by government and military projects, which will have a relatively low sensitivity to economic downturn compared with the commercial sector. Government IT and digital-divide initiatives are important sources of opportunity for vendors, with recent projects ranging from government e-services portals to healthcare. The government remains determined to preserve the country's status as a high-tech powerhouse and drive development of the knowledge economy. While the defence sector is, and is expected to remain the single most important vertical, investments by financial sector organisations should mean more large outsourcing deals. Other sectors of opportunity will include healthcare and telecoms, as well as infrastructure, transport and the small office and home office sector. © Business Monitor International Page 17 Israel Information Technology Report Q3 2014 Income Per Capita Breakdown (2011-2018) 75,000 50,000 25,000 0 2011 2012 2013e 2014f 2015f 2016f 2017f 2018f Poorest 20%, net income per capita, ILS Richest 20%, net income per capita, ILS Middle 60% of population, net income per capita, ILS National Sources/BMI Opportunities BMI expects IT services will display the highest growth over the forecast period to 2018, due to growth in key verticals and the opportunities presented by cloud computing, big data analytics and real-time enterprise services based on the internet of things. In addition, growing enthusiasm for outsourcing is putting Israel on the map, with some recent large tenders such as HP's contract for outsourced management of the Israeli navy's IT infrastructure. The economic slowdown may reinforce this trend. As noted, cloud computing is expected to be a source of revenue growth over the medium term as organisations looking for efficiencies turn to Software-as-a-Service and Infrastructure-as-a-Service. Particular areas of opportunity for cloud computing include banking and retail, as organisations in those fields look to save money on hardware. While large organisations still dominate, SMEs have been investing more and represent a growth opportunity. Many SMEs are waking up to the need to compete through more direct investment in support © Business Monitor International Page 18 Israel Information Technology Report Q3 2014 and service infrastructures. Cloud computing is a field which could gain traction with SMEs as the ondemand model fits well with their smaller budgets and lack of demand for bespoke in-house solutions and software. Summary The Israeli economy remains vulnerable to global economic headwinds, with an escalation of risk particularly around events in the eurozone. Despite these storm clouds BMI believes IT spending has sufficient strength in key demand verticals to maintain a positive trajectory over the medium term. However, we do not expect growth to keep pace with GDP as market saturation and price competition between vendors limit increases in the total value of the market. The hardware market is forecast to grow from ILS9.6bn in 2013 to ILS11.2bn in 2017, with PC sales projected to rise from an estimated ILS7.9bn to ILS9.3bn. While growth will remain strong, the market will be increasingly dominated by IT service sales and software sales, indicating the maturity of the market. © Business Monitor International Page 19 Israel Information Technology Report Q3 2014 Broadband Internet Table: Telecoms Sector - Wireline - Historical Data & Forecasts (Israel 2011-2018) 2011 Main telephone lines in service, '000 46.4 2014f 2015f 2016f 2017f 2018f 47.0 47.4 47.3 46.5 45.4 44.7 44.4 4721.5 4894.7 5326.5 5631.8 5857.1 6043.9 6186.0 6294.5 Internet users/100 inhabitants Broadband internet subscribers, '000 2013e 3500.0 3594.0 3665.2 3702.2 3681.8 3646.8 3642.5 3668.3 Main Telephone Lines/100 Inhabitants Internet users, '000 2012 62.6 64.0 68.9 72.0 74.0 75.3 76.0 76.1 1800.0 1950.0 2131.4 2240.0 2318.5 2385.7 2440.6 2482.0 Broadband internet subscribers/100 Inhabitants 23.9 25.5 27.6 28.6 29.3 29.7 30.0 30.0 e/f = BMI estimate/forecast. Source: BMI, operators We have revised our forecast for the development of Israel's internet user and broadband subscriber Industry Trends - Wireline Sector markets based on new data from the country's 2011-2018 service providers. We revised down our YE13 estimate for the number of internet users to 5.33mn, giving Israel a penetration rate of 68.9%. We expect 4,000 3,000 steady, but slowing, growth in the number of internet users to continue for the duration of our forecast, resulting in 6.295mn internet users in 2018, 2,000 1,000 equivalent to a penetration rate of 76.1%. 0 2011 2012 2013e 2014f 2015f 2016f 2017f 2018f Meanwhile, owing to a lack of reliable data on the number of mobile broadband subscribers Main telephone lines in service, '000 Broadband internet subscribers, '000 (specifically those subscribers who use USB dongles and data cards to access the internet via laptops, PCs and smartphones), our forecast for the Israeli e/f = BMI estimate/forecast. Source: BMI, operators broadband sector is currently based on fixed broadband connections only. Data published by incumbent telecoms operator Bezeq and alternative operators HOT and Partner Communications suggests that the number of fixed broadband subscribers had increased to around 2.131mn at the end of 2013, up by 9.3% year-on-year (y-o-y). BMI believes that, © Business Monitor International Page 20 Israel Information Technology Report Q3 2014 by the end of 2014, Israel's broadband subscriber base will have risen to 2.24mn; this is equivalent to a penetration rate of 28.6% and reflects full year growth of 5.1%. Over the next five years ending 2018 we envisage average annual growth of around 3.1% for the Israeli broadband sector. This will see the subscriber base reach 2.48mn subscribers, equivalent to a penetration rate of 30.0%. We expect the growing popularity of mobile broadband services to result in slowing demand growth in the fixed broadband sector. Nevertheless, we identify several developments which will sustain fixed broadband growth for the duration of our forecast and beyond. These include the launch of wholesale broadband services by the ViaEuropa-led consortium building a fibre network over the Israel Electric Company (IEC) infrastructure and Bezeq's ongoing deployment of its fibre-to-the-cabinet (FTTC), a development which is helping to drive capacity for its residential and corporate customers' broadband access. Meanwhile, recent months have seen considerable reductions in the price of broadband tariffs being offered by the major operators. Another development likely to stimulate growth is the introduction of LLU, which will give alternative operators access to Bezeq's network and will stimulate much greater competition. © Business Monitor International Page 21 Israel Information Technology Report Q3 2014 Macroeconomic Forecasts BMI View: We forecast real GDP growth in Israel of 3.2% and 3.5% in 2014 and 2015, respectively. The domestic economy will remain in a soft patch, while accelerating growth in the eurozone and the US will lead to an improvement in net exports. Increasing exports underpin our relatively bullish medium-term outlook for the economy. Recently released data reaffirms our view that growth in Israel will remain sluggish in 2014. Real GDP growth in seasonally adjusted terms came in at 3.3% y-o-y in Q313, compared to growth of 3.6% in H213. Moreover, estimates by the Bank of Israel (BoI) put annual growth in Q413 at only 2.3% y-o-y. Although we see exports and fixed investment growth picking up over the coming quarters, domestic economic growth will remain sluggish. We project real GDP to increase by 3.2% and 3.5% in 2014 and 2015, respectively, compared to our estimate of 3.3% growth in 2013. A moderation of austerity policies over the coming years, coupled with increasing exports and a subsequent acceleration in fixed investment growth, will ensure that the headline growth print accelerates over the coming years. We forecast real GDP growth averaging 4.0% over the 2014-18 period. © Business Monitor International Page 22 Israel Information Technology Report Q3 2014 Fixed Investment Picking Up Israel - Components Of Real GDP, % chg y-o-y Source: BMI, Central Bureau of Statistics Israel Private Consumption Outlook Private consumption expanded by 4.7% y-o-y in seasonally adjusted terms in Q313, compared to growth of 3.3% in H113. We expect the acceleration in growth of the component, which was largely a result of low base effects, to moderate over the coming quarters, and we forecast private consumption averaging 3.2% in 2014 and 3.5% in 2015. We have slightly increased our 2014 forecast from 3.0% previously, mainly as the government decided at the end of 2013 to slash plans to hike income taxes, a measure which was due to come into effect on January 1 2014. That said, government spending will remain modest in 2014, which will continue to hit consumer demand. In particular, while the private sector will likely benefit from increasing exports over the coming quarters, the government's austere policy stance will weigh on the expansion of private sector employment, and the public sector will also provide little additional employment opportunities. As a result, we forecast the unemployment rate in Israel to average 6.7% and 6.5% in 2014 and 2015, respectively, compared to 6.4% in 2013. A further indication of sluggish private consumption growth is provided by Bank Hapoalim consumer © Business Monitor International Page 23 Israel Information Technology Report Q3 2014 confidence index (CCI). The indicator averaged 122.4 points in 2013, a 4.2% decline compared to 127.8 in 2012, and we expect confidence to remain low over the coming quarters. Still Dovish In 2014 Israel - CPI Vs Policy Rate Source: BMI, Bank of Israel On the upside, the inflationary environment and the BoI's loose monetary policy will go some way towards supporting household spending. We forecast headline consumer price inflation averaging 1.6% in 2014, from 1.5% in 2013. The BoI cut benchmark interest rates by 25 basis points to 0.75% on February 24, and we expect another 25 basis points cut to take place in 2015 (see 'Another Cut Likely In 2015', February 25). Government Spending Outlook Government consumption averaged 3.2% y-o-y in seasonally adjusted terms over the first three quarters of 2013, compared to 3.4% in 2012. We expect modest growth in the component over the coming quarters, as the government seeks to reduce the burden of public services on the fiscal coffers. We project government consumption expanding by 2.8% and 3.0% in 2014 and 2015, respectively. © Business Monitor International Page 24 Israel Information Technology Report Q3 2014 Fixed Investment Outlook Fixed capital formation increased by 3.4% y-o-y in seasonally adjusted terms in Q313, compared to a yearon-year contraction of 4.1% in H113. We expect the ongoing rebound in growth within the component to continue in 2014, and we forecast gross fixed capital formation expanding by 3.0% in both 2014 and 2015, compared to our estimate of a 1.0% contraction in 2013. In particular, developments in the energy sector will prompt the construction of new gas transmission and power generation infrastructure over the coming quarters. A ruling from the Israeli Supreme Court in October 2013 confirmed a previous decision to allow the export of 40% of the country's natural gas reserves, while 60% is to be maintained for domestic consumption. Following the decision, companies involved in Israel's offshore oil dealings, particularly with the Tamar and Leviathan fields, are now in the position to move forward with their export development plans. Firmly In The Black Israel - Net Exports Source: BMI. f= BMI Forecasts © Business Monitor International Page 25 Israel Information Technology Report Q3 2014 Net Exports We see Israel's net export position coming in surplus to the tune of ILS13.7bn (US$3.9bn) and ILS15.8bn in 2014 and 2015, respectively, from an estimated deficit of ILS12.4 in 2013. Total exports fell by 3.2% y-o-y in Q313, compared to average quarterly growth of 0.7% in H113 and 1.0% in 2012. However, foreign trade data indicate that goods exports renewed their increase in January, after a temporary decline in December, primarily in high technology and medium-high technology industries. Medium-Term Outlook Encouraging Israel - Components Of GDP (ILSbn) & Real GDP Growth, % chg y-o-y Source: BMI, Central Bureau of Statistics Israel. f= BMI Forecasts. We expect export growth to rebound in 2014 due to a combination of low base effects and accelerating growth in the eurozone and the US - which together accounted for approximately 48% of Israel's exports in 2013. We forecast the economy in the eurozone expanding by 1.0% in 2014, compared to a 0.4% contraction in 2013, while we see real GDP growth in the US increasing 2.8% in 2014 from 1.9% growth in 2013. Our longer term outlook for exports is also benign, particularly as a result of the beginning of gas exports for the Leviatan and Tamar gas fields. © Business Monitor International Page 26 Israel Information Technology Report Q3 2014 We expect only small quantities of energy exports to take place over the next few years. As an illustration, US oil and gas major Noble Energy signed in February a gas sales agreement with Jordan-based companies NBL Eastern Mediterranean Marketing (an affiliate of Arab Potash Company) and the Jordan Bromine Company to supply natural gas from the Tamar field. Supplies are expected to begin in 2016, once the required pipeline infrastructure is complete, with an agreement for an initial term of 15 years and a total gross contract quantity of approximately 66 billion cubic feet of natural gas. Much larger-scale exports will in our view begin from 2018 onwards, particularly should political obstacles relating to building a pipeline to export gas to Turkey be overcome, which will result in an uptick in the headline growth print in the same year. Imports increased by 2.0% in Q313, having declined by 6.7% y-o-y in seasonally adjusted terms in H113. Given low base effects and our belief that fixed investment and export growth will accelerate, we forecast total imports increasing by 3.0% in both 2014 and 2015, from our estimate of a 3.0% contraction in 2013. Table: Israel - Economic Activity 2009 2010 2011 2012e 2013e 2014f 2015f 2016f 2017f 2018f Nominal GDP, ILSbn 3 772.8 832 881.3 920.8 967.5 1,013.7 1,068.1 1,139.0 1,220.1 1,318.4 Nominal GDP, US $bn 3 196.7 222.9 246.3 238.9 268 286.3 303.4 325.4 348.6 376.7 Real GDP growth, % y-o-y 3 1.1 5 4.6 3.4 3.3 3.2 3.5 4 4.2 5.1 27,047 30,035 32,659 31,255 34,660 36,608 38,314 40,536 42,802 45,571 Population, mn 4 7.3 7.4 7.5 7.6 7.7 7.8 7.9 8 8.1 8.3 Industrial production, % yo-y, ave 1,3 -5.9 8.1 7 3.2 -1.5 2.6 2.9 5.7 7 7 Unemployment, % of labour force, eop 2,3 7.2 6.6 5.4 6.7 5.9 6.7 6.5 6.5 6.4 6.4 GDP per capita, US$ 3 Notes: e BMI estimates. f BMI forecasts. 1 Seasonally adjusted; 2 Seasonally adjusted, methodology was adjusted in 2012. Sources: 3 Central Bureau of Statistics/BMI; 4 World Bank/UN/BMI. © Business Monitor International Page 27 Israel Information Technology Report Q3 2014 Industry Risk Reward Ratings BMI View: We forecast strong growth in the IT sector of the 13 countries in our MEA IT RRRs, albeit due to low base effects in some cases, on the back of robust economic growth, rapid development of broadband infrastructure, and various government-led ICT initiatives and projects. We also retain the view that governments and corporate organisations will remain the biggest buyers of IT products and services, although we expect rising income levels and shifts towards cloud-based software platforms to stimulate consumer demand in the latter states of our forecast period ending in 2018. BMI's MEA IT RRRs compare the potential of a selection of the region's markets based on our consideration of the market opportunities, political and economic risks, as well as industry-specific risks such as IT intellectual property (IP) rights protection and the implementation of state spending projects. Qatar retains the number one position on our table while Kenya is still the lowest ranked country in 13th position. The regional average aggregate score fell marginally this quarter from 54.2 in Q214 to 53.8 owing to the changes in the average scores in all four categories - Industry Rewards, Country Rewards, Industry Risks and Country Risks - of our ratings. The industry rewards and country risks scores declined this quarter, while the regional average of the country rewards and industry risks scores improved relative to the previous quarter. The changes in the aggregate scores of some countries resulted in two changes in the bottom half of our rankings. The first change was Nigeria moving ahead of Oman into 8th position while the second was Lebanon moving ahead of Ghana into 11th. Industry Rewards Nigeria and South Africa are outperformers in the industry rewards category with scores of 63.3 and 61.7 respectively. This reflects the strong growth prospects of their respective IT markets, partly driven by increasing economic activities and growing consumer demand for IT products and services, particularly laptops and cloud-based software products. Nigeria's IT sector is projected to record double-digit growth over the medium term, driven by the corporate segment, while South Africa remains a key regional market for investors given the maturity of key industry verticals such as financial services, retail and transportation. There is a wide gap between the highest and lowest scores of the GCC countries in this category, with Bahrain and Oman underperforming their regional peers. UAE and Qatar, the two highest ranked GCC countries in the industry rewards category, are set to experience sustained growth over the next decade on © Business Monitor International Page 28 Israel Information Technology Report Q3 2014 the back of increased investments in infrastructure, logistics, hospitality, transportation, and other relevant sectors in the run-up to the hosting of two major events - the Dubai 2020 World Trade Expo and the 2022 FIFA World Cup in Qatar. Bahrain and Oman's weak performances reflect sluggish IT market growth and considerably smaller IT market sizes compared to other countries in the region. Country Rewards Israel and the GCC countries perform strongly in the country rewards category mainly due to relatively high urbanisation rates and GDP per capita. These factors, BMI believes, are important gauges for the level of consumer demand for IT products and services in any given market. High urbanisation rates often translate to greater internet access and IT usage among residents, while high income levels also point to the ability of a greater proportion of the population to purchase expensive IT products and services. However, these factors must be counterbalanced against the population size and, therefore, long-term growth potential of a market considering that most high income and predominantly urban markets have relatively smaller populations. Qatar, Kuwait, the UAE and Israel had the highest GDP per capita at the end of 2013, at approximately USD84,000, USD54,000, USD45,000 and USD35,000 respectively, according to BMI data. However, the UAE misses out on a higher score in this category as around 16% of the population live in rural areas, compared 8% in Israel and less than 2% in Kuwait and Qatar. As a result, we highlight the long-term growth potential of countries such as Nigeria, Egypt, South Africa and Kenya, all of which have more than 40mn residents but GDP per capita of less than USD10,000. These countries, along with Ghana, have the lowest scores in the country rewards category. Kenya's score is further compounded by its predominantly rural population. Kenya, with a score of just 10, had a GDP per capita of around USD980 in 2013, while 75% of the country's population live in rural areas. With such low purchasing power among the country's consumers, the IT market will continue to depend on government spending and businesses in the few major cities in the country. Industry Risks IT investors and vendors face elevated IP risks in MEA, driven by a combination of economic and political factors. On the economic front, the relatively low income levels in many countries suggest a high demand for low-cost products, which, in most cases, are counterfeited or pirated. On the political front, some governments in the region have not shown sufficient commitment towards stopping the local production or importation of counterfeit products. Some IT vendors have taken steps to counter this risk, such © Business Monitor International Page 29 Israel Information Technology Report Q3 2014 as Microsoft's migration to cloud-based software and HP's counterfeiting deterrent measures in printers and other accessories. Some of the wealthy GCC states and Israel have the highest scores in this category, as higher income levels reduce appetite for counterfeit products while well developed formal distribution channels make it easier for vendors to reach customers. Furthermore, these countries are implementing clearly defined ICT policies aimed at increasing the contribution of that sector to overall economic growth. In many cases, these policies provide protection for IT vendors against counterfeiting, as well as assurances of policy continuity. Country Risks BMI's country risks ratings for the IT sector assess key external factors that could affect a country's overall investment outlook and consequently growth prospects for the IT sector. These factors include short-term external and financial risk, trade bureaucracy, ill-defined legal frameworks and corruption perception. The GCC countries and Israel each record scores higher than 60, mainly due to the favourable short-term external risk factor ratings and stronger corruption perception indices. Countries with lower scores all battle with weak corruption perception indices and lack of transparency in trade bureaucracy and legal frameworks. Although Nigeria's country risk score increased by 0.7pps on the back of a healthy short-term external risk score, it continues to be held back by a weak corruption perception score. Investors will be keenly watching events in the political arena in several countries over 2014, notably South Africa, Egypt, Lebanon and Nigeria. Although the ANC in South Africa was expected to win the country's May 7 general elections, the outcome of the elections could alter the ruling party's economic policies in order to retain its dominance over the next five years. Political tension is expected to rise in Egypt and Nigeria in the run-up to presidential elections within the next 12 months, while Lebanon remains heavily exposed to the war in Syria. We expect these factors to weigh on investor sentiments on these markets, at least in the short term. © Business Monitor International Page 30 Israel Information Technology Report Q3 2014 Table: Middle East And Africa RRRs - Q3 2014 Industry rewards Country rewards Industry risks Country risks IT Rating Rank Previous Rank Qatar 57.5 100.0 55.0 66.3 69.2 1 1 Israel 53.3 100.0 65.0 67.0 68.6 2 2 UAE 52.5 90.0 60.0 68.3 65.4 3 3 Kuwait 47.5 100.0 40.0 66.7 62.9 4 4 Saudi Arabia 45.8 80.0 55.0 67.7 59.2 5 5 South Africa 61.7 45.0 45.0 59.1 55.1 6 6 Bahrain 28.3 85.0 57.5 61.8 51.7 7 7 Nigeria 63.3 30.0 45.0 45.4 49.7 8 9 Oman 33.3 70.0 52.5 58.5 49.2 9 8 Egypt 53.3 30.0 45.0 46.1 45.3 10 10 Lebanon 35.0 65.0 20.0 42.9 42.0 11 12 Ghana 41.7 35.0 40.0 49.5 41.2 12 11 Kenya 53.3 10.0 55.0 34.2 39.5 13 13 Average 48.2 64.6 48.8 56.4 53.8 - - Country Scores out of 100, with 100 the highest. The IT Risk/Reward Rating comprises two sub-ratings 'Rewards' and 'Risks'. Scores are weighted as follows: 'Rewards': 70%, of which Industry Rewards 65% and Country Rewards 35%; 'Risks': 30%, of which Industry Risks 40% and Country Risks 60%. The 'Rewards' rating evaluates the size and growth potential of an IT market in any given state, and country's broader economic/socio-demographic characteristics that affect the industry's development; the 'Risks' rating evaluates industry specific dangers and those emanating from the state's political/economic profile, based on BMI's Country Risk Ratings, that could affect the realisation of anticipated returns. Source: BMI © Business Monitor International Page 31 Israel Information Technology Report Q3 2014 Market Overview Hardware BMI estimates Israel's IT hardware market declined by 0.11% in 2013 to ILS9.55bn. However, we expect it to return to growth in 2014 and forecast a CAGR of 4.8% over our five-year forecast from 2014 to 2018. In 2013 the value of hardware sales was squeezed by a weaker currency, price competition and the lower unit price of mid-range tablets hitting the market. Despite a slightly weaker private consumption outlook for 2014, BMI believes that increased take-up of tablets and the end of support to older Windows operating systems will boost sales throughout the year. As well as economic and IT market trends, another factor behind our pessimistic outlook for 2014 is the risk of a further escalation of hostilities between Israel and Gaza. This uncertainty will drag on confidence and curtail investments in some areas. Wider economic uncertainty means businesses are now investing more to increase flexibility and realise cost efficiencies rather than expand IT hardware capabilities, but nonetheless there should be growth areas. However, as noted, lower average prices have meant that revenue growth in most segments has lagged shipments. BMI estimates real GDP grew 3.3% in Israel in 2013, slightly higher than our forecast of 3.2% growth in 2014. Likewise, real private consumption growth and real government spending are expected to slow slightly in 2014, falling from 3.3% and 3.0% in 2013 to 3.2% and 2.8% in 2014, respectively. The decline in private consumption is owing to government austerity measures, such as the 1% rise in VAT implemented in June 2013. BMI expect that austerity measures will continue to have an impact on discretionary spending on items such as PCs and notebooks in 2014. This has an obvious impact on the growth potential of the IT market, as consumers consider reigning in their spending and government faces fiscal constraints on new investments. Despite the weak consumer outlook in Israel there are several factors which present an optimistic medium term outlook for continued hardware sales. The Israeli government has launched various initiatives to increase computer and internet penetration, such as Computer for Every Child, now morphing into 'Tablet for Every Child' according to Israeli Prime Minister Benjamin Netanyahu, and 'Digital Israel', a proposed initiative to streamline the digitisation of public sector services, such as education, healthcare and social services. The level of support, however, has been criticised by some industry insiders as too low. Between its launch in 1995 and June 2013, the Computer for Every Child initiative reportedly distributed 55,000 computers in around 2,000 localities. Industry stakeholders see Digital Israel essentially as a duplication of its Government Computing Center, which was established in February 2012 and operates under the auspices © Business Monitor International Page 32 Israel Information Technology Report Q3 2014 of the Ministry of Finance and has many of the same goals as Digital Israel. However, Carmel Avner, Israel's first chief information officer who headed the centre, announced her resignation in December 2013 owing to the body's lack of power to implement digital initiatives. Therefore, BMI expects upgrades to new systems and purchases of personal computing devices will remain the bulk of market sales. Mobile computing devices including tablets, slimline notebooks, ultrabooks and hybrids present a growth opportunity for vendors as consumers buy personal products to complement the household desktop or laptop. This segment will be held back by a weak consumer outlook in 2013, but will strengthen from 2014. It is significant for medium term hardware sales that telecoms networking infrastructure in Israel continues to receive investment. This generates use cases for IT hardware, including desktops and mobile computing devices and helps to increase demand. Meanwhile, the end of mainstream support for Windows 7 in January 2015 is expected to result in higher sales of the Windows 8 OS in the retail and enterprise markets. In the retail market Windows 8 will deepen the tablet market, as well as introducing hybrids, while in the enterprise market the new OS should trigger computer hardware tenders previously delayed because of the economic situation. The launch of Windows 8 in Israel coincided with the launch of the Surface tablet and a new suite of mobile handsets using Windows Mobile. Microsoft CEO, Steve Ballmer, began an international promotional tour for the new operating system in Israel in November 2012. An upgrade to Windows 8 was available to Israeli consumers for US $40 to download or ILS280 installed in store. © Business Monitor International Page 33 Israel Information Technology Report Q3 2014 Hardware Market 2011-2018 15,000 10,000 5,000 0 2011 2012 2013e 2014f 2015f 2016f 2017f 2018f Israel - Personal computer sales, ILSmn Israel - Servers sales, ILSmn e/f = BMI estimate/forecast. Source: BMI Evolving Form Factors The Israeli IT market is relatively mature, but BMI estimates that hardware still accounted for 42.3% of the total market in 2013 (excluding communications hardware). Prior to 2012, notebooks were the fastestgrowing segment of the market, although as recently as 2008 desktops still took around two-thirds of unit sales. However in 2010-2011 the share of desktops declined precipitously, and then in 2012 there was a shift from notebooks to tablets as the fastest growing segment of the market. This trend of preference for mobility is expected to continue over the 2014-2018 forecast period. Despite its declining share of sales, however, the desktop sector is still significant, largely due to business and government end-users. Although take-up of tablets has been relatively slow in Israel, the country's consumers have embraced the smartphone. According to a Google survey from June 2013, around 57% of Israelis had a smartphone. This chimes with BMI's estimate that 3G subscriptions accounted for around 65% of Israel's total mobile subscriber base at the end of 2013, with mobile penetration reaching around © Business Monitor International Page 34 Israel Information Technology Report Q3 2014 130%. The competition from mobile devices is driving innovation in notebook and tablet design, as slimline and hybrid devices are increasingly the centre-piece of Windows vendors product ranges. The tablet market in Israel has been dominated by Apple. Although Apple has faced tough competition from a broadening pool of tablet vendors, it managed to maintained its dominance of Israel's tablet market in 2013, a position we expect it to hold on to, at least for the duration of2014. Data from Statcounter show that iOS, run on Apple's tablets, accounted for 75.3% of all tablet browsing traffic in Israel in April 2014, down by 1.9pps y-o-y. By contrast, Google's Android OS, which is used on Samsung, Asus and Google's own Nexus range, accounted for 24.2% of tablet browsing traffic, up by 2pps y-o-y. Although Statcounter data suggest that Apple devices remain by far the most popular among Israeli consumers, IDC estimated that Apple's share of tablet sales dropped considerably in 2013 to 31.4%, down from 49.1% a year earlier. Both data support the trend of a widening range of Android devices - including the Kindle Fire from Amazon, the Nexus 7 and 10 and Samsung's Galaxy Tab range, all launched in 2013 - beginning to make a dent in Apple market share, without any other brand usurping its leading position. The IDC estimates that Samsung was the second largest tablet vendor in Israel, with a share of 25.5% in 2013, followed by Asus with a 16.2% share, Lenovo with a 5% and Acer with 2.9%. One key threat posed to Apple by Android vendors came with the release of lower cost tablets, which were predominantly the smaller 7" form factor. This contrasted with Apple's larger and more expensive iPad and the popularity of these smaller, cheaper devices, catalysed the development of Apple's own iPad Mini. Apple is set to face competition throughout 2014 from rival Android vendors that will continue to offer consumers a wider choice in terms of price and size, as well as specifications and features. The gap between the strategies of some of the leading players is also worth noting. On the one hand Apple and Samsung are hardware vendors and look to profit from the sale of devices, while on the other side Google and Amazon are services firms and offer tablets almost at cost. The strategies of services firms (combined with low cost OEM tablets from China) will likely put pressure on the margins of hardware centric vendors in the medium term. However, the tablet market remains relatively undeveloped in Israel's hardware sector, which is heavily dominated by Windows machines. When looking at the combined tablet and desktop/laptop computer market, iOS and Android accounted for just 2.8% and 0.9% of total PC browsing traffic, respectively, in April 2014. The event with the largest impact on Israel's PC market was the launch of Windows 8 in October 2012, which enabled Windows vendors to introduce touch devices - with a number of tablets © Business Monitor International Page 35 Israel Information Technology Report Q3 2014 released in Q412 and Q113. The addition of more vendors and another touch OS has added to competition in the market and put further downward pressure on prices. Another significant development is the medium term impact on innovation and form factors. Windows has a traditional strength in productivity use cases and software, with the OS being central to the enterprise market and Microsoft's ubiquitous Office Suite. There is therefore an opportunity for vendors to leverage this strength over rival iOS and Android devices by designing tablets with strong productivity functionality alongside the passive media consumption features. Early examples have been hybrid devices such as Microsoft's own Surface (RT & Pro), Hewlett-Packard's Envy and Lenovo's Yoga and Helix. Although design innovation has some way to go, and prices of hybrids will need to decline, the multi-use device has scope to capture a share of the tablet market by offering a stronger value proposition to consumers while not compromising on user experience. Another device category that should receive a boost from the launch of Windows 8 is the ultrabook, a higher-performance notebook designed to compete with Apple's MacBook. High prices limited initial popularity of these devices, and vendors subsequently focused on releasing low-end ultrabooks. The success of lower cost Windows 8 powered PCs is reflected in the latest Statcounter data, which show that Window 8 and Window 8.1 accounted for almost 10.6% of browsing traffic in Israel in April 2014, up 6.7pps from 3.9% a year earlier. By comparison, Mac OSX's share of browsing traffic increased by 1pp, to 3.7% over the same period. © Business Monitor International Page 36 Israel Information Technology Report Q3 2014 Vendor Performance Israel PC Browsing Traffic By OS (%) And Y-o-Y Change (pps) The Israeli PC market has undergone significant April 2014 changes in terms of market shares. In the PC market, the top three vendors, HP, Lenovo and Dell, had enjoyed a combined market share approaching 50%, but while Lenovo has gone from strength to strength, HP and Dell have been hit by competition from Asus and Samsung - as well as the shift to tablets. Most PC market growth in 2012 was driven by growth in the mobile PC segment, and in fact notebook sales declined and growth was solely driven by tablets according to research from IDC. IDC's data for 2012 show that laptop sales declined 16.4% from 2011 to 2012, falling to 426,526, in contrast to a 20.2% increase in tablet sales to 225,767. In the laptop Source: Statcounter market Lenovo leaped to top spot with a market share of 21.2%, overtaking HP and Dell. In second position was Asus with 16% market share, up from 12.2% in 2011, also overtaking HP and Dell which both had 15.2% market share in 2012. Based on these figures BMI estimates that Lenovo and Asus achieved 8.8% and 9.7% growth in laptop unit sales respectively, in stark contrast to the 25.6% and 40.3% respective declines in laptop unit sales for HP and Dell. Chinese giant Lenovo has built its strong position atop the Israeli market following its purchase of IBM's PC unit back in 2005 and in 2012 the company continued to increase its investment in Israel. In 2012, Lenovo claimed that it had top spot in the commercial laptop market in the country, and that it was the second largest PC vendor overall. Acquisitions and strategic investments are part of Lenovo's strategy to consolidate its position in the Israeli market, and in February 2012 the vendor announced that it would invest in Vertex Venture Capital's new venture capital fund. The investment is aimed at helping Lenovo to build a solid R&D base in the country, with priority areas including enterprise IT, infrastructure and greentech, and digital media technology and applications. Lenovo is far from the only multinational PC vendor to be increasing its R&D investment in Israel. In 2012 Apple opened a research centre in Haifa and in December 2013 it opened its third research centre in the © Business Monitor International Page 37 Israel Information Technology Report Q3 2014 country in Ra'anana. This trend is continuing in full force; in early 2014, IBM announced plans to open an IT security centre in Beersheva and Cisco and Lockheed Martin both announced plans to increase their investments in the development of country's IT sector. Software BMI estimates Israeli software spending increased to ILS5.12bn in 2013, up 2.3% y-o-y. We expect growth in the software segment to accelerate, with a CAGR forecast of around 5.1% over the five years to 2018. In the past few years, there has been pick-up in demand for systems and upgrades in public and private sectors, with investments by government organisations such as the Israeli Ministry of Defence and Israeli Police, and from utilities leader Israel Electric Company. Much of this growth is related to increasing use of cloud services and related rising demand for security services. In 2013, leading software vendors in the Israeli market reported steady, single-figure growth, much in line with our forecast. Leading Israeli software and services group Formula Systems announced that its revenues were up by 7% y-o-y in 2013. However group company Matrix, which derives most of its revenues from the Israel market, experienced a decline in its revenues and profits in 2013, due largely to seasonal factors. (See Matrix Company Profile for further details.) With the economic outlook in developed markets beginning to brighten, there are opportunities for software vendors across a range of sectors from government to energy, financial services, telecoms and utilities. Major customers for software solutions in Israel include large and medium enterprises such as commercial banks, loan and mortgage banks, credit card companies, insurance companies, telecoms service providers, hi-tech companies, and the Israeli Defense Forces, government ministries and public agencies. Large organisations investing in SAP-based systems included the Meitav Regional Water and Sewage Corporation and Israel Direct Insurance (IDI). Meanwhile, the SME segment, the mainstay of the Israeli business sector, has emerged in recent years as an important growth area for enterprise systems. Spending on enterprise solutions should continue to grow steadily, with reviving or emerging areas of opportunity including security, CRM solutions and business intelligence. However, in the current economic climate, vendors will continue to pitch the efficiency gains potentially offered by these applications. © Business Monitor International Page 38 Israel Information Technology Report Q3 2014 Software Market 2011-2018 7,500 5,000 2,500 0 2011 2012 2013e 2014f 2015f 2016f 2017f 2018f Israel - Software sales, ILSmn e/f = BMI estimate/forecast. Source: BMI Microsoft Israel has an annual turnover of around US$1bn. It hoped its Windows 8 operating system, launched in October 2012, will continue to boost sales throughout 2013, with support for the Windows XP operating system due to be withdrawn in 2014. Israel also hosts an important research and development centre for Microsoft, one of its 3 largest global facilities. In 2010, the centre launched Microsoft's new unified access gateway (UAG) product for the Windows 2008 Server R2. The UAG product is already used in the Windows 7 operating system to provide PCs with online access to enterprise servers. The product positions Microsoft to make a play for the Software-as-a-Service (SaaS) market opportunity. About 70% of the centre's work is now focused on cloud computing, with Microsoft Israel expecting to hire up to 100 new workers for cloud computing projects. Migrations to the Windows 8 operating system are believed to have had a positive impact on 2013 sales despite business caution and the fact that the pre-launch publicity for Windows 8 was more low-key than for its predecessor Windows 7. Microsoft touted the touchscreen capabilities of Windows 8 and Q412 saw the release of a new wave of Windows 8 tablets and notebooks. Although a large portion of Israeli computer users are estimated to still be using the Windows XP operating system, accounting for 16.8% of PC © Business Monitor International Page 39 Israel Information Technology Report Q3 2014 browsing traffic in April 2014, this fell from more than 25% a year earlier, while Window 8 browsing traffic increased by 6.7pps to 10.6% of PC browsing traffic over the same period, according to data from Statcounter. BMI believes this trend will continue over our forecast period, as support for XP will be withdrawn in 2014 and mainstream support for Windows 7 will end in early 2015. Current areas of enterprise demand include management of Microsoft systems and servers, as well as systems management, basic data management, firewalls, enterprise resource planning (ERP) implementation and CRM. CRM is a particularly buoyant area, while in 2012 vendors continued to sign up new business intelligence customers. The sheer volume of data that enterprises must now handle as a result of device proliferation is fuelling investments in business analytics. In May 2013, Arad Group, a world leader in water meter technology, announced a partnership with IBM to help customers and water utilities manage resources more efficiently through use of big data and analytics technology. The analytics technology was developed by IBM in Israel. The security software segment is another important opportunity, potentially worth hundreds of millions of dollars over the medium term, as awareness of security issues grows in tandem with the rise of cloud computing. Owing to its geopolitical situation, Israeli companies, organisations and the government are highly sensitive to cyber threats and local IT firms have responded to the heightened demand by developing some of the world's most advanced IT security software. BMI believes research and spending is likely to continue across all software segments, although with security content and threat management remaining the current priorities. In October 2012 Israel's Prime Minister Benjamin Netanyahu announced that the government was working to create a 'digital Iron Dome' to protect vital infrastructure from hackers and viruses (the Iron Dome is Israel's anti-rocket defence system). This included the establishment of the National Cyber Bureau to defend the nation against computer terrorism. This policy should see vendors win public contracts, while also serving to focus the minds in the private sector, although at the time of writing no major contracts had been publicly announced. Due to its sensitive geopolitical position and supported by its well-educated population, Israel has a vibrant domestic cyber security market. Check Point and Imperva are listed companies, while in March 2013 Israeli security services company Incapsula, an Imperva subsidiary, was valued at around US$950mn after proving successful among small- and medium-sized businesses. Incapsula provides high-end firewalls to assess incoming traffic and identify possible bugs. Incapsula was established in 2009 and was created by three Imperva employees. © Business Monitor International Page 40 Israel Information Technology Report Q3 2014 The growing emphasis of many multinational IT vendors on software and services revenues has led several of them to direct more investment in R&D at the Israeli market. Israel's strong reputation as a hotbed for innovative software development has made Israeli companies popular takeover targets for multinationals. In September 2013, IBM completed its acquisition of Israeli-US enterprise security firm Trusteer, for an estimated sum of around US$1bn. Trusteer's customers reportedly include seven of the top 10 US banks and nine of the top ten UK banks. More recently, in April 2014 US-based Palo Alto Networks confirmed its acquisition of Tel Aviv-based Cyvera, which has developed software to protect computers running Windows software, including ATMs, from unknown, zero-day cyber attacks. Palo Alto did not confirm the value of the transaction, but industry experts estimated it at around USD200mn. Meanwhile, European enterprise software leader SAP is also looking to leverage the skills base of the Israeli market as it focuses on three key technology areas: mobile, in-memory computing and cloud computing. SAP is developing more mobile business applications that could be deployed across a variety of devices, including tablets. In-memory computing, a technology which SAP is developing through its HANA solution, is expected to revolutionise the way companies handle big-data. SAP Labs Israel has been at the forefront of SAP's work in this area, with more than 100 local developers participating in the development of the HANA in-memory solution. Israeli developers were also responsible for the creation of the company's Real Time Offer Management solution, which is currently being tested by French supermarket chain Casino. Another enterprise software player, US vendor CA Technologies, is extending its Israeli university relationship programme, with plans announced in 2012 to roll-out a new Innovation Centre in partnership with Tel Aviv University. The new centre is expected to focus on areas such as IT management and cyber security. Given the current focus of many businesses on controlling costs, the pay-on-demand Software-as-a-Service (SaaS) model has grown in popularity and spread beyond the initial core application area of CRM. The economic crisis may have provided a lasting boost to the SaaS model, particularly as broadband penetration grows. More vendors are looking for channel partners to help them offer cloud computing and rented software services to local organisations. New cloud computing offerings and increased competition in this segment should fuel further demand from users. As well as cost savings, businesses will look to boost efficiency and increase flexibility of response to customer needs. Large businesses are most likely to put IT applications such as mail, phone systems and document management into the cloud. However, enterprise applications that require a high level of © Business Monitor International Page 41 Israel Information Technology Report Q3 2014 customisation, or which are subject to regulatory or data-sensitivity constraints, are more likely to stay on premise. In terms of verticals, the financial sector has been a mainstay of demand, with other key areas including defence and healthcare. Despite the recent financial crisis, regulatory compliance and demand for new services will continue to drive IT spending by banks. IT spending from this vertical has been positively impacted by regulatory reform and changes affecting banking and insurance in the wake of the global financial crisis. Such changes generate demand for specific IT solutions, often in a set time period. Following the economic crisis of late 2008 and 2009, vendors reported that the key financial services segment actually saw demand increase. Israeli legislation passed in 2010 and 2011 increased Israeli Securities Authority regulatory supervision over the offering of investment services and administration of investment portfolios. This in, turn, increased demand for solutions for entities that became subject to such supervision. Similarly, defence spending on new systems is likely to be maintained given the current security situation. In April 2014, Israeli news portal Jerusalem Post reported that the Israel Defense Forces (IDF) is developing its own cloud computing network, which it expects to launch by the end of 2014. The cloud computing platform will reportedly allow commanders to receive real-time intelligence on enemy targets and friendly forces from remote locations. The IDF is also implementing other IT solutions to strengthen its operations, such as a specialised training programme for open source technologies Python and Ruby on Rails. In August 2013, the IDF also launched an internal platform called Yohanan, which allows soldiers to use open-source software components created within the military organisation. Software comprises an important part of Israel's industrial production and exports, with software exports of US$3bn representing around two-thirds of the value of the entire domestic IT sector. Almost all global vendors are active in the domestic market, selling licences alongside integration and applications services. Global vendors control more than three-quarters of the market, with SAP holding first place. In the past, the Israeli SME segment was dominated by local software companies. Now international players, including market leaders such as SAP and Oracle, are entering with appropriate software packages. Microsoft is also designing a software package for this market segment. Services The IT services segment is estimated to have reached a value of ILS7.91bn in 2013 and this is expected to grow at a CAGR of 6.1% over the forecast period to reach ILS10.6bn in 2018. In H113 vendors reported a continued flow of new projects in sectors such as government, financial services, homeland security and © Business Monitor International Page 42 Israel Information Technology Report Q3 2014 utilities. Key sectors such as government and financial services had driven a pick-up in growth in 2010 after demand was hit by a slowdown in 2009. Regulatory reforms in the wake of the economic crisis of late 2008 and 2009 proved a driver of IT spending in these sectors. Slow economic growth posed a challenge to Israeli market IT services vendors in 2013, with the downtrend in business investment expected to have continued into H213. However, demand for IT services has generally been healthy, according to leading vendors, with new projects across public sector, industrial and financial verticals. The defence and homeland security sector has also been solid. In 2013, leading software vendor Matrix, which is part of the Formula Systems group and employs 6,500 people, reported revenues of ILS1.932. Matrix, which offers custom software development services and also sells solutions from international vendors, derives most of its revenues from the Israeli market. Matrix's chief rivals in its domestic market include fellow Israeli IT services giant Ness Technologies, as well as Team-Malam, One-1, Taldor Computer Systems, the Elad Group and Yael, as well as international competitors like HP and IBM. International vendors in the Israeli market often work with local subcontractors. The IT services market is affected by regulatory reform, which influences and drives demand in sectors like government, with much spending related to e-government targets; financial services, where an increase in regulatory supervision has necessitated new IT investments; and telecoms, where spending is driven by the roll-out of new platforms and services. In August 2012, Ness was awarded a 10-year contract from Israel's Ministry of Finance to establish and operate the country's new National Long-Term Savings and Insurance Exchange. The new exchange is expected to streamline work processes, and provide the public with information about the retirement savings and insurance plans on offer. So important is the project to Ness that the company will establish a dedicated subsidiary to develop and operate the National Exchange, including a service and support centre. © Business Monitor International Page 43 Israel Information Technology Report Q3 2014 IT Services Market 2011-2018 15,000 15 10,000 10 5,000 5 0 0 2011 2012 2013e 2014f 2015f 2016f 2017f 2018f Israel - Services sales, ILSmn (LHS) Israel - Cloud computing spending, % of IT market (RHS) e/f = BMI estimate/forecast. Source: BMI Defence and government spending represent a significant component of Israeli IT demand and have some immunity to economic vicissitudes. The Ministry of Defence has awarded a number of multimillion-dollar IT contracts, including a US$10mn tender for a new command and control system and a datacentre contract awarded to VMware in December 2013, which Jewish Business News valued around US$27mn. Growth is expected to reach a higher trajectory in the second half of our five-year forecast period. Key Israeli IT services spending verticals include the financial sector, where international regulatory compliance and structural and market reforms have driven substantial IT investment. The sector accounts for around 25% of total IT services spending, while the government accounts for another quarter. Along with defence, these two key sectors are likely to be a continued source of opportunity because the factors driving spending in each case are less sensitive to the economic downturn. One potential demand driver will be organisations looking for help to utilise efficiencies from cloud computing, such as SaaS and Infrastructure-as-a-Service (IaaS). Particular areas of opportunity for cloud computing include banking and retailing as organisations in those fields look to save money on hardware © Business Monitor International Page 44 Israel Information Technology Report Q3 2014 investments. In 2011, vendors such as Alcatel-Lucent have continued to invest in new cloud computing facilities in Israel, leveraging the country's expertise. While large organisations still dominate, SMEs have also been investing more and represent a growth opportunity. Many SMEs are waking up to the need to compete through more direct investment in support and service infrastructures. Similar factors are driving an increase in demand for managed services among SMEs, which are keen to leverage the operational efficiencies offered by SaaS and IaaS solutions. In 2013 HP's IT services operations in Israel suffered a setback as communications equipment vendor ECI sued HP Israel for ILS38mn in April 2013, claiming HP did not meet the terms of an agreement to upgrade its computer systems. In 2010 ECI contracted HP to provide its computing requirements including maintenance, support and upgrades in a deal worth US$120mn over 10 years. This made it one of the largest such contracts in Israel, as well as ECI being one of the first Israeli companies to switch to cloud computing and utilise a server farm in France. However, HP cancelled the contract in February 2013, claiming ECI had breached the contract and was in arrears. ECI claimed HP had failed to provide services promised, meeting none of the eight milestones it had set for April 2011 and the cloud computing element was only supporting 900 users, rather than ECI's 3,000 employees, as required. In May 2013, HP countersued ECI for ILS83mn for a breach of contract. At the time of writing, there was no further news on developments in the court cases. Outsourcing Although Israel seemingly possesses many advantages as an outsourcing destination (in particular a technologically literate, linguistically skilled workforce and low labour costs relative to most developed countries), the country has failed to capitalise on these strengths. Aside from Israel's small size, security also weighs on the country's attractiveness as an outsourcing destination. However, the government began promoting Israel to multinationals several years ago, which has resulted in a spate of call-centre construction projects. The work seems to be paying off, with Israel starting to emerge as a desirable location for packaged applications and localisation services. © Business Monitor International Page 45 Israel Information Technology Report Q3 2014 Industry Trends And Developments IT is an important element of the Israeli government's socio-economic policy framework. The National Economic Council submitted a policy agenda to the government that specified two main policy objectives: to reduce poverty, and to achieve balanced growth. The first objective is expected to emerge as the main priority for the government. The digital divide is a symptom and an aggravator of relative poverty. In May 2010, the Israeli Ministry of Finance launched a programme called Relative Advantage to provide a boost to Israel's high-tech sector. Israel As A Global Research And Innovation Hub In April 2014, IBM announced the launch of its Alpha Zone technology accelerator in Tel Aviv, which will recruit start-ups to grow technologies across several areas, including big data, cloud, mobile, security and the Internet of Things. Israel's country general manager for IBM, Rick Kaplan, also stated that Alpha Zone could play an important role in supporting IBM's push to develop commercial applications for its Watson supercomputer. IBM will recruit start-ups for 24-week sessions, during which time they will provide office space, mentorship and exposure to investors, while allowing the businesses to retain the rights to their innovations. In February 2014, IBM also announced plans to open a Center of Excellence for Security and Protection of Infrastructure and Assets in collaboration with Ben-Gurion University in Beersheva, Israel. This follows IBM's acquisition of US-Israeli enterprise security firm Trusteer in September 2013. Trusteer's customers reportedly include seven of the top 10 US banks and nine of the top 10 UK banks. The value of the transaction was not revealed, but industry experts estimate that it was in the vicinity of US$1bn. In January 2014, Cisco announced plans to invest tens of millions of dollars into Israeli venture capital fund JVP. The main areas of focus for the fund are digital media, cyber security and storage technologies. The cyber security segment of the fund is expected to raise around US$120mn, which will be invested into working with the government and local start-ups to create a cyber-lab. In January 2014, Lockheed Martin and EMC Corporation announced a new partnership to establish a joint centre in Beersheva. EMC is a leading player in Israel's information security market, while Lockheed Martin has mainly operated in the aviation and defence products sector. This news followed the revelation that Lockheed Martin plans to compete in the tender for the IDF Intelligence Corp's Five Industries technology campus in the Negev and expand its computer services segment in Israel. © Business Monitor International Page 46 Israel Information Technology Report Q3 2014 Israeli Start-Ups Attract Global Attention In March 2014, US-based Palo Alto Networks confirmed the acquisition of privately held, Tel Aviv-based cyber security firm Cyvera. The financial terms of the acquisition were not confirmed, but industry experts expect the total value of the transaction was around USD200mn. Cyvera's software protects businesses from cyber security threats by blocking unknown, zero-day attacks on computers running Windows software. Palo Alto plans to expand the software for Apple computers and mobile devices running Android and iOS. Also in March 2014, US-based Secure Alert announced plans to acquire Israel-based GPS Global Tracking & Surveillance. The transaction was estimated at around USD11mn. The Israeli company specialises in developing technology for locating and tracking people and vehicles. On the back of the acquisition, Secure Alert intends to set up a research and development centre in Israel, following the lead of many global IT firms. In June 2013, Google acquired Israeli live mapping service Waze for US$966mn. Google intends to integrate Waze's traffic features and crowd-sourced data into its Google Maps platform. In June and August 2013, the US Fair Trade Commission (FTC) and the UK Office of Fair Trading (OFT) both undertook investigations on whether the acquisition posed a threat to competition in the navigation applications segment. The two agencies approved the merger in October and November 2013, respectively. In March 2013 CA Technologies agreed to purchase Israeli app deployment and management company Nolio for US$40-42mn. Nolio provides software that automates application deployment and allows IT staff to maintain, manage and recover these enterprise applications. ECI Sues HP for ILS38mn Communications equipment vendor ECI sued Hewlett-Packard Israel for ILS38mn in April 2013, claiming HP did not meet the terms of an agreement to upgrade its computer systems. In 2010 ECI contracted HP to provide its computing requirements including maintenance, support and upgrades, in a deal worth US$120mn over 10 years. This made it one of the largest such contracts in Israel, as well as making ECI one of the first Israeli companies to switch to cloud computing and utilise a server farm in France. However, HP cancelled the contract in February 2013, claiming ECI had breached the contract and was in arrears. ECI claimed HP had failed to provide the services promised, meeting none of the eight milestones it had set for April 2011, and that the cloud computing element was only supporting 900 users, © Business Monitor International Page 47 Israel Information Technology Report Q3 2014 rather than ECI's 3,000 employees, as required. In May 2013, HP counter-sued ECI for ILS83mn for a breach of contract. Intel Israel Reports Strong Figures Bucking Industry Trend In February 2013 Intel Israel reported its exports more than doubled to US$4.6bn in 2012, from US$2.2bn in 2011. Over the same period Intel's Israeli workforce increased 10% to 8,500, as over the course of 2012 it invested US$1.1bn in Israel. Intel Israel says Intel Corporation has invested $10.5bn in Israel over the past decade, and received $1.3bn in Israeli government grants. It is estimated Intel accounts for 10% of Israel's total industrial exports, and one- third of exports to China. Without the contribution of Intel, high-tech exports would have declined by 10% in 2012, according to Intel estimates. Intel is set to remain ingrained in the Israeli IT market over the long term, following news in April 2014 that it plans to invest around USD6bn to upgrade its Kiryat Gat chip plant, according to a statement by Israel's economic minister, Naftali Bennett. At the time of writing the company had not yet officially confirmed the investment, but the development is in line with talks between the government and Intel in January 2014 on its investment plan for the country over the coming decade. According to media reports, the Ministry of Economy's Investment Center is poised to offer Intel a grant of 5% of its investment, approximately ILS750mn. E-Services As part of its modernisation agenda, the government is also pressing ahead with various other strands of its e-government project. Among other initiatives, there has been spending on computers in healthcare and the nationwide paperless court initiative. The e-government programme is leading to increased demand for computers, with the Israeli government reaching a supply agreement with Dell and HP. The government chose Microsoft search technology to power its government services portal, gov.il. In 2012, Israel's Ministry of Finance launched a major new project to establish and operate the country's new National Long Term Savings and Insurance Exchange. The new exchange is expected to streamline work processes, and provide the public with information about the retirement savings and insurance plans on offer, including pension plans. The project was awarded to local company Ness Technologies, which will establish a dedicated subsidiary to develop and operate the National Exchange, including a service and support centre. When the system comes online, officials expect it to provide a boost to the economy, when as many as hundreds of millions of shekles are freed up as pensions holders claim what is theirs. © Business Monitor International Page 48 Israel Information Technology Report Q3 2014 Israel's Digital Divide In 2003 it was estimated that about 600,000 Israeli children were living below the poverty line, and the Gini co-efficient (a measure of inequality in incomes) has been estimated as among the highest (most unequal) of any Organisation for Economic Cooperation and Development (OECD) country. A 2007 survey found only 30% of children living in poverty have internet or home PC access, compared with 90% in the top-income group. Alarm at such statistics has helped to make tackling the digital divide central to the government's key policy goal of reducing poverty. There is also an ethnic dimension to digital inequality. Recent research by the University of Haifa showed a consistent gap in internet access between the Jewish and Arab populations, with 72.5% of the former using the internet in Israel compared with 52.5% of the latter. In order to deal with the digital divide problem, the following measures have been proposed: ■ A senior minister for the high-tech sector should be appointed to coordinate activities currently carried out by various ministries. The minister should prepare a master plan for government policy in the information industry. ■ Regulations should be amended to facilitate rapid investments in communications, technological infrastructure, bandwidth and a fast internet backbone. ■ Massive investments should be made in the education system for training information workers. ■ Aid should be given to the less wealthy to make them part of Israel's information industry. © Business Monitor International Page 49 Israel Information Technology Report Q3 2014 Regulatory Development Table: IT Regulatory Authorities Government Authority Ministry of Science, Technology and Space Minister Yaakov Peri Source: BMI The Ministry of Science, Technology and Space has undergone numerous name changes and received its current name in 2013. The ministry's responsibilities include forming a national science and technology policy, coordinating research areas and technological analysis and organisation. The main priorities for the ministry are as follows: ■ Establishing a national policy and priorities for R&D; ■ Developing scientific and technological infrastructure; ■ Establishing and strengthening foreign scientific relations; ■ Participating in the establishment of research centres, including regional R&D centres; ■ Participating in the development of scientific and technological human resources; ■ Increasing awareness of science within the public, especially the youth of Israel; ■ Developing digital infrastructure (facilitating access to information); ■ Consulting the government and its offices in the area of science and technology. Cyber Security In October 2012 Israel's Prime Minister Benjamin Netanyahu announced the government was working to create a 'digital Iron Dome' to protect vital infrastructure from hackers and viruses (the Iron Dome is Israel's anti-rocket defence system). This includes the establishment of the National Cyber Bureau to defend the nation against computer terrorism. The announcement follows a series of cyber attacks linked to political tensions in the Middle East, including attacks on Israeli institutions, as well as Saudi oil companies and banks in the UAE. In January 2013 Netanyahu opened a national programme to train teenagers in the skills of cyber security. The programme accepts high achieving students for a three-year training program to intercept malicious © Business Monitor International Page 50 Israel Information Technology Report Q3 2014 attacks. The government is hoping the programme will deliver the skilled professionals needed to meet escalating cyber threats in the region and globally. In January 2014, the National Cyber Bureau announced that it intends to launch a task force which will help consumers and businesses respond to cyber attacks. This cyber emergency response team will provide assistance to individuals and companies that fall victim to cyber attacks, as well as facilitate the sharing of information pertaining to cyber threats. Regulatory Changes Drive Financial Sector IT Spend Israeli financial sector spending actually increased following the economic crisis of late 2008 and 2009, as it was positively impacted by regulatory reform and changes affecting banking and insurance in the wake of the crisis. Israeli legislation passed in 2010 and 2011 increased Israeli Securities Authority regulatory supervision over the offering of investment services and administration of investment portfolios. This in turn increased demand for solutions for entities that became subject to such supervision. The entry of banks into new areas such as the offering of advice with respect to pension, insurance and other financial products has also triggered increased supervision by the Israeli Securities Authority. Again, this has driven demand for IT solutions to help compliance with enhanced compliance requirements for banks and financial institutions, with the regulatory changes generating demand for specific IT solutions, often in a set time period. Government Approves FTTH Build In January 2013 Israel's government agreed to allow a consortium of privately owned companies to join forces with the state electricity utility to begin building the country's first alternative next-generation fibreoptic backbone. The roll-out should increase competition in high-speed internet access and lower prices opening up new opportunities for IT vendors in terms of devices sales and services to consumers. In June 2013, a consortium led by Sweden's ViaEuropa won a tender for a fibre optic communications infrastructure joint venture with the Israel Electric Corporation (IEC). The joint venture, 60% owned by the ViaEuropa consortium and 40% owned by the IEC will build, operate and manage the new 25,000km fibre-to-the-home (FTTH) network. The aim is for construction on the multi-billion shekel network to begin before the end of 2013, and for coverage to reach two-thirds of the population by 2020. ViaEuropa will own a 50% share of the consortium, with four Israeli investors - BATM Advanced Communications and Rapac Communications, Tamares Telecom and Bynet Data Communications - each owning a 12.5% share. © Business Monitor International Page 51 Israel Information Technology Report Q3 2014 Government To Invest In Dual-Use R&D In January 2013 the Ministry of Finance, Ministry of Defence and Ministry of Industry, Trade and Labour announced a joint budget of ILS30mn for R&D for technologies with civilian and military applications. Each ministry contributes one-third of the funds to the programme. The programme has already identified 17 projects of potential dual-use, including some software research. Background All major vendors have a direct presence in Israel, employing substantial numbers of staff. For example, IBM has its only IBM Global Services regional subsidiary in Petach Tikva and employs around 2,000 staff at its Haifa Labs and various IBM facilities in Rehovot and Jerusalem. HP has as many as 4,000 employees and offers services and support through its subsidiary HP-OMS. Other vendors such as Oracle and EDS also have a sizeable presence. Foreign direct investment (FDI) first started to play a key role in Israel's economy in the mid-1990s as the country's high-tech sector underwent a rapid expansion. As well as the opening up of the financial and telecoms sectors, the high-tech sector succeeded in attracting large FDI inflows. The government's policy made foreign high-tech companies eligible for government grants covering 38% of the cost of new research and development facilities. Today, Israel has more offshore R&D centres of US high-tech companies than any other country. Local companies also have a significant presence in the Israeli IT market, with seven of the top 10 IT services firms being Israeli. Major players include Matrix, Ness Technologies and Malam Group, with Israel typically accounting for 40-50% of their revenue. © Business Monitor International Page 52 Israel Information Technology Report Q3 2014 Table: Government Initiatives Initiative Details Gov@Net Government intranet A cross-government intranet planned to connect more than 80 governmental networks and hundreds of institutes. The implementation will create the largest Israeli IP-VPN. The project will allow efficient internal communication and resource sharing. Mercava Government ERP Mercava is the largest ever IT project implemented in Israel. It will gradually replace the assortment of unique legacy systems currently operating in governmental bodies with a central, unified enterprise resource planning (ERP) system running on SAP system software. This project will create a unified language for cross-government activities. Government EIP This project is intended to promote enterprise portals within the government. Since a cross-government portal will be based on information received from the different bodies, the first step involves the construction of a ministry-level portal. This portal will draw information from Merkava, ministry-specific operational systems and intra-government shared resources. Tehila Government ISP The Government ISP project has been operational since 1998, providing essential infrastructure for publicgovernment communication. To date, 60% of the governmental bodies have voluntarily joined the project. Shoham - Ecommerce infrastructure and service A central e-commerce service allowing citizens and companies to access a uniform interface to carry out a variety of payments and purchases, including the payment of taxes, fees, fines (VAT, vehicle and driving licence fees, traffic fines), and the purchase of tangible goods (government publications). The service processed more than ILS250mn in its first year. Lehava project Group of initiatives to help close digital divide. Source: BMI © Business Monitor International Page 53 Israel Information Technology Report Q3 2014 Competitive Landscape International Companies Table: Intel Address Matam Bldg 6, PO Box 1659, Matam Industrial Park, Haifa, HA, 31015 Company History Intel Israel was originally founded in Haifa in 1974 and has grown to become one of the most important enterprises in the country. Intel Israel now employs over 8,500 people, making it the country's largest private sector employer. Intel states it invested US$10.5bn in Israel in the decade to 2012, and received US$1.3bn in Israeli government grants. It is estimated Intel accounted for 10% of Israel's total industrial exports in 2012, and onethird of exports to China. Without the contribution of Intel, high-tech exports would have declined by 10% in 2012, according to Intel estimates. Services And Products Intel operates four design centres and two fabrication plants in Israel, including the Fab28 plant at Kiryat Gat, Intel's largest producer of 22nm chips. Intel's Israeli operations have centred on the development and production of microprocessors for desktops, notebooks, mobile devices and workstations. Intel teams also work on connectivity products and security technologies. Milestones for Intel's Israeli operations include the development of the Pentium M microprocessor, in 2003, a major catalyst for the boom in notebook sales, and the Merom in 2006 which helped boost Intel's presence in the server market. The Sandy Bridge and Ivy Bridge family of processors were also designed and manufactured in Israel, with Sandy Bridge becoming the fastest selling product in Intel's history. Company Developments ■ ■ ■ ■ ■ In April 2014 Israel's economic minister, Naftali Bennett, stated that Intel will invest around USD6bn to upgrade its Kiryat Gat chip plant. At the time of writing the company had not yet officially confirmed the investment, but the development is in line with talks between the government and Intel in January 2014 on its investment plan for the country over the coming decade. According to media reports, the Ministry of Economy's Investment Center is poised to offer Intel a grant of 5% of its investment, approximately ILS750mn. In October 2013 Intel Capital revealed it spent US$65mn investing in 16 new companies across nine countries - including the acquisition of three Israeli technology firms - interactive video platform Interlude, hybrid storage provider Reduxio Systems and chip simulation acceleration provider Rocketick. The total investment in the Israeli firms was US$10mn. Intel agreed to take over the chip manufacturing plant owned by Micron in Kiryat in September 2013. Israel had originally built the Micron plant in 1993, before moving to the larger adjacent Fab28 facility, and leasing the original plant to Micron. Intel plans to retain most of Micron's 800 staff. Intel is expected to refurbish the plant to make it capable of manufacturing 10 nanometre chips, although the company will initially manufacture NOR flash memories for Micron. In May 2012 Intel established the Collaborative Research Institute for Computational Intelligence in Israel, which will focus on applying machine learning, brain-inspired computation and advanced computer architecture to software. In 2011 the government offered Intel an ILS1bn grant to build a major new plant, and it has been reported that the government may provide a grant of ILS300-400mn for the upgrade of the Micron plant. Source: BMI. © Business Monitor International Page 54 Israel Information Technology Report Q3 2014 Local Companies Table: Amdocs Address 8 Hapnina St, Ra'anana, 43000 Company History Amdocs was founded in Israel in 1982 as an offshoot of Golden Pages, the business phone directory company. After acquisition by SouthWestern Bell Corporation in 1985 the centre of gravity shifted to the US, but Amdocs maintains development facilities in Israel. It listed on the New York Stock Exchange in 1998 and by 2013 was the market leader in telecommunication billing services, with more than 20,000 employees and services customers in over 50 countries. Services And Products Amdocs provides software and IT services for communications, media and entertainment providers. Its major products - which it develops, implements and manages - include business support systems such as billing, CRM and operations support. It also provides network control products and managed services. In Israel, Amdocs operations centre on the AT&T Foundry innovation centre (one of three globally), opened in 2011, which Amdocs runs in collaboration with AT&T. AT&T development tracks include mHealth, HTML5, co-location services and application programming interfaces. Amdocs also provides managed services to Israeli operator Cellcom and provides support for VAS launches for Pelephone. Company Developments ■ ■ ■ ■ In April 2014 Amdocs announced the extension of its contract with US-based carrier Sprint, an upgraded contract for its Convergent Charging and Billing solution with Far EastTone Telecommunications in Taiwan and a contract for a wireline transformation project with Telefonica Argentina. In March 2013 Amdocs and SingTel announced the opening of their joint development centre in Israel. The SingTel L!feLabs@Israel is targeting the local community of entrepreneurs and developers as a driver of innovation at group level. Amdocs Q3FY13 results reported revenue of US$841.3mn, up 4% y-o-y, while net income increased to US$134.4mn, up from US$118.4mn a year earlier. In 2012 Amdocs expanded into the Latin American market by opening a Centre For Development and Operations in Brazil. Source: BMI. © Business Monitor International Page 55 Israel Information Technology Report Q3 2014 Table: Check Point Address 5 Ha'Solelim Street, Tel Aviv 67897, Israel Company History Check Point was founded in 1993, and by 2013 had around 2,900 employees worldwide. It has headquarters in Tel Aviv, Israel, and San Carlos in California. Check Point developed one of the first firewall products, and was named firewall market leader in 1996. Its patented Stateful Inspection Technology, on which its first firewall product was built, continues to be the foundation for network security technology in 2013. Check Point was also one the first companies to develop Virtual Private Network (VPN) products. Services And Products Check Point provides software and combined software and hardware for IT security. The fields in which it operates include network, endpoint, virtualisation, mobile and data security, as well as security management services. Its primary products are enterprise network security, which are deployed on x-86 hardware made by Crossbeam and Hewlett-Packard. Its products are secured with 35 US patents, and a further 19 pending US patents. Check Point products are sold to large enterprises and SMEs, with 100% of Global 100 companies and 98% of Global 500 companies among its customers. Company Developments ■ ■ ■ In October 2013 Check Point reported a 4% y-o-y increase in revenue to US $344.1mn in Q313, with net income up 5% to US$159.7mn. Check Point again received favourable ratings in Gartner's Magic Quadrant series in 2013. It was positioned in the leaders quadrant for enterprise network firewall for the sixteenth consecutive year, mobile data protection for the seventh consecutive year and unified threat management for the third consecutive year. In May 2013 Check Point received US Department of Defense approval for its products, as well as meeting the Federal Information Processing Standard in the US. Source: BMI. © Business Monitor International Page 56 Israel Information Technology Report Q3 2014 Table: Imperva Address 125 Menachem Begin Street, Tel-Aviv 67010, Israel Company History Imperva was founded in 2002 with offices in Israel and the US. By 2013 it had over 550 employees with customers across 75 countries including 337 members of the Global 2000 companies and over 250 government agencies and departments. It is growing rapidly by focusing on data centre security. Imperva reports that 94% of compromised data involved servers, but security spending has not traditionally addressed the data centre. Its target is to capture growth as enterprises move more of their security spending to their data centres. Imperva listed in the US in November 2011. Services And Products Imperva develops software and services for the protection of databases and enterprise applications by focusing on data centre security. It sells products including data security, monitoring and web application security globally. In April 2013 Imperva released its latest data centre security product SecureSphere 10.0 which uses the crowd-sourced ThreatRadar Reputation service. Its main verticals include the public sector, healthcare, energy, financial services, insurance, retail and e-commerce. Imperva's software was used by more than 2,600 customers in over 75 countries in 2013, including global telecoms operators, US banks and government agencies. Company Developments ■ ■ ■ In February 2014 Imperva announced the acquisition of Isreali cloud-based security firms Skyfence, for USD60mn, and Incapsula, for an undisclosed sum. The announcement also coincided with the release of Imperva's SecureSphere Web application firewall for Amazon's cloud-based web services. In March 2013 Israeli security services company Incapsula, an Imperva subsidiary, was valued at around US$950mn after proving successful among small-and medium sized businesses. Incapsula provides high-end firewalls to assess incoming traffic and identify possible bugs. In February 2013 Royal Bank of Canada highlighted Imperva as a potential acquisition target for global giant IBM, which is looking to bolster its position in the security products market. Source: BMI. © Business Monitor International Page 57 Israel Information Technology Report Q3 2014 Table: Retalix Address 9 Dafna Street P.O. Box 2282 Ra'anana, Israel 43662 Company History Retalix was founded in 1982 and is headquartered in Ra'anana, Israel, with North American headquarters in Plano, Texas. Retalix started as a developer of point-ofsale software solutions for grocery retailers. Since the late 1990s, Retalix has expanded its solutions and services offerings to cater to a wide range of retailers, developing supply chain management solutions for large chains of department stores and supermarkets. Retalix has a customer base of approximately 70,000 stores in more than 50 countries worldwide. Between 1994 and 2013 Retalix traded on both NASDAQ and the Tel Aviv Stock Exchange. NCR Corporation, a global transaction services software provider, acquired Retalix in February 2013 through a cash purchase price of US$30 per share, implying a total value of around US$650mn. The company's shares were subsequently delisted from both stock exchanges. Services And Products Retalix's software solutions, which it develops, implements and manages, cover point-of-sale (PoS) and sales channels, and include m- and e-commerce, store management, customer and marketing solutions such as loyalty programmes, merchandising and supply chain and logistics. In 2012, Retalix worked with Microsoft to launch its latest in-store retail software, Retalix 10 Store Suite, as Software-as-a-Service (SaaS). Retalix's customers include many top international retailers, such as Tesco, Carrefour, Sainsbury's, PetroChina and BP. Company Developments ■ ■ ■ In January 2014 Retalix added a Customer and Marketing Suite to its Retalix 10 SaaS retail platform. In November 2012, Woolworths signed a five-year managed services agreement with Retalix. The deal covers Woolworths' 3,000 locations and 25,000 PoS in Australia and New Zealand. Retalix acquired Cornell Mayo Associates, a provider of store systems for top tier department stores, in September 2012. Cornell Mayo software solutions were deployed in 4,000 stores and its customer base included seven of the top 21 department stores in the US. Source: BMI © Business Monitor International Page 58 Israel Information Technology Report Q3 2014 Company Profile Ness SWOT Analysis Strengths Weaknesses ■ Acquisition by CVCI will see new investment into operations. ■ Large international presence and wide client base. ■ Several technology centres in India, one of the fastest growing IT markets. ■ Acquisition by private equity rather than a technology company misses opportunity to take advantage of scale or expertise. Opportunities ■ Slow revenue growth. ■ Divestment of non-core assets will allow greater focus on core businesses. ■ Major deals with banks and governments provide growth. ■ Acquisition of Imano offers strong potential for moving into the mobile app segment. ■ Onshore presence in the US opens doors to high value mobility and analytics software development opportunities for corporates. Threats ■ Israel's IT market is competitive with several players. ■ Software development and offshoring both areas of intensifying competition as vendors in emerging markets attempt to move up the value chain. Company Overview Ness is an Israeli company and global provider of end-to-end IT services and solutions. The company was founded in 1999. On June 10 2011, Ness announced it would be acquired by an affiliate of Citi Venture Capital International (CVCI) in an all-cash transaction valued at approximately US$307mn. Ness announced on October 11 2011 that the acquisition was finalised. The company subsequently delisted and ceased trading on the Nasdaq Global Select Market and the Tel Aviv Stock Exchange. Since the acquisition, Ness has rarely publicised new contract wins or made announcements relating to the progress on existing contracts. © Business Monitor International Page 59 Israel Information Technology Report Q3 2014 Ness specialises in outsourcing, systems integration and application development, software and consulting as well as quality assurance and training. Ness acquired Gilon Business Insight, a business intelligence provider, in H110. During 2010, the company also announced plans to sell its software distribution business in Europe. The company had already signed an agreement to sell its Asia Pacific integration and application development operations. Ness announced it would continue to provide outsourcing services from its development centres in India, Bangalore, Mumbai and Hyderabad, and from its centres in Israel, Eastern Europe and Asia Pacific. With 7,000 employees, Ness has customers in 20 countries and partners with more than 100 software and hardware vendors worldwide. In 2010, the company reported revenue of US$571.8mn, with Israel accounting for 37% of revenue, North America 33%, Europe 28% and the rest of the world just 2%. Strategy Ness' plans include a focus on improving margins in its Israeli business and reducing non-core staff, with the aim of creating profitability at the company. Having already divested stakes in non-core operations such as in Asia Pacific and Europe, the company's operations are more focused. The acquisition of Imano in 2012 show's Ness' ability to respond to global trends, increasing its ability to cater to mobile device growth and the demand for products that work on wireless devices. As well as expanding its presence in mobility and analytics, Ness is also opening new offices to offer a range of onshore, nearshore and offshore services. Financial Results Following its acquisition by CVCI, Ness no longer reports separate financial results. These data are provided for reference only. Although the company has not reported annual or quarterly revenue since 2011, in Israeli media the company is widely reported to be struggling financially. Ness reported revenue of US$141mn in Q211, with just 1% annualised growth. This was up 3% from Q111. Revenue from the Israeli market accounted for 42% of the total, and Ness reported that demand in its market was solid across key verticals such as industrial, government, financial services and defence. Improved results in 2010 followed a 17% decline in full-year 2009 revenue compared with 2008, although around one-third of this was due to foreign currency effects. Annual revenues for 2009 were reported at US$547mn. Israel account for around 42% of Ness' revenue. Among major developments in H111 was a US$75mn five-year agreement that Ness signed with global finance leader Barclays Capital to develop a high-tech research and development centre in Israel. The outsourced software engineering model was hailed by Ness as pioneering. The company's top 20 customers accounted for only 37% of the company's Q211 revenue, with the largest customer accounting for about 5%. © Business Monitor International Page 60 Israel Information Technology Report Q3 2014 Company Developments In March 2014, Ness became the first unionised high-tech company in Israel. More than a third of the company's employees joined the Histadrut labour federation, in an attempt to protect their interests against company downsizing. In March 2013 Ness Technologies announced the opening of a new development centre in Pittsburgh in the US. The launch of the Pittsburgh Development Centre is part of Ness' strategy of building a strong onshore presence to compliment its offshore and nearshore development centres in India, Eastern Europe, Singapore and Israel. The Pittsburgh centre will specialise in mobility and business analytics, as well as providing a full spectrum of engineering services. The location was selected to provide proximity to US corporate locations, for better collaboration and flexibility of resources, as well as being close to major universities for hiring purposes. In December 2012, Ness announced its intended acquisition of UK based Imano, a company that specialises in mobile strategy, design and development. The deal is aimed at improving Ness' ability to meet the mobility demand of its customers. Imano designs web applications and created mobile apps for a number of major brands in the UK. On September 14 2009, Ness Technologies launched its stock on the Tel Aviv Stock Exchange (TASE), having received approval for the listing from TASE authorities. Ness Technologies common stock will continue to be listed on the NASDAQ exchange in the US and will remain subject to the rules and regulations of NASDAQ and the US Securities and Exchange Commission. Ness hoped the dual listing would increase its visibility and status in the Israeli market, with almost a third of the company's business aimed at Israeli customers or delivered by an Israeli workforce. The listing came despite a series of disappointing quarterly results in 2009, which added up to a 17% decline in revenue compared with the previous year. The steepest declines in H109 were experienced by the company's Systems Integration and Application Development division, while Software Product Engineering continued to perform well. Contracts In August 2012 Ness announced a 10-year contract with the Israeli Ministry of Finance to create a new national long term savings and insurance exchange. So important is the project to Ness that the company established a dedicated subsidiary called SwiftNess to develop and operate the National Exchange, including a service and support centre. The new exchange is expected to streamline work processes and provide the public with information about the retirement savings and insurance plans on offer. The first phase of the project was scheduled to begin offering funds transfers and information transmission to insurance brokers and banks in Q213. Later developments will allow individuals and enterprises to access information in the exchange. © Business Monitor International Page 61 Israel Information Technology Report Q3 2014 In January 2011, Ness' software engineering unit became a partner for Pegasus Solutions. The two companies established an extended software development centre in Mumbai. Ness' Software Product Engineering division continued to be a strong performer in Q111, with a major boost from the software engineering outsourcing contract signed with Barclays Capital. In the same quarter, Ness' Commercial and Civilian business unit reported 4% annualised organic growth, with the biggest win being the US$17mn contract with Israel Electric Corporation. The Defence and Homeland Security unit was described as slightly behind plan with revenue, but reported strong operating margins, boosted by a big deal with the Israel Ministry of Defence. In Q111 one big win reported by Ness in the Israeli market in H111 was a US$17mn deal with Israel Electric Corporation, for which Ness will implement a range of SAP solutions and provide support over a five-year period. Other successes included a US$10mn deal with the Israel Ministry of Defence and a US$5mn deal with Derect Eretz, the operator of the Trans-Israel toll road. In September 2010, Ness won a US$3.7mn, five-year contract from Israel's Meitav Regional Water and Sewage Corporation to provide development, improvement and maintenance services for the company's SAP-based ERP and billing system. The contract also included an optional three-year extension, valued at US$2.2mn. The company continued to be strong in the financial services sector, with a US$1.1mn contract win in October 2010 from Israel Direct Insurance (IDI) to implement a companywide, SAP-based ERP system. The new system will comprise financial, logistics and HR modules. At the end of 2009, Ness won a five-year ILS42mn (US$11.2mn) outsourcing deal from Israel's Ministry of Immigration Absorption. Under the contract, Ness will operate and maintain the ministry's IT systems, which support 600 users. The company also won an US$11mn outsourcing contract from the First International Bank of Israel and a US $4mn contract from the Israeli ministry of the interior. Financial Data ■ ■ ■ Company Details ■ ■ Revenues (Global, 2010): US$571.8mn Revenues (Global, Q111): US$137.3mn Revenues (Global, Q211): US$141.3mn Ness Israel Ness Tower Atidim Industrial Park P O Box 58152 Tel Aviv 61580 Israel © Business Monitor International Page 62 Israel Information Technology Report Q3 2014 ■ Tel: +972/3 766 6800 ■ Fax: 3 766 6809 ■ www.ness.com © Business Monitor International Page 63 Israel Information Technology Report Q3 2014 Matrix SWOT Analysis Strengths Weaknesses Opportunities ■ Global client base in more than 50 countries. ■ Working with different industries. ■ Partnerships with major international IT companies. ■ Reliance on government projects, which can waver with economic outlook. ■ Lacks scale to compete with global leaders. ■ Increased presence in the US opens avenues to higher value software development and testing deals. ■ Broad range of capabilities and expertise creates potential for larger contract deployments. Threats ■ International outlook allows for expansion of services. ■ Contracts with telecom companies offer potential. ■ Israel is emerging as an IT hub, bringing attention to local companies. ■ Israel's IT Market is highly competitive, with several players. ■ Increasing competition from emerging market IT software providers and services providers as they look to move up the value chain. Company Overview Matrix is a leading IT company in Israel that develops and implements technologies, software solutions and products, as well as providing infrastructure and consulting services, outsourcing, offshoring, training and assimilation. It also represents and carries out marketing for the world's leading software vendors in Israel, including IBM, Microsoft, Oracle, RedHat, EMC, SAP, HP and Apple. Matrix is part of the Israeli-owned Formula Systems group, which also includes Magic Software and Sapiens. Unlike those two companies however, which focus more on their global client base, Matrix derives most of its revenues from the Israeli market. © Business Monitor International Page 64 Israel Information Technology Report Q3 2014 Matrix, which employs 65,000 people, also owns a large number of subsidiaries, including information security provider 2bsecure, Matrix BI (business intelligence), Matrix Global (offshore and nearshore services in Israel and Eastern Europe), Tact Software (software testing company), Tangram Soft (IT services), Exzac (US subsidiary helping financial services institutions meet regulatory compliance requirements and defend against fraud) and Xtivia (US subsidiary offering database support, data warehouse and business intelligence products). Strategy Services include implementing integration projects, developing and marketing software technologies and products for business systems, providing infrastructure and consulting services, outsourcing contracts, training and assimilation, and acting as a distributor for global leading software products, hardware solutions, and IT infrastructures. Matrix has been restructuring and launching new services in order to meet changing market conditions. In 2013, the company expanded its range of products and vendor partnerships, signed a cooperation agreement with Amazon and established a dedicated cloud computing unit called Cloudzone. In 2012 Matrix increased its focuses on information and cyber security solutions through 2BSecure, which were consolidated with solutions targeting the cyber world at Matrix including fraud and money laundering prevention and the financial regulation of EXZAC. Financial Results During the year ended in December 2013, Matrix reported revenues of ILS1.932bn (US $555mn), down 2.7% y-o-y, and net profit of ILS89.1mn (US$25.6mn), down 1.7% y-oy. However, revenues and net profits for Q413 both increased compared to the same period of 2012. In its 9M13 results, Matrix reported that weak revenues and profits were due to seasonal effects and the timing of Jewish holidays. For 2013, Matrix further reported that the software services sector accounted for 72.4% of revenues, up around 2pps from 2012. The marketing of software products segment accounted for 10.7% of revenues, while integration and computer structure accounted for 4.2% and the training and deployment sector, 6.6% of revenues. Matrix's financial performance in 2012 was driven by growth in software services sales, which increased 19.4% to ILS1.405bn - equal to 70.8% of total revenue (up 0.9pps y-oy). Operating profit from software services failed to keep pace with sales growth, affecting margins at group level, with operating profit from software services increasing 5.4% to ILS103mn in 2012, equal to an operating margin of 7.3%. Marketing of software, integration and computer infrastructure, and training and deployment are the other three reporting divisions at Matrix. Of these only integration and computer infrastructure reported increased revenue in 2012, up by 10.1%, while training and deployment sales were virtually flat and marketing of software revenues declined by 8.6%. © Business Monitor International Page 65 Israel Information Technology Report Q3 2014 Company Developments In April 2014, Matrix announced that it had opened a new training centre in Nanjing, China, which will offer services to more than 500 Chinese IT firms. The centre will build its business in China, where it has already trained more than 8,000 IT professionals at its Development Center for Mobile Apps, launched in Changzhou in 2013. In 2013 Matrix continued to secure contracts in the financial, security, technology and public sectors. High profile contract wins included a service-orientated architecture (SOA) project for the Israeli Defense Forces (IDF) and a five-year inspection tender for the Social Security Institute. In H112 results, Matrix announced it had acquired USbased company Exzac, which specialises in risk management and regulation in the finance sector. The new acquisition offers clients in 'leading financial institutions' in the US and Israel. Matrix also acquired Netwise, which offers solutions for the digital world and management of effective, continuous, and valuable customer experience. In 2011, Matrix won projects in several areas. In the financial market Matrix deals included a loan system for a leading bank, core financial system in the field of taxes for a leading financial institution, and operation sites for two banking institutions in Israel and abroad, among others. Matrix also completed warehousing projects for large industrial companies and won significant bids for training and deployment projects for the Ministry of Finance and the police. In 2010, Matrix reported growth in revenue and profits thanks to momentum in key sectors and services. The company won new projects in the public sector and the insurance sector, with mobile/cellular projects a growth area. Telecoms was another growth vertical in summer 2010. Major projects included a new interface and integration for a high-tech organisation, a core financial system in the field of taxation for a leading bank and a multi-channel project for a pharmaceutical company. Despite the challenging economic climate of 2008 and 2009, Matrix reported continuing successes in key sectors including healthcare, financial services, defence and government. Among tender wins in the Israeli market were a project to implement a core system in three hospitals, a software and hardware upgrade for a leading credit card company and a large-scale testing project for a government organisation. In 2008, Matrix reported tender wins in sectors including defence, communication and industrial, including an ILS20mn project to implement a CRM system at long-time customer Bezeq, as well as a number of public sector CRM projects. Financial Data ■ ■ ■ ■ ■ ■ ■ Revenues (2011): ILS1.758bn Revenues (2012): ILS1.984bn Revenues (2013): ILS1.932bn Net Income (2010): ILS88.6mn Net Income (2011): ILS93.4mn Net Income (2012): ILS90.7mn Net Income (2013): ILS89.1mn © Business Monitor International Page 66 Israel Information Technology Report Q3 2014 Company Details ■ ■ Matrix 3 Abba Eban Boulevard P O Box 2062 Herzlia Pituach 46120 Israel ■ Tel: +972/(0) 9 959 8840 ■ Fax: (0) 9 959 8844 ■ www.matrix.co.il © Business Monitor International Page 67 Israel Information Technology Report Q3 2014 Regional Overview The Middle East and North Africa's (MENA) TV market has traditionally been dominated by free-to-air services, but demand for quality over value is rising rapidly and pay-TV stood out as one of the fastest growing segments in the region's telecoms markets in 2013. Mobile and fixed-line telecoms operators' rising interest in pay-TV is also a reaction to slimming opportunities in the voice market and their pressing need to diversify revenues in order to maintain growth. Meanwhile, with generally higher ARPUs than the mobile segment, pay-TV services create a potentially lucrative opportunity for operators to increase their returns on heavy investments in fibre optic and LTE networks. As the provider with the largest and most varied content portfolio, the widest footprint and fastest growing subscriber base, Orbit Showtime Network (OSN) is MENA's rising pay-TV star, posing a potential threat or opportunity for the region's telecoms operators. BMI believes operators that choose partner with OSN to bolster their converged services offerings will tap into a good value growth opportunity, while those that choose to compete with OSN and develop their own pay-TV services will not have to share their revenues, but will risk falling behind the pay-TV provider in terms of quality and breadth of content. About OSN OSN was formed in 2009 following the merger of Orbit and Showtime and originally targeted the English speaking expatriate community in the UAE and Qatar with Hollywood movies and TV series. In 2011 OSN started targeting Arabic speaking subscribers, too, with the launch of an Arabic language channel, OSN Ya Hala. By the end of 2012 OSN Ya Hala was the second most popular channel out of more than 100. At the end of 2013, OSN offered satellite pay-TV services in 24 countries in the Middle East and North Africa (MENA), and its largest markets were the UAE, Saudi Arabia and Qatar. OSN is 60.5% owned by Kuwait Projects Company (KIPCO), Kuwait's largest listed investment company, while Saudi Arabian private investment firm Mawarid Holding owns the remaining 39.5% share. News of an IPO for OSN emerged once in 2011 and again in June 2013, when KIPCO hired private investment bank Rothschild to advise on a potential stock market listing. Although more than one OSN chief executive stated that the company no longer had any immediate plans to launch an IPO in Q413, at the end of March 2014 KIPCO again announced plans to list the company on the London Stock Exchange. In the most recent announcement, KIPCO did not clarify how much of the company would be listed but stated its expectation of launching an IPO by the end of 2014. In November 2013, Dubai-based Arqaam Group gave OSN a valuation of USD4.3bn, up from a previous valuation of USD2.5bn before it acquired Pehla Media & Entertainment. © Business Monitor International Page 68 Israel Information Technology Report Q3 2014 While an IPO would give OSN a significant capital injection to help finance the continued expansion of its content and footprint, BMI expects that its rapidly growing subscriber base and revenues, as well as a USD200mn five-year financing facility organised by Mashreq Bank in November 2013, are also supporting ongoing investments in product development. Content And Services Key To Subscriptions Growth OSN's success has been underpinned by its wide range of content and services. On top of English and Arabic language content, in August 2013, OSN acquired Pehla Media & Entertainment (PME), which added 40 channels in a variety of South Asian languages to its platform. These include dedicated Bollywood movies and premium cricket channels, allowing OSN to target subscribers among expat communities from India, Pakistan, Sri Lanka and Bangladesh. Table: OSN Recent Content Developments Date Description Oct-13 Extension of agreement with The Walt Disney Company MENA, allowing OSN to continue offering the Disney Channel, Disney XD, Disney Junior and ABC News programming in the region. Nov-13 Signed an exclusive licensing agreement with NBCUniversal for distribution of its content in MENA, and extended its exclusive agreement with E! Entertainment for the region. Dec-13 Agreement to launch Fight Network HD in MENA, a channel dedicated to combat sports. Jan-14 Exclusive agreement to launch AMC's Sundance Channel in MENA. It is an HD channel showing feature films, world cinema, documentaries, short films, series and original programmes. Feb-14 Agreement to launch HD Animal Planet and Discovery Science channels in MENA. Mar-14 Signed an extended deal with Discovery Networks to launch TLC HD in MENA, which will also include programming from the Oprah Winfrey Network (OWN). OSN now offers six Discovery Networks channels on its pay-TV service. Apr-14 Announced plans to create 15 new shows for its Arabic and Turkish content channels, Ya Hala HD, Ya Hala Shabab HD and Ya Hala Drama HD. Source: BMI, OSN The pay-TV provider has also been rapidly expanding its range of services to allow subscribers to access content anytime and anywhere. In 2012 OSN launched OSN Plus HD, a set-top box which connects to both satellite and a broadband connections and allows users to watch content on demand. By September 2013, around 100,000 had signed up to the service, equivalent to 11.2% of its subscriber base at the time. In 2012 OSN also launched OSN Play, a video on demand service for PCs, available to all OSN subscribers. In July 2013 it extended the service to smartphones and tablets over wi-fi connections and then to mobile devices on 3G and 4G network connections in September 2013. © Business Monitor International Page 69 Israel Information Technology Report Q3 2014 The rapid growth of content and services on OSN's pay-TV platform, as well as the introduction of a tailored set-top box (STB) in 2011 which drastically improved its ability to curtail content piracy, has led to impressive subscriptions growth since 2011. OSN reported a total subscriber base of 734,000 across its 24 markets in the MENA region in 2012, a 30% increase year-on-year. In 2013 KIPCO reported that OSN's subscriber base had grown by a further 35% in 2013, which BMI calculates brings total subscriptions to nearly 1mn. This has translated into equally impressive revenue growth; at the end of 2012 OSN reported total revenues of USD387mn, up by around 35% from 2011. KIPCO reported that OSN revenues grew by around 32% in 2013, to more than USD500mn according to BMI's calculation. However, in March 2014 Reuters reported that KIPCO deputy chairman Faisal Al-Ayyar's stated OSN's annual turnover had reached USD700mn. OSN In Competition With Telecoms Operators Saudi Arabia's STC, Etisalat and du in the UAE and Qatari incumbent Ooredoo have all been building up their pay-TV subscriber bases, often by offering bundled fixed-line, broadband and TV subscriptions. According to their 2013 year-end results, Etisalat's double- and triple-play and Ooredoo's triple-play services were the fastest growing segments of their businesses, with 31.4% and 29.9% y-o-y growth, respectively. Meanwhile, STC reported 32% y-o-y growth in IPTV (InVision) subscriptions, which brought its IPTV subscriber base to more than 90,000, according to BMI's calculations. Du reported the slowest growth in pay-TV subscriptions, which increasing 8.2% y-o-y to 132,000 in 2013. © Business Monitor International Page 70 Israel Information Technology Report Q3 2014 These operators have also kept up with OSN to OSN Outpaces Its Competitors launch video on demand (VOD) services and mobile TV. Etisalat launched its eLife iPad app in March MENA Pay-TV Subscribers ('000) And Y-o-Y Growth (%) By Operator, 2013 2013, Saudi Arabia's Mobily launched mobile TV and movie service mView in October and Ooredoo launched Mozaic GO in December 2013. If mobile TV services take off, this will provide significant opportunity for value growth, on the back of a high penetration of smartphones and tablets in the region. However, rising demand for OSN's VOD and mobile TV services could create tension between the payTV provider and the telecoms operators, as they foot the bill for network expansion and maintenance needed to handle ever increasing consumption of over over-the-top (OTT) video services. In the US *= Double- and triple-play subscriptions. Source: BMI, operators and Europe the net neutrality debate has heated up in 2014, as telecoms operators have increased pressure on regulators to abandon net neutrality and give them the right to charge OTT content providers such as Netflix and Google for high quality streaming over their networks. If OSN and other OTT content providers continue growing at a rapid pace, it could spark a net neutrality debate in the Middle East too, provoking operators argue that content providers should have to contribute to the upkeep of the broadband networks their services rely on. In some markets, however, OSN has already struck agreements with telecoms operators, which BMI believes presents the best solution to the problem of net neutrality. In January 2013 Zain partnered with OSN in Kuwait and Bahrain to bundle pay-TV with its telecoms services and, a year later, extended the agreement to include OSN Play. Also in January 2014, Batelco signed a deal with OSN to offer pay-TV services to its subscribers in Bahrain. While Etisalat, Ooredoo and STC's IPTV services have received considerable consumer interest, given that pay-TV is not their core business BMI believes over the long term they may struggle to keep up with OSN, which already has exclusive contracts with a large number of American and European networks and has grown into one of the largest producers of original Arabic content. © Business Monitor International Page 71 Israel Information Technology Report Q3 2014 New Services And Regional Expansion To Support Long Term Growth BMI believes OSN could increase return on its content development through further expansion of its services to include purely OTT subscriptions. At the time of writing, OSN Play was only available to existing satellite TV subscribers. Although these are higher value customers, BMI believes the company could reach a much wider audience by offering a cheaper IPTV service, especially among less wealthy expatriate consumers. beIN Sports Arabia, OSN's main competitor in the region, stated that by the end of 2013, OTT IPTV subscriptions account for 19% of its 2.43mn subscriber base. Meanwhile, in order to maintain its position as MENA's leading entertainment pay-TV provider, BMI expects OSN to continue expanding its content portfolio to cater to more consumer groups in the region. In line with this view, without providing details OSN stated in early 2014 that it was in talks with French language content providers. While the GCC is set to drive OSN's growth over the medium term, with Saudi Arabia as the fastest growing individual market, in the long term BMI believes OSN will increasing rely on opportunities in North Africa to sustain subscriptions growth. Other than Saudi Arabia, the relatively small populations of GCC countries will limit OSN's growth opportunities, as they have limited opportunities for telecoms operators in the voice market. BMI therefore sees populous countries such as Iraq, Egypt, Algeria and Morocco, which also have improving economic outlooks, as the main growth drivers over the long term. © Business Monitor International Page 72 Israel Information Technology Report Q3 2014 Demographic Forecast Demographic Outlook Demographic analysis is a key pillar of BMI's macroeconomic and industry forecasting model. Not only is the total population of a country a key variable in consumer demand, but an understanding of the demographic profile is key to understanding issues ranging from future population trends to productivity growth and government spending requirements. The accompanying charts show Israel's population pyramid for 2013, the change in the structure of the population between 2013 and 2050 and the total population between 1990 and 2050, as well as life expectancy. The tables show key data points from these charts, in addition to important metrics such as the dependency ratio and the urban/rural split. Population Pyramid 2013 (LHS) And 2013 Versus 2050 (RHS) Source: World Bank, UN, BMI © Business Monitor International Page 73 Israel Information Technology Report Q3 2014 Population Indicators Population (mn, LHS) And Life Expectancy (years, RHS), 1990-2050 Source: World Bank, UN, BMI Table: Israel's Population By Age Group, 1990-2020 ('000) 1990 1995 2000 2005 2010 2013e 2015f 2020f 4,499 5,332 6,014 6,604 7,420 7,733 7,920 8,507 0-4 years 483 529 614 666 735 778 793 768 5-9 years 462 510 548 619 666 720 755 792 10-14 years 462 508 527 554 619 648 670 754 15-19 years 430 495 528 536 565 592 613 672 20-24 years 355 451 514 538 555 558 565 615 25-29 years 328 383 463 523 557 557 555 567 30-34 years 315 360 392 470 546 541 534 558 35-39 years 325 346 370 397 500 525 529 537 40-44 years 271 357 359 375 424 472 501 532 45-49 years 188 304 371 362 390 400 415 500 50-54 years 171 204 316 373 372 380 388 413 55-59 years 160 185 215 315 387 384 376 385 60-64 years 150 182 195 213 329 358 364 370 65-69 years 136 165 184 188 217 244 270 352 70-74 years 98 145 161 170 183 185 192 253 Total © Business Monitor International Page 74 Israel Information Technology Report Q3 2014 Israel's Population By Age Group, 1990-2020 ('000) - Continued 1990 1995 2000 2005 2010 2013e 2015f 2020f 75-79 years 87 97 127 138 161 165 165 172 80-84 years 51 70 73 97 120 117 116 135 85-89 years 21 31 43 46 66 74 77 80 90-94 years 6 8 13 19 22 28 32 39 95-99 years 1 1 2 4 6 6 7 10 100+ years 0 0 0 0 1 1 1 1 e/f = BMI estimate/forecast. Source: World Bank, UN, BMI Table: Israel's Population By Age Group, 1990-2020 (% of total) 1990 1995 2000 2005 2010 2013e 2015f 2020f 0-4 years 10.73 9.91 10.21 10.09 9.91 10.06 10.01 9.03 5-9 years 10.26 9.57 9.11 9.38 8.98 9.31 9.53 9.31 10-14 years 10.27 9.53 8.77 8.39 8.35 8.38 8.47 8.87 15-19 years 9.55 9.29 8.78 8.12 7.61 7.66 7.74 7.89 20-24 years 7.90 8.45 8.55 8.15 7.49 7.22 7.13 7.23 25-29 years 7.29 7.18 7.70 7.92 7.50 7.20 7.01 6.66 30-34 years 7.00 6.75 6.51 7.12 7.36 7.00 6.74 6.56 35-39 years 7.22 6.50 6.16 6.01 6.74 6.78 6.68 6.32 40-44 years 6.03 6.69 5.96 5.68 5.71 6.11 6.33 6.25 45-49 years 4.19 5.71 6.17 5.49 5.26 5.17 5.25 5.88 50-54 years 3.80 3.82 5.25 5.65 5.01 4.91 4.90 4.86 55-59 years 3.55 3.47 3.57 4.77 5.22 4.97 4.75 4.53 60-64 years 3.34 3.41 3.24 3.22 4.43 4.63 4.60 4.35 65-69 years 3.02 3.10 3.06 2.85 2.92 3.15 3.40 4.13 70-74 years 2.17 2.72 2.67 2.57 2.47 2.39 2.43 2.97 75-79 years 1.94 1.82 2.11 2.09 2.16 2.14 2.09 2.03 80-84 years 1.13 1.31 1.22 1.47 1.61 1.51 1.46 1.59 85-89 years 0.46 0.58 0.71 0.70 0.89 0.96 0.97 0.94 90-94 years 0.14 0.16 0.22 0.29 0.29 0.36 0.41 0.46 95-99 years 0.02 0.03 0.03 0.05 0.07 0.08 0.08 0.12 © Business Monitor International Page 75 Israel Information Technology Report Q3 2014 Israel's Population By Age Group, 1990-2020 (% of total) - Continued 1990 1995 2000 2005 2010 2013e 2015f 2020f 0.00 0.00 0.00 0.00 0.01 0.01 0.01 0.01 100+ years e/f = BMI estimate/forecast. Source: World Bank, UN, BMI Table: Israel's Key Population Ratios, 1990-2020 1990 1995 2000 2005 2010 2013e 2015f 2020f 67.0 63.2 61.6 61.0 60.4 62.2 63.6 65.2 1,806 2,065 2,292 2,502 2,795 2,965 3,078 3,358 Active population, % of total 59.9 61.3 61.9 62.1 62.3 61.7 61.1 60.5 Active population, total, '000 2,693 3,266 3,722 4,102 4,625 4,768 4,841 5,150 Youth population, % of total working age 52.2 47.4 45.4 44.8 43.7 45.0 45.8 44.9 Youth population, total, '000 1,406 1,547 1,689 1,839 2,021 2,146 2,218 2,314 Pensionable population, % of total working age 14.8 15.9 16.2 16.1 16.7 17.2 17.8 20.3 Pensionable population, total, '000 399 518 603 662 774 820 860 1,043 Dependent ratio, % of total working age Dependent population, total, '000 e/f = BMI estimate/forecast. Source: World Bank, UN, BMI Table: Israel's Rural/Urban Population Split, 1990-2020 1990 1995 2000 2005 2010 2013e 2015f 2020f Urban population, % of total 90.4 90.9 91.2 91.5 91.8 92.0 92.1 92.4 Rural population, % of total 9.6 9.1 8.8 8.5 8.2 8.0 7.9 7.6 4,065 4,845 5,485 6,044 6,814 7,115 7,296 7,863 434 487 529 560 607 618 624 644 Urban population, total, '000 Rural population, total, '000 e/f = BMI estimate/forecast. Source: World Bank, UN, BMI © Business Monitor International Page 76 Israel Information Technology Report Q3 2014 Methodology Industry Forecast Methodology BMI's industry forecasts are generated using the best-practice techniques of time-series modelling and causal/econometric modelling. The precise form of model we use varies from industry to industry, in each case being determined, as per standard practice, by the prevailing features of the industry data being examined. Common to our analysis of every industry is the use of vector autoregressions. They allow us to forecast a variable using more than its own history as explanatory information. For example, when forecasting oil prices, we can include information about oil consumption, supply and capacity. When forecasting for some of our industry sub-component variables, however, using a variable's own history is often the most desirable method of analysis. Such single-variable analysis is called univariate modelling. We use the most common and versatile form of univariate models: the autoregressive moving average model (ARMA). In some cases, ARMA techniques are inappropriate because there is insufficient historic data or data quality is poor. In such cases we use either traditional decomposition methods or smoothing methods as a basis for analysis and forecasting. We mainly use OLS estimators and in order to avoid relying on subjective views and encourage the use of objective views, BMI uses a 'general-to-specific' method. BMI mainly uses a linear model, but simple nonlinear models, such as the log-linear model, are used when necessary. During periods of 'industry shock', for example poor weather conditions impeding agricultural output, dummy variables are used to determine the level of impact. Effective forecasting depends on appropriately selected regression models. BMI selects the best model according to various different criteria and tests, including but not exclusive to: ■ R2 tests explanatory power; adjusted R2 takes degree of freedom into account; ■ Testing the directional movement and magnitude of coefficients; ■ Hypothesis testing to ensure coefficients are significant (normally t-test and/or P-value); ■ All results are assessed to alleviate issues related to auto-correlation and multi-collinearity;. © Business Monitor International Page 77 Israel Information Technology Report Q3 2014 BMI uses the selected best model to perform forecasting. Human intervention plays a necessary and desirable role in all of BMI's industry forecasting. Experience, expertise and knowledge of industry data and trends ensure analysts spot structural breaks, anomalous data, turning points and seasonal features where a purely mechanical forecasting process would not. Sector-Specific Methodology A number of criteria drive our forecasts for each IT variable. IT forecasting is complicated due to the fragmented nature of the market, with little transparency of vendor data and low apparent agreement between many sets of figures in terms of market definition, base and methodology. In addition, forecasts are affected by consideration of a variety of internal and external political and economic factors. Within best-practice techniques of time-series modelling, our quarterly updated forecasts are improved substantially by intimate knowledge of the prevailing features of each local market. Individual variables taken into account in creating each forecast include: ■ Overall economic context, and GDP and demographic trends; ■ Underlying 'information society' trends; ■ Projected GDP share of industry; ■ Maturity of market structure; ■ Regulatory developments and government policies; ■ Developments in key client sectors such as telecommunications, banking and e-government; ■ Technological developments and diffusion rates; ■ Exogenous events. Estimates are calculated using our own macroeconomic and demographic forecasts. Sources Additional sources used in IT reports include national ministries and ICT regulatory bodies, national industry associations, and international industry organisations such as the International Telecommunication © Business Monitor International Page 78 Israel Information Technology Report Q3 2014 Union (ITU), officially released company results and figures, and international and national industry news agencies. Risk/Reward Ratings Methodology BMI's Risk/Reward Ratings (RRR) provide a comparative regional ranking system evaluating the ease of doing business and the industry-specific opportunities and limitations for potential investors in a given market. The RRR system divides into two distinct areas: Rewards: Evaluation of sector's size and growth potential in each state, and also broader industry/state characteristics that may inhibit its development. This is further broken down into two sub categories: ■ Industry Rewards (an industry-specific category taking into account current industry size and growth forecasts, the openness of market to new entrants and foreign investors, to provide an overall score for potential returns for investors). • Country Rewards (a country-specific category, factoring in favourable political and economic conditions for the industry). Risks: Evaluation of industry-specific dangers and those emanating from the state's political/economic profile that call into question the likelihood of anticipated returns being realised over the assessed time period. This is broken down into two sub categories: ■ Industry Risks (an industry-specific category whose score covers potential operational risks to investors, regulatory issues inhibiting the industry and the relative maturity of a market). • Country Risks (a country-specific category in which political and economic instability, unfavourable legislation and a poor overall business environment are evaluated to provide an overall score). We take a weighted average, combining industry and country risks, or industry and country rewards. These two results in turn provide an overall Risk/Reward Rating, which is used to create our regional ranking system for the risks and rewards of involvement in a specific industry in a particular country. For each category and sub-category, each state is scored out of 100 (100 being the best), with the overall Risk/Reward Rating a weighted average of the total score. As most of the countries and territories evaluated are considered by BMI to be 'emerging markets', our rating is revised on a quarterly basis. This ensures the rating draws on the latest information and data across our broad range of sources, and the expertise of our analysts. © Business Monitor International Page 79 Israel Information Technology Report Q3 2014 Sector-Specific Methodology In constructing these ratings, the following indicators have been used. Almost all indicators are objectively based. Table: It Risk/Reward Ratings Indicators Indicator Rationale Rewards Industry IT market value, US$bn Denotes breadth of IT market. Large markets score higher than smaller ones. Sector value growth, % year-on-year (y-o-y) Denotes sector dynamism. Scores based on annual average growth over five-year forecast period. Government initiatives and spending Denotes spending boost provided by public sector, which can be a crucial determinant of sector development. Hardware, % of total sales Denotes maturity of market. A high proportion of hardware sales, compared to services/ software, indicates that the overall IT market is immature. Country Urban-rural split Urbanisation is used as a proxy for development. Mainly rural states score lower. GDP per capita, US$ A high GDP per capita supports long-term industry prospects. Overall score for Country Rewards is also affected by the coverage of the power transmission network across the state. Risks Industry Intellectual property (IP) laws Markets with fair and enforced IP regulations score higher than those with endemic counterfeiting. ICT policy Subjective evaluation of official policy towards IT development, as enshrined in statute and tax code. Country Short-term external risk Rating from BMI's Country Risk Ratings (CRR). It evaluates the vulnerability to external shock, which is the principal cause of economic crises. Such a crisis would cut investment. Short-term financial risk Rating from CRR, to denote risk of currency crisis and stability of banking sector. The former would hit revenues in hard currency, while the latter would curtail investment funding. Trade bureaucracy Rating from CRR to denote ease of trading with the state. Legal framework Rating from CRR denotes the strength of legal institutions in each state - security of investment can be a key risk in some emerging markets. Bureaucracy Rating from CRR denotes ease of conducting business in the state. Corruption Rating from CRR denotes the risk of additional illegal costs/possibility of opacity in tendering/business operations affecting companies' ability to compete. Source: BMI © Business Monitor International Page 80 Israel Information Technology Report Q3 2014 Weighting Given the number of indicators/datasets used, it would be wholly inappropriate to give all sub-components equal weight. The following weighting has been adopted: Table: Weighting Of Components Component Rewards Weighting, % 70, of which - Industry 65 - Country 35 Risks to 30, of which - Industry 40 - Country 60 Source: BMI © Business Monitor International Page 81 Reproduced with permission of the copyright owner. Further reproduction prohibited without permission. [...]... International Page 14 Israel Information Technology Report Q3 2014 Industry Forecast IT Market Table: IT Industry - Historical Data And Forecasts (loccur mn) (Israel 2011-2018) Country 2011 2012 2013e 2017f 2018f 20435.7 22299.5 22576.0 23354.8 24607.9 26490.5 27698.4 28895.0 Israel IT market value, ILSmn Israel IT market value, % of GDP 2.3 2.4 2.3 Israel Computer hardware sales, ILSmn 8877.3 9560.8 Israel Personal... Business Monitor International Page 15 Israel Information Technology Report Q3 2014 contributes comparatively less to the market's overall growth Given Israel' s relatively rich tech skills resource base, many organisations prefer to conduct software development in-house 2014 Outlook Industry Trends - IT Market We project real GDP growth of 3.2% in Israel in 2011-2018 2014, then forecast slow but steady... Meanwhile, despite the challenging trading conditions, vendors have reported a continued flow of IT projects, with large tenders from the Israeli ministries of finance and defence and the Israel Electric © Business Monitor International Page 16 Israel Information Technology Report Q3 2014 Company Following the global financial crisis, vendors reported demand had revived in the key financial services vertical,... Industry stakeholders see Digital Israel essentially as a duplication of its Government Computing Center, which was established in February 2012 and operates under the auspices © Business Monitor International Page 32 Israel Information Technology Report Q3 2014 of the Ministry of Finance and has many of the same goals as Digital Israel However, Carmel Avner, Israel' s first chief information officer who headed... over the 2014- 18 period © Business Monitor International Page 22 Israel Information Technology Report Q3 2014 Fixed Investment Picking Up Israel - Components Of Real GDP, % chg y-o-y Source: BMI, Central Bureau of Statistics Israel Private Consumption Outlook Private consumption expanded by 4.7% y-o-y in seasonally adjusted terms in Q31 3, compared to growth of 3.3% in H113 We expect the acceleration... expanding by 2.8% and 3.0% in 2014 and 2015, respectively © Business Monitor International Page 24 Israel Information Technology Report Q3 2014 Fixed Investment Outlook Fixed capital formation increased by 3.4% y-o-y in seasonally adjusted terms in Q31 3, compared to a yearon-year contraction of 4.1% in H113 We expect the ongoing rebound in growth within the component to continue in 2014, and we forecast gross... the decision, companies involved in Israel' s offshore oil dealings, particularly with the Tamar and Leviathan fields, are now in the position to move forward with their export development plans Firmly In The Black Israel - Net Exports Source: BMI f= BMI Forecasts © Business Monitor International Page 25 Israel Information Technology Report Q3 2014 Net Exports We see Israel' s net export position coming... sentiments on these markets, at least in the short term © Business Monitor International Page 30 Israel Information Technology Report Q3 2014 Table: Middle East And Africa RRRs - Q3 2014 Industry rewards Country rewards Industry risks Country risks IT Rating Rank Previous Rank Qatar 57.5 100.0 55.0 66.3 69.2 1 1 Israel 53.3 100.0 65.0 67.0 68.6 2 2 UAE 52.5 90.0 60.0 68.3 65.4 3 3 Kuwait 47.5 100.0 40.0... anticipated returns Source: BMI © Business Monitor International Page 31 Israel Information Technology Report Q3 2014 Market Overview Hardware BMI estimates Israel' s IT hardware market declined by 0.11% in 2013 to ILS9.55bn However, we expect it to return to growth in 2014 and forecast a CAGR of 4.8% over our five-year forecast from 2014 to 2018 In 2013 the value of hardware sales was squeezed by a weaker... that, © Business Monitor International Page 20 Israel Information Technology Report Q3 2014 by the end of 2014, Israel' s broadband subscriber base will have risen to 2.24mn; this is equivalent to a penetration rate of 28.6% and reflects full year growth of 5.1% Over the next five years ending 2018 we envisage average annual growth of around 3.1% for the Israeli broadband sector This will see the subscriber