Company Quick10K Filing
Supercom
Closing Price ($) Shares Out (MM) Market Cap ($MM)
$0.00 15 $59
20-F 2019-12-04 Annual: 2018-12-31
20-F 2018-05-21 Annual: 2017-12-31
20-F 2017-05-24 Annual: 2016-12-31
20-F 2016-05-16 Annual: 2015-12-31
20-F 2015-04-13 Annual: 2014-12-31
20-F 2014-04-29 Annual: 2013-12-31
20-F 2013-04-24 Annual: 2012-12-31
20-F 2012-05-09 Annual: 2011-12-31
20-F 2011-06-13 Annual: 2010-12-31
20-F 2010-07-23 Annual: 2009-12-31
SPCB 2018-12-31
Item 17 ¨ Item 18 ¨
Part I
Item 1. Identity of Directors, Senior Management and Advisers
Item 2. Offer Statistics and Expected Timetable
Item 3. Key Information
Item 4. Information on The Company
Item 4A. Unresolved Staff Comments
Item 5. Operating and Financial Review and Prospects
Item 6. Directors, Senior Management and Employees
Item 7. Major Shareholders and Related Party Transactions
Item 8. Financial Information
Item 9. The Offer and Listing
Item 10. Additional Information
Item 11. Quantitative and Qualitative Disclosures About Market Risks
Item 12. Description of Securities Other Than Equity Securities
Item 13. Defaults, Dividend Arrearages and Delinquencies
Item 14. Material Modifications To The Rights of Security Holders and Use of Proceeds
Item 15. Controls and Procedures
Item 16. [Reserved]
Item 16A. Audit Committee Financial Expert
Item 16B. Code of Ethics
Item 16C. Principal Accountant Fees and Services
Item 16D. Exemptions From The Listing Standards for Audit Committees
Item 16E. Purchases of Equity Securities By The Issuer and Affiliated Purchasers
Item 16F. Changes in Registrant's Certifying Accountant
Item 16G. Corporate Governance
Item 16H. Mine Safety Disclosure
Part III
Item 17. Financial Statements
Item 18. Financial Statements
Item 19. Exhibits
Note 1: General
Note 2: Significant Accounting Policies
Note 3: Other Accounts Receivable and Prepaid Expenses
Note 4: Inventories, Net
Note 5: Acquisitions
Note 6: Property and Equipment, Net
Note 7: Other Intangible Assets, Net
Note 8: Accrued Expenses and Other Liabilities
Note 9: Commitments and Contingent Liabilities
Note 10: Income Tax
Note 11: Fair Value Measurements
Note 12: Share Capital
Note 13: Related Party Transactions
Note 14: Segments, Major Customers and Geographic Information
Note 15: Other Expense (Income), Net
Note 16: Financial (Expenses) Income, Net
Note 17: Subsequent Events
EX-4.6 tm1923047d1_ex4-6.htm
EX-8.1 tm1923047d1_ex8-1.htm
EX-12.1 tm1923047d1_ex12-1.htm
EX-13.1 tm1923047d1_ex13-1.htm
EX-15.1 tm1923047d1_ex15-1.htm
EX-15.2 tm1923047d1_ex15-2.htm
EX-16.1 tm1923047d1_ex16-1.htm

Supercom Earnings 2018-12-31

SPCB 20F Annual Report

Balance SheetIncome StatementCash Flow

Comparables ($MM TTM)
Ticker M Cap Assets Liab Rev G Profit Net Inc EBITDA EV G Margin EV/EBITDA ROA
KOPN 58 51 16 29 1 -33 -33 50 5% -1.5 -65%
EMKR 88 110 33 87 15 -36 -29 66 17% -2.3 -33%
ATOM 63 17 1 0 0 -10 -10 46 43% -4.5 -59%
SQNS 77 63 0 0 0 0 77 0%
QUIK 43 36 20 7 4 -12 -12 18 54% -1.5 -35%
RESN 93 24 8 0 0 -22 -21 78 0% -3.7 -92%
SPCB 21 44 25 0 0 0 0 28 0%
IMI 58 45 17 19 14 -8 -6 56 72% -8.8 -18%
EMAN 18 29 11 25 4 -7 -5 18 14% -3.5 -23%
LPTH 24 46 14 33 12 -3 -0 25 36% -1,427.5 -8%

20-F 1 tm1923047d1_20f.htm FORM 20-F

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 20-F

 

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

OR

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

For the fiscal year ended December 31, 2018

OR

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

For the transition period from ___________ to ___________

OR

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

Date of event requiring this shell company report

 

Commission file number: 001-33668

 

SUPERCOM LTD.

(Exact name of Registrant as specified in its charter)

 

Israel

(Jurisdiction of incorporation or organization)

 

20 Lincoln Street

Tel Aviv 6713412, Israel

(Address of principal executive offices)

 

Arie Trabelsi, Chief Executive Officer

SuperCom Ltd.

20 Lincoln Street

Tel Aviv 6713412, Israel

+972-9-8890850 (phone); +972-9-8890820 (fax)

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

 

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

 

Title of each class  Trading Symbol(s)  Name of each exchange on which registered
Ordinary Shares, NIS 0.25 Par Value  SPCB  The NASDAQ Capital Market

 

Securities registered or to be registered pursuant to Section 12(g) of the Act: None

 

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act: None

 

Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report:

 

Ordinary Shares, par value NIS 0.25 per share: 16,126,237 (as of December 31, 2018)

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

Yes ¨ No x

 

If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

Yes ¨ No x

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes x No ¨

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes x No ¨

 

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

 

Large accelerated filer ¨ Accelerated filer ¨ Non-accelerated filer x Emerging growth company ¨

 

If an emerging growth company that prepares its financial statements in accordance with U.S. GAAP, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards† provided pursuant to Section 13(a) of the Exchange Act. ¨

 

† The term “new or revised financial accounting standard” refers to any update issued by the Financial Accounting Standards Board to its Accounting Standards Codification after April 5, 2012. 

 

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

 

U.S. GAAP  x International Financial Reporting
Standards as issued by the
International Accounting
Standards Board  ¨
Other  ¨

 

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

Item 17 ¨ Item 18 ¨

 

If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes ¨ No x

 

This annual report on Form 20-F is incorporated by reference into the registrant’s Registration Statements on Form S-8, File No. 333-175785 and 333-121231.

 

 

 

 

 

INTRODUCTION

 

Founded in 1988, we are a global provider of traditional and digital identity solutions, advanced IoT and connectivity solutions, and cyber security products and solutions, to governments and private and public organizations throughout the world.

 

We are comprised of three main Strategic Business Units(SBU) : e-Gov, IoT and Connectivity, and Cyber Security:

 

e-Gov

 

Through our proprietary e-Government platforms and innovative solutions for traditional and biometrics enrollment, personalization, issuance and border control services, we have helped governments and national agencies design and issue secured multi-identification, or Multi-ID, documents and robust digital identity solutions to their citizens , visitors and Lands.

 

We have focused on expanding our activities in the traditional identification, or ID, and electronic identification, or e-Gov, market, including the design, development and marketing of identification technologies and solutions to governments in Europe, Asia, America and Africa using our e-Government platforms. Our activities include: (i) utilizing paper secured by different levels of security patterns (UV, holograms, etc.); and (ii) electronic identification secured by biometric data, principally in connection with the issuance of national Multi-ID documents (IDs, passports, driver’s licenses, vehicle permits, and visas, Secure Land Certificated) border control applications and Land Information System(LIS) .

 

On December 26, 2013 we acquired the SmartID division of On Track Innovations Ltd., or OTI, including all contracts, software, other related technologies and intellectual property, or IP, assets. The SmartID division has a strong international presence, with a broad range of competitive and well-known e-Gov solutions and technology. The acquisition significantly expanded the breadth of our e-Gov capabilities globally, while providing us with outstanding market and technological experts, together with leading ID software platforms and technologies.

 

IoT and Connectivity

 

Our IoT products and solutions reliably identify, track and monitor people or objects in real time, enabling our customers to detect unauthorized movement of people, vehicles and other monitored objects. We provide all-in-one field-proven IoT suite, accompanied with services specifically tailored to meet the requirements of an IoT solutions.  Our proprietary IoT suite of hybrid hardware, connectivity and software components are the foundation of these solutions and services. Our IoT division has primarily focused on growing the following markets: (i) public safety; (ii) healthcare and homecare; (iii) Smart Cities (iv) Smart Campus and (iv) transportation.

 

During 2006, we identified the growing electronic tracking and monitoring vertical markets for public safety, real time healthcare and homecare, and transportation management. We have developed the PureRF Hybrid suit of wrist devices, connectivity, and controlling software, from 2012 we have developed the next generation IoT suite of devices, connectivity and Monitoring software; the PureSecurity Hybrid Suite of wrist band, tags, beacons, PureCom, Pure Monitors, PureTrack and other components.

 

On January 1, 2016 we acquired Leaders in Community Alternatives, Inc., or LCA. LCA is a California based, private criminal justice organization, providing community-based services and electronic monitoring programs to government agencies in the U.S. for more than 25 years. LCA offers a broad range of competitive solutions for governmental institutions across the U.S. in addressing realignment strategies and plans.

 

Connectivity

 

In 2016, as part of our strategy to enhance and broaden our IoT connectivity products and solutions offerings for public safety, enterprises, hospitality and smart cities markets, on May 18, 2016, we acquired Alvarion Technologies Ltd., or Alvarion. Alvarion designs solutions for carrier wi-fi, enterprise connectivity, smart city, smart hospitality, connected campuses and connected events that are both complete and heterogeneous to ensure ease-of-use and optimize operational efficiency. Carriers, local governments and hospitality sectors worldwide deploy Alvarion’s intelligent wi-fi networks to enhance productivity and performance, as well as its legacy backhaul services and products.

 

Secure Financial Solutions (SFS)

 

During 2014, we identified the secure financial services market as a very fast growing market where we believe that SuperCom has major advantages due to synergic technologies and shared customer base to our other divisions. Since 2014, we have developed and introduced secure financial services suite of products, the SuperPayTM. We offer advanced secure mobile payments ranging from mobile wallet to mobile point of sale (POS) using a set of components and platforms to enable secure mobile payments and financial services.

 

 

 

On April 18, 2016, we acquired the PowaPOS business, a division of POWA Technologies Ltd., the developer of a fully-integrated mobile and tablet-based system integrating industry-leading retail and secure payment solutions into one simplified, attractive and innovative POS platform. PowaPOS has been deployed in countries all over the world, and has been integrated by cloud-based POS software providers, we believes this technology will be a highly value-added solution to our secure payment customers around the world.

 

Cyber Security

 

During 2015, we identified the cyber security market as a very fast growing market where we believe that SuperCom has major advantages due to synergic technologies and shared customer base to our e-Gov, IoT and connectivity SBUs. In 2015, we acquired Prevision Ltd., or Prevision, a company with a strong presence in the market and a broad range of competitive and well-known cyber security services. During the first quarter of 2016, we acquired Safend Ltd, or Safend, an international provider of cutting edge endpoint data protection guarding against corporate data loss and theft through content discovery and inspection, encryption methodologies, and comprehensive device and port control. Safend maps sensitive information and controls data flow through email, web, external devices and additional channels. 1

 

Both acquisitions significantly expanded the breadth of our cyber security capabilities globally, while providing us with outstanding market and technological experts and over 3,000 customers in the United States, Europe, and Asia, and more than three million software license seats deployed by multinational enterprises, government agencies and small to mid-size companies around the globe, together with leading data and cyber security platforms and technologies.

 

 

 

Statements made in this Annual Report on Form 20-F (this “Annual Report”) concerning the contents of any contract, agreement or other document are summaries of such contracts, agreements or documents and are not complete descriptions of all of their terms. If we filed any of these documents as an exhibit to this Annual Report or to any previous filing with the U.S. Securities and Exchange Commission, or the SEC, you may read the document itself for a complete recitation of its terms.

 

In this Annual Report, all references to “SuperCom,” the “Company,” “we,” “us” or “our” are to SuperCom Ltd., a company organized under the laws of the State of Israel, and its subsidiaries. On January 24, 2013 we changed our name back to SuperCom Ltd., our original name, from Vuance Ltd.

 

In this Annual Report, unless otherwise specified or unless the context otherwise requires, all references to “$” or “dollars” are to U.S. dollars and all references to “NIS” are to New Israeli Shekels. Except as otherwise indicated, the financial statements of and information regarding SuperCom are presented in U.S. dollars in accordance with generally acceptable accounting principles in the United States (“US GAAP”). The representative rate exchange rate between the NIS and the dollar as published by the Bank of Israel and effective on December 31, 2018, was NIS 3.748 per $1.00.

 

This Annual Report contains various “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act, and the Private Securities Litigation Reform Act of 1995, as amended, with respect to our business, financial condition and results of operations. Such forward-looking statements reflect our current view with respect to future events and financial results. Statements which use the terms “anticipate,” “believe,” “expect,” “plan,” “intend,” “estimate” and similar expressions are intended to identify forward looking statements. We remind readers that forward-looking statements are merely predictions and therefore inherently subject to uncertainties and other factors and involve known and unknown risks that could cause the actual results, performance, levels of activity, or our achievements, or industry results, to be materially different from any future results, performance, levels of activity, or our achievements expressed or implied by such forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. Except as required by applicable law, including the securities laws of the United States, we undertake no obligation to publicly release any update or revision to any forward looking statements to reflect new information, future events or circumstances, or otherwise after the date hereof. We have attempted to identify significant uncertainties and other factors affecting forward-looking statements in the section captioned “Risk Factors” that appears in this Annual Report in Item 3D “Key Information - Risk Factors.”

 

i

 

TABLE OF CONTENTS

 

ITEM 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS 1
     
ITEM 2. OFFER STATISTICS AND EXPECTED TIMETABLE 1
     
ITEM 3. KEY INFORMATION 1
     
A. Selected Financial Data 1
B. Capitalization and Indebtedness 2
C. Reasons for the Offer and Use of Proceeds 2
D. Risk Factors 3
     
ITEM 4. INFORMATION ON THE COMPANY 19
     
A. History and Development of the Company 19
B. Business Overview 21
C. Organizational Structure 34
D. Property, Plants and Equipment 34
     
ITEM 4A. UNRESOLVED STAFF COMMENTS 35
     
ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS 35
     
A. Operating Results 35
B. Liquidity and Capital Resources 43
C. Research and Development, Patents and Licenses, etc. 48
D. Trend Information 49
E. Off-Balance Sheet Arrangements 49
F. Tabular Disclosure of Contractual Obligations 49
     
ITEM 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES 49
     
A. Directors and Senior Management 49
B. Compensation 51
C. Board  Practices 52
D. Employees 60
E. Share Ownership 61
     
ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS 64
     
A. Major Shareholders 64
B. Related Party Transactions 65
C. Interests of Experts and Counsel 65
     
ITEM 8. FINANCIAL INFORMATION 65
     
A. Consolidated Statements and Other Financial Information 65
B. Significant Changes 66
     
ITEM 9. THE OFFER AND LISTING 66
     
A. Offer and Listing Details 66
B. Plan of Distribution 67
C. Markets 67
D. Selling Shareholders 67
E. Dilution 67
F. Expenses of the Issue 67
     
ITEM 10. ADDITIONAL INFORMATION 68
     
A. Share Capital 68
B. Memorandum and Articles of Association 68
C. Material Contracts 72

ii

 

 

D. Exchange Controls 72
E. Taxation 73
F. Dividends and Paying Agents 77
G. Statement by Experts 77
H. Documents on Display 77
I. Subsidiary Information 78
     
ITEM 11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS 78
     
ITEM 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES 78
     
ITEM 13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES 78
     
ITEM 14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS 78
     
ITEM 15. CONTROLS AND PROCEDURES 78
     
ITEM 16. [RESERVED] 79
     
ITEM 16A. AUDIT COMMITTEE FINANCIAL EXPERT 79
     
ITEM 16B. CODE OF ETHICS 79
     
ITEM 16C. PRINCIPAL ACCOUNTANT FEES AND SERVICES 79
     
ITEM 16D. EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES 80
     
ITEM 16E. PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS 80
     
ITEM 16F. CHANGES IN REGISTRANT’S CERTIFYING ACCOUNTANT 80
     
ITEM 16G. CORPORATE GOVERNANCE 81
     
ITEM 16H. MINE SAFETY DISCLOSURE 81
     
ITEM 17. FINANCIAL STATEMENTS 82
     
ITEM 18. FINANCIAL STATEMENTS 82
     
ITEM 19. EXHIBITS 83
     
SIGNATURES   87

 

iii

 

 

 PART I

 

ITEM 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS

 

Not applicable.

 

ITEM 2. OFFER STATISTICS AND EXPECTED TIMETABLE

 

Not applicable.

 

ITEM 3. KEY INFORMATION

 

A. Selected Financial Data

 

The following table presents selected consolidated financial data as of the dates and for each of the periods indicated. The selected consolidated financial data set forth below should be read in conjunction with and is qualified entirely by reference to “Item 5. Operating and Financial Review and Prospects” and our consolidated financial statements and notes thereto included elsewhere in this Annual Report.

 

The following summary consolidated financial data for and as of the five years ended December 31, 2018 are derived from our audited consolidated financial statements, which have been prepared in accordance with U.S. GAAP. Our audited consolidated financial statements for the three years ended December 31, 2018 and as of December 31, 2017 and 2018 appear elsewhere in this Annual Report. Our selected consolidated financial data as of December 31, 2014, 2015 and 2016 and for the years ended December 31, 2015 and 2016 have been derived from our audited consolidated financial statements not included in this Annual Report other than the change in the manner of how we present deferred income taxes as per ASU 2015-17 for which we have adjusted current and long-term deferred income tax classification.

 

Income Statement Data:

 

    Year Ended December 31,  
    2018     2017     2016     2015     2014  
    (U.S. dollars in thousands, except per share data)  
Summary of Statement of Operations Data:                                        
Revenues     21,882       33,264       20,025       28,340       29,703  
Cost of revenues     13,743       20,351       17,461       10,446       7,301  
Gross profit     8,139       12,913       2,564       17,894       22,402  
Operating expenses:                                        
Research and development     4,790       7,238       6,718       3,669       3,359  
Selling and marketing     5,005       8,099       9,970       6,611       7,036  
General and administrative     5,748       6,113       7,277       3,947       2,773  
Other (income) expenses     2,271       (2,021 )     713       2,174       1,225  
Gain on bargain acquisitions     -       -       (10,515 )     -       -  
Total operating expenses     17,814       19,429       14,163       16,401       14,393  
Operating income (loss)     (9,675 )     (6,516 )     (11,599 )     1,493       8,009  
Financial income (expenses), net     (335 )     (538 )     (303 )     (277 )     (133 )
Income (loss) before income tax     (10,010 )     (7,054 )     (11,902 )     1,216       7,876  
Income tax (expense) benefit     5,730       393       (2,091 )     (197 )     (1,675 )
                                         
Net income (loss)     (15,740 )     (6,661 )     (13,993 )     1,019       6,201  
                                         
Per Share Data:                                        
Basic earnings per share     (1.03 )     (0.45 )     (0.93 )     0.07       0.46  
Diluted earnings per share     (1.03 )     (0.45 )     (0.93 )     0.07       0.45  

 

 

 1 

 

 

    2018     2017     2016     2015     2014  
    (U.S. dollars in thousands, except per share data)  
Summary of Balance Sheet Data:                                        
Cash and cash equivalents     1,639       1,037       1,708       22,246       4,789  
Total Current Assets     25,664       27,413       21,120       45,443       24,416  
TOTAL ASSETS     44,349       54,198       53,473       65,942       42,874  
Total Current Liabilities     13,543       17,960       12,771       10,238       12,666  
Total Long-term Liabilities     11,256       3,531       1,978       1,272       1,902  
SHAREHOLDERS’ EQUITY     19,550       32,707       38,724       54,432       28,306  

   

B. Capitalization and Indebtedness
   
  Not applicable.

 

C. Reasons for the Offer and Use of Proceeds
   
  Not applicable.

 

 2 

 

 

D. Risk Factors

 

Investing in our ordinary shares involves a high degree of risk. You should carefully consider the risks described below, together with the financial and other information contained in this Annual Report, before you decide to invest in our ordinary shares. If any of the following risks actually occur, our business, financial condition and results of operations could be materially adversely affected. In that case, the trading price of our ordinary shares would likely decline and you might lose all or part of your investment.

 

Risks Related to Our Business

 

Although we expect that the acquisitions of the SmartID division of OTI, Prevision, LCA, Safend, Alvarion and PowaPOS will result in benefits to us, we may not realize those benefits due to unforeseen difficulties.

 

Although we are 4 years into the process of integrating the operations of the SmartID division of OTI, and over 22 months into the process of integrating the operations of Prevision, LCA, Safend, Alvarion and PowaPOS, realizing any of the anticipated benefits of these acquisitions, including anticipated cost savings and additional revenue opportunities, involves a number of challenges. The failure to meet these integration challenges could seriously harm our results of operations, and the market price of our ordinary shares may decline as a result.

 

Realizing the benefits of these acquisitions will depend in part on the integration of our intellectual property, products, operations, personnel and sales force and the completion of assignments of current and past contracts and rights. These integration activities are complex and time - consuming, and we may encounter unexpected difficulties or incur unexpected costs, including:

 

  · our inability to achieve the operating synergies anticipated in the acquisition, which would prevent us from achieving the positive earnings gains expected as a result of the acquisition;

  · diversion of management attention from ongoing business concerns to integration matters;

  · difficulties in consolidating and rationalizing information technology and intellectual property platforms and administrative infrastructures;

  · complexities associated with managing the combined businesses;

  · difficulties in integrating personnel;

  · possible termination of some contracts or agreements with customers of the acquired divisions and entities as a result of the acquisitions, which would result in major reduction in our anticipated combined business revenue;

  · possible termination of some contracts or agreements with service providers and suppliers of the acquired divisions and entities as a result of the acquisitions, which could result in delays and increases in our cost of revenues; and.

  · Possible cash flow interruption or loss of revenue as a result of the change of ownership.

 

In addition, Safend, Alvarion, and PowaPOS were acquired on an “as is” basis from a bankruptcy administrator or trustee with limited representations, which limits our recourse against the sellers of the acquired businesses after closing, which in turn may expose us to unexpected material losses or expenses after the closing. Our diligence investigations with respect to the acquired businesses were very limited, which may also expose us to unexpected material losses or expenses after the closing. The relationship with most of the customers and suppliers of the acquired businesses have been severed or compromised, and there is no assurance that we will be able to recover such customers and suppliers. As a result, we may decide to discontinue the operation of one or more of the acquired businesses.

 

We may not fully realize the anticipated net reductions in costs and expenses and other benefits and synergies of these acquisitions to the extent, or in the timeframe, anticipated. In addition to the integration risks discussed above, our ability to realize these benefits and synergies could be adversely impacted by practical or legal constraints on our ability to combine operations.

 

If we are unable to manage our growth profitably, our business, financial results and stock price could suffer.

 

Our future financial results will depend in part on our ability to profitably manage our growth. Management will need to maintain existing customers and attract new customers, recruit, retain and effectively manage employees, as well as expand operations and integrate customer support and financial control systems. If integration - related expenses and capital expenditure requirements are greater than anticipated or if we are unable to manage our growth profitably after the acquisition, our financial results and the market price of our ordinary shares may decline.

 

 3 

 

 

Purchase price allocation in connection with our acquisition of OTI’s SmartID division, Safend, Alvarion and Prevision requires estimates, which may be subject to change in the future. Future changes to these estimates could impact our future operating results.

 

The application of purchase price allocation requires that the total purchase price we paid for the SmartID division of OTI, Safend, Alvarion and Prevision be allocated to the fair value of assets acquired and liabilities assumed based on their fair values at the acquisition date. All amounts in excess of or below the fair value are recorded as goodwill or extraordinary profit, as applicable. The allocation process requires an analysis and valuation of acquired assets, including fixed assets, technologies, intellectual properties, deferred tax assets, customer contracts and relationships, trade names and liabilities assumed, including contractual commitments and legal contingencies. We identified and recorded the assets, including specifically identifiable intangible assets, and liabilities assumed in connection with the acquisitions of the SmartID division, Safend, Alvarion and Prevision at their respective estimated fair values as of the date of the acquisition. This process requires estimates by our management and by our expert independent consultant based upon the best available information at the time of the preparation of the financial statements. We have completed the purchase price allocation as reflected in this report. Any future changes to our estimates of the fair value of the assets and liabilities of OTI’s SmartID division, Safend, Alvarion and Prevision, respectively, as of the date of the acquisition could impact our future operating results.

 

In the three years ended December 31, 2018, we depended on orders from large customers for a substantial portion of our revenues. The loss of all or any of these customers or a decrease in their orders could adversely impact our operating results.

 

In the year ended December 31, 2018, 24% of our consolidated net revenue is attributable to sales to four large customers.

 

In the years ended December 31, 2017 and 2016, 50% and 32%, respectively, of our consolidated net revenue was attributable to sales to four and six large customers, respectively. While we expect to be less dependent on these customers in 2019 and in the future because of our expectation to secure more contracts from new customers, a substantial reduction in sales to, or loss of, any of the four customers would adversely affect our business unless we were able to replace the revenue received from those customers, which replacement we may not be able to find.

 

Because competition in our industry is intense, our business, operating results and financial condition may be adversely affected.

 

The global markets for our IoT and connectivity. e-Gov, and Cyber Security solutions are highly fragmented and intensely competitive. They are characterized by rapidly changing technology, frequent new product introductions and rapidly changing customer requirements. We expect competition to increase as the industry grows and as IoT, e-Gov, and Cyber Security, are adopted by public and private sectors around the world, we may not be able to compete successfully against current or future competitors. We face competition from technologically sophisticated companies, many of which have substantially greater technical, financial, and marketing resources than we do. In some cases, we compete with entities that have pre-existing relationships with potential customers. As the markets in which our IoT, e-Gov, and Cyber Security, compete expand, we expect additional competitors to enter the market. We cannot ensure that we will be able to maintain the quality of our products relative to those of our competitors or continue to develop and market new products effectively. Continued competitive pressures could cause us to lose significant market share.

 

 4 

 

 

Some of our competitors and potential competitors have larger technical staffs, larger customer bases, more established distribution channels, greater brand recognition and greater financial, marketing and other resources than we do. Our competitors may be able to develop products and services that (i) are superior to our products and services, (ii) achieve greater customer acceptance or (iii) have significantly improved functionality as compared to our existing and future products and services. In addition, our competitors may be able to negotiate strategic relationships on more favorable terms than we are able to negotiate. Many of our competitors may also have well-established relationships with our existing and prospective customers. Increased competition may result in our experiencing reduced margins, loss of sales or decreased market share.

 

The average selling prices for our products and solutions may decline as a result of competitive pricing pressures, promotional programs and customers who negotiate price reductions in exchange for longer-term purchase commitments. The pricing of products and solutions depends on the specific features and functions of the products, purchase volumes and the level of sales and service support required. As we experience pricing pressure, the average selling prices and gross margins for our products and solutions may decrease over product lifecycles. These same competitive pressures may require us to write down the carrying value of any inventory on hand, which could adversely affect our operating results and earnings per share.

 

Furthermore, most contracts with governments or with state or public agencies or municipalities or large enterprises are awarded through a competitive bidding process, and some of the business that we expect to seek in the future will likely be subject to a competitive bidding process. Competitive bidding presents a number of risks, including:

 

  · the frequent need to compete against companies or teams of companies with more financial and marketing resources and more experience than we have in bidding on and performing major contracts;

 

  · the need to compete against companies or teams of companies that may be long-term, entrenched incumbents for a particular contract we are competing for and which have, as a result, greater domain expertise and established customer relations;

 

  · the substantial cost and managerial time and effort necessary to prepare bids and proposals for contracts that may not be awarded to us;

 

  · the need to accurately estimate the resources and cost structure that will be required to service any fixed-price contract that we are awarded; and

 

  · the expense and delay that may arise if our competitors protest or challenge new contract awards made to us pursuant to competitive bidding or subsequent contract modifications, and the risk that any of these protests or challenges could result in the resubmission of bids on modified specifications, or in termination, reduction or modification of the awarded contract.

 

We may not be afforded the opportunity in the future to bid on contracts that are held by other companies and are scheduled to expire, if the governments, or the applicable state or local agency or municipality determines to extend the existing contract. If we are unable to win particular contracts that are awarded through the competitive bidding process, we may not be able to operate in the market for the products and services that are provided under those contracts for a number of years. If we are unable to win new contract awards or retain those contracts, if any, that we are awarded over any extended period, our business, prospects, financial condition and results of operations will be adversely affected.

 

 5 

 

 

Any acquisitions that we have completed, or may complete in the future, may not perform as planned and could disrupt our business and harm our financial condition and operations.

 

In an effort to effectively compete in the IoT and connectivity, cyber security, and e-Gov products and services business, we have sought to acquire complementary businesses in the past and we may continue to do so in the future. In the event of any future acquisitions, we could:

 

  · issue additional securities that would dilute our current shareholders’ percentage ownership;

  · incur debt and assume liabilities; and

  · incur large and immediate write-offs of intangible assets, accounts receivable or other assets.

 

These events could result in significant expenses and decreased revenue, which could adversely affect the market price of our ordinary shares. In addition, integrating product and service acquisitions and completing any future acquisitions involve numerous operational and financial risks. These risks include difficulty in assimilating acquired operations, diversion of management’s attention, and the potential loss of key employees or customers of acquired operations. Furthermore, companies acquired by us may not generate financial results consistent with our management’s plans at the time of acquisition.

 

Although we had profitable operations in four of the last seven years2 ended December 31, 2018, if we do not generate sufficient cash from operations, we will be required to obtain additional financing or reduce our level of expenditure. If we are unable to obtain adequate financing, when we require it, our business, financial condition and results of operations could be adversely affected. Such financing may not be available in the future, or, if available, may not be on terms favorable to us.

 

Historically, we had profitable operations in four of the last seven years ended December 31, 2018 and have funded our business operations and capital expenditures primarily through equity and/or debt issuances (including convertible securities). To support our growing business, we must have sufficient capital to continue to make significant investments in our platform and product offerings. If we raise additional funds through the issuance of equity, equity-linked or debt securities, those securities may have rights, preferences or privileges senior to those of our ordinary shares, and our existing shareholders may experience dilution. Any debt financing secured by us in the future could involve restrictive covenants relating to our capital-raising activities and other financial and operational matters, which may make it more difficult for us to obtain additional capital and to pursue business opportunities. Any refinancing of our existing indebtedness could be at significantly higher interest rates, require additional restrictive financial and operational covenants, or require us to incur significant transaction fees, issue warrants or other equity securities, or issue convertible securities. These restrictions and covenants may restrict our ability to finance our operations and engage in, expand, or otherwise pursue our business activities and strategies. Our ability to comply with these covenants and restrictions may be affected by events beyond our control, and breaches of these covenants and restrictions could result in a default and an acceleration of our obligations under a debt agreement. If we raise additional funds through collaborations and licensing arrangements, we might be required to relinquish significant rights to our technologies or our solutions under development, or grant licenses on terms that are not favorable to us, which could lower the economic value of those programs to us.

 

We evaluate financing opportunities from time to time, and our ability to obtain financing will depend, among other things, on our development efforts, business plans and operating performance and the condition of the capital markets at the time we seek financing. We cannot be certain that additional financing will be available to us on favorable terms, or at all. If we are unable to obtain adequate financing or financing on terms satisfactory to us, when we require it, this would have the potential to decrease both our ability to attain profitability and our financial flexibility, our ability to continue to support our business growth and to respond to business challenges could be significantly limited, and our business, financial condition and results of operations could be adversely affected.

 

 6 

 

 

The market for our products is characterized by changing technology, requirements, standards and products, and we may be adversely affected if we do not respond promptly and effectively to these changes.

 

The market for our products is characterized by evolving technologies, changing industry standards, changing regulatory environments, frequent new product introductions and rapid changes in customer requirements. The introduction of products embodying new technologies and the emergence of new industry standards and practices can render existing products obsolete and unmarketable. Our future success will depend on our ability to enhance our existing products and to develop and introduce, on a timely and cost-effective basis, new products and product features that keep pace with technological developments and emerging industry standards and address the increasingly sophisticated needs of our customers. In the future:

 

  · we may not be successful in developing and marketing new products or product features that respond to technological change or evolving industry standards;

 

  · we may experience difficulties that could delay or prevent the successful development, introduction and marketing of these new products and features; or

 

  · our new products and product features may not adequately meet the requirements of the marketplace and achieve market acceptance.

 

If we are unable to respond promptly and effectively to changing technologies and market requirements, we will be unable to compete effectively in the future.

 

There can be no assurance that we will successfully identify new product opportunities and develop and bring new products to market in a timely manner, or that the products and technologies developed by others will not render our products or technologies obsolete or noncompetitive. The failure of our new product development efforts could have a material adverse effect on our business, results of operations and future growth.

 

 7 

 

 

We have sought in the past and will seek in the future to enter into contracts with governments, as well as state and local governmental agencies and municipalities, which subjects us to certain risks.

 

Governmental contracts subject us to several other risks, including risks associated with public budgetary restrictions and uncertainties, actual contracts that are less than awarded contract amounts, and cancellation at any time at the option of the governmental agency. Governments may also be in a position to obtain greater rights with respect to our intellectual property than we would grant to other entities. In addition, governmental agencies have the power, based on financial difficulties or investigations of their contractors, to deem contractors unsuitable for new contract awards. Because we engage in the government contracting business, we are subject to audits, and may be subject to investigation, by governmental entities.

 

Any failure to comply with the terms of any governmental contracts could result in substantial civil and criminal fines and penalties, as well as suspension from future contracts for a significant period of time, any of which could adversely affect our business by requiring us to pay significant fines and penalties or prevent us from earning revenues from governmental contracts during the suspension period. Cancellation of any one of our major governmental contracts could have a material adverse effect on our financial condition.

 

Our dependence on third-party representatives, resellers and distributors could result in marketing and distribution delays, which would prevent us from generating sales revenues.

 

We market and sell some of our products and solutions using a network of representatives, resellers and distributers covering the Americas, Europe, Asia and Africa. We establish relationships with such persons through agreements that provide for the marketing and support of our systems and products. These agreements generally do not grant exclusivity to the representative, resellers or distributors, and some of them are not long-term contracts, do not have commitments for minimum sales, and could be terminated by the representative, reseller or distributor. We do not have agreements with all of our representatives, resellers and distributors. We are currently engaged in discussions with additional potential representatives, resellers or distributors. Such arrangements may never be finalized and, if finalized, such arrangements may not increase our revenues or profitability.

 

Our ability to terminate a representative, reseller or distributor who is not performing satisfactorily may be limited. Inadequate performance by a representative, reseller or distributor could adversely affect our ability to develop markets in the regions for which such person is responsible and could result in substantially greater expenditures by us in order to develop such markets. Our operating results are highly dependent upon: (i) our ability to maintain our existing representative, reseller and distributor arrangements; (ii) our ability to establish and maintain coverage of major geographic areas and establish access to customers and markets; and (iii) the ability of our representatives, resellers and distributors to successfully market our products. A failure to achieve these objectives could result in lower revenues.

 

 8 

 

 

If our technology and solutions cease to be adopted and used by government and public and private organizations, we may lose some of our existing customers and our operations will be negatively affected.

 

Our ability to grow depends significantly on whether governmental and public and private organizations adopt our technology and solutions as part of their new standards and whether we are able to leverage our expertise with government products into commercial products. If these organizations do not adopt our technology, we might not be able to penetrate some of the new markets we are targeting, or we might lose some of our existing customer base.

 

In order for us to achieve our growth objectives, our e-Gov, IoT and connectivity, Cyber Security, technology and solutions must be adapted to and adopted in a variety of areas, any or all of which may not adopt our technology. These areas include, among others:

 

  · national ID and e-Government;

 

  · counties and municipals;

 

  · public safety;

 

  · safe and smart cities

 

  · educational campus;

 

  · healthcare and homecare; and

 

  · large enterprises

 

We cannot accurately predict the future growth rate, if any, or the ultimate size of the e-Gov, IoT, Cyber Security, markets. The expansion of the market for our products and services depends on a number of factors such as:

 

  · the cost, performance and reliability of our products and services compared to the products and services of our competitors;

 

  · customer perception of the benefits of our products and solutions;

 

  · public perception of the intrusiveness of these solutions and the manner in which organizations use the information collected;

 

  · public perception of the privacy protection for their personal information;

 

  · customer satisfaction with our products and services; and

 

  · marketing efforts and publicity for our products and services.

 

Even if our products and solutions gain wide market acceptance, our products and services may not adequately address market requirements and may not gain wide market acceptance. If our solutions or our products and services do not gain wide market acceptance, our business and our financial results will suffer.

 

If we are unable to develop and sustain our position as a provider of e-Gov, IoT and Connectivity, and Cyber Security, solutions and services and earn high margins from our technology, our business will not be as profitable as we hope, if at all.

 

The increasing sophistication of our e-Gov, IOT, Cyber Security, and Connectivity based technology places a premium on providing innovative software systems and services to customers, in addition to manufacturing and supplying products. While we have had some success positioning ourselves as a provider of such services and systems, we may not continue to be successful with this strategy and we may not be able to capture a significant share of the market for the sophisticated solutions and services that we believe are likely to produce attractive margins in the future. A significant portion of the value of our e-Gov, Cyber Security, and Connectivity technology lies in the development of software, firmware and applications that will permit the use of our products and technology in selected new markets. In contrast, the margins involved in manufacturing and selling IOT and Connectivity based technology can be relatively small and may not be sufficient to permit us to earn an attractive return on our development investments.

 

 9 

 

 

Unfavorable global economic conditions may adversely affect our customers, which may directly impact our business and results of operations.

 

Our operations and performance depend on our target customers, including those from the governmental sector, having adequate resources to purchase our products. The turmoil in the credit markets, the oil price declines and the global economic downturn that commenced in 2008 and intensified in Europe, Africa and Asia in subsequent years generally adversely impacted our target customers. Companies and governmental authorities have reduced or delayed and may continue to reduce or delay their purchasing activities in response to a lack of credit, economic uncertainty, budget deficits and concern about the general stability of markets. Recently, several European, Latin American, and African countries encountered severe economic difficulties which affected the entire Euro-zone, African and Latin American economy. The financial crisis, among other things, resulted in the downgrade of the credit worthiness of several countries in Europe, Latin America and Africa, which affected our customers’ ability and budget to perform projects within these territories. If such economic and market conditions remain uncertain or weaken further, specifically changes that have negatively impacted and may continue to negatively impact the political or economic stability and environment of the countries from which we derive most of our consolidated net revenues, our business and future operations may be materially adversely affected.

 

Our efforts to expand our international operations are subject to a number of risks, any of which could adversely reduce our future international sales and increase our losses.

  

Most of our revenues to date are attributable to sales in jurisdictions other than the United States. For the years ended December 31, 2018, 2017 and 2016, approximately 52%, 70% and 51%, respectively, of our revenues were derived from sales to markets outside of the United States. Our inability to obtain or maintain federal or foreign regulatory approvals relating to the import or export of our products on a timely basis could adversely affect our ability to expand our international business. Additionally, our international operations could be subject to a number of risks, any of which could adversely affect our future international sales and operating results, including:

 

  · increased collection risks;

 

  · trade restrictions;

 

  · export duties and tariffs;

 

  · uncertain political, regulatory and economic developments;

 

  · inability to protect our intellectual property rights;

 

  · highly aggressive competitors;

 

  · currency issues;

 

  · difficulties in staffing, managing and supporting foreign operations;

 

  · longer payment cycles; and

 

  · difficulties in collecting accounts receivable.

 

Negative developments in any of these areas in one or more countries could result in a reduction in demand for our products, the cancellation or delay of orders already placed, difficulty in collecting receivables, and a higher cost of doing business, any of which could adversely affect our business, results of operations or financial condition.

 

In addition, in many countries the national security organizations require our employees to obtain clearance before such employees can work on a particular transaction. Failure to receive, or delays in the receipt of, relevant foreign qualifications could also have a material adverse effect on our ability to make sales or fulfill our orders on a timely basis. Additionally, as foreign government regulators have become increasingly stringent, we may be subject to more rigorous regulation by governmental authorities in the future. If we fail to adequately address any of these regulations, our business will be harmed.

 

 10 

 

 

We are exposed to risks in operating in foreign markets, which may make operating in those markets difficult and thereby force us to curtail our business operations.

 

In conducting our business in foreign countries, we are subject to political, economic, legal, operational and other risks that are inherent in operating in other countries. Risks inherent to operating in other countries range from difficulties in settling transactions in emerging markets to possible nationalization, expropriation, price controls and other restrictive governmental actions. We also face the risk that exchange controls or similar restrictions imposed by foreign governmental authorities may restrict our ability to convert local currency received or held by us in their countries into U.S. dollars or other currencies, or to take those dollars or other currencies out of those countries.

 

Due to the nature of our business, our financial and operating results could fluctuate.

 

Our financial and operating results have fluctuated in the past and could fluctuate in the future from quarter to quarter. As a result of our dependence in the e-Gov division on a limited number of customers and our increased reliance on our e-Gov, and IoT solutions and products, our revenue has experienced wide fluctuations. We expect that our revenue will continue to fluctuate in the future as we market and implement solutions through our IoT and e-Gov divisions. A portion of our sales is not recurring sales; therefore, quarterly and annual sales levels will likely fluctuate. Sales in any period may not be indicative of sales in future periods. In addition, our result may fluctuate from year to year for the following reasons:

 

  · long customer sales cycles;

 

  · reduced demand for our products and services;

 

  · price reductions;

 

  · new competitors, or the introduction of enhanced products or services from new or existing competitors;

 

  · changes in the mix of products and services we or our customers and representatives sell;

 

  · contract cancellations, delays or amendments by customers;

 

  · the lack of government demand for our products and services or the lack of government funds appropriated to purchasing our products and services;

 

  · unforeseen legal expenses, including litigation costs;

 

  · expenses related to acquisitions;

 

  · other non-recurring financial charges;

 

  · the lack of availability, or increased cost, of key components and subassemblies; and

 

  · the inability to successfully manufacture in volume, and reduce the price of, certain of our products;

 

 11 

 

 

In addition, the period between our initial contact with a potential customer and the purchase of our products and services is often long and subject to delays associated with the budgeting, approval and competitive evaluation processes that frequently accompany significant capital expenditures, particularly by governmental agencies. The typical sales cycle for our government customers has, to date, ranged from three to 24 months and the typical sales cycle for our commercial customers has ranged from one to 12 months. A lengthy sales cycle may have an impact on the timing of our revenue, which may cause our quarterly operating results to fall below investor expectations. We believe that a customer’s decision to purchase our products and services is discretionary, involves a significant commitment of resources, and is influenced by customer budgetary cycles. To successfully sell our products and services, we generally must educate our potential customers regarding their use and benefits, which can require significant time and resources. This significant expenditure of time and resources may not result in actual sales of our products and services.

 

Our reliance on third party technologies and components for the development of some of our products may delay product launches, impair our ability to develop and deliver products and hurt our ability to compete in the market.

 

Most of our products integrate third-party technology that we license and components that we purchase or otherwise obtain the right to use, including operating systems, microchips, security and cryptography technology for card operating systems and dual interface technology. Our ability to purchase and license new technologies and components from third parties is and will continue to be critical to our ability to offer a complete line of products that meets customer needs and technological requirements. We may not be able to renew our existing licenses or to purchase components on favorable terms, if at all. If we lose the rights to a patented technology, we may need to stop selling or may need to redesign our products that incorporate that technology. We may also lose the potential competitive advantage such technology gave us. In addition, competitors could obtain licenses for technologies for which we are unable to obtain licenses, and third parties may develop or enable others to develop a similar solution to security issues, either of which could adversely affect our results of operations. Also, dependence on the patent protection of third parties may not afford us any control over the protection of the technologies upon which we rely. If the patent protection of any of these third parties were compromised, our ability to compete in the market could also be impaired.

 

Although we generally use standard components for our systems, some of the key components are available only from limited sources. Even where multiple sources are available, we typically obtain components from only one vendor to ensure high quality, prompt delivery and low cost. If one of our suppliers was unable to meet our supply demands and we could not quickly replace the source of supply, it could have a material adverse effect on our business, operating results and financial condition, for reasons including a delay of receipt of revenues and damage to our business reputation.

 

Delays in deliveries from our suppliers, defects in goods or components supplied by our vendors, or delays in projects that are performed by our subcontractors could cause our revenues and gross margins to decline.

 

We rely on a limited number of vendors and subcontractors for certain components of the products we are supplying and projects we perform. In some cases, we rely on a single source vendor or subcontractor. Any undetected flaws in components to be supplied by our vendors could lead to unanticipated costs to repair or replace these parts. If one of our suppliers was unable to meet our supply demands and we could not quickly replace the source of supply, it could cause a delay of receipt of revenues and damage our business reputation. We depend on subcontractors to adequately perform a substantial part of our projects. If a subcontractor fails to fulfill its obligations under a certain project, it could delay our receipt of revenues for such project and damage our business reputation, and therefore could have a material adverse effect on our business, operating results and financial condition.

 

 12 

 

 

We may have significant differences between forecasted demands and actual orders received, which may adversely affect our business.

 

The lead time for ordering parts and materials and building many of our products can be many months. As a result, we must order parts and materials and build our products based on forecasted demand. If demand for our products lags significantly behind our forecasts, we may produce more products than we can sell, which can result in cash flow problems and write-offs or write-downs of obsolete inventory. If demand for our products exceeds our forecasts, our business may be harmed as a result of delays to perform contracts.

 

Breaches of network or information technology security, natural disasters or terrorist attacks could have an adverse effect on our business.

 

Cyber-attacks or other breaches of network or information technology, or IT, security, natural disasters, terrorist acts or acts of war may cause equipment failures or disrupt our systems and operations. We may be subject to attempts to breach the security of our networks and IT infrastructure through cyber-attack, malware, computer viruses and other means of unauthorized access. While we maintain insurance coverage for some of these events, the potential liabilities associated with these events could exceed the insurance coverage we maintain. A failure to protect the privacy of customer and employee confidential data against breaches of network or IT security could result in damage to our reputation. To date, we have not been subject to cyber-attacks or other cyber incidents which, individually or in the aggregate, resulted in a material impact to our operations or financial condition.

 

For us to further penetrate the marketplace, the marketplace must be confident that we provide effective security protection for national and other secured identification documents and cards. Although we have not experienced any act of sabotage or unauthorized access by a third party to our software or technology to date, if an actual or perceived breach of security occurs in our internal systems or those of our customers, regardless of whether we caused the breach, it could adversely affect the market’s perception of our products and services. This could cause us to lose customers, resellers, alliance partners or other business partners, thereby causing our revenues to decline. If we or our customers were to experience a breach of our internal systems, our business could be severely harmed by adversely affecting the market’s perception of our products and services.

 

Third parties could obtain access to our proprietary information or could independently develop similar technologies.

 

Despite the precautions we take, third parties may copy or obtain and use our technologies, ideas, know-how and other proprietary information without authorization or may independently develop technologies similar or superior to our technologies. In addition, the confidentiality and non-competition agreements between us and most of our employees, representatives and clients may not provide meaningful protection of our proprietary technologies or other intellectual property in the event of unauthorized use or disclosure. If we are not able to successfully defend our industrial or intellectual property rights, we may lose rights to technologies that we need to develop our business, which may cause us to lose potential revenues, or we may be required to pay significant license fees for the use of such technologies. To date, we have relied primarily on a combination of trade secret and copyright laws, as well as nondisclosure and other contractual restrictions on copying, reverse engineering and distribution to protect our proprietary technology.

 

Our current patents portfolio and any patents that we may register in the future may provide only limited protection for our technology and may not be sufficient to provide competitive advantages to us. For example, competitors could be successful in challenging any issued patents or, alternatively, could develop similar or more advantageous technologies on their own or design around our patents. Any inability to protect intellectual property rights in our technology could enable third parties to compete more effectively with us.

 

In addition, the laws of certain foreign countries may not protect our intellectual property rights to the same extent as do the laws of Israel or the United States. Our means of protecting our intellectual property rights in Israel, the United States or any other country in which we operate may not be adequate to fully protect our intellectual property rights.

 

Third parties may assert that we are infringing their intellectual property rights, and IP litigation could require us to incur substantial costs even when our efforts are successful.

 

We may face IP litigation, which could be costly, harm our reputation, limit our ability to sell our products, force us to modify our products or obtain appropriate licenses, and divert the attention of management and technical personnel. Our products employ technology that may infringe on the proprietary rights of others, and, as a result, we could become liable for significant damages and suffer other harm to our business.

 

Other than the litigation described in Item 8A “Consolidated Statements and Other Financial Information - Legal Proceedings,” we have not been subject to material IP litigation to date. We have received demand letters in the past alleging that products or processes of ours are in breach of patents, which we have denied, and after a respective lawsuit has been filed in respect of such claims, it has been resolved and dismissed with no effect on our business or any material cost to us.

 

 13 

 

 

Litigation may be necessary in the future to enforce any patents we have or may obtain and/or any other IP rights, to protect our trade secrets, to determine the validity and scope of the proprietary rights of others, or to defend against claims of infringement or invalidity, and we may not prevail in any such future litigation. Litigation, whether or not determined in our favor or settled, could be costly, could harm our reputation and could divert the efforts and attention of our management and technical personnel from normal business operations. In addition, adverse determinations in litigation could result in the loss of our proprietary rights, subject us to significant liabilities, require us to seek licenses from third parties, prevent us from licensing our technology or selling or manufacturing our products, or require us to expend significant resources to modify our products or attempt to develop non-infringing technology, any of which could seriously harm our business.

 

Our products may contain technology provided to us by third parties. Because we did not develop such technology ourselves, we may have little or no ability to determine in advance whether such technology infringes the IP rights of any other party. Our suppliers and licensors may not be required to indemnify us in the event that a claim of infringement is asserted against us, or they may be required to indemnify us only with respect to intellectual property infringement claims in certain jurisdictions, and/or only up to a maximum amount, above which we would be responsible for any further costs or damages. In addition, we have indemnification obligations to certain parties with respect to any infringement of third-party patents and intellectual property rights by our products. If litigation were to be filed against these parties in connection with our technology, we would be required to defend and indemnify such parties.

 

We rely on the services of certain executive officers and key personnel, the loss of whom could adversely affect our business.

 

Our future success depends largely on the efforts and abilities of our executive officers and senior management and other key employees, including technical and sales personnel. The loss of the services of any of these persons could adversely affect our business. We do not maintain any “key-person” life insurance with respect to any of our employees.

 

Our ability to remain competitive depends in part on attracting, hiring and retaining qualified technical personnel, and if we are not successful in such efforts, our business could be disrupted.

 

Our future success depends in part on the availability of qualified technical personnel, including personnel trained in software and hardware applications within specialized fields. As a result, we may not be able to successfully attract or retain skilled technical employees, which may impede our ability to develop, install, implement and otherwise service our software and hardware systems and to efficiently conduct our operations.

 

The information technology and network security industries are characterized by a high level of employee mobility and the market for technical personnel remains extremely competitive in certain regions, including Israel. This competition means that (i) there are fewer highly qualified employees available for hire, (ii) the costs of hiring and retaining such personnel are high, and (iii) highly qualified employees may not remain with us once hired. Furthermore, there may be pressure to provide technical employees with stock options and other equity interests in us, which may dilute our shareholders and increase our expenses.

 

The additions of new personnel and the departure of existing personnel, particularly in key positions, can be disruptive, might lead to additional departures of existing personnel and could have a material adverse effect on our business, operating results and financial condition.

 

Some of our products are subject to government regulation of radio frequency technology, which could cause a delay in introducing, or an inability to introduce, such products in the United States and other markets.

 

The rules and regulations of the United States Federal Communications Commission(FCC), or the European CE, limit the radio frequency used by and level of power emitting from electronic equipment. Our Connectivity and IoT products and equipment are required to comply with these FCC and/or CE rules, which may require certification, verification or registration of the equipment with the FCC and CE. Certification and verification of new equipment requires testing to ensure the equipment’s compliance with the FCC’s and/or CE’s rules. The equipment must be labeled according to the FCC’s and/or CE’s rules to show compliance with these rules. Testing, processing of the FCC’s and/or CE’s equipment certificate or FCC registration and labeling may increase development and production costs and could delay introduction of our verification scanning device and next generation radio frequency technology scanning equipment into the U.S. European markets. Selling, leasing or importing non-compliant equipment is considered a violation of FCC or CE rules and related law, and violators may be subject to an enforcement action by the related authorities. Any failure to comply with the applicable rules and regulations of the FCC and/or CE could have an adverse effect on our business, operating results and financial condition by increasing our compliance costs and/or limiting our sales in the United States and Europe.

 

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Risks Related to Our Ordinary Shares

 

Volatility of the market price of our ordinary shares could adversely affect our shareholders and us.

 

The market price of our ordinary shares has been, and is likely to be, highly volatile and could be subject to wide fluctuations in response to numerous factors, including the following:

 

  · actual or anticipated variations in our quarterly operating results or those of our competitors;

 

  · announcements by us or our competitors of technological innovations or new and enhanced products;

 

  · developments or disputes concerning proprietary rights;

 

  · introduction and adoption of new industry standards;

 

  · changes in financial estimates by securities analysts;

 

  · market conditions or trends in our industry;

 

  · changes in the market valuations of our competitors;

 

  · announcements by us or our competitors of significant acquisitions;

 

  · entry into strategic partnerships or joint ventures by us or our competitors;

 

  · failing to meet in the financial projection or guidance

 

  · political and economic conditions, such as a recession or interest rate or currency rate fluctuations or political events; and

 

  · other events or factors in any of the countries in which we do business, including those resulting from war, incidents of terrorism, natural disasters or responses to such events.

 

In addition, the stock market in general, and the market for Israeli companies in particular, has been highly volatile. Many of these factors are beyond our control and may materially adversely affect the market price of our ordinary shares, regardless of our performance. In the past, following periods of market volatility, shareholders have often instituted securities class action litigation relating to the stock trading and price volatility of the company in question. If we were involved in any securities litigation, it could result in substantial cost to us to defend and divert resources and the attention of management from our business.

 

We have a shareholder that is able to exercise substantial influence over us and all matters submitted to our shareholders.

 

Sigma Wave Ltd., or Sigma, which is controlled by family members of Mrs. Tsviya Trabelsi, our Chairman of the Board, and by her husband, Mr. Arie Trabelsi, is the beneficial owner of approximately 28.2% of our outstanding ordinary shares as of December 2, 2019. Such ownership interest gives Sigma the ability to influence our corporate affairs and to control our Company, including our management, subject to approvals that may be required for related-party transactions pursuant to Israeli law. Sigma may have influence over the outcome of most matters submitted to our shareholders, including the election of our directors, and such influence could make us a less attractive acquisition or investment target. Because the interests of Sigma may differ from the interests of our other shareholders, actions taken by Sigma with respect to us may not be favorable to our other shareholders.

 

We do not expect to pay cash dividends.

 

We have never paid cash dividends on our ordinary shares and do not anticipate paying cash dividends in the near future. According to the Israeli Companies Law, dividends may only be paid out of profits legally available for distribution and provided that there is no reasonable concern that such payment will prevent us from satisfying our existing and foreseeable obligations as they become due. The payment of dividends will depend on earnings, financial condition, debt covenants in place, and other business and economic factors affecting us at such time as our board of directors may consider relevant. If we do not pay dividends, our ordinary shares may be less valuable because a return on your investment will only occur if our stock price appreciates.

 

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We may fail to maintain effective internal control over financial reporting, which could result in material misstatements in our financial statements.

 

The Sarbanes-Oxley Act of 2002, or Sarbanes-Oxley, imposes certain duties on us and our executives and directors. Our efforts to comply with the requirements of Section 404 of Sarbanes-Oxley governing internal controls and procedures for financial reporting have resulted in increased general and administrative expense and a diversion of management time and attention, and we expect these efforts to require the continued commitment of significant resources. Section 404 of Sarbanes-Oxley requires management’s annual review and evaluation of our internal control over financial reporting in connection with the filing of the Annual Report on Form 20-F for each fiscal year. We may identify material weaknesses or significant deficiencies in our internal control over financial reporting. Failure to maintain effective internal control over financial reporting could result in material misstatements in our financial statements. Any such failure could also adversely affect the results of our management’s evaluations and annual auditor reports regarding the effectiveness of our internal control over financial reporting. Failure to maintain effective internal control over financial reporting could result in investigation or sanctions by regulatory authorities and could have a material adverse effect on our operating results, investor confidence in our reported financial information and the market price of our ordinary shares.

 

Risks Related to Our Location and Incorporation in Israel

 

Political, economic and military instability, war and/or acts of terror in Israel may disrupt our operations and negatively affect our business condition, harm our results of operations and adversely affect our share price.

 

We are incorporated under the laws of, and our principal executive offices and research and development facilities are located in, the State of Israel. As a result, political, economic and military conditions, war and/or acts of terror affecting Israel directly influence us. Any major hostilities involving Israel, a full or partial mobilization of the reserve forces of the Israeli army, the interruption or curtailment of trade between Israel and its present trading partners, or a significant downturn in the economic or financial condition of Israel could adversely affect our business, financial condition and results of operations.

 

Since its establishment in 1948, Israel has been involved in a number of armed conflicts with its Arab neighbors and a state of hostility, varying from time to time in intensity and degree, has continued into 2017. Also, since 2011, uprisings in several countries in the Middle East and neighboring regions have led to severe political instability in several neighboring states and to a decline in the regional security situation. Such instability may affect the local and global economy, could negatively affect business conditions and, therefore, could adversely affect our operations. In addition, Iran has threatened to attack Israel and is widely believed to be developing nuclear weapons. Iran is also believed to have a strong influence among extremist groups in areas that neighbor Israel, such as Hamas in Gaza and Hezbollah in Lebanon. Any armed conflicts, terrorist activities or political instability in the region could materially and adversely affect our business, financial condition and results of operations. In addition, the political and security situation in Israel may result in parties with whom we have agreements involving performance in Israel claiming that they are not obligated to comply with their undertakings under those agreements pursuant to force majeure provisions in such agreements. To date, these matters have not had any material effect on our business and results of operations; however, the regional security situation and worldwide perceptions of it are outside our control and there can be no assurance that these matters will not negatively affect us in the future.

 

Furthermore, we could be adversely affected by the interruption or reduction of trade between Israel and its trading partners. Some countries, companies and organizations continue to participate in a boycott of Israeli companies and others doing business with Israel or with Israeli companies. As a result, we are precluded from marketing our products to these countries, companies and organizations. Foreign government defense export policies towards Israel could also make it more difficult for us to obtain the export authorizations necessary for our activities. Also, over the past several years, there have been calls, in Europe and elsewhere, to reduce trade with Israel. Restrictive laws, policies or practices directed towards Israel or Israeli businesses may have an adverse impact on our operations, our financial results or the expansion of our business.

 

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Our financial results may be adversely affected by inflation and currency fluctuations.

 

We report our financial results in dollars, while a portion of our expenses, primarily salaries, are paid in NIS. Therefore, our NIS related costs, as expressed in U.S. dollars, are influenced by the exchange rate between the U.S. dollar and the NIS. The appreciation of the NIS against the U.S. dollar will result in an increase in the U.S. dollar cost of our NIS expenses. We are also influenced by the timing of, and the extent to which, any increase in the rate of inflation in Israel over the rate of inflation in the United States is not offset by the devaluation of the NIS in relation to the dollar. Our dollar costs in Israel will increase if inflation in Israel exceeds the devaluation of the NIS against the dollar or if the timing of such devaluation lags behind inflation in Israel. In the past, the NIS exchange rate with the dollar and other foreign currencies had fluctuated, generally reflecting inflation rate differentials. We cannot predict any future trends in the rate of inflation in Israel or the rate of devaluation or appreciation of the NIS against the dollar. If the dollar cost of our operations in Israel increases, our dollar measured results of operations will be adversely affected.

 

Our operations could be disrupted as a result of the obligation of management or key personnel to perform military service in Israel.

 

Generally, all nonexempt male adult citizens and permanent residents of Israel under the age of 40, or older for reserves officers or citizens with certain occupations, as well as certain female adult citizens and permanent residents of Israel, are obligated to perform annual military reserve duty and are subject to being called for active duty at any time under emergency circumstances. While we have operated effectively under these requirements since our incorporation, we cannot predict the full impact of such conditions on us in the future, particularly if emergency circumstances occur. If many of our employees are called for active duty, our operations in Israel and our business, operating results and financial condition may be adversely affected.

 

We may not be able to enforce covenants not-to-compete under current Israeli law.

 

We have non-competition agreements with most of our employees, many of which are governed by Israeli law. These agreements generally prohibit our employees from competing with us or working for our competitors for a specified period following termination of their employment. However, Israeli courts are reluctant to enforce non-compete undertakings of former employees and tend, if at all, to enforce those provisions for relatively brief periods of time in restricted geographical areas and only when the employee has unique value specific to that employer’s business and not just regarding the professional development of the employee. Any such inability to enforce non-compete covenants may cause us to lose any competitive advantage resulting from advantages provided to us by such confidential information.

 

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We may become subject to claims for remuneration or royalties for assigned service invention rights by our employees, which could result in litigation and adversely affect our business.

 

A significant portion of our intellectual property has been developed by our Israeli employees in the course of their employment for us. Under the Israeli Patent Law, 5727-1967 (the “Israeli Patent Law”), inventions conceived by an employee during the term and as part of the scope of his or her employment with a company are regarded as “service inventions,” which belong to the employer, absent a specific agreement between the employee and employer giving the employee service invention rights. The Israeli Patent Law also provides that if there is no such agreement between an employer and an employee, the Israeli Compensation and Royalties Committee (the “C&R Committee”), a body constituted under the Israeli Patent Law, shall determine whether the employee is entitled to remuneration for his inventions. The C&R Committee (decisions of which have been upheld by the Israeli Supreme Court) has held that employees may be entitled to remuneration for their service inventions despite having specifically waived any such rights. Further, the C&R Committee has not yet set specific guidelines regarding the method for calculating this remuneration or the criteria or circumstances under which an employee’s waiver of his right to remuneration will be disregarded. We generally enter into intellectual property assignment agreements with our employees pursuant to which such employees assign to us all rights to any inventions created in the scope of their employment or engagement with us. Although our employees have agreed to assign to us service invention rights and have specifically waived their right to receive any special remuneration for such assignment beyond their regular salary and benefits, we may face claims demanding remuneration in consideration for assigned inventions. As a consequence of such claims, we could be required to pay additional remuneration or royalties to our current or former employees, or be forced to litigate such claims, which could negatively affect our business.

 

Your rights and responsibilities as a shareholder will be governed by Israeli law and differ in some respects from the rights and responsibilities of shareholders under U.S. law.

 

We are incorporated under Israeli law. The rights and responsibilities of holders of our ordinary shares are governed by our Memorandum of Association and Articles of Association and by Israeli law. These rights and responsibilities differ in some respects from the rights and responsibilities of shareholders in typical U.S. corporations. In particular, a shareholder of an Israeli company has a duty to act in good faith and customary manner in exercising his or her rights and fulfilling his or her obligations toward the company and other shareholders, and to refrain from misusing his power, including, among other things, when voting at the general meeting of shareholders on certain matters. Israeli law provides that these duties are applicable to shareholder votes on, among other things, amendments to a company’s articles of association, increases in a company’s authorized share capital and mergers and interested party transactions requiring shareholder approval. A shareholder also has a general duty to refrain from exploiting any other shareholder of his or her rights as a shareholder. In addition, a controlling shareholder of an Israeli company or a shareholder who knows that it possesses the power to determine the outcome of a shareholder vote or who, under our Articles of Association, has the power to appoint or prevent the appointment of a director or executive officer in the company, has a duty of fairness toward the company. Israeli law does not define the substance of this duty of fairness, but provides that remedies generally available upon a breach of contract will apply also in the event of a breach of the duty to act with fairness. Because Israeli corporate law has undergone extensive revision in recent years, there is little case law available to assist in understanding the implications of these provisions that govern shareholder behavior.

 

Provisions of Israeli law may delay, prevent or otherwise encumber a merger with or an acquisition of our company, which could prevent a change of control, even when the terms of such transaction are favorable to us and our shareholders.

 

Israeli corporate law regulates mergers, requires tender offers for acquisitions of shares above specified thresholds, requires special approvals for transactions involving directors, officers or significant shareholders and regulates other matters that may be relevant to these types of transactions. Furthermore, Israeli tax considerations may make potential transactions unappealing to us or to some of our shareholders whose country of residence does not have a tax treaty with Israel exempting such shareholders from Israeli tax. These provisions of Israeli law could delay, prevent or impede a merger with or an acquisition of our company, which could prevent a change of control, even when the terms of such transaction are favorable to us and our shareholders and therefore potentially depress the price of our shares.

 

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Our shareholders may face difficulties in the enforcement of civil liabilities against us and our officers and directors or in asserting U.S. securities law claims in Israel.

 

Most of our officers and directors are residents of Israel or otherwise reside outside of the United States. SuperCom Ltd. is incorporated under Israeli law and its principal office and facilities are located in Israel. All or a substantial portion of the assets of such persons are or may be located outside of the United States. Therefore, service of process upon SuperCom Ltd., such directors and officers may be difficult to effect in the United States. It also may be difficult to enforce a U.S. judgment against SuperCom Ltd., such officers and directors as any judgment obtained in the United States against such parties may not be collectible in the United States. In addition, it may be difficult to assert U.S. securities law claims in original actions instituted in Israel. Israeli courts may refuse to hear a claim based on a violation of U.S. securities laws because Israel is not the most appropriate forum to bring such a claim. In addition, even if an Israeli court agrees to hear a claim, it may determine that Israeli law and not U.S. law is applicable to the claim. If U.S. law is found to be applicable, the content of applicable U.S. law must be proved as a fact, which can be a time-consuming and costly process. Certain matters of procedure will also be governed by Israeli law. There is little binding case law in Israel addressing these matters.

 

Being a foreign private issuer exempts us from certain Securities and Exchange Commission requirements.

 

As a foreign private issuer within the meaning of rules promulgated under the U.S. Securities and Exchange Act of 1934, as amended, or the Exchange Act, we are exempt from certain provisions applicable to U.S. public companies including:

 

  · the rules under the Exchange Act requiring the filing with the Securities and Exchange Commission of quarterly reports on Form 10-Q and current reports on Form 8-K;

 

  · the sections of the Exchange Act regulating the solicitation of proxies in connection with shareholder meetings;

 

  · the provisions of Regulation FD aimed at preventing issuers from making selective disclosures of material information; and

 

  · the sections of the Exchange Act requiring insiders to file public reports of their stock ownership and trading activities and establishing insider liability for profits realized from any “short-swing” trading transaction (i.e., a purchase and sale, or sale and purchase, of the issuer’s equity securities within less than six months).

 

Because of these exemptions, investors are not afforded the same protections or information generally available to investors holding shares in public companies organized in the United States.

 

ITEM 4. INFORMATION ON THE COMPANY

 

A. History and Development of the Company

 

SuperCom Ltd. is a company organized under the laws of the State of Israel. Our registered office is located at 20 Lincoln street, Tel-Aviv, Israel, and our telephone number is +972-9-889-0880. Our agent in the United States is SuperCom, Inc., and is located at 200 Park Avenue South, New York, New York, telephone number +1 (212) 675-4606.

 

SuperCom Ltd. was incorporated in the State of Israel on July 4, 1988 pursuant to the provisions of the then-current Israeli Companies Ordinance. The legislative framework within which we now operate is the Israeli Companies Law, which became effective on February 1, 2000, and the Israeli Companies Ordinance (New Version) 1983, as amended (the “Companies Ordinance”).

 

From our incorporation in 1988 until 1999, we were a development-stage company primarily engaged in research and development, establishing relationships with suppliers and potential customers and recruiting personnel with a focus on the governmental market. In 2001, we implemented a reorganization plan, which we completed in 2002. As a result of the reorganization, we expanded our marketing and sales efforts to include the commercial market with a new line of advanced smart card and identification technologies products, while maintaining our governmental market business.

 

During 2002, we sold, in three separate transactions with third party purchasers, our entire equity interest in a U.S. subsidiary, InkSure Technologies, Inc., for which we received aggregate proceeds of approximately $6.6 million . In December 2002, we discontinued the operations, disposed of all of the assets and terminated the employees of two U.S. subsidiaries, Genodus Inc. and Kromotek, Inc.

 

In 2006 we decided to sell most of our e-Gov Division in order to focus on opportunities in the U.S. for our IoT businesses as well as our Critical Situation Management System, or CSMS, business, which we sold in 2010.

 

On December 31, 2006, we sold the majority of the e-Gov Division activities and related intellectual property to OTI for 2,827,200 restricted ordinary shares of OTI, as of December 31, 2008, we sold all of the OTI shares that we received in the transaction.

 

On August 28, 2007, we purchased through our wholly-owned subsidiary, Vuance, Inc., all of the issued and outstanding stock capital of Security Holding Corp., or SHC, from Homeland Security Capital Corporation and other minority shareholders for approximately $4.34 million of our ordinary shares and direct expenses of approximately $600,000 in our ordinary shares. A total of 258,218 ordinary shares were issued to the sellers. SHC was a Delaware corporation engaged in the manufacture and distribution of RFID-enabled solutions, access control and security management systems. During the fourth quarter of 2007, SHC and its subsidiaries were merged into our Vuance, Inc. subsidiary.

 

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In September 2007, we entered into a definitive agreement to acquire the credentialing division of Disaster Management Solutions Inc., or DMS, for approximately $100,000 in cash and up to $650,000 in royalties’ payable upon sales of the advanced first responder credentialing system named “RAPTOR” during the first twelve months following the acquisition in August 2007. This acquisition complemented our former incident management solutions business and added the RAPTOR system to our former CSMS business, both of which were sold in 2010.

 

On March 25, 2009, we completed the acquisition of certain of the assets and certain of the liabilities of Intelli-Site, Inc. pursuant to an asset purchase agreement. We agreed to pay Intelli-Site $262,000 payable in cash and in our shares (which were subject to a certain lock up mechanism) and included a contingent consideration of up to $600,000 based upon certain conditions.

 

In January 2010, we completed the sale to OLTIS Security Systems International, LLC, or OSSI, of certain assets (including certain accounts receivable and inventory of a subsidiary) and certain liabilities (including certain accounts payable) related to our electronic access control market for $146,822 in cash. In addition, OSSI paid off a loan that our subsidiary had taken from Bridge Bank, National Association.

 

In January 2010, we completed the sale of certain of the assets of Vuance, Inc and certain of its liabilities related to our Government Services Division, pursuant to an asset purchase agreement for $250,000. In addition, the purchasers agreed to pay Vuance, Inc. an earn-out of up to $1.5 million over the course of calendar years 2010 through 2013.

 

At the beginning of 2012, we decided to leverage our experience in the e-Gov market and increase our position in the market by: (i) proposing other new technologies and solutions to our existing e-Gov customers, (ii) securing other e-Gov projects and solutions by virtue of entering into joint ventures with partners with a global presence and complementary goals and products and (iii) retaining an outstanding group of market executives and experts, which allowed us to propose and implement what we believe to be competitive ID and e-Gov solutions to the global markets.

 

During 2012, we altered our strategy with respect to the IoT division to focus on solutions for three growing electronic monitoring vertical markets: (i) public safety, (ii) healthcare and homecare and (iii) transportation management. We have enhanced and developed a series of new products and solutions including the Pure Security Suite, Puretag, PureCom, Pure Monitor and PureTrack,

 

Between 2013 and through 2016, our product depth and global presence was expanded significantly with our acquisitions of the SmartID division of OTI in 2013, Prevision in 2015, and LCA, Safend , the PowaPOS business, and Alvarion in 2016, together with our extensive research and development of new product lines for the e-Gov, IoT, cyber security, and connectivity businesses.

 

On December 26, 2013, we acquired the SmartID division of OTI, including all contracts, software, other related technologies and IP assets. We paid OTI $8.8 million ($10 million less certain closing adjustments) at the closing and agreed to make contingent payments of up to $12.5 million pursuant to an earn-out mechanism based on certain performance and other milestones. In April 2016, we had further negotiations with OTI, and entered into an agreement with OTI. Under this agreement, the remaining earn-out amount was reduced to a maximum of $3.55 million, out of which an amount of $2.05 million was paid at the beginning of May 2016.

 

On November 12, 2015, we acquired Prevision, an Israeli based cyber security company. We paid $1.1 million at the closing and agreed to make contingent annual payments of approximately $250,000 pursuant to an earn-out mechanism for the next four years. The contingent consideration is subject to service provided by the seller to the company during the earn-out period and therefore is not part of the business combination, as of January 15, 2018 the seller does not provide services to the Company.

 

On January 1, 2016 we acquired LCA, a U.S. based company, including all contracts, software, other related technologies and IP assets. We paid $2.9 million at the closing and committed to certain contingent earn-out payments over the next three years that are structured as a single digit percentage of annual revenues in excess of stand-alone LCA management revenue projections, as of January 2018 the contingent earn-out is no longer exists.

 

On March 13, 2016, we acquired Safend, an Israeli based cyber security company. In consideration for this acquisition, we agreed to provide up to $1.5 million in working capital to Safend to support its activity and growth through a structured debt and equity vehicle and to provide administrative, sales and marketing services and required capital. Safend is an international provider of cutting edge endpoint data protection guarding against corporate data loss and theft through content discovery and inspection, encryption methodologies, and comprehensive device and port control. Safend maps sensitive information and controls data flow through email, web, external devices and additional channels. Founded in 2003 and headquartered in Tel Aviv, Israel, Safend sold its products to over 3,000 customers in the United States, Europe, and Asia, and more than three million software license seats deployed by multinational enterprises, government agencies and small to mid-size companies around the globe.

 

On April 18, 2016, we acquired the PowaPOS business, a division of POWA Technologies Ltd., the developer of a fully-integrated mobile and tablet-based system integrating industry-leading retail and secure payment solutions into one simplified, attractive and innovative POS platform.

 

On May 18, 2016, we acquired Alvarion. Alvarion designs solutions for carrier wi-fi, enterprise connectivity, smart city, smart hospitality, connected campuses and connected events that are both complete and heterogeneous to ensure ease-of-use and optimize operational efficiency.

 

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B. BUSINESS OVERVIEW

 

Founded in 1988, we are a global provider of traditional and digital identity solutions, advanced IoT and connectivity solutions, and cyber security products and solutions, to governments and private and public organizations throughout the world.

 

We are comprised of three main Strategic Business Units(SBU) : e-Gov, IoT and Connectivity (or “IoT”), and Cyber Security:

 

e-Gov

 

Through our proprietary e-Government platforms and innovative solutions for traditional and biometrics enrollment, personalization, issuance and border control services, we have helped governments and national agencies design and issue secured multi-identification, or Multi-ID, documents and robust digital identity solutions to their citizens, visitors and Lands

 

We have focused on expanding our activities in the traditional identification, or ID, and electronic identification, or e-Gov, market, including the design, development and marketing of identification technologies and solutions to governments in Europe, Asia, America and Africa using our e-Government platforms. Our activities include: (i) utilizing paper secured by different levels of security patterns (UV, holograms, etc.); and (ii) electronic identification secured by biometric data, principally in connection with the issuance of national Multi-ID documents (IDs, passports, driver’s licenses, vehicle permits, and visas, Secure Land Certificated) border control applications and Land Information System(LIS) .

 

On December 26, 2013 we acquired the SmartID division of On Track Innovations Ltd., or OTI, including all contracts, software, other related technologies and intellectual property, or IP, assets. The SmartID division has a strong international presence, with a broad range of competitive and well-known e-Gov solutions and technology. The acquisition significantly expanded the breadth of our e-Gov capabilities globally, while providing us with outstanding market and technological experts, together with leading ID software platforms and technologies.

 

IoT and Connectivity

 

IoT

 

Our IoT products and solutions reliably identify, track and monitor people or objects in real time, enabling our customers to detect unauthorized movement of people, vehicles and other monitored objects. We provide all-in-one field-proven IoT suite, accompanied with services specifically tailored to meet the requirements of an IoT solutions.  Our proprietary IoT suite of hybrid hardware, connectivity and software components are the foundation of these solutions and services. Our IOT division has primarily focused on growing the following markets: (i) public safety; (ii) healthcare and homecare; (iii) Smart Cities (iv) Smart Campus and (iv) transportation.

 

During 2006, we identified the growing electronic tracking and monitoring vertical markets for public safety, real time healthcare and homecare, and transportation management. We have developed the PureRF Hybrid suit of wrist devices, connectivity, and controlling software, from 2012 we have developed the next generation IoT suite of devices, connectivity and Monitoring software; the PureSecurity Hybrid Suite of wrist band, tags, beacons, PureCom, Pure Monitors, PureTrack and other components.

 

On January 1, 2016 we acquired Leaders in Community Alternatives, Inc., or LCA. LCA is a California based, private criminal justice organization, providing community-based services and electronic monitoring programs to government agencies in the U.S. for more than 25 years. LCA offers a broad range of competitive solutions for governmental institutions across the U.S. in addressing realignment strategies and plans.

 

Connectivity

 

In 2016, as part of our strategy to enhance and broaden our IoT connectivity products and solutions offerings for public safety, enterprises, hospitality and smart cities markets, on May 18, 2016, we acquired Alvarion Technologies Ltd., or Alvarion. Alvarion designs solutions for carrier wi-fi, enterprise connectivity, smart city, smart hospitality, connected campuses and connected events that are both complete and heterogeneous to ensure ease-of-use and optimize operational efficiency. Carriers, local governments and hospitality sectors worldwide deploy Alvarion’s intelligent wi-fi networks to enhance productivity and performance, as well as its legacy backhaul services and products.

 

Secure Financial Solutions (SFS)

 

During 2014, we identified the SFS market as a very fast-growing market where we believe that SuperCom has significant advantages due to synergic technologies and shared customer base to our other divisions. Since 2014, we have developed and introduced secure financial services suite of products, the SuperPayTM. We offer advanced secure mobile payments ranging from mobile wallet to mobile point of sale (POS) using a set of components and platforms to enable secure mobile payments and financial services.

 

On April 18, 2016, we acquired the PowaPOS business, a division of POWA Technologies Ltd., the developer of a fully-integrated mobile and tablet-based system integrating industry-leading retail and secure payment solutions into one simplified, attractive and innovative POS platform. PowaPOS has been deployed in countries all over the world, and has been integrated by cloud-based POS software providers, we believe= this technology will be a highly value-added solution to our secure payment customers around the world.

 

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Cyber Security

 

During 2015, we identified the cyber security market as a very fast growing market where we believe that SuperCom has major advantages due to synergic technologies and shared customer base to our e-Gov, IoT and connectivity SBUs. In 2015, we acquired Prevision Ltd., or Prevision, a company with a strong presence in the market and a broad range of competitive and well-known cyber security services. During the first quarter of 2016, we acquired Safend Ltd, or Safend, an international provider of cutting edge endpoint data protection guarding against corporate data loss and theft through content discovery and inspection, encryption methodologies, and comprehensive device and port control. Safend maps sensitive information and controls data flow through email, web, external devices and additional channels.

 

Both acquisitions significantly expanded the breadth of our cyber security capabilities globally, while providing us with outstanding market and technological experts and over 3,000 customers in the United States, Europe, and Asia, and more than three million software license seats deployed by multinational enterprises, government agencies and small to mid-size companies around the globe, together with leading data and cyber security platforms and technologies.

 

Market Opportunity

 

We believe that our wide range of solutions offers us several opportunities across global markets and industries. The overall e-Gov market remains strong. Our addressable market includes both developing and developed countries. The acquisition of the SmartID division of OTI in late 2013 diversified our source of revenues and offered us access to new markets in Africa, Asia, and South America, all areas with great potential.

 

We plan to grow the e-Gov division organically, by adding new e-Gov government customers and by offering more services to existing customers. We believe that our platform is agile and scalable, meaning that once a customer is using one of our applications, it is easy to add additional applications and services, which can increase a client’s return on their investment. In addition, and as a result of the integration of SuperCom and the SmartID division, we are now well-positioned to work on larger international tenders, we began actively bidding on larger international tenders in markets where we see significant opportunities.

 

The opportunities we see for our e-Gov division may have an impact on the number of opportunities for our IoT, and Cyber security divisions as well. We have begun to leverage our e-Gov existing customer base, and we believe that the expertise and robust innovative solutions in these two segments represent a significant opportunity for SuperCom.

 

We offer our new generation IoT and connectivity hybrid suite, which provides a full solution encompassing proprietary software and various secure connectivity technology, to customers in the United States and in Europe, South America and Africa, by exhibiting and demoing to potential customers in those regions. We launched our new generation Pure Security offender monitoring suite and began submitting it to tenders in the public safety market. These tenders range in value from tens of thousands to tens of millions of dollars.

 

In January 1, 2016, we acquired LCA, a California based, private criminal justice organization with over 25 years of experience running electronic monitoring programs for government customers in the U.S. It has significantly bolstered our competitive edge in competitive tenders allowing us to offer not only cutting edge technology, but also extensive industry experience. We have since then beat market competitors in competitive processes and have been awarded projects in various countries around the world including USA, Canada, Latvia, Czech Republic, Denmark, Bulgaria and other countries in Europe and Asia. Following our recent success and status in active tenders, we believe we are well positioned to win additional new projects in years to come.

 

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In addition, there is always demand for better security systems and services. We believe that personnel and asset management are now leading security concerns in commercial and governmental enterprises, and that this should drive an increasing demand for secure, precise and cost-effective means to positively identify, locate, track, monitor, count and protect people and objects, including inventory and vehicles. Our IoT solutions provide an optimal solution to these problems as our solutions reliably identify and track the movement of people and objects in real time, enabling our customers to detect unauthorized movement of vehicles as well as trace packages, containers and the access to premises by control personnel and vehicles.

 

With respect to our Secure Financial Solutions, research indicates that 2.5 billion people globally are un-banked (meaning they have no bank account or credit card), but over 1 billion of those people have access to mobile phones, which represents our SFS applicable market. We presented our mobile money and mobile payment suite at several large payment conferences and the global market showed interest in our proprietary solution. In September, 2016, we launched a mobile wallet solution together with Verifone, a leading global technology and service provider in the point-of-sale market, and Nofshonit, one of the largest loyalty club providers and operators in Israel, for digital loyalty and pre-paid shopping programs. We believe that our ability to capture even a small portion of this fast growing market would represent a significant and long-term growth opportunity.

 

We identified the Cyber Security market as a fast growing market where SuperCom has major advantages due to synergic technologies and shared customer bases with our e-Gov, and IoT divisions. In 2015, we acquired Prevision Ltd., a company with a broad range of competitive and well-known Cyber Security services. During the first quarter of 2016, we acquired Safend Ltd, an international provider of cutting edge endpoint data protection guarding against corporate data loss and theft. We now have a platform of thousands of sophisticated enterprise customers which run our proprietary endpoint protection software and utilize our cyber security services. Through this platform we hope to more easily deploy additional innovations in cyber security, such as our proprietary Safe Mobile security software, to high quality enterprise customers.

 

Our Strategy

 

We are focused on our core competencies, which are comprised of our e-Gov platform and solutions, our IoT suite and connectivity solutions, our extensive Cyber Security products and solutions. Our growth strategy includes the following components:

 

  · Develop strong strategic relationships with our business partners, including the systems integrators and representatives that introduce our products and solutions into their respective markets.

 

  · Employ dedicated sales personnel to work closely with our business partners. Our sales personnel will customize and adapt solutions that can then be installed and supported by these business partners.

 

  · Expand our IoT and Cyber Security activities globally, particularly in the Americas, Europe, and the Far East.

 

  · Leverage our customer base, superior PureSecurity hybrid suite of IoT solutions, and Cyber Security capabilities to secure additional long-term contracts with governments and communities in the public safety markets.

 

  · Leverage our reputation, talented personnel, and project management capabilities in the e-Gov market to secure additional projects and solutions in the growing e-Government market.

 

  · Leverage our customer base, Connectivity solutions, and Cyber Security capabilities to secure additional long-term contracts with governments and communities in the Communication Infrastructure market.

 

  · Develop strong strategic relationships with business partners that will introduce our solutions into the healthcare, homecare, Safe City and Smart Campus markets.

 

  · Develop strong strategic relationships with business partners in the financial services industry, and un-banked and mobile payments markets.

 

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  · Identify and acquire synergistic contracts or businesses in order to reduce time to market, obtain complementary technologies and secure required references for international bids.

 

  · Grow our business in emerging markets with perceived significant growth opportunities.

 

We currently target the following markets:

 

National e-Government Market. Additional national e-Government clients with our e-Gov and Cyber Security technologies and products.

 

Public Safety Market . Public safety, including law enforcement agencies, community, safety agencies and ministries of justice around the world, with our electronics monitoring, or EM, solutions, including electronic identification, monitoring and tracking solutions for house arrests, GPS tracking, inmate control, detainee monitoring, juvenile supervision and tracking of persons returned to communities.

 

Financial Services and Retail Markets. Cyber Security, Financial services and retail markets through our SFS suite, VeloPOS, and through our Cyber Security products and solution.

 

Airports and Ports. Airports and ports with our IoT, e-Gov, cyber security and connectivity products and solutions. Our IoT products can help common carriers monitor, track, locate and manage multiple baggage items simultaneously, thereby reducing the risk of lost baggage, increasing customer service and improving security. Our e-Gov solutions can offer airports and ports turnkey border control systems. Our border control system is based on passenger biometric identification applications, electronic passport identification, and both optical and electronic means to detect forged passports. The system, which is operable whether it is online or offline, enables border control officers to receive accurate identification based on a combination of two machine-readable biometric applications: fingerprints and facial recognition. We offer short implementation and quick integration with the existing border control system of the country and provide external interfaces to digital certificate authority for signature verification as well as interfaces to other agencies.

 

Enterprises and Industrial Companies. Enterprises and industrial companies with our cyber security, SPS, connectivity, and IoT products and solutions, which can be used by enterprises, shippers and warehouse operators to manage and track cartons, pallets, containers and individual items in order to facilitate movement, pick up orders, verify inventory and reduce delivery time. In addition, industrial companies can manage and track their mobile equipment and tools. We believe that our IoT suite can increase efficiency at every stage of asset, inventory and supply chain management by enabling long-range identification and location of products and removing the need for their human visual identification. Our products also work in conjunction with existing bar coding and warehouse systems to reduce the risk of loss, theft and slow speed of transfer.

 

Hospitals and Homecare. Hospitals and homecare with our cyber security, Connectivity, and IoT products and solutions. The healthcare sector has successfully utilized IoT technologies for the purposes of infant protection in maternity wards and resident safety in care homes similar to our asset and personnel location and identification system targeted at the secure facility and hazardous business sectors. Our IoT Suite can provide solutions for the healthcare sector for asset, staff, patient and medical record location and identification. We believe that as hospitals continue to upgrade their security measures, IoT and connectivity technology will be utilized in real-time location systems that are designed to immediately locate persons, equipment and objects within the hospital.

 

Municipals and Educations. Municipals and education institution with our Safe City, Smart City and Smart Campus products and solutions and cyber security, connectivity, and IoT products and solutions.

 

Government and Enterprise Cyber Security Markets. Homeland and enterprise cyber security markets with our Cyber Security products and services to governments and large enterprises.

 

Our Solutions and Products

 

e-Government (e-Gov) SBU Products and Solutions

 

We have been active in the national ID and e-Government industry for more than 25 years. We work with governments and public sectors, and we believe SuperCom e-Gov is an internationally recognized competitor in the design, development, integration and delivery of highly secured national ID and e-Government solutions.

 

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We offer a complete end-to-end in-house solution for credentialing, identifying and verifying individuals by combining the capability to support biometric identification with the portability of smart cards. Most of our products are based on a common platform, which we refer to as MAGNA™, a complete end-to-end solution for such items as e-passports, national identity cards, voter identification cards and drivers’ licenses. Our solution covers everything necessary for a government to offer a particular service to the public: business process engineering, solution design and integration, hardware and software implementation, operator and technician training. The solution covers all workflows, managerial and operational reports, and it interfaces directly with the government’s business activity.

 

In addition, our e-Gov division offers a variety of related services, including: requirements extraction and system design, project management, project operation, training, operational processes optimization, assimilation, project financing (under BOT/PPP scheme), knowledge transfer, fee collection, maintenance and support and more.

 

We believe our e-Gov systems comply with regional and international standards and enhance usability by using smart card applications. Our systems’ central servers include redundancy capabilities that provide disaster recovery or failover between sites. All solutions issue financial, accountability, transaction auditing and management information reports, which decrease the likelihood of tampering and fraud by individuals.

 

Our products combine the portability of smart cards with the capability to support advanced identification and authentication technology and manage significant amounts of information. Our MAGNA™ modular platform offers short implementation and quick integration with the existing border control system of a country and provides external interfaces to digital certificate authority for signature verification, as well as interfaces to other agencies. It offers a migration path to additional e-Government applications and to additional electronic ID documents, such as national IDs, voter IDs and drivers’ licenses. Our platform can be customized to support a large number of applications, and it has been deployed in different e-passport/national ID contracts worldwide. It is also being developed for additional applications, such as medical services.

 

Our border control system is based on passenger biometric identification applications, electronic passport identification, and both optical and electronic means of detecting forged passports. The system, operable online or offline, enables border control officers to receive accurate identification based on a combination of two machine-readable biometric applications: fingerprints and facial recognition.

 

IoT and Connectivity SBU Products and Solutions

 

Our IoT division features a multiple connectivity base IoT hybrid suit accompanied by services specifically tailored to meet the requirements of the applicable industries, primarily: (i) public safety, (ii) healthcare and homecare, (iii) SafeCity, (iv) Smart Campus, (v) Connectivity networks and (iii) transportation. Our PureRF and PureSecurity suite assists organizations in efficiently utilizing time and resources. We believe it has a number of advantages for remote hands-off authentication, validation, identification, location and real-time monitoring of valuable personal resources and assets.

 

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Equipped with complex IT and cyber security knowledge and experience, our senior personnel from the IoT industry and our suite of products and software can customize IoT and connectivity programs and solutions at all levels, from tags to readers to servers, and at all stages, from design to implementation and maintenance.

 

PureRF Suite. Our PureRF Suite provides a secure, precise and cost-effective means to positively identify, locate, track, monitor, count and protect people and objects, including inventory and vehicles. Our PureRF Suite is a complete location position, or LP, system solution based on active RFID tag technology that provides commercial customers and governmental agencies enhanced asset management capabilities. The basic components of our PureRF Suite include:

 

PureRF Tags. The PureRF solution relies on small, low-powered PureRF tags that are attached to objects or people. These weatherproof and shock-resistant tags are inexpensive and attach easily to key chains, uniform equipment, property, or vehicles to allow identification and tracking wherever it is needed. License-free radio bands are used to track RF signals and can be read on handheld devices. Transmitters can be programmed for periodic or event-driven transmissions. For high-security sites or situations, encrypted tag-to-reader communication prevents cloning or copying. An integrated anti-collision algorithm allows multiple tags to be simultaneously identified by a single reader, allowing employees to be matched to individual laptops or assets, shipping pallets to merchandise, assets to “authorized” locations and drivers to specific vehicles.

 

Hands-Free Long-Range RFID Asset Tags. These tags provide real-time asset loss prevention, inventory management, and personnel/asset tracking. They identify and track laptops, office machines, computer systems, tools, and telephones. They also identify employees and visitors in office buildings, hospitals, retail stores, warehouses, industrial facilities, mines and military installations.

 

Hands-Free Long-Range RFID Vehicle Tags. These tags provide long-range vehicle ID for parking and fleet management, access control, asset loss prevention at airports, gated communities, truck and bus terminals, employee parking lots, hospitals, industrial facilities, railroads, mines and military installations.

 

PureRF Readers. Our PureRF reader is used to receive status messages from PureRF tags. The PureRF reader is an intelligent, reliable and effective small long-range RFID reader with an integrated protocol converter. The protocol converter supports various standard interfaces such as 26 bit Wiegand format, serial RS-232, serial RS-485 or TCP/IP (Ethernet) protocols, which can be utilized in various solutions. Range-adjustable antennas can be discretely hidden to identify and track PureRF tag activity. PureRF readers can operate individually for small applications or in a network to cover wide areas. The units are small, reliable and effective and can be controlled by multiple communications media.

 

PureRF Activators. PureRF activators are used to improve the accuracy of locating assets compared to what is provided by the receiver ID. They are used primarily at entrances and exits. For this purpose, PureRF activators are deployed throughout the monitored space where improved tag location measurement is required. The PureRF activators continually transmit a short-range uniquely identifying LF signal. Tags can read this signal when they are close to the activator (up to about 24 feet). The activator ID that a tag reads is added to the message that the tag transmits to the receiver. An activator’s ID indicates the location of a PureRF tag.

 

PureRF Initializer. A PureRF initializer is a device that integrates an LF transmitter and an RF receiver into one device. This enables the PureRF initializer to perform bi-directional communication with the tags. The PureRF initializer is used to control a tag’s mode of operation (on/off) and to set or modify a tag’s operational parameters, such as transmission frequency (timing) and activated sensors.

 

House Arrest Monitoring System. Our house arrest monitoring system provides fully customizable surveillance programs to eliminate frustration and operational inefficiencies. Our house arrest system is based on our PureMonitor cloud-based software and includes the PureCom base station and the PureTag RF bracelet.

 

PureTag RF Bracelet. Our PureTag RF bracelet is a highly secure, hypoallergenic, lightweight and compact RF bracelet that operates across the complete spectrum of the PureSecurity Corrections Tracking Suite. Its features include: (i) an encrypted RF signal, (ii) easy installation, (iii) four years of battery life, (iv) a disposable strap, (v) proximity detection, (vi) motion tamper detection and (vii) a strap and case.

 

PureCom RF Base Station. The PureCom RF base station brings new features and functionality to new house arrest programs. Each PureCom RF base station supports up to 50 PureTag RF bracelets. Its features include (i) a smart LCD screen, (ii) fingerprint ID verification, (iii) two-way communications via text and voice, cell, landline, Wi-Fi, and Ethernet connections, (iv) streamlined field installation, (v) a 72-hour battery backup, (vi) dual SIM for broader coverage, (vii) onboard GPS tracking, and (viii) a rugged impact resistant shell.

 

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GPS Offender Tracking System. Our GPS offender tracking system provides fully customizable surveillance programs to minimize frustration and operational inefficiencies. The GPS offender tracking system is based on our PureMonitor cloud-based software and includes the PureTrack smartphone device, the PureTag RF bracelet and an optional PureBeacon device.

 

PureTrack. Smartphone technology has made dramatic improvements in the way people work and talk. SuperCom channels a smartphone’s capabilities into an unparalleled corrections supervision tool with the following features: (i) GPS, cell tower and Wi-Fi location tracking, (ii) RF tethering via Bluetooth, (iii) configurable GPS point frequency, (iv) GSM, CDMA and Wi-Fi communication support, (v) calendar management, (vi) persistent offender term notifications and reminders, (vii) smartphone voice, text, email, video communications, (viii) portable breath-alcohol integration and (ix) bio-identification, including face, fingerprint, and voice recognition.

 

PureBeacon. Our PureBeacon is a secure RF device designed to provide indoor surveillance of offenders when GPS is not suitable. In addition to preserving the PureTrack battery life, other features include (i) four years of battery life, (ii) encrypted RF protocol, (iii) Bluetooth support, (iv) proximity and case tamper detection, (v) an expansive range via a mesh network and (vi) a waterproof, dustproof and lightweight design.

 

PureMonitor Offender Electronic Monitoring Software. PureMonitor is our cloud-based software designed to deliver the information needed by officers.  It enables quick navigation through e-interface to set schedules, generate reports, review tracking information and run efficiently and effectively.   PureMonitor supports GPS monitoring, RF house arrest, alcohol monitoring, and biometric verification products. Officers can manage the complete platform of electronic monitoring tools through a single log-in. The PureMonitor platform leverages a consistent look, feel and functionality across the entire product line. It is designed to work with the agency’s software suite, while integrated with existing case management, jail management and crime scene management systems. PureMonitor also contains a powerful suite of reports intended to allow complete and immediate visibility into any program. It supports static and mobile monitoring applications in and out of the office.

 

Inmate Monitoring System. We offer an inmate monitoring system that manages the authorized movement of inmates throughout a corrections facility. Validating the location of people and assets flowing through a corrections facility requires immense focus and dedicated resources, and inmate and officer safety depends on a system that ensures the right people are in the right place at the right time. We have developed a solution that comprehensively provides one system for all facility-based tracking concerns. Our inmate monitoring management solution is based on our cloud-based software and includes the DoorGuard tracking station, the PureTag RF bracelet and an optional Personnel Tag for staff members.

 

DoorGuard. DoorGuard is a tracking station that communicate the inmates’ activities to the management system. A DoorGuard unit is installed at the entrance of each cell to monitor all entrances and exits. Units can also be placed in the corridors for additional tracking. The DoorGuard features include (i) accurate location tracking, (ii) Ethernet and Wi-Fi communications, (iii) advanced tamper detection, (iv) an encrypted RF signal, and (v) a waterproof and dustproof design.

 

Personnel Tag. The Personnel Tag is a highly secure RF tag worn by prison officers to obtain precise indoor location verification. It provides the following features: (i) panic button for immediate monitoring center alerts, (ii) advanced tamper detection, (iii) an encrypted RF signal, (iv) a four-year battery life and (v) a lightweight design.

 

Domestic Violence Victim Protection System. Our domestic violence victim protection system offers an additional line of defense for domestic violence victims, providing information regarding the location of the offender and the distance between the offender and the victim. Our solution incorporates the latest technology to develop a public safety solution that is easy to implement. Our domestic violence victim protection system is based on our PureMonitor cloud-based software and the PureTrack smartphone device, the PureTag RF bracelet and the PureProtect smartphone app.

 

PureProtect Smartphone App. Victims can download our PureProtect smartphone app to ensure that an offender is compliant with his or her restraining order. The PureProtect app identifies and alerts the victim of proximity violations without breaching the victim’s privacy. Additionally, the app identifies offender movement and behavior patterns in order to prevent attacks. The PureProtect app supports both Android and iOS phones. It provides GPS, cell tower and RF proximity, indicates the direction of offender travel, includes GPS shielding and jamming detection, and is password protected. Alerts can be set up for a pre-defined distance so that an alert will be sent to local authorities if that distance is violated.

 

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Secure Financial Services Products and Solutions

 

We offer a full suite of solutions, ranging from mobile wallet to mobile POS using a set of components and platforms to enable secure mobile payments and financial services. Our products and solutions include:

 

SuperPayTM Suite. SuperPay is a secure mobile payment hybrid suite that allows mobile users to securely make payments while supporting smartphones. SuperPay features a number of secure payment methods and utilizes biometric authentication features already integrated in advanced smartphones such as iPhone Touch ID, Samsung fingerprint scanner, or external biometric authentication.

 

PowaPOS. Our PowaPOS T25, using the advanced and simple to use PowaPOS SDK, is a fully integrated design incorporating retail peripherals into a compact and cost-effective footprint. Powered by a single power cord, the PowaPOS platform features a universal tablet mount, built in thermal printer, 2D barcode/QR code scanner, swiveling design with customer/clerk orientation sensor, and the PowaPOS Cash Drawer. The PowaPOS SDK works with iOS, Android and Windows POS software applications, as well as third party payment devices and many other retail peripherals.

 

Connectivity Products and Solutions

 

AVIDITY WBSac. The Avidity WBSac product series is a high-performance Wi-Fi indoor and outdoor access point series intended to enable mobile operators, business and enterprises to deliver high capacity and high quality Wi-Fi solutions.

 

  · Multiple radios provide concurrent 802.11a/n/ac and 802.11b/g/n connections

  · Up to 1300 Mbps combined data rate

  · Dual concurrent MIMO, Dual-polarized antennas

  · Self-configuring, plug-and-play deployment

  · Smart MESH supported

 

BOLSTER WBSn. The Bolster WBSn is intended to enable mobile operators, governments and enterprises to deliver high-quality wi-fi solutions in metro and rural areas, with significantly fewer bases stations, and much lower costs. Carrier-grade IP-68 is designed to provide a high standard of reliability, quality of service, security and manageability.

 

  · Gigabit outdoor Wi-Fi support up to 450 Mbps, (per band) 900 Mbps for both bands, and maximum aggregated capacity of up to one Gigabit per unit

  · Built in Access Controller, for flexible service planning

  · Self-configuring, plug-and-play deployment

 

BreezeULTRA™ P6000. The BreezeULTRA family intends to provide high capacity product in wireless broadband Point to Point communication license-exempt market. BreezeULTRA offers a bold combination of capacity, performance, organic growth and ease of use capabilities.

 

  · Optimized for high capacity applications

  · Available in the Licensed Exempt frequencies: 5.1-5.9 GHz

  · High Performance - supporting up to 500 Mbps net throughpu and distances of up to 50km / 32 miles (w/high-gain antenna)

  · Dynamic up-link /down-link bandwidth allocation

  · Optimized performance of voice, video and data using four priorities of service

  · Optimized interference mitigation and NLOS performance

  · Ease of ordering, installation and configuration

 

Arena controller. Arena controller is an essential element for constructing large scale carrier wi-fi networks for hotspot/hotzones and cellular offloading services

 

  · Cost effective and scalable network architecture with centralized control plane and distributed

  · data plane

  · Supporting up to 5000 AP’s and 50,000 users per controller

  · Control and manage AP and backhaul radio, including statistic and reporting

  · Automatic AP units detection, configuration and firmware distribution

  · Secured control layer management

 

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  · Hotspots/Hotzones and cellular offloading services

  · Providing a single peer to the A AA

 

BreezeNET® B. BreezeNet B is a comprehensive and highly-proficient portfolio of wireless point-to-point solutions that offers long range and high-capacity support for high bandwidth applications. It is intended to provide efficient, reliable and secure communications for voice and real-time applications including building-to building connectivity and backhaul services.

 

  · High capacity, point-to-point, robust outdoor wireless solution

  · Flexible rate capacity options: B10, B14, B28, B100 reaching up to 100 Mbps gross

  · Long reach: over 60 km

  · Optimized uplink/downlink configuration to support different business applications such as public safety and video surveillance

  · Robust performance in Non-Line-of-Sight (NLOS) environments

  · Simple deployment, management and maintenance

 

Cyber Security SBU Products and Solutions

 

Safend’s Encryption Suite is an easy to use security application based on a single, lightweight agent, providing a comprehensive solution that protects the organization’s sensitive data residing on servers, PCs, laptops and detachable devices.

 

Safend’s Data Protection Suite includes:

 

Safend Encryptor, which ensures that users’ data is secure against loss or theft, by encrypting any data stored on internal hard disks.

 

Safend Protector, which applies customized, highly-granular security policies over all physical and wireless ports and devices. The Protector also mandates the encryption of all data transferred to removable storage devices and CD/DVD media.

 

Safend Inspector, which provides an additional protection layer for data transferred over approved data transfer channels, such as a white-listed storage device, an approved WiFi connection, or a machine’s LAN connection. It enforces an accurate, data-centric security policy on transferred data, without disrupting legitimate business processes or disturbing end user productivity.

 

Safend Discoverer, which allows security administrators to locate sensitive data stored on organizational endpoints. It helps identify gaps in data protection and compliance initiatives, and provides insight into which security policies should be implemented, using other components of the Safend Data Protection Suite.

 

SafeMobile, which provides high-end security framework designed to meet cyber threats on both the mobile client and on an organization’s main server. The solution in development enables rapid deployment of any application on a smart device leaving the security challenges to the framework.

 

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Research and Development

 

Our research and development efforts have enabled us to offer our customers a broader line of products and solutions, primarily in the areas of our e-Gov, IoT and Connectivity, and Cyber Security. We intend to continue to research and develop new technologies and products for the e-Gov, Cyber Security, Connectivity and IoT SBUs. There can be no assurance that we can achieve any or all of our research and development goals.

 

During the years ended December 31, 2018, 2017 and 2016, we have invested, $4.8 million, $7.2 million, and $6.7 million, respectively, in research and development. We anticipate that we will continue to invest up to 15% of our revenue in broadening our Cyber Security, e-Gov, IoT and Connectivity solutions and platforms. To expedite our development efforts, we may continue to acquire technologies from other companies, where we believe that such acquisition may cost effectively expedite our time to market of new products and solution.

 

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Sales and Marketing

 

We sell our systems and products worldwide through local representatives, subsidiaries and distribution channels that include direct sales and marketing through representatives. We currently have 14 employees that are directly engaged in the sale, distribution and support of our products through centralized marketing offices in distinct world regions, including our employees and service providers located in the United States, Israel, Zambia, Philippines, England and China who sell and support our products in their regions. We are also represented by several independent representatives, resellers and distributors.

 

We establish relationships with representatives, resellers and distributors through agreements that provide the marketing of our solutions and products. These agreements generally do not grant exclusivity to the representative, resellers or distributors, and some of them are not long-term contracts, do not have commitments for minimum sales, and could be terminated by the representative, reseller or distributor. We do not have agreements with all of our representatives, resellers and distributors.

 

Key Customer Contracts

 

On March 25, 2014, we entered into an agreement whereby we provide consulting services for the design, development, implementation, commissioning and maintenance of a government customer’s new e-Government system. The agreement provides for a total contract sum of approximately $24 million, payable upon the completion of certain milestones. Phase I of the agreement consists of the design and implementation of the new system for an aggregate contract price of approximately $18 million. We received over 25% of this amount as advance payment for Phase I, and receive the remainder upon certain milestones during Phase I. Phase I is scheduled to last approximately 18 months. Under Phase II of this agreement, we will provide maintenance services for the five-year period following the system becoming operational in Phase I. The aggregate contract price for Phase II is $6 million, which will be comprised of a 25% advance payment at the onset of Phase II, with the remaining 75% paid in quarterly installments. During 2016, we completed the Phase I milestones. Phase II commenced immediately after the Phase I was completed in mid-2016.

 

Principal Markets

 

The following table provides a breakdown of total revenue by geographic market for the three years ended December 31, 2018 (all amounts in thousands of dollars):

 

    2018     2017     2016  
Africa     4,816       9,713       5,681  
Europe     3,114       2,482       1,211  
South and center America     1,279       8,778       1,803  
United States     10,452       9,921       9,888  
Israel     1,514       1,309       724  
APAC     707       1,034       675  
Other     -       27       43  
Total     21,882       33,264       20,025  

 

As part of the Company’s decision to switch from one technology segment, e-government, into three separate technology segments or Strategic Business Units; e-Gov, IoT, and Cyber Security, the Company made four acquisitions in 2016 of companies with various technologies and customer bases which enhanced and strengthened the capabilities and value offerings of each of the three segments.

 

Following the acquisitions, in 2016 the Company went through an integration and restructuring process, and opted to report firstly by interim operation segments: Government, Connectivity and Cyber Security.

 

In 2017, as the Company progressed further in the restructuring process, it moved to report by the latest and current technology segments or Strategic Business Units. The following table provides a breakdown of total revenue by segment for the three years ended December 31, 2018 (all amounts in thousands of dollars):

 

    Year ended December 31,  
    2018     2017     2016  
e-Gov     6,117       18,232       7,020  
IoT     12,470       11,264       10,833  
Cyber Security     3,295       3,768       2,172  
Total     21,882       33,264       20,025  

 

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The following table provides a breakdown of total revenue by products and services for the three years ended December 31, 2018 (all amounts in thousands of dollars):

 

    Year ended December 31,  
    2018     2017     2016  
    $     $     $  
Revenues                        
Products     8,516       19,396       7,631  
Services     13,366       13,868       12,394  
                         
Total revenues     21,882       33,264       20,025  

 

Customer Service and Support

 

Customer service includes mainly maintenance and support services and plays a significant role in our sales and marketing efforts. Our ability to maintain customer satisfaction is critical to building our reputation and increasing growth in our existing markets, as well as penetrating new markets. In addition, both customer contact and the customer feedback we receive in our ongoing support services provide us with information on customer needs and contribute to our product development efforts. We generally provide maintenance and support services under separate customized agreements after the customer project is completed. We provide services through customer training, local third-party service organizations, our subsidiaries, or our personnel, including sending appropriate personnel from any of our offices in United States, Europe, Israel, Columbia and Zambia. We usually give our customers a twelve-month warranty for our products, and we offer additional extended warranty and maintenance programs. Costs incurred annually by us for product warranties have to date been insignificant; however, we expect that the warranty costs may increase going forward because our current e-Gov, IoT, and Cyber Security solutions are more complex than our previously offered solutions and additional new products may be deployed.

 

Manufacturing and Availability of Raw Materials

 

Our manufacturing operations consist primarily of materials planning and procurement, quality control of components, kit assembly and integration, final assembly, and testing of fully-configured systems. A significant portion of our manufacturing operations consists of the integration and testing of off-the-shelf components. Most of our products and systems, whether or not they are manufactured by us, are configured to customer orders and undergo several levels of testing prior to delivery, including testing with the most current version of software.

 

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We manufacture a range of IoT and e-Gov products and systems. We outsource the manufacturing of: (i) printed circuit boards, or PCBs, to a number of different suppliers both in Israel and the Far East, (ii) enclosures to suppliers in Israel and the Far East and (iii) Teslin paper (a synthetic material used in making ID cards), laminates, inlays, modules, cards, from suppliers from the Far East, Europe, the United States and Israel. The electronic assembly of our products is done in Israel, Europe, and the United States. We sometimes commit to long-term relationships with such suppliers in exchange for receiving competitive pricing. All PCBs and enclosures are built to our engineering specifications. All PCBs are received in our manufacturing facilities in Israel and are tested, assembled, calibrated and put in appropriate enclosures by outsource manufacturers in Israel. Then they go through a validation and quality assurance process. Other components are off-the-shelf products, which we purchase from a number of different suppliers.

 

Many of the activities for our e-Gov, IoT, and Cyber Security segments, such as purchasing, logistics, integration, training, installation and testing, are done by our employees. In locations where we do not have a local representative, we assign certain tasks to local third parties and service providers that we supervise. We have subcontracting agreements with local IT companies who have dedicated and experienced personnel. Such subcontractors provide all local support, maintenance services and spare parts to customers in a specified area.

 

Competition

 

We assess our competitive position from our experience and market intelligence, including third party competitive research materials. We believe that Guidance (G4S), Attenti Monitoring, STOP(Securus), Omnilink (Sierra Wireless), Sentinel, BI (GeoGroup), Buddi, and Track Group are our potential competitors with respect to our IoT products and solutions. We believe that Face Technologies, Cogent (3M), Zetes Industries, Mühlbauer Group, Oberthur Technologies, Gemalto, Bundesdruckerei GmbH and Nadra are our potential competitors in the e-Gov products and solutions market. We believe that McAfee(Intel Security), Symantec, Sophos, and Trend Micro are the primary competitors for our Cyber Security division. Due to the developing nature of the markets for our e-Gov, IoT, and Cyber Security products and solutions and the ongoing changes in this market, the above-mentioned list may not constitute a full list of all of our competitors and additional companies may be considered our competitors.

 

Our management expects competition to intensify as the markets in which our products and solutions compete continue to develop. Some of our competitors may be more technologically sophisticated or have substantially greater technical, financial or marketing resources than we do, or may have more extensive pre-existing relationships with potential customers. Although our products and services combine technologies and features that provide customers with complete and comprehensive solutions, we cannot assure that other companies will not offer similar products in the future or develop products and services that are superior to our products and services, achieve greater customer acceptance or have significantly improved functionality as compared to our products and services. Increased competition may result in our experiencing reduced margins, loss of sales or a decrease in market share.

 

Intellectual Property

 

Our ability to compete is dependent on our ability to develop and maintain the proprietary aspects of our technology. We rely on a combination of patents, trademarks, copyrights, trade secrets and other intellectual property laws, as well as employee and third-party nondisclosure agreements, licensing and other contractual arrangements. However, these legal protections afford only limited protection for our proprietary technology and intellectual property.

 

In addition, the laws of certain foreign countries may not protect our intellectual property rights to the same extent as do the laws of Israel or the United States. Our method of protecting our intellectual property rights in Israel, the United States or any other country in which we operate may not be adequate to fully protect such rights.

 

Currently we own 52 issued patents in the United States and 74 issued patents in the rest of the world.

 

Trademarks

 

We rely on trade names, trademarks and service marks to protect our name brands. We hold registered trademarks in several countries including Israel, the United States and the United Kingdom. We rely on trade names, trademarks and service marks to protect our name brands. We have registered trademarks for PureRFid® , SuperCom ® , Vuance® , EduGate® , and “Vuance Validate your World” ® and have applied for trademarks for PureMonitorTM , PureComTM , PureTagTM , PureTrackTM AAID TM , SmartIDTM , MAGNA TM and PureArrestTM.

 

Licenses

 

We license technology and software, such as operating systems and database software, from third parties for incorporation into our systems and products, and we expect to continue to enter into these types of agreements for future products. Our licenses are either perpetual or for specific terms.

 

As part of the acquisition of the SmartID division, we also received an irrevocable, worldwide, non-exclusive, non-assignable and non-transferable license to use certain intellectual property from OTI in connection with our past, ongoing and future e-Gov projects.

 

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Government Regulation

 

Generally, we are subject to the laws, regulations and standards of the countries in which we operate and/or sell our products, which vary substantially from country to country. The difficulty of complying with these laws, regulations and standards may be more or less difficult than complying with applicable U.S. or Israeli regulations and the requirements may differ. Please see the section titled “Risk Factors” for more information on the effects of governmental regulation on our business.

 

C. Organizational Structure

 

The following reflects our active subsidiaries and affiliates as of December 2, 2019:

 

SuperCom Inc.

 

SuperCom Inc., incorporated in Delaware, is responsible for our sales, marketing and support in the United States, and wholly owns its subsidiary, LCA.

 

Leaders in Community Alternatives, Inc. (“LCA”)

 

LCA, incorporated in California, was acquired by us on January 1, 2016, and provides electronic monitoring and community-based services under contracts with various government agencies.

 

SuperCom Slovakia A.S. (“SuperCom Slovakia”)

 

SuperCom Slovakia, incorporated in Slovakia, was established to implement a national documentation project in the Republic of Slovakia. SuperCom Slovakia is 66% owned by us and 34% owned by EIB Group a.s., a privately held Czech company. While we have a 66% ownership interest in SuperCom Slovakia, our voting power in SuperCom Slovakia is 50%. The company has no activity.

 

Safend Ltd.

 

Safend Ltd., incorporated in Israel, was acquired on March 13, 2016, and is a global data security company with a broad range of competitive and well-known encryption and data protection solutions.

 

Prevision Ltd.

 

Prevision Ltd., incorporated in Israel, was acquired on November 12, 2015, and is an international provider of Cyber Security services and solutions.

 

Alvarion Technologies Ltd.

 

Alvarion Ltd., incorporated in Israel, was acquired on May 18, 2016, and is a global provider of wireless broadband products and wi-fi networks

 

D. Property, Plants and Equipment

 

We do not own any real estate. We lease approximately 2,070 square meters of office and warehousing premise in Tel Aviv, Israel under a new three-year lease expiring on June 30, 2022. According to the agreement, the monthly fee (including management fees) is approximately $56,000.

 

We lease approximately 200 square meters of office premise in New York for our U.S. subsidiary, SuperCom Inc. We lease approximately 1,200 square meters of office premise in California for our U.S. subsidiary, LCA Inc.

 

We do not lease any facilities for any other subsidiary or our branch.

  

Our total annual rental fees, for 2018, 2017 and 2016 were $1,593,000, $2,065,000, and $2,062,000, respectively.

 

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ITEM 4A. UNRESOLVED STAFF COMMENTS

 

None.

 

ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS

 

A. Operating Results

 

The following discussion of our results of operations should be read together with our consolidated financial statements and the related notes, which appear elsewhere in this Annual Report. The following discussion contains forward-looking statements that reflect our current plans, estimates and beliefs and involve risks and uncertainties. Our actual results may differ materially from those discussed in the forward-looking statements. Factors that could cause or contribute to such differences include those discussed below and elsewhere in this Annual Report.

 

Overview

 

We are a global provider of traditional identification and e-Government solutions, IoT products and solutions, as well as Cyber Security products and services to governments and organizations throughout the world.

 

Our product depth and global presence was expanded significantly with our acquisition of the SmartID division of OTI in December 2013, as well as our acquisitions of Prevision, Safend, LCA, PowaPOS business, and Alvarion between November 2015 and May 2016. Initially, our operations grew significantly following the acquisition of the SmartID division and the 2016 acquisitions, especially our head count and research and development and sales and marketing expenses, as we did our best to respond to the new market and customer needs. Although in recent years, we have worked diligently through integration and restructuring processes to optimize our operational structure and costs.

 

We are headquartered in Israel and operate internationally with subsidiaries in the New York, California, and other geographies where we win and deploy new projects.

 

General

 

Our consolidated financial statements appearing in this annual report are prepared in U.S. dollars and in accordance with generally accepted accounting principles in the United States, or U.S. GAAP. Transactions and balances originally denominated in dollars are presented at their original amounts. Transactions and balances in other currencies are re-measured into dollars in accordance with the principles set forth in Financial Accounting Standards Board, or FASB, Accounting Standards Codification, or ASC, Topic 830, ” Foreign Currency Translation .” The majority of our sales are made outside Israel in dollars. In addition, substantial portions of our costs are incurred in dollars. Since the dollar is the primary currency of the economic environment in which we and certain of our subsidiaries operate, the dollar is our functional and reporting currency and, accordingly, monetary accounts maintained in currencies other than the dollar are re-measured using the foreign exchange rate at the balance sheet date. Operational accounts and non-monetary balance sheet accounts are measured and recorded at the exchange rate in effect at the date of the transaction. The financial statements of certain subsidiaries, whose functional currency is not the dollar, have been translated into dollars. All balance sheet accounts have been translated using the exchange rates in effect at the balance sheet date. Statement of operations amounts have been translated using the average exchange rate for the period. The resulting translation adjustments are reported as a component of shareholders’ equity in accumulated other comprehensive income (loss).

 

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Key Factors Affecting Our Business

 

Our operations and the operating metrics discussed below have been, and will likely continue to be, affected by certain key factors as well as certain historical events and actions. The key factors affecting our business and our results of operations include, among others, competition, government regulation, the build out of infrastructures, macro-economic and political risks, churn rate, impact of currency fluctuations and inflation, effective corporate tax rate, conditions in Israel and trade relations. For further discussion of the factors affecting our results of operations, see Item 3D “Risk Factors.”

 

Explanation of Key Income Statement Items, Significant Revenues and Expenses

 

General

 

2018 was a year of important developments for the Company, as we continued to optimize the operational structure of the Company including the 2016 acquired businesses and unlock cost synergies among the operating units. Investment in R&D continued to enhance our product offerings and competitive standing among our target markets. The optimized restructured corporation generated numerous new opportunities and project wins in our target markets, but required us to use resources in many cases that have yet to yield income to the group as part of multi-year government sale and project deployment life cycles. We believe that comparing between 2018, 2017 and 2016 cannot be done effectively without understanding the changes and the restructuring efforts invested.

 

Revenues

 

Some of our products and services are tailored to meet the specific needs of our customers. In order to satisfy these needs, the terms of each agreement, including the duration of the agreement and prices for our products and services, differ from agreement to agreement.

 

We generate a portion of our revenues from existing e-Gov, IoT, and Cyber Security long term services contracts, providing customers with raw materials, software upgrades, support, maintenance, training and installation. Revenues from the sale of such services are generally recognized following delivery of such services and upon achievement of milestones as approved by our customers.

 

During 2016 we acquired Alvarion and Safend, which grew our suite of products from which we generate revenues. Revenues from the sale of such products are generally recognized upon delivery.

 

Costs and Operating Expenses

 

For the year 2018 our costs were affected by the attention of management to continue the optimization of the businesses we acquired during the 2016 as was described in the General section above.

 

Our research and development expenses consist of salaries, subcontractor expenses, related depreciation costs and overhead allocated to research and development activities.

 

Our selling and marketing expenses consist primarily of salaries and related costs, commissions earned by sales and marketing personnel, trade show expenses, promotional expenses and overhead costs allocated to selling and marketing activities, as well as depreciation expenses and travel costs.

 

Our general and administrative expenses consist primarily of salaries and related costs, allocated overhead costs, office supplies and administrative costs, fees and expenses of our directors, information technology, depreciation, and professional service fees, including legal, insurance and audit fees.

 

Our operating results are significantly affected by, among other things, the timing of contract awards and the performance of agreements. As a result, our revenues and income may fluctuate substantially from quarter to quarter, and we believe that comparisons over longer periods of time may be more meaningful. The nature of certain of our expenses is mainly fixed or partially fixed and any fluctuation in revenues will generate a significant variation in gross profit and net income.

 

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Operating Results

 

The following table sets forth selected our consolidated income statement data for each of the three years ended December 31, 2018, expressed as a percentage of total revenues.

 

    2018     2017     2016  
Revenues     100 %     100 %     100.0 %
Cost of revenues     62.8       61.2       87.2  
Gross profit     37.2       38.8       12.8  
Operating expenses:                        
Research and development     21.9       21.8       33.5  
Selling and marketing     22.9       24.3       49.8  
General and administrative     26.3       18.4       36.3  
Other expenses (income)     10.4       (6.1 )     (48.9 )
Total operating expenses     81.4       58.4       70.7  
Operating income (loss)     (44.2 )     (19.6 )     (57.9 )
Financial (expenses) income, net     (1.5 )     (1.6 )     (1.5 )
Income (loss)  before income tax     (45.7 )     (21.2 )     (59.4 )
Income tax (expense) benefit     (26.2 )     1.2       (10.4 )
Net income (Loss)     (71.9 )     (20.0 )     (69.9 )

 

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Year Ended December 31, 2018 Compared with Year Ended December 31, 2017

 

Revenues

 

Our total revenues in 2018 were $21,882,000 compared to $33,264,000 in 2017, a decrease of 34.2%. The composition of revenues has changed during 2018 as follows:)i) the e-Gov segment revenue was $6,117,000 in comparison to $18,232,000 in 2017, a decrease of 66% which is mainly attributed to a large e-Gov contract deployment in 2017 and the lack of new one of comparable size in 2018, representing volatile project-based revenues which have been inherent in this segment, (ii) the IoT segment revenue was $12,470,000 in comparison to $11,264,000 in 2017, an increase of 10.7% which is attributed to new contract wins and implementations in Europe and USA, and an increase in our recurring revenue from existing customers; (iii) the Cyber Security segment revenue was $3,295,000 in comparison to $3,768,000 in 2017, a decrease of 12.6% which is mainly attributed to the accumulated effect on the liability to recognize deferred revenue in the amount of $257,000 due to the adoption of the new GAAP revenue recognition policy ASC-606, and a decrease in our revenue from our consulting-based cyber offering.

 

Gross Profit

 

Our gross profit in 2018 was $8,139,000 compared to $12,913,000 in 2017, a decrease of 37%. The gross profit margin for 2018 was 37.2% compared to 38.8% in 2017. The decrease in our gross profit margin is mainly attributable to (i) a decrease in COGS as a result of cost optimization processes(ii) a change in the mix of revenues,(iii) an increase of revenue from steady states e-Gov contracts which contributes higher than average gross margin, (iv) an increase in recurring revenue from multi-year IoT contracts with higher than average margins in the USA and Europe, offset by (v) one time inventory write-off in the amount of $1,527,000. (iv) decline in revenue of $11,382,000.

 

Expenses

 

Our operating expenses decreased in 2018 to $17,814,000 from $19,429,000 in 2017, a decrease of 8.3%. If we exclude other income, the decrease is more apparent as our operating expenses excluding other income decreased in 2018 to $15,543,000 from $21,450,000 in 2017, a decrease of 27.5%. The decrease in operating expenses was primarily due to (i) a decrease of 33.8% in research and development expenses, (ii) a decrease of 6.0% in general and administrative expenses mainly related to the significant decrease in our administration headcount, (iii) a decrease of 38% in sales and marketing expenses mainly related to the significant decrease in our sales and marketing headcount derived from sales force and network optimization.

 

Our research and development expenses decreased to $4,790,000 in 2018 from $7,238,000 in 2017, a decrease of 33.8%. The decrease in our research and development expenses was primarily due to decreased needs in developing our e-Gov, IoT and Cyber Security products, after significant progress and competitive advantages were developed through R&D investment in recent years.

 

Our general and administrative expenses decreased to $5,748,000 in 2018 from $6,113,000 in 2017, a decrease of 6.0%. The decrease in general and administrative expenses was primarily due to the process of optimization of the operating expenses of the four subsidiaries we acquired in 2016.

 

Other expenses were $2,271,000 in 2018, compared to other income of $2,021,000 in 2017. Other expenses in 2018 represent mainly a provision of bad debt, related African government, amounted to $2,406,000, other income in 2017 represent mainly of recovery from pre-acquisition receivable amounted $1,384,000 and change in valuation of contingent consideration amounted $593,000.

 

Financial (Expenses) Income, net

 

We had financial expenses, net of $335,000 in 2018 compared to $538,000 in 2017. Financial expenses consist primarily of bank fees related to guarantees issued to our customers and exchange rate effect. The decrease in financial expenses was also due to changes in the exchange rate of the NIS against the U.S. dollar in 2018 compare to 2017, offset by an interest fee on the loan from Fortress in the fourth quarter of 2018.

 

Income Tax

 

We recorded a tax expense of $5,730,000 for the year ended December 31, 2018 compared to a tax benefit of $393,000 in 2017, mainly due to reduction of tax assets valuation amounted to $5,987,000.

 

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Net Income

  

As a result of the factors described above, our net loss for the year ended December 31, 2018 was $15,740,000 compared to a net loss of $6,661,000 in 2017. The increase is mainly related to the (i) 33% decrease in our cost of revenue and (ii) a decrease of 8.3% in operating expenses offset by; (i) 34% decrease in revenue. (ii) one time inventory write off of $1,527,000, (iii) bad debt provision of $2,406,000 and (iv) onetime tax assets reduction of 5,987,000 for the year ended December 31, 2018.

 

Year Ended December 31, 2017 Compared with Year Ended December 31, 2016

 

Revenues

 

Our total revenues in 2017 were $33,264,000 compared to $20,025,000 in 2016, an increase of 66%. The composition of the revenues has changed during 2017 as follow; (i) the e-Gov unit revenue was $18,232,000 in comparison to $7,020,000 in 2016, an increase of 160% which is attributed to a large e-Gov contract, and an increase in our recurring revenue from existing customers, (ii) the IoT and Connectivity Unit revenue was $11,264,000 in comparison to $10,833,000 in 2016, an increase of 4% which is attributed to new contracts implementation in Europe and USA, and a moderate increase in our recurring revenue from existing customers; (iii) the Cyber Security Unit revenue was $3,768,000 in comparison to $2,172,000 in 2016, an increase of 73% which is attributed to new licenses orders from new customers in Europe and USA, and an increase in our recurring revenue from existing customers.

 

Gross Profit

 

Our gross profit in 2017 was $12,913,000 compared to $2,564,000 in 2016, an increase of 404%. The gross profit margin for 2017 was 38.8% compared to 12.8% in 2016. The increase in our gross margin is mainly attributable to(i) a change in the mix of revenues from subsidiaries acquired in 2016 as explained above, (ii) an increase of revenue from Cyber Security division with high gross margins, (iii) an increase of steady-state revenue from e-Gov contracts which contribute higher than average gross margins, (iv) completion of large e-Gov deployment contract with low gross margin, (iv) and an increase of revenue from IoT long term contracts with higher than average margins.

 

Expenses

 

Our operating expenses decreased in 2017 to $19,429,000 from $24,678,000 in 2016 (excluding gain from bargain acquisitions in the amount of $10,515,000), a decrease of 21%. The decrease in operating expenses was primarily due to (i) an increase of 8% in research and development expenses, (ii) a decrease of 16% in general and administrative expenses mainly related to the significant decrease in our administration headcount, (iii) a decrease of 19% in sales and marketing expenses mainly related to the significant decrease in our sales and marketing headcount derived from sales force and network optimization. Operating expenses excluding gain from bargain acquisitions is a non-GAAP measure with the most comparable GAAP measure being operating expenses. The reconciling item between this non-GAAP measure and operating expenses is the gain from the bargain acquisition. We believe this non-GAAP measure helps the reader in understanding the performance of our operations for the current year given the non-recurring nature of the gain from bargain acquisitions.

 

Our research and development expenses increased to $7,238,000 in 2017 from $6,718,000 in 2016, an increase of 8%. The increase in our research and development expenses was primarily due to increased efforts in developing our connectivity, IoT, cyber security and e-Gov products and solutions.

 

Our general and administrative expenses decreased to $6,113,000 in 2017 from $7,277,000 in 2016, a decrease of 16%. The decrease in general and administrative expenses was primarily due to the process of optimization of the expenses of the four subsidiaries we acquired in 2016.

 

Other income was $2,021,000 in 2017, compared to other expenses of $713,000 in 2016. Other income in 2017 represent mainly of recovery from preaquisition receivable amounted $1,384,000 and change in valuation of contingent consideration amounted $593,000. Other expenses in 2016 represent mainly bad debt provision in that amounts. The bad debt provision we recorded is based on management’s estimation with respect to the collectability of certain debt.

  

During 2016 we had bargain profit from the acquisitions of Safend and Alvarion in 2016 in the amount of $10,515,000, such bargain profit was not recognized in 2017.

 

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Financial (Expenses) Income, net

 

We had financial expenses, net of $538,000 in 2017 compared to financial expenses, net of $303,000 in 2016. Financial expenses consist primarily of bank fees related to guarantees issued to our customers and exchange rate expenses. The increase in

financial expenses was due to changes in foreign currency rates, mainly due the major changes of 9.8% in the exchange rate of the NIS against the U.S. dollar in 2017.

 

Income Tax

 

We recorded a tax benefit of $393,000 for the year ended December 31, 2017 compared to a tax expense of $2,091,000 in 2016, mainly due to changes in valuation allowance.

 

Net Income

 

As a result of the factors described above, our net loss for the year ended December 31, 2017 was $6,661,000 compared to a net loss of $13,993,000 in 2016. This decrease is mainly related to the decrease in our cost of revenue and operating expenses and a large increase in revenue for the year ended December 31, 2017.

 

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Seasonality

 

Our operating results are generally not characterized by a seasonal pattern. 

 

Impact of Currency Fluctuation and of Inflation

 

We report our financial results in dollars and receive payments in dollars for most of our sales, while a portion of our expenses, primarily salaries, are paid in NIS. Therefore, the dollar cost of our operations in Israel is influenced by the extent to which any increase in the rate of inflation in Israel is not offset, or is offset on a lagging basis, by a devaluation of the NIS in relation to the dollar.

 

Monetary accounts maintained in currencies other than the U.S. dollar are re-measured into U.S. dollars at the exchange rate prevailing at the end of the reporting period in accordance with provisions of ASC 835-10. All transaction gains and losses from the re-measurement of monetary balance sheet items are reflected in the statements of operations as financial income or financial expenses as appropriate.

 

When the rate of inflation in Israel exceeds the rate of devaluation of the NIS against the dollar, the dollar cost of our operations in Israel increase. If the dollar cost of our operations in Israel increases, our dollar-measured results of operations will be adversely affected. Any increase in the value of the NIS in relation to the dollar also has the effect of increasing the dollar value of any NIS assets, unless such assets are linked to the dollar, and the dollar amounts of any unlinked NIS liabilities and expenses. We cannot assure you that we will not be materially and adversely affected in the future if inflation in Israel exceeds the devaluation of the NIS against the dollar or if the timing of the devaluation lags behind inflation in Israel.

 

Conversely, depreciation of the NIS in relation to the dollar has the effect of reducing the dollar amount of any of our expenses or liabilities that are payable in NIS, unless those expenses or payables are linked to the dollar. Depreciation of the NIS in relation to the dollar has the effect of reducing the dollar amount of any of our expenses or liabilities and also has the effect of decreasing the dollar value of any asset which consists of NIS or receivables payable in NIS, unless the receivables are linked to the dollar.

 

The following table presents information about the rate of inflation in Israel, the rate of devaluation or appreciation of the NIS against the dollar, and the rate of inflation in Israel adjusted for the devaluation:

 

Year ended
December 31,
  Israeli inflation
rate %
   NIS devaluation
(appreciation)
rate %
   Israeli
inflation adjusted for
devaluation
(appreciation) %
 
2016   (0.2)   (1.5)   1.3 
2017   0.4    (9.8)   10.2 
2018   0.8    8.1    (7.3)

  

Because exchange rates between the NIS and the dollar fluctuate continuously, exchange rate fluctuations, particularly larger periodic devaluations, may have an impact on our profitability and period-to-period comparisons of our results. We cannot assure you that in the future our results of operations may not be materially adversely affected by currency fluctuations. Historically, we have not used any hedging instruments, but in the future if we expect the fluctuation to have major effect on our operations, we may use such instruments.

 

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Conditions in Israel

 

We are organized under the laws of, and our principal executive offices and research and development facilities are located in, the State of Israel. See Item 3D “Key Information – Risk Factors – Risks Relating to Operations in Israel” for a description of governmental, economic, fiscal, monetary or political polices or factors that have materially affected or could materially affect our operations. Please see the section entitled “Risk Factors” for additional information.

 

Trade Relations

 

Israel is a member of the United Nations, the International Monetary Fund, the International Bank for Reconstruction and Development and the International Finance Corporation. Israel is a member of the World Trade Organization and is a signatory to the General Agreement on Tariffs and Trade, which provides for reciprocal lowering of trade barriers among its members. Israel is also a member of the Organization for Economic Co-operation and Development, or the OECD, an international organization whose members are governments of mostly developed economies. The OECD’s main goal is to promote policies that will improve the economic and social well-being of people around the world. In addition, Israel has been granted preferences under the Generalized System of Preferences from the United States, Australia, Canada and Japan. These preferences allow Israel to export products covered by such programs either duty-free or at reduced tariffs.

 

Israel and the European Union Community concluded a Free Trade Agreement in July 1975, which confers certain advantages with respect to Israeli exports to most European countries and obligates Israel to lower its tariffs with respect to imports from these countries over a number of years. In 1985, Israel and the United States entered into an agreement to establish a Free Trade Area. The Free Trade Area has eliminated all tariff and specified non-tariff barriers on most trade between the two countries. On January 1, 1993, an agreement between Israel and the European Free Trade Association, known as EFTA, established a free-trade zone between Israel and the EFTA nations. In November 1995, Israel entered into a new agreement with the European Union, which includes redefinement of rules of origin and other improvements, including providing for Israel to become a member of the research and

technology programs of the European Union. In recent years, Israel has established commercial and trade relations with a number of other nations, including China, India, Russia, Turkey and other nations in Eastern Europe and Asia.

  

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Effective Corporate Tax Rate

 

The Israeli corporate tax rate was 26.5% in 2015, 25% in 2016, 24% in 2017, and 23% in 2018 and thereafter. For the years ended December 31, 2018 and 2017 we had losses, and therefore the effective tax rate was mostly affected by changes in deferred tax. Our effective tax rate as for the year ended December 31, 2018 was 16%.

 

Our taxes outside Israel are dependent on our operations in each jurisdiction as well as relevant laws and treaties. Under Israeli tax law, the results of our foreign consolidated subsidiaries cannot be consolidated for tax.

 

B. Liquidity and Capital Resources

 

As of December 31, 2018, our cash and cash equivalents totaled $1,639,000, compared to $1,037,000 as of December 31, 2017. As of December 31, 2018, our restricted bank deposits totaled $1,162,000, related mainly to bid and performance guarantees and lease agreements.

 

As of December 31, 2018, the Company has accumulated deficit $65,959,000, and net cash used in operating activities of $6,416,000. In addition the Company has excess of current assets over current liabilities of $12,121,000.

 

During 2017 and until end of December 2018, the Company underwent a merger optimization process to a more cost-efficient structure which operates through three new business segments, supported by common operating services. Following the optimization process, for the year 2018 the Company has reduced its operating expenses by $1,615,000 or by $5,907,000 if you exclude other income of $2,021,000 in 2017 and other expenses of $2,271,000 in 2018. The Company expects to reduce its expenses even further through reduction in its headcount and overhead costs, mainly throughout the year of 2019, including significant reduction of R&D expenses, given significant R&D investment in recent years helped launch successful core product suites and similar R&D investment levels are not currently needed.

 

The Company believes that based on the above mentioned significant cost savings and expected growing cash stream from the Company’s current contracts with customers worldwide, it will generate positive cash flow from operating activities, and will be able to fund its operations for at least the next 12 months.

 

Furthermore, the available $10 million secured credit facility from Fortress Investment Group provides the Company additional access to capital if needed.

 

Cash Flows

 

The following table summarizes our cash flows for the periods presented:

 

    Year ended December 31,  
    2018     2017     2016  
    (in thousands)  
Net cash used in operating activities     (6,416 )     (1,983 )     (11,045 )
Net cash used in investing activities     (1,519 )     *(1,528 )     *(6,875 )
Net cash provided by (used in) financing activities     8,636       2,793       (4,830 )
Net increase(decrease) in cash and cash equivalents     701       *(718 )     *(22,702 )
Cash, cash equivalents and restricted cash at beginning of period     2,100       *2,818       *25,520  
Cash, cash equivalents and restricted cash at end of period     2,801       *2,100       *2,818  

  

* Reclassified(see note 2(x).

 

Net cash used in operating activities for the year ended December 31, 2018 was $6,416,000, compared to net cash used by operating activities of $1,983,000 during the year ended December 31, 2017, an increase of $4,433,000. The increase was primarily due to a major decrease in trade payables as well as employees and related accruals in 2018 in comparison to an increase in similar items in 2017.

 

Net cash used in investing activities during the year ended December 31, 2018, was $1,519,000 compared to $1,528,000 during the year ended December 31, 2017.

 

Net cash provided by financing activities during the year ended December 31, 2018, was $8,636,000, and consisted mainly of loans from Fortress and issuance of share equity, compared to $2,793,000 during the year ended December 31, 2017, which consisted mainly of loans from related parties.

 

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Discussion of Critical Accounting Policies

 

The preparation of financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. We evaluate our estimates and judgments on an ongoing basis.

 

We base our estimates and judgments on historical experience and on various other factors that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Under different assumptions or conditions, actual results may differ from these estimates.

 

Our discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with U.S. GAAP. Our significant accounting principles are presented within Note 2 to our consolidated financial statements. While all the accounting policies impact the financial statements, certain policies may be viewed to be critical. These policies are those that are most important to the portrayal of our financial condition and results of operations. Actual results could differ from those estimates. Our management believes that the accounting policies which affect the more significant judgments and estimates used in the preparation of our consolidated financial statements and which are the most critical to fully understanding and evaluating our reported results include the following:

 

Revenue Recognition

 

The Company and its subsidiaries generate their revenues from the sale of products, licensing, maintenance, royalties and long term contracts (including training and installation).

 

Effective January 1, 2018, the Company adopted Financial Accounting Standards Board (“FASB”) Topic 606, Revenue from Contracts with Customers (“ASC 606”). ASC 606 was applied using the modified retrospective method, therefore the cumulative effect of initially applying the revenue standard is recognized as an adjustment to opening retained earnings at January 1, 2018. Accordingly, comparative periods have not been adjusted and continue to be reported under FASB ASC Topic 605, Revenue Recognition (“ASC 605”).

 

Upon adoption of ASC 606, the Company identified a change in the Company’s revenue recognition policies related to combined license and maintenance sales, as noted within the Company’s Safend contracts. Under ASC 605, revenue for these contracts was recognized over the life of the contract. In accordance with ASC 606, license revenue is recognized upon delivery while maintenance is recognized over the life of the contract. As a result of applying the new standard, the Company will recognize a cumulative effect adjustment to Retained Earnings as of January 1, 2018 in the amount of $257,000.

 

Aside from its combined license and maintenance sales, no other changes were identified to the characteristics of the Company’s other revenue recognition policies, other than the enhanced disclosure regarding revenue recognition, including disclosures of revenue streams, performance obligations, variable consideration and the related judgments and estimates necessary to apply the new standard.

 

We measure revenue based upon the consideration specified in the client arrangement, and revenue is recognized when the performance obligations in the client arrangement are satisfied. A performance obligation is a contractual promise to transfer a distinct service to the customer. The transaction price of a contract is allocated to each distinct performance obligation and recognized as revenue when or as, the customer receives the benefit of the performance obligation. Under ASC 606, revenue is recognized when a customer obtains control of promised services in an amount that reflects the consideration we expect to receive in exchange for those services. To achieve this core principal, the Company applies the following five steps: 

 

1)           Identify the contract with a customer

 

A contract with a customer exists when (i) the Company enters into an enforceable contract with a customer that defines each party’s rights regarding the services to be transferred and identifies the payment terms related to these services, (ii) the contract has commercial substance and, (iii) the Company determines that collection of substantially all consideration for services that are transferred is probable based on the customer’s intent and ability to pay the promised consideration. The Company applies judgment in determining the customer’s ability and intention to pay, which is based on a variety of factors including the customer’s historical payment experience or, in the case of a new customer, published credit and financial information pertaining to the customer.

  

2)            Identify the performance obligations in the contract

 

Performance obligations promised in a contract are identified based on the services that will be transferred to the customer that are both capable of being distinct, whereby the customer can benefit from the service either on its own or together with other resources that are readily available from third parties or from the Company, and are distinct in the context of the contract, whereby the transfer of the services is separately identifiable from other promises in the contract. To the extent a contract includes multiple promised services, the Company must apply judgment to determine whether promised services are capable of being distinct in the context of the contract. If these criteria are not met the promised services are accounted for as a combined performance obligation.

 

3)           Determine the transaction price

 

The transaction price is determined based on the consideration to which the Company will be entitled in exchange for transferring services to the customer.

 

We evaluate whether a significant financing component exists when we recognize revenue in advance of customer payments that occur over time. For example, some of our contracts include payment terms greater than one year from when we transfer control of goods and services to our customers and the receipt of the final payment for those goods and services. If a significant financing component exists, we classify a portion of the transaction price as interest income, instead of recognizing all of the transaction price as revenue. We do not adjust the transaction price for the effects of financing if, at contract inception, the period between the transfer of control to a customer and final payment is expected to be one year or less.

 

4)            Allocate the transaction price to performance obligations in the contract

 

If the contract contains a single performance obligation, the entire transaction price is allocated to the single performance obligation. However, if a series of distinct services that are substantially the same qualifies as a single performance obligation in a contract with variable consideration, the Company must determine if the variable consideration is attributable to the entire contract or to a specific part of the contract. Contracts that contain multiple performance obligations require an allocation of the transaction price based on management’s judgement.

 

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5)           Recognize revenue when or as the Company satisfies a performance obligation

 

The Company satisfies performance obligations either over time or at a point in time. Revenue is recognized at the time the related performance obligation is satisfied by transferring a promised good or service to a customer.

 

Nature of goods and services

 

The following is a description of the Company’s goods and services from which the Company generates revenue, as well as the nature, timing of satisfaction of performance obligations, and significant payment terms for each, as applicable:

 

Software Maintenance and Support Services Revenue

 

Software maintenance and support services contracts are sold in conjunction with the Company’s software products for its e-Govt, IoT and Connectivity, and Cyber Security segments. The contract terms for software maintenance and support span one to five years in length and provide customers with the rights to unspecified software product updates if and when available, online and telephone access to technical support personnel.

 

The Company recognizes revenue from fixed-price service and maintenance contracts using the input method of accounting. Under the input method, revenue is recognized on the basis of an entity’s efforts toward satisfying a performance obligation. We recognize revenue from maintenance and support services provided pursuant to the time elapsed under such contracts, as that is when our performance obligation to our customers under such arrangements is fulfilled.

 

Perpetual Software License Revenue

 

The Company generates revenue from the sales of perpetual software licenses for its Cyber Security and e-Gov segments, including sales for its Magna_DL, Magna_VL, Magna_Passport, and Magna_ID software products. The intellectual property rights for usage of these products are transferred to the customer at the time of purchase and the software does not require implementation services, ongoing maintenance and support, or other adaptions in order to maintain the license utility.

 

In arrangements where ongoing services are not essential to the functionality of the delivered software, the Company recognizes perpetual software license revenue when the license agreement has been approved and the software has been delivered. The Company can identify each party’s rights, payment terms, and commercial substance of the content. Where applicable, we identify multiple performance obligations and record as revenue as the performance obligations are fulfilled based on the adjusted market assessment approach.

 

Annual Software License Revenue

 

The Company generates revenue from the sales of time-based software licenses for certain of its software products. The intellectual property rights for access to these products are transferred to the customer for contract terms of one year and the software requires ongoing maintenance, support, or other adaptations in order to maintain utility.

 

The Company recognizes revenue over time using the input method for its annual software licenses when ongoing services are determined to be essential to the functionality of the delivered software. The license along with the any customization services are transferred to our customers pursuant to the time elapsed under such contracts, as that is when our performance obligation to our customers under such arrangements is fulfilled.

 

System Design Revenue

 

System design revenue relate to services provided to governments and national agencies in the early stages of a new project including incumbent system data information extraction, customer interviewing and specification mapping, architecture and software design, secure credential design, project management and planning, data migration design, project operation planning, training, assimilation, and operational processes optimization for the Company’s e-Gov and IoT solutions.

 

The Company recognizes revenue from its system design services using the input method of accounting. Under the input method, revenue is recognized on the basis of an entity’s efforts or inputs toward satisfying a performance obligation. We recognize revenue from system design services provided pursuant to time-and-materials based contracts as the services are performed, as that is when our performance obligation to our customers under such arrangements is fulfilled. Where applicable, we identify multiple performance obligations and record revenue as the performance obligations are fulfilled based on the expected cost plus a margin approach.

 

Implementation and System Deployment Revenue

 

Implementation and system deployment revenue relate to services provided to governments and national agencies typically after the design stage is concluded including infrastructure setup and deployment, software and chip design development, software customizations, purchase, and deployment of hardware and necessary system components, system integration and implementation, process engineering, customer training, system quality assurance testing, load balancing and local environment optimizations, and operational system launch for the Company’s e-Gov and IoT solutions.

 

The Company recognizes revenue from its implementation and system deployment services using the input method of accounting. Under the input method, revenue is recognized on the basis of an entity’s efforts or inputs toward satisfying a performance obligation. We recognize revenue from implementation and system deployment services provided pursuant to time-and-materials based contracts as the services are performed, as that is when our performance obligation to our customers under such arrangements is fulfilled. Where applicable, we identify multiple performance obligations and record revenue as the performance obligations are fulfilled based on the residual approach.

 

Procurement of Secure Document Consumables Revenue

 

The Company procures secure document consumables for its e-Gov government customers which are needed to issue secure documents after a project deployment is complete and a system is actively running and operational. These consumables are manufactured at secure printing facilities utilizing proprietary and customized designs, which the Company has developed during the project design stage, to provide multiple layers of security preventing falsification of documents. These consumables include base card stock, security laminates, holograms, passive RFID chip inlays, passport booklets, secure chip cards, and various other secure credentialing necessities.

 

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The Company recognizes revenue on procurement of secure document consumables products when the customer has control of the product, which is determined to be at the point in time when the products are delivered. Where applicable, we identify multiple performance obligations and record revenue as the performance obligations are fulfilled based on their stated prices within the contract.

 

Wireless & RFID Products Revenue

 

The Company’s wireless products include solutions for carrier Wi-Fi, enterprise connectivity, smart city, smart hospitality, connected campuses and connected events which enhance productivity and performance. The Company’s RFID products include asset tags which provide real-time asset loss prevention, inventory management, and personnel/asset tracking and vehicle tags which provide long-range vehicle ID for parking and fleet management, access control, asset loss prevention at airports, gated communities, truck and bus terminals, employee parking lots, hospitals, industrial facilities, railroads, mines and military installations.

 

The Company recognizes revenue on wireless and RFID products when the customer has control of the equipment, which is determined to be at the point in time when the products are shipped. Where applicable, we identify multiple performance obligations and record revenue as the performance obligations are fulfilled based on their stated prices within the contract.

 

Electronic Monitoring Services Revenue

 

Electronic monitoring services represent fees the Company collects through the sale or rental of its PureSecurity Suite of products, which include the PureMonitor, PureTrack, PureTag, PureCom, PureBeacon, and SCRAM devices. These devices identify, track, and monitor people or objects in real time through the Company’s GPS monitoring, home monitoring, and alcohol tracking solutions.

 

The Company recognizes revenue on the sale of electronic monitoring products when the customer has control of the equipment, which is determined to be at the point in time when the products are shipped. For devices which are rented and for electronic monitoring services provided, we recognize revenue pursuant to the time elapsed for such contracts, as that is when our performance obligation to our customers under such arrangements is fulfilled. Our customers typically pay for these services based on a net rate per day per individual or on a fixed monthly rate.

 

Treatment Services Revenue

 

Treatment services revenue is an extension of the Company’s electronic monitoring services. We provide individuals who have completed or are near the end of their sentence with the resources necessary to productively transition back into society. Through our daily reporting centers, we provide criminal justice programs and reentry services to help reduce recidivism which include case management, substance abuse education, vocational training, parental support, employment readiness and job placement. These activities are considered to be a bundle of services which are a part of a series of distinct services recognized over time.

 

The Company recognizes revenue from its treatment services using the input method of accounting. Under the input method, revenue is recognized revenue on the basis of an entity’s efforts or inputs toward satisfying a performance obligation. We recognize revenue from treatment services provided pursuant to time-and-materials based contracts as the services are performed, as that is when our performance obligation to our customers under such arrangements is fulfilled. Where applicable, we identify multiple performance obligations and record revenue as the performance obligations are fulfilled based on the using the expected cost plus a margin approach.

 

Professional Services Revenue

 

The Company offers professional services for the Company’s Cyber Security software products, which includes an on-site / remote visit by a specialist technician to assist with installation, deployment and configuration.

 

The Company recognizes revenue from professional services upon completion of the service performed for the customer. As these services are completed during a single onsite visit, revenue is recognized at the point in time of such onsite visit.

 

Disaggregation of revenue

 

In the following table, revenue is disaggregated by major geographic region and timing of revenue recognition. The table also includes a reconciliation of the disaggregated revenue with the reportable segments:

 

    Year ended December 31, 2018  
    Cyber
Security
    IoT     e-Gov     Total  
Major geographic areas                                
Africa   $ -     $ 70     $ 4,746     $ 4,816  
European countries     723       2,125       266       3,114  
South America     -       174       1,105       1,279  
United States     935       9,517       -       10,452  
Israel     1,366       148       -       1,514  
APAC     271       436       -       707  
Total revenue   $ 3,295     $ 12,470     $ 6,117     $ 21,882  
                                 
Timing of revenue recognition                                
Products and services transferred over time   $ 1,084     $ 11,102     $ 3,999     $ 16,185  
Products transferred at a point in time     2,211       1,368       2,118       5,697  
Total revenue   $ 3,295     $ 12,470     $ 6,117     $ 21,882  

 

Transaction price allocated to the remaining performance obligations

 

Remaining performance obligations represent the transaction price of system deployment, service and maintenance contracts for which work has not been performed as of the period end date. As of December 31, 2018, the aggregate amount of the transaction price allocated to remaining performance obligations totals $5.8 million. The Company expects approximately 68% of remaining performance obligations to be recognized into revenue within the next 12 months, with the remaining 32% recognized thereafter.

 

We apply the practical expedient in paragraph ASC 606-10-50-14 and do not disclose information about remaining performance obligations that have original expected durations of one-year or less. We apply the transition practical expedient in paragraph ASC 606-10-65-1(f)(3) and do not disclose the amount of the transaction price allocated to the remaining performance obligations and an explanation of when we expect to recognize that amount as revenue. Additionally, applying the practical expedient in paragraph ASC 340-40-25-4, the Company recognizes the incremental costs of obtaining contracts (i.e., commissions) as an expense when incurred if the amortization period of the assets that the Company otherwise would have recognized is one-year or less.

 

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With respect to our e-Gov business, In some contracts we provide our customers with a license to issue IDs, passports and driver licenses and we are entitled to receive royalties upon the issuance of each form of document by our customers. Such royalties are recognized when the issuances are reported to us, usually on a monthly basis, for the year 2017 and 2018 we had no such contract.

 

Allowance for Doubtful Accounts

 

The allowance for doubtful accounts is determined with respect to specific amounts we have determined to be doubtful of collection. In determining the allowance for doubtful accounts, we consider, among other things, our past experience with such customers and the information available regarding such customers.

 

We perform ongoing credit evaluations of our customers’ financial conditions and we require collateral as we deem necessary. An allowance for doubtful accounts is determined with respect to those accounts that we have determined to be doubtful of collection. If the financial conditions of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances would be required. The allowance for doubtful accounts was $4,747,000 and $2,341,000 at December 31, 2018 and 2017, respectively.

 

Deferred Taxes

 

We account for income taxes, in accordance with the provisions of FASB ASC 740, “Income Taxes” under the liability method of accounting. Under the liability method, deferred taxes are determined based on the differences between the financial statement and tax basis of assets and liabilities at enacted tax rates in effect in the year in which the differences are expected to reverse. Valuation allowances are established, when necessary, to reduce deferred tax assets to amounts expected to be realized. Expectation about realization of deferred tax assets related to losses carried forward are subjective and require estimates of future income in the territories in which such losses have been generated. Changes in those estimations could lead to changes in the expected realization of the deferred tax assets and to an increase or decrease in valuation allowances.

 

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Business Combinations

 

Business combinations are accounted for by applying the acquisition method. According to this method, the identifiable assets and liabilities of the acquired business are recognized and recorded at fair value on the acquisition date. The acquisition date is the date on which we obtain control over the acquiree.

 

The cost of the acquisition is the aggregate fair value of the assets transferred, liabilities incurred and equity interests issued, if any, by us on the date of acquisition. In addition, the consideration transferred includes the fair value of any contingent consideration. After the acquisition date, we recognize changes in fair value of the contingent consideration in the statement of operations. Contingent consideration is stated as a financial liability in the balance sheet.

 

We recognize goodwill at acquisition according to the fair value of the consideration transferred, including any amounts recognized in respect of rights that do not confer control in the acquiree as well as the fair value at the acquisition date of any pre-existing equity right in the acquiree, less the net amount of the identifiable assets acquired and the liabilities assumed. After initial recognition, goodwill is measured at cost less any accumulated impairment losses and is not systematically amortized. In case of excess of fair value of the assets acquired over the consideration paid a gain from bargain gain is recognized.

 

Costs associated with an acquisition that were incurred in the business combination, such as advisory, legal, valuation and other professional or consulting fees, other than those associated with an issue of debt or equity instruments connected to the business combination, are recognized as expenses in the period the services are received.

 

In December 2013, we completed a follow-on public offering of 3,450,000 of our ordinary shares and received net proceeds of $12,043,000. We used $8.800.000 of such proceeds to fund our acquisition of the SmartID division of OTI on December 26, 2013. We use the remaining proceeds for finance our operating activities, especially to accelerate the sales and marketing and research and development efforts.

 

During the three years ended December 31, 2018, 2017 and 2016, our capital expenditures totaled approximately $1,456,000, $1,468,000, and $1,887,000 (not including our acquisition of the LCA, Safend, Alvarion, the PowaPOS assets), respectively.

 

We currently do not have significant capital spending or purchase commitments other than with respect to the contingent and earn-out payments associated with our acquisition of the SmartID division, and Alvarion Ltd.

 

C. Research and Development

 

Our research and development efforts have enabled us to offer our customers with a broader line of products and solutions for the e-Gov, IoT and Cyber Security segments. As of December 31, 2018, the number of employees in our research and development activities was 36. We spent $5,963,000 (out of which $1,173,000 were capitalized as cost of software to be sold), $8,405,000 (out of which $1,167,000 were capitalized as cost of software to be sold), and $8,205,000 (out of which $1,487,000 were capitalized as cost of software to be sold), in 2018, 2017 and 2016, respectively. These amounts were spent on the development or improvement of our technologies and products, primarily in the areas of IoT, e-Gov, and Cyber Security. We intend to continue to research and develop new technologies and products. There can be no assurance that we can achieve any or all of our research and development goals.

 

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D. Trend Information

 

See discussion in Parts A and B of “Item 5. Operating and Financial Review and Prospects” for a description of the Trend information relevant to us.

 

E. Off-Balance Sheet Arrangements

 

We are not a party to any off-balance sheet arrangements. In addition, we have no unconsolidated special purpose financing or partnership entities that are likely to create material contingent obligations.

 

F. Tabular Disclosure of Contractual Obligations

 

The following table summarizes our material contractual obligations and commitments as of December 31, 2018:

  

    Total     Less than 1
year
    1-3 years     3-5 years     More than
5 years
 
Purchase obligations     34       34       -       -       -  
Operating lease obligations     787       428       359       -       -  
Total contractual cash obligations   $ 821       462       359       -       -  

   

Operating lease obligations represent commitments under lease agreement for our facility and the facilities of certain subsidiaries. Purchase obligations represent purchase orders to an account payable, purchase obligations and lease agreements for facilities. We are not a party to any capital leases.

 

ITEM 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES

 

A. Directors and Senior Management

 

Set forth below are the name, age, principal position and a biographical description of each of our directors as of December 2, 2019:

 

Name   Age   Position
Arie Trabelsi   61   Director& CEO
Menachem Mirski   63   Independent Director (1) (2)(3)
Avi Ayash   46   Independent Director (1)(2)(3)
Shoshana Cohen Shapira   61   Independent  Director (1)(2)(3)

 

  (1) “Independent Director
  (2) Member of the Audit Committee
  (3) Member of the Compensation Committee

 

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Arie Trabelsi. Mr. Trabelsi joined us in November 2010 as President and Chief Executive Officer. He served as our Chief Executive Officer from November 1, 2010 until November 12, 2011 and from June 1, 2012 to date, and served as Chairman of our board of directors from December 12, 2011 to December 27, 2012. He has more than 29 years of experience in the global wireless, Internet and communications industries. Prior to joining SuperCom, he led Sigma Wave Ltd., a wireless, security, and internet focused company and our controlling shareholder, from November 1999. Mr. Trabelsi holds a BSc. degree in Electrical and Computer Engineering from Ben Gurion University and a MSc. degree in Computer Engineering from Drexel University, Philadelphia, Pennsylvania.

 

Menachem Mirski has served as a director of our company since July 25, 2010 and is the founder and a partner of Raz - El Ltd., a software and system development company located in Israel. He has more than 28 years of experience and expertise as a software developer and project manager for embedded real time systems, including RF-based systems. Mr. Mirski holds a Bachelor of Science in Computer and Electrical Engineering from Ben-Gurion University.

 

Shoshana Cohen Shapira, is an Advocate, Notary and Mediator with extensive experience in providing legal representation and consulting services to individuals and companies in various areas of law including taxes.  She is the owner of a legal practice with office in Zichron Yaacov, Israel.  Mrs. Cohen Shapira holds a LLM degree from the Hebrew University of Jerusalem.

 

We are managed by our board of directors. Pursuant to our Articles of Association, the number of directors may be determined from time to time by the board of directors, and unless otherwise determined, the number of directors comprising the board of directors will be between four and ten. Directors are elected for a one year term ending at the following annual general meeting of shareholders, except for our external directors, who are elected for three year terms in accordance with the Israeli Companies Law. However, if no directors are elected at an annual meeting, then the incumbents shall be deemed re-elected at the same meeting. The General Meeting may resolve that a director be elected for a period longer than the time ending at the next annual meeting but not longer than that ending at the third next annual meeting. The board of directors elects one of its members to serve as the Chairman.

 

Executive Officers and Key Employees

 

Our executive officers and certain key employees as of December 10, 2019 are:

 

Name   Age   Position
Arie Trabelsi*   62   President, Chief Executive Officer 
Barak Trabelsi*   33   Vice President, IoT
Galit Gilo*   62   Vice President, Land and GIS
Ordan Trabelsi   34   President, SuperCom Inc. and LCA.
Gil Alfi*   47   Vice President Sales, Safend Ltd

 

* Executive officer 

 

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Barak Trabelsi. Mr. Trabelsi joined us in January 2013 as director of new products development. Previously and commencing in June 2011, he served as Senior Product Manager in Equinox Ltd. Prior to that, for four years, he served as VP of R&D of Sigma Wave, a wireless, security and internet focused company. Mr. Trabelsi has expertise in big data, cyber, mobile and internet networks technologies, and experience in product development and strategies. Mr. Trabelsi holds a BSc. degree in Computer and Business from the Tel Aviv University, and an M.B.A. degree from Tel Aviv University.

 

Galit Gilo. Mrs. Galit Gilo  joined SuperCom Group in 2015 as GIS and Land director. Until joining us, Mrs. Galit Gilo served as the GM of Sivan Design Nigeria where she personally served as the GM. Prior to that, she served as IT director of KIKA Israel. Mrs. Galit Gilo brings over more than 26 years of experience in computer engineering in GIS, finance, municipalities areas. She is an expert  in computer science. Mr. Galit Gilo holds Bsc. degree in Computer science from the Technion and  Ma degree  from the Tel-Aviv university.

 

Ordan Trabelsi. Mr. Trabelsi leads our business and operations in the Americas through his roles as President of SuperCom Inc. and Leaders in Community Alternatives, Inc. He has been with the company since May 2013 as the second US employee and grew the business in the USA to over $10 million in annual revenues and profitability. He has also lead numerous successful financings for the Company, including two public offerings. Trabelsi has experience in strategic merger and acquisition, financing and product strategies as well as technology expertise in security, cyber, mobile and internet networks technologies. Mr. Trabelsi holds a BSc. degree in Software and Electrical Engineering from the Technion - Israel Institute of Technology, and an M.B.A. degree from the Columbia University Business School, New York, both with distinction.

 

Gil Alfi. Mr. Alfi joined SuperCom Group in 2016 as VP Sales and Technology of Safend. Until joining us, Mr. Alfi served as Regional Sales Director at Safend where he personally served as Regional Sales Director in different regions in Europe and regions in Africa Prior to that, he served as Director of product management of different telco and wireless companies. Mr. Alfi brings over more than 18 years of experience in different technology companies as technology lead in different R&D teams.  Mr. Alfi holds B.Sc. degree in Computer Science & Mathematics and MSc degree in Computer Science from Bar-Ilan University

 

B. Compensation

 

The following table sets forth all compensation we paid with respect to all of our directors and executive officers as a group for the year ended December 31, 2018.

 

    Salaries, fees,
commissions
and
bonuses
    Pension,
retirement
and similar
benefits
 
All directors and executive officers as a group (10 persons)   $ 955,300     $ 79,500  

  

The aggregate amount of compensation paid by us to our board members and executive officers as a group for the year ended December 31, 2018 was approximately $955,300. This sum includes amounts paid for salary and social benefits. In addition, we have provided automobiles to certain of our executive officers at our expense. As of December 31, 2018, we had set aside approximately $79,500 to provide pension, retirement or similar benefits for certain of our executive officers.

 

The monthly fee for a director (other than with respect to our Chairman of the Board) is $1,500 and for external director a monthly fee of approximately $1,143 plus approximately $708 for every board or audit committee meeting attended.

 

As of December 31, 2018, our directors and executive officers as a group, then consisting of 9 persons, held options to purchase an aggregate of 96,000 ordinary shares, of which 33,000 were exercisable as of December 31, 2018, at an average exercise price of $4.63 per share.

 

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Summary compensation table

 

The below table presents the compensation, on an individual basis, of our five most highly compensated office holders during or with respect to the year ended December 31, 2018, as required by regulations promulgated under the Companies Law.

 

Name and Position   Salary(1)     Bonus and
commissions
    Equity-Based
Compensation (2)
    Total  
Igor Merling
CTO, e-Gov
    180,012       -       62,185       242,197  
Ad Attias
Vice President, Cyber
    148,629               -       148,629  
Barak Trabelsi
GM &Vice President, IoT
    148,553       14,000       -       162.553  
Billy Gurevich
Chief Commercial Counsel
    153,195       -       -       153,195  
Gil Alfi
Vice President Sales, Safend Ltd
    161,833       71,781       -       233,614  

  

(1) Amounts reported in this column include salary, social benefits, including those mandated by applicable law.

 

(2) Amounts reported in this column represent the expense recorded in our audited consolidated financial statements for the year ended December 31, 2018 based on the grant date fair value in accordance with accounting guidance for stock-based compensation. See Note 12c to our audited consolidated financial statements for the year ended December 31, 2018.

 

C. Board Practices

 

Corporate Governance Practices

 

Our board of directors considers good corporate governance to be central to our effective and efficient operations. The following table lists our directors, the positions they hold with us and the dates they were first elected or appointed:

 

Name   Position   Date Service Began   Date of Expiration
of Current Term
Arie Trabelsi  
Director
  February 24, 2019   Next annual general meeting
Avi Ayash   Independent Director   December 8, 2011   December 8, 2019
Shoshana Cohen Shapira   Independent Director   February 24, 2019   February 23, 2022
Menachem Mirski   Independent Director   July 25, 2010   Next annual general meeting

 

Our Articles of Association provide that the number of directors may be determined from time to time by the board of directors, and unless otherwise determined, the number of directors comprising the board of directors will be between four and ten. Our board of directors is presently comprised of four members, two of whom were elected as external directors under the provisions of the Israeli Companies Law. Our Articles of Association provide that the majority of the directors appointed to the board of directors will be independent directors. Mrs. Shapira, Mr. Ayash and Mr. Mirski satisfy the applicable requirements for independence under our Articles of Association.

 

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Alternate Directors

 

As permitted under the Companies Law, our Articles of Association provide that any director may, subject to the board of directors’ approval, by written notice to us, appoint another person who is qualified to serve as a director to serve as an alternate director. Under the Companies Law, a person who is not qualified to be appointed as a director, a person who is already serving as a director or a person who is already serving as an alternate director may not be appointed as an alternate director. Nevertheless, a director may be appointed as an alternate director for a member of a committee of the board of directors so long as he or she is not already serving as a member of such committee. An external director may not appoint an alternate director unless such alternate director is eligible to be an external director and has either “financial and accounting expertise” or “professional expertise,” depending on the qualifications of the external director he or she is replacing. See “— External Directors.” Similarly, an independent director within the meaning of the Companies Law may not appoint an alternate director unless such alternate director is eligible to be an independent director within the meaning of the Companies Law. An alternate director may be appointed for one meeting or until notice is given of the cancellation of the appointment.

 

External Directors

 

The Companies Law requires Israeli companies with shares that have been offered to the public in or outside of Israel to appoint at least two external directors. The Companies Law provides that a person may not be appointed as an external director if the person, or the person’s relative, partner, employer or an entity under that person’s control, has or had during the two years preceding the date of appointment any affiliation with the company, or any entity controlling, controlled by or under common control with the company. The term “relative” means a spouse, sibling, parent, grandparent, child or child of spouse or spouse of any of the above as well as a sibling, brother, sister or parent of the foregoing relatives. In general, the term “affiliation” includes an employment relationship, a business or professional relationship maintained on a regular basis, control and service as an office holder. Furthermore, if the company does not have a controlling shareholder or a shareholder holding at least 25% of the voting rights, “affiliation” also includes a relationship, at the time of the appointment, with the chairman of the board, the chief executive officer, a substantial shareholder or the most senior financial officer of such company. Regulations promulgated under the Companies Law include certain additional relationships that would not be deemed an “affiliation” with a company for the purpose of service as an external director. In addition, no person may serve as an external director if the person’s position or other activities create, or may create, a conflict of interest with the person’s responsibilities as director or may otherwise interfere with the person’s ability to serve as director. If, at the time an external director is appointed, all current members of the board of directors are of the same gender, then that external director must be of the other gender. A director of one company may not be appointed as an external director of another company, if a director of the other company is acting as an external director of the first company at such time.

 

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At least one of the elected external directors must have “accounting and financial expertise” and any other external director must have “accounting and financial expertise” or “professional qualification,” as such terms are defined by regulations promulgated under the Companies Law. However, Israeli companies listed on certain stock exchanges outside Israel are not required to appoint an external director with “accounting and financial expertise” if a director with accounting and financial expertise who qualifies as an independent director for purposes of audit committee membership under the laws of the foreign country in which the stock exchange is located serves on its board of directors. All of the external directors of such a company must have “professional qualification.”

 

The external directors are elected by shareholders at a general meeting. The shareholders voting in favor of their election must include at least a simple majority of the shares voted by shareholders other than controlling shareholders or shareholders who have a personal interest in the election of the external director (unless such personal interest is not related to such person’s relationship with the controlling shareholder). This majority requirement will not be required if the total number of shares of such non-controlling shareholders and disinterested shareholders who vote against the election of the external director represent 2% or less of the voting rights in the company.

 

In general, under the Companies Law, external directors serve for a three-year term and may be reelected to two (2) additional three-year terms. However, Israeli companies listed on certain stock exchanges outside Israel may appoint an external director for additional terms of not more than three years subject to certain conditions. Such conditions include the determination by the audit committee and board of directors that, in view of the director’s professional expertise and special contribution to the company’s board of directors and its committees, the appointment of the external director for an additional term is in the best interest of the company. External directors can be removed from office only by the same special percentage of shareholders that can elect them, or by a court, and then only if the external directors cease to meet the statutory qualifications with respect to their appointment or if they violate their fiduciary duty to the company.

 

Pursuant to the Companies Law, the term of office of an external director may be extended by the shareholders following the initial three year term for two additional three years terms, at the nomination of either the board of directors or any shareholder(s) holding at least 1% of the voting rights in the company. If the board of directors proposed the nominee, the reelection must be approved by the shareholders in the same manner required to appoint external directors for an initial term, as described above. If such reelection is proposed by shareholders, such reelection requires the approval of the majority of the shareholders voting on the matter, excluding the votes of any controlling shareholder and other shareholders having a personal interest in the matter as a result of their relationship with the controlling shareholder(s), provided that the aggregate votes cast by shareholders who are not controlling shareholders and do not have a personal interest in the matter as a result of their relationship with the controlling shareholder(s) who voted in favor of the nominee constitute more than 2% of the voting rights in the company.

 

If the vacancy of an external directorship causes a company to have fewer than two external directors, the company’s board of directors is required under the Companies Law to call a special general meeting of the company’s shareholders as soon as possible to appoint such number of new external directors so that the company thereafter has two external directors.

 

Each committee of the board of directors that is authorized to exercise powers vested in the board of directors must include at least one external director and the audit committee and the financial statements review committee must include all the external directors. An external director is entitled to compensation as provided in regulations adopted under the Companies Law and is otherwise prohibited from receiving any other compensation, directly or indirectly, in connection with such service.

 

Audit Committee

 

Under the Companies Law, the board of directors of any public company must establish an audit committee. The chairman of the audit committee must be an external director. The audit committee must consist of at least three directors and must include all of the external directors, the majority of which must be independent directors. Such independent directors must meet all of the standards required of an external director and may not serve as a director for more than nine consecutive years (a cessation of service as a director for up to two years during any nine year period will not be deemed to interrupt the nine year period). Under the Companies Law, the audit committee and the compensation committee may not include: the chairman of the board of directors; any director employed by the company or providing services to the company on an ongoing basis; a controlling shareholder or any of the controlling shareholder’s relatives; and any director who rendered services to the controlling shareholder or an entity controlled by the controlling shareholder. Any person who is not permitted to be a member of the audit committee may not be present in the meetings of the audit committee unless the chairman of the audit committee determines that such person’s presence is necessary in order to present a specific matter. However, an employee who is not a controlling shareholder or relative of a controlling shareholder may participate in the audit committee’s discussions but not in any vote, and at the request of the audit committee, the secretary of the company and its legal counsel may be present during the meeting.

  

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Under the Companies Law, an audit committee may not approve an action or a transaction with a controlling shareholder, or with an office holder, unless at the time of approval two external directors are serving as members of the audit committee and at least one of the external directors was present at the meeting at which an approval was granted.

 

The role of the audit committee, pursuant to the Companies Law, includes:

 

  · Monitoring deficiencies in the management of the company, including in consultation with the independent auditors or the internal auditor, and advising the board of directors on how to correct such deficiencies. If the audit committee finds a material deficiency, it will hold at least one meeting regarding such material deficiency, with the presence of the internal auditor or the independent auditors but without the presence of the senior management of the company. However, a member of the company’s senior management can participate in the meeting in order to present an issue which is under his or her responsibility.

 

  · Determining, on the basis of detailed arguments, whether to classify certain engagements or transactions as material or extraordinary, as applicable, and therefore as requiring special approval under the Companies Law. The audit committee must make such determination according to principles and guidelines predetermined on an annual basis.

 

  · Determining if transactions (excluding extraordinary transactions) with a controlling shareholder, or in which a controlling shareholder has a personal interest, are required to be rendered pursuant to a competitive procedure.

 

  · Deciding whether to approve engagements or transactions that require the audit committee approval under the Companies Law.

 

  · Determining the approval procedure of non-extraordinary transactions, following classification as such by the audit committee, including whether such specific non-extraordinary transactions require the approval of the audit committee.

 

  · Examining and approving the annual and periodic working plans of the internal auditor.

 

  · Overseeing the company’s internal auditing and the performance of the internal auditor and confirming that the internal auditor has sufficient tools and resources at his disposal, taking into account, among other factors, the special requirements of the company and its size;

 

  · Examining the scope of work of the independent auditor and its pay, and bringing such recommendations on these issue before the board.

 

  · Determining the procedure for addressing complaints of employees regarding shortcomings in the management of the company and ensuring the protection of employees who have filed such complaints.

 

  · Determining, with respect to transactions with the controlling shareholder or in which such controlling shareholder has a personal interest, whether such transactions are extraordinary or not, whether there is an obligation to conduct a competitive process under the supervision of the audit committee and whether, prior to entering into such transaction, the company should conduct any other process that the audit committee may deem fit, all taking into account the type of the company. The audit committee may set such qualifications up to one year in advance.

 

  · Determining the manner of approval of transactions with the controlling shareholder or in which the controlling shareholder has a personal interest which (i) are not negligible transactions (pursuant to the committee’s determination) and (ii) are not qualified by the committee as extraordinary transactions.

 

Under the Exchange Act and NASDAQ Stock Market listing requirements, we are required to maintain an audit committee consisting of at least three independent directors, each of whom is financially literate and one of whom has accounting or related financial management expertise. Our board of directors has affirmatively determined that each member of our audit committee qualifies as an “independent director” for purposes of serving on an audit committee under the Exchange Act and NASDAQ listing requirements. Our board of directors has determined that each of Mrs. Shapira and Mr. Ayash qualify as an “audit committee financial expert,” as defined in Item 407(d) (5) of Regulation S-K. All members of our audit committee meet the requirements for financial literacy under the applicable rules and regulations of the SEC and NASDAQ Stock Market. Mrs. Shapira and Messrs. and Mirski are the members of our audit committee.

 

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Compensation Committee

 

Effective December 2012, under an amendment to the Companies Law, effective as of December 12, 2012, each publicly traded company is required to establish a compensation committee, whose role is to: (i) recommend to the board of directors a compensation policy for office holders, (ii) make recommendations to the shareholders once every three years on the approval of the continued validity of the compensation policy; (iii) recommend updates to the compensation policy from time to time and examine its implementation; (iv) determine whether to approve the terms of the service and employment of office holders that require the committee’s approval; and (v) exempt a related party transaction from the requirement for shareholders’ approval. The compensation committee also has oversight authority over the actual terms of employment of directors and officers and may make recommendations to the board of directors and the shareholders (where applicable) with respect to deviation from the compensation policy that was adopted by the company. Under Israeli law, our compensation committee will consist of no fewer than three members, including all of our independent directors (who must constitute a majority of the members of the committee), with the remainder of the members of the compensation committee to be directors whose terms of service and employment were determined pursuant to the applicable regulations. The amendment imposes the same restrictions on the actions and membership in the compensation committee as are discussed above under “Audit Committee” with respect to, among other things, the requirement that an external director serve as the chairman of the committee and the list of persons who may not serve on the committee or participate in its meetings. We have established a compensation committee that is currently composed of Mrs. Shapira, Mr. Ayash and Mr. Mirski.

 

Management Employment Agreements

 

We maintain written employment agreements with substantially all of our key employees. These agreements provide, among other matters, for monthly salaries, our contributions to Managers’ Insurance, an Education Fund and severance benefits. All of our agreements with our key employees are subject to termination by either party upon the delivery of notice of termination as provided therein. We maintain a service agreement with our chairperson of the board of directors. We do not have written agreements with any other director providing for benefits upon the termination of his or her service to us.

 

Approval of Certain Transactions

 

Fiduciary Duties of Office Holders

 

The Companies Law codifies the fiduciary duties that “office holders,” including directors and executive officers, owe to a company. An “office holder” is defined in the Companies Law as a director, general manager, chief business manager, deputy general manager, vice general manager, other manager directly subordinate to the general manager or any other person assuming the responsibilities of any of the foregoing positions without regard to such person’s title. An office holder’s fiduciary duties consist of a duty of care and a fiduciary duty. The duty of care requires an office holder to act at a level of care that a reasonable office holder in the same position would employ under the same circumstances. This includes the duty to utilize reasonable means to obtain (i) information regarding the appropriateness of a given action brought for his approval or performed by him by virtue of his position and (ii) all other information of importance pertaining to the foregoing actions. The fiduciary duty includes (i) avoiding any conflict of interest between the office holder’s position in the company and any other position he holds or his personal affairs, (ii) avoiding any competition with the company’s business, (iii) avoiding exploiting any business opportunity of the company in order to receive personal gain for the office holder or others, and (iv) disclosing to the company any information or documents relating to the company’s affairs that the office holder has received due to his position as an office holder.

 

Disclosure of Personal Interests of an Office Holder; Approval of Transactions with Office Holders

 

The Companies Law requires that an office holder promptly, and no later than the first board meeting at which such transaction is considered, disclose any personal interest that he or she may have and all related material information known to him or her and any documents in their position, in connection with any existing or proposed transaction by us. In addition, if the transaction is an extraordinary transaction, that is, a transaction other than in the ordinary course of business, other than on market terms, or likely to have a material impact on the company’s profitability, assets or liabilities, the office holder must also disclose any personal interest held by the office holder’s spouse, siblings, parents, grandparents, descendants, spouse’s descendants and the spouses of any of the foregoing, or by any corporation in which the office holder or a relative is a 5% or greater shareholder, director or general manager or in which he or she has the right to appoint at least one director or the general manager.

 

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Some transactions, actions and arrangements involving an office holder (or a third party in which an office holder has an interest) must be approved by the board of directors or as otherwise provided for in a company’s articles of association, however, a transaction that is adverse to the company’s interest may not be approved. In some cases, such a transaction must be approved by the audit committee and by the board of directors itself, and under certain circumstances shareholder approval may also be required. A director who has a personal interest in a transaction that is considered at a meeting of the board of directors or the audit committee may not be present during the board of directors or audit committee discussions and may not vote on the transaction, unless the transaction is not an extraordinary transaction or the majority of the members of the board or the audit committee have a personal interest, as the case may be. In the event the majority of the members of the board of directors or the audit committee have a personal interest, then the approval of the general meeting of shareholders is also required.

 

Approval of a Compensation Policy for Office Holders

 

The Companies Law and the regulations adopted thereunder require the compensation committee to adopt a policy for director and office holders. In adopting the compensation policy, the compensation committee must take into account factors such as the office holder’s education, experience, past compensation arrangements with the company, and the proportional difference between the person cost of compensation and the average cost of compensation of the company’s employees.

 

The compensation policy must be approved at least once every three years at the company’s general meeting of shareholders, and is subject to the approval of a majority vote of the votes of the shareholders present and voting at a shareholders’ meeting, provided that either: (i) such majority includes at least a majority of the votes of all shareholders who are not controlling shareholders and do not have a personal interest in the approval of the compensation policy, present and voting at such meeting (excluding abstentions); or (ii) the total number of ordinary shares of non-controlling shareholders and shareholders who do not have a personal interest in the approval of the compensation policy, voting against the resolution does not exceed 2% of the aggregate voting rights in the company.

 

The Board may approve the compensation policy even if such policy was not approved by the shareholders, provided that the compensation committee and the board of directors resolve, based on detailed consideration of the compensation policy that approval of the policy, is in the best interest of the company, despite the fact that it was not approved at the shareholders’ meeting.

 

The compensation policy shall serve as the basis for decisions concerning the financial terms of employment or engagement of officer holders, including exculpation, insurance, indemnification or any monetary payment or obligation of payment in respect of employment or engagement. The compensation policy must relate to certain factors, including advancement of the company’s objectives, the company’s business and its long-term strategy, and creation of appropriate incentives for executives. It must also consider, among other things, the company’s risk management, size and the nature of its operations. The compensation committee must also consider among others, the ratio between the cost of terms offered to the relevant director or office holder and the average and median cost of compensation of the other employees of the company, including those employed through manpower companies, the effect of disparities in salary upon work relationships in the company, the possibility of reducing variable compensation at the discretion of the board of directors; the possibility of setting a limit on the exercise value of non-cash variable compensation; and as to severance compensation (in excess of those promulgated by applicable labor law), the period of service of the director or office holder, the terms of his or her compensation during such service period, the company’s performance during that period of service, the person’s contribution towards the company’s achievement of its goals and the maximization of its profits, and the circumstances under which the person is leaving the company.

 

The compensation policy must also include the link between variable compensation and long-term performance and measurable criteria, the relationship between variable and fixed compensation, and the upper limit for the value of variable compensation, the conditions under which a director or an office holder would be required to repay compensation paid to him or her if it was later shown that the data upon which such compensation was based was inaccurate and was required to be restated in the company’s financial statements, the minimum holding or vesting period for variable, equity-based compensation whilst referring to appropriate a long-term perspective based incentives; and maximum limits for severance compensation.

 

Once a compensation policy is properly adopted, the Companies Law requires the compensation policy to be approved by the company’s compensation committee, with subsequent approval of the board of directors. In addition, compensation of the directors and the chief executive officer is also subject to the approval of the shareholders at a general meeting. The approval of the compensation of the chief executive officer that complies with the compensation policy is subject to the same majority requirements as the approval of a transaction between a company and its controlling shareholder. Where the director is also a controlling shareholder, the requirements for approval of transactions with controlling shareholders apply. The terms of employment of the company’s directors and executive officers must satisfy the requirements of the compensation policy in respect of matters relating to compensation. Any deviations from the compensation policy in respect of the compensation of the office holders require the approval of the compensation committee, the board of directors and the shareholders. If the deviation is with respect to the compensation of the chief executive office then such approval must be made by the majority of the shareholders provided that such majority includes the majority of the votes of the non-controlling shareholder and other shareholders who have personal interest in the proposal (unless such personal interest is not related to the controlling shareholder) present and voting (excluding abstention). Such special majority is not required if the number of votes of the non-controlling shareholders and shareholder who do not have personal interest in the proposal as aforesaid is lower than 2% of the aggregate voting rights in the company.

 

External directors of the company are prohibited from receiving, directly or indirectly, any compensation from the company, other than for their services as external directors pursuant to the provisions and limitations set forth in regulations promulgated under the Companies Law, which compensation is determined prior to their appointment and may not be changed throughout the term of their service as External directors (except for certain exceptions set forth in such regulations).

 

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Disclosure of Personal Interests of a Controlling Shareholder; Approval of Transactions with Controlling Shareholders

 

Pursuant to the Companies Law, the disclosure requirements regarding personal interests that apply to directors and executive officers also apply to a controlling shareholder of a public company. A controlling shareholder is a shareholder who has the ability to direct the activities of a company, but excludes a shareholder whose power derives solely from its position on the board of directors or any other position at the company. A person is presumed to be a “controlling shareholder” if it holds or controls, by itself or together with others, one half or more of any one of the “Means of Control” of the company. “Means of Control” is defined as any one of the following: (i) the right to vote at a general meeting of the company, or (ii) the right to appoint directors of the company or its chief executive officer. For the purpose of related party translations, under the Companies Law, a controlling shareholder is also a shareholder who holds 25% or more of the voting rights if no other shareholder who holds more than 50% of the voting rights. For this purpose, the holdings of all shareholders who have a personal interest in the same transaction will be aggregated.

 

Certain shareholders also have a duty of fairness toward the company. These shareholders include any controlling shareholder, together with any shareholder who knows that it has the power to determine the outcome of a shareholder vote and any shareholder who has the power to appoint or to prevent the appointment of an office holder of the company or exercise any other rights available to it under the company’s articles of association with respect to the company. The Companies Law does not define the substance of this duty of fairness, except to state that the remedies generally available upon a breach of contract will also apply in the event of a breach of the duty of fairness.

 

An extraordinary transaction between a public company and a controlling shareholder, or in which a controlling shareholder has a personal interest, including a private placement in which the controlling shareholder has a personal interest, and the terms of engagement of the company, directly or indirectly, with a controlling shareholder or a controlling shareholder’s relative (including through a corporation controlled by a controlling shareholder), regarding the company’s receipt of services from the controlling shareholder, and if such controlling shareholder is also an office holder of the company, regarding his or her terms of employment, require the approval of a company’s audit committee (or compensation committee with respect to compensation arrangements), board of directors and shareholders, in that order. Such transaction must be elected by a majority vote of the Ordinary Shares present and voting at a shareholders’ meeting, provided that either: (i) such majority includes at least a majority of votes held by all shareholders who do not have a personal interest in such transaction, present and voting at such meeting (excluding abstentions); or (ii) the total number of votes of shareholders who do not have a personal interest in such transaction voting against the approval of the transaction, does not exceed 2% of the aggregate voting rights in the company.

 

Pursuant to the Companies Law, the audit committee of the company should determine in connection with such transaction if it requires rendering pursuant to a competitive procedure or pursuant to other proceedings. See “Audit Committee” above.

 

To the extent that any such transaction with a controlling shareholder or his relative is for a period extending beyond three years, shareholder approval is required once every three years, unless, in respect to certain transactions, the audit committee determines that the longer duration of the transaction is reasonable under the circumstances.

 

Pursuant to regulations promulgated pursuant to the Companies Law, a transaction with a controlling shareholder that would otherwise require approval of the shareholders is exempt from shareholders’ approval if each of the audit committee and the board of directors determine that the transaction meets certain criteria that are set out in specific regulations promulgated under the Companies Law. Under these regulations, a shareholder holding at least 1% of the issued share capital of the company may require, within 14 days of the publication of such determination, that despite such determination by the audit committee and the board of directors, such transaction will require shareholder approval under the same majority requirements that otherwise apply to such transactions.

 

The Companies Law provides that an acquisition of shares in a public company must be made by means of a tender offer if as a result of the acquisition the purchaser would become a 25% or greater shareholder of the company. This rule does not apply if there is already another 25% or greater shareholder of the company. Similarly, the Companies Law provides that an acquisition of shares in a public company must be made by means of a tender offer if as a result of the acquisition the purchaser would hold greater than a 45% interest in the company, unless there is another shareholder holding more than a 45% interest in the company. These requirements do not apply if, in general, (i) the acquisition was made in a private placement that received shareholder approval, (ii) was from a 25% or greater shareholder of the company which resulted in the acquirer becoming a 25% or greater shareholder of the company, if there is not already a 25% or greater shareholder of the company, or (iii) was from a shareholder holding a 45% interest in the company which resulted in the acquirer becoming a holder of a 45% interest in the company if there is not already a 45% or greater shareholder of the company.

 

If, as a result of an acquisition of shares, the acquirer will hold more than 90% of a public company’s outstanding shares or a class of shares, the acquisition must be made by means of a tender offer for all of the outstanding shares or a class of shares. If less than 5% of the outstanding shares are not tendered in the tender offer, all the shares that the acquirer offered to purchase will be transferred to the acquirer. If more than 5% of the outstanding shares are not tendered in the tender offer, then the acquirer may not acquire shares in the tender offer that will cause his shareholding to exceed 90% of the outstanding shares. The Companies Law provides for appraisal rights if any shareholder files a request in court within six months following the consummation of a full tender offer. However, in the event of a full tender offer, the offeror may determine that any shareholder who accepts the offer will not be entitled to appraisal rights. Such determination will be effective only if the offeror or the company has timely published all the information that is required to be published in connection with such full tender offer pursuant to all applicable laws.

 

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Duties of Shareholders

 

Under the Companies Law, a shareholder has a duty to refrain from abusing his or her power in the company and to act in good faith and in a customary manner in exercising its rights and performing its obligations to the company and other shareholders, including, among other things, when voting at meetings of shareholders on the following matters:

 

  · an amendment to the company’s articles of association;

 

  · an increase in the company’s authorized share capital;

 

  · a merger; and

 

  · the approval of related party transactions and acts of office holders that require shareholder approval.

 

A shareholder also has a general duty to refrain from discriminating against other shareholders.

 

In addition, certain shareholders have a duty to act with fairness towards the company. These shareholders include any controlling shareholder, any shareholder who knows that his or her vote can determine the outcome of a shareholder vote, and any shareholder that, under a company’s articles of association, has the power to appoint or prevent the appointment of an office holder. The Companies Law does not define the substance of this duty except to state that the remedies generally available upon a breach of contract will also apply in the event of a breach of the duty to act with fairness.

 

Exculpation, Insurance and Indemnification of Directors and Officers

 

Exculpation of Office Holders

 

Under the Companies Law, an Israeli company may not exculpate an office holder from liability for breach of his duty of loyalty, but may exculpate in advance an office holder from liability to the company, in whole or in part, for a breach of his duty of care, provided the articles of association of the company allow it to do so. Our Articles of Association allow us to exculpate our office holders from liability towards us for breach of duty of care to the maximum extent permitted by law.

 

Office Holder Insurance

 

Our Articles of Association provide that, subject to the provisions of the Companies Law, we may enter into a contract for the insurance of the liability of any of our office holders for any act done by him or her by virtue of being an office holder, in respect of any of the following:

 

  · a breach of duty of care towards us or any other person;

 

  · a breach of fiduciary obligations towards us, provided that the office holder acted in good faith and had reasonable grounds to assume that his or her act would not be to our detriment;

 

  · a financial liability imposed on him or her in favor of another person; or

 

  · any other event for which insurance of an office holder is or may be permitted.

 

Indemnification of Office Holders

 

Our Articles of Association provide that we may indemnify an office holder for the following cases of liability and expenses incurred by him or her as a result of an act done by him or her by virtue of being an office holder:

 

  · financial liability imposed upon said office holder in favor of another person by virtue of a decision by a court of law, including a decision by way of settlement or a decision in arbitration which has been confirmed by a court of law;

  

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  · reasonable expenses of the proceedings, including lawyers’ fees, expended by the office holder or imposed on him by the court for:

 

  (1) proceedings issued against him by or on behalf of our company or by a third party;

 

  (2) criminal proceedings in which the office holder was acquitted;

 

  (3) criminal proceedings in which he was convicted in an offense, which did not require proof of criminal intent; or

 

  (4) any other liability or expense for which the indemnification of an officer holder is not precluded by law.

 

We have obtained directors’ and officers’ liability insurance for the benefit of our office holders. In addition, we have granted indemnification letters to our office holders.

 

Limitations on Exculpation, Insurance and Indemnification

 

The Companies Law provides that a company may not exculpate or indemnify an office holder, or enter into an insurance contract, which would provide coverage for any monetary liability incurred as a result of any of the following:

 

  · a breach by the office holder of his or her duty of loyalty towards the company unless, with respect to insurance coverage, the office holder acted in good faith and had a reasonable basis to believe that the act would not prejudice the company;

 

  · a breach by the office holder of his or her duty of care if the breach was done intentionally or recklessly;

 

  · any act or omission done with the intent to derive an illegal personal benefit; or

 

  · any fine levied against the office holder.

 

Required Approvals

 

In addition, under the Companies Law, any exculpation of, indemnification of, or procurement of insurance coverage for, our office holders must be approved by our audit committee and our board of directors and, if the beneficiary is a director, an additional approval by our shareholders is required.

 

D. Employees

 

As of December 31, 2018, 2017 and 2016, we had 165, 215 and 246 full-time employees, respectively (not including service providers). The following table describes our employees and the employees of our subsidiaries by department.

 

   Dec. 31,
2018
   Dec. 31,
2017
   Dec. 31,
2016
 
Research, Development & Operations   128    161    173 
Marketing and Sales   18    29    36 
Administration   19    25    37 
Total   165    215    246 

 

Over the past three years, the number of our employees by geographic area was as follows:

 

   Dec. 31,
2018
   Dec. 31,
2017
   Dec. 31,
2016
 
Israel & Europe   82    128    148 
United States   83    87    98 
Total   165    215    246 

 

From time to time, we have engaged temporary employees to fill open positions. These temporary employees, however, historically have not comprised a material number of our employees.

 

Our Israeli employees are not part of a collective bargaining agreement and none of them are represented by labor unions. However, in Israel we are subject to certain labor statutes and national labor court precedent rulings, as well as to certain provisions of collective bargaining agreements between the Histadrut, which is the General Federation of Labor in Israel, and the Coordinating Bureau of Economic Organizations, including the Industrialists’ Association. These provisions of collective bargaining agreements are applicable to our employees by virtue of expansion orders issued in accordance with relevant labor laws by the Israeli Ministry of Labor and Welfare and which apply such agreement provisions to our employees even though they are not directly part of a union that has signed a collective bargaining agreement.

 

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The labor statutes and labor court rulings that apply to our employees principally concern the minimum wage laws , procedures for dismissing employees, determination of severance pay, leaves of absence (such as annual vacation or maternity leave), sick pay and other conditions for employment. The expansion orders which apply to our employees principally concern the requirement for mandatory pension schemes, transportation allowance, and annual recreation allowance, the lengths of the workday and workweek, and periodic automatic adjustment of wages relative to increases in the Consumer Price Index in Israel. We provide our employees with benefits and working conditions that comply with the required minimums. Israeli employees and employers are also required to pay pre-determined sums which include a contribution to national health insurance to the Israel National Insurance Institute, which provides a range of social security benefits.

 

Generally, all nonexempt adult male citizens and permanent residents of Israel, under the age of 40, or older for reserves officers or citizens with certain occupations, as well as certain female adult citizens and permanent residents of Israel, are obligated to perform annual military reserve duty and are subject to being called for active duty at any time under emergency circumstances. Some of our officers and employees are obligated to perform annual reserve duty. While we have operated effectively under these requirements since we began operations, no assessment can be made as to the full impact of such requirements on our workforce or business if conditions should change, and no prediction can be made as to the effect on us of any expansion of such obligations.

 

Most of our employees have entered into confidentiality agreements. We have also granted certain employees options to purchase shares of our ordinary shares under our option plan. We consider our relationship with our employees to be good and we have never experienced a general strike or work stoppage.

 

E. Share Ownership

 

Beneficial Ownership by Executive Officers and Directors

 

The following table sets forth certain information as of December 1, 2019 regarding the beneficial ownership of our ordinary shares by each of our directors and all of our executive officers and directors as a group.

 

Name   Number of
Ordinary Shares
Beneficially
Owned (1)
    Percentage
of Outstanding
Ordinary Shares
(2)
 
Arie Trabelsi(3)     4,582,212       28.13 %
                 
Menachem Mirski            
                 
Shoshana Cohen Shapira            
                 
All executive officers and directors as a group (8 persons)     4,615,212       28.34 %

 

(1) Beneficial ownership is determined in accordance with the rules of the SEC and generally includes voting or investment power with respect to securities. Ordinary shares relating to options currently exercisable or exercisable within 60 days of the date of this table are deemed outstanding for computing the percentage of the person holding such securities but are not deemed outstanding for computing the percentage of any other person. Except as indicated by footnote, and subject to community property laws where applicable, the persons named in the table above have sole voting and investment power with respect to all shares shown as beneficially owned by them.

 

(2) The percentages shown are based on 16,285,944 ordinary shares issued and outstanding as of November 08, 2019.

  

(3) Sigma Wave Ltd. is controlled by Mrs. Tsviya Trabelsi, and by her husband, Mr. Arie Trabelsi. As such, Mr. Trabelsi may be deemed to beneficially own the 4,582,212 ordinary shares beneficially held by Sigma Wave Ltd. The address of Sigma Wave Ltd. is Tsufit 7, Caesarea, 38900, Israel.

 

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Share Option Plans

 

In 2003, we adopted the SuperCom Ltd. 2003 Israeli Share Option Plan, a stock option plan under which we now issue stock options, or the Option Plan. The Option Plan is intended to provide incentives to our employees, officers, directors and/or consultants by providing them with the opportunity to purchase our ordinary shares. The Option Plan is subject to the provisions of the Companies Law, administered by the audit committee, and is designed: (i) to comply with Section 102 of the Israeli Tax Ordinance or any provision which may amend or replace it and the rules promulgated thereunder and to enable us and grantees thereunder to benefit from Section 102 of the Israeli Tax Ordinance and the Commissioner’s Rules; and (ii) to enable us to grant options and issue shares outside the context of Section 102 of the Israeli Tax Ordinance. Options granted under the Option Plan will become exercisable ratably over a period of three to five years or immediately in certain circumstances, commencing with the date of grant. The options generally expire no later than 10 years from the date of grant. Any options that are forfeited or canceled before expiration become available for future grants. As of December 31, 2018, 291,156 options were exercisable and 854,656 options were outstanding.

 

As a result of an amendment to Section 102 of the Israeli Tax Ordinance as part of the 2003 Israeli tax reform, and pursuant to an election made by us thereunder, capital gains derived by optionees arising from the sale of shares issued pursuant to the exercise of options granted to them under Section 102 after January 1, 2003 will generally be subject to a flat capital gains tax rate of 25%. However, as a result of this election, we will no longer be allowed to claim as an expense for tax purposes the amounts credited to such employees as a benefit when the related capital gains tax is payable by them, as we had previously been entitled to do under Section 102.

 

On June 27, 2007, our Compensation Committee and the board of directors approved a new option plan under which we may grant stock options to our U.S. employees and our subsidiaries. Under this option plan, we may grant both qualified (for preferential tax treatment) and non-qualified stock options. On August 15, 2007, this option plan was approved by our shareholders at the general shareholders meeting. 

 

In June 2013, the Option plan was extended for another period of 10 years, until December 31, 2023.

 

During 2017, we have not issued any options to purchase of our ordinary shares to our executive officers.

 

A summary of our stock option activity and related information is as follows:

 

    Year ended December 31,  
    2018     2017     2016  
    Number of
options
    Weighted
average
exercise price
    Number of
options
    Weighted
average
exercise price
    Number of
options
    Weighted
average
exercise price
 
          $           $           $  
Outstanding at Beginning of year     331,660       4.03       416,432       4.24       487,432       5.12  
Granted     568,500       2.00       -       -       67,833       2.82  
Exercised     -       -       (20,000 )     0.64       (8,383 )     1.53  
Canceled and forfeited     (45,504 )     6.84       (64,772 )     6.42       (130,500 )     6.96  
Outstanding at end of year     854,656       2.53       331,660       4.03       416,432       4.24  
Exercisable at end of year     291,156       3.44       236,277       3.67       186,253       4.14  

 

We recognized compensation expenses related to our share-based employee compensation awards of $256,000, $631,000, and $924,000 for the years ended December 31, 2018, 2017 and 2016, respectively.

 

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The following table summarizes the allocation of the stock-based compensation expenses (all amounts in thousands of dollars):

 

    Year ended December 31,  
    2018     2017     2016  
    $     $     $  
Cost of revenues     116       217       266  
Research and development expenses     54       155       207  
Selling and marketing expenses     52       183       292  
General and administrative expenses     34       76       159  
      256       631       924  

 

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The options outstanding and exercisable as of December 31, 2018, have the following ranges of exercise prices as follows:

 

    Options outstanding     Options Exercisable  
Range of
exercise price
  Number
outstanding 
as of
December 31,
2018
    Weighted
average
remaining
contractual life
(years)
    Weighted
average
exercise price
    Aggregate
intrinsic
value
    Number
outstanding 
as of
December
31, 2018
    Weighted
average
remaining
contractual life
(years)
    Weighted
average
exercise
price
    Aggregate
intrinsic
value
 
$               $     $                 $     $  
0.00-2.00     661,008       8.34       1.77       84,940       105,508       1.78       0.54       84,940  
3.00-5.00     151,648       5.34       4.15       -       148,648       5.42       4.17       -  
7.00-10.00     42,000       6.75       8.75       -       37,000       6.75       8.75       -  
18.75-22.00     -       -       -       -       -       -       -       -  
      854,656       7.73       2.53       84,940       291,156       4.27       3.44       84,940  

 

The total intrinsic value of options exercised during the years ended December 31, 2018, 2017 and 2016 was $0, $65,000, and $16,000, respectively, based on our company’s average stock price of $2.54, $3.27, and $3.77 during the years ended on those dates respectively.

 

A summary of the status of options granted to employees that had vested as of December 31, 2018 is presented below:

 

    Options     Weighted–
average
grant-date
fair value
 
Non-vested at January 1, 2018     95,383     $ 6.84  
Granted     568,500     $ 1.87  
Vested     (54,879 )   $ 3.93  
Forfeited and canceled     (45,504 )   $ 6.84  
Non-vested at December 31, 2018     563,500     $ 1.90  

 

As of December 31, 2018 and December 31, 2017, there was $994,000 and $277,000, respectively, of unrecognized compensation cost related to non-vested share-based compensation arrangements granted under the stock option plans.

 

ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS

 

A. Major Shareholders

  

The following table lists the beneficial ownership of our securities as of November 8, 2019 by each person known by us to be the beneficial owner of 5% or more of the outstanding shares of any class of our securities. As of November 8, 2019, 16,285,944 of our ordinary shares were outstanding.

  

Name of Beneficial Owner   Number of
Shares
Beneficially
Owned
    Percentage of
Shares
Outstanding
 
Sigma Wave Ltd     4,582,812       28.13 %
                 
Ibex Investors LLC     1,989,068       12.21 %

 

Beneficial ownership is determined in accordance with the rules of the SEC and generally includes voting or investment power with respect to securities. We believe that all persons named in the table have sole voting and sole investment power with respect to all shares beneficially owned by them. All figures include ordinary shares issuable upon the exercise of options and warrants exercisable within 60 days of December 1, 2019, and deemed to be outstanding and beneficially owned by the person holding those options or warrants for the purpose of computing the percentage ownership of that person, but are not deemed to be outstanding for the purpose of computing the percentage ownership of any other person.

 

Sigma Wave Ltd. is controlled by family members of Mrs. Tsviya Trabelsi, and by her husband, Mr. Arie Trabelsi. As such, Mr. Trabelsi may be deemed to beneficially own the 4,582,812 ordinary shares beneficially held by Sigma Wave Ltd. The address of Sigma Wave Ltd. is Tsufit 7, Caesarea, 38900, Israel.

 

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Significant Changes in the Ownership of Major Shareholders

 

As of November 8, 2019, Ibex Investors beneficially owned 1,989,068 shares, or 12.21%, of our then outstanding ordinary shares 

As of May 14, 2018, Ibex Investors beneficially owned 1,607,024 shares, or 10.74%, of our then outstanding ordinary shares 

As of May 12, 2017, Ibex Investors beneficially owned 2,248,470 shares, or 15.08%, of our then outstanding ordinary shares 

 

As of December 8, 2019, Heartland Advisors Inc. beneficially owned less than 5% of our then outstanding ordinary shares.

As of May 14, 2018, Heartland Advisors Inc. beneficially owned 1,193,152 shares, or 7.98%, of our then outstanding ordinary shares.

As of May 12, 2017, Heartland Advisors Inc. beneficially owned 1,492,900 shares, or 9.99%, of our then outstanding ordinary shares.

 

Voting Rights of Major Shareholders

 

Our major shareholders do not have different voting rights from the other holders of our ordinary shares.

 

Record Holders

 

Based on a review of the information provided to us by our U.S. transfer agent, as of November 8, 2019, there were approximately 27 record holders, of which 10 record holders holding approximately 74.5% of our ordinary shares had registered addresses in the United States. These numbers are not representative of the number of beneficial holders of our shares nor are they representative of where such beneficial holders reside, since many of these ordinary shares were held of record by brokers or other nominees (including one U.S. nominee company, CEDE & Co., which held approximately 73.1% of our outstanding ordinary shares as of such date).

 

B. Related Party Transactions

 

It is our policy to enter into transactions with related parties on terms that, on the whole, are no less favorable than those that would be available from unaffiliated parties. Based on our experience in the business segments in which we operate and the terms of our transactions with unaffiliated third parties, we believe that all of the transactions described below met our policy standards at the time they occurred.

 

Mr. Trabelsi served as our Chief Executive Officer from November 1, 2010 until November 12, 2011 and from June 1, 2012 to date. At the May 9, 2013 general meeting of shareholders, shareholders approved the payment of management fees of $10,600 per month to Mr. Trabelsi plus social benefits and an annual bonus of up to the greater of 2% of annual net profit or 0.5% of annual revenue. The annual bonus may not exceed the total amount of Mr. Trabelsi’s annual salary.

 

As of December 31, 2018, we had accrued $171,000 of expenses arising from consulting services provided by Mr. and Mrs. Trabelsi.

  

On April 29, 2012, our board of directors approved the recording of a floating charge on all of our assets in favor of Mrs. and Mr. Trabelsi, unlimited in amount, in order to secure personal guarantees granted by them in favor of our company to a bank and in order to secure short-term loans that are given by them from time to time to us. The short terms loans provided by Mrs. and Mr. Trabelsi during the years 2011 until 2018 ranged from NIS 10,000 up to NIS 9,336,000 and bore no interest. Currently, there are outstanding loans from Mrs. and Mr. Trabelsi in the amount $165,000.

 

C. Interests of Experts and Counsel

 

Not applicable.

 

ITEM 8. FINANCIAL INFORMATION

 

A. Consolidated Statements and Other Financial Information

 

See the consolidated financial statements, including the notes thereto, included in Item 18.

 

Legal Proceedings

 

We are party to legal proceedings in the normal course of our business. Other than as described below, there are no material pending legal proceedings to which we are a party or of which our property is subject. Although the outcome of claims and lawsuits against us cannot be accurately predicted, we do not believe that any of the claims and lawsuits described in this paragraph, individually or in the aggregate, will have a material adverse effect on our business, financial condition, results of operations or cash flows for any quarterly or annual period.

 

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As part of the acquisition of the SmartID division of OTI, we assumed a dispute with Merwell Inc. (“Merwell”). Merwell has alleged that it has not received the full payment it is entitled to for its services in respect of a drivers’ license project. OTI alleged that Merwell breached its commitments under the service agreement and also acted in concert with third parties to damage OTI’s business activities. This matter is now subject to an arbitration proceeding.

 

Dividend Distribution Policy

 

We have never paid cash dividends to our shareholders. We intend to retain future earnings for use in our business and do not anticipate paying cash dividends on our ordinary shares in the foreseeable future. Any future dividend policy will be determined by our Board of Directors and will be based upon conditions then existing, including our results of operations, financial condition, current and anticipated cash needs, contractual restrictions and other conditions as the Board of Directors may deem relevant.

 

According to the Companies Law, a company may distribute dividends out of its profits (as such term is defined in the Companies Law), provided that there is no reasonable concern that payment of the dividend will prevent the company from satisfying all its current and foreseeable obligations, as they become due. Notwithstanding the foregoing, dividends may be paid with the approval of a court, at the company’s request, provided that there is no reasonable concern that payment of the dividend will prevent the company from satisfying its current and foreseeable obligations, as they become due. In the event cash dividends are declared, such dividends will be paid in NIS.

 

B. Significant Changes

 

Except as otherwise disclosed in this annual report, no significant change has occurred since December 31, 2018.

 

ITEM 9. THE OFFER AND LISTING

 

A. Offer and Listing Details

 

Our ordinary shares trade on the NASDAQ Capital Market under the ticker symbol “SPCB”. As of November 8, 2019, we had 16,285,944 ordinary shares issued and outstanding.

 

Annual Stock Information

 

The following table sets forth, for the periods indicated, the high and low closing prices of our ordinary shares on The NASDAQ Capital Market or the OTCQB Market, as applicable. All of the share price information provided below has been adjusted to give effect to a 1 share for 4.250002 shares reverse stock split effected on August 23, 2013.

 

Year   High     Low  
2012   $ 0.85     $ 0.04  
2013   $ 5.65     $ 0.30  
2014   $ 13.78     $ 4.85  
2015   $ 13.84     $ 4.46  
2016   $ 5.25     $ 2.62  
2017   $ 4.36     $ 2.17  
2018   $ 3.92     $ 1.32  

 

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Quarterly Stock Information

  

The table below sets forth for the periods indicated the high and low closing prices of our ordinary shares as reported on NASDAQ and the OTCQB market.

 

    High     Low  
2017                
First Quarter   $ 3.88     $ 2.50  
Second Quarter   $ 3.19     $ 2.17  
Third Quarter   $ 3.56     $ 2.66  
Fourth Quarter   $ 4.36     $ 2.72  
                 
2018                
First Quarter   $ 3.92     $ 2.73  
Second Quarter   $ 2.88     $ 1.55  
Third Quarter   $ 2.14     $ 1.71  
Fourth Quarter   $ 1.81     $ 1.31  
                 
2019                
First Quarter   $ 1.75     $ 1.38  
Second Quarter   $ 1.49     $ 0.98  
Third Quarter   $ 1.24     $ 0.59  

 

Monthly Stock Information

 

The table below sets forth for the periods indicated the high and low closing prices of our ordinary shares as reported on NASDAQ market.

 

Month  High   Low 
June 2019  $1.24   $1.05 
July 2019  $1.14   $1.02 
August 2019  $1.10   $0.95 
September 2019  $1.10   $0.70 
October 2019  $0.80   $0.59 
Through December 2, 2019  $0.72   $0.65 

 

B. Plan of Distribution

 

Not applicable.

 

C. Markets

 

Our ordinary shares began trading on the NASDAQ Capital Market effective at the opening of trading on Tuesday, September 17, 2013 under the ticker symbol “SPCB”.

 

Not applicable.

 

D. Selling Shareholders

 

Not applicable.

 

E. Dilution

 

Not applicable.

 

F. Expenses of the Issue

 

Not applicable.

 

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ITEM 10. ADDITIONAL INFORMATION

 

A. Share Capital

 

Not applicable.

 

B. Memorandum and Articles of Association

 

Our Memorandum of Association and Articles of Association are attached hereto as noted in Item 19.

 

We are a public company organized in the State of Israel under the Israeli Companies Law. We are registered with the Registrar of Companies of the State of Israel as a publicly traded corporation and we have been assigned public company number 52-00-4407-4.  Set forth below is a summary of certain provisions of our Memorandum of Association (the “Memorandum”), the Articles of Association (the “Articles”) and the Israeli Companies Law as it applies to the Company. This description does not purport to be complete and is qualified in its entirety by reference to the full text of the Memorandum and Articles and by Israeli law. The Memorandum and the Articles are filed as exhibits to this Annual Report.

 

OBJECTS OF THE COMPANY

 

Pursuant to Section 2 of the Memorandum, the principal object for which we were established is to engage in the development, manufacture, implementation and marketing of computerized systems in general and computerized systems for producing tags, computerized photograph databases for the purpose of identification and for issuing various certificates in particular; consultation in the above fields; development, manufacture, implementation and marketing of any product based on the knowledge and expertise of the parties; and the purchase, sale, import, export and implementation of any action required to realize the above objectives.

 

We are authorized to issue 28,000,000 ordinary shares par value NIS 0.25 per share, of which 16,285,944 ordinary shares were outstanding as of November 8, 2019.

 

DIRECTORS

 

Our Articles provide that the number of directors may be determined from time to time by the Board of Directors, and unless otherwise determined, the number of directors comprising the Board of Directors will be between four and ten. With the exception of our external directors, who are elected for three year terms in accordance with the Israeli Companies Law, our directors are elected for a one year term ending at the following annual general meeting of shareholders.  However, if no directors are elected at an annual meeting, then the persons who served as directors immediately prior to the annual meeting shall be deemed reelected at the same meeting. The general meeting may resolve that a director be elected for a period not longer than the third next annual meeting. Directors may resign or in certain circumstances be removed by our general meeting prior to the expiration of his term.

 

The board may appoint additional directors (whether to fill a vacancy or create a new directorship) to serve until the next annual shareholders meeting. In case an office of a director has been vacated, the remaining directors may continue to act in every matter so long as the number of its members is not less than the quorum required at the time for meetings of the board. If the number of members of the board decreases below said quorum, the board will not be entitled to act except in case of emergency or for appointing additional directors in order to fill vacant positions on the board or to call a general meeting of the shareholders. The Board of Directors elects one of its members to serve as the Chairman.

 

The Board of Directors may meet and adjourn its meetings as it deems fit, provided, however, that the board must meet at least once in every three months period. A meeting of the board may be called at the request of each director. The quorum required for a meeting of the board is not less than 30% of the number of directors and in any event not less than two directors. Issues arising at any Board of Directors’ meeting are decided by a majority of votes cast at the meeting. In lieu of a board meeting a resolution may be adopted in writing if signed by all directors or to which all of the directors have agreed in writing or by telephone or facsimile, and a meeting may also be held through telephone conference or other communications means, provided however that all participants may hear each other simultaneously. A resolution in writing signed by all of the directors, shall be as valid and effective for all purposes as if passed at a meeting of the Board of Directors duly convened and held, and for the purpose of the foregoing “director” shall include, if duly appointed therefore, a substitute director.

 

FIDUCIARY DUTIES OF OFFICERS

 

The Israeli Companies Law codifies the fiduciary duties that “office holders,” including directors and executive officers, owe to a company. An office holder’s fiduciary duties consist of a duty of care and a duty of loyalty. The duty of loyalty includes avoiding any conflict of interest between the office holder’s position in the company and his personal affairs, avoiding any competition with the company, avoiding exploiting any business opportunity of the company in order to receive personal advantage for himself or others, and revealing to the company any information or documents relating to the company’s affairs which the office holder has received due to his position as an office holder.

 

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APPROVAL OF CERTAIN TRANSACTIONS

 

Transactions with Office Holders; Extraordinary Transactions

 

Under the Israeli Companies Law, all arrangements as to compensation of office holders who are not directors or controlling parties require approval of the audit committee or a compensation committee to the extent that it complies with the statutory requirements which apply to the audit committee, and the Board of Directors. Arrangements regarding the terms of employment and compensation of directors require approval by the audit committee, the Board of Directors and the shareholders.

 

The Israeli Companies Law requires that an office holder of the company promptly disclose any personal interest that he or she may have and all related material information known to him or her, in connection with any existing or proposed transaction by the company. In addition, if the transaction is an extraordinary transaction as defined under Israeli law, the office holder must also disclose any personal interest held by the office holder’s spouse, siblings, parents, grandparents, descendants, spouse’s descendants, siblings and parents of the office holder’s spouse, and the spouses of any of the foregoing. In addition, the office holder must also disclose any interest held by any corporation in which the office holder is a 5% or greater shareholder, director or general manager or in which he or she has the right to appoint at least one director or the general manager. An extraordinary transaction is defined as a transaction other than in the ordinary course of business, otherwise than on market terms, or that is likely to have a material impact on the company’s profitability, assets or liabilities.

 

In the case of a transaction which is not an extraordinary transaction, after the office holder complies with the above disclosure requirement, only board approval is required unless the articles of association of the company provide otherwise. The transaction must not be adverse to the company’s interest. Furthermore, if the transaction is an extraordinary transaction, then, in addition to any approval stipulated by the articles of association, it also must be approved by the company’s audit committee and then by the Board of Directors, and, under certain circumstances, by a meeting of the shareholders of the company.

 

An individual who has a personal interest in a matter that is considered at a meeting of the Board of Directors or the audit committee may not be present at the deliberations or vote on this matter.  However, with respect to an office holder, he/she may be present at the meeting discussions if the chairman determines that the office holder has to present the matter. If a majority of the directors has a personal interest in a transaction with us, such directors may be present at the deliberations and vote in this matter, and shareholder approval of the transaction is required.

 

Under the Israeli Companies Law and as long as our Articles are not amended to determine otherwise, certain resolutions, such as resolutions regarding liquidation, require approval of the holders of 75% of the shares represented at the meeting and voting thereon.

 

Approval of a Compensation Policy for Office Holders

 

In accordance with the Companies Law, a public company, such as our company, is required to adopt a compensation policy setting forth the principles to govern the terms of office and employment (including cash and equity-based compensation, exemption from liability, indemnification, D&O insurance and other benefits and payments related to the service and employment) of the Office Holders of the company. These amendments to the Companies Law also define the criteria to be considered or included in such compensation policy. The compensation policy needs to be approved no later than September 2013 by the board of directors, after consideration of the recommendations of the compensation committee and by the majority of the company’s shareholders provided that either: (i) such majority includes a majority of the total votes of shareholders who are not controlling shareholders and do not have a Personal Interest in the approval of the compensation policy and who participate in the voting, in person, by proxy or by written ballot, at the meeting (abstentions not taken into account); or (ii) the total number of votes of shareholders mentioned in (i) above that are voted against the approval of the compensation policy do not represent more than 2% of the total voting rights in the company.

 

Under certain circumstances and subject to certain exceptions, the board of directors may approve the compensation policy even if not approved by the shareholders as described above, provided that the compensation committee and the board of directors determine, following an additional discussion and based on detailed reasons, that it is for the benefit of the company to adopt such compensation policy.  We intend to comply with these new requirements of the Israeli Companies Law within the required time frame.

 

Commencing as of December 2012, any changes to compensation terms of Officers are to be approved in accordance with the principles set forth in such amendments to the Israeli Companies Law as if a compensation policy was already in force. In accordance with the Companies Law, as amended, the compensation policy must be re-approved every three years, in the manner described above. The board of directors is responsible for reviewing from time to time the compensation policy and determining whether or not there are any circumstances that require adjustments to the current compensation policy. (See also Item 6. Directors, Senior Management and Employees - Board Practices - Compensation Committee.)

 

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Disclosure of Personal Interests of a Controlling Shareholder; Approval of Transactions with Controlling Shareholders

 

The Israeli Companies Law applies the same disclosure requirements to a controlling shareholder of a public company, which includes a shareholder that holds 25% or more of the voting rights if no other shareholder owns more than 50% of the voting rights in the company. Extraordinary transactions with a controlling shareholder or in which a controlling shareholder has a personal interest, and the terms of compensation of a controlling shareholder who is an office holder (including the provision of services to the company), require the approval of the audit committee or the compensation committee, as applicable, the Board of Directors and the shareholders of the company by simple majority, provided that either such majority vote must include at least one-half of the shareholders who have no personal interest in the transaction and are present at the meeting (without taking into account the votes of the abstaining shareholders), or that the total shareholdings of those who have no personal interest in the transaction who vote against the transaction represent no more than two percent of the voting rights in the company.

 

Agreements and extraordinary transactions with a term exceeding three years are subject to re-approval once every three years by the audit committee, board of directors and the shareholders of the company. Certain types of extraordinary transactions may be approved in advance for a period exceeding three years if the audit committee determines such approval reasonable under the circumstances.

 

Under the Companies Regulations (Relief from Related Party Transactions), 5760-2000, promulgated under the Israeli Companies Law, as amended, certain extraordinary transactions between a public company and its controlling shareholder(s) do not require shareholder approval.  In addition, under such regulations, directors’ compensation and employment arrangements in a public company do not require the approval of the shareholders if both the audit committee and the board of directors agree that such arrangements are solely for the benefit of the company. Also, employment and compensation arrangements for an office holder that is a controlling shareholder of a public company do not require shareholder approval if certain criteria are met. The foregoing exemptions from shareholder approval will not apply if one or more shareholders holding at least 1% of the issued and outstanding share capital of the company or of the company’s voting rights, objects to the use of these exemptions provided that such objection is submitted to the company in writing not later than fourteen days from the date of the filing of a report regarding the adoption of such resolution by the company. If such objection is duly and timely submitted, then the transaction or compensation arrangement of the directors will require shareholders’ approval as detailed above.

 

The Israeli Companies Law provides that an acquisition of shares in a public company must be made by means of a special tender offer if as a result of the acquisition the purchaser would the control 25% or greater of the company’s voting rights. This rule does not apply if there is already another such shareholder which controls 25% or greater of the company’s voting rights. Similarly, the Israeli Companies Law provides that an acquisition of shares in a public company must be made by means of a special tender offer if as a result of the acquisition the purchaser would hold greater than a 45% voting rights in the company, unless there is another shareholder holding more than a 45% voting rights in the company. These requirements do not apply to: (i) the acquisition of shares in a private placement, provided that such private placement was approved by the general meeting of the company’s shareholders as a private placement purporting to confer to the offeree the control of 25% or greater of the company’s voting rights if the there is no other holder of such a block of shares, or purporting to confer to the offeree 45% of the voting rights in the company if there is no other person holding forty-five percent of the voting rights in the company; (ii) was from a shareholder which controls 25% or greater of the company’s voting rights which resulted in the acquirer becoming a a shareholder of the company shareholder which controls 25% or greater of the company’s voting rights, or (iii) was from a shareholder holding a 45% of the voting in the company which resulted in the acquirer becoming a holder of a 45% of the voting rights in the company.  A special tender offer will only be considered accepted if: (i) the number of shares tendered in the offer exceeds the number of shares whose holders objected to the offer (excluding the shares of controlling shareholders of the offeror and excluding the holders of a 25% or more block of the voting rights in the company); and (ii) at least 5% of the voting rights in the company are purchased in the tender offer.

 

If, as a result of an acquisition of shares, the acquirer will hold more than 90% of a public company’s outstanding shares or a class of shares, the acquisition must be made by means of a tender offer for all of the outstanding shares or a class of shares. If less than 5% of the outstanding shares are not tendered in the tender offer, and more than half of the shareholders without a personal interest in accepting the offer tendered their shares, then all the shares that the acquirer offered to purchase will be transferred to the acquirer. The Israeli Companies Law provides for appraisal rights if any shareholder files a request in court within six months following the consummation of a full tender offer, but the acquirer will be entitled to stipulate that tendering shareholders forfeit their appraisal rights. If more than 5% of the outstanding shares are not tendered in the tender offer, then the acquirer may not acquire shares in the tender offer that will cause his shareholding to exceed 90% of the outstanding shares; provided, however, that if the dissenting shareholders constitute less than 2% of the issued and outstanding share capital of the company then the full tender will be accepted and all of the shares that the acquirer offered to purchase will be transferred to the acquirer by operation of law.

 

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DUTIES OF SHAREHOLDERS

 

Under the Israeli Companies Law, a shareholder has a duty to act in good faith and in a customary way towards the company and other shareholders and to refrain from abusing his or her power in the company including, among other things, when voting in a general meeting of shareholders on the following matters:

 

  · any amendment to the articles of association;

 

  · an increase of the company’s authorized share capital;

 

  · a merger; or

 

  · approval of interested party transactions which require shareholder approval.

 

Furthermore, the Israeli Companies Law requires that a shareholder refrain from acting in a discriminatory manner towards other shareholders.

 

The Israeli Companies Law does not describe the substance of the aforementioned duties of shareholders, but provides that laws applicable to a breach of contract, adjusted according to the circumstances shall apply to a breach of such duties. With respect to the obligation to refrain from acting discriminatorily, a shareholder that is discriminated against can petition the court to instruct the company to remove or prevent the discrimination, as well as provide instructions with respect to future actions.

 

In addition, the Israeli Companies Law dictates that any controlling shareholder, any shareholder who knows that it possesses power to determine the outcome of a shareholder vote and any shareholder who, pursuant to the provisions of a company’s articles of association, has the power to appoint or prevent the appointment of an office holder in the company, is under a duty to act with fairness towards the company.

 

The Israeli Companies Law does not describe the substance of the aforementioned duty to act with fairness but provides that laws applicable to a breach of contract, adjusted according to the circumstances and taking into account the status within the company of such shareholder, shall apply to a breach of such duty.

 

EXEMPTION, INSURANCE AND INDEMNIFICATION OF DIRECTORS AND OFFICERS

 

Exemption of Office Holders

 

Under the Israeli Companies Law, an Israeli company may not exempt an office holder from liability for breach of his duty of loyalty, but may exempt in advance an office holder from liability to the company, in whole or in part, for a breach of his duty of care, provided the articles of association of the company allow it to do so. Our Articles allow us to exempt our office holders from liability towards us for breach of duty of care to the maximum extent permitted by law.

 

Office Holder Insurance

 

Our Articles provide that, subject to the provisions of the Israeli Companies Law, we may enter into a contract for the insurance of the liability of any of our office holders for any act done by him or her by virtue of being an office holder, in respect of any of the following:

 

  · a breach of duty of care towards us or any other person,

 

  · a breach of fiduciary obligations towards us, provided that the office holder acted in good faith and had reasonable grounds to assume that his or her act would not be to our detriment,

 

  · a financial liability imposed on him or her in favor of another person, or

 

  · any other event for which insurance of an office holder is or may be permitted.

 

Indemnification of Office Holders

 

Our Articles provide that we may indemnify an office holder for the following cases of liability and expenses incurred by him or her as a result of an act done by him or her by virtue of being an office holder:

 

  · financial liability imposed upon said office holder in favor of another person by virtue of a decision by a court of law, including a decision by way of settlement or a decision in arbitration which has been confirmed by a court of law;

 

  · reasonable expenses of the proceedings, including lawyers’ fees, expended by the office holder or imposed on him by the court for:

 

  (1) proceedings issued against him by or on behalf of the Company or by a third party;

 

  (2) criminal proceedings in which the office holder was acquitted; or

 

  (3) criminal proceedings in which he was convicted in an offense, which did not require proof of criminal intent; or

 

  · any other liability or expense for which the indemnification of an officer holder is not precluded by law.

 

We have obtained directors and officers liability insurance for the benefit of our office holders. In addition, we have sometimes granted indemnification letters to our office holders.

 

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Limitations on Exemption, Insurance and Indemnification

 

The Israeli Companies Law provides that a company may not exempt or indemnify an office holder, or enter into an insurance contract, which would provide coverage for any monetary liability incurred as a result of any of the following:

 

  · a breach by the office holder of his or her duty of loyalty towards the company unless, with respect to insurance coverage, the office holder acted in good faith and had a reasonable basis to believe that the act would not prejudice the company;

 

  · a breach by the office holder of his or her duty of care if the breach was done intentionally or recklessly;

 

  · any act or omission done with the intent to derive an illegal personal benefit; or

 

  · any fine levied against the office holder.

 

Required Approvals

 

In addition, under the Israeli Companies Law, any exemption of, indemnification of, or procurement of insurance coverage for, our office holders must be approved by our audit committee and our Board of Directors and, if the beneficiary is a director, an additional approval by our shareholders is required.

 

RIGHTS OF ORDINARY SHARES

 

Our ordinary shares confer upon our shareholders the right to receive notices of, and to attend, shareholder meetings, the right to one vote per ordinary share at all shareholders’ meetings for all purposes, and to share equally, on a per share basis, in such dividends as may be declared by our Board of Directors; and upon liquidation or dissolution, the right to participate in the distribution of any surplus assets of the Company legally available for distribution to shareholders after payment of all debts and other liabilities of the Company. All ordinary shares rank pari passu in all respects with each other.

 

MEETINGS OF SHAREHOLDERS

 

An annual general meeting of our shareholders will be held at least once in every calendar year, not later than 15 months after the last annual general meeting at such time and at such place either within or without the State of Israel as may be determined by our Board of Directors.

 

Our Board of Directors may, whenever it deems fit, convene a special general meeting. Special general meetings may also be convened upon requisition in accordance with the Israeli Companies Law. Our Board is obligated to convene a special general meeting if it receives a written request from any of (a) two Directors or 25% of the total number of Directors; (b) one or more Shareholders, holding at least 5% of our outstanding share capital and at least 1% of the shareholders’ voting power; or (c) one or more shareholders holding no less than 5% of the our outstanding voting shares.

 

MERGERS

 

A merger of the Company shall require resolution adopted by a simple majority vote cast at a general meeting, not taking into account abstentions provided, however, that if the transaction is an extraordinary transaction with a controlling shareholder or in which a controlling shareholder has an interest, then the approvals required will be the corporate approvals under the Israeli Companies Law for such extraordinary transaction.

 

C. Material Contracts

 

While we have numerous contracts with customers, representatives, distributors and landlords, except as described in Item 4. Information on the Company – Business Overview – Key Customer Contracts and except for the Asset Purchase Agreement with OTI from August 2013, as outlined in “Item 5. Operating and Financial Review and Prospects,” we do not deem any such individual contract to be material contracts which are not in the ordinary course of our business

 

D. Exchange Controls

 

Israeli law and regulations do not impose any material foreign exchange restrictions on non-Israeli holders of our ordinary shares.

 

Non-residents of Israel who purchase our ordinary shares will be able to convert dividends, if any, thereon, and any amounts payable upon our dissolution, liquidation or winding up, as well as the proceeds of any sale in Israel of our ordinary shares to an Israeli resident, into freely reportable dollars, at the exchange rate prevailing at the time of conversion, provided that the Israeli income tax has been withheld (or paid) with respect to such amounts or an exemption has been obtained.

 

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E. Taxation

 

Taxation and Government Programs

 

The following description is not intended to constitute a complete analysis of all tax consequences relating to the acquisition, ownership and disposition of our ordinary shares. You should consult your own tax advisor concerning the tax consequences of your particular situation, as well as any tax consequences that may arise under the laws of any state, local, foreign or other taxing jurisdiction.

 

Israeli Tax Considerations and Government Programs

 

The following is a summary of the current material Israeli tax laws applicable to companies in Israel with special reference to its effect on us. This summary does not discuss all the acts of Israeli tax law that may be relevant to a particular investor in light of his or her personal investment circumstances or to some types of investors subject to special treatment under Israeli law. Some parts of this discussion are based on new tax legislation that has not been subject to judicial or administrative interpretation. Accordingly, we cannot assure you that the views expressed in the discussion will be accepted by the tax authorities in question. The discussion is not intended and should not be construed as legal or professional tax advice and does not cover all possible tax considerations.

 

POTENTIAL INVESTORS AND HOLDERS OF OUR SHARES ARE URGED TO CONSULT THEIR OWN TAX ADVISORS AS TO THE ISRAELI OR OTHER TAX CONSEQUENCES OF THE PURCHASE, OWNERSHIP AND DISPOSITION OF OUR ORDINARY SHARES, INCLUDING, IN PARTICULAR, THE EFFECT OF ANY FOREIGN, STATE OR LOCAL TAXES.

 

The following discussion describes the material Israeli tax consequences regarding ownership and disposition of our ordinary shares applicable to non-Israeli shareholders, including U.S. shareholders.

 

General Corporate Tax Structure

 

Israeli companies are generally subject corporate tax on their taxable income at the rate of 23.0% in 2019 (23.0% in 2018, 24% in 2017; 25% in 2016).

 

On August 5, 2013 the Israeli parliament (the Knesset) passed the Law for Changes in National Priorities (Legislative Amendments for Achieving Budget Objectives in the Years 2013 and 2014) - 2013, by which, inter alia, the corporate tax rate would be raised by 1.5% to a rate of 26.5% as from 2014. On January 4, 2016, the Knesset plenum approved a bill to amend the Income Tax Ordinance, including a reduction in corporate tax by 1.5% from 26.5% to 25%, as from January 1, 2016. In 2017 the Knesset approved additional reduction of 1% every year to 24% in 2017, 23% in 2018 onwards.

 

Taxation of Capital Gains Applicable to Israeli Shareholders and Non-Israeli Shareholders

 

General

 

Israeli law generally imposes a capital gains tax on the sale of any capital assets by residents of Israel, as defined for Israeli tax purposes, and on the sale of assets located in Israel, including shares in Israeli companies, by both residents and non-residents of Israel, unless a specific exemption is available or unless a tax treaty between Israel and the shareholder’s country of residence provides otherwise. The law distinguishes between real gain and inflationary surplus. The inflationary surplus is a portion of the total capital gain which is equivalent to the increase of the relevant asset’s purchase price which is attributable to the increase in the Israeli consumer price index or, in certain circumstances, a foreign currency exchange rate, between the date of purchase and the date of sale. The real gain is the excess of the total capital gain over the inflationary surplus.

 

The portion of the inflationary surplus accrued from the date of acquisition until January 1, 1994 is taxed at a rate of 10%, and thereafter until the date of sale is exempt from tax.

 

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Israeli residents

 

Individuals

 

Pursuant to amendments to the Tax Ordinance, effective as of January 1, 2012, the capital gains tax rate applicable to individuals upon the sale of securities is such individual’s marginal tax rate but not more than 25%, or 30% with respect to an individual who meets the definition of a ‘Substantial Shareholder’ on the date of the sale of the securities or at any time during the 12 months preceding such date. A ‘Substantial Shareholder’ is defined as a person who, either alone or together with any other person, holds, directly or indirectly, at least 10% of any of the means of control of a company (including, among other things, the right to receive profits of the company, voting rights, the right to receive the company’s liquidation proceeds and the right to appoint a director). An additional tax at a rate of 3% on the capital gain tax rate may be imposed upon shareholders whose annual taxable income exceeds NIS 641,880 (in 2018) (hereinafter “Surcharge Tax”).

 

Companies

 

The real capital gain on the sale of securities by a company will be taxed at the corporate tax rate applicable during the year of sale (24% in 2017, 23% in 2018 onwards).

 

Non-Israeli residents

 

In general, if ordinary shares are traded on a Recognized Exchange gains on the sale of ordinary shares held by non-Israeli tax resident investors will generally be exempt from Israeli capital gains tax so long as the shares were not held through a permanent establishment that the non-Israeli tax resident investor maintains in Israel. Notwithstanding the foregoing, dealers in securities in Israel are taxed at regular tax rates applicable to business income.

 

However, non-Israeli corporations will not be entitled to such exemption if Israeli residents (i) have a controlling interest of 25% or more in such non-Israeli corporation, or (ii) are the beneficiaries or are entitled to 25% or more of the revenues or profits of such non-Israeli corporation, whether directly or indirectly.

 

In addition, persons paying consideration for shares, including purchasers of shares, Israeli securities dealers effecting a transaction, or a financial institution through which securities being sold are held, are required, subject to any applicable exemptions and the demonstration by the selling shareholder of its non-Israeli residency and other requirements, to withhold tax upon the sale of publicly traded securities at a rate of 25% for individuals and at the corporate tax rate (24% in 2017) for corporations.

 

The Convention between the Government of the State of Israel and the Government of the United States of America with Respect to Taxes on Income (the “Treaty”) is generally effective as of January 1, 1995. Under the Treaty, the maximum Israeli withholding tax on dividends paid to a holder of our ordinary shares who is a Treaty U.S. Resident (as defined below) is generally 25% or 30% for a shareholder that is considered a significant shareholder at any time during the 12-month period preceding such distribution.

 

The Treaty further provides that a 15% or a 12.5% Israeli dividend withholding tax will apply to dividends paid to a U.S. corporation owning 10% or more of an Israeli company’s voting shares during, in general, the current and preceding tax year of the Israeli company. However, these provisions do not apply if the company has certain amounts of passive income.

 

Pursuant to the Treaty, the sale, exchange or disposition of our ordinary shares by a person who qualifies as a resident of the United States within the meaning of the Treaty and who is entitled to claim the benefits afforded to such residents under the Treaty (a “Treaty U.S. Resident”) generally will not be subject to the Israeli capital gains tax unless such Treaty U.S. Resident holds, directly or indirectly, shares representing 10% or more of the voting power of the Company during any part of the 12-month period preceding such sale, exchange or disposition subject to certain conditions. A sale, exchange or disposition of our ordinary shares by a Treaty U.S. Resident who holds, directly or indirectly, shares representing 10% or more of the voting power of the Company at any time during such preceding 12-month period would not be exempt under the Treaty from such Israeli tax; however, under the Treaty, such Treaty U.S. Resident would be permitted to claim a credit for such taxes against U.S. federal income tax imposed on any gain from such sale, exchange or disposition, under the circumstances and subject to the limitations specified in the Treaty and U.S. domestic law. As mentioned above, gains on the sale of ordinary shares held by non-Israeli tax resident investors will generally be exempt from Israeli capital gains tax if the ordinary shares are traded on a Recognized Exchange. This exemption would generally apply notwithstanding the Treaty.

 

In some instances, where our shareholders may be liable to Israeli tax on the sale of their ordinary shares, the payment of the consideration may be subject to the withholding of Israeli tax at the source. However, under the Tax Treaty, such U.S. resident would be permitted to claim a credit for such taxes against the U.S. federal income tax imposed with respect to such sale, exchange or disposition, subject to the limitations in U.S. laws applicable to foreign tax credits. The Tax Treaty does not relate to U.S. state or local taxes.

 

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Tax on Dividends

 

Non-residents of Israel are subject to income tax on income accrued or derived from sources in Israel. These sources of income include passive income such as dividends. On distributions of dividends other than bonus shares, or stock dividends, income tax is applicable at the rate of 25%, or 30% for a shareholder that is considered a significant shareholder at any time during the 12-month period preceding such distribution. A different rate may be provided in a treaty between Israel and the shareholder’s country of residence. Under the Tax Treaty, the maximum tax on dividends paid to a holder of our ordinary shares who is a US resident is 25%; however if not more than 25% of our gross income consists of interest or dividends, then the maximum tax is 12.5% for a shareholder who is a US corporation holding at least 10% of our issued voting power during the part of the taxable year preceding the date of payment of the dividend and during the whole of the prior taxable year (and additional conditions under the Tax Treaty are met).

 

U.S. Federal Income Taxation

 

The following is a description of certain U.S. federal income tax consequences relating to the acquisition, ownership and disposition of our ordinary shares by a U.S. Holder as defined below. This description addresses only the U.S. federal income tax consequences to U.S. Holders that hold our ordinary shares as capital assets. This description is based on the Internal Revenue Code of 1986, as amended (the “Code”), existing, proposed and temporary Treasury regulations promulgated thereunder, judicial and administrative interpretations thereof, and the U.S.-Israel Tax Treaty, all as in effect on the date hereof and all of which are subject to change either prospectively or retroactively. There can be no assurances that the U.S. Internal Revenue Service, (“IRS”), will not take a different position concerning the tax consequences of the acquisition, ownership and disposition of our shares or that such a position would not be sustained. U.S. Holders should consult their own tax advisors concerning the U.S. federal, state, local and foreign tax consequences of purchasing, owning and disposing of our ordinary shares in their particular circumstances.

 

This description does not address all the tax consequences that may be relevant to a U.S. Holder subject to special tax rules, including without limitation:

 

  · banks, financial institutions or insurance companies;

  · real estate investment trusts, regulated investment companies or grantor trusts;

  · dealers or traders in securities, commodities or currencies;

  · tax-exempt entities or organizations, including an “individual retirement account” or “Roth IRA” as defined in Section 408 or 408A of the Code;

  · certain former citizens or long-term residents of the United States;

  · persons that received our shares as compensation for the performance of services;

  · persons that will hold our shares as part of a “hedging,” “integrated” or “conversion” transaction or as a position in a “straddle” for U.S. federal income tax purposes;

  · partnerships or other pass-through, or holders that will hold our shares through such an entity;

  · S corporations;

  · holders whose functional currency is not the U.S. Dollar; or

  · holders that actually or constructively own 10 percent or more of our voting shares.

 

Moreover, this description does not address the United States federal estate, gift or alternative minimum tax consequences, or any state, local or foreign tax consequences, of the acquisition, ownership and disposition of our ordinary shares.

 

For purposes of this summary, the term “U.S. Holder” means any beneficial owner of our ordinary shares who is:

 

  · an individual and either a citizen or, for U.S. federal income tax purposes, a resident of the United States;

  · a corporation (or other entity treated as a corporation for U.S. federal income tax purposes) created or organized in or under the laws of the United States or any political subdivision thereof;

  · an estate whose income is subject to U.S. federal income tax regardless of its source; or

  · a trust that (a) is subject to the primary supervision of a court within the United States and the control of one or more U.S. persons or (b) has a valid election in effect under applicable U.S. Treasury regulations to be treated as a U.S. person.

 

If a partnership (or an entity treated as a partnership for U.S. federal income tax purposes) holds our ordinary shares, the U.S. federal income tax treatment of a partner in such a partnership will generally depend upon the status of the partner and the activities of the partnership. Such partner or partnership should consult their tax advisor about the U.S. federal income tax consequences of holding and disposing of ordinary shares in its particular circumstance.

 

Taxation of Dividends

 

Subject to the discussion below under the heading “Passive Foreign Investment Companies,” the gross amount of any distribution made to you with respect to our ordinary shares, including the amount of any Israeli taxes withheld therefrom, will constitute dividend income for U.S. federal income tax purposes, to the extent such dividend is paid out of our current and accumulated earnings and profits as determined under U.S. federal income tax principles. Distributions in excess of our current and accumulated earnings and profits will be treated as a non-taxable return of capital to the extent of your tax basis in the ordinary shares, and any amount in excess of your tax basis will generally be treated as capital gain from the sale of ordinary shares. See “Disposition of Ordinary Shares” below for a discussion of the taxation of capital gains. Because we are not a U.S. corporation, U.S. Holders that are corporations will not be entitled to claim a dividends-received deduction under Section 243 of the Code with respect to distributions they receive from us.

 

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Dividends that we pay in NIS, including the amount of any Israeli taxes withheld therefrom, will be included in your income in a U.S. dollar amount calculated by reference to the exchange rate in effect on the day such dividends are received. A U.S. Holder who receives payment in NIS and converts NIS into U.S. dollars at an exchange rate other than the rate in effect on such day may have a foreign currency exchange gain or loss that would be treated as ordinary income or loss. U.S. Holders should consult their own tax advisors concerning the U.S. tax consequences of acquiring, holding and disposing of NIS.

 

Subject to complex limitations, any Israeli withholding tax imposed on such dividends will be a foreign income tax eligible for credit against a U.S. Holder’s U.S. federal income tax liability. The limitations set out in the Code include computational rules under which foreign tax credits allowable with respect to specific classes of income cannot exceed the U.S. federal income taxes otherwise payable with respect to each such class of income. Dividends generally will be treated as foreign source passive category income for United States foreign tax credit purposes. Further, there are special rules for computing the foreign tax credit limitation of a U.S. Holder who receives dividends subject to a reduced tax rate.

 

In lieu of claiming a foreign tax credit, U.S. Holders may, at their election, deduct foreign taxes, including Israeli taxes, in computing their taxable income, subject to applicable limitations. An election to deduct foreign taxes instead of claiming foreign tax credits applies to all foreign taxes paid or accrued in the taxable year.

 

The rules relating to the determination of the foreign tax credit are complex, and you should consult with your personal tax advisors to determine whether and to what extent you would be entitled to this credit.

 

Subject to certain limitations, including the Medicare tax, discussed below, “qualified dividend income” received by a non-corporate U.S. Holder will be subject to tax at a preferential maximum tax rate of 20 percent. Distributions taxable as dividends paid on the ordinary shares should qualify for the preferential 20 percent rate provided that either: (i) we are entitled to benefits under the income tax treaty between the United States and Israel (the “Treaty”) or (ii) the ordinary shares are readily tradable on an established securities market in the United States and certain other requirements are met. We believe that we are entitled to benefits under the Treaty and that the ordinary shares currently are readily tradable on an established securities market in the United States, and therefore any dividend distributions with respect to our ordinary shares should be “qualified dividends” eligible for the preferential tax rate. However, no assurance can be given that the ordinary shares will remain readily tradable. The preferential rate does not apply unless certain holding period requirements are satisfied. With respect to the ordinary shares, the U.S. Holder must have held such shares for at least 61 days during the 121-day period beginning 60 days before the ex-dividend date. The preferential rate also does not apply to dividends received from a passive foreign investment company or in respect of certain hedged positions or in certain other situations. The legislation enacting the preferential tax rate on qualified dividends contains special rules for computing the foreign tax credit limitation of a taxpayer who receives dividends subject to the preferential tax rate. U.S. Holders of ordinary shares should consult their own tax advisors regarding the effect of these rules in their particular circumstances.

 

Additional Tax on Investment Income

 

In addition to the income taxes described above, U.S. Holders that are individuals, estates or trusts and whose income exceeds certain thresholds, will be subject to a 3.8% Medicare contribution tax on net investment income, which includes dividends and capital gains.

 

Disposition of Ordinary Shares

 

If you sell or otherwise dispose of ordinary shares, you will recognize gain or loss for U.S. federal income tax purposes in an amount equal to the difference between the amount realized on the sale or other disposition and your adjusted tax basis in the ordinary shares. Subject to the discussion below under the heading “Passive Foreign Investment Companies,” such gain or loss generally will be capital gain or loss and will be long-term capital gain or loss if you have held the ordinary shares for more than one year at the time of the sale or other disposition. Long-term capital gain realized by a non-corporate U.S. Holder is generally eligible for a preferential tax rate (currently at 20%). In general, any gain that you recognize on the sale or other disposition of ordinary shares will be U.S.-source for purposes of the foreign tax credit limitation; losses will generally be allocated against U.S. source income. Deduction of capital losses is subject to certain limitations under the Code.

 

In the case of a cash basis U.S. Holder who receives NIS in connection with the sale or disposition of ordinary shares, the amount realized will be based on the U.S. dollar value of the NIS received with respect to the ordinary shares as determined on the settlement date of such exchange. A U.S. Holder who receives payment in NIS and converts NIS into United States dollars at a conversion rate other than the rate in effect on the settlement date may have a foreign currency exchange gain or loss that would be treated as ordinary income or loss.

 

An accrual basis U.S. Holder may elect the same treatment required of cash basis taxpayers with respect to a sale or disposition of ordinary shares, provided that the election is applied consistently from year to year. Such election may not be changed without the consent of the IRS. In the event that an accrual basis U.S. Holder does not elect to be treated as a cash basis taxpayer (pursuant to the Treasury regulations applicable to foreign currency transactions), such U.S. Holder may have a foreign currency gain or loss for U.S. federal income tax purposes because of differences between the U.S. dollar value of the currency received on the trade date and on the settlement date. Any such currency gain or loss would be treated as ordinary income or loss and would be in addition to the gain or loss, if any, recognized by such U.S. Holder on the sale or disposition of such ordinary shares.

 

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Passive Foreign Investment Companies

 

In general, a non U.S. corporation will be considered a passive foreign investment company (“PFIC”), if (i) 75% or more of its gross income consists of passive income, or (ii) 50% or more of the average value of its assets consists of assets that produce, or are held for the production of passive income. For purposes of the above calculation, a non U.S. corporation that directly or indirectly owns at least 25% by value of the shares of another corporation is treated as if it held its proportionate share of the assets of the other corporation and received directly its proportionate share of the income of the other corporation. Passive income generally includes dividends, interest, certain royalties, rents, annuities and the excess of gains over losses from the disposition of assets which produce passive income.

 

Based on our current and projected income, assets and activities, we believe that we are not currently a PFIC, nor do we expect to become a PFIC in the foreseeable future. However, because the determination of whether we are a PFIC is based upon the composition of our income and assets from time to time, there can be no assurances that we will not become a PFIC in this or any future taxable year.

 

If we were to be treated as a PFIC for any taxable year during which a U.S. Holder held ordinary shares, such U.S. Holder would be required to file IRS Form 8621 (Information Return by a Shareholder of a Passive Foreign Investment Company or Qualified Electing Fund). In addition, the favorable tax rates described above with respect to dividends paid to certain non-corporate U.S. Holders would not apply if we were a PFIC for the taxable year of distribution or the preceding taxable year.

 

If we were determined to be a PFIC for U.S. federal income tax purposes, highly complex rules would apply to U.S. Holders owning, directly or indirectly, ordinary shares. Accordingly, you are urged to consult your tax advisors regarding the application of such rules.

 

Backup Withholding and Information Reporting

 

Payments in respect of ordinary shares may be subject to information reporting to the U.S. Internal Revenue Service and to U.S. backup withholding tax at a rate of 28%. Backup withholding will not apply, however, if you (i) are a corporation or other exempt recipient, or (ii) furnish a correct taxpayer identification number and make any other required certification.

 

Backup withholding is not an additional tax. Amounts withheld under the backup withholding rules are properly credited against a U.S. Holder’s U.S. tax liability, and a U.S. Holder may obtain a refund of any excess amounts withheld under the backup withholding rules by filing the appropriate tax return or other claim for refund with the IRS.

 

U.S. individuals that hold certain specified foreign financial assets, including stock in a foreign corporation, with values in excess of certain thresholds are required to file Form 8938 (Statement of Specified Foreign Financial Assets) with their US Federal income tax return. U.S. Holders are urged to consult their tax advisors regarding their information reporting obligations, if any, with respect to their ownership and disposition of our ordinary shares.

 

F. Dividends and Paying Agents

 

Not applicable.

 

G. Statement by Experts

 

Not applicable.

 

H. Documents on Display

 

We are subject to certain of the reporting requirements of the Exchange Act, as applicable to “foreign private issuers” as defined in Rule 3b-4 under the Exchange Act. As a foreign private issuer, we are exempt from certain provisions of the Exchange Act. Accordingly, our proxy solicitations are not subject to the disclosure and procedural requirements of Regulation 14A under the Exchange Act, and transactions in our equity securities by our officers and directors are exempt from reporting and the “short-swing” profit recovery provisions contained in Section 16 of the Exchange Act. In addition, we are not required under the Exchange Act to file periodic reports and financial statements as frequently or as promptly as U.S. companies whose securities are registered under the Exchange Act. However, we file with the SEC an annual report on Form 20-F containing financial statements audited by an independent accounting firm. We also submit to the SEC reports on Form 6-K containing (among other things) press releases and unaudited financial information. We post our annual report on Form 20-F on our website www.supercom.com promptly following the filing of our annual report with the SEC. The information on our website is not incorporated by reference into this annual report.

 

This annual report and the exhibits thereto and any other document we file pursuant to the Exchange Act may be inspected without charge and copied at prescribed rates at the SEC public reference room at 100 F Street, N.E., Room 1580, Washington, D.C. 20549. You may obtain information on the operation of the SEC’s public reference room in Washington, D.C. by calling the SEC at 1-800-SEC-0330. The Exchange Act file number for our SEC filings is 001-33668.

 

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The SEC maintains a website at www.sec.gov that contains reports, proxy and information statements, and other information regarding registrants that make electronic filings with the SEC using its EDGAR (Electronic Data Gathering, Analysis, and Retrieval) system.

 

The documents concerning our company that are referred to in this Annual Report may also be inspected at our offices located at 20Lincoln Street, Tel Aviv, Israel.

 

I. Subsidiary Information

 

Not applicable.

 

ITEM 11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS

 

Exposure to Market Risks

 

We may be exposed to a variety of risks, including changes in interest rates affecting primarily interest received on short-term deposits and foreign currency fluctuations. In 2017 our principal market risk was our exposure to currency exchange fluctuations. We may limit our exposure to currency exchange rate risk by using various hedging techniques (which was not used in 2018), including forward and option contracts. However, we cannot eliminate the effects of currency fluctuations altogether. Exchange rate fluctuations resulting in a devaluation of the U.S. dollar compared to the NIS could have a material adverse impact on our operating results and share price.

 

Foreign Currency Exchange Risk

 

We may in the future carry out transactions involving foreign currency exchange derivative financial instruments. The transactions would be designed to hedge our exposure in NIS against the U.S. dollar.

 

We have operations in several countries in connection with the sale of our products. A substantial portion of our sales and expenditures are denominated in dollars. We have mitigated, and expect to continue to mitigate, a portion of our foreign currency exposure through salaries, marketing and support operations in which all costs are local currency based. As a result, our results of operations and cash flows can be affected by fluctuations in foreign currency exchange rates (primarily the NIS). A hypothetical 10% movement in foreign currency rates (primarily the NIS) against the dollar, with all other variables held constant on the expected sales, would result in a decrease or increase in expected 2018 net income of approximately $2.0 million.

 

ITEM 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES

 

Not Applicable 

 

ITEM 13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES

 

None.

 

ITEM 14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS

 

None.

 

ITEM 15. CONTROLS AND PROCEDURES

 

Evaluation of Disclosure Controls and Procedures

 

Our disclosure controls and procedures are designed to provide reasonable assurance that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate, to allow for timely decisions regarding required disclosure, and that such information is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. 

 

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Our management, under the supervision and with the participation of our Chief Executive Officer (CEO) and acting Chief Financial Officer (acting CFO), has evaluated the effectiveness of our disclosure controls and procedures as of December 31, 2018, pursuant to Rule 13a-15 under the Exchange Act. Based upon this evaluation, our CEO and acting CFO concluded that our disclosure controls and procedures were ineffective as of December 31, 2018 as a result of the material weakness identified in our internal control over financial reporting. This material weakness is discussed in our “Report of Management on Internal Control over Financial Reporting” below. Our management considers our internal control over financial reporting to be an integral part of our disclosure controls and procedures.

 

Management’s Report on Internal Control over Financial Reporting

 

Our management is responsible for establishing and maintaining adequate internal control over our financial reporting. Our management assessed the effectiveness of our internal control over financial reporting as of December 31, 2018. In making our assessment, our management used the criteria established in Internal Control—Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). A material weakness, as defined by SEC rules, is a control deficiency, or combination of control deficiencies, such that there is a reasonable possibility that a material misstatement of the annual or interim financial statements will not be prevented or detected on a timely basis.

 

The material weaknesses identified during management’s assessment were (i) a lack of sufficient internal accounting expertise to provide reasonable assurance that our financial statements and notes thereto are prepared in accordance with GAAP and (ii) a lack of sufficient resources in its accounting function resulting in a lack of segregation of duties and an insufficient level of monitoring and oversight, which restricted the Company's ability to gather, analyze, and properly review information in a timely manner.”

 

Based on such assessment, management has concluded that, as of December 31, 2018, our internal control over financial reporting is ineffective.

 

Notwithstanding the identified material weakness, management believes that the consolidated financial statements included in this Annual Report fairly represent with all material respects the financial position, results of operations and cash flows as of and for all periods presented.

 

Changes in Internal Control over Financial Reporting

 

During the period covered by this annual report ended December 31, 2018, there were no changes in our internal control over financial reporting that have materially affected, or are reasonably likely to materially affect the Company’s internal control over financial reporting.

 

ITEM 16. [RESERVED]

 

ITEM 16A. AUDIT COMMITTEE FINANCIAL EXPERT

 

Our Board of Directors has determined that Mr. Mirski and Mrs. Shapira, both members of our audit committee, are audit committee financial experts, as defined under the Exchange Act rules, and are independent in accordance with applicable Exchange Act rules. The relevant experience of each of them is summarized in Item 6A “Directors and Senior Management.”

 

ITEM 16B. CODE OF ETHICS

 

We have adopted a code of ethics that applies to our chief executive officer and all senior financial officers of our company, including the chief financial officer, chief accounting officer or controller, or persons performing similar functions. Our code of ethics has been filed as an exhibit to this annual report. Written copies are available upon request. If we make any substantive amendment to the code of ethics or grant any waivers, including any implicit waiver, from a provision of the codes of ethics, we will disclose the nature of such amendment or waiver on our website: http://www.supercom.com

 

ITEM 16C. PRINCIPAL ACCOUNTANT FEES AND SERVICES

 

Independent Registered Public Accounting Firm Fees

 

The following table sets forth, for each of the years indicated, the fees billed by our principal independent registered public accounting firms, Rosenberg Rich Baker Berman P.A. for 2018 and Kesselman & Kesselman a member firm of PricewaterhouseCoopers International for 2017. All of such fees were pre-approved by our Audit Committee.